EMERGING MARKETS: What’s mined is mine

Mongolia is booming: according to the International Monetary Fund, its economy will enjoy growth of 22.9 percent in 2013. This is largely due to concerted efforts to exploit the country’s natural resources. Minerals already account for 80 percent of exports, but development work is under way in earnest on a number of potentially hugely lucrative mines – while a surge of investment in infrastructure and supply chains around these sites has also created new opportunities in utilities, transport and electricity.

This is all very positive for private equity groups active in the region. In the last few months, China-based (but London-listed) firm Origo Securities has been building its stake in Kincora Copper, a mining and exploration company focused on copper and gold deposits in Mongolia. Kincora’s main asset is the Bronze Fox copper-gold deposit, which is located 200 kilometers from the Chinese border, about 140km northeast of the huge Oyu Tolgoi copper-gold mine. When Kincora was floated on the Toronto stock exchange last year, it provided Origo with a 3x return on its investment within just 12 months. The firm, which recently chipped in a further C$4 million via a private placement, is now Kincora’s largest shareholder.

It’s not all good news, though. As infrastructure costs linked to the development costs of Oyu Tolgoi have soared – from an estimated $4.5 billion to over $7 billion – the Mongolian government has started talking about raising taxes to meet its spending shortfall (it’s currently running a current account deficit of $258 million).

And worryingly for external investors, foreign direct investment has been targeted in the 2013 budget: current projections are for an increase in Corporate Income Tax of 224.5 billion MNT (Mongolian Tugrik), or $160 million.

It also wants to raise a further $159 million by introducing additional royalties for the companies developing Oyu Tolgoi – which, when fully operational, could yield 450,000 tons of copper a year, making it one of the world’s biggest mines.

Naturally, this has not gone down well with the developers (including multinational mining giant Rio Tinto), who are currently negotiating the Oyu Tolgoi Investment Agreement (OTIA) with the government. But Mongolian President Elbegdorj seems undeterred, reportedly saying that “since this [additional level of investment] affects [the] interests of shareholders, there is no other way but to discuss again.”

Origo analyst Dale Choi argues that the government’s proposed tax hike is based on overly-aggressive growth assumptions about output, particularly since demand from China seems to be cooling).

What’s more, he says, the government’s restrictions on FDI are already deterring international capital. State permission is required for any foreign owner wanting to buy a stake of more than 49 percent in a strategically important asset. The same applies to any stakes worth more than $75 million – although the finance minister has recently signalled his intention to renegotiate this to somewhere between $500 million and $1 billion.

Luke Leslie, Origo’s head of metals and mining, expects the government to provide further clarity of the OTIA and the Foreign Investment Law in time. But the worry is that it seems to be making decisions unilaterally. “We would prefer to see an improved dialogue with the business community in drafting this kind of business legislation,” he admits. Until it starts doing so, foreign investors will remain wary.