Managing international mining political risk

Canadian mining companies are major players on the international stage. But many new developments are in emerging nations where the rule of law is far from established and the political risks are high.

 

Last month, Toronto-based resources player Victoria Gold quietly span off of its Guyana-based holdings. “The move will enable us to optimize a non-core resource,” said Chad Williams its president and CEO regarding the company’s transfer of its Tassawini gold project and BRL joint venture exploration initiative to Takara Resources. “This will allow us to concentrate on our interests in the Cove and Eagle projects in Nevada and the Yukon.”

 

The deal, which ends Victoria Gold’s direct involvement in South America, is hardly surprising. To compete successfully in today’s economy, smaller players like Victoria Gold, (which has a book value of less than $60 million) need to concentrate their efforts. Investments in off-the-beaten track locales, such as those in the former British colony which Victoria Gold picked up when it acquired Stratagold earlier this year, are not easily managed.

 

That said, the mere fact that a small company like Victoria Gold got involved in at all in Guyana speaks volumes to the broad international outlook of Canada’s competitive mining sector players. Of course not all of their investments can be flipped as easily as Victoria Gold’s were. In fact many Canadian international mining initiatives are fraught with broad political and economic risks, ranging from civil conflict, to certainty of ownership issues, corruption and bureaucracy; risks, which if not handled correctly could put those investments in serious jeopardy.

 

Overseas mining: plenty of opportunity….

Canada’s mining industry’s global footprint is staggering. As recently as 2005, close to 60 percent of the world’s mining and exploration companies were listed in Canada. According to the Department of Foreign Affairs and International Trade, these companies account for more than 40 percent of global exploration budgets and have interests in more than 3,200 mineral projects located in more than 100 countries.

 

This big international push is not surprising. Much of its stems from the fact Canada’s mining sector players have done almost too good a job locally. Almost all of Canada’s best and most economically accessible ore bodies have been identified, spoken-for or put into production. However the experience that many Canadian firms have built up exploring and developing those rich and hard to reach deposits, in often extreme weather conditions, gives them a leg up when it comes to undertaking similar activities elsewhere. As a result many Canadian firms, now look extensively toward international initiatives to help grow their businesses. For example at the time of the DFAIT study, local firms had $17 billion allocated towards investment initiatives during the coming years.

 

Emerging economies: are investments there worth the risk?

The bad news says one industry expert is that coveted high potential zones are often in emerging economies, where in many cases the rule of law is either shaky or non-existent. For example Canadian mining companies have stakes in close 600 properties in Africa alone. Not surprisingly, Canadian mining companies have faced political and risks in jurisdictions ranging from Peru, to Cuba, Indonesia, Kyrgyzstan and Mongolia, as well as pretty much everywhere in between.

 

According to one expert, many of those international investments are characterized by significant uncertainty caused by an ever-evolving political and economic environment. “The major risks are changing,” says Thomas Wexler, a partner in the London England offices of Fasken Martineau, which was named “Global Mining Law firm of the Year,” for five straight years by Who’s Who Legal. A large part of Wexler’s practice is centered on representing banks in their financing of resource sector activities. So he makes it his business to keep abreast of the many threats his clients and their clients face. “Ten years ago, the big threats that companies used to worry about were related to wars and insurrections.  These days the threats are more subtle.”

 

These days few countries will out-and -out nationalize a property says Wexler. But what many can (and will) do is impose legal or taxation barriers that will force an international barriers that will either force and international investor to sell, or which will serve as a quasi-nationalization. 

 

Nationalization, quasi-nationalization and bribes

For example executives at Centerra Gold shot off sighs of relief earlier this year after the Mongolian government reversed a massive windfall profits tax on its Gatsuurt development. To the outside observer such taxes may seem like a normal part of doing business. In fact they are anything but. That’s because fiscal measures substantially reduce the market value of international investments in the host country, particularly mining developments or newly discovered reserves, which cannot effectively be removed. As a result, the net effect of major tax increases on international mining sector investors is similar to that of a partial nationalization. 

 

Centerra Gold had similar challenges, regarding their investment in the massive Kumtar Project in Kyrgyzstan. Centerra had negotiated a board agreement that outlined the Kyrgyz government’s stake in the deal, taxation issues and terms related to expansion of the company’s existing concession area. However the Kyrgyz parliament, (in classic “good cop, bad cop,” gamesmanship) refused to ratify the deal, which then had to be reworked. The move left investors in doubt during the entire negotiating process regarding the security of their investments.

 

Of course the most visible Canadian poster boy for taking on political risk is Sherritt International Corp. which has major mining and energy holdings in Cuba, a technically bankrupt nation that remains outside key international trade and economics organizations. Earlier this year the Cuban government, which has a long history of nationalizing foreign investments there, tore up a long-term production sharing contract with Perbercan, in which Sherritt has a significant stake. In exchange Sherritt was to get about $140 million in cash, which the company then “voluntarily” invested in Cuban long-term bonds. However, with Cuba’s foreign debts estimated in the tens of billions of dollars those bonds are of questionable value on the open market.

 

Mitigating risks by understanding their causes

According to one expert, one of the keys to mitigating international mining political risk, particularly at the local level, is to take the time to understand the causes. Ironically a surprising number of difficulties that mining companies face, relate to a faulty understanding as to the respective responsibilities to that are be undertaken by both the mine investors and local officials.

 

“Many countries, governments and local communities don’t get as much benefit out of extractive industry investments as they initially expected when they authorise them. That’s true even in cases where hundreds and sometimes thousands of jobs are created,” says Yolanda Banks a senior advisor (corporate and social responsibility) at Export Development Canada. “Many new areas in which mines are developed are in remote locations where the resource is their only major asset. So even the gains they get can seem small, particularly when the benefits are not distributed broadly.”

 

Groundswell pressures

The upshot says Banks is that politicians with unhappy constituents in areas in which mines are located, are highly vulnerable to groundswell pressures. That’s particularly true in areas that are populated by minorities or aboriginals such as the Balochis in Pakistan, or natives of Nigeria’s oil rich regions. “The mining industry has an image problem,” says Banks. “That means any time there is an unwelcome development, it’s almost as if burden was on the investor to show he is doing the right thing.”

 

One of the biggest challenges in writing about how investment risks that international mining investors face at the municipal, provincial or local levels, where these troubles of originate, is the uncomfortable silence that often surrounds them. Industry players are often loathe to even acknowledge that problems of risks exist (beyond general boilerpoint statements of the annual report variety), let along lone discuss them publicly, for fear of worrying clients, investors and financiers or of aggravating the situation.

 

“Sometimes what gets in the public domain isn’t the whole story,” says Banks. “For example if a mine is operating in a dissatisfied community has some sort of effluent spillage, when you dig deeper it sometimes turned out do be sabotage. But no one wants to talk about it for fear of making things worse.”

 

Corruption, which Canadian government officials have made valiant efforts to fight, is another rarely discussed risk that increasingly manifests itself, when local grievances are not addressed, despite the fact that many of the most promising resource areas, are in countries that rang high on Transparency International’s corruption index.

 

One common borderline practice local officials soliciting jobs or “quasi-jobs” (in which there is little or no actual work) for local officials’ friends and family members to keep them happy. In fact low labour costs in many emerging markets means that this practice (which amounts to “quasi bribery”) is often quite cost effective. However the upshot is that the foreign offices of many Western companies’ third world or emerging economy subsidiaries are staffed far more generously than they would be if they were located in western countries.

 

In fact officials in mining investment locales have become remarkably adept at applying pressure when they are not happy, a process that substantially heightens investment risks. Common methods include cutting off power due to “uncontrollable demand surges,” road blocks, harassing check points, bureaucratic delays in granting licences or speeding up paperwork and so on.

 

The importance of a good CSR profile

According to Banks another key way to vastly mitigate political and economic mining sector risks relates to maintaining a good old fashioned corporate and social responsibility profile. “International mining sector developers should strive to meet the profile of a model extractive company,” says Banks. “If they act as good corporate citizens, take steps such as integrating themselves well in the local community, listen, pay attention to the local environment and so on, then they will substantially reduce their operating risks.”

 

Banks should know, she is one Canada’s top CSR experts, and has researched, visited and written about successful efforts by Canadian mining companies to integrate in local communities. “Meeting local commitments is particularly important,” says Banks. “But it is very important that those commitments be spelled out in detail. For examples if companies have made commitments to for example build a school or hospital as part of a mine operation deal, then they also need to spell out whether they are committing just to construction costs, or to operating costs as well. Misunderstandings like that can significantly heighten distrust among the parties.”

 

A strong local partner and political risk insurance

One obvious risk mitigation tool says Fasken Martineau’s Wexler are the political risk insurance products offered by organizations such as the European Bank for Reconstruction and Development (EBRD) the Multilateral Investment Guarantee Agency (MIGA) and of course Banks’ employer Export Development Canada (EDC).

 

In fact EDC has been making substantial efforts to broaden and market its presence in the mining sector, and its Political Risk Insurance product is part of that strategy. The EDC coverage protects against a variety of threats ranging from political violence, currency conversion or transfer restrictions and foreign government non-payment or repossession threat. EDC has also sought to broaden its mining presence in other ways. For example according to Banks, EDC will be providing support to the Canadian Institute of Mining’s new center of excellence that will help resolve social and environmental issues related to mining, oil and gas companies that operate abroad.

 

Balancing risk and opportunity

That said, the considerable visibility of the political risks that Canadian international resource investors face should not obscure the fact that a vast majority of these initiatives yield positive results. For example according to Victoria Gold’s president Chad Williams, Guyanese officials were remarkably friendly to company personnel. “We never had any trouble,” said Williams. “We divested primarily because we thought our new partner would be more highly motivated and better placed to add value to the property than we could be.”

 

One thing is certain: Canadian international investment mining players are almost certain to have increasing rendez vous with political risk during coming years.  With demand for raw materials rising, and the choice of available ore bodies narrowing, Canadian companies will be forced to look closer at situations that they may have previously turned their backs on.

 

For its part, despite the spin-off of its Guyanese properties, Victoria Gold will continue to have an indirect investment there through the 21 million shares that it acquired in Takara Resources as payment for the property.

 

Victoria Gold and Takara are not alone. With their $50 billion in international investments, which are almost certain to grow in coming years, Canadian mining companies really have no choice but to watch out. As a famous politician once said, “A billion here, a billion there -- and pretty soon you are talking real money."

 

Sidebar: Profile of a Model Extractive Company*

 

  • Transparent with the community on their long-term plans, strategies and operations.

  • Listens to local communities, demonstrates willingness to partner with them.

  • Help community design a strategic development plan

  • Insists on speaking to one single community leader to avoid fostering rifts/divisions in the community.

  • Business strategy includes commitment to corporate, social and environmental responsibility.

  • Makes available transfer of technology.

  • Understands local laws and hires locally.

  • Establishes and maintains a rapport with the community via training for environmental supervision.

 

* Abridged. Supplied by Yolanda Banks. Export Development Canada.

 

Peter Diekmeyer (peter@peterdiekmeyer.com is CIM Magazine’s Quebec correspondent.

 

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