Turquoise Hill: Mining

The Company

Turquoise Hill (TRQ: TSX, NYSE & NASDAQ) remains the most important stock for investors watching Mongolia. TRQ is an international mining company focused on copper, gold and coal mines in the Asia Pacific region with principal assets located in Mongolia. Its assets include a 66% interest in Oyu Tolgoi (OT), one of the world’s largest copper, gold and silver mines that started production in early 2013, and is now producing and shipping concentrate to customers in China; and a 56% interest in Mongolian coal miner SouthGobi Resources (SGQ: TSX,1878:HK), which is in the process of expanding production and exports to China. OT is by far TRQ’s most important asset because of its massive potential when it will be fully developed. The coal assets owned by SGX were fairly attractive for investors in 2011 when the price of coal was higher and the appetite for coal from China was abundant.

However, the asset is not considered to be the core asset for the parent company anymore.

Speaking of OT, Rio Tinto, the majority shareholder of TRQ with 51% and one of the world’s largest mining companies, has invested $7bn together with TRQ since 2010 when an investment agreement signed with the Mongolian government took effect. The investment agreement, which was signed in 2009, has an initial 30-year term with a 20-year extension. The investor has been trying to convince the government to formulate a consortium for the project finance to invest another few billion US dollars to develop the underground mine of OT. However, the parties have not resolved the issue as yet.

As the underground development will account for approximately 80% of the value of the project, the delay of the project finance will significantly affect the net asset value of the company. Therefore, analysts have lowered the price target of the company in the past two years. Hence, the share price of TRQ has declined more than 80% since its peak.

However, in April 2017 TRQ rose to a one-month high after Mongolia’s Prime Minister Altankhuyag Norov said that his government fully supported project financing to restart construction on the second phase of the OT mine. Shares of the company rose 4.9% and closed at $3.66 on April 16th in New York.

Development Strategy

OT’s 2013 gross revenues totalled $55m on sales of 26,400 tonnes of concentrate in 2013, with the start of the production of the open pit mine since the middle of 2013.

For 2014, OT has a target production of 150, 000-175,000 tonnes of copper in concentrates and 700,000-750,000 ounces of gold in concentrates.

However, due to the very high level of inventory and weaker copper price in the first quarter of 2014, achieving the target for 2014 looks challenging.

Even with the uncertainties, we believe the current share price of less than C$4.00 per share is quite attractive for investors. The resolution of TRQ’s dispute with the government will be the most important positive catalyst for the share price. However, in the near term, the delay means the loss of a few hundred million US dollars in tax revenue which the government of Mongolia has counted in 2014. Also, due to the concern, investors have been selling Mongolian tugrik heavily since the second half of 2013.

At the same time, the delay will discourage foreign investor sentiment and decrease foreign direct investment (FDI), as foreign investors are not confident investing in countries where a large company such as Rio Tinto is struggling to negotiate with the government. Therefore, the share price may continue to consolidate further for the time being. The prolonged negotiations have proved how difficult it is to reach a mutual understanding. With the launch of the new Investment Law, the government of Mongolia is making an effort to attract more investment from abroad. However, FDI is not expected to increase significantly until the issue with Rio Tinto is resolved.

We hope that the parties reach an agreement soon.