Foreign affairs - resource nationalism and mining

Materials World magazine
1 Sep 2013

The risks associated with resource nationalism can ruin a mining project in a foreign country. Guy Richards looks at the main forms in which it comes and the strategies companies adopt to manage it.

In June 2013, Kinross Gold Corp was forced to abandon plans to develop the Fruta del Norte project in Ecuador, one of the biggest undeveloped high-grade gold projects in the world, after refusing to pay a 70% windfall profits tax demanded by Ecuador’s government, which had in turn refused to negotiate on this point. It led to the gold major’s exit from Ecuador, at a reported cost of US$720m.

This was a particularly high-profile example of resource nationalism, where countries around the world are pushing for greater domestic control or ownership of mining projects. In 2011 and 2012, the Ernst & Young (EY) Business Risks Facing Mining and Metals annual report ranked it as the number one global risk to mining and metals companies looking to invest in extraction and processing projects in foreign countries.

Co-author of the report Andy Miller, EY’s Global Mining and Metals Tax Leader, says the reason for its pre-eminence is partly a result of the supercycle in world commodity prices. Revenues are up for miners and host nations recognise that. He explains, ‘The economic downturn of the past few years coupled with the financial collapse in 2008 has seen countries struggling with budget deficits, so they’ve looked at the mining sector and seen it as a good source of revenue. It’s a natural area to tax.’

There’s more to it, though, than just increased levies and mining royalties, Miller says. Resource nationalism comes in many forms, but he lists the other main ones as being mandated beneficiation, government direct ownership and restricting ore exports.

Mandated beneficiation is where extracted ore has to be separated into useful minerals and waste in the host nations themselves, which increasingly want the jobs associated with it in-country. This puts a major extra burden on mining companies that have to invest in local processing plants. For example, Brazil, China, Indonesia and Zimbabwe have announced in-country beneficiation strategies.

Then there’s government direct ownership. In Mongolia, for example, the government is looking to give itself a free stake in mineral projects as well as the right to specify output targets regardless of market demand, while Indonesia’s government now requires all foreign mining companies to sell majority stakes in their projects to locals by the tenth year of production.

On the point of restricting exports of raw ores, the international media has reported on many examples in the past few years, notably tin and nickel from Indonesia and, of course, rare earths from China. This ties back in to the issue of mandated benficiation.

And that’s not all, says Jason Burkitt, UK Mining Leader at PricewaterhouseCoopers (PwC), ‘There are other risks. On ownership, for example, it is not just direct government but also local participation that must be considered, and these days governments are looking to ensure that the benefit of the extraction activity accrues to the local community. The key interaction is infrastructure. Risks include exchange controls and environmental enforcement, and in an environment where access to capital is difficult and prices for some commodities have softened, the risks regarding title retention for exploration properties not being actively explored increase – a case of use it or lose it.’

However, there are steps that miners can (and do) take to address these risks, and Miller says they include building strong relationships with host governments, effectively communicating the positive impacts of mining and increasing the transparency of government payments. Burkitt concurs here, but adds that with the advent of social media, the need for transparency has grown.

To build relationships, Miller says miners routinely work through trade associations in host countries to establish common policies that enhance longterm sustainable development. They have in-house government relations teams to monitor changes in host countries’ mining laws, taxes and so on. To communicate a project’s positive impacts, they also routinely establish dialogue with communities affected by the project – Anglo American’s Socio-Economic Assessment Toolkit is a prime example of the type of methodology used here – and one way in which miners can demonstrate transparency is to sign up to the Extractive Industries Transparency Initiative international standard (see below).

Another issue is the legal aspect. On this point, Glenn Faas of international business law firm Norton Rose Fulbright says it is important to draw up a bilateral investment treaty – that is, between the host country and another country that will arbitrate in the event of a dispute – when setting up operations in a foreign country.

These are general steps, of course, as the specific action to take will depend on a raft of factors that vary according to the company, the country and the project. Miners therefore won’t discuss in any detail how they address particular risks. For example, as a spokesperson for Goldcorp puts it, ‘The strategies used to track and mitigate these risks are unique to each individual company’s strategy, and could therefore be considered proprietary. As such, we would rather maintain our confidentiality in this regard.’

It is clear that this is also a sensitive subject. Miller says that’s because media coverage of the mining industry is often negative and rarely shows what a positive impact resource development can have on an emerging country. ‘That said, the industry has a good story to tell here. The impact that responsible development of natural resources has on lesser-developed countries is significant,’ he says.

So if mining companies won’t identify and manage the risks, how have they built their expertise in doing so? ‘The expertise often comes from the mistakes made and lessons learned in prior projects,’ Miller says. ‘In addition, they can draw people from a range of other industries that have similar experiences.’ PwC’s Burkitt adds, ‘It’s often a function of size or maturity, and some companies have sophisticated risk management systems embedded within their day-today operations and investment planning. The situation in a country can change rapidly, however, so good local management is key.’

This expertise is not always entirely in-house and the industry often looks to outside advisers such as EY, PwC and Norton Rose Fulbright for assistance. It is by this route that companies considering their first overseas project, or their first project in a new region, could take their first steps.

Be warned, though, the issue is as complex as it is sensitive. Burkitt explains, ‘A mining company entering a region for the first time will often be exposed to a complex legal, environmental, regulatory and taxation environment, which needs to be well understood – and complied with – long before significant investment is made’.

Miller echoes this, saying, ‘An important aspect of natural resource development is the fact that there are many stakeholders involved – the community where the mine is located, governments, the mining company and its shareholders, and others such as NGOs, environmental groups and so on. All of these stakeholders need to be considered in the development of the mine.’

There are now signs that the tide of resource nationalism in some countries is turning. Ironically, part of the reason is the same commodity prices that resulted in the nationalism in the first place, some of which are falling and prompting miners to delay or even cancel big projects. Again, host countries see this so some are softening their stance – for example, in Australia there are plans to repeal the Mineral Resource Rent Tax on coal and iron ore.

But the issue is here to stay. As Burkitt puts it, ‘While resources remain scarce, no-one will ever be able to agree entirely what a “fair rent” should be’. And it applies not just to mining companies but those in the wider materials cycle too, although as Burkitt explains, ‘Mining poses additional risks given the long-term investment horizon.’ Careful management, therefore, looks set to remain at the heart of things.

Helping hands

Two essential steps to take when looking at investing in a foreign project are the need to address its positive impacts to the host community and the need for transparency in government payments. Each mining company has its own way of addressing these issues, but in the public domain there are resources and support that can be tapped in to.

On the community impacts side, Anglo American has an initiative called the socio-economic assessment toolbox (SEAT), a downloadable manual for developing strategies to enhance the positive impact of a project while mitigating any negative impacts. Although intended for Anglo American projects and employees, in partnership with local experts, the process could be adapted by other mining companies to their own circumstances.

Divided into seven steps, SEAT is designed for ongoing assessments during the operational life of a mine to ensure that new impacts and emerging issues are continually identified. It is not driven by legislative requirements and each assessment is said to take about four to six months to complete.

In terms of transparency, the EITI is a global standard for promoting revenue transparency and accountability in the extractive sector (not just mining). It has two core components:

  • Transparency – where companies disclose their payments to the host government, and the government discloses its receipts
  • Accountability – whereby a multi-stakeholder group with representatives from government, companies and NGOs is established to oversee the process.

Both components then feed into annual EITI reports, which are published on its website. To date there are 23 countries, including Mongolia and Mozambique, that have implemented the initiative, with the support of mining companies ranging from Anglo American to Vale. It also counts NGOs such as Oxfam and Transparency International among its members.