Elephant in the room

Feb 08 2013 07:29
*Jarred Myers
THE buzzword at this year’s mining indaba in Cape Town has been resource nationalism. The industry is understandably grateful that the elephant in the room has been acknowledged, but the topic is far from dealt with.

Sanity has partially prevailed, with nationalisation being declared a non-starter from any and all government mouthpieces.

This refreshingly bold anti-populist banter is warmly welcome and one of the few bright spots of unilateral resolve from SA leadership.

In a pre-game effort this morning en route to the ICCT, I stopped by at one of Cape Town’s beneficiation success stories, Origins HQ Coffee shop.

My bean brew was greatly enhanced while reading Tito Mbeweni’s comments made on Tuesday. The former reserve bank governor verbalised what we’ve all been thinking for some time - government has too many mouthpieces, and only the president and Minerals Minister Susan Shabangu should voice mining policy opinions.

Shabangu likewise in her address on Tuesday drove this message home. It is comforting to note that the government finally gets it - uncontrolled talking heads cause immense sustainable damage.

This approach to double down on what I like to call juju-ranting, named after cabbage farmer extraordinaire Julius Malema, is the kind of deliberate leadership thinking South Africans need to demand more of.

The ability of these mouthpieces notwithstanding, this is fabulous advice - in fact, the nation's new Madiba,  Dr Mamphela Ramephele, lamented the noise emanating from government and encouraged them to focus on the issues already overwhelming their plate.

There are two fundamentally entwined concepts to unpack in understanding this debate: resource nationalism and non-renewable resources.

As the conversation migrates from nationalisation to resource nationalism, it’s relevant to explain exactly what these terms mean, in order to contextualise the topic and formulate opinions.

There is nothing intrinsically good or bad about any form of resource nationalism.

In theory, government could nationalise an asset outright and pay a premium on market value; they could elicit shareholder delight, retain the entire workforce and continue to deliver profitable growth and infuse cash into state coffers.

In the same vein, government could insist that only local inputs be used for operations requiring wholesale vertical integration, quashing any hopes of profitability.

in various guises

Nationalisation takes various forms:
•  Outright nationalisation
 - Compulsory acquisition of a private company by a government, with or without compensation (e g Venezuela)

•  Nationalisation by stealth
 - Nationalisation of underlying mineral rights (e g South Africa)
 - Mandatory government participation in mining projects (e g Botswana )
 - Creation of a government mining company (e g Chile)

•  Indigenisation
 - A government may require minimum local shareholding in all mining companies (e g Zimbabwe)

•  Increased taxation
 - Corporate income tax (e g India)
 - Super-profit or windfall profit taxes (e g Ghana)
 - Increased royalties (e g Zambia)
 - Resource rent tax (e g Australia)

•  Increased local inputs (e g South Africa)

With an understanding of the various forms of resource nationalism, it is relevant to ask the question: why is this debate specific to resources?

On the face of it, the answer is that since resources cannot be replaced and will not be available for future use, they have a special status.

Without entering into the realms of philosophy, pray tell what difference does this make?

One could argue that since cigarettes deplete lung condition, they are depleting a non-renewable resource and in fact should face additional taxation - oh wait, additional sin taxes do apply.

What emerges from this line of argument is that government is essentially indifferent to resource depletion provided they can extract sufficient rents from the process. If they were concerned for public health, cigarettes would be banned like narcotics, and they are in fact banned only when smuggled - for the crime of not sharing the spoils.

The real reason why resources always have and possibly always will have the sword of nationalism dangling over them is, quite simply, exit barriers.

Resources generally have long time horizons, require heavy upfront investment and take many years to reach profitability, the perfect recipe for regulatory abuse.

Obviously governments are cautious not to slaughter the golden goose, but politicians' priorities are oftentimes rearranged to place short-term greed over long-term need.

Resource nationalism gets tricky when viewed strategically. The conundrum facing regulators is that if they push their levers too hard, they will discourage future investors; if they don’t push them enough, they leave cash on the table.

This is the reason for the proliferation of instruments for resource nationalism, ranging from sneaky state mining companies obtaining lucrative assets to export tariffs forcing extracting companies to beneficiate locally.

The problem, simply stated, is that governments are looking to make a quick buck to the detriment of all other stakeholders. This as it happens is a familiar problem to public companies.

For decades, firms have faced the threat of corporate raiders. Corporate raiders are essentially activist investors, seeking to acquire significant shares in a company allowing them to vote for their desired changes including privatising, spinning off and changing leadership.

There is irony in that the potential solution for nationalism is contained in an instrument designed to ward off privatisation, but essentially the goals are identical: shareholders want to dissuade marauders from taking over their company.

Since their purposes are aligned, it is useful to note the techniques used to thwart corporate raiders and attempt to re-engineer these methods for deployment in the resource nationalism arena.

Poison pills and greenmail

Anti-takeover techniques fall into two broad categories: poison pills and greenmail.

Greenmail - as the name suggests - is kind of like blackmail; it is the practice of purchasing enough shares in a firm to threaten a takeover, thereby forcing the target firm to buy those shares back at a premium in order to suspend the takeover.

This isn’t particularly relevant to resource nationalism since the government is unlikely to be assuaged by a partial pay-off when it has the power to take everything; at best this would provide an interim solution.

Poison pills - broadly speaking - are mechanisms triggered by an attempted hostile takeover, which lead to a rapid significant drop in shareholder value with the intention of making the acquisition target as unattractive as possible.

Describing the attempted hostile takeover of Yahoo!, one Microsoft executive commented: "They are going to burn the furniture if we go hostile. They are going to destroy the place."

For practical reasons this is not the most endearing strategy to company boards, since they are custodians of shareholder interests and malicious destruction of assets only to prevent nationalisation doesn’t fit their fiduciary duties.

That being said, there is industry precedent for this in the Democratic Republic of Congo.

A mine had irreconcilable differences with the state, which led it to practically rape the resources through unsustainable mining practices in an effort to maximise extraction in a short period before being booted out of the country and surrendering its assets.

A more applicable form of poison pill is the lesser-known wrecking amendment. Essentially, this is an amendment made by a legislator who wants to sabotage a bill by including changes which make it nonsensical, thereby discouraging even its backers to vote in favour of it.

In our context of resource nationalism, this would constitute a strong disincentive to government to take over assets. Despite its attractiveness, this punishment mechanism does not seem all that practical since it’s unclear what would spook a recalcitrant government.

In theory, a fitting punishment would be an embargo on ill-gotten resources which would preclude government actualising any revenues against their nationalised assets.

If the sole buyer were the US or a member of the European Union, this would be tenable. But in the modern reality where resources generally flow towards emerging titans such as China and India, enforcement would be futile and costly.

A more palatable solution however also lies in the corporate realm, not in the area of hostile takeovers but rather that of employment termination.

Golden handcuffs

Golden handcuffs, as it happens, are quite relevant to gold mining (or any other mining for that matter). The term refers to an agreement between a company and an employee, where the employee will receive significant benefits if employment is terminated.

At first this seems delusionary; governments nationalising resources are most likely not going to honour agreements requiring them to pay hefty penalties for tossing out mining companies.

The solution however lies not in expecting states to cough up the cash, but rather in requiring governments to obtain third-party nationalism insurance for mining companies.

Absurd as this seems at first, the concept addresses all the pertinent issues.

Comprehensive nationalism insurance would cover only blatant nationalism in any demonstrable form. It would be coupled with the country’s sovereign debt risk profile, making pricing relatively straightforward.

It would trigger an avalanche of foreign direct investment - most of it from yield-starved developed nations to debt-starved developing nations - and it would enable miners to get on with digging rocks out of the ground without dealing with the real hard stuff, the task of political monkeying.

 - Fin24

*Jarred Myers is a resources strategist and can be followed on Twitter on @JarredMyers. Opinions expressed are his own.

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jarred myers  |  sa economy  |  mining indaba  |  mining



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