Monday, February 17, 2014

Leaks highlight investor worries about Mongolian banks

Leaks to international media about investor concerns with management at Mongolia's third largest bank have again called into question the level of governance that exists in the country's financial sector, which has suffered three bank failures since 2008.

Golomt Bank on February 12 responded to what it claimed were “misleading and false allegations” in the press about the standard of governance at the bank, and that it does not have any shareholders seeking loan repayments.

Golomt Bank found itself in the headlines in January and February when media published documents purportedly showing serious failings at the bank and a fund under the control of Abu Dhabi Investment Council, Stanhope Capital, was moving to cancel early its $25m debt agreement with Golomt, citing poor management and a breach of their investment agreement.

The Reuters report that first broke the story on January 27 came four months after Moody's Investors Service withdrew its credit rating of the bank, explaining "it currently does not have sufficient or otherwise adequate information to support the maintenance of the rating."

Both Abu Dhabi Investment Council and Switzerland's Credit Suisse have accused Golomt of violating lending terms by failing to have their 2012 financial results audited by a top-four global accounting firm – instead pursuing audit results from the world's fifth-largest auditor, BDO. The two investors are seeking the return of loans and have engaged in arbitration proceedings over loans made to the bank, Bloomberg reported on February 5.

The main point of disagreement centres around letters of credit guaranteeing payment on behalf of Mongolian gold miner Altan Dornod to Japan's Itochu Corp for mining equipment – issues that Golomt claims have long been resolved. According to the February 12 statement from Golomt, reports also misrepresented Credit Suisse's investment, which it says was a $10m convertible bond that has since been repaid. "Golomt Bank does not have any shareholders seeking repayment of loans, these are equity investments in our bank and none of our investors have signalled any intent to leave the bank," the statement said.

Golomt's CEO Galsan Ganbold said in an interview translated and published in that the reports appearing in the media were "biased". But media bias does not explain why Bloomberg reported February 5 that Golomt's management never alerted its board to guaranteed payments to Itochu that allegedly exceeded share capital when made in 2007 and 2008. There is also the matter of management figures still reportedly working in the bank who allegedly deleted banking records and emails.

A founding partner of the Bodi Group holding company that owns Golomt has also had a row with management. Last April, Luvsanvadan Bold, who also serves as the country's top diplomat as minister of foreign affairs, had his lawyer write an official letter of complaint to the governor of Mongolia's central bank about these issues after reviewing a report by FSI Capital. In the end, Bold and his partners restructured the ownership of Bodi so that Bold's interest was removed from the bank.

When loans go bad

A lack of restraint within management has cost banks dearly in the past. Last year Mongolia saw Savings Bank fail – the third bank to collapse in the country since 2008. bne reported in August that before the Savings Bank's collapse, Anod Bank filed for bankruptcy in 2008 followed by Zoos Bank 2009. Anod and Zoos both folded because the Mongolian firm Mongol Gazar had defaulted on loans that used the Olon Ovoot gold mine as collateral.

The Savings Bank failure, too, was a result of a bad deal with Mongol Gazar, which sold the Olon Ovoot gold mine to the bank's parent company, Just Group. The Olon Ovoot mine failed to produce as much gold as Just Group head Sh. Batkhuu had expected, leaving Just Group unable to repay a $109m loan to Standard Bank. Mongolia's government subsequently absorbed Savings Bank into government-owned State Bank.

The brouhaha surrounding Just Group prompted the rating agency Fitch to say in a statement: "We believe that much greater rigour is needed in implementing existing related-party/concentration limits to maintain financial stability, as Mongolia's volatile economy could suffer from rapid credit deterioration."

Observers note that the lack of discipline is symptomatic of a market still developing just two and half decades after transitioning to a market economy. "They don't have clear guidelines," says Michael Preiss, a guest lecturer for the Banking and Finance Academy of Mongolia. "Then you have middle management which doesn't know how to go about these things in a procedural way."

Given that the $25m loan from the Abu Dhabi fund represents just 1% of Golomt's assets, the bank looks to be clear of any present danger. However, the bank will need to overhaul its governance structure to prevent any future disaster.

In January, Golomt's board made two new appointments, with former Deutsche Bank banker Luvsandorj Bolormaa taking on the role of chief investment officer and executive vice president, while former Asia Foundation Country director Chultem Munkhtsetseg was appointed chairman. "Changes on the Board are allowing us to better pursue our strategy of becoming a public company which is at the epicenter of the growing Mongolian economy," said Ganbold in the February 12 statement.

The bank also in February joined the Asian Financial Corporation Association, a regional group that claims to help members maintain compliance with standards and address risks.

Pulling in investment

The banks in Mongolia will have to clean up their image if they are to pull in the investment needed to keep up with Mongolia's rapid pace of growth. Tight liquidity has been a recurring problem in Mongolia, with Moody's naming it as a likely issue in an April 2013 outlook on the country's banking system.

Preiss, who is also managing partner at Mongolia Asset Management, said although the bad press won't be doing Golomt any favours, it really shouldn't be the final word on the bank. "The franchise is quite profitable. Overall it's a good bank," he says. "Investors will do their own due diligence and look at the case for themselves."

Mongolia's banks will also increasingly have to compete with foreign entrants to the market. Bank of China and Japan's Sumitomo Mitsui Banking Corporation have opened representative offices within the past six months, while Bank of Tokyo-Mitsubishi UFJ and Standard Chartered have also applied to open their own branches in the capital. ING was the first foreign bank to set up shop here, last year observing its five-year anniversary.

Still, those banks are at a decided disadvantage to the local banks, according to a note from the Ulaanbaatar branch of the global law firm Hogan Lovells. "With respect to the entry of foreign banks into the Mongolian market, the Bank Licensing Regulations impose greater restrictions," reads a July 2012 note on updates made to the country's banking law. The note says Mongolian law prohibits representative offices from profit making, and that those offices must be in operation a year before they can establish Mongolian subsidiaries. They are also expected to have a minimum share capital of $50m, "which is much higher than the minimum capital requirement [$12m] for an existing Mongolian bank."

With such controls in place, foreign banks might prefer to buy into existing local banks rather than open their own subsidiaries. Bringing international practices to their new acquisitions would in itself help solve the current problems with transparency and governance.

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