August 1, 2012
Dentons Canada LLP, KPMG LLP and its subsidiary SECOR Inc. have released today a study presenting an analytical framework for evaluating the different mining royalty regimes which are being used worldwide. The authors hope the study will provide a framework for informed debate regarding mining royalty regimes best adapted to Quebec's economic and mining circumstances. The quest for such determination has been provoked by an important public debate that is currently ongoing in Quebec as a result of the recent launch of the Plan Nord.
The study analyzes four royalty schemes for a standard Quebec iron mine or gold mine: i) profit-based royalties, ii) ad valorem royalties, iii) West Australian style of royalties and iv) hybrid royalties. The study concludes that no scheme is universally superior to the others and that it must be adapted to the territory. Given the fact that Quebec's mining sector is relatively marginal on an international scale (representing less than 1% of global production), and that Quebec has high production costs based on the fact that its variable climate, its mining deposits are generally less concentrated and that it is at a great distance from the emerging Asian market, the study focuses on the importance for Quebec to remain competitive.
A profit-based royalty, the current royalty regime in Quebec (at a rate of 16 %), adjusts to the profitability of the mining project. Thus, when prices are low and mines become marginal or not profitable, this regime does not compound the problem. This is particularly important in regions where production costs are higher. Avoiding a supplementary burden in such a situation can help mines pass through a depressed mining cycle, without having to stop production. When prices are high and profits are up, such a profit-based scheme gives governments a larger proportion of the extracted value. However, the royalty amounts collected by the government will experience greater fluctuations and there is a risk that they may be nil for some mines during certain years. The ad valorem royalty facilitates the collection of more constant royalty levels under various price variations. However, this royalty adds a significant cost burden to the mining companies when the prices are low and the mining projects are less profitable. This, in turn, adds a significant amount of risk to the project and reduces its net present value relative to the same project subject to a profit-based royalty. An ad valorem royalty imposes the payment of royalties even when profits are weak or non-existent. This could lead to the accelerated closure of mines when prices are low and the postponement of potential projects. Ad valorem royalties are much less complex to put in place and are more common in developing countries, where fiscal administration is not well established. The hybrid royalty and the West Australian style of royalty combine, to varying degrees, the advantages and disadvantages of the previous two schemes.
The study concludes that high mining royalties do not necessarily translate into revenues as future investment may be compromised. The study recommends a regime be calibrated to optimize the benefits for Quebecers in the development of mining potential with a view not only to government revenues, but to impacts on investor decisions and regional characteristics of the sector.
Importantly, the study notes Quebec's other mining investment assets are the quality of the business environment (political, legal and fiscal), the availability of trained professionals and workforce, the quality of its geological database and the potential of a very large territory which has not yet been explored.
For further information please click here to read the press release or contact a member of the Dentons mining team.
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