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17 December 2020
The current and near-future global risk landscape is particularly challenging to assess and navigate. It is volatile and multi-faceted, with many of the risks intersectional and in continual flux. In times such as these, considerations of agility, resilience and risk mitigation – in particular, disputes risk mitigation – must feature high on every corporate agenda.
Looking back on 2020, it is clearly the point at which volatility became the new normal globally. Significant events have affected almost every major financial market and sector worldwide, including:
The unstoppable march of automation and digitalisation has continued at pace; indeed, it has been propelled forward in 2020, leading to a fundamental reshaping of many workforces and industries, including the mining sector. However, there are few indicators that the end of 2020 will bring a reprieve. The impact of recent events will be felt for many years, with many leading commentators still warning of a downturn in all major economies and a rise in corporate insolvencies. Meanwhile, other significant geopolitical and macroeconomic risks are forecast for the near future. Some, such as climate change, are predicted to bring disruption on an equal if not greater global scale than the COVID-19 pandemic. Indeed, disruption arising out of climate-related physical risks and transition risks (in particular, the energy transition) is already evident and the impact on the global financial markets and industries are expected to increase exponentially in the coming years.
Mining has certain intrinsic elements which further compound the complexity and variability of the sector's risk landscape. Mining is one of few essential sectors with a significant global footprint, including by way of:
Mining investments are always capital intensive, long term and heavily regulated and invariably involve state or state-owned entities.
In addition, they are frequently based in emerging or challenging foreign markets and in remote and physically challenging locations.
Mining investments also involve enormously valuable physical assets which are often of strategic national value to the host state and economically and politically important to local communities. There are significant political and country-specific risks and, accordingly, economic risks.
As such, it is difficult to offer an accurate one-size-fits-all global assessment of risks for mining companies or investors. However, a review of mining sector risk reports produced in 2020 by leading analysts (eg, Ernst & Young (EY), PricewaterhouseCoopers (PwC), KPMG, Deloitte and McKinsey) indicates numerous general sector trends.
Mining is, by its nature, extremely vulnerable to political and regulatory risk; that risk is often not solely in respect of captive local operations and assets but permeates the value chain. Geopolitical and macroeconomic risks faced by the sector include:
Such risks have led to:
Indeed, EY's mining and metals report indicated a clear protectionist trend with 58% of respondents expecting governments to increase royalties and taxes after the COVID-19 pandemic.
From a financial perspective, commodity price risks remain a key concern for miners, along with currency and credit risk. There are also related risks arising out of insurance market conditions (from a buyer's perspective) which can affect financing.
The pandemic has been a major concern. According to a McKinsey August 2020 survey of mining executives, COVID-19 has significantly affected mining operations, with 75% of those surveyed reporting moderate disruption and 65% expecting fundamental changes to their operational models. It also reported that on average, the pandemic triggered a 42% decrease in production, attributable to a reduction in demand and the impact on workforce availability.
Notwithstanding this, the mining sector has not been hit as hard as other sectors. According to PwC's June 2020 mining report, this is owing to the mining sector having come out of 2019 in a relatively stable financial position, combined with the fact that many miners have been able to continue operations during the pandemic – albeit with precautions in place. In part, this is due to robust existing safety protocols that facilitated the swift adaptations needed to minimise outbreaks of COVID-19, combined with a willingness to embrace remote working and autonomous systems. The impact of the pandemic on commodities prices has been more varied, with some up, some stable and others down. Gold and silver retained their status as safe havens. China's swift economic rebound has kept up demand for iron ore, but this is potentially more volatile. Demand for copper and battery minerals is being driven by the demand for telecoms and renewables (it may be that the oversupply of lithium is being corrected). Yet, there is concern that future disruption could see this change fast. However, overall, PwC predicts a "relatively moderate" outlook for the sector.
Despite this, there have been lessons for the mining sector as a result of the pandemic. Like most sectors, mines need to take a hard look at their critical supply chains, customer base and transient workforce in order to achieve, on the one hand, more global diversification and, on the other hand, greater localisation. This will inevitably lead to new contractual counterparties and markets, as well as an assessment of existing contracts. Miners are also reassessing the viability of just-in-time and lean production methods to minimise the impact of future supply chain disruption on operations. Businesses and sectors reliant on mining commodities are likewise making similar assessments and adaptations to their supply chains.
Mining companies have embraced the role of technology. Further investment in innovation and disruptive technology is seen as a key strategy for:
However, there are risks associated with innovative processes and technologies. Cybersecurity is an obvious risk given that greater automation and use of digital technology makes mining companies more vulnerable to cyberattacks – and in the mining context that could mean matters of life or death. There are also inherent risks associated with implementing novel processes or technologies, many of which are evolving faster than corresponding laws or regulations, which can lead to unpredictability as to allocation of legal liability. Such projects often also involve partnerships or joint ventures with non-mining counterparties and in non-mining sectors, which also means inherently greater risk than traditional transactions and projects which travel well-trodden roads for miners. There are also equally pressing practical concerns, such as how to ensure a technologically skilled workforce or manage related community stakeholder issues arising out of the changing ways of working and the impact on traditional workforces.
Climate change is another key risk for the mining sector and an area where investment is needed. Mines are particularly exposed to the physical risks of climate change (including changing climactic conditions and more frequent and extreme weather events), given that mining operations are often:
Mines are also exposed to the transition risks of climate change. As significant contributors of greenhouse gasses, they are under increasing social, political and regulatory pressure to disclose emissions (potentially along the entire value chain), divest from carbon-intensive assets and transition to lower-emission and more sustainable operations. Proposed new investments face significant social, political and regulatory scrutiny by governments, investors and local communities on climate change grounds.
Managing or mitigating these physical and transition risks will require comprehensive risk analysis combined with investment in new or improvements to existing infrastructure and processes. Digital and technological innovation, including AI, the Internet-of-Things and data analytics, are again expected to play a significant role.
Mines and investors are also exposed to legal and regulatory risks relating to climate change. This category of climate-related risk is on the rise globally as governments implement new legislation or regulatory change to:
In many instances, such issues are also being fought out before national courts or international tribunals. As a result, in the past decade, there has been an enormous global surge in such cases. Activism more broadly, including shareholder activism, relating to climate change or other environmental, social and corporate governance (ESG) issues is widespread, and targets of activism and litigation have expanded from governments and oil and gas companies to other significant emitters, as well as those that facilitate carbon-intensive industries (eg, banks, investment and trading houses, insurers and pension funds). With those sectors facing their own significant pressure to divest and transition to lower-risk and lower-emission investments, it has affected access to finance and insurance.
Regulatory and legal risk is an area that requires regular monitoring and attention, particularly for global companies, given that there is no common regime globally, and in each region this area of law is developing and in flux.
Paradoxically, climate change also presents significant opportunities for the mining sector. The energy transition will be mineral intensive. Billions of tons of metals and minerals will be needed to develop and produce clean or green technologies. According to the World Bank report on Minerals for Climate Action: The Mineral Intensity of the Clean Energy Transition, demand for the following minerals is expected to grow by up to 500% by 2050:
Related to climate change risk, there is a continued focus on broader ESG issues, including modern slavery, along the entire supply chain. Increasingly, there is a close link between ESG and raising capital, with ESG requirements becoming more stringent and greater pressure being placed on disclosure and reporting. Likewise, social licence to operate and indigenous rights remain a hot topic. Ignoring these issues (whether through systemic failures of governance or just failure to take sufficient account) can have disastrous consequences, with both C-suite and reputation taking a major hit, as well as potential legal or regulatory proceedings.
Increased participation of non-mining companies
Developments such as the energy transition and digitalisation are also bringing new players into the mining sector. Non-mining companies have started to participate more directly in the industry, as participants in novel joint ventures or other arrangements (eg, those seen in renewable power arrangements) or as investors seeking to increase control or even take ownership over the production of minerals needed for their primary business. Businesses reliant on mining for materials are also looking to directly or indirectly influence the mining sector and even transfer risk as they themselves face pressure – for example, to demonstrate sustainable supply chains.
An example of the rising involvement of non-mining companies is Tesla officially entering the mining sector in September 2020, when it announced its lithium claim on 10,000 acres in Nevada and the development of its own lithium extraction and processing method. Reportedly, this lithium would be enough to support electrification of Tesla's entire US fleet. It would also achieve another goal of localising its cathode supply chain and production as well as reducing the miles travelled by materials used in production. Weeks prior to entering the mining sector, Elon Musk promised a "giant contract for a long period of time if you mine nickel efficiently and in an environmentally sensitive way".
Such participation – and indeed competition – from companies that traditionally have not operated in the mining sector will inevitably lead to change to business practices and may even shape the industry's future.
Future of mining industry
More generally, the traditional mining model is seen as increasingly difficult to maintain. There has been a push towards new business models, including strategic partnerships, private equity and public private partnerships. This shift is likely to continue to play out in coming years. Appetite for major deals remains low (this may be understandable given the post-pandemic environment) but there remains an expectation of some new M&A activity, including potential consolidations and mergers of small to mid-market players which might not have weathered recent volatility as well as the largest players, plus diversifications and divestments. There is also likely to be an increase in joint ventures, partnerships or strategic alliances, both within the industry and with new players in the sector.
There remain concerns around capital, including liquidity. Growth will require investment, yet access to traditional sources of debt and equity capital is deteriorating. This is leading to alternative financing arrangements, such as streaming contracts, becoming more mainstream. In parallel, there is a focus on controlling capital expenditure and operational costs. However, this comes at a time when there are competing pressures to invest in infrastructure essential to continue operations, ensure resilience and deliver productivity and efficiency gains.
Disputes risk considerations must be a keystone of any risk assessment – as history shows, volatility almost inevitability leads to a surge in commercial disputes and, in a tumultuous environment, there is a greater risk of such disputes becoming 'bet the company' concerns.
There are numerous categories of dispute in the mining sector that are on the rise or anticipated to rise.
Disputes with states and state-owned entities
The trend towards resource nationalism is a key threat in this regard, as are fluctuating regulatory and judicial responses to evolving macroeconomic threats such as climate change, ESG issues and the COVID-19 pandemic. Disputes with states commonly manifest in the context of licensing, permitting or regulatory changes (including taxation or tariffs), as well as conduct such as direct or indirect expropriation of assets. As discussed above, many in the sector are concerned about protectionist governmental responses to improve the post-pandemic economy, such as changes to resource tax or royalties policies.
To mitigate this risk, mines and investors need to focus at the outset of a project on embedding mechanisms to manage or transfer political risk. This may include contractual mechanisms such as stabilisation clauses or material adverse change clauses. Another key tool in the investors' toolkit is foreign investment treaty protections. If structured appropriately at the outset, an investment made by a foreign investor in a host state may benefit from additional protections found in bilateral or multilateral investment treaties or sometimes in free trade agreements such as the North American Free Trade Agreement. Frequently, such treaties afford investors greater substantive protections of their assets than might otherwise be available under domestic law or under contract. Common substantive treaty protections include:
What gives these protections substance is that such treaties also often contain investor-state dispute settlement provisions. These commonly provide that the foreign investor has the right to bring proceedings against the host state directly in a neutral forum should the state breach its treaty obligations. This is a powerful avenue of recourse for investors. Without such rights, they may have little to no recourse for state conduct before the local courts. That would mean that the only other recourse would be state-to-state diplomacy, something that is not always available, effective or appropriate (given that it politicises an otherwise commercial dispute).
The dispute resolution mechanism provided for in investment treaties is often international arbitration. This allows disputes to be resolved in a neutral forum, before impartial adjudicators and in accordance with transparent rules. Monetary compensation is the most common remedy. However, in certain cases, other remedies, including declaratory relief and restitution, may be available. Interim relief while proceedings are ongoing may also be available, including interlocutory measures to compel or restrain a party from certain conduct (eg, conduct that might aggravate the dispute or render the dispute resolution process nugatory).
Claims relating to the contractual obligations underpinning the various transactions discussed above are on the rise.
The risk of disputes arises in every transaction, but increases where miners are engaging with new contractual counterparties and markets. This risk is compounded where non-traditional players are involved or miners are crossing over into non-mining sectors. This is because the parties' expectations and understanding of sector norms or common commercial practices may not be aligned. For example, there may be less impetus to preserve relationships, which has historically been a hallmark of long-term, capital-intensive mining investments.
Areas of law and regulation that are still in flux, such as climate change and ESG, also complicate matters and raise unique risks. Those breaking new ground in space mining or deep-sea mining also face novel and fluctuating risks and therefore complex disputes. As laws and regulations develop, parties create new contractual mechanisms to allocate risk, or resort to international law principles, to deal with novel issues (eg, how to take security over something, such as a satellite, that would be difficult to recover). Similar issues and potential disputes risks emerge in respect of new ways of working and doing business (eg, the use of drones for virtual due diligence by deal teams in place of site visits).
Along with carefully crafted terms to allocate risk between the parties, a valid and effective dispute resolution clause – tailored to the parties' needs and circumstances – is a crucial risk-mitigation tool. This is because it is often the key to viable legal proceedings. After all, no matter how beautifully crafted, a contract that is unenforceable is not worth the paper on which it is written.
Many mining sector commercial contracts, regardless of subject matter, contain international commercial arbitration agreements. International arbitration has been popular in mining sector contracts for decades, with good reason. The cross-border nature of many mining investments, combined with the involvement of emerging or challenging jurisdictions and state or state-owned counterparties, has meant that many parties prefer to arbitrate disputes privately than risk ending up before local courts. Local courts in many jurisdictions present real risks of:
The ability of parties to select their own specialist arbitrators is also seen as important in mining disputes, particularly as many mining sector disputes involve technical or complex issues. This applies equally to disruptive technology disputes. Confidentiality and the ability to adapt the arbitration procedure to suit the parties' needs is also welcomed; this procedural flexibility has come into its own during the COVID-19 pandemic, allowing parties to progress disputes in arbitration despite a nearly global lockdown that closed or seriously restricted the operation of most courts.
Enforcement of international arbitral awards
However, most frequently, enforcement provides the main impetus for arbitration. International arbitration (unlike litigation) benefits from a straightforward enforcement regime, the New York Convention, that has a nearly global uptake, with some 166 states having ratified it to date. As discussed above, contractual rights are worthless without a means of enforcement, but that should be caveated to say that successful litigation without means of ultimately enforcing the judgment or award against assets is a far worse sin, as it will mean an expensive and time-consuming pyrrhic victory. Although it may sound like something that a character from Alice in Wonderland would say, the end (enforcement) is always where any experienced disputes adviser should begin. That applies whether advising on disputes risk mitigation at the outset of a transaction or dispute management or mitigation after the dispute's onset.
Proactive disputes risk management and assessment
Another key element of proactive disputes risk mitigation (one which is unfortunately too frequently overlooked) is an assessment of where, how and why disputes are arising. This involves a strategic analysis of the factual circumstances and contractual arrangements in which disputes have arisen. Alternatively, in the case of innovative relationships or projects, this involves an analysis (often based on analogous deals) of likely key areas of disputes risk. This assessment can be holistic or focused; for instance, limited to a particular suite of transactions, period or region. Commonly, patterns can be observed which allows for identification of underlying issues and early commercial or strategic intervention to avoid similar disputes in the future. Such disputes risk assessments are critical because too often in the heat of battle or in the relief of the aftermath, the underlying issues that caused a major dispute are forgotten. Similarly, a spate of lower value or less commercially important disputes can slip individually beneath the radar, despite amounting collectively to a significant drain on financial and management resources. The opportunity to identify a common cause underlying those disputes can be missed. In the case of smaller skirmishes, it can also mean missing a red flag that the conditions for a major dispute are forming.
Related to this is the importance of having in place appropriate systems to record disputes and preserve documentary and other evidence from the earliest stages of a dispute. Such systems lead to more efficient and effective dispute resolution proceedings. Importantly, such systems also allow for earlier and more informed decisions as to the appropriate strategy for resolving the dispute and avoiding future disputes.
Investing in the assessment of disputes risk (both at the outset of a deal and in the post-mortem of a dispute) and implementing processes for managing disputes can prove invaluable. In the long run, it can save management time and money and, crucially, preserve important counterparty relationships. With operations and finance under pressure and disputes risk on the rise in the face of global volatility, this is an important component of any risk protocol.
The risk landscape for the global mining sector is volatile and complex, and one that is increasingly challenging to assess and navigate. Given the capital-intensive, long-term projects that are the norm in the mining sector, it has always been important to consider operational and supply chain resilience and risk mitigation. However, these factors are even more crucial in the current environment given the range of significant disruptors that are affecting and will continue to affect not only the mining sector, but also global geopolitical relations, financial markets and businesses in the wake of the COVID-19 pandemic and in coming years. With volatility being the new normal, there will inevitably be an increase in disputes, which will affect miners' finances, management time and counterparty or stakeholder relations. Avoidance and mitigation should be key components of any modern comprehensive risk strategy.
For further information on this topic please contact C Mark Baker or Patrick Aana at Norton Rose Fulbright's Houston office by telephone (+1 713 651 5151) or email (firstname.lastname@example.org or email@example.com). Alternatively, contact Cara Dowling at Norton Rose Fulbright's Vancouver office by telephone (+1 604 687 6575) or email (firstname.lastname@example.org). The Norton Rose Fulbright website can be accessed at www.nortonrosefulbright.com.
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