Here's hoping Gold Fields' transparency sets trend

August 6, 2008 at 6:00 AM EDT

If Nick Holland has his way, gold mine promoters and their professional fans are going to be caught with their pants down soon.

Mr. Holland runs Gold Fields Ltd [GFI-N]. [GFI-N], one of the biggest producers in the world. He's also quietly revolutionizing the way the industry portrays itself. Needless to say, in an industry that mills more new share certificates than ore, he's not going to be particularly popular.

If you're a gold investor, and especially if you're a gold mine promoter (a.k.a. a guy standing over a hole telling anyone who'll listen that the ore is down there), you understand the importance of reserves when it comes to achieving the ultimate goal of a high market capitalization. You also know that bragging about production and low cash costs is crucial to maintaining that market cap.

Not Mr. Holland, who has been in the corner office for three months. This is from his quarterly conference call last week: “One of the other things I've done since I got into office is speak to as many fund managers around the globe as possible. And the thing that comes through clearly time and again is that it's not reserves in the ground that counts, it's not ounces of production that counts – it is cash flow.

So Gold Fields management has decided to buck the industry trend and tell the company's owners the total cost of mining an ounce of gold, from operations (labour, power and so on) to capital investment (the cost of buying long-life equipment, extending a mine shaft, etc.).

Is the difference a big deal? Uh, yeah. Cash costs in Gold Fields' latest quarter – that's the traditional cost, as measured by industry standards – were $502 (U.S.) an ounce, down slightly from the prior quarter. But total cash costs (what the company calls notional cash expenditure) were $869 an ounce.

Says Mr. Holland, adding eye-opening perspective: “And you look at the gold price and say, ‘That's $895 per ounce.' And you say, ‘Hang on a minute, guys, you're not making any cash.' Correct, we're not making any cash. That's because we're reinvesting all of the cash flow into the growth projects.”

And the promoters say, “Hang on, man, what the hell are you saying? There's no room for transparency in this industry.'”

I haven't actually heard anyone say that. It's just an educated guess as to what they're thinking. But surprisingly, Mr. Holland did run into some prickly resistance from a sell-side analyst on the call. While conceding that emphasizing total cash costs was “noble,” the analyst questioned the motives behind it, arguing, “It does leave things very much open to manipulation in the sense that all you have to do to meet a number is to stop doing capex.”

There were no audible gasps of disbelief on the heels of that comment, but it would have been understandable. Let's consider it. First, as Mr. Holland made clear, investors care about cash – what's left over for them when all the bills are paid. You would assume analysts who advise investors would too.

But even if you don't want to make that great leap of faith, you know that nothing is more easily manipulated than cash costs in mining. A pile of rock that cost millions to mine can be excluded from cash costs with the stroke of a sharp pencil.

The accounting rules have changed so often that the industry shows pretty good cash costs but no cash flow (free cash flow, that is).

As for crimping your capital spending to “make your numbers,” that doesn't really work in the world outside Bay Street because if you don't invest, you won't make your numbers for long.

Is there anything self-serving about Gold Fields' push toward total cost? Maybe a little. The company's total costs are coming down next year.

But so what? It's a good thing for investors, who heartily applaud Mr. Holland when he says, “I would challenge other producers to give the same information.”