Our client, a leading natural resource producer in West Africa, was looking to promote it investment in, and fiscal revenues from, exports of bulk mineral ores.
The government needed to establish a fair and transparent pricing system for calculating royalties in order t encourage the necessary private sector investment following a period of severe social instability, while ensuring an appropriate share of mineral wealth flowed to the public sector.
In this context, CRU were engaged to help understand the following issues and questions:
- How does product quality impact the price received by mining concessionaries?
- What structural changes in the market might take place in the future and how would this impact ore pricing?
- What pricing formula satisfies the “arm’s length” principle, while ensuring the transparency and simplicity required for effectively implementing a system of royalty payments?
Methodology
Drawing on our in-depth industry knowledge of steel raw materials markets and value chains, CRU provide a detailed analysis of the iron ore industry structure and the key strategic market and policy related factors which were likely to influence the industry in the future.
CRU analysed key components of the FOB iron ore prices and used this to design a robust pricing formula which made appropriate adjustment for key factors – including quality, freight and marketing – and was sufficiently flexible to adapt to potential future market changes.
We subsequently applied our suggested formula to historical shipments in order to arrive at an estimate of the FOB value of the shipments. These estimates were then compared with declared FOB values to both establish the necessary confidence in the formula, and to understand the key fiscal risks associated with current pricing practices.
Outcomes and recommendations
We provided the government with a clear understanding of factors driving returns to local concessionaries, a robust and transparent pricing formula for calculating royalties which took account of key determining factors including quality, freight and marketing, and a high-level picture regarding existing fiscal risks in the industry. Our recommendations formed the basis of a the governments new royalty regime in the sector.
