Hot coal puts risky Mongolia back on the map

February 22, 2011

By John Foley
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

HONG KONG — For a land of nomadic herdsmen, Mongolia is surprisingly savvy at finance. The Central Asian state is about to hire banks to float a stake in its giant Tavan Tolgoi coal field. With coal prices high, the government in Ulan Bator should be able to pay off its debts and cash in without selling a stake to the mega-miners, as is customary. Investors, meanwhile, will have to weigh some unusual risks.

At some 6 billion tonnes, Tavan Tolgoi is one of the world’s largest high-quality untapped coal beds. China, the world’s hungriest consumer, is just 250 km (160 miles) away by land. At the mooted valuation of $15 billion, the mine is worth around 1.5 times Mongolia’s 2009 GDP. Raising a third of that amount would pay off Mongolia’s external debts twice over.
Miners like Rio Tinto, Xstrata and BHP Billiton would love a piece of Tavan Tolgoi, but they are unlikely to get the chance. Rather than sell a big stake to a strategic partner, as is customary, Ulan Bator plans to float 30 percent of Erdenes, the coal field’s holding company, in Hong Kong or London some time in 2012. Miners may be allowed in only as contractors or licencees, not owners.

With spot coking coal prices some 50 percent higher than a year ago, the timing looks wise. Mongolia would diversify its risks, too, by ensuring miners don’t get a big equity stake to use as a bully pulpit. Australia learned that lesson when it decided to crank up mining taxes in 2010. The likes of Rio Tinto simply put billions of dollars of investment on ice until the terms had been watered down.

For the miners, getting frozen out is probably a disappointment they can live with. Politicians make risky partners, especially if their priorities aren’t profits but national finances, which in Mongolia’s case are generally thin. Add in persistent corruption, export delays and terrible infrastructure, and Mongolia comes with sizable risks. BHP gave back the right to mine Tavan Tolgoi in the nineties, when prices were lower.

The risk is that Ulan Bator sees institutional investors as an easier sell. If commodity prices stay red hot, they might well be. Would-be shareholders should then consider whether a “Mongolia discount” might be in order.

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