GBR reports on the current situation in the DRC and the implications for mining investments.

BY Lindsay Davis

Doing Business in the DRC

September 18, 2018

When the DRC won its independence from Belgium in 1960, the country quickly fell into chaos as different political parties and internationally-backed proxies attempted to destabilize the control of the new government. The nation’s first elected prime minister, Patrice Lumumba, had been a leading figure in the DRC’s path to independence, and his relations with the Soviet Union and strong commitment to pan-Africanism and Marxist-inspired principles marked out the Congolese politician as a threat to Western powers. Shortly after being forced out of office, Lumumba was later assassinated. The American and Belgium governments, after years of both nations exercising control over the DRC’s vast resource wealth, were suspected of involvement and in the era of the Cold War, the country’s mineral assets — and particularly its high grade uranium — were too vital to fall under the control of what was feared could become a radical regime.

Less than two weeks after the DRC state had been born, supported by a force of western-supported mercenaries, Congolese national Moise Tshombe declared the southern Katanga province and part of the Kasai region independent from the rest of the country. This region contains the majority of the nation’s mining activities in which Belgian, French and British actors had a vested interest. Eventually the U.S. and UN military forces brought the secession attempt to an end in 1963, when Tshombe stepped down from his declared role as President of the State of Katanga.

While the actors may have shuffled, nearly 60 years on and following one of the deadliest wars in modern history, the DRC’s complicated geopolitics still cripple the country’s ability to achieve sustainable economic progress — the exception being the wider Katanga region, which, in recent years, has seen relative growth and stability compared to neighboring provinces. Particularly under the leadership of former governor Moïse Katumbi, the province saw an economic revival through initiatives such as a ban on the export of raw minerals that increased tax revenue gathered in the region from US$80 million in 2007 to over US$3 billion by 2014. Given Katumbi’s mounting power and perennial fears that the region may still one day attempt secession, the businessman-turned-politician was forced into exile and, in 2015, Katanga was split into four separate provinces in a move that effectively decentralizes the region’s power.

Katumbi has remained on the fringe of Congolese politics and, in January 2018, put forth his candidacy for the presidency. According to the constitution, President Kabila cannot run for a third term and senior government officials have indicated that he will step down. At publication, Katumbi is joined in the race most notably by the incumbent prime minister, Bruno Tshibala, ex- Vice President Jean-Pierre Bemba, a former warlord recently acquitted of war crimes by the International Criminal Court, Vital Kamerhe, leader of the Union for the Congolese Nation party, and Félix Tshisekedi, leader of the country’s oldest and largest opposition party, the Union for Democracy and Social Progress.

While it appears that President Kabila will ostensibly respect democratic process, rumors abound as to which candidate could serve as a puppet figure for his continued influence over state affairs. International powers are also quietly taking sides, with rumors circulating that China and Russia have been courting President Kabila to maintain his position. China has benefited immensely under the current President’s regime, taking control of well over half of the country’s mines. However, speculation that the United States has stepped in with incentives to encourage President Kabila to step down suggests that, while overt American influence has largely exited the county, the United States remains interested in the DRC’s fate.

Historically, the DRC has suffered immensely under the strain of too many interested parties vying for power. Often used as the quintessential example of the Resource Curse, the country’s extreme natural wealth has fueled this political feuding, and investors worldwide will only become more cautious as election day approaches. 

 

The New Mining Code

The DRC’s controversial new mining code was ultimately signed into law in May 2018, following a dramatic public battle between government and some of the world’s largest mining companies, including Glencore and Ivanhoe. The previous code, promulgated in 2002, was thought to be one of the more investor-friendly regulatory frameworks in Africa. Now, mining royalties on non-ferrous metals have increased from 2% to 3.5% and notably a new “strategic substance” designation could require companies to pay a royalty as high as 10% on metals such as cobalt, which could produce a worldwide ripple effect given that the DRC contains nearly two thirds of global cobalt reserves. “Cobalt will play a globally significant role in the rapidly growing green industries such as batteries and electric vehicles. This means there will need to be dialogue between the mining community and the DRC to create a win-win dynamic that respects the development needs of the local population, while continuing to attract mining investors from around the world to promote sustainable growth,” said Michael Demey, regional manager of the Katanga region for BCDC, a leading Congolese bank that has been operating for more than 100 years.

Generally, the updated code puts more emphasis on generating revenue for the local economy, but mining companies have argued that some of the new requirements are not feasible given the significant challenges of operating in the DRC and their associated costs. For example, the new mining code also requires the total export earnings repatriated into the country to increase from 40% to 60%, and that those funds be utilized in the DRC. Serge Bilambo, mining and metals head for Standard Bank in the DRC, explained the concerns over this obligation: “The challenge is to ensure that companies can find subcontractors capable of delivering the specific services that they need to the standards that they require. Many companies already struggle to use the 40%,” he said, adding, “However, putting the new law in perspective, in a country like Zambia there is no requirement to repatriate export proceeds, whereas some places in West Africa require 100% of export proceeds be repatriated. The challenge is to find the appropriate balance and promoting initiatives to lift up the standards of local subcontractors so that they can compete.” 

The import and export process in the DRC is already notoriously complex and, to keep track of this complicated and ever changing regime, mining companies typically enlist the services of local banks that can support them through the process through intimate knowledge of the many nuances in the system. “BCDC is particularly adept in assisting in following import and export processes. To import goods in support of production, licenses must be obtained that are accompanied with considerable paperwork that must pass through several institutions, ultimately resulting in thousands of documents that must be closely monitored to avoid huge penalties and fines,” explained Demey. “After exportation, a certain percentage must be repatriated within a particular period of time with accompanying documents, which is an even riskier undertaking. BCDC has a long tradition in providing mines this critical service from our large back-office support team.”

Dr. Mark Bristow, CEO of Randgold, which operates the Kibali gold mine, raised the issue of the new windfall tax, which he believes will have disastrous consequences. He explained: “Essentially, the tax rate is determined by the commodity price when the mine starts operating, rather than by the grade of the deposits.  Mines in Katanga that were developed at different times will be affected differently: for example, if a company is mining two ore bodies at the same time, but started mining one when the copper price was US$3 and the other when the price is US$2, one is penalized and will become a loss-making exercise because of the windfall tax. It is worth pointing out that in 2013, mines closed in Katanga because the copper price collapsed.”

Dr. Bristow, one of the key voices among investors opposed to the changes in the new mining code, explained how the debates had led to a falling-out between some of the country’s most prominent investors and the nation’s key industry association, Federation of Congo Enterprises (FEC). “When we were discussing the mining code with the President, the mining industry sat on one side of the table, and the government sat on the other side of the table with FEC. This presented a huge conflict of interest that we were uncomfortable with. We approached the Minister of Mines and said that we would like to represent ourselves,” he said.

If the increased revenue generated by these changes is re-invested into critical development projects, the financial effects felt by the mining community could theoretically be offset by improving the country’s overall economic well-being. “The new mining code certainly has financial implications for us, including new taxes to pay on imports and exports. However, as long as commodity prices continue to remain strong, we do not expect much impact. If the government will contribute more support to the mining industry through this added revenue by strengthening key infrastructure like transport and power, then I believe we will ultimately see a positive impact,” said Chetan Chug, CEO of SOMIKA, a diversified mining company operating in the DRC since 2001.

The key question going forward will be how existing investors are treated under the new code. Mining companies operating under international investment agreements can use the stabilization clause in the 2002 code to engage the government in costly arbitrations over a protracted time period — a lose-lose situation for all stakeholders.  “For new investors, these are the new rules and the new status quo. For existing investors, discussions are ongoing to reach a compromise that benefits all stakeholders. Existing investors have made significant investments at a time when the environment was more complicated. They should then benefit from their early commitment as they invested in a difficult period for the country,” said Yannick Mbiya Ngandu, director for Trust Merchant Bank (TMB).

Ultimately, the objective of the changes is to bring increased benefit of the country’s natural wealth to its population. Whether or not the new code will achieve this amid a state apparatus riddled with corruption remains to be seen.

 

Economy and Finance

While the split of the Katanga province may underpin an undercurrent of geopolitical strategy, it also aims to concentrate more energy into the development of smaller territories. The country depends heavily on mining as the largest single contributor to GDP followed by the telecommunications sector, and when commodity prices crash, as they did in 2015, the entire economy suffers. To counter this effect, provincial governments are promoting alternative investment opportunities in their regions, with agriculture and tourism identified as the industries with the most potential within the Copperbelt region. Governor Richard Muyej of the Lualaba province, which hold’s the largest share of the country’s mining assets, is leading an energized campaign touting his jurisdictions touristic potential. Highlighting everything from the dramatic waterfalls of Kayo in the Lubudi territory to the construction of a new fountain plated with malachite in the capital city of Kolwezi, Governor Muyej is determined to change the face of the Lualaba province through diversification.

While opening investment to new sectors to decrease reliance on mining will help, the financial impact of the new mining code and the political risk remain deterrents. The government has begun to make use of other fiscal tools to design a more favorable environment for investment. For example, the recent liberalization of the insurance sector, which was formerly monopolized by a state-owned company, could soon help to lessen interest rates for loans in the DRC. To secure sufficient capital for projects, companies are largely obliged to seek financing from international lenders, but local alternatives should bring the cost of interest down.

Another new development from the Central Bank attempts to incentivize companies to make use of the SME sector by making leasing activities more attractive. “Leasing fees are now tax deductible,” explained Mbiya. “Rather than buying equipment, companies can take advantage of this opportunity to lease equipment, utilizing borrowing structures provided by banks like TMB.”

Overall, the palatability of the high-risk, high-reward paradigm of the DRC will not come down to small gains in leasing or lower interest rates. And, despite the impending election and shaky relations with the country’s top investors, new investment continues to come in. While some investors may be waiting the outcome of 23 December, many more are braving the uncertainty to take advantage of the country’s vast potential as the mining uptick surges forward.

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