Recent news around Mongolia regarding so called “resource-nationalism” and Rio Tinto’s strong position against re-negotiation request by the Mongolian government is being reported and reviewed by major international news agencies. However, in order to understand the problem it is helpful to get familiar with the project. Business Mongolia has done a research to bring a comprehensive introduction of the project along with the recent developments around it. The analysis came from the sources widely open to the public.
The Oyu Tolgoi Investment Agreement between the Mongolian government and world’s second biggest mining company Rio Tinto, and its’ subsidiary Turquoise Hill Resources Inc. (formerly Ivanhoe Mines Inc.) was signed back in 2009. At the time Oyu Tolgoi deposit licenses were owned by Ivanhoe Mines Mongolia Inc. LLC – owned 100% by the Ivanhoe Mines Inc. In order to commence the project under the Investment Agreement Mongolian government and the investors have changed the license holder’s name into perhaps more politically suitable Oyu Tolgoi LLC. The 34% of Oyu Tolgoi LLC is owned by Mongolian government through state-owned company Erdenes Oyu Tolgoi LLC, and the other 66% is owned by Turquoise Hill Resources Inc. through its’ subsidiaries Ivanhoe Oyu Tolgoi BVI in Virgin Islands, and Oyu Tolgoi Netherlands BV in Netherlands for tax and financing purposes. Finally, the world’s biggest untapped copper-gold mine was set for development.
Tax-prepayment and government bond
In addition to the Investment Agreement and Shareholder’s Agreement there are few more agreements. It is tax-prepayment and government bond purchase agreement. Tax prepayment is USD150 million and bond is USD100 million. The total sum of USD250 million was understood to the public as a prepayment to the Mongolian government.
The shareholder’s agreement clearly states Turquoise Hill Resources Inc. or its’ affiliates will carry out the day-to-day management of the company without any involvement from the government. The management fee or the cost of managing the mine development is 3% of the capex plus opex till the production day, and 6% after the commencement of the production. According to Oyu Tolgoi LLC, the scheduled production day will be reached Q2 of 2013.
In December 2011 Rio Tinto won the arbitration process against Ivanhoe’s shareholder-rights plan or poison-pill and acquired Ivanhoe’s 2% on top of its’ 49% ownership in the company earlier in 2012. The shares were purchased on an open market after the cap of 49% was no longer valid. The strategy has changed since then, and Ivanhoe Mines Inc.’s name was changed to Turquoise Hill Resources (TRQ). Major changes occured in the board and a former Rio Tinto senior officer Kay Priestley took over the CEO position. Changes occurred in the Oyu Tolgoi LLC as well, replacing the expats from TRQ with Rio Tinto’s.
According to the Investment Agreement the planned initial investment for the project is USD4 billion. However, as end of 2012 the invested amount totalled over USD6.6 billion. Also, there are 2 quarters to go to hit the production day.
The cost of the project to the Mongolian government is a tricky one. Although, Mongolian government owns 34% of the project, it is not a free carry. Initial Shareholder’s agreement stated that the shareholder loan will have interest 9.9%+USCI. The parties made an amendment to the agreement and it is effectively 6.5+LIBOR from last year. Mongolian government will have to either invest into the project to avoid the interest or pay it back to the investors by future dividends.
Government of Mongolia
If we carefully analyze what has been discussed in the Mongolian parliament earlier February, 2012 we can understand the concerns clearly. In last year’s parliamentary election we had many candidates calling for higher share in the project and better return. After the election the newly appointed mining minister Mr. D. Gankhuyag stated that he would resign if he fails to amend or re-negogiate the Investment Agreement. Although, he changed his position slightly after that, Mongolian government is still pushing for re-negotioation.
The concerns of Mongolian government is understandable. The enormous capital intensive mining project was new to Mongolia. In addition to the inexperience, Mongolian government will have to pay for 34% share plus interest if it chooses not to invest billions of dollars pari-passu. In the other hand, investing directly without having representations in the day-to-day activities and operations of the project is commercially unacceptable. Mr. Ts. Sedvanchig, Executive Director of Erdenes Oyu Tolgoi LLC has stated in parliamentary session that enough information has not been provided to support the increase in investment and the change in approved feasibility study which requires the approval of Minerals Council.
After the Oyu Tolgoi LLC shareholders meeting attended by the senior officers of Rio Tinto and number of relevant ministers, Mr. N. Batbayar, Economic Development Minister told the press that the investors complained about the parliamentary session and its’ reflection to the general public of Mongolia. His response was that Mongolia is a democratic country and it is open for the parliament to discuss, and public to have an opinion.
Mongolian government also wants to have representations in the project company’s executive level and same pay-rate for local Mongolian professionals as expats. Mr. President Ts. Elbegdorj mentioned in the parliamentary session that Mongolians understand that there are highly skilled expats and their necessary additional costs, but the same level professionals should get same wage as expats.
In addition to the piled problems between the parties, there are two more issues. One is the Entrée Gold’s surrounding license profit arrangement and the other is 2% royalty to be paid to Turquoise Hill Resources from Oyu Tolgoi LLC. The Entrée arrangement seems to go back to as far as 2004. It is the same company that has been blamed by the Minerals Authority for false statements on their website and got a warning to correct the news back in 2011. The arrangement is Oyu Tolgoi LLC gets 70-80% of the Entrée licensed deposits depending on the depth deeper or above 560 meters. Since, Oyu Tolgoi LLC holds that interest the Mongolian government is holding 34% indirectly. It is a dissatisfaction for Mongolia as it is a group of deposits according to the officer in the Mining Ministry familiar with the matter.
2% royalty payable to Turquoise Hill Resources LLC is a new thing for the Mongolian government. Apparently, the company states that the 2% royalty interest on Oyu Tolgoi licenses had been bought from BHP Billiton back in 2003. However, the royalty is now claimed by Turquoise Hill Resources LLC from Oyu Tolgoi LLC which was its’ 100% owned subsidiary company at the time.
All these arrangements and contractual agreements would have not come up if there was a newly established company formed by both parties and licenses were re-issued as fresh ones.
The tension is growing and neither of the sides are likely to compromise. The back-door deal mentioned in the Bloomberg News is also unlikely to happen because of the involvement of the president and the upcoming presidential election.