The bride has grown old since her beauty drew a bunch of the most eligible suitors in the autumn of 2008. The dowry for the world’s second gest coking coal deposit has been increasing since then. We talk of Tavan Tolgoi.
15 wooers came to Mongolia from around the world then, pleading for her hand. They kept making their case throughout 2009 and sought an answer from the Government. Even an exalted figure like BHP Billiton attended the initial meetings held before announcement of the international tender for Tavan Tolgoi. India’s Jindal Steel was also hopeful and paid several visits to Ulaanbaatar until 2010.
Coal prices kept rising and China’s demand continued to grow as if there was no limit. In April, 2010, the National Security Council of Mongolia issued a Recommendation which read, “In selecting the strategic investor as partner for the Tavan Tolgoi deposit, an option that will create a conducive environment for development, and also strengthen and balance the political and economic relations of the country will be supported.”
Following this directive from the National Security Council, Parliament promulgated Decree No.39 just before Naadam in 2010, on July 7 to be exact. Its main points were:
The mining licence for TT was to be for all of it, without dividing the deposit;
Shares of TT will be distributed to citizens of Mongolia for free;
National companies will be able to buy TT stock at face value.
Then the decree set out the criteria for choice of the company with which to sign the Investment and Cooperation Agreement. The groom-to-be was required to:
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Build a railway for coal transportation;
- Make an advance payment of $1 billion;
- Arrange for permission to use a sea port;
- Reach a good deal for transit transport;
- Build a processing plant; and
- Use advanced extraction technology. Nine of the 15 contestants left the field, finding the minimum demands of the Mongolian Government, which owned the TT coking coal deposit licence, too hard to meet. Those who stayed on came to be known as the “shortlisted six”.
They were:
Shenhua Energy, China;
Railway Alliance, Russia;
Peabody Energy, USA;
ArcelorMittal;
Vale; and
Extrata. This was in December, 2010. So where are the Japanese and Korean companies, did you say? These were:
- A South Korean conglomerate of 11 companies;
-Mitsui, Japan; and
-Itochu and Sojitz (Marubeni and Sumitomo are part of Sojitz), Japan.
All of them had shown interest in all tenders for TT from the beginning in 2008, but had been rebuffed each time for their lack of experience in mining. But the chances of wealthy companies from countries importing coking coal, especially when they formed a consortium that included an experienced company, were believed to be high.
The Russians then formed a consortium with Korean companies. The Russian goal was to own half of the new mining railway system in Mongolia but get the Koreans to pay for it. Similarly, the initial years had seen the USA’s Peabody Energy in cooperation talks with China’s Shenhua Energy. The two giants already had a history of cooperating in China’s coal sector, but in the case of Tavan Tolgoi Shenhua preferred to go it alone. Maybe they felt the railway network they had built towards China’s border with Mongolia would count in their favour. Shenhua was also reported to have formed a consortium with Japan’s Mitsui to bid at the tender.
The six shortlisted bidders prepared themselves thoroughly for the Mongolian Government’s selection process but there was no progress even at the end of 2011. What was the reason for this delay?
There were actually several. The political situation in Mongolia, as well as in Russia and China, made sure no decision could be taken on any of the following issues: building a railway line from Baruun Tsankhi coalfield of TT to export high grade coal to China, transit transport rates and access to sea ports. The vain wait for agreements took its toll on the beauty of the bride. Coal prices began to fall. Gradually Tavan Togloi was no longer that attractive.
Russia was happy at the delay. Its goal was, and still remains so, to win the tender through its joint venture Infrastructure Development. Russia’s determination to own 50% of the new railway system of Mongolia is the one principal reason why the Tavan Tolgoi tender could not be held.
Any delay in a decision on Tavan Tolgoi suited Russia fine. It had set its eyes on four coking coal deposits in Kyzyl in Kyrgyzstan, which together have twice the amount of reserve in Tavan Tolgoi. Russia does not mind Tavan Tolgoi coal going south (as long as it has the railway) but this should happen only after a railway is built from the Kyzyl deposits to take coal to the Far East and China in a way that serves Russian interests best. This is the Russian strategy, and so the later the TT tender is, the better for it.
One decision announced by the Government of Mongolia under S.Batbold prior to Naadam of 2011 was so bizarre it confused foreign investors, as well as Mongolians. This basically suggested that the investment in Tavan Tolgoi was to be in the following proportion: China-40%, a Russian-Mongolian JV 36% (18+18), and Peabody Energy the remaining 24%. Some time earlier, the Prime Minister had announced that Erdenes Tavan Tolgoi would retain its mining licence for Tavan Tolgoi.
This was what the MPP Government had to say to everyone who had been waiting for two years but this formula came only after the Prime Minister had paid a visit to China and the President to Russia, both in June. However, the National Security Council -- consisting of President Ts.Elbegdorj, elected on a DP ticket; Prime Minister S.Batbold, head of the MPP; and Parliament Speaker D.Demberel, a senior MPP leader – rejected the proposal.
After yet another failed Mongolian attempt to find a groom for Tavan Tolgoi, Extrata, Vale and ArcelorMittal lost interest in the match, and left. Russia and China remained, with Peabody waiting and seeing, not making any overt move.
The past few years have seen several changes in Russia’s negotiators and policymakers on Tavan Tolgoi, reflecting the rise and fall of oligarchs and businessmen, depending on their proximity to or distance from Putin. In 2008 and 2009, consortiums such as Renova, Bazovii Element and Gazprom were interested in Tavan Tolgoi tender, but then Russian Railways Union came in as the main player. Daughter companies of the oligarch Deripaska also began to be heard. Lately, we have been hearing much of a company named Suek that owns a port in the Far East.
To go back to the story of Tavan Tolgoi. Mongolians, disappointed at Russian and Chinese silence on offering cheaper transit transport or opening up a port, decided in the spring of 2012 to go it alone, removing the soil at Baruun Tsankhi themselves. National companies were asked to operate there, and a ceremony was held when the first coal was loaded on its way to China. This was shown on TV and the CEOs of both Erdenes TT and Erdenes Mongol spoke brave words when they were interviewed.
However, coal prices kept falling. Mongolian politicians borrowed $350 million from Chalco against future sales of Zuun Tsankhi coal. S.Bayar, then head of MPP and Prime Minister, signed the agreement with the Chinese company, and also signed away with this hasty move the reputation of Tavan Tolgoi. S.Batbold, who succeeded Bayar as Prime Minister, signed a long term agreement with Chalco in July, 2011, to supply coal from Zuun Tsankhi. DP Prime Minister N.Altankhuyag inherited the Chalco agreement in autumn 2012. He tried to change the terms of the agreement to get some more benefits for Mongolia but his arguments merely annoyed China, and led to a temporary halt in the coal export.
The Zuun Tsankhi Mining Operation Agreement with Australia’s Macmahon Co., signed in January, 2012, was seen by many as “high-cost and full of bad conditions”. These two agreements and falling coal prices are not allowing Zuun Tsankhi to develop. It cannot pay off the $110-million final instalment of its debt to Chalco. The situation is no better for Baruun Tsankhi. It has borrowed $200 million from the Development Bank and another $80 million from commercial banks.
This, in brief, is the recent management history of Erdenes TT.
When Tavan Tolgoi was dazzling with its potential, investors were eager to own 51% of the deposit. Peabody, Shenhua and Russian companies, all made similar offers and put pressure on the Government of Mongolia to agree. Then they said they wanted a minimum of 30% each, borrowing the phrase “balanced investment” from the National Security Policy. Now the Altankhuyag Government has taken another step. Below, we analyse the salient points of Decree No. 268 issued on 20 August, 2014.
Following Xi Jinping’s visit in August, transit transport costs for Mongolian coal through the territory of China are to be reduced by 40%. China has also offered its northeastern ports of Dalian, Yingkou, Tianjin, Qinhuando, Jinzhou, Huanghua, and Dandong for Mongolian exports. This dismantling of one obstacle to floating the Tavan Tolgoi international tender encouraged Prime Minister Altankhuyag to send fresh invitations to the shortlisted companies that were beginning to “mould”.
Analysing what the decree says- The Tavan Tolgoi deposit will be operated as a whole, not divided into Baruun and Zuun Tsankhis. Erdenes Tavan Tolgoi will continue to hold the mining licence and will enter into an Investment and Cooperation Agreement with an investor on payment of an agreement fee.
What is the fee about and how much will it be?
In July, 2011, the Government of S.Batbold said about the fee, “An agreement fee equal to 5% of the sales income excluding the coal transport costs shall be charged.” At that time, it was impossible to determine the transport and transit costs and port issues were also not clear. Now, however, these can be calculated when determining the ‘agreement fee’.
- Erdenes TT’s debts will be automatically transferred to the new investor. The decree basically says that the debt should be paid off by coal sale, or it’s up to the new investor to have a new agreement with the lender.
- Operating the deposit as a whole would save money on building roads and the railway, and there would be no need for two washing plants and two power plants. Energy Resources LLC’s processing plant at Ukhaa Khudag has a capacity of 15 million tons while that of Erdenes TT is planned to have 20 million tons. It will cost $570 million and its Feasibility Report has been approved by the Minerals Council.
- Decree No.286 specifically states that the investor should export 30 million tons of semi-processed coal in the first two and a half years. This is an amount based on the capacity of both the Ukhaa Khudag processing plant and Erdenes TT’s new plant. Five years ago, a certain coking coal export amount was given as part of the tender condition. So it’s an improvement that now the condition relates to semi-processed or value added products.
- There are other such instances, such as the power plant, where the tender for Tavan Tolgoi will include factors to increase the value of the deposit. So though we lost time, we’ve successfully taken several steps.
- Now the main issue is who will own how much of Tavan Tolgoi. According to the invitations sent, there is a new condition in the tender. This addition could prove to be the gest obstacle to a successful resolution of the whole issue. Decree No.268 states that the 51% of the deposit that earlier belonged to the State-owned Erdenes Tavan Tolgoi will now be vested with a consortium that consists of Tavan Tolgoi LLC, Mongolyn Alt (MAK), and Energy Resources. President Elbegdorj has mentioned this very significant and crucial change on several recent occasions, even at international investors’ conferences, justifying the move by saying that private companies should be in charge of Tavan Tolgoi’s operation without the State having pay for anything.
But which of these three companies will take part in the tender or what will be the internal structure of the consortium that does so? Tavan Tolgoi LLC works on 0.2 per cent of the total area of the Tavan Tolgoi deposit. Energy Resources took charge of Ukhaa Khudag in 2008, and has since then operated the deposit, completed construction of an 18-mWt power plant, a water supply system, a coal transport railway, a three-module processing plant -- Mongolia’s first -- and other facilities for the local area. MAK is a mining company with 20 years of experience. It is currently working the Shiveekhuren coal mine and Tsagaansuvarga copper deposit, and developing the Khuut shale deposit and a mega coal liquefaction project based on its Aduunchuluun deposit. If MAK feels its hands are already full, it may not agree to be part of another project. So it seems that a consortium of Energy Resources and Small TT or Energy Resources alone will own 51% and do Tavan Tolgoi’s mining and sales as well as partner with other investors.
- You might have noticed the sentence “The administration will be transferred to an experienced management team”. Peabody Energy of the USA has experience straddling 130 years. Energy Resources is widely respected for its successful management methods. Shenhua could not have grown so in 20 years if it did not have the right kind of experience in the mining industry. So we should be prepared for a tough contest.
Mongolians by and large will support the Government’s decision and the President’s position on letting a national company own 51% of TT directly. This is sure to boost the price of Energy Resources or Mongolian Mining Corporation shares. But what lies in store for China which controls the railway that will take Tavan Tolgoi coal to its market, or for Russia’s long-held and undisguised interests and for Peabody, waiting patiently and almost unobtrusively for nearly a decade?
There is little doubt that the Chinese President’s visit has paved the way for Shenhua Energy’s participation in the project. The company is currently building an 18-km railway from Tsagaan Khad to Gants Mod with its own funds. It is also likely that it will take up the remaining 247-km railway to the Tavan Tolgoi deposit. Cooperation between Shenhua and our national companies can only be beneficial to Tavan Tolgoi.
What about the Russians? N.Altankhuyag’s decree will not be greeted warmly by V.Yakunin, whose interests it does not serve. It is categorical that any consideration of Russia’s pleas to participate in building a wide-gauge railway from Tavan Tolgoi to Sainshand will be possible only after two and a half years or when the narrow gauge railway is completed. The gauge width is likely to be approved without much debate in the early days of Parliament’s Autumn session because after the visits paid by the leaders of our neighbour countries, long-term, active cooperation between the three countries is certain. Mongolia having both types of railway gauges might not please Russia, but it wouldn’t be in a position to criticise the generous and decent terms offered by China. Decree No.268 also implies that we shouldn’t be talking about the Artssuuri-Murun-Erdenet railway for now, in which V.Yakunin’s gest interest lies.
- The decree also says that the investor will be responsible for financing the railway to Gashuun Sukhait. It will also hand over its 51% ownership to the State after 30 years. Energy Resources was prepared to start building the 267-km railway to Gashuun Sukhait in 2010 under Deutsche Bank management. MP Kh.Battulga had opposed the move, thus losing Mongolia the opportunity to have an independent railway. Now the railway is likely to be built with both Chinese and Russian participation.
- A tender announced in 2012 by the Mongolia Railway Company to raise funds for the 1800-km railway was used by Minister of Road and Transportation A.Gansukh to select two companies -- Britain’s Ashmore and Russia’s EuroAsia Group -- for the job. A memorandum was signed with both and now there are rumours that representatives of the Russian companies led by K.Ilyumjinov will be paying a visit to Mongolia soon.
So, while the Government talks about building the 267-km railway to Gashuun Sukhait, the Ministry of Road and Transportation on its own plans to raise funds for a 1800-km new railway and for building a wider-gauge railway towards the eastern border of Mongolia through Tavan Tolgoi and Sainshand. Such conflicting moves have been regularly seen for the last six years and now it seems the Prime Minister has finally decided to put an end to the politics. Altankhuyag hopes to get rid of Gansukh as part of the structural changes in the Government and then proceed with construction of the railway for mining. That would come as a much awaited relief.
- Another condition in the decree makes it mandatory to export at least 5 million tons of semi-processed products to at least two countries within the first two and a half years. There is demand for Mongolian coking coal in China, as well as in Japan and South Korea. Since South Korea and Japan are likely to compete with China for Tavan Tolgoi coal, it will make sense to have their companies in the running. Their asset is advanced technology and some Japanese and South Korean consortiums have shown interest in collaborating with Peabody Energy.
- A headache for the new investor will be how to allot 10% of Erdenes Tavan Tolgoi shares to citizens for free and to companies at face value, as stated in Parliament’s Decree No.39. The face value of the shares is not yet determined. Statements such as “It will be 25 times more than that of Ukhaa Khudag’s stock” had no formal sanction and the whole thing, involving, as it does, the whole population and many companies will pose all kinds of problems.
Preparations have begun to make the tender process smooth, but it could very well prove to be messy for the participants. Three recent developments are certain to count for much: China’s lowering of transit transport charges, China’s grant of permission to use its ports, and acknowledgement that Tavan Tolgoi’s coking coal can compete with Australian coal for quality. Another advantage is that the power and processing plants in Tavan Tolgoi are in a decisive stage. It will be welcome if a national company collaborates with well-known international ones, provided, of course, that politicians do not find a place on the Board of Directors of the consortium to be formed.
The time is near when Mongolian coal companies, struggling for survival in unfriendly market conditions, will no longer underquote one another at the port of Gants Mod. Tavan Togloi’s sights will be beyond supplying cheap coal to China’s Winsway and Pushin companies, as its job is to compete with Australia in seaborne trade.
Transport cost along a dirt road to Ganshuun Sukhait was $25 per ton, but this came down to $10 as soon as the road was paved. They will fall further once the railway is built. There are pitfalls on the way to execute Decree No.268, but the main thing to remember is that Tavan Tolgoi’s competitiveness has not disappeared. If the deposit is operated as one whole and if skillful management takes care of the trading aspects, Mongolian coking coal will take the world by storm.
The new conditions set out in Decree No.268 are unlikely to please investors, especially those from Russia and America. But Mongolians feel vindicated and welcome the State guaranteeing 51% to national companies.
L.Bolormaa