Gold temporarily went through the US$500/oz benchmark early this week and a host of authoritative commentators are calling the metal sharply higher over the next two to three years because of solid fundamentals increasing demand and capping supply.
Top-rated SA analyst David Davis of Andisa Securities says gold will reach $700/oz by the end of 2008. Pierre Lassonde, president of Newmont, the world's largest gold producer, is looking for $525/oz "early next year" and $1 000 in the next five to seven years.
Back in September at the Denver Gold Forum, highly rated gold "guru" Martin Murenbeeld forecast an average of $505 for the next 12 months (see Companies October 14). But he added that the probability of gold averaging $565 over this period was only slightly less than his $505 prediction.
Gold last breached $500 in 1987, but only briefly. There are still plenty of naysayers in the market. T-Sec analyst Nic Goodwin remains as negative as ever, while several analysts, including Davis, warn the price could pull back temporarily after going through $500.
But the fundamental demand and supply outlook for gold has not been this good in decades, even before taking into account intangible factors such as investor sentiment, which drives the price, worries over global economic uncertainty, and the possibilities of resurgent inflation and monetary crises.
Newly mined gold supply globally is expected to fall because the mining groups cut back on the investment in exploration required to find new deposits. They had to do that to survive the tough times of the past 15 years. The renewed imperative to get hold of extra reserves is what lies behind gold giant Barrick's current takeover bid for Placer Dome.
One factor that has stymied recovery in the gold price time and again has been sales from the huge stocks held by the world's central banks. But this is limited by the Washington Accord, which capped gold sales by European central banks to no more than 500 t/year for at least the next four years. And, for the first time in decades, some central bankers are talking about buying gold instead of selling it.
The central bank of the Russian Federation said recently it felt a gold holding equivalent to 10% of total foreign reserves would be appropriate but that its gold holdings amounted to only 5% of foreign reserves.
Throw in investor worries over the debt-ridden US economy and speculation that some of this year's huge influx of "petro-dollars" earned by oil-producing nations could be channelled into gold purchases, and it's no wonder the gold bull is running.
But despite all the good news and positive sentiment, SA is unlikely to reap major macroeconomic benefits from this latest gold boom. Gold company profits should soar and gold shareholders could get rich. But SA's total gold production is unlikely to increase. That means the gold mines will not be re-employing the tens of thousands of workers laid off over the past 15 years.
The best that can be hoped for, from a socioeconomic perspective, is a halt in the steep decline of the country's gold production and a few years of production stability while the remaining life of operating gold mines is extended, resulting in employment levels being maintained for longer.
That's not to belittle such benefits, but one has to face facts: gold is far from the dominant economic force it was for SA in the late 1960s and early 1970s, when the country produced 900 t -1 000 t/year. Gold production this year will be about 300 t, roughly half the 599 t produced in 1991 and 25% less than the 395 t produced just three years ago. So, gold remains a "sunset" sector in SA mining, unlike platinum, which is now the undisputed "sunrise" king.
But prolonging gold's sunset is still good news. That's because gold, sinking force that it is, still matters greatly to SA. Gold sales brought in R29,5bn in foreign exchange earnings last year and accounted for 10% of the country's total merchandise exports. Gold mining accounted directly for 1,5% of the country's gross domestic product in 2004, and 3,6% once the indirect benefits are included, using the accepted economic multiplier factor of 2,4.
SA gold mines employed 187 484 people in 2004 and paid them R13,1bn in wages - still considerable, despite last year's reduction of the gold mining population, which stood at 198 465 in 2003. The mining industry as a whole, though, actually increased the number of employees to 457 371 last year from 434 750 the year before, mainly because of platinum mines' expansion.
If there's one word to sum up why the outlook for SA's gold mines is so limited, despite the rising price of the metal, it is "depth".
Chamber of Mines chief economist Roger Baxter points out that about 50 500 t of gold have been mined in SA since the Witwatersrand gold strike in 1886. What's left lies at depths greater than 3 km.
There are still an estimated 40 000 t of gold underground, of which 15 000 t-17 000 t can be reached with existing technology, which can mine down to 4 km. When one factors in the expected working costs and capital expenditure requirements, Baxter says just 7 000 t-10 000 t of that gold could be economically mined.
That is still the world's largest known gold resource, but nobody is rushing to get it. The reasons are cost and time. Working costs get higher the deeper mining operations must go. The greater depth also increases the length of time required for payback on the huge up-front investments required to develop a gold mine on this scale.
These days no investors are prepared to tie up billions of rand for the 10 years it would take to sink and develop a major deep-level mine in SA such as South Deep. The alternatives are far more attractive. A small, cheap open-cast gold mine in, say, Tanzania or South America will start rewarding investors in 12-18 months.
That's why Gold Fields is investing R2,5bn to buy Bolivar Gold in politically risky Venezuela, says Investec Securities analyst Leon Esterhuizen.
"Gold Fields would gain access to greater gold resources than it has at Bolivar through spending the same amount of money on deepening operations at either its Driefontein or its Kloof mines," he says. "SA companies do not want to sink deep-level shafts anymore."
Gold Fields CEO Ian Cockerill says the decision to buy Bolivar was part of the group's strategy to diversify internationally and to get the best potential return on investment. It will consider next year whether also to begin "drop down" projects to deepen Kloof and Driefontein, its flagship mines.
But such projects would not boost SA's total gold output - they would simply be replacing lost output from other shafts and mines that are reaching the end of their economic lives.
There are a number of new mines that could be developed, such as the proposed R5bn Target North mine that Harmony CEO Bernard Swanepoel says the group is looking at developing over the next 15 years.
An extended high rand gold price could speed up that development, but Swanepoel, like his SA gold mine peers, wants to see more certainty on the business conditions facing the sector before undertaking such commitments. They have burnt their fingers badly before; the limiting factors are higher-than-inflation increases in working costs and a volatile rand exchange rate.
SA mines receive about R103 500/kg of gold sold - based on a world price of $495/oz and a rate of R6,50. The industry last saw prices like this in 2002, when the gold price averaged R104 000/kg for the year and "spiked" to R110 000/kg because of the rand's weakening to R13,50 at one point. Gold shares spiked as well, with Gold Fields reaching R180/share. At present it trades at R101/share.
Since 2002 the rand has recovered all its lost ground, and industry costs have climbed. Average gold production costs, excluding capital expenditure, for 2002 were R71 000/kg. This year the average production cost was R92 145/kg for the June quarter and R87 850/kg for the September quarter, as the industry recovered from the worst of the restructuring costs - such as retrenchment payments - that they incurred from the 2004 downsizing.
The industry profit margin is not what it was in 2002, which is why the share prices are still well below their highs of that time. The margin could be restored if the dollar gold price continues to rise, the mines contain cost increases and the rand does not strengthen excessively.
One important element in controlling costs is negotiating pay increases that match inflation. SA's labour-intensive gold mines spend 40%-50% of total working costs on labour. For the past six years unions have bargained pay rises well above domestic inflation rates.
Swanepoel says the inflexibility of the labour laws makes it difficult and expensive for mines to retrench workers. As a result, the mines are reluctant to hire additional employees or undertake worker-intensive projects in the volatile gold-mining climate.
The past six months have been kind to the gold mining industry, with a stronger dollar gold price, relatively stable rand and easing working costs. But Swanepoel remains wary, pointing out that the rand firmed in the past week from R6,70 to R6,47.
Such factors constrain prominent gold producers from changing management strategies soon, despite the current gold price boom. Gold mining companies fear the rand will remain strong for a long time. To counter that, they are extracting higher-grade ore than they would have if they had expected present rand gold prices to remain steady. Harmony works on a postulated gold price of R92 000/kg.
Cockerill says the stronger gold price will make little difference to the operations of profitable mines, such as Driefontein and Kloof, which have spent the past 18 months switching their mining plans from lower-grade to higher-grade ore. Cockerill describes the switch as moving from a bargain-basement "Wal-Mart" approach to an up-market "Saks Fifth Avenue" attitude.
It will take time for gold company bosses to believe the higher rand gold prices are indeed sustainable. Only then will they opt for lower grades and return to less profitable areas of their mines, thus extending the life of their operations.
For marginal or scarcely profitable mines, though, such as Gold Fields' Beatrix mine in the Free State, gold's resurgence will deliver immediate benefit. That's because mines such as these no longer have significant high-grade areas to depend on, and stay alive only because working costs have not yet eclipsed gold earnings. For these mines, a higher gold price means nothing more than longer life.
Perhaps the loudest sigh of relief at the current gold price rise has come from high-cost, marginal operators such as DRDGold and Simmer & Jack (Simmers). The latter now owns the Buffelsfontein and Hartebeestfontein mines that DRDGold put into liquidation in March this year.
"Those mines have a gold resource of 12m oz, of which we believed we could mine 2,3m oz profitably at a gold price of R85 000/kg over a 10-year life," says Simmers CEO Gordon Miller.
"The sharply higher gold price clearly changes this by extending the life of the operation and it could also increase the volume of production. We will reassess our plans early next year."
Marginal miners, Miller adds, are eternal optimists. "That's why we are in the marginal gold mining business. But the key issue is the strength of the rand, and we are assuming that the strong rand environment will continue."
So the gold price alone is not the only arbiter. Mining executives are also keeping a beady eye on the rand, hoping it will hold relatively steady and allow them to benefit from the rising dollar gold price to maintain a healthy environment in which to plan their future.
