Owner versus contract mining

L.J.Kirk
Global Mining Services, Perth, Western Australia, Australia

ABSTRACT: Where direct mining costs are a significant proportion of total operating costs, a mine has a life
of more than five years, there is the ability to maintain a reasonably constant mining rate and there are
existing or available experienced mining personnel then owner mining should be considered along with the
option of contract mining. Contract mining in Australian mines has become a significant, established and
efficient practice over the last decade. Contractors offer mine owners a number of advantages for projects that
have short mine lives, widely varying mining rates, limited company borrowing or credit capacity,
complicated joint venture arrangements, a lack of mining experience, a policy of out-sourcing or a rigid
labour market. This paper is based on the recent evaluation of owner versus contract mining for two large
Australian open pit mines. The two options are compared by discussing the main corporate, operational, cost
and risk issues.
1 INTRODUCTION 2 DEFINITIONS OF OWNER MINING AND
CONTRACT MINING
Most mines use out-sourced services in some way
for mining ore and waste. The main distinction The mining process consists of a number or inter-
between Owner mining and Contract mining is related functions, including:
therefore normally based on whom has the most  Mine design;
control over the mining process. This is most clearly  Scheduling & budgeting;
demonstrated by which party owns (or leases) the  Drilling & blasting;
mining equipment and operates that equipment.  Loading and hauling of ore and waste; and
In Australia over the last 15 to 20 years there has  Equipment Maintenance.
been a significant increase in the number of mining All of these functions can have a supply and/or
operations, both open pit and underground, that use service component, which is typically defined by a
independent contractors to carry out mining formal contract. Supply contracts are normally based
activities. on a specific material or product where the focus is
There have been a number of conferences, plus on quality, product specification, delivery and price.
individual papers written, on the subject of contract Service contracts are typically more complex and
mining, mostly from the contractor’s perspective. which party is responsible for what function is
This paper will cover some of the better known important. How risk is shared and the duration of the
arguments about contract versus owner mining and service may also be significant issues.
some different approaches for both mining options There are often a number of choices as to who has
to help the mine owner evaluate them. Two recent the prime responsibility for each function or part of a
and relevant Australian open pit case studies will be function, ranging from most functions being under
used to illustrate the main strategies and issues, the direct control of one contracting company
Kalgoorlie Consolidated Gold Mines (KCGM) (Contract Mining) to the other extreme of the mine
Fimiston or “Superpit” operation in Western owner controlling the majority of functions (Owner
Australia and the Ernest Henry copper-gold mine in Mining). This is illustrated in Table 1 where
Queensland. “Contractor” means the main contracting company
is responsible and “Owner” means the mine owner.

Table 1. One-stop-shop Contract Mining and traditional Owner

Mining by function.
Function Contractor Owner Miner
Mine equipment ownership Contractor Owner

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 Equipment maintenance Contractor Owner and with relatively short mine lives. It therefore
Drilling & blasting Contractor Owner made sense to contract out major work and, under
Loading & hauling Contractor Owner these conditions, it still does.
De-watering Contractor Owner Contract mining in Australia has expanded to all
Ground support Contractor Owner minerals, including coal, and there has been a
Dumps & stockpile maintenance Contractor Owner significant growth in contract mining in
Rehabilitation Contractor Owner underground operations in the 1990’s. There have
Feed crusher Contractor Owner been a number of innovations that have resulted
from a diverse, competitive contracting mining
industry and this will likely continue to keep
In most mines the actual situation is somewhere in Australia up with the best and most cost effective
between, as shown by the two case study mines mining techniques in the world. Australian
included in Table 2 and designated as “Owner contractors have also moved into several other
Managed”. In this table “Service” is a specialist countries, with one of the largest contractors
contractor providing a particular service and currently also working in New Zealand, Africa,
“Supply” denotes a formal supply arrangement Indonesia and South America.
between the mine owner and a specific supplier. There have also been significant changes with
how mining contracts have been structured and
Table 2. Owner managed mining by function. managed. Contracts have become more detailed, due
Function KCGM Ernest Henry to additional experience on both sides, and in some
cases the traditional Schedule of Rates form of
Mine equipment ownership Service Service
contract has moved towards a cost plus profit margin
Equipment maintenance Service Service
type of contract. However there has also been an
Drilling consumables Contractor Supply
increase in litigation between some contractors and
Drilling Contractor Owner
mine owners, which highlights the need to have
Explosives Supply Supply
contracts carefully drawn up and then well managed
Charge & blast Contractor Service
by both parties thereafter.
Load & haul Owner Owner
The other change in contracting in Australia is a
Tyres Supply Supply
consolidation of the contracting companies. There
Tyre management Service Service
are now three main contractors, one medium sized
Ground engaging tools Supply Supply
contractor and a number of smaller companies,
Fuel & lubricants Supply Supply
down from a total of about twenty contract miners
De-watering Owner Service
only five years ago. The move to increasing
Ground support Contractor Service
economies of scale and reducing overhead costs by
Dumps & stockpiles maint. Owner Owner
merging reflects the mining industry as a whole.
Rehabilitation Owner/service Owner/service
Feed crusher Contractor Owner
Sample analysis & laboratory Service Service
4 KEY ISSUES IN EVALUATING MINING
OPTIONS
For the purposes of this paper the distinction There is more than one way of comparing and
between Contract or Owner mining is based on evaluating contract and owner mining but the main
which party has direct control over the mining issues can be classified as:
equipment and the people who operate that  Corporate;
equipment.  Project specific;
 Operational;
 Cost; and
3 CONTRACT MINING IN AUSTRALIA  Risks assessment.
Mining Contractors were slowly introduced onto
Australian mines in the late 1970’s however the gold4.1 Corporate Issues
boom of the 1980’s is what led to a very rapid Corporate issues are those that are normally
increase in contract mining, especially in small to considered by company directors and group
medium sized open cut gold mines. Australian gold executives, rather than mine-based management.
production rapidly increased from 18t in 1981 to 57t There are many issues that relate to corporate
in 1985 and to over 200t by the end of the decade. strategies, corporate “culture” or policies, the
Current production is around 300t per year. experience of influential individuals, the outlook for
Many of the new gold producers were small the product being mined and share market
companies, with limited capital and mining expertise perceptions.
 Corporate policy on out-sourcing in the mining
industry will depend on the strategic focus of the
mine owner, which can change over time (Dunn
1998). If it is believed the company’s competitive
advantage is in exploration, mine design and
marketing then the actual mining, although
necessary, may not be a strategic function. On the
other hand in tough times the focus changes to4.2
minimising the cost of production from existing
resources.
A major corporate issue is the availability and use
of capital. The key issue is the return on capital,
whether sourced as equity or debt, and what is the
best use of available capital. For smaller mine
owners, companies with a poor credit rating, or for
short-life projects, the contractor is expected to have
several advantages in providing capital items, such
as mobile equipment, or be able to obtain better
commercial terms for purchasing new equipment.
Mining companies evaluating owner mining need
to consider:
 Is capital for mining equipment needed or is
leasing preferred? An operating or leveraged
lease normally would only result in a relatively
small contingent liability being included on the
company balance sheet.
 Would leasing of mining equipment or another
form of external capital raising significantly
affect the company’s future borrowing capacity?
 What capital is needed for infrastructure, such as
the processing facility? Is the provision of
mining infrastructure, such as equipment
workshops, significant and who should fund
this?
 Will the treatment of capital have a significant
effect on operating costs or unit cost of4.3
production? All of a contractor’s capital costs are
included in the mine owners operating or “cash”
cost but for the owner to purchase equipment, or
use finance leases, the resultant depreciation
charge is usually treated as a corporate rather
than operating cost.
The above requires careful financial modelling
and can be a key component of estimating reliability.
Another corporate issue that may be important is
the company structure of the operating entity. For
example both case studies involve joint ventures
between major mining companies, and it is
reasonable to expect that each joint venture partner
will have some different views or priorities on
mining options. Where there is one owner, or an
owner with a clear majority, decision making may
be clearer and easier to implement. Where there is a
joint venture arrangement it is recommended that an
independent party assist the joint venture parties find
common ground and carefully evaluate the differing
or conflicting corporate views.
An interesting development in Australia has been
contractors taking equity in a mining company or
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project to help secure work. The biggest risk here for
the mine owner’s shareholders is the possible
reduction in competition due to a preferred
contractor, which may lead to increased costs
compared to competitive tendering.
Project Specific Issues
Although every mining project is unique, when
evaluating mining options the main considerations
usually include:
 Mine life;
 Is it an existing mine or a “greenfields” project;
 The planned initial mining rate and the
variability of the mining rate over the life of the
project;
 The availability of trained and experienced
personnel;
 The commencement of mining as part of the
project schedule. Is mining or pre-stripping of
waste material on the project development
critical path or is there a commercial advantage
in bringing the project on stream as soon as
possible;
 Does the project financing require greater
confidence in mining costs? Is the feasibility
study conservative;
 Is there any government incentives that may
affect the evaluation? For example at the
beginning of one of the case study projects a
government development allowance was
available to the mine owner but not to a
contractor.
Operational Issues
The key issues revolve around people, equipment
and grade or ore mining control.
All mining operations are dependent on the people
who run them. Identifying the particular skills
needed, then locating and retaining the best people
for the job is common to contract or owner mining.
If the people with the required skills and experience
are not already in that organisation the first step is to
evaluate how difficult it will be to find, attract and
retain these people. Contractors should have an
obvious advantage in already having a pool of
trained and experienced personnel but the mine
owner may also have existing experienced personnel
or be confident of recruiting them.
One cost advantage that contractors may have is
the ability to work their personnel on a longer roster
than the mine owner. The mine owner’s personnel,
such as in the process plant, are seen as long term
employees and may be on a 2 weeks on 1 week off
roster at a fly-in fly-out operation, for example. The
mining contractor’s employees are more likely to be
interested in longer hours for more money and not
be as concerned about the long term and be prepared
3
to work a 4 weeks on:1 week off roster, say. This
could result in reduced employment costs, on-costs
and accommodation costs and subsequently lower
mining costs, but only if the labour turnover rate
does not become excessive or productivity and
efficiency suffers.
Industrial relations or union issues have
previously been a significant consideration in
Australia to use mining contractors. In the 1980’s
much of Australian industry had rigid, inflexible
labour agreements. Coupled with significant wage
increases in the mid 1980’s, and the consequent
decrease in international competitiveness, Australian
mining companies were forced to look at
alternatives. The employment of contractors with
more flexible labour conditions was part of the
4.4
solution.
This may still be significant in other countries but
in Australia there is now less difference in general
employment terms and conditions between
contractors and mine owners. Contractors would still
be expected to have better training programs and
more experienced trainers although this important
item can be addressed by mine owners by utilising
the equipment suppliers trainers and independent
specialist training companies, at least in the short
term.
Equipment selection and flexibility is a strong
point of contractors, especially in the most
commonly sized equipment. Contractors have the
experience and a current cost and productivity data
base on a large range of different mining equipment
whereas an owner miner would normally have a
much more limited fleet and less direct operating
experience. Contractors are also often able to
mobilise additional or replacement equipment at
short notice, for short periods, or to meet peak
demands. An owner miner can still use hired
equipment from contractors in the same way but it
may require a lot more time and effort to organise
and may cost more.
A possible counter to the above contractor
advantages is that the owner miner may be able to
change the mine plan to suit the situation and the
available fleet, compared to the risk of having to
change the contract scope of work that could lead to
increases in contract costs. Also for the largest or
more specialised equipment, such as draglines,
contractors may not have this equipment available or
be able to provide suitable replacements.
Ore control during mining, that is the careful
separation of the valuable minerals from the
surrounding waste, is normally more important in
selective, high value mines, such as shear-zone
hosted gold deposits, than in bulk mining operations
such as coal or large, low grade metal deposits. The
mine owner usually determines the ore mining
method although the experienced contractors can
often provide practical solutions. The use of
backhoes or excavators, compared to face shovels,
for selective mining was primarily developed by an
Australian contractor, for example (Roche 1996).
The issue here is not so much the mining method
but the required quality control and quality
assurance over ore mining. The contractor has a
profit-based focus, which depends on maximising
loading productivity, and hence maximising the
volume mined. The mine owner may be more
concerned about the quality of the ore that is mined,
which may reduce loading productivity due to the
extra care required in selective mining of ore and
adjacent waste. In either case the focus should be on
what is best overall in terms of cost and net benefit.
Cost Issues
How significant the cost of mining is compared to
the total mine costs, and how sensitive the project’s
viability is to mining costs, are often the main
considerations in evaluating who should do the
mining. Should the mine owner concentrate on other
more value-adding issues such as exploration,
processing and marketing the final product, or is the
mining cost critical in determining if the project is
viable or a significant factor in determining mine
life?
For both case studies mining costs are significant
as a percentage of total operating costs and therefore
in determining profitability. Both mines also have
relatively low grade deposits and the final pit depth
and hence mine life is based on economic criteria,
not a physical bottom limit of known mineralisation.
The issue may then become what cost premium or
margin, if any, is justified in employing a contract
miner rather than undertaking the mining directly, if
there aren’t other more important issues such as the
corporate and operational issues discussed above or
the risk assessment issues discussed below. There is
always an inter-relationship between cost, benefit
and risk.
It should not be assumed that a contractor would
cost more than owner mining would. In the current
depressed times for much of the resources industry
competition between contractors is high. The
contractors may also have an existing mining fleet
available at a significantly lower ownership cost
than a new, replacement fleet, particularly if there
has been a significant change in exchange rates that
affect new equipment supply prices, for example.
However it is reasonable to expect that the
contractor will include at least some replacement
equipment costs in calculating the contract prices, as
well as including a profit margin no lower than the
current cost of capital.
Apart from the contractor requiring a profit there
is also the cost of duplication of some functions.
This includes site-based costs such as some
duplication in management and administration and
off site costs such as company related overheads that
are common to both the mine owner and the
contractor. Depending on the economies of scale and
the relative efficiencies and competencies of
management and administration between the two
organisations this cost may not be significant and
could even favour the contractor.
Related to costs is who would benefit from any
future savings. With changes in mining methods or4.5
processes, improvement in technology or continuous
improvement of the whole mining operation it is
reasonable to expect there would be some savings,
or a slowing of cost increases in real terms. For
contract mining the majority of any savings would
normally go to the contractor and at best the owner
would get 50% of any savings. For owner mining
the majority of any savings would go to the owner,
although suppliers or specialist service providers
may earn a share.
If costs increased rather than decreased the
contractor may have to absorb this but only if the
contracts scope of work and contract terms and
conditions were very clear on the specific issue. It is
more likely that the owner will incur the majority of
increased costs in any event. However there is a
greater risk that an owner miner would be less
focussed on reducing unit costs than the contractor,
who has no other way to improve profitability.
The above discussion on cost issues is not new but
what is often not considered is the value or
proportion of the total mining cost by individual
major cost items and what are the risks and
difficulties in managing each of these items.
Using the case study examples the major contracts
listed below in Table 3 comprise almost 80% of the
total mining costs at each site.
5 CASE STUDIES
Table 3. Cost items as a percentage of total mining costs.
Cost Item KCGM Ernest Henry
% %
Equipment ownership/lease 16 20
Equipment maintenance 17 19
Drill & blast 24 19
Fuel & lubricants 13 12
Tyres 9 9
TOTAL 79 79
Each of these cost items requires varying amounts
of effort to manage and control them but with a
mining contractor they are grouped together, plus
the contractors direct cost inputs, and a margin
applied to them all, as far as the mine owner is
concerned. An owner miner could accept a
reasonable margin on the service contracts, such as
equipment maintenance and blast hole drilling, but
there should be no additional margin on supply
contracts such as leasing, fuel, explosives and tyres.
MPES 2000
The end result is a much lower overall margin but
without accepting a major increase in risks, if these
contracts are as well written and as well managed as
a mining contract would need to be. Managing very
specific individual contracts may also be easier than
managing one large general contract.
Risk Assessment
There are significant risks in mining, regardless of
who does the actual mining. The mine owner already
carries the risk of geological modelling, grade
control, mine design, geotechnical stability,
environmental and community issues, overall
responsibility for health and safety and of course the
vagaries of the market for the end product.
In the evaluation of contract or owner mining the
main comparative risk areas are:
 Equipment selection;
 Equipment performance (productivity,
availability and utilisation);
 Quality control of ore mining;
 Health and safety;
 Human resources management;
 Implementation (new mine) or transition (change
from one mining option to the other) risks;
 Contractual and litigation issues; and
 Production or operating costs.
It is often difficult to quantify all the above risks
although sensitivity analysis of equipment
performance and operating costs can quantify the
likely range for both options. There are more
subjective judgements required for risk issues than
for the other key issues.
KCGM and Ernest Henry are both established, large
open pit mines with a mine life of well over 5 years,
mining costs of more than 50% of the total operating
cost, and increasing mining costs due to the pits
becoming deeper and waste dumps getting higher or
further away. Both companies have site-based and
other experienced personnel and their product prices
(gold and copper) remain under pressure.
Both mines had employed mining contractors
since start up of the mines, and both of the then
current contracts were soon due to expire. Both
operations are joint ventures (JV), KCGM a 50:50
JV between Normandy Mining and Homestake Gold
of Australia, Ernest Henry a 51:49 JV between
M.I.M.Holdings and Pasminco. In each case the JV
partners had different views on contract mining but
all agreed on the need to fully investigate owner
mining at the same time as formally tendering
contract mining for a five year period.
Another important similarity was a high rate of
mining for at least the next 5 years, between 70 –80
5
 Mt per annum, which predicated the use of large
mining equipment.
KCGM had investigated owner mining in 1992
and called for contract mining tenders in 1993. The
tendered rates were significantly lower than the then
current rates and similar to the estimated owner
mining costs, and a contract was awarded to Roche
Bros.
Ernest Henry had also previously considered
owner mining, in 1996 as part of the project
feasibility studies. Due to the differing views of the In analysing what makes up the mining costs there
JV partners and because of the risk of achieving the
required equipment productivity a mining contract
was awarded to Thiess Contractors. To minimise
contract costs and to keep future mining options
open Ernest Henry purchased (leased) the major
mining equipment, which Thiess then operated and
maintained in addition to the equipment provided
directly by Thiess.
In late 1998 and after a very detailed evaluation of
competitive contract mining tenders and a first-
principles owner mining estimate KCGM concluded 7 ACKNOWLEDGMENTS
that owner mining:
 Was significantly cheaper;
 Had marginally lower risk overall;
 Had greater benefits; and
 Was better value for money.
It was concluded that the increased technical and
human resource risk was more than offset by the
reduced commercial risk. Contracting out blast hole
drilling, mining equipment maintenance and other
less significant activities, as shown in Table 2 above,
mitigated technical risk.
In 1999 at Ernest Henry a competitive tender for 8 REFERENCES
contract mining was evaluated in parallel to a
detailed owner mining estimate, the main difference
to KCGM being that Ernest Henry already “owned”
a large part of the mining fleet.
Ernest Henry also concluded that the cost and
other benefits outweighed the transition and
technical risks, including for blast hole drilling
which is now also being done in-house.
entity and project specific factors. The key
operational issues involve people, equipment and ore
mining quality control. Confidence in achieving
similar production performance and efficiencies to
that of contractors is a key risk and the need for
detailed transition or implementation planning
should not be underestimated.
Changing from contract mining to owner managed
mining is more often considered where mining costs
are a significant portion of the total operating costs.
may be an opportunity to reduce margins or fees,
without significantly increasing risk. For example
the mine owner could directly manage some or all of
the major supply contracts, such as equipment
leases, fuel supply and explosives supply, while still
employing a mining contractor to manage the other
mining functions and employ the operating
personnel.
The author wishes to thank the owners and
management of KCGM and Ernest Henry for
permission to use information about their operations
in this paper.
Thanks are also extended to relevant colleagues at
Global Mining Services and other mining
consultants who were also part of the mining options
evaluation teams at both mines.
Dunn, S. 1998. Evaluating the Use of Contractors as a Cost-
cutting Measure. Shine 1998.
Roche, K.J. 1966. Contract Mining – A Catalyst for Change.
Surface Mining 1996. Johannesburg: South African
Institute of Mining and Metallurgy: pp. 169-173

6 CONCLUSIONS

There continues to be a major role for contract

mining where contractors have demonstrated that
they have the necessary skills and expertise, can
provide flexibility in the use of differing mining
equipment and variable mining rates, are prepared to
accept a reasonable amount of technical and
operational risk and are competitive in pricing.
Owner mining should be compared to contract
mining for larger, longer-life mining operations and
a detailed analysis of the corporate, operational, cost
and risk issues should be carried out.
Corporate issues include the best use of and return
on capital, the company structure of the operating