Research Trends and Conclusions: Mining 2011
Busola Taiwo
Little has changed over the last 12 months in the mining marketplace. The mining industry is witnessing a lack of worthwhile financial investments, a cessation of greenfield exploration and a flurry of consolidations, as investors opt for the safety of the precious metals market over risky mining ventures.
Throughout the past year the precious metals sector has seen huge rises. Gold hit an all time high of US$1360 an ounce and has risen over 16 per cent since January 2010. Simply put, gold is a sure thing and investors are acquiring it as a safe asset as concerns over the global economy persist.
Gold is underwriting a lot of projects and boosting other precious metals, such as silver, which recently rose to US $23.15 a troy ounce – its highest in two years. Equally, potash and copper have retained high robust prices. This has led to a willingness in the industry to provide capital for mining projects, especially gold mines, but a reluctance towards early stage exploration projects of other metals. Money has been concentrated among the decreasing number of major companies, as their legal counsel is called on to facilitate mergers with other companies and joint ventures to finance new projects.
Market Developments Over 2010
As was the case when we published our previous edition at the end of 2009, the marketplace for junior and mid-level mining companies remains a financial wasteland where many projects lack funding. Interviewees noted an increase in the number of joint venture activity as junior companies bind together in an effort to improve their prospects and financial capabilities. One lawyer remarked that “the key to a consistent practice is to adapt to what the client wants”. This usually translates to a demand for lawyers with strong acquisition and corporate knowledge as well as an understanding of the mining sector. The focus of a lot of lawyers has “shifted from mining for minerals to mergers” in the words of one source.
The situation is different for major companies. With the ability to attract foreign investors and partners, and many projects already developed, most are looking for strategic alliances and acquisitions. Many of the lawyers we spoke with have seen a clear trend in the seniors working with or taking over junior and mid-level enterprises. This is resulting in more and larger scale corporate work for lawyers. Firms with strong corporate teams are in the advantageous position of providing one-stop shop advice to clients who are looking to explore new territories and expand their company through acquisition of local players. Notable examples are Rio Tinto’s plans to open a new US$1.2 billion mine in Australia with Hope Downs Iron Ore Pty, and Gran Colombia Gold’s US$275 million reverse takeover of Tapestry Resources. Although exploration remains low, project activity is gradually increasing: as one Toronto lawyer explained “if there is a good resource the market will respond”. Just as the financial crisis ruined many deals last year, the resulting high price of gold is suddenly making uneconomical projects economical.
A number of the lawyers we spoke to describe the increase in work coming from East Asia, particularly China. The country is exercising a long-term acquisition strategy to meet their high domestic demands by restoring base metal reserves, such as iron ore and steel. However, it is difficult to ignore the economic and political reality: China’s strategic stockpiling has raised the issue of ownership of US natural resources. We are already seeing this with the Angang Steel Company’s purchase of a US steel mill in Mississippi, and renewed talks between the PRC-owned Northwest Nonferrous International Investment Company to purchase a Nevada gold mine after a deal was scrapped last year due to security concerns and we can expect to see more in the future. Chinese companies are hugely attracted to acquisitions within North America, however licensing problems and political distrust could frustrate their intentions. Increased Chinese investment in the US will create transactional work for local lawyers, and throughout the research we received reports of counsel around the world adapting their practices to attract Chinese clients.
In summary, the area has seen a surge in activity fuelled largely by opportunistic consolidations. The economic downturn created severe funding shortages, which is making life for venture funds lawyers difficult. However, financing is becoming more available due to the commodities performance. The general belief of mining lawyers is that the current ebb in the market will be followed by a more fruitful flow, where investors will gain confidence, banks will release more equity and exploration projects will be as strong as they were before 2009.
Challenges to Doing Business
One area that lawyers are not so optimistic about is political instability blighting mining projects in mineral-rich countries.
Activity in the mining industry is dictated by the location of the resources, which are often found in countries unaccustomed to large-scale industry and best corporate practices. The difficulties faced by companies entering jurisdictions that lack stable legal frameworks or public infrastructures are numerous, making local practitioners with a deep and extensive knowledge of the risks, and how to navigate past them, invaluable. The international growth of the industry is reflected in the research: we feature double the number of lawyers from the Democratic Republic of Congo and Cameroon than last year, and a new entry from India. A number of lawyers have expressed concern over growing protectionism, particularly in parts of Africa. For example in South Africa recent talk of mine nationalisation, despite strenuous denials by the ANC government, continues to circulate. There seems to be a trend in the developing world for governments to move the goal posts with respect to revenue, costs and time, according to sources with local experience. Battling issues such as corruption, kidnappings and a lack of health and safety measures continue to drain the time and resources of mining companies and create tension with the host governments. An example is the September kidnappings of seven Areva employees in Niger, which prompted the uranium producer Paladin Energy to forgo its takeover bid for the Niger-based NGM Resources. Regrettably, such situations are not rare.
Legal reforms can raise problems, exemplified by recent developments in Tanzania. In April the government passed the new Mining Act 2010. The legislation imposes higher royalties, requires companies to list on the Dar es Salaam stock exchange and gives the state a stake in future projects. Further, the country will not issue new gemstone licences to new foreign entities. The legislation brings the country in line with mining provisions and royalty rates throughout most of Africa; however it has caused concern among international investors. The rise in royalty rates and reduction in foreign investment licences issued may be a signal of an increase in nationalistic feeling; however the restriction on licences, currently limited to 20 per entity, has created uncertainty. Investors do not know whether they will have to surrender remaining licences or even be permitted to renew them once they expire. But according to the two Tanzanian lawyers identified in this year’s research there has been a general drop in activity due to the depressed global economy, and although the new act is proving unpopular among foreign entities, the belief is that they will have to enter into agreements with local companies. This should generate improved levels of corporate and advisory work.
Venezuela has been active in mining in the last few years, forging agreements with Iran and Russia for uranium, but deals have been undermined with the unpredictability that has become symptomatic of Hugo Chávez’s unwelcoming approach to foreign investment. This often results in a disincentive for new entrants to the market and heightened safety concerns about doing business in the future. In such conditions in-house counsel face issues beyond their expertise so must source high quality outside counsel to provide local know-how on health, safety, environmental, criminal and community matters. The job of the local counsel is to enable the project to be viable in spite of the inherent challenges to doing business in some parts of the world. The solution is to have people on the ground. We saw this happen in South America with the opening of Macleod Dixon’s new office in Bogotá in September 2010, headed by Jorge Neher. Colombia’s desire to move towards a more harmonious relationship with foreign mining enterprises was cemented in their recent legislative changes and this has generated a lot of interest among foreign mining law practices.
Legislative Changes
Colombia has undergone several positive changes in the last 12 months. According to one lawyer we spoke to it has become an attractive, less risky investment jurisdiction, which previously was not the case. Our research identified it as a major centre of activity with nominees locally, across America and beyond, reflected in a 75 per cent increase in nominees compared with last year. The country has seen an increase in foreign investment which is matched by an expansion in the number of internationally recognised local experts. This is expected to continue with the introduction of the Canada-Colombia Free Trade Agreement. The FTA is scheduled to come into force later this year and should channel more mining investment into Colombia by building on the many oil, gas and metal ore ventures of the past few years; and enhance legal protection for Canadian investments against government conduct by including provisions for international arbitration. The agreement will generate new work for lawyers, particularly those experienced in South American working practices. It will also provide an opportunity for leading international firms to export their expertise, not only in the field of mining but also in international arbitration and corporate work. Lawyers look forward to more contract work by mid-2011. This is one example of countries opening up to international business, with similar legislative changes also occurring in Africa. The government of Mali, Africa’s third-largest gold producer, has signalled its desire to become an iron ore producer and is set to introduce a new mining code before the end of 2010. This should encourage more investment in its minerals sector and prompt a swell in demand for legal compliance advice.
Regulation is a necessary part of the mining industry and affects both local and international business; however, from the perspective of companies in some African countries, compliance is expensive and arguably chips away at the continent’s already minimal mining competitiveness. The UK Bribery Act 2010 is an example of international regulation that may have detrimental effects on a local level. The new act applies to UK and foreign entities provided they carry on part of their business in the UK. It creates a strict liability offence of failing to prevent bribery occurring within the organisation, the only defence is if the entity formulated “adequate procedures” designed to stop incidences of corruption. Bribery is defined as to offer, promise or give a financial or other advantage to another person and induce or reward a person to perform improperly a relevant function or activity. The problem is that small payments may be expected by local custom (and encouraged by company directors) to facilitate the running of relevant functions. In some jurisdictions business traditionally cannot be done without these transactions. The reality for mining companies in these jurisdictions is that they will need advice on how the law affects them, even if they and the project itself are based outside of the jurisdiction. Regardless of whether or not they commit bribery in their deals, doing business in Africa will become costlier and less flexible as local legal advice will become imperative to devise “adequate procedures” to avoid liability.
Australia is experiencing a shift in foreign investment policy in response to the aforementioned rise in Chinese investments. The two countries have resumed talks to develop a Sino-Australian Free Trade Agreement. Australia has a very strong coal mining industry. It exported AS$39 billion worth of products to China last financial year, with iron ore, coal and other concentrates making up the lion’s share. The agreement will incentivise Chinese enterprises to enter the market causing an influx in investment and potentially the purchase of local companies. The lawyers we spoke to predict a huge increase in trade and mining production as China continues to stockpile vital metals to meet its domestic need, and the upswing in M&A, joint venture and consolidation activity for lawyers is expected to continue in Australia is the third largest national jurisdiction in this book – we include 22 lawyers – and in previous years our research has identified Australian lawyers as some of the best mining lawyers in the world. This is still the case but their numbers have dropped in this edition as the demand for their services has taken a number them outside the scope of our research into company directorships, such as Philip Christensen now of MM Mining.
Chinese Rare Earth Metals
This year perhaps the most significant development has involved China’s rare earth metals production. Lawyers have remarked upon the growing interest in rare earth metals, specifically in lithium and tantalite – a form of diamond used in smartphones, superconductors, computers, hybrid electric cars and other high-tech products.
Production of rare earth minerals is estimated at 150,000 tons this year. However, they are rarely mined outside of China, which is believed to have 57 per cent of rare earth mineral deposits and is responsible for 97 per cent of production. As well as their complex technological uses, rare earth metals have important armed defence applications. The US Committee on Science and Technology approved the Rare Earth and Critical Materials Revitalization Act of 2010, which authorises the Department of Energy to develop a domestic rare earth minerals programme to reduce reliance on China. This is expected to lead to more legal advisory work for US-based mining lawyers with environmental cross-over issues. China’s virtual monopoly is far from accidental. With the majority of China’s exports going to the United States, Japan and South Korea, and signs of a reduction in Chinese exports, China is dictating the market. The hope is that the political distrust can be put aside and trade transparency can be achieved between the US and China; but for now the political complications are driving levels of domestic work for US mining companies and their lawyers.
Projections For the Future
Looking to the future, the price of commodities, particularly gold, will continue to dictate the levels of new projects and M&A activity in the market. With expectations of a US$1,500 gold ounce by the new year, lawyers have reported that companies are starting projects on the basis that the money will become available down the line. It is a risky act that has to be balanced against the potential rewards.
The forecasts of lawyers we interviewed suggest Canada’s TSX and Venture Exchange and the London Stock Exchange remain the key locations to raise finance for exploration, mirrored in the high levels of representation in our research from Canada and England. According to one lawyer, we could see a switch to Singapore and Hong Kong markets as the junior markets in London, AIM in particular, prove to be illiquid. Firms with traditionally strong AIM practices will have to wait and see if financing activity returns, or look to emerging Asia Pacific countries for new sources of finance.
Looking ahead, the response to the social and political focus on ecologically aware mining practices, such as reclamation, and renewable energies has been varied. Some lawyers we spoke to explained that their mining clients “laugh at the idea of renewable energies overtaking fossil fuels”, while others have expanded their environmental teams and are touting for carbon trade work. It is undeniable that more law firms are offering a wider range of services by including conservation specialists in their mining teams. Our recent environment publication reported how those lawyers are experiencing a “golden age”. Activity across the sector is at record levels and our 2010 edition grew substantially reflecting the greater number of lawyers with outstanding practices. Several law firms expanded their teams in the past year with some establishing new groups to combine natural resources, energy and environmental functions in response to the high levels of advisory, transaction and regulatory work.
***
As we move towards the end of 2010, lawyers are working on fewer deals and companies are taking fewer exploration risks. The optimism prompted by activity from Asia has been dulled by the uncertainties of the financial crisis. However, there are signs that the capital markets are beginning to ease and companies continue to be prepared to venture into emerging countries. Mining lawyers have seen an increase in acquisitions, joint ventures and strategic deals. The height of commodities prices, particularly gold, has signalled interest in base metal projects in West Africa and Latin America, as well as project financing from China, Toronto, London and to a lesser extent parts of eastern Europe. The prevailing view among lawyers is that the sector will bounce back, but not to previously high levels. Until the adverse consequences of the economic crash are overcome, consolidations will be many, money will be tight, projects will be few, but mining lawyers will stay busy.