Chile Court Ruling Has Potential Implications For Barrick Gold’s Mines

Barrick Gold Corporation (NYSE:ABX) might have another problem on its hands as far as the Pascua-Lama project is concerned. The Chilean Supreme Court struck down the planned 2,100-megawatt, $5 billion Castilla thermoelectric power plant project this week, citing environmental concerns. This ruling will come as a setback not only to Chilean efforts to shore up power producing capacity in the energy starved nation, but potentially to the mining industry in the country as well. ((UPDATE 5-Chile top court rejects $5 bln Castilla power project, Reuters))

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Chile’s Power Sector Mess

Chile’s power sector is in dire straits. Its power grid has suffered from years of under-investment, a destructive 8.8 Richter Scale magnitude earthquake in 2010, droughts, and logistical issues arising from the country’s long, thin shape. This has led to increasingly harsh criticism from energy-intensive mining firms. Chile’s power generation capacity stands at 17,000 megawatts and the government aims to add another 8,000 megawatts by 2020. Even this is likely to be insufficient as it is estimated that the country will need at least 30,000 megawatts of power by 2020 to keep up with the burgeoning demand, primarily from mining projects. ((Chile Energy Minister Seeks To Ease Worries Following Castilla Ruling, Fox Business))

Despite such a grim situation, environmental groups have consistently opposed mega-power projects ranging from coal-fired, thermoelectric plants in Chile’s northern Atacama to hydropower dams in the wild southern Patagonia region. The Castilla case was seen as a litmus test for several other environment-versus-energy related disputes. According to a Chilean think tank, more than $22 billion of investment in a total capacity addition of 8,000 megawatts has already been suspended so far, throwing Chile’s future energy security in jeopardy. Chile already has one of the highest power prices in the region owing to shortage of power and a shaky transmission grid. Cancellation of some key projects and inhibition of investments as a result have only made matters worse. ((Chile’s top court rejects $5bn Castilla power project, MineWeb))

Implications for the Mining Sector

Power woes, dwindling ore grades, regulatory setbacks, and extreme weather may threaten an estimated $100 billion in mining investment by 2020. The Castilla project was planned for Chile’s copper-rich Atacama region, with the goal of providing energy to the booming mining area. Cerro Casale owned by Barrick Gold and Kinross, Lumina Copper’s Caserones mine and Barrick’s Pascua Lama mine were preparing to operate in the surrounding area and were expected to be supplied with power from the Castilla project.

We think that mining companies would probably look to Peru and Bolivia as alternative sources of power supply; but, even in those countries, citizens are increasingly turning against mining projects. There is a feeling that they have not benefited from a metals-led economic growth but have suffered environmental costs. We believe that setting up a new power project in those places to supply miners in Chile could invite further retaliation from people. Barrick Gold would probably suffer the most as it not only has two projects, Cerro Casale and Pascua-Lama, in the region, the latter is very crucial to its future prospects. Barrick has already had to escalate capital expenditure costs at Pascua-Lama by 50-60% which translates to an increase of nearly $2.5 billion. The project has also been pushed back by a year to mid-2014. We believe that power headaches will only result in additional delays and costs.

The Likely Future Scenario

Chile’s Supreme Court said the companies behind the Castilla project could resubmit an environmental impact study, grouping together the project’s two main components — a port and a thermoelectric power plant — potentially leaving the window open to see the light at a later date. We believe, however, that any such development will only occur far out in the future.

Environmental groups have opposed mega-power projects ranging from coal-fired, thermoelectric plants in Chile’s northern Atacama, the world’s driest desert, to hydropower dams in the wild southern Patagonia region. We believe that a win in the Castilla case will only encourage them to push further with their agenda.

The end result, in our opinion, would be the availability of power to mining companies but at higher costs. This is because the mining sector was responsible for Chile’s 6% economic growth last year, so the country cannot afford to drive away mining companies. These companies are already struggling with rising input costs, so profit margins are likely to suffer. Barrick Gold has been banking on Pascua-Lama to drive down its cost of production, so its calculations might go awry.

We will keep a close watch on further such developments in the region and factor them into our estimates for Barrick Gold.

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