May 23, 2012
June promises to be a crucial month for the country that has become the darling of the emerging market investment community, as Mongolia goes to the polls and the parliament looks to pass a bill that will limit foreign investment in the booming mining industry.
The two are of course related. In the run-up to the June 28 parliamentary elections, Mongolian politicians have indulged themselves in a bout of resource nationalism that always goes down well in this country of 2.8m people, especially if it involves bashing China, the country's giant neighbour that Mongolians regard with some suspicion for historical reasons.
Plans to develop Mongolia’s Tavan Tolgoi coal deposit, one of the world’s largest, have stalled ahead of the June elections. Prime Minister Sukhbaatar Batbold said in March that talks with companies including Peabody Energy Corp., Russian Railways, and China’s Shenhua Group to develop the West Tsankhi part of Tavan Tolgoi had "stopped." Jitters over Mongolia's path picked up in April when former Mongolian president and current opposition leader, Enkhbayar Nambar, was arrested on corruption charges. Three days later, on April 16, the Mineral Resource Authority of Mongolia suspended the mining licenses of SouthGobi Resources after learning that the Chinese state-run Chalco had agreed with majority owner Ivanhoe Mines to buy a 58% stake in the company.
"This contract should be terminated immediately," said Jargalsaikhan Dambadarjaa, economist and local talk show host. "If someone doesn't disrupt the SouthGobi Sands deal, it will become Chinese property."
Such rhetoric has had politicians scrabbling to outdo each other in proving to the electorate who is best placed to protect the Mongolian people's interests. "It does seem that it was the introduction of Chalco that began the uproar in large part because, as Mongolia develops, foreign ownership and extraction of resources is a sensitive issue, particular at the height of election season. But it's important to remember that Mongolians do not look at all foreign actors in the same way," says Chris Ackerman, investor relations manager for Prophecy Coal Corp., a Canadian firm developing a 4,200-megawatt power plant project in Mongolia.
Billed as restrictive
The main fallout will come in the form of new legislation governing the country's ample mineral resources, the production of which is bringing in a flood of investment and fuelling economic growth in the double digits. On May 10, the stats office revealed that Mongolia enjoyed its best quarter in a decade when first-quarter GDP growth came in at 16.7% on year. In nominal terms, GDP growth rate stood at 30.2% on year in the quarter. Mining sector output, the largest component in industrial output, grew 10.1% on year, with coal output up 10.3% to almost 10m tonnes, crude oil up 59.8% to 1.1m barrels, iron ore up 44% to 1.5m tonnes, and zinc concentrate up 24.6% to 43,100 tonnes.
The new resources bill, on course to be passed by parliament in June, is designed to limit foreign companies from controlling key assets. It will obligate international players to request permission from the Mongolian government before acquiring majority stakes in "strategic" companies. Analysts say that the latest draft of the law states that if a foreign entity wants over 49% of one of these assets, they must ask permission first. But if that foreign entity is state owned, they must ask permission when acquiring more than 1%.
The big unknown is what will be defined as "a strategic asset". Analysts say this has always been unclear in Mongolia, often making this a significant risk on prospectuses and due diligence reports for investors in the country, and this draft bill gives no further clarity on the definition, but may broaden it to include companies of a certain size in more sectors.
The latest draft of the law is a significantly softened version of the first, deleting a clause that grouped any company over MNT100bn (€59m) into the "strategic" column, and removing some of the "strategic" sectors from the list. "The final draft may relax these conditions further before being passed," says Oliver Belfitt-Nash, head of research at Monet Capital in Ulaanbaatar.
While not as aggressive as it once was, even so the bill continues to raise the hairs on the back of investors' necks. "I expect the law will not be retroactive and will not be able to affect Chalco's bid on SouthGobi, but may create an extra step for similar deals in the future," says Belfitt-Nash.
In general, though, most expect things to calm down once the election passes, with the politicians getting back down to trying to make Mongolia a good place to business and attract the level of investment needed to revamp the country's sclerotic and in many cases simply absent transport, energy and social infrastructure. "An election cycle tends to lead to a significant amount of polarisation and political posturing, as evidenced recently in France and as the US presidential elections draw closer," says Prophecy Coal's Ackerman. "In the case of Mongolia, once the dust settles, I think its leaders will get back to the business of running a country experiencing dramatic growth and really on the verge of becoming a very significant regional player."
Ackerman goes on to say that it's important to bear in mind that there are fundamental differences among foreign investment projects in that country. "In the case of Prophecy, for example, the coal resources are being harnessed to create energy for domestic consumption," he says. "In other words, rather than extracting resources for export, we are focused on facilitating the development of those resources purely for the benefit and use of Mongolian residents."