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The productivity boom

World Coal,

As 2013 draws to a close and the curtain comes down on a very tumultuous 12 months for the coal industry, annual reflections intersperse with predictions of what 2014 may bring for the sector.

This year has been a watershed for the industry, bringing challenging headwinds, sector-wide cutbacks and declining commodity prices. An era of austerity has replaced the profligate spending of many: as coal producers apply drastic corrective measures and hope for improving markets, 2014 looms as an era of accelerated productivity. However, this new phase – as I like to call it, a Productivity Boom – is one I believe is borne out of necessity.

Industry challenges

Australia’s coal industry has enjoyed significant growth in recent decades. Exports have risen from AU$ 6.4 billion in 1990 – 91, to AU$ 43.9 billion in 2010 – 11, while employment in the sector in that time has grown from 20,000 people to some 55,000 people, according to Australian Coal Association estimates. However, there has recently been a sharp downturn. In the past year or so mines have closed and projects have been delayed.

The sector is facing a number of very strong headwinds – some exogenous, some self-inflicted. They include sharply increasing costs, weaker markets, declining productivity, prices falling from historic highs and, for the most part, a very strong Australian dollar, which has been making Australia’s export industries less competitive in global markets.

This convergence of issues is due to a combination of cyclical issues, which the industry needs to address, as well as structural problems that will require a wider cast of players to solve.

Cyclical issues

As coal prices and demand soared, the industry’s response was to chase tonnes. More people, more equipment, more contractors: all at rising costs. Let me provide an example. Rio Tinto has six coal mines in Queensland’s Bowen Basin and in the Hunter Valley in New South Wales. Between 2008 – 2013, electricity costs at Rio Tinto Coal Australia’s mines rose by 77%, while the capital cost of critical mining equipment increased by 75%. At the same time, wage rates in the Australian mining industry increased by 25%, outstripping inflation by, on average, 10%.The result has been a near perfect storm.

Structural issues

The long-term demand for energy remains strong. The International Energy Agency forecasts global energy demand will grow by more than a third by 2035, with China, India and the Middle East accounting for 60% of the increase. Fossil fuels will remain dominant in the global energy mix.

Structural changes in the coal, power and steel sectors in these and other developing economies will thus be crucial to how our industry fares. Geographic location, the quality and cost of rail and port infrastructure, government policies, operating cost structures, local incentives and ultimately commercial reality will determine how global coal markets perform.

Meanwhile, after more than a century of operations in some coalfields, mines in Australia are going deeper. This requires more waste to be removed from over the coal, which takes more effort to extract similar or lesser volumes of coal.

Finally, new taxes, regulations, royalty increases and delays in government approvals are significant cost burdens that threaten the industry’s ability to remain competitive.

Industry’s response

Coal producers were fast to respond by aggressively reducing spend and operating costs. The industry also ramped up its government engagement to educate policy makers about the impacts that continuing changes to the regulatory environment can have on investor confidence.

For example, this year my business has appealed a New South Wales court decision that overturned consent for an extension of mining at a 30 year old operation – despite a rigorous three and a half year public process. We have been working with that state government on policy outcomes to restore clarity and certainty to the planning system, and in turn preserve investment confidence.

Similarly, we have provided a real demonstration of how a project’s value dropped by 30% because of a three year delay in approvals. We’ve also continued to seek a reduction in red and green tape, to reduce further delays and simplify processes.

Legislators need to understand that the cumulative impacts of such imposts will jeopardise current operations and new projects with the result that the flow of new investment dollars will dry up.

Why productivity is key

I’ve already dubbed this latest cycle in our industry the Productivity Boom. In order to strip out inefficiencies and reduce input costs, industry and government will need to work closely together over an extended period of time.

For example, businesses will need to talk to suppliers to reduce input costs. They will also need to test whether they can survive on using fewer people, materials and supplies to drive up efficiencies. They will need to look for labour flexibility through measures, such as changing inefficient rosters and achieving more time spent on tools and operating equipment, in order to reduce periods of down time with the intention of ensuring every hour spent at work is productive.

At the same time, we need governments to assist with attractive tax rates, reducing approval delays and eliminating red and green tape.

In many areas this approach will force us to think differently about how we operate. I believe there will need to be a significant cultural change if this approach is to be successfully implemented. The Australian coal industry is staffed by highly knowledgeable and capable people and it is to this expertise we need to look in these tough times. This will improve safety, extract value, reduce waste and ultimately set our industry on a road to recovery. It’s why I suggest this Productivity Boom is borne out of necessity – and why productivity must move to centre stage.

Harry Kenyon Slaney was appointed chief executive of Energy at Rio Tinto in September 2012. This article first appeared in the December issue of World Coal

Edited from various sources by Sam Dodson

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