How Fortunes Are Made In Frontier Markets: Interview With Harris Kupperman Part II
Getting your boots muddy in a frontier market can be immensely profitable.
That is, if you get to a boomtown before boom times, there’s plenty of money to be made.
As we learned yesterday, there’s huge profit potential in Mongolia — home to the recently started, world-class Oyu Tolgoi copper mine. But as hinted, the safe bet on this one might not be found in mining shares…
“The way I’m thinking of playing this resource boom” says Harris Kupperman, CEO of Mongolia Growth Group (MNGGF) “is through the consumer, and the best way to access the consumer is retail space on the main streets”
Today we’ll continue our talk with Harris. He’ll explain how his group could make 9-18 times their money in Mongolian real estate. Better yet, with mining just getting under way, he’ll describe why now’s the perfect time to act.
Harris Kupperman, CEO Mongolia Growth Group: In Mongolia — and specifically the capital city, Ulaanbaatar — our research shows there are two ways to win, really.
The obvious one is that your rents go up, and I think that’s just obvious as this frontier economy grows.
But what our research also found (and we looked at lots of these frontier markets that have developed) is that when your banking system evolves, and when your interest rates drop, you can get longer term mortgages and your “cap rate” drops.
Matt: Just to make sure everyone’s on the same page, can you explain cap rates?
Harris: Cap rate is the same as yield, it’s the percent you make per year.
Looking at it further, though, if the cap rate is 15% and it drops to 5%, that means that the property has tripled in value. It’s the same concept as in the bond market. When cap rates drop, the price of the asset is going up.
In today’s market we’re seeing anywhere from 13-15% cap rate or yield. But when you look at other slightly more developed markets in Asia, many are at a mid-single digit cap rates–or even lower–which means you almost triple your money on the cap rate declining, and that’s if your rents don’t even go up.
Our view is that the rents will go up a lot and you’ll do a lot better than just tripling your money. But basically getting Mongolia involved from a financial standpoint in the rest of the world’s economy and integrating the banking systems will do a whole lot for property prices. That’s just one extra lever that no one really talks about, but that’s why we’re so bullish in property.
Matt: Can you give us an example?
Harris: Here’s an example. A property is worth $1,000,000 and produces $150,000 of income so it’s a 15% yield. If the yield drops to 5% and the income stays the same, the new value of the property would be $3,000,000. But, let’s say that the rent triples to $450,000 and the yield goes to 5%, then your new property price is $9,000,000. That means you make 9 times your money on the property and you get to collect your rent check along the way. That’s pretty huge in terms of value creation. Now think of what happens if you borrowed half of the original $1,000,000. Instead of making 9 times your money, you made 18 times.
That’s how fortunes are made in emerging markets property!
Matt: Oyu Tolgoi just recently (in the last few weeks) started commercial shipments of copper. From a timing standpoint how do you see this playing out over the next six months to five years?
Harris: We looked at lots of other markets and in investing, we like to keep going back to templates, because as an investor you want to see what’s happened in the past because it’s usually sort of what you’ll have in the future. From what we’ve seen there are two stages to these types of resource booms.
Phase I is when the money goes into the ground, and that’s to build the infrastructure to produce the resource, and you have a very high growth rate.
But in Phase II when the money starts coming back out of the ground, in that they start exporting the commodity, you see the growth rates actually accelerate. That’s because the money starts going into the economy through tax revenues and through cash into the banking system and it just creates a second boom. The second boom has a much better multiplier effect, especially because you’ve already saved up some wealth in the economy.
So what we think is going to happen with this Oyu Tolgoi mine is that the growth rates will accelerate, the economy will grow much more rapidly, and it’ll make a lot of wealth for a lot of people in Mongolia, particularly creating a middle class with all these mine workers.
Matt: So are we on the cusp of that change into Phase II, where the money starts rolling in?
Harris: Indeed, we’re right on the cusp of this change. For Mongolia Growth Group the important thing was getting there in 2011, and basically getting invested and getting positioned for this phase II boom. You wanted to have the infrastructure in place, which we’ve done. In fact, right now we’re one of the only companies (if not the only) in the country that has the infrastructure in place to do this.
Matt: I’m probably not going to be recommending anyone head over to Mongolia and just start buying real estate on their own, that’s a daunting task.
But that’s why we’re talking to you today. Your company, Mongolia Growth Group, has been there since 2011. You’ve got a first mover advantage before the Oyu Tolgoi mine started production. So can you explain how Mongolia Growth Group works as an investment?
Harris: Yeah, absolutely. So we’re a publicly traded company, we’re listed in Canada, our ticker symbol is YAK. Or on the U.S. pink sheets we trade under the ticker MMGGF. We’ve raised a little over $50 million U.S. to invest in property, and we spent about 40 million of it so far.
The key thing to know about our company is that we built the infrastructure in place. We’ve spent two years hiring key people, building systems, building controls basically building the platform that helps us invest sizeable amounts of capital in the economy as the economy grows. We’ve already had a lot of success in acquiring and managing a portfolio of assets.
And we’re in a unique position as the only institutional property investor in the country right now. We’re also the only publically-traded, liquid way for a U.S. investor to invest their own capital into the country. The only other option is investing directly in property assets, which is really difficult for most people to analyze from overseas.
We’re a unique company because of our people. We’re investors ourselves. We wanted to put our own money into Mongolia. We couldn’t find a way to do it, so we built a platform ourselves to put our own money into Mongolia.
Today’s management and the board has invested over $7 million U.S. into Mongolia. We’re eating our own cooking and we’re very sizeable shareholders of this business.
We’re also very different from most property companies. In particular, most other property companies are built by guys who have a view that you try to build something large, and you grow your salary. Our view has always been that we built this for return on capital, and return on shareholder value. As proof of that I don’t take salary. I’m continually working because I own a lot of shares. I show up to work because I think that if we do a good job, our shares will appreciate.
It’s a unique sort of business in many, many ways, but it’s really built by a bunch of hedge fund guys that wanted to invest their own money.
Matt: Is there anything specific that you can tell us that’s happening right now, what you guys are doing or what properties you guys are most excited about?
Harris: Our real focus is retail space. It’s really the belief that the average Mongolian standard of living will be much, much higher in a few years. When it comes to retail space, the real big change in the past year is that you’re starting to see international brands open up shop.
When you get to about $5,000 in terms of disposable income per capita, suddenly the amount of money you need to spend on necessities (housing and food) starts to decline as a percentage of your total salary. You have more money to spend on the nice things in life, and it’s only natural that foreign retailers are noticing Mongolia right as it hits this $5,000 per capita number, and they’re opening up shop.
About two months ago, KFC opened the first location in Mongolia, and they’ve now said they want to open many more locations. Since KFC showed up, you’ve seen really a flood of retailers coming through our office basically asking for space. Whether it’s food and beverage or its luxury goods or market goods, everyone wants locations in Mongolia. They recognize the Mongolian consumer and the Mongolian market as being a really untapped market and they see the opportunity that we see.
I think it’s going to be a great opportunity for our company to partner with some of these people. These international brands are great tenants. They pay rent on time, they pay substantially above market because they want good locations and we have those locations.
This is an exciting time to be an investor in this frontier market.
Matt: Harris thank you for talking with us today.
Harris: Thanks a lot for inviting me, I appreciate it.
Matt’s Note: It’s rare that we get an inside view on a frontier market, like Mongolia. With phase II underway, where the money starts coming out of the ground, now’s the time to give this opportunity a look. The easiest way I’ve found to gain exposure to this up-and-coming market, is the Mongolia Growth Group (MNGGF.) It’s a long-term play for sure, but could represent a multi-bagger gain.
Editor’s Note: Remember, here at Agora Financial’s Daily Resource Hunter, we’re completely independent. I never receive any compensation for my write-ups or interviews (like that above.) Instead, I hunt for the best opportunities the market has to offer, vet them and deliver them straight to you. Stay tuned for more write-ups and keep your boots muddy!
Original article posted on Daily Resource Hunter