Copper and Capital Flight: How Corporate Debt Becomes Public Debt

2011-07-05

Erin Torkelson, Researcher, Organised Crime and Money Laundering Programme, ISS Cape Town Office

Capital flight is a significant obstruction to Africa’s development. Each year, the continent loses US$148 billion – four times the amount of foreign aid it receives – in this way. Corporate profits, generated from the sale of Africa’s natural resources, are rarely adequately taxed, leaving governments with little to fund national budgets. Such shortfalls must be addressed, either by raising revenues from an already over-burdened citizenry or by accepting conditional loans from multi-lateral institutions. Either way, it is ordinary Africans, who must service this debt, effectively plugging the holes in the national budget left by transnational corporations, and indirectly contributing to their massive profit margins.

Clearly, no ‘silver bullet’ capable of ‘solving’ Africa’s development challenges will come from IMF loans or domestic taxes. Rather, re-claiming the billions lost to capital flight each year will go a long way toward raising state revenues, promoting development and securing economic independence.

Over the last three decades, Zambia has been particularly vulnerable to capital flight. However, thanks to a recent audit of the country’s largest copper mining company, Mopani Copper Mines (MCM), Zambia now offers valuable insights into the modus operandi of tax evasion by multinational corporations.

In a press folder released alongside the leaked Mopani audit, French advocacy attorneys, Sherpa, have argued that shortly after independence Zambia ranked among the richest African nations, with an economy that was twice as large as Egypt’s and three times as large as Kenya’s. Sherpa’s report demonstrates that the profitability of the Zambian economy was built upon the state control of mineral resources, which funded a national policy of human development. However, Zambia’s economy, which was inextricably tied to the price of copper, crashed in the early 1980s, and the country was forced to borrow from the World Bank and IMF. Austerity measures imposed to ensure the repayment of loans led to the privatization of national industries for the benefit of corporate investors.

Today, the extractive industries in Zambia are, once again, being promoted as the primary mechanism to kick-start the national economy. But, under Zambia’s excessively lenient tax regime, it is unlikely that the national revenue agency will collect payments from the mining sector. Mining royalties received by the Zambian government in 2006 represented just 0.6% of sales – little more that US$20 million against $3.3 billion of turnover. This percentage of corporate tax is the lowest in the world, according to the African Research Bulletin (ARB) - 17606 (16 October – 15 November 2007 and raises questions about how such favourable privatization agreements came to be signed in the first place. The ARB proposes that former President Chiluba (later convicted in London of siphoning tens of millions of dollars) may have facilitated payments between corporations and MPs at the time of the vote, or that the World Bank may have undervalued the productivity of Zambia’s mines.

The Zambian government has acknowledged that the country failed to cash on the 2004-2008 commodities boom, when the price of copper tripled. According to the Zambian Revenue Authority website, a new tax structure was passed on 1 April 2007, increasing mining royalties to “3% of the gross value of base metals produced.” Even with these increases, the Africa Research Bulletin - 17606 predicts that mining companies will still pay less than $165 million per year in taxes, while citizens (many of which are only informally employed) are set to contribute almost $462 million. Moreover, many mining companies will not have to pay these new rates, due to 20-year stability clauses written into previous contracts, which secure taxable revenue at 0.6%.

In an effort to expose capital flight, the Zambia Revenue Agency (ZRA) recently hired Grant Thornton and Econ Poyry to conduct a “Pilot Audit” of Mopani Copper Mines (MCM), the largest mining corporation in Zambia controlling significant copper and cobalt reserves. The Thornton-Econ report raised many questions about why MCM declared no profits between 2005 and 2007, despite the rising price of copper on the London Metal Exchange (LME) and the huge quantities of metal extracted from Zambia’s mines.

The audit took longer than expected due to the lack of cooperation by Mopani executives, who, according to Thornton auditors, “resisted” the accounting exercise “at every stage.” Journalist Khadija Sharife, has written that MCM’s chief executive, Emmanuel Mutati, now claims that the audit is inaccurate and the company must be “exonerated.”

According to the Thronton-Econ audit, Mopani is owned by Carlisa Investments Corporation (73.1%), First Quantum Minerals (16.9%), and ZZCCM, the state-run mining company (10%). Carlisa is 81.2% owned by Glencore Finance Limited (which is 100% owned by Glencore International AG Switzerland) and 18.8% owned by Skyblue Enterprise Incorporated (which is 100% owned by First Quantum Minerals Limited). Ninety percent of MCM is controlled by two companies, Glencore International and First Quantum Minerals, who have been accused of tax evasion by the Thornton audit. Below is a brief overview of what the auditors found:

To begin, Thornton stresses the absolute power of Mopani’s largest shareholder, Glencore, to exercise control over the entire copper extractive process, from production to sale. Current Glencore CEO, Ivan Glasenberg, originally initiated this strategy in apartheid South Africa, when he ran the company’s coal division. In order to avoid international sanctions, he moved Glencore beyond mere commodities-brokering and purchased coal mines in Australia and South Africa. Glasenberg packaged production assets into affiliated publicly-traded companies, located in the global south, but predominantly owned by Glencore. Glasenberg’s strategy proved a huge success, subsequently expanding into many other commodities beyond coal. Now controlling 60% of the global zinc market and 50% of the global copper market, Glencore’s power is amplified to the point where it can legally manipulate commodities prices. This near total market control and vertical ownership of production limits host countries’ ability to generate revenue from Glencore-affiliated mines.

Secondly, a “Copper and Off-take Agreement” permits Glencore to operate as the sole buyer of Mopani copper, creating a non-competitive purchasing environment. This agreement does not comply with OECD’s “arms length principle,” whereby copper should be sold to Glencore under conditions that would normally apply to a third-party buyer. Instead, copper is consistently sold to Glencore at prices far below the official rates set by the London Metal Exchange, ensuring that copper sales never adequately cover production costs. The Thornton audit reveals that the price gap between metal sold to Glencore and the LME copper price over the period 2000 to 2007 has been steadily widening.

Thirdly, the Mopani-Glencore relationship is based on a so-called “hedging” strategy, where long-term contracts are locked-in at the lowest end of fluctuating copper prices. Typically, hedges should be made near the top of the price cycle to ensure maximum profitability for productive mines. However, Mopani has been “falsely” hedging at the bottom of the price cycle, making losses when prices are rising and falling. This gives Glencore a below-market rate on copper production and enables Mopani mines to show no profitability. Mopani Copper Mines, when operating at a loss, cannot be taxed by the Zambian government. This strategy allows Glencore to re-sell Mopani copper to third-party buyers at LME rates, generating profits outside of Zambia’s tax jurisdiction.

Finally, Mopani accountants are allegedly showing much higher production costs than their nearest competitors. Mopani’s costs in just 2 years have more than doubled – from US$ 357,62 million to 804,91 million – and are almost twice what the Thornton auditing team considers the average industry growth for the same period (US$ 423,69 million). One clear example of over-expenditure by Mopani Copper Mines falls under the “transportatio”’ line item. Thornton auditors showed how Glencore is charging Mopani transportation fees based on a fixed cost for deliveries between Zambia and Rotterdam. Though many shipments are made to ports much closer than Europe, MCM is consistently overbilled in freight charges. This is yet another technique for Mopani to show no profits, and evade taxes by the Zambian government.

Overall, the Thornton pilot audit has offered the Zambian Revenue Agency good insight into how capital flight works and how it can be curtailed. Other African nations can also benefit from this information and use it to interrogate corporate tax evasion in their own jurisdictions.

 

 

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