THE GLITTER OF KYRGYZ GOLD TAXES CANADIAN MINE

C O N F I D E N T I A L SECTION 01 OF 03 BISHKEK 000155

SIPDIS

SIPDIS

DEPT FOR SCA/CEN (GEHRENBECK)

E.O. 12958: DECL: 02/09/2017
TAGS: EMIN ECON EINV KG
SUBJECT: THE GLITTER OF KYRGYZ GOLD TAXES CANADIAN MINE
OPERATOR

REF: A. 06 BISHKEK 1692

B. BISHKEK 080

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Classified By: Charge d'Affaires Lee Litzenberger for Reasons 1.4 (b) a
nd (d)



1. (C) Summary: The Canadian-run Kumtor gold mine in eastern
Kyrgyzstan, which generates 4-6% of Kyrgyz GDP, is expected
to double its 2006 production of 303,000 ounces by 2008.
Despite the rosy projections, Kumtor Operating Company (KOC)
President Andrew Lewis told Embassy that a less friendly
attitude towards KOC under President Bakiyev's administration
enabled "petty" efforts to extract more revenue from KOC in
contravention of KOC's existing operating agreement. In
addition to problems with officials, annual staff turnover of
10%, coupled with a declining pool of qualified
subcontractors, complicate KOC's activities. KOC's
prominence, in the face of growing regional interest in
Kyrgyzstan's mineral resources and the desire to derive more
revenue from KOC, highlights the company's role as a
bellwether for the investment climate for western firms
operating in Kyrgyzstan. End summary.

The Raw Figures
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2. (U) During a January 9 lunch, executives of Kumtor
Operating Company (KOC),a subsidiary of the Canadian firm
Centerra Gold, Inc., provided Embassy with an update of its
operations at the Kumtor gold mine in eastern Kyrgyzstan.
The Kyrgyz government, through its own gold mining entity
Kyrgyzaltyn, owns a 16% stake in Centerra valued at
approximately $380 million.


3. (SBU) KOC's Kumtor gold production annually generates
roughly 4-6% of Kyrgyz gross domestic product (GDP). A rock
slide and the processing of lower-grade ores in 2006 reduced
Kumtor production to 303,000 ounces, and depressed overall
GDP. KOC President Andrew Lewis credited $116 million in
recent on-site investments for forecasted increases in
production to 460,000 ounces in 2007 and 630,000 ounces in

2008. This uptick in production could increase Kyrgyz GDP by
one or two percentage points.

Changing Fortunes: Mining in the Bakiyev Era
--------------


4. (C) Despite the rosy production forecasts, Lewis
contrasted his firm's good relations with former President
Akaev's regime to problems caused by officials associated
with President Bakiyev, who, he claimed, employ increasingly
"petty" tactics to squeeze more money out of KOC. He could
not identify any KOC "champions" within the current
government, and instead identified Parliament's Vice Speaker
Kubanychbek Isabekov, who hails from the Kumtor region, as a
prominent adversary. (Note: Isabekov is not related to
newly-installed Prime Minister Azim Isabekov. But, he has
enjoyed regular individual consultations with Bakiyev. End
note.) Isabekov supported additional revenue demands that,
in KOC's view, violate KOC's existing agreement with the
Kyrgyz government. As an example of Isabekov's interference,
Lewis recounted a case in which the Kyrgyz Supreme Court
rendered a decision within ten minutes favoring the Kyrgyz
government in a dispute with KOC. Lewis said he later

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learned that Isabekov has a deciding role in the nomination
and approval of Supreme Court judges.

Fleecing the Golden Goose?
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5. (C) The Supreme Court case involved land use tax. Lewis
argued that a clause in KOC's agreement allows it to opt out
of any changes in government policy affecting Kumtor
operations for a ten-year period through 2014. A July 2006
official decree required land lessees (like KOC) to pay land
tax. KOC paid the 46 million som ($1.16 million) assessment
in order to avoid foreclosure proceedings. Lewis said KOC
considered taking the case to international arbitration in
Stockholm, but was threatened with talk of "nationalization."
He then quoted Acting First Deputy Prime Minister Daniyar
Usenov stating that "if we obtain more money out of Kumtor,
then we will not need HIPC." (Note: Usenov has openly
expressed his opposition to the HIPC debt relief program.
There has been some media reporting of parliamentary
disagreement over the Kumtor contract; however, there have
been no overt demands for expropriation. See reftel B for
more on HIPC. End note.)

Prospects for the Future
--------------


6. (C) KOC Vice President for Materials and Compliance
(Amcit) Sanford Stephens and Environment Director Rodney
Stuparyk revealed that roughly 10% of KOC's 2,300 employees
leave the firm annually. Trained staff are joining the
exodus of Kyrgyz citizens seeking more lucrative jobs in
Russia and Kazakhstan. Stephens, who has worked in
Kyrgyzstan for nearly a decade, also described a declining
pool of trained contractors. Contractors, he observed,
failed to invest in new equipment for fear of attracting the
attention of tax authorities. Despite frequent requests from
international credit institutions, Stephens is unable to
identify potential loan applicants because KOC's
subcontractors fear the attention of authorities.


7. (C) In a worsening environment of official corruption,
Stephens admitted "contracting out" license and permit
renewal functions to local Kyrgyz firms. This outsourcing,
Stephens argued, allowed KOC to reduce direct requests for
nonofficial payments.

Other Gold Mining Operations
--------------


8. (SBU) Lewis discussed other players in the Kyrgyz gold
mining industry. Kyrgyzaltyn, the state-owned gold mining
firm, produces approximately one metric ton (or roughly
35,273 ounces) of gold annually from two mines. (Note:
Kyrgyzaltyn operates the Makmal mine near Jalalabad.
However, we understand that Kyrgyzaltyn's second mine at
Taldybulak near the northern town of Kemin is currently
inactive. End note.) The Jerooy gold mine in the Talas
region remains mired in an ownership dispute between UK-based
Oxus Gold and Global Gold, with Kyrgyzaltyn a partner in each
company's joint venture. Environmental questions are
troubling operations at another Talas mine (at Andash).
Other firms recently active in Kyrgyz gold exploration
include Central Asian Gold, Summer Gold and Eurasian
Minerals. Kyrgyzaltyn also maintains a network of bureaus to

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purchase gold discovered by individual prospectors.

Comment
--------------


9. (C) KOC benefited from its relationship with Bakiyev's
predecessor, but now is seen less as a valued investor and
more as a source for revenue. Despite the land tax and a
recent pay increase for staff forced by government officials,
KOC has continued operations in a very profitable business.
In an environment where Chinese, Kazakh and Russian interests
are rapidly expanding their control of Kyrgyzstan's mineral
wealth, KOC is a bellwether of the investment climate for
western firms in Kyrgyzstan. While regional investors become
larger players in Kyrgyzstan, KOC also must remain attuned to
moves by the authorities in Bishkek. If Kyrgyz officials,
led by Acting First Deputy PM Usenov, succeed in liquidating
Kyrgyzstan's 16% stake in KOC's parent company Centerra for
the ostensible benefit of a proposed Kyrgyz development fund,
Kumtor may become a tempting, and proven, target for Kyrgyz
officials seeking additional revenues for public, or possibly
private, consumption.

LITZENBERGER