Managing mining risks

By Guanchun Dai, Partner, Zhong Lun Law Firm

To meet its huge demand for energy, China has in recent years been increasing its investment in the mining sector all over the world.

For Chinese investors who are sophisticated in the mining sector but hesitate in such areas as Africa’s legal and investment environment, the following suggestions may be useful.

Consider infrastructure

It is important to consider local infrastructure before making investment decisions. For various historical and economical reasons, in most parts of Africa, the infrastructure (including transportation and energy supply) does not meet the standards of even inner mainland China.

These will certainly be obstacles to the technical and economical feasibility of mining projects, which generally involve transportation of massive equipment and a large amount of mining products. Investing to improve the whole infrastructure system for a single project is generally beyond the capabilities of most investors.

However, the good news is that the Chinese government is currently working with a few African countries to improve their quality of infrastructure in certain areas. Investors should carefully follow such projects, which may open the door for mining development in such areas and turn arguably worthless projects into ones with potentially great value.

A good example is in Guinea Bay area, where a group of Chinese enterprises have committed to invest in the port, railroad and hydropower projects across Liberia, Guinea and Ghana. It is almost certain that mining projects in these countries will benefit from the improved infrastructure.

Due diligence

It is vital to conduct technical and legal due diligence before investing in Africa. There are many stories about Chinese investors suffering losses in Africa, especially those making decisions without conducting even one site visit. Having said that, even those investors who have spent significant time in the continent and believe they have sophisticated market knowledge have lost money.

I believe the most disastrous result would be that, after significant investment has been made, the host country government declares the mining grant void. Or, for restarted projects (which are generally more attractive to Chinese investors due to lower development difficulties), it supports the former owner’s claims.

Due diligence should always cover the general investment environment and the specific regulations of the mining industry in the host country, including any potential changes.

The mandatory requirements which will affect investment decisions include economic empowerment rules, required sales to state-owned energy trading companies, taxes on profits, and controls on foreign exchange of currency.

Respect the rules

It is vital to respect the local rules and cultures in Africa. Unlike the impression of many Chinese investors with regards to the level of regulation in third world countries, most African countries have sophisticated regulations for their mining sectors. This includes procedures for mining grants (including competitive bidding for government grants for certain projects), reporting obligations and requirements to rehabilitate the environment.

The enforcement of laws in Africa may not be without uncertainties, as was the case in China itself 20 years ago. But, given the fact that mining projects are generally long term and capital intensive, and the Chinese government’s attention on the social responsibility of Chinese-invested enterprises in Africa, it is important for Chinese investors to keep an active eye on compliance with local rules.

Given the fact that the difference in the history, politics and economic conditions of China and Africa are substantial, integration into the culture of the host country is a key aspect of successful foreign investment.

Cultural alignment is also a challenge for Chinese investment in other parts of the world, and I would say that Chinese investors could learn from the foreign investors who invested in the PRC from the early 1980s.

gcdai@zhonglun.com