U.S.-Based Peabody Moves Toward Coal Investments With USG

UNCLAS SECTION 01 OF 02 ULAANBAATAR 000832

SIPDIS

SENSITIVE
SIPDIS

STATE PASS DOC/FLAVIN/ AND ITA, USTR, USTDA, OPIC, AND EXIMBANK
STATE FOR EAP/CM, EB/TPP, OES/IHA
USAID FOR ANE CALISTA DOWNEY

E.O. 12958: N/A
TAGS: EINV PREL ETRD EMIN ENRG MG
SUBJECT: U.S.-Based Peabody Moves Toward Coal Investments With USG
Help


Sensitive But Unclassified - Not for Internet Distribution.
CAUTION--Contains proprietary business information.


1. (SBU) SUMMARY AND COMMENT: A Department of Commerce advocacy
letter, and post-arranged meetings with senior Mongolian officials,
have boosted the efforts of U.S.-coal mining giant Peabody Energy to
be involved in development of a 6.5 billion ton coal deposit. Last
week, Peabody's China-based officials met with senior Mongolian
officials -- including the President, Speaker and Prime Minister --
who all reacted very positively to a possible role for the firm.
There are several international companies interested in a piece of
the Tavan Tolgoi coal deposit, and China and Russia have applied
political pressure to get their firms in on the expected consortium.
Peabody would bring strong technical and financial advantages to a
consortium, but it also will win major points for its U.S. origin.
Mongolia's "third neighbor" policy of developing strong links with
outsiders, and especially the U.S., exists precisely so Mongolia
will not be at the mercy of its two huge neighbors.


2. (SBU) However, the way forward is far from clear. Lack of
infrastructure will require large investments, and politics as well
as commercial factors will cause sharp maneuvering over the
consortium. Moreover, populist amendments passed this summer to the
minerals law will allow the government a 50% equity share in the
mine, but it remains unclear whether the government would fairly pay
for such a stake or ante up its share of development expenses.
Wrong answers may cause international investors, including Peabody,
to lose interest in major mining projects in Mongolia. END SUMMARY
AND COMMENT.

Bringing Peabody to Mongolia
--------------


3. (SBU) Peabody Energy has been coming to Mongolia off and on for
nearly two years, but it has intensified its efforts in the last six
months. Peabody is particularly interested in the superb 6.5 billion
ton metallurgical (coking coal) and thermal coal deposit at the
South Gobi site of Tavan Tolgoi (TT). Mining licenses for the Tavan
Tolgoi are held by a group of Mongolian investors -- many of them
politicians or politically well-connected -- joined together as
"Energy Resources." To gain access to TT's coal, Peabody will have
to be invited to join the consortium Energy Resources is putting
together to provide the capital and expertise to develop the
project, then have the consortium be successful in passing
government hurdles (more on the latter below). While Energy
Resources has not yet shown its cards on the consortium, Peabody's
discussions with it and individual Mongolian investors have been
very positive.


4. (U) In August, Peabody applied to the Department of Commerce's
Advocacy Center for USG advocacy support for the Tavan Tolgoi
project, a request which was granted. This allowed post to move
beyond the advisory role previously played. Post worked with the
Department of Commerce's Advocacy Center to obtain a letter of
support for Peabody from Commerce Under Secretary for International
Trade Frank Lavin. U/S Lavin wrote separate letters to the
Ministers of Industry and Trade, Nature and Environment, and
Finance, all of which have joint statutory authority to negotiate
investment agreements between Mongolia and mining firms. Copies of
these letters were sent under cover of an ambassadorial letter to
the President, Prime Minister, and Speaker. Post would like to
extend a special thanks to the Advocacy Center team for its support
on this project.


5. (U) From November 6-9, senior officials of Peabody's China office
visited Mongolia for meetings with government officials and Energy
Resources investors. Because of the top-down and politically-driven
nature of Mongolian decision making, and the flux this year on
mining policy issues, post advised Peabody that any major entrant
needed to start at the top and then work down through the
bureaucracy. Consequently, we arranged meetings with the most
senior figures in the Mongolian government and political arenas.
The meeting requests generally met little resistance; in fact, Prime
Minister Enkhbold's foreign policy advisor, hearing that Peabody
would be in town, contacted us to ask for a meeting. In addition to

ULAANBAATA 00000832 002 OF 002


the PM, the Peabody officials (usually accompanied by the
Ambassador) met with: President Enkhbayar; Speaker Nyamdorj;
Minister of Industry and Trade Jargalsaikhan; Democratic Party head
Ts. Elbegdorj; Democratic MP and Chair of Standing Committee for

SIPDIS
Defense and Foreign Affairs Gonchigdorj; former President Ochirbat;
and former President Bagabandi.


6. (SBU) The meetings began with a brief introduction by the
Ambassador, in which he stated USG support for Peabody's coming to
Mongolia and possible investment in Tavan Tolgoi, and noted the
firm's outstanding record in the U.S. and elsewhere. The Peabody
officials introduced the firm and provided briefing materials in
English and Mongolian. The response of Mongolian officials was very
positive at all the meetings. All officials expressed hope that
Peabody would find Mongolia a good place to conduct business. In
comments echoed by other officials, Speaker Nyamdorj: advised
Peabody to know and abide by local laws, including the newly-amended
mining law; use a local office to reach out to a wide range of
politicians and government officials to establish bona fides; and
not just mine coal, but add value in Mongolia in order to increase
jobs and new technology. (Note: Peabody is in the process of
establishing a local representative office. Peabody tells us they
are willing to consider these approaches if they make commercial
sense, a point post has passed on to the GOM and private firms.)


The Promise and Perils of the Mongolian Coal to Peabody
-------------- --------------


7. (SBU) While TT's geographic proximity to resource hungry Chinese
market is alluring, development of the coal deposit, and Peabody's
possible investment, face a number of severe hurdles. First,
virtually all mine sites lack infrastructure, requiring large
capital investments to develop the mine and get the coal (or
coal-produced electricity) to customers in China. Second, Mongolia
is facing strong political pressure from both its neighbors (Russia
and China) to have their firms cut in on development of TT.
Pressure from China, the presumptive customer of the coal or
electricity from TT, is particularly problematic. Peabody has
established a good working relationship with Shenhua, the Chinese
firm with PRC government support to be involved in developing TT.
There are at least 14 international firms pursuing some role in TT,
including Japanese firm Mitsui and Australian firm BHP Billiton.
The GOM is reportedly floating the idea of an international
consortium composed of the GOM, the Mongolian rights holders,
Peabody (or another western firm),a Chinese firm, and a Russian
company. Peabody has told us that they accept such an idea in
concept and are basically interested in running the mine, and maybe
a mine-mouth power plant, if the project has a clear commercial
basis.


8. (SBU) In addition, TT's prospective development will take place
in a troubled political environment. Civil movements have alleged
widespread corruption in the awarding of exploration and mining
licenses for much of Mongolia in the last few years, and questioned
why foreigners should be allowed to profit from Mongolia's resources
while many Mongolians remain poor and jobless. Populist pressures
-- and populist sentiment among MPs themselves -- led to a windfall
profits tax on copper and gold in May, and significant amendments to
the minerals law in July. The new law allows the GOM to claim up to
50% of mining assets classified as "strategic deposits" (a list is
pending approval by Parliament, and is expected to include TT) which
were explored with state funds and 34% of assets of such deposits if
they were explored with private funds. Tavan Tolgoi falls into the
50% category. The GOM has not explained what the right to take
state equity will mean in practice: Will the government pay a fair
market value for its share? Will it contribute to capital needs to
develop the mine? What role will it have in management of the mine?
At this point, the answers to these questions are unknown as
regulations are developed. Unsatisfactory answers to these
questions may make TT and other "strategic deposits" e commercially
unattractive to companies like Peabody that would be expected to
invest significant money.

MINTON