SouthGobi Resources announces second quarter 2019 financial and operating results
R E S O U R C E S August 13, 2019
SouthGobi Resources announces second quarter 2019 financial and operating results
HONG KONG – SouthGobi Resources Ltd. (Toronto Stock Exchange (“TSX”): SGQ, Hong Kong Stock Exchange (“HKEX”): 1878) (the “Company” or “SouthGobi”) today announces its financial and operating results for the three and six months ended June 30, 2019. All figures are in U.S. dollars (“USD”) unless otherwise stated.
SIGNIFICANT EVENTS AND HIGHLIGHTS
The Company’s significant events and highlights for the three months ended June 30, 2019 and the subsequent period up to August 13, 2019 are as follows:
- Operating Results – The Company increased sales volume to 0.9 million tonnes for the second quarter of 2019 from 0.6 million tonnes for the second quarter of 2018. Given the improvement of the product mix, the average realized selling price increased from $32.8 per tonne in the second quarter of 2018 to $36.8 per tonne in the second quarter of 2019.
- Financial Results – The Company recorded a gross profit of $10.4 million in the second quarter of 2019 compared to $2.3 million in the second quarter of 2018, while a $5.2 million profit from operations was recorded in the second quarter of 2019 compared to a $18.2 million loss from operations in the second quarter of 2018 (restated). The improvement of overall financial results were principally attributable to lower unit cost of sales of products sold during the quarter and the provision for doubtful trade and other receivables of $14.8 million during the second quarter of 2018.
- China Investment Corporation (“CIC”) Convertible Debenture (“CIC Convertible Debenture”) – On April 23, 2019, the Company executed a deferral agreement (the “2019 Deferral Agreement”) with CIC in relation to a deferral and revised repayment schedule in respect of (i) $41.8 million of outstanding cash and payment in kind interest (“PIK Interest”) and associated costs due and payable to CIC on November 19, 2018 (the “Outstanding Interest Payable”) under the CIC Convertible Debenture and the deferral agreement dated June 12, 2017 (the “June 2017 Deferral Agreement”); and (ii) $27.9 million of cash and PIK Interest payments payable to CIC under the CIC Convertible Debenture from April 23, 2019 to and including May 19, 2020 (the “Deferral”). Pursuant to Section 501(c) of the TSX Company Manual, the 2019 Deferral Agreement was approved at the Company’s adjourned annual and special meeting of shareholders on June 13, 2019.
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The key repayment terms of the 2019 Deferral Agreement are: (i) the Company agreed to pay a total of $14.3 million over eight instalments from November 2019 to June 2020;
(ii) the Company agreed to pay the PIK Interest covered by the Deferral by way of cash payments, rather than the issuance of the common shares (the “Common Shares”); and
(iii) the Company agreed to pay the remaining balance of $62.6 million on June 20, 2020. The Company agreed to pay a deferral fee at a rate of 6.4% per annum in consideration of the deferred amounts.
As a condition to agreeing to the Deferral, CIC required that the mutual co-operation agreement (the “Cooperation Agreement”) dated November 19, 2009 between SouthGobi Sands LLC (“SGS”), a subsidiary of the Company, and Fullbloom Investment Corporation (“Fullbloom”), an affiliate of CIC, be amended and restated (the “Amended and Restated Cooperation Agreement”) to clarify the manner in which the service fee payable to Fullbloom under the Cooperation Agreement is calculated, with effect as of January 1, 2017. Specifically, the service fee under the Amended and Restated Cooperation Agreement will be determined based on the net revenues realized by the Company and all of its subsidiaries derived from sales into China (rather than the net revenues realized by the Company and its Mongolian subsidiaries as currently contemplated under the Cooperation Agreement). As consideration for deferring payment of the additional service fee payable to Fullbloom as a result of the Amended and Restated Cooperation Agreement, the Company agreed to pay to Fullbloom a deferral fee at the rate of 2.5% on the outstanding service fees. Pursuant to the Amended and Restated Cooperation Agreement, the Company agreed to pay Fullbloom the total outstanding service fee and related accrued deferral fee of $4.2 million over six instalments from June 2019 to November 2019. The Company executed the Amended and Restated Cooperation Agreement with Fullbloom on April 23, 2019.
Pursuant to their terms, both the 2019 Deferral Agreement and the Amended and Restated Cooperation Agreement became effective on June 13, 2019, being the date on which the 2019 Deferral Agreement was approved by shareholders at the Company’s adjourned annual and special meeting of shareholders.
The Company also announced that it intends to discuss a potential debt restructuring plan with respect to amounts owing to Land Breeze II S.a.r.l., a wholly-owned subsidiary of CIC, which is mutually beneficial to the Company and CIC, and to form a special committee comprised of independent directors to ensure that the interests of its minority shareholders are fairly considered in the negotiation and review of any such restructuring; however, there can be no assurance that a favorable outcome will be reached.
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- Notice of Arbitration – As of the date hereof, the Company has not paid the November 2018 and January 2019 monthly payments due under a deed of settlement (the “Settlement Deed”). On March 5, 2019, SGS received a notice from First Concept Industrial Group Limited (“First Concept”) claiming that the Company is in default under the Settlement Deed and demanding payment of the full amount of the outstanding monthly payments due under the Settlement Deed, otherwise First Concept intends to commence legal action against SGS pursuant to the Settlement Deed. The Company is consulting with its independent litigation counsel regarding this matter; however, as a default is only triggered under the Settlement Deed where there has been a failure to pay two or more consecutive monthly instalment payments, the Company is of the view that SGS is not in default under the Settlement Deed. In the event that First Concept commences legal action against SGS regarding this matter, the Company intends to take appropriate steps to respond to such legal proceedings in the best interests of the Company through independent litigation counsel which has been retained by the Company for this purpose.
As at June 30, 2019, the outstanding amount payable to First Concept amounted to $7.7 million (December 31, 2018: $12.5 million).
- Key Findings of Formal Investigation – On December 17, 2018, the Company announced that it had learned of certain information relating to past conduct engaged in by former senior executive officers and employees of the Company (“Former Management and Employees”) which raised suspicions of serious fraud, misappropriation of Company assets and other criminal acts by the Former Management and Employees relating to prior transactions (“Suspicious Transactions”) between 2016 and the first half of 2018 involving the Company, Inner Mongolia SouthGobi Energy Co. Ltd. (“IMSGE”), a subsidiary of the Company, and certain coal trading and transportation companies, some of which are allegedly related to or controlled by the Former Management and Employees or their related persons. The Company filed a report with local police authorities in China in respect of certain of the Suspicious Transactions and, on December 17, 2018, the Company’s board of directors (the “Board”) expanded the mandate of its special committee of independent non-executive directors (the “Special Committee”), which was previously established to initiate a formal internal investigation into certain legal charges against Mr. Aminbuhe (the Company’s former Chairman and Chief Executive Officer), to include a formal investigation (the “Formal Investigation”) of the Suspicious Transactions, the implicated Former Management and Employees, and their impact, if any, on the business and affairs of the Company.
On March 30, 2019, the Company announced that the Special Committee concluded the Formal Investigation and delivered a final report summarizing its key findings to the Board, which was adopted and approved at a meeting held on March 30, 2019. Please refer to the Company’s Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) for the three months ended March 31, 2019 for a summary of the key findings of the Formal Investigation, a copy of which is available under the Company’s profile on SEDAR at www.sedar.com.
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Based on the key findings of and information obtained from the Formal Investigation, the Company considered the resulting financial impact on its prior financial statements and restated certain items in the Company’s financial statements for the years ended December 31, 2016 and December 31, 2017 (the “Prior Restatement”), as disclosed in the Company’s audited annual consolidated financial statements and related management’s discussion and analysis for the year ended December 31, 2018, copies of which are available under the Company’s profile on SEDAR at www.sedar.com. The Prior Restatement reflects the impact of the misappropriation of assets as well as the reclassification of certain balances of assets in the prior years. With respect to the three and six months period ended June 30, 2018, the net effect of the Prior Restatement was a decrease in the net comprehensive loss of $1.6 million and $2.0 million for the respective periods. A summary of the requisite adjustments on the financial statements for the three and six months period ended June 30, 2018 is set forth in the table below:
Three months ended Three months June 30, 2018 ended
| $ in thousands | (As previously Loss decrease/ | June 30, 2018 | ||
|---|---|---|---|---|
| Statement of comprehensive income extract | reported) | (increase) | (Restated) | |
| Other operating expenses | $ | (18,091) $ | 1,579 | $ (16,512) |
| Finance income | 140 | (132) | 8 |
Net loss attributable to equity holders of the
| $ (26,603) $ 1,447 | ||
|---|---|---|
| Company | $ | (25,156) |
| Other comprehensive income for the period | 898 135 | 1,033 |
Net comprehensive loss attributable to equity holders of the Company $ (24,123) $ (25,705) $ 1,582
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Six months ended Six months June 30, 2018 ended
| $ in thousands | (As previously Loss decrease/ | June 30, 2018 | ||
|---|---|---|---|---|
| Statement of comprehensive income extract | reported) | (increase) | (Restated) | |
| Other operating expenses | $ | (19,429) $ | 2,160 | $ (17,269) |
| Finance income | 366 | (290) | 76 |
Net loss attributable to equity holders of the
Company $ (30,063) $ 1,870 $ (28,193) Other comprehensive loss for the period (2,430) 135 (2,295)
Net comprehensive loss attributable to equity
holders of the Company $ (32,493) $ 2,005 $ (30,488)
- Resumption of Trading on HKEX and TSX – On May 30, 2019, the Company announced the Company had fulfilled the trading resumption guidance to the satisfaction of the HKEX and the HKEX and the TSX had accepted the Company’s trading resumption application. Trading in the Common Shares on the TSX and the HKEX resumed on May 30, 2019 and May 31, 2019, respectively.
- Changes in Management and Directors
Ms. Lan Cheng: Ms. Cheng did not stand for re-election at the Company’s annual and special meeting of shareholders (the “AGM”) held on May 30, 2019 and ceased to be a non-executive director following the conclusion of the AGM.
Mr. Ben Liu: On May 30, 2019, Mr. Liu was elected as a non-executive director of the Company at the AGM.
- Going Concern – In 2016, the Company started its program to build a coal washing plant to upgrade the low quality fractions of its run-of-mine coals to higher value and higher margin products. The commissioning of the wash plant at the Ovoot Tolgoi mine was completed during the second quarter of 2019. The Company is currently in discussions with the wash plant operator concerning an agreement regarding the operation of the wash plant; however, there can be no assurance that a favorable outcome will be reached.
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The current operation plan contemplates significantly higher volumes of production in order to achieve the Company’s revenue and cash flow targets. Such plans will require a significant level of capital expenditure in waste rock stripping in 2019 and 2020. Such expenditures and other working capital requirements may require the Company to seek additional financing. There is no guarantee that the Company will be able to successfully execute the programs mentioned above and to secure other sources of financing. In addition, the current import restrictions on F-grade coal by Chinese authorities will further affect the short term cash inflow and may in turn undermine the execution of the operation plan. If the import restrictions on F-grade coal continue for an indefinite period, or if the Company fails to execute the aforementioned programs, or is unable to secure additional capital financing, or otherwise restructure or refinance its business in order to address its cash requirements through June 30, 2020, then the Company is unlikely to have sufficient cash flows from mining operations in order to satisfy its current ongoing obligations and future contractual commitments. This could result in adjustments to the amounts and classifications of assets and liabilities in the Company’s consolidated financial statements and such adjustments could be material.
Unless the Company acquires additional sources of financing and/or funding in the short term, the ability of the Company to continue as a going concern is threatened. If the Company is unable to continue as a going concern, it may be forced to seek relief under applicable bankruptcy and insolvency legislation. See section “Liquidity and Capital Resources” of this press release for details. As at August 13, 2019, the Company had $1.6 million of cash.
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OVERVIEW OF OPERATIONAL DATA AND FINANCIAL RESULTS
Summary of Operational Data
Three months ended Six months ended June 30, June 30,
2019 2018 2019 2018
Sales Volumes, Prices and Costs
Premium semi-soft coking coal Coal sales (millions of tonnes) 0.12 0.07 0.23 0.10 Average realized selling price (per tonne) $ 32.72 $ 59.98 $ 39.72 $ 62.54 Standard semi-soft coking coal/premium thermal coal Coal sales (millions of tonnes) 0.59 0.19 1.44 0.60 Average realized selling price (per tonne) $ 35.67 $ 33.80 $ 34.29 $ 42.32 Standard thermal coal Coal sales (millions of tonnes) – 0.32 0.09 0.44 Average realized selling price (per tonne) $ – $ 26.32 $ 33.92 $ 26.07 Washed coal Coal sales (millions of tonnes) 0.17 – 0.18 – Average realized selling price (per tonne) $ 44.20 $ – $ 44.20 $ – Total Coal sales (millions of tonnes) 0.88 0.58 1.94 1.14 Average realized selling price (per tonne) $ 36.80 $ 32.81 $ 35.77 $ 37.83
Raw coal production (millions of tonnes) 1.33 0.98 2.36 1.36
Cost of sales of product sold (per tonne) $ 25.04 $ 29.27 $ 23.42 $ 30.44 Direct cash costs of product sold (per tonne) (i) $ 17.18 $ 10.12 $ 13.71 $ 13.43 Mine administration cash costs of product sold (per tonne) (i) $ 1.39 $ 1.00 $ 1.40 $ 1.12 Total cash costs of product sold (per tonne) (i) $ 18.57 $ 11.12 $ 15.11 $ 14.55
Other Operational Data
Production waste material moved (millions of bank cubic meters) 5.34 5.18 10.25 8.06 Strip ratio (bank cubic meters of waste material per tonne of coal produced) 4.01 5.26 4.34 5.90 Lost time injury frequency rate (ii) 0.06 0.06 0.03 0.10
(i) A Non-International Financial Reporting Standards (“IFRS”) financial measure, which does not have a standardized meaning according to IFRS. See “Non-IFRS Financial Measures” section. Cash costs of product sold exclude idled mine asset cash costs.
(ii) Per 200,000 man hours and calculated based on a rolling 12 month average.
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Overview of Operational Data
For both the three months ended June 30, 2019 and June 30, 2018, the Company had a lost time injury frequency rate of 0.06 per 200,000 man hours based on a rolling 12 month average.
As a result of the improved product mix, the average realized selling price increased from $32.8 per tonne in the second quarter of 2018 to $36.8 per tonne in the second quarter of 2019.
The product mix for the second quarter of 2019 consisted of approximately 14% of premium semi-soft coking coal, 67% of standard semi-soft coking coal and 19% of washed coal compared to approximately 12% of premium semi-soft coking coal, 33% of standard semi-soft coking coal and 55% of thermal coal in the second quarter of 2018.
The Company sold 0.9 million tonnes for the second quarter of 2019 as compared to 0.6 million tonnes for the second quarter of 2018.
The Company’s production in the second quarter of 2019 was higher than the second quarter of 2018 as a result of pacing production to meet the expected sales as well as a lower strip ratio achieved for the quarter, yielding 1.3 million tonnes for the second quarter of 2019 as compared to 1.0 million tonnes for the second quarter of 2018.
The Company’s unit cost of sales of product sold decreased to $25.0 per tonne in the second quarter of 2019 from $29.3 per tonne in the second quarter of 2018. The decrease was mainly driven by increased sales and the related economies of scale.
For the six months ended June 30, 2019
The Company sold 1.9 million tonnes for the first six months of 2019 as compared to 1.1 million tonnes for the first six months of 2018. The average selling price decreased from $37.8 per tonne for the first six months of 2018 to $35.8 per tonne for the first six months of 2019.
The Company’s production in the first six months of 2019 was higher than the first six months of 2018 as a result of pacing the production to meet the expected sales, yielding 2.4 million tonnes for the six months of 2019 as compared to 1.4 million tonnes for the first six months of 2018.
The Company’s unit cost of sales of product sold decreased to $23.4 per tonne in the first six months of 2019 from $30.4 per tonne in the first six months of 2018. The decrease was mainly driven by increased sales and the related economies of scale.
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Summary of Financial Results
Three months ended Six months ended June 30, June 30, 2019 2019
2018 (iii) 2018 (iii) (Restated) (Restated) $ in thousands, except per share information Revenue (i) $ 32,479 $ 19,278 $ 69,290 $ 43,713
(22,031) (45,436)
Cost of sales (i) (16,979) (34,698) Gross profit excluding idled mine asset costs (ii) 11,318 6,079 25,675 16,329
10,448 23,854
Gross profit 2,299 9,015
(2,333) (2,747)
Other operating expenses (16,512) (17,269) Administration expenses (2,878) (3,856) (5,987) (6,233) Evaluation and exploration
(23) (48)
expenses (156) (280)
| Profit/(loss) from operations | 5,214 | (18,225) | 15,072 | (14,767) | |
| Finance costs | (7,001) | (5,958) | (13,740) | (11,932) | |
| Finance income | 4,305 | 8 | 4,322 | 76 | |
| Share of earnings of a joint venture | 628 | 968 |
375 827
Income tax expense (801) (1,609) (2,240) (2,538)
Net profit/(loss) 2,092 (25,156) 4,241 (28,193) Basic and diluted earnings/(loss)
$ 0.01 (0.09) $ 0.02 per share $ $ (0.10)
(i) Revenue and cost of sales relate to the Company’s Ovoot Tolgoi Mine within the Coal Division operating segment. Refer to note 3 of the condensed consolidated financial statements for further analysis regarding the Company’s reportable operating segments. Royalties have been reclassified from revenue to cost of sales.
(ii) A non-IFRS financial measure, idled mine asset costs represents the depreciation expense relates to the Company’s idled plant and equipment.
(iii) The financial results for the three and six months ended June 30, 2018 were restated. Refer to section “Significant events and highlights” of this press release under the heading entitled “Key Findings of Formal Investigation” for details.
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Overview of Financial Results
The Company recorded a $5.2 million profit from operations in the second quarter of 2019 compared to a $18.2 million loss from operations in the second quarter of 2018 (restated). The improvement of overall financial results was principally attributable to lower unit cost of sales of products sold during the quarter and the provision for doubtful trade and other receivables of $14.8 million during the second quarter of 2018.
Revenue was $32.5 million in the second quarter of 2019 compared to $19.3 million in the second quarter of 2018. The Company’s effective royalty rate for the second quarter of 2019, based on the Company’s average realized selling price of $36.8 per tonne, was 7.2% or $2.6 per tonne, compared to 9.9% or $3.2 per tonne in the second quarter of 2018 (based on the average realized selling price of $32.8 per tonne in the second quarter of 2018).
Royalty regime in Mongolia
The royalty regime in Mongolia is evolving and has been subject to change since 2012.
On February 1, 2016, the Government of Mongolia issued a resolution in connection with the royalty regime. From February 1, 2016 onwards, royalties are to be calculated based on the actual contract price including transportation costs to the Mongolia border. If such transportation costs have not been included in the contract, the relevant transportation costs, customs documentation fees, insurance and loading costs should be estimated for the calculation of royalties. In the event that the calculated sales price as described above differs from the contract sales price of other entities in Mongolia (same quality of coal and same border crossing) by more than 10%, the calculated sales price will be deemed to be “non-market” under Mongolian tax law and the royalty will then be calculated based on a reference price as determined by the Government of Mongolia. See the section entitled “Risk Factors – Company’s Projects in Mongolia” in the Company’s most recently filed Annual Information Form for the year ended December 31, 2018, a copy of which is available under the Company’s profile on SEDAR at www.sedar.com.
Cost of sales was $22.0 million in the second quarter of 2019 compared to $17.0 million in the second quarter of 2018. The increase in cost of sales was mainly due to the increased sales during the quarter. Cost of sales consists of operating expenses and royalties, sharebased compensation expense, equipment depreciation, depletion of mineral properties and idled mine asset costs. Operating expenses in cost of sales reflect the total cash costs of product sold (a Non-IFRS financial measure, see section “Non-IFRS financial measure” for further analysis) during the quarter.
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Three months ended June 30,
| $ in thousands | 2019 | 2018 |
| Operating expenses | $ 16,341 $ | 6,444 |
| Share-based compensation expense | 3 | – |
2,479
Depreciation and depletion 4,853
| Royalties | 2,338 | 1,902 |
| Cost of sales from mine operations | 21,161 | 13,199 |
| Cost of sales related to idled mine assets | 870 | 3,780 |
| Cost of sales | $ 22,031 $ | 16,979 |
Operating expenses in cost of sales were $16.3 million in the second quarter of 2019 compared to $6.4 million in the second quarter of 2018. The overall increase in operating expenses was primarily due to the effect of: (i) increased sales volume from 0.6 million tonnes in the second quarter of 2018 to 0.9 million tonnes in the second quarter of 2019; and (ii) higher inventory carrying costs given less deferred stripping cost was capitalized for the second quarter of 2019.
Cost of sales related to idled mine assets in the second quarter of 2019 included $0.9 million related to depreciation expenses for idled equipment (second quarter of 2018: $3.8 million).
Other operating expenses was $2.3 million in the second quarter of 2019 (second quarter of 2018: $16.5 million).
Three months ended June 30,
2019 2018 $ in thousands (Restated)
Provision for doubtful trade and other receivables $ (46)$ (14,834)
(1,422)
CIC service fee (395)
| Foreign exchange loss | (528) | (742) |
| Provision for prepaid expenses and deposits | (260) | – |
| Provision for commercial arbitration | (92) | (230) |
| Gain on disposal of property, plant and equipment | 29 | 39 |
(14)
Loss on disposal of properties for resale –
| Penalty on late settlement of trade payables | – | (323) |
| Other | – | (27) |
| Other operating expenses | $ (2,333)$ | (16,512) |
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During the second quarter of 2018, the Company made a provision for doubtful trade and other receivables of $14.8 million (second quarter of 2019: negligible) for certain long aged receivables based on expected credit loss model.
Administration expenses were $2.9 million in the second quarter of 2019 as compared to $3.9 million in the second quarter of 2018, as follows:
Three months ended June 30, 2019
$ in thousands 2018
Corporate administration $ 677 $ 704 Professional fees 1,748 Salaries and benefits 1,162 1,344 Share-based compensation expense 21 Depreciation 172 39
Administration expenses $ 2,878 $ 3,856
The decrease was mainly due to the decrease in professional fees incurred during the second quarter of 2019.
The Company continued to minimize evaluation and exploration expenditures in the second quarter of 2019 in order to preserve the Company’s financial resources. Evaluation and exploration activities and expenditures in the second quarter of 2019 were limited to ensuring that the Company met the Mongolian Minerals Law requirements in respect of its mining licenses.
Finance costs were $7.0 million and $6.0 million in the second quarter of 2019 and 2018 respectively, which primarily consisted of interest expense on the $250.0 million CIC Convertible Debenture.
Finance income was $4.3 million for the second quarter of 2019 (second quarter of 2018: negligible), which primarily related to the modification of the terms of the CIC Convertible Debenture as a result of signing of the 2019 Deferral Agreement with CIC.
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