It’s high noon for Anglo and Codelco at Los Bronces

A dispute between Anglo American (AAUKY-Q) and Chilean state-owned copper miner Codelco over the Los Bronces copper mine in Chile has devolved into a public spat in the Chilean courts and international press.

The two squared off late last year, after Codelco made public its intent to exercise a 34-year-old option that entitles it to buy a 49% stake in Anglo subsidiary Anglo American Sur, which owns the large Los Bronces copper mine, located 65 km northeast of Santiago. Under terms of the agreement signed with Exxon at the time, Codelco maintains a cyclical-right  for a four-week window every three years to buy 49% of Anglo Sur, with the most recent opportunity arising in January. 

The Codelco announcement came at an inopportune time for Anglo, which is in the process of a US$2.8-billion upgrade at Los Bronces. Slated for completion in the third quarter, the expansion includes a new grinding plant, 4-km conveyor belt and 52-km slurry pipeline to the existing floatation plant at Las Tortolas.

Los Bronces’ reported mine life now exceeds 30 years, and the new infrastructure is scheduled to increase average copper production in the first 10 years by roughly 200,000 tonnes per year.

The mine’s current reserves total 735 million tonnes grading 0.33% copper for a total of 2.4 million contained tonnes of copper, and it is predicted to become the world’s fifth-largest copper mine by the end of 2012.

Codelco’s declaration followed news that Anglo had made two significant copper discoveries on claims contiguous to Los Bronces. John MacKenzie, chief executive of Anglo’s copper operations, told Bloomberg News in November that the new deposits represent “huge potential” and could be operationally merged with Los Bronces to form what he labelled a “mega mine.” 

The Chilean ownership clause in the 1978 contract contains a formula aimed at calculating an asset price based on Anglo Sur’s profitability over the five years preceeding the purchase. Under the formula, Codelco values its anticipated 49% share at US$6.75 billion, and has arranged financing for the purchase with Japanese trading-house Mitsui & Company.

Because of the global financial crisis in 2008–2009, which caused copper prices to collapse during a significant portion of the last five years, Anglo American and many mining analysts reckon that Codelco’s US$6.75-billion price calculation undervalues the mine by several billion dollars.

Codelco’s sudden aggression may be a reflection of chief executive Diego Hernandez, who is the former head of base metals for BHP Billiton (BHP-N) and was taken on board at Codelco in order to spearhead a planned expansion throughout Latin America.

Hernandez announced a US$4.3-billion growth strategy in early March, and there would be no easier platform than Los Bronces, which sits directly next to existing Codelco operations. 

It gets more complicated than that, however, with Anglo having  arranged to sell 24.5% of its Anglo Sur stake in late November to Mitsubishi for US$5.39 billion, just before Codelco publicized its intentions to exercise its purchase option.

“The sale of our 24.5% interest in Anglo American Sur to Mitsubishi builds on our clear and consistent strategy of protecting and delivering value,” chief executive officer Cynthia Carroll said during a conference call. “We have done the right thing. At US$22 billion on a one-hundred-percent basis, the minority sale of Anglo American Sur generated significant value.”

Carroll said Codelco is still welcome to tender an offer for the remaining 24.5% of American Sur at market prices. Anglo reportedly offered Codelco US$1 billion in exchange for waiving its option rights at Los Bronces, but Codelco apparently turned it down.

 “When we talk about an infringement of good faith, we’re not talking about a pact of honour or a gentleman’s agreement,” Hernandez told The Economist following Anglo’s announcement of the Mitsubishi deal. “We’re talking about a legal obligation with which Anglo American has to comply. They’re trying to stop us from exercising our legitimate right.”

Two months of subsequent mediation solved nothing, and the case went before Chilean civil courts in mid-February. Hernandez was referring to a “good faith” clause contained in Chilean contract law that theoretically creates and enforces obligation. 

According to regional newspaper La Tercera, however, the clause has never been tested at such a level, and the ruling will be without precedent. 

“The courts gave us three days to review Anglo’s contracts with Mitsubishi,” Codelco lawyers told La Tercera on March 14. “We don’t believe the contracts are compliant when you take all the original documentation and deals into account.”

The case will most likely come down to interpretation of the original 1978 document with Exxon, and clauses that interpret Anglo’s rights to sell prior to Coldeco exercising the option.

“Codelco knew what our alternatives were in terms of selling down our holding to a third party prior to any valid exercise of the option, and it sought to prematurely exercise the option,” Carroll  contends. “The strength of our legal position is beyond question.”

After a month in court, not much has been resolved.

In early January a Chilean judge placed an order on Anglo that bars it from divesting any further shares of Anglo Sur for the length of the legal process. In a separate ruling Codelco was ordered to pay Anglo’s legal bills.

Things turned uglier in mid-March following a visit to London by Codelco managers looking to reach an agreement.

Carroll told The Daily Telegraph she was “astonished” by the Codelco’s actions on March 14. “We are not going to tolerate them coming here and misrepresenting the facts. We are going to sit down with analysts and point out the many holes in what they have been told this week.”

“We are preparing for a very lengthy battle,” Thomas Keller, chief financial officer at Codelco, commented to the Financial Times on March 14. “We’re exploring the option of an injunction that would force Anglo to pay 49% of the dividends from its disputed Chilean unit into an escrow account.”

Peter Whitcutt, head of Anglo’s strategy unit and leader in negotiations, described that move as “bullying tactics,” and said Codelco was trying to strong-arm Anglo shareholders and destabilize the company.

Meanwhile, Chilean President Sebastian Pinera is on the final leg of a diplomatic tour in eastern Asia, with a stop in Japan on March 29. The visit is mostly related to broad issues of free trade — according to the Japanese Ministry of Foreign Affairs, Chile ranks third amongst Japan’s export partners with bi-lateral trade in 2010 valued at US$120 billion — but Pinera is also meeting with leaders from the Mitsui and Mitsubishi groups, who are closely watching the Chilean court proceedings. 

Mitsui extended the terms of the US$6.75-billion loan option to Codelco through August 2012 in light of the court action, but the case may last a lot longer than that. 

“It could take three to four years,” Keller said.