When I was younger, if I wanted to go someplace, my mother would complain that it was in Outer Mongolia. In reality, it was a 30 minute drive, but the point still survived—it was far away. Well mom, if you’re reading this, I am ACTUALLY in Outer Mongolia. You were right—it’s a long way from Long Island—25 hours by plane to Beijing and another 35 hours by train.
The term ‘Outer Mongolia’ has entered the lexicon referring to something distant and somewhat strange. While correct, it may be time to rethink things. Mongolia is a charming place with some serious potential on the investment side. I came here over a week ago and expected to stay a few days before continuing on. I’ve now extended my stay twice and three of my fellow travelers have moved on without me. I don’t know what it is about Mongolia, but I want to learn more. It is a nation undergoing rapid change and that’s always good for investment—you just need to figure out where to invest and how.
Zipping around from one meeting to the next...
Despite its size, Mongolia is a nation of just under 3 million people. Most of the land is arid and good for little beyond raising livestock. Of course it does help that Mongolia has had surprisingly good success in exploration for minerals. It seems that wherever they drill a hole, they find something interesting.
In 2006, Mongolia imposed an excess profits tax on mining companies. Overnight, companies with significant deposits collapsed—I still have the scars from Western Prospector. Needless to say, mining exploration slowed dramatically and most investors forgot about Mongolia. In August 2009, the windfall profits tax was repealed and exploration companies have flooded back into Mongolia. Even more significantly, giant deposits like Oyu Tolgoi have finally been green-lighted to move forward. This will be a lot of copper moving through the Mongolian economy over the next few years.
I’m not a huge fan of mining as an investment, but a mining boom is usually good for the broader economy—that’s why I’m in Mongolia now. It isn’t easy, but I want to figure out how to invest in Mongolia. Like any frontier economy, my first stop was the largest broker in town, followed by a trip to the stock exchange.
Mongolian Stock Exchange
Mongolia was a centrally planned Soviet satellite until 1991. When the economy was privatized, vouchers were handed out granting ownership of government companies that were subsequently privatized. In total, 475 companies were privatized and 1.3 million citizens became shareholders. While the intent was quite noble, in practice, a few clever individuals were able to buy up the Mongolian economy on the cheap following privatization. Most companies now have one or two large shareholders who control the majority of the shares with a small sliver of shares constituting a free float. There are now roughly 325 publicly traded companies, but only two dozen companies have market caps greater than USD $1 million dollars. This is a pretty narrow field to choose from, but I’ve spent the past week visiting with most of them.
Two problems have quickly emerged. Disclosure is abysmal. Some CEOs were even confused why we were visiting with them. You literally have to beg the CEO for a balance sheet. A few of them simply refused to give me their annual reports—even though they’re legally supposed to be filed with the exchange. When I found companies I wanted to invest in, there was no liquidity. Bid & Ask spreads are frequently in excess of 10%. If you take out two sizable coal companies, total daily volume averages roughly USD $25,000 a day. No wonder the trading day is only 90 minutes long.
Another fast paced day at the MSE. Half the trading posts are empty. Notice the trader in the lower left playing video games.
That said; management teams were generally quite willing to spend hours showing me their facilities and answering all sorts of detailed questions. Most importantly, it’s exciting to learn that you’re the first investor to visit the factory in over a year—it makes you think that you might just discover something that has been passed over.
I’m always amazed at how entrepreneurs can triumph over adversity. These site visits are testament to that. Despite being starved for capital, many of these Soviet era factories are still competitive in the world market. Nothing makes me believe in capitalism like seeing a 50 year old machine held together with duct tape and twine. It makes you appreciate how much Western businessmen waste because they always want the newest gadgets. True businessmen can keep a fully depreciated machine going for another thirty years.
If you want to improve your ability to analyze a business, you need to visit hundreds of similar businesses. You need a mental hierarchy of what a factory should look like and how capital allocation is approached. Every business has its quirks, but after visiting hundreds of these, you can quickly tell who wastes money and who you want to invest along side of. I don’t know how to describe it, but when touring a facility, you can just feel employee morale. You can see those little things that show that people care. You can feel positive momentum. You can feel if the place is having trouble. Eventually you can master site visits, but you have to visit hundreds of facilities to get that 6th sense. Mongolia has been a learning experience. The brewery is modern. I’ve been to plenty of those. I’ve never been to a cashmere producer. What about a dying business in desperate need of capital? How do you evaluate a Soviet style factory that is collapsing around you? Do you value it on replacement value or what it will cost to fix the collapsed walls? I still don’t know why my friends sent me, the vegetarian, to the meat production plant. I have lots of pictures, but that is for part II of Mongolia.
Heading down the hallway in a facility, you never know what you'll learn....
How do you invest in Mongolia? Ten days later and I just don’t know. Mongolia is booming—that much is for sure. Taxes are low, regulation is non-existent and everyone I’ve met is an entrepreneur. How do you play the boom? You can’t buy the stock market—it barely trades. Even if you get a stake, how do you monitor it? You literally have to go to the factory to get the financials. Do you know anyone who speaks Mongolian that can translate them for you? Many of the companies are not cheap either. The best alternative I’ve found is to open a bank account and buy some Mongolian Togrog. You get a 14% interest rate and I feel strongly that the currency will appreciate over the next few years. These aren’t the sorts of returns that I normally look for, but it’s a start. I want to at least get some of the currency appreciation while I search for opportunities. There is a lot of money to be made in Mongolia—I just need to figure out how.