Can Paraguay Hurt Monsanto and Rio Tinto?

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In June, the Paraguayan legislature used questionable administrative procedures to impeach President Lugo in 24 hours, in what analysts call a “constitutional coup.” Vice president Frederico Franco, who had withdrawn his support from Lugo prior to impeachment and belongs to a different party, assumed the presidency. President Franco has since used a tenuous agreement with the dominant Colorado party to pass legislation that stalled under Lugo. The Economist and Business Week tout the ways in which the Franco administration is developing Paraguay. I argue that many of Franco’s moves look good at first glance but hide big long-term risks for both Paraguayans and multinational companies, particularly Rio Tinto (NYSE: RIO) and Monsanto (NYSE: MON).

What has Franco Done?

Within a few months of taking office, Franco passed the country’s first income tax, resumed stalled negotiations with Rio Tinto over a $4 billion aluminum plant, and approved sales of genetically modified soy beans from Monsanto.  The tax is an important if symbolic step; it is expected to affect only the richest 40,000 people. To restart business with Rio Tinto and Monsanto, Franco simply waived required feasibility, environmental impact, and other preliminary regulations.

The Problem

The hasty legislation does away with safeguards. While waiving requirements removed bureaucratic slowdowns and sidestepped some excessive regulations and paperwork, it also removed basic, industry-approved steps. The goal of impact studies and other safeguards is to catch potential problems early and devise solutions, which are often costly, to preventing future problems. Cutting corners on these steps in order to save money upfront preceded some of the biggest and most expensive corporate disasters, according to a Linkoping University study. With Paraguay’s small role in Monsanto and Rio Tinto’s revenues, any future problems could quickly erase the upfront savings.

Rio Tinto projects that it will spend $4 billion on an aluminum plant in Paraguay. The plant would likely replace closed and struggling aluminum smelters in New Zealand, Australia and the United Kingdom, where falling aluminum prices and rising energy rates have plagued Rio Tinto’s aluminum business. The Paraguay plant would be comparatively cheap and the company will likely get energy below market rates and tax credits for years if not decades to come. The plant is an important, if not the most important, project for Rio Tinto’s aluminum division. Yet in the grand scheme of Rio Tinto’s international operations, aluminum operations contribute 6% to overall cash flow. The Paraguay plant is one of many medium-sized capital projects that will be responsible for a tiny slice of global revenue.

For Monsanto, the Franco administration simply did away with government and corporate due diligence and are set to approve modified soy, corn, and cotton seeds this month. The expected revenues are tiny compared to Monsanto’s total revenue: an estimated $30 million dollars out of $14.6 billion for fiscal year 2013. Soy bean crop expansion is already a tinderbox of conflict in largely agricultural Paraguay because it violently pits a tiny ranching elite and foreign agribusiness against the small-holder majority.

Get Worried

Governments require and companies elect to do studies on environmental impacts, consult local communities, and install safety equipment that usually goes unused because these checks cost less – in suffering as well as monetary terms -- than cleaning up preventable disasters. By doing away with safeguards, Franco scored quick political points with local businessmen and corporate middlemen hoping to close a deal or meet yearly quotas. But should anything preventable go wrong – if pollution from the aluminum plant leaks into the aquifer shared with Brazil and Argentina or if new pesticides increase children’s cancer rates – companies face costly lawsuits, international public relations campaigns, and backlashes from the next administration. Elected leaders in Ecuador, Bolivia, and Argentina have recently capitalized on widespread anger by nationalizing operations and expelling multinationals accused of dangerous practices that saved money; the same could happen to Rio Tinto or Monsanto in Paraguay. Cutting corners in a small, poor country makes little difference on a multinational’s annual income statement, but in a world of international media and networks, preventable disasters are expensive scandals.

CallaMarie has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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