A foreign investment lesson from Mongolia

As the Tony Abbott-inspired debate on foreign investment continues, particularly investment from state-owned Chinese firms, there are lessons to be learnt from Mongolia's dealings with its giant neighbour's overtures.

Last month Tony Abbott created a bit of a stir when he called for tougher rules on foreign investment and said it would be rarely in Australia’s interests to allow a foreign government or its state-owned enterprises to control an Australian business. It didn’t, however, appear to get the Chinese particularly agitated, at least in public.

Perhaps that’s because they are now very familiar with the tensions and cynicism with investments by its state-owned enterprises are received in the West. Certainly they are experiencing very similar sentiments far closer to home.

In April, Ivanhoe Mines (now Turquoise Hill Resources) announced that it had received notice from Aluminium Corporation of China (Chalco) that it intended to make a proportional takeover bid for between 56 per cent and 60 per cent of the shares in South Gobi Resources, 58 per cent owned by Ivanhoe. The bid valued South Gobi, a Mongolian coal producer, at about $1.5 billion.

Ivanhoe, now controlled by Rio Tinto, stood to extract between about $514 million and $866 million by selling into the offer, funds that would make a useful contribution to the first $US6.2 billion development phase of Ivanhoe’s giant Oyu Tolgoi copper-gold project in Mongolia.

The bid, however, has yet to be made. Last week Chalco, for the second time, extended the deadline for the making of the offer by 30 days.

The problem for Chalco was the attitude of the former Mongolian government, led by the Mongolian People’s Party, towards foreign investment. Just ahead of June’s elections the Mongolian parliament passed laws limiting foreign ownership of strategic sector companies and projects to 49 per cent.

That left Chalco’s bid in limbo and would have been quite disconcerting for Rio, which now has a very large financial interest in Oyu Tolgoi, itself 66 per cent owned by Turquoise Hill. Moreover, the government asked South Gobi to suspend production at its mines while it considered its proposed bid and also failed to renew some of South Gobi’s pre-mining licences, causing South Gobi, which is listed in Canada, to issue a notice of dispute.

On Friday, despite not winning a majority of seats at the election, the Democratic Party’s Norov Altanhuyag was appointed prime minister, which may produce a slightly more welcoming attitude towards foreign investment, although the DP will govern in a coalition with other parties, including the MPP. Certainly party spokesmen have said the new government would welcome foreign investment and provide a stable legal environment.

Mongolia’s nervousness about allowing its giant neighbour – and the biggest customer for its rich resources sector – to gain control over significant resource projects is understandable. It is unclear whether the new government will allow a Chinese SOE to acquire control of a company that produced about five million tonnes of metallurgical and steaming coal a year for Chinese customers.

The more conciliatory sounds, however, will be a relief for Rio, which already has the government as a 34 per cent partner in Oyu Tolgoi.

Ultimately, Rio’s not going to do anything to jeopardise its hard-fought control of Turquoise Hill and, through it, control of Oyu Tolgoi and, given that Chalco is a subsidiary of Chinalco – Rio’s biggest shareholder and a partner in its giant Simandou iron ore project in Guinea – one suspects Chalco would modify or withdraw the offer for South Gobi rather than escalate the dispute with a new and apparently more moderate government.

As for Australia’s policy, it isn’t quite the one Abbott articulated, or at least not yet, and there’s certainly no suggestion of nationalising existing foreign investment as the former Mongolian government planned.

There is sensitivity to and increased scrutiny of investments by SOEs to ensure they are purely commercial and not an extension of a foreign government’s political or economic agenda, as Foreign Investment Review Board chairman Brian Wilson said recently.

That’s quite a reasonable and rational position to take, provided truly commercial investments are allowed, and is in broad terms consistent with the stances of many Western governments in relation to Chinese investment – and one that the Chinese appear to have recognised and largely accepted, however reluctantly. No one wants foreign government ownership of key sectors of their economies to distort the economics and undermine the value of those sectors.

There haven’t been quite the same high-profile offers for foreign companies by Chinese SOEs this year, although China National Offshore Oil Corp’s $US15.1 billion bid for Canadian oil sands group, Nexgen, is generating some debate in Canada. The emphasis this year appears to have shifted to encouraging China’s private companies to invest more both at home and abroad to try to defuse, or at least reduce, the cynicism and opposition while still pursuing the objective of gaining access or exposure to key resources and markets to improve security of supply and physical hedges against commodity prices.

If that is China’s strategy it would be a sensible and pragmatic change.

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