03/12/2020
The race to secure rare earths: what will higher sustainability standards mean for investors in critical minerals?
As the world’s largest economies transition to a greener future, investors and stakeholders across the rare earth value chain are facing increased legal, regulatory and reputational pressure to adopt higher standards of sustainability and ensure the traceability of their minerals.
The EU’s new action plan on critical raw materials was launched in September 2020 with a focus on responsible supply chains. Meanwhile, parallel initiatives in the US will likely see Washington exert greater influence in this area. This article examines how these forces might shape supply chains in the sector and what the practical implications for companies will be.
Background
Securing the supply of critical materials and rare earths is considered crucial to developing renewable technologies such as wind turbines and electric cars that will support the transition to clean energy for advanced and emerging economies.
In the EU, for example, currently all of the rare earths needed for magnets found in the EU’s wind turbines and electric motors are sourced from outside the bloc, while 80% of the cobalt used for its electric storage batteries is refined in China. According to the World Bank, the centrality of electric storage batteries to a low emissions economy means that, by 2050, there could be a 1000% increase in EU demand for metals such as aluminium, cobalt, iron, lead, lithium, manganese and nickel.
As part of its green transition, the EU wants to avoid high dependency on critical raw materials by diversifying its sources abroad, and strengthening its sourcing at home. In parallel, the EU wants to ensure that its value chains are sustainable and socially-responsible. Several questions surround the sustainable production of raw materials in regions like sub-Saharan Africa or South America. Mining practices in the global south are frequently blighted by weak governance environments, which expose companies to environmental risks such as pollution and toxic emissions, or prominent social issues like forced or child labour within their value chains.
The US is also seeking to reduce its reliance on China for supplies of critical minerals, particularly those considered vital to Washington’s economic and military strength. Under President Trump, corporate sustainability standards in the US have lagged behind those of the EU but a shift is likely to take place under the incoming president, Joe Biden. The President-elect has already pledged to re-join the Paris Agreement as soon as he takes office and invest USD 2 trillion in clean energy projects over the next four years.
As EU and US investment in securing future supplies of critical materials takes shape, companies are set to come under more pressure from governments, as well as investors and consumers, to adopt common sustainability standards and adhere to socially responsible practices.
What shift is taking place?
The evolution of Environmental, Social and Governance (ESG) within the corporate sphere over the last five years has seen the proliferation of numerous voluntary standards and industry guidelines. But the lack of universal standards that apply to all companies equally, coupled with requirements for companies and investors to apply them retroactively to existing investments and projects, has created confusion among investors and limited their impact.
In September 2020, the EU set out a new strategy – the Action Plan on Critical Raw Materials – to curb its over-reliance on rare earths that are both imported from, and refined, outside the 27-member bloc. Inspired by established initiatives such as the UN Sustainable Development Goals, the OECD Guidelines for Multinational Businesses, and the Principles for Responsible Investment, the EU’s Action Plan states that its engagement with both the producers and consumers of critical materials “will need to go hand in hand with responsible sourcing”.
The EU’s strategy is being rolled out in parallel with several other initiatives that build on the 2015 Paris Agreement and aim to support a carbon-neutral economy. Towards the end of 2019 the European Commission announced Europe’s Green Deal which provides opportunities for investment in renewable technologies and more sustainable business. Since then, the release of the EU’s Taxonomy Regulation has opened the door to an EU-wide framework that will give investors and businesses greater transparency on corporates’ environmental performance, thereby assisting decision-making and helping to channel investment towards more environmentally sustainable projects.
Furthermore, to address labour abuses and modern slavery risks, the EU Regulation on Conflict Minerals will come into force next month and a further law on batteries is expected before the end of 2020. The conflict minerals law regulates the trade of tin, tantalum, tungsten and gold and requires importers into the EU to conduct due diligence to ensure the value chain is free from child or forced labour and that proceeds are not used to fund armed conflicts.
Besides the new regulation, expectations of investors and consumers are also steadily raising the bar and are likely to reward companies throughout the value chain that can demonstrate responsible sourcing and accurately account for the precise origin of anything they sell. The European Investment Bank is tying its support for a number of new energy projects to the EU sustainable finance taxonomy, which requires companies to improve their disclosure of environmental and social risks. Growing pressures on companies to ensure that the benefits of mineral extraction are shared across what are complex and growing societies will increasingly require investment that translates into equitable fiscal benefits for all parties.
There are also strategic interests at play that could benefit stakeholders in the mineral earth value chain. On 30 September, President Trump issued a far-reaching executive order which seeks to address increasing global competition and safeguard US access to critical minerals. In line with this strategy, Washington recently provided USD 9.6 million to a company looking to refine rare earths required for US weaponry, as well as the growing market for wind turbines and electric vehicles.
Projects that fit with the overarching strategies of the EU and US will likely receive preferential treatment, while companies that don’t adapt risk losing out on investment or customers, or both.
How can investors and companies prepare?
The EU’s Action Plan, together with anticipated actions in the US under a Biden presidency, is an opportunity to apply sustainability conditions and shape the rules of the game for companies and investors throughout the minerals value chain; from miners to refiners and end users such as the manufacturers of electric cars, storage batteries and wind turbines. Furthermore, it presents a chance to design new projects and develop new supply chains with environmental and social risks factored in from the start, effectively levelling up the playing field across the resource sector.
As an increasing array of hard and soft regulation, and new investment opportunities, are developed over the coming months, companies wishing to take advantage of the EU or US strategies will need to respond to pressures to be more responsible and transparent about their activities.
Companies and investors would be advised to prioritise the sustainability of their supply chains and governance practices in anticipation of further conditions and standards being set, and in response to growing consumer expectations.
In terms of soft law, companies would do well to sign up to programmes such as the Certification of Raw Materials (CERA) and the Initiative for Responsible Mining Assurance (IRMA) which enable them to trace minerals to source and show best practice on the ground.
Companies will also need to undertake specific initiatives that provide long-term governance and socio-economic benefits to the communities and regions in which they operate.
For example, at the end of November, the Swiss-based commodity trader Trafigura reached a deal with the Congolese government to help improve labour conditions at the country’s artisanal mining operations in return for supplies of cobalt. The company said it would also be using QR codes to certify the origin of what it sourced.
Elsewhere, companies should look to meet the growing demand for jobs beyond the mines themselves, and support value addition activities that will boost local economies. Companies will need to plan and budget for such initiatives so that responsible practice is assured in advance of committing to investments or specific projects.
As the global demand for critical materials ramps up, and investors and consumers seek reassurance about responsible practices, the visions of the EU and US are a calling card for companies throughout the mineral supply chain to manage sustainability risks effectively and ensure more equitable benefits from their activities.
By Simon Jennings, Head of Africa and ESG Services at Aperio Intelligence