Vale (NYSE:VALE) has refused to make any further payments to Beny Steinmetz Group Resources (BSGR), its partner in the Simandou iron-ore project in Guinea. The company is supposed to pay a total of $2.5 billion for its acquisition of a 51% stake in the project from BSGR. Vale has paid $500 million thus far and is refusing to pay the remaining amount for now, arguing that payment should be based on how far the project advances.
Vale put the Simandou project on hold in October last year following the Guinean government’s decision to review all mining contracts in the country. Some unfavorable actions by the Guinean government last month may have also contributed to Vale’s decision [Brazil miner Vale stops payments on stalled West Africa project, Mining Weekly].
On its part, BSGR is demanding the full amount right now so the dispute is likely to go to court. This could create further complications for the revival of the Simandou project. Even in the unlikely case that the government clears the project without demanding major changes, the development of the mine is expected to be a long-term exercise. This means that BSGR would have to wait further before being paid, which it doesn’t seem ready to do.
A Recap On The Simandou Project
It is widely acknowledged in the mining industry that Simandou holds one of the world’s best undeveloped iron ore deposits. The iron content in the ore is so high that experts say it requires very little processing. The problem is that the mine is located 700 km from Guinea’s coast, which means that it will cost at least $10 billion to exploit. A lot of transportation infrastructure will have to be put in place before the ore can be monetized [Guinea reignites $2.5bn mining tussle, Financial Times].
Rio Tinto was granted rights to mine Simandou in the 1990s by the then dictatorial regime. In 2008, the regime of the day stripped Rio of rights to half the concession saying that it had missed deadlines to start mining. The half taken away was given to Beny Steinmetz Group Resources, which in turn sold a 51% stake to Vale in 2010 for $2.5 billion [Rio strikes deal on Guinea mine, Financial Times].
After paying $2.5 billion, Vale’s plans were upset after the surprise end of military rule and the introduction of a new mining code in Guinea. The government declared that all contracts would be reviewed and reworked. It said that it would cancel licenses obtained through bribes and secure a minimum minority stake for the state in all projects [Guinea to review mining licences, Financial Times].
A government committee launched a corruption probe to find how BSGR got awarded for just $160 million the half of Simandou stripped from Rio Tinto. It also questioned whether BSGR ever intended to mine its half of Simandou or simply acquired the rights in order to sell them at a higher price. At the time, BSGR rejected the allegations and defended itself by saying that it wouldn’t get paid unless the project got going. This makes BSGR’s present demand for payment from Vale quite curious. It may be an indication that BSGR thinks that progress on the mine will take a long time.
Why Did Vale Put The Project On Hold?
Apart from the government review of the contract and BSGR’s activities being under way, Vale’s decision to put Simandou on hold was influenced by falling iron ore prices which severely dented its earnings in the third quarter. It reported a decline in net profits of 66% year-over-year and 37% sequentially. The company decided to prioritize the development of high-quality assets such as its vast Carajas mine in the Amazon and the Mozambican Moatize coal mine [Vale puts Guinea mining project on hold, Financial Times].
What’s Happening Now?
The government was supposed to have completed the Simandou review by March but negotiations are still on. Also, last month the Guinean government barred BSGR president Asher Avidan from entering the country without providing sufficient explanation for the decision. In response, BSGR said that it would seek international arbitration if needed in order to defend its mining rights [BSG Resources boss barred from Guinea – sources, Mining Weekly].
We believe that Vale thinks that these events will delay the project for a long time, and hence doesn’t want to pay BSGR right now. It has invoked the force majeure clause in the contract with BSGR. This clause is included in contracts to remove liability for natural and unavoidable catastrophes that interrupt the expected course of events and restrict participants from fulfilling obligations. BSGR may decide to contest Vale’s interpretation of the clause in a court [BSG Resources: Prepared to Seek Arbitration to Defend Guinea Mining Rights, Fox Business].
It seems that all parties are in dispute with each other over this crucial project. Given this, and the latest refusal by Vale to pay BSGR, we think that a round of court battles is likely. If Guinea cancels the Simandou license and BSGR goes for international arbitration, the project may not fructify for a long time.
We have a Trefis price estimate for Vale of $20.
Disclosure: No positions