Mining, A Changing Landscape

MINING, A CHANGING LANDSCAPE With metal prices at all time highs, new mines are opening up as mining houses seek to add assets and boost shareholders’ value. Seven vital considerations are listed here in reverse order. In the 21st century, these must always be borne in mind as the feasibility study/due diligence is carried out.

Part 7: Digging with the locals: managing local community relations Historically, mining companies viewed local communities surrounding a mine site as a source of discomfort rather than as a stakeholder group with which they needed to engage. If problems flared up and locals got restless, international mining companies would often turn to the national government to resolve the problem or step up their own security efforts, whilst protesting that they had done all that could be expected of them by paying taxes and abiding by local laws. Few mining companies would adopt this attitude today. With growing awareness of the importance of a “social license to operate” – a nice phrase, the meaning of which few can convincingly articulate – mining companies increasingly appreciate the importance of consent from local communities. Today, most mining companies engage in long dialogues with local groups before starting a project.

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The industry’s change in mindset is evident in the contrast between the way in which Rio Tinto was “run out” of Bougainville, amid an apparently poor understanding of local communities’ concerns and the disintegration of a relatively harmonious society into civil conflict, with that company’s protracted discussions with local communities in developing its mineral sands operation in Madagascar. The latter represents one of the most encompassing and engaging discussions with stakeholders in the industry’s experience.

However, notwithstanding the industry’s increased awareness of the importance of dialogue with local communities and of engaging with local groups during mine planning, the industry has not yet found the formula to sustaining stable local community relations. Local communities continue to voice concerns and cause disruptions at mining operations around the world. Conflicts arise in both the developed and developing worlds but tend to be particularly problematic in poorer countries, where management has a more limited understanding of the issues and governance and legal structures are typically weaker.

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Disagreements with local communities will almost certainly always exist; mining is necessarily disruptive, social expectations change over long mine lives and the interests of miners and communities will never be entirely aligned. However, the industry can go further in revising its view of the roles mining companies play and reducing social resentment of its presence.

Flaring up of problems with local communities rarely reflects changes in companies’ activities and can be hard to trace back to specific events. As a result, mining companies are frequently caught unaware and on the defensive, assuming that as they have not changed behavior, they are not responsible. The problem may lie in the way many mining companies approach local community engagement. Often it is viewed as a one-off step to secure the right to mine in the area. In fact, in entering a region, a mining company becomes a rich and powerful member of its community and must play a role in its development. Many large mining companies are developing extensive corporate-level guides to engaging local communities in new mining operations. Whilst a deeper understanding of how to approach engagement is sensible, it is important to appreciate that whilst “local communities” makes a nice name for a stakeholder group, this is the most disparate group of stakeholders we have looked at in this series. Whilst some themes are consistent, concerns vary by country, region and 3

community. As a result, every situation requires a very different understanding of local attitudes and a different approach. Looking forward, effectively managing relationships with local communities will become increasingly important to both the sustainability of existing operations and as a competitive advantage in securing growth opportunities through new concessions. As previous articles in this series have argued, the mining industry faces a significant shift in the risk profile of its combined asset base over the coming decades. One of those risks will be an increased exposure to operations surrounded by local communities relatively unsupported by their national Governments, unused to being governed by regulations over which they had little influence and with little to lose if they feel they are treated unfairly. Analysis of Transparency International and World Bank data implies that new copper mining projects in the next decade, as an example, will be in countries with corruption levels and per capita income on average one fifth below the level of existing production. For instance, despite being illegal in most countries, mining companies in Africa have struggled to keep artisanal miners off their properties for decades. Unsafe practices resulted in injury and fatality rates far higher than those of the companies’ own mines. Private militia firms played a role in combating the problem for a long time. More recently, companies such as AngloGold Ashanti have taken a different tack. Acknowledging that artisanal mining is unlikely to have a material impact on the value of their own operation, they have provided support to local miners and equipment to help improve safety conditions. In recognizing that local communities frequently had a very different perspective on property rights and expected the international company to act as a benefactor, it assumed a more cooperative position. In the process it was able to turn a potentially difficult problem into an improvement in community relations. Local communities are increasingly empowered by civil society movements and intergovernmental development agencies. Intergovernmental agencies including the World Bank and the UN, realizing that many of their initiatives in recent decades have failed to deliver improved living standards, are changing their approach to development. A recent World Bank study has shown that projects focused on grass roots development were most effective in improving living 4

standards in poor areas. In particular, local communities are being empowered in preference to (often corrupt) national governments. One result is an increasing legitimization of local communities and their right to ensure their own development. Those local communities are becoming increasingly organized in their engagement with investing companies. Growth in local NGOs, usually small groups based in developing countries, has been close to three times faster than growth in international NGOs in recent years. Frequently, they have ties to international organizations, giving them a voice in international circles. Local problems can become international problems increasingly quickly and easily. On the other hand, in many ways, mining companies have fewer options to directly promote local development than was the case in the past. Increasingly sophisticated equipment reduces the need for local purchasing during construction or operation. With the proportion of production from open pit mining rising, the need for local labor is often reduced. Companies need to ensure an equitable relationship with communities from the outset of a project. That local consent is needed to build a mine is well understood by most mining groups. However, it is still too often treated as gaining consent to develop a mine than as an ongoing consent to operate. Similarly, token engagement is likely to do more damage than good, raising expectations without providing a meaningful voice. Social Impact Assessments, required by the World Bank and many project finance lenders are a useful step in ensuring mining companies consider social issues at the outset of a project but are only ever likely to provide a snapshot of a community’s view. Rather, SIAs should be treated as a by-product of a much broader engagement process. Linking environmental performance with community relations at a site level provides a basis for recognizing their interdependency. Frequently, local concerns are linked to environmental issues and the two should be viewed as closely related. Whether through the impact of leaked tailings on local farmland or through a mine’s use of limited water resources, local community livelihoods are frequently dependent on agriculture and heavily affected by the externalities of mining. For instance, with water shortages set to intensify in many mineral rich regions, the issue of water allocation – to mine or community – is likely to

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become more important. Early engagement on ways to improve community wide water efficiency can head off future confrontation. Ongoing on-the-ground monitoring is critical. A company’s best view of local community relations comes from those working in the field. It is important those eyes and ears are made aware of the importance of monitoring emerging community concerns, given a channel through which to relay information to decision makers and the corporate centre and are incentivized to manage local relationships rather than simply to maximize immediate profits. The benefits of a longer term view can be seen in the differences in relations mining companies in Peru have with local communities. In 2004, Xstrata won the Las Bambas concession in Peru, in one of the country’s least developed regions and one which is also vulnerable to water shortages. Perhaps learning from the experience of Newmont, which has faced a barrage of criticism and sporadic violence from local groups over the impact of its Yanacocha mine further north in the country, Xstrata has instigated an extensive consultation process. It is working with local farmers to improve farming techniques and is supporting local business initiatives. It has also established an advisory board comprising local figures and international experts to provide oversight and recommendations independent of the company’s management, which it will issue publicly. Development of the mine, if it goes ahead, is years away; the initiative is perhaps better viewed as investing in the option to develop the mine, at a cost unnoticeable in the scheme of the Xstrata group. Whilst a sound example of long range planning, all the good work could be lost if perceptions of the value of having the company around change. The voice and influence of local communities on mining operations is likely to grow as their power increases. Mining companies have yet to find the ideal framework to manage those relationships. Perhaps looking for a single framework to deal with a disparate group of communities connected only by their proximity to mining operations is one of the problems. As forward thinking companies in the industry are showing, the best approach is likely to lie in ceasing to seek to manage relationships and risks and rather in becoming better neighbors in the local community.

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Part 6: Eastern Promise Western miners need to find strategies to compete with companies from resource hungry emerging economies. Chinese companies in particular are aggressively tying down mineral assets across the developing world, from where much of the growth in mineral production will come over coming decades. Unhindered by many of the social and environmental pressures facing western companies, these competitors are able to invest in assets majors could not contemplate. Going forward, they are likely to encroach further into the major’s backyards unless they can turn their relatively higher social and environmental performance into a competitive advantage rather than a burden. The developing world will be a major driver of growth in the mining industry. The Minerals Economic Group estimates that in two decades, two thirds of the world’s mineral output will come from the developing world and almost as much again from the Former Soviet Union and China. Africa in particular has huge unexploited mineral wealth. Aware that they are mostly badly positioned to take advantage of this growth, Western mining companies are trying to grow their presences in the developing world. For example, almost one quarter of Rio Tinto’s greenfield exploration is in Africa and Europe (presumably mostly in the former), where under 10% of the group’s assets are currently located and Anglo American recently announced plans to invest $3.5 billion in Africa. Building large scale operations in the in high risk, developing countries will be a substantial challenge. The western mining industry has been cast as a leading villain in the story of failure of many developing countries to effectively exploit their mineral resources. As a result, the western industry tends to face a barrage of scrutiny and criticism from NGOs, the media, development banks and governments when considering projects in developing countries. Rio Tinto’s mineral sands project in Madagascar, for instance, has faced vigorous campaigns by environmental and human rights groups during its long assessment by the company, whilst following an engagement process that sets new standards for the industry. Indeed, it is hard to think of a recent mineral project by a major mining company in the developing world that has not faced criticism.

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As western companies are struggling to make headway in developing countries, other players are storming into the region. Fuelled by a ravenous hunger for minerals, Chinese companies in particular have been pouring money into mining assets across the developing world. Demonstrating their much greater appetite for country risk than western companies, consultancy Beijing Antaike has identified current or planned investments by Chinese mining companies in some of the least stable countries in the world, including Afghanistan, North Korea, Myanmar and Pakistan. These are not countries in which western companies would likely have invested in any case. More concerning is the entrance of Chinese companies into established mining centers and mineral rich countries including Zambia, South Africa and Chile. If the experience of the oil industry is a guide, the encroachment of competitors from China and other industrializing nations into more established mining centers, in direct competition with western companies, is likely to increase. In the oil industry, smaller investments by Chinese companies in marginal African countries such as Sudan have expanded to include significant investments in Nigeria and Angola, both important producers for the western industry. In the past two years, more than $8 billion dollars of investments by Chinese companies in African mining projects have been reported and the figures are becoming larger. The Chinese are the largest investors, but Indian, Russian and Eastern European companies are all making similar investments in the search for new sources of supply to meet rising demand in those countries. To put the figures in context, capital expenditure in Africa by Anglo American, BHP Billiton and Rio Tinto totaled less than $2.4 billion last year. Increasingly, these investments are in more established mining countries. Having seen the level of fixed investment in the South African mining industry drop 25% over the past 3 years, South African deputy president, Phumzile Mlambo-Ngcuka, recently outlined the case for courting investment from Chinese companies. India’s Tata Group announced plans to invest billions of Rand in South African mineral assets last year, with the Indian government also planning to invest billions of dollars in mineral exploration in Africa over the coming years. Similar trends are taking place outside Africa. In Chile, an ally to the

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western industry, Minmetals recently signed an agreement to develop copper resources with Codelco. These investments have not been without controversy. The Chinese State’s Africa Policy is based on “non-judgmental assistance”, which effectively means turning a blind eye to the host regime’s track record. As the Sierra Leone ambassador to Beijing put it: “Chinese investment is succeeding because they don’t set high benchmarks”. Operating under these conditions, Chinese companies seem to have exported the safety and human rights records of their own country along with the money they bring. For instance, at one of China’s largest African mining investments, the Chambishi copper mine in Zambia, six workers were shot last year after rioting over “miserly compensation” and overdue wages. In 2005, 49 workers were killed in an explosion at the same plant, which unions blame on the operation’s reliance on cheap and inexperienced labor. Undeterred, earlier this year the China Nonferrous Metals Corporation (CNMC) announced that it would boost its planned investment in the Zambian copperbelt from $800 million to $900 million. The situation contrasts markedly with the experience of Anglo American which invested in the Zambian copperbelt (KCM) earlier this decade, only to withdraw shortly afterwards once it became more involved in the operation. Western mining companies are struggling to come up with a coherent answer to this threat. According to the Times online, the heads of over a dozen global mining companies, including Anglo American and BHP Billiton, have met to discuss the rise of Chinese investment in mineral projects. One idea raised has been to engage the World Bank and other multilateral institutions to provide the roads, schools, hospitals and other infrastructure the Chinese government is willing to build in exchange for mineral access. Investment in infrastructure is important and much needed even without the pressure of the mining industry. However, the more effective solution is likely to lie with the industry turning the expectations of tough social and environmental standards it faces from a hindrance into an advantage. Stressing the importance of responsible behavior to international organizations such as the World Bank and western and host governments and committing irrevocably to higher standards of performance and transparency could generate the political will to push developing countries to demand those standards from investing 9

companies. This would shift some power back to western companies, which are better able to meet those standards. In itself, this will not address emerging economies’ demand for minerals. Offtake agreements and investments by Chinese companies in individual projects, following the model Japanese companies followed in the post war period, should quell some of these concerns. Whilst access to the capital and technical expertise to develop and operate projects – previously key advantages of western companies – have become ubiquitous, the ability to operate profitably and responsibly remains a key advantage that the industry should seek to turn to its advantage rather the hindrance the pressures it is under are today. Part 5: Money makes the world go round Mining companies have always relied on lenders and shareholders to provide the huge amounts of capital needed to develop mineral projects. The ability to raise the billions of dollars needed to develop the largest and most attractive projects and to do so at lower costs than competitors is a huge advantage from which western mining companies in particular have benefited in the past. Increasingly, this advantage is being eroded. The mining industry’s reliance on capital - via loans from international banks or share offerings to institutional investors - has not changed. What have changed are the conditions the financial sector attaches to the money it provides. As investors and banks have come under pressure to ensure their funds promote socially responsible business and have seen the business logic to avoiding social and environmental risks, they have passed on tougher conditions to companies in which they invest and to which they lend. NGOs are increasingly targeting financial institutions and demanding they play a greater role in sustainable development. Realizing financial institutions are key actors in business, are fewer in number and are relatively easily pressurised; organizations such as Amnesty International, Friends of the Earth and Global Witness have turned their attention to the financial sector and launched campaigns against irresponsible lending. Rainforest Action Network in particular has achieved high profile successes by persuading JP Morgan, Citigroup and Bank of America to adopt stricter environmental standards. 10

NGO pressure is only part of the reason for the change. Social and environmental issues are becoming increasingly important to the financial performance of companies. George Kell, Executive Head of the UN’s Global Compact, has stressed the importance of financial institutions to the debate, “They forge a much-needed link between corporate social responsibility and decision-making in the financial markets…Long term investors are now recognizing that in an inter-dependent world the price-risk analysis is changing and unless and until organizations internalize sound principles in their own organizations they are not well prepared to manage risks and opportunities. Financial markets are now adjusting their risk paradigms to take this into account.” Extractive industries are particularly affected by this increased attention to social and environmental issues, given the significant impact of mineral projects on the environment and local societies, often in developing countries. Mining companies are feeling pressure from both lenders and shareholders. Borrowing money for a mining project is becoming increasingly complicated. The Equator Principles, introduced in 2003, demand projects meet stringent environmental and social conditions. Today, those principles cover over 80% of project finance lending and have become a de facto standard for bank lending where none existed five years ago. Some banks, such as ABN Amro, Barclays, ING Barings and HSBC, have introduced their own standards that go further than legal or regulatory requirements. Ratings agencies such as S&P and Fitch have also begun to incorporate social criteria in their evaluation of credit risk, recognizing the real financial implications of exposure to social risks. The ratings they assign are used by banks to determine the interest rates to charge large companies. Institutional shareholders such as mutual and pension fund managers are also increasingly tying their investment decisions to social criteria. Investors representing close to $5 trillion of funds have signed up to the UN’s Principles for Responsible Investment. F&C, a large UK-based investor spends over 5% of the fees it pays investment banks for research relating to the environmental, social and governance performance of companies, a disproportionate amount of which goes towards the analysis of extractive industry companies.

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As much as tougher standards of investing, financial institutions demand transparency of reporting. An Ernst and Young report published earlier in 2007 showed that two thirds of investors believe risk in the mining industry has risen in the past 2-3 years and want companies to improve their communication of risk management strategies and results. Companies are responding by producing accelerating numbers of social and other non-financial reports. The mining industry is particularly prolific, providing investors with more reports than any other industry aside from Forestry & Paper. Reflecting the increased importance of social and environmental risks, investors are increasing willing to take action against companies. The number of shareholder resolutions has grown at over 10% annually over the past five years, with extractive industries particularly in focus. Institutional Shareholder Services reports that shareholder resolutions demanding companies introduce human rights standards have grown three times more quickly in the extractive industries sector than in other sectors in recent years. Going forward, the trend towards tougher environmental and social standards will continue. Investors are becoming more demanding of the companies in which they invest and banks are facing more pressures to verify the standards of the projects and companies in which they invest. These trends apply principally to the western mining companies. As demands from financial institutions on those established companies are increasing, companies in other parts of the world, such as China, Eastern Europe and Latin America, are finding it relatively easy to raise money from investors and to borrow from local banks. Fuelled by state-directed lending, Chinese companies have announced significant investments in the mining assets of other emerging economies such as Vietnam, Afghanistan, Zimbabwe and Zambia. Companies from Russia, Kazakhstan and India now rank amongst the largest mining companies on the London Stock Exchange. To date, western miners and those from emerging economies have not really bumped heads in international investment. The former have tended to focus on relatively “safe” assets in stable countries and the latter more on higher risk assets in the developing world. However, as the struggle to find growth

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opportunities intensifies, the two groups are likely to face each other in competition for assets more often. As that happens, differences in the ease with which different companies can raise money will become more important. The challenge for the industry is to level the playing field so the same regulations cover all companies. This is only likely to be achieved through international agreements, which in turn will require increased transparency by established mining companies of the social and environmental impact of the investments they make and pressure from the mining industry itself to establish political agreements across the developed and developing worlds. Part 4: The rise of the third sector: the increasing importance of NGOs to the mining industry Non-governmental organisations (NGOs) are not stakeholders in the mining industry in the same way as the other groups discussed in this series. They have no power over mining companies’ actions and are not directly affected by mining projects. Rather, they gain legitimacy and power from the stakeholders they represent and influence. Nonetheless, their voice in the industry is loud and growing as their funding, sophistication and influence increase. Most of the mining industry has begun to engage with NGOs, but few companies have perfected the relationship. As social issues become increasingly important in the mining industry, strengthening NGO relationships offers to provide important insights into those issues. NGOs are becoming increasingly influential across the business world and society as a whole. The number of NGOs has close to doubled globally over the past decade and whilst the data is sketchy, funding for NGO of all types has reached a level approximately equal to the GDP of Spain. Their rising power coincides with a fall in society’s trust that other institutions will represent its interests. Public relations firm Edelman’s annual Trust Barometer has tracked the rise in public trust in NGOs over recent years, overtaking governments and the media to become the most trusted group in Western society.

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With funding and credibility has come increased power in international political circles. At the UN, for instance, almost 3,000 NGOs have consultative status in decision making, reflecting an increased acceptance of their usefulness in the last decade. Whereas, a decade or two ago, many mining companies viewed NGOs as treehugging troublemakers, today most accept them as legitimate and influential participants in their industry. Groups like Partizans, set up three decades ago to crusade against Rio Tinto, have colorful histories of civil action, but had relatively little impact on the industry and have mostly become rather marginalised. Increasingly, mining industry executives are sitting across the table from well-informed, influential and professional organizations rather than dodging tomatoes outside shareholder meetings. Whilst a huge number of small groups continue to focus on specific projects and issues, large organisations such as Amnesty International, Oxfam, Christian Aid, Global Witness and No Dirty Gold are more likely use reasoned, libel-free reports to advocate for wide-ranging industry change. Evidence of the growing interest NGOs are taking can be read in the number of mining-focused reports they produce referring to the mining industry, which grew 4 times more quickly than the growth in reports of all types catalogued by the Business and Human Rights Resource Centre over the past 5 years. As their voices have reached higher political circles and they have become more able to organise coalitions aligned around specific interests, NGOs have taken an increasingly active role in policy level changes in the mining industry. For instance, NGOs have recently provided key voices in the establishment of the Extractive Industries Transparency Initiative, changes to the World Bank’s mineral policy coming from its Extractive Industries Review and the Kimberly Process. Mining companies have responded by engaging with NGOs more regularly, both directly and through industry groups. Rio Tinto, for example, has held annual workshops with NGOs for over a decade and the International Council on Mining and Metals lists several NGOs amongst its partners. Most large mining companies

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now devote whole departments to corporate social responsibility and NGO engagement. Engaging with an increasingly diverse universe of NGOs can be a bewildering proposition for many companies. NGOs come in a variety of levels of sophistication and exist for seemingly every issue able to upset someone, from environmental issues to human rights concerns, from project-specific campaigns to industry-wide advocacy. Tackling this kaleidoscope of perspectives requires companies to establish a framework for engagement, based on an understanding of NGOs’ goals and tactics and their own assessments of the key issues they face. Larger NGOs are aware of the need for a pragmatic dialogue with the corporate world they are trying to change. Indeed, these NGOs have themselves developed increasingly “corporate” cultures and organisations. One implication of the “commercialisation” of NGOs is an increased focus on media coverage and an ability to demonstrate the impact they are having. Mining companies should not assume NGOs focus solely on addressing the issues in hand. Successful campaigns identify a problem with which their audience can relate and which is likely to gather most attention. This may not be the same problem companies perceive. For instance, terms like “failed state instability” and “resource security” gather more attention in political circles than “developing world corruption” these days. Companies need to address the issue at hand, rather than answer a different question. Campaigns often focus criticism on the largest companies in the industry. Whether or not they are the most “guilty”, the largest players usually have most influence over the industry. Smaller companies may escape initial criticism but they are often pulled into changes resulting from successful campaigns, which are likely to have been shaped by the industry leaders to their own advantage. Rather than view their escape from initial criticism as an opportunity to lay low, it would often serve smaller companies well to engage in discussions earlier. 15

For instance, the Conflict Diamond campaign launched by Amnesty International and Global Witness in 1998 raised the issue of blood diamonds with Western consumers. De Beers felt the brunt of the heat, despite the limited hard evidence that it was amongst the most responsible. The campaign began by calling for a widespread boycott of diamonds, a threat real enough to persuade De Beers to take the issue seriously. The industry ultimately found a solution in the Kimberly Process Certification, under NGO monitoring. Ultimately, that solution prompted De Beers to refocus its business model and reduce its support for industry-wide prices, potentially undermining smaller companies’ competitiveness in the long run. Ideally, mining companies should head off issues before they become campaigns, by ensuring they remain above the bar of expectations they will be expected to meet in the future. This is particularly difficult in the mining industry, where projects can last many decades. Regular discussions with NGOs are one of the most effective ways to identify nascent social trends. Leaders in the mining industry are moving their engagement with NGOs in this direction but most of the industry remains reactive to pressure rather than proactive. A clear framework to engaging with NGOs is an important part of strategic planning, and becoming more so as social issues develop into a key area of business strategy. A whole industry of consultants and conferences has grown up to provide advice on NGO engagement. The following are the author’s opinion on the more important principles: 1) Don’t invest equally in relationships with every organisation that throws mud. Whilst dialogue with a broad section of NGOs is helpful to establish the landscape of social issues, companies need to clarify their own views of the most important issues they face and engage with NGOs most deeply on those issues. 2) Don’t limit discussions to corporate-friendly NGOs; be prepared to work with extreme elements. Treat engagement with an open mind, as a fact-finding mission and seek as wide a range of perspectives as possible. 16

3) Discuss, rather than negotiate, with NGOs. Campaign groups should inform decisions but decisions should not be made to appease NGOs, who rarely have the authority to agree solutions for the stakeholders they represent. 4) Do not make false promises. NGOs will pick up on and exploit any failure to follow through on promises. 5) Be sure of facts but aware that facts are not enough. Inaccurate facts can undermine an argument but a completely accurate description of the issues is unlikely to get rid of pressures from campaigners, who can be more concerned by outcomes than responsibilities. 6) Do not use meetings with NGOs for PR benefit. Seeking to leverage the media attention campaigns gather serves to highlight an issue, often unnecessarily, and undermines the frank dialogue engagement offers, at its most effective. 7) Treat engagement as a two way process. Relationships will be more fruitful when each side understands the other and gets some benefit. NGO engagement is in fashion across the corporate world, but achieves little if not approached with a game plan in mind. As a PR exercise, it does little but give credibility to a multitude of arguments. Approached as a joint-decision making forum, it is likely to leave companies pulled in too many directions. Rather, engagement should mostly be an exercise in understanding the social pressures a company faces and will face, and how it can plan for those pressures. As social issues assume increasing importance in the mining industry, engaging with NGOs effectively and proactively can help the industry to lead the debate rather than be led by it. Part 3: Manage the right customers The public is becoming increasingly aware of the mining industry. The number of news articles referring to the mining industry almost doubled between 2005 and 2006. Films such as Blood Diamond and An Inconvenient Truth painted bleak pictures of the impact our industry can have on societies and the environment. Record profits and corporate takeovers kept mining in the evening news. Notwithstanding concerted efforts by many mining companies to improve their image, several surveys have shown mining is amongst the least trusted industries by western world publics. 17

The consumer is at the heart of most companies’ strategies. To some extent, most industries use social responsibility as a marketing tool. Starbucks sells Fairtrade coffee, Nike ensures its suppliers do not exploit underage workers and IKEA ensures its wood comes from sustainable forests. They do this in large part because it helps them sell more products. The mining industry is different. Mining companies do not generally compete by persuading consumers to pay more for products that contain their minerals. Instead, mining companies compete by finding the lowest cost assets and producing their products at the lowest cost possible. Consumers do not usually take direct action when they perceive resource companies to be irresponsible. A recent survey by Incite Marketing shows consumers are less likely to alter their buying if they feel resources companies are not acting responsibility than when companies in other industries behave irresponsibly. Few consumers are even aware of the minerals they consume and it is hard to image they would be willing to pay more for a product containing a particular mining company’s metal. Who can identify the source of the roughly 20,000 kg of non-fuel minerals consumed annually by the average person in the western world? Diamonds is the most consumer-sensitive sector of the mining industry. NGOs Global Witness and Amnesty International pushed the conflict diamonds campaign which ultimately led to the Kimberly certification process and indeed a change in the overall strategy of the dominant player, De Beers, from diamond buyer to diamond seller. The film Blood Diamond painted a damning picture of the impact the diamond mining has had on developing countries - but even this doesn’t seem to have made much difference. Diamond sales have gone from strength to strength in recent years. A survey by the Jewellery Consumers Opinion Counsel shows that virtually no consumers ask jewelers for certification and the majority of viewers of Blood Diamond have no intention of changing their jewellery-buying patterns. If consumers are unswayed in their buying of a luxury good with an obvious target in the face of a concerted campaign, it is unsurprising that other consumer campaigns, such as No More Dirty Gold, are having limited success. It is hard to imagine how a boycott of, for instance, Codelco’s copper would even work.

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This does not mean consumers’ views are not important. Consumers may have little impact on the purchase of most commodities but, increasingly, the public is applying pressure to banks to lend responsibly and provide socially responsible investments, influencing politicians’ decisions and providing financial support to NGOs. The Incite Marketing survey shows that consumers are more likely to pressure politicians or provide support to NGOs if they view resource companies as behaving badly than is the case for other industries. The performance of the Cooperative Bank, which adheres to tough social and environmental criteria and has been one of the fastest growing banks in the UK in recent years, is evidence of consumers’ demands for socially responsible banking. Most of the industry has responded by introducing social and environmental criteria into its lending and then publicising this change widely. Similarly, demand for socially responsible investment funds is growing faster than any other area. This in turn influences the hoops through which mining companies must jump through to borrow for projects in sensitive parts of the world. Fuelled by rising public interest in environmental issues and international development, and a rising mistrust of the corporate world in general, funding for NGOs is at a record level and politicians are taking these global issues and the role of multinational companies more seriously. The Edelman Group surveys public opinion towards different groups in society and reports that NGOs have become the most trusted groups, as trust in business, media and government has shrunk. Governments are increasingly responding to rising public interest in the environment and international development. Climate change and third world development were the pillars of the UK’s G8 Presidency, for instance. Mining companies are not directly affected by consumer pressure in any of these examples. In all, public opinion is changing the background environment for mining companies through the way they interact with other stakeholders. It is therefore important for mining companies to monitor public opinion, even if the effects are not direct. The public is not the most important direct stakeholder for the mining industry but it is dangerous to ignore changing public opinion, which will ultimately affect it through other stakeholders.

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Part 2: Host governments decide the guest list Of all stakeholders, host governments have the greatest potential power over the mining industry. They decide which companies are able to exploit resources in their countries. Many are becoming more willing to exercise those powers. Disillusioned by the frequent failures of the free market policies pushed by the West, empowered by a global recognition of those failures and given a mandate to assert power over foreign investors by political change in many parts of the developing world, the mining industry’s engagement with governments in resource rich countries is becoming increasingly complicated. As an investment analyst in the late 1990s, the announcement that the South African government planned to renationalize mineral assets, raise royalties and mandate a transfer of mineral wealth to local black businesses ignited the reaction, “what are they playing at?” The impact on share prices was immediate and negative. Since then, many more governments in resource rich countries have taken steps to ensure more of the wealth generated by resource companies stays in their country. The failure of past policies, political change and the attraction of sharing in the industry’s ample profits are likely to lead more politicians down similar paths. Free market policies designed in part to open developing countries to western investment in recent decades have failed. A report published by the World Bank last December concluded that its programs have been unable to lift incomes in many poor countries. The growing evidence that the policies promoted by the West have not worked is providing both an impetus for change and a validation to governments pursuing alternative policies. For instance, South Africa’s upheaval of its mining sector legislation and the relatively muted international criticism of the move largely reflect the failure of mining sector profits to benefit most of the country’s population in the years since apartheid. Partly in reaction to the continued poverty of many developing countries, the global political landscape is changing quickly. Democracy is spreading to more corners of the world and with it, in many cases, the election of governments willing to adopt more assertive approaches to the management of their nations’ resources. Freedom House, a US NGO, calculates a close to doubling in the percentage of “politically free” nations in the world. Over the last 13 months,

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twelve countries in Latin America have held elections, with a well-publicised move towards more left wing, nationalistic policies. This changing political environment has important implications for the mining industry. The growth in overall mineral output will come from countries that are less politically stable than the industry’s current production base. For instance, the countries providing new copper mine output in the next four years are roughly one-third less politically stable than the average of current producing countries, based on Brook Hunt production forecasts and Economist Intelligence Unit political stability indices. The mining industry is an obvious target for many governments. Unlike most companies, which are able to choose where to locate their operations, miners are bound to follow the most attractive resources and once they have made an investment, it is extremely costly to leave. Furthermore, resource rich countries have frequently failed to convert their mineral wealth into economic development, whilst extractive companies have often earned significant profits. The World Bank’s Extractive Industries Review noted that, “mineral wealth has been detrimental to many countries’ development.” In reaction, governments in many resource rich countries around the world have imposed windfall taxes on the resource industry, taken harder lines to ensure foreign companies behave responsibly or gone further by raising the prospect of nationalization. In 2006, South Africa proposed revenue based royalties ranging from 1% for coal to 6% on certain platinum group metal products. Zambia has increased mineral royalty from 0.6% to 3% and imposed a 15% tax on concentrates being exported. Namibia proposed a 5% royalty on unprocessed mineral products destined for export. Mongolia passed a law taxing up to 68% of profits during periods of high prices. Bolivia and Venezuela nationalized energy assets and Peru contemplated a windfall tax. Indonesia seems to have pursued most of the large mining companies in recent years, prompting Rio Tinto and BHP Billiton to exit their coal operations there and currently tying Freeport and Newmont in red tape. The trend is a global one, with countries around the world using similar tactics.

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Those countries adopting stricter policies towards mining companies have faced vociferous criticism and many have backed down. However, in many cases their actions are entirely logical. For instance, the Peruvian government was criticized last year for implementing a plan to extract $757 million from mining companies over five years, in lieu of a proposed windfall tax. However, the idea of sharing more of the high returns earned by the country’s mining sector has logic. The Economist has put the value of taxes and royalties paid by mining companies in Peru last year at $879 million. The total value of mining investments in the country over the past decade totals over $10 billion and based on its profits, over $3 billion last year, it is not unreasonable to assume a value north of $15 billion for the Peruvian mining industry. This is higher than the present value of future royalties. Put another way, looked at in isolation, there is an economic rationale for nationalizing the assets, although the impact on future investments would likely outweigh these benefits eventually. By adopting a softer stance and instead securing additional payments, the Peruvian government allows the industry to earn attractive returns and is unlikely to have significantly affected future investments, which are rarely driven by countries’ tax rates. Whilst criticized by many in the industry, the move to share more of the profits generated by its mining industry should not have been a surprise.

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More broadly, countries are likely to take action when the mining sector is an important component of the overall economy, when their revenue from that industry falls short of level they might expect, where operating assets are already well established and profitable and when the economy as whole has failed to develop significantly. Past agreements are becoming less important hurdles to governments and replaced by a readiness to ensure an equitable share in the resource sector’s profits. This analysis also implies that mining companies might find it increasingly difficult to generate very high returns in countries that are not developing economically. These trends imply important changes for the way mining companies view their investment in developing countries susceptible to political change – which is most of them. First, political risk is growing in many resource rich countries. Second, whilst the risks may be higher, investing companies able to manage them can create a competitive advantage. At the heart of any strategy to manage these political risks should be a focus on achieving equitable outcomes throughout the life of the project; in establishing any arrangement, mining companies must ensure the host country benefits. Past approaches based on securing and fighting to retain long term royalty arrangements are becoming less valuable. It is also insufficient to assume paying taxes is sufficient; unless economic development filters through the population, a reaction in the future is likely and mining companies should play a role in promoting effective governance. The bulk of the moves we have seen so far have been indiscriminate; most of the mining industry in a country has been affected by governments’ actions. Going forward however, there are some signs that initiatives to share in the industry’s wealth will be more selective. For example, in South Africa, allowance was made for companies’ past initiatives when the government introduced black economic empowerment requirements. In summary, the mining industry needs to rethink its relationship with host governments in developing countries. They are increasingly exerting their power over resource companies and it is becoming more critical to build partnerships with those governments, rather than negotiate contracts. The moves we have seen so far might otherwise seem tame compared to the power they could exert. With a more conciliatory approach, mining companies could instead

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develop relationships with host governments that translate into real competitive advantage in securing assets. Part 1: New project management skills needed: the rising importance of social engagement to the mining sector It is becoming increasingly important for the mining industry to understand the roles it is expected to play in the societies in which it operates. There was a time, not too long ago, when all a mining company needed was a permit from the host government and everything else would fall into place. Today a wide range of stakeholders have a voice; governments, nongovernmental organisations, local communities, banks and shareholders are all able to scupper a project.

As different stakeholders become empowered to apply greater pressure and some industry leaders accept broader roles and responsibilities, the lines of expectation and acceptability are changing. In this respect, the mining industry is

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like many others; corporate social responsibility (CSR) is assuming greater importance throughout the business world. However, the issues our industry faces differ substantially from most sectors. By looking at the goals, strengths and tactics of the stakeholders in the mining industry, we can begin to understand the future mining companies will face, and can help shape. As a commodity industry, competition between companies in the mining sector focuses on securing more attractive assets than their peers, rather than higher selling prices. With a few exceptions, such as the diamond industry, consumers are rarely aware which companies produce the minerals they consume and show little tendency to alter their buying based on social concerns. However, stakeholders in the development of new projects are becoming increasingly concerned by social and environmental factors. As a result, whereas consumer industries have grasped CSR as a way to differentiate their brands and the products they sell, in the mining industry CSR can become a way to produce the same commodities at lower cost, through access to attractive assets. Mines are not generally found in easily accessible places and are by nature disruptive. As such, managing their impact presents both risks and opportunities to the industry, across both developed world assets – where environmental and social issues have long been important – and in the developing world where they are becoming more so. An effective strategy should view social responsibility as a central element of strategic planning if risks, many not yet apparent, are to be avoided and opportunities grasped. Unlike most risks mining companies face – such as price and exchange rate movements – social factors can be managed as well as measured, making their effective management a source of competitive advantage. There is a demonstrable link between companies’ CSR credentials and financial performance. Whether social responsibility drives profits or vice versa is unclear and the business logic remains unclear. For instance, the evidence to date that CSR makes much difference to a mining company’s ability to secure attractive mineral assets or to lower costs is, frankly, 25

limited. Nonetheless, this promises to be one of the most important issues the industry faces over the coming decades. With capital becoming ubiquitous throughout the global mining industry and best operating practices increasingly easily being shared between projects, mining companies used to competing on their ability to access finance or their operating expertise will find social responsibility a key way to differentiate themselves in the future. As operating costs rise and reserves dwindle in the West, and developing countries open to foreign investment, the battle for growth will increasingly be taken to the developing world. Mineral Economics Group has estimated that in two decades, a third of the world’s mineral output will come from the developing world and almost as much again from the Former Soviet Union (FSU) and China. The issues in the West are relatively clear; environmental, health and safety standards here are tough and getting tougher. In the developing world, they are a work in progress and, as they develop, may become either a platform to establish a competitive advantage or a burden to western mining companies. With rising scrutiny of their activities at home and faced with increasing competition from cash-rich competitors unencumbered with social and environmental standards, western mining companies are struggling to compete in the developing world and are substantially under-represented in the projected output from that region – the driver of growth in coming decades. Unless they find a way to operate there effectively, large western mining companies’ share of industry output will fall significantly. For instance, Brook Hunt data shows developing countries producing one quarter of the world’s copper hold more than half of the industry’s resources. Amongst the ten largest copper producing countries, the US, Australia and Canada have resource lives of around 20 years or less at current rates of production. Peru, Indonesia, Kazakhstan and Zambia have resources lives more than twice as long. Mongolia and the Democratic Republic of Congo remain largely untapped.

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As supply from the developing world increases, costs will decline. In 2000, copper mining costs in the developing world were higher than those of the developed world. By 2010, the developing world will have an approximate 25% cost advantage. Put another way, whilst the industry made essentially no profit mining copper in the developing world at the start of the decade, it will contribute close to one quarter of the industry’s profits by 2010 and likely rise further over subsequent decades. This picture is evident across most commodity markets. Clearly, it is critical to the mining industry that it finds a way to compete in the developing world. Corporate Register, which monitors non-financial reporting, shows that, relative to the size of the sector, mining companies already publish more social reports than any other industry, aside from forestry. The industry has formed trade bodies, regularly tells its message to the financial and political communities and makes the right noises in the press. Recent surveys indicate that mining industry executives place this issue amongst the most important facing their companies. However, surveys show resource companies continue to be viewed as one of the least trusted and the sector is a frequent target of development and environmental advocates.

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The industry will be unable to ignore these pressures or view a CSR strategy as an add-on to strategic planning. As leaders take up the debate, the rest of the industry will be unable to ignore the raised expectations on the industry as a whole. Over the coming months, we will discuss the issues facing the mining industry from the perspectives of different stakeholders, focusing on the developing world. We will look at the power of different groups, their goals and the approaches they are using to achieve these goals. Tying these together will paint a picture of the likely result of these competing pressures. Financial institutions Finance has always been the lifeblood of the capital-intensive resources industry. Under its own pressure to act responsibly, the banking industry is attaching increasingly stringent conditions to the funds it lends for investment in the developing world. For instance, the Equator Principles, which were updated last year, are designed to ensure signatory banks’ investments are socially and environmentally sound. Similarly, shareholders are paying increasing attention to social issues when investing and taking a more activist stance with companies, in which they invest, reflecting the recent greater profitability of socially responsible investment strategies when compared with more mainstream investment routes. Consumers The diamond industry might feel differently, but consumers are rarely able to have much effect on a mining company’s sales. In most industries, CSR strategies focus on changing consumer perceptions and the opportunity to increase sales or prices. In contrast, few commodity markets have sufficiently concentrated production to put them at risk from consumer action. Consumers rarely make the link from the finished product to the raw materials it contains, and are anyway unable to trace it to a specific company. The “No Dirty Gold” consumer campaign, for instance, appears to be stalling, partly for lack of a clear villain.

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Consumers’ bigger influences on mining companies come through their support for other stakeholders such as NGOs or the pressure they apply to financial institutions and governments. Developing world governments Recognising that many of the open-market policies pushed by the international community have not resulted in improved economic growth, many governments in the resource-rich developing world have, in recent years, become more assertive in managing their resources From the prospect of creeping nationalisation of Latin American resources to South Africa’s Black Economic Empowerment Bill or Indonesia’s tougher line with investments made during the Suharto era, terms of investment are becoming more fluid. Emboldened to demand more and to `renegotiate` where they do not perceive they are benefiting sufficiently, governments have, on the one hand, raised the risks of investing in their countries. On the other, they have presented a new challenge to mining companies to find a way to shift the emphasis of their engagement away from negotiating long-term contracts and towards developing a partnership that will contribute to a country’s long-term prosperity. Local communities Mining is a necessarily disruptive activity to local communities and one that has too often failed to bring them much benefit, particularly in the developing world. Those communities were often ignored in the decision to invest or a project’s ongoing operation and rarely had much recourse. In recent years, however, local communities have proven highly disruptive forces in many mining operations and exploration projects. With the World Bank and other international development agencies stressing the importance of grass roots development and the importance of social stability, the platform for local communities to make their voice heard is likely to grow stronger.

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Developed world governments, international agencies Increasingly concerned by the failure of resource-rich developing nations, developed world governments are applying tighter regulation to the international activities of companies with operations under their jurisdictions. In the US, mining companies must contend with the Patriot Act, the Foreign Corrupt Practices Act and increasingly transparent reporting requirements from financial regulators. NGOs The mining industry is well used to NGO pressure. For decades, Rio Tinto and other major mining companies have faced criticism from pressure groups such as People Against Rio Tinto and its Subsidiaries (Partizan). As western societies’ trust in businesses in general has collapsed in recent years, NGOs have assumed increasing importance as a voice for civil society. The number of NGOs focused on the mining sector has grown sharply and they have become well funded, knowledgeable and responsible participants in debating social issues. Competition from emerging economies The international mining industry is becoming increasingly cosmopolitan. Continuing a trend begun by the South African mining houses in the 1990s, producers from Eastern Europe and Asia are increasingly moving to western financial markets. Not only have they lost their advantageous access to cheaper capital, but the majors increasingly find themselves in competition with newcomers from transition economies such as China. Those players are well-funded and not governed by western levels of social and environmental regulation or expectations. Chinese companies, for instance, have become major investors in the African minerals industry in recent years. As the Sierra Leone ambassador to Beijing put it: “Chinese investment is succeeding because they don’t set high benchmarks”. Establishing a firm basis for international regulation of the global mining industry’s social and environmental impacts may be the only effective way for the western industry to compete.

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