Commodities 2022: New Year brings new tax for high-earning Russian miners, steelmakers

Russian mining and steel companies are looking forward to the end of a15% export duty on steel in the New Year, but the benefits will be lessened by a hit from a new tax system, designed by the Russian government to tap deeper into metallurgical companies' earnings when market prices are high.

In January 2022, Russia's mineral extraction tax (MET) for iron ore will increase significantly, by twofold or more, and tax on coking coal will rise by a minimum of 25%.

The country will also introduce an excise on liquid steel, payable on every ton produced, including unsold volumes. Nevertheless, Russian steel may become more competitive on export markets than it is today. The new taxes follow the expiry of the 15% export duty on steel valid from August to December 2021 that in the current market exceed the sum of the revised MET rates and the new steel excise.

The tax code revisions were prompted by steelmakers' record high earnings. H1 2021 EBITDA of major steelmaker Evraz doubled on year to $2.1 billion; 9M 2021 EBITDAs of peer companies MMK and NLMK tripled to $3.3 billion and $5.5 billion, respectively.

The new tax hikes have been designed to reflect these extraordinarily high profits and uphold tax revenues after the current export duties on ferrous metals expire.

Together with the existing iron ore and coal METs, Russia's 15% export tariffs on steel are meant to provide the state with Rb125 billion ($1.7 billion) in 2021. The revised taxes could potentially bring this to Rb145 billion at today's prices and currency rates. The fiscal burden will vary from mill to mill.

Between the steel excise and the existing export duties, the excise is viewed as a lesser evil. Export of the cheapest products -- slab and billet – currently incur $90-$120/mt fees, while the excise, if effective now, would be a tenth of that: $13-$20/mt, Platts estimates.

A Russian longs steel producer and large exporter expects the excise will be far less painful than the 15% export duty enforced between August-December 2021. "It will be less for the entire year than for the five months of the export duty," he said.

Formula-based taxes

Russia has developed formulas linking coal and iron ore METs – currently fixed or stable rates -- to commodity prices; they will become more variable and exposed to currency fluctuations.

One formula will be defined by the FOB Australia coking coal price multiplied by a royalty coefficient of 0.015 and by the dollar-ruble exchange rate. Another will be based on the CFR China iron ore price multiplied by a 0.048 coefficient, by the dollar-ruble rate and by the ore's iron content divided by 62%. All formula components represent monthly averages.

If coal sinks below $100/mt, the tax will be equal to the product of $1 and the exchange rate. Equally, if iron ore falls below $60/mt, the MET is reduced to 63 cents multiplied by the currency rate.

With the new formula, Russia's 88 million-98 million mt/year crude coking coal output could generate Rb36 billion-Rb40 billion/year tax, seven times more than its Rb5 billion MET receipts today.

For now, iron ore extraction is taxed at 17% applied to the cost of mining, implying a Rb20-90/mt tax range for open pit operations. The new formula will raise this to Rb170/mt and above.

Assuming the MET comes to Rb180/mt, Russia's 95 million mt/year iron ore production would fetch Rb17 billion ($230 million), versus this year's tax gain estimated by S&P Global Platts at Rb8 billion (assuming Rb500/mt mining cost).

Little impact seen on output, sales volumes

As for the steel tax, for blast furnace (BF)-based producers this will be calculated as an FOB slab price at Russia's southern ports, multiplied by a royalty coefficient of 0.027 and the dollar-ruble exchange rate. The excise will drop to zero if slab falls below $300/mt.

The tax for electric arc furnace (EAF)-based steel will be calculated as an FOB billet price at Russia's southern ports, multiplied by the dollar-ruble rate, after deducting the scrap price, the Rb12,500 billet-scrap spread and 50% of the mills' expenses on ferroalloys. The final result will be multiplied by a royalty interest coefficient of 0.3.

The maximum excise for EAF steel is limited to Rb1,000/mt; there is no cap for BF-made steel and the latter is more exposed to currency and market fluctuations.

Russia's 70 million-72 million mt/year steel output, including 46 million mt BF- and 24 million mt EAF-route tonnages, could produce a total of Rb91 billion in excise.

Despite the obvious impact on steelmakers' earnings, the new excise is unlikely to change much in terms of Russian steel sales volumes. It remains to be seen how the usage of exported slab and billet price assessments (FOB Southern Russian region) for tax calculation would affect the Russian mills' export versus domestic sales strategy. A CIS trader believed that the new tax would bite into the Russian mills' earnings but should not affect the sales volumes or production.

Russian exports may return to previous levels

Since news of the export duty on all steel products emerged at the end of June, Russian mills have reportedly been looking to evade or mitigate the additional cost. Some steelmakers changed their export product mix, or ramped up export volumes before the start of duties on August 1. Later, some withheld volumes to be able to ship after January 1, 2022 when the duty lapses.

In two selected markets, rebar and hot-rolled coil, pricing has remained strong during this period, helping mills maximize domestic sales. However, during the five-month period, exports have thrived as mills have taken the hit and paid the additional cost. In light of the pending export tax expiry on January 1, Russian export is expected to return to around previous levels. The aim of retaining more supply and bringing steel costs down for local end-users was only partially achieved by the export duties.

For example, domestic Russian prices remained elevated throughout August-December, even though initially they tanked 23% between July-September.

The export tax apparently also had little impact in the steel flat products market. Between June, when the duty was first reported, and October, Russian domestic hot-rolled coil prices fell around 36%, suggesting a fall-off in exports. However, the effect on prices seems to have been limited, as the domestic HRC prices remained relatively high during the period when duties were in place. Between July and November domestic HRC prices averaged Rb 65,793/mt, compared with an average of Rb 35,433/mt in 2019-2020, CPT Moscow, excluding 20% VAT. What the export duty appears to have achieved was to bring skyrocketing domestic HRC prices more in line with export levels, however.