20/11/2007 - 22:00

The end is coming...really

20/11/2007 - 22:00

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BHP Billiton’s proposed $400 billion merger with Rio Tinto is being hailed as the biggest game in the resources world, but there is a bigger force at work, and it has the potential to permanently change Western Australia.

Resource nationalism, best illustrated in the rise of state-controlled mining companies, is potentially far more important than another round of corporate mergers.

Oil is the sector currently most dominated by government, but control of the iron ore, nickel, aluminium and copper industries is also sliding closer to governments around the world – and their chosen national corporate champions.

This presents a fresh challenge for Australia. How will our free wheeling, free enterprise economy cope with foreign governments dictating the flow of capital to new projects, and the location of the best-paid jobs?

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As a second thought, it is possible that the urge to merge at BHP/Rio is being partly driven by the rise of state resource enterprises such as those already active here?  Among these, of course, are Chinese steel companies, Russian steel companies and a big nickel miner that ultimately answers to the Kremlin, and a Brazilian giant in which the government of that country retains a so-called “golden share” that can veto most activities.

As with some other recent thoughts from Briefcase, this changing set of circumstances requires the reader to use more than his or her normal quota of grey cells. To help, let’s go through what’s happening locally, and then have a look at where we might end up, using oil as a model.

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Currently, most resources projects in WA are controlled by companies with roots in Anglo/Australian law.

They have a broad base of shareholders, most of the senior executives understand the relationship and differing roles of corporations and government, there is an expectation that the company will behave as a good citizen, and they provide well-paid local jobs and invest in new projects and the wider community.

Do those same rules, which fall under a sort of ‘decency’ test also apply to Chinese steel mills?

More particularly, where does the ultimate loyalty, and best interest of the steel mill’s management lie?

In China, obviously.

Today, thoughts like these seem to be irrelevant because we’re in a boom. China wants our resources and, to be brutally honest, will say and do anything to get access to them.

When the good times end, which they always do, there is no doubt that the first area to feel the sting of contraction and belt-tightening will be as far from head office as possible.

Briefcase is not deliberately singling out China as the bogeyman in this situation. All companies (and people) ultimately behave in a way that is in their best interest.

But, in the case of resources there are two strands of history that cannot be overlooked. First, resources are finite (there is no such thing as a bottomless mine). Second, all resource booms lead to the rise of national champions – in the country which has, or most keenly wants, the resources – even Sweden, Finland and Britain once had national resource champions.

•••

The question of finite resources is an area in which the Western world, especially Australia, has tied itself in a knot through the abuse of a single word: sustainability.

About a decade ago, when times were tougher, resource companies were frightened by the rise of the environmental movement and threatened closures because mining was not just messy, it was a short-lived user of the land.

•••

The response was to launch a campaign arguing that mining was “sustainable”, quietly overlooking the fact that it’s not. One definition of sustain, for the clods who run mining lobby groups, is “to keep going continuously”.

Trying to live a lie, over time, is impossible.

But, by creating a local belief that our resources are sustainable (last forever?), we have failed to recognise that no-one in the fast-growing economies of Asia (our customers) has fallen for the same trick.

That’s why there’s a stampede for Australian resources from countries as far afield as Ukraine, Brazil, Russia, India, Malaysia, China – and everywhere in between.

People who run companies in those countries know that a mineral asset is not sustainable, and it’s a case of grab it while you can.

•••

This recognition of the need to acquire assets by fast-growing, energy- and mineral-intensive economies, leads to the rise of national champions, companies that have the ear of government, or are actually controlled by government.

Companhia Vale do Rio Doce is Brazil’s national champion, and a very welcome investor in Australian resources. CVRD has started by investing in Queensland coal, but will spread across Australia because its real interest is iron ore and nickel.

Despite loud protests from management that it is a minor matter, there is no escaping the fact (and CVRD doesn’t hide it) that the government of Brazil holds a golden share in the company, which gives it extensive veto rights over what CVRD does.

Norilsk Nickel, the new owner of LionOre, which operates nickel and gold mines in WA, is controlled by two classic Russian oligarchs. These chaps, for their own good, do precisely what the Kremlin tells them or it’s off to jail, or worse.

•••

SinoSteel, China’s national steel champion, runs around pretending it’s an independent organisation, but ultimate control rests with the central government of China.

Overseas, we’re watching what could be the first attempts to re-nationalise the copper industry in the Congo, while most resource industries in Venezuela have already been re-nationalised because the government wants the windfall profits of high metal and oil prices.

Briefcase is not criticising these national resource industry champions. Every country has them at a certain stage of its evolution, and they fulfil a purpose – providing the raw materials to drive the economy.

The point is that these companies are not charged with acting in the best interests of the countries in which they operate. They must act in the best interests of the governments that ultimately control them;  and that’s the direction in which we’re heading – a state with a magnificent resource industry, controlled by foreign governments.

Whether this is good, or bad, is not the question. The point is that it’s an emerging fact of life, and we had better get used to it.

•••

Now for that final word on what’s happening in oil, a pointer to where we’re going.

Big Western-world oil companies, such as Shell, ExxonMobil, Chevron and BP, are in deep strife. Profits are high (thanks to the oil price) but the companies are actually in decline when measured by the critically important reserve replacement ratio – they are producing more than they are finding, the kiss of death in the resources industry (no bottomless mine).

The best recent proof lies in a survey of the 2006 exploration budgets of 228 oil companies around the world. Collectively, they spent $US401 billion on exploration to boost their total level of reserves by 2 per cent – yes, just 2 per cent. A huge effort for almost no return.

The bulk of the world’s oil is not only under the control of state-owned companies, the ratio is getting higher thanks to the fact that most oil is found in totalitarian states, and Western-owned assets are being nationalised – such as in Venezuela, Russia, Nigeria and Kazakhstan.

Where oil has gone, other resources will follow, hence the stampede to acquire, or merge in the case of BHP Billiton.

STANDING BY BUSINESS. TRUSTED BY BUSINESS.

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