12 November 2018

Africa: Why Mining Is Hard to Tax

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"In Africa as elsewhere in the world, while energy companies might be somewhat undertaxed, mining companies typically are greatly under-taxed. Indeed, it is only a slight exaggeration to say that, with a few significant exceptions, notably Botswana's diamond mines, mining in Africa is barely taxed at all. One reliable source indicates that contemporary African governments collect about 55% of the total value of energy production in tax revenue, but only 3% of the value of mining production." - Taxing Africa

Taxing Africa, published earlier this year by Zed Books in London, is being launched in Washington, DC on November 16 by a coalition of civil society organizations, including the International Centre for Tax and Development (http://www.ictd.ac/), with which the authors are affiliated. See http://tinyurl.com/ybezqa39 for more information on the launch and the ICTD web site for much additional background and resoources.

Tax is a complex issue and it is easy to get lost in the detail. But the consequences are fundamental for development and human welfare around the world. This new book provides a comprehensive approach, highlighting not only the often-publicized abuses by which the rich and multinational corporations evade and avoid taxes, but also practical steps that African governments can take to ensure that their tax systems work to provide revenue for the public good.

Based on both first-hand experience and extensive research, the book will be most useful to those with some background in these issues, particularly scholars, government officials, and civil society organizations. But it also warrants attention from anyone concerned about turning critiques of African development into practice, and is a significant contribution to the growing wider awareness of the centrality of tax to other policy issues.

This AfricaFocus Bulletin contains an excerpt from this new book on the special issues in taxing multinational mining companies.

Another AfricaFocus Bulletin released today, not sent out by email but available on the web at http://www.africafocus.org/docs18/amv1811.php, summarizes the Africa Mining Vision, by which Pan-African institutions aim to galvanize the transformation of the mining sector to serve African development.

For previous AfricaFocus Bulletins on taxation and related issues, visit http://www.africafocus.org/intro-iff.php For the wider range of economic development issues, visit http://www.africafocus.org/econexp.php

Editor's note:

Taxing Africa : Coercion, Reform and Development

By Mick Moore, Wilson Prichard, and Odd-Helge Fjeldstad

London: Zed Press, 2018.

Available at https://www.zedbooks.net/shop/book/taxing-africa/ or https://amzn.to/2JTJzC2

Excerpts from Chapter 5: Extractives and Extraction: Taxing Oil, Gas and Minerals

[used by permission of the publisher]

Let us begin with a good film: Zambia: good copper, bad copper (Public Eye 2012; https://www.youtube.com/watch?v=uamzirLswjk). Made in 2012, it contains some powerful campaigning material: large numbers of former mine workers who cannot find jobs in highly mechanised contemporary mining operations, yet suffer because the industry poisons their air and water; a transnational mining company (Glencore) that pays little tax on its Zambian profits; and the callous indifference of some of the people enjoying these profits - the notoriously wealthy residents of Zug canton in Switzerland. You might also watch Stealing Africa - Why Poverty? (Guldbrandsen 2013; https://www.youtube.com/watch?v=WNYemuiAOfU). It tells a similar story.

[Editor's note: For additional selected videos of related interest see http://www.africafocus.org/docs18/amv1811.php]

In fact, online there are dozens of video clips and countless blog and news items about the exploitation of Zambia and Zambians by mining companies. Try, for example, the video in which Anil Agarwal, the boss of Vedanta, one of the world's largest natural resources companies, is boasting to Indian business colleagues about how he obtained his original mining concession in Zambia in 1994 with little money, modest effort, petty deception, and few future tax obligations (Das 2014). The returns on his investment have been sky-high. Or look at the wealth of commentary on Chineseowned copper mines in Zambia, such as China Nonferrous Mining Corporation (CNMC), Non-Ferrous China Africa (NFCA) and Sino Metals.

Mopani Copper Mine in Zambia. Credit: http://www.counter-balance.org/mopani-copper-mine-zambia/

Why, in recent years, have journalists and video-makers been so interested in Zambia's copper mines, so critical of the mine owners, and so attentive to the question of how little tax they seem to be paying to the Zambian government? The answer comes in several parts. Two are specific to Zambia. First, it is one of the largest mining economies in Africa. Second, there has been a great deal of open controversy over mining between Zambians: strikes, protests, and electioneering around employment conditions in the mines, environmental pollution and the small contribution of mining companies to Zambia's tax revenues.

Global advocacy organisations have certainly helped stoke the controversies. But the controversies are rooted in Zambia's history and politics. During the colonial era, Northern Rhodesia, as Zambia was then known, was one of the few African countries to host a large mining industry. Its Copper belt was urbanised, and its trade unions powerful. The unions were weakened, however, after the mining sector was nationalised in 1969, international copper prices declined dramatically in 1975, and most mines were mothballed in the 1980s.

By the mid-1980s Zambia was one of the most indebted nations in the world, relative to its GDP. Following privatisation, the mines were reopened on a small scale in the 1990s. At that point few people expected copper prices to recover to historic levels. There were, however, sufficient residues and memories of trade union power that the new mining companies - many of them Chinese or Indian - faced continual political challenges.

The companies paid very little for their mining rights and began to profit very handsomely when world copper prices started to increase early in this century. Partly because the new mining arrangements were subject to so much political scrutiny and criticism, the Zambian government has revised the ways in which it taxes the mining companies several times - but sometimes it has been forced to retreat in the face of threats from the compa nies that they would cut back on investment and production.

....

In fact, it is particularly difficult to effectively and sensibly tax foreign transnational companies operating in the extractive sector, and even more challenging to tax companies involved in mining than those extracting energy (oil and gas). The reasons are many and complex. One purpose of this chapter is to explain them. The results are that, in Africa as elsewhere in the world, while energy companies might be somewhat under-taxed, mining companies typically are greatly under-taxed. Indeed, it is only a slight exaggeration to say that, with a few significant exceptions, notably Botswana's diamond mines, mining in Africa is barely taxed at all. One reliable source indicates that contemporary African governments collect about 55% of the total value of energy production in tax revenue, but only 3% of the value of mining production.

Bear in mind that, when they collect revenue from extractive activities, governments are not just taxing value added as they do when levying corporate income taxes on transport companies or shoe manufacturers. Governments are also selling national assets: oil, gas or minerals that might otherwise stay underground and remain part of a nation's wealth for future use. That figure of 3% suggests that, in practice, at least some African governments are not selling national assets to mining companies. They are giving them away.

The gross under-taxation of mining became especially visible to many observers as a result of the 2002 - 10 boom in global commodity prices. The index of global metal prices, expressed in constant US dollars, almost tripled between 2002 and its peak in 2006 (World Bank 2016b: 1). While prices of copper and other commodities soared, African governments' revenues from mining activities increased much more slowly. 'While the third raw materials super cycle increased the global turnover of the mining sector by a factor of 4.6 between 2002 and 2010, the tax revenues from the non-renewable natural resource sector earned by African governments only grew by a factor of 1.15' (Laporte and Quatrebarbes 2015).

There are particular reasons why the Zambian mines attract so much attention. But the underlying problems in taxing the extractive industries are common across Africa - and, indeed, in lower- income countries generally.

...

Mining activities in Africa are mostly intensely politicised: there is political conflict over mines, from the exploration stage, before precise locations are even identified, to the end of their useful life. These conflicts involve shifting combinations of presidents and ministers, ministries and other public agencies, exploration companies, mining companies, managers of ports and railways, individual politicians and bureaucrats, wheeler-dealer local and international businesspeople and 'political fixers', grassroots political activists, small-scale (artisanal) miners and their representatives, local bandits, lawyers, tax advisers, civil society organisations, and local and international media. Their tools and tactics are complex and variable mixtures of secrecy, stealth, public campaigning, bribery, principled claims, bluff, manipulation, threat, lawsuits, misinfor mation and intimidation.

Anyone who combines an interest in the extractive sector with a taste for drama will relish the ongoing story of Simandou. Simandou is a mountain range in the deep interior of Guinea. It comprises so much high-grade iron ore that geologists have given its peaks names such as Iron Maiden and Metallica. Rio Tinto, the BritishAustralian mining multinational, was granted exploration rights in 1997.

Two decades later, no significant engineering work has been done. Many sceptics believe that Simandou will never be exploited. The costs of building the infrastructure needed to get the ore to the point of export - 650 kilometres of railway, tunnels, bridges, 128 kilometres of road and a new deep-water port - are estimated to be at least twice the costs of setting up the actual mine. Yet vast amounts of money have been ventured, won and lost in the course of political manoeuvring over the rights to develop Simandou. Some advance taxes have even been paid.

Rio Tinto was granted exploration rights to Simandou in 1997. In late 2008, two weeks before he died, the president of Guinea, Lansana Conté, expropriated half of Rio Tinto's rights and awarded them to Beny Steinmetz, an Israeli billionaire who had made his fortune in the diamond business. Neither Steinmetz nor his business vehicle, Beny Steinmetz Group Resources (BSGR), which is controlled by family trusts, had any previous experience in iron ore mining. Contrary to the usual practice, BSGR made no upfront payment to the government of Guinea for these rights.

After about a year, BSGR sold 51% of its interest in Simandou to Vale, the Brazilian mining conglomerate, for $2.5 billion - of which only the first tranche was ever paid. There was a brief period of military rule after Lansana Conté's death, then free elections were held in late 2010. The new president, Alpha Condé, had a reputation for honesty. His government reviewed all the mining licences that Conté had awarded - for Guinea also has large reserves of bauxite and significant quantities of diamonds, gold, uranium and offshore oil. Following the review, the Simandou mining rights were returned to Rio Tinto. At that point, Rio Tinto owned 46.6% of the total rights. Chinalco, a Chinese state company, was the second largest stakeholder.

Simandou iron mine in Guinea (Conakry). Credit: https://ejatlas.org/conflict/simandoun-mine

That is the outline of the plot. The play itself is much more complex and colourful. Conté's youngest widow testified that BSGR had offered her millions of dollars, jewellery, two Toyota Land Cruisers and a 5% stake in the project to persuade her dying husband to sign over the Simandou rights to BSGR. Among the supporting evidence was a contract she had signed with the head of BSGR operations in Guinea, in which she agreed to use her influence to get Simandou mining rights transferred to BSGR in return for these rewards.

This contract for corruption was stamped with the BSGR corporate seal. Rio Tinto filed a case in the US courts against Vale and Steinmetz for 'racketeering', and alleged that $200 million had been paid to Conté and his ministers as bribes. The case was thrown out on a technicality in 2015. Meanwhile, Steinmetz did not give up. He variously threatened or started court proceedings for defamation against: Global Witness, the London-based advocacy organisation; Mark Malloch Brown, a former Deputy Secretary-General of the United Nations and a former UK government minister; Theresa May, the current British Prime Minister when she was Home Secretary; the UK Serious Fraud Office; and the billion aire philanthropist George Soros. Vale launched a compensation claim against BSGR. Rio Tinto, too, was proactive in asserting its rights to Simandou.

In 2011, the company made a payment of $10.5 million to a former top French banker who had been Alpha Condé's classmate. When this became public in November 2016, Rio Tinto immediately dismissed two senior managers who had been involved. Alpha Condé survived an assassination attempt, and was re-elected president in 2015.

But there were serious accusations of election fraud, and his rule has been marred by violence and large-scale street protests. Unsurprisingly, both government and opposition allege that their opponents are working for foreign companies seeking either to protect their mining rights or to grab a share of those currently belonging to someone else. The latest twist is that, in October 2016, Rio Tinto agreed to sell its rights in Simandou to Chinalco, leaving this Chinese company as the dominant player.

The Simandou story is particularly colourful. But it is not unusual.

...

The structure of the extractive industry

There is no single feature of the extractives business that is not found in some other economic sector. Nevertheless, extractives exhibit such a combination of special characteristics that the political economy of the sector is quite distinctive. We list below six of these characteris tics. We then detail five characteristics of the mining subsector that distinguish it from the energy (oil and gas) subsector.

Extractives projects are very dependent on the approval, cooperation and support of governments. Throughout Africa and in most of the world, sub-soil assets belong to the state. Without a licence from government, private agents can neither prospect for sub-soil assets on a large scale nor extract them. Without the approval and cooperation of government, the extensive infrastructure required - roads, pipelines, railway lines, ports, offshore drilling rigs, electricity and water supplies - cannot be put in place.

Companies that invest in extractives projects are very vulnerable to changes of policy or attitude on the part of governments. As Rio Tinto found in Guinea, this is especially true in countries where the law does not rule and where private investment is so low that governments have few concerns about further discouraging investors by behaving arbitrarily. In such circumstances, all investors are vulnerable. Investors in extractives are especially vulnerable for two reasons.

One is that the gestation periods for extractive sector projects are long. Like Rio Tinto in Guinea, companies can be exploring and planning for decades before they begin to shift any earth. There is typically an interval of several years between the initial investment and the point at which a well produces oil or a mine yields saleable coal, copper, zinc or iron ore.

The second cause of vulnerability is that extractives investments are heavily 'front-loaded': the big investments - in exploration, in purchasing exploration and extraction rights, in setting up the mine or well, and in putting the associated infrastructure in place - typically are made in the early years, before the facility begins to produce and generate revenue. Governments therefore face a continual temptation to agree one set of terms with investors to encourage them to invest, and then, once they have sunk a lot of money, to offer less favourable terms, including less favourable tax arrangements.

The government of Zambia has changed its mining tax regime nine times in the last 12 years (Manley 2015). This is sometimes motivated by high world copper prices and at other times by concerns that the mining companies will reduce production if taxes are not reduced. In the last resort, governments can often credibly threaten that mines will be taken over by the state or given to a different investor, leaving the original investor with huge losses and debts.

Natural resource extraction projects often generate large 'rents' for the people who control them: that is, 'super-profits' that are higher - and sometimes much higher - than the combined totals of all production costs and normal profits. For example, it currently costs around $35 to produce a barrel of oil in Angola (Rystad Energy 2015). When, in 2014, oil was selling at around $100 a barrel, the government of Angola was receiving about $65 a barrel in rent.

By contrast, in early 2016, when world market prices briefly fell just below production costs, there were no rents to collect. Rents are much larger when commodity market prices are high. At any moment in time, rent levels can differ greatly among mines or wells producing the same product, because extraction costs will be higher in one mine or well than in another. Natural resource rents are a major feature of the economy of sub-Saharan Africa: they account for about one-fifth of GDP. ...

World market prices for oil, gas and minerals are unstable and tend to fluctuate in long 'super-cycles' of different and unpredictable lengths. This generates major uncertainties about the likely long-term profitability of individual projects. It also tends to produce cyclical shifts in domestic public and political opinion: from anger that extractive companies are not paying more in taxes (when world market prices are high), to fears that they might close down operations entirely (when prices are low).

The information needed to estimate the likely long-term yields, profits or rents from extractive projects - and therefore to calculate the likely consequences of different tax arrangements - is typically scarce and unequally available to the main parties involved. There are several interacting reasons for this, in addition to the market price uncertainty mentioned above. The basic geological information is sometimes generated through private surveying and not made publicly available. Even if available, it may not be very accurate in respect of either the likely quantity or quality of the product.

Extractive projects are likely to intrude strongly in the lives of some groups of ordinary citizens of the host country. Some of the effects might be positive, including jobs. Historically, mining employed large numbers of manual workers. From the mid-nineteenth to the mid-twentieth centuries, South Africa's mines sucked in migrant labour from throughout Southern Africa.

In South Africa and Zambia, as elsewhere in the world, large mining labour forces were often at the forefront of trade union organisation. By contrast, Africa's new mining projects, as well as oil and gas projects, are highly mechanised - and most of the oil and gas is offshore. They employ few people. Most wage rewards go to highly skilled expatriates. These projects provide few employment opportunities to compensate local populations for the disruptions they suffer, or to assuage their concerns that 'their' resources are being taken from them without recompense. ...

These are the main distinctive features of the extractive sector.

There are then five characteristics of the mining subsector, which are not generally shared with oil and gas, that help explain why mining in particular is associated with controversy, corruption and drama.

1. The risk that governments will try to renegotiate agreements in their own favour is increased because, in mining but not in the energy sector, experience and expertise in the business are not essential conditions for entry. Beny Steinmetz had no significant experience of iron ore mining when he bid for the rights to Simandou. Vedanta, which is now a major global mining company, originated in the scrap metal business in Mumbai. Because of the high level of politicisation and conflict in the sector, some operators can be very successful on the basis of an aptitude for the politics, access to large amounts of capital, and a huge appetite for risk.

'It's roulette,' Steinmetz said; if you work hard, and take risks, you sometimes 'get lucky.' As a small company that was comfortable with risk, BSGR made investments that the major mining companies wouldn't. His company lost money in Tanzania. It lost money in Zambia. But in Guinea it won. (Keefe 2013)

Once entrepreneurs have control of mining rights, they can either sell them on for a profit to more established and experienced mining companies or buy in the expertise needed to open and operate mines. It would not be difficult for any government to find a private company willing to take over a functioning mine if the terms were right - and even if more established global firms declined to participate.

A former minister of mines in Guinea is quoted as saying: 'When a new government comes into power, especially an inexperienced one, there's one phenomenon that never fails: every crook on earth shows up. And every crook on earth has the biggest promises, has access to billions of dollars of lines of credits, of loans' (Mailey 2015: 53).

2. Mining is more diverse than energy in terms of the range of products produced and the processes involved in extracting and processing them. The energy subsector produces only oil and gas, and the range of types of each product is limited. Each type can normally be identified in terms of one of a small number of standard reference types - West Texas Crude, Brent Blend and Dubai Crude in the case of oil - for which there are large, deep global markets and daily posted reference prices.

Miners, by contrast, unearth a much wider range of products including, in sub-Saharan Africa, bauxite, chromium, coal, cobalt, coltan, copper, diamonds, gold, iron ore, lead, nickel, platinum, palladium, phosphate, soda ash, titanium, zinc and various radioactive chemicals and rare earths. Global markets are more fragmented and diverse. There is less product stand ardisation and less market information. Governments trying to regulate and tax mining have less access to reliable informa tion and reliable independent consultants than do governments dealing with energy companies.

3. Some minerals, including diamonds, gold and palladium, have a high value-toweight ratio. It is relatively easy for miners to understate production levels and smuggle product out of the country.

4. These adverse effects of the diversity of the mining subsector are exacerbated by the near absence, at least in Africa, of an organisational arrangement that is common in the energy sector: a national oil and gas corporation. These corporations employ professional staff and, in varying combinations, regulate private sector operators, own some of their equity, engage in production-sharing agreements, or undertake exploration, extraction or downstream processing in their own right.

These activities give governments some insight into the logistics and economics of oil and gas extraction, and thus some capacity to regulate the activities of private companies. Some governments, including those of Botswana, Guinea, Tanzania and Zambia, own equity in companies operating mines on their territory. In principle, this is an alternative way for governments to obtain revenue from mining operations. However, there is no evidence that, by owning a minority share of the equity in a locally incorpo rated mining company, governments can prevent companies from engaging in transfer mispricing and shifting their profits offshore to their parent companies. Botswana is the exception. The government owns 50% of Debswana, the main diamond producer, and is generally believed to obtain a fair share of diamond revenues.

5. Joint ventures between two or more large transnational companies (with or without the participation of the host government) are common in the energy sector but rare in mining. The energy sector is technically the more demanding. Oil and gas transnationals enter into unincorporated joint ventures with one another to share expertise. One of them is responsible for operations and has to report in detail to the others. This ensures a degree of accounting transparency and accuracy that reduces the scope for cheating the local tax administration. There are few joint ventures in the mining sector in Africa.

AfricaFocus Bulletin is an independent electronic publication providing reposted commentary and analysis on African issues, with a particular focus on U.S. and international policies. AfricaFocus Bulletin is edited by William Minter.

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