Managing
Your Precious Metals Scrap
A white paper by Materials Management, Co.
Confidence is good; control is better
Assays
Scrap Reclamation
Theft
Credit
Conflicts
To Grow and Prosper, Diversify
Get the Best Terms
Credit
Financing
Metal Supply
Price Risk
RefiningLots.Com
BASICS:
The precious
metals supply chain is an unbroken circuit.
Because of their value, virtually all gold and platinum group metals are
recycled and refined to pure elemental form.
So, if you mismanage your precious metals, you will lose in a zero sum
game to your customer, your customer’s customer, or a processor/refiner.
To protect your company’s metal assets, there is no alternative to
proactive management—of fine metal inventory, raw material in process and your
precious metals scrap.
In a setting of
layoffs and furloughs, some manufacturers are trying to simplify metals
management by entrusting their precious metals scrap to one or two processors or
refiners* with whom they are comfortable. In
a non-core part of the business, their goal is to simplify paperwork, cut
manpower requirements and ease management’s burden.
Unfortunately,
this course of least resistance is off by 180˚ and could cost you
millions.:
·
It papers over inadequate internal
metal controls, the underlying problem in most companies we work with.
·
It concentrates scrap reclamation on
a few processor/refiners when the objective should be diversification for
security and for competitive refining service.
Having diverse
refiners from which to choose supports sound internal metal controls and helps
get the best value in refining services. There
is an overlap between internal metal controls and the choice of where to send
your metal scrap, so we deal with both.
CONFIDENCE IS
GOOD; CONTROL IS BETTER:
Without hands-on
management, you can—will—lose precious metals.
Some of our clients get the benefit of over 99% of their precious metals
by getting paid for every gram of metal contained in their product and
recovering all the metal they expect from scrap.
Others have lost as much as 40%. The spread can represent millions.
Without diligent managers and sound metal control systems, metal yields
quickly spiral down.
Enforcing the
integrity of control areas within the plant is the essence of metal controls.
·
Metal needs to move freely within the
control area to avoid production constraints.
·
When metal moves from one control
area to the next, quantity, type and grade have to be measured, accountability
specified and all of it documented.
The larger the
control area, the more difficult it is to control it and keep accountability.
If management
loosens controls, boundaries of metal movement between control areas begin to
disappear and control areas grow larger and less manageable. Identifying the
sources of metal losses becomes more difficult.
Eventually, the whole plant can become the control area.
Metal returned from scrap then becomes the first concrete measure of a
plant’s precious metals yield. At
this point, it is illusory for management to think it has a grasp on its metal.
Extreme as this might sound, it is not at all unusual. Production losses are the hardest to identify, so they are often attributed incorrectly or prematurely to scrap refining or to theft
Even without
pinpointing the cause, metal losses often stop when controls are put in place.
Simple, production-based, stand-alone metal control systems and
procedures can be installed quickly and effectively even in large operations.
But they do not substitute for active management.
Metal losses are
associated with (1) internal production, (2) assaying, (3) scrap reclamation,
(4) theft and (5) credit. In our
experience, by frequency of occurrence this order is about right; by severity of
loss, it’s hard to tell. The five
are inextricably woven. A problem in
one affects the others, and today’s difficult environment makes companies more
vulnerable to all five.
Production Losses
Everyone has
production losses. Internal metal
controls should pinpoint systematic weaknesses so managers can plug the leaks.
If precious metals content is measured and documented at key production and
transfer points, the company always knows how much metal it has and where.
In our experience,
most metal losses occur during production. (Alloys are formulated incorrectly;
plating is thicker than required, etc.) On
each unit, extra metal goes through manufacturing, gets packaged and is sent out
to customers. The
main reasons for slippage are:
A.
Material is not weighed and assayed between manufacturing stages,
particularly after
melting and alloying.
Both a technical and a financial
decision are required to determine whether an item gets shipped to the
customer. First, what are the
metal tolerances and how much deviation is permissible?
Then, how much above the threshold does the item have to be to
justify the cost of scrapping rather than sending it to a customer?
Coordination between technical and financial managers is sticky in
many companies.
Metal control
systems rely on (1) scrap segregation, (2) correct measurement, and
(3) confirmation by physical count.
Segregation: Segregating
different types of scrap is important for control and profitability.
By segregating scrap, managers can:
·
Direct material to refiners with the
best terms for particular types and grades.
·
Blend material to optimize refining
terms. Terms for mixed scrap are
generally the least favorable.
·
Identify or confirm production
problems by analyzing deviations in the volume of particular scrap items.
·
Evaluate and track metal contained in
scrap more accurately while the scrap accumulates for shipment and while a
refiner is processing it.
·
Provide security and transportation
commensurate with scrap values.
The benefits of
segregation may be offset by the time it takes to meet a refiner’s minimum lot
size and by the additional cost of representation for a larger number of smaller
lots.
Physical Count: The
perpetual inventory of the accounting and metal control systems should be
confirmed by periodic physical counts. How
often depends on the value of the metal and on turnover. Inevitably, there will
be a mismatch between the perpetual and physical numbers.
Noise in the system precludes a precise tally, so it is important to
determine whether the deviation is attributable to random error or to a
systematic problem.
Random Error: In
a stable system where systematic errors have been substantially eliminated, it
is important to recognize the random error within production and inventory
systems to:
·
Avoid trying to reconcile differences
stemming from variation in sampling and measurement rather than from physical
metal variations.
·
Pinpoint problem areas in operations
and inventory measurement where improvements can be made.
Mean and standard
deviation gold values for each of the products and scrap types can be
incorporated into a LAN database inventory control system.
Know Your Material: Knowing
the metals content of each scrap lot sets the tone of the company’s
relationships with refiners. As a
practical and legal matter, sampling at the refiner and the subsequent
settlement procedure defines the metal contained.
But the stream of numbers generated through the metal control system
should closely approximate the settlement figure and provides an indispensable
check. Relying on the refiner rather
than on internal controls to determine the precious metals yield of a plant puts
a disproportionate and misplaced burden of trust on the refiner.
Assay labs are
methodical places. Replication of
results is their modus operandi, so if errors are embedded in the system, they
too will be replicated. The upshot
can be a metal loss from every product or scrap lot that leaves the plant—and
the losses are the same whether caused by error or by a technician colluding
with an outsider.
Assay labs are
vulnerable for technical and organizational reasons:
·
Manufacturers often rely on their
quality control instruments, standards and assay lab to test metals content of
both production and scrap samples. Every
instrument and assaying process has limitations; those suitable for testing a
product may be inappropriate for testing metal contained.
A slightly different application may require diluting the sample or
result in background interference. It
may render standards incorrect, or it might be just plain wrong for the job.
Depending on the size and value of the lot, it might be better to send
the sample to an outside lab.
·
Labs often operate without external
checks. Control is often by
financial managers unqualified and disinclined to scrutinize lab results with
the confidence and diligence they would apply to a financial audit.
·
Politics often insulate labs.
Materials to be assayed should go to labs with corresponding
instrumentation and experience. But
if a company has invested in a lab, it often requires assays be done internally
whether or not the lab is appropriate.
·
There is often tension between
technical and financial personnel, so decisions requiring both tend to be
avoided. For instance, the choice
between internal and outside analysis requires technical and financial input.
If the in-house lab’s instrumentation is adequate but not optimal for
certain material, the probability of error may not be worth the outside assay
fee for a small lot but might make sense for a bigger one.
Together, the technical and financial managers must determine the
acceptable tolerances and costs of controlling deviations.
These are generally one-time decisions; nonetheless, the two are often
reluctant to get together.
·
An independent (non-lab) supervisor
should send random analytic samples to outside labs to check assays and lab
methods. This seldom happens.
Managing and
controlling metal assets after they go to a refiner can be just as important as
controlling them during production in the plant.
Sampling: To determine value, precious metals
processors and refiners rely on assays of a minuscule sample from a complex,
voluminous and expensive scrap lot. They
multiply the assay times a big weight and by a bigger price.
Sampling and assaying are not precise sciences, so there is considerable
room for error, compounded.
To survive,
refiners must cushion themselves against sampling and assaying errors.
To control the size of the cushion, scrap generators need to be
represented when their lots are sampled to assure sampling procedures comply
with industry norms.
Representatives
from within the company should be knowledgeable in the sampling process.
People with scientific or production backgrounds usually work out better
than accounting or financial types. Qualified independent representatives are
readily available. They make a point
of being near major processor/refiners and expect to travel when necessary.
Samples are the
basis for all subsequent steps toward a refining settlement, so a manufacturer
that chooses not to witness sampling probably foregoes recourse if there is a
dispute. Conversely, correct
sampling cuts the likelihood of a calamitous loss.
The only justification for not witnessing sampling is if the lot is too
small to warrant the cost—and that would be a small lot, indeed.
A distant second
choice to representation is to split a refining lot and send half each to a
different processors or refiners. For
an accurate comparison, the two shipments should be identical.
Since the material is not homogeneous, identical shipments are
impossible; but with large lots of properly segregated material, the results
should be close enough for an adequate comparison.
Settlement: Settlement
negotiations need hands-on supervision. Below
are some pragmatic points to consider:*
·
Refiners and customers can be more or
less aggressive in an assay exchange depending on their assessment of the
accuracy of the other’s assay lab compared to their own.
Historical data can provide insight into counter party assaying anomalies
and into patterns useful in an exchange.
·
There is a general preference to
split the difference in assays because it is administratively tiresome to go to
umpire too often. However, umpire
may be a sound alternative if:
o
There is a record of success (for
either party).
o
The refiner can postpone settlement
merely to enhance cash flow. (This can be avoided by provisional settlement
based on the lower assay).
·
Refiners set splitting limits to fit
the accuracy of their assay lab. These
limits are often not negotiable, but if you have a strong view about the
relative accuracy of the labs, or about the spread, there is no harm in making
your views known.
Metal Controls Are
the best Deterrent: Most employees will suppress
temptation if they know that the administrative metal controls will flag missing
metal promptly and identify the point from which metal disappeared.
Controls should be visibly and conscientiously maintained so people know
they are operative. Employees
instinctively resent physical security, perceiving it to be intrusive and
inconvenient. They generally see
metal controls as a sensible way to protect the company’s assets.
In March of 2000,
Handy & Harman, one of the largest, most solid names in precious metals
refining, disappeared into Chapter 11. Handy
was once listed on the New York Stock Exchange, then acquired by Golden West, a
publicly traded Australian precious metals mining and refining group.
Its fall hit the industry as a bolt out of the blue.
The list of creditors reads like a “Who’s Who” of the metals world.
The largest is the United States Mint, owed $13million, $2million more than
Golden West had paid for all of Handy & Harman’s assets just two years
before. Many others lost millions.
Clearly, something was amiss internally over a period of time.
If the industry leaders had no inkling, then who would?
Exposed to volatile markets,
some of which are difficult to hedge.
Highly leveraged, with much of
their borrowing off balance sheet.
Vulnerable to shocks because of
their high fixed costs, low margins per unit, and at this time, low metals
prices and reduced volume of scrap feed available.
Not necessarily backed by their
parent companies.
Advances Mitigate
Credit Risk.
Rules vary somewhat by state, but the court confirmed in the Handy case
that when an advance is made against material, it is tantamount to a sale.
That means:
·
The court cannot reclaim advances as
preference payments, except for the portion of an advance in excess of the final
settlement.
·
If the final settlement is larger
than the advance, the difference becomes part of the creditor’s assets in
receivership. Your claim to this
amount would be as a general creditor.
Refiners’ affiliates may be your competitors. Conflicts of interest may not result in metal losses, but they tend to produce frictions and may be sufficient reason to diversify.
Several precious
metals refiners, particularly the larger ones, have integrated vertically.
They capture the value added of downstream manufacturing businesses to
which they can sell precious metals and from which they acquire an assured
source of scrap for refining.
TO GROW AND
PROSPER—DIVERSIFY:
Equally or more
important are (1) matching your scrap with the best precious metal refining
terms, (2) financing arrangements and (3) fine metal supply sources.
To reach a broader
audience, many refiners compete aggressively for a full range of precious metals
scrap by subcontracting and by reciprocal arrangements.
Among themselves, refiners share terms that they offer only to their best
customers. So by working for less or
even at breakeven on subcontracted material, refiners can sometimes compete for
all of a customer’s business. Given
similar refining terms and conditions, it still makes sense to diversify to (1)
reduce credit risk, (2) improve financing, (3) establish better fine metals
sources, (4) manage price risk and secure other benefits.
Credit: We have discussed the
importance of credit in precious metals, but it cannot be overemphasized.
Precious metals professionals treat money and metal alike, a practice
that sets many of the industry’s standards and operating methods.
Conflicts of interest also need to be accounted for.
Financing: Financing benefits include
faster settlement times, larger advance rates (a higher percentage of the value
of metal contained in the scrap lot) at a competitive cost.
These can be two sides of the same coin:
advantageous financing can offset the cost of a long turnaround time.
·
Cash flow and interest expense are
often the largest components in calculating the costs of a refining agreement.
·
The cost of metal financing—and the
charge to customers—depends on money market rates and metal market conditions.
Metal financing charges can be significantly lower or higher than
prevailing money market interest rates. Refiners
often compete by sharing the benefit in the form of attractive advance charges.
It pays to monitor the benefit of taking an advance versus self-financing
and to manage metal advances as part of total cash-management.
Metal Supply: If
you use metal as a raw material in your process or provide it to a fabricator,
instead of selling your scrap outturn to the refiner and repurchasing metal from
a third party, you might realize significant savings by getting the outturn
back. The bid/asked spread in some
of the platinum group metals can run 10%. Refiners
generally prefer to keep metal, so some might require ancillary charges to
return it. With diverse scrap
outlets, you can use market conditions to decide whether you want to settle in
metal or money.
Price Risk: Metal
prices are likely to change dramatically from the time you deliver a scrap lot
until it is finally settled. Some
refiners let you hedge the price at any time while the metal is being processed.
That is, they will buy it whenever you elect at the then current price
rather than waiting weeks or months until final settlement.
A hedge line offers security and flexibility and is another consideration
in choosing a refiner.
Rather than
compete on price, many processors and refiners choose to emphasize intangibles
such as reputation, reliability, service and personal relationships.
These important considerations complement but do not replace evaluation
of costs. With a framework of
tangible costs, the intangible pros and cons fall into place more readily.