MAC: Mines and Communities

Mongolia Finds SouthGobi Employees Guilty of Tax Evasion

Published by MAC on 2015-01-30
Source: Bloomberg, Northern Miner

Another headache for Rio Tinto

Once again, Rio Tinto finds itself  in Asian hot water, as three of its ex-employees are jailed for tax evasion by a Mongolian court.

Back in 2009, four upper echelon Rio Tinto staff in Beijing were convicted of corrupt contract negotiations with Chinese iron ore smelters, and also ended up with heavy prison sentences. See: Bargaining in Beijing 

And, at the end of last year, a top-level Chinese associate of Rio Tinto was accused of graft. See: Chinalco boss, and associate of Rio Tinto, accused of corruption

Now, as Rio Tinto continues facing major obstacles to bringing its huge Oyu Tolgoi copper/gold mine into full commercial production, doubt must be cast over the future of its SouthGobi coal subsidiary - co-owned with the China Investment Corp.

Mongolia Finds SouthGobi Employees Guilty of Tax Evasion

by Michael Kohn 


30 January 2015

A U.S. citizen Justin Kapla and two other ex-employees of Canadian miner SouthGobi Resources Ltd. were found guilty of tax evasion by a Mongolian court, ending a three-year investigation that’s been scrutinized for its impact on investment and the nation’s treatment of foreign nationals.

Kapla and two Philippine nationals, Hilarion Cajucom Jr and Cristobal David, each received jail sentences of between five and six years, while the company was fined 35 billion tugrik ($18 million), said court spokeswoman Jamsranjav Enkhbayar. The prison terms start immediately, she said.

SouthGobi, controlled by Rio Tinto Group unit Turquoise Hill Resources Ltd., has denied the charges against it and its employees, who have been held in Mongolia since 2012. Free to move around the capital, Ulaanbaatar, but not to leave the country, the three weren’t formally charged until May last year.

SouthGobi spokesman Altanbagana Bayarsaikhan said he could not immediately comment on the court’s decision.

The verdict could have major repercussions for Mongolia’s struggling economy. Even some members of government say it has been handled badly and has sent the wrong message to foreign investors. It has also put the spotlight on a legal system that makes employees liable for a company’s wrongdoing and allows authorities to prevent witnesses from leaving the country.

The case has coincided with Mongolia’s conflict with Rio Tinto that’s blocking $4 billion in project financing to develop one of the world’s largest copper and gold mines. Foreign investment has plunged more than 85 percent in the past two years, sending a once-roaring economy into a tailspin.
Case Resonates

“It is an unusual practice in Mongolia that tax and other disputes are classified as criminal cases,” said Chuluunbat Ochirbat, economic adviser to Prime Minister Saikhanbileg Chimed. Chuluunbat, who was previously head of the country’s central bank, spoke by phone on Monday, before the court case began. “This is a wrong practice and we have to make changes,” he said.

The SouthGobi tax case resonated with the engineers, lawyers, accountants and other foreign professionals that mining companies and others need to do business in the country, which besides copper and gold has some of the world’s biggest coal deposits.

“A criminal conviction would make huge waves internationally,” said Dale Choi, founder of Independent Mongolia Metals & Mining Research in Ulaanbaatar, speaking ahead of the court case. “It would create very negative publicity. Foreign investors and executives would be scared of signing documents in Mongolia.”
Rich Elite

Within Mongolia, some politicians are tapping into a nationalism that portrays foreigners as a rich elite robbing the country of resources, said Choi.

U.S. ambassador to Mongolia, Piper Anne Wind Campbell, was at the court and drew attention to problems over interpretation. “The defendants stated during their trial that they could not understand the interpretation provided or express themselves clearly,” Campbell said in a statement from the U.S. embassy.

Commenting on Chuluunbat’s remarks, Campbell said the economic adviser had “reiterated what international investors have long made clear - that exit bans on foreign business executives whose companies are involved in business litigation in Mongolia have had significant, detrimental impacts on foreign direct investment.”

Other foreigners have been detained in similar circumstances. A former lawyer for SouthGobi, Sarah Armstrong, was held in late 2012 as a witness in the case concluded today. Following weeks of interrogation and considerable media attention, she was allowed to leave.
United Nations

Banking consultant Chris Bradley was in the country at the end of 2013 as part of a team investigating loan defaults for Standard Bank Group Ltd., Africa’s biggest lender. He was banned from leaving for six weeks after police said he had become part of a corruption investigation. After the New Zealander got home, he said he wouldn’t go back.

In October, the Office of the United Nations High Commissioner for Human Rights said it would investigate a claim by Kapla that his detention violates the International Covenant on Civil and Political Rights.

Prosecutors had alleged that SouthGobi evaded taxes of 230 billion tugrik and that it was involved in money laundering. The laundering charges were dropped in December and the alleged tax evasion was cut to 35 billion tugrik.

The defendants have two weeks to appeal to a higher court, spokeswoman Jamsranjav said.

Come spring, Mongolia’s Parliament will review legal changes related to commercial disputes and if passed, the amendments will end the practice of detaining individuals without charges, said Chuluunbat.

Mongolia convicts three former SouthGobi employees of tax evasion; sentenced to five years in prison

Northern Miner

2 February 2015

Three former employees of SouthGobi Resources (TSX: SGQ) including a U.S. citizen will be spending the next five years behind bars after a Mongolian court found them guilty of tax evasion.

A panel of appointed judges from the Second District Criminal Court of Justice sentenced American Justin Kapla and two Philippine nationals, Hilarion Cajucom Jr. and Cristobal David, to prison sentences ranging from five years and six months to five years and ten months. The court also fined SouthGobi US$18 million as a "civil defendant" in the case.

The decision—reached after a three-day trial that ended on Jan. 30—is certain to make mining executives think long and hard about whether to invest in future mining projects in the country. The three employees have been detained and prevented from leaving the country since October 2012. Kapla had been president of SouthGobi Sands LLC, SouthGobi Resource’s Mongolian operating subsidiary, and Cajucom and David were the subsidiary’s general managers of finance.

SouthGobi Resources, which was not a party to the criminal proceedings and was not allowed to call witnesses in its own defense, says it has not committed tax evasion and is waiting for written reasons for the judgment. In the meantime, president and chief executive Enkh-Amgalan Sengee called the conclusions "erroneous," said there was "a complete lack of evidence to support this harsh verdict," and added that "we fully support our former employees and will lodge an immediate appeal."

Sengee did not provide a comment before press-time, but Alexander Molyneux, a former president and chief executive officer of the company between 2009 and 2012, calls the case a “farce” and says it is payback for attempting to sell the company to a Chinese state-owned company. SouthGobi Resources entered into an agreement in April 2012 to sell up to 60% of its shares to Aluminum Corporation of China (CHALCO). The deal was terminated later the same year on Sept. 3, nine days before Molyneux left the company on Sept. 12.

“When we announced the proposed sale of the company to Chinalco in early 2012, we were approached by many senior Mongolians, right up to members of the National Security Council, who told us they would punish us for the move to try to sell to a Chinese state company,” Molyneux writes in an email to The Northern Miner. “They told us they would run a campaign against the company that would result in it being transferred back into Mongolian hands. We complained all the way to the President’s office and were denied any assistance ... It seems to me like the Mongolians are succeeding in their systematic program. You can see the case is a farce ... the judgment is based on testimony from so-called “experts” that have missed pieces of evidence or simply misinterpreted items. Third-world countries are notorious for changing the rules but what’s scary in this case, is they have no qualms impacting the lives of honest hardworking family men.”

Molyneux went on to say that he places the blame squarely on the president of Mongolia, Tsakhiagiin Elbegdorj, who was re-elected to a second term in June 2013. “The case is so high profile there it could not have escaped his attention,” Molyneux argues. “Furthermore, he is a Harvard law graduate, so cannot argue he isn’t sophisticated enough to understand what’s going on.”

In a Feb. 2 press release announcing the verdict and its plans to appeal, SouthGobi Resources warned that if the verdict is not reversed, the company “is likely to be unable to meets its obligations, which could result in voluntary or involuntary insolvency proceedings." As of Jan. 30, SouthGobi Resources had US$3.3 million in cash and US$1.2 million in restricted cash held in Mongolia.

SouthGobi Resources argues that the four separate reports issued by experts appointed by the relevant authorities in Mongolia (one report after each series of investigations) "have all been different and contradicted one another in terms of content and final sums of purported tax evasion."

Specifically, the amount in the latest report of Dec. 2014 (MNT35.3 billion), is 85% lower than the amount alleged in the second experts' report of Dec. 2012 (MNT 234 billion), and 59% lower than the amount alleged in the third experts' report of Jan. 2014 (MNT 84.9 billion), SouthGobi Resources explained in a lengthy press release on Feb. 2.

The company notes that the inconsistencies were recognized by the same panel of judges in August 2014, who at that point viewed the prosecutor's accusations as lacking evidence and ordered the case be returned for re-investigation.

"The company believes that the latest report, like the previous reports, fails to provide any evidence supporting the case against SGS and its former employees," SouthGobi Resources stated.

SouthGobi Resources also argues that it prepared its financial statements in compliance with International Financial Reporting Standards and lodged all its tax returns as required under the country's tax law.

For the period under investigation (between 2007 and 2011), SouthGobi Resources says it earned revenues of MNT456.8 billion (US$349.7 million) from coal sales and paid MNT103.1 billion (US$79.7 million) in taxes in Mongolia. The amount of purported tax evasion, when added to the taxes already paid by the company, would mean SouthGobi's Resources’ tax rate as a percentage of revenue (not profit) would be 74%, 41% and 30% respectively, SouthGobi Resources said. This would be "grossly above the amounts prescribed to be paid on taxable income under Mongolian law."

In addition, the company says it hired one of the largest and most reputable international auditing firms to conduct an independent assessment of the allegation, which SouthGobi Resources says concluded that the experts' reports had no basis and were the result of incomplete reviews and an erroneous interpretation of the company's financial statements. According to SouthGobi Resources, the auditing firm also concluded that the experts failed to consider all relevant information and documents provided by the company during the three-year investigation.

SouthGobi Resources also points out that on Jan. 29, the prosecutor recommended that any sentence should exclude imprisonment, but then reversed that stance, and on Jan. 30 recommended that the sentence include jail time.

The company’s Ovoot Tolgoi coal mine is 40 km from the China-Mongolia border and started production in April 2008. On Nov. 10 2014, the company reported that production of raw coal in the third quarter fell to 0.17 million tonnes, down from 0.55 million tonnes in the second quarter. The decrease was due to the company’s decision in June 2014 to cut production and place about half of its workforce on furlough in response to poor market conditions.

Turquoise Hill Resources owns a 47.9% stake in SouthGobi Resources and Rio Tinto owns 51% of Turquoise Hill Resources.

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