Win-Win: Codelco and Anglo Make Up

It was a dispute that lasted nearly a year and pitted two of the biggest mining companies in the world against each other. It prompted calls in Chile for resource nationalization and, for a while, triggered a good deal of patriotic tub-thumping from some of the country’s politicians.

But on August 23, Codelco and Anglo American finally reached an agreement to end their dispute over Anglo American Sur (AAS), a lucrative copper mining complex in central Chile. At a ceremony in Santiago to unveil the deal, there were smiles and handshakes all round.

“This is an enormously positive agreement for Chile, for Codelco and for Anglo American,” Codelco’s chairman Gerardo Jofré said in a statement welcoming the deal. “We are all committed to working collaboratively, in a spirit of goodwill, to realize the considerable potential of AAS for the benefit of Chilean jobs and the Chilean economy.”

Two months on, the companies insist they have put the dispute behind them, but there are still some unanswered questions: Will Codelco’s unions kick up a fuss over the deal? Has the dispute tarnished Chile’s reputation as the safest country in Latin America in which to invest? Or, on the contrary, has the amicable out-of-court settlement enhanced Chile’s reputation as a place where business contracts are respected and where the government allows corporate disputes to run their course? More specifically, has the dispute had an impact on British investment in Chile, and on Anglo-Chilean relations?

Everyone’s a winner

The agreement allows everyone to claim victory – not just Codelco and Anglo, but also Japan’s Mitsui and its rival Mitsubishi, both of which were pulled into the conflict late last year.

Anglo retains control of AAS, its prize Chilean asset, but with a reduced stake of 50.1%. Codelco and Mitsui get 29.5% through a new joint venture. Of that, Codelco has 24.5% and Mitsui 5%. Mitsubishi gets the remaining 20.4% of AAS.

But it wasn’t always clear that the outcome would be well-received by all parties. Codelco initially claimed the right to buy 49% of AAS, which was 100% owned by Anglo, under an agreement dating from 1978. When Codelco made it clear in late 2011 that it planned to exercise this option, Anglo sold 24.5% to Mitsubishi in a bid to thwart Codelco.

According to Anglo, this halved the stake in AAS available to Codelco. After negotiations, however, Codelco agreed to relinquish its original claim in exchange for its 24.5% stake at a knock-down price of US$1.7 billion. That represents a huge saving: the estimated market value of the stake was US$5.39 billion – the same amount Mitsubishi was willing to pay.

In addition, Anglo has agreed to give Codelco two copper deposits, Los Leones and Profundo Este, with an estimated combined value of US$400 million. The deposits are high in the Andes Mountains; close to Codelco’s existing Andina mine. As such, they are of interest to Codelco but had little commercial value for Anglo.

Codelco estimates that, in total, the deal will allow it to produce an extra 115,000 tonnes of refined copper a year – some 6% of its 2011 output. That money will go to the Chilean treasury. The restructuring of AAS will generate a further US$1.3 billion in taxes for state coffers.

“With this agreement, the companies involved win, the mining sector wins and the country wins,” said Joaquín Villarino, executive president of Chile’s Mining Council, which groups 16 of the biggest mining companies in the country, including Codelco and Anglo.

What is AAS?

AAS is more than just a copper mine. It is an entire mining complex, with net assets worth US$3.9 billion. The jewel in its crown is Los Bronces, which produced 221,000 tonnes of copper last year, making it the seventh most productive mine in Chile. AAS also includes a smaller mine, El Soldado, plus the Chagres smelter, which processed 138,000 tonnes of copper in 2011. Finally, the complex includes two untapped copper deposits, San Enrique de Monolito and Los Sulfatos, with combined reserves of 2.1 billion tonnes of ore.

Add to that Codelco’s Andina mine, which sits in an adjacent valley, plus the Los Leones and Profundo Este deposits, and the entire area is arguably the most attractive copper ore body in the world.

“The combination of Anglo American, Codelco, Mitsubishi and Mitsui forms a compelling proposition for future investment in the Los Bronces district,” Anglo’s CEO Cynthia Carroll said in August in a statement welcoming the agreement.

But for that potential to be realized, the four companies must work together, which might not always be easy: a Chilean state-owned company, an Anglo-Saxon publically-listed mining giant and two Japanese trading houses – culturally, they make odd bedfellows.

All four firms are party to AAS’ new shareholder pact, announced as part of the deal. Codelco will have representation on the AAS board and a veto over some decisions.

But analysts said they don’t expect the pact to be problematic.

“At the end of the day the companies want the same things: stable and growing production, good operating margins, stable labor relations and good community relations,” said Des Kilalea, a London-based mining analyst at Royal Bank of Canada Capital Markets (RBCCM). “I suspect there will be disagreements from time to time on operational and strategic issues but I can’t see them being major.”

Jay Djemal, director of Latin America Corporates at Fitch Ratings in Chicago, said the involvement of Mitsui and Mitsubishi in a Chilean mining project is not as unusual as it might seem.

“Japanese trading house partners are common throughout Latin America,” he said, citing the examples of Mitsubishi’s investment in Chilean steelmaker CAP and Sumitomo’s holding in Brazilian steelmaker Mineração Usiminas.

Djemal said Mitsui, which has already invested in the Los Pelambres, Collahuasi and Caserones mines in Chile, might also act as “a sizeable off-taker of Codelco’s future copper production, an attractive low-risk benefit for Codelco.”

One of the more intriguing aspects of the agreement is that it gives Mitsui the option of increasing its stake in AAS at Codelco’s expense.

The Japanese company lent Codelco US$1.86 billion to allow the Chilean company to buy its stake in AAS. In theory, Codelco has to repay that loan by 2020. But if it wants to, Mitsui can give Codelco more favorable repayment terms in exchange for a bigger stake in the joint venture.

Mitsui has yet to say whether it will go down that route, and declined to speak to bUSiness Chile for this article.

Djemal said he can see Mitsui exercising the option “in a few years, but it’s unlikely that Mitsui would do so without mutual consent from Codelco.”

Initial furor

When the dispute first arose late last year, it provoked anger in Chile. Some politicians and business people accused Anglo of behaving arrogantly and in bad faith. Opinion polls suggested a rise in nationalist and anti-British sentiment. Some on the political left called for the expropriation of foreign mining assets.

But the furor quickly died down and the long-term impact of the dispute appears to be minimal.

“A couple of big mining multinationals asked us about it when it first broke,” recalled Jon Benjamin, the British Ambassador to Chile. “But they were quickly convinced that the option contract at the heart of the dispute was a one-off, not only in the mining sector but anywhere in the Chilean economy.”

“There’s no evidence to suggest that any British company has been put off investing in Chile as a result of this episode.”

Benjamin said the British and Chilean governments worked hard to quell the initial nationalist uproar. “We tried to focus the debate on this being a commercial, contractual dispute between two companies rather than an issue between the two countries,” he said. “It was a case of leaving the two firms to talk to each other without the interference of wider political mood music.”

Kilalea, at RBCCM, said he never expected the Chilean government to stick its nose into the negotiations. “The belief that Chile would interfere was emotional nonsense,” he said. “Chile would not, in my opinion, interfere in a commercial dispute between two companies even if one of them is 100% owned by the state.”

But even if the state was unlikely to interfere, there was always the danger the dispute would go through the courts.

“A prolonged court case was always an option and at one point seemed inevitable,” Djemal said. “That could have damaged reputations and strategic relationships, opened the government to public criticism, stirred up resource nationalism and proved very costly.”

Thankfully, that didn’t happen. The two sides began legal proceedings but then halted them and opened talks, leading to the August agreement.

“The fact they reached an amicable out-of-court settlement suggests that both sides saw some merit in the other side’s case,” Benjamin said.

Enhanced reputation

Indeed, the final outcome, far from tarnishing Chile’s reputation, has almost certainly enhanced it. A peaceful resolution, without government intervention, is exactly what investors wanted to see.

“The way in which this conflict was resolved confirms what we’ve said since it first started: that in Chile there is a climate in which two private parties can resolve their differences, either through the courts or in private,” said Matías Mori, executive vice-president of Chile’s Foreign Investment Committee.

He said the committee had seen no drop in foreign investment during the dispute, either from the UK or elsewhere.

“On the contrary, the figures for both foreign investment in the country, and applications to invest, are at record levels,” he said. “Foreign investors know that one specific dispute doesn’t alter the country’s general investment climate.”

Djemal pointed out that Fitch’s sovereign rating for Chile remains A+, reflecting its sound economic fundamentals.

“Specifically with regards to mining, Chile is and will continue to be a global leader in attracting foreign investment,” he said.

And at the British embassy, Benjamin said Chile was an attractive investment opportunity compared to other parts of Latin America.

“Imagine a similar dispute coming up in other countries in the region, and how it might have developed,” he said. “Chile has a long-term fully justified reputation as a place where the writ of law runs fully.”

Worker unrest?

One of the key questions when the agreement was announced in August was how Codelco’s workers would react to it. Raimundo Espinosa, the most powerful union leader at Codelco and a company board member, voted against the agreement with Anglo. He said the state-owned company should have held out for a full 49% of AAS, even if that meant a long legal battle.

“As a country, we don’t know how to defend what’s ours, and we’ve seen that during these negotiations,” he grumbled at the time.

But Espinosa never threatened to mobilize Codelco’s workforce, and so it has proved. Two months on, union unrest over this issue appears unlikely.

The deal with Anglo is, in some ways, a vindication of Codelco’s decision to overhaul its corporate governance in 2010. Until then, its board was antiquated. Government ministers and a member of the armed forces sat on it. If that board had been in place now, it might have been much more difficult to reach an agreement with Anglo, analysts said. The danger of political interference in the dispute would perhaps have been greater.

The impact on Anglo-Chilean relations might have been greater too. As it is, they appear to be unscathed.

“It’s a fact that a large part of the foreign investment in Chile comes from companies with ties to the United Kingdom, and those companies have invested billions in resource extraction,” said RBCCM’s Kilalea. “I suspect there will be no long-term damage.”

Benjamin pointed out that the UK is the fourth largest foreign investor in Chile. For its part, Anglo employs around 10,000 Chileans and has already contributed around US$5 billion in taxes to the Chilean treasury since it established a presence here.

According to the Foreign Investment Committee, direct investment in Chile from abroad jumped 80% year-on-year in the first half of 2012 – right at the time when Codelco and Anglo were in dispute. That in itself suggests the row over AAS had little negative impact.

“What’s more, a large part of the total is due to a reinvestment of profits, which shows that investors are not only putting capital into Chile, but that they trust the country enough to want to carry on investing here instead of repatriating those profits,” Matías Mori said.

Back to the copper mines

All in all, the agreement announced in August is positive. Analysts, the companies, the government and the Mining Council all describe it as a win-win situation for those involved.

It allows Anglo and Codelco to get on with their core business – mining – rather than fighting in the courts.

This is good for Codelco since it has other issues to tackle. Ore grades at its mines are falling alarmingly – 11% in the first half of this year compared to the same period a year ago. That means it has to extract more and more mineral just to maintain production levels.

Like all Chilean mining companies, it will face tough decisions in the near future over energy supply, access to water, opposition to its projects on environmental grounds, rising production costs and a shortage of skilled labor.

At least now, it can confront those issues without the weight of a lengthy and costly court case hanging around its neck.

Gideon Long is a freelance journalist based in Santiago. He also writes for the BBC and The Economist.