Brazil Gives Vale Way to Dig Itself Out of Deep Tax Hole


Brazilian iron ore miner Vale is in the midst of a fire sale, selling off billions of dollars in assets to raise enough money to pay a huge $16 billion tax bill, although it bravely maintains all it's really trying to do is keep its debt manageable and being in arrears on its taxes has nothing to do with it.

Conceicao Itabiritos project, Minas Gerais, Brazil. Source: Vale.

Whatever the real reason behind the miner unloading its assets, the government may be providing the world's biggest iron ore producer with a way out of the morass, allowing it to cut the bill in half and repay the balance over time. But the clock is ticking down on the deadline for accepting the offer as it has only until the end of the week to make a decision. That puts Vale in the horns of a dilemma: The debt would obviously be much more manageable, but the miner has maintained all along that it doesn't owe the tax to begin with and paying it now means its earnings will have been double taxed.

At issue are four, decades-old bills issued by Brazil's taxing authority that total some 30.5 billion reals, or $15.8 billion, on earnings related to the the sale of foreign subsidiaries between 1996 to 2008. The company maintains it has already paid its taxes on that money to foreign governments in accordance with the law so the repatriation tax Brazil is imposing amounts to double taxation. Brazil's government and its courts, however, do not agree and Vale has lost its appeals thus far.

As if that wasn't enough, Brazil also says Vale owes it an additional $3 billion in royalty payments because it alleges the miner understated the value of its production, while Switzerland says the miner is in arrears on its taxes there, too. Then there's Brazilian mining state Minas Gerais state that is seeking another 1.2 billion reais, or $643 million, in additional taxes contending Vale should have based its tax payments on the value of its output, not its production costs. Now you get a better picture of why Vale has been selling everything that's not nailed down, regardless of its stated rationale.

However, Brazil recently unveiled a tax amnesty program whereby delinquents can essentially cut their bill in half so long as they pay 20% of it immediately, with the balance repaid over 15 years. If Vale accepts this offer, it becomes a massive load off its shoulders, but ultimately costs it in terms of paying taxation on money it says it shouldn't have to pay. And with the deadline looming, it needs to decide whether to pay up or roll the dice with the appeals court, which is mulling over the issue.

The government, though, isn't just being generous; it's in a major bind itself. It needs to close a large budget deficit ahead of its hosting the World Cup next year followed in 2016 by the Summer Olympics. Having bid tens of billions of dollars for the rights to host these games back when its economy was the darling of global markets, it's now saddled with slack receipts and overspending even as its populace wonders about its priorities amid rampant poverty and crime.

The Olympic committee is hoping for a cash infusion from the government, but with a presidential election next year and financial waste by the World Cup committee sapping limited resources, that's not likely going to happen.

As a result, the government has been holding something of a garage sale itself to raise cash, privatizing three airports last year and selling off half its ownership stake in two international airports -- Rio de Janeiro and Belo Horizonte -- for $9 billion. Previously, it auctioned off the right to build and operate an airport in Natal, the city that's hosting the World Cup.

The tax amnesty program seen in that light suggests it's willing to forgo some of the money its due in return for an immediate cash infusion. While the program wasn't designed with Vale in mind, it might figure the government isn't so confident it can win its case at the appeals level and be willing to take its chances there.

But a new wrinkle emerged as the five-judge panel suspended its vote until December 3 as one of the judges requested more information by both sides. Two judges had already voted in the case, one for each side and a third said he was ineligible. The timing of the delay is curious if nothing else and that makes Vale's ultimate choice an even greater risk.

At just seven times estimated earnings, the iron ore producer trades at a substantial discount to Cliffs Natural Resources, BHP Billiton, and Teck Resources, all of which trade around 12 to 13 times estimates, and even Rio Tinto, whose own assets sales have been hindered by depressed pricing caused by a glut of assets on the market, trades at a slight premium to Vale.

The amnesty program could be a light at the end of the tax tunnel for the miner, but either choice still makes it seem like its attached to a runaway train.

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