Jason Reid
President, CEO and Director
Gold Resource Corporation
/
Insight

Government Cause and Effect on the Oaxaca Miner

Sat, 10/28/2017 - 12:15

While the mining industry is not for the faint of heart due to the numerous challenges confronting companies that participate, governments and mining-friendly jurisdictions are the primary focus of future company capital allocation. It is unfortunate that Mexico recently has and continues to slip as one of the premier mining-friendly jurisdictions and in doing so it has caused Gold Resource Corporation to look outside the jurisdiction as it allocates additional capital toward future mining units.

While Gold Resource was exploring, developing and putting its Aguila project into production, Mexico was consistently ranked among the top mining-friendly jurisdictions in the world. This is changing. In the global 2016 Fraser Institute Survey on Mining Companies’ Investment Attractiveness Index, Mexico dropped from 37 in 2015 to 50 in 2016. Mexico was ranked 25th globally in 2012, showing the degradation of its Investment Attractiveness Index ranking over the last five years. The 2014 implementation of the 7.5 percent mining duty along with another 0.5 percent fee on precious-metal producers contributed significantly to Mexico losing ground in the world rankings of mining investment attractiveness. 

While Mexico in general has lost ground in global rankings, the state of Oaxaca presents additional challenges for mining companies. Gold Resource has been working on an electrical power-grid program over the course of several years. While there is an existing power line that supplies its Aguila project, it has very limited electrical capacity so the company has sought to increase the power grid infrastructure to create additional power. This would not only help the company operate but would also aid numerous local communities along the new proposed power line route, from the nearest substation to the Aguila project.

One would think the government of Oaxaca would enthusiastically agree to have a third party pay for the necessary electrical-power infrastructure, as Gold Resource has offered to do, and to facilitate and expedite this project due to its positive effect on many local communities. But the fact this project remains in the evaluation stage after many years underscores the challenges companies may face while operating in Oaxaca and Mexico in general. Whether it is the high turnover rate of employees at the CFE or the lack of interest or initiative, the net effect is that this problem is but one more challenge that discourages additional allocation of capital being deployed into Mexico.

In addition to the federal and state government challenges, the labor unions push for yearly pay increases irrespective of market forces, world events or company financial health. There appears to be no effort by the government to help manage these unreasonable expectations as labor unions continue to drive local operations in Mexico. Historically in the US, excessive union demands have caused many businesses to fail and ultimately destroyed those companies and the unions in the process. Mexico, with the government’s tacit union support, seems determined to follow in the same footsteps of the US union workers focused on the shortterm gain leading to long-term pain for all. The royalty tax imposed on a federal level has not only hit miners in their pockets but confidence in the government has also taken a hit. The miners are expected to pay taxes without receiving the appropriate support or returns. If Mexico had not imposed its 8 percent mining tax or if it had imposed a more reasonable percentage, it is highly plausible that Gold Resource’s second mining unit would have also been located in the country. The aforementioned additional challenges from the local government and continuous union demands added to that outcome.

A new mining unit implies tens of millions of dollars invested, new jobs created, ancillary business growth, opportunities and the additional millions of tax dollars for the government, which has tremendous value. History demonstrates money flows where it is most appreciated. When national and local governments create significant tax burdens on businesses and fail to support or help facilitate projects and infrastructure, the allocation of capital for that nation or government eventually ends up elsewhere. Likewise, government sanctioning of excessive demands and overreaching by labor unions will cause the allocation of capital to go elsewhere.

While Gold Resource is content to continue operating its Oaxaca mining unit and plans to do so for a long time, our decision to allocate new capital into Nevada demonstrates what happens when investment into Mexico is not appreciated. Governments, both national and local, can either attract business or become a deterrent for business investment. There is a direct cause and effect to governmental and union actions that is often ignored until it is too late. My hope for Mexico is that it takes the necessary steps to return to its previous levels of investment attractiveness on a global scale and reassumes its previous position as a premier mining-friendly jurisdiction. Mexico will need to act for that to happen as the current trajectory of the country as a mining-friendly jurisdiction is not favorable.

Once Gold Resource gets its Nevada mining unit into production, it will be looking for a third mining project in another mining-friendly jurisdiction. Oaxaca is a special and beautiful place, with terrific, hardworking people and vast geologic potential. We remain hopeful that Mexico’s federal government, state governments and unions will once again appreciate business investment enough to encourage the additional capital allocation for our third mining unit. Only time will tell.

OAXACA: A CHALLENGING STATE FOR OPERATORS

Oaxaca is a notoriously difficult state in which to carry out mining operations. In the north, the historic mining states of Sonora, Chihuahua, Durango and Zacatecas have communities that are welcoming to the industry. According to operators, obtaining mining concessions is one of the most challenging aspects of operating in Oaxaca since even small land packages can belong to a multitude of different ejidos and each one must be negotiated with individually. As a result, the number of mining concessions dropped 6.4 percent to 341 in 2016 from 319 in 2013. The total land under concession plunged 52 percent to 469,434ha compared to 714,931ha in the same period.