Source: BLOOMBERG
February 21, 2013

Rio Tinto Group (RIO)’s Mongolia copper and gold mine looks a dream location sitting next to China, the biggest market. Yet, Mongolia’s bid for more control of the project draws comparison with a Rio mine that went badly wrong.

Mongolia’s government is ratcheting up criticism of Rio’s management of the $6.6 billion project, the landlocked country’s single biggest investment. Lawmakers have argued for a bigger share of profit, while President Tsakhia Elbegdorj wants more management control. He faces elections in June with a fifth of the nation’s 3 million people in poverty despite world-beating economic growth of 17.3 percent in 2011.

Rio has refused government overtures to rewrite the agreement on the mine known as Oyu Tolgoi, raising tensions and comparisons with another Rio copper mine more than two decades ago. That project known as Panguna on the island of Bougainville in Papua New Guinea was shut by local protests and is still the subject of a U.S. court case.

“In Bougainville the community felt, rightly or wrongly, they weren’t compensated adequately for the various impacts of mining they were having to absorb,” said Jeffrey Neilson, a senior lecturer in economic geography at the University of Sydney. Governments in emerging economies “have to be seen to be taking a strong stance and making sure that the benefits of their resource wealth are being shared.”

Mining companies also need to consider wealth distribution in countries where they invest as a matter of course, said Michael Bush, who now heads credit research at National Australia Bank Ltd. and formerly worked as a geologist at Triad Minerals Inc.

‘Fingers Burned’

At Panguna, which was closed in 1989 after protests turned violent, the company “got its fingers burned more than many” of its peers, Bush said.

The unrest at Panguna, led by Francis Ona a former Bougainville mine worker, revitalized an independence movement on the island. That prompted the Papua New Guinea government to declare a state of emergency and send in troops in a conflict in which thousands died.

Bougainville landowners later filed a U.S. lawsuit alleging Rio conspired with the PNG government in acts of genocide, human rights abuses and environmental damage. Rio lost an appeal to have the lawsuit thrown out on Oct. 25, 2011. In November the same year, Rio sought to appeal the ruling to the U.S. Supreme Court. No decision has been made, according to the court’s website.

‘Serious Risks’

The company has argued that as the case has no connection whatsoever to the U.S. it shouldn’t be heard in the country and that the U.K. and Australia object to the litigation.

Rio cited a U.S. government filing that supported the company’s view: U.S. courts passing judgment on the conduct of a foreign sovereign, the government warned, pose “serious risks to the United States’ foreign relations with foreign states.”

Mongolia’s Oyu Tolgoi, set to start production in July, has about 25 million metric tons of recoverable copper and an expected life of 50 years. That’s about three-times the size of Panguna, which produced about 3 million tons of copper from 1972 to 1989 and holds another 5 million tons, according to a recent study amid discussions about reopening the mine under Rio unit Bougainville Copper Ltd. (BOC)

“Bougainville Copper Ltd. has a long-term vision of returning to mining and exploration on Bougainville, which Rio Tinto supports,” said Rio spokesman David Luff in an e-mail response to questions. “Any eventual return would be subject to the support of landowners and the government.”

The project will be discussed at Bougainville Copper’s annual general meeting in April, he said.

Resource Nationalism

Rio Tinto fell 3 percent to A$67.30 at the close of trading in Sydney. BHP Billiton Ltd. (BHP), the world’s biggest mining company, declined 3.8 percent. The S&P/ASX 200 index lost 2.3 percent.

Resource nationalism — government demands for higher taxes, royalties or stakes — was the top concern among mining executives in 2011, according to Ernst & Young LLP’s annual risk survey published in August 2012.

“I don’t think nationalism is growing, it’s always been here” in Mongolia, said Vidur Jain, an analyst at the Ulan Bator-based Monet Capital Investment Bank. “The government has an eye on the upcoming elections. Foreign investors don’t vote so the government could be aiming its rhetoric and actions at the electorate.”

The politicians that offer to squeeze the most from foreign investors are likely to win the most public support, Jain said. Government corruption and inefficiencies are the main reasons foreign investments don’t trickle down, “but that’s not something the locals are aware of.”

Losing Pit

A disconnect with local people led to the troubles at Rio’s Panguna mine, with the company not doing enough to mitigate the effect of its project on local inflation or the environment, Sydney University’s Nielsen said.

Nielsen formerly served as a community liaison officer for Aurora Gold Ltd., which had its mine overrun by locals in central Kalimantan, Indonesia, over how mining proceeds were shared.

“All of a sudden the local community cut down these massive trees and put them across the access road to the pit,” Nielsen, who worked for Aurora between 1999 and 2000, said.

“About 5,000 illegal miners took over the asset and started mining the pit. They were mining themselves, digging shafts. Then the company had to slowly renegotiate access to the pit.”

Who Blinks First

President Elbegdorj said this month the nation should have more control of Oyu Tolgoi, adding to calls from lawmakers in the last 18 months to push Rio to cede equity control in the mine. Mongolia, which is almost three times the size of France, owns 34 percent of Oyu Tolgoi and Rio the rest through its Turquoise Hill Resources Ltd. (TRQ) unit.

Mongolia is criticized because of “the absence of respect by the Oyu Tolgoi management toward the government,” Ochirbat Chuluunbat, vice minister at the Ministry of Economic Development, said in an interview. “A lot of decisions and resolutions of the OT management came without any prior consultation with the Mongolian government.”

As Elbegdorj appeals to voters in a nation where about a fifth of the people get by on $1.25 a day, he’s setting up a face-off with Rio’s Chief Executive Officer Sam Walsh, who has his own stakeholders to worry about.

Walsh, less than two months into the job, has to appease shareholders angered by a $14 billion writedown in Rio’s coal and aluminum operations that cost the previous CEO Tom Albanese his job.

Back-Door Deal

“I don’t think Rio will renegotiate the agreement,” said Jain at Monet Capital. If they do, there’s a risk other countries will want the same, so eventually there’ll be some kind of back-door deal, he said.

Lawmaker complaints in Mongolia have centered on cost increases at the mine, which they claimed had jumped almost $10 billion to $24.4 billion. Rio set costs so far at $6.6 billion, according to the Oyu Tolgoi website.

“The two sides don’t even seem to agree on what the cost overruns are for phase I of Oyu Tolgoi,” said Nick Cousyn, chief operating officer at BDSec, Mongolia’s biggest brokerage.

Cost overruns have been used to gain greater state control in a project before.

Russia, the world’s largest energy producer, refused for a year to approve Royal Dutch Shell Plc. (RDSA)’s request to double the cost of investment in the Sakhalin-2 oil and gas project. In 2006, shareholders sold half their shares to state-run OAO Gazprom, giving the Moscow-based company the biggest stake.

No Foreigners

Russia has resorted to tax claims and environmental inspections to pressure foreign investors into relinquishing major oil and gas projects started before President Vladimir Putin first came to power in 1999. First Deputy Prime Minister Sergei Ivanov said June 13, 2007, foreign companies “will never operate” major fields again.

The Mongolian dispute will probably end better than the story of the Bougainville mine.

“The world has changed markedly since the Bougainville situation, both from the global mining companies’ view point and from government angles,” said Tim Barker, investment analyst at BT Financial Group Pty, who owns Rio shares.

What has not changed is where the resources are, said Sydney University’s Nielsen.

“We live on a finite planet and countries are taking a gamble on their resources,” he said. “Perhaps there isn’t a rush to dig it out and sell it now and they can negotiate deals in ten or 15 years.”

Two weeks ago on Feb. 7, about 23 years since Rio closed Panguna, the company announced it may be restarted. The mine still holds more copper and gold than was dug out.

To contact the reporters on this story: Elisabeth Behrmann in Sydney at ebehrmann1@bloomberg.net; Yuriy Humber in Tokyo at yhumber@bloomberg.net

To contact the editors responsible for this story: Peter Langan at plangan@bloomberg.net; Jason Rogers at jrogers73@bloomberg.net

Source: BLOOMBERG
February 15, 2013

Rio Tinto Group, the world’s second- largest mining company, said its $6.6 billion Oyu Tolgoi copper mine in Mongolia won’t start until disagreements with the government are resolved.

“A number of substantive issues have recently been raised by the government of Mongolia, including the implementation of the investment and shareholder agreements and project finance,” London-based Rio said today in a statement. “Subject to the resolution of these issues, first commercial production from Oyu Tolgoi is scheduled to commence by the end of June 2013.”

Rio, which today named Jean-Sebastien Jacques as the new head of its copper unit, twice rejected Mongolia’s demands in the past 18 months for a greater share of profits from the mine. President Tsakhia Elbegdorj said this month Mongolia should have more control of the copper-gold operation that will be the biggest contributor to its economy once it’s in full production.

“I’m concerned by recent political signals within Mongolia calling into question some aspects of the investment agreement,” Rio Chief Executive Officer Sam Walsh said during a webcast presentation today. “This undermines the partnership we’ve built and the stability on which a project of this size and scale depends.”

Rio and Mongolia, which held talks on Feb. 7 in the capital Ulan Bator, plan to resume discussions this month to resolve concerns that spending at Oyu Tolgoi is overshooting and the country isn’t benefiting enough from the development.

Mongolian Talks

The government is seeking to boost Mongolian participation in management and increase the number of local companies that can benefit from the project, including the use of a Mongolian bank.

“Jean-Sebastien has already been involved in the discussions in Mongolia and in fact he was there last week as part of the shareholder meeting and part of the discussions with the Mongolian government,” Walsh said today on a conference call after reporting the company’s first annual loss.

Rio slipped 0.3 percent to 3,745.5 pence by the close in London, with 8.09 million shares changing hands, double the daily average volume for the past three months.

Rio is considering a temporary halt to work to protest government demands for a greater share of profit, two people familiar with the plans said last month. The mine, the biggest copper project currently under construction, is 66 percent-owned by Rio unit Turquoise Hill Resources Ltd. and 34 percent by Mongolia’s government.

Beat Expectations

Rio would continue to engage with the government to implement its 2009 investment and shareholder agreements “in their current form,” the company said in its statement.

Rio reported a better-than-expected second-half loss as earnings at its iron ore unit beat analyst estimates and it raised its dividend.

The loss was $8.9 billion in the six months ended Dec. 31, from a $1.76 billion loss a year ago, Rio said today in an e- mail. That’s better than the $10 billion median estimate of five analysts surveyed by Bloomberg. The loss, the biggest in at least 15 years, was driven by $14 billion in writedowns on the value of its aluminum and coal businesses and offset by an almost $1 billion benefit from its minerals sands operations.

The writedowns saw Walsh last month named as CEO, replacing Tom Albanese who signed off on the $38 billion takeover in 2007 of Alcan Inc. Rio, which reported full-year underlying earnings of $9.3 billion that beat analyst expectations, said today it boosted its full-year dividend by 15 percent and accelerated expansion at its iron ore mines in Australia.

Pilbara Acceleration

Rio said it has accelerated “phase one” of its Pilbara iron-ore expansion to be completed in the third quarter. The expansion will boost production to 290 million metric tons a year, while a second increase in output to 360 million tons will be operational in the first 6 months of 2015.

The company will pursue an “unrelenting focus” in creating better value for shareholders, Walsh said in the presentation. The company said it is cutting capital expenditure to $13 billion in 2013 from $17 billion last year, while targeting cash cost savings of more than $5 billion by the end of next year.

Rio said its disciplined capital management will help maintain its single A credit rating. Walsh ruled out acquisitions for the moment, saying deals are “not on my radar.” Chief Financial Officer Guy Elliott also said the return of cash to shareholders in the form of a buyback shouldn’t be expected this year.

Costs History

“The group appears to have taken its major writedowns this year and looks well set to pass on the benefits of its cost reduction program through 2013,” John Meyer, a mining analyst at SP Angel in London, said in a note. “Rio has a good long- term history of managing its costs and should realize significant benefit going forward.”

Rio said iron-ore production would be 265 million tons this year, while it would produce 8.5 million tons of hard coking coal, 20.5 million tons of thermal coal and 665,000 tons of copper. The production outlook is “weaker” than Liberum Capital Ltd. had estimated, the brokerage said in a note to investors.

Rio’s second-half earnings from its iron ore unit fell as prices for the steel making ingredient declined. Iron ore prices averaged 27 percent lower during the six months to Dec. 31 than a year earlier, at about $116 a ton, data from The Steel Index shows.

Prices have since recovered from a three-year low in September to a 15-month high of $158.50 a ton last month on signs of economic recovery in China, the biggest consumer of industrial metals.

“We see positive momentum in the fourth quarter last year being sustained into 2013 with Chinese GDP growth returning to above 8 percent in 2013,” Walsh said in a statement. “We expect market uncertainty and price volatility to persist as long as the structural issues in Europe and the United States remain unresolved.”

To contact the reporters on this story: Soraya Permatasari in Melbourne at soraya@bloomberg.net; Elisabeth Behrmann in Sydney at ebehrmann1@bloomberg.net; Thomas Biesheuvel in London at tbiesheuvel@bloomberg.net

To contact the editor responsible for this story: Jason Rogers at jrogers73@bloomberg.net

Source: BLOOMBERG
February 13, 2013

Rio Tinto Group proposed initial terms on a $4 billion project financing for the Oyu Tolgoi copper-gold mine in Mongolia as it tussles with the government over profits, three people with knowledge of the deal said.

The world’s second-largest mining company sent a request for proposals to lenders after holding bank meetings, said the people, who asked not to be named because the transaction is private. They have been asked to respond by mid-March, the people said.

Rio Tinto is seeking about $2 billion of 12-year loans from banks and a further $2 billion from export credit agencies and international development funds for the project, the people said. The company is said to be considering a temporary halt to work as the government demands a greater share of profit from the mine.

David Outhwaite, a London-based spokesman for Rio Tinto, declined to comment.

The mine, in the South Gobi desert 80 kilometers (50 miles) from Mongolia’s border with China, is controlled by Rio through its 51 percent stake in Turquoise Hill Resources Ltd. which holds a 66 percent stake in the project. The Mongolian government owns the remaining 34 percent stake.

President Tsakhia Elbegdorj said Feb. 1 Mongolia should have more control of the mine that will be the biggest contributor to the country’s economy once it’s in full production.
Interest Rate

About half of the bank debt will pay an interest rate of 2 to 3 percentage points more than benchmarks and be insured against political risks by the World Bank’s Multilateral Investment Guarantee Agency, according to the people with knowledge of the financing.

The cost of building the first phase of mine rose to $6.6 billion from an initial 2010 costing of $5.7 billion, along with $500 million of interest payments on existing loans, according to a Feb. 5 statement on Oyu Tolgoi’s website. The project financing will enable the next stage of development of the mine and help reduce costs for shareholders, Oyu Tolgoi said.

Turquoise Hill predecessor Ivanhoe Mines selected BNP Paribas SA and Standard Chartered Plc to arrange the financing in July 2010, along with the European Bank for Reconstruction and Development, the World Bank’s International Finance Corp. and Export Development Canada.

Export-Import Bank of the U.S., Australia’s Export Finance & Insurance Corp. and the World Bank’s MIGA unit subsequently joined the deal, according to the IFC’s website.

To contact the reporter on this story: Stephen Morris in London at smorris39@bloomberg.net

To contact the editor responsible for this story: Faris Khan at fkhan33@bloomberg.net

Source: WASHINGTON POST
February 04, 2013

Traditionally, Mongolian life has been based around herding, with nomadic families sleeping in yurts and tending livestock. That’s why it’s surprising to hear stories like that of Khorloo, a 65-year-old Mongolian who spends her days digging through the Mongolian steppe with metal detectors and shovels, plucking out the occasional gold nugget after days of scratching in the dirt.

“It took us a week to dig this out,” Khorloo told Reuters, holding a nugget that could earn her family as much as $6,000. “But we dug for three years to reach the vein.”

Khorloo is one of Mongolia’s 60,000 or so “ninja miners” — former herders who took up amateur mining, using whatever rudimentary tools they have at their disposal, amid soaring mineral demand from China. (They’re called ninjas because the large green pans they carry on their backs look like turtle shells.)

A former economic underdog, Mongolia is now the world’s fifth fastest-growing economy, with an 12.3 percent GDP growth rate that would make today’s anemic, Western economies salivate. (For comparison, the U.S. economy is growing at 1.7 percent.) Like many other Central Asian countries, Mongolia is growing rich from selling minerals to China. According to a report by the Associated Press, Mongolia sends 90 percent of its exports to Chinese markets, and the two-way trade with Beijing makes up 75 percent of Mongolia’s economy.

But several recent reports indicate that Mongolia’s economic success story may turn out not to be all that it seems. Here are four ways its meteoric growth could go awry:

1. The Ninjas: Though they sound like some sort of ore-hunting SWAT team, the herders who have recently sought their fortunes in freelance mining are actually a bit of a drag on the mining economy. Not only do they not pay taxes, notes Morris Rossabi in Foreign Affairs, they also contribute to prostitution, gambling, and other illegal activities. And the herders who have resisted mining complain that mining companies have undermined their way of life, forcing them to migrate.

2. Becoming too dependent on China: Because China has fueled so much of Mongolia’s growth, there could be scary repercussions as China’s economy slows. China’s demand for Mongolian minerals has already slumped somewhat, and most analysts say Mongolia needs to diversify its economy away from just one main trading partner.
Granted, Mongolia has pushed back against Chinese influence, even going so far as to lay railroad tracks at a gauge that makes it impossible for them to connect to Chinese rails. China and Russia are now each limited to a third of Mongolia’s total foreign investment, and Mongolia has been attempting to foster partnerships with the United States, the European Union and Japan in order to hedge against Beijing and Moscow.
“We will not be another Africa,” Ganhuyag Ch. Hutagt, a Mongolian banker and former vice finance minister told the AP. “We cannot afford to have one particular nation control our businesses.”

3. Its mines have been plagued by problems: Mongolia’s “resource nationalists” have made it difficult for mining projects to get off the ground. Nationalist policymakers worried about foreign influence over Mongolia’s resources want to amend the agreement on Oyu Tolgoi, a massive copper mine, so that Mongolia gets a bigger share. Last week, Rio Tinto Group, a British-Australian mining giant that owns the majority stake in the project, said it was considering a temporary halt to construction work at Oyu Tolgoi because of Mongolia’s demands for a larger share.
Mongolia’s massive coal mine in Tavan Tolgoi has also suffered a number of setbacks. In July, the Mongolian government withdrew a decision to hand mining rights in Tavan Tolgoi to a consortium consisting of China’s Shenhua Group, U.S.-based Peabody, and Russian Railways, saying Mongolia might develop the mine on its own. In the past few weeks, tensions between China and Mongolia have escalated after Erdenes-Tavan Tolgoi halted coal exports to China and threatened to cancel a coal-supply deal, with Mongolia’s ambassador to Beijing telling The Wall Street Journal that the pricing terms of the deal were “unacceptable in the sense of normal international trade.”

4. Mongolia is still pretty corrupt: Transparency International ranks Mongolia as 80th most corrupt of 182 countries — not as bad as 62nd most corrupt in 2011, but still not great. Inequality is on the rise, and it’s hard to tackle because independent groups suspect the government is falsifying the country’s true poverty numbers (which are already astonishingly high, at somewhere between 29 to 39 percent), Rossabi points out.

Screenshot: Transparency International

Either way, this is hardly the sort of environment where dramatic, sudden economic growth can be expected to improve quality of life for most citizens.

Or as Sumati Luvsandendev, the director of a polling organization in Ulan Bator, told the Guardian recently: ”Our society worries that things are not going that well in terms of social justice, that there is a growing gap between rich and poor, and that there is an oligarchic class.”

Source: BLOOMBERG
February 04, 2013

Mongolia’s President Tsakhia Elbegdorj said the nation should have more control of Rio Tinto Group’s Oyu Tolgoi copper and gold project after the government claimed costs had increased.

The total cost of the Rio Tinto-operated development in southern Mongolia has jumped to $24.4 billion, according to an e-mailed statement from the government, which gave a summary of a parliamentary discussion on Feb. 1 attended by the president. London-based Rio’s earlier estimate for total cost was $14.6 billion, according to the statement.

“It’s time for Mongolia to have Mongolian representation on the management team,” Elbegdorj said at the session on Feb. 1, according to his website. “It’s important that the government takes the Oyu Tolgoi matter into its own hands.”

The president’s comments heighten tension with the second- biggest mining company over the ownership and future development of a project, which is currently the world’s biggest copper mine under construction. Rio is considering a temporary halt to work to protest government demands for a greater share of profit, two people familiar with the plans said last week.

“We continue to work together with all stakeholders, including the government of Mongolia, to bring the benefits of Oyu Tolgoi to all parties,” Rio Tinto said today in an e-mailed response to questions. “We are now focused on first commercial production. We are on schedule to deliver that in the first half of this year.”

Respect Agreement

David Luff, a Melbourne-based spokesman for Rio Tinto, wasn’t immediately able to comment on the cost overrun and safety concerns raised by the Mongolian government.

Mongolia also needs representation “in all the most important decision making departments: financial department, procurement department, legal department, sales and project services department,” said Elbegdorj. The country had to wait for “months” for Rio to respond to questions on the project, he said.

In December, the president urged Mongolia’s government to respect the Oyu Tolgoi agreement, according to a Jan. 25 report by Ulan Bator-based broker BDSec, which cited a Dec. 26 interview with Elbegdorj on state television.

“The current rhetoric is accentuated by the upcoming presidential election,” slated for the end of June, said Eric Zurrin, director general at Resource Investment Capital Ltd., a corporate finance adviser in Ulan Bator, by e-mail today. “I doubt Rio would endanger the start-up of OT following first production last week, nor its future economic interests, by entering into games of brinkmanship with the Mongolian government. I think cooler heads will work out a solution for both ends, Mongolian and foreigner.”

Cost Increases

The costs for the first two stages of the mine would be $11.3 billion, according a report on the website of Turquoise Hill Resources Ltd. (TRQ), the Rio unit which owns 66 percent of Oyu Tolgoi.

“We need to address these cost increases with Rio Tinto and better understand why costs went up,” the government statement cited Prime Minister Norovyn Altankhuyag as saying. “We also need to discuss salaries for Mongolian workers, safety matters and benefits to workers.”

The mounting tensions between Mongolia’s politicians and Rio could prompt a reshuffle of the Oyu Tolgoi board, which includes both company and government officials, Dambadarjaa Jargalsaikhan, an independent economist based in Ulan Bator, said by phone today.

Business Matter

“Mongolian politicians are acting a little bit too strongly,” Jargalsaikhan said. “There should be a certain acceptance of cost changes from planned ones. It happens with a big project like this. It’s a business matter and as soon as it is explained, things will go forward.”

The mine, which is controlled by Rio and 34-percent owned by Mongolia, may account for 2.2 percent of the company’s earnings before interest, tax depreciation and amortization this year, according to Richard Knights, a mining analyst at Liberum Capital Ltd. Rio’s 2013 Ebitda will be $22.2 billion, according to the average of 25 analysts’ estimates compiled by Bloomberg.

In October, Rio rejected a second move by Mongolia to renegotiate a 2009 investment agreement for the development of Oyu Tolgoi, which is currently the world’s biggest copper project under construction.

To contact the reporters on this story: Michael Kohn in Singapore at mkohn5@bloomberg.net; Yuriy Humber in Tokyo at yhumber@bloomberg.net

To contact the editor responsible for this story: Jason Rogers at jrogers73@bloomberg.net

Source: JAPANFOCUS.ORG
By Peter Lee
January 28, 2013

In Mongolia today, hunger for coal, copper, gold and uranium wealth is at odds with democracy as the demands of international resource giants collide with a stubborn political culture of resource nationalism.

In time for the June 2012 parliamentary elections, Mongolia’s grand khural passed a law subjecting the purchase by “state-owned entities” of controlling interest in strategic Mongolian mining enterprises to government approval (as well as a host of other key industries).

The immediate provocation for the legislation was the sale by a Canadian company, Ivanhoe Resources, of its controlling interest in SouthGobi, an operator of coal mines in Mongolia, to a Chinese resource giant, the Aluminum Company of China, known as Chalco.

The legislation overtly targeted China. Vice Finance Minister Ganhuyag Chuluun Hutagt told Bloomberg that the country needed new investment laws to diversity its exports to countries other than China, which consumes a lion’s share of Mongolia’s coal and copper:

We don’t want to be faced with one sovereign … Our struggle to gain political freedom was a long one and we cherish that. We will not let foreign government-owned entities control strategic assets in Mongolia.
This is not an unambiguous win for non-Chinese international resource companies.

After all, there are two ways to make money from ownership of a mining concession. One is to engage in the arduous, expensive, long-term and risky enterprise of operating the mine. Another is to sell it. And the people who are willing to pay top dollar for a mine are the people who are already buying the product and have a powerful economic incentive for making a go of it … like the Chinese. So the Mongolian government’s involvement in strategic industries can be looked at in two different ways. On the one hand, it might hobble a deep-pocketed, overweening competitor to the benefit of other, grateful players; on the other hand, it might be seen as increasing the risk and diminishing the liquidity of investments in the so-called strategic industries, shaving precious points off the value of the assets, be they hard rock or financial paper. Unsurprisingly, the investment community, which is politely slavering at the prospect of profitable deal flows from Mongolian mining initial public offerings (IPOs) and mergers and acquisitions, is not amused by the strategic industry law. Dale Choi, of the pre-eminent Mongolia resource investment firm Frontier Securities, told Bloomberg:

Investors don’t like it when the rules of the game are changed after the game has started, and changed often at that … It would be in the interests of Mongolian people to make a decision based on commercial factors, rather than geopolitical factors. 1

The uncertain progress of the Tavan Tolgoi project illustrates the headaches facing Mongolia as it tries to reap its resource bonanza on behalf of its citizens even as the remorseless economic logic of globalization demands marginalization of their interests. Tavan Tolgoi, in the Gobi Desert less than 300 kilometers from the Chinese border, contains over six billion tons of coal reserves, including 1.8 billion tons of coking coal, a premium and profitable item used in the iron and steel industry.

Nothing about Tavan Tolgoi is simple, except perhaps the physical process of digging the coal out of the ground (albeit with the usual environmental and cultural trauma). Chalco is already buying all the coking coal that Tavan Tolgoi produces. But it has to truck the coal to China since the Mongolian government has dragged its feet on approving the 300-kilometer railway that would connect to the Chinese rail system, thereby making China the only feasible buyer. Mongolia’s current anxiety about Chinese domination of its international trade channels (China accounts for perhaps 80% of Mongolia’s export and import trade) is buttressed by significant historical and political factors.

The Mongolian republic’s foundation myth, predating China’s Republican revolution, dates back to the eviction of a detested Manchu viceroy in 1911 and China’s political and ethnic domination of the parts of Mongolia it did retain – now the Inner Mongolia Autonomous Region – is an affront and warning to Mongolian nationalists. Standing up to Chinese economic penetration is, therefore, good politics and may prove to be smart geopolitics. Economics, however, is another matter. Instead of simply linking Tavan Tolgoi to the Chinese railway system, Mongolia is trying to cobble together a coalition of Chinese, Russian, South Korean and Japanese concerns that will develop part of the mine jointly with Mongolia and, most importantly, build an integrated transport network 5,000 kilometers from Tavan Tolgoi to the Russian export facility at the port of Vanino.

The objective of the Russian route is for Tavan Tolgoi coke to find a home in Japanese and South Korean steel mills, and to get to those mills through Russia (which has no coke import needs of its own) without being captive to the necessity of moving the product overseas through the shortest and most economical route-through Chinese railroads and ports. Total projected cost: US$5.2 billion. Additional transport cost per ton: perhaps $100. To bootstrap this diversification, the Mongolian government already requires that Chalco resell 30% of its current Tavan Tolgoi purchases to three Japanese and South Korean trading companies. Reportedly, this portion is delivered to Chinese ports for export. Somebody is enjoying a windfall, as Mongolian coking coal is apparently selling for a third of the price of the Australian product currently fueling Japanese and South Korean steel mills. Tavan Tolgoi itself is divided into east and west zones, East Tsankhi and West Tsankhi, each with its own challenges. West Tsankhi is the joint development mega project based on foreign operators investing in and operating the mine and paying royalties to the mine owner, state-run Erdennes Tavan Tolgoi. This is the piece wrapped up in the multi-national/railroad to Russia consortium idea. The Mongolian government announced a jumbled up award to an unwieldy collection of companies but has been unable to work out the deal it is trying to impose – which probably requires a hefty up-front payment that somehow has to be divvied up between the disparate partners, each of whom has different roles, profit expectations, and willingness and capacity to pay. East Tsankhi is the part of the mine that is already selling its output to China under the ownership and operation of state-owned Erdennes Tavan Tolgoi. Per government plan, Erdennes TT will go public in a multi-billion dollar global IPO that will sell a 30% share to fund the further development and exploitation of East Tsankhi by some combination of foreign and domestic construction, equipment, and service vendors.

Mongolia originally had ambitious plans to list the IPO on three stock exchanges simultaneously: Ulan Bator, Hong Kong, and London. The overseas exchanges are panting for the offering, which is expected to raise $3 billion. Underwriters are all clamoring for the business, leading to a fistfight between pinstriped antagonists in an Ulan Bator watering hole in 2010 and the generous decision of the Mongolian government to expand the number of underwriters to six in 2012. However, the IPO has been delayed several times, and the Hong Kong component has been dropped. The most recent prediction for the share sale is now mid-2013. Obstacles include uncertainty involving the award of West Tsankhi and the royalty revenue Erdennes TT would enjoy as a result.

A further complicating factor was a highly publicized exercise in resource nationalism: the sweeping decision to allocate 10% of the total stock of Erdennes TT to every one of Mongolia’s citizens and another 10% to Mongolian corporate entities. The government has also decided to give Mongolian citizens the opportunity to sell their Erdennes TT shares to the state for 1 million tugrik (approximately US $3000).2 The stock grant significantly complicated the business plans of Erdenes TT with respect to the IPO. The chief executive officer of Erdennes TT, B Enebish, explained the current state of play to the UB Post before he left his post in October 2012:

[T]he company that is going public should have a clear investors’ structure. But this is not the case for us. The Government made a decision to let the Mongolian public own 20% of TT. This means that the ownership of stocks are blurry because we do not know who will decide to keep or trade their stocks, or whether the Government will offer stocks to other companies or will they keep stocks themselves. We planned to resolve this in 2011 but the problem is still persisting even now. Two years ago, a resolution was passed from the State Great Khural on trading 30% of the company’s stake on stock exchanges. But another resolution [was] passed in January 2012 decreasing this percentage to 20%. On foreign exchanges, more specifically the London Stock Exchange (LSE) and the Hong Kong Stock Exchange (HKSE), when a mining company is aiming to release on many different stock listings, it is required that at least 20% of the company’s stock is out. It means that we must determine exactly how many of our Mongolian citizens will return TT stocks for cash and make sure the stocks traded are more than 20% before proceeding to release TT stocks on foreign exchanges. 3

Enebish declared that Erdennes TT could boost its value in the interim by plowing more investment into production in East Tsankhi, thereby begging the question of where the money would come from – since it wouldn’t be coming from the IPO. The answer, at least in the near term, was China:

Since the IPO release has been postponed we see a definite need to find funding from a different source. We are discussing this with a number of investors, seeking to solve it through the sale of coal, presale of coal, and various loans.

Chalco, the same company that was subjected to the grand khural’s rebuke over its attempted purchase of South Gobi (which it subsequently abandoned), made a pre-payment of (depending who is talking, either $250 or $350 million dollars) to state-run Erdennes Tavan Tolgoi for coking coal. At the price Chalco is paying- less than US$70/ton, a far cry from the $200+/ton for Australian coking coal – that is over three years’ worth of exports. 4 However, it transpired that this cash transfusion was of virtually no help to Erdenes TT in funding its current operations, let alone financing its expansion. Erdennes TT is obligated to help fund Mongolia’s Human Development Fund. The Human Development Fund is funded by revenues from resource exploitation along the lines of the Alaska Permanent Fund and the Norwegian sovereign wealth fund. In other words, it is a non-renewable resource fund, albeit with Mongolian characteristics – i.e. it has become something of a piggy bank for politicians to curry favor with the electorate while slighting the restructuring of the economy against the day, admittedly far in the future, when all the ores are gone. In 2011, the payout from the fund accounted for 40% of the government’s budget, raising the specter of “Dutch disease” inflation the fund is specifically designed to avoid.

The 2012 payout was funded primarily by the Oyu Tolgai copper mine and the Chalco payment to Erdennes TT. 5 The Chalco payment to Erdennes TT amounted to about half of the value of the $500 to $600 million social welfare payout (in cash and services) that Mongolian politicians have promised to make from the nation’s Human Development Fund to Mongolia’s 3.1 million citizens in the runup to the June 2012 parliamentary election. In effect, then, Chalco got a bargain on coking coal while effectively bankrolling the Mongolian election-year giveaway meant to demonstrate the benefits of resource nationalism. 6 After the June 2012 parliamentary election the coalition led by the victorious Democratic Party apparently decided to push resource nationalism and determine what limits if any there were to the eagerness of foreign financiers, the tolerance of foreign mine operators, and the patience of the Chinese.

Unable to tap the bonanza of the longed-for Erdenes IPO, the government instead opted to issue $1.5 billion in government bonds. The issue—equivalent to 17% of Mongolia’s current GDP—was quickly oversubscribed by a factor of ten, which perhaps provides a misleading idea of the international appetite for Mongolian risk and respect for the wisdom of Mongolian fiscal management, especially since the government apparently had no concrete plans for how to use the funds and pay back the principal and interest.

Writing on his blog, The Mongolist, on January 16, Brian White observed:

The government has been criticized by the opposition Mongolian People’s Party (MPP) for not having a clear plan on how to spend the funds now that the government has received them. Prime Minister Altankhuyag has responded on behalf of his government that there is a plan in the works and a “Policy Council,” which he will chair, has been formed to ensure proper use of the funds. To me this is a far more frightening bit of news than the market scare brought on by MPRP. In the highly partisan and depressingly opaque environment of the Mongolian parliament, the current government has introduced USD 1.5 billion of revenue without a binding and clear statutory authority for how it should be spent. The government of Mongolia seems to have a tremendous amount of faith in the political system’s ability to produce a good outcome here. Moreover, the list of proposed projects for the revenue, which includes development of an industrial complex in Sainshand, expansion of the railroad, development of Tavan Tolgoi, and a potential subway system in Ulaanbaatar among other things, is shockingly broad when viewed in the context of reality. Just take the fact that Oyu Tolgoi (a single project) has required about USD 6 billion in financing thus far and it still has not begun full commercial production, and it is hard to imagine USD 1.5 billion going very far on the government’s wish list.

http://www.themongolist.com/blog/government/44-the-name-is-bond-chinggis-bond.html

In addition to funding some immediate investment needs, the Democratic Party coalition apparently hopes that it can gain leverage with investors by demonstrating it has the option of funding its resource development through the issuance of debt without giving away equity.

Case unproven, it seems, by the $1.5 billion issue. Foreign bond buyers were probably willing to take a flutter on a small issue of an exotic bond whose failure could not sink a diversified portfolio, a minor risk justified by the attractive theoretical fundamentals of Mongolia, namely its low baseline GDP and the potential for enormous growth of its resource sector.

However, an economic pundit ran the numbers in the UB Post (and also looked at the possibility that the government might turn to another $3.5 billion bond issue, in part to help pay for the first $1.5 billion) and drew the conclusion that Mongolia’s total foreign indebtedness had already reached worrisome levels:

As for Mongolia, the ratio of the total amount of our debt (USD 10.9 billion) to the GNI (USD 14.1 billion as the sum of GDP USD 8.5billion +USD 277 million transferred from abroad + USD 5.3 billion FDI) is 77 percent. And, the ratio of the total amount of debt to our export income, which was USD 3.8 billion, is 300 percent. When compared to average developing country, it is three times higher than the GNI and four times higher than the export income, which shows that the external debt of Mongolia is completely enormous.

http://ubpost.mongolnews.mn/?p=1600

Can the government keep its fiscal and business house in order—and continue to attract foreign investment and grow the economy at the 17.5% rate that caused all the excitement in the first place? In the new year, signals have been decidedly mixed, for reasons that are not entirely related to the weakening of Chinese demand.

On January 9, 2013, Erdenes TT management gave the Mongolian government the bad but not unexpected news that it was facing a shortfall of $200 million thanks to the election-year giveaway:

Earlier, “Erdenes Tavan Tolgoi” JSC has been financed first with 350 million USD in the form of advanced payment under the agreement established with Aluminum Corporation of China Limited (CHALCO), later received additional 131 million USD from GOLOMT Bank (Mongolia) and another 100 million USD from Development Bank (Mongolia), comprising a total of 581 million USD investments to date…only 270 million USD were utilized for Company’s activity from the total of 581 million USD invested, whereas the rest of 311 million USD was distributed to civilians accounting into Human Development Fund.

As to how the requested $200 million bailout will be used, management had this to say:
If to receive the 200 million USD investments, the activity will be normalized and citizens are able to receive their dividends from 1,072 shares distributed by the Government of Mongolia.

http://www.infomongolia.com/ct/ci/5469

To rephrase this rather fractured passage, some of the funds will be used to pay dividends to those Mongolian citizens who decided to hold onto their ETT shares (1072 per person) instead of selling them to the state.
Dividends have become an important issue because the new government repudiated the previous regime’s promise to buy back the 1072-share Erdenes distribution, making the payment of dividends something of a political imperative.
The government placed the blame for the financial shortfall squarely on the contract price negotiated by Erdenes TT (whose previous chief, B. Enebish had been forced to retire “for personal reasons” in October 2012 while being criticized by sources inside the government for “overspending” and “slowing the project down”) and the previous government with Chalco.

According to a deal that the former Government signed with CHALCO, Erdenes TT LLC sells high quality coking coal for 70 US dollar per ton to China. But the deal causes loss to the company.
And the inevitable corollary:
Therefore Erdenes TT LLC is trying to re-negotiate with China over the deal.

http://www.business-mongolia.com/mongolia/2013/01/10/erdenes-tt-llc-needs-additional-investment/

Whether or not Erdenes is actually selling coking coal to Chalco below its marginal cost (it recently claimed it was losing $8/ton) is an interesting question that is difficult to answer. All that can be said with confidence is that the government wants more money from the Chalco deal.

Presumably, Chalco, in light of the fact that it 1) prepaid for the coke which is as yet largely undelivered and 2) is aware that virtually all of the prepayment was transferred out to the Human Welfare Fund, is perhaps not eager to agree to pay more for the coking coal it hoped to get.
Bloomberg’s headline on January 17, 2012 revealed:
Mongolia’s Erdenes TT Halts Coal Exports to Biggest Buyer China
Erdenes TT’s new chief explained:

Exports to customers including Aluminum Corp. of China Ltd. stopped on Jan. 11 as Erdenes TT couldn’t pay Altangovi, said Yaichil Batsuuri, who has led the company since October. Altangovi provides warehousing services at the border with China, the biggest buyer of Mongolia’s steelmaking coal.

However, even in the same article, Batsuuri makes it clear that the real reason for the stoppage is not the relatively miniscule debt to Altangovi:

The halt comes as Erdenes TT seeks a government loan for as much as $500 million to repay debts and fund infrastructure construction, Batsuuri said last week. The mining company wants to raise prices and cut shipments, changing the terms of the $250 million contract it signed in July 2011 to supply companies including Chalco. . .
“The government made a resolution to make a new agreement with Chalco,” Batsuuri said…

http://www.bloomberg.com/news/2013-01-17/mongolia-s-erdenes-tt-halts-coal-exports-to-biggest-buyer-china.html

In another phone interview with Bloomberg, Batsuuri took a further step toward burning his bridges to the Chinese by publicly revealing the price Erdenes TT was getting for delivering coke to the Chinese border–$53/ton—thereby earning a rebuke from Chalco, which would like to keep its cost figures under wraps in order to protect its resale margin (Erdenes TT’s previous statements had valued the deal at a considerably higher $70/ton).

http://www.bloomberg.com/news/2013-01-22/chalco-urges-erdenes-tt-to-honor-terms-of-coal-supply-accord.html

The key question is whether the renegotiation represents a desperately-needed reordering of Erdenes TT’s finances and operations in order to get the China export business on a solid business footing—something that foreign investors might greet with a considerable degree of enthusiasm—or reflects a resource-nationalism strategy that is pummeling the Chinese for now, but might be turned against other foreign partners in the future.

Here is a relevant data point: The Mongolian parliament finally approved the construction of the railway from Tavan Tolgoi to China, the key infrastructure project that would allow Erdenes to stop the endless and costly caravan of 40-ton trucks heading to the Chinese border, unloading, and deadheading back to the mine.
The catch, as Charles Hetzler reported for AP:

Citing national security, the government ordered the rails be laid 1,520 millimeters apart, Mongolia’s standard gauge inherited from the Soviets. The width ensures that the rails cannot connect to China’s, which are 85 millimeters (about 3 1/2 inches) closer together. So at the border, either the train undercarriages will need to be changed or the coal transferred to trucks, adding costs in delivering the fuel to Mongolia’s biggest customer.
When it comes to China, Mongolia will only go so far and no further.

“This is a political decision,” shrugs Battsengel Gotov, the tall, boyish-looking chief executive of Mongolian Mining Corporation, which is building the railway from its prized coal mine…

http://www.northjersey.com/news/Mongolia_finds_China_can_be_too_close_for_comfort.html?page=all

Another data point is the furor over the new Mongolian resource law.
At the same time that the Mongolian government is, for lack of a more polite term, sticking it to the Chinese, it chose to alarm foreign investors with a proposed bill that would allow the Mongolian government to take free stakes in a number of “strategic” mineral projects.

Bloomberg reported on the clamor this proposed ox-goring raised among Mongolia’s resource development partners:
The legislation, which will give the state the right to a free stake in many mineral projects, will take the country away from the free-market principles practiced there since the early 1990s, Mongolia’s largest business group [the Business Council of Mongolia] said in a four-page letter sent to President Tsakhia Elbegdorj’s office on Jan. 7.
In addition to the general chilling affect that the law would have on investment in the mining sector, the business council raised the specter of Tavan Tolgoi:

“The draft minerals law will hurt all investment in mining in Mongolia, local as well as foreign,” Jim Dwyer, the executive director of the business group, said in an e-mail. “This would include the government’s huge Tavan Tolgoi coal project and Mongolia’s largest publicly-owned mine, Energy Resources.”

http://www.bloomberg.com/news/2013-01-08/mongolia-group-says-draft-law-hurts-foreign-investment.html

However, it looks like the Tavan Tolgoi card, with its Chinese export focus, its muddled West Tsankhi consortium negotiations, and its faltering Erdenes TT IPO, is becoming increasingly tattered and devalued, at least in the eyes of the Mongolian government.

If Tavan Tolgoi becomes a dilapidated monument to the government’s resource-nationalist dreams, expect to hear more about another mine—Ovoot.

Ovoot reportedly contains coking coal reserves of a magnitude similar to Tavan Tolgoi. Its primary attraction, at least to the Mongolian government, is that it is situated in northern Mongolia, near the existing east-west rail line, and therefore can be integrated into the rail network connecting to Russia for the relatively modest cost of $1 billion.

The mine’s foreign investor, Aspire, has a railway construction subsidiary purposed to build the line, and is minority-owned by Noble, the gigantic Asian commodity house, which owns the rights to construct a coal export terminal in eastern Russia.

On the occasion of Noble boosting its stake in Aspire to 15%, Aspire told Bloomberg:
“Mongolian coking coal is largely being sold to Chinese steel producers,” Aspire said. “It is a key part of Mongolian development policy to establish access to seaborne markets for Mongolian coal, to provide pricing tension with Chinese customers and establish seaborne price benchmarks for Mongolian coking coal.”

http://www.bloomberg.com/news/2013-01-10/noble-to-lift-aspire-stake-to-increase-mongolia-coal-shipments.html

The current Mongolian government, without a doubt is advancing a strategy of resource nationalism—and retreating from a “Mongolia is open for business” open investment policy– to increase its leverage in negotiating the extraction of its mineral wealth with foreign investors.

By this strategy, the most logical buyer of Mongolian coal, China, will be squeezed by increasing the costs and decreasing the margins associated with its sources in southern Mongolia. The government will do its best to exploit the negatives it has imposed on the China business to encourage the development of the Russian rail link from Tavan Tolgoi and /or the Ovoot mine to promote the viability of an otherwise significantly more costly route to market through Russia.

If all goes as planned, Mongolian coke will replace Australian coke in Japanese and South Korean, as well as Chinese, steel mills and Mongolia will leverage its expanded market access to capture a bigger share of the profits instead of giving them away to middlemen. Foreign investors, however, will not be unreservedly grateful to the Mongolian government for unleveling the playing field at China’s expense, for a variety of reasons that relate to the government’s attraction to overt resource-nationalist policies.

First, if foreign investment and resource companies acquiesce to the rough handling meted out to China, there is no guarantee that the same measures will not be applied to them in the future, either by this administration or the next victors at the Mongolian polls.

In this context, the proposed revision to the mining law—which gives the government the right to uncompensated shares in Mongolia’s biggest deposits—looks like a self-inflicted wound, administered, in the eyes of the foreign business community, by President Elbegdorj in order to endear himself to the electorate prior to the June 2013 presidential poll.

Second, the biggest operating and therefore investment payday is shoveling coal and copper into the maw of the Chinese industrial machine and/or using the Chinese railway system to transport coal to Chinese export ports for shipment to South Korea and Japan. Developers and investors will be less eager to pursue a Mongolian resource play that compromises the current bottom line and creates a down-the-road strategic risk by effectively subsidizing a less-competitive Russian export channel.

Third, governmental resource management has the potential to turn into a counter-productive carnival of politics, extravagance, and corruption, as the precedents of the Tavan Tolgoi welfare fund giveaway and the seemingly cavalier issuance of Chingghis bonds may appear to anxious investors.

On the one hand the Mongolian government is reducing the rate of return foreign investors can expect; at the same time it is increasing the uncertainty of those returns. From the point of view of Net Positive Value, the investor’s lodestar, the math is all heading in the wrong direction.

It remains to be seen if the promise of the Mongolian bonanza is rich enough to overcome these obstacles and attract the investment—and/or sell the debt– needed to develop the mines. The problems shadowing Mongolia’s coal export projects are a sign of the difficulties of reconciling the tension between globalization and resource nationalism, and a warning signal for Mongolia’s future.

Peter Lee writes on East and South Asian affairs and their intersection with US global policy. He is the moving force behind the Asian affairs website China Matters which provides continuing critical updates on China and Asia-Pacific policies. His work frequently appears at Asia Times. This is a revised and expanded version of an article that appeared at Asia Times.
Recommended citation: Peter Lee, “Mongolian coal’s long road to market: China, Russia and Mongolia,” The Asia-Pacific Journal, Vol. 11, Issue 3, January 28, 2013.

Notes
1 Chalco Targeted as Mongolia Seeks to Limit State Deals, Bloomberg, May 17, 2012.
2 The 666,000 MNT will be distributed to elders and disabled civilians from next week, Info Mongolia, May 18, 2012.
3 Click here for the UB Post story.
4 Click here for a story by Info Mongolia.
5 Mongolia’s Quest to Balance Human Development in its Booming Mineral-Based Economy, Brookings, January, 2012.
6 Chinese, Mongolian companies sign $250m coal deal, China Daily, Jul 29, 2011.

Source: FT
January 31, 2013

Rio Tinto says it remains on track to start production by the middle of the year at its giant copper-gold mine in Mongolia, playing down reports that it might temporarily halt construction.

According to Bloomberg News, the Anglo-Australian miner was considering suspending activities at the US$6.2bn Oyu Tolgoi mine in protest over Mongolian government demands for a bigger stake in the project and new mining royalty rates.

“The power is secured, first ore produced and the concentrator switched on and we are on schedule for first commercial production in the first half of the year,” Rio said on Thursday. “We continue to work together with all stakeholders including the government of Mongolia to bring the benefits of Oyu Tolgoi to all parties.”

Rio’s challenges at the mine, which accounts for about a third of Mongolia’s gross domestic product, have become a symbol of the difficulty of doing business in the resource-rich country.

The Mongolian government has tried twice in the last two years to renegotiate the investment agreement that governs the mine. During election campaigning last year, several members of the current parliament vowed to prevent foreign miners from unduly benefiting from Mongolia’s mineral resources.

Ownership of the mine is currently split between the Mongolian government, which owns 34 per cent, and Canada-listed Turquoise Hill, which owns the remaining 66 per cent and is in turn controlled by Rio.

Shares in Turquoise Hill fell by as much as 10 per cent on the Toronto stock exchange and were placed in a temporary trading halt as the report circulated on Wednesday evening. They closed down 3.4 per cent at C$7.87.
Shares in Rio were down 0.9 per cent in Sydney on Thursday morning.

Traders said the share fall illustrated investor nervousness about the threat of resource nationalism in developing countries.

The mine, located in the Gobi desert, will be one the world’s five biggest copper mines once it reaches full production.

In October, Rio rebuffed an attempt by the Mongolian government to renegotiate the investment agreement for the development of the mine, which was signed in 2009 after several years of negotiations. The country’s new ruling coalition has promised to amend a number of agreements previously signed by the government.

Rio said earlier this month that it was on track to start commercial production by June. Analysts said a delay, should it materialise, would not trigger a profit warning. Production from the mine is expected to hit 74,000 tones this year, or 1.1 per cent of forecast net profit.
However, a delay would present a challenge for Rio’s new chief executive Sam Walsh, who replaced Tom Albanese earlier this month. Mr Albanese resigned after Rio took US$14bn in writedowns on its aluminium businesses and coal operations in Mozambique.

Rio has launched an in-depth review of its assets in Mozambique and is considering bringing in a partner to help share the costs of developing its mines in the country’s Tete province.

Source: BLOOMBERG
January 31, 2013

Rio Tinto Group (RIO), the second-biggest mining company, is considering a temporary halt to construction work at its $6.2 billion Oyu Tolgoi copper and gold project in Mongolia as the government demands a greater share of profit from the mine, according to two people familiar with the plans.

The London-based company is discussing the suspension to protest the central Asian nation’s demands for a bigger stake in the project and new mining royalty rates, said the people, who asked not to be identified because they aren’t authorized to comment publicly. A suspension of work, which may halt mining and processing, isn’t certain and is among options that managers are discussing in London, one of the people said.

“We continue to work together with all stakeholders including the government of Mongolia to bring the benefits of Oyu Tolgoi to all parties,” said Bruce Tobin, a spokesman for Rio in Melbourne. He declined to comment on whether it’s considering a temporary halt.

The dispute comes as Mongolian Prime Minister Norovyn Altankhuyag’s government tries to maintain support for foreign investment amid growing nationalism and wealth disparity. In October, Rio rejected a second move by Mongolia to renegotiate a 2009 investment agreement for the development of Oyu Tolgoi, which is currently the world’s biggest copper project under construction.

At full capacity the mine will account for almost a third of Mongolia’s economic output. It’s on schedule to start commercial production in the first half, Tobin said. The first ore has been mined and the concentrator, which processes the raw material at the site, has been switched on, he said.

Price Pressure

Rio dropped dropped 0.7 percent to 3,552 pence in London yesterday. Turquoise Hill Resources Ltd. (TRQ), the Rio unit through which it controls Oyu Tolgoi, fell 3.4 percent to C$7.87 in Toronto.

“Whilst a shutdown would be negative in the short term, the fact such a move is under consideration suggests Rio is prepared to play hardball to retain its stake in the project,” Richard Knights, a mining analyst at Liberum Capital Ltd. in London, said yesterday.

The mine may contribute 2.2 percent of the company’s earnings before interest, tax depreciation and amortization this year, Knights said. Rio’s 2013 Ebitda will be $22.2 billion, according to the average of 25 analysts’ estimates compiled by Bloomberg.

Strategic Assets

Any delay in reaching commercial production may increase pressure on copper prices. The metal will advance 7.6 percent in 2013 as demand in China, the U.S. and Europe rises amid a supply deficit, Morgan Stanley said in a Jan. 24 report. Global demand will exceed supply by 17,000 metric tons in 2013, the fourth straight annual deficit, according to the bank.

Foreign investment in Mongolia, which relies on minerals for more than 90 percent of its exports, has cooled since a law last year restricted state-owned companies from controlling strategic assets. The nation of 2.8 million people broke off from Communist rule and dependence on the Soviet Union in 1990.

The government said in 2011 it wanted to boost its stake in Oyu Tolgoi to 50 percent from 34 percent as well as change royalty payments.

Those demands highlight the risks from so-called resource nationalism that global mining companies face in the developing world. The issue is a top concern for mining companies, along with skill shortages, infrastructure access and costs, according to a report from Ernst & Young last year.
Resource Nationalism

The Democratic Republic of Congo, Poland, Peru and the U.S. are among other countries that have either proposed or imposed tax or royalty gains on mineral projects in 2011 or the first half of 2012, E&Y said.

The escalating dispute with Mongolia also comes at a time of upheaval at the company. Rio said Jan. 17 it appointed Sam Walsh as chief executive officer to replace Tom Albanese, who left after the company took $14 billion of writedowns on aluminum and coal assets.

Rio has a 51 percent interest in Vancouver-based Turquoise Hill, formerly known as Ivanhoe Mines Ltd., which holds a 66 percent stake in Oyu Tolgoi. Ivanhoe spent more than six years negotiating with Mongolia before reaching the deal on development in 2009.

Any suspension of operations at the project won’t be permanent partly because if Rio took that course it would then forfeit certain rights to the project under the terms of the government accord, one of the people said.

Rio is considering expanding the mine and expects to conclude a study of the proposal in the first half of this year. The expansion would involve building an underground mine, a power station and enlarging the concentrator. The work may cost $5.1 billion, Turquoise Hill said in a March report.

To contact the reporters on this story: Christopher Donville in Vancouver at cjdonville@bloomberg.net; Todd Baer in Mongolia (NON BLP LOC) at tbaer6@bloomberg.net; Yuriy Humber in Tokyo at yhumber@bloomberg.net

To contact the editors responsible for this story: Andrew Hobbs at ahobbs4@bloomberg.net; Simon Casey at scasey4@bloomberg.net; Jason Rogers at jrogers73@bloomberg.net