derailed: why vale isn’t on track in the west african iron ore scramble

simandou—estimated to contain 2.25 billion tons of high grade iron ore—could possibly be the largest integrated iron ore and infrastructure projects in africa. jp morgan recently estimated that vale-controlled blocks could produce 50 million tons of ore by 2020, a project which would put simandou on the same level of south africa’s kumba iron ore. jp’s optimism, however, overlooks a number of risks investors should consider when looking at vale’s position in simandou.

a brief historical overview. under the autocratic regime of lansana conté, rio tinto acquired all exploration licenses for simandou’s four blocks in 1997, and converted them in to mining concessions in 2006 while conté was still in power. right before conté died in 2008, former mines minister mahmoud thiam, announced that the northern portion of simandou (blocks 1 and 2) would be taken from rio tinto—accused of taking too long to develop the mine—and given to bsg resources ltd. (bsgr), a company whose biggest shareholder, beny steinmetz, has strong links to a number of politically-sensitive mining deals across africa. the military juntas in control of guinea between conté’s death and current president alpha condé’s election in december 2010 refused to grant bsgr complete legal rights to the concession. as a result, bsgr sold its majority stake in blocks 1 and 2 to vale up front for $500 million, with billions more payable as the project reached completion.

condé has brought relative stability to guinea since his election in 2010, and is beginning to overhaul the mining industry. condé has purged the ministry of all vestiges of thiam (who profited from bsgr’s sale to vale), weakened the power of the ministry, and has appointed a new coterie of advisers loyal to him. a new mining code was passed last fall, which states that upon issuance of a mining title, the state is automatically granted at no cost a 15%, non-dilutable interest in the share capital of the title holder, with an option to buy an extra 20% in to projects at market prices. while the new law does not change the ownership or validity of mining titles or agreements that were negotiated prior to the new code’s adoption, the government has closely scrutinized the largest and most lucrative deals opaquely signed during the 2008–2010 political transition. in order to wash their hands of any wrongdoing during the messy political transition, rio tinto paid a $700 million bonus payment to the government and negotiated a series of staged buy-in options over 20 years up to the 35% cap before the passage of the new code. vale pursued no such strategy on the eve of the new code’s passage. as such, vale’s tarnished  image—which the guinean government didn’t believe followed the law through its association with bsgr—in the eyes of the guinean government has put the company on the defensive.

the promise to invest in infrastructure—ports, railroads, and roads—is the variable that could change how the condé regime views rio tinto and vale. the global quest for iron ore has spurred renewed talks on refurbishing west africa’s decrepit rail system. rio tinto has pledged $1.1 billion to conduct feasibility studies to construct a 650 km railway (trans-guinean railway) from their part of the mine to the coast, as well as build four-berth port that could export approximately 100 million tons of ore a year. it has also proposed to begin transporting iron ore on a 900km road from simandou beginning in 2015, while it waits for the construction of a railway so as to honor delivery contracts. further, rio tinto is waiting for final regulatory approval for its joint venture with chinalco from the government, which when finalized, will trigger an earn-in payment of $1.35 billion. i believe this will likely be earmarked for railway construction. due to budget constraints in the government, it is likely that the government will not be able to pay for its proposed 51% stake in the railroad, and thus rio tinto could be forced to construct the line through a build, operate and transfer program.

in order to change how the condé administration views vale, the brazilian mining conglomerate needs to invest much more in infrastructure projects than they already have. an increasingly bullish iron ore market for 2012 that favors larger miners is positive, but rising operational costs and an unresolved commercial dispute with china over the company’s valemaxes, suggests to me that vale’s financial will to invest billions long-term in infrastructure projects in guinea is waning. outside of sharing infrastructure with rio, the most cost-effective way for the company to show its commitment on infrastructure development will be to export their portion of iron ore from simandou through liberia. vale will need to work with bhp billiton (which is eyeing mt. nimba iron ore on the guinea-liberia border) to construct a 15 kilometer spur line to yekepa, liberia, and then rehabilitate the old liberian-american-swedish minerals company, a 275 kilometer railway between yekepa and buchanan. the construction of this line is all contingent on whether the guinean government can  agree with liberia over how much would be lost in taxes and transport fees if a railway runs through liberia. recent negotiations in paris have shown that the guinean government is more open to this idea than previously hinted.

in the event that vale pulls out of simandou—as it has suggested it could possibly do by the end of this year—chinese companies could decide to bid for the vale’s majority stake. china hasn’t been entirely successful in the west african iron ore scramble as evidenced in gabon’s belinga deposit. bsgr was very close to selling vale’s present stake in simandou to chinalco when it was initially on the market, and it is very likely that if vale were to relinquish (or lose) its position, chinalco or another company (such as baosteel or wuhan, already operating in liberia) could easily pick up vale’s pieces. china has already committed to funding four-fifths of guinea’s largest power project (the kaleta dam), in a move that possibly foreshadows a new resource-for-infrastructure deal between guinea and china.

the once and always king? dos santos, sonangol, and pre-salt

there’s no doubt that josé eduardo dos santos and the ruling movimento popular de libertação de angola (mpla) will win its legislative elections slated for sometime this year. but recent movements at sonangol reflect dos santos’ waning confidence in his ability to hold on to executive power and to secure his wealth inside and out of angola. manuel vicente, the widely-respected ceo of state oil parastatal sonangol was moved to the ministry of economic coordination on 30 january, an important bureau that was abolished in october 2010. as one of dos santos’ closest confidants, vicente’s appointment brings him closer to formal political decision-making, and positions him well to succeed dos santos when he steps down (most likely late this year).

sonangol’s new chief executive—francisco de lemos josé maria—previously served as the company’s financial director. lemos was most likely chosen to improve the financial transparency of sonangol, after human rights watch (hrw) declared that $32 billion dollars had been unaccounted. the imf quickly rebuffed hrw’s accusation, calling it “erroneous,” and that the funds went missing in a simple accounting residual on big-ticket infrastructure projects, like housing and railway refurbishments undertaken by sonangol. this report was a public relations nightmare for sonangol, as they look to grow millenium bcp, portugal’s largest bank by assets, and change the international perception that sonangol is not just another corrupt african parastatal. already sidelined with the other economic policy ministers within the government including abraão pio dos santos gourgel and josé de lima massano, finance minister carlos alberto lopes and minister of state carlos feijó—who is the true face of the finance ministry, but has been accused of corruption—could be sacked some time this year, if not see their informal roles drastically diminished. as oil is the country’s largest foreign exchange earner, sonangol essentially functioned as the de facto treasury; now that vicente has moved, it is likely that the ministry of economic coordination will play this role.

while dos santos djs and angola’s elites play musical chairs, angola—africa’s second largest oil producer—looks to outpace nigerian oil production in the short-term by developing its pre-salt basin. cobalt and maersk announced their first discoveries on blocks 21 and 23 in january, raising the profile for angolan deep-water. there is almost perfect geological similarity between brazillian pre-salt elements, including reservoirs and rocks, seals and traps, that makes the angolan play attractive. asymetric rifting, however, has created significant differences between brazil and angola’s potential reserves; brazil’s margin is characterized by lacustrine black to light oil in its pre-salt sequences, while angola’s margin most likely has a higher amount of light oil and wet gas/condensate (making angolan lng a potential global game changer—more on this in the coming weeks). a number of companies are well positioned to take advantage of the pre-salt play, such as cobalt energy and conoco phillips, while the ishares s&p global energy etf, with seven stocks with deep exposure to angolan pre-salt, looks particularly attractive.

further, unlike in brazil where pre-salt discoveries have only been found offshore, angolan pre-salt extends onshore. dos santos is positioning politically-well connected juniors to develop this acreage, who could possibly be lured by being exempt from signing bonuses or lower tax rates than their foreign competitors. angola’s banking sector (and south africa’s standard bank) is likely to benefit from the rush of new activity—although it has much ramping up to do to prepare for the newer, larger transactions—after dos santos passed a law mandating all transactions for services and equipment must be done through angolan banks.

this is all not to say that dos santos’ carefully managed succession and oil boom could run smoothly. in the same way that vicente and dos santos have developed an extremely close relationship, lemos and the head of the casa militar, general manuel hélder vieira dias júnior, (known as kopelipa) share a similar rapport that could challenge dos santos’ political primacy and seek to place their mark on the country’s oil and banking sectors. one of the reasons the mpla party conference has been delayed is because the inability for the party to come to a consensus over who will rule after dos santos steps down. while it is very clear that dos santos wants vicente to succeed him, many of the top military brass believe vicente has not paid his dues, in the liberation “struggle.” this rhetoric is not unique to angola; other southern african countries’ succession debates, like those in zimbabwe, south africa, and mozambique, are often framed in this manner. while the probability is still low, the lemos-kopelipa bloc could very well upend dos santos’ plan for vicente.

will nigeria’s demand for fuel change after end of subsidies?

president jonathan ambitiously tackled fuel subsidy reform in early january. in doing so, some oil traders were curious to know if fuel consumption patterns would change in nigeria. they wondered that any change in domestic demand could either add or take highly-prized (light + sweet) nigerian crude varieties off the global market. my answer was no, and this paper was helpful in providing evidence for this answer.

modeling gasoline demand with structural breaks: new evidence from nigeria

wading in: presidential elections in senegal

if the number of youtube views from senegalese musicians could predict the outcome of the senegalese presidential elections, the 26 february contest would be a foregone conclusion. youssou n’dour—whose biggest hit “7 seconds” has 2 million + views (more than the number of senegalese who voted for wade in the 2007 campagin)—would easily beat abdoulaye wade, who has enlisted senegalese pop star demba dia to campaign on his behalf.

unfortunately, the surprise decision by the senegalese constitutional court on 27 january banning n’dour’s candidacy has, for many analysts, confirmed a wade victory. nevertheless, many have failed to explain the importance of the interim period between the constitutional court’s ruling and the actual presidential election, especially for holders of the ’21 eurbond. yields for the ’21 have been as high as 9.162%, and social unrest in the interim could send them quickly creeping up again, as investors sell off their holdings as they react to headline risk that is certain to emerge from the country over the next few weeks. markets seem to think that senegal’s eurobond “overstates” senegal’s credit risk, short-term electioneering weigh heavily on the country, which could ultimately affect the country’s ability to repay its debts in the medium-term. i think investors are slowly realizing the risk in senegal, as demand for the bond (see below yield history) has slowly declined since mid-january.

although it is common for spending to increase during election season across sub-saharan africa, as incumbent governments draw from government funds to finance their elections, senegal will face the dual pressure of keeping the lights on in the run-up to voting and after to maintain political stability. chronic power cuts across dakar and other urban areas framed the june 2011 riots, and wade is keen not to repeat that scenario. karim wade, who serves as energy minister, introduced the billion dollar plus plan takkal, or “let there be light” in wolof, scheme to create more power. this plan—whose namesake eponymously mirrors the wildly inflated ego of the wade administration—is an emergency attempt to correct the projected 256mw production deficit the country will face in 2013 and senelec’s mounting debt. in the past days, karim has desperately looked for more sources of finance to ensure 35 days worth of supply and an 80mw power surplus, instead of working with a 64mw deficit it is currently running, during this month’s voting. the cost for wade to remain in power is much higher than that of his peers in côte d’ivoire, as buying off senegalese urban voters with promises of infrastructure investment (power, roads, highways, etc.) is much more expensive than buying seeds, trees, fertilizers, and bags for cocoa and coffee farmers.

if the lights stay on for voting and the politically-important marabouts do not come out stronger against the president, wade will win ugly in late february. he remains strong in the face of a divided opposition because of many challengers’ big egos and historical baggage of serving in wade’s administration. on 1 december, benno siggil senegaal or “united to boost senegal” formed an electoral alliance to fight wade’s parti démocratique sénégalais. they nominated moustapha niasse to the anger of ousmane dieng, the leader of the parti socialiste which ruled senegal between 1960 and 2000. further, younger opposition figures, such as idrissa seck and macky sall were former prime ministers and close to wade. yet both sall and seck both fell out of favor with wade. sall confronted his karim wade over shading accounting for the organization of the islamic conference in 2008, while seck has been accused of embezzling $34 million dollars from the thiès road project.

wade has been extremely shrewd in projecting divisions among the opposition to the wider senegalese populace, particularly among the y’en a marre opposition movement that is made up of local rappers that broadly appeal to the youth population. much has been made of an n’dour victory because of his broad appeal, but this argument ignores the fact that many senegalese youth find the style of n’dour’s music—mbalax—as antiquated and are more connected to hip-hop. recognizing this social trend, the state security services (divisions des investigations criminelles) will probably move forward in arresting one of the leading rappers (fou malade) of y’en a marre for attacking another rapper (gaston), an action that will surely expose weaknesses among the group that many think could significantly affect political change. these high-profile, politically-charged arrests will likely continue, as wade strategically sees the benefit in muzzling opposition figures that have the possibility of uniting the dissonant opposition voices.