African Minerals (LSE: AMI) published its interim results this week, but despite news that iron ore production rose by 58% during the first half of the year, the company’s share price is still 90% lower than it was at the start of 2014.
Why?
The falling price of iron ore means that African Minerals received an average free-on-board (FOB) price of just $49 per tonne during the first half, down from $77/t for the same period last year.
Average C1 cash costs of production were $39/t, so African Minerals remains profitable at a cash operating level.
However, my calculations indicate that the more inclusive C3 cost — which includes interest costs and depreciation — was around $50/t, suggesting that African Minerals is struggling to break even on its mining operations.
Losing money
African Minerals reported an operating loss of $85.1m for the first half, even before meeting the $30m interest costs on its $458.8m net debt.
Shareholders should not be misled by the reported ‘profit before finance items and taxation’ of $46.1m, as this was largely the result of a $167.6m paper profit described as a ‘gain on non-controlling interest put option’.
This is essentially a fair value reduction in the penalty African Minerals would have to pay its Chinese backer, Shandong Iron and Steel Group (SISG), if the firm’s founder, Frank Timis, resigns.
Cash and debt
Another feature of the results that could be confusing is African Mineral’s $332m cash balance. Of this, $284m can only be spent with SISG’s consent, and is restricted for use in the Phase II expansion, while $30m is held in escrow.
In other words, available cash for Phase I capex is just $18m, which is why the firm is currently trying to agree a refinancing deal.
Chairman Frank Timis warns the refinancing “will inevitable require the support of all our stakeholders”, and I believe shareholders are likely to be heavily diluted.
For example, one plausible scenario is that SISG will expand its 25% interest in African Mineral’s operating business in return for further funding, leaving shareholders owning much less of the Tonkolili mine.
Ebola risk
Although African Minerals has not yet been affected by the devastating Ebola outbreak in West Africa, the risk of transport and operating restrictions remains real, and could easily leave the company unable to operate.
In my view, African Minerals carries too many unquantifiable risks — and too much debt — for me to consider investing.