ALTERNATIVE WAYS TO FUND MINING PROJECT DEVELOPMENT 13 TH OCTOBER 2015 Rebecca Major, Herbert Smith Freehills, Partner, Energy & Infrastructure, +33 1 53 57 78 31, rebecca.major@hsf.com David Walton, Herbert Smith Freehills, Partner, Mining Finance, +44 20 7466 2715,,david.walton@hsf.com William Breeze, Herbert Smith Freehills, Partner, Mining Finance,, +44 20 7466 2263, william.breeze@hsf.com William Breeze
INTRODUCTION This presentation will cover: Selling equity Royalties arrangements Streaming arrangements Prepayment arrangements It will not cover public capital raising or ordinary mining finance 2
INTRODUCTION Case Study: Junior Mining Company holds a 100% interest in a mining discovery Mine has potential but junior miner may not have the cash and/or the technical ability and/or the reputation in country and/or ability to raise finance in order to develop the mine 3
INTRODUCTION Consider on a case by case basis what the junior mining company wants: Cash Ability to raise finance Expertise? Country reputation and experience? Ability to offtake? Processing ability? Ability to build the project? 4
INTRODUCTION Consider on a case by case basis what the junior mining company is prepared to give up: Part of revenue/upside from project Ability to control how the project will be developed and operated/to operate the project? Ability to manage the offtake/marketing arrangements? Reputation as mining operator Independence (Maybe) credit rating: see streaming below (Maybe) flexibility to seek mine financing in the future: see streaming below 5
SELLING SOME OF THE EQUITY What can the incoming investor company offer? Cash payment upfront Possibility of carrying the junior miner s equity share? Access to project finance, ability to provide completion guarantees? Know-how on how to develop the project? Experience and reputation in the country/region? Ability to manage the offtake/marketing arrangements? 6
EARN-INS A means of selling/acquiring an interest in an exploration or appraisal project Usually the interest is acquired in return for performing and/or paying for certain work Often the performance of and/or payment for certain work will give the incoming party an option to acquire an interest (which it can choose not to exercise) These differentiate an earn-in from a normal acquisition 7
WHY EARN IN? Original party s perspective Risk allocation sharing exploration and/or development risk Cash flow problems (especially if required to complete outstanding work obligations) Accelerate activities in areas of low priority (tied to lack of cash flow; without earn-in, activities in certain areas would be lower on original party s list of priorities as it would need to allocate its limited resources) 8
WHY EARN IN? Incoming party s perspective Less risk than investment before commencement of exploration Option also means that incoming party can walk away if exploration/appraisal is not successful No lump sum direct cash investment Opportunity eg already working in country 9
KEY ASPECTS OF AN EARN-IN AGREEMENT Key aspects of any earn-in that must be agreed and adequately reflected in the body of the agreement: nature and extent of the obligations to be performed and the money to be spent by the transferee the interest to be transferred when the interest is to be transferred how the interest is to be transferred (and what else needs to be transferred) protections and ongoing management provisions 10
EARN-INS: WHEN IS THE INTEREST TO BE TRANSFERRED? Two options either before the work obligation is fulfilled (ie up-front on signature) or after the work obligation is fulfilled If up-front transfer, then agreement must provide for re-transfer if the obligations are not performed Government consent requirements for the transfer and then for the re-transfer? Tax consequences of transfer and then re-transfer? Other party s consent or pre-emption rights? 11
EARN-IN AGREEMENTS INDUSTRY STANDARD Rocky Mountain Mineral Law Foundation: Form 5A JVA: widely used complicated and maybe too onerous for small earn-in very US-focused (takes a long time to adapt to non-us mines) AMPLA: Model JV Agreements Model Farmout/Farmin (Minerals) 12
ROYALTIES Examples of when royalties can be used: as part of the price when an interest is acquired (ie give the outgoing party a cash sum plus a royalty which is a percentage of future revenues) as a way of paying back a loan/cash advance (royalty companies: compare to streaming arrangements below) converting participating interest in a JV relationship to a royalty when participating interest falls below a certain level (see for example the Rocky Mountain Mineral Law Foundation JVA referred to above) Mining company retains control over the operation and management of the mine Holder of royalty rights can sell the rights, or use them as collateral for a loan 13
ROYALTIES Royalties can be calculated in any way agreed by the parties. Therefore it is important to carefully define the way that the royalty will be calculated. Phrases such as "NSR", "NPI" mean nothing legally Generally, calculations are either based on: revenue once the production and refining costs have been paid (Net Smelter Royalty/NSR) OR profits once past capital costs and production costs have been deducted (Net Profit Interest/NPI) BUT the parties are free to agree whatever they like May be combined with "bonuses" (ie lump sums payable at certain dates) 14
DIFFERENT FORMS OF ROYALTIES Net Smelter Return Royalties are based on revenue once product has been transformed in a refinery or smelter. It is often a percentage of: Ø total revenue actually received from mine less Ø transportation, insurance and refining/smelter costs. Capital costs, financing costs and operating costs generally not deducted Therefore payments made even before the mine becomes profitable 15
DIFFERENT FORMS OF ROYALTIES Net Profits Interest/Net Proceeds Royalties are a percentage of: less Ø total revenue actually received from mine Ø capital, financing, and operating costs Therefore royalties only start to be paid out when the mine becomes profitable (past costs are amortised first) Gross Proceeds Royalty is a percentage of total revenue received from the mine, less certain specific costs such as tax 16
ROYALTIES Think about area/mine covered and define carefully Think about mineral/metal covered and define carefully Be careful of transfer/change of control provisions etc (royalty will not in some countries automatically transfer with the land: it is just a contractual right) Think about tax (is the company taxed on the upfront cash payment: compare with streaming where it may not be: depends on jurisdiction) 17
ROYALTIES V STREAMING Royalty deal often done at earlier stage Streamer generally receives physical metal rather than cash payment Royalties granted over many kinds of metals and minerals (streaming traditionally silver and gold) Royalty provider makes no ongoing payments in a royalty arrangement Tax: depends on jurisdiction but in some countries, streaming payment only taxed once reserves become available (tax is deferred) Royalty probably not treated as debt by the ratings agencies (compare to streaming) 18
STREAMING A REMINDER AS TO HOW IT WORKS Royal Gold buys a quantity of the gold and silver attributable to Barrick's 60% interest in Pueblo Viejo (Dominican Republic) as follows: 7.5% of gold produced until 990,000 ounces have been delivered 3.75% from that point on (life of project) 75% of silver produced until 50,000,000 ounces have been delivered 37.5% from that point on (life of project) Royal Gold pays: an up-front amount of US$610m 30% of the spot price for gold and silver up to 550,000 ounces (gold) and 23.1m ounces (silver) 60% of the spot price for gold and silver delivered from that point on (life of project) 19
STREAMING A REMINDER AS TO HOW IT WORKS Other terms: No security Sale proceeds of gold are paid into a segregated cash collection account and must be applied to satisfy obligation to deliver gold to Royal Gold 20
IS THE TRANSACTION 'DEBT'? Not according to S&P: 'In our view, the agreement does not have a combination of features outlined in our criteria pertaining to streaming transactions' A metal streaming transaction will be regarded by S&P to be 'debt' if it has 'some combination' of the following features: it is done in lieu of borrowing the upfront payment is repayable in cash in the event that insufficient product is delivered to the streaming company the streaming company has recourse to the mining company or a guarantor in the case of an insolvency event repayment of the upfront payment can be accelerated on an event of default there is a high level of security or some other mechanism that provides greater certainty of repayment 21
TOO GOOD TO BE TRUE? A junior mining company during development phase will get very different treatment. The $100m stream provided by Franco-Nevada and Sandstorm to True Gold for the Karma gold project features: Drawdowns against cost to complete certification (by the Company, not by an ITE) Repayment of the up-front payment in the case of default A comprehensive security package Overall, less restrictive than equivalent bank terms. 22
ADVANTAGES Tax the mine operator is selling a future interest and therefore can defer the taxes due on the funds it receives from the streaming company. If it sold an outright interest in the property, the cash received would need to be reported as income and tax would be due immediately Monetising non-core assets for example, a copper company can bring forward the value of its gold by-product Availability the streaming companies are prepared to do deals for substantial amounts in a market in which equity is scarce and banking markets subdued Not restrictive low (or lower) level of covenants required by streaming companies. Potentially less security required 23
DISADVANTAGES Giving up a proportion of production for the life of the mine At a price which may be regarded to be inadequate (in hindsight) Streamer does not pay for benefits arising from exploration success Senior debt will be permitted, but intercreditor terms need to be agreed with care 24
WHAT HAS CHANGED? Recently a large numbers of substantial transactions Not limited to by-product metals Transactions taking place for product other than precious metals Streaming terms have developed to meet S&P criteria 25
'COMMERCIAL' METAL PREPAYMENT FACILITY Basic structure: A metal trading company (Buyer) buys a quantity of metal (say, 200,000 tonnes) from the mining company (Seller) Buyer pays up-front an amount of money on account of the purchase price for the metal (say, $100m) Seller delivers that quantity of metal in monthly instalments (say, 10,000 tonnes per month) Buyer pays for the metal at a price based on the relevant benchmark rate for that metal Buyer makes deductions from payments due to Seller in accordance with an agreed schedule the amounts deducted 're-pay' the up-front payment by the Buyer 26
'COMMERCIAL' METAL PREPAYMENT FACILITY Other potential terms: A cash collateralisation requirement under which the Seller must deposit to a designated account the amount required so that the value (sale price) of undelivered metal plus the cash collateral is at least (say) 120% of the outstanding amount of the prepayment Other financial ratios Some 'lender' style representations, warranties and defaults Acceleration for default A security package which may be light or comprehensive depending on the circumstances Overall, less restrictive than equivalent bank terms. 27
'STRUCTURED' METAL PREPAYMENT FACILITY Broadly similar terms to commercial prepayment facility Very light security package (collection account and security over SPV's shares, if an SPV is used) Delivery obligation is determined by value, not volume Cash collateralisation very unusual Tend to have back-to back financing in place (sometimes post facto) 28
WHY STRUCTURED PREPAYMENTS MATTER Key benefits to traders/offtakers Useful way of securing access to product Useful way of obtaining access to information Can accept a loss on prepayment agreement due to profitability on trading side Key benefits to producers Access to funding linked to (and secured by) production and delivery Trading partner tends to be able to act much more quickly than a bank Streamlined documentation (though can be challenged to give legal opinion) 29
LEGAL ISSUES DRAFTING TIPS FOR LENDERS Terminology need for use of language such as satisfy rather than repay Be clear on how loan is affected when there is a non-delivery or late payment Ensure information undertakings in loan facility are back-to-back with prepayment facility Pass-through tax gross-up, increased costs, market disruption, FATCA and illegality/sanctions consequences need to be discussed with trader/offtaker SPV structure balance the limited recourse covenant package with fact that orphans are not controlled/operated like a normal company 30
MARKET RECOGNITION RANKED TOP FOR AFRICA-WIDE PROJECTS & ENERGY CHAMBERS GLOBAL 2009-2015 RANKED TOP FOR MINING IN SUB-SAHARAN AFRICA IFLR1000 2015 RANKED TOP FOR AFRICA LEGAL 500 EMEA 2015 "Outstanding presence in the mining sector, with additional expertise in project financing in the energy space. Known for its excellent geographical spread of work, particularly in francophone Africa jurisdictions. Maintains an impressive client roster of international lenders and project developers." CHAMBERS GLOBAL 2015 (Africa-wide Projects & Energy) "A very deep team. Experts in many different regions." "Super-strong in mining." (Quotes mainly from clients) CHAMBERS GLOBAL 2015 (Africa-wide Projects & Energy) "The [Africa] team has strength in depth, particularly in Paris and London, and has an especially strong record in energy and mining." LEGAL 500 EMEA 2015 (Africa) 31