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Financing Mining Projects Update

17 October 2018

Rachel SpeightPartnerTel: 0203 130 3859Fax: 0203 130 8774Rspeight@mayerbrown.com

What do we cover in this session?

1. Setting the scene

2. Project Finance and sponsor equity

3. Alternative sources of finance (royalties, streaming, prepayment)

4. Pros and cons of the different sources of finance

5. Refresher on the key components of an intercreditor agreement in the context of alternative finance providers

6. Q & A session2

Setting the scene

• Commodity price slump led to lack of liquidity in the equity markets•Without equity, traditional commercial bank project

financing became scarce•Mining companies turned to alternative finance providers

such as Private Equity Funds and royalty and streaming groups• Today many mining projects are being financed by a

sometimes complex patchwork of financing solutions3

Part I: Project Finance

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Project Finance – overview and key features• Specialist type of asset-based funding used for financing the development

and exploitation of a right, natural resource or asset

• Project finance is most often used to finance projects involving the construction and development of:

mines

oil and gas fields, refineries and pipelines

power stations (including renewable energy)

telephone and cable communication

transport systems (tunnels, bridges, highways)

buildings, operating hospitals5

Project finance – overview and key features

• Lenders’ limited recourse/non-recourse – typically the project company is a special purpose vehicle and the debt is secured only by cash flow or revenue from the project (e.g. sale of metals), Lenders have limited access to assets of the Sponsor

• Repayment is based on project cash flows

• Lenders rely on technical and economical evaluations and forecasts of the project and on-going monitoring

• Capital intensive projects

• Lengthy and complex loan documentation6

Project Finance – recent trends

• Given the challenging commodity price environment, commercial banks active in the mining sector has shrunk

• Project financing is often now supported by Export Credit Agencies or Development Finance Institutions who have a range of additional requirements

• Project financing is provided in conjunction with other financing solutions

• This means sometimes complex intercreditor discussions

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sale proceeds PURCHASERS(Government body/

offtaker)construction costs

credit support

loans

LENDERS(commercial bank/development bank/

export credit agencies)

-Commercial banks (usually syndicate)

-Non-bank financial institutions (private equity funds)

-International agencies (IFC) and export credit agencies

-International development banks; development finance institution (DFI)-provide credit in the form of higher risk loans, equity positions and risk guarantee instruments to private sector investments in developing countries. DFIs are backed by states with developed economies.

concessions, licences

HostGovernment

Project Co (Borrower)

-Local subsidiary- single purpose project company

-Holds exploration and (later), exploitation licences

100%

Shareholder (Chargor)

100%

Parent Co/Sponsor(Guarantor)

Private Sponsor

Project finance – participants

Risk management

Independent Engineer

Insurance Agent

Technical Agent

PRI Insurer8

CONTRACTORS/SUPPLIERS(construction, operation, supplies)

- Suppliers:

• Construction stage: providers of equipment, goods and services required for the construction of the project

• Operating stage: providers of equipment, goods and services required for the operation of the project (once its construction has been completed).

- Purchasers:

• Purchasers of the project’s product(s)

Project finance – feasibility • To attract financing for the project, it is necessary to produce:

– information memorandum– bankable feasibility studies by relevant experts– environmental and social impact assessment

• Feasibility study:

– cover construction, engineering, mineral and technical aspects of the project

– is a crucial part of the credit risk assessment of the project

– should provide a blueprint for the whole of the project, specify project parameters including required technology and equipment

– enable the lenders to assess the extent of the risks associated with the project (pre and post completion risks, political risks, operating risks)

– if a project is not successfully implemented, the lenders may review the feasibility study to determine whether they were misled

– “bankable” – not defined but usually indicates in form and content that lenders view as suitable for financing and conforming to mining market practice

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Project finance – risks – lenders’ protections• The risks inherent in project finance are greater than those associated with

ordinary syndicated loans by virtue of the size complexity and nature of the projects:

• Completion risk – the project is not completed on time or at all

– Completion guarantee from the construction contractor/liquidated damages– Sponsor guarantee until construction and commissioning completed– Cost overrun facilities (deposits or loans)

• Permit risk (the official licence is not granted or is conditional)

– Condition precedent to utilisation that all required licences have been obtained and are in full force and effect

• Price risk (price volatility arising from market forces or government controls)

– Long term supply and sales contracts entered with credit-worthy parties– Hedging arrangements

• Resource risk (insufficiency of reserves of natural resources or demand for project's service or product)

– Feasibility studies

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Project finance – risks – lenders’ protections• Operating risk (unbudgeted increases in operating costs – manpower, maintenance, technology,

materials)

– Inclusion of contingency provisions, suitable budget assumptions

• Casualty risk (damage to the project facilities, delays and interruptions to construction and commissioning)

– Suitable insurance (e.g. delay in start-up)– In jurisdictions where local insurance is required – reinsurance policies

• Insolvency risk (insolvency of project participants)

– Credit support to cover particular participants (e.g. performance bond from a bank in respect of the construction contractor)

– Credit support to cover a particular event (e.g. completion guarantee)

• Technology risk (if technology is proven and latent defects)

– Expert evaluations (Independent Engineer acting for the lenders), feasibility study

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Project finance – risks – lenders’ protections• Environmental risk (pollution, liability for clean-up costs)

– Reliance on initial environmental impact assessment and insurance– Review of environmental permits, environmental and social assessment program (ESAP)

• Currency risk (movement in currency exchange rates where currency of cash flow different from currency of loans)

– Onshore/offshore accounts structure– Hedging arrangements (currency swaps)

• Legal system risk (title, tax, security, foreclosure - enforcement)

– due diligence to establish Government entitlement to % ownership (direct agreement)– tax analysis, tax incentives (VAT, withholding tax, profit tax, royalties)– perfection of security, enforcement options, limit third party debt

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Project finance – risks – lenders’ protections• Political risk

Project finance is a long term finance and the project is often located in developing countries, the political risk may be considerable:

– increased taxes and royalties

– compulsory monopoly sales

– nationalisation or expropriation

– changes in concessions

– refusal of licences (e.g. Import of equipment, export of project product)

– the risk relating to sovereign succession (change of regime by replacement of the government by election or coup or by unification, partition or cession)

• political risk insurance (PRI)• export credit guarantees• Government undertakings (direct agreement)• bilateral investment treaties (BITs) 13

Project finance – documentation – project specific contracts Categories of contracts entered into in connection with projects

• Construction contracts– EPC /EPCM contract– Sub-contracts – the main contractor to the project may enter into sub-contracts– Guarantee/surety bond – contractor’s obligations may be subject to a guarantee

• Supply contracts (pre and post construction)

• Sales contracts– Depending on the nature of the product long term sale/offtake contracts may be

required – help to fix the price (e.g. by reference to spot price); ensure continuing sale of the product (i.e. guarantees revenue cash flow)

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Project finance – documentation – project specific contracts• Operating contracts

– If the project company is an SPV, a contract is required with an operator to operate the project

• Other contracts– Hedging arrangements– Insurance contracts– Power and water supply contracts

• Concessions– License, lease, concession or permit required in order for the project to be carried out (e.g. mining

concession/license; power plant/pipelines permit)– Planning and environmental permissions– BOT concessions for government sponsored projects (built, operate and transfer)

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Project finance – documentation – finance documentsFinance documents• Loan agreements

– senior facility agreement

– equity (bridge) loan agreement

– cost overrun facility agreement

– common terms agreement (CTA) - if more than one group of lenders with different term sheets /terms (e.g. DFIs, mezzanine or junior lenders): CTA and separate loan agreements (senior, subordinated, tranches)

• Intercreditor agreement / subordination deed(if different groups of lenders or if subordination of intercompany loans is required)

• Project accounts agreement(s)If complex account structure often have separate agreement (otherwise included in the intercreditor agreement) entered into between the Project Co, Security Trustee and Account Bank which contains provisions regulating cash flows in and out of onshore and offshore project accounts and contains payment waterfall.

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Project finance – documentation – finance documents

• Parent/sponsor guarantee or performance guarantee

• Security agreements

onshore security from the borrower– mortgage, charge over all assets (real estate, project facilities, equipment, etc.)– charge over onshore bank accounts– assignment of rights under local law contracts, concessions, IP rights

offshore security from the borrower– charge over offshore bank accounts– assignment of insurance/reinsurance contracts– assignment of foreign law governed contracts

security from shareholder– share charge over shares in the borrower and

assignment of shareholder loans17

Project finance – documentation – finance documents• Direct agreements/tripartite agreements

– Parties: SECURITY TRUSTEE, BORROWER, THIRD PARTY CONTRACTOR– Purpose: gives the banks the right to “step into the shoes” of the project company in

relation to the relevant contracts; allows the Lenders to run the project in the place of the project company and generate income from which the debt can be repaid

– Some of the usual terms: acknowledgement by the third party contractor of security over the contract, representations and undertakings , particularly in relation to payment to be made to the Borrower and not to amend/ terminate the contract without Security Trustee’s prior consent

– Contracts: usually entered into with respect to the key project agreements (construction, offtake, government concessions or licences)

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Project finance – documentation – framework

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Parent Co/Sponsor(Guarantor)

Shareholder(Chargor)

Project Co(Borrower)

CONTRACTORS/SUPPLIERS(construction, operation, supplies)

LENDERS PURCHASERS

Intercompany loan

Completion guaranteeGuarantee

Facility agreementSecurity agreements

Shares chargeSubordination agreement

Subcontracts – design, construction and engineering, operation, management, supply contracts

Concession/project agreement/offtake contract

Direct agreement

Direct agreement

HOSTGOVERNMENT

Political Risk Insurer

Concession/licenceproject agreement

PRIPRI

Part II: Alternative sources of finance

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Alternative sources of finance

Streaming• Originally used in connection with precious metals but now used for a range of metals

• Upfront cash payment by streamer in return for the right to purchase by-product (e.g. gold or silver) at set price (discounted)

• Usually no minimum delivery

• Different from offtake process (base metals, complex supply chains, bulk transporting, refining etc)

• Classification as debt? S&P versus other rating agencies

• Often secured

• Key providers – Silver Wheaton, Franco-Nevada, Sandstorm, Triple Flag

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Alternative sources of finance

Streaming• Record number in 2015 for gold, silver and copper

• More than doubled from 11 to 27 and $1.1billion to over $4billion in value

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Examples:

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Alternative sources of financeRoyalty agreements

• Capital in exchange for a share in the project’s future revenue

• Different from streaming (right to purchase at a set price versus sharein project revenues)

• No obligation to repay capital and no interest

• Return achieved through fixed royalty payments

• Example: net smelter return royalty – fixed proportion of gross revenue less pro rata share of certain transport and realisation costs

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Alternative sources of financeRoyalty agreements

• In some jurisdictions, rights attach to the mining properties (and not just contractual right against the owner) and would bind a purchaser

• Key providers: Premier Royalty Inc, Anglo Pacific Group Ltd, American Bullion Royalty Corp

• Example – Sirius ming – USD300m royalty arrangement with Gina Rinehart company

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Alternative sources of finance

Offtaker loans• Loans from offtakers to ensure that

mine reaches production and offtakerssecure priority allocation of production on fixed terms and for discounted prices

• Can also be prepayments

• Sometimes secured, leading to intercreditor issues

• Bankable intercreditor principles agreedupfront

• Right to terminate26

Alternative sources of financeEPC(M) contractors• EPC(M) contractor may take equity stake in the project (e.g.

shares in parent)

• Subscription due from contractor set off against contractor fees due from project company under the EPC(M) contract

• May have limits imposed (e.g. on value of invoices that can be set off in this manner, timing (e.g. a certain amount of cash payments before set off can be exercised, etc))

• Enhances cashflow position of the project company

• Example: Roxgold and AUMS (2015)

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Alternative sources of finance

Equipment financing• Assets (e.g. excavation equipment) which can be

used to raise finance at construction stage

• Often secured (assets ring-fenced)

• Lease-buy arrangements also

• Helps to manage cashflow

• Specialist equipment financiers – CAT, Macquarie, etc.

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Alternative sources of financePre-export finance• Funds advanced by institution such as ECA or trade

development bank

• Secured against confirmed orders from qualified foreign buyers (security over offtake contracts, collection accounts, DSRA)

• Enables exporter to supply ordered goods

• Payment is made by the buyer to the financier

• Loan is serviced and balance passed on by financier to borrower

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Alternative sources of finance

Convertible loans• Debt for equity

• Downside protection (secured loan) with potential for participation in future upside for lender

• Can be costly – average coupons on unrated convertible loans at 9% in 9 months to September 2013. Some in excess of 20%

• Risk of default should company not be in position to meet principal repayments

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Alternative sources of finance

Private Equity Funds• Increased involvement from specialist mining focused PE funds

• Can provide pre-feasibility stage funding when traditional commercial banks may not be prepared to lend

• Generally look for an early stage exit

• Key players – Appian, Tembo, Greenstone, Red Kite, Orion, Taurus

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Part III: Pros and Cons

Pros and Cons

Project Finance• Usually cheaper

• Long term debt solution

• Will work with a mining company when times are difficult

• Doesn’t dilute equity ownership

• Heavy documentation

• Detailed reporting, compliance and regulatory requirements

• Not quick to implement

• Difficult to obtain without sufficient equity injection

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Pros and Cons

Streaming - pros• Creates value from a bi-product

• Company can raise money and retain full control of their assets without selling equity

• Flexible solution

• Available early in the mine development life-cycle

• Streamer takes production risk

• Increasingly common in the Americas and Europe

• Has supported the industry in a depressed commodity price cycle

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Pros and Cons

Streaming - cons• Complex documentation

• Gives away some of the equity upside because of the discounted metal price

• Negotiations intercreditor discusions

• May make the project less attractive to a purchaser – as the stream will attach to the life of the project

• In a termination scenario – potentially large recoveries due to the streamer

• Insolvency position unclear

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Pros and Cons

Alternative debt providers• Quick documentation process

• Covenant-lite

• Expensive solution

• Short term solution

• Unclear how funds will react in a distressed situation

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Part IV: Intercreditor issues

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Key components of an intercreditor agreement

Main areas of negotiation

I. Ranking of debt and security

II. Undertakings from creditors

III. Subordination on insolvency

IV. Enforcement of security

V. Changes to parties

VI. Amendments and waivers

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ICA considerations: senior debt (and hedging) versus streaming exposureGeneral principles• For all intents and purposes, the obligation to "repay" the advance

payment under a metal streaming contract constitutes a debt owed by the seller to the purchaser

• Is this debt obligation secured/guaranteed, and, if so, what are the security assets - all of the mine assets and the shares in the operator, or specific assets subject to the metal stream?

• Who is the security provider? The seller of the metal stream is not always the entity owning the mine assets

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ICA considerations: senior debt (and hedging) versus streaming exposure

General principles• Are there issues of structural subordination to address before

contemplating contractual intercreditor arrangements?

• Who then are the parties to an intercreditor deed and what sort of undertakings and commitments should they give and how long should the intercreditor arrangement last for?

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ICA considerations: senior debt (and hedging) versus streaming exposureSecurity• Separate security/ring-fenced security assets versus shared security and

common interests - should the streaming "debt" be secured on all of the mine assets/shares or should it be limited to priority rights on "payable metal" and agreed volumes of "produced metal“

• Separate or shared security documents and a common security trustee/agent appointed on behalf of all creditors. These structural arrangements are often determined by timing issues (was the stream in place before the debt?) and liability considerations (will one entity be prepared to owe duties and obligations to other creditors?)

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ICA considerations: senior debt (and hedging) versus streaming exposureAcknowledgements• Acknowledgement and consent to the debts and security by each creditor

group - standard for intercreditors

• Acknowledgement by senior lenders/hedging banks of the nature of the pre-paid forward purchase long-term obligation under a streaming contract - non-standard for intercreditors

• Streaming commitments v hedging protection - are they mutually exclusive? Can they co-exist together under an intercreditor?

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ICA considerations: senior debt (and hedging) versus streaming exposurePriority issues• Ranking and priority of debts - senior/junior positions or pari passu ranking

• Priority rights of streamer to metal committed under the streaming agreement, with senior lender priority rights to all other collateral

• Considerations include the comparative size of the stream "debt" and the senior debt/hedging exposure

• How are the exposures determined? Does the stream "debt" reduce as metal deliveries into the streaming agreement occur, in the same way as the senior debt reduces by principal repayments (if at all, NB revolving facilities)?

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ICA considerations: senior debt (and hedging) versus streaming exposure

Priority issues• Pari passu ranking - lends itself to many common positions that apply to

creditors under a standard intercreditor/security sharing arrangement - egrestrictions on amendments to debt exposures, new security/guarantees, turnover obligations.

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ICA considerations: senior debt (and hedging) versus streaming exposureEnforcement of security• Who will be the Controlling Creditor?

• What restrictions apply during a Standtill Period? What can the non-controlling party do? Does it have a say in the manner and method of enforcement? Can it approve a purchaser? What if the amount paid by a purchaser is less than the debt/hedge exposure?

• There are a number of standard considerations for a Controlling Creditor where the stream and debt/hedge rank pari passu - this means, again, that a number of the intercreditor provisions relating to enforcement will be reasonably standard and common positions

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ICA considerations: senior debt (and hedging) versus streaming exposureEnforcement of security• However, in the context of a stream v debt/hedge intercreditor, there is a

fundamental difference in enforcement objectives - on an enforcement senior debt wants to realise as much of its exposure as possible and exit, whereas the metal streamer wants to ensure that the stream continues (in order to recover the full long-term value it anticipated when it made the advance payment).

• This manifests itself in a potential conflict as to whether enforcement is by way of a sale of the business as a going concern (where the metal stream is continued and assumed by any purchaser of the business) or a sale of the mine assets (where, for example, trucks, equipment etc are sold and the operator wound-up).

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Mayer Brown Mining TeamOur Mining Group is “world-class” having won many accolades, including being recognised as a standout firm in the Financial Times Innovative Lawyer Awards 2011 and awarded Infrastructure/ Energy Team of the Year at The Lawyer Awards 2012 for our instrumental role in the development of a legal framework for Afghanistan’s mining industry.

Our global mining team consists of a number of leading individuals and is ranked in the top tier of legal providers for mining and minerals by the leading independent legal directory guides. In recent years, we have consistently been involved in the most interesting deals in the industry, many of which have been independently recognised as outstanding, particularly in Africa.

Our global mining group is comprised of lawyers focused on project finance, corporate, construction, environment, insurance, derivatives and commodities law who work across the globe, from Europe to the Americas, Africa, the Middle East and Asia, on a wide variety of transactions.

Global Mining Projects – Mayer Brown Mining Project Finance ExperienceSociedad Minera Cerro Verde (Peru) – Best Mining Financing: Best Loan 2014 by Latin Finance Magazine.

Endeavour Mining (Ghana, Burkina Faso, Mali and the Ivory Coast) – African Mining Deal of the Year 2013 Project Finance Magazine.

Wolf Minerals (Devon, southwest England) – European Mining & Metals Deal of the Year 2013 Project Finance Magazine.

New Liberty Gold Project (Liberia) – Development Funding Deal of the year 2013 Mining Journal.

Boseto (Botswana) – African Mining Deal of the Year 2011 Project Finance Magazine.

Kwale Titanium Mineral Sands Project (Kenya) – ‘Development Funding Deal of the Year 2011 & 2006’ Mining Journal and ‘Africa Mining Deal of the Year 2011’ Project Finance International.

Boleo (Mexico) – ‘Latin America Mining Deal of the Year 2010’ Project Finance International & ‘Exploration and Development Funding Award 2010’ Mining Journal Awards.

Baja (Mexico) – ‘Exploration and Development Funding Award’ Mining Journal Awards 2010.

Bisha (Eritrea) – ‘Africa Mining Deal of the Year’ PFI Awards 2009.

First Quantum Minerals (Zambia, Mauritania, DRC) – ‘Deal of the Year 2007’ Project Finance Magazine; Trade Finance Magazine.

Talvivaara (Finland) – ‘European Mining Deal of the Year 2007’ Project Finance Magazine.

Tiomin (Kenya) – ‘Development Funding Deal of the Year 2006’ Mining Journal.

Voshkod Chrome (Kazakhstan) – ‘European Mining Deal of the Year 2006’ Project Finance Magazine.

Questions and answers

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