Mongolia Counts on Chinese Rivals to Break Coal Deal Impasse

--Mongolia asks China's largest coal producer Shenhua Energy to step in on coal impasse
--Mongolia in dispute with Chalco over terms of coal-for-loan deal
--Government won't hold IPO for Tavan Tolgoi until mine infrastructure in place

(Adds background on an award and retraction of part of Tavan Tolgoi development rights, mining law amendments the new government has proposed and opposition to such changes) By Chuin-Wei Yap

BEIJING--Mongolia is reaching out to China's largest coal producer, China Shenhua Energy (>> China Shenhua Energy Company Limited) in an effort to break a deadlock over the terms of a souring coal-for-loan deal with another Chinese resource company, Aluminum Corp. of China Ltd. (>> Aluminum Corporation of China Limited), according to Mongolia's ambassador to Beijing, Tsedenjav Sukhbaatar.

China's state-owned resource giants often compete with each other--at least in the early stages--in securing projects, and Mongolia may be counting on the Chinese companies' innate sense of rivalry to prompt renegotiation of an increasingly untenable resource deal.

A deepening disagreement with China, Mongolia's largest trading partner, over the deal highlights moves to regulate foreign investment in the country's fledgling mining sector that could throw into disarray the development of Tavan Tolgoi, potentially the world's largest untapped coal reserve.

State-owned Erdenes-Tavan Tolgoi LLC, which owns the project, has halted coal exports to China in a bid to renegotiate the July agreement, under which Aluminum Corp. of China, also called Chalco, lent Tavan Tolgoi $350 million to be repaid in coal but capped the commodity's price at $70 a metric ton, Mr. Sukhbaatar told The Wall Street Journal.

"Chalco was just using a moment when the government badly needed funding to get a deal that was unacceptable in the sense of normal international trade he said.

The management team at Tavan Tolgoi, appointed last fall by the freshly elected Mongolian government, has repaid nearly two-thirds of the loan, and now wants to change the contract to reflect fluctuating market prices for coal, he said. Coking coal import prices are around $190 a ton, according to the 52Steel.com consultancy, though they were even higher--Russian coal imports cost around $229 a ton including transport and taxes--at the time the Chalco deal was reached.

A failure to come to new terms led, in part, to Tavan Tolgoi being unable to continue to pay for transportation and exportation of the coal to China, he added.

Mongolia may be hoping Shenhua, which is in the running to develop the western half of Tavan Tolgoi, will work to resolve the impasse with an eye on gaining goodwill in its bid for the project.

"What we're trying is to deal with Shenhua as the principal and the biggest coal company" in China, he said. "They have the infrastructure. They are the international company. Chalco has nothing to do with coal."

In July, Ulan Bator awarded rights to develop Tavan Tolgoi's western area to Shenhua, Peabody Energy Corp. and a Mongolia-Russia consortium with 40%, 24% and 36% stakes, respectively. But complaints from competing countries about the bidding process led the government to hastily withdraw the decision. Mongolia hasn't made any final decision on the development rights.

An official in Shenhua's media department said Friday that the company needed to study the issue and had no immediate comment. Chalco said in a prepared statement that it hoped Mongolia would honor all the terms of its agreement, "including confidentiality arrangements." Chalco has also said it dispatched a team in November to Tavan Tolgoi to convey Beijing's views.

Public opposition to the division of the spoils in Mongolia's newfound mining wealth in recent years prompted the new Mongolian government, elected on a crest of resource nationalism last June, to redraw policies seen as overly favoring global mining interests and potentially creating overreliance on China.

But Mr. Sukhbaatar said Friday that the Chalco coal stalemate wasn't tied to any of the proposed changes, which include proposed amendments to the country's mining law. The law, if amended, won't affect existing deals, he said.

The changes essentially would devolve project approval power to local governments and require miners to conduct "at least initial processing" before exporting coal and mineral ores, he added.

Business leaders and investors have been less sanguine about the proposed amendments. The Business Council of Mongolia said in an open letter earlier this month that the changes could "halt current minerals exploration and development in Mongolia and greatly discourage any future investment."

Exports of all other types of Mongolian commodities are proceeding as normal, Mr. Sukhbaatar said.

Tavan Tolgoi isn't likely to hold an initial public offering this year as previously planned, as Ulan Bator would prefer the mine's infrastructure to be in place, which would potentially improve the offer price, he said. Mongolia was initially seeking $3 billion in the IPO.

Write to Chuin-Wei Yap at chuin-wei.yap@wsj.com

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