Santiago, Chile — These are good times for Chile’s national copper company
The world’s largest producer of copper and molybdenum saw record pre-tax profits of US$3.3 billion last year, thanks to booming prices for the metals. This year, it expects to earn closer to US$4.5 billion. The company is confident that this is no flash-in-the-pan bonanza; many analysts predict that vigorous Asian demand for copper and a lack of new large mines in development worldwide mean that copper will stay above US$1 per lb. until at least the end of the decade.
With an estimated 130 million tonnes of copper in the ground waiting to be mined — concentrated at its three largest divisions: Andina, El Teniente and Norte (including the Chuquicamata and Radomiro Tomic mines) — Codelco is planning a massive expansion which should lift copper production to 2.5 million tonnes by 2015, from 1.8 million tonnes a year currently. CEO Juan Villarz is even more optimistic. New mining techniques including robotics, bio-leaching of primary copper ores and continuous block caving at its underground operations could allow the company to lift output to 3 million tonnes per year by 2020, he told a recent seminar in Santiago.
With Chinese consumption alone expected to almost double by 2010 to 6 million tonnes per year, Codelco is confident that a market exists to justify the rapid ramp up in production. In fact, Villarzu believes that the copper industry’s major preoccupation should be its ability to increase output quickly enough to meet its clients’ growing demand before high prices for the metal force them to reduce copper use and turn to substitutes such as aluminium and plastics. “A market exists for three million tonnes at a reasonable price,” the executive noted.
Bringing this new capacity into production will not be easy. Ninety years of mining at Chuquicamata has used up just a third of the resources contained in the deposit. But with the pit now close to 1 km deep, hauling the ore out by truck will soon no longer be cost-efficient. Codelco has begun studies to build an underground block caving operation at the site that will be at least the size of its El Teniente mine. Meanwhile, the company is looking at quadrupling production at Andina by 2020 by building a giant open pit to replace the existing Rio Blanco underground mine. The project requires not only Codelco* s technical expertise, but also careful negotiations with South African mining giant
But perhaps the biggest headache facing Codelco, and its owner in the form of the government, will be how to find the considerable sums involved. The company’s current spending plan puts the figure at US$17 billion for the next decade. Villarzu has said that the company can generate around US$700 million annually through its internal cash flow but that it will need to match that amount from external sources.
In recent years, financing has posed few problems for Codelco even as it has upped investment in its mines. Low interest rates and growing confidence among the international investment community in the company and Chile as a whole has given the miner access to a range of modern financing techniques including bonds and bank credits. When, on Sept. 16, Codelco raised US$500 million through the issue of a 30-year bond, the company celebrated the fact that it was achieving financing costs comparable with those enjoyed by mining multinationals such as
However, this financing route is limited — if not by Codelco’s own corporate restrictions, then by those of Chile as a whole. Standard & Poor’s reckons the company’s debts will hit US$3.6 billion by the end of 2005. And if it continues expanding its debts at the current rate, the company will soon put its high credit rating at risk, as well as that of the state and other Chilean companies.
“At this rate of growth, in a couple of years, Codelco is going to have difficulty raising debt and is going to have to look for alternatives,” Villarzu said recently.
On the face of it, Codelco’s bountiful profits should be able to provide the investment funds the company needs. The profits it is set to earn in 2004 and 2005 alone would cover almost half of the billions the company is planning to invest over the next 10 years. But Codelco’s profits are a major source of income for the Chilean state, in good times providing up to 15% of annual revenues through a variety of channels.
Under a system established by former dictator Augusto Pinochet, Codelco must donate 10% of its copper sales to the armed forces — an arrangement which has prevented the company from expanding into neighbouring countries such as Peru, with which Chile has border disputes. In addition, as a state-owned company, Codelco is subject to an additional 40% profits tax on top of the 15% base rate. Any post-tax profits go straight to state coffers in the form of a dividend.
The simplest way to raise funds would be persuade the government of the day to forgo some of this dividend. But convincing a future finance minister and the public of the need to invest in yet more copper mines rather than much needed spending on healthcare and education would be extremely difficult. As industry insiders like to explain, Codelco suffers like “the rich son of a poor parent.”
Faced with these realities, Codelco has sought to kick start a debate on the future of the company designed to coincide with the race for the December 2006 presidential and national elections. In April, Villarzu publicly raised the possibility of selling a stake (as much as 20%) in the company to private investors, possibly Chile’s powerful private pension funds. With Codelco valued at around US$20 billion, this could raise enough money to solve the company’s financing difficulties.
But again, this solution is politically difficult. A survey conducted shortly after the speech showed that the overwhelming majority of those interviewed, regardless of political tendency, wanted the company to remain wholly in state hands. The result reflects not just Codelco’s transformation from a public-sector behemoth to a rather efficient multinational over the last 10 years, but the special place Codelco occupies in the hearts of Chileans. Even in the middle of the highly polarized Cold War politics that characterized socialist President Salvador Allende’s short-lived 1970-1973 government, Chile’s senate voted unanimously to complete nationalization of the US-owned copper mines which went on to form the company. Slogans from the time describing Chuquicamata and El Teniente as “Chile’s wage” and the “master beam of the economy” still echo today.
President Ricardo Lagos and Mines Minister Alfonso Dulanto, who chairs Codelco, were quick to dismiss the idea, promptly signing a long-term mining policy document that favoured maintaining 100% state control of Codelco and other state businesses, such as mining development company ENAMI and state oil refiner ENAP. Villarzu also distanced himself from the idea, emphasizing that it was just one of several alternatives facing future governments.
Minmetals deal
Other options would see Codelco increase the use of joint ventures to develop mines or the use of prepayment for sales of copper to raise funds. The company’s deal with China’s state-owned base metals trader
Under the deal, the two companies will form a joint venture to which Codelco will supply 56,750 tonnes a year of copper cathode for the next 15 years. The entity, dubbed COMM, will make an upfront payment of US$550 million to Codelco once the deal is closed later this year, plus another US50 per lb. on delivery of the metal. COMM will then sell the copper to Minmetals at the going market price for distribution in China. Th
e deal prices copper at just over US$1 per lb., in line with the company’s long-term forecast for the red metal. But Codelco will still be exposed to variations in the price of copper through COMM’s yearly profits.
Through the deal, Minmetals will also win the option to buy a 25% stake in Codelco’s Gaby project, which is set to begin producing around 170,000 tonnes a year of cathode from 2009. The option would be priced according to a public auction of another 24% stake in the project once the mine has entered production.
Codelco has claimed a major victory with the Minmetals deal. Not only does the agreement represent a new source of investment funding for the company but also a new strategic partner, guaranteeing it business in the world’s largest copper market, as well as a possible partner for other mine projects. Minmetals is said to be particularly interested in Codelco’s exploration programs in Brazil and Mexico.
The deal has, however, drawn criticism in Chile, not just for the secrecy surrounding negotiations ahead of the final agreement, but also because the prepayment works out to be a much more expensive method of raising capital than bonds and bank credit (over 8% against 5%-6% for commercial credits, according to Codelco’s own figures). Codelco has countered that with existing sources of financing limited, the company has no choice but to seek others, even if they are costlier. During a visit to New York earlier this year, Villarzu said that other firms were queuing up to sign a similar deal to the Minmetals agreement.
Other options
Joint ventures represent the other way forward for Codelco. This has already been tried. In 1995, the company sold a 51% stake in its El Abra project to U.S. producer Cyprus Amax, today part of
Instead, the company is looking at forming joint ventures to process the ore once it’s removed from the mine. In fact, Codelco already has one such program — Alliance Copper, a joint venture with BHP Billiton — to try out the latter’s bio-leaching know-how on arsenic-rich concentrates from Codelco’s Mansa Mina. Alliance Copper, however, has yet to receive the go-ahead to move to an industrial-scale commercial operation.
With just six months left in President Ricardo Lagos’ term, it seems likely that the questions surrounding Codelco’s financing will be left to the next head of state. Despite the company’s best efforts, the issue has failed to play a major role in the rather flat campaign so far. The two right-wing presidential candidates still back Villarzu’s shelved suggestion of floating a stake in the company. Joaquin Lavin says that the move would sharpen transparency at Codelco by making its directors clearly accountable for the company’s performance. Allowing Chile’s private pension funds to invest in Codelco would give Chile’s workers a more direct participation in the country’s largest company, adds his rival, Sebastian Pinera.
But barring any major upset between now and the elections, it will be Michelle Bachelet, Lagos’ favoured candidate from his own Concertacion, who will take office in March 2006. A socialist, she stated that she would be against any privatization of Codelco, partial or otherwise. But the issue of how Codelco meets its financing needs will have to answered during her watch, leaving Chile’s first female president some tough decisions to make — the impact of which will be felt not just in Chile, but across the copper industry.
— The author is a freelance writer based in Santiago, Chile.
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