Tag Archives: SEC

Mozambique, Michigan, and the SEC Complaint Against Rio Tinto

Chinde_Rusting_boats

Rusting boats at the port of Chinde, where Rio Tinto proposed to barge Riversdale coal via the Zambezi River.

Yesterday, the Securities and Exchange Commission brought a complaint in New York City against Rio Tinto, charging Tom Albanese, the former CEO of Rio Tinto, and Guy Elliott, his Chief Financial Officer, with fraud. According to the complaint, Albanese and Elliott actively misled the Rio Tinto board, audit committee, auditors, and the investing public about their acquisition of the Riversdale coal business in Mozambique in 2011.

The fraud that Albanese and Elliott are accused of perpetrating looks awfully familiar to those who have followed the development of Eagle Mine and the controversy over County Road 595. Having noticed the parallel between Mozambique and Michigan back in 2013, when Tom Albanese was forced to step down, I now have to wonder whether prosecutors will take the company’s representations around the Eagle Mine into account when building their case.

In Mozambique, they told investors, coal would be transported by barge to the Indian Ocean port of Chinde. Although their technical advisors “highlighted the ‘showstopping’ risks” associated with the barging proposals before the acquisition, Albanese and Elliott blundered recklessly ahead. Then eight months later, the Mozambique government denied Rio Tinto a permit to transport the coal by barge down the Zambezi River. Suddenly, the coal business they had acquired for $3.7 billion appeared to be worth a negative $680 million. According to the SEC’s complaint, Albanese and Elliott “concealed and glossed over” the fact that they had no viable haul route for the 30 million tons per year they projected in their business plans, and misled investors as they raised $5.5 billion in US debt offerings.

In that very same period, Rio Tinto was also promoting Eagle Mine to investors and promising economic renewal in the Upper Peninsula, though they had not yet secured a transportation route — a haul route — for Eagle’s sulfide ore. In Michigan, it appears, the company took the same cavalier attitude toward planning and risk that the SEC complaint says got them into trouble in Mozambique.

Way back in 2005, John Cherry, who was then a Kennecott Minerals project manager and is now President and CEO of the Polymet project in Minnesota, characterized Eagle as a “direct ship” operation, “meaning that the rock would not be processed on site, thereby avoiding the storage of highly toxic debris left over, called tailings.” Presumably this is what Michigan DEQ’s Robert McCann had in mind in 2007, when he told The Blade that Kennecott’s permit “would require them to keep the ores underground, put them in covered rail cars, and ship them to Ontario for processing”; the Marquette Monthly told roughly the same story that year, only now there were trucks in the picture: “ore would be transported by truck and rail to a processing site in Ontario.” This seems to have been nothing more than a cover story.

Everything changed in 2008, when Rio Tinto bought the Humboldt Mill. Those permit requirements the DEQ’s McCann touted back in 2005? They were quickly abandoned. Covered rail cars come into the picture only after the ore is crushed, ground into a slurry, floated and rendered into concentrate at Humboldt Mill. A glossy 2010 company publication promoting Eagle Mine includes not a single word about how Rio Tinto and Kennecott plan to travel the 30 kilometers from mine to mill: “Happily, processing of the nickel and copper can take place in Humboldt, around 30 kilometres [sic] away, at a previously abandoned iron ore plant.” By 2011, the company had “considered more than a half dozen transportation routes” from mine to mill, according to a Marquette Mining Journal article by John Pepin published in February of that year, but they still had no viable haul route.

A good prosecutor with a rigorous and thorough discovery process would probably be able to determine whether the evasions and misrepresentations perpetuated on the public over the Eagle Mine haul route also amounted to fraud, or were part of a larger pattern of deliberately misleading statements. It’s clear Rio Tinto never came clean — and perhaps never really had a firm plan — on mine to mill transport at Eagle before it sold the works to Lundin Mining in June of 2013 and decamped. As long as regulators in Michigan continued to be more accommodating than those in Mozambique, the company seems to have been content to let the people of Marquette County fight out the haul route issue among themselves.

Hazards of the Copper Antimarket

A couple of weeks ago, I wrote a post connecting Chinese urbanization with the new mining around Lake Superior. Chinese demand for copper — which is used in everything from large scale infrastructure projects to new housing construction — is likely what brought Rio Tinto to the Upper Peninsula in the first place. But the copper extracted by Rio’s successor Lundin Mining, which took ownership of the controversial Kennecott/Eagle Mine in Michigan’s Upper Peninsula just last week, or Polymet, which is developing a mine in Minnesota near the Boundary Waters Canoe Area Wilderness, won’t be shipped directly from the US to China. Instead, it will travel a long and circuitous route from Lake Superior through a tightly-controlled system of warehouses, and now the copper those warehouses hold will be the property of big financial firms.

This new arrangement — copper’s new holding pattern — entails new risks for the global financial system, the American economy and the places where copper is mined.

A story in the Times this past weekend reported that Goldman Sachs, Morgan Stanley and other big Wall Street players are already manipulating the market for aluminum, and developing Bank Holding Companies that will mix finance with global commerce in new ways. By hoarding aluminum and exploiting the rules of the London Metals Exchange — which the banks owned until just last year, when the LME was sold to a group of Hong Kong investors — Goldman and other banks are set to make billions of dollars without actually moving aluminum into the market. Copper, as the story noted, is “next up.”

Last winter, the SEC approved two new copper-backed Exchange Traded Funds, one from JPMorgan, which was the first of its kind, and a second from BlackRock. These new Copper ETFs not only permit but require JPMorgan and BlackRock to take possession of and physically store tons of copper in warehouses. It’s an audacious plan that will “ultimately allow JP Morgan, Goldman Sachs and BlackRock to buy 80 percent of the copper available on the market on behalf of investors and hold it in their warehouses.” A few firms will essentially control the world copper market — or to establish what rightly deserves to be called an antimarket. (The term is historian Fernand Braudel’s, and has been popularized by Manuel DeLanda).

Big copper consumers like Southwire and Encore registered their dissent, but SEC officials capitulated after heavy lobbying by too-big-to-fail finance. The SEC even said it shared the view put forward by the banks, that the new funds would “track the price of copper, not propel it, and concurred with the firms’ contention — disputed by some economists — that reducing the amount of copper on the market would not drive up prices.” Robert B. Bernstein, an attorney representing the copper consumers, suggested in a letter to the SEC last year that this took too narrow a view, and that copper prices were not the only thing to worry about. Bernstein argued that the investment houses’ hoarding of copper will disrupt the copper market, impede economic recovery, and work “contrary to the public interest.”

The public interest had some defenders at yesterday’s Senate Banking Committee hearing on Financial Holding Companies, where ETFs and the banking practices behind them came under scrutiny. Chaired by Senator Sherrod Brown and featuring expert testimony from Saule Omarova, Joshua Rosner, Timothy Weiner and Randall Guynn, the hearing touched several times on how the control of metals markets by financial players like Goldman and JPMorgan will affect the American consumer and greatly heighten the risk of another financial crisis like the one in 2008 — and necessitate another bailout by American taxpayers of firms that are too big to fail (but seem, oddly, hellbent on failure).

At the hearing’s end, Sherrod Brown said we need “to ask ourselves what it does to the rest of our society when wealth and resources are diverted into finance.” It was a good summary comment, because the hearing raised a whole host of questions about the social hazards this diversion entails.

For instance, what effect will these ETFs and financial manipulation of the global copper market have on the communities where copper is mined? Yesterday’s hearing didn’t directly address the point. Randall Guynn tried to suggest that a bank-controlled mine in a bank-controlled market where the bank warehoused and manipulated the price of the metal being mined would create a reliable and steady labor market. But others warned that the speculative bubble will inevitably burst, and that will leave both investors and communities in the lurch. Even while the boom lasts, workers and communities are likely to be powerless against giant commodity-extracting, -holding and -trading financial conglomerates with lobbying power, friends in high places and apologists like Randall Guynn.

Will the cornering and squeezing of the copper market by big finance exert new pressures to relax environmental controls? Why not, especially since multinational miners already complain about the delays caused by prudent environmental assessments? Both Omarova and Rosner asked us to imagine a scenario in which the Deepwater Horizon catastrophe happened on an oil rig owned by JPMorgan; now, with banks moving aggressively into copper, a mining catastrophe like the Bingham Canyon collapse (which I wrote about here) could send shockwaves throughout the entire financial system. “If we saw a catastrophic event at non-financial facility,” Joshua Rosner told the Committee, “the impact to the [financial] institution and the Fed would be catastrophic.”

Omarova stressed the complexities of these commodity markets, and expressed serious doubts that regulators “can oversee risks caused by Bank Holding Companies and this mixture of commerce and banking.” Rosner echoed these concerns: “to suggest regulators have ability to manage holding companies is to ignore all the areas regulators failed to oversee in 2008,” he said. Worse, the banks themselves would be incapable of predicting, controlling or even appreciating the risks to which they are exposed.

I made a similar point about JPMorgan’s inability to manage its exposure to human rights risks in the wake of the London Whale episode.

The new mix of banking, speculation and holding of commodities, said Saule Omarova, may make another London Whale more likely, and worse. So history may be about to repeat itself. Omarova went on to suggest that in making their moves into the commodities markets, Goldman, JPMorgan and the other firms playing this dangerous new game seem to have adopted a business model pioneered just a little over a decade ago, by Enron. That observation prompted Senator Elizabeth Warren’s dark comment: “This movie does not end well.”

Who’s Afraid of 953(b)?

Insanity! That’s how Thomas Sternberg, co-founder of Staples, describes Section 953(b) of the Dodd-Frank Act. “Incredibly wasteful,” adds John A. Allison IV, a director of BB&T Corp., the ninth-largest U.S. bank. For the past year or so, CEOs and business lobbying groups like the Business Roundtable and the National Investor Relations Institute have been fighting “tooth and nail” against 953(b). With the SEC preparing to issue its proposed rules sometime this spring, expect a lot more noise.

Why all the fuss over 953(b)? This section of Dodd Frank deals with disclosure of executive compensation – always a touchy subject. Specifically it would mandate public companies to disclose, in their SEC filings:

(A) the median of the annual total compensation of all employees of the issuer, except the chief executive officer (or any equivalent position) of the issuer;
(B) the annual total compensation of the chief executive officer (or any equivalent position) of the issuer; and
(C) the ratio of the amount described in subparagraph (A) to the amount described in subparagraph (B).

Issuers — public companies — advance a number of arguments against having to make this dread calculation. The one repeated most often is that it is cumbersome – a burden, just too difficult, a waste of everybody’s time and money. (They respond in the same way when they are asked to report on human rights, by the way.) But compensation data can’t be all that hard to gather, can it? What would it really take to calculate the median of the annual total compensation of all employees? Are we to take seriously the claim that companies do not have these numbers already available? And if they do not, isn’t that a sign of seriously poor fiscal management, or negligence? Time to demand better housekeeping.

Second, we are told, 953(b) disclosures wouldn’t be of value to investors; the measure is just politically motivated. “Everyone recognizes that this is a political disclosure, not an economic one,” writes Michael S. Melbinger, partner at Winston and Strawn; 953(b) is “intended to give unions and certain media folks a tool to bash corporate America”.

The unions and the media? Melbinger’s argument is specious at best. You can only bash corporate America, and these disclosures will only count against companies, if there is something disclosed that is embarrassing, or worse. And of course there is. The research of Duke University’s Dan Ariely suggests that these disclosures would reveal gross inequities: in the past 20 years, CEO pay has increased from 130 to about 350 times that of the average worker. Does that give people a bashing tool? Or does it reveal that ordinary people are regularly getting bashed by a bunch of corporate tools?

Third, some companies argue that the disclosures should be restricted to employee compensation in the United States. The fear is that employee compensation in foreign countries will drag down the median. Strange that companies that are usually so bold about their global reach or their smart outsourcing strategies are suddenly so shy. But shareholders (and customers) are increasingly concerned about the treatment of foreign workers – how much they are paid, and what their working conditions are – and are demanding transparency and accountability across the supply and service chain. Witness Apple.

These arguments are merely blinds. The question is whether the SEC, after so much heavy lobbying, will be able to see them for what they are. Maybe shareholder demands for greater transparency can eventually make up for any shortcomings of the SEC’s final ruling, but that will, of course, be a longer slog.

It would be difficult to argue that a CEO earning 350, 250, or 100 times the average worker is really a model of good corporate governance. A study [pdf] by Michael J. Cooper, Huseyin Gulen and P. Raghavendra Rau shows that highly paid CEOs are not necessarily more effective CEOs, and that CEO pay does not correlate with company performance. And a recent post by Christopher Swann and Agnes T. Crane gives the lie to the usual excuse for bloated compensation packages: the “global war for talent” has not brought global talent to the C-Suite; American companies still hire American-born CEOS, even though American CEOs have lagged behind their European-born peers in delivering performance.

In any case, we need a better understanding of how pay ratios and the hierarchies they perpetuate affect performance, especially in an environment where command and control hierarchies can seriously limit agility and hamper innovation. 953(b) provides a good opportunity to have that conversation.

Finally, my guess – and right now I don’t have any research to back this up, so I will have to rely on behavior I’ve observed – is that overpaid CEOs tend not to attract, retain or inspire innovative thinkers in their immediate circle. There are, of course, notable exceptions; and this is not to say that overpaid CEOs cannot preside over innovative companies. But like mafia bosses and politicians, most SuperCEOs tend to prefer polite indulgence or deference, even if what they are saying is wrong, ridiculous, or just plain boring. Talented people, on the other hand, need to follow their own course and will dissent, or just leave and start their own thing, rather than keep silent, tolerate gross inequities, or toady up to the big bad boss.

Can CEOs Ever Get The Political Fix They Need?

There have recently been plenty of shareholder proposals asking companies to disclose political spending. In fact (as noted in an earlier post), the share of proposals to the Fortune 100 focusing on political spending increased 84 percent in 2011 from the three previous years. Last week, to mark the second anniversary of the Citizens United decision (on January 17th), Trillium Asset Management and Green Century Funds took things up a notch.

Urging “corporate leaders to heed the call of shareholders and citizens,” the two social investment firms filed shareholder resolutions at Bank of America, 3M, and Target Corporation asking those companies to stop political spending altogether. This was the first time institutional shareholders have formally asked corporations to refrain from political spending.

The chances of these resolutions winning approval are slim to none, of course – at least right now. The hope is that over time support will build around these proposals, until they reach a threshold where boards of directors can no longer ignore them. (That’s around 30 percent of shareholder approval.) That day seems a long way off. Still, a slim chance is better than no chance, and — let’s face it — there is simply no chance of legislative remedies to Citizens United, especially from the current Congress, and definitely not in an election year.

“We now have an entitled class of Wall Street financiers and of corporate CEOs who believe the government is there to do… whatever it takes in order to keep the game going and their stock price moving upward,” David Stockman tells Bill Moyers in an interview that will air this weekend. “As a result,” Stockman says, “we have neither capitalism nor democracy. We have crony capitalism.”

That sounds about right, though I would ask whether Stockman and others who take this view have really put their finger on what’s novel or unique about the present moment. Entitlement and cronyism are not exactly new in America; some would say the game has been rigged all along.

But that’s a historical discussion. The more pressing question is one these new shareholder resolutions would have us address. Is corporate political activity good for business? Is the corporate plan to capture government sound? Are corporations really getting what they pay for? Can those entitled CEOs and Wall St. financiers win the game, or are there rules to the game they don’t understand? In other words, how well does crony capitalism work? Those broad questions frame the question posed in the title of this post.

There’s some compelling evidence to suggest that corporate political activity is not only bad for democracy but also bad for business. The Trillium and Green Century announcements cite the research of Michael Hadani, who sets out to “question the standard narrative that political spending is an unmitigated good for firms.” Hadani, a Professor of Management at Long Island University, concludes that despite spending extravagant amounts of money – AT&T, for instance, “officially” spent over 219 million dollars between 1998 and 2008 “on achieving political success” (and that was before Citizens United!) — corporations are not achieving the political outcomes they want.

What’s worse, corporate political activity generally does not appear to increase shareholder value.

This chart tracks a negative correlation between firm market value and PAC activity:


And that is just one lens. The research Hadani presents tells a pretty consistent story: the profligate pursuit of illusory goods, usually without the requirement to disclose where the money goes, or what companies and their investor-owners get for it (apart from heightened risk and reduced transparency). It should therefore alarm all shareholders – not just socially-conscious ones — that Citizens United makes it possible for executives to plunder the corporate treasury in pursuit of those same uncertain ends, without any limits or any real accountability. A new kind of barbarian may already be inside the gates: the CEO in search of the ever-elusive political fix.