Mongolia losing its resources luster as Ulaanbaatar scares investors
October 14, 2013 - As some tell it, the Mongolian capital of Ulaanbaatar used to be full of bankers and consultants all trying to get a piece of the action in a country expected to become a serious resources player.
But the landlocked central Asian country has noticeably lost its allure in recent times. Delegate numbers at two Mongolia's flagship investment conferences held in September -- Invest Mongolia and Discover Mongolia -- were well down on previous years, according to sources who attended the events.
While investment appetite in global commodities has been subdued generally over the past 18 months or so, Mongolia has its own set of discreet problems, some of which appear to be self-inflicted.
These have undermined investor confidence in the country's resources sector and are curbing development of its metallurgical coal and iron ore sectors.
Analysts say foreign investor confidence in Mongolia will not fully return until the deadlock is broken regarding Rio Tinto's Oyu Tolgoi copper-gold mine, which is widely regarded as the country's bellwether resources project.
Rio Tinto mothballed development of the major (stage 2) underground component of the mine in August because it was unable to agree investment and revenue terms with the Mongolian government.
ResCap analysts said in a September research note that Mongolia's options for receiving significant injections of foreign direct investment (FDI) would be "extremely limited" until the Oyu Tolgoi issues had been resolved --"particularly given the current weak coal price environment, depreciating currency, long list of other issues and the global economic environment."
According to Independent Mongolian Metals & Mining Research, FDI has plunged 45% -- August 2013 versus August 2012 -- and Mongolia is burning through its foreign reserves to keep the economy afloat. (See related chart: Mongolian foreign direct investment (mil mt): January 2011 - July 2013)
David Paull, managing director of Aspire Mining, which is developing the Ovoot coking coal project in northern Mongolia, described Rio's Oyu Tolgoi project as the "single biggest driver of sentiment" on Mongolia, and said the lack of progress had hurt the share price of all miners operating in the country. But he said the government has been broadly supportive of Aspire's project, which could become a 5 million mt/year operation in 2017.
Other important issues that need resolving include proposed changes to the country's mining laws and the status of 106 license holders, who at the start of 2013 lost their rights to undertake exploration work on the affected areas.
This latter case has affected 66 local and 11 overseas companies, and is understood to include international metallurgical coal companies such as SouthGobi Resources and Gobi Coal & Energy.
The 106 mining licenses -- which cover an area six times the size of that already subject to active mining licenses -- were deemed by the new government to have been awarded illegally by officials belonging to the previous administration, and therefore must be resubmitted for competitive tender.
At this stage there is no timeline for when this may occur and it leaves the current owners of the licenses in a state of limbo, unable to advance their projects.
Sam Spring, who covered a number of Mongolian projects as an analyst before taking on the role of president and CEO of Kincora Copper, said companies affected by the halt to exploration had been "caught up in a criminal court case that is treating [the situation] like an administrative court matter, and acting outside of its jurisdiction."
"Security of tenure and a transparent legal system are key cornerstones for both domestic and foreign investment and as such this matter has far greater potential repercussions than just the exploration activities on 106 licenses, or the possibility of incorrect or corrupt activities of a few former government officials," he said.
"No one knows what's going on and it means a whole season of exploration will be lost," Spring added.
While the outcome for the 106 mining licenses remains fuzzy, the market is hoping for more positive news on the contentious mining law changes when the Mongolian parliament returns for its autumn session.
President Tsakhiagiin Elbegdorj told the World Economic Forum Strategic Dialogue on Future of Mongolia in Ulaanbaatar in September that he had decided to "take his hands off the law on minerals."
This was interpreted by some as acknowledgment that the mining law drafted in January -- which included proposals to raise the tax rate on strategic deposits above 50% and give the Mongolian government ownership of up to 34% of projects -- was unworkable and deterring investment.
Independent Mongolian Metals & Mining Research analyst Dale Choi said in a September 16 note that the existing minerals laws, dating from 2006, were likely to be retained.
But an irregular parliamentary session that ran from September 16 through September 27, which was expected to address the issues and calm investor nerves, came and went without any changes being made.
Shanghai-based CLSA analyst Ian Roper believes the Mongolian government became too arrogant and demanding of mining firms. Its populist stance resulted in a strong statements that scared off potential investors.
"It's not a stable investment environment when you don't know what the mining regulations or changes to taxes will be from one year to the next," he said.
Coal exports falling
In the meantime, the country's coal exports are falling. The latest data from the International Monetary Fund shows that Mongolia's coal exports of 9.6 million mt over the first eight months of 2013 were down 22% on the same period in 2012, while the value halved due to weaker coal prices.
In 2010, Mongolia's coking coal exports to China jumped 135% compared with 2009 to 16.8 million mt, overtaking Australia's for the first time, and seemingly putting the country in pole position to become China's major supplier of the steelmaking raw material.
The country exported around 21 million mt of coal to China in both 2011 and 2012, but numbers are down this year, as is the price, leaving a significant black hole in the government's 2013 fiscal budget. (See related table: China's metallurgical coal import sources)
This is due in part to financial problems at state-owned Erdenes Tavan Tolgoi (ETT), which operates the existing Tavan Tolgoi mine.
ETT's exports to China's Chalco were suspended when it was unable to pay its logistics provider.
The Mongolian government had to bail out ETT and renegotiate terms with Chalco, which some sources said did not go down well with the Chinese company. ETT is understood to be receiving just $53/mt for coking coal that costs it $61/mt to get to market.
The other larger coking coal deposit at Tavan Tolgoi -- which contains 2-2.5 billion mt of coking coal resources -- has also remained in a state of limbo, despite a consortium consisting of Peabody Energy, China's Shenghua Energy and Russian companies being chosen by Ulaanbaatar in 2011 to develop the deposit. (See related map: Major coal deposits in Mongolia)
In late 2011, the Mongolian government postponed a multi-billion dollar initial public offering for a portion of ETT, despite the IPO being well supported.
CLSA's Roper points out that most of the coking coal produced in Mongolia is semi-soft rather than hard coking coal. "Coal companies use the argument that their projects are next door to China, but they're next door to China's major coal producing regions, and China has plenty of semi-soft coal already," he says.
"Hard coking coal prices have recovered recently, but semi-soft prices have stayed where they are," Aspire's Paull said.
Hong Kong-listed Mongolian Mining Corp. (MMC) -- which was recently downgraded by Standard & Poor's -- does produce some higher quality HCC, and its exports to China in the first six months of 2013 comprised around 42% of Mongolia's total coal exports, according to the country's National Statistics Office. S&P, like Platts, is a division of McGraw Hill Financial.
Washed coal accounted for 87.3% of MMC's total coal revenues of $247.8 million in the first half of 2013. It received an average price of $98.70/mt for its washed hard coking coal over the six-month period, compared with $138.70/mt in the same period in 2012.
Most Mongolian coking coal arrives at the Chinese border unwashed and receives a discount compared with Chinese domestic and seaborne coking coal. Compounding this is the fact that Mongolian producers have the highest costs globally due to the complicated logistics involved in getting Mongolian coal into China. CLSA estimates Mongolia's average operating costs at around $160/mt.
Sources with knowledge of MMC said freight costs to the Chinese border alone are around $22/mt and the frequent handling of the coal, due to a lack of rail infrastructure and integrated border crossings, also reduces its quality characteristics.
Paull said construction of a proposed new rail line from Tavan Tolgoi to the Chinese border would help bring down operating costs over the longer term. But Kincora's Sam Spring noted that the Mongolian government, which is expected to fund the railway, had yet to decide if it would use Russian or Chinese rail gauge.
And at a time of weak coking coal prices, Mongolia's high cost coal supply has been uncompetitive with higher quality imports.
Rio Tinto chief executive Sam Walsh recently said that Chinese metallurgical coal production had become much more competitive on cost -- following several years of consolidation -- with imported coal.
In addition, the world's biggest coal buyers, China and India, have more supply choices these days with the shale gas revolution in the US forcing that country's coal producers to seek new export markets.
Iron ore exports flat
Mongolia is also a fledgling producer of iron ore, but is struggling to lift its output. The IMF data shows Mongolia's iron ore exports of 4.3 million mt in January-August were flat to 2012's while the value had increased 24% to $442 million. (See related table: Mongolian coking coal and iron ore exports)
Some analysts have predicted that Mongolia could export around 30-40 million mt/year by the end of the decade.
Exports of the country's magnetite ore to China have risen quickly, reaching an annualized 6.5 million mt/year in 2012 from just 200,000 mt in 2007, according to the National Statistics Office of Mongolia.
Historically, little iron ore exploration was carried out in Mongolia as the former Soviet Union, which ran the country until 1990, did not require iron ore in the way that China does now.
Iron ore developers cite the deteriorating ore quality in China and northwestern Chinese mills' lack of access to imported ore as key benefits.
Eruu Gol is currently the leading iron ore miner in Mongolia, producing 3 million mt/year of magnetite concentrate grading slightly over 60% Fe. Sources said it costs Eruu Gol around $55/mt to mine and transport iron ore to the Chinese border.
Like all emerging regions, infrastructure remains a challenge due to a long history of underinvestment. The Trans Mongolian railway has nameplate capacity of 32 million mt/year, but actual capacity is believed to be around 23 million mt/year. Eruu Gol will use up more capacity on the railway once it lifts production to 6 million mt/year.
The state-owned Tumurtei project is targeting output of 3 million mt/year by 2014 and would also need to use the network.
The more southerly Tumur Tolgoi iron ore project, owned by Darkhan Metallurgical Plant, currently produces 300,000 mt/year and sells to a Chinese logistics company in a mine-gate sale arrangement.
Australian-listed FE Ore Ltd expects to be producing iron ore within the next two years from its Ereeny Iron Deposit in the Mandalgovi province of Mongolia, 60 km from the railway.
Haranga Resources, which is also listed in Australia, is scoping the Selenge iron ore project in northern Mongolia, named after the province in which it is located. It is 15 km from Eruu Gol's project and 20-30 km from two Trans Mongolian railway spur lines.
Like coking coal, iron ore exports are hampered by bottlenecks at the Chinese border because China uses a different rail gauge to the Soviet-built Mongolian system.
As a result, there are delays as wheel gauges are changed or else ore is dumped on stockpiles and shifted by front-end loaders. Smaller iron ore producers in the South Gobi region of Mongolia truck their ore across the border.
So the next few months would appear to be critical for Mongolia's resources development, with the investment community looking for positive statements from the government on Oyu Tolgoi, the 106 revoked licenses and the mining law legislation, among other issues.
Until then much exploration and development will remain on hold, ceding the market share advantage to other emerging and established regions.
"Even with all the challenges, the geology hasn't changed; Mongolia still has some of the best deposits in the world, is one of the last underexplored frontiers and it's on China's doorstep," Kincora's Sam Spring said.
This article first appeared in the October issue of Steel Raw Materials Monthly.
Mongolian coking coal and iron ore exports (mil mt)
Source: National Statistics Office of Mongolia, IMF
But the landlocked central Asian country has noticeably lost its allure in recent times. Delegate numbers at two Mongolia's flagship investment conferences held in September -- Invest Mongolia and Discover Mongolia -- were well down on previous years, according to sources who attended the events.
While investment appetite in global commodities has been subdued generally over the past 18 months or so, Mongolia has its own set of discreet problems, some of which appear to be self-inflicted.
These have undermined investor confidence in the country's resources sector and are curbing development of its metallurgical coal and iron ore sectors.
Analysts say foreign investor confidence in Mongolia will not fully return until the deadlock is broken regarding Rio Tinto's Oyu Tolgoi copper-gold mine, which is widely regarded as the country's bellwether resources project.
Rio Tinto mothballed development of the major (stage 2) underground component of the mine in August because it was unable to agree investment and revenue terms with the Mongolian government.
ResCap analysts said in a September research note that Mongolia's options for receiving significant injections of foreign direct investment (FDI) would be "extremely limited" until the Oyu Tolgoi issues had been resolved --"particularly given the current weak coal price environment, depreciating currency, long list of other issues and the global economic environment."
According to Independent Mongolian Metals & Mining Research, FDI has plunged 45% -- August 2013 versus August 2012 -- and Mongolia is burning through its foreign reserves to keep the economy afloat. (See related chart: Mongolian foreign direct investment (mil mt): January 2011 - July 2013)
David Paull, managing director of Aspire Mining, which is developing the Ovoot coking coal project in northern Mongolia, described Rio's Oyu Tolgoi project as the "single biggest driver of sentiment" on Mongolia, and said the lack of progress had hurt the share price of all miners operating in the country. But he said the government has been broadly supportive of Aspire's project, which could become a 5 million mt/year operation in 2017.
Other important issues that need resolving include proposed changes to the country's mining laws and the status of 106 license holders, who at the start of 2013 lost their rights to undertake exploration work on the affected areas.
This latter case has affected 66 local and 11 overseas companies, and is understood to include international metallurgical coal companies such as SouthGobi Resources and Gobi Coal & Energy.
The 106 mining licenses -- which cover an area six times the size of that already subject to active mining licenses -- were deemed by the new government to have been awarded illegally by officials belonging to the previous administration, and therefore must be resubmitted for competitive tender.
At this stage there is no timeline for when this may occur and it leaves the current owners of the licenses in a state of limbo, unable to advance their projects.
Sam Spring, who covered a number of Mongolian projects as an analyst before taking on the role of president and CEO of Kincora Copper, said companies affected by the halt to exploration had been "caught up in a criminal court case that is treating [the situation] like an administrative court matter, and acting outside of its jurisdiction."
"Security of tenure and a transparent legal system are key cornerstones for both domestic and foreign investment and as such this matter has far greater potential repercussions than just the exploration activities on 106 licenses, or the possibility of incorrect or corrupt activities of a few former government officials," he said.
"No one knows what's going on and it means a whole season of exploration will be lost," Spring added.
While the outcome for the 106 mining licenses remains fuzzy, the market is hoping for more positive news on the contentious mining law changes when the Mongolian parliament returns for its autumn session.
President Tsakhiagiin Elbegdorj told the World Economic Forum Strategic Dialogue on Future of Mongolia in Ulaanbaatar in September that he had decided to "take his hands off the law on minerals."
This was interpreted by some as acknowledgment that the mining law drafted in January -- which included proposals to raise the tax rate on strategic deposits above 50% and give the Mongolian government ownership of up to 34% of projects -- was unworkable and deterring investment.
Independent Mongolian Metals & Mining Research analyst Dale Choi said in a September 16 note that the existing minerals laws, dating from 2006, were likely to be retained.
But an irregular parliamentary session that ran from September 16 through September 27, which was expected to address the issues and calm investor nerves, came and went without any changes being made.
Shanghai-based CLSA analyst Ian Roper believes the Mongolian government became too arrogant and demanding of mining firms. Its populist stance resulted in a strong statements that scared off potential investors.
"It's not a stable investment environment when you don't know what the mining regulations or changes to taxes will be from one year to the next," he said.
Coal exports falling
In the meantime, the country's coal exports are falling. The latest data from the International Monetary Fund shows that Mongolia's coal exports of 9.6 million mt over the first eight months of 2013 were down 22% on the same period in 2012, while the value halved due to weaker coal prices.
In 2010, Mongolia's coking coal exports to China jumped 135% compared with 2009 to 16.8 million mt, overtaking Australia's for the first time, and seemingly putting the country in pole position to become China's major supplier of the steelmaking raw material.
The country exported around 21 million mt of coal to China in both 2011 and 2012, but numbers are down this year, as is the price, leaving a significant black hole in the government's 2013 fiscal budget. (See related table: China's metallurgical coal import sources)
This is due in part to financial problems at state-owned Erdenes Tavan Tolgoi (ETT), which operates the existing Tavan Tolgoi mine.
ETT's exports to China's Chalco were suspended when it was unable to pay its logistics provider.
The Mongolian government had to bail out ETT and renegotiate terms with Chalco, which some sources said did not go down well with the Chinese company. ETT is understood to be receiving just $53/mt for coking coal that costs it $61/mt to get to market.
The other larger coking coal deposit at Tavan Tolgoi -- which contains 2-2.5 billion mt of coking coal resources -- has also remained in a state of limbo, despite a consortium consisting of Peabody Energy, China's Shenghua Energy and Russian companies being chosen by Ulaanbaatar in 2011 to develop the deposit. (See related map: Major coal deposits in Mongolia)
In late 2011, the Mongolian government postponed a multi-billion dollar initial public offering for a portion of ETT, despite the IPO being well supported.
CLSA's Roper points out that most of the coking coal produced in Mongolia is semi-soft rather than hard coking coal. "Coal companies use the argument that their projects are next door to China, but they're next door to China's major coal producing regions, and China has plenty of semi-soft coal already," he says.
"Hard coking coal prices have recovered recently, but semi-soft prices have stayed where they are," Aspire's Paull said.
Hong Kong-listed Mongolian Mining Corp. (MMC) -- which was recently downgraded by Standard & Poor's -- does produce some higher quality HCC, and its exports to China in the first six months of 2013 comprised around 42% of Mongolia's total coal exports, according to the country's National Statistics Office. S&P, like Platts, is a division of McGraw Hill Financial.
Washed coal accounted for 87.3% of MMC's total coal revenues of $247.8 million in the first half of 2013. It received an average price of $98.70/mt for its washed hard coking coal over the six-month period, compared with $138.70/mt in the same period in 2012.
Most Mongolian coking coal arrives at the Chinese border unwashed and receives a discount compared with Chinese domestic and seaborne coking coal. Compounding this is the fact that Mongolian producers have the highest costs globally due to the complicated logistics involved in getting Mongolian coal into China. CLSA estimates Mongolia's average operating costs at around $160/mt.
Sources with knowledge of MMC said freight costs to the Chinese border alone are around $22/mt and the frequent handling of the coal, due to a lack of rail infrastructure and integrated border crossings, also reduces its quality characteristics.
Paull said construction of a proposed new rail line from Tavan Tolgoi to the Chinese border would help bring down operating costs over the longer term. But Kincora's Sam Spring noted that the Mongolian government, which is expected to fund the railway, had yet to decide if it would use Russian or Chinese rail gauge.
And at a time of weak coking coal prices, Mongolia's high cost coal supply has been uncompetitive with higher quality imports.
Rio Tinto chief executive Sam Walsh recently said that Chinese metallurgical coal production had become much more competitive on cost -- following several years of consolidation -- with imported coal.
In addition, the world's biggest coal buyers, China and India, have more supply choices these days with the shale gas revolution in the US forcing that country's coal producers to seek new export markets.
Iron ore exports flat
Mongolia is also a fledgling producer of iron ore, but is struggling to lift its output. The IMF data shows Mongolia's iron ore exports of 4.3 million mt in January-August were flat to 2012's while the value had increased 24% to $442 million. (See related table: Mongolian coking coal and iron ore exports)
Some analysts have predicted that Mongolia could export around 30-40 million mt/year by the end of the decade.
Exports of the country's magnetite ore to China have risen quickly, reaching an annualized 6.5 million mt/year in 2012 from just 200,000 mt in 2007, according to the National Statistics Office of Mongolia.
Historically, little iron ore exploration was carried out in Mongolia as the former Soviet Union, which ran the country until 1990, did not require iron ore in the way that China does now.
Iron ore developers cite the deteriorating ore quality in China and northwestern Chinese mills' lack of access to imported ore as key benefits.
Eruu Gol is currently the leading iron ore miner in Mongolia, producing 3 million mt/year of magnetite concentrate grading slightly over 60% Fe. Sources said it costs Eruu Gol around $55/mt to mine and transport iron ore to the Chinese border.
Like all emerging regions, infrastructure remains a challenge due to a long history of underinvestment. The Trans Mongolian railway has nameplate capacity of 32 million mt/year, but actual capacity is believed to be around 23 million mt/year. Eruu Gol will use up more capacity on the railway once it lifts production to 6 million mt/year.
The state-owned Tumurtei project is targeting output of 3 million mt/year by 2014 and would also need to use the network.
The more southerly Tumur Tolgoi iron ore project, owned by Darkhan Metallurgical Plant, currently produces 300,000 mt/year and sells to a Chinese logistics company in a mine-gate sale arrangement.
Australian-listed FE Ore Ltd expects to be producing iron ore within the next two years from its Ereeny Iron Deposit in the Mandalgovi province of Mongolia, 60 km from the railway.
Haranga Resources, which is also listed in Australia, is scoping the Selenge iron ore project in northern Mongolia, named after the province in which it is located. It is 15 km from Eruu Gol's project and 20-30 km from two Trans Mongolian railway spur lines.
Like coking coal, iron ore exports are hampered by bottlenecks at the Chinese border because China uses a different rail gauge to the Soviet-built Mongolian system.
As a result, there are delays as wheel gauges are changed or else ore is dumped on stockpiles and shifted by front-end loaders. Smaller iron ore producers in the South Gobi region of Mongolia truck their ore across the border.
So the next few months would appear to be critical for Mongolia's resources development, with the investment community looking for positive statements from the government on Oyu Tolgoi, the 106 revoked licenses and the mining law legislation, among other issues.
Until then much exploration and development will remain on hold, ceding the market share advantage to other emerging and established regions.
"Even with all the challenges, the geology hasn't changed; Mongolia still has some of the best deposits in the world, is one of the last underexplored frontiers and it's on China's doorstep," Kincora's Sam Spring said.
This article first appeared in the October issue of Steel Raw Materials Monthly.
Mongolian coking coal and iron ore exports (mil mt)
| 2007 | 2008 | 2009 | 2010 | 2011 | 2012 | |
| Coal | 3.2 | 4.2 | 7.1 | 16.8 | 21.1 | 20.9 |
| Iron ore | 0.2 | 1.1 | 1.6 | 3.6 | 5.8 | 6.5 |
| January - August | ||
| Coal | 12.3 | 9.6 |
| Iron Ore | 4.3 | 4.3 |
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