As copper price falls, high-cost projects lose their lustre

Peter Koven Jun 12, 2012 – 8:23 AM ET | Last Updated: Jun 12, 2012 9:40 AM ET

A new report from Teck Resources Ltd. demonstrates the challenges facing copper companies as they try to develop high-cost projects in the midst of a turbulent global economy.

Late Friday evening, the Vancouver-based miner filed a technical report on its massive Quebrada Blanca Phase 2 (QB2) project in Chile, which the company views as the top priority among its develop-ment projects. The US$5.6billion mine is expected to churn out 200,000 tonnes of copper production a year at low cash operating costs. Teck already has an existing mine at the site.

The problem is the economics. Due to the high construction costs and low grade of the resource, QB2 requires very strong copper prices to generate an attractive net present value (NPV).

The technical report shows that at a copper price of US$3.50 a pound and a molybdenum price of US$12.50 a pound (relatively close to current levels), QB2 has a solid NPV of US$2.2-billion and internal rate of return of 13.7% (in the “base case” scenario). But if the copper price falls to US$3.00, the NPV plunges to US$1.1-billion. If copper drops to US$2.50, the NPV is negative US$239-million.

Copper traded around US$3.30 a pound on Monday, but it has been extremely volatile because of macroeconomic concerns emanating out of Europe. It has dropped about 10% in the last 30 days alone.

That creates a dilemma for Teck, and many other companies with low-grade copper projects. Greenlighting these multi-billion dollar mines in a turbulent environment like this requires conviction that high copper prices will be with us for a very long time. That means Chinese demand must remain strong despite the concerns in Europe and elsewhere.

Low-grade, high-tonnage projects are becoming the norm in the industry as highgrade discoveries become increasingly scarce.

“I would suggest QB2 is very similar to a lot of the projects we’re looking at that have anywhere between 0.3% and 0.5% copper grades,” said John Hughes, an analyst at Desjardins Securities.

“These are assets that in previous cycles would never be developed. Gone are the days where we’re mining 2% copper.”

He and other analysts believe that Teck’s board will approve QB2, though they think a delay is possible if market conditions get worse.

One advantage for Teck is that it does not need to raise money to build the mine. Copper companies that need financing to build their projects (such as Inmet Mining Corp. and Baja Mining Corp.) have been punished by risk-averse investors.

“It’s kind of like the oil sands for Teck,” said one analyst, who asked not to be named.

“It doesn’t look good on an NPV basis, but you end up with a long-life resource at low cost once it’s built. And if you can fund it without going to the markets, then (market volatility) doesn’t matter.”

The good news for copper companies is that the data out of China remains encouraging, despite the concerns out of Europe. Chinese copper imports rose 12% last month to 420,000 tonnes, according to preliminary customs data.

http://business.financialpost.com/2012/06/12/as-copper-price-falls-high-cost-project-lose-their-lustre/