Russia Mining Report Q3 2009

The Russian Gold Industrialists Union has claimed that gold output increases by 37.8% in the first four months of 2009 to 43.28 tonnes. The production increase has mainly been attributable to the recent launch on new processing facilities by Kinross Gold at its Kupol Mine in Chukotoa and Peter Hambro Mining at its Pioneer Mine in the Amur region. The increase in output is especially positive as the sector has witnessed a decline for much of the past five years. Many leading Russian miners increased capacity in 2008, while exploitation of the gold reserves in Siberia and the Russian Far East could see production increase by another 20% by 2015. After South Africa, Russia has the largest gold reserves in the world.

Gold has been one of the few commodities to prosper in the current economic crisis and the global uncertainty has driven investors to plough money into gold and silver as a safe haven.

Yet not all precious goods are performing well. In April 2009, Russia's largest diamond producer, ALROSA, cut its diamond production outlook by 20% in view of the constriction of demand for precious stones occasioned by the global financial crisis. Russia's luxury market has ground to a halt as the country's wealthy elite have seen their fortunes eroded. Consumer spending throughout the economy has slumped as salaries are cut and jobs are lost. Reduced lending from banks has also affected big-ticket purchases such as diamonds. Consequently, ALROSA now plans to produce US$1.87bn worth of diamonds in 2009, compared with US$2.36bn in 2008. In the past few months, ALROSA has been selling almost all of its output to Gokhran, the Russian government's precious metals and gems repository.

However, if the company wants to meets its production plans for the year it will have to find new customers, as Gokhran is planning to buy just US$1.34bn of diamonds and precious metals this year.

It is BMI's view that the current economic crisis affecting the Russian mining sector could allow the government to purchase assets at discounted prices. Indeed, in June 2009, it was revealed that the Russian state-owned bank VEB had acquired a 3.68% stake in Norilsk Nickel at the end of 2008. The bank has refused to comment on the story, claiming only that it bought some stakes in bluechip companies at the end of 2008. The Russian government earmarked RUB175bn (US$5.6bn) to invest in the troubled stock market; however, a wide-scale bailout of the mining sector is still not on the cards. Despite this there is a possibility that the government will continue to increase its stake in some key mining assets. For example, in May 2009, state-owned Russian Technologies admitted that it would be interested in taking a 40% stake in Norilsk Nickel if the company failed to re-pay its debts to the state. In October 2008, UC RUSAL took a US$4.5bn loan from VEB, putting its 25% stake in Norilsk Nickel up as collateral. Norilsk's major shareholder, Vladimir Potanin, has secured a US$3bn loan from VEB, putting his 16.7% stake in Norilsk as collateral.

Global Overview On page 9 of this report, BMI examines the phenomenon of increased Chinese activity in the global mining sector, and what this means for the industry moving forward.

Industry Forecast In the short term, Russia's mining sector is facing severe difficulties caused by falling commodities prices. In 2008, BMI estimated the mining sector declined by 5.0% in real terms, while we forecast a marginal contraction in 2009. By the end of the forecast period, however, the market should have returned to strength as commodity prices recover and new reserves are developed. In 2013, we forecast the mining sector will be worth US$175.8bn.