Resource-rich countries are becoming more possessive over their natural assets

Despite protestations about a chilling effect on new project development, the threat of increasing resource nationalism in the extractives industry has yet to dampen investment.
 

Spurred on by a shift in geopolitical power, the rush to cash in on rallying metals and energy prices continues. That said, certainly resource nationalism complicates political risk management, given the continued threat of emboldened governments seizing a bigger share of returns.

Resource nationalism ranges from expropriating foreign companies – as has been the case in Venezuela, Bolivia and Uzbekistan – to imposing windfall profit taxes. It’s a cyclical occurrence linked to rising commodity prices, and it has triggered some governments to force unilateral restructuring of contracts and concessions, or even a change in ownership that flips the foreign investor from a majority to minority position.
 

The trend is particularly notable in Russia, Latin America and Africa but is, in fact, a global phenomenon, seeing resource-rich countries across the spectrum seeking to capture additional revenue.
 

South Africa, Zambia, Australia and Colombia have all recently put forward plans to increase taxes on metals and minerals mined within their countries. Chile and Brazil also hope to raise tax revenue from mines, while in the oil and gas sector, supermajors are increasingly being restricted to non-state-controlled areas such as Canada’s oil sands.
 

Consequently, international oil companies have shifted their attention to natural gas and deepwater projects, where their technical edge gives them a great advantage over national oil companies. Leading western extractives companies are hardly suffering in the current economic climate – profits have never been higher.

A major concern

Nevertheless, the majors are clearly worried. China’s voracious resource appetite continues unabated, while the ever-declining power of western consumer nations portends a fundamental shift in the power balance to which large independent extractive companies are not immune.
 

Most outspoken has been Rio Tinto chief executive Tom Albanese, who warned recently of the “curse of resource nationalism” becoming a major obstacle to projects worldwide.
 

“There are stronger profits, stronger margins for a sustained period but we see pressures for higher taxes, higher royalties, and governments taking a stake in the resources sometimes after the investment has been made,” said Albanese in a recent speech to the Credit Suisse Asian Investment Conference in Hong Kong.
 

Consequently, he said, Rio Tinto, the world’s third-largest mining company, would limit its investments to smaller to midsize acquisition projects that would cost less than $10bn.
 

The resulting fears – of a pullback leading to a shortage of essential minerals and energy for the global economy – are not entirely unfounded, says Dan Litvin of the sustainability consulting company Critical Resource. “There’s no imminent catastrophe,” Litvin says, “but it does pose a threat … because when the incentives for private sector investment are reduced and things are left in the hands of less efficient state companies, you often get less production.”
 

Consequently, major extractives are forging new alliances and, in some cases, proactively renegotiating tax arrangements that involve some sharing of the windfalls from high commodity prices.
 

But they’re also fearfully looking at the rise of India and China, in particular, where the desire to acquire greater ownership and economic benefits from overseas resources threatens to muscle out large western companies.
 

Increasingly the emerging economies want technology transfer from their partners, as well as professional training, all of which would help them to cut their dependence on foreign expertise. Analysts say the impact of nationals on the strategic landscape will be felt hardest in the oil sector, where state companies through Opec already control roughly 80% of the world’s known reserves.
 

In the more fractured mining sector competition will be similarly intense. China alone consumes roughly 40% of the world’s metals, much of which comes from foreign mining companies flush with Chinese investment cash. Beijing is keen to ensure supply of metals and so is investing heavily in extractive companies based in resource-rich countries.
 

This has given the extractive sector in resource-rich emerging economies a wider choice of investment partners, particularly in Africa, says Elizabeth Stephens, political risk analyst at Jardine Lloyd Thompson. “But what African countries are finding out now is that having China as an investment partner has lots of benefits but it also causes them some problems as well.
 

Stephens says that Chinese companies can impact host communities, for example taking in a lot of Chinese workers and sometimes using conscript labour. “They also start their own small businesses in the area. So they really change the demographics on the ground.” She says that there is a trend towards a backlash against Chinese projects by some local communities. “And the governments are being forced to take notice of this.”
 

Ultimately, in order to ease tensions, enlightened companies will seek to negotiate tax arrangements which involve some sharing of exceptionally high commodity prices. But only as long as the arrangements also allow for a reduction in tax take when and if prices collapse, says Edward Bickham, a former executive with Anglo American and current board member with the Extractive Industries Transparency Initiative (EITI).
 

Resource nationalism could lead to a more sustainable extractives industry but, says Bickham, a lot depends on the countries involved.

Risk assessment and action

That resource nationalism may present both a challenge and opportunity is a reality Newmont Mining has experienced first hand. In 2006, 50% of its joint venture gold mine shares were expropriated by the Uzbekistan government, leaving the US-based company little option but to take legal action after the cancellation of a tax stabilisation decree imposed $48m in corporate tax arrears.
 

At the time other Uzbek ventures with foreign companies suffered similar expropriation, or what one country expert referred to as a “scheme of excluding the investor”. The moves involved “tax claims, the settlement agreement with the government, liquidation, and transfer of assets to the state”.
 

In Peru, by contrast, where Newmont faced considerable risk early on with an unstable government weakened by a violent Shining Path rebel insurgency, the company’s investment in the Yanacocha gold mine has paid off hugely. The mine’s success has, in turn, led to pressures on the government to demand higher royalty and tax payments.
 

“Governments that pursue this path – that is their choice,” says Omar Jabara, spokesman for Newmont. Jabara points out that if a government does this then they run the risk of missing out on the other subsidiary benefits spinning off from a large project that a big international extractive company can bring, including direct investment in local communities, bringing more jobs and training, and improved infrastructure, for example.
 

But, cautions Bickham, if current high commodity prices continue and fiscal “stabilisation agreements” are predicated on significantly lower price assumptions, the agreements will be unsustainable and inevitably generate bad feeling between the company and host country.

Local pressure in Africa

A case in point is Africa, where an increasing number of democratically elected governments are under huge pressure to face down perceptions of inequitable foreign exploitation of natural resources.
 

Even relatively stable countries like Zambia, Namibia and Ghana, for example, profited only moderately from tax revenues during the commodity boom, according to a 2010 case study published by Martin Stürmer, a research fellow at the Institute for International Economics at the University of Bonn.
 

In Namibia, companies mining zinc, copper, uranium, lead and fluorspar paid “very low” corporate tax and did not pay any royalties from 2003 to 2006, an “astonishing” finding given the country’s position as the world’s fourth largest exporter of uranium. Much of the tax revenue is siphoned off by corrupt politicians, but then so, too, is a huge amount of revenue withheld because governments are locked in to long-term “stabilisation” clauses.
 

“These contracts … effectively prevent democratically elected governments from raising taxes as they see fit,” says John Christensen, director of the international secretariat of the Tax Justice Network. “Tax is the forgotten element in the corporate social responsibility debate – and probably the most important.”
 

The issue is not whether these countries can renegotiate these contracts. The resources do belong to the state, says Arvind Ganesan, director of Human Rights Watch’s business and human rights programme.
 

“If a government is making a rights-based justification – that this [demand for rents] is going to be used in a way that will benefit their rights in areas like health and education – then the burden is on [the government] to demonstrate that that’s what is actually happening,” Ganesan says.
 

A clear development since earlier cycles of resource nationalism, Litvin says, is the strength and influence international NGOs and civil society are now providing in support of governments of resource-rich but poor countries, ensuring the big mining companies treat them responsibly.
 

Another shift is the degree to which resource nationalism is also touching the more prosperous developed nations. Countries such as Australia and Canada still remain two of the friendliest investment regimes in the world, yet each has quashed acquisitions seen to be against their strategic interest.

A developed economy issue

One of the largest was Canada’s blocking of BHP Billiton’s proposed takeover of PotashCorp, while Australia has acted similarly in halting Chinese merger proposals over issues of mistrust.
 

“We’re seeing a backlash against Chinese companies,” Stephens says. “Where it was originally western companies affected by resource nationalism, the reality is that over time all foreign investors are experiencing similar issues.”
 

The recent government-led ousting of the chief executive of Brazilian mining giant Vale raised concerns, given the company’s role exporting large amounts of iron ore to China. Dilma Rousseff, Brazil’s president, reportedly wants the company to play a greater role in investment and job creation at home, a move that reflects more on Brazil’s desire for a more vertically integrated economy than aspirations for capturing a larger share of revenue.
 

“I see that as slightly different to resource nationalism per se,” Ganesan says.
 

Still, if Vale does indeed turn inward, the move would only exacerbate an already fierce scramble for natural resources. This is a race in which many analysts say state-owned companies now have a distinct – if not decisive – advantage.
 

“They have huge amounts of state capital behind them … and that’s what the large multinational oil and mining companies are worried about,” says Joe Williams of Publish What You Pay, a campaigning organisation focused on corporate financial transparency.
 

For the oil majors, the response has been an enthusiastic shift into the shale-gas industry, whose prospects they initially ignored.
 

“Companies aren’t going to oil sands because they like extra heavy oil and spending,” says Derek Brower, editor of the Petroleum Economist. “They’re going there because it’s one of the places still left available to them.”
 

That majors are now taking deals in which they earn no ownership of reserves is a measure of just how far their strategic access has been limited. The collapse of BP’s planned development of oilfields in the Russian Arctic is just the most recent example. “That [fee structure] effectively deterred the western oil companies,” says Brower.
 

As for mining companies, state-owned competition is of equal concern, especially in west Africa, where Chinese and Brazilian nationals are competing with giants such as Rio Tinto to establish the new iron ore frontier.
 

The mining sector realises it needs to work hard to stand still. At the recent Hong Kong conference, referring to the uncertain future ahead, Tom Albanese said: “The one thing that we at Rio Tinto have to do [is] a better job at managing is the curse of resource nationalism.”

 

 



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