[miningmx.com] – EXXARO Resources, one of South Africa’s best black-owned mining businesses, has had a hard time of it lately with poor commodity prices raising worries about its balance sheet whilst maturation of a BEE contract creates the possibility of minority shareholder dilution in 18 months.
Shares in the company are down about 45% in the last year, and have more than halved in about three years – roughly the time when the commodity markets began to turn down, especially coal and iron ore to which Exxaro is heavily exposed.
In written remarks ahead of the closing of the firm’s interim period, Exxaro CFO, Wim de Klerk, raised the prospect that low coal prices and significantly reduced income from its 19% owned stake in Kumba Iron Ore could pressure its balance sheet.
“This has a direct impact on our cash flows, our ability to comply with financing covenants, as well as to continue to pay dividends,’ said De Klerk.
In a subsequent conference call, however, he sought to downplay the worries. Convenant levels were well within the comfort zone, the company had access to bond markets, and dividends were a “non-negotiable’, he said.
But something has to give, especially when cash flow is stemmed.
For Exxaro, this will be its project pipeline, especially if the long-standing agreement to buy Total Coal South Africa (TCSA) is approved by Government, a transaction that has been outstanding for nearly a year (July 28).
If TCSA happens then, said De Klerk, Exxaro would almost certainly have to reconsider the timing of its project pipeline including two projects – the Belfast and Thabazimbi projects – worth nearly four million tonnes a year (mtpa) in new thermal coal production.
“If we do receive the worse case scenario [no dividend at all from Kumba], we can still continue to spend money in the Waterberg,’ said De Klerk, referring to the company’s strategically important Grootegeluk coal expansion. “But if we get the outflow at TCSA, that would change the way we would think about [other] projects,’ he said.
Already capital expenditure has been cut 11% to R3.1bn for the current financial year whilst permitting and environmental delays have, helpfully, also pushed out Belfast and Mafube coal expansions by 12 months.
Another, the Australian-sited Moranbah enterprise which Exxaro owns in joint venture with Anglo American, has also been put on the back-burner.
Shelving certain projects for TCSA, however, has irked some analysts. TCSA consists of two mines – Dorstfontein and Forzando as well as export entitlement through Richards Bay – but the assets were loss-making in 2013, albeit down to exceptional, non-recurring circumstances.
“The Total Coal South Africa deal looks unattractive to us on a number of metrics and has a substantial bearing on the financial performance of Exxaro,’ said Derryn Maade, an analyst for HSBC.
The bind for Exxaro is that since the $472m deal was announced, the acquisition cost in rands has increased 14.6% while the price of export thermal coal at Richards Bay has fallen 14.5%. Mines minister, Ngoako Ramatlhodi, has also waded into the transaction, with some unhelpful consequences.
He told Bloomberg News that Total had to add a community component to the transaction as its BEE credentials were unsuitable notwithstanding the fact that in selling to Exxaro, Total is ensuring ownership of TCSA by among the most diverse of all of SA’s black-owned firms.
It’s a situation that must have Exxaro executives scratching their heads in puzzlement.
Asked to comment on progress regarding winning South African government approval for the transaction, Mxolisi Mgojo, head of Exxaro’s coal business and CEO designate, said: “We are in discussion with Total, and we are in discussion with the DMR.
“That’s all I can say. The minister [Ramatlhodi] has made a lot of noise in the media saying he is insisting there should be some local empowerment. But for now, we’re in discussion,’ he said.
Said HSBC’s Maade: “We believe a more definitive approach whereby management could consider options such as a potential exit from the deal may be warranted’.
The drop-dead date for the transaction is January 2016 so there’s a theory that Exxaro will simply tread water until the deal expires – a view another analyst said was unlikely owing to the strategic benefit of TCSA’s 4mtyp access to export markets through Richards Bay Coal Terminal (RBCT). For Exxaro, the RBCT entitlement is ideal as it returns to a focus on its coal assets.
Then there’s the issue of Exxaro’s BEE status.
At formation, Exxaro was about 53% black-owned including a raft of community and womens’ groups, a employee share option scheme and Kagiso/Tiso through a special vehicle. However, the unwinding of Exxaro’s BEE shareholding falls due in November 2016 following the expiry of a 10-year lock-in period.
As a supplier of coal to Eskom, Exxaro cannot afford to allow its BEE status to fall below 50% in terms of the Department of Trade & Industry’s code on empowerment which requires black-control for new supplies of coal to the utility.
As a result, Exxaro may well have to finance new partners, although as De Klerk points out some BEE partners will want to remain in the structure at their current levels.
Nonetheless, it makes the next 18 months worrisome for Exxaro shareholders of which Anglo American and other minorities of 9% and 35% respectively are among them.
The remaining issues at Exxaro are whether it will increase or reduce its investments in Tronox, its 44% held New York listed mineral sands business and Mayoko, the Republic of Congo iron ore project that Exxaro wrote down last year for R5.8bn.
A strategic review of Tronox has been completed but De Klerk isn’t saying which way the group will move. The likelihood is either to stay at the same level of ownership, or sell down.
Analysts prefer the latter as the paying a control premium for 50% or more of Tronox might not be worth the effort as it drags attention from its core business and would trigger debt consolidation which is the last thing Exxaro needs right now.
Selling down Tronox would, quite handily, generate much needed cash and ditto for Mayoko.
At a cost of R200m a year for just keeping the Mayoko project on the books – it spent R100m in the first half of the year – seems like prolonging the pain of the group’s most expensive mistake.
