The changing attitudes of junior miners

By John Ollett
Published: Monday, 28 January 2013

Vertical integration has traditionally been the realm of larger mining companies, but now some juniors are looking to integrate before production even begins

In June 2006, the world’s two top players in the steel industry merged to form ArcelorMittal - the largest vertically integrated company the world had ever seen. The new mega-company had operations that stretched upstream, right the way to iron ore exploration and coal mining as well as downstream into steel mills.ArcelorMittal has retained its top spot and has continued its profitability drive right up to the present day. It is now not only the largest steel producer in the world, but also has 29 mining operations, excluding two greenfield projects and other early-stage exploration projects.

ArcelorMittal embodies not only the virtues of vertical integration, but also provides the template for how such a strategy is typically carried out - a company grows as far as it can in its own individual field and then, if the market and finances allow, purchases or merges with a larger company or one at a different level of the supply chain.

However, the current global economic situation has created a business environment unlike any other.

Supply chains are seeing margins depressed at every level, which affects the mining sector in particular because of the segregated stages in the production process. These leave profit margins more distributed, and therefore, lower. stages range from mining, initial separation processing, chemical processing and finally either sale to an end user, such as automotive manufacturers or sale to an everyday consumer.

Traditionally, mining companies took a path that focused on one specific area until production begins and they grow large enough to look into vertical integration, but now many junior miners are changing their attitudes and are instead looking to integrate vertically even before they begin production.

Different skill sets

Focusing on downstream processing requires a very different skill set from traditional mining and processing. Initial mining requires a strong focus on explorational geology, then mine building and construction, and finally managing the logistical and day-to-day operations of the mine itself.

Once ore has been mined, it must undergo initial physical processing. This requires a wide variety of different skills and technologies from when the material is crushed and ground until the mineral itself is liberated from the waste.

The initial processing focuses predominantly on the physical side of the procedure, whereas further downstream processing can involve significant chemical applications, requiring an entirely different skill set.

This is particularly true in the case of rare earths.

“The initial processing [to reach a mixed rare earths concentrate] is not unlike other mineral processing,” Paul McGuinness, Frontier Rare Earths CFO, told IM.

“The separation of [the individual rare earths elements] is, however, a very delicate solvent-extraction process, which aims to get very high purities,” he added.

This is also true outside of the rare earths arena. Argex Titanium, a junior company in Canada, is looking to create titanium dioxide pigment straight from its reserves.

“Argex is becoming more a speciality chemical company with its own raw material reserves, rather than a mining company,” Roy Bonnell, CEO, told IM.

This trend of identifying what would have been a mining outfit as a chemical company, is being adopted by junior miners across a number of industries, in particular in lithium, graphite, rare earths, titanium dioxide and silica sand for the hydraulic fracturing industry.

Industries where this approach is not so common is when the range of end products created is too extensive.

A good example of this would be the aluminous clay kaolin. Kaolin is used in both ceramics and paper and within these end uses there are a number of very different grades, produced at quite high volumes. As such, the technology required, and therefore the potential capital expenditure, is much greater than where a product is following a more linear processing flowchart such as those of lithium, rare earths and titanium dioxide.

Within this latter sector, even very large companies, such as Imerys and KaMin, have not looked to expand further downstream to perhaps produce pulp or ceramics.

More stringent end-users demands

Despite the possibility to extend downstream, junior miners require some kind of motivation to encourage this drive.

“First, it was necessity,” Jim McKenzie, CEO of rare earths junior Ucore, told IM.

“End users are very important, they are dictating what they want - specifically how refined they want the product to be,” he added.

End users, such as technology leader Samsung or paintmaker AkzoNobel, demand products that are tailored to their exact requirements and do not want to perform further processing of their own supply.

This was previously not always the case, but in a global economic situation where margins are tight in any industry, larger, more downstream companies are unwilling to spend money bringing materials up to scratch.

“At one point there was speculation that [end users] would reach upstream and buy mines and get into the business of mining, but we found that it has actually gone the opposite route and the miner has either been forced to or found it prudent to reach downstream,” McKenzie said.

“This product is so valuable that end users are demanding for us to move downstream and deliver a fully fleshed-out, fully matured product,” he added.

Lack of technology

Another key factor pushing junior miners downstream is that a definite niche exists in the chemical processing sector.

“We do not believe it is a matter of choice,” McGuinness told IM.

This is particularly true of lithium, where the ability to produce battery-grade lithium (lithium carbonate equivalent) is a rarefied technology.

Canada Lithium serves as a good example having chosen to build both its mine site and its processing line simultaneously. There are a number of juniors looking to bring processing facilities online at the same time as their mining operations.

This is also true of titanium dioxide pigment. This pigment processes has very specific requirements as it is mainly produced from just two processes - chloride processing and sulphate processing - and comes from just three main feedstock minerals.

The chloride process is heavily patented, which restricts it to just five major companies, while the sulphate method has a lot of associated environmental issues and does not produce the same high level of pigment produced from the chloride method. As such, there is a distinct niche in the market for new processing technology, which, if implemented successfully, could provide a junior miner with massive demand from pigment end users.

This situation has driven at least two junior miners - Argex Titanium and Cassaforte - to focus on this option and become chemical processors with mineral reserves.

Argex is also finding it beneficial to open the chemical processing side of its production facility before its reserves are ready to feed it. In a further example of vertical integration before production, the company intends to use third-party sources until its own reserves come online. The finished product will be sold straight to paint companies, with a large proportion of it likely to go one of its investors, PPG Industries, one of the world’s largest paint companies.

While this phenomenon is seen in a number of other industries, where the necessity of this lack of technology is most evident is in the rare earths industries.

“There is no separation capacity in the western world that can take and process the [mixed rare earths] concentrate,” said McGuinness.

“There are several juniors out there proposing to go to a concentrate stage only, [but] we believe this is a fundamentally flawed business model,” he added.

Western rare earths consumers are also seeking a stable rare earths supply chain, so any supply chain that uses Chinese processing is of limited appeal.

Capturing the margin

The most important reason why any junior miner would choose to integrate vertically before entering production is, of course, money.

Bonnell describes the evolution of Argex as a vertically integrated entity as inevitable because of “the increased margin from selling a finished product as opposed to a raw material”.

This, too, is true in the rare earths industry.

“Every time you pass a processing threshold (...), whether it is physical beneficiation or as far along as separation, you enjoy a revenue uplift,” Mark McDonald, Ucore vice president of business development, told IM.

“It is just sound business,” McKenzie told IM. “If you have a product that is increasingly valuable, you use the ability to go downstream because of the good economics involved.”

The additional margins can be seen simply from the difference in cost per tonne of product produced and the prices moving down the value chain.

Titanium dioxide is ideally made from rutile feedstock when using the chloride method. Recent data from Iluka Resources Ltd, one of the largest rutile producers in the world, showed that the average cost per tonne for a suite of minerals that included rutile was A$719/tonne (*$759.46/tonne) was partly due to deliberate mining of a lower-grade ore body, so a more realistic cost is its 2011 level, before it made that decision, which was A$537/tonne. Rutile prices have reached as high as $2,000/tonne and now have fallen sharply, but still remain consistently above $1,000/tonne regardless of market situation.

Titanium dioxide pigment, from which rutile is made, sold in 2012 for between $3,000 and $3,500/tonne. If the margin is sufficient for profit when paying $2,000/tonne for rutile, than it will be far more profitable when mining it for internal use at a cost of $537/tonne.

For the example of a less expensive feedstock, such as synthetic rutile or titanium slag, prices can range from $800/tonne up to $1,500/tonne, while the pigment will retain the price of $3,500/tonne although the pigment costs of production will increase. In this case again, a considerable margin will be captured.

These types of margins can be found in a large number of mining industries and sufficiently offset the initial capital costs to encourage the start up of a variety of juniors.

Focus Graphite, a Canadian graphite developer, focuses on both the upstream mining and the downstream processing. This was key “to securing a cost-leading competitive advantage”, Gary Economo, CEO, told IM.

Vertically integrating further downstream has been an issue that miners have considered for many years but the depressed margins caused by more limited supply of raw materials and the global economic crisis has brought the issue to the fore more than any other factor.

“It’s always been an issue, but when you have a wealth of supply, security of supply is not an issue (É) things have changed since the supply spigot has been cut off, which is creating a lot more impetus,” McKenzie told IM.

“It’s always been a concern, but it has never been such a pointed concern,” he added.

New attitude not for all

This new attitude is not for all miners, and many industries remain split between the more traditional attitude of “mine it and sell it” and the newer attitude of creating a fully fleshed out developed product for the end user. with graphite being a prime example.

“Some graphite developers (...) are laying the groundwork now to secure access to advanced material markets, while some developers are generally satisfied in planning to produce for those traditional industrial graphite markets such as refractories,” Economo told IM.

Focus Graphite is developing into the battery market and is looking to control both upstream and downstream, but stresses that traditional markets are an equally valid demand source for graphite. Traditional markets like refractories, metal casting, and lubricants are still important demand sources for graphite and many producers could still make strong profits mining and selling straight to these markets rather than focusing on the extra downstream processing required for battery-grade graphite.

“There is a role and plenty of space for both,” said Economo.

There are other reasons to avoid vertical integration, one being if a junior miner is hoping to be acquired. Large downstream companies, and even large mining companies, are always in the market for a good-quality deposit to slot neatly into their supply chain and many choose well developed junior miners ready to enter production.

This often proves to be a considerably cheaper option for larger companies then developing a downstream site, although this is never guaranteed.

Vertical integration before production can also be a challenge simply because the company struggles with the makeup of a deposit. As every deposit has a unique mineral makeup, perfecting the processing technology to produce a fully developed product can be challenging. This is especially true in rare earths, which can be hosted in a variety of minerals.

While processing xenotime or monzonite hosted rare earths minerals is well established (if by no means easy), liberating rare earths minerals from an eudialyte deposit or a peralkaline deposit is more difficult and can hinder any potential vertical integration at a junior level as the processing technology either doesn’t exist or is difficult to obtain.

The cost of the extra processing technology can also be prohibitive, especially given patents (as in titanium dioxide) or the technology’s focus on a particular location, such as in lithium or rare earths.

Overall, many juniors, particularly in the higher revenue/higher margin businesses, are beginning to focus on vertical integration before production even begins. This attitude is a new occurrence and is driven by scarce supply of minerals in a tight economic climate, but also by these juniors seeking to maximise their value for their shareholders.

This approach, of course, does not apply to everyone, and plenty of room still exists for the more traditional miner.

However McKenzie phrased it best: “Wherever possible, this is a phenomenal strategy (...) to go downstream and capture more of the value. If the development of rare earths is s football field, it’s the last 10 yards where you make the most money.”

*Converted January 2013