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Updated: 9 Sep 2021

Contract Renegotiation with the Chilean Government

Summary

Although starting a contract renegotiation at a disadvantage, with a weak BATNA, US company Kennecott managed to enhance and turn things around with an offer the Chilean government couldn’t refuse.

Negotiation value

In the 1960s, Kennecott (Rio Tinto), a US company, was about to enter into renegotiation over its contract with the government of Chile concerning its El Teniente copper mine. At the time, Chile’s best alternative (BATNA) appeared overwhelmingly strong as the government took a strong pro-sovereignty stance toward foreign management of its natural resources. Can we take some lessons for our mortgage renegotiations?

The government of Chile was politically positioned to establish its own tough financial terms or had the option of becoming emotional by declining to renegotiate by simply ejecting Kennecott from their involvement altogether by expropriating the mine. Chile had its own experts who could manage and operate the mine. They could also perform the processing and readily market this very useful natural resource. Simply put, Kennecott found itself in the position of either acceding to the contract renegotiation terms dictated by the Chilean government or having the mine snatched out from under them.

Realizing that their own BATNA was weak, Kennecott executives came up with a very creative solution that ultimately weakened Chile’s position while leveraging their own BATNA more favorably by skilfully creating negotiation value for both sides.

Creative solution and renegotiations

The proposal made by Kennecott entailed the following six-point strategy, thereby changing the rules of the game:

  1. The deal consisted of Kennecott offering to sell a majority equity interest in the mining operation to the Chilean government.
  2. Kennecott offered to use the funds, combined with an outside loan, to finance the mine’s expansion. This was because it realised that Chile would not particularly care to divest the funds of the sale into US banks. This allowed Chile to preserve its nationalistic interests and have greater financial gain from future profits. They were able to renegotiate and establish a partnership that was mutually acceptable to both sides.
  3. Next, Kennecott persuaded the Chilean government to guarantee the loan. Also, to have this guarantee subject to the law of the state of New York.
  4. Then, as many of the company’s mining assets as possible were insured with US-backed guarantees, against the potential expropriation threat.
  5. Kennecott then negotiated that the copper output derived from the expansion would be sold exclusively to clients in Europe and North America.
  6. Lastly, the rights to collect from these new contracts would be sold to a consortium of financial institutions. These were based in Japan, the United States, and Europe.

Future opportunities

This allowed for a greater diversity in the customer base and additional partners. In future contract renegotiations, this would result in a much larger multi-party negotiation than just Kennecott having to renegotiate on its own. Many of these outside interests would also be engaged in other unrelated negotiations with the Chilean government. This thereby reduced Chile’s leverage in any future contract renegotiations.

Lastly, the insurance guarantees obtained by Kennecott had greatly positive consequences. Even if the renegotiations collapsed, Kennecott had succeeded in protecting a good portion of its interests. This would be invaluable should Chile decide to appropriate the copper mine. Additionally, the company could also call in its other partners to act as allies.

In the end, some years later, the mine was eventually expropriated by Chile. However, Kennecott was in a far better position than it had initially been before it started to renegotiate the contract. Kennecott enhanced its BATNA by making an offer the Chileans couldn’t refuse. They also benefitted by taking steps to protect its interests should negotiations collapse.

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