Risky Mongolia could revive this hard-hit investment trust

Last week’s article noted that some of the best-performing investment companies of 2012 were stocks that had previously disappointed. There is a long list of disappointing stocks to trawl through to identify what might surprise on the upside in 2013 but one I have been meaning to write about for ages turned out to be one of the worst-performing funds in 2012: Origo Partners.

The decline was dramatic – the share price fell from a high of more than 51p in June 2011 to 13.375p today; the stock was trading at more than 30p as recently as last March.

Rise and fall

Origo started life late in 2006 as Origo Sino-India, and was designed to invest in fast-growing Chinese and Indian private companies. Its share price collapsed as the credit crisis took hold and, in September 2009, it was merged with Origo Resources (a separate fund launched in November 2007, which had also fallen out of favour with investors).

At the same time, it moved its focus away from the Indian side of the business to China and changed its name to Origo Partners. The fund is now designed to be a play on China’s rapid urbanisation and industrialisation, the idea being that this will fuel demand for resources and a need for investment in renewable energy and clean technology. The portfolio is quite concentrated, with the top 10 investments accounting for 90%.

The company was expanded through a couple of share issues (June 2010, raising £20 million at 25p, and December 2011, raising £21 million at 36p) and an issue of $60 million of zero-dividend convertible preference shares in March 2011.

The preferences mature in March 2016, when holders can opt for $1.28 in cash or, at any time before maturity, choose to exchange them for ordinary shares at $0.95 each.

At the end of December 2011, Origo had net assets (less the preference shares) of $241 million; by September 2012, this had fallen to $202 million or 57 cents per share. This is the last published net asset value (NAV). While we can only guess at the likely NAV decline since then, it still seems likely Origo is trading at a substantial discount.

In 2011, the company initiated a $1.5 NAV buyback programme, which, while modest, should be NAV-enhancing. Net cash in September was $25.8 million, so there is room to step up share repurchases in future.

Origo is self-managed, with more than 50 employees and ongoing expenses (excluding performance fees) of about $6 million. The senior management positions are held by executive chairman Wang Chao Yong, chief executive Chris Rynning and chief financial officer Niklas Ponnert.

A performance fee introduced in 2009 gave senior management 20% of realised profits on investments over a 10% per annum hurdle. At the end of June 2012, Origo had accrued performance fees of $6 million.

There are also 13.6 million options exercisable at 31p, 11.5 million exercisable at 23.45p and 4.8 million granted in 2009, initially exercisable at 15.5p but this grows by 3.5% per annum. Most of these are held by the senior management. While all of these options are underwater, they could act as a drag on future performance and could add 8.3% to the issued share capital.

Future shock

So what upside is there in the portfolio? A lot will depend on your view of China and whether you believe the recent positive news coming out of the country will be sustained, but one issue, more than any other, has affected Origo’s recent fortunes: the introduction of a new mineral law in Mongolia.

More than half (54%) of the fund is invested in metals/mining stocks and Mongolian projects account for more than 40% of the fund. The biggest is Gobi Coal & Energy but it also holds stakes in Moly World, a molybdenum/tungsten project, and Kincora Copper, Kincora’s Bronze Fox copper/gold deposit, sits alongside Rio’s larger Oyu Tolgoi operation.

Gobi Coal (almost 30% of the fund) is also held by Baker Steel . Recently it wrote down its carrying value on the back of poor prices for Mongolian coal at the Chinese border. Gobi was supposed to float in 2012 but the Mongolian government started to make noises about rewriting the law that underpins the state’s relationship with big, mostly foreign-owned, resource projects, and this unnerved investors.

As drafted, the law says Mongolian citizens must hold at least 34%/51% in each project (depending on the type of project), the state has pre-emptive rights in the event that a project changes hands and it can take a stake in the licence holder of a deposit for no consideration.

Unsurprisingly, investors are protesting. If the law is watered down, Origo’s shares should jump; if not, the focus switches to its remaining investments.

These include Celadon Mining, a Chinese coal miner, two holdings in the agricultural sector (25% of the fund) China Rice (rice processing and distribution) and RM Wiliams (an Australian farming company exporting to China) and a spread of ‘clean tech’ investments (17%) including stakes in China Cleantech Partners (a fund launched in conjunction with Ecofin ), Unipower Battery (lithium ion batteries) and Niutech Energy (tyre and plastic recycling).

We will know what the real discount is when Origo releases its end-December NAV estimate around the end of this month, when it makes its next interim statement. Short-term success largely depends on factors outside its control but, with a fair wind, Origo could be a winner in 2013.

James Carthew is a director of Sapient Research