Rio Tinto Seeks Power For Its Mongolian Mine
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Mining is one of the more important industries in Mongolia, and several foreign giants have already stepped in to make the most of it. The Mongolian government is lenient towards foreign companies and that is probably why Rio Tinto (NYSE: RIO) chose to go all the way to Mongolia in spite of a very successful business spread all over the world. With mining companies like Rio Tinto establishing their facilities across this central Asian country, the Mongolian landscape has changed considerably. What was once a dark and desolate place has now turned into an urban sprawl with Louis Vuitton and other luxury stores dispersed across the streets of Ulan Bator, the capital city.
Ironically, Rio Tinto and its partners in South Gobi Desert are not finding electric power to run a massive copper and gold project at Oyu Tolgoi. Oyu Tolgoi is Rio Tinto's most important project and is being developed by its subsidiary, Turquoise Hill Resources. The mine is 94% complete but relies upon China for its power requirements. The relationship between China and Mongolia has never been amicable and it is a relationship that is marked by mistrust and suspicion. In such a scenario, Rio Tinto may find it very difficult to light up its own mine in the Gobi Desert, though the region is a very promising region that holds untapped gold and copper resources.
Turquoise Hill Resources maintains that Oyu Tolgui would be ready for commercial operations as early as 2013, and if that were to happen, we can expect a significant boost in Rio Tinto's revenue and profits. Earlier known as Ivanhoe Mines, Turquoise Hill Resources was renamed after Rio Tinto became the major stakeholder. The only hurdle that is stopping the mining giant from completing its project and throwing open the mine for commercial use is electricity. Electric power can only be imported or sourced from neighboring China, which is marred by red tape and bureaucracy at best, and suspicion & willful malice at worst.
With $285.9-million net loss in the second quarter, Oyu Tolgoi may not be the best feather in the cap for Rio Tinto. In fact, the mine is running under a loss even before it’s been commercialized, prompting analysts to question Rio Tinto's wisdom in continuing with the project. When such doubts arise, one must assess the situation by studying not only the future profitability of the mine, but also the geopolitical and economic situations that Mongolia finds itself in. Mongolia is a democratic country that has been western-oriented ever since democracy was restored in early 1990s.
After the Soviet Union fell, Mongolia was forced to forge ahead without the support of its larger neighbor and was left to the mercy of inflation, corruption, a naive democracy and increasing threats from China. But, the country has managed to stay strong and has an impressive growth rate of 7.5%. Rio Tinto will need to use its own corporate influence to coax China to provide the power that the mine so desperately requires. Oyu Tolgoi is one of the richest mines that Rio Tinto possesses at the moment, and a stalemate between China over electric power should not become the reason for the mine's suspension.
There are several ways of securing the power that the mine needs. First, Rio Tinto can hold high level discussions with the Chinese government and ensure that there is uninterrupted power supply. Second, Mongolia’s solar and wind energy can be used to generate a part of the electricity that is required. Despite being defined as a cold desert, Gobi Desert experiences long hours of sunshine that can be converted to electric power. Third, Russian help can be sought, though I would be skeptical of their help anyway. Russia has not been a very cooperative country when it comes to sharing its energy and power, especially if it has got something to do with its neighbors.
Fluctuations in the economy and lack of power resources may cause a bearish effect on Rio's stock but it is not something that one needs to worry about in the long term. Rio Tinto still continues to be a better investment than its competitors like BHP Billiton (NYSE: BHP) and Silver Wheaton (NYSE: SLW). Silver Wheaton's earnings revealed losses and BHP Billiton has been mired in environmental controversies in Australia. Unfortunately for Silver Wheaton, the price of silver has been declining. Part of this has been attributed to the popularity of white gold and oxidized metal in fashion and jewelry. The other reason is because major silver consumers like India and China are experiencing low economic growth, leading to a reduction in demand for silver sold by Silver Wheaton.
BHP is troubled by its own environmental mess in Australia and it recently sold its undeveloped Yeelirrie uranium mine to Cameco for a price of $430 million. If BHP had decided to stick on and develop the deposit, it probably would have made more money. VALE (NYSE: VALE) and Barrick Gold (ABX) are probably the only formidable competitors that Rio Tinto faces at the moment. VALE is doing exceptionally well because of its newly discovered and probably the world’s largest iron ore mine. With an impressive cash flow of $24.5 million, VALE seems to be a formidable rival. Barrick Gold is still reeling from the effects of the Argentine ban on its Pascua Lama facility, as its operations encroached upon glaciers.
If we look at the fundamentals, Rio Tinto's earnings fell to $5.2 billion, a 34% reduction. This may sound like an alarming figure, but it has been attributed to a weak Chinese economy and reduced global demand for metals and minerals. With a cash flow of $7.8 billion and several successful mining operations across the world, Rio Tinto can afford to run Oyu Tolgoi under losses. This mine must be viewed as a long term project that will add to Rio Tinto's global assets. If you have invested in Rio Tinto, you should expect fluctuations in the short- term due to volatility of markets. But, Rio is still one of the most formidable mining companies to invest in for the long-term.
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