A Great Big New Tax

This is a phrase much used by the opposition in Australia's parliament in the past weeks.

The Australian Labor Government has decided to levy a new supertax on the superprofits made by large mining companies.

There were rumours about this new tax before its announcement, and the price of shares in BHP had been moving down since the recent intra-day peak of $44.93 on 2010-04-06.

Early April I placed a conditional order to buy a parcel at $40.00, expecting it would be some time before the order filled.

On May 3 I got not one, but two SMS messages from my stockbroker within ten minutes of trade commencing after the A Great Big New Tax announcement. One announced that I had bought some BHP shares, not at the $40.00 I offered, but at $39,279984.

Now, I say a good deal is a Good Deal, but this was a little too good. On April 30, they were worth at least $40.60, closed at 40.75. The very next day of trading they opened at 39.31.

What Happened? Our Ruddy Prime Minister announced his Great Big New Tax, that's what happened.

The other SMS was to tell me I'd just bought some RIO shares too. The closed at $72.10 on April 30 then opened at $68.28 the next trading day.

Now, Rio shares that were trading above $80,00 have traded for less than $60.00 in May. BHP shares that cost almost $45.00 early April recently traded for less than $36.00.

There would be hardly an investor in Australia without shares in one or both of these companies, and where individuals don't, their super funds do.

BHP shares have fallen in value by about 20%, RIO by 25%. Thank you very much Mr Rudd.

Here's how investors receive an income from their shares. My father acquired shares over the years, but never sold any except when his BankWest shares were compulsorily acquired when it was taken over.

A company has some money which it invests in its business. Mining companies need lot of equipment to dig holes in the ground and transport the materials to other places. They also need housing for workers, buildings for their offices, workshops to repair broken stuff and much much more. The get an income by selling the stuff they dig out and delivering it to their customers.

The stuff they dig out of the ground is owned, in Australia, not by Australia, but by the state in which the minerals lie , and the miners pay a sum of money, called a royalty, to the state governments for the right to dig this stuff up.

All going well, they get more from selling these minerals than it takes to find them in the first place, build the necessary infrastructure (including railway lines) and all those other things necessary.

Let us suppose that the nett profit BHP makes is 100 currency units. Not dollars, but some arbitrary currency (C) unit which happens to be one percent of its profit. Let us suppose too that all taxes due and payable have been paid or provided for.

From these C100, its board of directors might

    1. Repay loans to repay debt.
    2. Set aside money to fund future work.
    3. Pay a dividend to investors like me.

Now Mr Rudd proposes to pilfer some of those C100. About 35 of them, I think.

Of course, the value of the shares has diminished. Of course, the big miners won't be investing as much in Australia, they won't have the money to invest. Of course, my income will be reduced, because Mr Rudd's pilfered some of it.

It could be worse.
Lots of investors borrow money to invest in shares. To secure the loan, many investors use the shares themselves. The banks lend money like this, check out margin loans at your bank or at Cannex.

It works like this:
I have $40,000 to invest in BHP shares. BigBank Margin Lending will advance me 60% of the value of the shares., so I can go and buy $100,000 worth of BHP shares. If I can then sell those shares for $110,000 some time in the next 12 months, something I'd reckon a fair bet in the ordinary course of events, I make a return. Not of 10%, but of 25% (less interest) of my $40,000.

On the other hand, The Bank wants its $60,000 and if the shares aren't worth what they were, guest what.

You have to find some more money, or you have to sell some shares to bring things back into balance. Someone thought the shares were good value at $44.930 on April 6. Imagine how they'd be if it was financed by a margin loan to 60%. The bank might let it go to 70% or so, but you can be sure they'd have had a call by now. Instead of gaining $10,000 they might well have lost that and some more as well.

Did I mention dividends a while ago? I did. BHP pays dividends twice a year. Most of its trading partners deal in $US, so it keeps its books in $US. It's last two dividends were $US 0..42 and $US 0.41 per share. Say $AU 0.95 for the year. Tax paid at 30% it's true. It's going to take a few years' dividends just to make up the loss in investment capital.

Hopefully, in the next few months the shares will resume their upwards trend, but I don't see them making up lot ground (compared with where they might have been) for some years:

    1. Some investors will have sold out of Australian mining shares and invested elsewhere.
    2. Some investors will see Australia as a riskier place to invest than they previously thought.
    3. Some mining companies will have built mines in other places instead of Australia, and just not be interested in resuming shelved projects for some time. Already, RIO has restarted iron ore expansion in Canada.

What can I do? One thing you can be sure of, I will not be voting Labor at the next election Safe pair of hands indeed!