Case Study

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.

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In the 1960’s Kennecott (Rio Tinto), a U.S. 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 BATNA appeared overwhelmingly strong as the government was possessed of a strong pro sovereignty stance towards foreign management of its natural resources. Can we take some lessons for our mortgage renegotiations? The government of Chile was politically positioned to establish their 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, perform the processing, and could 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 have the mine snatched out from under them.

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

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. Realising that Chile would not particularly care to divest the funds of the sale into U.S. banks, Kennecott offered to use the funds, combined with an outside loan, to finance the mine’s expansion. 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 which was mutually acceptable to both parties.
  3. Next, Kennecott then persuaded the Chilean government to guarantee the loan and 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 U.S. 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 based in Japan, the United States and Europe.

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 then 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, thereby reducing Chile’s leverage in any future contract renegotiations.

Lastly, because of the insurance guarantees obtained by Kennecott, even if the renegotiations collapsed, Kennecott had succeeded in protecting a good portion of its interests should Chile opt to go ahead and 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, but Kennecott was in a far much better position than it had initially been before it initially started to renegotiate the contract. Kennecott enhanced its BATNA by making an offer the Chileans couldn’t refuse, while taking steps to protect their interests should negotiations collapse.

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