Change with the times: Countries around the world are revisiting the rules they apply to the mining sector

Over the past few years, with commodity prices spiralling ever higher and minerals like gold reaching record levels, many host governments have felt that they were missing out on potential windfalls from their extractive industries – much needed in an era of global belt-tightening. Among conditions of economic uncertainty, the mining sector – on the back of unprecedented profits during the commodity-boom years leading up to 2008 – has emerged as a prime candidate for resource-endowed nations to try to capture additional revenue. Gabon is no exception, and a new regulatory code is in the works to strengthen local content and value, including new contributions to dedicated state funds and an increase in domestic processing (see analysis).

These moves have been met with some concern, given the fiscal burden that they represent. At the same time, the reforms are very much in line with the efforts of governments in other major mining countries, from Peru to Canada to Indonesia. In fact, Gabon’s moves are relatively sanguine compared to some regulatory regimes, such as that recently enacted in Australia.

A LARGER SHARE: According to the UN Industrial Development Organisation, over the sustained commodities boom that took place between 2002 and 2008 – driven largely by increased consumption from Asia – revenues for the world’s 40 largest private sector mining firms rose by a remarkable 357%.

Over this same period, while some countries were able to benefit from this windfall through strong tax regimes linked to financial performance, others that had entered into long-term concessions with fixed royalty terms began to view themselves as being in an unfavourable position. These countries typically responded by amending their mining codes to introduce additional taxation, local ownership and beneficiation requirements. Ghana, for example, had rolled out a generous framework in the 1980s, based in part on the World Bank’s recommendations, to incentivise investment into what was then a sector in decline.

Similarly, there is a clear need for countries to more effectively oversee the sector so that benefits are able to enrich the lives of local communities and the population as a whole, rather than a few local elites. Recent moves by Peru, for example, to introduce policies that formalise informal mining employees and redistribute royalties at the local level have been applauded by non-governmental organisations, industry watchdogs and the private sector. In South Africa, producers must meet certain affirmative action requirements for ownership.

The sector’s growth, however, is not a permanent trend and prices have begun to soften, which impacts the scope of activity for miners. According to the Fraser Institute, a think tank that publishes an annual “Survey of Mining Companies”, only 46% of respondents plan to increase their exploration budgets for 2013, down from 68% in 2012 and 82% in 2011. More than half of those surveyed indicated that they expected only moderate price increases (less than 10%) or reduced prices for silver, copper, diamonds, coal, zinc, nickel, potash and platinum over the next two years.

MARGINS: The consensus is that the slowdown facing the industry will not last forever, and that growth rates will strengthen significantly by the end of the decade. However, it is also believed that this recovery will come amid higher overall costs, as current deposits mature and input prices jump. A survey of the world’s top 40 mining companies conducted by PwC showed net profits fell by 49% in 2012, with the report stating that, “with the structural change in the cost base that has occurred, moderate price increases will not be enough to claw back lost margin.”

Between December 2012 and February 2013, accounting firm BDO conducted a survey with 130 senior financial executives representing mining companies from the UK, Australia, the US, Canada and South Africa. Focusing on the perceived challenges and opportunities their companies faced, 44% of respondents cited “global economic disruption” as the top risk. This was followed by “environmental and regulatory issues” and “geopolitical unrest” at 18% each.

Professional services firm Grant Thornton, in its annual 2013 international mining survey that included 389 mining executives in Australia, Canada, South Africa and the UK, found that 44% of participants reported “access to funding” as the top constraint limiting their business expansion. This was followed by “increased government involvement and/or regulation”, which was identified by 42% of respondents. Other limiting factors included: “permitting/licensing procedures” with 36%; “volatility of commodity prices” (34%); and “operating costs” (26%).

While market conditions and financial constraints were the top rated risks and concerns, respectively, the prominence of regulatory and policy issues highlight the increasing impact that changes in legal and fiscal frameworks are having on miners worldwide.

HIGHER TAXES: Perhaps the most noticeable trend in the wave of regulatory revisions is the push to increase the share of tax and fee revenues that governments receive. Gabon’s requirements for increased contributions to dedicated state funds are, in terms of the severity of the rise, fairly mild by international standards. One of the more aggressive new tax schemes, and in turn most closely observed, is Australia’s Minerals Resource Rent Tax (MRRT), which was enacted in July 2012 and imposes a 30% tax levy on iron ore and coal projects for companies with annual profits exceeding $75m. As of August 2013, a full year since the passage of the act, only A$800m ($881.36m) in taxes has been collected, well below the A$2bn ($2.2bn) that the government projected. Predictions are that the MRRT will raise nearly A$4bn ($4.41bn) less than originally forecast over the next four years, according to PwC.

Because the tax generated from the MMRT is directly linked to profits, the underwhelming returns can be partially attributed to reduced profits for mining companies due to falling iron ore and coal prices – well below the 2008 peak. Dubbed a “super tax”, many other countries, including South Africa, are believed to be considering introducing a similar instrument, and are therefore monitoring the impact of the MRRT closely. In May 2013, Canada’s provincial Quebec government released its own proposal towards a super profit tax of 16-28%, to be applied proportionally to profits falling in the range of 35% to 50%.

According to PwC, another measure being implemented by many jurisdictions is a “ring-fencing rule” relating to how losses can be treated against group profits. Ghana’s 2012 budget statement stipulated, for example, that losses incurred at one mining site can no longer be offset against profits generated from another contract area belonging to the same company in determining corporate income tax.

DOWNSTREAM: There is also a push – often using a mixture of requirements and incentives – to ensure more processing occurs in-country. Many emerging mining economies, lacking an industrial base and technical know-how, face a scenario whereby the majority of their commodities are exported in raw form, with value-added activity being done elsewhere. Gabon’s pending regulatory code currently only has vague provisions for increasing processing in the country, although it does not specify a definition for “processing” nor a figure for how much production must be processed. Other jurisdictions have already rolled out concrete measures, however.

In Indonesia the government placed a 20% tax on the export of 65 minerals in 2012, and there is further talk of banning raw mineral exports entirely by 2014 to encourage miners to build local smelting and manufacturing facilities. Commonly referred to as “beneficiation”, South Africa, Brazil, Indonesia, Vietnam and Zimbabwe each have similar strategies, albeit reliant on incentives, in place to help raise the local economic contribution of their mining sectors.

Rob Davies, South Africa’s minister of trade and industry, cited an example of beneficiation to OBG, explaining that, “We are exporting mineral sands at $400 per tonne; however, we are now supporting a project to convert these sands into titanium alloy, which we will be able to sell at a market value of around $100,000 per tonne and create several thousand jobs. This is value which, at the moment, is being realised in economies outside of the continent.”

Bheki Sibiya, chief executive of the Chamber of Mines of South Africa, agrees that it is in the collective best interest of industry and the government to add value domestically where possible. He cautions, however, that developing local capacity cannot be regulated via a blanket approach, as beneficiation’s economic feasibility depends on the mineral in question and the country’s ability to competitively add value to it. “For some beneficiation, like jewellery assembly, the skill and market access required is not available in South Africa. And assembly rather makes sense for highly populated countries, like India or China, or for highly specialised countries, like Italy. If you force the industry to rush into beneficiation, it will fail.”

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The Report: Gabon 2013

Mining & Industry chapter from The Report: Gabon 2013

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