Labrador Trough miners optimistic about future despite falling iron ore prices

08/19/2012 06:00 EDT | Updated 10/19/2012 05:12 EDT
MONTREAL - Canada's mining industry remains confident about the Labrador Trough's long-term prospects even though waning iron ore prices could prompt some companies to delay their massive development projects in Quebec's northern region.

The spot price of iron ore set a 2-1/2-year low falling to US$111.90 per tonne this week, the weakest since December 2009 amid weakened demand in China. The price is down nearly 20 per cent this year.

That's prompted companies such as Labrador Iron Mines (TSX:LIM) to review their capital spending plans for development programs in Quebec's key producing region.

"You'll see some of the major companies taking a pause perhaps, recalibrating maybe, but everybody is still pretty bullish about the long term," says Pierre Gratton of the Mining Association of Canada.

Prices may have fallen from last year's high of US$170, but they are still three to four times above their historical average.

Urbanization in China has boosted demand for the key ingredient in steel making. Growth in the world's second-largest economy may have slowed, but it's still forecasted to be about 7.5 per cent per year.

That creates a strong fundamental support for the mining industry, said Gratton.

Urbanized communities use 10 to 15 times more steel intensity than rural settings. More than six billion people — the world's current population — are expected to live in cities by 2050.

"China is still expected over the next few decades to consume a lot of steel and we're expecting the volatility of the moment largely as a result of what's going on in Europe to eventually fade and we'll return to the kind of prices we've been enjoying until recently."

Adriana Resources' Lac Otelnuk project has Canada's largest known iron ore deposit and could potentially be one of the largest in the world, with an annual output of 50 million tonnes.

Chief executive Allen Palmiere said commodity prices and financing are key factors that drive timing decisions, but its project is based on a US$75 spot price for iron.

"At that level, the economics appear to be robust so we still have a reasonably high degree of comfort even at today's prices," he said in an interview.

But that may not be the case for all projects in the Labrador Trough, a 1,000 kilometre belt stretching from Ungava Bay in northern Quebec through Labrador.

"I think there's potential for some projects to be delayed," he said.

Projects are typically delayed if companies have trouble obtaining financing if commodity prices and equity markets are weak. In addition to pricing pressures, financial problems in Europe are creating a big overhang, said Palmiere.

"If we see any kind of strengthening in the near term, I wouldn't anticipate there being a big impact, but if there's a sustained reduction in commodity prices, unquestionably you'll see deferment of projects," he said, unwilling to say which ones he views as most at risk.

Jackie Przybylowski of Desjardins Capital Markets said projects most at risk are ones earlier in their development that haven't locked up agreements with steel producers, financing or feasibility studies.

"Our view is that all the projects in our coverage universe are economic still and they would not be at risk," she said.

The analyst covers Adriana Resources (TSX:ADI), Alderon Iron Ore Corp. (TSX:ADV), Champion Minerals (TSX:CHM), Labrador Iron Ore Royalty Corp. (TSX:LIF.UN), Labrador Iron Mines Holdings and New Millennium Iron Corp.

She expects that the addition of new supply from Canada and leading markets in Australia and Brazil could prompt ore prices to fall further in the longer term to US$92 per tonne.

But Jeff Hussey of Champion Minerals hopes such forecasts are wrong.

He points to some recent suggestions, including by Brazil's mining giant Vale, about a price recovery in the third or fourth quarter and says most development projects are based on prices using a three-year moving average.

"When you develop projects like this you don't react to the short-term, you look more to the longer term," said the executive vice-president of development.

Champion hopes to start production at its Fire Lake North site in early 2016.

"We are continuing and are on track with our feasibility study and we're looking to start construction next year," he said.

Like other companies, Champion is looking to reduce operating costs to ensure it is a low-cost producer to weather low price cycles.

"As long as the average (price) is above what you're cost is, you're OK."

The Labrador Trough region has higher operating costs than Australia or Brazil in part because of the distance to ship ore to China. It's also a remote region that requires the building of costly rail, port and electricity infrastructure.

Any delays in production could impact infrastructure projects such as a planned $5-billion Canadian National Railway (TSX:CN) line being studied with support from the Caisse de depot and some mining companies.

Adriana could be among the biggest beneficiaries of the new line, but the company isn't one of those supporting the feasibility study. Palmiere said it is reviewing its other options but expects the railway project will proceed.

Work is well underway on a multi-user port at Sept-Iles, set to open March 2014, that will help reduce costs to producers. The federal government is contributing $55 million to the $220-million project.

That project could help Labrador Iron Mines to dramatically reduce its costs, which are elevated because of an estimated US$20 per ton paid to Rio Tinto in marketing and freight fees.

Lower iron ore prices cut Labrador's revenues in the second quarter and prompted the spending review. Przybylowski expects the company will likely target its Houston project for spending cuts. Construction of a $10 million rail siding planned this year could be deferred until 2013 with minimal impact on the development project's overall timing.

"Further spending deferrals beyond this item would likely lead to delays in project start-up," she wrote in a report.