China's hunt for strategic new energy minerals

(By Caixin journalists Lu Yutong, Luo Guoping, Shi Yimin and Denise Jia)

Chinese companies are scouting the world for mining assets as the country's booming new energy vehicle industry has boosted demand for lithium, cobalt and nickel - key metals used in batteries for electric and hybrid vehicles.

However, receding globalisation, rising geopolitical conflicts and supply chain restructuring is throwing up road blocks for Chinese firms seeking to invest in overseas mining projects. "Walking on two legs" at home and abroad have become an inevitable choice.

China will ramp up its internal hunt for minerals and energy resources to bolster strategic reserves, increase the sales of critical mining assets such as lithium, cobalt and nickel, as well as oil and gas, the Ministry of Natural Resources announced last month in a meeting laying out priorities for this year. The new policies will encourage investment in mining exploration and give priority to land use for extracting strategic elements.

"China has a high degree of foreign dependence on some important mineral resources, and once the international situation changes, it will certainly affect economic security or even national security," Natural Resources Minister Wang Guanghua said 4 January in an interview with state-run Xinhua News Agency.

China has listed 24 strategic minerals in the National Mineral Resources Plan published in 2016. The policy document defined the elements as critical to "safeguard national economic security, national defense security and the development of strategic emerging industries".

They include energy resources such as oil, natural gas, shale gas and coal, as well as the metals iron, copper, aluminum, gold, nickel, cobalt, lithium and rare earth elements. Minerals including phosphorus and potash are also on the list.

Since the second half of 2020, with surging global sales of new energy vehicles, countries have increased awareness of the importance of securing supply chains of key materials. Western countries, led by the "Five Eyes" alliance of the US, the UK, Canada, Australia and New Zealand, have adopted policies to tighten foreign acquisitions of key mineral assets in their countries while supporting local industries.

In an administrative order released in September 2020, then US President Donald Trump named China a foreign adversary and vowed to address the "extraordinary threat" posed by over-dependence on imports from adversaries for critical minerals. Subsequently, the White House ordered a review to assess supply chain vulnerabilities across four sectors, including for vital materials.

Australia and Canada followed suit. The Canadian government in November ordered certain Chinese companies to divest their interests in three Canadian mining companies, citing national security.

Sinomine (Hong Kong) Rare Metals Resources Co. Ltd. was told to sell its investment in Power Metals Corp.; Chengze Lithium International Ltd., also based in Hong Kong, was compelled to divest its investment in Lithium Chile Inc.; and Zangge Mining Investment (Chengdu) Co. Ltd. was required to exit Ultra Lithium Inc.

"It is a clear signal that Chinese companies are not welcome in Canada anymore," Bo Shaochuan, an independent director of mining giant Zijin Mining Group Co. Ltd., told Caixin.

Canada's tough line represents a shift away from its previous friendly attitude toward foreign investment.

In January, Zijin completed its acquisition of Toronto-based Neo Lithium Corp., which owns a lithium brine project in Argentina, one of the largest and highest-grade mines of its kind in the world. The deal helped Zijin become one of the world's top lithium producers.

But the acquisition has caused a political stir in Canada. Members of the Conservative Party lashed out at the Liberal Party government for approving the transaction, arguing that Canada should work with the US to promote regional supply chains for key minerals to counter Chinese dominance. The deal was also seen as a catalyst for Canada to tighten its grip on foreign acquisitions.

In October, the Canadian government released an updated policy on investment in the critical mineral sector by foreign state-owned enterprises. The government stated that significant transactions by foreign SOEs in the country's critical minerals sectors will only be approved if they result in a net benefit to Canada on an exceptional basis.

This basically excludes all China-based enterprises because the bill defines SOEs so broadly that even listed companies in which public funds hold minority stakes would be deemed under state control, an executive at one of the three Chinese companies required to divest their investment in Canada told Caixin.

Since the Canadian lithium projects that the Chinese companies must exit are in the early stages, the divestment will have little impact on China's lithium supply, Bo said. But in the long term, it will be harder for Chinese companies to secure new energy mineral projects overseas.

"It's a big blow," Bo said. Among the 2,400 mining companies globally, about 1,400 are in Canadian hands, he said.

Canada has become a popular destination for Chinese companies seeking minerals for its battery industry. By investing in Canadian mining companies, they can participate in those companies' lithium projects in South America. In addition to Zijin, Ganfeng Lithium Co. Ltd., Sinomine Resource Group and battery giant Contemporary Amperex Technology Co. Ltd. have all taken this route.

But the increased scrutiny is forcing Chinese buyers to look for riskier and more costly ways to acquire essential materials, such as taking direct stakes in projects, instead of the parent companies. For example, Chinese mining construction company JCHX Mining Management Co. Ltd. announced in December a plan to buy a 50% interest in Canadian firm Cordoba Minerals' copper-gold-silver project in Colombia. The deal has cleared Canada's regulatory review.

South America is rich in metals, especially copper and lithium. According to the US Geological Survey, global lithium resources are close to 98 million tonnes, and the "lithium triangle" - Bolivia, Argentina and Chile - accounts for 53% of the world's reserves.

One reason South America is more welcoming to buyers from China is to leverage the technology and capital of Chinese companies to promote local industrial development. Bolivia has the world's largest lithium reserves but little means to develop them.

The Bolivian government recently chose a Chinese consortium led by Contemporary Amperex to invest over US$1 billion in developing untapped lithium deposits, with the goal of producing lithium batteries in the country by 2025.

But the project may face challenges from the local population. There is a strong anti-mining sentiment in the country, which has argued that mining projects can destroy the traditional way of life in the region, an industry expert told Caixin.

South American countries are basically run by small governments with strong labour unions, low labour efficiency and strict environmental assessment, resulting in complex operating environments for foreign mining companies.

Since the second half of 2021, Chinese companies have also turned to Africa for mineral assets. The continent produces about two-thirds of the world's cobalt and 10% of copper, while the exploration of its lithium resources is in the early stage.

"Africa is a region that can open up a breakthrough in the future for Chinese companies, with both opportunities and risks," said Sun Jingwen, assistant director at Minmetals Securities Research Institute in Shenzhen, China.

Australian and North American mining companies are less active in Africa, leaving Chinese firms more room to manoeuvre. China has invested in the continent for years, creating a welcoming attitude among African countries toward Chinese companies.

Zimbabwe has become a hub for Chinese investment on the continent, in part because it allows foreign investors to set up wholly owned local subsidiaries rather than joint ventures with local companies, a senior executive at a Chinese company with local mining investments told Caixin. The southern African country is estimated to hold Africa's largest lithium reserves, but because of a lack of investment, most of it is underdeveloped.

Since 2021, five publicly traded Chinese mining companies - Huayou Cobalt Co. Ltd., Sinomine Resource Group, Shenzhen Chengxin Lithium Group, Sichuan Yahua Industrial Group and Suzhou TA&A Ultra Clean Technolgy Co. Ltd. - have invested in lithium mining in Zimbabwe. In February 2022, Sinomine acquired a 74% stake in the country's largest lithium mine for US$180 million.

"In the future, China will continue to invest in Africa and South America when it comes to overseas mineral resources, especially in the field of new energy minerals," said Zhou Chao, executive vice-president and head of China operations of Canadian mining company Ivanhoe Mines.

The risks in Africa are many. They include political instability, inadequate laws and regulations, and corruption, as well as less efficient workers, poor infrastructure and early stage exploration.

China and Africa are complementary in terms of capital, technology, infrastructure, resources and labor, Zhou said. Despite the challenges, Africa is a worthwhile path for Chinese investors, he added.

China lacks sufficient reserves of strategic minerals. The country's strategic mineral reserves, including iron, copper, aluminum, nickel and lithium, equals less than 20% of the world's total, while the country accounts for more than half of global consumption of cobalt, aluminum and copper. China uses 40% to 50% of all nickel, iron, graphite, lithium and 11 other minerals consumed in the world.

Driven by huge demand, China is also looking to expand resource exploration at home.

In recent years, Zijin has aggressively invested abroad to expand access to resources. In a mid-to-long-term plan released last month, the state-backed company anticipated that the policy would create new opportunities for domestic mining exploration and development and vowed to increase investment in China and the neighbouring countries.

In 2022, Zijin implemented eight merger-and-acquisition projects for minerals; only two were overseas.

The hunt for domestic resources is challenging. Junior mining companies, which are exploration companies in search of new reserves, on average need 15 years before coming into production, Zijin's Bo said. Meanwhile, they need continuous financing as it is difficult to rely on their own funds to maintain operations. Over 90% of junior mining companies can raise funds from listing in capital markets in North America and Australia.

But China's capital markets lack such financing opportunities for junior mining companies. Bo suggested setting up a junior mining company segment on Shanghai's Nasdaq-like STAR market.

The two dominant financing models for base and precious metals miners worldwide are royalty and streaming arrangements. Under a royalty finance arrangement, a funder provides financing by way of lump sum payments to the mining company in return for periodic payments based on the production of mined minerals. Streaming arrangements involve the forward-purchase of the minerals produced.

There is risk of failure to recover the investment if the mine does not come into production. These models require a mature business and legal environment. Caixin learned that Zijin is stepping up research on these financing models.

Zijin chair Chen Jinghe also suggested the creation of a strategic mineral exploration incentive fund to offer a reward to geological exploration investors, establish reasonable compensation and tax standards for land use, and provide special tax benefits for the development of hard-to-find mineral resources.

In order to attract more social capital to invest in mineral exploration, the Ministry of Natural Resources is studying to improve policies to encourage all types of investment entities to enter the field of mineral exploration and mining.

This article was first published by Caixin Global as "Cover Story: China's Hunt for Strategic New Energy Minerals". Caixin Global is one of the most respected sources for macroeconomic, financial and business news and information about China.

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