Oil Companies, Spot the Difference: Who is Willing to take Unacceptable Shortcuts in Virunga?

Spot the Difference:  Who is Willing to take Unacceptable Shortcuts in Virunga?

Extract from Bannon, Ian and Paul Collier book on Natural Resources and Violent Conflict: Options and Actions, “Chapter 8 –  Attracting Reputable Companies to Risky Environments: Petroleum and Mining Companies”


By John Bray

Historically, junior companies have been more willing than major companies to take risks in countries that are vulnerable to conflict or have poor standards of governance. This fits in with their investment strategies as sold to their financial backers: high risks in the hope of high returns. It is generally understood that easy places are already taken, and thus the most cost-effective means for a small company to make an impact is to work in high-risk regions. The classic approach of a junior—whether in the mining or the petroleum industry—is to explore, develop a deposit until its commercial viability is proven, and then sell part or all of its stake to a major.

Cairn Energy, which discovered and developed the Sangu gas field in Bangladesh, is regarded as a positive—and profitable—example.  Cairn has now transferred the operation of its interests in two blocks in the field to Shell and signed production-sharing contracts with Shell in two further blocks.7 Meanwhile, it is extending its offshore exploration activities to India.

An executive working for another petroleum junior explains his company’s strategy:

“We are a niche player. We look for places where there are good subsurface prospects combined with difficult surface risks*. The geology is crucial: the rest we can manage.”

*[ “Difficult Surface Risks”: More than 20 armed groups, national and international conventions prohibiting oil exploration, local communities fearing for their future and livelihoods….]

Surface risks may include an uncertain legal environment. Juniors are more likely than majors to begin exploration before a satisfactory legal framework is in place—indeed they may see a competitive advantage in doing so. While exploring, they may hope to establish a degree of influence with government officials, in the hope of encouraging them to institute more favorable legal regulations when the time comes to go into production.

The reputation of the whole junior mining sector suffered as a result of the 1997 Bre-X scandal when a Canadian company was found to be “salting” an Indonesian mine (falsifying geological data) in order to mislead investors. The Bre-X scandal, now combined with the general economic slowdown, has made it more difficult for juniors to raise funds either on the Canadian or on other stock markets.

Juniors typically have limited financial resources, and their survival often depends on the success or failure of one particular project. There may therefore be a greater temptation to take unacceptable shortcuts—whether by economizing on social programs or by paying bribes. At an MMSD seminar on armed conflict and natural resources, one participant commented that large mining companies were moving out of Papua New Guinea only to be replaced by smaller ones: “These are not the sort of guys who’ll come and sit round a table like this” (MMSD2001). The implication is that smaller companies are less likely to have the time or resources to discuss important social or ethical issues.

The juniors argue that they fulfill an important social as well as a commercial function by taking on the high-risk areas that the majors will not touch and thus promoting development in otherwise neglected areas. Like the majors, the juniors have become more sensitive to social issues in the last 10 years, and this is for self-interested reasons as well as altruism. It will be more difficult for them to sell the properties they have developed if these are associated with unresolved social controversies and even legal liabilities.

As is seen in the case studies in appendix 7.1, Premier and Talisman are examples of smaller companies that have responded to social and political controversy by investing in social programs in Myanmar and attracting reputable companies Sudan, respectively. They have not succeeded in defusing the controversy, but they have demonstrated that concern with social issues may extend to juniors as well as majors.

Majors are more sensitive to their reputations than juniors because they have more to lose. By the fact of having a “big name,” they are more exposed to public scrutiny, and their commercial health matters to more people. They generally are unwilling to jeopardize their reputations—and their share prices—through exposure to actual or potential zones of conflict.

This greater sensitivity to reputation has mixed implications. On the one hand, it means that majors are less likely to take on difficult projects in the first place. On the other hand, once they take on a project, they have greater financial and technical resources and are better placed to manage problems than are juniors. Their greater financial resources mean that they can play a long game, waiting for the right conditions to make major investments rather than being in a hurry to make quick returns.

One reason why juniors can afford to take greater risks is that they focus on the exploration and initial development stages of the investment cycle, and these require comparatively low capital sums. By contrast, world-class companies look for world-class deposits. As an executive from a major minerals company explained, this is likely to mean an open-pit mine that has a projected life of some 40 to 50 years.9 If a company is to invest the tens or hundreds of millions of dollars needed to develop this kind of mine, it will need to be confident of a reasonably stable political and legal environment.

The same executive stated that his company would rarely consider a country that lacked a well-drafted mining code. High levels of corruption would be a major disincentive, and the company would not even look at a controversial country such as Myanmar. Low prices for metals mean that the company has a smaller exploration budget than before. It already has a portfolio of mining properties that are “ready to go” once prices rise again.

In cases where majors have become involved in conflict, this is often because violence has flared up after they have been operating in the country for many years. Shell’s experience in Nigeria is an obvious example. As the company now acknowledges, it neglected the warning signs that led up to unrest in the Niger peninsula. It is now trying to apply the lessons both in Nigeria and elsewhere.

However, conflict is not an absolute deterrent even to majors, as long as the resources are attractive enough and they believe that they can manage the risks. Angola evidently qualifies on both counts, although the fact that the companies are able to operate offshore in comparative safety does not remove their exposure to the reputational risks of involvement with a controversial regime.

Source: Natural Resources and Violent Conflict: Options and Actions, © 2003 The International Bank for Reconstruction and Development / The World Bank

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