Sino-Australian Ore Mine Digs a Deeper Hole

[Click for Chinese Version]

Perth -- A Chinese company that bought an Australian iron ore mine nearly four years ago is now wobbling to stay on its feet in the wake of project delays, labor snafus and unexpected costs.

The challenges have been piling up ever since CITIC Pacific acquired 25-year mining rights to 2 billion tons of magnetite – with an option for an additional 4 billion tons – at Cape Preston, Western Australia. A subsidiary CITIC Pacific Mining was formed to manage the project, called Sino Iron.

Other Chinese companies with ongoing projects abroad or plans for overseas expansion are closely watching Sino Iron, which recently underwent a management shakeup designed to keep the project on track. These watchful companies are looking for lessons that could help them avoid similar cost challenges – and mistakes.

When CITIC Pacific bought the mineral rights from Australian billionaire Clive Palmer in mid-2006, the deal was the largest overseas resource investment ever for a Chinese company. It was also one of the few investments of its kind with 100 percent Chinese ownership. And it was the only substantial, Chinese invested-project in Australia's iron ore sector.

Within months of the deal, CITIC Pacific invested several billion U.S. dollars in mine-related infrastructure. These included an ore dressing plant, pellet plant, slurry pipeline, port facilities, power station and desalination plant.

And the spending continues. So far, development costs for Sino Iron have swelled to US$ 5.4 billion from the original plan to spend US$ 4.2 billion. Yet despite this massive investment, the mining project is far behind schedule.

The delays and cost overruns started surfacing last year, after the company pushed back a production start-up from early 2009 to early 2010, and then again to the fourth quarter 2010. Company management blamed the delays on an "approval process" that took longer than expected and higher labor costs, which rose by US$ 350 million.

Labor Pains

Clear acknowledgment of Sino Iron's struggles came last October when CITIC Pacific dispatched Hua Dongyi to Perth to take over project management. Hua was named chairman of CITIC Pacific Mining after being transferred from a post as vice chairman of another CITIC Pacific subsidiary, CITIC Construction.

Hua arrived to find Australians dominating Sino Iron's management team. Among the few Chinese in high positions were CFO You Changrong and a few managers from Hong Kong.

Hua called in Chinese reinforcements: By January, four of his former subordinates at CITIC Construction had been assigned to positions at Sino Iron's office in Perth.

The management changes came at a time when several Chinese iron and steel companies were buying mining interests in Australia and, as a result, raising eyebrows among the Australian public. Scrutiny and even resentment toward Chinese state-owned enterprises suddenly appeared in Australia, and Sino Iron management had to contend with souring relations with the company's Australian workers.

Hua found after he arrived that workers at the mine were little concerned about the project's progress, even though the schedule had been seriously delayed. Once, an Australian worker at the mine casually remarked that Sino Iron was financed with "Chinese government money." An annoyed Hua quickly responded, "CITIC Pacific is a Hong Kong-listed company, and the government is only one of the shareholders. There are other investors, and I'm here to represent the investors."

In addition to fighting negative attitudes in Australia, the Chinese company also found itself battling high costs tied to Australian manpower. These labor challenges were apparently unforeseen.

Since an average miner in Western Australia earns more than AU$ 100,000 a year, and worker retention is difficult in the highly competitive labor environment, CITIC Pacific tried to bring in less expensive labor through engineering contractor China Metallurgy Group. The Australian government initially denied visas to these Chinese laborers but later, after talks with Chinese government and Chinese enterprise officials, visas were granted for several hundred workers.

To control labor costs, the company has invested heavily in machinery. The mine is now home to the world's largest and most powerful rock grinding mill, the world's largest wheel loader, and as the world's largest excavator, which cost US$ 19 million and can handle 1,000 tons at a time.

More Challenges

Environmental regulations have pushed up the project's price tag higher than expected. And some industry observers say an even more worrisome risk is that the cost of extracting magnetite is about 40 percent above the price tag for digging higher quality hematite ore at Australian mines held by international mining giants BHP Billiton and Rio Tinto.

If global demand or international prices for iron ore falls and international iron ore prices fall, Sino Iron could be in deeper financial trouble.

During a March interview in Beijing, Hua declined to specify the actual production costs for Sino Iron. "This is our biggest trade secret," he said.

Data released by another Australian mining company, the Beyondie Magnetite Project, suggests Sino Iron could lose money if ore prices fall below AU$ 45 per ton, where they were before 2004 as well as from late 2008 to early 2009. Beyondie's operating costs were between AU$ 35 and 45 per ton at a time when it was producing 8 million tons a year.

These are just a few of the Sino Iron issues now being closely scrutinized by other Chinese companies that have invested or plan to invest in Australia, including Chinese steelmakers seeking to buy ore mines.

"Many eyes are looking at us," said Hua. "A number of Chinese steel mills have made acquisitions lately, but we are the only one with substantive operations. They will wait to see what problems we face, and how we fare."