Mongolia Real Estate Report

Introduction from the editor When I first came to Ulaanbaatar just four years ago, I found a very different city to the one I work in today. The Mongolian growth story had not yet begun and it showed. The buildings were decrepit, foreigners were a novelty, and the food was predominantly mutton. Just four years on, none of these remain true. Fast paced construction fueled by massive inflows of Foreign Direct Investment have allowed large structures such as the The Monnis Tower, The Blue Sky, and the Central Tower to dominate the city’s skyline. The expatriate population has swollen over recent years, with thousands of professionals having located to the steppe in order to make the most of the country’s considerable opportunity. These changes have taken place against the backdrop of unprecedented economic development. Having achieved a real GDP growth rate of 17.3% over 2011, the Mongolian economy is outperforming every one of the BRIC economies. Mongolia is predicted by the World Bank to be the world leader in economic growth over the next two decades. This momentum appears to have transferred effectively into the real estate sector, with many property assets facing double-digit value appreciation over recent years. Although huge gains have already been realized, it appears the market is only just beginning to gather momentum. As the country continues its rapid growth trajectory and urbanization, immigration and upward mobility spur demand for all types of real estate, a combination of unique conditions is also limiting the growth of an inadequate supply. The Mongolian real estate market however continues to face a chronic information deficit, resulting in many of these future price drivers yet to be priced into the market. Asia Pacific Investment Partners and Mongolian Properties seeks to bring some clarity to investors looking to enter this exciting market by publishing this Mongolian Properties Real Estate Report 2013. This book is the first comprehensive piece of research into Ulaanbaatar’s real estate market that is backed by local data and ten years of direct operational expertise. Drawing upon the combined wisdom of all of Mongolian Properties, the oldest real estate agency in the country, the Mongolian Properties Real Estate Report 2012 aims to convey a decade of expertise to the reader in a relatively simple document. With thoughts, reflections and forecasts having been recorded in a comprehensive series of interviews with each member of the company’s team, we are confident that the reader could not be in better hands. Additional data for the Mongolian Properties Real Estate Report 2013 was sourced from Tenkhleg Zuuch, Mongolia’s leading real estate trade magazine. This report is divided into three sections: a country overview designed to guide those new to the country through its politics, macroeconomic situation, and legal and tax regimes; an analysis section that describes and examines many of the trends and drivers that have, and should continue to shape the real estate over the coming years and finally an examination of the real estate market detailed into the six key districts of Ulaanbaatar – with some ideas of future price trajectories. However you are thinking of investing in the Mongolian growth story, Asia Pacific Investment Partners is confident that the Mongolian Properties Real Estate Report 2013 is the most comprehensive examination of market drivers currently published. We hope you find it a useful tool in determining your investment strategy for Mongolia!

Content Editor – Joe Holloway Design & Production - Urtnasan Erdenebileg Art Director – Naranmunkh E Editorial Assistant – Yanjindulam Tuvd Editorial Assistant – Saruulzaya Bayarsaikhan Marketing Manager - Buyanhishig International Distribution – Stuart Evans Financial Analyst – Locke Brown Editorial Contributor – Evan Casey Operations Coordinator – Andrew Bergman Administration – Kevin Trzcinski

Business Development Director [email protected] UK Tell: (+44) 7776 195209 HK Tell: (+852) 9549 2188

Websites www.mongolia-properties.com www.apipcorp.com

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Mongolian Properties Disclaimer Every effort has been made to ensure the accuracy of the information and data contained in this book however, the editors and the publishers accept no responsibility for any errors it may contain, or for any loss, financial or otherwise, sustained or incurred by any person or entity using this publication.

Copyright All rights are reserved in this publication. No part of this publication can be re-produced displayed, stored, or transmitted in any manner without the prior written consent of Mongolian Properties.

Photo Credits Photographers: Hamid Sardar /Khasar Sandag

To order a copy of this report, please contact: Kevin Trzcinski, Group Sales & Marketing Director [email protected]

Table of contents

Map of the city.......................................................................................p2 Macroeconomics.................................................................................p11 Politics....................................................................................................p25 Legal System.........................................................................................p33 Tax..........................................................................................................p43 Section Two...........................................................................................p51 Residential Market................................................................................p75 Office.....................................................................................................p81 Retail......................................................................................................p89 Sukhbaatar............................................................................................p99 Chingeltei............................................................................................p111 Khan Uul...............................................................................................p119 Bayanzurkh..........................................................................................p129 Bayangol.............................................................................................p135 Songinokhairkhan...............................................................................p141

DISCLAIMER: CERTAIN STATEMENTS IN THIS DOCUMENT ARE ‘‘FORWARD LOOKING STATEMENTS’’. THESE FORWARD LOOKING STATEMENTS ARE NOT BASED ON HISTORICAL FACTS BUT RATHER ON MANAGEMENT’S EXPECTATIONS REGARDING FUTURE GROWTH, RESULTS OF OPERATIONS, PERFORMANCE, FUTURE CAPITAL AND OTHER EXPENDITURES (INCLUDING THE AMOUNT, NATURE AND SOURCES OF FUNDING THEREOF), COMPETITIVE ADVANTAGES, BUSINESS PROSPECTS AND OPPORTUNITIES. SUCH FORWARD LOOKING STATEMENTS REFLECT MANAGEMENT’S CURRENT BELIEFS AND ASSUMPTIONS AND ARE BASED ON INFORMATION CURRENTLY AVAILABLE TO MANAGEMENT. FORWARD LOOKING STATEMENTS INVOLVE SIGNIFICANT KNOWN AND UNKNOWN RISKS AND UNCERTAINTIES. A NUMBER OF FACTORS COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THE RESULTS DISCUSSED IN THE FORWARD LOOKING STATEMENTS INCLUDING RISKS ASSOCIATED WITH VULNERABILITY TO GENERAL ECONOMIC MARKET AND BUSINESS CONDITIONS, COMPETITION, ENVIRONMENTAL AND OTHER REGULATORY CHANGES, ACTIONS BY GOVERNMENTAL AUTHORITIES, CAPITAL MARKET CONDITIONS, RELIANCE ON KEY PERSONNEL, UNINSURED AND UNDERINSURED LOSSES AND OTHER FACTORS, MANY OF WHICH ARE BEYOND THE CONTROL OF THE COMPANY. ALTHOUGH THE FORWARD LOOKING STATEMENTS CONTAINED IN THIS DOCUMENT ARE BASED UPON WHAT MANAGEMENT BELIEVES TO BE REASONABLE ASSUMPTIONS THE COMPANY CANNOT ASSURE INVESTORS THAT ACTUAL RESULTS WILL BE CONSISTENT WITH THESE FORWARD LOOKING STATEMENTS. THE COMPANY HEREBY EXPRESSLY DISCLAIMS ANY LIABILITY FOR ANY INACCURATE OR OUT OF DATE INFORMATION PRESENTED IN THIS DOCUMENT AND THE COMPANY SHALL HAVE NO OBLIGATION TO CORRECT, AMEND OR UPDATE THIS DOCUMENT IN THE FUTURE FOR WHATEVER REASON. THIS PRESENTATION IS FOR INFORMATION PURPOSES ONLY AND DOES NOT CONSTITUTE AN OFFER OR SOLICITATION FOR AN OFFER WITH RESPECT TO THE PURCHASE OR SALE OF ANY SECURITY. NEITHER THIS DOCUMENT NOR ANYTHING CONTAINED HEREIN SHALL FORM THE BASIS OF, OR BE RELIED UPON IN CONNECTION WITH ANY CONTRACT OR COMMITMENT WHATSOEVER.

ULAANBA Bileg Department Store Urgoo Movie Theatre

Teng Mov Thea Gandan Monastery

UB Palace d

TBD Anduu

Maxmall Grand Plaza

tar Ulaanbaa t en Departm Store

Naran Mall

ATA R M A P SOS Medica Ulaanbaatar

gis vie atre

Natural Museum

Chinggis Hotel IT Center ent n Parliam Mongolia t building en Govertm

ar

Sukhbaat square

State ent Departm Store

State Gallery ic Academ Theatre of a m Dra

us

State Circ

Wrestling Palace

Central Tower

Blue Sky Tower Park View Temple View

Olympic Residence

Bayangol Hotel

Regency Residence

Children Park

Naran Plaza

Bayanmongol Khoroolol

Central Stadium

Sukhbaatar District

Bayangol District

Chingeltei District

Khan-Uul District

Bogd khan Nuseum

Bayanzurkh District

Thoughts from the CEO Ulaanbaatar: The changing face of one of Asia’s most vibrant frontier cities The view from the top of one of Ulaanbaatar’s newly built skyscrapers offers a cityscape markedly different from that of only a few years ago. Numerous luxury high-rise buildings have sprung up in the centre of town, and construction of new high-end residential, commercial and mixed use developments continues apace. Several leading international hotel brands have moved into the market and, in addition to the existing Kempinsky, Shangri-La and Hilton are now also building new five star hotels in the city centre. The stock of housing catering to the demands of the middle and low income sectors of the city is also increasing dramatically, under pressure both from an increasingly affluent middle class, and high levels of immigration from the Ger district into formal brick and mortar structures. In addition to rapid development within the city, new residential developments are also springing up in the valleys of Zaisan, Nukht, and Ikhtenger, pushing the boundaries of the city outwards. Following a decade of chaotic development the government is now also beginning to take a more considered approach to the city’s development, and is implementing an aggressive infrastructure program to improve traffic, water and heating conditions. Driving these changes in the cityscape is a highly eclectic and rapidly changing population. As the capital of one of the world’s fastest growing economies, Ulaanbaatar is currently witnessing a rapid influx of highly educated overseas Mongolians returning home, together with rapid ongoing urbanisation as a result of migration from the countryside. Added to this the city is also becoming increasingly cosmopolitan, with large numbers of investors and bankers from global financial centres such as Hong Kong, London, Singapore and New York mixing with miners from Australia and Canada. The result is a highly energetic and entrepreneurial culture that manifests itself not only in business, but also in the city’s vibrant cafés, bars and nightspots. As a result of the country’s mining boom, combined with rapid improvement in the level of human resources, Ulaanbaatar is now benefitting from a spillover effect into other areas of the economy, leading to rapid growth across numerous industries, in particular real estate, construction, manufacturing, and tourism. Combined with these positive forces are also a number of constraining factors, in particular the city’s fixed heating grid, the scarcity of parking, and the overloaded road network, all of which conspire to create pockets of extraordinary opportunity for real estate investors in specific locations across the city. We hope that this real estate report will shed light on some of the key industry dynamics at play and provide investors and family planners alike with a useful guide to the opportunities currently available in the real estate market in Ulaanbaatar, as well as pointers as to which areas to avoid. A special thanks to Joe Holloway, the research team at Mongolian Properties and our friends at TenchlinZuch for all of their research and hard work, without which this report would not have been possible. We hope you find this report useful and look forward to assisting you further as you explore the opportunities available in Ulaanbaatar. Yours Sincerely,

Lee Michael Cashell

Chief Executive Officer Mongolian Properties LLC

Russia

Mongolia

China

Macroeconomics

Macroeconomics Just twenty years ago, a newly democratized Mongolian state was struggling to survive a transformation recession as its previously subsidized agricultural enterprises were forced to face international competition. Today, through market liberalization, democratization and a certain amount of geographic good fortune, the country is recognized as one of the world’s fastest growing economies. Mongolia achieved real GDP growth of 17.3% in 2011, significantly outperforming every one of the BRIC economies. The World Bank estimates suggest 2012 will play out in much the same way; based on Q1 observed data real GDP growth is forecast to be 16.7%, in comparison to 5.8% across the BRICs, and 2.5% worldwide.

Despite demand from China appearing somewhat weakened according to Q2 2012 metrics, growth in Mongolia’s industrial output remains healthy. The mining sector that underpins Mongolia’s growth saw output rise by 10% y-o-y in April 2012 according to the World Bank. The potential for increases in industrial output remain substantial in the medium term, with Oyu Tolgoi already having begun to stockpile ore from its open pit, being on track to begin commercial production in Q1 2013. Investment Basics: The Mining Sector The estimated value of Mongolia’s resource wealth is approximately US$1.3trillion. According to ResCap, a Mongolia-focused investment bank, there are approximately 6,000 known deposits of over 80 different minerals in the country, including gold, copper, coal, uranium, molybdenum, tin and iron. However as just 27% of the country has been surveyed to a scale of 1:50,000. The country’s exploration potential is vast. Of the many operations currently in the country, two deserve a specific mention. The first of these, the internationally renowned ‘Oyu Tolgoi’ (OT) representing the largest undeveloped copper deposit worldwide, situated 80km from the Chinese border. The project is managed through a joint venture between Ivanhoe Mines and Rio Tinto, who have a 66% stake, whilst the Mongolian government controls the

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Macroeconomics remainder. Research by Ivanhoe Mines estimates that the deposit contains around 37 million tons of copper and 1,431 tons of gold and is considered to be worth USD$350 billion (around 50x the value of Mongolia’s current GDP). Commercial production at OT is set to commence in Q1 2013 at the Southern Oyu open pit mine, whilst the Hugo North division (a black rock cave mine) is on track to extract its first ore in 2015.

Photo by Hamid Sardar / Khasar Sandag

Despite deposits of copper and gold playing a crucial part in Mongolia’s economic development, coal looks to be the country’s most important resource over the coming years, possessing an estimated 163.2 billion tons of the mineral as opposed to just 77.3 million of copper. The largest operation is the ‘Tavan Tolgoi’ (TT) project, located just 200 km from the Sino-Mongolian border. The site is believed to be the second largest untapped reserve in the world and is made up of over 6.4 billion tons of coking coal. Extraction began as far back as 1960, but until recently, the mine has been functioning subject to severe inefficiencies and output constraints. To unleash the coalfield’s true potential, the government has decided to split the project in two; one half it will develop alone, the other being opened up to foreign investment. The public sector operation is to be financed through a three way international equity IPO that will list shares in London, Hong Kong and Ulaanbaatar in Q1 2013, whilst international players are currently being courted to fund the development of the private ‘West Tsankhi’ venture. Located between Russia and China, Mongolia has the potential to supply two of the world’s largest growth economies with the raw materials needed to sustain development. The Chinese are dominant in the consumption of Mongolia’s resources, receiving more than 90% of its exports. The currently dyadic Mongolian current account is cause for concern, with resource revenues perceived to be at the mercy of protectionism, infrastructural bottlenecks and imperfectly competitive price setting regimes. A project of rail network renewal is currently underway in order to ease some of these concerns and it will expand the service links to both China and the TransSiberian Railway, which will logistically connect OT and TT to the ports’ of Russia’s Pacific Coast. Access to naval trade through both of Mongolia’s neighbors is expected to ensure a fair price is met for the country’s extracted minerals. Avoiding the potential threat of Chinese monopsonistic abuse is thus greatly reduced, as the goods are allowed to face internationally competitive commodity prices. The extraction of Mongolia’s previously latent resources have allowed deposits to be

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Macroeconomics converted into tangible wealth, as exports reached a record high of US$4.8bn at the end of 2011, up from just US$2.5bn four years earlier. Coal outflows were valued at US$2.2 billion in 2011, more than twice the total of the previous year (US$0.9 billion), whilst the contribution of copper to the Mongolian current account increased by 25% over 2011 (although much benefit was derived from the commodity’s price increase over the period).

Growth has been facilitated by the easing of the country’s production constraints by capital and expertise inflows from a number of multi-national mining corporations. Levels of FDI have surged, reaching 39% of GDP in 2011. Forecasts based upon Q1 results expect this figure will be exceeded in 2012, as foreign direct investment is predicted to be US$4.4bn (roughly half of the country’s GDP).

Export Expectations Despite a strong performance over recent years, recent data has upset the trend of positive export growth. Exports contracted by 2.8% for the first time in two years in April, whilst coal exports, representing the Mongolian external sectors largest earner, have displayed negligible growth in recent months. Copper prices have been falling since January, which has translated into a 19% y-o-y drop in the goods total revenue.

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Macroeconomics The short-term vulnerability of Mongolia’s export performance is connected to a number of worldwide phenomena. Pessimism and uncertainty borne out of the current Eurozone crisis has created volatility in world commodity markets, directly impacting Mongolian export revenues. China’s Consumption of Mongolian Exports

As resulting global trade slows, continually disappointing growth figures reported in China (which currently consumes 93% of Mongolia’s total exports) has led to slackening demand growth for Mongolian commodities.

Investor Insight: Can Chinese Growth Sustain Mongolian Exports Q2 2012 saw Chinese real GDP growth at its lowest level in three years. After reachieving double-digit rises in gross domestic product from Q4 2009 to Q2 2010 as a result of decisive counter-cyclical fiscal policy in the wake of the global economic crisis, the Asian giant has recently seen figures slip unusually low. Part of this is due to deliberate tightening of monetary conditions, shifting domestic policy from ‘relatively loose’ to ‘prudent ’ in order to subdue high levels of inflation and fears of an overheating real estate market. Slowing growth across the world’s high income economies have continued to depress economic activity worldwide; in 2011 growth decelerated to 1.6%, about

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Macroeconomics half the value recorded in the previous year.

Concerns over China’s economic stability are only natural for those with vested interests south of the Mongolian border (as indeed they are for the majority of Asia). Despite a bleak global economic outlook, there are however positive signs that suggest a further deterioration of the Sino-Mongolia commodity dyad may be limited. With China’s inflation hitting 30-month lows in July 2012 and consumer prices rising by just 1.8% compared to a year earlier, CPI looks set to fall significantly below the yearly target price increase of 4 percent according to Zhang Zhiwei, Chief Economist at Nomura in Hong Kong. This may well be the catalyst needed to facilitate the main body of the Chinese counter cyclical effort. The PBoC’s inflation aversion being the key motivation for the reasonably tight policy witnessed towards the beginning of 2012. Policymakers are now faced with increased room for maneuver; with inflation control no longer their most pressing issue, the government will be able to shift its focus to securing growth.

With these factors taken into consideration, the international outlook on the Chinese economy is perhaps more bearish than is justified. Key indicators from the OECD, China’s National Statistics Bureau and the official purchasing managers index have all showed a downward trend since early 2010. However each metric has declined

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Macroeconomics much more gradually then was observed in 2008, whilst the rate of deceleration has slowed in recent months, suggesting the economy may be beginning to stabilize. As fiscal policy is rolled out in the near future, and the monetary changes enacted earlier this year feed through with the usual lag to the real economy, the Chinese look set to reestablish their growth momentum in the medium term. This should offer much comfort to Mongolian exporters. A Chinese stimulus founded upon infrastructure spending and increased business credit has the potential to steady the commodity demand forming Mongolia’s major export channel. Asia Pacific Investment Partners remains cautiously optimistic for Mongolia’s export revenues in the medium/long term, considering that the power of the Chinese policy response should not be underestimated. Foreign Direct Investment: Facilitating export growth Extraction of mineral wealth, the major force behind Mongolia’s GDP growth, has been funded by aggressive Foreign Direct Investment over recent years, which looks set to continue well into the future. With the exception of 2009, where conditions were weakened due to international financial instability, total FDI flows to Mongolia have increased consistently on a yearly basis.

Investment Basics: FIFTA Registered Companies Much Foreign Direct Investment in Mongolia begins as foreign entities start a FIFTA (Foreign Investment and Foreign Trade Agency) registered company. With the exception of land ownership , FIFTA registered companies face identical legal and tax regimes and enjoy exactly the same rights as Mongolian incorporated companies. Registration with FIFTA costs approximately $1000 (including registration fees, stamp fees, notary costs, and administrative charges), however before the process can commence it is necessary for the company to prove that they are in possession of a minimum of $100,000 of available assets. FIFTA registration requires the

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Macroeconomics submission of the following documents: the application form; the company’s charter; a document to confirm the company address; the minutes of the foundation meeting; the balance sheet confirming the required minimum amount of owners’ equity; a letter from the banking institution stating the shareholder has maintained its accounts in good standing; documents confirming the identity of founders; and payment of the required fee for state registration. Once an application is received, FIFTA will usually issue a company its certificate within 7-14 working days.

Photo by Hamid Sardar / Khasar Sandag

For these reasons, FIFTA registration is seen as a simple and cost effective way of allowing foreign direct investments to compete on a level playing field with Mongolian companies.

Mongolia’s desirability as an investment location for many has stemmed from: interest in its under-utilized mineral wealth; combined with its reputation for democratic and stable politics , investor friendly legal system, and attractive tax environment. The OECD FDI Regulatory Restrictiveness Index measures statutory restrictions on foreign direct investment in 55 countries worldwide, based on data drawn from across 22 sectors. Mongolia’s rank of 0.096 represents an economy considerably more open to FDI than in many comparable macro investment cases, its score being lower than Russia’s 0.189, China’s 0.408, and both the Non-OECD and World averages.

The Oyu Tolgoi project, finalized after six years of negotiation in 2009 has spearheaded the development of Mongolia’s investment inflows. The mine’s construction budget for 2011 alone was $2.3 billion (over 1/3 of the country’s 2010 GDP), the operations total assembly

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Macroeconomics costs being estimated to have required $7 billion of foreign capital. The apparent success of Oyu Tolgoi has led to a significant rise in FDI flows into the country from resource-focused investors worldwide.

A stabilization in Foreign Direct Investment is expected by Asia Pacific Investment Partners over the coming years. Capital flows to the mining sector are set to decrease somewhat, as the first stage of Oyu Tolgoi is completed in Q3 2012 and the financing of operational equipment for the open pit mine begins to drop off. Despite this, investment in the country’s foremost mining project looks set to support growth well into the medium term. Development of the mine’s two capital intensive, high tech block cave mines are set to continue until 2015 and 2017 respectively, whilst the financing of considerable infrastructural expansion is required if the capacity constraints currently limiting the mine’s efficiency are to be eased. Mongolia’s resource led growth has begun to spill over across the economy, with increased growth and Foreign Direct Investment expected to face many industries other than those directly related to mineral extraction.

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Macroeconomics As opportunities in these sectors are appreciated by international entities increasingly aware of Mongolia as an investment location, it is predicted that FDI flows will remain buoyant, with everything from luxury consumer brands, to insurance, to multi-nationals looking to break into the high growth market. Government Spending Recent years have seen government spending growth outpace increases in the country’s revenues. Although a country in Mongolia’s position may be expected to run deficits now to facilitate immediate infrastructural development and poverty alleviation, many are concerned that if the government is not able to reduce its deficit, fiscal sustainability may be threatened.

Source: NSOM, IMF, BoM, World Bank The first four months of 2012 saw government spending increase 32% in nominal, and 13% in real term compared to the previous year. Revenues cannot seem to keep pace, growing just 21% in nominal terms over the same period and 4.2% if inflation is taken into consideration. The withdrawal of customs and excise taxes last year on petrol and diesel products has drastically weakened Mongolia’s domestic tax base. According to y-o-y estimates from data obtained in April, the former are to expect a 26% reduction, whilst the latter are likely to fall by as much as 50%. This is a substantial loss given that the combination of the two items accounted for around 8% of total revenues in 2011. On top of these more recent developments, the Mongolian treasury is still feeling the effects of its 2011 decision to abolish its Windfall Profits Tax, which was responsible for roughly a fifth of government revenue last year. These pressures have been somewhat offset by maintained growth in tax revenues derived from personal, corporate and domestic goods markets, and VAT on capital goods imports. These however do not look capable of filling the deficit in the medium term. To add to its problems the Mongolian government is finding policy increasingly constrained by its long-term commitments. A share of future tax revenues have already been received in the form of pre-payments from the developers of Oyu Tolgoi and Tavan Tolgoi, meaning

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Macroeconomics

Photo by Hamid Sardar / Khasar Sandag

a proportion of potentially taxable revenue in the future has already been accounted for. Furthermore, over 1.5 million of the population have opted to trade their state issued Erdenes Tavan Tolgoi shares for MNT 1 million per person. The state has already started selling 10% of its 51% holding of the venture to local companies; a successful sale would raise more than enough capital to cover the government’s fiscal liabilities, however if the actual sum achieved is insufficient, then the state would be liable to cover the amount necessary. Despite continued spending increases in Q1 2012, over the medium term the Mongolian government clearly appreciates the need to adjust government expenditures. The FSL (sometimes called the Fiscal Responsibility Law) passed in June 2010 sets out strict fiscal rules, requiring all government budgets to ensure they do not allow the country’s structural deficit to exceed a limit of 2% of GDP after the law becomes binding in January 2013. As of April, the fiscal deficit lies at 4.2% of GDP, whilst the structural deficit is 6.1 % of GDP. Although hitting its self-imposed target will be a challenge, certain conditions in Q3 and Q4 2012 should help the government make the crucial cuts. The Integrated Budget Law was passed in December 2011 in order to support fiscal sustainability and to aid the successful implementation of the FSL. The legislation is designed to strengthen the public sector’s investment framework by requiring more rigorous feasibility studies, whilst implementing increasingly demanding checks on planned expenditure programs to ensure they are necessary in accordance with national priorities. Like many emerging markets with credible democratic institutions, Mongolia is affected by a politically motivated fiscal cycle. The proximity of the June parliamentary election undoubtedly inflated the government’s budget early in the year, as politicians attempted to enact populist policies in an attempt to sure up their chances of reelection. This is reflected

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Macroeconomics in particular by the quarters’ substantial increases in public sector wages and salaries (up 36%). Asia Pacific Investment P a r t n e r s anticipates that Q3 and Q4 will be a period of fiscal consolidation, as government expenditure Photo by Hamid Sardar / Khasar Sandag experiences a negligible rate of growth, whilst revenues continue to be driven up by Mongolia’s double digit growth. Public sector wage increases from the start of the year will have largely been eroded by inflation, whilst the new parliamentary cycle should provide a combination of incentives and constraints for policymakers, which will hopefully encourage fiscal prudence. Inflation Inflation is the largest challenge for the Mongolian economy at present, as increases in the price level remain both high and volatile. Peaking at over 30% in the summer of 2008 before turning briefly negative the following year, Mongolia’s inflation as of April 2012 was estimated to be 16% y-o-y, much higher than the Bank of Mongolia’s target of 10%.The situation is slightly worse in Ulaanbaatar, being the epicenter of the Mongolian economy. The city’s headline inflation rate climbed to 17.8% y-o-y from 9.4% in December.

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Macroeconomics Current high inflation is being fueled by both core inflation and increases in the price of food, most notably meat. Prices of ‘core’ goods rose by nearly 13% y-o-y in April 2012 this was responsible for roughly half the increase in headline inflation. Food prices however account for about 40% of Mongolia’s basket of goods, and represent the key driving force behind inflation and its volatility. Increases in meat prices have been borne out of supply shocks to the agricultural industry, most notably harsh weather conditions. As the breeding of new livestock takes time, the supply lag has pushed up the prices of meat nationwide.

The continuation of rapid growth in government expenditure has however contributed to the generalized wage and price pressures. Increases in cash handouts (such as the Tavan Tolgoi share option program, effectively giving MNT 1,500,000 to each citizen) and growth in public sector wages in 2012 have drastically increased inflationary forces. The resulting changes in civil servants wages are seen as particularly damaging, causing many private sector firms to immediately raise wages by a proportional amount in order to remain competitive. Reacting to these conditions, the Bank of Mongolia’s benchmark rate was raised by 50 basis points in March 2012 and 50 basis points again in April 2012, setting the interest rate at 13.25%. However, these bold policy prescriptions appear to have little effect with the headline national rate of inflation at 17.8%, the real policy rate is negative in real terms, creating no incentive for the cooling off of demand side pressures, as both investment and consumption remain high. Combined with consistently high fiscal spending, the Bank of Mongolia is considered by most commentators to be largely powerless in achieving its target. Headway is likely to be made in the coming periods however as the new parliament (the furthest it is possible to be away from the next electoral cycle) begin to cut back their expenditure in order to reduce the structural deficit down to the 2% level stipulated by the FSL. This will likely ease many of the demand side pressures underlying Mongolia’s recent inflationary experience, giving the Bank of Mongolia room to effectively maneuver policy.

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Macroeconomics Wage Growth: The emergence of the Mongolian Middle Class Mongolia’s rapid economic growth has led to considerable increases in the wage rates across many groups of society. The average national wage according to the National Statistics Office of Mongolia rose by 24% between 2011 and 2012 alone, from MNT 341.5 thousand to MNT 424.2 thousand, a 13.8% increase in real terms.

Increases in the wage packages outside of the mining sector are also considerable, with average incomes across the economy increasing by 17.3% over 2012. As Mongolia’s growth continues on its double-digit path, practically every industry is expected to maintain wage growth momentum. This upside potential is particularly striking in the financial services industry, which saw average real incomes expand by 16.3% over the period, and the infrastructure sector, whose workers saw their real incomes increase by 21.0% last year. A wage rate increase in these key industries has been accompanied by an expansion in the labor market size, as high demand incentivizes the rapid expansion of capacity. The number working in the mining and quarrying sector has increased by 34,900 in 2009 to 45,100 in 2011, the number in financial services from 12,300 to 16,200 over the same period, whilst the quantity of those with careers resting within the infrastructure has expanded from 18,700 to 75,800. These factors point to the emergence of a wealthy class that represents an increasingly large proportion of Mongolian society. As the economy provides opportunity, more and more citizens are prepared to enter into increasingly white-collar industries. The growth of wages have fueled consumer demand primarily focused upon the purchase of increasingly expensive vehicles, real estate, and western consumer goods, with utility being derived from both the actual consumption, and the inherent status of such items.

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Politics

Politics

Photo by Hamid Sardar / Khasar Sandag

Mongolia peacefully transitioned to democracy in July 1990, enshrining multi-party politics constitutionally in 1992. Quick to embrace principles synonymous with the western liberal democratic ideal, the country is often used as an illustration of regime consolidation and stability in the otherwise tumultuous post Soviet space. Despite a strong track record when compared to its geographical peers, the exact course of Mongolia’s political trajectory in just two decades on is still somewhat uncertain. Recent incidents, such as the controversial parliamentary elections of 2008 and certain short-lived spells of resource nationalism have highlighted the country’s youth and inexperience. Shocks of this magnitude are however reasonably commonplace when compared against the majority of frontier markets worldwide, being a risk which investors much bear to capitalize on lucrative growth potential. This is not to say that signs of malaise in the Mongolian system can be brushed under the carpet. Instead it should be noted that the country is prone to similar temptations that plague transition regimes all over the post-soviet bloc. Thus, the question is to what extent Mongolian politics is institutionally and culturally prepared to avoid falling off the democratic wagon. Institutional Structure Mongolia’s institutional configuration is best described as ‘semi presidential’. Thus executive power is split between a Prime Minister (endowed with the most power of any single actor in the Mongolian political system) and the President (who is commander in chief of the military and acts as Mongolia’s head of state). The Prime Minister is drawn out of the majority party in Mongolia’s unicameral legislature (the State Great Hural or Parliament of Mongolia), their mandate being derived from the

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Politics legitimacy of the majority of legislators who nominated them following each separate parliamentary election. In contrast the president is elected directly by the country’s population once every four years. The outcome is determined by simple plurality, and candidates are constitutionally allowed to serve up no more than two terms in office. Once in office the President is constitutionally obliged to renounce the membership of any political party to which they were previously affiliated. Despite the office drawing its mandate from the people as opposed to parliament, legislative checks are on the position are in place. If a two thirds majority of the Ikh Khural (the Parlament of Mongolia) deems the President President of Mongolia to have abused the position, or violated their oath of nonTsakhiagiin Elbegdorj partisanship they face removal from office. This check is balanced by the President’s right to veto against any part (or the entirety) of any law or decision passed by the country’s legislative body. The Ikh Khural In terms of the country’s legislature, the Ikh Khural consists of 76 members, each elected by their own single seat constituency, requiring a simple plurality to gain office. The country’s electoral convention stipulates that a legislative election is only to be considered valid if 50% of the electorate turns up to the ballot box, placing emphasis on the importance of participation within the electoral mechanism. The body is charged with drawing up and approving new laws in conjunction with the government, and passing the national budget on a yearly basis with a simply member majority. Super majorities are required to overrule the Presidential veto, and ratify constitutional change. The political trajectory Mongolia has embarked upon, has somewhat troubled scholars of political science who study the institutional arrangements of states at the time of democratization. Semi-presidential regimes have been commonplace in the postcommunist world, and have more often than not provided the framework for the failure of the democratic process. The experiences of Russia, Kyrgyzstan and Kazakhstan are testament to this, where the constitutional counterweights between branches of government have been gradually eroded by powerful executives. The result has been the move from party dictatorship under the communist mechanism to personal dictatorship, as individuals begin to dominate every aspect of political life. The constitutional strength of the Mongolian system stems from the relative power endowments it permits the branches of government. By giving the country’s parliament the significant powers outlined above, authority has effectively been fragmented; split between an accountable executive and influential legislature. As such, the Mongolian institutional arrangement has removed the possibility of the president eroding their legislative check; changing the political game from one of ‘semipresidentialism’ to ‘superpresidentialism,’ as has been well documented across the post soviet space. Thus fragmentation of the Mongolian system has prevented the consolidated of power by any one individual, allowing the country to evade the reversal to despotism that has plagued

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Politics so many of the nation’s peers. Parties Overview The Madisonian dispersal of power across branches of government tends to lead to accusations of political ineffectiveness, decisive action being replaced by stagnation and paralysis. Mongolia has, to a large extent avoided the ineffectiveness frequently accused of cursing the regimes of the United States and France, the country’s two principle political parties overlapping on a number of ideological issues. Both organizations are seen to have worked together on a variety of issues, allowing the country’s democratic effort to derive legitimacy from a joint effort as opposed to from a revolution of the Democratic Party against the incumbent Mongolian People’s Revolutionary Party. The Mongolian People’s Party The Mongolian People’s Party (the MPP), formerly the Mongolian People’s Revolutionary Party is Mongolia’s oldest political organization in Mongolia. Formed in 1921 to facilitate the Outer Mongolian Revolution, the party enjoyed a monopoly of power through the country’s socialist period, and enjoyed a majority in the Ikh Khural up until 1996. Despite a lasting commitment its socialist orgin (the organization became a member of Socialist International in 2003), since transition the party has embraced liberal economic reforms and democratic practices. Describing itself as a ‘center left political force, based on social democratic idealsi’ the group demonstrates an ideological pragmatism rarely displayed by the ancestors of previously dominant Marxist-Leninist parties which have developed in countries across the post Soviet Union. The commitment towards modernization in the democratic world is demonstrated by the group’s decision at its 26th Party Congress in 2010 to remove the ‘Revolutionary’ component of its name, being supported by 99.3% of delegates. It should be noted that from the minority of members who did not support the amendment, a splinter organization has been created headed by the group’s former leader and ex-President Nambaryn Enkhbayar. Awarded legitimate party status on June 24th, 2011 by the Mongolian Supreme Court, the two entities should not be confused. The Democratic Party of Mongolia Founded by those who pioneered the democratic revolution of 1990, the Mongolian Democratic Party (DP) was a product of the merging between the Mongolian National Progressive Party, and the Mongolian Social Democratic Party. These two parties were the ruling coalition in the Ikh Khural after democratic forces first gained a parliamentary majority in 1996, holding fifty out of the available 76 seats. Ideologically describing themselves a conservative liberal grouping, the party’s primary goals are stated as overseeing the continuation of Mongolia’s transformation into an open and democratic society and the facilitation of the country’s economic development. This commitment was demonstrated by the group’s influential role in securing the Oyu Tolgoi contract in 2008.

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Prime Minister Noroviin Altankhuyag

The effectiveness of the party however has been subject to constraints stemming from its continued changes in membership and composition. Its current form being determined by a series of mergers and splits which have been almost continuous since 1990, the group found this has cost them electorally on a number of occasions. This is particularly potent when the DP is juxtaposed and evaluated against the MPP, which generally displays impressive levels of ideological unity and structural consistency. It is worth noting that the election the DP’s President Ts. Elbegdorj in June 2009 highlights the extent to which liberal democratic ideals are embedded not only in the party (who nominated him as their electoral candidate) but the country as a whole (who placed him in office with a majority of 51.21%). Ethnically Zahchin (a small grouping found in western Mongolia), Elbegdorj represents the first non-Khalkh majority President in the country’s history. This example of Democratic Party success highlights a certain level of sophistication in Mongolian political culture, the country overcoming tribal differences to focus on issues of national unity policy choice. Although such an instance may seem something of a footnote, it has huge comparative significance within for those aiming to access the political stability of the region. The contrast is particularly potent against Kazakhstan and Russia, where ethnic cleavages play a decisive, and often distorting role in the electoral mechanism; dominant cultural groupings responsible for supporting malignant regimes. The 2008 Parliamentary Election The single greatest challenge to Mongolia’s democratic political trajectory has been the infamous aftermath of the 2008 parliamentary election. As preliminary results were released on the 30th June suggesting a clear MPRP (as it was known at the time) victory, the Democratic Parties Chairman, Tsakhiagiin Elbegdorj declared that the election was fixed and his party would refuse to accept the results.

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Politics The allegations suggested there were irregularities in the counting process, along with the bribing of the electorate, and the concerns were soon echoed by country’s smaller parties. Against a background of extensive media coverage, protesters gathered the following day in front of the People’s Revolutionary Party headquarters (situated between the Ulaanbaatar Hotel and Sukhbaatar Square). What was originally intended to be a peaceful demonstration sadly escalated into violence as a minority broke into the MPRP headquarters and looted small liquor store situated on the ground floor, torching the premise in the process. As the fire spread across the entirety of the building, police clashed with the mass left outside the structure. Batons, water cannons, tear gas, rubber bullets, and live ammunition were deployed in a vicious police reaction, assuming the worst of the majority of protestors. A series of myopic arrests followed, the bulk of those taken into custody being peaceful protestors who played no part in the arson that the incident is famed for. Tragically five were killed amongst the ensuing mayhem, four of whom were shot. At midnight President Enkhbayar declared a national state of emergency which was to be in effect for 96 hours. 96 Armored Personnel Carriers were deployed to the streets, a curfew was put into effect, and a media blackout declared. Within a few days the situation stabilized and the harsh measures were revoked. Although representing a short period of time however, the episode did much to damage the country’s impressive democratic reputation, commentators and investors alike speculating that the incident was to mark a change in direction for Mongolia’s political development. This however was not the case, despite Ts. Elbegdorj stating on the 18th July that the Democratic Party would boycott the opening season of the Ikh Khural. After a short period of political posturing, all members of the Democratic Party, including Elbegdorj himself were sworn into parliament, S. Bayar being elected prime minister of a coalition government, supported by both the MPRP and the DP. Not only was parliament able to form a majority, but the policy which resulted from its operation is often considered some of the most crucial in Mongolia’s history. The two parties worked together in order to negotiate the terms of the Oyu Tolgoi Agreement in the months that the crisis, effectively kick starting foreign direct investment in Mongolia and the headline grabbing growth figures that the country has witnessed in recent years. Furthermore, the crisis can hardly be seen to represent the manifestation of a fundamental problem in the Mongolian democratic culture. Instead the general consensus on the ground is that the issue concerned a handful of troublemakers, intoxicated on stolen alcohol, who got out of control. The resulting brutality of police action was a function of the uncertainty surrounding a large crowd watching a building burn in the night, and is an isolated response in the history of Mongolia since its democratic transition. No incidence of electoral fraud has ever been reported in Mongolia since the country’s conception in 1990. Despite accusations being the commonplace reaction of defeated politicians, no international monitoring agency has ever recorded, or even suspected any irregularities.

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Photo by Hamid Sardar / Khasar Sandag

The 2012 Parliamentary Election Mongolia’s most recent parliamentary elections, taking place on the 28th June 2012, were internationally proclaimed as something of a litmus test of the country’s political stability in the aftermath of the 2008 debacle. Although marred by controversy not unusual in the Mongolian politics, in many ways the event marked the return to business as usual for the country’s democratic system. For the first time in its history, the country used an electronic voting system, to remove any possibility of a repeat of the 2008 of the allegations that caused widespread civil unrest occurring in the previous round. In addition to this slightly technical issue, a number of constitutional changes were enacted to the electoral process designed to allow for the better representation of minority interests, going some way to breaking the DP and MPRs duopoly of power. The seat allocation mechanism was changed from first past the post to proportional representation, significantly benefiting the interests of the country’s smaller parties and independent candidates, who managed to secure 16 out of the 76 positions on offer. A quota system was also introduced - designed to ensure that no less than 20% of candidates running were women. This was a progressive concession by the Mongolian regime that is more of a democratic achievement for gender equality than has been managed by many more developed countries around the world. The policy was clearly successful, with the proportion of female candidates being nearly 32%. Concerns were voiced before the polls even commenced due to the arrest of former

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Politics president Nambaryn Enkhbayar upon the 12th April, who was imprisoned by the Independent Authority Against Corruption over allegations of misconduct during his time in office. The case is widely held to be politically motivated; although the prevailing mood in Ulaanbaatar is that Enkhbayar has questions to answer concerning the sources of his income, the action taken neither addressed the most crucial issues, nor was carried out taking into account the due process rights stipulated by Mongolian Law. With the exception of this incident, the actual parliamentary process has been seen to be a reasonable success. The Democratic Party gained 31 seats, representing the largest parliamentary grouping, whilst the Mongolia People’s Party polled closely behind, with 25 seats. The Justice Coalition (a combined effort from the MPRP and the MNDP) acquired a sizable 11 seats (with support somewhat fueled by a public outcry over N. Enkhbayar’s treatment), whereas the Civil Will Green Party and independent candidates obtained two and three seats respectively. The results were generally accepted by all major groupings; some complaints were voiced by the MPRP when the initial results were published criticizing the untested nature of the electronic vote counting machines, however they soon deceased as it became obvious their claims rested upon little substance. Mongolia’s New Political Trajectory On August 25th, Prime Minister Norovyn Altankhuyag chaired the first cabinet meeting of the country’s sixth government. Because the Democratic Party did not obtain the 39-seat majority necessary for it to form its own cabinet, proceedings were delayed whilst coalition negotiations played out. With the government being formed out of a union of the Democratic Party, the Justice Coalition, and Civil Will Party, the new political trajectory of Mongolia remains unclear. Certain members of the Justice Coalition are well known for the resource nationalism, although public statements made in the run up to the election may well have been an example of little more than political posturing. Recent stories have reported worldwide the intentions of some key actors in the government, such as the Mining Minister Gankhuyag Davaajav, to seek to reopen negotiations of the Oyu Tolgoi contract. This is true, although many reports misrepresent the intentions of even the more extreme members of government. The Oyu Tolgoi contract holds that once Rio Tinto has recouped all the capital of its principle investment, it would be possible for negotiations to reopen as to how the gains from extraction should be distributed between the public and private sectors. It is this that is currently being advocated by the more extreme members of Mongolia’s parliament, hoping to see the governments stake in profits raised from 34% to 50%. Given the size of the projects investment however, it is expected to be around fifteen to twenty years before the principle investment is recouped, meaning that these ideas have little to no political impact on policy in the short to medium term, apart from the perceived gain of reputational capital. Investors may seek reassurance in the fact that a clear majority of the coalitions members are from the generally free market minded Democratic Party. It is unlikely any currently minority, anti-FDI sentiments will be likely to gather momentum whilst the government’s power is distributed so heavily in favor of the pro free market grouping.

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Legal System

Legal System

Supreme Court Justices of Mongolia

The Rights of Foreign Citizens in Mongolia Foreign citizens for the most part enjoy the same legal rights as Mongolians, meaning those interested in investing in real estate are provided with a wide range of legal protections. Made explicit in Article VIII of The Law of Mongolia on the Legal Status of Foreign Citizens, the following conditions can be assumed to apply in general throughout the rest of this report unless otherwise stated:

• •

All persons legally residing in Mongolia are to be considered equal before the law and its courts. Foreign citizens whilst in Mongolia are to enjoy the same rights and freedoms as are conferred on to Mongolian citizens by the law.

There is one notable exception regarding the rights citizens are allowed to enjoy over land plots, which shall be made explicit and examined in detail in the following section. The rights of international investors over immovable property assets are however identical to those enjoyed by Mongolian citizens. Land Ownership Rights in Mongolia The 2002 Law of Mongolia on Land creates three classes of land rights:

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• • •

Land ownership, or to ‘own land’, meaning to be in legitimate control of land with the right to dispose of this land; Land possession, or ‘to possess land’, meaning to be in legitimate control of land in accordance with its purpose of use; Usage of Land, or ‘to use land’ which means to undertake a legitimate and concrete activity to make use of some of the land’s characteristics in accordance with contracts made with the owners and possessors of land. However, Land Use licenses of the foreign invested companies shall be granted by Citizen’s Representatives Khural.

It is clearly stated in the 2002 Law of Mongolia on Land that land ownership is only open to Mongolian citizens, who are entitled to claim small plots between 0.35 hectares and 0.7 hectares in size. Mongolian governmental companies, non-governmental Mongolian companies, and registered foreign invested companies do not qualify for land ownership rights under Mongolian law. Instead, land possession rights are offered to Mongolian governmental companies and non-Mongolian governmental companies, but not to registered foreign invested companies operating within Mongolia. Such rights offer significant protections upon the claims of the possessor over their land, and as such are seen as a satisfactory alternative. Land Possession Rights in Mongolia Land possession rights are established through procurement of a ‘license for land possession’, a document bestowing the holder with the authority to possess land in accordance with Mongolian law. The maximum size of land associated with a license awarded to companies for the purpose of production or service provision is at the discretion of the Mongolian Government entity. Governors of the soum or district are tasked with the identification of land to be auctioned off for possession. Plots selected are subsequently published in the annual land management plans of the respective authorities. Acquiring the land possession license The 2002 Law of Mongolia on Land outlines two basic requirements that must be met for a possession license request to be considered:

• •

Applicants for a land possession license must be either Mongolian citizens, companies and organizations; The location of the land requested for possession shall have been marked in the annual land management plan of the capital city or soum as available.

Applications are initiated for companies and organizations by submitting a request to the governors of the appropriate soums and districts. In addition to the application itself, it is necessary to submit the following information:

•

The name of the company or organization, jurisdiction to which the company belongs, its address and location, and a copy of the state registration certificate;

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• • •

The code of the territorial unit(s) requested which shows the territorial and administrative jurisdiction upon which the land where the company intends to undertake production or services provision belongs, along with its size and location; The desired purpose and duration of land possession; Proof of creditworthiness.

A successful applicant will then be entered into a silent auction for the plot. The highest bidder will receive a notification of their success, along with their payment obligations. If payment is not received within a pre-determined time scale, the right to possession of the plot of land in question is automatically passed down to the next highest bidder (be it a citizen, a company or an organization). If upon the second attempt payment is not received, the license is required to be put up for auction once again. Any entity that has acquired the right to possess land for undertaking the production of goods, or the provision of services must complete a general environmental assessment within 90 working days of receiving the right. If the results are positive a contract on land possession will be made, the license issued, and a record of ownership noted in the Mongolian national registry. The Rights and Duties of License Holders Those who hold possession licenses are endowed with the following rights over their plot:

• • • • •

The right to use the land according to the purposes set forth in the contract; The right to obtain a State Certificate on the land characteristics and quality from the owner; The right to be awarded damages, compensated by the guilty person in accordance with established procedures; The right to transfer the license, or provide it as collateral subject to the approval of the person who made the decision on giving the possession license initially; The right to have the license extended upon expiration, provided that the license holder has duly met their obligations concerning land legislation and their contract;

In return, the holder of a land possession license is required to fulfill the following obligations:

• • • • • •

To meet the terms and conditions set forth in the land possession contract: To use land efficiently and rationally in order to protect their given space, to comply with legislation on protection of nature and environment, and to meet common requirements related to land use, as issued by the relevant government authorities; To pay land fees in a timely manner; To have state certification of land characteristics and quality made according to established procedures; Not to infringe upon the rights and legitimate interests of others, related to the possession of their land; To have registered at the National Registry if the license is to be used as collateral.

Readers of this guide should note that the option of land possession license transferal, and the ability to use the documents as collateral are legally only open to Mongolian citizens,

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Legal System companies and organizations. Extending the Land Possession License The duration of a land possession license is a n y w h e r e between fifteen and sixty years in its original state. As stipulated above, the land possession license holder enjoys the explicit right to extend the term of the license, provided they have fulfilled their obligations on the plot. Each renewal will prolong the license for no more than forty years at a time. An extension request must be submitted to the Photo by Hamid Sardar / Khasar Sandag governor of the relevant soum or district a minimum of thirty days prior to expiry. The application must be supported by the following documents:

• • •

The initial land possession license; Documents proving that land fees have been paid on a timely basis; The status of implementation of the recommendations made upon the environmental impact assessment test.

Once received the appropriate official will review the documents, and will reach a verdict within 15 days. Provided the duties of land possession have been consistently met, little in the way of difficulty should be expected.

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Photo by Hamid Sardar / Khasar Sandag

Expiration of a Land Possession License A land possession license may expire under the following circumstances:

• • • •

If the land possession license expires naturally, and no request is made for it to be extended; If the license holder (a natural person) has died, is announced dead or missing, and the license holder has no legitimate successors; or if a license holder (a legal person) is dissolved or liquidated; If a license holder makes a request to terminate his/her possession license; If compensation is paid in full to the license holder, in the event of the plot being taken into state control to fulfill exceptional government needs.

The relevant authority may only remove land prior to the scheduled expiration date for special state purposes once an agreement has been reached with the owner of the license. The request for removal must then be submitted through the State Cabinet, who must consent to the proposal. If this is achieved, the governors of the relevant soum or district will then make a contract with the citizen, company or organization in question and remove the land from their possession with or without asset replacement and with compensation. Reimbursement calculation depends upon a range of variables, including the prior arrangement with the land possessor, the value of immovable constructions and other properties on the plot, and the costs to vacate the land estimated at current prices. If the license holder remains unsatisfied with the package offered, then the appropriate legal channels are in place for the decision to be challenged in the Mongolian courts. Termination of a Land Possession License

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Governors of soums and districts are allowed the ability to terminate land possession licenses in the following circumstances:

• • • • •

If the license holder has consistently or seriously violated obligations set forth in the land legislation, or it the provisions and the conditions of the land possession contract; If it is established that the land has been used to the detriment of human health, nature, or national security; If a license received from others is not registered, and a new contract is not made; If recommendations made from the general environmental assessment are not implemented; If the license holder has not paid land fees according to the law, on time and in full.

In the event of a termination notification being issued for whatever reason, license holders have a ten-day window to appeal to the court if they consider a contract termination illegitimate. With proper management techniques in place however, it should be easily manageable not to fall foul of the Mongolian law. Immovable Property Rights in Mongolia Mongolia has in place an effective mechanism of property rights to protect the owners of immovable properties. These protections are so effective that the country’s government has recently found implementation of town and city planning initiatives (such as the JICA master plan) and the development of Ulaanbaatar’s many ger districts impractical if not completely impossible. Both regional and central governments have found themselves legally ineffective in their ability to develop infrastructure and new constructions on existing low quality real estate in many regions, as the owners simply do not want to move. The foundation of the state’s guarantee on immovable property rights stems from Article Five of the Mongolian Constitution, which stipulates:

• •

Mongolia shall have an economy based on different forms of property consistent with universal trends of world economic development and the country’s own specifics; The State recognizes all forms of public and private property and shall protect the rights of the owner by law.

In order to protect private property under the Mongolian constitution and law, it is necessary to make sure the structure is properly registered through the appropriate channels. If not done successfully, ownership is not acknowledged (and in turn protected) by Mongolia’s legal institutions. Registration of Real Estate through the Immovable Property Office The Law of Mongolia on the Registration of Immovable Property holds that:

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Legal System Subject to the provisions of the law, the right of a person or legal person to own immovable property arises upon registration at the Immovable Property Office of Mongolia. The process is initiated when an individual, a legal person, and/or their legal representatives provide the Office for the Registration of Immovable Property (hereinafter referred to as the ‘Registry Office’) with the following items:

• •

A document certifying the applicant’s right to ownership of the immovable property; A document by a competent authority setting out the dimensions and valuation of the property;

Applications from non-permanent residents of Mongolia should (technically) be made through an authorized permanent resident of the country, in the owner’s name. However in reality this condition is rarely enforced, as foreigners who are familiar with the registration mechanism generally face little problem in completing the process. Upon receiving an application, the Registry Office is required to decide whether a property can be registered or not within thirty days. If the office considers all application requirements to be met, the property is registered in the Registry Offices records, and endorsed by the State Registrar and the Assistant Registrar. The ‘Floating Freehold’ Whereas in many Western countries the rights of ownership to the land beneath a given piece of real estate naturally accompany the ownership of the building, the prevailing system across the post soviet space is that of the ‘floating freehold’. These ownership structures are found to operate across the majority of the Mongolian market, being effectively the only option to foreign investment interested in purchasing real estate. Such a system allows the owner of a building to control the land upon which their property is built, without actually owning the land themselves (instead simply being endowed with the right to ‘use’ the land). The actual owner of the land may be the Mongolian government, or a private individual or business entity. Despite the investor owning less, their influence remains just as considerable. Development or the sale of a piece of land that houses a real estate asset is impossible unless the developer owns every Immovable Property Certificate connected with the plot. Thus with ‘floating freeholds’, investors may technically not ‘own’ the land that their property rests upon, but are able to stop the alterations to the land, in a way consistent with the concept of land ‘ownership’ in the western world. Expropriation The Mongolian government has rights of expropriation over private property and immovable assets under specific circumstances. Such powers are common across markets

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globally, being known as ‘eminent domain’ in the United States, ‘compulsory purchase’ in the United Kingdom, and ‘expropriation’ in South Africa and Canada. The powers are outlined in the ‘Law on Allocation of Land to Mongolian Citizens for Ownership’, and may only be utilized in certain instances:

•

During occurrence of environmental or public disasters such as damages to lives and health of many people, loss of animals and livestock, earthquakes, strong winds, drought, dzud (exceptionally cold winters), flood, fire, outbreak of lethal infectious diseases that may cause significant damage to property and environment or emergency situations such as big scale industrial accidents, outbreaks of radioactive or poisonous chemical substances. Land (and property) owned by Citizens may be expropriated according to procedures provided by law and based on decisions of an authorized state entity for purposes of taking measures in order to protect and rescue the population’s livestock, animals and property and to eliminate the negative consequences. Damages caused to citizens owning land due to such expropriation

• •

shall be compensated to the full extent. If it becomes impossible to return the expropriated land, the owner shall be compensated for the value of the land and the damages according to the market rate at that time or the damages shall be compensated by allocating other land not worse than the expropriated land by its status and quality. If there is a dispute regarding the determination of the rate of expropriated land and damage caused to the landowner, it shall be resolved in court.

There are next to no examples of the doctrine being applied in and around Ulaanbaatar, even though it is necessary for the infrastructural development of the city’s suburbs. Several gers are normally enough to cease the development of huge construction projects, as the government is not prepared to use its theoretical confiscatory powers to enable the commencement of sizable ventures.

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Legal System International Comparison When looked at in the context of the region, Mongolia is more similar to the real estate legal structures of its post Soviet neighbors, than those prevalent across Asia. The extent to which the actual ownership of real estate assets is allowed in Mongolia, resembles much more closely the investor friendly policies common in Kazakhstan than China. Mongolia also lacks much of the administrative baggage that is problematic for those interested in entering the Chinese market. Despite having a far more developed property market, China is well known for its investment restrictions and market uncertainty, which severely limits the maneuverability of the foreign investor in a way not problematic in Ulaanbaatar. The Chinese state requires that neither land, nor immovable property can be owned, instead stipulating that all real estate assets must be leased for ‘terms’, usually between fifty and seventy years in length. Efforts to control China’s property bubble, which have caused house prices to triple over the last five years in Beijing, have seen the real estate legislative environment tighten in the country. Legislation passed in July 2006 holds that any residential property not for the individual owner’s personal use is classifiable as commercial real estate (even if it is not to be rented out to third parties). Furthermore any commercial property investment, whether funded by an individual investor or a business entity, may only be invested in through a mechanism involving a Chinese commercial vehicle (such as a Foreign Invested Enterprise, a Wholly Foreign Owned Entity, or a Contractual Joint Venture). Those looking to enter the property market in China therefore not only lack access to the permanent structural ownership available to them in Mongolia, but must also face a far more obstructive bureaucratic apparatus. Many of the transition economies of Central Asia have embarked upon legal trajectories far more favorable than China. Kazakhstan (widely held as the regional leader in open real estate legislation) stipulates in it Law on Investments that the rights of foreign investors are virtually indistinguishable from those of Kazakh citizens. As such, international entities are permitted to own both immovable property and land (with the exception of large agricultural plots) as long as the country’s Real Estate Center correctly registers their assets. Kazakh competitiveness is unsurprising given how the country’s growth has played out. The property markets of Astana and Almaty have already developed in a way that those of Ulaanbaatar can expect to do in the coming years. Technically Kazakhstan is the more liberal of the two countries, however the tangible rights endowed to foreign investors in all but the longest of time frames (with reference to how often contracts must be renewed) are very similar. The current institutional framework suggests many shared attributes between the two countries. Given the success the Kazakh property market has enjoyed since the turn of the Millennium, Mongolia’s legal system looks set to provide the structure needed for similar development well into the medium term and beyond.

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Tax

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Tax The Mongolian Tax Regime Mongolia’s economic success over the past five years has been based upon the country’s natural resource wealth, effective market liberalization, and significant flows of Foreign Direct Investment. To encourage this FDI, the Mongolian government has implemented one of the most generous foreign investor tax regimes globally. Although much of the country’s effort has been devoted to streamlining policy facing the mining industry, many of the attractive rates have spilled over to benefit investors in the economy as a whole, including those with exposure to the real estate industry. P e r s o n a l Income tax rates have recently been reduced to a rate of 10% for foreigners, identical to that faced by Mongolian c i t i z e n s . Corporation tax rates vary between 10% and 25%, or are fixed at 20%, depending upon the way in which a given company is structured and how its chooses to utilize its profits. Property Holding Tax currently Photo by Hamid Sardar / Khasar Sandag is extremely low, set at 0.6% of a properties estimated value, although this is set to marginally increase to 1% as of January 1st 2013. Some real estate investments may be required to pay VAT, which is charged at a flat rate of 10% Personal Income Tax There are effectively two types of individual entities in Mongolia as laid out by The Mongolian Law on Personal Income Tax: permanent resident taxpayers and non-resident taxpayers. A permanent resident taxpayer is defined by The Mongolia Law on Personal Income Tax as:

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•

Individuals with residence in Mongolia

•

An individual who resides in Mongolia for 183 days or more a year

•

An individual who has no residence in Mongolia and has not resided in Mongolia for 183 or more days in a tax year.

Or

Conversely, the same document identifies a non-resident taxpayer as:

The legislation goes on to state that any individual classified as a permanent resident taxpayer must pay tax to the Mongolian authorities on their worldwide income. Those who manage to qualify as non-resident taxpayers (by fulfilling neither of the conditions stipulated above) are required to only pay the Mongolian authorities a proportion of their income earned within Mongolia itself. The Mongolia Law on Personal Income Tax sets the personal income tax rate at a flat rate of 10% (reduced for foreigners from a rate of 20% as part of the country’s 2007 tax rationalization). This flat rate of 10% is applicable to the following income streams that may affect the real estate investor:

• • • •

Salaries, wages, and bonuses; Total taxable income from activities; Total taxable income from property; Total taxable income from sale of property;

•

The total taxable income from property is determined by deducting the cost of leasing from the total income from leasing; The total taxable income from the sale of property is classified as the total proceeds from the assets sale.

Total taxable income is defined in The Mongolia Law on Personal Income Tax as aggregate annual income minus all allowable expenses. This is applied to real estate incomes through the following framework:

•

Any individual interested in purchasing real estate should note one exception to the total 10% flat tax rate:

•

The total taxable income from the sale of property is to be charged at a rate of 2%

Corporate Income Tax The Economic Entity Income Tax Law of Mongolia governs the taxation of profits acquired by the following different forms of taxable entity:

45

Tax

• • •

An economic entity formed under Mongolian law, and their subsidiaries; A foreign economic entity headquartered in Mongolia; A foreign economic entity earning income in Mongolia, and its representative offices.

•

All annual income between 0 and 3 billion Mongolian Tugrugs is to be charged at a rate of 10%; All annual income which exceeds 3 billion Mongolia Tugrug is to be charged at a rate of 25%

The first two categories are charged a variable rate of corporate income tax subject at the following rates:

•

The final category (foreign economic entities earning income in Mongolia, and its representative offices) however face the following completely separate rate of tax, their activity being classified as a repatriation of funds:

•

All annual income transferred out of Mongolia by foreign economic entities is to be taxed at a flat rate of 20%

The above condition does not apply to FIFTA registered companies and joint ventures who reinvest their profits within the Mongolian economy. Property Tax Entities facing property ownership taxes upon immovable assets are:

• • • •

Any company that owns property in Mongolia; Any NGO that owns property in Mongolia; Any citizen that owns property in Mongolia; Any non-citizen that owns property in Mongolia

• • • • •

Immovable property of legal entities which are subsidized by central or local budget. Residential/dwelling property Building and facilities for public use Management and production units in production and technological parks Buildings, facilities and other immovable property within technological parks

•

Property tax is currently charged at a flat rate of 0.6% of the immovable asset’s value;

•

The value of the property as it is listed with the immovable property state registry;

However, the following types of immovable property are exempt from property tax:

Those required to pay property tax on the immovable assets are to be taxed in accordance with the following conditions:

The value of the property necessary to determine the total property tax liability is determined by data from the one of the following sources, listed in order of legal preference:

46

Tax

Photo by Hamid Sardar / Khasar Sandag

• •

If no such information is available, then the value is to be determined based on the properties assessed worth for insurance purposes; If neither of the above are available, then the value of the property is to be based upon the estimated book value of accounting record.

Withholding Tax Mongolian entities are required to withhold tax on dividends, royalties to economic entities resident in Mongolia, and royalties to individuals at a rate of 10%. However, dividends to individuals are exempt from taxation until 2013. Withholding tax is also applied to gains on the sale of immovable property at a rate of 2%. Non-residents with no presence in Mongolia are subject to 20% withholding tax on Mongolian source income, includeing the following:

• • • • • •

Dividends Certain types of loan interest Royalties Rental income Management and administrative expenses

•

V.A.T. is charged on an ad valorum basis in Mongolia, at a rate of 10%

Income goods, work or services provided in Mongolia

Value Added Tax

47

Tax

Photo by Hamid Sardar / Khasar Sandag

Taxation Bureaucracy The Mongolian Law on Personal Income Tax stipulates that:

• • •

Income tax reports are to be compiled by either the individual or their tax agent; Income tax reports are required to have both hard and electronic copies submitted; Both the electronic and the paper copy of the income tax report must be submitted in Mongolian, or alongside certified Mongolian translations

• •

Annual corporate income tax statements are due by the 10th February of each year; Quarterly corporate income tax statements are due before the 21st of the month immediately following the end of the previous tax quarter; Corporate income tax payment schedules are to be issued by the authorities by the 25th of month; When total corporate income tax paid exceeds a companies total corporate tax liability, the company in question can credit the excess against future payments.

The Economic Entity Income Tax Law of Mongolia stipulates that:

• •

The Immovable Property Tax Law of Mongolia stipulates that:

• •

48

Taxpayers must submit immovable property tax returns to the Mongolian tax office before the 10th February each year. Legal persons and corporate entities are liable to pay property tax before the 15th of the last month of each quarter;

Tax Tax Ambiguity Although theoretical tax rates are clearly desirable, the Mongolian tax regime has on a number of instances been known to suffer from a degree of ambiguity. In the real estate market the most commonly cited example of this occurring is undoubtedly with regards to determining when VAT is applicable. The confusion arises over ambiguity concerning the use of the word residential within The Value Added Tax Law of Mongolia. Some clauses of the document suggest that ‘residential’ assets (which do not face the 10% tax) are simply those used to house people in any capacity, whilst others lead the reader (and some members of the tax authorities) to the conclusion that ‘residential’ real estate require the owner to physically live in the property. The way in which the Mongolian tax authorities interpret this equivocality is anecdotally reported to vary case by case, depending upon the individual tax inspector. Some investors have eventually been charged 10% V.A.T. on their properties rental income, whilst others have been charged none, with both outcomes still facing the 10% income tax on their income from immovable property. Although it is important to be aware of issues such as these, the lack of definitional clarity is a problem facing many tax regimes in developing countries around the world. As Mongolia develops, it is expected that such inconsistencies will be ironed out, in a way that largely mirrors the progression of Kazakhstan’s tax regime. International Comparison When its content is considered, Mongolia’s tax credibly lives up to its internationally liberal reputation. The table below attempts to quantify this comparatively generous environment by examining what a non-incorporated entity would be charged across the four key tax types relevant to the real estate investor.

Income Tax

Mongolia

China

Kazakhstan

Hong Kong

Russia

Flat tax at 10%

Variable tax

10% tax on

Variable tax

Flat tax of 30%

from 3% to

employment

from 2% to

45%

income, 15%

17%

on capital gains, 20% on ‘other income’ Corporate

Variable tax

Flat rate of

Flat rate of

Flat rate of

Flat rate of

Income Tax

ranging from

25%

20%

16.5% (15% for

20%

10% to 25% if

unincorporat-

incorporated

ed businesses)

in Mongolia, 20% otherwise.

49

Tax Property Own-

Variable

Variable

Standard rate

Up to 1.5% de-

ership Tax

between 0.6%

between 1%

of 15% of net

pending upon

and 1% as of

and 1.5%

assessable

cadastral

1st January

property value

value

2013

as determined

None

by rent, minus 20% maintenance allowance Value Added

10%

17%

12%

None

18%

Tax

Income tax facing legal persons in Mongolia are competitive with the other nations used in this study in both the Asia Pacific and the post Soviet space. The amount payable is a flat tax at a lower rate than is found in either Kazakhstan or Russia, whilst the progressive thresholds in China and Hong Kong make it likely that larger investors will end up facing similar, if not increased bills. Exceptions to the flat tax rule for the Mongolian real estate investor (primarily in the form of sales income tax) are all designed to lower the tax rate; under no circumstance should a legal person expect to pay more than 10% income tax in Mongolia. Levels of corporate taxations facing foreign companies operating in Mongolia are fair, and are reminiscent of the regimes in place across China, Russia and Kazakhstan. For real estate investors however, the fact that the corporation’s income tax duty is lowered to just 2% on income from the sale of immovable property gives those looking to enter into the Mongolian real estate market a substantial comparative international tax advantage. Mongolia’s property holding tax, even once revised up will remain the lowest of the countries looked at, with the exception of China, which does not have a property holding tax. The Asia Pacific Investment Partners however considers Mongolia’s level essential in facilitating the efficient functioning of the country’s real estate market, stopping the speculation plaguing towns such as Ordos, China from becoming widespread.

Photo by Hamid Sardar / Khasar Sandag

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Section Two

Section Two Ulaanbaatar Ulaanbaatar is at present Mongolia’s only first tier conurbation. Located in the north of central Mongolia on the Tuul River, it represents the cultural, economic and political heart of the country. The past decade has seen the city transform from an unindustrialized settlement of 770,000, to the increasingly international city that can be seen today. Recent years have seen the emergence of a multitude of modern apartment blocks, offices, shopping malls and hotels as resource extraction has begun to bring significant wealth to the country. The city is divided into six primary districts (Düüregs): Bayangol, Bayanzurkh, Chingeltei, Khaan Uul, Songingkhairkhan, and Sukhbaatar. Each district is then subdivided into a set of Khoroo’s, representing the administrative subdivisions of Ulaanbaatar, of which there are currently 132 in total. Each Khoroo is then further divided into microdistricts, or Khesegs. Investor Insight: Scope of the Mongolian Properties Real Estate Report 2012 The focus of this guide upon Mongolia’s capital city should not be interpreted as a slight upon the economic potential of the second and third tier settlements around the country. As mining operations have developed, many urban centres have found themselves experiencing rapid growth. Dalanzadgad, the capital of the Omnogovi Aimag, is located just 247km from Oyu Tolgoi and 108km from Tavan Tolgoi and has become the epicentre of mining activity outside of Ulaanbaatar. As mining companies have established their offices in the region, the city’s population has increased from 17,000 in 2009 to 30,000. Average incomes have risen at the second fastest rate nationally (surpassed only by Ulaanbaatar). Sainshand, the capital of the Dornogovi Province is already reasonably well established, lying on the key infrastructural link between Ulaanbaatar and the Chinese border. Government plans to build an industrial park in the area, along with a railway spur system connecting Tavan Tolgoi to the Trans-Mongolian railway is expected to bring in billions of dollars in investment over the coming years. A strong demographic pull (the projects are expected to create some 200,000 to 250,000 jobs), combined with increases in average income is likely fuel real estate demand, and price appreciation over the coming years. Despite this impressive potential, Asia Pacific Investment Partners currently believes that such markets have not yet developed to a standard acceptable for the majority of international investors. Scarce information combined with fragmented management mechanisms within the still remote regions continue to create obstacles and risks that have all but disappeared within Ulaanbaatar. Given Ulaanbaatar’s unique position as the sole first tier city in a country with $1.3 trillion of mineral resources, there are a number of unique trends shaping its development. This section aims to detail the factors that are affecting Ulaanbaatar’s current trajectory, and the impact they are having on the make up and structure of the real estate market in the city.

52

Section Two

Photo by Hamid Sardar / Khasar Sandag

The Demographics of Ulaanbaatar Two connected forces have fuelled the drastic changes across Ulaanbaatar over recent years: the country’s economic growth, and considerable change in its demographic makeup. Despite informational inconsistencies in measuring Mongolia’s exact demography, all metrics are in consensus that the proportion of the population living in Ulaanbaatar has grown over the last decade. The National Statistics Office of Mongolia estimates the capital’s population increased from 1,147,700 in 2008 to 1,287,100 in 2011, growing 25% in just three years, with 40,641 people relocating to the capital in 2010 alone. Currently an estimated 47.1% of Mongolia’s population live in Ulaanbaatar according to the Japanese International Cooperation Agency, a proportion that is expected to increase considerably over the medium term. Forecasts anticipate that by 2020, over half the country’s population will be based within the capital city.

53

Section Two These high rates of urban migration are caused by a combination of financial necessity and the perception of opportunity among many currently based in Mongolia’s countryside. Particularly harsh weather conditions over recent years have incentivised the shift away from the nomadic lifestyle for many, with large quantities of livestock across the country having perished. As livestock numbers have dwindled, the financial and nutritional requirements of nomads have become more and more difficult to fulfil, causing many to abandon their rural existence. Investor Insight: The Nature and Impact of the Dzuud on the Mongolian Economy Dzud is the Mongolian term for a set of extreme weather conditions, which negatively impact large numbers of the country’s livestock. With the fate of so many of Mongolia’s population intrinsically connected to the health of their animals, the occurrence of a Dzud usually marks a significant change in the socio-economic conditions facing many across the country. Locals usually differentiate between three different types of Dzud: Black, White, and Ice. ‘Black Dzuds’ are usually seen when summers are hot and rain infrequent, leaving low-lying plants weak. When winter sets in and snow begins to fall, animals are incapable of locating fodder, leading many to starve. The ‘White Dzud’ is caused simply by unusually heavy snowfall, which stops livestock feeding on otherwise accessible frozen grass. The ‘Ice Dzud’ is brought about if freezing rain covers the landscape with a layer of ice making the feeding of livestock impossible. Usually infrequent occurrences, the past two decades have seen Mongolia’s rural communities having to deal with these conditions with unusual regularity. The winters of 1990-2000, 2000-2001, and 2001-2002 saw the country hit by three consecutive dzuds, killing an estimated 11 million heads of livestock nationwide. The infamous winter of 2009-2010 is still sending shock waves through the Mongolian economy. Heavy snowfall and temperatures as low as minus 50 were witnessed across the country. The UN estimates that a minimum of 8,000,000 cows, yaks, camels, horses, goats, and sheep perished, representing around 17% of the country’s total livestock. This incident has been regarded by many as something of a catalyst for the significant urban migration witnessed in Mongolia over recent years; the increased frequency of such occurrences causing many to question the sustainability of the nomadic lifestyle. With incomes unstable, conditions harsh, and even the most basic of infrastructure non-existent for many of Mongolia’s rural population, it is unsurprising that so many have decided to try their luck as city dwellers. External perceptions of Ulaanbaatar’s labour market are positive, with most Mongolians being acutely aware of the country’s extraordinary economic transformation. By simply relocating to the capital, it is believed that the unemployment and volatile wages plaguing many herdsmen can be avoided.

54

Section Two The Outcome of Mongolia’s Urbanisation: The Ger Districts For the majority of the migrants who flock to Ulaanbaatar, reality falls short of expectations as migrants they find themselves joining the peri-urbanised ‘ger districts’ that house approximately 60% of the city’s population. Plots of land across Ulaanbaatar’s ger districts are arranged into ‘Khashaa’s’, or small fenced properties. These plots are typically owned by those who live on the land, having been awarded the right to own plots by the private land ownership laws enacted in 2002. The land ownership registration procedures were made explicit in 2005. Investor Insight: What is a ‘Ger’? Mongolian ‘gers’ are traditional tents that have housed the country’s nomadic herdsmen for centuries. Similar to the ‘yurts’ of Kazakhstan, they are constructed out of felt and durable white canvas stretched over a wooden lattice substructure. ‘Gers’ tend to be small in size (with floor space representing roughly 30 sqm.) and consist of a single room. The sheer scale of Ulaanbaatar’s ger areas means that treating them as a homogenous entity is inadvisable. It is thus useful to loosely follow the tripartite framework developed by the World Bank, breaking down the areas by their characteristics and proximity to the central ger district. ‘City centre’ ger districts are those situated within or close to Ulaanbaatar’s urban areas, and will usually border with apartment blocks and fixed urban structures. It is estimated that 78% of structures within city centre ger districts are small, detached constructions, 18% are the traditional felt tents, whilst the remainder are represented by modern apartment blocks that have spilled over from Ulaanbaatar’s developed core.

Characterised by a strong sense of community, these regions are well established and tend to represent migrant families whose ancestors moved to Ulaanbaatar generations ago, whilst free space was still freely available close to what is now the city centre. In central ger districts it is typical to observe residents investing much time in the maintenance and development of their properties. Land and the properties occupying it are likely to be owned by the family in question (around 99% of plots are in the ownership of their residents) meaning that they are secured as inter-generational investments, potentially allowing for long term gains in quality of life to be made from short term investment.

55

Section Two This system has allowed those living in central ger districts to secure a reasonable level of prosperity, estimated by the World Bank to represent $21,920 of illiquid assets (property), and $4,381 of liquid assets (savings, stocks, cars) for families on average. However, with monthly household incomes around $220, their earnings are still short of their apartment dwelling peers, who earn around $319 per month. ‘Mid-tier gers’ are typically slightly further out than the central ger district, although some are still within walking distance of the Ulaanbaatar’s central, developed areas. This is not universally applicable, as the districts being characterised primarily by their sheer scale form something akin to a continuous landmass of informal structures, which may extend for several kilometres in every direction. Circa 72% of in these mid tier neighbourhoods are detached self-built structures, with the remainder being characterized by temporary gers. Household assets in these slightly more inaccessible regions are considerably less than those of their more centrally located peers. The illiquid wealth (primarily in property assets) of these families is typically about $13,521, whilst monthly income is just $137 per month for ger households, and $163 per month for the owners of detached property. Many living in these ‘mid tier’ Ger districts are reasonably comfortable with their residential situation, 36.3% and 38.6% of those asked in a 2010 World Bank sample stating they were either ‘very satisfied’ or ‘moderately satisfied’ with their living environment, as opposed to a mere 2.3% who claimed to be ‘very dissatisfied’. Despite a certain amount of disappointment stemming from their limited exposure to the city’s infrastructure, many families in these districts are well settled and comfortable in the neighbourhoods and are keen to keep the property that provides many with their homes and operational bases that for the informal businesses often supplements their income. ‘Fringe’ Ger areas are those on the periphery of Ulaanbaatar, hosting the city’s most recent migrants. Although they usually do not come close to bordering with the developed city of Ulaanbaatar usually considered of interest to international investors, some of their characteristics should not be overlooked. Roughly 58% of families in UB’s ‘fringe’ districts live in traditional ‘ger’ style accommodation according to the World Bank, with the remainder living in basic detached structures, 81.5% of households actually own the property they live on. Poverty is widespread in fringe districts, with households reporting assets being just 35% of those possessed by individuals living in the country’s central ger areas. As more and more migrants move to the city, the long-term consequences of Ulaanbaatar’s peri-urbanisation become increasingly pressing. Infrastructure outside the centre of the city is extremely limited. Virtually no ger district households are connected to a main water supply. Roads amidst the sprawl of gers and detached structures are often impassable, prone to gridlock, and subject to severe drainage problems. Solid waste management represents a significant concern to health, being achieved solely through the use of collection vehicles. The service is infamously unreliable, with waste being collected as infrequently as once every three months. The most pressing issue is that 85% of ger district properties are not connected to any centralised heating network and are forced to keep

56

Section Two

Photo by Hamid Sardar / Khasar Sandag

warm through winter temperatures as low as -40 degrees centigrade by utilising cheap cast iron stoves. These stoves typically burn wood, raw coal, or lignite, causing poor air quality and health concerns both inside the properties where the combustion takes place, and for the city as a whole. These worries have catalysed the recent shift towards the official development of city management plans, designed to alleviate the problems caused by mass migration. The recently updated JICA Master Plan 2020, is intended to oversee Ulaanbaatar’s development over the medium term, and has crafted the idea of a ‘compact city model,’ which now forms the core rationale behind the city’s development. Urban sprawl has made Ulaanbaatar into an extremely low-density city, making both operations and infrastructural provision problematic and inefficient. In order to solve this problem, emphasis is placed upon the necessity of highrise accommodation within the city’s centre, built carefully around a prudently planned transport network. The Central Business District’s present population density rests at around 6,000 persons per square kilometre. JICA’s proposals would increase this figure to 23,700, whilst raising the concentration in surrounding areas (which include the central and some mid ger districts) to an estimated 13,700 persons per square kilometre. Central to the vision of the ‘compact city’ is therefore the necessity of high-rise buildings. Until recently, Mongolia’s real estate industry has been in equilibrium supported almost completely by free market forces, leading to the acute under provision of real estate designed to cater to the low-income market - this is not for lack of demand. The World Bank’s 2012 survey into the attitudes of residents towards developmental strategies found that of samples close to central Ulaanbaatar (the areas most likely to be affected by compact city developments), only 12.7% refused to support the development of apartments at all in their neighbourhoods, whilst 61.6% went as far as stating that all of their khoroo should be

57

Section Two converted to apartment residences. The market is not yet developed enough to see these demands actualised. Consumers have been faced with severe financing constraints; at present income levels only of those situated in the detached houses of the central city ger districts are considered close to being able to finance the purchase/rent of modern apartment accommodation.

The total assets of detached property owners remain just 66% of their apartment based counterparts, whilst the value of their real estate remains considerably less . To satisfy this demand, it would be necessary for the gap between property prices and the wealth of ger households to be funded using mortgages and bank loans, instruments that are at present extremely underdeveloped in Mongolia. The resulting low-end market dynamic is thus characterised by latent demand, unable to enter into the mainstream real estate market under present conditions. The government’s recent 100,000 Homes Project aims to accelerate credit development within Ulaanbaatar, allowing for the demand clearly present in the low tier apartment market to become effective, whilst simultaneously stimulating the growth of private sector supply. Investor Insight: The 100,000 Homes Project The 100,000 Homes Project is a macro-level project aimed to correct both demand and supply side failures associated with Mongolia’s low-end real estate market. The project aims to facilitate the construction of 75,000 homes across Ulaanbaatar, and a further 25,000 across the rest of the country: 5,000 in the Western Region, 5,000 in the Khangai Region, 5,000 in the Eastern Region, and a further 10,000 in the Central Region excluding Ulaanbaatar. Supply side development is to be almost exclusively facilitated by the private sector, a break away from the norm of affordable housing projects worldwide. The government is not building the homes themselves, nor are they subsidizing

58

Section Two land acquisition, construction, or the property management of the new buildings in any way. Instead, they aim to use their expertise to cap the price per square meter that can be charged on properties as part of the program, expand targeted development and investment within factories which produce construction inputs, and oversee expansion by acting to facilitate key industry partnerships. The government’s biggest role however looks set to be involved in providing (and funding) the infrastructural frameworks serving the new developments, the lack of which has discouraged private sector participation in these types of projects over recent years. The extension of roads, water grids, heating and electricity is an expensive undertaking within the disorganised mass of property that is Ulaanbaatar; the connection of a single large apartment complex to the water grid alone costing as much as $1,350,000. Funds to finance the considerable investment required is to take place primarily through bond issuance from the Development Bank of Mongolia . The demand side looks set to be stimulated by lending policies targeted at specific demographics, initiated by the Mongolian Mortgage Corporation. Undeveloped financial intermediaries have typically charged 16-19% APR on mortgages, coupled with down payments usually in the region of 30% to ger district residents over recent years. This means that mortgages have been fundamentally inaccessible to the majority of those families housed in Ulaanbaaatar’s informal structures. Fulfilling the role of market leaders in November 2011, the Mongolian Mortgage Corporation announced that it would offer homebuyers 25-year

Photo by Hamid Sardar / Khasar Sandag

59

Section Two mortgages for apartments smaller than 50 square meters, with a fixed interest rate of 6%. Of the 8,000 homes already constructed, almost every apartment has been sold. This not only demonstrates the success of the 100,000 homes by palpably increasing the living standards of a sizable proportion of the population, but the effectiveness of the mortgage mechanisms being spear-headed by the Mongolian Mortgage Corporation in easing financial conditions. These successes are set against a legislative backdrop that is quickly working to amend current inadequacies that limit the programs effectiveness. The newly elected Democratic Party looks set to lead a comprehensive review into the detail of the project to ensure its effectiveness. One rule currently damaging the plans scope is the clause stating that Mongolian Mortgage Corporation mortgages charged at the 6% interest rate are only to be available to first time homeowners. As many of Ulaanbaatar’s lower and middle class citizens live in multigenerational housing, where the entire family is usually documented as having ownership of the property, this means that there are many would be homeowners unnecessarily excluded from consideration due to a technicality. At the time of writing, the Ikh Khural (the Parliment of Mongolia) is debating how government policy may be amended to benefit these individuals. Although slightly short of the programs ambitious first year targets, Asia Pacific Investment Partners estimate that the output of the 100,000 homes project is set to gather momentum, as confidence increases and a range of factors restraining both supply and demand are resolved. The success of the 100,000 Homes Project, and the instigation of development according to the ‘Compact City Model’ look to exacerbate the demand for space in central and some mid-tier ger areas, further increasing land prices. This looks set to limit the development of the modern city of Ulaanbaatar out of the currently built up centre, limiting the supply of space predominantly to the area that already exists. With supply constrained, existing structures in the developed areas of the city are to cope with the increased demand initiated by Mongolia’s economic growth, contributing to rapid price appreciation. Real Estate as a Store of Value Investment in the ownership of immovable property differs fundamentally from investment in financial assets, as the investor acquires the possession of a tangible object. In traditional markets, the real estates value is derived from its ability to fulfil a physical purpose, and to be utilised as a useful structure in some capacity. As the requirements of high net worth individuals worldwide have begun to change, so has the reasoning behind their real estate investment decisions. Many wealthy investors, especially in countries where domestic legislation is placing constraints upon investment opportunity, are turning to real estate simply as an effective way of storing their wealth. In these cases, the focus of real estate investment becomes simply the act of storing capital; the tangible benefits of the assets physical ownership disregarded.

60

Section Two

The behaviour of Inner Mongolia’s millionaires provides for a useful indication of the trajectory that real estate in Mongolia looks to be following: Over the past decade, Inner Mongolia has experienced the fastest GDP growth of any Chinese province, expanding output by an average of 17% annually. The area, much like the Mongolian state that borders it, derives the majority of its wealth from a considerable mineral resource endowment. Rich iron ore deposits at Bayan Obo, and a sizable share of China’s rare metal resources (that make up 95% of world supply), pale into insignificance in relation to the area’s 700 billion tonnes of coal reserves.

Private mining companies pouring into the Inner Mongolian steppe over the past two decades have seen wealth circulate fast around the region, with many Chinese citizens having benefited directly from soaring land prices and substantial capital inflows. As the projects have moved to extraction, those individuals positioned at the top of the mining corporations, or politically connected to their success, began to find themselves in possession of serious levels of wealth. The Financial Times estimated the average income of citizens in the town of Ordos to be $20,000 in 2010, with the resources of the upper echelons of society being considerably more, making it one of the wealthiest conurbations in China. This process has led in part (along with the development of resources in other provinces around the country) to the creation of China’s infamous ‘Coal Barons’, groupings of businessmen whose success has been substantively linked to growth of the country’s mineral resources industry. Empirically demonstrating the wealth of such individuals is a difficult task, with there being a significant incentive for them not to publically disclose the true extent of their financial affairs. It is claimed to be taboo even for these high net worth individuals’ private bankers to ask them the exact nature of the services they desire, for worry of being overly intrusive, according to Li Xianduo, the Secretary General of the Research Centre of the Chinese Banking Industry. As the wealth of these individuals has risen over the years, they have devised mechanisms to store value that are concurrent with their preferences. Typically geographically conservative in their investment decisions, many of these funds have ended up destined

61

Section Two

Photo by Hamid Sardar / Khasar Sandag

towards either the domestic Chinese stock exchanges, or Chinese real estate, which has for a long time been seen as something of a financial safe haven, having never experienced a sustained downturn since the country converted to private home ownership in the mid1990s. Arguably the most potent example of these capital flows piercing the Chinese real estate market can be seen by walking the empty streets of the city of Ordos, situated upon the Yellow River of Northern China. 25 kilometres from the existing old city of Dongsheng is the Kangbashi New Area, a site 35 kilometres in size with the capacity to house 300,000. Created with an estimated initial investment of 1.1 trillion yuan ($161 billion), the city is amongst the most lavish in China, representing the scale of the wealth created by the mineral extraction operations situated in neighbouring valleys. Despite row after row of pristine residential real estate being constructed by the government, official estimates of the new city’s occupancy rates are as low as 20,000 individuals, under 7% of capacity. These official Chinese figures are likely inflated to exaggerate the projects success, with some independent estimates positing that the areas population is as low as three or four thousand. Despite astronomical vacancy rates, near to 100% of properties in the city have been sold according to a report into the phenomenon by the Al Jazeera news network. The responsibility for this counter intuitive result rests primarily with the wealthy residents of the old city of Ordos, and other nearby conurbations that have benefitted from the Chinese mineral boom. Individuals have bought into the new city with no intention of ever renting out the properties, instead simply allowing them to sit and wait, confident that powerful upside forces of the Chinese real estate market will see the assets at the very least hold their value relative to inflation. Many individuals have gone further than investing in a handful of properties; the scale of some investors’ commitment to storing their wealth in real estate assets has led them to purchase whole terraces or apartment blocks across the city.

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Section Two

Despite sounding unbelievable to most Western investors, the practice is justified as economically rational by those individuals making the investments. Like most nations, China has taxes on real estate transactions, but no property holding tax, meaning property can be held in its latent state free of taxation indefinitely. To risk averse Chinese investors, purchasing property to store value is an attractive option. Being able to physically inspect the asset provides confidence in the security of their wealth. Short term rent flows to the investor are sacrificed, the investor simply not being interested in the hassle associated with finding a tenant and acquiring rental yields. The prevailing culture is one that considers property not as a functional structure, but an investment comparable to gold, jade or stamps. As house prices have appreciated due to the demand created by investors looking to store value in real estate, many high net worth individuals have decided to venture further afield in order to find properties that can secure even greater returns on their capital investment. The phenomenon has penetrated the majority of major Chinese cities (including Beijing, Shanghai, and Hong Kong), fuelling real estate demand across all sectors of the real estate market. As far back as 2009, data supplied by Stephen van der Mersh, fund manager at Ruane, Cunnif & Goldfarb, reported that in the capital of Guizhou, Guiyang, there existed 200,000 square meter shopping centres completely unoccupied, situated next to apartment complex’s 40,000 units in size, with an occupancy rate as low as 30%. The Financial Times estimates that there now exists 587 million meters of apartment space across the country, bought within that last five years, which intentionally stands empty. The creation of real estate demand in China, with the objective of nothing more than simply storing value has a number of analytical implications that may affect the trajectory of the Mongolian real estate market. Crucially, many of the conditions underpinning the creation of the Inner Mongolian multimillionaires are similar, if not identical in the Mongolian state, albeit indicative of a region at an earlier stage of the developmental path. Many industries, most notably those directly connected to mineral extraction industries are leading to the creation of significant wealth concentrated across a handful of elites; currently the richest 10% of Mongolia possess an estimated 30% of the country’s wealth according to the World Bank. Cultural attitudes are predictably similar between Inner Mongolia, and the Mongolian state. Ethnically, the region is 79.14% Han Chinese, with the remainder of the population (17.13%) being ethnically Mongolian. Although nearly a fifth of the demographic have the same direct lineage as Mongolian nationals, the attitudes prevalent in the investment process are spread across the ethnic divide. Both groupings are considered to display an expected aversion to globalised investments in intangible assets, being somewhat sceptical of more complicated financial instruments, especially when out of their sphere of domestic influence. Although many of the conditions that have led to the emphasis on real estate in China are present in Mongolia, it is in the details of the differences that lead Asia Pacific Investment Partners to forecast that Mongolia will most likely, if not inevitably embark upon the same real estate investment trajectory.

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Section Two One factor driving the decision to invest in Chinese real estate is the utility derived from being seen to actually purchase a tangible asset. Even if a property is not to be lived in, its physical presence still acts as a symbol of the owner’s affluence; it is a store of wealth easily referred to and quantified by those the investor seeks to ostentate. These forces are even more powerful in Mongolia than they are in China. Inner Mongolia is vast, spanning around 463,000 square miles, and populous, with a population of 24,706,321 spread across 25 cities. Personal association with even the most prominent real estate investments is usually lost upon those not directly connected to the investors network. Mongolia on the other hand is anything but impersonal, with a population of merely 2,754,685, around 45% of whom live in Ulaanbaatar. The quantity of high end real estate in the city is accordingly limited, with key properties such as the Olympic Residence, Royal County, Bella Vista The and Blue Sky Apartments being the subject discussion for all within the city. News of important transactions quickly spread; investors have much to gain in social standing by purchasing in these key locations. For those constrained by concerns with international investing, high net worth Mongolians also have far fewer options than their Chinese counterparts. Interest rates on savings accounts have historically been low relative to inflation, investors typically expecting zero if not negative returns.

Investor Insights: The Mongolian Stock Exchange Established in 1991, the MSE was the world’s smallest exchange until the Laos Stock Exchange begun trading in 2010. The Mongolian Stock Exchange (MSE) was recorded as the second fastest growing exchange globally in 2011, as share prices rose by 57.8%. Expectations of success over coming years are derived from Mongolia’s continued high levels of economic growth, a flurry of initial public offerings (IPOs) fuelled by mining sector expansion, and the privatization of state companies. Although challenges stemming from low liquidity and informational constraints have limited the accessibility of the exchange over recent years, optimism stems from the partnership

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Section Two

Photo by Hamid Sardar / Khasar Sandag

between the MSE and the London Stock Exchange Group (LSEG). In terms outlined by a three-year contract, the LSEG has agreed to actively manage the MSE and initiate a series of reforms. An estimated $45bn in listings on the exchange is anticipated over the next ten years through privatizations of state-owned companies and strategic assets this would increase the market cap by approximately 30 times. Interest in the exchange from global investors is increasing, with operations of several funds operating with the sole aim of capitalizing on the growth of Mongolian equities. Investments in the Mongolian Stock Exchange are, however, relatively limiting. A small total market capitalization, combined with low liquidity and institutional deficiencies renders the placement of large sums of money on the exchange close to an impossibility. As a result, real estate is an attractive option for high net worth Mongolians, historically having achieved high rates of return, especially within the luxury sector. The necessity of asset maintenance, combined with investors’ limited option sets may therefore be seen as a crucial force sustaining real estate demand as the Mongolian economy matures. Asia Pacific Investment Partners does not believe that the creation of a Mongolian economic elite in the coming years will follow exactly the same path as may be observed in China. Mongolia’s Property Tax (0.6% of the assets value (not applied to residential apartments & housing)), combined with the opportunity cost of forfeiting substantial rental yields driven up by limited supply, will most likely keep the majority of space occupied. The experience of the Olympic Residence supports this thesis. Despite representing some of the most expensive real estate in the city, it is domestic Mongolian buyers who have fuelled the majority (80%) of demand. Many buy multiple apartments, with the intention of placing them upon the rental market and securing considerable income inflows whilst their capital appreciates.

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Section Two

Photo by Hamid Sardar / Khasar Sandag

The Mongolian Mortgage Market: Soon to Catalyse the Growth of Low/Medium Income Space Since the economic transition of 1990, underdevelopment of the Mongolian mortgage market has placed severe financing constraints upon the country’s population. The mortgage market is however currently developing rapidly, which is expected to lead to further upward pressure on property prices in Ulaanbaatar. Mongolia’s institutional risk pricing mechanisms are currently limited in effectiveness by weak access to the credit history of those applying for mortgaged finance. Individuals’ credit histories are accessible through the Bank of Mongolia, but by no means provide the quantity of information that lending institutions require. Information is updated infrequently, meaning that data concerning consumer’s behaviour over the weeks prior to a request is simply unavailable. This allows for a situation where a borrower could theoretically take out multiple loans at once, without any of the financial institutions involved being aware of the other currently outstanding debt obligations, clearly limiting the lenders confidence in the data upon which they are basing their pricing decision. The historical information that is documented includes the current status of any loans taken out, but fails to document useful details regarding their performance. Defaulted loans are simply listed as having been ‘cancelled’, without any reasoning as to why the annulment occurred. As borrowers may have had loans cancelled for a variety of reasons not associated with default, this inserts a significant degree of uncertainty into risk assessment, to the detriment of the mortgage pricing process.

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Section Two Furthermore, the Bank of Mongolia lacks information concerning consumer payments to utility, communication, and non-banking financial institutions, which play a crucial role within more developed economies. These factors combined place a significant informational limitation on Mongolia’s mortgage institutions, meaning it is a near impossible task to treat consumers as anything other than inherently risk prone. Despite the lack of infrastructure supporting this transferal of information, the mortgage originating banks of Mongolia still make significant efforts to access accurately the creditworthiness of a given borrower. However, the informational deficit means that despite their best intentions, they do not really have the option to assess creditworthiness to anywhere close to Photo by Hamid Sardar / Khasar Sandag international standards. Efforts are being made to develop something a full service credit bureau in Mongolia, however legislators are coming up against difficulties widespread in developing markets. The good news is that the Bank of Mongolia, together with most commercial banks are very keen to advance this project, and are currently working together in a collaborative manner. One problem in particular is that of convincing the larger providers of the benefits that can be derived by all firms in the industry by pooling information; in Mongolia the majority are too myopic to see further than the potential impact this could have on their own market share. An accurate appraisal of collateral is a critical aspect of the underwriting process, and needs to be performed by an experienced professional with a standardized set of criteria, in order for not only the computed Loan to Value ratio to be accurate, but for any secondary market to treat collateralisation as an effective security against the risk of default. Sadly Mongolia’s property valuation services are still somewhat subjective, with each bank responsible for the creation of its own methodology upon which to base their estimates. Many make valuations based upon market data from real estate developers, but as each bank tends to deal with different entities, the result is little consistency across the market as a whole. Progress is being made however, as more and more banks are reported to have

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Section Two created specialist appraisal units within their own operations, which should at least create internal consistency between issuers, from which external standardisation may follow in the medium term. In order to incentivise the consolidation of the country’s primary mortgage market, the development of a large and credible secondary market has become a priority. The Mongolian Mortgage Corporation (MIK), established in 2006 through a joint agreement between the Bank of Mongolia and nine commercial outfits has been instrumental in achieving this end. Approved in 2009 to issue 25 Billion MNT in securitized mortgage bonds, the organisation sold MNT 6.3 billions worth in its first year alone. As the MIK moves to expand further the size of this secondary market, it is apparent that the benefits to the primary exchange in terms of both efficiency and liquidity are substantial. Assets based upon poorly defined risk evaluation and weak appraisal mechanisms are unattractive to institutional investors, and therefore provide an incentive for standards to improve relative to international best practice. Furthermore, as market forces obtain an increased role in the country’s market, the fragmentation of power during the origination process should allow for the more accurate pricing of the mortgage products. As the country moves away from the use of its portfolio lending system, assets are expected to be subject to an increase in checks and balances, having to move between separate institutions, which will each inspect the quality of the product. This is in stark contrast to what has occurred within the mortgage originating entities in the past, where loans have remained within single institutions, not being subject to the appropriate scrutiny, increasing the risk of mis-priced or poorly underwritten loans being unnoticed. The movement of the secondary market away from the organizations operating as portfolio lenders should also allow for a rapid expansion in the number of mortgages issued to the Mongolian population. Each third party purchase of a mortgage by the MIK recapitalises the selling bank (who should have profited by being able to keep the origination fee) whilst removing that the risk from that loan from their portfolio. The funds they obtain in exchange for the product may then be lent out to another household, and the process repeated, drastically increasing the lending capacity of the Mongolian financial system.

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Section Two So far, the work of the Mongolian Mortgage Corporation appears to have been effective with key indicators showing that the market is moving in the right direction. Mortgage market size as a percentage of GDP has increased from 3.6% in 2008, to approximately 5.2% in Q3 2011, with the rate of change increasing year on year. With the exception of loans offered to first time buyers as part of governmental programs, the increase in the total value of mortgages circulating the economy has done little to lower interest rates. MIK data suggests that between 2005, and Q3 2011 the interest rate fell by just 0.13%, from 14.7% APR to 14.52% APR, remaining at a level considerably higher than is affordable for the majority of Mongolians.

As a credible secondary market embeds itself within the Mongolian Mortgage framework, Asia Pacific Investment Partners anticipates the increased use of real estate backed loans across the economy, with more accessible interest rates, pushed down by competition in the origination process. With many low income households currently just short of being able to afford new apartments, particularly around ger district areas, it is expected that much demand, currently latent as a result of financing constraints, will be unleashed upon the low-mid residential markets. Constrained Infrastructure The combination of unique historical and geographical conditions in Ulaanbaatar creates a curious infrastructural situation that acts as a very strong supply side constraint on new developments in the city. Ulaanbaatar is often described as the coldest capital city in the world, and with good reason. Despite the climate being pleasant in summer, five to six months of the years are typically characterised by temperatures far below freezing point. The city’s high elevation (roughly 4,430 feet above sea level), combined with the effects of the Russo-Siberian Anticyclone (a massive collection of cold which accumulates on Eurasian terrain for much of the year) mean that temperatures sometimes drop so low as to border on the subarctic.

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Section Two As a result, a building’s capacity to produce and retain heat is key. Across the city, even modern properties often suffer from poor insulation, porous construction materials, and thin pane single glazed windows, meaning that residents typically rely heavily upon their property’s central heating system. This heat is produced and distributed by a network that is both archaic and unsustainable. Ulaanbaatar’s basic energy needs are met by an interconnected cogeneration system, which produces both the city’s electricity and heat, known as District Heating (DH). Both products are created by three Combined Heat and Power (CHP) plants located in the far western, industrial sector of the capital. The DH system then works together with private heating supply companies to supply heating and hot water to businesses and apartments around the city. This grid is known as the Ulaanbaatar Heating Network (UBHN).

The UBHN was established in 1959, in the midst of the city’s Soviet era. The system was originally designed to serve a population of 250,000, but this figure has now grown to an estimated 1,287,100 while improvements to the network and the power stations have been minimal. As a result the UBHN’s three CHP operations are operating under considerable strain. The oldest functioning plant in the city is CHP-2, commissioned in two phases in 1961 and 1970. The plant currently suffers from a variety of operational issues primarily linked to depreciation well beyond its predicted functional life, and this is reflected in its very low (3.5%) contribution to the UBHN’s overall heat load. The larger CHP-3 operations consist of two Soviet designed and manufactured units, each with four turbines, commissioned between 1976 and 1979. In slightly better condition than CHP-2, yet still over three decades old and in a state of some disrepair, CHP-3 supplies enough heat to take satisfy around 32% of the UBHN’s requirements. The majority of Ulaanbaatar’s heat is produced by CHP-4, the most modern of the facilities, built with a theoretical capacity large enough to supply 75% of what the UBHN is considered able to handle. However, the plant is currently operating close to capacity and despite being relatively new (it was commissioned between 1983 and 1991) premature aging has set in due to the loss of Soviet support and expertise after 1989. CHP-4 is expected to be

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Section Two

Photo by Hamid Sardar / Khasar Sandag

able to continue operating only until 2018. The capacity constraints of these three CHPs mean that the city’s heating grid is at present fixed, running along the city’s major roads and extending little more than 5km to the east, and 15km to the west. Until Ulaanbaatar’s heat production capacity is expanded, this zone represents an effective limitation upon the space that can be used for the construction of real estate. Developments beyond the boundaries of the grid face a variety of infrastructural challenges that reduce their economic viability and although alternative heating sources may be used, these are comparatively expensive. The result is a fundamental restriction upon the amount of buildable space within Mongolia’s only first tier city, the boundaries of the grid representing as close to a fixed supply constraint as is possible in a real estate market. It is, however, anticipated that the completion of Ulaanbaatar Thermal Power Plant V will free the city of this constraint at some point. The proposed facility is designed with a capacity to produce 300MW CHP (combined heat and power) of electricity, and heat at rate of 1,101 GCal/hour. Approved by the government as early as 2008, development of the project subsequently stagnated as a result of political infighting and an organisational aversion to assuming responsibility. However, it has recently been reported that funding for the project has finally been secured. Nevertheless, even the most optimistic estimates

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Section Two forecast that the plant will only begin production towards the tail end of 2015, and will not reach operational capacity until 2020. Room for Growth, Following the Kazakh Trajectory? Sharing a similar command economic background, Kazakhstan and Mongolia liberalized at a similar time, both were catalysed by the collapse of the Soviet Union. Both countries deconstructed their communist experiments under similar conditions; and between 1993 and 1995 the Kazakh Tenge saw brisk inflation whilst output contracted. This is not dissimilar to Mongolia’s experience with ‘transformational recession’. Both nations have experienced similar levels of growth, based upon the extraction of sizable endowments of natural resources; Photo by Hamid Sardar / Khasar Sandag ‘TengizChevroil’ was to Kazakhstan what ‘Oyu Tolgoi’ is to Mongolia. It was Kazakhstan that experienced the benefits of economic liberalization first however, roughly a decade before Mongolia. As a case study, Kazakhstan provides a guideline to help predict Mongolia’s growth trajectory.

From 2000 to 2008, Kazakhstan’s GDP grew at an astonishing and sustained rate: rising by 9.5% in 2002, 9.2% in 2003, 9.6% in 2004, 9.7% in 2005, 10.7% in 2006, and 8.5% in 2007. In

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Section Two tandem, burgeoning resource profits allowed Nursultan Nazarbayev’s administration to drastically lower its debt to GDP ratio, from 21.7% of its GDP in 2000 to just 8.9% in 2005. Despite gross external debt rising from US$18.2 billion in 2002 to US$96.37 billion in 2008, substantial increases in real GDP made the increased load bearable (similar in character to Mongolia’s experience at present).

As growth accelerated, prosperity spilled over into the construction and real estate industries. Between 2005 and 2008 the building market increased by roughly 20% per annum, with the fastest growth industry being that of the high-end market. Imports of the highest quality materials became commonplace, as the expansion of Almaty, and the new capital Astana spurred on the development of skyscrapers designed to cater to those whose fortunes had been made by the oil boom. Prices within the market appreciated at a rapid pace. Mid level real estate that would have cost just $250 per square meter in 2002 leapt in price to $3,600 per square meter in 2006; the luxury markets appreciation was even greater, moving from $460 per square meter at the turn of the millennium to an astounding $9,600 per square meter at the start of 2008.

This growth does much to illustrate the room for price appreciation that currently exists within the Mongolian real estate market. With residential prices across the market currently being only $1,270 psm, there would appear to be room for considerable growth before

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Section Two

Photo by Hamid Sardar / Khasar Sandag

Mongolia’s prices even begin to approach the levels witnessed in Kazakhstan over the last ten years. The two markets differ, however, in one crucial respect; mortgage and lending policy. A sizable proportion of real estate demand within Kazakhstan was funded by mortgages, introduced in 2002 in an effort to facilitate a demographic shift towards the new, but empty capital of Astana. By 2005, the products had become accessible to the general public, with relatively lax initiation requirements. Quick to spread through the financial system, within a few years almost all transactions to Kazakh nationals were funded by mortgage loans. Primarily funded by the Kazakhstani Mortgage Company, interest rates were far lower than they are at present in Mongolia, as the country’s financial systems sophistication allowed for widespread availability. Whilst the mortgage market in Mongolia is currently underdeveloped, its counterpart in Kazakhstan was perhaps too lax in terms of credit control. Wages of around 61,622 Tenge per month(roughly $595) were unable to justify mortgages often in excess of $100,000. When prices began to flatten in late 2007, the majority of Kazakh citizens, locked into mortgages which their wages fundamentally could not justify, were in no fit state to weather any form of housing price crisis. In the absence of a developed mortgage market the driving force behind the growth of the real estate industry in Ulaanbaatar is, however, based on fundamentals. Asia Pacific Investment Partners believes that even with increasing mortgage usage in Mongolia, the products are unlikely to ever become as widespread as was seen in Kazakhstan. As such, the comparison suggests Mongolia has much room to grow, based upon resource extraction and economic development, as opposed to speculative lending as was seen in.

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Residential Market

Residential Market

Photo by Hamid Sardar / Khasar Sandag

The Ulaanbaatar Residential Market Ulaanbaatar’s residential real estate market is extremely diverse, with international standard luxurious apartment complexes often located just a few hundred meters away from small, informal ger encampments. As such, although aggregate residential data reveals much about the general price trajectory that has resulted from the Mongolian resource extraction story over the past few years, the opportunity lies in the detail. This general price data by nature overlooks many of the micro level phenomena across the city that give rise to its greatest opportunities. As such, this section should be simply used as general metric; for individuals serious about exploiting the potentially massive upside on many real estate assets across the city, the detailed district studies that follow are considered a necessity. There are however certain forces acting upon both the demand and supply side that are considered to have already shaped the way the market has developed across the city, and look to continue to do so over the coming years. Key demand side drivers in Ulaanbaatar’s residential market include:

• • •

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Rapid economic growth, expected to continue at a double digit pace over the coming years; Substantial urbanisation and changes to the city’s demographic make up; A rapid increase in the number of foreign workers and expatriates looking for international standard accommodation;

Residential Market

• • • •

Rises in real wages from the substantial proportion of Mongolian society moving from low to middle income status; The creation of a growing class of extremely wealthy Mongolians, with assets primarily derived from resource extraction; Mortgage market development reducing financing constraints; Increased demand for properties centrally located;

There currently exists approximately 15,000,000 sqm of residential space in Ulaanbaatar, of which around 8,000,000 sqm has been constructed since the democratic transition, representing a relatively small modern apartment stock for a city of Ulaanbaatar’s size. At present there is just under 5,000,000 sqm of space under development according to APIP/Tenkhleg Zuuch estimates, of which only 1,300,000 sqm is expected to be of a quality suitable for expat and middle class Mongolian habitation. Key supply side constraints include: • Supply chain issues which hamper transportation of construction materials; • Lack of available land in high demand areas, such as the Central Business District; • Spatial development constraints, as projects effectively cannot be built outside Ulaanbaatar’s heating grid. • A geographical constraint caused by the city’s surrounding ger districts, with plot owners being endowed with powerful land ownership rights to halt oncoming development; • Construction firm capital constraints causing many projects to simply run out of funding; With burgeoning market demand and significant supply side constraints, residential sales prices have risen considerably over recent years. Priced at $439 psm on average in 2005, the residential market has appreciated every year since with the exception of 2010. With space currently valued at $1,270 psm on average (a 188% increase), the market appears to be showing little sign of a slowdown. If current demand drivers and supply constraints remain in place, $1,540 psm is expected to be a reasonable price target for residential space sold across Ulaanbaatar over the coming years. In the event of a slowdown in demand, in the context of supply conditions which look near impossible to change, prices should continue rising to at the very least a level of $1,310 psm on average. If the risks currently priced into these price estimates do not materialize, however, real estate in Ulaanbaatar may well see some of the largest aggregate gains worldwide. Double digit growth in a climate of political stability under the country’s new parliament may well see prices within the city rising to $1,750 psm on average, representing a 38% capital appreciation in just over two years. The Ulaanbaatar Rental Market Across Ulaanbaatar, changes in rental rates are often closely correlated to the movement

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Residential Market

“НҮХТ-ВИЛЛАЖ” ЦОГЦОЛБОР “Чингис хаан” нисэх буудлаас УБ хот орох замд хамгийн дээд зэрэглэлийн бүс болох Нүхтийн аманд байгуулагдаж байгаа oффис үйлчилгээний зориулалттай “Village Nukht”хотхон үүд хаалгаа таны өмнө нээж байна. Хотын агаарын бохирдол, замын түгжрэл гэсэн асуудлуудаас хол ангид орших энэ хотхон нь УБ хотын иргэн бүрийн нэн хүсэл болсон цэвэр агаарт ажиллах, амралт чөлөөт цагаа зөв боловсон өнгөрүүлэх бүрэн нөхцлийг бүрдүүлсэн хотхон юм. Европын оронд байгаа мэт санагдах энэ хотхонд та өөрийн хайртай гэр бүл болон анд нөхөдтэйгээ тансаг ресторан паб, караокед зугаацаж, кино театр болон уран зургийн үзэсгэлэн, олон төрлийн брэнд дэлгүүрүүдээр аялж,өндөр түвшний сонирхолтой тоглолтуудыг үзэн сонирхож, байгалийн сайхан орчинд дугуй, морь унан зугаалж, тохилог тав тухтай ажлын байрандаа ажиллаж, амарч, хөгжилдөн аз жаргалтай амьдрахыг урьж байна..

The VILLAGE @ Nukht

Located halfway between Ulaanbaatar and the Chinggis International airport, Nuhkt is historically a holiday area for former government officials and their families. In recent years a number of prominent families have relocated to the area and two hotels have been developed behind the gated fences of Nukht. Although the area is home to some of the wealthiest families in Mongolia, there are no services to be found anywhere near the location until now. The VILLAGE @ Nukht will meet the growing needs of this new suburb and will incorporate eating venues, art galleries, retail shopping and entertainment activities. Come join the excitement!

OFFICE AND RETAIL SPACE FOR SALE ag

Yarm

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The VILLAGE at NUKHT

Chinggis Khaan International Airport

Temple view Office: (+976) 7011 1800 Circus Office: (+976) 1132 4545 Head Office: (+976) 7730 0550 Address: Suite 202, Regency Residence 16 Olympic Street, 1st Khoroo, Sukhbaatar District, Ulaanbaatar 14220 MONGOLIA

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Website: www.village-nukht.com

Residential Market in residential sales prices. There are however a number of key factors that investors should consider when considering whether to buy to let. Expatriates and temporary visitors to Ulaanbaatar make up a large section of the city’s rental-market. Many just come for the summer, as consultants and temporary staff to both Mongolian and international operations, designed to give advice and implement western best practice. Most are young, with few commitments to tie themselves down in their countries of residence. Many of these individuals are on a substantial salary, but have little control over their accommodation in Ulaanbaatar. Apartments, often centrally located, are usually found for them by the human resources team of their employers, and paid for directly by the companies. The result is a surge in demand for middle quality, centrally located, and western friendly properties around the city center over the summer months. A slightly smaller, but equally important grouping is the growing class of executives, upper management and diplomats based permanently in the city. Demographically characterized as older males often tied down by family commitments, substantially more incentives are usually offered by firms to encourage them to bring their expertise out to the steppe. One such benefit is usually in the form of generous housing allowances, which often are as large as $5,000 per month or more. The result is that many of these individuals are not overly concerned by the prices of rental properties, determined to use up these non-redeemable endowments and allow themselves and their families to live in comfort. This has meant that many properties such as the Star Apartments, Green Villa, Bella Vista, Temple Residence and the Regency Residence have been able to charge premiums upon their property, facing long waiting lists from these wealthy individuals. Ulaanbaatar’s large student population drives the lower end of the market upon a seasonal basis. With over 10,000 students enrolled at the National University of Ulaanbaatar alone, over half of whom who live in the country’s rural provinces, term time sees a significant demographic inflow to the cheaper areas of the city, close to the main campuses. Areas such as northern Sukhbaatar, and Bayanzurkh’s Sansar District have rental markets largely driven by this phenomenon, which sees demand rocket between 1st September to 25th December, and 28th January to 29th May (term dates). Valued at just $5.80 psm on average per month in 2005, residential rental prices have increased every year across the city (with the exception of 2010), rising by 206% to $17.80 psm on average as of Q3 2012. Similar supply and demand forces, almost identical to those outlined above in the residential sales market have driven rental rates upward upon this substantial price path. Based on the current macroeconomic drivers price appreciation to $24.50 psm on average per month by the end of 2014 is anticipated. This would price the average one bedroom apartment in the city (assumed by the industry to be 35 in size) to be $860 psm per month to rent. 2005

2006

2007

2008

2009

2010

2011

2012

Total Percentage Change Sukhbaatar

Sukhbaatar

$6.2

$7.4

$8.1

$8.5

$10.1

$9.1

$20

$25

153%

Chingeltei

$5.8

$6.6

$7.5

$7.6

$8.9

$8.8

$10.9

$14.9

159%

Bayanzurkh

$5.0

$5.8

$6.4

$6.8

$8.4

$8.7

$10.5

$14.2

183%

Bayangol

$4.5

$5.0

$5.5

$6.1

$8.5

$8.5

$10.5

$13.6

199%

Khan Uul

$5.5

$6.1

$7.2

$7.4

$8.5

$8.6

$10.6

$16.1

192%

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Residential Market

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Office

Office Given the extraordinary pace of economic development in Mongolia over recent years, it is unsurprising that the market for office space has exhibited rapid growth,both in terms of size and price level. As large institutional investors such as the Mongolia Growth Group realign their real estate investment strategies to increase their exposure to the office market, it is clear that many consider the market still have significant growth potential. Given that the majority of the country’s mineral extraction operations have not yet become operational, this assumption may well prove to be correct. However, office real estate in Ulaanbaatar represents an extremely small market, especially by the standards most institutional investors are used to dealing with. There are clearly huge gains to be made across Ulaanbaatar’s market for office space, but cherry picking the right assets in the right locations will be key to maximize returns. Demand for Office Space in Ulaanbaatar Demand for high quality office space in Ulaanbaatar has increased rapidly over recent years, fuelled by the country’s economic growth. The total number of active business entities within the Ulaanbaatar has risen from 42,988 in 2008 to 47,195 in 2011, according to the National Statistics Office of Mongolia. Growth in the financial services industry has been particularly strong, with the number of players increasing sharply, despite a dip in 2010 due to the global financial crisis. Demand is expected to remain strong into the medium term from firms across all sectors of the Mongolian economy, as business practices become increasingly sophisticated and require ever-larger quantities of back office staff. It is in the human capital intensive financial services industry, however, that the highest growth levels are expected. With a flurry of IPOs expected over the coming years on the Mongolian stock exchange, combined with significant developments in the country’s insurance and lending industries, the demand for high quality office space in the financial services industry is expected to grow substantially. Investor Insights: PWC Mongolia Joining the market in 2010 to provide assurance, advisory and tax services to both Mongolian and International clients, PWC’s main focus is to support the country’s rapidly developing mining, financial services and manufacturing industries. Based in Central Tower, the firm’s team is currently small, representing around 20 partners and support staff, but it is anticipated that as the business continues to grow additional office space may be required.

Although demand for office space has grown significantly, only certain areas of the city have been impacted. The dominant preference of both domestic and international companies to acquire space within the Central Business District, which is primarily situated

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Office in Sukhbaatar, but also spills over to the eastern part of Chingeltei. The Central Business District effectively represents the epicenter of Mongolia’s economic activity. Encompassing the country’s parliament, stock exchange, and the majority of key landmarks, for domestic companies, the headquartering of operations within this exclusive geographical area is a symbol of status and power. These considerations are a significant factor that support the demand for both Grade A and Grade B office space within Sukhbaatar Square. Research indicates that of the top twenty companies operating within Mongolia at the time of writing, 13 are headquartered within the CBD. International firms entering Mongolia are also keen to be based within the Central Business District. The area is not only centrally located, reasonably safe, and close to shops and restaurants designed to cater to western tastes, but also contains the vast majority of the city’s office supply considered to be up to international business standards. For smaller size headquarters, the Central Business District provides an attractive solution. However, for companies looking to establish an office with more than a few dozen employees, it is often an impractical solution in terms of both price and availability. Occupancy rates, especially within the more luxurious structures are notoriously high, and when space does become available, it is normally expensive and in the form of small individual units. These considerations are leading to an increase in demand for office space outside of the CBD. The purchase or rental of entire office buildings, simply not a possibility in the CBD, appears to be increasingly desirable for many firms looking to base large operations out of Ulaanbaatar. Demand appears alose to be enhanced if offices are located close to large residential areas that can provide accommodation for employees. Investor Insights: The Seoul Business Center The Seoul Business Center, situated in the 1st Khoroo of Bayanzurkh, is an example of this phenomenon. The B+ rated center, spread across eight floors, is neither distant from the Central Business District, nor cheaper. Throughout its history, however, the structure has achieved high occupancy rates due to its proximity to the Chinggis Khan hotel and the Royal Castle Residential Complex, which is large enough to house the majority of the center’s employees. Previously housing Oyu Tolgoi’s operations, the complex experienced a fall in occupancy in 2009 as many of OT’s front office staff were shipped out of the complex and into the Monnis Tower. However, the remaining space has filled up quickly with 99% of its units currently in use. Supply of Office Space in Ulaanbaatar Burgeoning levels of demand have quickly signaled to construction companies that there is money to be made in the Ulaanbaatar office market, resulting in large expansions in the

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Office city’s office space in every year except 2009, when the effect of international macroeconomic conditions caused construction activities across all sectors of Ulaanbaatar temporarily stagnate.

Photo by Hamid Sardar / Khasar Sandag

Facing the highest levels of demand, the Central Business District has been the focus of much of this development. Supply of Grade A office space is limited to the CBD and includes the MCS Central

Tower, the Blue Sky Tower, and the Monnis Tower. Investor Insight: Overview of Grade A Real Estate in Ulaanbaatar Completed in 2008, the MCS Group’s Central Tower, directly to the east of Sukhbaatar Square represents the first piece of Grade A office space in Ulaanbaatar. The modern exterior is complemented by luxurious interior design, including water features, six elevators, and an abundance of marble. Units are rented out by MCS and Kerry Group for between $51 and $65 per square meter. With high demand and inadequate supply, the price is expected to go higher. Units within the Chono Corporation’s Blue Sky Tower are currently occupied by firms such as Frontier Securities, and the on site amenities are arguably the best in the city, featuring a swimming pool, restaurant, fitness center, and bar at the top of the structure. Despite a striking exterior, however, the design of the offices are not in the same league as those in the MCS Central Tower. The rental price of office space in the Blue Sky is between $45 and $52 per square meter. The Monnis Tower is well-known for housing the headquarters of Oyu Tolgoi’s operations. Located on Chinggis Avenue, the building’s client list also includes Peabody, Future Energy, and South Gobi Sands. The rental price for the space is around USD$50 per square meter at the time of writing. As some parts of Monnis Tower are owned by private individuals, the rental prices range from USD$30~$50 psm. Each one of these three buildings currently enjoys occupancy rates of 100%. Two additional Grade A office buildings are currently under development, both in Sukhbaatar District: the International Commerce Center and the International Finance Center.

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Office Investor Insight: The International Commerce Center Targeted for completion at the beginning of 2013, Tsast Construction’s International Commerce Center will be the newest addition to the Grade A office stock in Ulaanbaatar. Situated behind the Blue Sky Tower, the twenty-floor structure will include fourteen floors of office space, increasing Sukhbaatar District’s existing stock by between 8,400 and 10,500 square meters. Although prices have not yet been made public, the units are expected to be available for rental only. In addition to the office floors, other facilities will also be offered in the complex. A coffee house (said to be Mongolia’s first international brand) is to occupy the ground floor, whilst levels 5, 19 and 20 are to be occupied by a selection of high end restaurants. Alongside what may prove to be some of the most desirable consumer facilities in the country, office workers will be provided with parking across two floors of heated garage space. The only downside of this property that can be forseen is the outside parking area. The building is squeezed between 3 other buildings: the new 16 story office tower to the east, Erel’s boutique hotel on the west side, and Radisson’s BLU Hotel in front of it. Investor Insight: The International Finance Center Another significant addition to Sukhbaatar’s stock of Grade A office space is the Chuang Group’s International Financial Center. 25 stories tall, the structure, which is targeted for completion by end 2015, is set to overtake the Blue Sky Tower for the title of Mongolia’s tallest building,and has the potential to expand the city’s stock of Grade A office space by as much as 29,900 sqm. A mixed-use development, the first three floors of the building aim to house a highend shopping mall and a conference center. Rental space is anticipated to be offered at a discount to the rates charged by the current three Grade A structures in Ulaanbaatar (the Chuang Corporation currently intends the price to be just $50 psm). There are three additional new office towers under construction. One16 story building is located east of the International Commerce Center. This building has 800 sqm. per floor area - with the first three floors being devoted to commerical use. The second building is 9,600 sqm.,15 story building, the New Horizions, is behind the Japanese Embassy. The building was only partially constructed this year. The initial intended use for the third building, will be for disabled children recreation / education center. The 13 story and is located across the street from UB Mart, and overlooks the Children’s Park The International Financial Center is also planned to be the first piece of Grade A office space in Ulaanbaatar to offer its units for purchase, for a rate rumored to be $5,000 per square meter. Although priced at a premium compared to the expected

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Office rental prices, it is expected that many larger firms with long term commitments in Mongolia may prefer the option of purchasing. The APIP research team however has a number of concerns as to whether the project will be able to fulfill these bold claims. The developments construction has not begun as of the time of writing, with little more than the barriers fencing off the plot of land near to the Bayangol Hotel having been erected. With most architects in Ulaanbaatar estimating that a building of the IFC’s size should take in excess of three years to complete (the Blue Sky took five), it seems unlikely that the structure will be opened by the end of 2014, as the onset of harsh winter conditions will delay the setting of foundations well into the new year. Some engineers have questioned the building’s structural integrity. Built upon a baseplate of just 1,200 sqm, many engineers within the city question whether the edifice is wide enough to support the intended twenty-five stories. With such negative rumors flying around the city, there have been few answers issued by the Chung Corporation. The International Finance Center therefore has the potential to fundamentally impact composition of the city, and the country’s Grade A office market, if, and when, it is completed. Farther down the quality spectrum within the Central Business District is a reasonably large stock of existing Grade B office space. With 28 developments onstream at the time of writing, including the Bodi Tower, Max Tower, MCS Plaza, The Landmark Plaza, New Century Plaza, Newcom Building and City Plaza. Headline figures of supply growth within the Central Business District suggest that the quantity of space expected to come onstream over the next twelve months is as high as 101,870 sqm, spread across a total of six projects. This increase must, however, be looked at in context. The largest development included in the abovementioned figure, the Shangri-La complex (representing 23,270 sqm. of space, located in the south of the Central Business District at the top of the park) has had construction (with the exception of foundations) all but cease over recent months due to supply delays. Time of completion remains uncertain. Delays in getting necessary supplies across the Mongolian border before the cold winter, means that construction will recommence in the Spring of 2013 at the earliest. The second largest of the six new developments is the Trade and Development Bank Headquarters, located slightly to the east of the Zorig Foundation’s offices. 22,400 sqm. in size, and constructed by the Trade and Development Bank itself, the entity is custom built to house the organization’s operations. The development’s impact upon the market will therefore be limited, as the space will never actually be exposed to the market demand. Often, even if the space is not custom built and occupied directly by Mongolia’s large companies themselves, it is rented out to subsidiaries at uncompetitive prices, effectively removing it from market supply. Taking these factors into account the expansion of Grade B office space within the Central Business District is expected to represent a 56,200 sqm. increase over the next

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Office twelve months. This rate remains significantly below the rate of demand growth in the area. It is forecast that over the medium term, as the number of usable plots within the city center is depleted, the pace of expansion will be reduced further still. The remainder of Ulaanbaatar’s office Photo by Hamid Sardar / Khasar Sandag supply (excluding the Central Business District) is primarily made up of Grade B space (approximately 65%), with the balance classified as Grade C. Even if the Central Business District is removed from the analysis, the peripheral areas of Sukhbaatar and Chingeltei contain the majority of remaining office space in Ulaanbaatar, with 15 out of the total 27 units located in these central districts. Although office space of both Grade B and Grade C quality exists in all districts across Ulaanbaatar, there are next to no office developments currently underway in the Bayanzurkh, Bayangol, and Songingokhairkhan Districts. Both Sukhbaatar and Chingeltei are currently hosting significant developments outside their Central Business Districts, with 36,773 sqm. and 31,402 sqm. of space currently under development respectively. Khan Uul, however, appears to represent the fastest growing area of office space outside of the Central Business District. In addition to the existing Grade B office tower located at the Four Seasons Gardens (formerly known as Japan Town), 52,042 square meters of Grade B office space is currently under development. The area looks to set to significantly expand its supply profile beyond the 3 Grade C office complexes that currently exist within the district. Price Forecasts The Market for Grade A Space Given the strong demand for Grade A office space in the Central Business District, together with the extremely limited supply side conditions, it is unsurprising that rental rates per square meter have more than doubled over the past few years, leaping from $29 psm in 2009 to $65 psm as of Q3 2012. It is expected that this price momentum will be maintained over the medium term. Although the International Commerce Center may increase supply by up to 10,500, demand

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Office already far exceeds current supply within the Central Business District, and is expected to remain strong as Mongolia’s growth continues and resource extraction commences. A fair rental price target of $95 psm is forecast for the end of 2014, with the potential to rise as high as $115 psm. The International Finance Center (representing nearly 30,000 sqm. of premium office space) could nevertheless lead to temporary oversupply once the development is completed. However, it does not appear likely that the IFC will be able to meet its 2015 completion target, with work upon the foundations not yet having begun. Unless this situation is to change in the near future (almost impossible given that the winter is halt the majority of construction operations), the IFC remains a long term pipedream for the city, and a minimum of three years until completion from when concrete is first poured. The Grade B Market within the CBD Recent years have seen demand far outstrip the supply of Grade B office space in the Central Business District, leading to increasing rental rates comparable to, albeit slightly lower than, those displayed by the Grade A market. With rates psm of just $18.50 psm. in 2009, prices are now estimated at $30.50 psm. (a 65% price appreciation in less than four years). Excess demand is expected to allow prices to continue upon their current trajectory over the short to mid term. A fair price target is calculated at $45 psm. by end 2014. A worst case scenario would still expect to see prices rise to $37.5 psm. by end 2014. Outside of the Central Business District The predominantly Grade B stock of office space outside of the Central Business District in Chingeltei District and Sukhbaatar District is offered at a significantly lower average rental rate of $24 psm (as opposed to $30.5 psm in the Central Business District). Although it is possible that prices may appreciate over the medium term, as the Central Business District is forced to expand in size as demand for high quality space at the city’s core spills out of the conventional area, this outcome is considered unlikely. The value of the Central Business District is driven primarily by a sense of exclusivity and centrality, commodities in short supply at present in Mongolia, and non Central Business District areas will therefore struggle to compete in terms of desirability and pricing. A fair price target of $32 psm is set for the peripheral areas of Sukhbaatar District and Chingeltei District, as gains are expected to be related to, but proportionally lower than those within the Central Business District. Khan Uul on the other hand represents a more exciting prospect. The developments in the Zaisan and Stadium Areas are expected to take advantage of the growing demand for large office spaces outside of the Central Business District that are suitably close to accommodation appropriate for their employees. These districts already house a large proportion of Mongolia’s professional elite, and the new residential developments, particularly in the Stadium Area, are expected to enhance the impact of this dynamic. Investments in the Stadium Area are favoured over Zaisan, given its long term growth potential which, unlike Zaisan, is not hampered by inaccessibility.

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Retail

Retail

Photo by Hamid Sardar / Khasar Sandag

The Mongolian Retail Market Mongolia’s rapid economic growth over recent years has allowed its population to get their first taste of western consumerism; after decades of state provision under socialist rule, it appears to be a phenomenon they are taking to with gusto. To cater to the increasingly commercially minded demands of the Mongolian population, real estate across the city to house stalls, shops and malls is developing at a rapid rate. In a country with quickly increasing incomes, investment in commercial properties looks set to be a solid way to gain solid rental yields, alongside impressive capital gains. Demand Side Factors The demand mechanism for commercial real estate begins with the consumer. As Mongolia’s economy has grown over recent years, real incomes have risen, being nearly 20% high in 2011 than they were in 2008 according to the National Statistics Office of Mongolia, as average wages grew from 274,000 MNT on average to 424,000 per month. This change has been recognized by more than just the country’s citizens; in October 2011, the World Bank officially upgraded Mongolia from a low to a middle income country. Changes to citizen’s budget constraints have been accompanied by rapid alterations in the preferences of Mongolian consumers. Twenty years after market liberalization, Mongolians have successfully adapted to western consumerist ideals; items that convey taste, wealth, and status are becoming increasingly desirable to the country’s consumers. For the growing class of Mongolian professionals, earning multiple million Tugrugs per

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Retail month, the latest designer clothes manufactured by high end western brands are worn with pride; for those who remain on slightly more modest incomes, counterfeit goods purchased at Naran Tuul make for acceptable substitutes. In response to these increasing levels of demand, the wholesale and retail industry within Mongolia has experienced solid growth over recent years. The number of establishments operating nationally within the retail industry increased by over 33% over two years, from 27,113 in 2008 to 36,297 in 2010, whilst the gross domestic product generated by these establishments more than doubled between 2008 and 2011, from 472,226 to 1.051,804. Increases in the size of the industry have been unsurprisingly accompanied by amplified demand for retail space across Ulaanbaatar. However, the requirements of these entities are by no means heterogeneous. The entrepreneurial Mongolian represents the lowest end of the market. Still commonplace around UB, either within the city’s famous market or in custom build small scale stalls inside shopping plazas, such traders usually sell a selection of wares with a specific focus (electronics, cosmetics, clothing, etc) of wares for cheap and negotiable prices. Many small shops run by Mongolian owners are just a small step up the commercial ladder. Usually residing in pieces of ex-Soviet stock, the enterprises sell a wider range of goods in a similarly disorganized fashion to their stall and booth based peers. Enterprises of interest to the real estate investor effectively begin with the professionalized set of shops and operations that are becoming increasingly commonplace within the Mongolian commercial environment. Best characterized by as outfits such as Gobi Cashmere, Inter Books, and BSB electronics, these chains are a cut above the country’s small and often inefficient family run enterprises. Either catering exclusively to the Mongolian market (in the case of Inter Books), or establishing themselves as market leaders within industries to which international brands are currently exposed (BSB electronics), these firms look set to continue growing rapidly and expanding their output over the coming years. The wealthier firms within this category have over the past few years begun to move their operations out of the small high-street operations from which they begun trading and into the larger custom built shopping facilities situated around Ulaanbaatar (such as MIR Books establishing themselves as a flagship brand within the Jiguur Grand Mall) in order to maximize their exposure to the consumer. The top tier commercial enterprises currently operating within the Mongolian market remains the large international brands that have decided to establish operations within Ulaanbaatar to gain exposure to the country’s robust, growth driven demand. Luxury brands such as Louis Vuitton, Ermenegildo Zegna, Hugo Boss, Mont Blanc, and Armani already have operations established in the most exclusive retail outfits within the center of the city, whilst high end franchises of firms such as Timberland, L’Oreal. Samsonite Seiko and Calvin Klein are some of the other brands that are occupying the increasingly large American-style mall facilities cropping up across the city - being developed by the Naran Trade Group. Many of these firms have drastically exceeded their owners expectations, as the appetite for luxury western brands within Ulaanbaatar has proved to be more substantial than

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Retail companies projects thought possible. Investor Insight: The Success of the Louis Vuitton flagship store One particularly successful luxury venture within the Mongolian market has proved to be the Louis Vuitton store located on the ground floor of the MCS Central Tower. Featuring a circular VIP client room, the centerpiece of the store is a jewel encrusted riding saddle complete with a pouch custom build for transporting caviar across the Steppe. The store’s success speaks for itself. With over 2,000 Mongolian clients on their books, the shop has been effective in capturing a substantial share of the status conscious, affluent Mongolian class. Louis Vuitton’s international management company has widely praised the outlet as one of its highest growth operations in Asia. The company’s financial statements released for 2010 confirm that with 73% sales growth, the Ulaanbaatar operation was the firm’s second most success in Asia, being beaten only by Ho-Chi-Minh City in Vietnam. As the financial reports of firms Mongolian operations circulate around Asia and the world, it is expected that more firms will decide to that it is within their interests to establish branches in Ulaanbaatar, to give their company exposure to what is expected to be the worlds fastest moving growth economy over the coming years. In addition to new entries, as high the markets for high end luxury goods sills over the areas other than the Central Business District (to Bayangol, Nukht and Zaisan) many companies currently invested in Mongolian retail may consider opening extra facilities, in addition to their flagship stores. The Supply of Retail Space There are currently three key retail areas within Ulaanbaatar at present, with a number of smaller, custom locations looking to have significant growth potential over the coming years. The city’s commercial hub for high-end shopping is undoubtedly the Central Business District, which encompasses areas of both Sukhbaatar and Chingeltei. Extending from the east side of Sukhbaatar Square and the State Department Store across Peace Avenue to the Gandan Monastry, this large and congested area has seen the fastest retail sector development in the country over recent years. With occupancy rates above 95%, and higher in the majority of the areas leading stores, the area is considered to be facing a slight under supply towards the upper echelons of the market, as both international brands and more successful Mongolian businesses are keen to enter this geographical market. The most famous retail outfit in the Central Business District is undoubtedly the State Department Store. Run by the Nomin Holdings, this slightly aged Grade B retail space consistently fills all 27,755 sqm of its space. Coveted as one of the most iconic structures in Mongolia, the enterprise has recently seen the majority of tenants in the space shift from domestic to international brands, as foreign demands to establish themselves within this space has priced many Mongolian companies out of the market. Surrounding the operation are a large quantity of small enterprises along the Peace Avenue high street,

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Retail offering everything from souvenirs to fast food, designed to penetrate the large quantities of consumers that spill out of the slightly overpriced State Department Store empty handed. On the opposite side of the Central Business District is the city’s modern equivalent to the State Department Store, the MCS Central Tower. The structures modern interior design is host to many of the city’s most renowned international companies, being the location of choice for Hugo Boss, Mont Blanc, and Louis Vuitton. Positioned overlooking Sukhbaatar Square, the location is ideal tor capturing the market of tourists viewing Ulaanbaatar’s most famous landmark, whilst the office space at the top of the provides many of Mongolia’s professional class with daily exposure to its stores. To the west of the State Department Store is Photo by Hamid Sardar / Khasar Sandag the somewhat less successful ‘Ulaanbaatar Department Store’. The five floor structure, developed by Tushig Company is a bit slower in recent years however, despite boasting modern facilities including two lifts, escalators to each floor, a climate control system, and high grade lighting. The structure’s 25,000 sqm. of space is only 70% occupied as of Q3 2012 according to APIP/Tenkhleg Zuuch data. The space was intended to be filled by large international anchor brands, but only a few have come as yet. The cosmetics area is the most popular of this department store, having Chanel, Lancome, Nivea, and many more. With large plots of space almost non existent within the Central Business District at present, it appears that there is little in the way of substantial, investable supply being built at present to be used as predominantly retail units. A few developments such as the Olympic Residence look set to expand supply by a small amount, being mixed use structures offering their ground floors to the retail sector, however on aggregate such expansions are unlikely to even dent the total supply in the center of the city. As such, the supply within the Central Business District of large departments stores that are now the focus of the largest firms operating within the Mongolian economy, looks to remain relatively constant over the coming years. The Bayanzurkh District to the east caters to an equally amount of retail activity, albeit to a completely different market, representing the core space occupied by mid to lower retail outfits within Ulaanbaatar. The epicenter of activity, from which everything else effectively spills out is the famous market - Naran Tuul. The destination of choice for low incomes as Mongolian’s look to acquire cheap clothes, household wares and food, the area sees one of the highest total turnovers in the country, as many low value goods change hands on a regular basis. Over 4,500 tenants are crammed in to the area, paying between 15,000 and 75,000 MNT psm per month for their stalls. The success of the market, combined with the consumer inflows that are brought to

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Retail the area has seen the development of more sophisticated shopping facilities in the surrounding areas, designed to cater to the same socio-economic grouping. The Sunday Group’s Sunday plaza is perhaps the best example of this; 650 tenants are crammed into 7 floors of small booth style retail space. With separate floors for electronics, household goods, cosmetics, and clothing, the complex is slightly better laid out then the Black Market next to it, but its hallways remain equally hectic. Despite rental rates being as high as 200,000MNT psm in the high traffic location, occupancy rates remain close to, if not 100% at almost all points throughout the year. The successes of these two institutions have largely acted as a catalyst to arguably Mongolia’s largest retail area. Small high street style shops, stalls, and micro shopping centers are being quickly constructed down almost all of Bayanzurkh’s connected infrastructural arteries. With land remaining relatively cheap and in abundance within the district, it is expected that supply will continue rapidly expanding through the district, although being of decreasing worth the further it is away from the Naran Tuul and the Sunday Plaza. The third major shopping district in Ulaanbaatar is the one with the most growth potential, centered on the 3rd and 4th microdistricts of Bayangol. From the onset of the free market in Mongolia, the area’s high street has developed to successfully accommodate mid range retail enterprises. The small grade B or lower shops lining the street have long existed in the hands of entrepreneurial family businesses, offering a selection of cheap, often imitation goods to this shopping area focused upon the custom of the Mongolian middle class. Recent years have seen the achievements of the small ground floor units spur on the development of a variety of micro malls in the district, designed to capitalize on the sizable consumer market within the area. As small complexes such as the Tumbash Shopping Center, Next Plaza, and Sansar Plaza were brought online over recent years, the typically two story structures have quickly been filled, all exhibiting close to a 100% occupancy rate, being rented predominantly to individual traders and small Mongolian enterprises for usually between 80,000 and 100,000 MNT per month. There are also some international brands that have opened operations in these buildings such as United Colors of Benetton etc. The most recent periods have seen the scaling up of operations in the district once again, initiated by the opening of the Jiguur Grand “Grand Plaza”, on Peace Avenue in the 2nd Khoroo. Although certain pieces of research have classed the complex as the district’s first piece of Grade A retail space, the APIP/Tenkhleg Zuuch study considers it to be of Grade B standard at best when looked at through an international lens. The structure, which was initially intended to attract many of the large brands anchored within the center of the city to Bayangol District, has not been effective in this respect. Only a handful of non Mongolian retailers have operations in the structure. Most retailers are small Mongolian companies. At the beginning, the Jiguur Grand Group sold small spaces within the mall to individual shop owners. With so many small, private owners with competing stores and agendas, the property lacks good management and appearance. This is not to say it has not been a success however; occupancy rates are now as high as 90%, with many of large domestic firms, such as the MIR Bookstore, placing themselves as key anchor brands.

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Retail The MaxGroups Max Mall, on the opposite side of the road to the Jiguur Grand has suffered from similar problems. The strength of the Max Mall is that it has one owner and strong management through the group itself. For this reason the Max Mall is better planned and managed compared to the Grand Plaza. Although the complex has begun to fill up, it is principally occupied by domestic Mongolian brands, as opposed international operations. There has been new international brand apparel strore opened recently - Cocconelle. The coming periods are expected to see its occupancy rate increase from the current level of 70%, as firms wish to get exposure to the most luxurious piece of retail space in the district (B+), which is currently offered at a potential discount to the Jiguur Grand Plaza, with rental rates between 39,000MNT and 76,000MNT as opposed to between 33,000MNT and 80,000MNT. The Bayangol District should be considered to be facing potentially strong growth in its retail sector over the coming years, just not by the means many of the larger developers envisage. It is unlikely that many large international brands will be coaxed away from, or establish subsidiary operations within the district, simply not seeing it as an area capable of giving them the exposure they desire to the most affluent groupings of Ulaanbaatar’s society. Instead, the district looks to remain a haven for middle-income shoppers and outlets.

The VILLAGE @ Nukht (artist rendering)

Investor Insight: The VILLAGE @ Nukht Nukht, located in the Khan Uul District, represents one of the fastest growing centers of wealth in Ulaanbaatar. Poised to be the ultra-exclusive Zaisan of Mongolia’s business magnates, the small gated community represents some of the most desirable real estate in the country at the moment. As the residential stock of the area is expanded beyond the initial hundred or so houses left over from the former politburo retreat in the area, the district is looks set to embark upon a period of rapid expansion. Exclusive as the individual properties are however, the conurbation is currently lacking a core of social, economic or geographical value. Mongolian Properties

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Retail believe they have come up with a solution. The VILLAGE @ Nukht, located less than 500 meters away from the residential complex looks set to unify the wealthy residents with the creation of a luxury micro town of approximately 14,000 sqm of development. It is believed that the current deficit of shopping facilities in one of Mongolia’s most affluent communities will allow large brands, both of Mongolian and international origin to be convinced into renting retail space within the European architecture of the square. With 27 retail tenants on the site, who must adhere to strict operational policies in line with the projects ethos, the area has the potential to become a new, luxurious commercial hub outside of the Central Business District, being frequented by both the community’s residents, and visiting shoppers from inside the main body of Ulaanbaatar alike. Forecasts Facing drastically different market dynamics, each of the three core areas of retail real estate in Ulaanbaatar must have their prospects evaluated separately. The Central Business District The average rental rate per square meter in the Central Business District is $41 psm as of Q3 2012. However, the variation in prices is significant, with some of the larger centers such as the State Department Store charging in excess of $70 psm. These high rates are offset by the more manageable fees charged by some of the areas smaller institutes, such as the MetroMall, Mars Market and Passage center, which typically between $25 and $35 psm for their Grade C space. The lack of demand facing the Ulaanbataar Department Store has also meant that some units within the complex have seen prices dip as low as $25 psm. Rental rate forecasts within the district are anticipated to generally rise over the coming years, as the Central Business District remains the center of commercial activity in Mongolia, although the price momentum looks set to vary depending upon the class of asset in question. Grade C, and un-influential Grade B space looks set to see rental rates continue to increase, as would be expected within a city’s downtown area experiencing rapid growth. It is the Central Business District’s stock of Grade A, and well known Grade B space however that looks set to be the crucial driver behind returns over the coming years. As more and more international brands look to enter the country to capture demand from Mongolia’s increasingly affluent population, it is these structures that will be invested in. institutional reputation, alongside a regular clientele from the right socio-economic groupings are what high end western goods need to effectively exploit the market. As such structures that can provide these are in an ideal position to maximize their rental returns. Given especially that the shortage of space in the Central Business District sees no dedicated Grade A retail operations under construction at present (the nearest substitutes being the a few floors of the Olympic Residence and the IFC), it is anticipated that high end retail units should continue seeing their rental rates appreciate by at least 10% each year.

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Retail The Bayanzurkh District The Bayanzurkh District remains popular with the large, less affluent portions of Mongolia’s population, and this demand is set to continue well into the medium/long term. However, rapid development is seeing many structures under construction around the heart of the areas economic activity, specifically, Naran Tuul. However, as development continues, usable plots are seen to be becoming rarer and rarer around this small epicenter of activity, meaning that developments are quickly having to move away from the most salient retail areas in the district. As of Q3 2012, the districts rental rates are approximately $29 psm. With the high traffic retail areas already able to charge a premium (up to 100,000 MNT psm per month for a booth by the entrance to the Sunday Plaza), rates are expected to continue growing well into the medium term. This core region should remain largely Photo by Hamid Sardar / Khasar Sandag unaffected by the supply side expansions going on around it, being supported by the ever popular Naran Tuul itself. As such, it is expected that rental rates in this core will rise by as much as 10%-15% by the end of 2012. The further one is to move away from these structures, the worse the areas retail growth prospects should be considered, as areas see far less demand from consumers, and are affected by the glut of supply being unleashed around them. As such, outside of the area area roughly a kilometer in radius surrounding Naran Tuul, rental rates affected by these forces are forecast to stay roughly constant over the coming years. The Bayangol District The Bayangol District looks set to remain popular over the medium term, as a certain amount of growth spills over from the Central Business District, and the area establishes itself as the area of choice for the retail needs of middle income Mongolians. Although little in the way of international brand penetration is likely to be seen over the coming periods, the growing market for the housing of Mongolian entities looking for well constructed space (such as the Grand Plaza or Max Mall) should support price momentum. With rental rates currently at $37 psm, it is expected that prices will appreciate by around 15% by the end of 2014, which should set allow average commercial prices to rise as high as $42 psm.

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Retail

Mongolia’s leading property developer and #1 Real Estate Agency

First and Largest Real Estate Agency in Mongolia Tel: (+976) 7730 0550, (+976) 7011 1800, 1132 4545 www.mongolia-properties.com Hong Kong: Address: Unit 301 Winsome House, 73 Wyndham Street, Central, Hong Kong Tel: (+852) 9549 2188 E-Mail: [email protected]

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Mongolia: Address: Suite 202 Regency Residence, 16 Olympic Street, 1st Khoroo, Sukhbaatar District, Ulaanbaatar 14220 Temple: (+976) 7011 1800 Circus: (+976) 1132 4545 E-mail: [email protected]

London: Address: 47 Charles Street, Mayfair, London, W1J 5EL Tel: (+44) 7776 195209 E-mail: [email protected]

Sukhbaatar District

Sukhbaatar District Overview If one district may be considered representative of modern Ulaanbaatar, it is without a doubt Sukhbaatar District. Despite being just 218 hectares in size, the area acts as the epicenter of both political and economic activity within the city. At the district’s heart lays the prominent Sukhbaatar Square. Deriving its name from the revolutionary hero Damdin Sukhbaatar (literally translated as ‘hero of the axe’), the iconic square has been the focus of many crucial events in Mongolia. Overlooking Sukhbaatar Square to the north sits the government palace, which houses various state organs, including Mongolia’s legislature, the Ikh Khural. Renovated in 2005, the extended neoclassical façade now hosts a variety of imposing bronze tributes to the khans and generals of the country’s imperial past, the marble white building now being one of the most recognizable features of Ulaanbaatar. On the western side of the square lies what is soon to be one of Mongolia’s most important institutions, the Mongolian Stock Exchange (MSE). Despite being separated by a road that technically marks the border of the Chingeltei district, the vast majority of Mongolian citizens consider the structure to be part of the Sukhbaatar District. The renovated children’s cinema now contains one of the world’s fastest growing stock exchanges. Despite being open for just two hours a day, the exchange is expected to play a crucial part in the Mongolian economic story in the coming years, as an influx of mining related IPOs look set to give the currently illiquid operation a new lease of life. In addition to the MSE, much of the city’s most desirable office space is located in Sukhbaatar, which encompasses the majority of Mongolia’s Central Business District. All three of the country’s Grade A quality office units are currently situated within the district: The MCS Central Tower, The Blue Sky Tower, and The Monnis Tower. Retail Space It is unsurprising given Sukhbaatar’s affluence that its economy is supported by a thriving retail sector, being the first port of call for many of the international luxury operations looking to get a foothold within the Mongolian economy. The most exclusive retail space within the district is undoubtedly upon the first two floors of the MCS Central Tower. Similar in interior design to Hong Kong’s International Finance Center, the complex hosts many of the world’s most exclusive companies including: Mont Blanc, Hugo Boss, Louis Vuitton, Swarovski, Burberry, Ermenegildo Zegna and Giorgio Armani. The new Naran Plaza, situated upon the Sukhbaatar side of Peace Bridge now represents one of the largest retail opportunities in the city. Spread across five floors, franchises such as Timberland, Swatch, WMF Kitchenware, Calvin Klein Jeans, L’Oreal, Samsonite, Espirit, Seiko, Puma, and are some of the latest editions to the list of international brands with operations in Ulaanbaatar.

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Sukhbaatar District Entertainment Industry The Sukhbaatar District has an abundance of bars, restaurants and nightclubs designed to cater to a wide range of tastes with the majority being found along Seoul Street,. Ulaanbaatar’s preeminent beer hall, the Grand Khaan Irish pub, is situated just opposite the Russian Embassy on Seoul Street and is renowned for its big crowds, live music, and western food. Proximity to this institution is something of an informal benefit for any property in UB; most expats will find themselves gracing the smoke filled establishment with alarming regularity. In the shadow of the Blue Sky Tower is the upmarket Veranda Italian Restaurant. Being one of the highest quality eateries in the city, combined with its views over the Choijin Lama Temple Museum, make it a regular haunt for expats, visiting investors and the increasingly westernized class of wealthy Mongolians.

Photo by Hamid Sardar / Khasar Sandag

A few hundred meters north, the 17th floor of the MCS Central Tower hosts the most exclusive bar in the city, known simply as The Sky Lounge. With breathtaking views over the south side of the city and the Bogd Khan mountain range, the bar is something of a landmark for those wishing to demonstrate the prosperity they have found upon the steppe. The most famous nightclub in the Sukhbaatar District is The Vegas Club, situated within the Blue Sky Tower. The expat friendly establishment is famed as being one of the most expensive in the city, with the price of beer being known to be as high as $5 per bottle. Further to the west of the district, in the heart of Seoul Street is the most famous pizzeriacome-stripclub in Mongolia, Marco Polo, famed for its persuasive employees, overpriced drinks and predominantly western clientele. Located directly in the center of the Central Business District of Ulaanbaatar is Millies Café. Established in 1998 by café founder / owner Millie Stoda, Millie’s Café has become an institution in Ulaanbaatar with expats and locals. Lunchtime is always crowded, and sometimes if guests have an empty chair at their table it is often filled with another guest. Ambassadors, Ministers of the Mongolian Parliament, miners and businessmen all mingle and network over excellent coffee and good service.

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Sukhbaatar District Located directly on the west side of the Choijin Lama Museum, in back of the Blue Sky Tower, Millie’s has the ambiance and the menu of a Midwestern American diner. With always fresh ingredients, the food is consistently good and the menu features grilled chicken, burgers, pizzas, and excellent hamburgers. On a regular basis, Chef / Owner Daniel Correa Martinez and wife Desmaa spice up the menu with a Cuban sandwich or a delicious soup. A relaxing place to discuss business over a great cup of coffee and homemade pie, with the free wifi service in the restaurant and the patio overlooking the temple, makes Millie’s Café an important destination for locals and visitors alike. Sukhbaatar’s ‘Childrens Park’ is situated upon the southeastern portion of the Nairmdal Park, the largest park in Ulaanbaatar. Having reopened in the summer of 2011 after roughly six years of development by the Bodi Group, the amusement park is one of the most popular family destinations in the city hosting a range of attractions including theme park rides, a bowling alley, billiard tables and of course the customary bar. Although Mongolians often complain about the MNT5,000 tariff charged by the facility, to western families used to the extortionate prices of heavily branded theme parks, the facility should feel like a relatively inexpensive excursion. Off Seoul Street, and directly south of the State Department Store is the famed Mongolia State Circus building. The newly repainted dome is an iconic sight within Ulaanbaatar, looking over one of the most central, and henceforth fastest growing districts in the city. Established in 1940, the Mongolian State Circus housed by the structure is best known for its internationally acclaimed contortion act, however other spectacles, including acrobats, gymnasts, jugglers, tightrope walkers, clowns, and magicians all perform in the act considered to be one of Mongolia’s greatest spectacles. Unfortunately, the State Circus has not operated for many years, the building does periodically host circus performances. University Town Just north of the Ikh Khural (Mongolian Parliament) building is one of the largest university districts in the city. The National University of Mongolia, established in 1942, is the oldest in the country. Originally the university was a training ground for the communist party’s executive class. Now offering a variety of competitive programs, approximately a third of university educated Mongolians graduate from the institution, with an estimated 11,000 undergraduates, 2000 graduate students, 800 faculty members, and 400 academic support staff registered at any one time. Photo by Hamid Sardar / Khasar Sandag

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Sukhbaatar District The Sukhbaatar District houses the schools of Information Technology, Physics and Electronics, and Business and Commerce; and as such hosts a vibrant student population for the majority of the year. Throughout term time, the area is characterized by a flurry of activity as students move between lectures, classes, and the cheap bars that have sprung up in order to facilitate recreation on a budget. These periods place a considerable demographic strain on the housing stock of the northern area, as hundreds of students from outside of Ulaanbaatar move into the districts cheap housing and student accommodation, unable to remain living at home like their city based peers. The University of the Humanities, the Mongolian State Pedagogical University and the Mongolian National Institute of Physical Education bring in thousands of students to this area as well. Sukhbaatar remains the central district of Ulaanbaatar, and is expected to benefit from the country’s further economic development within the country. Accordingly, the area is in a prime location to take advantage of the growth predicted within the Mongolian economy over the coming periods through real estate price appreciation. Residential Price Trends in the Sukhbaatar District There is currently around 175,700 of residential apartment stock in the Sukhbaatar district according to APIP/Tenkhleg Zuuch estimates. Made up of a mixture of old buildings (in areas such as the 220,000 Homes) and new projects (such as the famed Embassy District), Ulaanbaatar’s most central district remains one of its most structurally diverse. This supply is extremely limited compared to the districts burgeoning levels of demand from expatriates and professional Mongolians alike. With both groups keen to be located as close as possible to the Central Business District, as economic growth continues, incomes rise, and more expatriates arrive looking for safe and accessible housing, demand looks set to increase well into the medium term. These conditions have seen the average apartment price in Ulaanbaatar rapidly appreciate from just $457 psm in 2005, to $2,000 psm as of Q3 2012 according to APIP/ Tenkhleg Zuuch data. Consecutive increases in the districts property prices (with the exception of 2010) demonstrates that the demand for residential real estate in Sukhbaatar continues to outstrip supply. Construction companies, aware of the opportunities in the market have attempted to respond to this demand by increasing their supply by as much as Sukhbaatar’s land constraints will allow. At the time of writing, there are a total of 23 developments under construction within the district, which are expected to bring 1860 extra units online within the next twelve months. 321 of these units are considered by APIP to be of an internationally luxurious standard. This however is unlikely to be anywhere near enough to create stable price equilibrium in the Sukhbaatar residential market over the medium term. The District’s population has increased by nearly 40% over the past decade according to the National Statistics Office of Mongolia, a rate expected to be exceeded over the coming years as Mongolia’s economy grows and the city center increases further in desirability. These demographics are in the context of a market in which land has become increasingly scarce, with nearly

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Sukhbaatar District all-usable land within the city center having either been built upon, or currently under development. This inadequacy is well demonstrated by the fact that many of the city’s older, soviet buildings are being pulled down to make way for newer developments.

Given the increasingly salient supply limitations within Sukhbaatar, combined with growing levels of demand, investors should be confident that the sales price of residential space in Ulaanbaatar will continue to grow with at the very least the same momentum as has been witnessed over recent years. The magnitude of this appreciation is largely connected to the proportional contribution of macroeconomic factors such as Foreign Direct Investment, and the resulting quantity of wealthy expatriates looking to move to the country for business purposes over the coming years. The APIP research teams took this into account, and has produced price forecasts accordingly. Large increases in the levels of FDI flowing into the country, underpinned by favorable conditions in the wider Mongolian economy, would leave no reason for the average property prices within the district to approach a predicted upper bound of nearly US$2,450psm by the end of 2014. If conditions were sub-optimal, property values would most likely continue to rise. Even if FDI were to drop considerably, the commencement of mining operations within the likes of Oyu Tolgoi and the resulting spillover growth to the wider economy should be expected to sustain price appreciation in the district to a minimum level of just over $1,740psm over the next two years. However, the actualization of such conditions is unlikely; Mongolia’s economy should continue to grow over the medium term upon the same trajectory as it has over recent years. As such, the fair price forecast for real estate within the Sukhbaatar District is calculated to be approximately $2,210psm by the start of 2015. Investor Insight: Opportunity in the 220,000 Homes North of Peace Bridge, and just 500 meters away from Sukhbaatar Square itself is a significant supply of existing housing stock, known locally as the 220,000 Homes (a

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Sukhbaatar District name as opposed to a metric). Built back in Mongolia’s Soviet Era, the structures clustered around the Bayangol Hotel represent some of the oldest apartments in the city. Despite their age, a number of factors make the 220,000 Homes attractive investment opportunities at the time of writing. The buildings are well known for their structural integrity and build quality, the raw investment case being very similar to that facing the 40,000 and 50,000 Homes in Chingeltei. The 220,000 Homes are however considered by the APIP research team to be better situated geographically than either the 40,000 or 50,000 homes. Although both are just five minutes off Sukhbaatar Square, the 120,000 Homes are clustered around the future International Finance Center, which should represent an influential piece of Grade A office space in the city upon completion. This proximity has not yet been factored into the market price for buildings in the area. When the IFC project eventually becomes visible to the city, being raised above the barriers that currently guard the construction site, it is anticipated that demand for the structures will quickly expand, and the value of the properties will rapidly increase. Although a number of concerns are circulating the market as to the feasibility of the Chuang Corporations 2015 completion target for the property, when it does come online, be it two years or ten, it should release a substantial amount of under appreciated demand into the market for the 220,000 Homes.

The Luxury Market One key area of the market that has been pushing up prices within the Sukhbaatar District has been the development of Ulaanbaatar’s luxury residential market. The Embassy District, containing many of Ulaanbaatar’s most exclusive international standard properties has seen averages prices increase from $537 in 2005, to $2500 as of Q3 2012, representing a 365% appreciation in value, outperforming the rest of the district by a wide margin. Investor Insight: The Embassy District

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Sukhbaatar District

The Embassy District, a subarea of the Sukhbaatar District, is centered between UNESCO Road and Peace Avenue. The area currently contains some of the most desirable real estate in the city, including: the Star Apartments, The Regency Residence and The One Residence, whilst projects currently under construction include a new Mon House Development, Embassy Tower (Bodi Group’s serviced apartment and suites), Tsetsens Diamond, and the multi-use Olympic Residence. The demand schedule facing such exclusive properties looks set to expand in line with the rest of demand within the Sukhbaatar District over the coming periods, if not at a faster pace. Five years ago, it was foreign investors, and expatriates looking for accommodation who formed the driving force behind Ulaanbaatar’s luxury real estate market. Today, as the spoils of FDI and resource extraction have created a new, and prosperous native social grouping, it is Mongolians who are increasingly willing to place their money into luxurious real estate assets. For many of these domestic investors, properties in Sukhbaatar provide the perfect combination of social capital, low risk, and potential financial reward. Investor Insight: Demand for the Olympic Residence Mongolian Properties Olympic Residence provides a good example of the levels of demand facing high-end real estate assets in Ulaanbaatar at present.

Situated directly next to the Continental Hotel, The Olympic Residence is still under construction, with its concrete skeleton 90% completed. However despite still being off-plan, 70% of the residential units in the building have currently been sold, with prices reaching levels as high as $5,600 psm. Over 80% of these units have gone to high net worth Mongolian citizens, with a number of individuals buying two or three apartments each. Views over the Bogd Khan mountain, the centrality of the structures location to the Central Business District, and the inherent status that comes with the ownership of such exclusive real estate, has made the opportunity difficult to refuse for many Mongolian’s looking for obvious examples of their success and prosperity. Many older Mongolian’s, with no intention of moving from their large gated homes in Zaisan still find themselves unable to ignore the property, buying small investments in order to store their wealth, whilst allowing their post-adolescent children to use the apartments as a second home when they desire to be close to the excitement

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Sukhbaatar District of the city center. A problem exclusive to supply within the luxury market is the technical limitations facing many of the companies (both domestic and international) themselves. The majority of Mongolian construction firms are hangovers from the soviet construction industry, where the majority of now nationalized firms were state controlled, operating with no profit incentive to ensure a high quality of finish. Twenty years later, many of these perceptions persist amongst workers in the industry. The result is that most companies that currently produce luxury space are forced to import foreign The Olympic Residence labor, often Chinese and Korean, but increasingly from further afield. These workers are paid a premium in order to achieve internationally acceptable results. The preference in Ulaanbaatar is to purchase high-end buildings that would appear to be western in origin. The preeminent real estate development companies across the city are well known for hiring Scandinavian architects, French interiors designers, and purchasing Italian fabrics to give their properties a competitive advantage. Investor Insight: The One Residence The One Residence is situated directly west of the Embassy District, a prime location for luxury real estate in Sukhbaatar. The complex’s ninety apartments, which range in size from 79 sqm. to 113 sqm. are fitted with many of the same amenities found in the city’s most exclusive apartments. Despite this, many units are not considered desirable by either the Mongolian or expatriate market. The rooms are considered aesthetically unappealing by the standards of comparable properties in the area, with small interiors, low ceilings, and cheap interior design and limited parking. At the time of writing there are two luxury developments under construction within the Sukhbaatar district according to APIP / TenkhlegZuuch research that are expected to come online within the next twelve months: The Olympic Residence and the GD Groups Voli Apartments. Although the combination of these two structures will increase supply in Sukhbaatar theoretically by 159 units, this is by no means considered enough to achieve a short/ medium term price equilibrium in a market which sees properties such as the Regency

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Sukhbaatar District Residence with a 100% occupancy rate. Investor Insights: The Regency Residency Located down upon the southern border of the Sukhbaatar District within the Embassy Area, the Regency Residence is just five minutes walk away from Sukhbaatar Square. Spread across fifteen floors, the building contains 104 luxury apartments and penthouses, widely praised for their good quality and picturesque interior design (carried out by Harold Thompson, an internationally acclaimed firm with over of 40 years of residential expertise). The high ceilings are a key feature for the Regency Residence apartments, and the building is the first residential building to have a grand lobby. The first truly condominium style luxury structure in Mongolia, the price trajectory followed by the Regency Residence demonstrates the speed within which the market for high-end real estate near to the center of the city has developed. With an initial presale value of just $650 psm in 2007, these conservative estimates were quickly revised up. Demand was primarily sourced from the first wave of expatriates coming into the country as the Mongolian legislative environment opened up to the idea of foreign investment, and negotiation began regarding the terms of many of the country’s major mining ventures. By the end of 2009, the price per square meter of the property was nearly double the already considerable average seen around the rest of the Sukhbaatar district. The scale of this differential has increased even further over the past few years, the price of the apartments in the property currently resting at nearly $1000 psm above the average price charged across the district ($2,500 vs $1,510). Given the constrained nature of luxury supply within the Sukhbaatar district, combined with burgeoning demand developed under conditions of rapid growth and foreign direct investment, suggests that the market will continue to witness a substantial growth in the sector.

If economic conditions are roughly in line with consensus forecasts, then it is expected that

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Sukhbaatar District the momentum behind the appreciation of Sukhbaatar’s luxury real estate will continue, with prices expected to rise to $3,010 per square meter by 2015. Even if recorded results are below current expectations, across the medium term increases in the incomes of affluent Mongolian’s look set to continue feeding in to demand, suggesting the value of high end assets will continue to increase, to a level forecast to be around $2790 psm. The Sukhbaatar Rental Market The velocity of price movement within the Sukhbaatar sales market has largely been matched by proportional increases in the rental rates charged by landlords.

Prices have increased from an average of $6 per square meter in 2005, up to $20as of Q3 2012, with the drivers of the rental industry being almost identical to those described above in the residential sales market. As such, Sukhbaatar’s rental rates look set to rise in line with the district’s sales price trajectory. It is anticipated that by the end of 2014 prices should reach a level around $18 psm, which would result in the average flat costing around $1,700 per month, although optimal conditions could see prices rise as high as $19.50 psm. Investor Insight: The Star Apartments Arguably the most exclusive rental accommodation close to the Central Business District, the complex, opened by the Star Group in 2001 has become a firm favorite of the most affluent expatriates who have come to live and work in Ulaanbaatar. With landscaped gardens, one of the nicest gyms in the city, and 24-hour security within a high walled community, the apartments are well appointed to provide both comfort and safety to their residents. A favorite of foreign diplomats, and the country’s executive expatriate class, the high rental fees are normally taken directly out of the residents’ generous housing allowance. Upon the Star Group’s insistence, all of the apartments remain under their ownership, and are let out to tenants. Demand for the properties far exceeds the minuscule supply; prices are veryhigh and are subject to the successful navigation of the properties two-year residential waiting list.

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Sukhbaatar District

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Chingeltei District

Chingeltei District

Photo by Hamid Sardar / Khasar Sandag

Summary The Chingeltei District displays many similarities to Sukhbaatar, only having recently been portioned off the the ‘Central Sukhbaatar’ administrative district. The district’s best known landmark is the ‘State Department Store’, which represents one of Mongolia’s most iconic structures. Throughout the socialist period, the enterprise was renowned for selling capitalist wares to foreign diplomats and an appropriately well connected class of Mongolian elites. The onset of democracy and the adoption of free market principles have seen the building bought by the Nomin Group, who have opened up Ulaanbaatar’s best known department store to the general population. Selling everything from crockery to cashmere, the somewhat overpriced retail outfit now offers a wide range of goods to tourists, expats, and Mongolian society. On the ground floor the space is utilized by an assortment of cafes and bars, with seating spilling outside onto the street in the summer months whilst the weather is pleasant. Directly north of the State Department Store lies the imposing TEDY electronics supermall. Spread across a grand total of four floors, the building is operated by Mobicom, the biggest network provider in the country. In addition to its network clients, the facility hosts in excess of 450 private enterprises, the majority of whom occupy small plots no more than a few meters squared in capacity. All of these small retailers are providing peripheral products and accessories for mobile phones and computers. The majority (around 90%) of mobile phone users in Mongolia acquire their minutes through the use of prepaid tariffs. This means that the total quantity of monthly service subscribers is

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Chingeltei District low in number, however represent important customers to phone companies, being mostly business users. As a reward for prepaid status, the TEDY facility also houses the so-called M Club, an entertainment complex for the exclusive use of MobiCom postpaid subscribers. Complete with a lounge serving food and beverages, Karaoke machines, billiard tables, massage machines, video games, internet terminals and more, qualifying customers are entitled to use the luxury facilities for free or at heavily discounted price, as a reward for their contribution to revenue. One block to the left of Sukhbaatar Square lies the heart of the Mongolian banking system, where the majority of the country’s largest financial enterprises are headquartered. Here the central offices of Golomt Bank, Trade and Development Bank, Capital Bank, Ulaanbaatar Bank, Savings Bank and State Bank surround the imposing Central Bank of Mongolia. Buried amongst the financial institutions are an assortment of foreign embassies, including those of France, Germany, and Turkey. Many of the city’s (and the country’s) administrative centers are located in the Chingeltei District. Despite the grandeur of Sukhbaatar Square and the overlooking Ikh Khural, the nuts and bolts of the Mongolian political machine may be seen to turn on a daily basis in the bureaucratic departments situated primarily within the 3rd microdistrict. Housing the Ministry of Roads, The Supreme Court of Mongolia, the Chingeltei District Administration, the Mongolian Supreme Court, and the Labour Ministry Office, the majority of the country’s civil servants go about their day-to-day business within this compact are towards eastern Chingeltei. Surrounding the State Department Store is an assortment small, mostly independent shops and outlets. Peace Avenue, which runs along in front of Nomin’s shopping complex is one of the city’s two key road links, around which these enterpises have developed with alarming speed over the past decade. Large souvenir outlets catering to the spillover of visitors from the State Department Store mingle with domestic retailers, bars, restaurants, and domestic fast food chains. With many international brands not yet having mustered the courage to face the Mongolian market, a miscellany of domestic imitations of western coffee houses and burger joints are stationed along the street with surprising regularity. Less than 300m behind the State Department Store lies the ‘Urt Tsagaan’ (literally translated as ‘long white’ but colloquially referred to as ‘Tourist Street’). The pedestrianized thoroughfare hosts a variety of small, flea market style enterprises. Rumored to be opened up once again to private vehicles in an attempt to ease Chingeltei’s congestion, the street represents the districts need to overturn tradition in order to overcome the infrastructural pressures posed by its changing demography. Chingeltei’s entertainment sector is thriving, being driven up by the utilization of increased incomes. The perception of the area as something akin to Ulaanbaatar’s premier entertainment hub. Placement of one of the country’s best-known cinemas, the Tengis and the sees the neighborhood streets bustling every weekend as teenage Mongols flock to see the latest western films, generally played in English and subtitled in Mongolian. Famed for its nightlife, the well known Face Club, under renovation at the time of writing, is famed for its Tahitian theme, intimate dancefloor, and large proportion of expatriate clients due to its central location. Despite its modern core, Chingeltei has one of the largest ger districts in the city, which

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Chingeltei District occupy 12 out of the total 18 khoroos in the space. Although the two areas differ in almost everything but name, the constrains placed upon modern Chingeltei by its underdeveloped neighbor are substantial The powerful ownership rights endowed to Ger proprietors under the Mongolian constitution are challenging the capacity for developers to channel the rapid growth of the district up to the districts north. This looks set to force progress to be made around the already developed portions of the Chingeltei District, as the amount of land available looks unlikely to be allowed to expand beyond its ger boundaries. Residential Space in the Chingeltei District The pricing pattern exhibited by residential real estate assets within the Chingeltei District over recent years have been very similar to those seen in Sukhbaatar; the price per square meter appreciating 341% in seven years, from $332 in 2005 to $1134 as of Q3 2012.

Despite similarities in the price movement, the supply side conditions in Chingeltei differ slightly from within their eastern neighbor. The 40,000 and 50,000 Homes represent the majority of the districts existing residential stock, being somewhat older than the ex Soviet stock found in Sukhbaatar, whilst a small amount of modern space has been created over recent years, filling in the small plots of unused land scattered around the district. These spatial constraints have meant that within a heavily developed core, surrounded by effectively un-purchasable plots of ger district land, there are just 32,290 of modern residential accommodation currently on-steam. This low level of supply looks unlikely to expand over the medium term; there are currently just 6 developments under construction in Chingeltei, set to bring a small total of 620 new units into the market. Just two of these look to create medium to luxurious quality space: the Buti Groups Buti Tower, and Avzaga Trade’s A One Accomadation. With both of these outfits designed to contain just over 200 units when combined, Chingeltei’s supply looks to be reasonably stable well into the medium term. Chingeltei’s central location makes quality residential space extremely an in demand commodity however. Although demand for both Sukhbaatar and Chingeltei are primarily based upon their location, their sources may be seen as slightly different. In Sukhbaatar,

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Chingeltei District expatriates and the most affluent of Mongolian society, able to bear the slightly higher prices, are seen to be the primary buyers of residential real estate. Chingeltei on the other hand is perceived as slightly less exclusive, albeit comparably central. As such, the accommodation in the area tends to be more popular with a class of younger Mongolian professionals who want to remain close to the Central Business District, but have slightly lower budgets. The fact that expatriates favor the Sukhbaatar District is a crucial factor in the determination of Chingeltei’s slightly reduced demand schedules. The proportion of foreigners living in the district is just 7%, as opposed to the 22% residing in its neighbor. Although supply conditions remain slightly more restrictive in the Chingeltei District than in Sukhbaatar, this is largely offset by a slight reduction in the magnitude of demand. Although the young professional Mongolian class is growing in size, its gains in wealth are proportionally far less than those of the affluent and older groupings of the native population better positioned to directly benefit from the commencement of resource extraction. As such a continued price appreciation for properties situated within the Chingeltei District is expected, particularly upon the more central eastern side is. With a price forecast of $1930 psm by the end of 2014, this should take into account both limited supply and demand side forces operating within the district.

Although both variables look set to be reasonably stable over the coming year, if growth and the subsequent demand conditions in Mongolia are sub-optimatal over the coming years, a lower price of approximately $1,470 psm by the end of 2014 is considered a worst case outcome. There appears to be little to no room however for significant supply side deviations well into the medium term. Investor Insight: The 40,000 & 50,000 Apartments The so called First 40,000 Apartments represent the oldest surviving stock of residential real estate in the country, occupying much of the area to the east of the State Department Store in Chingeltei. Being developed over fifty years ago under Ulaanbaatar’s first City Master Plan, the properties have experienced astronomical price rises in recent years, being driven primarily by demand from young expats

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Chingeltei District and professional Mongolians keen to live as close to the city center as possible. The peeling paint of the properties shabby exteriors do much to misrepresent the real quality of the structures. The aesthetic malaise is due to the fact that most buildings do not have a Home Owners Association - a lack of collective action. Inside the individual units are a different story. Most have been refurbished to a high standard, with western amenities, well-decorated interiors, and modern furniture. Constructed with both high ceilings and thick walls, the buildings structural integrity is of a standard unseen in all but the highest quality buildings produced by the cost conscience free market. The 50,000 Homes are those structures built under the cities second centrally planned housing program. Primarily situated along Peace Avenue, to the west of the State Department Store, the buildings are a few hundred meters further away from the city center, and of a slightly lower build quality to their predecessors. Primarily due to their location, both these structures have experienced substantial increases in value over recent years. Priced as low as $310 per square meter in 2005, increases in prices have been recorded each year, excluding 2009, when global instability somewhat depressed the property market across the Ulaanbaatar market. Estimated to cost $803 per square meter in 2008, the market for Chingeltei’s Soviet-style stock has continued to move steadily upward, the value of space being $1,127 per square meter as of Q3 2012.

Prices are expected to continue to move upwards over the medium term, as the supply of structures actively trading upon the Ulaanbaatar real estate market begins to be reduced as owners preferences shift towards holding their assets. The majority of landlords and tenants within the district are acutely aware of the price momentum that has provided them with substantial capital gains over recent years, and that the demand is such that properties are left with exceptionally high tenancy rates. As such, the majority of owners perceive the opportunity cost of selling at present too great a risk, and prefer to hold onto their assets to take advantage of further capital gains. This dynamic looks set to perpetuate the sale price of these already desirable properties higher still over the medium term as supply is further limited.

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Chingeltei District Despite a high proportion of the 40,000 & 50,000 Homes being utilized as rental properties (many of those with the capital to purchase such properties desire them primarily as investments), the price to rent per square meter has continued to appreciate proportionally relative to the unit sale prices. The continued preference realignment of the Mongolian professional class towards city center living, alongside further expansion in the size of the expatriate market has resulted in demand for space remaining strong. Rental rates have risen from an average value of just $5.9 per square meter in 2005, to over $16 as of Q3 2012. The biggest problem at these apartment blocks are that no matter how beautiful you have decorated / renovated your apartment unit, the common areas such as the hallways and entrances makes these properties less desireable. In many cases, the hallways are dark and dirty. Lacking even basic security measures, the homeless people will be sleeping in the stairways, on doorsteps, and everywhere else that may be warm. Security guards are rarely employed. Most expatriates prefer to live in newer buildings with proper management, and in buildings that have proper security systems and employ security guards. As the weather turns bitterly cold, if residents have cars, then indoor heated parking is essential. When temperatures plummet, the cars left outdoors overnight simply do not start. It is expected that both the sales and the rental price trajectories of the 40,000 and 50,000 Homes look positive. For those with the appropriate local knowledge, the area should remain a substantial source of rental income and capital appreciation, particularly if a slightly worn property can be bought for a discounted value and renovated to a standard that will make it desirable to the top tier of the professional Mongolian rental market. Although this substantial upside potential exists within the Chingeltei area, it should be stressed that Asia Pacific Investment Partners is convinced that Sukhbaatar’s 220,000 Homes clustered around the Bayangol Hotel and Corporate Hotels’, although more expensive to begin with, are still likely to face better upside potential, albeit from a more affluent demographic; particularly when the International Finance Center opens its doors for business.

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Khan-Uul District

Khan-Uul District Khan Uul (named after one of the most famous peaks of the Bogd Khan mountain range) is undoubtedly best known to international investors for incorporating the famous Zaisan residential district. A large part of the Khan Uul District is a special protected area. By current law it allows only developments related to tourism to be constructed. Due to lack of fresh air and lack of available land in the Central Business District, many residential buildings have been built in the Bogd Khan Special Protected Area. Located south of the Peace Bridge over the Tuul River, Zaisan has long been famous for being home to Mongolia’s wealthy, aiming to escape the congestion and claustrophobia of the rest of the city. Over recent years however, the areas isolation has become more of an annoyance than a benefit. Despite traffic being gridlocked across most of Ulaanbaatar in rush hours, Peace Bridge (the single workable link between the residential area and the city as a whole) is noted as being one of the worst affected routes. In the winter, when people cannot brave walking in the cold, the four kilometer journey to the Central Business District may easily last for three hours or longer. Resting upon the south side of the bottleneck that is Peace Bridge however are some of Ulaanbaatar’s most celebrated monuments. The Zaisan Memorial, resting atop a small central mound, is close to a national treasure. The monument features a circular mural that depicts scenes of friendship between the USSR and Mongolia, the defeat of the Japanese Kwantung Army by the Soviets at Khalhkin Gol on the Mongolian border in 1939, the defeat of Nazi Germany, and the notable peacetime achievements such as the Mongolian involvement in the USSR’s space exploration program. A popular haunt for the sons and daughters of Mongolia’s rich and powerful; it is a common activity for slightly inebriated groups to make the ascent once the city’s bars close, in order to watch the sunrise from the 360 degree vantage point.

Photo by Hamid Sardar / Khasar Sandag

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Khan-Uul District To the east of the monument rest the residences of the Mongolian political elite. The luxurious Nomin Tenger serviced apartments surround the striking white Presidential Palace, a heavily guarded residential complex designed to ensure the safety of the country’s premier upon a striking section of the Bogd Khan Mountain Range. The location of these structures were the everyday residences of the Soviet politburo elite through Mongolia’s communist days. This perception of exclusivity in Zaisan remains today as a historical link between wealth and politics, combined with the Mongolian desire to physically demonstrate their influence. Air quality in this area is considered to be cleaner and healthier than the air in the city. These factors have been the driving force behind the rapid migration south of the river. Directly north of Zaisan, and on the other side of the Tuul River is so called Stadium Area, which houses Ulaanbaatar’s national sports arena. Popular with expats, the large stock of good quality housing stock surrounding the venue represents one of the fastest expanding areas of the city at present. The prominence of expatriates in the area has seen an expansion in the number of western style institutions designed to cater to those residing in the Four Seasons Gardens (formely known as Japan Town), Marshall Town, and Jargalan Town, including a multitude of restaurants and an Irish Pub. Despite Zaisan’s fame, it is crucial to emphasize the scale and diversity of Khan Uul as a district. The district extends far enough west to encompass the Chinggis Khan airport, alongside the single road connecting it to the city through Khoroo Nine. Khan Uul has the smallest ger population of any of Ulaanbaatar’s districts, with just 7,400 of the district’s 110,265 families residing in the temporary structures. The majority of these are erected along the side of the 10 kilometer airport road, far removed from the affluent Zaisan. A number of crucial projects over the coming year look set to fundamentally change the nature of this low density area of Ulaanbaatar. Commencing in May 2013, construction of the 13.7 kilometer highway connecting the city to the airport should alleviate much of the gridlock that puts many off the area for everyday use. The six-lane highway is to be built to international standards and looks set to be completed and useable by October 2013. Governmental plans to relocate many of their operations out of the city center (presently located around the Chingeltei District) to the area surrounding the Chinggis Khaan International Airport aims to free up valuable space within the city center. Although the Immigration Office and the Civil Aviation Authority are at present the only departments to have fulfilled this pledge, the reduction in congestion expected as the new road opens. This should catalyze the movement of many more offices out of the city center. The new bridge “Sun Bridge” near the Bars Market opened just recently. With the intention of easing traffic congestion on the Peace Bridge, ideally, commuters travelling across Ulaanbaatar will experience fewer and less severe traffic jams in this area. The western portion of the Khan Uul District (especially along the Bayangol border) houses many of Mongolia’s largest industrial operations, having been established since long into the country’s socialist past. Real estate in this portion of the district houses the operations of the majority of large Mongolian companies, including APU, MCS, Erel and Misheel. Northeast of the factories in Khoroo 19 is a large quantity of low quality apartment stock which houses the majority of workers. Russian built, but to a lower standard than many of city’s more central communist stock, in general the apartments run down exteriors are

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Khan-Uul District representative of the internal apartment quality. Residential Space in the Khan Uul District In terms of residential real estate, there are only three areas in Khan Uul that are worth examining in any detail: Zaisan, Nukht and the Stadium Area. To ensure the relevance of the APIP/Tenkhleg Zuuch data used in this guide, the examination of the Khan Uul district will therefore be limited in scope to these two salient developments. Prices in these areas have seen some of the fastest growth in the city over the past few years. The Stadium Area, which was initially priced as $769 psm in 2005 has appreciated in value by 183% in just over seven years, being valued at $2182 psm as of Q3 2012 by APIP/ Tenkhleg Zuuch. Zaisan has performed even better: property valued at $713 psm in 2005 is now considered to be worth $2406.

The stock of residential space in the Khan Uul area is an estimated by APIP/Tenkhleg Zuuch to be 1,061,692 meters in total, 400,844 of which rest within Zaisan and the Stadium District. The large stock of housing in these locations is primarily due to the apparent popularity, the availability of lands to develop and the idea of better air quality. Investor Insight: Four Seasons Gardens (formerly known as Japan Town) One development responsible for much of the supply within the stadium area is the famous Japan Town complex, constructed by Suraga Mongol. Featuring a combination of middle and luxury grade apartments and town houses with an approximate ground floor area of 15,000 meters squared, the development is undoubtedly one of the largest in the city. Keen to attract affluent residents to the structures, Suraga Mongol has made an admirable effort to develop the sense of community and the supply of facilities within the area. In an effort to attract families to its town houses, the International School of Ulaanbaatar was invited to relocate to the south of the community. However, as comparable residential opportunities have sprung up around the Stadium area, the initially popular properties have seen demand waning.

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Khan-Uul District

Photo by Hamid Sardar / Khasar Sandag

Aesthetically, the structures within the complex are relatively worse to those of many of their competitors, whilst functionally in many ways their desirability is limited. Built to Japanese specifications, all the units are reported to suffer from impractically low ceilings. Whilst the apartments blocks are somewhat claustrophobic, they are noticeably smaller than many comparable properties within the area. Investor Insight: The Nomin Tenger Apartments Representative of the perceived exclusivity of Zaisan is the fact it contains the Nomin Tenger Apartments, which represent some of the most desirable commercially available residential space in the country. Situated 1,600 meters to the east of the Zaisan Memorial, throughout the socialist era the apartments surrounding the Presidential Palace were famed for housing the upper echelons of the country’s political elite in luxurious conditions. Since the transition, each of the twelve units has been leased from the Mongolian government by Nomin Holdings (the Mongolian corporation that owns and runs the State Department Store) and renovated to a standard impressive even by international standards. The complex contains a swimming pool, kindergarten, on site golf course, and a ceremonial ger that may be used by residents upon request. APIP / Tenkhleg Zuuch research is confident the market will witness significant increases in the supply of residential space in both Zaisan and the Stadium area over the coming years, with 3,572 properties currently under development: 2442 luxury apartments, 500 townhouses, and 630 medium quality apartments, the majority of these are located in the

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Khan-Uul District Stadium Area. The majority of which are expected to come online within the next twelve months and are expected to create a glut of supply that may well increase the quantity of space that exists in the areas by as much as 50%. The demand for properties in these key areas of the Khan Uul District remains buoyant. The wealthiest Mongolian citizens continue to demand new and existing stock in the Zaisan area in order to secure their place within what is perceived to be the country’s most exclusive area. Some of Mongolia’s most expensive and luxury developments such as Bella Vista, Green Villa, Royal County Complex, Dream Land Town House Complex, Blue Sky Complex, Anoma Apartments, Luxury Zaisan Village, Swan Town and Mogul Town. Investor Insight: Bella Vista and Buddha Vista Complex This complex was one of the first luxury housing projects that was specifically constructed for the international community. With beautiful views over the skyline of Ulaanbaatar to the north, and the large Budda statue to the south, the Bella Vista offers a magical panorama to the residents. The three towers are connected via an underground tunnel that leads to the parking lot. Other amenities of the building include a business meeting room, a private gym, a dry cleaners and a 24 hour concierge. Residents also enjoy the convenience and luxury of a swimming pool, beauty salon, restaurant, grocery store, fitness studio, children’s playground, mini-soccer / hockey court, basketball court and 24 hour security. Rental prices for modern and classically designed apartments in the twin rental towers begin around USD$3,500 per month, but increase with the higher floors. Not many of the apartments are available for sale in this complex, however MCS Property is developing a project similar to the Bella Vista near the Budda Monument (Buddha Vista). The anticipated selling price for those units is around USD$3,500 psm. The stadium area of Khan Uul District, which somewhat lacks the exclusivity of its neighbor south of the river remains popular with demand primarily stemming from an increasingly large Mongolian middle class and a smaller community of expatriates primarily looking for homes close to the international school. The APIP research team firmly believes that this dynamic will be unsustainable over the medium term, as the initial signs of malaise upon the demand side become apparent. These indicators have manifest themselves in a variety of ways. The most quantifiable of these indicators is obtained by looking at the inefficiency of the city’s transport system. As previously stated, by car from Zaisan the short journey to the Central Business District may easily take up to four hours during the winter months. For those residing in the Stadium area, the situation is marginally improved, not having to face the infamous bridge that crosses the Tuul River. Regardless the crossing of the landmark bridge, and the necessary ascent up Chinggis Khan Avenue (a sizable commitment to make on a daily basis), the length of time spent queuing in the winter may well be a

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Khan-Uul District question of hours as opposed to minutes. As more projects come online over the coming months, this situation looks set to deteriorate as more of the population attempt to use an infrastructure network that cannot even come close to being improved at the necessary rate. Over the short to medium term, it is extremely likely that the situation will become critical, and dissatisfaction with the geographical location of many of the properties will become widespread among the communities living in the areas, which will in turn filter into the areas demand schedule. Such an adjustment is considered by the APIP team to be inevitable over the medium term unless drastic development policy is implemented in the short term. At present there is no such infrastructural plans, nor is the financing available even if there were. Investor Insight: The Legality of Development in Zaisan The Zaisan Area is technically situated within the Bogd Khan National Park, a fact that has caused much legal upset and outrage over recent years. Technically, the only way to build in a Mongolian national park is if the construction’s purpose is to be considered for the public good or tourism related. Although some developments, such as the Seoul Groups Green Villa, have been able to fulfill this condition effectively; the majority have not come close, rendering their structures illegal and for a long time leading to rejection of their immovable property license applications. Without any form of immovable property certificate, no structure is entitled to the legal protections offered by Mongolian law, and as such put the owners in an extremely undesirable position. Recent changes in governmental policy have attempted to resolve the situation, although their effectiveness has been limited. Despite Mongolian landlords paying fines in order to allow the legislative barriers blocking them from their licenses to be lifted, the state has not been so kind to foreign investors. It is technically illegal for a non Mongolian citizen to invest in any form of property in a national park, and even those investors who have been fined are not safe from the law. The authorities are legally entitled to annul their documentation at a time of their choosing. The political implications of such a policy render it an extremely unfeasible, if not impossible task. It also seems to depend on the developer’s ability to secure a property ownership certificate. It is important for investors to fully understand their rights before placing their money in national park based real estate assets. On top of infrastructural and legal concerns, the APIP research team has reason to believe that the preferences of the affluent Mongolian class that have supported Zaisan’s demand schedule over recent years are upon the verge of realigning. The air of exclusivity that resulted in the Zaisan area being desirable has slowly been eroded as more and more of the population has acquired property in the increasingly urbanized suburb. Some of the newer developments in Zaisan could not get connected to the central heating grid. These developments have installed their own (coal fired) heating plants. Unfortunately, the clean air Zaisan used to enjoy is diminishing every day. The area once known for only housing the very top tier of Mongolian society is now being eclipsed by other equally expensive but smaller projects. The Nukht development further towards the Chinggis Khaan International Airport is a good example.

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Khan-Uul District

Investor Insight: Nukht Located to the southwest of Ulaanbaatar upon the road link to the Chinggis Khaan International Airport, Nukht represents the small, gated community that was originally the summer retreat of Mongolia’s Socialist political elite. Since the transition, this exclusivity has been retained, although the area’s limited residential stock is now open to whoever is affluent enough to afford it. Typically thought of as the playground of Mongolia’s business magnates and wealthiest politicians, the areas few hundred houses appear to be endowed with a similar sort of exclusivity as was seen in Zaisain ten to fifteen years ago. The Nukht Valley has developed dramatically within the past year, with new homes and town homes currently under construction - some already available to purchase or rent. Compared to the Zaisan area, Nukht is a much more pleasant and picturesque area, and less overcrowded. Relatively, the air is cleaner in Nukht than Zaisan, and with the opening of the new highway (currently under construction) and the new bridge access, access to Nukht Valley will be improved dramatically. APIP’s price forecasts within the Khan Uul District is split. The Zaisan area is negative/neutral, the Nukht Valley and surrounding area to the Yarmag Road are strong positive, and in the Stadium area, neutral/positive.

As the expected negative demand forces outlined above begin to filter through to the market at some point over the next two years, it is expected that the Zaisan price will most likely stagnate. Despite weakening demand conditions, the supply of space south of the Tuul river is still somewhat limited by the area’s small market size as simply not that many developments actually exist. Furthermore, as the area has been established for a considerable length of time, many of Zaisan’s longer term residents will be unperturbed by a loss in the area’s price momentum. As such, the APIP research team anticipates a fair price target of $2490 per square meter by 2015, a marginal improvement upon the current value.

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Khan-Uul District

Photo by Hamid Sardar / Khasar Sandag

The Stadium Area looks to have slightly alternative market conditions. More central than Zaisan, residents are not forced to cross the infamous Zaisan bridge on their daily commute. The properties however are still by no means central, a demand concern in the context of an increasingly congested and city centric conurbation. Combined with the considerable quantity of supply soon to enter the area’s market, the APIP research team forecast that prices should continue to rise as the district’s target demographic continues to expand in line with economic growth. As such, the area’s fair price target is calculated to be a somewhat conservative $2,270 by the end of 2014, representing just a 4% capital gain upon the value as of Q3 2012.

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Khan-Uul District

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Bayanzurkh District

Bayanzurkh District Bayanzurkh is Ulaanbaatar’s largest district, covering an area of 1244 hectares, primarily across the east of the city. The population of 277,500 is predominantly Mongolian, with only 2,893 expatriates registered residents in the district. With assets currently cheap compared to in the Central Business District, the Bayanzurkh District may be of interest to those looking for high return investments in the Mongolian real estate market. Overview One of the main features of Bayanzurkh is the infamous Naran Tuul, known as the “Black Market”, located in the south west of the city. Named as such due to its role as one of the first exchanges of free market goods in the latter days of Mongolia’s Communist experiment, the institution is now one of the largest in Asia with up to 60,000 visitors per day in the busy summer months. A more modern landmark in the district is the Kempinski Khan Palace, which until 2009 represented the only internationally managed hotel in Mongolia. The hotel is located on the eastern crossroad of Peace Avenue in the heart of Bayanzurkh. The 3 star, Kempinski Khan Palace is known as being one of the most best serviced and managed hotels in the country, featuring its own high end Mongolian and Japanese Restaurants, Spa, and limousine service. The recent acquisition of a large ex-Soviet apartment block adjacent to the structure is rumored to allow for the Hotel to develop into a five-star institution. The apartments have recently been demolished, although the sites actual construction program is yet to commence. Regardless, most consider the Kempinski to be bracing itself for a tough few years, as a glut of comparable Hotels, situated far more centrally come online over the medium term. Just west of the Kempinski Khaan Palace Hotel, and somewhat closer to the Central Business District, lies the Chinggis Khaan Hotel - the largest hotel in Mongolia. The hotel occupies a vast area of land, especially given its proximity to the Central Business District. This abundance of space is utilized in a number of ways. Many restaurants are situated around the Chinggis Khaan Hotel’s estate, along with a connection to the nearby Sky Mall, which contains a modern super market, department store, and coffee shop. The presence of Mongolia’s most notorious nightclub, Metropolis, is the factor that attracts the majority of visitors to the hotel’s grounds. With a capacity of up to 1,000 guests, the stylish interiors and frequent performances by internationally renowned DJs, make the club an important destination for the majority of hip young Mongolians. East of the Chinggis Khaan Hotel and Metropolis is the so called, “Sansar District” which literally translates from Mongolian as ‘Outer Space’. Named as a tribute to the Soviet missions responsible for sending Mongolian cosmonauts out of the atmosphere, by the residential stock was built in the same period. This middle quality residential space is now occupied by a large student population. The National University, the Science and Technology University of Mongolia, the University of Humanities, and the University of Finance and Economics are all within walking distance of most accommodation. Surrounding the student occupied structures is one of Ulaanbaatar’s largest nightlife centers, situated along a sizable row of old Soviet style buildings. The structures top floors represent cheap, compact accommodation for many young Mongolians, whilst the ground floors typically house a large quantity of budget bars

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Bayanzurkh District

Photo by Hamid Sardar / Khasar Sandag

and karaoke clubs. With the exception of Naran Tuul, Bayanzurkh’s attraction is probably the ger shaped Wrestling Palace situated south of the Chinggis Khan Hotel. In the run up to the summer Naadam Festival, it is well worth visiting the structure to witness a full wrestling session, where 450 participants are whittled down through knockout stages to one eventual champion. Luxury cuisine in Bayanzurkh is largely limited to the nationally famed Hazara, a northern Indian restaurant situated opposite the Mongolian National Wrestling Palace. Guests seated inside their own private booth can easily spend an evening enjoying the wide variety of both tandoori meats, and vegetarian delicacies. The rest of the districts restaurants are largely characteristic of the conservatively priced independent Mongolian and Korean kitchens that can be found across the rest of the city. Many are good, but some are terrible, and a large amount of perseverance is required to find a diamond in the rough. The Bayanzurkh Residential Real Estate Market With property valued at $1,078 psm as of Q3 2012, the value of property within the Bayanzurkh District is the third lowest out of the six districts analyzed in this study. Considering that back in 2005 the sales price of residential property was a low as $394 psm, it is clear that the area has made significant gains over recent years. From an sale price of $394 psm in 2005, the aggregate price of residential real estate

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Bayanzurkh District in Bayanzurkh District has grown rapidly over the past few years. Although prices are at $1078 psm as of Q3 2012, the value of property within the district remains the third lowest of the six districts analyzed in the this study. As of Q3 2012, the district holds an estimated 1,023,700 of residential apartment space, the majority of which is clustered around Naran Tuul. Much of this takes the form of older stock, built up to sixty Photo by Hamid Sardar / Khasar Sandag years ago in order to fulfill the residential quotas set out by the country’s centrally planned government. The majority of these tall, high-rise structures have done a poor job of hiding their age. Coated at one point in white paint, the broken balcony windows of many apartments have now been simply replaced by wire mesh in order to keep intruders out. More than the complexes simplistic utilitarian architecture alludes to their Marxist beginnings; many of the towers that line the UNESCO Road are famed for the linear red murals painted up their sides, intended to be symbolic of Mongolia’s collectivized prosperity. Between these older structures are substantial quantities of newer buildings, constructed within the last twenty years. Generally regarded as far more efficient than their post transition neighbors, units feature open kitchens (a modern development in the Mongolian residential market), smaller rooms, and thinner hallways. The structures clearly benefit from the free markets cost minimization incentive. Although some units have been manufactured to a high quality, it is by no means universally applicable, with some complexes seriously lacking in both structural integrity and quality of finish. The newest building complex in the Bayanzurkh District is the newly constructed Crystal Town, opposite of the Naran Tuul black market. The Crystal Town complex is only a 5-10 minute walk away from the newly established National Park, covering over 130 hectares of land - supposedly the largest national park in Asia. On the east side of Crystal Town is the Ikh Mongol Khoroolol, which comprises 840 residential units that are targeted towards middle income Mongolian families. Slightly to the west of Crystal Town is one of the largest residential complexes in Ulaanbaatar - the Bayan Mongol Complex. Consisting of around 1,800 residential units with sizes ranging from 46 to 122 sqm., this complex is ideally suitable for mid-income Mongolian families. The units are typically 1 to 3 bedrooms. Within the complex, residents enjoy ample green space and playgrounds for the children around a central fountain and waterfall. Amenities at the complex include a supermarket, kindergarten, beauty salon, office, boutique shops, etc. Investor Insight: The Royal Castle One of the more desirable residential developments within the Bayanzurkh District is the Royal Castle Complex, developed by the Seoul Group. The complex’s spacious

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Bayanzurkh District units, combined with the Seoul’s reputation for quality for a long time helped attract many wealthy Mongolian clients to the properties. With each unit equipped having two bathrooms, large windows, access to a playground, and protection from a 24 hour security guard, the development was known for sharing many with the high end properties of the Embassy District, the Stadium District and Zaisan. Just 1.2 kilometers from Sukhbaatar Square, the key driving force behind demand has often been considered to be the units proximity to the popular Seoul Business Center, allowing the employees of firms such as Oyu Tolgoi to live practically next to their offices. This was a real advantage given the inefficiency of Ulaanbaatar road network. Many OT employees moved in 2009 to the new head office in the Monnis Tower, but some have remained. Surplus space in both the business park and the Royal Castle have quickly been occupied. Despite the already large quantity of supply within the Bayanzurkh District, much more is set to come online over the coming year. There are currently 18 developments under construction in the area: 19 of mid market quality; 37 of lower quality; and 7 townhouse complexes. Although the resulting 18,773 units under development is a substantial number, it is important to view these within the context Ulaanbaatar’s largest and most populace district. It is unknown and impossible to know how many of these projects will ever be completed. Some of these are unlikely to be completed in a timely manner or up to international standards. Some projects are expected to become fallow due to lack of necessary financing, labor shortage, materials shortage, logistics, etc. It is also important to consider that although the potential residential stock in Bayanzurkh District is increasing (possibly) faster than in most other districts, its existing stock is also depreciating at a faster rate. Much of the old soviet stock is quickly becoming unusable, as poor maintenance and a lack of care has brought many structures beyond the point of possible repair. This supply expansion should therefore be marginally offset by the quantity of assets that are each year taken out of the districts supply - becoming effectively unusable due to a combination of age and poor upkeep. The question that will determine Bayanzurkh’s price trajectory is whether the Mongolian population will be able to see demand expand at a similar, or greater rate than this space is created. The key demand driver within the area at present is undoubtedly its demographic inflows. The Bayanzurkh District has displayed the fastest rate of population growth of any of the city’s nine over recent years, as the population grew by 88% between 2000 and 2010 (the years of the Mongolian census). Although many of these new arrivals have been absorbed into the Bayanzurkhs expansive ger districts located to the far east of Naran Tuul, a proportion of these families have brought with them demand for affordable residential properties. Perhaps more importantly however is that the urban migration has acted as something of an economic catalyst for the district, with the needs of each new member of Bayanzurkh’s population increasing the demands, and subsequently opportunities facing businesses

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Bayanzurkh District already established. As such, the country’s considerable economic growth that has spilled over into the area has been further catalyzed by considerable population inflows, drastically increasing many individuals’ incomes, and in turn apartment demand. This dynamic is expected to increase well into the medium term as Mongolia’s economic prosperity further fuels migration, driven by the increasingly unsustainable nomadic lifestyle, and the perception of opportunity within Ulaanbaatar. It is unlikely that Bayanzurkh’s population growth rate will be able to increase at a faster rate than it has done previously, given its already considerable rate of growth. Supply on the other hand appears to be gaining momentum, taking advantage of the districts liberal spatial configuration and the apparently strong demand. This has led the APIP research team to consider that on aggregate, the districts prices are inherently unstable and extremely difficult to predict.

As such, the fair price target for residential sales within Bayanzurkh is set at $1,090 psm by the end of 2014, just a $12 increase it on the current value. This value is obtained by assuming urban migration to the district is marginally lower than has been witnessed over recent years, given the quantity of (possible) supply expected to come online. If the levels of urban migration propping up the districts demand however are significantly reduced over the coming years however, the pessimal price trajectory is forecast to potentially lead to a reasonable asset price devaluation, causing prices to drop as low as $962 psm as supply temporarily exceeds demand. Residential space in the Bayanzurkh District is clearly a risky investment, with the APIP model being neutral to slightly pessimistic. This is not to say investors with an appropriately highrisk profile should rule it out. The area borders Sukhbaatar District and many of its western buildings lay extremely close to the boundary of the Central Business District. For investors confident in the properties they have located, this APIP forecast should be used as a caution as opposed to a fact. The correlation between the metric and the performance of individual buildings will undoubtedly be limited in many cases given the size of the market in Bayanzurkh. As such, it is very possible to find pockets of undervalued land around the district, with the potential to significantly outperform the returns of the district as a whole. For investors who are interested to participate in low cost housing, this district is quite suitable.

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Bayangol District

Bayangol District The Bayangol District is one of Ulaanbaatar’s smallest, covering an area of just 2.95 thousand hectares. Situated to the west of Ulaanbaatar, bordering with both Sukhbaatar and Chingeltei, the residents of Bayangol appear to be witnessing the very first signs of the prosperity across the Central Business District spreading across the city and into their district. Despite this, the heart of the Bayangol District without a doubt remains the Gandan Monastary. The Monastary was completed in 1738 as a residence for the second Jectsunhamba, Mongolia’s highest reincarnated lama. After centuries of fulfilling its role as the principal center of Buddhist learning in Mongolia, the monastery was closed in 1938 as part of the country’s religious purges, led by MPRP Chairman Khoroogiin Choibalsan, under the heavy handed influence of Joseph Stalin. Despite the MPRP’s religious intolerance, the institution was permitted to reopen in 1944, allowed to continue functioning with a skeleton staff, as a political gesture designed to appease a population proud of traditional Mongolian culture and religion. Allowed to reopen with the end of Mongolian Marxism in 1990, the monastery is now one of Ulaanbaatar’s major attractions; the predominantly Buddhist portion of Mongolian citizens frequent the structure for worship and instruction, whilst tourists flock to the structure to witness the colossal gold plated statue of Migjid Janrasig rebuilt in 1996, and embedded with some 2,286 precious stones. In the area directly surrounding the Gandan monastery is one of the oldest Ger settlements in Ulaanbaatar, which accounts for 11.8% of the districts population. Although little has changed to the arrangement of land plots in this densely populated peri-urban sprawl, the nature of the structures occupying them has done so significantly. The majority of families now reside in semi permanent structures, built and adapted by their individual owners over many years. The majority of the buildings find themselves connected to the city’s developed infrastructure, situated directly over the link between the CHP-2 and CHP-4 power plants and the CBD. As well as being connected to a high-pressure zone of Ulaanbaatar’s heating network, the majority of households have running water, and even telephone connections, benefiting from their proximity to the city’s urbanized core. The feature for which Bayangol is becoming increasingly well known however is its stock of retail space. Transecting many of the areas micro-districts, the hub of commercial activity is concentrated around the 3rd and 4th micro-districts. Clustered around the main road through the area are a multitude of small, retail outfits, situated in small high street style shops. Despite the outfits being predominantly Mongolian in composition, there are a few signs of international retails entering the space, including Adidas and the United Colours of Benetton, keen to maximize their exposure to the districts commercial momentum. Bayangol’s retail industry is personified by the Grand Plaza complex to the south-west of Gandan. The shopping complex was built by the Jiguur Grand Group, one of the largest construction companies in Mongolia. Opened in 2008, the complex is a prime example of Grade B retail space within Ulaanbaatar. Having initially faced high vacancy rates, now, around 90% of the space is occupied according to APIP/Tenkhleg Zuuch estimates. Opposite the Jiguur Grand is the Max Group’s Max Mall, which opened for business in early 2011. The five floors of B+ retail space already host an impressive selection of clients. Like the Jiguur Grand however, attracting the names of large international anchor brands outside of the Central Business District has proved a challenge for the complex, with the

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Bayangol District majority of occupants being luxury domestic brands occupying the complexes larger spaces, whilst the smaller booths structures are filled by individual family retailers peddling specific wares. Occupancy remains low (around 70% according to Tenkhleg Zuuch/APIP estimates), potentially due to targeting consumers in a higher socio-economic class than the typical Bayangol resident. The two towers however, built up upon the five story Max Mall base, appear to have been more successful, one being occupied by the high end Ramada Hotel, which over the medium term looks set to sustain a small but affluent flow of people through the Bayangol District. Directly south of the Gandan monastery is the Bodi Corporation’s Golomt Towers. Completed in 2006, the five building complex. Each of the five buildings is a 15 story high rise, showcasing mid/upper residential space for a long time represented some of the most demanded residential real estate in the city. However, as Ulaanbaatar’s traffic conditions have worsened, and the preferences of Mongolian’s and expats alike have moved more and more towards centrally located accommodation, the structures popularity has fallen. Under the residential space is a large quantity of commercial space which continues to be operated by the Bodi Group, notable for housing the countries first supposedly legitimate Apple Store. Inquiries by the APIP research team to Apple has uncovered that Apple is unaware of the existence of any such company selling its products in Mongolia. Although at present the store is possibly illegitimate, the penetration of such an iconic western chain into the Bayangol District is a clear indicator of the direction in which the increasingly commercialized area is headed. Residential Sales Market in the Bayangol District Historically, the Bayangol district has seen the sales prices of its residential stock rise across both the market for Soviet era accommodation, and more modern developments.

The average price for all sectors of the market, which initially valued space within the district at just $405 psm, has seen the sales price rise just under 170% to Q3 2013, with residential assets now valued at $1093 psm. The majority of residential space in the Bayangol District dates back to the 1970’s. Famous for

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Bayangol District its Russian built apartments constructed in the aftermath of the Chairman of the Communist Parties visit in 1974, the so called Brezhnev Apartments were built with significant Russian assistance - pledged to Mongolia in exchange for the stationing of Soviet troops upon the Chinese border. The subsequent apartment stock developed primarily in Bayangol consists mainly of high rises, constructed from precast materials. Further east in the district are more high rise developments built in the Soviet era, albeit at a slightly later time. Laid out in a similar way to the majority of the 40,000 and 50,000 Homes in the Chingeltei District, except substantially taller (most are 9-12 stories, as opposed to four or five), the structures are laid out around the traditional styled court-yards. Representing one of the largest residential complexes in the city, both of these Soviet developments are responsible for Bayangol not only being one of the most densely populated districts in the city, but for its proportionally high quantity of existing housing stock. In addition to these older structures, Bayangol contains an estimated 498,060 of free market initiated residential stock. This supply momentum looks well placed to continue into the medium term; at the time of writing APIP/Tenkhleg Zuuch research suggests there are currently 23 developments under construction in the small district. These developments should bring a total of 8,114 units online over the next twelve months. One of these future complexes falls into the lowest grade property classification in Ulaanbaatar. As the 100,000 Homes project begins to gather momentum, it is perhaps an unsurprising dynamic in a district notable for the presence of its Ger district. Despite expansionary supply side conditions currently in place, demand looks to be in a strong position to support the continuation of the district’s price appreciation. As affluence from increasingly successful commercial ventures comes to Bayangol, it is expected that property will sustain strong levels of demand, primarily from Mongolian citizens looking to enter the district for opportunity and employment.

The APIP research team considers the Bayangol District to be ideally situated to take advantage of the mortgage market development set to impact the country’s residential markets over the coming years. The areas well established ger districts are amongst the

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Bayangol District most affluent in the city and owner’s total asset levels are already approaching the levels required to legitimately consider the purchase of an apartment. Based on data gathered by the World Bank examining the socio-economic conditions present in Bayangol’s 11th Khoroo Ger accommodation, it is estimated that net worth of individual family units is approximately $32,6001. With the starting price of new apartments in the district just $30,520 and old stock slightly discounted at to a sales price of $26,016, it is clear that even minimal improvements to the Mongolian mortgage market should catalyze the districts demand for low quality residential space. The Bayangol District housing market is facing the rapid expansion of its low end supply, alongside the growth and mortgage developments conditions that should allow demand to keep pace. Currently, there is Max Group’s apartment building completed in this district and many small developers have built low to medium quality housing developments in the 10th microdistrict, as well as the 3rd and 4th Khoroolol areas as well. The APIP real estate model predicts that the growth path to our fair price projection of $1,290 psm by Q4 2014 will most likely see the rate of growth across the market in Bayangol fall slightly compared to previous years, with there currently being a significant and unprecedented quantity of supply under construction. The very least however, the demand conditions (particularly within the areas most central to the districts economic activity), appear well set to absorb the majority of the new stock, allowing price momentum to be maintained.

Photo by Hamid Sardar / Khasar Sandag

It should also be noted that there is a very real possibility that if the Mongolian mortgage market’s development could suddenly gather the momentum it has long been waiting for. If this does occur within the coming two years, it is forecast that the rate of price growth in the district may well actually increase, as ger households decide to make the transition to permanent, professionally constructed, fixed accommodation. Such conditions could easily see prices moving as high as $1,500 across some areas of the district, fueled by a source of demand that has until now been

underutilized within Ulaanbaatar’s residential market.

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Bayangol District

Development Needs Construction Materials

Bayanzurkh District, 10th khoroo, Amgalan /13260/, Uliastai Street -51 Ulaanbaatar, Mongolia Tel: (+976) 9191 0203 140

Songinkhairkhan District

Songinokhairkhan District

Photo by Hamid Sardar / Khasar Sandag

Songingokhairkhan is Ulaanbaatar’s second largest district, covering an area of 120.06 thousand hectares, and housing 65,866 families. Situated around the north and west of the city up to the base of the Songinokhairkhan Mountain, the area represents one of the key industrial developments in Ulaanbaatar. To the south of the district are the majority of Ulaanbaatar’s manufacturing and warehousing facilities, which extend all the way to the city’s western roundabout. This section, with small stock of low-density structures primarily houses the area factory workers upon small plots of land dotted around in between industrial complexes. The majority of space in characterized as mid/lower tier Ger district areas, with 24,570 people classifying themselves as living in informal structures, occupying 63% of the districts total land. Many of these Ger areas tally closely with popular western perceptions; representing a non linear array of self built structures into a continuous land mass. Residential Space in Songingokhairkhan Residential sales prices in the Songingokhairkhan displayed the smallest proportional increase of any of the districts in this study, with the value of apartments increasing to $885 psm in Q3 2012 from $417 in 2005. This is hardly a surprising phenomenon; Songingokhairkhan is of little use to any of the socio-economic groupings that have driven the real estate price appreciation across the city over recent years. The expatriate population is easily the lowest in the city, with just 633 foreigners residing in the area, whilst the district’s relative isolation and poor infrastructural network mean it is not a viable option for those wishing to commute into the Central Business District. Despite the prevalence of the Ger districts, there are professionally built structures in Songingohairkhan, representing 127,600 of apartment space, spread across 3,779

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Songinokhairkhan District individual units according to APIP/Tenkhleg Zuuch estimates. Such complexes are almost exclusively low cost ventures erected either in accordance with governmental housing development initiatives, or by small locale construction firms. Songingokhairhan currently has 21 construction ongoing apartment construction projects, which are set to see 3,132 units come online over the coming twelve months. All of the structures continue the prevalent supply side trend in the district, being small, budget apartments intended for sale to the area’s wealthier class of industrial workers. Although compared to other districts, this expected supply side expansion is reasonably insignificant; the projects look set to close to double market supply. As suggested above, on the demand side there is little in the way of demographic or socio-economic drivers to support growth in the Songingokhairkhan, as the vast majority of the district’s population look set to continue being employed either by light industry, or Ulaanbaatar’s informal economy. This is not to say that demand cannot, and will not keep up with or exceed the expansion in supply. As the Mongolian mortgage market becomes more sophisticated, with lower interest rates, wider availability, and the implementation of consumer friendly policies (such as those initiated by the 100,000 Homes project), the effect upon demand may well take off. The APIP research team therefore considers investment in Songingokhairkhan’s residential market to be a high-risk option, effectively being a bet upon the effectiveness of the Mongolian Mortgage Companies policies over the coming years. The fair price estimate for the Songingokhairkhan District expects the Songingokhairkhan Residential price to rise to $1,140 psm by the end of 2014 if the mortgage market continues to develop at a similar speed to that witnessed over recent years. However, as the mortgage market appears to be gathering momentum it is perhaps unreasonable to model further development as linear, as the housing loan market should gather some momentum over the coming periods. As such, the APIP team have set a sales price forecast as high as $1,360 psm over the medium term, representing an optimal outcome that should occur when the financing constraints of the majority of Ger district residents are finally alleviated by MIK policy.

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