Rio Tinto deepens presence in Mongolia

A week after the Mongolian government hit Turquoise Hill Resources (NYSE: TRO) with a US$155-million tax bill associated with the Oyu Tolgoi copper-gold mine, Rio Tinto (NYSE: RIO; LON: RIO), which owns 51% of Turquoise Hill Resources, says it is deepening its presence in the country.

Rio Tinto says it is opening a new country office in the capital Ulaanbaatar. The office will be separate from Oyu Tolgoi LLC and focus on exploration, global technology services and relationship building. The office will be headed by new Mongolian leadership and Rio Tinto expects its national employees will grow to 80 this year.

Through its indirect shareholding in Oyu Tolgoi, which is jointly owned by the government of Mongolia (34%) and Turquoise Hill Resources (66%), Rio Tinto has invested more than US$7 billion in the country since 2010. Of that amount, which includes salaries, supplier payments and investment in communities, about US$1.5 billion consists of taxes, royalties and other payments to the government.

“We are proud to partner with Mongolia to build one of the best copper and gold mines in the world,” Rio Tinto CEO Jean-Sébastien Jacques said in a Jan. 22 news release. “Mongolia is one of Rio Tinto’s most strategically important markets and we are here to stay.”

At peak production, the Oyu Tolgoi mine is expected to be the third-largest copper mine in the world, according to Turquoise Hill Resources.

But operating a mine or mineral exploration project in the country can be challenging. The government has been criticized for being unpredictable and has a history of disputes involving investment agreements and taxes.

Recently the Mongolian Tax Authority claimed Turquoise Hill Resources owes taxes for the period 2013–2015.

In response, Turquoise Hill issued a news release on Jan. 15 stating that Oyu Tolgoi LLC “has paid all taxes and charges required under its investment agreement (and reconfirmed in the underground mine development and financing plan) and Mongolian law.”

It also said that Oyu Tolgoi LLC is evaluating the tax assessment “and a response will be issued within the timeframe required by Mongolian law.”

The two main issues of the tax assessment involve withholding taxes on the management services payment to Turquoise Hill and withholding taxes on shareholder loan interest for the government’s 34% stake.

A pit at Turquoise Hill Resources’ Oyu Tolgoi copper-gold project in Mongolia. Credit: Turquoise Hill Resources.

The management services’ payment to Turquoise Hill would not be subject to withholding tax because the service is not provided in Mongolia, according to a person familiar with the issue. (The management services payment is part of Oyu Tolgoi’s agreements with the Mongolian government and is for operating the mine.)

Withholding tax is paid on the Turquoise Hill portion (66%) of the shareholder loan interest and not on the government’s stake (34%).

In a Jan. 16 research report written after conversations with Turquoise Hill management, Dalton Baretto, an analyst at Canaccord Genuity, explained it this way: “OT currently does not pay any withholding taxes on the management fee paid to Turquoise Hill and Rio Tinto. The government believes they should. OT currently pays withholding taxes on 66% of the interest paid by OT to Turquoise Hill on the shareholder loans, in line with the Turquoise Hill ownership stake; the Mongolian Authorities believe that OT should pay withholding taxes on 100%.”

“We remind shareholders that Turquoise Hill was previously served a similar notice for $127 million in 2014. This assessment was eventually settled at $30 million,” the analyst continued. “We believe that this situation will likely play out in a similar manner.”

Turquoise Hill reported that it has sunk a second shaft at the mine, which would lead to production of copper and gold from Hugo North Lift 1.

The shaft, 1,284 metres in depth and 10 metres in diameter, will be used for access, production and ventilation.