Faster decarbonisation and mining: a crisis of confidence or capital?
It’s an inarguable fact that metals play a vital role in the energy transition. But while much attention has been given to how the transition stimulates demand there seems to be little focus by policymakers on the challenge miners face as they attempt to gain license to invest. Consequently, supply is not being developed at the pace or scale required to meet the targets set out in our accelerated energy transition (AET-2) scenario, which explores the implications of a 2-degree pathway.
This begs the question: is this paucity of investment a crisis of confidence or capital?
Uncertainty results in too much focus on the short-term
Stakeholders continue to focus on the near term. Company margins are pretty good, as a result of subdued costs and rising prices, and shareholders have been rewarded with healthy dividend payments. The China-led recovery in demand and optimism that stimulus programmes will be commodity-intensive has boosted prices now above pre-coronavirus levels.
However, the depreciating US$ is lifting costs and the medium-term outlook points to deteriorating fundamentals and flat or declining prices. This means that margins will also be deteriorating.
There is no doubt that metals demand will be transformed if we are resolute in limiting global warming to 2-degrees. But variable commitment to this task and the technology that could achieve it creates a crisis of confidence. The challenges of emissions reduction, carbon taxes and broader ESG requirements – all of which inflate business costs – create further uncertainty.
Compounding this, we have investors unwilling to sanction large capital investment programmes. Aside from the uncertainties outlined, this is because of a reluctance to swap dividends now for investment with returns 5-10 years hence.
Miners need to focus on creating a sufficient, timely and sustainable supply that provides the returns shareholders require – something of a contradiction.
A crisis of confidence is followed by a crisis of capital
Mining company boards are at a crossroads – a need to participate in energy transition growth but no real license to do so. Also, the consumer base is fickle. If they don’t see timely supply growth and/or some semblance of price stability then, where possible, commodity risk will be mitigated by designing out the metals that miners want to supply.
So, miners need to focus on creating a sufficient, timely and sustainable supply that provides the returns shareholders require – something of a contradiction. If these conflicting needs cannot be resolved the dream of an accelerated energy transition will remain elusive.
With the development of greenfield mines typically taking five to seven years, this brings into stark relief the disconnect between stakeholder desire for quick returns versus long-dated returns from investment in projects. The uncertainty around the energy transition demand profile five years hence adds another element of risk to the already complex challenge of project development. It requires a leap of faith that the demand will be there, so that debate becomes not “if” but “how much” and “when”.
Low carbon energy, transport and metals: how much and when?
Industry level investment timing determines whether structural deficits will be realised. But important questions remain around whether there are enough projects at an advanced stage to be progressed to production to meet demand.
There is another fundamental societal question that needs to be addressed. How much primary metal will need to be developed given the potential for rising use of secondary (scrap) material? Scrap offers attractive environmental benefits. However, the challenge of collection and segregation remains, as does the life-cycle limitation on supply availability. In a recent report, we outlined a scenario of a future world where the recovery and use of 95% of scrap could fully meet the growth of base case energy transition uses and at least some of the requirements under an AET-2 scenario. But this would require a huge policy shift, and societal change.
So, how much metal is required for renewable energy generation and storage and how much for electric vehicles and associated infrastructure? The numbers are truly eye-watering: aluminium will require an additional 50 Mt, copper 23 Mt, nickel 3.1 Mt, cobalt 500 kt and lithium 3.5 Mt. This excludes the supply development needed to counter grade decline and attrition.
These heady growth scenarios will double the aluminium, copper and nickel market over the next 20 years. For cobalt and lithium, supply will have to rise five-fold over the same period.
Funding forecast supply growth is a US$1.7 trillion challenge
The metals and mining industry needs to invest a cumulative US$1.7 trillion from 2020-2035 to meet the demand profile of our AET-2 scenario. By comparison, over the past 15 years the industry invested around US$600 billion across the five commodities. It's apparent that if the industry is not to be an inhibitor of an accelerated energy transition there needs to be a massive increase in investment, and soon.
How could the funding gap be closed? Policy will be a major driver and must include government support for investment in countries that are currently viewed as off limits. We foresee a significant increase in the amount of public money invested through government or sovereign wealth funds under the banner of supply security. Private capital will have a role to play but this will require stakeholders to be comfortable with higher risk and lower returns. Consumers are also likely to get more involved in supply chain ownership in order to de-risk and secure supply.
Historically, miners – unlike their oil and gas industry counterparts – have been reluctant to enter joint ventures with competitors. This will have to change as a strategy to mitigate risk.
Another hurdle that needs to be overcome is the vogue for miners to pay out large dividends which starve the industry of its ability to invest in growth. A reversal of the current reality on dividend versus growth will only happen when investors are convinced the energy transition is underway and is an unstoppable train. By then it will be too late for supply to catch up. This crisis of confidence is leading to a crisis of capital – and that will mean that the mining sector inhibits a faster energy transition.
Can metals and mining rise to the challenge ahead?
This article is part of a series tackling the industry's most pressing issues, from tackling decarbonisation to responding to economic challenges in a post-coronavirus world.
Fill in the form at the top of this page to get this series in your inbox.