New challenge for Chile’s ‘Copper Man’ (May 24, 2010)

SANTIAGO, CHILE — It was no surprise that they wanted him but few expected him to accept. Especially given the huge paycut he will have to take.

On April 20, Chile’s state-owned copper giant Codelco announced that its board of directors had chosen Diego Hernandez as its new CEO.

He joined the company on May 19 from his current post as president of BHP Billiton’s (BHPN) BHPN) Santiago-based base metals division as one of the most qualified men ever to do so.

While previous presidents have had sharply political profiles — predecessor Jose Pablo Arellano had served as budget director and education minister in previous governments — Hernandez is a mining man through and through.

After graduating in mine engineering from the prestigious École Supérieure Nationale des Mines in Paris, the Chilean went on to work with most of the world’s largest mining companies.

Before BHP Billiton, he enjoyed spells at Brazil’s Vale (VALE-N), where he headed its non-ferrous divisions, Anglo American (AAL-L, AAUK-Q) in Chile and Rio Tinto (RTP-N, RIO-L) in Brazil.

A decade ago he led the construction and startup of the giant Collahuasi mine in northern Chile just as copper prices slumped to historic lows.

His top-flight career has made him a well-respected figure in the industry — in June he will pick up the Copper Club’s Copper Man of the Year award at its annual dinner in New York.

Moving to the public sector, where wages are capped, Hernandez will be earning less than a fifth of his previous wage, local press reported. Codelco’s interim chairman Nicolas Majluf described his acceptance of the post as an act of “patriotic duty.”

Taking over at Codelco, he will make history as the first head to be selected by the board of directors rather than being handpicked by the Chilean president, as previous incumbents were.

Codelco’s largest shake-up of corporate governance rules, approved last year and aimed at reducing political influence and increasing professionalism at the copper firm, now mean that Hernandez will report to the company’s board, which includes independents as well as presidential appointees for the first time.

And his new chairman will be Gerardo Jofre, a long-time executive at the Spanish Banco Santander (STD-N) banking group, rather than the minister for mines as before.

That should mean that the jump from Chile’s private mining industry to the public sector is not the shock as it might once have been.

Hernandez joins the world’s largest copper producer at perhaps the most challenging time in the 34 years since it was cobbled together from the assets expropriated from U.S. mining companies by toppled Chilean President Salvador Allende.

Its mines are aging fast — both Chuquicamata and El Teniente have been in continuous operations since early last century — implying massive technical challenges to overcome falling ore grades, creaking infrastructure and environmental legacies.

“Codelco is at a crossroads: the old assets are wearing down and it needs to re-launch itself for a new stage requiring massive investment,” explained Jofre soon after accepting the job from newly elected Chilean President Sebastian Piñera.

At El Teniente, the world’s largest underground copper mine, the company plans to spend US$3 billion on the first new level in 40 years in order to access deeper reserves.

Otherwise, production will slump after 2020 and dry up completely a decade later.

The giant Chuquicamata pit, already 1 km deep, is becoming too large to exploit efficiently, so Codelco will mine the rest of the deposit through a whole new underground operation, as large as that at El Teniente.

Plans are also underway to develop the Mansa Mina deposit, with new technologies to overcome its high arsenic content, and turn the Andina division into one of the world’s largest copper mines with an investment estimated at almost US$5 billion.

In total, Codelco plans to spend US$15 billion over the next five years renovating and expanding its operations.

The program has the backing of Chile’s new government.

“If we want to have a copper industry at the service of all Chileans, we need Codelco to set an example and chart a course,” Piñera said in mid-May.

A manifesto pledge to sell a 20% stake in the mining firm, which would have faced strong opposition from the company’s unions and a large part of the public, has been shelved as the government concentrates on the job of righting the country after the earthquake.

A question mark remains, however, over how Codelco will fund these huge investments.

Cash-flow is limited by weighty taxes, an anachronistic 10% cut of sales to the armed forces and an understanding that its one shareholder — the Chilean state — expects a 100% dividend of any profits.

The company has long participated in debt markets, where it enjoys one of the highest credit ratings in the industry, but its ability to raise cash is limited by its possible impact on the rating of the Chilean state which backs it.

Codelco could sell some assets — Piñera has already highlighted a 40% stake in the electricity company, which powers its Norte division — but stakes in mines are out of the question as they are protected from privatization under the country’s constitution.

According to Codelco’s current head Arellano, the state will have to shoulder some of the burden.

“If you look at the financing needs for the next five years, they require some measure of reinvestment of profits,” the executive said on May 13.

But with Piñera’s government focused on rebuilding homes, schools and much else destroyed in the earthquake and raising taxes on other sectors, including other mining companies to do so, Codelco may find that door closed.

Certainly the government will not match the US$1 billion reinvested in Codelco last year as part of an economic stimulus package, Mining Minister Laurence Golborne has said.

According to Arellano, Hernandez’s other challenges will be to improve productivity at state-owned copper mines.

Although Codelco achieved a remarkable turnaround in production and productivity in 2009, the story for much of the last decade has been one of decline.

In recent years, the company has turned increasingly to technology to overcome tougher conditions at its mines, including automation and remote control and monitoring of machinery.

At the company’s new control room in the city of Rancagua, workers use cutting-edge telecommunications to operate load-haul-dump trucks at El Teniente 70 km away.

Avoiding the two-hour trip to and from the mine and able to operate more than one vehicles at a time, workers at El Teniente are four times as productive as colleagues on site, managers say.

But on other indicators, Codelco is falling behind.

The company is widely seen as overstaffed. After slashing thousands of jobs in the 1990s, the size of the workforce has crept up to around 19,000 direct employees while production has stagnated.

Despite this, Codelco workers are among the best paid in the industry and the best organized to defend their benefits.

Last December, when management at Chuquicamata proposed cutting a series of benefits, including payment of domestic gas and electricity bills, unions immediately brought the mine to a halt, forcing the company to capitulate.

Another 30,000 workers are employed through contract companies providing a range of services from construction and catering to security and transport. They generally earn less but have proved equally determined to fight for their share when copper prices rise.

Two years ago a company-wide strike by subcontractors cost Codelco millions of dollars in lost production and damage to installations before a deal was struck.

Hernandez is no stranger to dealing with unions.
While at BHP Billiton, he faced two major strikes in Chile at Escondida (2006) and Spence (2009), shutting down production for several weeks until workers agreed to cut their demands and return to work.

Second time around at Escondida, management offered workers an unprecedented US$30,000 bonus if they signed their new contract ahead of schedule, a move that created headaches at other mines facing pay talks.

At Codelco, however, he will not only have to face union bosses around the negotiating table but also in the boardroom where Codelco’s union supremo Raimundo Espinoza sits as a workers representative.

Union leaders have been cautious on news of Hernandez’s appointment, waiting to see what approach he will take.

Despite union apprehensions, many feel that Codelco could not be in better hands at this crucial stage in its history.

Hernandez is not the first head of Codelco to be named Copper Man of the Year — Marcos Lima and Juan Villarzú got there before him. But he will be the first to receive the title before he has passed through the door.

–Based in Santiago, Chile, the author is a freelance journalist specializing in mining. He can be reached at tomazzopardi@vtr.net.