Tax dispute adds doubt to Oyu Tolgoi’s UG expansion

Turquoise Hill Resources’ (TSX: TRQ; NYSE: TRQ) second-quarter results were overshadowed by a tax dispute with the Mongolian government, among other concerns, relating to its Oyu Tolgoi gold–copper mine in the country’s South Gobi region.

In June, the Vancouver-based firm received an audit report from the Mongolian tax authority, claiming it owed US$127 million in unpaid taxes, penalties and fines for the period covering 2010 to 2012, when it was building the large 100,000-tonne-per-day open-pit mine. Turquoise Hill is challenging that claim, arguing it has paid all taxes and charges under the 2010 investment agreement and Mongolian law.

The company has to resolve this tax dispute before an extension on funding commitments for the underground expansion at Oyu Tolgoi expires in late September. 

“We are all aware of the Sept. 30 date, and we are all working to that deadline. We are engaging with the banks through this process, and keeping them informed, as we progress with our discussions with the government,” Kay Priestly, the company’s CEO, said on a recent conference call.

In May, all of the 15 global banks participating in the project financing agreed to extend their commitments for the underground development by six months to Sept. 30. This bought Turquoise Hill time to work out the bigger problems at Oyu Tolgoi, including the mine’s shareholder issues, where the government remains unhappy about its 34% stake.

The company owns the remaining 66% of the mine, which Rio Tinto (NYSE: RIO; LSE: RIO) operates through its 51% stake in Turquoise Hill.

Priestly says development work on the Oyu Tolgoi underground mine would restart once the tax claims and other matters are resolved. These include working through the outstanding shareholder issues, agreeing on a comprehensive funding plan, receiving approval for the underground feasibility study from the government and obtaining all relevant permits.

Turquoise Hill suspended work on the proposed 95,000-tonne-per-day underground block-cave mine last August because of uncertainty around these conditions, noting the government was likely waiting on the results from the feasibility study before reaching an agreement.

The feasibility study, originally expected in June, is “largely complete,” but Priestly did not provide details on when it should be out.

Turquoise Hill reported a second-quarter net profit of US$9.6 million, or nil per share, compared to a net loss of US$105.4 million, or US8¢ per share, a year ago.

Revenues were US$436 million on sales of 202,500 tonnes of copper–gold concentrate. This marks a 320% jump in sales over the first quarter of 2014, resulting in an inventory drawdown for the quarter, as the company improved its customer logistics and marketing.

It also reported its first quarter of positive operating cash flow.

But BMO analyst Tony Robson cautions that the quarterly results “are irrelevant compared to the bigger issues of Mongolian political risk and resolution of issues that would allow a resumption of the phase-two underground development.” Robson notes that the company has not released any new information on when these problems, including the tax claim, will be resolved.

Priestly says the company is making progress on those fronts, adding it has decided not to release details.

“It’s a lot of work, a lot to be done in a short period of time, but all hands are on deck, and there is a real focus on trying to announce a successful resolution so that we can move forward with the underground — which is a key priority for everybody concerned.”

Turquoise Hill expects Oyu Tolgoi will produce 135,000 to 160,000 tonnes copper and 600,000 to 700,000 oz. gold in concentrate this year. Oyu Tolgoi is 550 km south of Ulaanbaatar, Mongolia’s capital city, and 80 km north of the Mongolia–China border. The open-pit mine produced its first concentrate in January 2013.

To focus its attention on Oyu Tolgoi, the company recently sold a 30% stake in SouthGobi Resources (TSX: SGQ) to a Hong Kong-based public company. It has a 26% stake remaining in the troubled Mongolian coal miner, which is facing alleged charges for possible money laundering and tax violations. A trial for the case is set to start on Aug. 25.