Energy, Mining and Infrastructure
Global
Mineral Commodities Trading
Depressed commodity prices. Buyers with
questionable credit quality. Tax posturing.
Governmental restrictions and requirements.
Climate change. Trading companies are facing
risks from many different directions. But they
can mitigate these risks by anticipating and
contracting around them.
In this publication, we identify some of the
most immediate risks likely to be faced by coal
and mineral trading companies in the current
commodities down-cycle, and recommend
different ways to address them.
Commodity trading in a
down-cycle —
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From one direction, trading companies are facing depressed commodity prices that have resulted in a number of supply mines and other projects becoming marginal, leading to default by suppliers. From another direction, trading companies are seeing a decrease in the credit quality of buyers as well as the slowdown of growth in some emerging markets, both of which could result in a higher rate of default by buyers.
There is an increasing trend for miners to establish captive trading arms in jurisdictions, such as Singapore, to avail themselves of tax savings. From a buyer’s perspective though, dealing with a trading entity rather than the actual mine or project itself may give rise to additional credit concerns since the buyer is contracting with a pass-through entity rather than an entity with a substantial asset (i.e., the mining asset). On the other side of the tax coin, companies should be vigilant in how they calculate and document their transfer prices since many countries require companies to show that their related party transactions are priced similarly to unrelated party transactions.
Risk protection
Tax structuring
Our recommendation:
For buyers dealing with captive trading entities, consider insisting on a back-up guarantee from the supplying mine (to put you in the same credit position you would have been in had you not accommodated the seller’s tax structuring arrangements). For mine owners, consider the jurisdictions that provide for favorable tax treatment and the accompanying issues. What is the jurisdiction’s corporation tax rate, if any? Does the jurisdiction offer any special fiscal incentives to attract trading operations? What about its witholding tax rates on repatriating profits? How likely is it that tax authorities would challenge a transaction for breach of transfer pricing rules? Can you enter into an advance pricing agreement with tax authorities?
Protect
yourself
by
Conducting proper due diligence on your suppliers, logistics providers and buyers Ensuring adequate infrastructure exists or will be built to transport the commodity Arranging for appropriate collateral and other risk mitigation, such as credit insurance Pricing credit risk into your trading contract Analyzing the market and regional stability Our recommendationIn the current era of “Resource Nationalism”, countries continue to introduce measures to restrict exports of commodities, or at the very least, prioritize domestic markets. Moreover, the enforcement of anti-bribery laws and resource disclosure requirements is intensifying.
With more and more emerging markets coming onto the supply scene, it is important to understand how any rights of redress under the contract can be enforced. Some jurisdictions (e.g., a number of the African states) have not become signatories to the Convention on the Recognition and Enforcement of Foreign Arbitral Awards 1958 (the New York Convention), and accordingly there are challenges enforcing foreign arbitral awards in those jurisdictions. Moreover, if the jurisdiction is not a signatory to the Hague Convention on Foreign Judgments in Civil and Commercial Matters, the Brussels regime or a similar treaty or convention providing for the recognition and enforcement of judgments from foreign countries, there could be challenges collecting on a judgment. For example, Indonesia does not recognize foreign judgments as having binding effect on Indonesian courts. Therefore, a judgment obtained by a coal buyer in the Singapore courts against an Indonesian coal miner would not be directly enforceable against that coal mine in Indonesia.
Trading companies can seek to protect their contractual positions by ensuring that supply contracts explicitly deal with these changes of law, so as to avoid force majeure claims, claims for contract frustration or negative impacts on securing financing. While contractual protection may not mitigate the risk of supply defaults, it ensures that in a renegotiation of arrangements with suppliers, trading companies go into the negotiations with some leverage. Also, consider diversifying the geographic and commodity focus of the trading company in order to minimize regulatory risk.
Fully understand how arbitral awards and judgments will be enforced in different jurisdictions and seek to have the contract be governed by countries that enforce arbitral awards and judgments from other jurisdictions. Consider diversifying the jurisdictions in which deals are conducted to minimize enforcement risk. Consider whether or not your counterparty has assets held outside their home jurisdiction which could be made the subject of an attachment order following an offshore court judgment. And consider what rights you may have under relevant bilateral treaties.
Our recommendation Our recommendation
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Governmental regulations
Enforcement
Severe climate conditions adversely affecting mining and other resource operations are giving rise to increased instances of force majeure claims under trading contracts. Recent examples of floods causing production disruptions in Queensland and high seas causing difficulties in barging coal out of Kalimantan in Indonesia have caused the bargaining parties to revert to their contracts’ force majeure provisions.
Baker & McKenzie is uniquely equipped to help you mitigate each of the risks mentioned above. Having advised on complex trading and mining transactions, we have the experience needed to structure the best contracts and diligence plans possible. As the most highly rated and recommended tax adviser among law firms, we are well-suited to develop the most advantageous tax structuring for your deal. Having a presence in the world’s major trading and mining markets gives us a ground-level view of governmental regulations and enforcement wrinkles that you need to keep top of mind. Finally, with an award-winning climate change team known for its work on pioneering climate change deals, we are well-placed to identify risks the changing climate presents and to draft provisions to insulate you from them.
Draft a strong force majeure provision, especially for contracts with minimum guarantees on supply or purchase quantities. Consider whether the effect of the force majeure provision is to release the parties from the minimum guarantee over the affected period or merely to suspend the obligations. Ask whether the force majeure provision requires the seller to spread out the adverse effects of the force majeure event across all buyers or whether it allows the supplier to prioritize certain buyers over others. Consider whether the seller’s supply obligation is mine-specific (in which case a force majeure claim will likely be easy for the seller to make) or quality-specific (in which case there may be other supplies of coal meeting the specification which the seller must try to secure).
Contacts
Chin Chew | Singapore +65 6434 2638Luke Devine | Jakarta +62 21 515 4909 Ext. 4909 [email protected]
Anne Hung | Tokyo +81 3 6271 9443
Stanley Jia | Beijing +86 10 6535 9393
Winton Kim | Hong Kong +852 2846 2399
John Mollard | Melbourne +61 3 9617 4450
Dennis Quintero | Manila +63 2 819 4962
David Ryan | Sydney +61 2 8922 5291
Our recommendation
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Climate change
www.bakermckenzie.com
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