Public Investment in Magnesium Plant (2001+)

The Australian Magnesium Corporation (AMC) has proposed a magnesium mine and light metals facility in central Queensland. However difficulties arose in obtaining financial backing in mid 2001 (eg see Franklin M and McCulloch J. 'Metal plant jobs sink', Courier Mail, 21/7/01; and Main A 'The float of the future that failed', Financial Review, 28-9/7/01 which outlined many positive aspects of the proposal)

Following this it was reportedly decided that:

• Commonwealth and Queensland Governments will back the magnesium refinery with $200m in risk. Commonwealth will guarantee a $100m loan and Queensland will provide a $100m loan to secure full underwriting of a $500m second share offer. (Patrick A. and Lewis S. 'Howard's lifeline for $1.8bn refinery', Financial Review, 10/8/01);

• "Senator Minchin said the risk to taxpayers was minute. The conditions on the guarantee meant that it could not be called in before 2005 and funds had to be used for commercializing the magnesium technology. The only circumstances in which the Government could be called upon to meet the guarantee is if the company is successful in raising all the funds, builds the plant over the next four years but is then completely unsuccessful" (Atkins D. 'Loan deal to rescue huge metals plant', Courier Mail, 9/8/0)

• "Queensland taxpayers will guarantee that investors in a $1.7bn magnesium mine and light metals plant receive dividends on their shares ... the strategy involves a range of measures aimed at reducing the amount of equity that needs to be raised from $680m to $500m - and making that equity offer more attractive to the investment community.  ... The state will fund an attractive yield enhancement option on new shares for the first three years at a cost of around $100m  ... the money would be treated as a debt which AMC would have to repay on commercial interest rates when it began operating." (Franklin M. and Jones C. 'Dividend guarantee for mine investors', Courier Mail, 10/8/01)

However, not all seem convinced that this is a good idea:

• "Concern about the growth of magnesium metal demand contributed to the failure by overseas institutional investors to back Australian Magnesium Corporations' $680m equity raising" (according the the firm that prepared detailed report for AMC on magnesium metal market) (Hextall B. 'Magnesium outlook tests investors metal', Financial Review, 6/8/01);

• the proposal for the Federal Government to provide $100m support as a deferred interest loan received strong backing from National Party ministers - but other government members are wary of supporting just one project. It attracted opposition from a rival magnesium producer in South Australia, which is also seeking $100m in public funds. The government is concerned about the precedent that could be set for financing major resource projects. With the South Australian project Australia would be the world's largest magnesium producer (Lewis S., 'Cabinet considers kick-start for $1.3bn project, Financial Review, 6/8/01).

• If the project was so good, why was private capital hard to get? (Walker T. 'Coalition goes where punters fear to tread', Financial Review, 10/8/01);

• "The Queensland and Federal Governments say their $200m package for AMC is essential for the $1.3bn magnesium plant ... But this type of government assistance is loaded with risk. Indeed the only thing certain is that the economy will lose. The risk started earlier when the two governments spent or provided their first $200m to subsidize AMC's energy and infrastructure costs. But this was not enough  ... AMC had to abort its equity raising last month when it was $100m short ... the Queensland Government quickly filled the gap with taxpayers money. It will reduce the amount of equity that needs to be raised from $680m to $500m by replacing equity with government debt and to make that equity offer more attractive for an investment community by funding a dividend stream before the company earns a profit stream. The Queensland Government offered a $100m subordinated interest bearing loan and convinced the Commonwealth to guarantee a further $100m loan, making their total contribution about $400m. AMC said the equity shortfall was merely the result of bad timing, but the size and urgency of the two governments' responses suggest the investment community was not convinced the project or its technology is viable. This is one concern: while ministers say their intervention is necessary they also claim it is riskless ... but the financial packages that subsidize equity will have less security than the banks' debt funds. A second risk is that a plan for a magnesium smelter in South Australia will demand commensurate government assistance .... A fourth risk is that developers of major projects will believe (ministers) and will chase government subsidies rather than creating genuinely competitive investment opportunities" (Harris T. 'Your funds valued cheaply', Financial Review, 14/8/01);  

• the rationale for government loan guarantees for AMC was that investors were not willing to wait a few years for dividend. However, if the numbers stack up, markets regularly fund big metal processing plants which take years to come on stream (Toohey B., 'Business has a handout mentality', Financial Review, 18-19/8/01)

CPDS Comments:

• the main strategy that Queensland Government's have pursued for boosting regional development in central and north Queensland (involving capital intensive resource extraction and processing) could be at risk - perhaps because of fundamental flaws in assumptions about the potential economic value-added through such tactics (see Resource / Industrial Investment for evidence; and Note 9 for theory). Thus the effectiveness of an industrial cluster (to generate competitive advantages through (say) technology and innovation) is increasingly more important than securing investment in isolated projects. An attempt was made to address this in the central Queensland magnesium / light metal case; 

• the process for initially developing the concept of a magnesium and light metals industrial complex which was undertaken in the mid 1980s was very sophisticated by Queensland standards. However that process was managed through politically accountable, rather than through apolitical, institutions;

• the politicisation of a project can seriously adversely affect its commercial viability - because lobbying for political support is both easier than, and unlikely to result in, meeting customer requirements. Politicisation appears to be a factor in this case - noting the Lewis' article, and:

  •  the Queensland Government's reported promise to play 'any role it can to resurrect the (project)' (McCarthy J. 'Qld Govt vows to back new AMC bid', Courier Mail, 31/7/01); and

  • Premier peter Beattie's reported berating of investors for not supporting AMC's equity offering - whilst claiming that it was then sometimes the job of governments to step in when markets fail (McCarthy 'Beattie flays investors over AMC float fiasco', Courier Mail,  1/8/01). 

• if government financial backing for a project results in some control of the project management, then the risk aversion which government representatives are likely to bring to the project is likely to be inconsistent with its commercial success. But if government financial backing does not result in some degree of control over management, where is the accountability for the use of large amounts of public funds?

• once governments start to subsidize a project it is presumably very difficult (if things do not go as expected) for them to resist increasing their stake (like a gambler who has lost the family's rent money, and doesn't want to have to go home and admit it);

• why are the Federal and Queensland Governments now taking a view on the future level of demand in an uncertain metal market when commercial analysts are not convinced about the metal's prospects? (see Hextall article). The outcome of the Victorian Government's support for the Portland Aluminium smelter in the 1980s might be considered;

• the financial risk to the Commonwealth Government appears much smaller than the risk that Queensland is taking on this venture, a situation which is the inverse of their respective financial capabilities;

• the interchange of senior staff between government agencies and major project promoters may reduce the objectivity of Public Service recommendations;

• the energy requirements of a light metals industry are likely to be an important factor in the demand for gas from a proposed New Guinea pipeline - which the Queensland Government has been strongly supporting - despite the probable large subsidies required (see Note 52).