OBG talks to Cameron McRae, President and CEO, Oyu Tolgoi

Interview: Cameron McRae

With Oyu Tolgoi’s production start date approaching, what have been the main challenges in terms of staying on schedule and on budget?

CAMERON MC RAE: Oyu Tolgoi will have two different operations: open pit and underground. We anticipate our commercial production will start within the first half of 2013 and our first underground production will begin by 2016 – to be ramped up to full production by 2020. The overall construction of the project is nearly completed; three months ago a major project milestone was achieved when the first ore was tested with the primary crusher. Other mines of this size have taken far longer to build. This is a significant achievement for Mongolia. The deliberate compression in construction time is anticipated to bring the project on-line in a period of high copper prices, supporting revenue.

Bringing the finish date forward not only means a reduction in costs for investors, but earlier accrual of projected cash flows for Mongolia. The government benefits risk-free from Oyu Tolgoi and it has already received $803m in pre-payments and taxes. By the time international investors receive debt-free dividends, the government will have made $7-8bn in non-dividend payments. According to an IMF report released in 2010, Mongolia will get up to 71% of the cash flow from Oyu Tolgoi, over the life of the project.

The risk of resource nationalism has been elevated in an election year. Do you think there is still room for renegotiations of investment conditions?

M RAE: I am certain that Oyu Tolgoi will play a leading role in Mongolia’s growth throughout the next century. However, the full potential of this mine can only be achieved if we maintain the stability that created the conditions for this investment. Mongolia has recently elected a parliament with a reform agenda. Several key pieces of legislation remain unresolved. Since 2009, when the Oyu Tolgoi investment agreement was signed, the mine has accounted for over 25% of the Mongolian economy and, consequently, we have attracted a lot of political attention, calling into question the wisdom of the very agreement that has underpinned the Mongolian economic miracle of the last three years.

Recently, the government called for a renegotiation of the Oyu Tolgoi investment agreement. Rio Tinto declined the request. Since then, it has been reported that the government merely wishes to amend the agreement. We have recently reaffirmed that the agreement is the basis for the project, and needs to remain fully intact. We also genuinely believe it represents a fair balance of obligation and benefit for all parties. However, as Mongolia’s largest corporation, we recognise the importance of a dialogue around issues of national significance to ensure the continuing growth and sustainability of the Mongolian economy.

What are the main challenges to ensuring maximum spin-offs for domestic companies and where do you see new opportunities for local content?

M RAE:Oyu Tolgoi is the largest ever investment in Mongolia. Investors will put in nearly $6.2bn to bring the mine into operation. Every dollar the investors spend on the mine translates into real value for Mongolia.

Oyu Tolgoi’s commitment to maximising national procurement has two objectives: (i) to meet our investment agreement commitments to develop a competitive and skilled Mongolian supplier community; and (ii) to build and then promote a localised, quality-assured and sustainable supply chain within the country.

Mongolian companies benefit as suppliers of goods and services to Oyu Tolgoi and a surging economy because of our policy prioritising Mongolian suppliers over international companies. Since the investment agreement was signed, we have purchased almost $1bn worth of goods and services from Mongolian national companies. Training and technical support to local businesses to help them grow and qualify as suppliers is being provided through a local supplier initiative. We have a micro-lending facility through community banks to provide loans for small businesses in South Gobi under the local business economic development programme. To date, 53 local businesses have benefitted from this $1.2m fund. Most of the 12 major infrastructure programmes currently under way in South Gobi are managed by Mongolian contractors. Efficient and innovative suppliers are strategic to our success.

Over the next 18 months how will the transportation and power supply bottlenecks be addressed?

M RAE: Power is a great challenge because we are building a huge mine in the middle of the Gobi Desert, which lacks even basic infrastructure. The project has been obtaining power during its construction phase via multiple diesel power generators, which will be insufficient during the operations phase.

In November Oyu Tolgoi signed a power purchase agreement with the Inner Mongolia Power Corporation to supply electricity to the mine. Commissioning of the concentrator is expected to begin by the end of 2012 and Oyu Tolgoi is on course for commercial production in the first-half of 2013.

A feasibility study for a power station has been approved by Oyu Tolgoi’s board and submitted to the government. We have obtained permission to build a power station. This facility will be an independent electricity source for Oyu Tolgoi.

Is Mongolia overly vulnerable to fluctuations in global copper prices and can it compete cost-wise during softer demand periods?

M RAE: Our aim is to attain the highest price possible for the minerals mined. Pricing is always based on prices quoted on the London Metals Exchange. Given the huge demand in China for copper, we expect the majority of sales to go to our neighbour. There is a shortage of copper concentrate but a great deal of smelting capacity in China, so that becomes the natural market. Rio Tinto has achieved outstanding results on behalf of the government and people of Mongolia by ensuring payment for copper, gold and silver recovered from the mine at terms and prices that are competitive in the global market. In addition, credit and freight terms are in line with international standards, and we have put in place careful customer selection processes resulting in strong partnerships with reputable smelters. We are bullish on copper demand – China’s domestic supply in the interior remains largely undeveloped, and global demand for copper is expected to remain robust.

How is Oyu Tolgoi dealing with the burden of expectations in regards to sustainability in Mongolia?

M RAE:Oyu Tolgoi supports charities and projects that meet strict criteria and are closely aligned with the Millennium Development Goals.

Since the project started, we have spent more than $1m in sponsoring and funding projects that promote Mongolia’s economic and social development. Oyu Tolgoi is the first mining company in Mongolia to introduce the ISO14001 standard (which deals with environmental management systems) and Rio Tinto’s global health, safety and environment management system into Mongolia’s mining sector. This translates into knowledge and skill transfer to the country.

We are also the first company that has conducted a full Environment and Social Impact Assessment.

The main environmental issue in the Gobi besides water is dust. We are actively managing the generation of dust under our air quality management plan.

Measures that are being enacted include implementing speed limits and making sure that all roads have a high-standard, high-gravel-content road base.

Oyu Tolgoi will have one of the most stringent waterconservation practices of any mine in the world. No water will be discharged; instead, it will be reused until it can no longer be used (e.g., it is lost through evaporation).

We currently recycle 100% of our treated domestic wastewater. We have invested over $1.2m exploring the reserves of water around the town and hope to connect a full water supply after more investigation.