Gem Diamonds has now released their final results for the year ended 2016.
Revenues declined by $60M when compared to last year and with cost of sales down by just $13.4M, mainly as a result of weaker Lesotho Loti, the gross profit reduced by $46.2M. There was a $4.8M fall in royalties and a $707K decrease in corporate expenses but this was offset by no reversal of accrued tax expenses, which brought in $8.1M last time, a $5.3M reduction in the forex gain and a $3.5M recycling of the forex translation reserve. The big cost this year, however, was the $172.9M impairment of assets to give an operating loss that was $232.3M worse than last time. Finance costs increased slightly but tax charges fell by $11.6M to give a loss for the year of $158.8M. Excluding the impairment, this was a profit of $14.1M, a decline of $38M year on year.
When compared to the end point of last year, total assets declined by $133.1M driven by a $129.5M impairment of the exploration and development assets, a $54.9M fall in cash and a $6M decline in other plant and equipment, partially offset by a $51.7M growth in the stripping activity asset, partially affected by forex movements. Total liabilities grew during the year as a $6.9M decline in income tax payable was more than offset by a $15.3M increase in deferred tax liabilities. The end result was a net tangible asset level of $189.9M, a decline of $140.6M year on year.
Before movements in working capital cash profits declined by $61.7M to $93.5M. There was a broadly neutral working capital position, interest payments increased by $2.3M but tax payments fell by $11.9M to give a net cash from operations of $70.7M, a decline of $48.4M year on year. The group spent $10.6M on property, plant and equipment along with $70.4M on waste costs capitalised. They also spent $14.4M Ghaghoo commissioning costs and $3.6M on development costs so before financing there was a cash outflow of $28.3M. They then paid $11.8M in dividends to shareholders along with $14M in dividends to non-controlling interests so there was a cash outflow of $57.9M for the year and a cash level of $30.8M at the year-end.
At Letseng, 108,206 carats were recovered from 6.6M tonnes of ore compared to 108,579 carats from 6.7M tonnes in the prior year with grades remaining steady at 1.63cpht. The average value achieved was $1,695 per carat compared to $2,299 in 2015 as fewer 100+ carat diamonds were recovered (just five compared to eleven in 2015) with the reduction more pronounced in H2. The largest diamond recovered was a 160.2 carat Type II white diamond. This poor recovery rate of large diamonds is consistent with the normal, short term variability of the resource and based on a detailed understanding of the resource, the board remain confident that the mine will continue to produce exceptional diamonds.
In local currency terms, costs per unit grew by 8% driven by local inflation of 5%, the one-off costs associated with the severe weather in July and an increase in explosive costs due to revised drill patterns to address diamond damage. Due to the weakening of the local currency, however, costs in US dollar terms actually fell.
Although the number of exceptional diamonds being recovered was lower than in prior years, an 11.8 carat pink diamond and a 160.2 carat type II white diamond were recovered during the year. These two diamonds, respectively, represent the highest $ per carat price achieved in the year. The pink diamond was sold for $187K per carat making it the third highest price per carat ever achieved at the mine while the white diamond was sold into a partnership arrangement where the group will participate in additional final polished margin.
In late July, extreme weather conditions were experienced across the Maluti Mountains in Lesotho where the mine is located, with excessive snowfall and severe winds limiting access to the mine and damaging the national grid power supply. Due to these setbacks, the board revives their targets downwards.
During the period, a post-investment review on the Plant 2 Phase 1 upgrade showed that the plant capability had improved by 12% in line with expectations. The impact of severe weather experienced in the year offset this improvement, however, and the board expect the full benefits to be evident in 2017.
The expansion of the open pits has necessitated the construction and relocation of an expanded mining support services complex. The first phase of this project was completed at a cost of less than $1M. Detailed design of the next phase has been completed and the construction (at a cost of $15.7) will start in 2017.
As part of optimising diamond liberation and reducing damage, the splitting of the front ends of Plant 1 and 2 started and is due for completion in Q1 2017. This provides the opportunity to dedicate ore treatment through the most suitable plant based on geo-metallurgical characteristics. Previously implemented workstreams targeting diamond damage reduction have had positive results. Diamonds continue to be damaged, however so the reduction in damage remains a key focus so a project has been initiated to investigate the implementation of a large diamond recovery capability.
To address major sources of downtime during the year, the primary crushing area structure was reinforced in December, thereby prolonging its life and deferring major capex by between eight and ten years.
At Ghaghoo, 40,976 carats were recovered from 217,372 tonnes of ore compared to 91,499 carats from 326,922 tonnes last year. The average value achieved was $152 per carat compared to $162 per carat in 2015. The recovered grade of 18.9cpht was below the reserve grade of 27.8cpht due to the high percentage of coarse breccia dilution encountered in the ore extracted near the contact zone from block 2, exacerbated by diamond lock up in the DMS tailings and mill oversize material Given the poor market for these types of diamonds, the mine was placed on care and maintenance in February 2017 with the flexibility to restart if prices recover.
At the start of 2016 the decision was made to downsize operations at the mine due to the underperforming smaller sized diamond market. The actions required to reduce the tonnage at the mine were completed and the operational improvements progressed well. Mill modifications yielded positive results with increased diamond liberation and the focus on cost discipline reduced operating costs. Despite this, the continued weakness in the market for the smaller diamonds which is expected to be further exacerbated by the increase in supply from three new mines entering the market in February 2017, the mine was placed on care and maintenance until conditions improve. The ongoing maintenance costs will be about $3M a year.
As part of initiating cost efficiencies across the group, the manufacturing operation in Antwerp was downsized during the year. Although they will continue to provide mapping and rough diamond analysis and manufacturing services, the back-end cutting and polishing functions were outsourced. In addition, the Calibrated operations was closed with an impairment cost of $2.1M. The business was set up to use laser diamond shaping and cutting technology as part of the integration of the group’s rough diamond analysis and manufacturing business. Due to the limited ability to develop this benefication opportunity in Lesotho, it was closed. $3.5M of foreign currency translation reserve was recycled through the income statement as the operation was based in South Africa.
After the year-end the outstanding balance of $2M on the three year unsecured project debt facility at Letseng was fully repaid. Following the decision to place the Ghaghoo mine on care and maintenance, the $25M term loan facility at Ghaghoo was settled in advance of its final payment date using the $35M revolving credit facility held at the company.
At the current share price the shares are trading on a PE ratio of 11.7 (excluding the impairment) but this grows to 15.6 on next year’s consensus forecast. There were no dividends recommended for 2016 but the consensus forecast is suggesting a forward yield of 3% for 2017.
On the 7th April the group announced the recovery of a 114 carat D colour Type II diamond of exceptional quality from Letseng.
Overall then this has been a difficult year for the group. Profits were down, net assets fell and the operating cash flow decreased with no free cash being generated. The issues are really two-fold. At Letseng the group has been affected by the fact that less high value diamonds are being recovered and really the mine has also been flattered by the depreciation of the Lesotho currency. This effect should be temporary, however, as the mining moves to other areas with higher quantities of large stones.
The issues at Ghaghoo may be more permanent. The group has been hit by a reduction in prices of it’s more commercial stones and this shows no sign of immediate improvement. The mine has therefore been put on care and maintenance. Overall, I feel that these issues are likely to weigh on the shares for some time. The recent high value recovery at Letseng is a positive and a few more of those, however, and the fortunes of the group could turn around.
On the 4th May the group announced the recovery of a high quality 80 carat D colour Type II diamond from the Letseng mine. This is not really that big but it is apparently one of the highest quality diamonds recovered at the mine and is entirely undamaged.
On the 23rd May the group released a trading update covering Q1 trading. Letseng has recovered larger better quality diamonds during the period and during April and May there was a notable improvement in size and quality of diamonds recovered. The market for Letseng’s diamonds remained firm over the period and this is expected to continue into the second half of the year. In addition, the revised life of mine plan was implemented during February with the objective of reducing waste tonnes mined and improve near term cash flows which is expected to benefit the group this year.
Letseng treated 1,667,000 tonnes of ore at a grade of 1.53cpht to recover 25,479 carats. This represents a 2% decline in tonnes treated and grade with a 4% fall in carats recovered. During the period engineering challenges were experienced at both Letseng plants that results in lower than planned plant availability. These are being addressed with the contracting partner and full year guidance remains unchanged. The contribution from the satellite pipe is expected to meet the original target of 1.8M tonnes for the year.
The lower grade mined was mainly due to the underperformance of the main pipe contact material. Mining activities have moved to the centre of the main pipe and grades are now returning to expected levels. During Q2 mining in the main pipe is moving into the higher grade K6 portion of the pipe.
The splitting of the front ends of plant 1 and plant 2 was completed at the end of the period. This has facilitated the treatment of discrete ore samples based on their individual geo-metallurgical characteristics to better understand the performance of the resource.
Bank funding for the construction of the Letseng mining support services complex valued at $16M was secured during the period. The funding is required to relocate the mining workshops, offices and related services within the mining area to allow the mine to effectively maintain the new and larger fleet of mining equipment as a result of the new waste cut backs required to extend the life of the open pit.
Three tenders have been held so far this year. 39,950 carats were sold for $65.4M, achieving an average price of $1,636 per carat compared to $1,695 per carat for the full year last year. The current average price achieved is up 13% from the $1,444 per carat achieved in Q4 2016. Contributing to this increase was an 8.65 carat pink diamond which achieved $164,855 per carat, making it the sixth highest achieved by a Letseng rough diamond, together with the sale of a number of other large high value white diamonds including a 114.38 Type II carat diamond which was sold into a partnership arrangement in May.
Overall then, the increased value of diamonds being mined is encouraging but there seem to be some issues with the plant, Ghaghoo is still on care and maintenance and there seems to be a lot of capex required for the relocation of the Letseng facilities. This might be worth a punt but its not without its risks!
On the 12th June the group announced the recovery of a high quality 105 carat D-colour Type IIa diamond and a 152 carat Type 1 yellow diamond which bodes well for an increased price per carat figure this time.
On the 6th July the group announced that it recovered a high quality 126 carat D colour Type IIa diamond from Letseng.
On the 25th July the group released a trading update covering the first half of the year. The market for both rough and polished diamonds remained cautious during the period but the strong demand for Letseng’s large high quality white rough diamonds has continued.
The price per carat achieved in the period was $1,779, an improvement on the $1,480 achieved in H2 last year. This positive trend has continued with the most recent July tender achieving an average price of $2,385 per carat. Contributing to the price was an 8.65 carat pink diamond which achieved $165K per carat.
At Letseng there was a 4% decline in the ore treated to 3,178,631 tonnes but the grade improved by 3% to 1.59c/t so the carats recovered declined by just 1% to 50,478. The lower than planned ore treated was due to reduced plant availability and downtime associated with the installation and commissioning of the split front ends for Plants 1 and 2. The availability issues have largely been address by the contractor. Despite improving, the grade was still below the expected reserve grade of 1.63c/t mainly due to the underperformance of the main pipe contact material and internal changes in the geology of this pipe. A core drilling programme will be implemented during the second half to improve confidence in the geology at depth. Overall guidance is maintained but at the lower end of the range.
At Ghaghoo, care and maintenance status was achieved ahead of plan by the end of March. During the period an earthquake occurred which caused superficial damage to the surface infrastructure and damage to the seal of the underground water fissure which led to an influx of water. This resulted in an increase in the water pumping costs of around $600K. The fissure will be required to be resealed and plans are underway to complete this during Q3.