The International Who’s Who of Mining Lawyers has brought together Michael Rattagan of Rattagan Macchiavello Arocena & Peña Robirosa, Stéphane Brabant of Herbert Smith Freehills, Pablo Mir of Bofill Mir & Alvarez Jana and Casper Herler of Borenius to discuss financing in the market, the impact of local government and the community on projects, and new jurisdictions for this area.
Rattagan Macchiavello Arocena & Peña Robirosa
Over the last year mining companies have found it harder to fund their projects through debt or equity financing, and our sources also indicated a fall in foreign investment. Is this a trend your clients have experienced? What ramifications has it had for the mining industry?
Michael Rattagan: Foreign mining companies operating in Argentina have usually resorted to financing abroad or simply self-financing their projects, particularly in the exploration phases. A number of Argentine groups not traditionally involved in mining have also, of late, invested in mining projects (usually with feasibility) either through equity or debt. In some cases this trend has to do with the national government’s insistence that imports should be set off with exports or new investments in so called “productive projects”.
Stéphane Brabant: Low commodity prices compared to high operational costs, worsened by currency volatility, market uncertainty and deteriorating capital markets, have contributed to a difficult investment environment for mining companies. These challenges have in some instances acted as a deterrent to risk-averse investors, and have limited the ability of mining companies to raise both debt and equity finance. This pressure has been felt by both producers and exploration companies, with many junior companies often unable to raise expected levels of financing.
The risk-averse approach of both investors and shareholders has to some extent caused mining companies to shift production to higher-grade assets, moving away from riskier exploratory assets, or from those assets where low ROI undermines their corporate value. The allocation of capital is a key issue for companies, and shareholders are also very concerned about management decisions.
The larger miners have undertaken strategic reviews to test proposed expansions and marginal projects, and to determine which assets are“non-core”. At the other end of the spectrum, the junior miners have been seeking partners to develop early-stage projects and secure off-take arrangements to shore up prospective mining projects.
Generally, there has been a growing trend for development projects to be funded from multiple sources, with involvement from sovereign wealth funds, trading houses and export credit agencies.
We expect that the industry will continue to seek efficiencies in its operational cost base, but we have seen signs of recovery and are optimistic about market trends, especially in emerging markets.
Pablo Mir: What you describe is something that we have seen directly. The current financial market conditions have mostly affected the mining exploration industry. The lack of access to finance has led to the stoppage or decline in activity for several exploration projects. In many cases, junior exploration companies are forced to renegotiate or walk away from exploration or option to purchase agreements, since they do not have the funds to comply with the commitments established in those agreements. Related to this market situation, we have seen an increase in the offer and reduction of the prices of mining services, in particular drilling, a noticeable difference to the situation that had existed in the previous years. Also, the offer of available labour has changed, especially in the field of geology. Unlike two years ago, currently it is not difficult to find capable professionals in the mining industry that are looking for work or want to change their current job.
Casper Herler: Traditionally, financing mining projects in Finland through Finnish sources has been difficult. The Finnish exploration and mining sector was dominated for a long time by three state-owned companies – Outokumpu, Rautaruukki and Kemira – as well as by the Geological Survey of Finland, and these were funded by the state. As a consequence, for decades there was no demand for separate equity funding of junior companies or developing mining projects. Hence, there has been a lack of interested investors, analysts and bankers following the industry domestically. A similar trend can be seen on the debt financing side. Domestic banks have just very recently begun to build up capacity and experience on financing mining operations.
Our experience is that most projects which have received funding during the last year have had their funding agreed already, or the funding has related to a distressed financial situation. A number of Fenno-Scandinavian mining projects have experienced ramp-up difficulties, which is likely to affect future appetite both on the equity and debt sides. Early stage exploration and development projects currently experience severe difficulties in finding funding to continue project development. The projects that seek equity abroad on, for example, TSX-V or AIM face the same challenges as other companies throughout the world.
The Finnish government has allocated additional funding to the state-owned Finnish Industry Investment Ltd to be allocated to financing developing mining projects, but the additional amount of €30 million has been considered too small to have a significant impact.
Meeting the requirements of local government and community stakeholders has become increasingly central to the progress of a mining project, alongside pressure to ensure that environmental issues are satisfactorily addressed. Has this had a major impact on your clients, and to what extent do such considerations influence the chosen location for a new project?
Michael Rattagan: In Argentina most exploration and production activities (for gold, silver, copper, uranium, potash, lithium) take place in areas that are not heavily populated, in fact, they are usually quite isolated or remote operations. This substantially reduces the issues that may come up in terms of the so-called “social licence”. Mining operators, however, are typically open to reasonable demands from local communities, particularly in those cases where the national, provincial and municipal governments are deemed as partially (if not totally) absent. In addition to being a generator of jobs and training in provinces where most people are civil servants or beneficiaries of unemployment benefits, mining companies are usually expected to invest in paving roads, putting in place water supply infrastructure, build first-aid centres and/or schools. In any event, I have not come across any case in which local community demands have been of such magnitude (or so unreasonable) that an operator decided to walk away.
Local governments, on the other hand, may feel tempted when seeing a “deep pocket” descending into their jurisdictions, and may seek contributions as part of political campaigning or asking for support in infrastructure projects (those with visibility, particularly prior to elections) which should normally be paid out of the government’s annual budget. Some provinces have gone as far as asking advanced royalty payments (“advanced” here does not mean “at the beginning of a given month or fiscal year”, but rather, “while a project is still in its exploration phase”).
Unfortunately, in most cases a resource is usually located in a precise or defined area, so moving elsewhere is not always an option.
Stéphane Brabant: Meeting the requirements of local governments, community stakeholders and NGOs has indeed become increasingly central to the success of mining projects.
Firstly, getting a “social licence to operate” is no longer an option in today’s world. Consideration must to given to people, the planet and profits, and projects must meet the standards expected by all stakeholders, wherever the operation is located (although expectations may differ between jurisdictions).
These issues are key from reputational, bankability and stock market perspectives, and to attract high-quality partners; in addition, they are increasingly seen by most of our clients as fundamental to the development of long-term partnerships with states, and to secure support from local populations.
These factors have become the focus of constant attention, are generally set as KPIs for project teams and tend to take ever-increasing management time at all stages of the supply chain (exploration, development and production).
Specific processes are generally in place to meet the highest industry standards and these processes are increasingly tailored to take account of the specifics of each jurisdiction, region and project.
Internal audits are often conducted to ensure consistency with internal rules and policies.
The support of local communities, environmental issues and clarity of local requirements have become a crucial factor in selecting and developing projects. We are seeing an increasing flow of instructions on these types of issues, and regularly emphasise to our clients their growing importance in the context of large-scale integrated mining projects, and the fact that “soft law” requirements can increasingly lead to “hard sanctions” in terms of reputation, relationship with NGOs and host states, bankability and the reaction of the stock markets.
Pablo Mir: Unfortunately in mining projects the possibility of choosing the location is very limited. Today, clients don’t just make their investment decisions based on the quality of the mineral resources. What we can see today is that clients, at a very early stage in the project, are reviewing and undertaking due diligence regarding community, environmental and regulatory issues that may affect a project, before entering into acquisition agreements or spending money in exploration. From the contractual side, it has become a standard practice to include clauses that protect companies in case of situations related to regulatory changes, community opposition or environmental claims. In projects that are already under way, clients are initiating proactive community relations outreach programmes at an earlier stage in the process than they have done previously.
Casper Herler: Social and environmental responsibility of mining companies has been a major discussion topic around the Finnish mining industry over the past three years. A number of mining projects in Finland have experienced challenges with managing their environmental affairs and this has brought environmental and social impacts of mining operations to the forefront of public discussion.
This discussion has led to the Ministry of the Environment drafting new permit compliance supervision guidelines to environmental authorities and new provisions have been proposed to the reform of environmental protection legislation. Moreover, the Finnish Funding Agency for Technology and Innovation (TEKES) has funded the Green Mining Programme in pursuit of intelligent and minimum-impact mines and new mineral resources. For example, a guidance document for best practices in sustainable environmental and social development in respect of mines was published during summer this year in connection with the Green Mining Programme.
In their communication with the authorities and mining companies, the community stakeholders widely use argumentation based on environmental and social concerns and best practices in managing these concerns. Therefore, the mining companies operating in Finland have begun emphasising the management of environmental and social issues in their communications strategies.
Overall, foreign mining companies consider Finland as a good investment target due to the society’s stability and good infrastructure, which is also reflected in the recent Fraser Institute studies, where Finland rated overall as the most favourable host country for mining investments in 2013.
The past year has seen continued attempts by governments to gain control over their natural resources through expropriation. Have you observed this in your jurisdiction, and do you anticipate an increase in disputes between governmental bodies and mining companies as a result?
Michael Rattagan: While it is true that under the Kirchners’ rule (2003–2013) Aguas Argentinas (a public utility providing drinking water and sewage services), Aerolíneas Argentinas (an air carrier) and – as recently as 2012 – a majority interest in YPF held by Spanish Repsol were all nationalised, there is definitely no trend in Argentina towards expropriation of mining assets. In the last case, the Argentine government has yet to come to an agreement with Repsol on what is a fair price to be paid for the majority interest held by the Spanish company in YPF before it was nationalised in April 2012. The Spanish company has filed an ICSID claim seeking compensation. While this open dispute has pushed a number of otherwise highly interested foreign investors to “wait and see”, Chevron recently signed an ambitious contract with the now government-controlled YPF, as has petrochemical Dow, to exploit unconventional oil and gas reserves. Wintershall has done something similar with the province of Neuquen. Other operators will likely follow suit, although at a very prudent pace (the main concerns are the price they will be paid for their production and whether they will be able to send dividends abroad). In my view, by settling the dispute with Repsol the Argentine government will have a greater success attracting additional foreign investment, allowing the country to seize the unique opportunity afforded by its huge and unconventional hydrocarbons reserves. This, in turn, will allow Argentina to recover its energy self-sufficiency, bringing an end to massive energy imports (which have an adverse impact on the country’s trade balance, thus leading to restrictions on imports, access to foreign currency and the ability to send dividends abroad). It must act sooner rather than later. In this dynamic world, such “windows of opportunity” do not last for ever.
While one may feel sympathetic that a country should have an oil company to channel public energy policies, like Petrobras, Pemex and many others, that model in Argentina has failed in the past. The view that the state should have a leading role in the economy, not merely as a regulator but as a driving force, may be wearing out. New political winds are sweeping across Argentina these days, and the prospects of a constitutional reform allowing for indefinite re-election are now ruled out by all serious political analysts. By looking at the candidates to succeed President Fernandez de Kirchner in 2015, any successor of the current administration will be more likely to adopt policies that are more private sector-friendly.
The Kirchner administration has been consistently proactive and supportive of mining as an engine for development in various provinces. While questioning mining generally and magnifying its potential environmental impact has been used as an indirect attack on the current administration, I trust that any successor, once in power, will ease down the criticism and adopt a pragmatic approach: mining companies are becoming relevant originators of jobs and infrastructure and, perhaps more significant to the political establishment, a source of tax revenue. Moreover, the extraction of minerals (most of them exported) is not perceived as a sensitive activity and is thus less likely to be used politically (as was the case with YPF). It also helps that mining in Argentina is essentially a provincial affair; tampering with the right of the provinces to sustain these activities (and thus impacting their royalty and tax-related revenue) would create additional strain between provinces and the central government (the nationalisation of YPF’s controlling shares meant a serious loss of provincial prerogatives, and the passing of the national law for the protection of glaciers also created tensions).
Last but not least, it is unlikely that the government will step in and take control of projects that are in the exploration phase: even if it wanted to, it does not have the monetary means to do so. And in respect of projects that are already in operation and generating income, the central government realises that they have become a source of additional revenue: in recent years it has imposed a tax on mineral exports. Again, as mentioned above, the trend appears to be that these projects are better managed (and thus create greater tax revenues) in the hands of the private sector.
On the provincial level, what we have seen in recent years is a drive towards higher royalties (a trend in which Argentina does not stand alone, the so-called “windfall taxes” having made their appearance in Australia, Chile, Peru and South Africa). We have also seen a number of “infrastructure investment packages”, which provinces negotiate with each mining operator, and anticipated payment of royalties as already mentioned – governments can have immediate needs and short-term views! In some cases, a province will demand that a state-owned company becomes a minority shareholder in the project in exchange for the concession, but not making capital contributions. But generally speaking, and particularly in those provinces that are openly and clearly “pro-mining”, the industry is seen as a force for growth, employment generation and tax revenue.
Stéphane Brabant: There has been a growing global trend towards the adoption of public policies providing for higher state participation, increased tax rates, limitations on stabilisation clauses and additional local content requirements.
A number of governments have adopted these policies in order to try and address the “resource curse” and achieve, in their view, a fairer allocation of revenues. Some of these policies and the global economic downturn have adversely impacted certain greenfield projects, which are highly capital intensive.
Whilst local content requirements have been largely embraced, other policies (in particular regarding new taxes and higher tax rates) have been perceived as a sign of increased resource nationalism, which could potentially reduce the appetite for investment in some jurisdictions leading, in certain specific cases, to investor-state claims based on creeping expropriation.
These variations in governmental requirements are not uncommon in such a cyclical industry. Based on our experience, they are almost always manageable provided a good relationship has been maintained with the host state, and adequate processes (and good advisers!) are in place. We have a cross-disciplinary crisis management team in place to deal with the most critical situations (such as expropriations and politically motivated prosecutions) in a measured and coordinated manner.
On a more positive note, recent mining reforms have generally introduced greater transparency and clarity in terms of disclosure and publication of mining agreements, approval processes, compliance with international standards and anti-bribery rules, which has generally been seen as a positive development by investors and operators.
Pablo Mir: Chile is not immune to this world trend mentioned in the question. A large percentage of Chileans claim that Chileans themselves should receive more benefits from the extraction of the Country’s mining resources. This was clear in Chile during this past year’s debate on a government proposal to loosen the rules regarding the extraction of lithium by private companies, and during the Congressional discussion on the bill to increase Chile’s existing mining royalty tax. In both cases most citizens were in favour of the positions that favoured greater state benefits rather than greater private company benefits. However, regarding the specific issue of expropriation noted in the question, in Chile we have a special situation due to the existence of the state-owned company Codelco. Codelco is one of the world’s largest copper producers and makes a huge contribution to the country’s GDP (US$4 billion in 2012). Chileans feel that the profits generated by Codelco directly benefit the whole country and this helps to contain many claims against the industry.
Casper Herler: The Finnish constitution protects private property and Finnish jurisprudence has emphasised the significance of this protection. Therefore, expropriation of private property in Finland is very rare and the occasions in which expropriation is used limit to building infrastructure undertakings such as public roads, railways, electricity network and municipalities’ land use planning.
The Finnish mining system is based on a claim system where the first applicant of a claim receives a priority to finally exploit mineral resources over later applicants. Neither the state nor the landowners are regarded to own those resources. Finnish mining legislation provides that the mining company exploiting the resource pays a fee to the landowners of the mining concession area. This fee is divided into two parts: one depending on the area (m2) of the concession and the other depending on the amount of minerals extracted. The former part derives directly from law whereas the latter is either agreed upon by the company and the landowners or decided by the Mining Authority. The state does not have discretion to choose candidates for operating the project as it will be the holder of the exploration license who will be awarded a mining concession provided that a number of explicit legal requirements are met.
The possibility of creating an environmental after-care fund by introducing a specific mining tax has been discussed in the public. However, as the mining legislation reform in 2011 introduced an obligation to provide a security for the after-care of mining projects. Also the existing environmental protection act has required mining projects to provide a full security for the future remediation of the mining waste areas. Another trigger for the discussion has been the fact that the government does not impose royalties on mining projects due to the ownership of minerals, and because of the excavation fee being paid to the landowners. The state, however, owns large (surface) areas in the areas where mining is taking place and therefore receives royalty income through the existing excavation fee framework.
Currently there is no statement of a mining tax in the governmental programme, which sets out the political agenda for the current government. The discussion is likely to continue in connection with and after the elections in 2015.
Many mining companies are looking to expand their business into new markets, central Africa being one example. Have you come across any new jurisdictions or production sites in your work this year? Which jurisdictions appear to be performing the strongest in terms of securing investment and backing for new projects?
Michael Rattagan: I can only speak about Argentina. A growing interest has been seen in lithium reserves in northwest Argentina (together with those in northern Chile and southern Bolivia, they are amongst the largest in the world).
As already mentioned, and while not strictly mining still in the natural resources area, Argentina is also currently being looked at for its huge unconventional hydrocarbon reserves. The national government must continue working proactively to give positive signals to potential investors, as the cost of drilling in Argentina is already higher than in the US, for example. Some oil and gas operators would like to see some of the benefits associated to mining (e.g. 30-year tax stability, shorter amortisation, etc) applied to oil and gas.
Stephane Brabant: The recent commodities market slowdown and uncertainty about global economic expansion have resulted in miners looking carefully at their investment decisions. Miners have been scrutinising their capital expenditure, looking for projects with high returns and lower investment requirements and costs, with a focus by certain investors on large brownfield projects in Western jurisdictions.
Generally, high-grade projects in emerging markets, including notably West and Central Africa, have continued to be attractive markets for expansion. Investment in these markets is generally seen to carry additional exposure in terms of sovereign risk, stability of legal and tax policies, poorer infrastructure and operational issues, especially from a bankability perspective, although this can be offset by low operational costs and more direct access to clients. Furthermore, these risks can be mitigated, and most governments are very open to working with stakeholders to find solutions that are palatable to all parties. It should also be noted that sovereign risk and exposure to changes in legislation are far from being negligible in Western jurisdictions.
M&A activity in the mining sector has been relatively depressed, with a substantial valuation gap between sellers and buyers. However, hedge funds and private equity groups, especially in emerging markets, are showing an increasing level of interest in the sector.
Pablo Mir: The development of the mining industry in a specific jurisdiction is always mainly related to the quality of the mineral resources and the stability of the rules to secure investment. Due to this, the improvement of the performance should be analysed in the medium to long term. In my opinion some African countries such as Botswana, Burkina Faso and Ghana, which have very good quality mineral resources, are developing good regulations and policies to develop their mining industry. Unfortunately, currently I don’t see such commitments in Latin American countries.
Casper Herler: We follow the developments in Finland, the Baltic countries as well as Russia and CIS. Finland and the Scandinavian countries (in particular Sweden and Norway) have, due to increasing resource nationalism elsewhere as well as their stability (both in terms of society and economy), received continued interest of new exploration players. This has been supported by new evidence of geological potential in Finland and high ratings by Fraser institute.