BlackRock forges mining royalty deal to boost returns

BlackRock Inc, already the world's biggest investor in resources with an estimated $36 billion sunk into the sector, said it was investing $110 million in an iron ore company. Nothing unusual there, except that BlackRock was not buying shares in the company London Mining but rather securing a 2 per cent royalty on all future iron ore sales from the company's Marampa mine in Sierra Leone.

The mine is already producing more than a million tonnes a year, and BlackRock's funding will help expand that ninefold in years ahead.

BlackRock's top fund manager, Evy Hambro, said the company had been reviewing the way it invested for some time. Royalty arrangements had become more attractive as mining companies' funding sources dried up.

"It's an attractive deal to BlackRock because BlackRock can borrow at well below the cost of debt that is available to mid-tier to junior miners and earn a return on investment that's well above that level," he said in London. "In today's financial environment, the banks' ability to lend has been vastly reduced . . . Bank capital is scarce and when available, more expensive."

He said the model gave BlackRock exposure to iron ore without direct exposure to the rampant cost inflation that had become the norm in the mining sector, because the royalty was set on sales revenue, not overall profits. Nor will BlackRock's return be beholden to the whims of executive judgments on dividends, and Mr Hambro indicated the investment in London Mining would not be the last of its type.

BlackRock's fresh approach to investing its billions will not surprise anyone who has followed the company's public comments. It has made no secret of its frustration with the big diversified miners, who always seem to have another growth project to fund, rather than returning a bigger slice of profits to shareholders.

When private lobbying got it nowhere, BlackRock last year resorted to questioning the likes of BHP Billiton over growth strategy and approach to shareholder returns. BlackRock has since put its money where its mouth is, reducing its stake in miners such as BHP and Australia's biggest listed gold producer, Newcrest Mining.

While the $110 million punt on London Mining is small beer compared with the billions BlackRock has lodged in BHP, Mr Hambro's suggestion that more royalty-based deals are imminent should give hope to mid-tier Australian miners caught between the current scarcity of finance and the market's sudden reluctance to invest in resources stocks. Such deals have proved successful in Australia. In 2006, Manhattan-based investor Leucadia National bought a royalty note on production at certain iron ore mines being developed by a small aspirant called the Fortescue Metals Group.

Fortescue went on to become one of the world's biggest iron ore producers, and while the terms of that royalty note are now subject to a legal dispute, the deal has still been wildly successful for both parties.

Royalty and offtake-focused companies in North America such as Silver Wheaton and Sandstorm have indicated this week that they believe conditions are primed for royalty-type deals to take centre stage.

Tim Schroeders, the Melbourne-based fund manager of Pengana Capital, sees a lot of merit in the concept. "It's an interesting model as you are exposing yourself to operational hiccups but not necessarily cost overruns or expenditure increases, because you are taking a royalty on revenues," he said. "It's pleasing there is this sort of innovation occurring from one of the biggest global investors in mining [BlackRock] so it's a good outcome for all parties I would think."

The Chinese government has approved the $US1.3 billion bid by China's Hanlong Mining to take over Australia's Sundance Resources, clearing a hurdle for the long-awaited deal. "We have gotten approval from the National Development and Reform Commission. It was approved yesterday," said a media officer from Hanlong.

Hanlong is targeting Sundance for its $US4.7 billion Mbalam iron ore project, a resource vital to helping China reduce its dependence on Australia and Brazil for iron ore.