Tuesday, June 19, 2007

Bingham Canyon Mine – The World’s Largest Copper Mine

Mining has a rich history and the Bingham Canyon mine has one of the richest histories. Operating since 1906, it is the world’s first open pit mining operation and it showed the world how to mine low-grade minerals profitably.

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In 1906 there was a 9000 ft mountain. The mine is now ¾ of a mile deep.

In the late 1800s a man named Daniel Jackling first got the idea that perhaps copper could be mined from the surface if the operation was big enough. Old time miners in the region thought he was crazy to even consider trying to mine such a low grade, which was a mere 2% or about 38 lbs/ton. Today that grade, about $120/ton at today’s prices, would be considered very good by open pit copper mining standards. The original goal was to mine 2000 tons per day, which a quick calculation suggests about a 25 million pound per year when operations started in 1906. It wasn’t long before the Bingham Canyon mine was the only mining operation in the region.

In 2006 the grade mined was 0.63% copper, 0.057% molybdenum, with 0.49 g/ton gold and 3.5 g/ton silver. At today’s prices that’s $90/ton metal values. In 2006 Bingham mined concentrates that contained about 580 million pounds of copper, 37 million pounds of molybdenum, 523,000 oz gold, and 4.2 million oz silver, about 17% US copper production. The smelter was shut for 63 days so only about 90% of the concentrate was refined.

Bingham Canyon mine claims to be the world’s biggest mine, as does Escondida in Chili. Who’s telling the truth? Escondida currently has the largest production in the world, about 2.8 billion pounds per year, 8.1% of the world’s copper production, and its production is more than 100 times Bingham 1906 initial production. Started in 1990 at 6-700 million pounds per year, Escondida has not produced the most copper in the world, that title belongs to Bingham Canyon.

To put into perspective how much mining has happened at Bingham Canyon over the last 100 years when Daniel Jackling first built his mine there was a 9000 ft high mountain and now there is a hole ¾ of a mile deep and 2.5 miles across the top, 500 miles of roads in the pit and it has produced over 17 billion pounds of copper.

Bingham Canyon mine uses some of the most equipment today. The shovel weighs 2.5 million pounds and pick up 98 tons with a single scoop. The trucks carry between 255 and 350 tons of rock.

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The trucks and shovel look small until you look at the tires.

The mine has been highly profitable and been described as “the richest hole on the Earth.” It is operated by Kenncott Utah Copper, which is owned by Rio Tinto. Of the $7.4 billion in profits that Rio Tinto had in 2006, about $1.8 billion came from Kenncott Utah Copper.

The life of the mine is currently projected until 2017 with reserves of 0.54% copper, 0.043% molybdenum, 0.32 g/ton gold and 2.59 g/ton silver, or about 18% less metal values per ton mined in 2006. The declining reserve grades does mean that profitability will decline and Bingham Canyon Mine’s centennial year (2006) may also go down as its most profitable year in its history. Future considerations after the open pit operations come to an end is to consider the economics of under ground mining for metal resource that can not be reached through open pit operations.

To evaluate if Bingham Canyon mine is a good investment, investors need to check out Rio Tinto. It trades in the ADR under the ticker RTP.

Rio Tinto has a market cap of $113 billion. Sales in 2006 were $25.4 billion and earnings were $7.338 billion, or about 6.5% of the market cap. Reinvestment for capital projects in 2006 was $3.9 billion, with $1.1 billion of that financed through increasing debt.

The copper group made 49% of the 2006 earnings, with Bingham and a 30% ownership of Escondida being the two largest contributors to the copper revenues. Escondida has a life-of-mine that should go 25-30 years. Depending on the grade an economic feasibility to switching to under ground mining, Bingham’s revenue stream may need to be replaced in the next decade and Rio Tinto has interests in 4 world-class undeveloped projects in the works to start in 4-10 years that will meet that objective:

  • 100% ownership of La Gradja in Peru.
  • 9.95% increasing to 19.9% interest in Oyu Tolgoi (Turquoise Hill), in Mongolia.
  • 19.8% interest in Pepple in Alaska.
  • 55% interest of Resolution Copper, 2 km deep.
Rio Tinto has a diverse holding of properties, diamonds, alumina, aluminum, coal, iron, uranium, and titanium in many countries in the world. Reports are in US currency. To quote from Rio Tinto’s 2007 outlook published in February:

Since January 2003 strong appreciation against the US dollar has been seen in the Brazilian Real (61%), Australian dollar (37%) and the Canadian dollar (32%). This in turn has increased mining production costs as denominated in US currency.

US currency has declined further since that report, further putting upward pressure on production costs as they are reported in US currency. This puts downward pressure on earnings.

Furthermore, commodity prices were very strong in 2006, and with strong prices there is more risk for price declines. With a company as big as Rio Tinto mines are constantly coming to the end of their mine life, so there is a constant need for replacement projects to maintain operations, never mind increasing operations. Rio Tinto’s $3.9 billion in capital projects demonstrates that they are focused on ensuring a strong production profile.

A problem for Rio Tinto that a small company does not have is that it is so big, any meaningful production growth can be offset by declines in price because relative meaningful increases in production relative to their size affects the supply to the point it can push prices down. For example increasing Rio Tinto’s copper production by 10%, say around 200 million pounds, and that would increase world supply by about 0.5%. A small company’s existing production might only be 100 million pounds, so that increase would triple their production, or increase by 200%. Rio Tinto’s relative increased production is so small, so it gives little protection from downward price risks compared to the small company. The downward prices risks would be enormous if Rio Tinto tried to double their production.

There is no question that Rio Tinto is an amazing company with exceptional management that pays attention to not diluting the share count, but with strong commodity prices investors have not properly considered what happens to their investment if commodity prices decline. It simply isn’t wise to price a big commodity company above a P/E of about 12.

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