Saturday, December 8, 2012

Economic Land Concessions

A few months back the PM signed a moratorium on the granting of economic land concessions. Nevertheless, a few concessions seem to have been granted after that moratorium. And recently after receiving another complaint from local people having problems with the concession holders, the PM stated the companies must abide by the stipulations of the concession agreement or lose the concession without compensation. This put the economic land concessions (ELC) back into the limelight.

Here is my experience with ELCs and how they work. These concessions transfer the authority for the exploitation of certain tracts of land from the government to an investor/investment companies. They may be for mining or agricultural purposes. The most notorious of them have in the past been concessions for the cultivation of rubber trees. There was practically a rush to start rubber plantations as investors saw an unprecedented rise of prices on the world market starting in 2008. Although there were dips in those prices the general outlook was positive as basically all natural resources disproportionately gained in value during the past five years or so. The underlying reasons for this may be a perceived or actual scarcity, increased consumption, and, in my mind, most of all, speculation.

Last year I had become involved in obtaining an economic land concession for a rubber plantation in Cambodia. A investor with interests in the automotive industry hired me as a consultant based on my long-term experience in Cambodia and the rubber business in particular. In the face of rising raw material prices this investor was looking to procure the raw material at its origin as part of a vertical integration into their business.

Originally, they were looking for a working plantation of about 3,000 to 4,000 ha, possibly broken down into separate smaller plantations. After looking at a number of them we shelved that idea as the state of these plantations was anything but up to par in terms of international standards. We then decided to try to obtain one of those ELCs and set out in locating suitable land.

One must bear in mind that only the Ministry of Agriculture can approve such an ELC and a certain procedure needs to be followed.

  1.  An investor cannot apply from abroad. They must have a registered company/corporation in Cambodia, a tax number, and a working bank account at a local bank. This company then puts in the application.

  2.  After locating a desirable tract of land the investor must apply at the Ministry of Agriculture (MoA). Comprehensive information about the investor and their financial qualification must be disclosed.

  3. The MoA maintains a computer data base listing the soil properties, land coverage, etc. of the entire country.

  4. They then review details of  the land in their database and decide whether it can be made available for a concession. This will initially comprise the questions of forest coverage and possible overlapping with other ELCs, either applied for or already granted. Officially, land covered by dense or semi-dense forest will not be approved for such a concession, which as we will see later can be a very important catch in the whole process.

  5. If available, the official bureaucratic machinery is set in motion.

  6. A commission consisting of representatives of the MoA, the Ministry of Environment (MoE), the Ministry of Commerce (MoC), the Council for Development of Cambodia (CDC), and the provincial government will be assembled to study the feasibility based on their own data and the investor’s application which includes financials, a business plan, and any necessary supporting documentation.

    The Ministry of Environment is tasked with conducting an ‘Environmental Impact Assessment (EIA)”. This is a comprehensive study covering every aspect pertaining the tract of land, e. g. soil, rain fall, waterways, elevations, structure of population, settlements, etc.

    The local government is to look into socio-economic aspects, e. g. local settlements, existence of community forests, impact on the local population on and nearby the planned concession.

    Compiling this EIA will take about three months. The EIA will designate the usable area, that is less waterways, religious sites, settlements, community property, etc.

  7. Once the application is approved by the committee, the MoA submits the application to the Prime Minister’s office. The PM will then sign an authorization for the MoA to enter into a concession agreement with the investor.

  8. It is now the investor’s job to draw up a master plan that is basically a business plan for the next 5 years taking into account any issues that might arise from conflicts with the local population.

  9. The agreement will allow the investor to clear the land after the master plan has been submitted and approved, the land in questions has been transferred from public land of state to private land of state. A special permit is issued for clearing. The investor can sell the lumber from the clearing of the land.

  10. The CDC will grant the investor’s company special tax status, e. g. tax exemption or reduction for the first 9 years, tax exemption for equipment to be brought in, etc. The company will then be listed in the investment register with the CDC.

  11. The whole process will take about 6 to 9 months; it can sometimes be expedited if an influential person aids the investor in the process.

This all sounds pretty straightforward but there are many pitfalls that might occur on your way, which will make the process take longer and most likely more expensive. Plus one mustn’t forget that one is dealing with a lumbering bureaucracy. After all, the price of the concession for 1 ha at that time was around $350 to $400; before the moratorium it had risen to $480/ha. (I am publishing these prices here as they have been widely reported in the media, otherwise I would have kept them confidential.) Needless to say this price includes some hefty commissions for several parties involved in the process.

So if you do the math, 10,000 ha will cost you anywhere from $3.5M to $4.8M. One can offset part of this with the sale of the lumber, but it won’t come anywhere near the initial capital outlay. Overall economics for a rubber plantation aren’t that great initially either. Clearing, planting, and maintenance the first year will be about $2,000/ha or $20M for 10,000 ha. Maintenance until the first yield after 6 years will run to another $30M ($500/ha p. a.).  So round about $50M will have been spent by the time some revenue is gained from that investment. We are not exactly talking small potatoes here. A long-term view of 15 years, though, will make it a profitable enterprise and the investment will have been recovered, barring any unforeseen events. Concessions are granted for 70 years with an option to extend.

Registering a company and getting a tax number is a pretty simple deal. It includes a lot of forms but it can be done in a week or two. Now comes the more difficult part - how to find suitable land. There is a score of middlemen in the city that once they hear you are looking will just scramble to come to your aid. As mentioned in another post, most of those middlemen are worthless as they pass on second- or third-hand information. Sometimes they don’t even know the location of it, let alone the properties of the soil, the forest coverage, and so on. We contacted severable reliable (mostly military) men and subsequently checked out about 20 or so locations, traveling the length and breadth of Cambodia. Finally someone pointed us to a location where a number of rubber plantations were already in operation, including a sizable state-run plantation. At least, that showed us that the area was right for it. In quick order we had soil samples taken and analyzed by the MoA – they have the only lab in the country that can do this. All the other labs only analyze for construction purposes. The samples were a mixed bag, not exactly what I had hoped for in terms of fertile red soil (like my own plantation) but it was usable.

Foreign companies, notably from Malaysia, Indonesia, the U. S., China, etc. use a local company to process the application with the MoA. There are two or three of those in Phnom Penh that specialize in this and have a reputation for reliability and trustworthiness. Most importantly, these companies are owned by very wealthy people so there are no chances of them absconding with your funds.

The investor concludes a contract with that company, in which the company guarantees to obtain the ELC, or will refund the funds put into escrow with them, less a certain administrative fee. Originally, we decided to go down that road ourselves.

We were put in touch with a company run by an overseas Khmer who had some good connections into the higher echelons of government. It turned out these connections were located at the Council of Ministers – but not a minister himself. This seemed kind of promising.

The usual agreement calls for a 20% down payment; this is for processing all documents until the stage the commission to study the project is formed. Let’s assume we are applying for 10,000 ha and the price for one hectare is $300, we are talking about $600,000.

The next installment, if you will, is for 60%,  $1,800,000. This will cover the MoA’s request for approval form the Royal Government, e. g. the PM, and the subsequent official recognition of the ELC by PM’s cabinet.

Another 10% $($300,000) is due for the official demarcation of the ELC, the preparation of the master plan, the EIA, and the permit to clear the land.

The final 10% ($300,000) is to be made before the transfer from public to private state land, an investment agreement is entered into between the investment company and the MoC, MoE, and finally the registration with the CDC.

The payments may not be in sequence according the outlined procedure above but the end result is the same. It should be noted that in all cases where one of the reputable companies has been used the concession had always been granted; in other words no money disappeared. There are instances, however, where crooked middlemen guarantee the investor a fast track against some upfront payment of say $100,000, only to disappear with the loot. I know of at least one such instance. I was also warned of people who use the same tract of land and offer it to a number of investors, rake in substantial down payments, again only to disappear. The scam used usually entails a map of the area with the designated land that needs to be signed by the local authorities first – these are four provincial agencies including the governor’s office. The middleman promises to get those local signatures required for the official application, for a hefty fee, of course. He does indeed get those signatures because the involved officials will anything for a fee, knowing it is not a legal instrument to begin with. They just signed a map.

To their dismay the investors will find out when they present this to the MoA, that it doesn’t mean a thing with them. The only authority to approve any land for an ELC rests with the MoA. Many of those maps have been submitted to the MoA, which only files it under ‘Incomplete Application’. These scams almost always go unreported as the mostly Asian investors hate to lose face to have fallen for it.

The company we were going to use promised us such a fast track, but did not request an extra upfront payment but would adhere to the established agreement for this. So we started our negotiations for the agreement and quickly came to terms with them. They required us to write letters to the PM, the First Deputy PM, a number of ministers. Only one day later they said everything looks fine and we can go ahead. We hadn’t even signed the agreement yet. My investor flew in to meet with the Minister of Agriculture. The company had promised to set up a meeting with him. This was for us sort of a bona fide gesture that our project had been put on its way through the right channels.

Lo and behold, the Minister was not available but a member of the PM’s cabinet would be ready to welcome us. We were somewhat amazed that the meeting was not to take place at his office but at the Intercontinental Hotel. The meeting went sort of well but we were even more amazed when we learned later that the member we met was our contact’s (the Council of Ministers member) husband. That in itself is not unusual, as oftentimes several family members work in the government. But funnily enough, he was not even attached to the MoA, nor was he involved with concessions in the slightest. This surely raised some suspicion in our minds. We finally knew these people were really only blowing hot air when the facilitator called me one day not long afterwards and told me we could go ahead and start clearing the land. They had gotten the oral permission from the PM himself (like he would concern himself with such matters despite his propensity to micromanage).

We started stalling the negotiations for the agreement trying to find out more about the facilitating company. In the meantime we had also submitted, as advised, one of those maps to the local provincial authorities. The go-to man there asked for $100,000 but we rejected that outright. We finally settled on some small tea money. This again impressed upon us that not everything was kosher with all these people. After two months our go-to man came back with the signed map, but one signature was missing, and the governor had not signed it. In its place some illegible signature without stamp was added.

It was now time to call the whole thing off. We were not going to spend several hundred thousands of dollars only to lose them. Another very disturbing thing was that the owner of the facilitating company was a U. S. citizen. He could just take the down payment of $600K and disappear to and in the U. S. Tracking him down there would be nigh impossible. Adding to such suspicions was that this man, though nice and courteous in his demeanor, was not wealthy by any standard. In our minds, the temptation could be just too much for such a man. This is not to say that he would have done it, but we thought that it was quite possible for it to happen. We are not accusing this man of any crime or that he is a crook. Only circumspection prompted us to pursue another avenue.

We then went to the MoA directly, where we were told about those flimsy maps, got the necessary application form ($20) and started the application process ouselves. But a tentative land search revealed that this was densely forested land, and luckily though, did not overlap with an existing ELC. But it would most probably be rejected for environmental concerns. The Asia Development Bank and the World Bank had recently put great pressure on the government to abide by its commitment to preserve the environment. Well, that was very disheartening news, although I can imagine certain circles to be gleeful about this. I had visited that land myself several times and knew it was pretty densely forested but what I had seen was mostly undergrowth and not too tall, that is to say, old trees. Thankfully, we hadn’t spent any great amount of money, except that little tea money in the province.

We were also told we could try to obtain an exemption from the Minister himself. Sometimes this worked. We used an old acquaintance also at the CoC level but higher placed than our previous contact who is friends with most of the ministers to check for us. At that point we learned that several companies had already applied for that same land and had been rejected. Even a company run by one of the MoA highest officials, which had wanted that land, was turned down. So for us, that was the end of story for that tract of land. We wouldn’t waste any more time on that.

We now tackled the problem the opposite way. We simply asked the MoA to designate a tract of land available for an ELC for us. They gave us two locations, which I promptly visited. Once I got to the first one I was surprised to see tractors and heavy equipment clearing land where my GPS showed this would actually be the designated land for us. We called our contact at the MoA who said the coordinates may have gotten mixed up. On we went to the next location not too far away. At least here we saw no activity yet, except for Chinese people clearing adjoining land clearly delineated for them on our map.

In the meantime we had spent about 5 months on the project without any tangible results. My investor was getting impatient but agreed to hold out for this next tract and see what would happen. The rest is quickly recounted as the Prime Minister announced a moratorium on all new ELCs. Since we had not started the official application process we would not fall under those exemptions that were widely reported in the press and criticized by NGOs. End of story.

At the same time, however, rubber prices had fallen from a high of $5600/mt for SMR10 (or CSK10 in Cambodia) on the Malaysian Rubber Exchange in 2011 to $3,440/mt in January 2012 and $2,860/mt in June 2012. Investing about $50M in a new rubber plantation with fluctuations like this did not seem to be such a great idea after all. My investor, and I concurred, decided to shelve the plan at least until 2013 if not forever. Let’s see what the future in that sector holds. I personally believe that the tire industry can well live with the current price levels and leave the raw materials to the people who have been in the business for a while.

The moral of the story, though, is one can’t be too cautious in selecting one’s business partners, even if they appear to be highly placed, e. g. Under State Secretaries and up. Additionally, there are just too many of them that have the title but no authority whatsoever. According to some sources for every ELC granted in the past there are one or two that fell for a scam and made some people good money for nothing.