Dec '13/Jan '14

Finance

Help the public sector see the common value of mining development

By Mauro Chiesa

Today, governments and mining projects are in difficult situations. Economic and demographic forces are pushing governments to pursue regional economic diversification and increased revenue. Mine developments, especially when they are remote, require major investments in infrastructure, and once complete they also face higher taxes and royalties.

For these reasons, a mining company must advance its financial model to include and highlight the public sector’s cost-benefits related to its project if it wishes to have the public sector participate in, and ultimately support, the mine. This may be achieved with a model that includes a separate schedule for the costs and benefits associated with the public sector and with each strategic option being considered. The public sector’s role and benefits from a project can be huge: it is a de facto partner with numerous roles that can assure long-term project sustainability.

Most important are the royalty and tax structures that may no longer reflect a balanced risk-sharing approach and could require amendments. Ontario’s mining tax codes, for instance, date back to the 1930s and provide a tax rate of five per cent for hinterland developments – versus 10 per cent for non-­hinterland developments – even though the increased infrastructure costs are much higher than that. The inclusion of a simple variable in the financial model can highlight this issue.

Additionally, the mining project is seen as a viable infrastructure client by many emerging economies, where it is a precious base-load client paying full tariffs or carrying full costs. The opportunity for co-generating or pooling of the power, water, telephone or transport infrastructure with the surrounding region is often overlooked.

A remote mine requires its own infrastructure and this can involve numerous systems bundled into one footprint or perhaps several companies that may wish to use one system. Governments welcome such approaches as they can reduce both capital and process costs and also expedite the interface with the various stakeholders. Such strategic options, however, require financial modelling by the mining company to demonstrate the benefits and costs, not to mention the fiscal issues.

Projects in frontier locations often bring economic benefits beyond what the project offers: they keep the region better employed and guard against the cost and risk of social migration from rural to urban regions. Yet, the calculation of such indirect benefits or costs is seldom included in a company’s presentation to governments.

Mining companies also contribute to social infrastructure. In countries like the Democratic Republic of Congo, Indonesia and Mexico, the inclusion of schools and clinics with internationally qualified staff enhances the project area, acting as a magnet for local, technically qualified professionals, thus attracting families to the region and reducing the need for expatriates. With new projects now offering initial life of mines of 40 years or more, training becomes essential. The public sector can share such costs because it ensures a strong local workforce, provided the mining company can guarantee the training meets international standards.

Lastly, there is the cost of inflation in the project’s capital budget as the permitting process is lengthened. Stakeholder groups are showing up at panels armed with bundles of information, and governments become more cautious at this stage of development. At the same time, mining companies deal with their own issues associated with drawn out permitting processes and the risk-averse capital market. Compounding these problems are strategies mining companies take to address this process, which often backfire. One company placed long-lead orders thinking it would force approvals. Another said the approach recommended was the “only choice.” Both approaches only attracted new detractors. Permitting process timelines should therefore become a variable in a mining company’s financial model.

Canada’s credibility in mining is strong, and we could lead by example, yet our industry has not generated many of the variables for a financial model that go beyond the immediate benefits of a project. Such inclusion would enhance the economic assessment of a proposed mining project for both sides. This is essential as the increased scrutiny that any project now encounters – be it from public stakeholders, government or shareholders – increases the costs and the risks. It may also be time to establish a strategic relationship with an independent think-tank to generate many of the variables that the new financial model requires.


Mauro Chiesa has 33 years of experience in financing and advising extractive and infrastructure projects, including multinational banks in New York, the World Bank Group in Washington, D.C. and EDC in Ottawa.

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