Wednesday, February 18, 2009

Balance of power shifts from African governments to investors


The balance of bargaining power between resources companies and African governments was shifting in favour of investors in the wake of the recent collapse in commodity prices. But Control Risks sub-Saharan Africa analyst Christopher Melville counselled on Monday that companies should exercise restraint when seeking to push home their enhanced position.

Speaking at a briefing in Johannesburg, he suggested that in the absence of such temperance, foreign investors would run the risk of a backlash once economic conditions began to change and prices started to rise again on the back of strong underlying demand fundamentals.

“We expect emerging market demand, particularly from China and India, to return, as the fundamentals remain in place and will kick-in again,” Melville argued.

He even suggested that, given the current depletion of stocks and the pullback on a number of African projects, there was a good possibility that significant bottlenecks in the commodity pipeline could re-emerge as early as 2010.

“Some thought should, therefore, be given to what is likely to happen when commodity prices increase again, possibly quite rapidly, and possibly as early as the end of this year.”

But for the time being, the spectre of ‘resources nationalism’, which dominated the headlines in 2008, as prices for a range of commodities reached record levels, had definitely retreated.

“In recent years, record prices for Africa’s commodities, in particular its mineral resources, have tended to shift the balance of bargaining power away from investors and towards host governments.

“African governments have come to make increasingly strong demands for benefits from the perceived mineral windfalls, which resulted in efforts across the continent, to increase taxes, change regulatory regimes, demand greater infrastructural development and to renew contracts, particularly those signed in a low-price environment,” Melville summarised.

The balance was now shifting to investors, particularly those less dependent on financial markets, such as Chinese mining companies.

“The distress of many junior mining companies also means that acquisition opportunities for companies with strong balance sheets and strong government relations are like to be abundant,” Melville averred.

Already, there have been two significant deals involving Chinese companies. The first saw State-owned Chinalco and Rio Tinto announce a possible transaction worth nearly $20-billion. The deal could see the Chinese group pay $12,3-billion for stakes in key Rio assets and $7,2-billion for convertible notes, potentially doubling its equity stake in Rio to 18%.

In the second, it was announced that Oz Minerals, of Australia, had entered into an agreement with the Minmetals Nonferrous Metals Company through which is could sell all its outstanding shares to the Chinese company in a deal worth about A$2,6-billion.

Nevertheless, Melville also warned that a plethora of new risks, particularly associated with issues of community relations, would also emerge for mining investors in Africa during 2009.

The economic slowdown was resulting in higher levels of unemployment and falling incomes in many commodity-dependent countries, which could, in Melville’s view, lead to new social unrest and the rise of popular opposition.

The risk of such opposition to mining companies could be particularly acute in those countries where popular expectations of rapid development as a result of Africa’s record growth over recent years “had been stoked by irresponsible rulers”.

There was also a particular risk that governments would lean heavily on low margin operators to continue to contribute to local development and employment even though it had become far less economically viable to do so.

“We believe the pattern of risk will change, with an alleviation of government-level risk, towards an intensification of community-level risks,” Melville explained.

He also suggested that companies needed to begin preparing for the eventual recovery in the cycle by improving the relative competitiveness of their projects.

Many promising commodity developments were in abeyance, owing to financial constraints and demand concerns, and Melville asserted that developers should use this period to improve risk-management protocols around those projects.

“Companies must be able to demonstrate to the multilateral funding agencies, or commercial funders when liquidity starts to return, that risks are being mitigated, particularly those related to community relations and other operational matters,” he concluded.