While financial contagion has impacted many areas of the global economy in recent years, the mining sector had, until recently, remained relatively resistant, with high commodity prices allowing it to effectively weather the storm. However, with prices now falling, profit margins are getting narrower and more and more companies are looking to restructure their operations. In this article, we take a look at the insolvency and restructuring trends in the mining sector around the globe.
Aside from experiencing an early wave of insolvencies (Alinta
Energy Group, Griffin Coal, Windimurra Vanadium) the Australian
mining sector has so far withstood the economic crisis quite
effectively and has, in fact, been experiencing significant boom in
Nevertheless, some industry experts are predicting a surge in mining insolvencies in 2013, as banks are beginning to address their exposure in this area and many mining companies have borrowed heavily in recent years. The major challenge facing companies in this sector is a cash flow limitation, enhanced by pressure caused by the time lag between the initial outlay for labour and services and the recouping of costs from commodity sales. Downward pressure on commodity prices, rising costs (eg wage pressure) may also have an impact in the medium term.
Currently, it is principally small companies that are being affected. Many larger companies are looking to refinancing and to turnaround workouts as a means of strategically planning their investments in advance. This long-term outlook is import as it allows companies to identify and face up to any problems early on, before insolvency is looming.
In sum, the sector remains strong but it is starting to feel the impact of the pressure on the resources sector in some areas. Planning ahead is of key importance for companies looking to weather the storm.
Recent statistics from the Polish Ministry of Economy have shown that the Polish mining sector once again ended the calendar year with a net profit. The mining sector in Poland is relatively stable. However, experts say that, taking into consideration the worldwide crisis, growing competition from importers, especially from Russia, as well as relatively high costs of coal extraction, the effectiveness in managing mining companies has to be increased.
The sector has undergone dramatic restructuring in recent years, as the Polish Government moves towards the eventual privatisation of many state-owned mining companies. Many of these companies were, for decades, sheltered by the government's protectionist stance, so the effectiveness of their operations in the long run has been called into question by some commentators.
Another big challenge for the whole sector may be the major amendment to the Geological and Mining Law, which will introduce material changes, in particular with regard to the extraction of hydrocarbons. The key issues that are planned to be covered in the new Geological and Mining Law are, in particular:
- Modernised concession system
- Three-stage concession tender process
- Establishing the National Operator of Energy Minerals
- More precise environmental procedures
- Creation of the so-called Generation Fund, and
- Monitoring and control of the extraction of hydrocarbons.
The new Geological and Mining Law intends to change the concept of tax in this sector, ie
- New hydrocarbon tax is planned to be imposed
- Extraction royalties will go directly to municipalities, districts and provinces, and to the National Fund for Environmental Protection and Water Management
- Royalties for the extraction of gas will increase almost fourfold (as will the income from this royalty for municipalities).
Finally, increasing pressure from European Union environmental targets seeks to have countries generate more and more of their electricity from non-carbon sources. The increased cost of compliance as well as pressure to switch to alternative energy production in the long term is putting additional strain of the mining sectors of EU Member States.
So, whilst the viability of the industry in the medium term has a largely positive outlook, storm clouds may be lurking beyond the horizon.
The current global financial downturn and the general crisis that has afflicted Spain for the last 6 years directly affects the mining sector. The impact is not felt uniformly, but varies depending on the type of material being extracted. Here is a brief summary of various market developments:
- Fossil fuels: while the trends relating to oil and gas production have seen positive growth, the same cannot be said for coal production. The low calorific value and price of Spanish coal do not cover the costs of extraction, hence the Spanish Government has continued to provide heavy subsidies to this sector. Following a recent scaling back in the provision of these subsidies, some coal companies - such as Coto Minero Cantábrico and Unión Minera del Norte - have notified the Court of their intention to file for insolvency and have entered into negotiations to reach a refinancing agreement (under Article 5 bis of the Spanish Insolvency Act).
- Metals: a number of foreign investors - companies from Canada, Australia, Ireland and Israel - have shown interest in old Spanish mines, leading to the issuance of new permits and increased growth in this area. For example, Inmet Mining and Emed have recently applied for permits to commence copper extraction operations.
- Nonmetallic resources: these materials are intended primarily for construction. The construction sector, which had been one of the sectors that previously cemented the growth cycle of the Spanish economy, has been one of the hardest-hit sectors in Spain and has shrunk by 67% since the crisis began. While commentators initially thought that the impact of the financial crisis on the Spanish construction sector would be limited to the housing markets, it has since emerged that is also affecting non-residential building and civil engineering. The impact of this has led to a 60% decrease in sales of non-metallic resources to 2009.
This analysis shows that coal mining companies and small companies involved in nonmetallic mineral production are at risk in the current financial climate. We may begin to see increased numbers of insolvencies in these areas in the coming months.
The global recession has had a widespread negative impact on the UK mining sector, with company share prices falling amidst slow economic growth and the subsequent decrease in demand for industrial goods and manufacturing. Some companies in the sector have fallen into administration, such as ATH Resources, one of Scotland's main opencast coal mining companies, after encountering financial difficulties. Others, have taken steps to restructure their operations, such as Britain's largest coal producer, UK Coal Plc (now renamed Coalfield Resources Plc). Our team acted on behalf of Lloyds Banking Group in the restructuring of the company, as outlined in the case study.
"The UK Coal restructuring was innovative, ground-breaking and vastly complex for any transaction, not least in a restructuring environment. The DLA Piper team did a great job in their approach and advice, identifying the multitude of risks whilst balancing the need for commerciality" (Andrew Foster - Area Director, BSU Mid Markets, Lloyds Banking Group)
Despite UK Coal having undergone a successful recovery plan in 2011, persistent high levels of debt and operating difficulties, coupled with falling coal prices, darkened the outlook of the business in early 2012 and it was faced with insolvency. We were appointed to advise on the £700 million restructuring of the company, which ultimately safeguarded 2,500 mining jobs. Completion of the restructuring averted the need for a group-wide administration, the closure of mines, the loss of thousands of jobs and the tax payer being left to bail the company out, given the lack of other available options.
"This was a hugely significant deal for us to be involved with and underlines our restructuring capabilities in the specialist field of mining and minerals", said Richard Obank.
In essence, the deal involved the separation of the UK Coal Group's existing mining and property businesses into distinct mining and property divisions. The new property division has been isolated from all existing liabilities to the two industry-wide pension schemes (estimated at £400 million on a scheme funding basis) and the operational risks and liabilities associated with the existing mining business. The separation resulted in the provision of a new £84 million funding package from Lloyds Banking Group, facilities from Barclays Bank Plc and £30 million of funding support from the pension schemes, thus allowing the latent value in the properties to be unlocked. In addition, substantial funding support was provided from power generators, customers and shareholders in order to create the breathing space required for continued trading.
As part of the restructuring, UK Coal Plc stepped down from its premium listing on the Official List and the pension trustees took a 75.1% stake in the new property division. Existing stakeholders retained a 24.9% stake. Pension Regulator clearance for the transaction was successfully obtained along with various other regulatory approvals, including from the Coal Authority.
Prior to the restructuring, we worked closely with Deloitte on contingency planning, which was crucial given the potential for failure at any stage. During the process, our team had to address significant obstacles, relating to complex regulatory and consent frameworks, as well as pensions, intra-group, intercreditor and shareholder arrangements and valuation and security issues.
In order to achieve a positive result, the team worked closely with management and their professional advisers, including PwC, as well as a multitude of other stakeholders. We were also required to comment on and advise Lloyds Banking Group on the structure and purpose of the restructuring and to analyse key advice provided to management.
The successful outcome of the restructuring brought to an end a four-year involvement for our team, having worked through several previous debt restructurings and reorganisation processes. Further delay in delivering the deal would have meant that UK Coal would have had insufficient working capital and would have breached its financial covenants. UK Coal supports 5% of UK power generation through its mining production and is now able to continue this provision.
Effective long-terming planning is a key consideration to be made by mining sector companies, even if there is no immediate threat of insolvency. In the instance of UK Coal, the company was able to be successfully restructured and eliminated the risk that the UK tax payer would be left to bail it out.
Financial distress in the United States coal sector recently has spawned not only coal company insolvency proceedings but also litigation, highlighting the potential risks of corporate spinoffs. Central to both are substantial liabilities for legacy pension, healthcare and other employee benefit obligations, in the coal sector notably related to black lung disease and significant workers compensation claims.
From mid-2012 through early 2013, several United States coal companies became the subject of proceedings under chapter 11 of the United States Bankruptcy Code, among them Patriot Coal Corporation and 98 of its affiliates, American West Resources Inc., Trinity Coal Corp. and Frasure Creek Mining LLC. A February 2013 Fitch Ratings report predicts more coal company bankruptcy filings in the United States during 2013. Rating the US coal-industry outlook as 'negative' based upon, among other things, the industry's substantial and increasing legacy liabilities, environmental liabilities and the shrinking global demand for US coal, Fitch notes that virtually all public bonds in the sector are trading at distressed levels. The agency points out that filing a US bankruptcy proceeding offers coal companies the opportunity to renegotiate lowered lender debt, shed labor contracts and retiree and employee health benefits and pension costs, and reject unprofitable coal sale contracts (see Fitch Research, "US Coal Bankruptcies: Future, Present, and Past" Feb 05, 2013).
In July 2012, Patriot Coal filed for United States Bankruptcy Court protection under chapter 11, stating in its filing that it was struggling under the weight of unsustainable legacy liabilities, declining coal demand and the costs of environmental litigation. On 14 March 2013, Patriot filed a motion with the United States Bankruptcy Court seeking to modify its collective bargaining agreements with its union, the United Mine Workers of America (UMWA), including adjustment of wages, benefits and work rules for unionized employees and the transitioned termination of US $1.6 billion in retiree health benefits of thousands of unionized mineworkers. It proposed instead to establish a trust to provide health care for UMWA-represented retirees. In a press release dated March 14, 2013, Patriot claims that these actions "are necessary for the survival of Patriot and the preservation of more than 4,000 jobs. Without the cost relief we are seeking, all of these jobs will be lost and it will no longer be possible to provide healthcare for more than 23,000 employees, retirees and their dependents.The approval of this motion will be the single most important action necessary to ensure Patriot's financial viability and successful reorganization" (see www.patriotcoal.com/news).
On 14 March 2013, Patriot Coal also commenced within its bankruptcy case a lawsuit against Peabody Energy Corporation from which Patriot was spun off five years prior, after which Patriot acquired a business spun off from Arch Coal, Inc., resulting in the Patriot of today. Patriot asserts that as part of the 2007 Patriot spinoff, Peabody agreed to pay health care costs for thousands of retirees employed by Peabody entities that were transferred to Patriot in the spinoff. Patriot states that it is concerned Peabody might argue that Patriot's financial condition will allow Peabody to stop paying for or cut the healthcare of more than 3,000 individuals. Peabody has countered, in a press release of 14 March 2013, that it has been providing funds for Patriot's retiree health care expenses under the contract since the spinoff, adding that the contract "also appropriately states that, should Patriot's benefit obligations decrease, our funding would proportionately be reduced. Patriot is taking the untenable position that our payments should continue in full in the future even if Patriot's expenses are reduced.These are Patriot's obligations and, to the extent they are reduced, we will meet our agreement with Patriot to fund the new lower levels" (see www.peabodyenergy.com/news).
In October 2012, the UMWA and several individual plaintiffs brought a class action against Peabody Energy Corporation and Arch Coal, Inc. in non-bankruptcy United States federal court, ultimately asserting that Peabody and Arch "implemented corporate schemes to spin-off and otherwise dispose of their largest liabilities, including retiree, pension, and health and welfare benefits, into new corporations [which became Patriot Coal Corporation] which would inevitably fail". Amended Complaint at ¶4, Hubert Lowe, et al v Peabody Holding Company, LLC, et al. Peabody and Arch each have filed motions to dismiss denying these assertions.
While the above disputes rage on, efforts to protect former and current coal company employees and efforts to assist coal companies facing distress or insolvency proceedings are being pursued.
Stimulated by the threat to pensioner health benefits from Patriot and other bankruptcies, in early March 2013, United States Senator Jay Rockefeller and Congressman Nick Rahall of West Virginia introduced bills in the US Senate and in the House of Representatives to assist thousands of retired coal miners whose pensions and health care benefits are at risk of being wiped out.
On the coal company side, a DLA Piper client has developed a product to assist coal companies seeking to improve their balance sheets and relations with their unions as well as with state and federal regulators by providing enhanced certainty and predictability to their legacy health and welfare beneficiaries.
This article was first published in 'Global Insight', our e-newsletter which includes news, views and analysis from our Global Restructuring Group.
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