A Daunting Legal Battle Looms for Vale in Guinea

Simandou operations. Source: Rio Tinto

Not that it was unexpected, but the Republic of Guinea officially stripped Vale (NYSE: VALE  ) of its rights at the vast Simandou iron ore project following an investigation of charges that the entire process of rewarding the rights was rife with bribery. Not that Vale was party to the wrongdoing, but because it still reaped the fruits of the poisonous tree, it couldn't be allowed to profit from it. Vale is now considering legal action as a result.

Vale acquired a 51% interest in Simandou in 2010 from BSG Resources in a $2.5 billion deal, $500 million of which was due upfront, with the balance paid over time. In its annual report issued last month wherein the miner for the first time revealed it could lose the entire value of its investment in the project, it estimated the book value of that investment was $1.1 billion.

Now that Guinea has stripped it of its concession, Vale is mulling legal action -- whether against the government, BSG for tainting the process, or both it doesn't say. For its part, BSG maintains its innocence and claims it, too, is a victim.

The Simandou mountains of Guinea are an immense, untapped deposit of iron ore worth at least $50 billion. Rio Tinto (NYSE: RIO  )  was originally granted exploration rights to the region in 1997 and was subsequently given a concession to develop the deposit in 2006. But in 2008 Guinea's dictator in power at the time alleged it was taking too long to develop Simandou and stripped from it the rights to the northern half of the claim. He turned around and awarded those rights to BSG.

Two years after Vale obtained its stake in Simandou, a new democratically elected government launched a probe into the stripping of Rio Tinto's rights and subsequently found "precise and consistent evidence establishing with sufficient certainty the existence of corrupt practices." It was just a matter of time before the hammer fell, and this past Friday it rained down on Vale.

The committee that investigated the alleged corruption also recommended the partnership created by Vale and BSG Resources called VBG not be allowed to bid again on the mining rights, so it may be that Vale is able to bid on its own.

Iron Ore Spot Price (Any Origin) Chart

Iron Ore Spot Price (Any Origin) data by YCharts

Yet in a new twist, Rio Tinto just filed a lawsuit against Vale, BSG, Benny Steinmetz (BSG's owner), VBG, and other subsidiaries alleging a conspiracy to deprive it of its mining rights. No dollar figure was assigned to the suit, saying that would be determined in court, but it seeks compensatory, consequential, exemplary, and punitive damages. Rio Tinto took pains to clarify that Guinea's government wasn't a party to the case as the two continue to work cooperatively on its southern claim.

Even if Vale is ultimately found blameless and it bids and wins the northern concession again, there remain significant hurdles to surmount before the riches within the mountains can be tapped. They are far from ports, roads, and railways. When Vale originally bought into the project, it said it was committed to renovating 660 kilometers of the Trans-Guinea railway and was negotiating contracts with Liberia for construction of an integrated railway-port system for transporting iron ore from Simandou to a maritime terminal on Liberia's Atlantic coast. All that infrastructure is still required and Rio Tinto is simultaneously pursuing their completion. 

While some estimates for new bids on the northern claim have run as high as $3 billion, others contend that in the current depressed pricing environment for iron ore, the price tag won't come in nearly as high as that. Iron ore pricing of 62% iron ore fines at China's Tianjin port has tumbled over the past year as inventories soar, and though it could be a costly legal battle for Vale to wage, it's a necessary one if it hopes to recoup anything from this on-again, off-again deal.

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