Heightened investor and customer focus on ESG risks in transition-material value chains could cause existing mines to become uneconomic and render new projects un-financeable on public markets
The concept of a ‘stranded asset’ has become a familiar one to resource investors in recent years. It has referred particularly to the threat posed to coal and oil and gas producers facing declining demand for their products in a decarbonising world. Many companies with fossil-fuel-heavy portfolios have invested significant capital based on assumptions of future demand that are now increasingly divergent from the commitments being made by governments and customers to reduce carbon emissions. With further commitments expected to follow the COP26 climate conference later this year, some analysts predict that a significant proportion of existing and planned fossil fuel production will never make its way to market, potentially leading to significant write-downs.
Conversely, the material requirements of the energy transition (for electrification, battery technology and new energy and transport infrastructure) are causing projected demand for many metals and minerals to soar, even when accounting for best-case scenarios for improving recycling and circularity within the global economy. Many mining companies are anticipating a boom in prices and are working hard to expand their production. However, while these transition materials are crucial building blocks for a decarbonised world, somewhat paradoxically many face their own complex interwoven ESG-related challenges that risk closing mines or preventing them being developed.
Investor and customer attitudes to ESG have been shifting rapidly – for poorer ESG performers, this risks increasingly restricting access to finance and losing access to higher value markets. Unlike in the fossil fuels space, where climate change has been the dominant issue driving stranded assets risk, transition metals face a complex combination of issues. These include carbon emissions – but also water scarcity, opposition from indigenous peoples including over cultural heritage issues, risk of biodiversity loss, waste and tailings management, increased scrutiny of closure liabilities, inequality and anti-mining activism, resource nationalism, and geopolitical competition for resources.
Whereas once the challenges facing the sector were largely outside of public view, this is changing as mining companies become ever more connected with the ultimate consumers of their products. This is particularly the case in the supply of materials for the energy transition where scrutiny of ESG performance is most acute. Given the generally poor reputation of the industry, lauding mining companies for their role in the energy transition does not come easily to many stakeholders.
What should executives be doing to mitigate risks?
Companies will need to invest more time and resources than ever in anticipating how the ESG risks facing their mines and projects are likely to evolve and interact in years ahead. Attitudes and regulation are changing fast, there could be significant commercial advantage in identifying potential risks and challenges faster than competitors are able to. That advantage could be realized through having additional time to mitigate potential risks through project design, remedial work or engagement with relevant customers, stakeholders or investors. Alternatively, in extreme cases it could allow companies to realign portfolio make-up through M&A before any reduction in asset value is fully crystalized.
At the industry level, these trends are likely to increase the rewards for strong ESG management through increased prices. Conversely, if ESG challenges facing particular materials are not overcome, mining companies may find that their customers seek to develop technologies using more ESG-friendly alternatives (e.g. efforts to find alternatives to cobalt in batteries). In an industry struggling to keep up with the pace of demand, private finance or investment by state-owned enterprises are unlikely to offset fully a reduction in the availability of public money for poorly performing mining projects, meaning supply could be further constricted. We might also see an increasing bifurcation of the industry between those serving ESG-sensitive versus less ESG-sensitive markets. Major global brands at the heart of the energy transition will likely demand ever-higher standards, creating stringent entry criteria to these higher value markets and blocking out weaker operators. This could incentivize certain companies to invest significantly in technology and engagement programs to access these premium markets, while poorer ESG performers exit public markets and instead supply consumers who are more interested in value than values.
Summary of ESG challenges through the mining value chain
Below we explore some examples of where emerging ESG challenges could threaten production of three key metals crucial for the energy transition – copper, lithium and nickel – though it could equally apply to cobalt, rare earth elements, molybdenum, silver, manganese, graphite and even the aluminium and steel value chains.
Copper: plenty of demand but mounting opposition
Copper is in high demand the world over as mining firms try to seek out major new deposits to supply material for the electrification of the global energy system. However, finding new tier one copper deposits has not proved an easy task, and where ‘dripping roasts’ have been discovered, the ESG context has often blocked development. Most recently, many of the best copper discoveries have been made in equatorial South America and are situated in areas of unique biodiversity and complex social politics. Given growing investor squeamishness about financing mining projects in biodiverse environments (for example rainforests) companies are likely to find these projects increasingly difficult to fund.
Chile and Peru account for approximately 40% of existing copper production, but even in these mature markets, there has been growing public hostility over whether the benefits of the industry have been shared sufficiently equitably in recent decades. This, combined with sensitivities over the use of scarce water resources, encroachment into lands viewed by indigenous communities as off limits, and populist opportunism by left-leaning political leaders is putting the development or continued operation of some major mines in doubt. In Peru, Southern Copper’s Tia Maria mine is at risk following government criticism, and MMG’s Las Bambas operation has seen significant protests on account of its challenging community relations.
In Chile, the government is in the process of increasing mining royalties, creating stricter laws on water use and strengthening the rights of indigenous people, increasing costs for mining companies and putting some commercially marginal projects at risk. The president of the mining industry body Sonami, Diego Hernández, has stated that the new royalty reforms could push 12 of the 15 biggest miners into operating losses. However, given the country’s dominant position in global supply, Chile might reasonably feel emboldened to drive a hard bargain, particularly as the energy transition gathers pace, and if alternative sources of the metal are not forthcoming. Should copper and other key metals start to become more scarce and increasingly fought over, it is possible that new cartels emerge among the top producing countries, echoing OPEC and its associated oil politics.
Looking beyond the top two producers, projects in the USA also face increasing challenges in winning public and political support for new developments. The US government has refused environmental licenses for the Pebble mine in Alaska in the face of widespread public and indigenous opposition, with a celebrity-endorsed campaign having focused particularly on perceived risks to local wilderness areas and fisheries. Meanwhile the vast Resolution copper project is also in doubt due in part to opposition from the San Carlos Apache Tribe, for whom the proposed site has cultural significance. President Biden’s administration recently rescinded the Final Environmental Impact Study to understand fully the impact and concerns raised by tribes and the public. The government may find it increasingly difficult to balance the pressures of this popular opposition against the need to provide supply security and protect domestic industry and jobs.
Lithium: stakeholder support running dry
Lithium has become synonymous with batteries in recent years and, as demand for consumer electronics, electric vehicles and even home and grid energy storage has grown, so has demand for the metal. This has prompted a surge in exploration for new deposits as well as a push by major economies to unearth a domestic source of battery-grade lithium to provide a secure source of supply. Fears over the security of global supply chains is leading many major economies to seek to build their own battery ‘gigafactories’ so as to reduce reliance on China and further their domestic economies; securing supply of raw materials such as lithium (and nickel, see below) is crucial to that project.
However, there has also been significant scrutiny of the negative impacts of the lithium extraction process, particularly as regards to water use in the ‘lithium triangle’ spanning Argentina, Chile and Bolivia. The Atacama, one of the driest regions on earth, is home to the largest reserves of lithium. The extraction of lithium from subsurface brines is heavily water intensive. There are strict limits on the amount of brine and groundwater companies are allowed to extract but poor monitoring and enforcement has reportedly led to indigenous communities facing significant water shortages.
This has resulted in community protests against many lithium projects, but potentially more significant is the risk that major consumers could boycott lithium produced in this manner on ESG grounds. Major car manufacturers and technology companies are increasingly focused on their ESG credentials in order to differentiate their products and appeal to consumers (particularly in luxury vehicles and electronics) and are therefore paying closer heed to the sources of their raw materials.
This should in theory present opportunities for new lithium mines in Europe seeking to employ best practice ESG management, vertically integrate with battery producers and benefit from greener grid power, but many have faced significant local stakeholder opposition of their own. While the EU and individual governments have proved supportive of efforts to create domestic production in Portugal, Spain and Serbia, local communities and NGOs have been hostile. Fears over perceived negative environmental impacts, particularly on agriculture, have been seized upon by NGOs to create effective campaigns against new mines putting development of significant new production at risk.
Nickel: biodiversity impacts a particular concern
The IEA estimates that demand for nickel will increase by over 60% by 2040, largely driven by battery demand. Global production is dominated by a few major producers with over 50% coming from Indonesia, Philippines and Russia. Given the strategic importance of the metal, major economies including the US have been in close competition to gain access to new sources. Despite intensive interest from a number of parties, attempts to secure nickel production from the Goro mine in New Caledonia (an overseas territory of France in the South Pacific) were thwarted as the project became entangled in a secessionist movement.
In Indonesia, the world’s largest producer, nickel mining comes at a major environmental cost. Nickel deposits are found mainly in biodiversity-rich forested areas experiencing very heavy annual rainfall. As a result, impacts on tree cover and biodiversity are significant and the management of water and waste contamination can be challenging. Where producers want to upgrade the ore to produce class one nickel (for use in batteries) they do so through high-pressure acid leaching. This generates large quantities of hazardous waste, which due to topography, climatic and tectonic conditions, is often disposed of into rivers or the sea. The Indonesian government has stated that it will no longer permit new projects to dispose of waste into the sea, casting doubt over the future of many planned operations. If this regulation is extended to existing projects (or if investor attitudes were to shift significantly) the cost of retrofitting processing plants would likely make many projects uneconomic.
Finally, the refining process is highly energy intensive, and Indonesia relies heavily on coal power. Given Indonesia’s significant domestic coal production, it will prove very challenging for international investors to convince government to move away from coal sources to renewable energy. This is emerging as a common issue for other commodities in coal-rich countries – such as Kazakhstan, Mongolia and South Africa – where mining companies are ‘locked-in’ to carbon intensive grid power. Cleaner operators (for example Canadian operators which use renewable energy) could over time benefit from block-chain traceability allowing them to charge a premium, much in the same way as higher quality/cleaner coal has been able to command a premium in recent decades.
As with copper companies in equatorial South America, operators working in such areas in Indonesia may find their environmental impacts increasingly scrutinised, for example as a result of the Taskforce on Nature-related Financial Disclosures (TNFD). Following on from the success of the Taskforce on Climate-related Financial Disclosures (TCFD), the TNFD initiative aims for companies to more accurately account for their environmental impacts. This could expose mines with potentially significant environmental liabilities or with large footprints in more pristine natural environments, damaging relations with investors, customers and civil society.