HONG KONG, March 30, 2020 (GLOBE NEWSWIRE) — SouthGobi Resources Ltd. (Toronto Stock Exchange (“TSX”): SGQ, Hong Kong Stock Exchange (“HKEX”): 1878) (the “Company” or “SouthGobi”) today announces its unaudited financial and operating results for the quarter and the year ended December 31, 2019. All figures are in U.S. dollars (“USD”) unless otherwise stated.
For the reason set forth below under the heading “Review of Unaudited Annual Results”, the audit process for the Company’s annual results for the year ended 2019 has not been completed by the Company’s auditors (the “Auditors”) as of the date of this press release. Accordingly, the Company cautions that the financial results for its financial year ended December 31, 2019 disclosed herein are unaudited and have not been agreed upon with the Auditors as required under Rule 13.49(2) of the Hong Kong Stock Exchange Listing Rules. The unaudited financial results of the Company for the financial year ended December 31, 2019 disclosed herein were reviewed by the Audit Committee of the Company and approved and authorized for issue by the Board on March 30, 2020.The Company is postponing the filing of its audited consolidated financial statements for its financial year ended December 31, 2019, the accompanying Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) and its Annual Information Form for the financial year ended December 31, 2019 (collectively, the “2019 Annual Filings”), as a result of the Auditors being unable to complete the audit process for the Company’s annual results for the year ended 2019 prior to the filing deadline for the 2019 Annual Filings of March 30, 2020. In deciding to postpone the filing of the 2019 Annual Filings, the Company is relying upon the Canadian Securities Administrators’ blanket relief, which, in light of recent developments relating to the Coronavirus Disease 2019 (“COVID-19”) pandemic and their impact on capital market participants, provides a 45-day extension for certain periodic filings normally required to be made by reporting issuers on or before June 1, 2020 under applicable Canadian securities laws.Until such time as the Company files its 2019 Annual Filings, shareholders and potential investors of the Company are advised to exercise caution when dealing in the securities of the Company.Significant Events and HighlightsThe Company’s significant events and highlights for the year ended December 31, 2019 and the subsequent period to March 30, 2020 are as follows:Operating Results – The Company’s sales volume increased from 2.8 million tonnes in 2018 to 3.7 million tonnes in 2019. The average selling price of coal in 2019 decreased from $37.1 per tonne in 2018 to $34.9 per tonne in 2019. The decrease in the average selling price was principally attributable to (i) a change of the Company’s product mix, as sales of premium semi-soft coking coal represented a smaller proportion of total sales in 2019; and (ii) a higher portion of sales made at the mine gate instead of transporting the coal to the Company’s Inner Mongolia subsidiary and selling to third party customers within China.
Financial Results – The Company recorded a $29.8 million profit from operations in 2019 compared to a $10.5 million loss from operations in 2018. The improvement in profit from operations was principally attributable to (i) a lower provision for doubtful trade and other receivables being made during the year ($0.5 million and $20.9 million for 2019 and 2018, respectively); and (ii) increased sales volume.
Impact of the COVID-19 Pandemic – The Company was informed that effective as of February 11, 2020, the Mongolian State Emergency Commission closed Mongolia’s southern border with China in order to prevent the spread of COVID-19. Accordingly, the Company suspended coal exports to China since February 11, 2020 as a result of the border closure.
On March 28, 2020, the Company learned that the Mongolian-Chinese border was re-opened for coal export on a trial basis, with a limit imposed on the total volume of coal that is permitted to be exported during this trial period. As of the date hereof, the Company has not received any formal communication from the Mongolian State Emergency Commission regarding the details of the re-opening of the border crossings on a trial basis, including the estimated length of the trial period and the proposed limitations on the coal export volume into China during this trial period. There can be no guarantee, however, that the Company will be able to continue exporting coal to China during this trial period, or the border crossings between Mongolia and China will be fully reopened in a timely manner or at all and, if the border crossing is fully re-opened in the future, the border crossings would not be the subject of additional closures as a result of COVID-19 in the future.
The border closure has had, and will continue to have an adverse impact on the Company’s sales and cash flows in the first and second quarter of 2020. In order to address the financial impact of the border closures and preserve its working capital, the Company ceased major mining operations (including coal mining activities), reduced production to only coal-blending activities and placed approximately half of its workforce on furlough effective as of February 2020 until further notice. The Company anticipates that its existing coal inventories are sufficient to satisfy expected sales demand for a period of at least 2 months as of the date hereof. The Company will continue to closely monitor the development of the COVID-19 pandemic and the impact it has on coal exports to China and its operations as a whole.
Based on a preliminary review of the information and operational data of the Company currently available, the Company expects to record a net loss between $13 million to $18 million for the three months ending March 31, 2020. The anticipated net loss is principally attributable to decreased sales volumes in the first quarter of 2020 as a result of the closure of the Mongolian-Chinese border crossings which took effect in February 2020 and the Company being unable to export coal into China as a result. As at March 30, 2020, the Company had $1.5 million of cash. In the event that the Company’s ability to export coal into the Chinese market continues to be restricted or limited as a result of the restrictions at the Mongolian-Chinese border crossing, this is expected to have a material adverse effect on the business and operations of the Company and may negatively affect the price and volatility of the Common Shares and any investment in such shares could suffer a significant decline or total loss in value.
China Investment Corporation (together with its wholly-owned subsidiaries and affiliates, “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 a deferral agreement executed with CIC on 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.
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 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, 2019 between SouthGobi Sands LLC (“SGS”), a subsidiary of the Company, and CIC, be amended and restated (the “Amended and Restated Cooperation Agreement”) to clarify the manner in which the service fee (the “Management Fee”) payable to CIC under the Cooperation Agreement is calculated, with effect as of January 1, 2017. Specifically, the Management Fee under the Amended and Restated Cooperation Agreement is 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 Management Fee payable to CIC as a result of the Amended and Restated Cooperation Agreement, the Company agreed to pay to CIC a deferral fee at the rate of 2.5% on the outstanding Management Fee. Pursuant to the Amended and Restated Cooperation Agreement, the Company agreed to pay CIC the total outstanding Management 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 CIC 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.
In connection with the 2019 Deferral Agreement, the Company also announced that it intends to discuss a potential debt restructuring plan with respect to amounts owing to 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. As of the date hereof, there has not been any significant progress in relations to the restructuring plan.
On February 19, 2020, the Company and CIC entered into an agreement (the “2020 February Deferral Agreement”) pursuant to which CIC agreed to grant the Company a deferral of: (i) deferred cash interest and deferral fees of $1.3 million and $2.0 million which were due and payable to CIC on January 19, 2020 and February 19, 2020, respectively, under the 2019 Deferral Agreement (collectively, the “2020 February Deferral Amounts”); and (ii) approximately $0.7 million of the Management Fee which was due and payable on February 14, 2020 to CIC under the Amended and Restated Cooperation Agreement. The 2020 February Deferral Agreement became effective on March 10, 2020, being the date on which the Company obtained the requisite acceptance of the 2020 February Deferral Agreement from the TSX as required under applicable TSX rules.
The principal terms of the 2020 February Deferral Agreement are as follows:
• Payment of the 2020 February Deferral Amounts will be deferred until June 20, 2020, while the Management Fee will be deferred until they are repaid by the Company.
• As consideration for the deferral of these amounts, the Company agreed to pay CIC: (i) a deferral fee equal to 6.4% per annum on the 2020 February Deferral Amounts, commencing on the date on which each such 2020 Deferral Amount would otherwise have been due and payable under the 2019 Deferral Agreement; and (ii) a deferral fee equal to 2.5% per annum on the Management Fee, commencing on the date on which the Managements Fee would otherwise have been due and payable under the Amended and Restated Cooperation Agreement.
• The Company agreed to provide CIC with monthly updates regarding its operational and financial affairs.
• As the Company anticipates that a deferral will likely be required in respect of the monthly payments due and payable in the period between April 2020 and June 2020 under the 2019 Deferral Agreement and Amended and Restated Cooperation Agreement, the Company and CIC have agreed to discuss in good faith a deferral of these payments on a monthly basis as they become due. There can be no assurance, however, that a favorable outcome will be reached either at all or on favorable terms.
• The Company agreed to comply with all of its obligations under the 2019 Deferral Agreement and the Amended and Restated Cooperation Agreement, as amended by the 2020 February Deferral Agreement.
• The Company and CIC agreed that nothing in the 2020 February Deferral Agreement prejudices CIC’s rights to pursue any of its remedies at any time pursuant to the 2019 Deferral Agreement and Amended and Restated Cooperation Agreement, respectively.
On March 10, 2020, the Company agreed with CIC (the “2020 March Deferral Agreement”) that the $2.0 million which was due and payable to CIC on March 19, 2020 under the 2019 Deferral Agreement (the “2020 March Deferral Amount”) will be deferred until June 20, 2020. The terms of the 2020 March Deferral Agreement are substantially the same as the terms of the 2020 February Deferral Agreement, including that the Company agreed to pay CIC a deferral fee equal to 6.4% per annum on the 2020 March Deferral Amount, commencing on March 19, 2020. The 2020 March Deferral Agreement became effective on March 25, 2020, being the date on which the Company obtained the requisite acceptance of the 2020 March Deferral Agreement from the TSX as required under applicable TSX rules.
Notice from First Concept Industrial Group Limited (“First Concept”) and Frozen Mongolian Bank Account – As of the date hereof, the Company has not paid the November 2018, January 2019, May 2019 and September 2019 monthly payments (collectively, the “Outstanding Settlement Deed Payments”) due under a deed of settlement (the “Settlement Deed”) with First Concept. On October 16, 2019, SGS received a notice from First Concept claiming that the Company is in default under the Settlement Deed and demanding payment of the full amount of the Outstanding Settlement Deed Payments due under the Settlement Deed, otherwise First Concept intends to commence legal action against SGS pursuant to the Settlement Deed. On February 7, 2020, SGS was informed by its Mongolian banks that they received a request from the Court Decision Implementing Agency of Mongolia (the “CDIA”) to freeze the respective bank accounts of SGS in Mongolia in relation to the enforcement of an arbitration award related to the Settlement Deed. Approximately $0.8 million in cash was frozen by the banks as at February 7, 2020 and such amount was subsequently transferred to the CDIA on March 6, 2020. Since a default under the Settlement Deed is only triggered when 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.
The Company expects that the freezing of bank accounts in Mongolia will have an adverse impact on its ability to make payment transactions to carry out operations and business affairs in Mongolia in the ordinary course. The Company is liaising with First Concept to resolve the issue. There can be no assurance, however, that any resolution can be successfully reached either at all or on favorable terms. As at December 31, 2019, the outstanding amount payable to First Concept amounted to $5.6 million (December 31, 2018: $12.5 million), which is due and payable as of the date hereof.
The seizure of the frozen funds by the CDIA may constitute an event of default under the CIC Convertible Debenture and the 2019 Deferral Agreement, which could result in the automatic termination of the deferral periods under the 2019 Deferral Agreement and the acceleration of all principal, interest and other amounts owing under the CIC Convertible Debenture and the 2019 Deferral Agreement becoming immediately due and payable, in each case without the necessity of any demand upon or notice to the Company by CIC. Furthermore, if First Concept is successful in enforcing the Outstanding Settlement Deed Payments and the Waived Costs (as defined below) against SGS, this may represent an event of default under the CIC Convertible Debenture. Either of these events would have a material adverse effect on the business and operations of the Company and may negatively affect the price and volatility of the Common Shares and any investment in such shares could suffer a significant decline or total loss in value.
Termination of Soumber Deposit Mining Licenses – On August 26, 2019, SGS received a letter (the “Notice Letter”) from the Mineral Resources and Petroleum Authority of Mongolia (“MRAM”) notifying that the Company’s three mining licenses (MV-016869, MV-020436 and MV-020451) (the “Soumber Licenses”) for the Soumber Deposit have been terminated by the Head of Cadastre Division of MRAM effective as of August 21, 2019.
According to the Notice Letter, the Soumber Licenses have been terminated pursuant to Clause 56.1.5 of Article 56 of the Minerals Law, Clauses 4.2.1 and 4.2.5 of Article 4 and Clause 28.1.1 of Article 28 of the General Administrative Law and a decision order of a working group established under an order of the Minister of Environment and Tourism (Mongolia). According to this decision order, the working group determined that SGS had violated its environmental reclamation obligations with respect to the Soumber Deposit. The Soumber Deposit is an undeveloped coal deposit covering approximately 22,263 hectares located approximately 20 kilometers east of the Company’s Ovoot Tolgoi coal mine in Mongolia. The Company owned a 100% interest in the Soumber Deposit.
The Company believes the cancelation of the Soumber Licenses is without merit. The Company is not aware of any failure on its part to fulfill its environmental reclamation duties as they relate to the Soumber Deposit. On October 4, 2019, SGS filed a claim against MRAM and the Ministry of Environment and Tourism of Mongolia in the Administration Court of the Capital City (the “Administration Court”) seeking an order to restore the Soumber Licenses. The Company anticipates that the Administration Court will issue its ruling before the end of the second quarter of 2020. The Company will take all such actions, including additional legal actions, as it considers necessary to reinstate the Soumber Licenses. However, there can be no assurance that a favorable outcome will be reached. The termination of the Soumber Licenses does not have any impact on the Company’s current mining operations at the Ovoot Tolgoi mine site.
Key Findings of Formal Investigation – Following the learning 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’s board of directors (the “Board”) expanded the mandate of its special committee of independent non-executive directors (the “Special Committee”) 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. The Special Committee engaged Blake, Cassels & Graydon LLP as independent Canadian legal counsel, and Ernst & Young (China) Advisory Limited (the “Forensic Accountant”), as forensic accountants, to assist in the Formal Investigation. The Special Committee and the Forensic Accountant jointly engaged Zhong Lun Law Firm, as independent Chinese legal counsel.
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 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.
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.
Remedial Actions and Preventative Measures – On April 30, 2019, the Company announced that the Special Committee, with the assistance of the Forensic Accountant, completed its assessment of the potential remedial actions and preventative measures to improve and strengthen the Company’s commitment to a culture of honesty, integrity and accountability and compliance with the highest standards of professional and ethical conduct. The Special Committee delivered its report setting out a set of recommended remedial actions and preventative measures (the “Remedial Actions and Preventative Measures”) to the Board which was approved at a meeting of the Board held on April 28, 2019. Please refer to the Company’s MD&A for the three months ended March 31, 2019 for a summary of the Remedial Actions and Preventative Measures which were adopted and approved by the Board and the actions that the Company has taken to implement the Remedial Actions and Preventative Measures, a copy of which is available under the Company’s profile on SEDAR at www.sedar.com.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 DirectorsMs. 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 Niu: On May 30, 2019, Mr. Niu was elected as a non-executive director of the Company at the AGM.
Mr. Wen Yao: Mr. Yao resigned as a non-executive director on March 11, 2020.
Mr. Jianmin Bao: On March 18, 2020, Mr. Bao was appointed as a non-executive director of the Company by CIC pursuant to a contractual nomination right granted to CIC in connection with the CIC Convertible Debenture in 2009.
Going Concern – Several adverse conditions and material uncertainties relating to the Company cast significant doubt upon the going concern assumption which includes the deficiency in assets and the working capital deficiency. The current operation plan contemplates significant operational funding in the Company’s mining operations as well as equipment maintenance in order to achieve the Company’s revenue and cash flow targets. 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 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 the Company is unable to secure additional capital financing, or otherwise restructure or refinance its business in order to address its cash requirements through December 31, 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.
Further, the closure of the border resulted from the COVID-19 pandemic has had, and will continue to have, an adverse impact on the Company’s sales and cash flows in the first and second quarter of 2020. 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. 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 March 30, 2020, the Company had $1.5 million of cash.
OVERVIEW OF OPERATIONAL DATA AND FINANCIAL RESULTS
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