Top Stories of the Week:
- Australian Minerals Resource Rent Tax finally approved
- The tax on high profits for Australian iron ore and coal projects which led to a change of premier in the country was finally passed by the parliament last week.
- Officials from the mineral rich states of Western Australia and Queensland argued that the taxation should be a state arrangement rather than a federal law
- Many critics expect the MRRT not to bring in the amount of cash the governments expect because of tax management by the largest players and potentially because of lower profit margins as a result of increasing costs.
- Sources: Economist; Wall Street Journal
- Mixed signals on China’s iron ore demand
- In the same week BHP warned that China’s demand for iron ore is slowing down and the Australian state of Western Australia increased its outlook for exports.
- BHP still is bullish about long term demand in China and does not scale down its investment programs. However, in the short term the company ‘’gives caution” demand might drive down iron ore price to $120/t
- Sources: Wall Street Journal; BHP Billiton presentation; Financial Times
- Power struggle for Rusal amidst debt issues
- A new chairman was appointed to the board of Rusal and his predecessor, mr. Vekselberg, made public that the company was struggling with large debt problems and said it had management problems.
- Rusal announced that it would write down a large part of the value of its Norilsk stake in an attempt to restructure its balance sheet.
- Sources: Financial Times 1; Financial Times 2; Lex Video
Trends & Implications:
- Various of the large Russian miners are trying to diversify both in products and geographic presence. Key problems the companies appear to encounter are a clash of management and corporate governance styles between Russia and western investors and large debt burdens in combination with the need to reinvest most or all of free cash flow to modernize or expand.
- Australia basically kicked off a wave of mining taxation overhauls in countries around the world. Given the very large output of coal and iron ore operations in the country the implementation of the MRRT will be the most impactful for the overall profitability of the industry. As many of the new tax regimes are based on progressive operating margin scales and operating margins of most companies are decreasing because of cost inflation, it is questionable if the new regimes will result in the income countries are hoping for in the short term.
©2012 | Wilfred Visser | thebusinessofmining.com
“Russian coal and steel group OAO Mechel’s mining division, Mechel Mining, plans to hold an initial public offering in London this year, two bankers familiar with the matter said. The deal may raise between $3 billion and $4 billion, the first banker said adding the placement will most likely take place in the fourth quarter.
Morgan Stanley will take the lead roles on the deal, the bankers said. ‘It’s one of half a dozen Russian deals due out of the blocks in the fall,’ the first banker said. A handful of Russian deals were withdrawn from marketing in London in the first half of the year, after investors pushed back on price and amid volatile markets.”
Source: Wall Street Journal, June 3 2011
- Mechel’s mining segment includes: Southern Kuzbass Coal Company, Yakutugol, Mechel Bluestone coal company (USA), and the Korshunov Mining Plant. In 2010 Mechel’s plants produced 21.6mln tonnes of coal and 4.2 mln tonnes of iron ore concentrate and 3.8mln tonnes of coke.
- Mechel announced the intention to bring the Mining division to the stock exchange in November 2010, still doubting between London, New York, and Hong Kong. The company itself listed at the end of 2004 in New York.
- Based on a new share offering of 25% of common shares the size of the IPO still will be in the range of $3.3-4.0bln, above earlier expectations.
- The proceeds of the IPO will help Mechel to expand production capacity by developing the Elgo coal deposit and to reduce its gearing. Like many Russian companies Mechel is facing high debt costs while and at the same time needs to invest heavily. This combination of issues drives many Russian companies to an IPO this year.
©2011 | Wilfred Visser | thebusinessofmining.com
“Polyus Gold, Russia’s largest gold producer, is poised to come to the London market after a long-delayed merger with Kazakhgold appeared resolved on Friday. The deal, which carries a nominal share-swap value of $13.1bn (£8bn), would create the largest gold miner on the London market in production terms.
Polyus, which has controlled Kazakhgold since 2009, proposed a reverse takeover last year. Polyus was to be bought by its smaller, majority-owned subsidiary, in order to gain access to Kazakhgold’s London listing.”
Source: Financial Times, June 18 2011
- Polyus Gold reached gold production of 1.4Moz last year, which is over 20% of total Russian production and close to 2% of global production. The company operates 9 mines and has 2 development projects at present. Reserves of 78Moz place the company among the gold miners with the largest potential globally.
- Polyus will get access to the London Stock Exchange by merging with Kazakhgold, which already is listed in London.
- The deal is an example of the trend of Russian miners pursuing a listing on western stock markets (especially London) to enable western investors to invest and make it easier to raise capital for the range of development projects to be undertaken in Russia.
- Secondary reason to pursue a London listing mentioned by Polyus is the potential for ‘acquisition and consolidation in the industry’, as the listing makes it easier to execute both share-based and cash execute. As Polyus currently is not sitting on a huge war-chest the company will likely stick to organic growth and small acquisitions financed share issuance. Furthermore the company could look around for potential international buyers.
©2011 | Wilfred Visser | thebusinessofmining.com
Although Russia accounts for about 14% of global mining, most professionals in the industry know very little about Russian mining. Apart from a few large steel companies most large Russian mining firms are unknown in the market, and few people could name the most important Russian mines or mining districts. However, driven by the huge potential of its reserves and the modernization of its industry the country is slowly gaining a more prominent position on the international mining stage.
This article explores the current situation of the Russian mining industry and identifies two key trends that will shape it in the next decade: a struggle for competitiveness; and internationalization of the key players.
Russia’s Reserves & Production
Russia has been blessed with a large variety of mineral reserves across the country. The peninsulas in the northwest, the Ural mountains, Siberia, and the Far East all house important mining districts. Crucial inputs for economic development, like iron ore and coal, are abundant. The country holds 15-20% of the world’s reserves for these resources. The country’s position in reserves of gold and diamonds is very strong too. For a few minerals with only a small global market, like palladium and magnesium compounds, the country even has the potential of dominating the market. The most important observation when comparing the share of world reserves and the share of current global production is that for almost all key minerals the share of reserves exceeds the share of production (See Figure 1). In other words; it is likely that Russia will become more important in the global mining industry.
Current production in the country is more than sufficient to satisfy domestic demand, making Russia a net exporter of mineral goods. The country’s net export balance for ores, slag & ash was $1.3bln and for iron & steel over $14bln in 2010 (Source: ITC), with China being the largest trade partner for ores and Italy being the primary (initial) destination of Russian iron & steel.
Balancing domestic supply and demand
Russia is growing, and mining is needed to fuel this growth. Russian annual GDP growth varied from 4.7% to 8.1% in the period 2001-2008, outpacing growth in the western world (Figure 2). The economic crisis has hit Russia hard, making the economy shrink by almost 8% in 2009; recovering by 3.8% in 2010. However, growth is expected to outpace western growth in the coming years.
As a result of the high growth of the domestic economy, various industry development could take shape. If productivity increases, the potential of Russian reserves will enable a combination of exports and domestic sales, enabling rapid growth. However, if the Russian companies do not succeed in significantly increasing capacity, productivity will be too low to support both domestic and foreign growth. In this case export restrictions to protect the national growth could be instituted.
The structure of Russia’s current mining production is largely shaped in the Soviet period. Mining districts were set up to provide the country with mineral self-sufficiency decades ago. After privatization in the ‘90s most of the state owned assets have been combined in the current private companies. The privatization and the poor financial situation of the Russian government at the time has led to a typical characteristic of the Russian mining industry: the importance of tycoons. Many private companies are owned and controlled by one or a few founders. These founders were at the right place at the right time and knew the right people at the time of privatization. Their position has further been strengthened by the government’s desperate need for funds, resulting in large amounts of debt being issued to the tycoons.
Whereas company owners in the rest of the world typically try to gain control over companies via the stock market, the large ownership stakes held by the tycoons in Russia lead to frequent power struggles among major shareholders. The struggle for control over Norilsk Nickel is the most recent example: Interros, controlled by Vladimir Potanin, and Rusal, controlled by Deripaska,both try to gain the majority in the board of Norilsk Nickel, one of the world’s largest suppliers of nickel and copper. In the last years the power struggles have led to the emergence of clear domestic champions for most of the key commodities: Rusal for aluminium; Norilsk Nickel for nickel and copper; Suek and Mechel for coal; Alrosa for diamonds; TVEL for uranium, etc. For steel and gold the landscape is (and probably will stay) more fragmented.
“Rio Tinto is planning a push into Russian diamond mining, eyeing a tie-up with Alrosa, the state-owned miner, as the global industry looks ahead to rising demand from China amid tight supply constraints. Rio is understood to be a final contender to form a partnership with Alrosa to develop a large deposit near the northern port of Archangel, according to diamond market insiders.
The company declined to comment on its intentions or on wider reports that Tom Albanese, chief executive, had travelled repeatedly over the past year to Russia, a country where Rio has no operations. Rio makes the bulk of its profits from iron ore but it is also a significant diamond miner, producing 13.8m carats last year, compared with De Beers’ 33m and Alrosa’s 34.3m. Alrosa exceeded De Beers’ production for a second year.”
Source: Financial Times, March 20 2011
- Rio Tinto mined 13.8m carats last year in its Diavik and Argyle mines, the lowest volume in over 5 years. Relative importance of diamonds in Rio Tinto’s portfolio has decreased from over 20% of EBITDA 10 years ago to only some 2% now.
- Argyle and Diavik have approximately similar proved reserves, but probable reserves for Argyle are much higher than for Diavik. Additionally the company has some low grade probable reserves in Murowa (Zimbabwe) and an ongoing feasibility study in India (Bunder). Total recoverable reserves at end of 2010 stands at 206mln carats. In the last annual report the company listed the search for opportunities for inorganic growth in Diamonds and Minerals as key priority.
- Alrosa is facing high levels of investment to increase production in challenging arctic underground mining conditions. Because of low cash flow from operations it has to look to financial markets (IPO) and partnerships to secure funds for capital expenditure.
- Teaming up with Rio Tinto gives Alrosa not only access to development capital, but also to the extensive knowledge Rio Tinto has gained by operating Diavik’s mine in Northern Canada. However, Rio Tinto will not step into a partnership with a state-controlled Russian company without getting strong commitments to secure its returns.
©2011 | Wilfred Visser | thebusinessofmining.com
“Alrosa, De Beers’ Russian rival, is considering a stock market flotation in 2012 in a move that would open the traditionally closed diamond industry to outside investors. Alrosa, controlled by Russia’s federal and regional governments, has long been the second-largest producer of diamonds behind De Beers. In 2009 the two companies mined half of the world’s diamonds, measured by carat volume. Both are private, limiting opportunities for investors in a commodity that is expected to face a supply crunch in coming years.
Fyodor Andreev, Alrosa’s chief executive, has said this would change next year. The Siberia-based miner is converting itself from a closed to an open joint stock company – or from a ZAO to an OAO in Russian corporate terminology. This will allow outside investors to buy new shares and relax ownership restrictions on the tightly-held miner.”
- Alrosa is currently owned by federal and regional governments. It operates mines in Russia and Angola, accounting for 25% of global carat production and 97% of the Russian production.
- Total equity value of the company is highly uncertain, making an IPO a high-risk way of raising money. Company profit over 2009 was approx. $110mln, while loss over 2008 was approx. $1bln. The company income appears to suffer from very high cost of debt, with interest rate on interest bearing debt at approx. 13%.
- Alrosa will need considerable amounts of cash to be able to move to underground mining in various mines in Siberia. As the governments are not able to provide the money required for this expansion, they are forced to open up the shareholding structure to attract capital from the market.
- Although the ownership of the company will be loosened, it is unlikely the free floating shares will be a major part of the total company ownership. However, the redistribution of government ownership might cause internal struggles: the federal government currently holds just over 50% of the shares, which would be diluted to below 50% after an IPO.
©2010 | Wilfred Visser | thebusinessofmining.com
“Russia’s ARMZ Uranium Holding Co. agreed to acquire Australia’s Mantra Resources Ltd. for about 1.16 billion Australian dollars (US$1.15 billion) in its ongoing bid to acquire low-cost sources of uranium for its parent company, State Atomic Energy Corp., Russia’s largest utility.
At the same time, ARMZ entered an option agreement to flip Mantra to Vancouver-based Uranium One Inc., for the same price it paid. ARMZ agreed to acquire a 51% stake in Uranium One earlier this year, establishing Uranium One as ARMZ’s platform to acquire additional uranium sources for State Atomic Energy. “
- Canadian miner Uranium One is controlled by ARMZ, which in turn is controlled by State Atomic Energy (or Rosatom), the Russian utility that controls 17% of the world’s nuclear fuel production.
- Uranium One operates 3 mines in Kazakhstan, with an additional development project in the country, and various exploration projects and an In Situ Leach mine in the United States.
- Rosatom is attempting to secure access to uranium ore as global demand is expected to increase strongly over the next decade. The company is smartly using Uranium One, with its proven mining and processing experience, as a vehicle to produce.
- Depending on the success of international climate change conventions and the approach to small-scale nuclear energy in these conventions the exploration of uranium deposits might experience a surge. However, as uranium deposits typically have a very different geological composition than gold deposits it will not be easy for the many small gold exploration companies to switch to uranium.
©2010 | Wilfred Visser | thebusinessofmining.com