SGQ.V · 2016-05-16

SouthGobi Resources announces first quarter 2016 financial and operating results

Production Results Financials

May 16, 2016

SouthGobi Resources announces first quarter 2016 financial and operating results

HONG KONG – SouthGobi Resources Ltd. (TSX: SGQ, HK: 1878) (the “Company”) today announced its financial and operating results for the three months ended March 31, 2016. All figures are in U.S. Dollars unless otherwise stated.

SIGNIFICANT EVENTS AND HIGHLIGHTS

The Company’s significant events and highlights for the three months ended March 31, 2016 and subsequent period up to May 16, 2016 are as follows:

Operating results – The Company continues to operate under difficult market conditions as prices for coal remained weak in the People’s Republic of China (“China”) through the first quarter of 2016. The impact of these conditions on the Company’s operations continues to be exacerbated given the Company’s liquidity constraints. The Company sold 0.88 million tonnes of its coal products during the quarter compared to 0.18 million tonnes in the first quarter of 2015. The production for the first quarter of 2016 was 0.37 million tonnes, allowing the Company to position itself to meet its commitments under existing and expected new coal offtake contracts.
Short-term bridge loan – On May 16, 2016, the lender of the short-term bridge loan signed a deferral agreement with the Company, in which the lender agreed to a deferral of repayment of all remaining amounts and accrued interest owing under the short-term bridge loan to July 30, 2016, with the interest rate remained unchanged at 8% per annum.
Shareholder loan – On May 16, 2016, Turquoise Hill Resources Ltd. (“Turquoise Hill”) signed a deferral letter agreement with the Company (“May 2016 Deferral Letter Agreement”), in which Turquoise Hill agreed to a limited and circumscribed deferral of repayment of all remaining amounts and obligations now and hereafter owing under the Turquoise Hill shareholder loan (“TRQ Loan”) to December 29, 2017. The Company has agreed to repay $0.15 million per month starting on May 31, 2016 and ending on April 28, 2017; $0.2 million per month starting on May 31, 2017 and ending on December 29, 2017, at which time all remaining obligations will become due. Interest shall continue to accrue on all outstanding obligations at 12-month US dollar LIBOR rate.
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Addition of a Director

Mr. Huiyi Wang: Mr. Wang was appointed as a Non-Executive Director on February 18, 2016.

Going Concern – As at the date hereof, the Company, together with its strategic partner and significant shareholder, Novel Sunrise Investments Limited (“Novel Sunrise”), has developed and continues to execute a funding plan (the “Funding Plan”) in order to pay the TRQ Loan, the short-term bridge loan and the interest due under the China Investment Corporation (“CIC”) convertible debenture (the “CIC Convertible Debenture”), meet the Company’s obligations as they fall due and achieve its business objectives in 2016. However, there is no guarantee that the Company will be able to successfully advance the Funding Plan or secure other sources of financing. See “Liquidity and Capital Management” in section “Financial Position and Liquidity” for details. As at May 16, 2016, the Company had cash of $0.8 million.
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OVERVIEW OF OPERATIONAL DATA AND FINANCIAL RESULTS

Summary of Operational Data

Three months ended March 31, 2015

Sales Volumes, Prices and Costs

Premium semi-soft coking coal

0.06

Coal sales (millions of tonnes) – Average realized selling price (per tonne)⁽ⁱ⁾ $ 21.38 $ – Standard semi-soft coking coal Coal sales (millions of tonnes) 0.58 0.05 Average realized selling price (per tonne)⁽ⁱ⁾ $ 18.42 $ 17.95 Thermal coal Coal sales (millions of tonnes) 0.24 0.13

$ 9.19

Average realized selling price (per tonne)⁽ⁱ⁾ $ 10.46 Total Coal sales (millions of tonnes) 0.88 0.18

$ 16.11

Average realized selling price (per tonne)⁽ⁱ⁾ $ 12.66

Raw coal production(millions of tonnes)	0.37	–
Direct cash costs of product sold(per tonne)(ii)	$ 7.88 $	8.68
Mine administration cash costs of product sold(per tonne)(ii)	$	2.11

$ 1.24

Total cash costs of product sold (per tonne)⁽ⁱⁱ⁾ $ 9.12 $ 10.79

Other Operational Data

Production waste material moved (millions of bank cubic meters) 0.72 – Strip ratio (bank cubic meters of waste material per tonne of coal produced) 1.94 – Lost time injury frequency rate(iii) 0.00 0.25

(i) Average realized selling price is presented before deduction of royalties and selling fees.

(ii) A non-International Financial Reporting Standards (“IFRS”) financial measure, see “Non-IFRS Financial Measure” section. Cash costs of product sold exclude idled mine asset cash costs.

(iii) Per 200,000 man hours and calculated based on a rolling 12 month average.

Overview of Operational Data

Market conditions and prices for coal remained weak in China through the first quarter of 2016. The Company sold 0.88 million tonnes of its coal products during the first quarter of 2016 compared to 0.18 million tonnes for the first quarter of 2015.

The Company is pacing production with current and expected demand, production was 0.37 million tonnes for the quarter as compared to nil for the first quarter of 2015, in which the Company has cancelled the furlough and recommenced mining operations on March 30, 2015.

The Company ended the first quarter of 2016 without a lost time injury. As at March 31, 2016, the Company has a lost time injury frequency rate of nil per 200,000 man hours based on a rolling 12 month average.

Summary of Financial Results

Three months ended March 31, 2016

$ in thousands, except per share information 2015

Revenue(i),(ii) $ 12,727 $ 1,587

(19,080)

Cost of sales⁽ⁱⁱ⁾ (17,678) Gross loss excluding idled mine asset costs (1,049) (1,230)

(6,353)

Gross loss including idled mine asset costs (16,091)

Other operating income/(expenses) (1,711) 971

(1,642)

Administration expenses (1,425) Evaluation and exploration expenses (47) (81)

(9,753)

Loss from operations (16,626)

Finance costs (5,497) (6,648) Finance income 8

Share of earnings/(losses) of a joint venture	83	(18)
Income tax expense	(235)	–
Net loss	(15,401)	(23,284)

$ (0.06) $ Basic loss per share (0.11) Diluted loss per share $ (0.06) $ (0.11)

(i) Revenue is presented after deduction of royalties and selling fees.

(ii) Revenue and cost of sales relate to the Company’s Ovoot Tolgoi Mine within the Coal Division operating segment.

Overview of Financial Results

The Company recorded a $9.8 million loss from operations in the first quarter of 2016 compared to a $16.6 million loss from operations in the first quarter of 2015. The operations for the three months ended March 31, 2016 were impacted by continuing difficult market conditions and weak coal prices in China.

Revenue was $12.7 million in the first quarter of 2016 compared to $1.6 million in the first quarter of 2015. The Company sold 0.88 million tonnes of coal at an average realized selling price of $16.11 per tonne in the first quarter of 2016 compared to sales of 0.18 million tonnes at an average realized selling price of $12.66 per tonne in the first quarter of 2015. The increase in the average realized selling price mainly resulted from differences in product mix. The product mix for the first quarter of 2016 consisted of approximately 73% of Premium and Standard semi-soft coking coal and 27% of Thermal coal compared to approximately 28% of Premium and Standard semi-soft coking coal and 72% of Thermal coal in the first quarter of 2015.

The Company’s revenue is presented after deduction of royalties and selling fees. The Company’s effective royalty rate for the first quarter of 2016, based on the Company’s average realized selling price of $16.11 per tonne, was 7.1% or $1.14 per tonne compared to 29.0% or $3.67 per tonne based on the average realized selling price of $12.66 per tonne in the first quarter of 2015.

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 to the royalty regime. From February 1, 2016 onwards, royalties are calculated based on the actual contract price in which transportation cost to the Mongolia border should have been included. If such transportation cost was not included in the contract, the relevant transportation costs, custom documentation fees, insurance and loading cost 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.

Cost of sales was $19.1 million in the first quarter of 2016 compared to $17.7 million in the first quarter of 2015. Cost of sales comprises operating expenses, share-based compensation expense, equipment depreciation, depletion of mineral properties, coal stockpile inventory impairments 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 “Non-IFRS Financial Measures” for further analysis) during the period.

Three months ended March 31,

$ in thousands	2016	2015
Operating expenses	$ 8,045 $	1,929
Share-based compensation expense/(recovery)	(5)	28

3,579

Depreciation and depletion 310

Impairment of coal stockpile inventories	2,157	550
Cost of sales from mine operations	13,776	2,817
Cost of sales related to idled mine assets	5,304	14,861
Cost of sales	$ 19,080 $	17,678

Operating expenses in cost of sales were $8.0 million in the first quarter of 2016 compared to $1.9 million in the first quarter of 2015. The increase in operating expenses is primarily related to the increase in sales volume from 0.18 million tonnes in the first quarter of 2015 to 0.88 million tonnes in the first quarter of 2016.

Cost of sales in the first quarter of 2016 and 2015 included coal stockpile impairments of $2.2 million and $0.6 million, respectively, to reduce the carrying value of the Company’s coal stockpiles to their net realizable value. The coal stockpile impairments recorded in both the first quarter of 2016 and 2015 reflected the challenging coal market conditions and primarily related to the Company’s higher-ash products.

Cost of sales related to idled mine asset costs primarily consisted of period costs, which were expensed as incurred and included mainly depreciation expense. Cost of sales related to idled mine assets in the first quarter of 2016 included $5.3 million of depreciation expenses for idled equipment compared to $11.9 million in the first quarter of 2015.

Other operating expenses were $1.7 million in the first quarter of 2016 compared to other operating income of $1.0 million in the first quarter of 2015 as follows:

Three months ended March 31,

$ in thousands	2016	2015
Foreign exchange gain	$ (272) $	(1,058)
Provision for doubtful trade and other receivables	1,911	–

Other 87

$ 1,711

Other operating expenses/(income) $ (971)

For the three months ended March 31, 2016, the Company made a provision for doubtful trade and other receivables of $1.9 million (2015: nil) for the long aged receivables.

The decrease in foreign exchange gain was mainly because the depreciation of MNT against USD was less severe in the first quarter of 2016 compared to that in the first quarter of 2015.

Administration expenses were $1.6 million in the first quarter of 2016 compared to $1.4 million in the first quarter of 2015 as follows:

Three months ended March 31, 2016

$ in thousands 2015

$ 465

Corporate administration $ 446 Legal and professional fees 504 473 Salaries and benefits 643 380

(7)

Share-based compensation expense/(recovery) 100 Depreciation 37 26

Administration expenses $ 1,642 $ 1,425

Administration expenses were higher for the first quarter of 2016 compared to the first quarter of 2015 primary due to the adjustment of the over-accrual of secondee costs for the first quarter of 2015.

Evaluation and exploration expenses were negligible in the first quarter of 2016 compared to $0.1 million in the first quarter of 2015. The Company continued to minimize evaluation and exploration expenditures in the first quarter of 2016 in order to preserve the Company’s financial resources. Evaluation and exploration activities and expenditures in the first quarter of 2016 were limited to ensuring that the Company met the Mongolian Minerals Law requirements in respect of its mining and exploration licenses.

Finance costs were $5.5 million and $6.6 million respectively in the first quarter of 2016 and the first quarter of 2015. Finance costs primarily consisted of interest expense in respect of the $250.0 million CIC Convertible Debenture ($5.2 million for the first quarter of 2016 and $5.0 million for the first quarter of 2015).

Summary of Quarterly Operational Data

2016 2015 2014

Quarter Ended 31-Mar

31-Dec 30-Sep 30-Jun 31-Mar 31-Dec 30-Sep 30-Jun

Sales Volumes, Prices and Costs

Premium semi-soft coking coal

0.06

Coal sales (millions of tonnes) 0.04 0.16 0.02 – 0.02 – – Average realized selling price (per tonne)⁽ⁱ⁾ $ 21.38 $ 21.72 $ 22.32 $ 23.37 $ – $ 26.77 $ – $ – Standard semi-soft coking coal

0.58

Coal sales (millions of tonnes) 0.12 0.31 0.11 0.05 0.14 0.31 0.12 Average realized selling price (per tonne)⁽ⁱ⁾ $ 18.42 $ 18.91 $ 19.10 $ 19.97 $ 17.95 $ 18.32 $ 17.41 $ 20.33 Thermal coal Coal sales (millions of tonnes) 0.24 0.05 0.02 0.06 0.13 0.21 0.34 0.51 Average realized selling price (per tonne)⁽ⁱ⁾ $ 9.19 $ 9.26 $ 10.48 $ 10.47 $ 10.46 $ 11.69 $ 10.66 $ 10.72 Total Coal sales (millions of tonnes) 0.88 0.21 0.49 0.19 0.18 0.37 0.65 0.63

$ 16.11

Average realized selling price (per tonne)⁽ⁱ⁾ $ 17.19 $ 19.76 $ 17.42 $ 12.66 $ 15.04 $ 13.87 $ 12.52

Raw coal production (millions of tonnes) 0.37 0.62 0.71 0.62 – 0.21 0.17 0.55

Direct cash costs of product sold

$ 7.88

(per tonne)⁽ⁱⁱ⁾ $ 6.55 $ 17.46 $ 15.57 $ 8.68 $ 8.09 $ 7.38 $ 8.23 Mine administration cash costs of product sold (per tonne)⁽ⁱⁱ⁾ $ 1.24 $ 1.78 $ 2.81 $ 7.90 $ 2.11 $ 2.44 $ 2.30 $ 2.49

$ 9.12

Total cash costs of product sold (per tonne)⁽ⁱⁱ⁾ $ 8.33 $ 20.27 $ 23.47 $ 10.79 $ 10.53 $ 9.68 $ 10.72

Other Operational Data

Production waste material moved

0.72

(millions of bank cubic meters) 1.08 2.33 3.62 – 0.55 0.20 2.17 Strip ratio (bank cubic meters of waste

1.94

material per tonne of coal produced) 1.75 3.25 5.87 – 2.61 1.20 3.97 Lost time injury frequency rate(iii) 0.00 0.00 0.00 0.00 0.25 0.21 0.17 0.15

(i) Average realized selling price is presented before deduction of royalties and selling fees.

(ii) A non-IFRS financial measure, refer to “Non-IFRS Financial Measures” section. Cash costs of product sold exclude idled mine asset cash costs.

(iii) Per 200,000 man hours and calculated based on a rolling 12 month average.

Summary of Quarterly Financial Results

The Company’s financial statements are reported under IFRS issued by the International Accounting Standards Board. The following tables provide highlights, extracted from the Company’s financial statements, of quarterly results for the past eight quarters:

$ in thousands, except per share information 2015 2014 Quarter Ended 31-Mar 31-Dec 30-Sep 30-Jun 31-Mar 31-Dec 30-Sep 30-Jun

Financial Results

$ 12,727

Revenue(i), (ii) $ 2,873 $ 8,621 $ 2,949 $ 1,587 $ 5,054 $ 7,611 $ 6,691 Cost of sales⁽ⁱⁱ⁾ (19,080) (12,072) (22,108) (11,833) (17,678) (19,757) (23,922) (20,086)

(1,049)

Gross loss excluding idled mine asset costs (5,338) (10,641) (5,017) (1,230) (821) (2,178) (8,497) Gross loss including idled mine asset costs (6,353) (9,199) (13,487) (8,884) (16,091) (14,703) (16,311) (13,395)

(1,711)

Other operating income/(expenses) (1,093) 621 (19,450) 971 (3,386) (2) (1,499) Administration expenses (1,642) (2,154) (1,967) (1,963) (1,425) (1,924) (2,530) (2,253)

(47)

Evaluation and exploration expenses (46) (40) 22 (81) (911) (122) (107)

Impairment of property, plant and equipment	–	(92,651)	–	–	–	(8,603)	–	(277)
Loss from operations	(9,753)	(105,143)	(14,873)	(30,275)	(16,626)	(29,527)	(18,965)	(17,531)
Finance costs	(5,497)	(5,694)	(5,351)	(5,222)	(6,648)	(6,351)	(5,257)	(5,215)
Finance income	1	580	1,984	274	8	317	135	127
Share of earnings/(losses) of a joint venture	83	(7)	99	151	(18)	(40)	(32)	(3)
Income tax expense	(235)	(2)	(1)	(1)	–	(40)	–	(546)
Net loss	(15,401)	(110,266)	(18,142)	(35,073)	(23,284)	(35,641)	(24,119)	(23,168)
Basic loss per share	$ (0.06) $	(0.44) $	(0.07) $	(0.15) $	(0.11) $	(0.19) $	(0.13) $	(0.12)
Diluted loss per share	$ (0.06) $	(0.44) $	(0.07) $	(0.15) $	(0.11) $	(0.19) $	(0.13) $	(0.12)

(i) Revenue is presented after deduction of royalties and selling fees.

(ii) Revenue and cost of sales relate to the Company’s Ovoot Tolgoi Mine within the Coal Division operating segment.

FINANCIAL POSITION AND LIQUIDITY

Liquidity and Capital Management

The Company has in place a planning, budgeting and forecasting process to help determine the funds required to support the Company’s normal operations on an ongoing basis and its expansionary plans.

Turquoise Hill Loan Facility

On May 25, 2014, the Company announced it had obtained the TRQ Loan in the form of a $10 million revolving credit facility to meet its short term working capital requirements. The terms and conditions of this facility were filed on SEDAR at www.sedar.com on June 2, 2014. The key commercial terms of the facility were: an original maturity date of August 30, 2014 (subsequently extended); an interest rate of one month US dollar LIBOR Rate in effect plus 11% per annum; a commitment fee of 35% of interest rate payable quarterly in arrears on undrawn principal amount of facility and a front end fee of $0.1 million.

During 2014 and 2015, the due date of the TRQ Loan, was extended several times and the limit has been reduced to $3.8 million.

On October 27, 2015, Turquoise Hill signed a deferral letter agreement with the Company, in which Turquoise Hill agreed to a limited and circumscribed deferral of repayment of all remaining amounts and obligations now and hereafter owing under the TRQ Loan to April 22, 2016. Interest shall continue to accrue on all outstanding obligations but at the prevailing 12-month US dollar LIBOR rate plus 8%.

At March 31, 2016, the outstanding principal and accrued interest under this facility amounted to $3.4 million and $0.6 million respectively (at December 31, 2015, the outstanding principal and accrued interest amounted to $3.4 million and $0.6 million respectively).

On May 16, 2016, the Company and Turquoise Hill entered into the May 2016 Deferral Agreement whereby Turquoise Hill agreed to a limited and circumscribed deferral of repayment of all remaining amounts and obligations now and hereafter owing under the TRQ Loan to December 29, 2017 in accordance with the schedule of repayment set out below:

The Company has agreed to effect monthly repayments on the last business day of each month under the TRQ Loan in an amount of (i) $0.15 million per month starting on May 31, 2016 and ending on April 28, 2017, (ii) $0.2 million per month starting on May 31, 2017 and ending on December 29, 2017, and (iii) the remaining balance of obligations on December 29, 2017 (collectively (i) to (iii), the Repayments, and each, a Repayment). Upon receipt of each Repayment by Turquoise Hill, the aggregate amount of obligations owing under the TRQ Loan will be reduced by such equal amount;
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In the event that the Company fails to make any one of the Repayments in its entirety on or before the dates set out above, then the Company shall be in automatic and irremediable default of the obligations thereunder and under the TRQ Loan, shall immediately and irremediably lose all benefits of the May 2016 Deferral Agreement and all then outstanding obligations shall become immediately due and payable to Turquoise Hill; and
Interest shall continue to accrue on all outstanding obligations at 12-month US dollar LIBOR rate.

Under certain conditions, including the non-payment of interest amounts as the same become due, amounts outstanding under the TRQ Loan may be accelerated. Bankruptcy and insolvency events with respect to the Company or its material subsidiaries will result in an automatic acceleration of the indebtedness under the TRQ Loan. Subject to notice and cure periods, certain events of default under the TRQ Loan will result in acceleration of the indebtedness under such loan at the option of Turquoise Hill.

Interim Funding Loan Commitment

On June 17, 2015, the Company negotiated an interim loan (“Interim Loan”) for up to $8 million from Mr. Wilson Chen (a former principal of Novel Sunrise), with immediate availability, intended to address funding obligations pending the closing of certain private placements. Mr. Chen was a related party of the Company when the Interim Loan was agreed to. Drawdowns under the Interim Loan are to be in the minimum amount of $2 million, with interest at LIBOR + 12% per annum, payable in cash on a quarterly basis in arrears, and maturing on June 18, 2016. The Interim Loan is unsecured and is subject to mandatory repayment upon completion of $30 million of equity or other debt financing.

The Company has not received any funds under the Interim Loan after multiple funding requests, and therefore the Company does not expect to receive any funds from such loan facility.

Funding Plan

The Company, together with its strategic partner and significant shareholder, Novel Sunrise, continues to advance a funding plan (the “Funding Plan”), with the intention of improving cash flow for the Company and supporting its business strategy and operations in a difficult market, with the goal of positioning the Company with a strong future as a coal producer.

The Company continues to advance the Funding Plan, which includes expanding its customer base further inland in China, securing longer-term coal offtake arrangements, thereby allowing the Company to ramp up production to capacity and obtaining additional loans as required to meet existing obligations and expected further working capital requirements.

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At present the Company has decided to advance the Funding Plan rather than additional equity placements.

While it is the Company’s intention to continue to advance the Funding Plan, the Funding Plan is dynamic and subject to change based on a number of factors beyond its control. Such factors include but not limited to, China’s economic growth and coal demand growth, market prices of coal, the availability of credit and market interest rates, and exchange rates of currencies of countries where the Company operates. There can be no assurance that the Company will be able to continue to execute the Funding Plan or to continue as a going concern.

Short-term bridge loan

On October 27, 2015, the Company executed a $10 million bridge loan agreement with an independent Asian based private equity fund. On May 16, 2016, the lender of the short-term bridge loan signed a deferral agreement with the Company, in which the lender agreed to a deferral of repayment of all remaining amounts and accrued interest owing under the short-term bridge loan to July 30, 2016, with the interest rate remained unchanged at 8% per annum.

As at March 31, 2016, the outstanding balance for the short-term bridge loan was $4.9 million (December 31, 2015: $4.9 million) and the Company owed accrued interest of $0.2 million (December 31, 2015: $0.1 million).

Under certain conditions, including the non-payment of interest amounts as the same become due, amounts outstanding under the short-term bridge loan may be accelerated. Bankruptcy and insolvency events with respect to the Company or its material subsidiaries will result in an automatic acceleration of the indebtedness under the short-term bridge loan. Subject to notice and cure periods, certain events of default under the short-term bridge loan will result in acceleration of the indebtedness under the short-term bridge loan at the option of the lender.

Going concern considerations

The Company’s condensed consolidated financial statements have been prepared on a going concern basis which assumes that the Company will continue operating until at least March 31, 2017 and will be able to realize its assets and discharge its liabilities in the normal course of operations as they come due. However, in order to continue as a going concern, the Company must generate sufficient operating cash flows, secure additional capital or otherwise pursue a strategic restructuring, refinancing or other transaction to provide it with additional liquidity. If it fails to do so, or is unable to secure additional capital or otherwise restructure or refinance its business in order to address its cash requirements through March 31, 2017, then the Company is unlikely to have sufficient capital resources or cash flows from mining operations in order to satisfy its ongoing obligations and future contractual commitments, including the TRQ Loan, the short-term bridge loan and the cash interest payments due under the CIC Convertible Debenture. As a result, it may not be able to continue as a going concern.

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