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Ref: Blue Chip Mag

MINING Pakistan: a copper state?

by Saniyya Gauhar

Nov 30, 2006

Many people do not know that Pakistan lies on a massive transcontinental geological feature that runs through the earth's crust from Eastern Europe right across to Mongolia. It is known as the Tethyan Magmatic Arc. A magmatic arc occurs in areas where earth's tectonic plates collide or subduct with each other and are often areas of intense volcanic activity. When continental plates collide in this way, they form major mountain systems such as the Himalayas, the Alps and the Andes. But what makes magmatic arcs so special is the ore deposits found within them —deposits of copper and gold.

Of ores and porphyries
Ores are basically rocks that contain minerals that can be mined and extracted and then sold at a profit. The primary products of ores are metals, such as iron, zinc, copper and gold. Such metals occur in low concentrations in all rocks. However, they can be mined only when they occur in high concentrations. The concentration of a metal in an ore is called its grade, which is usually expressed as a percentage of the weight of the total rock.
Porphyries are a specific type of ore deposit found at the tip of subductive arcs all over the world. They are very large, low-grade deposits with a very high tonnage and normally contain copper, gold, tin, tungsten and molybdenum. However, the fact that porphyries are low-grade does not mean that they are worthless. Grade is not the decisive factor for determining value for the purposes of mining. A high-grade ore can be worthless for mining. The crucial factor in determining value is the way the metal is distributed within the ore. If, in a high-grade ore, the metal is unevenly distributed and scattered all over the ore, it will be useless for mining as it will be difficult to extract. However, if, in a low-grade ore, the metal is concentrated within the ore and is evenly spread or homogenous, it is easier to extract and a larger amount of metal can be retrieved from this low-grade ore than from its high-grade counterpart. Remember that grade is a percentage of the total weight of the rock and porphyries are incredibly large — so naturally, in relative terms, the concentration of metal may be small when compared to the size of the porphyry. Their size and homogeneity places porphyry deposits among the largest, most profitable and most sought after metal deposits in the modern mining industry. Most of the world's copper comes from such deposits located primarily in South America, New Guinea, Indonesia, the United States, and Canada.

BHP Billiton finds copper

The Tethyan Magmatic Arc is one of the least explored of the world's major copper belts. As already mentioned, Pakistan lies on this copper belt, which runs through Balochistan's 'tail end' — an area which is also unfairly known in the West as 'The Devil's Triangle' as its three sides border Iran, Afghanistan and Pakistan. Most international geologists and mining companies knew that Pakistan was probably rich in copper and gold by virtue of its location. However, due to the unstable political situation, they were reluctant to invest here. Luckily, in 1993, the largest mining company in the world, BHP Billiton, decided to take a risk and come to Pakistan. They negotiated a joint venture with the Government of Pakistan to explore the Chagai Hills region which they guessed lay on the copper-rich Tethyan Magmatic Arc. After years of painstaking drilling and investing over US$7m into the project, BHP Billiton discovered a major copper district at Reqo Diq in Balochistan.
Reqo Diq literally means "sandy hill" in Balochi. It is actually an ancient volcano that has eroded over time to form a few low hills that lie in a roughly circular shape and is approximately 10km in diameter.
In 1999, David Moore, Managing Director of a nickel mining company based in Western Australia called Mincor Resources NL, became interested in the project. Prior to becoming Managing Director of Mincor, Moore had worked for 13 years as a geologist for Shell/Billiton and was Billiton's chief geologist in Peru. "Because of my experience in South America," says Moore, "I recognised the value and tremendous potential of the Reko Diq area."

A whole new sector for Pakistan?

In May 2000, Mincor successfully negotiated an agreement with BHP Billiton to form an alliance to develop the copper resources at Reko Diq. For that purpose, they established a company called 'Tethyan Copper Company Limited' in June 2000 which was initially created as a wholly owned subsidiary of Mincor. The company is based in Perth, Australia, with a regional head office in Islamabad and sub-offices in Karachi, Quetta and Nok Kundi. Almost as soon as it was formed, it took over BHP Billiton's existing exploration infrastructure in Pakistan and commenced work to discover the true potential of Reko Diq.
But this did not mean that BHP Billiton gave up its interest in the Reko Diq project — far from it in fact. Under the alliance agreement, Tethyan has the right to use all BHP Billiton's exploration equipment, infrastructure, personnel and exploration data but…BHP Billiton has a clawback right. If Tethyan discovers a Significant Mineralised Occurrence (SMO), it must inform BHP Billiton of this and BHP Billiton in their turn may choose, (at any time prior to the point at which Tethyan starts a bankable feasibility study on the SMO), to take over sole funding of the exploration of the SMO. If, within five years of assuming the sole funding of an SMO, BHP Billiton discovers a contained metal value of at least US$2.5 billion, then it can exercise its clawback right in respect of that SMO. And…if the clawback right is exercised, Tethyan gets refunded 310% of its previous expenditure and retains 30% of its previous interest on acceptable joint venture terms. In other words, if the project's contained metal value exceeds US$2.5bn, then BHP Billiton can elect to take a 70% interest in that project and if it does so, it has to pay Tethyan 310% of the latter's previous expenditure on the project.
The fact that BHP Billiton is handing over the exploration and development of the project to Tethyan is not all that surprising. BHP Billiton is the largest mining company in the world and is involved in projects worth billions of dollars. The present scale of the Reko Diq project (currently 'only' in the US$500m range) is small for a company of its size. Therefore, it will happily let Tethyan do the work at this stage and if, the value of the project crosses the two billion dollar mark, that is when BHP Billiton will enter the picture. What is interesting from Pakistan's point of view is the fact that BHP Billiton has a clawback right at all. They didn't have such rights in other copper projects around the world, most notably Mongolia. Why have this right in Pakistan? The answer to this must be that BHP Billiton strongly believes that Pakistan's copper resources will some day be large enough to make it a multi-billion dollar project. The secondment of BHP Billiton's senior project manager, John Schloderer is significant. Schloderer is BHP's principal geologist and has been involved with the Reko Diq project from the start. His secondment provides Tethyan with continuity and also signifies BHP Billiton's presence. Schloderer has an impressive 26 years experience in exploration geology in the USA, Chile, Northern and Eastern Europe and Central and Southern Asia and he even worked on the drill-out of BHP Billiton's giant Escondida porphyry deposit in Chile. Schloderer is currently General Manager of Tethyan.
In June 2001, Tethyan concluded pre-feasibility and scoping studies and it was concluded that the area contained substantial amounts of copper and gold and was therefore highly viable economically. The positive results of these studies gave Tethyan a firm goal: establishing a world class copper and gold mine in Reko Diq and becoming a major regional copper mining company. Pakistan already has one government owned mine in the region — the Chinese run Saindak copper mine. But the mines at Reko Diq will be Pakistan's first private sector mines fully funded by high-risk foreign direct investment.
"What is exciting from Pakistan's point of view," says Moore, "is that if we are successful, we will actually create a mining industry in Pakistan. If foreign investors see that someone can come in here with high-risk private money and build a mine and make a profit out of it, then there are fantastic prospects for Pakistan as it will attract other mining companies. Unlike cotton, textiles and leather, minerals have not been exploited to its full potential. Here is a country that is comparatively poor with a whole asset base that is not being exploited at all. And to me, that is the most exciting thing from Pakistan's point of view — if we are successful, we could actually spark the creation of a whole new sector for Pakistan."

Money Money Money

But mining is an expensive business and Tethyan needed money — lots of it if they were to establish their mines. Right from the outset, it was decided that Tethyan would be listed on a stock exchange, not least because it needed more capital but also because Mincor, its holding company, was a nickel mining company and it was felt that copper and nickel mining were not all that compatible.
It was decided that Tethyan would be listed on the Australian Stock Exchange by the end of 2001. But events on the international scene would soon frustrate that idea. On September 11, 2001, two planes were hijacked and flown into New York's Twin Towers killing thousands of people. Thousands more were to die when America lashed out and waged war against Pakistan's neighbour, Afghanistan. "The whole world just stopped and we are right next to the border with Afghanistan," says Moore. "You just couldn't list a company internationally whose asset was in Pakistan at that time," — especially, he could have added, a company whose asset was in the Devil's Triangle!
It is said that the rule of thumb for investing in property is 'Location! Location! Location!' And by this measure, Pakistan was far from prime property. Muslim Lakhani, Chief Representative of Tethayn in Pakistan since June 2001 and Chairman of Tethyan Pakistan concurs: "The management had gone around the world six times but the moment people heard that the resources were in Pakistan, they weren't interested."
According to Moore, one of the biggest hurdles that he faces on the Reko Diq project in terms of finding money to invest in it, is the perception of Pakistan in the eyes of the world. "The perception of Pakistan was extraordinarily negative overseas. When I went to see potential investors, I could sell the project quite easily because the resources are all there. But when I told them it was in Pakistan, five out of the ten people just wouldn't touch it. It was as bad as that."
Lakhani accompanied Moore on the last leg of his tour to persuade companies to invest in the project. He remembers one particular meeting where somebody asked, "Why should we invest in Pakistan when it doesn't export things like textiles or electronics but only exports extremism and hatred for other religions?" Instead of going on the defensive and giving some sort of apologetic reply, Lakhani looked at the gentleman straight in the eye and said, "Yes, you are absolutely right. That was what we exported in the late 80s and early 90s — and we got US$2-3bn out of the USA for it — for exporting jihad to bring down the Soviets. We fought that jihad for you— we fought your war with the Soviets. You went away after that and today, you live in peace and we are left with the problems. But, we now have the right man in the right job — President Pervez Musharraf — and Pakistan is now trying to change."
According to Lakhani, Moore was tireless in his efforts to 'sell Pakistan' to potential investors. "David was tremendous in explaining why people should put their money in the project," says Lakhani.
Three things finally sold the project to foreign investors. Firstly, the resources were unquestionably lying there in the ground unexploited and Tethyan certainly had the capability to develop a world-class mining operation. Secondly, it was pointed out by Lakhani and Moore that Pakistan had never reneged on any international contract where foreign direct investment was involved. Thirdly, despite its many political and economic difficulties and in spite of the imposition of severe sanctions, Pakistan had never defaulted on any payment. There was always talk of default, but this never materialised. The US had defaulted in the past. So had Argentina. But Pakistan — never.
In October 2003, Tethyan was successfully listed on the Australian Stock Exchange. It raised A$15m from the global capital markets opening at a 43% premium to the issue price. "When we launched the initial public offering, we had intended to keep it open for three weeks," says Lakhani. "However, we were so heavily over-subscribed that we had to close in five days! That should give pride to the people of Pakistan and especially the people of Balochistan. This is the first Pakistan focused project that is listed on an international stock exchange whose shares trade daily and tells the emerging Pakistan story."
When asked why they didn't list in Pakistan, Moore replies: "There is no proper mining industry in Pakistan, and, therefore, there is naturally an incredible lack of knowledge about mining. I mean, we face hurdles in terms of explaining what we are doing, what it all means, what to expect. Managing expectations would have been and is hard. Australia, on the other hand, is very invigorating for that because there is a very vigorous, and very active mining sector. There are small mining companies that have a market capital of US$100m or US$200m or less that are actually world leaders and they exploit small ore deposits throughout Australia and sometimes throughout the world. Therefore, there is a considerable amount of knowledge about the mining industry in Australia."
Given that Pakistan is so rich in unexploited copper and gold resources, it is surprising that there is no mining industry. Lakhani feels that this is largely due to what he calls the "gestation period" of getting a mine into production. With oil and gas, it takes between 3-5 years to determine whether the resources are there. After that, if successful, a well or field goes into production and the investor sees cash flow. With mining, it can take up to 10 years or more to determine whether the area is rich enough in resources that can be mined at a profit. After that, it takes a few more years (and much more money) to build a mine and finally get into production. In Tethyan's case, by the time the first production of copper is ready for export, it would have taken over 15 years from its inception to reach that stage. Mining is definitely not for the impatient! "Pakistanis generally have been thinking short term. The idea of waiting so many years to see results is an anathema to them. With oil and gas, you see results much faster," says Lakhani.
Moore agrees: "The risk profile of the money you are spending is very different. With oil and gas, it is all upfront— you spend a lot of money but if you hit it and strike it rich, the cost of getting a field into production is very small. With minerals you spend comparatively smaller amounts of money — tens of millions rather than hundreds of millions in order to find the ore deposits and then you spend a lot of money — ten times or twenty times more to actually build the mine."
Lakhani is hopeful that after people see the results of the Reko Diq project, it will inspire them to seriously look at long-term projects in the mining sector.

The longest journey starts with a single step

Various sites in the Reko Diq area have been identified as potential mining sites but before all these areas are developed and subject to the results of a feasibility study (due for completion by mid-2005), Tethyan intends to first run a pilot project where one such site will be developed into an operating mine — the H4 Starter Project. Tethyan hopes that the H4 starter project will give it a track record and cash flow for financing and establishing a much larger mining operation at Reko Diq.
"It's not really a pilot project," says Moore, "it's a stand alone mine on its own. It's quite a significant mine. The H4 resource contains nearly 2 billion pounds of copper — that is an in situ value of around US$2.4 bn. I mean, we are talking about producing 42,000 tonnes of copper metal per annum for 12 years, which would be a medium-sized copper mine in global terms. But it's a pilot project in the sense that it'll be the first privately funded mine in Pakistan and also for us, our first mine in the Reko Diq area."
Moore also felt that it is wiser to start slowly. He quotes an old Chinese proverb — a thousand mile journey starts with a single step. "At Reko Diq there are much larger resources than just this H4 one. The H4 is, in fact, the smallest of the resources that we have identified to date at Reko Diq. But we are realists and we need to start slowly and build up so we start with a small US$150-170m project; we get that going; we get the cash flow; we get the track record and the credibility of actually working here and making money and financial institutions will feel secure enough to risk investing in the mining sector. We can then use that credibility and cash flow to build a bigger mine. That's the plan basically." Initial studies have shown that the total indicated and inferred resources at Reko Diq are 855 million tones of ore with a grade of 0.64% copper and 0.33 grams per ton of gold.
The H4 Starter Project had been granted Export Processing Zone status in 2002, which was also given to the Saindak mine earlier. This provided H4 with fiscal benefits and regulatory protections. Local government lobbying resulted in the legislation of important modern and investor-friendly reform of Balochistan's mineral laws. In fact, since its inception in 1992, the Reko Diq project has had the support of every government. "The last four years of the Musharraf government at the federal and provincial level have been unprecedented in terms of support for the project," says Lakhani.
Moore is also very positive about his experience of investing in Pakistan so far. "It's sometimes quite good to look at the positives. English is widely spoken; the English legal system is basically applied; it's a system familiar to an Australian and to the Anglo Saxon world — they would feel at home here. Those are big, big things for a foreign investor — huge things. We found the Government both at the federal and provincial level extraordinarily helpful and clearly trying to encourage investment. They seem to have understood the risks that we were taking as a foreign company coming here for high-risk exploration work. This is very high-risk money that we are spending — and they could see that and they were very helpful. That's not to say that there isn't a level of bureaucratic slowness — there is, and it can be a problem — but by and large, we found working here a pleasure. We haven't faced any corruption problems or anything like that and we've got everything we've needed done by people simply applying the laws as they exist. I tell this to people outside Pakistan and even to many Pakistanis and they don't believe me!"
Incidentally, BHP Billition's right of clawback does not apply to the H4 project.

But what about the Balochis?

Baluchistan has the reputation of being a wild, tribal and inhospitable place and is certainly Pakistan's most underdeveloped province. This was one major reason why many companies never tried to exploit Pakistan's copper and gold resources since these are mainly located in Baluchistan. Why would a foreigner want to invest such huge sums in Baluchistan? And how is it that Tethyan hasn't encountered any trouble with the Baluchis who have in the past blown up Sui gas pipelines, attacked Gwadar Port and the Saindak copper mine which is only 60km away from Reko Diq?
"We looked at that very carefully," says Moore. "For one thing, the area that we work in is what is known as a settled area — there is no dispute as to who owns the land. The second thing is that the government of Baluchistan actually owns 25% of the project. The mineral license is held in the name of the two of us —
Tethyan and the government of Baluchistan. So in terms of the deal that the Baluchistan government has got (and this was a deal that was originally negotiated with BHP Billiton), they've got a very attractive deal because Tethyan spends all the money up front — the early high-risk money — and the Baluchistan government 'free carry.' In other words, they don't spend any money. They only have to start spending money when we have to start building the mine, which is the last phase of a long process of expenditure. It is more expensive but much less risky because by the time we've decided to build the mine, we've done all the studies and all the work and are convinced that the mine will be a success. In their case, there is very little risk because not only do they start spending money at the point when you've spent a lot of money de-risking the project, but they can actually borrow the money from us to do it and they will no doubt do that. They'll borrow the money from us under the terms of the joint venture agreement and pay it back to us over eight years from their cash flow from the project."
In Pakistan, oil and gas is a federal issue but minerals come under the jurisdiction of the provincial governments hence, the support of the Balochistan government is crucial. The other ingredient of Tethyan's success in its dealings with the Balochis has been their attitude towards the people of Balochistan, especially those in the Reko Diq area. "We have a rigorous policy of employing local people from the Reko Diq area and training them," says Moore. "If we cant find the skills there, then we look elsewhere in Balochistan and if we cant find the skills anywhere in Balochistan, then we finally go looking outside."
The locals in the Reko Diq area are very supportive of Tethyan and the latter spends considerable time in fostering a warm and respectful relationship with them. Tethyan officers frequently have meetings with the tribal chiefs to update them on the progress of operations at Reko Diq. And the Balochi chieftens realise that the Reko Diq mines will have tremendous spin off benefits for the province in terms of employment and economic advancement. Already, Tethyan has sent several Balochi geologists for training in Australia. There are also schools on site at Reko Diq. Tethyan presently employs over 150 people in the Reko Diq area and has 4 rigs on site. Besides the 15 ex-patriots on rotation from Australia, Mongolia, Canada and elsewhere, the remaining employees are all Balochis.
"Previously, Balochistan was very left out," says Lakhani. "This project will create hundreds of jobs. The Balochis need to get more than what they are getting, not only in terms of money but also in terms of simply someone listening to their grievances. 25% of the net profit of this project belongs to Balochistan — in fact, in this case, they are protecting their interest. When you are fair, people will support you. You don't just need government support, you need people support."
Despite its apparently inhospitable and isolated location, Reko Diq has the advantage of having a major sealed road and railway line 4km away as well as possible access in time to the Gwadar Port which is south of Reko Diq. The company also plans to build a private airstrip at Reko Diq.