Article – co-financing mining assets with infrastructure

A persistent challenge raised by sponsors and developers of mines in Africa is the lack of infrastructure: to bring in construction and operational supplies, to remove mined ore or minerals, and to provide power and water. This article explores, hypothetically, possibilities for co-financing mining and infrastructure projects, so as to overcome the all too common problem of a stranded mining asset.

On Balance Sheet

Certainly, there are examples throughout the continent of mining majors building the necessary infrastructure themselves, using their own balance sheets, so as to develop mineral resource assets. Vale has spent large amounts to rehabilitate or develop the Nacala corridor railway in Mozambique and railways in Malawi and has made similar agreements to rebuild the trans-Guinea railway. Sichuan Hanlong has agreed to make large investments in port and railway infrastructure in Cameroon and the Republic of Congo in connection with its investment in the Mbalam iron-ore mine. ArcelorMittal has developed port, railway and road facilities in Liberia to support its iron-ore mines in the country.  But what options are there for developers who want or need to finance development on a project basis, using traditional techniques of non- or limited recourse financing?

Off Balance Sheet

Speaking generally, the basic financial analysis of a mining financing seeks coverage ratios of net revenues 2.0 or more times debt service. Ratios of that proportion are necessary to balance the volatility of the commodity price of the mineral to be mined over the life of a project. In contrast – and again speaking generally – financiers of utility project generally seek coverage ratios more on the order of net revenues 1.25 to 1.50 times greater than debt service. The difference arises from the typically more stable and predictable revenue of such infrastructure assets. The capacity of a project to carry debt derives directly from the coverage ratios senior lenders expect: greater coverage means less debt.

Project Categorisation

A first approach would therefore be to decide on what risk basis a combined mining/infrastructure project should be analysed.

If the ultimate revenues which will support each element exhibit the type of volatility characteristic of commodities (and the mines that produce them), then financiers are likely to seek higher coverage ratios for each element. For example, if the infrastructure required is a railway spur from the main line to the mine which is to serve primarily to provide ingress and egress for a mine, then financiers will analyse the financing requirements much as they would those of the mine itself, looking to the revenues that may be derived from whatever is to be mined.

In contrast, the purpose of the mine may be to supply a utility project. For example, the project may consist of a coal mine whose purpose is to supply fuel for a power station. The Mmamabula coal-field and power plant project in Botswana might be such an example (although that project has been stalled for some years for other reasons). In these cases, one might expect that financiers would analyse the revenues available to satisfy the debt incurred in order to develop the mine on the basis of the predictability and stability of the revenues ultimately to be derived from that power station’s power offtake arrangements.

Prioritisation of Revenues

It may be possible, however, to structure a project in such a way that the revenues which might otherwise be characterised by commodity volatility are refashioned to exhibit the more stable risk profile of utility revenues. Among other means, financiers of either (or both) elements may be willing to give a greater priority to the payment stream supporting the infrastructural element. In other words, from the perspective of the mine, payments to the infrastructure element would be operational payments, which would generally have a higher priority than debt repayments. Alternatively, one could look to the techniques of equipment finance, where it is not all that unusual for some equipment financing to enjoy a senior position in cash waterfalls. Even taking into account that it is a stream of revenues from the sale of the commodity that is mined that supplies that cash flow, according the necessary portion of the stream that higher level of priority – in other words, de-risking that portion of the revenue stream – may be sufficient to endow it with sufficient predictability and stability that financiers would accept coverage ratios more like those of a utility project.  While financing an infrastructure asset may be something of a step-up in scale, a mining project may nevertheless be able to sustain prioritisation of its revenues while retaining sustainable coverage ratios at the next most senior level of its waterfall.  As a result, the developers of the project may be able to increase the debt-carrying capacity of that element of the project (although the structuring would undoubtedly have an effect on the pricing of the mining project debt).

Cluster Financing

On the other hand, the infrastructural requirements of a project may be so large (at least relative to the mining element) that prioritisation of the utility repayments is not possible without destroying the bankability of the mine financing. In that case, the obvious solution would be to increase the quantum of the mining (or other) revenue base supporting the infrastructure. Often, mines are developed in clusters (each taking advantage of the same mineral deposit which is necessarily geographically proximate or adjacent). In that case, it makes sense for a utility resource to serve that cluster. In such a case, it may be possible for an infrastructure asset to enjoy priority to some smaller portion of each mine’s revenue stream than the portion that would necessary to support such infrastructure were it to come from a single mine.

Government or DFI Support

A cluster solution may, however, face the difficulty that the various constituents do not become operational at the same time or cease operation at different times.  In this case, the intervention of a government or development authority could resolve the dissynchronicity, by filling in for mines that are not yet onstream, or backstopping the risk of revenue fall-off if some mines cease operation early or without replacement. A government (perhaps supported by development institutions) could hold a residual ownership in the infrastructure development, to be put to other uses, to the extent the projects do not use its full capacity, or at the end of their life cycles. The technique of governments and DFIs backstopping an infrastructure project in such a way has been developed in the case of the Rift Valley Railway in Kenya and Uganda. The concept could be expanded to work in the more specific context of a development corridor or cluster.

Conclusion

We have explored in this article the possibilities for co-financing mining and infrastructure projects.  For further information on this, please contact Simon Norris, Conrad Marais, Barry Burland or David Nanson – Trinity’s mining contacts.