The extraordinary failure of Telfer

NEWCREST Mining suffered an excruciatingly public face-plant earlier this month. But with analysts focussed on the problems at Lihir and disclosure issues, a professionally fascinating aspect of the broker downgrades escaped much comment. By Stuart Love*
The extraordinary failure of Telfer The extraordinary failure of Telfer The extraordinary failure of Telfer The extraordinary failure of Telfer The extraordinary failure of Telfer

Some analysts are predicting Telfer may close before producing 7 million ounces of gold from the 18 million in-situ gold ounces stated in its 2003 ore reserves. How could such a stunning failure of feasibility study assessment occur?

Allowing for metallurgical recovery, that is approximately a 55% shortfall of recoverable gold.

We can immediately dismiss the effect of recently falling gold prices. Gold prices were far lower in 2003 than they are today, even allowing for cost inflation.

When Telfer's Feasibility Study was completed in 2003, material grade factors ("calibrations") were applied to the resources. The direct effect of this was that it added several million ounces to the gold resources. The indirect effect was that by demonstrating economic viability, it promoted conversion of another 12-14 million ounces of resources into ore reserves which could be profitably mined - or so it was thought.

The technical justification of these calibrations deserves further examination.

But first, a little bit of historical context is called for.

Born of a marriage of BHP and Newmont's Australian gold assets in 1990, the infant Newcrest kicked off at its Telfer flagship with a narrow vein, high grade underground mine in appalling ground conditions. This ran alongside an expanding but increasingly problematic low grade dump leaching operation.

Through the mid-to-late 1990s the operation experienced a rolling series of worsening production shortfalls, whilst gold prices tumbled.

To aggravate matters, in 1995 Newcrest executives set off on a knight-errant adventure, with then-CEO John Quinn tilting quixotically at the Robert Champion de Crespigny-helmed Normandy Mining.

Toting up the resulting losses, deteriorating cashflows from operations and the funds needed for development projects, things looked grim. Newcrest hobbled off to the industry equivalent of the pawnshop.

For the investment banks that dealt in gold derivatives, there were two magic puddings for the trading desks and sales teams through the late '90s - Sons of Gwalia and Newcrest.

Both had problematic operations and chronic cash needs. Both sold vast amounts of gold derivatives, hocking their future reserves to generate cash. However, when the A$ gold price resumed an upward trend in 2000 these hedgebooks went radioactive.

How to get out of this quicksand? Surely something could be done with the vast resources at Telfer?

From the late '90s onwards, Telfer had been subjected to a series of feasibility studies. But the answer stubbornly wouldn't change - the grade was too low.

Of course by then, Telfer was no longer the only large animal on the Newcrest farm. In 1998 the Cadia gold-copper porphyry commenced production.

Investors familiar with Newcrest's travails at Telfer and burned by the Normandy fiasco were sceptical. But the team at Cadia pulled it off. Some fine exploration work in 1996 located Ridgeway, a satellite deposit that boosted the initially modest returns substantially.

However, Cadia-Ridgeway alone would not, at that time, answer for Newcrest's increasingly toxic hedging liabilities.

One of Newcrest's bankers told me in pre-boom 2002 that taken alone, they would be just enough to snuff out the hedgebook and debts, leaving little for equity. Without something extra, Newcrest was a busted flush.

An idea was conceived, prompted by positive reconciliation of a relatively small, high grade part of the resource that delivered the extra metal needed to swing the balance to development.

The samples the resource estimates were based on were not representative and the estimates were too low.

So were born the Telfer calibrations.

A bulk sampling program was undertaken and the results used to justify extrapolation of the concept to vast tonnages of low grade resource.

A legion of renowned experts scrutinised the work.

Premised on "calibrated" reserves, the feasibility studies concluded development was viable.

Credibility having been restored by Cadia, funding was secured. The Telfer Expansion project commenced.

But were we still in Kansas anymore?

In 2004, the new Telfer started production. A 4 million ounce "de-calibration" of the resources in 2007 testified unambiguously as to the results. The recently announced impairments and the sight of analysts lining up to perform extreme unction provide an eloquent postscript.

The irony is that by 2007 booming metal prices turned Cadia-Ridgway and a resurgent Gosowong into low cost cash factories. This allowed Newcrest to raise funds for a 2008 hedgebook closeout and undertake other corporate activity to reduce Telfer's relative weight in the company, for better or for worse.

A full technical post-mortem concerning these upgrade factors has never been published, but should be. The integrity and competence of all those who worked on the problem is not in question, yet a shocking discrepancy between predicted and actual performance occurred. It is surely in everyone's interest to understand what went wrong.

Telfer is now little more than a derogatory footnote to the analyst's reports. As an industry, that lets us all off rather lightly.

*Stuart Love is the principal of Sydney-based consultancy Resource Analytics and Management. He worked as a mine geologist at Telfer and Gosowong from 1996-2001. First published in

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