SouthGobi Resources Limited
TSX : SGQ
HKSE : 1878

SouthGobi Resources Limited

November 14, 2013 07:16 ET

SouthGobi Resources Announces Third Quarter 2013 Financial and Operating Results

HONG KONG, CHINA--(Marketwired - Nov. 14, 2013) - SouthGobi Resources Ltd. (TSX:SGQ) (HKSE:1878), (the "Company" or "SouthGobi") today announced its financial and operating results for the three and nine months ended September 30, 2013. All figures are in U.S. Dollars unless otherwise stated.

SIGNIFICANT EVENTS

The Company's significant events for the quarter ended September 30, 2013 and subsequent weeks are as follows:

  • On August 22, 2013, SouthGobi announced that it had withdrawn the Notice of Investment Dispute on the Government of Mongolia in recognition of the fact that the dispute was resolved following the grant of three pre-mining agreements ("PMAs") on August 14, 2013 relating to the Zag Suuj Deposit and certain areas associated with the Soumber Deposit, and the earlier grant of a PMA on January 18, 2013 pertaining to the Soumber Deposit;

  • On September 3, 2013, the Company announced the appointment of Bold Baatar as a non- executive director of the Company;

  • On November 8, 2013, the Company announced a restatement to its financial statements for 2011 and 2012, and consequently its comparative consolidated interim financial statements for 2013 and the related MD&A. The restatement follows a review by the Company of its prior revenue recognition practices for its coal sales in the fourth quarter of 2010, full year 2011 and in the first half of 2012;

  • Third quarter sales volumes and revenue improved to 0.94 million tonnes and $15.7 million, respectively, in 2013 compared to 0.32 million tonnes and $3.8 million in 2012.

FINANCIAL STATEMENT RESTATEMENT

On November 8, 2013, the Company's Board of Directors approved the decision to restate the Company's financial statements for 2011 and 2012, and the related Management's Discussion and Analysis ("MD&A") (collectively, the "Restated Financials"). The restatement follows a review by the Company of its prior revenue recognition practices for its coal sales contracts entered into in the fourth quarter of 2010, full year 2011 and in the first half of 2012. The review was conducted in consultation with PricewaterhouseCoopers LLP ("PwC"), the Company's current auditors, and Deloitte LLP ("Deloitte"), the Company's auditors during the 2010 and 2011 fiscal years.

As a result of this review, the Company determined that certain revenue transactions were previously recognized in the Company's consolidated financial statements prior to meeting relevant revenue recognition criteria. The restatement is due to a change in the determination of when revenue should be recognized from its sales of coal previously recognized in the fourth quarter of 2010, full year 2011 and in the first half of 2012. These transactions relate to coal that had been delivered to the customer's stockpile in a stockyard located within the SouthGobi Ovoot Tolgoi mining license area ("the Stockyard"), the location at which title transferred, but from which the coal had not been collected by the customers. The restatement of the Company's consolidated financial statements reflects a correction in the point of revenue recognition from: (A) the delivery of coal to the customer stockpiles within the Stockyard to (B) the loading of coal onto the customer's trucks at the time of collection.

The Company adopted new terms in its sales contracts starting in the second half of 2012 such that title transfers when coal is loaded onto the customer's trucks which results in a later point of revenue recognition for all its sales starting from the second half of 2012.

Summary of key impacts of restatement
(Unaudited)
(Expressed in thousands of U.S. Dollars unless otherwise stated)
Six months ended Year ended
June 30, 2013 December 31, 2012
As previously As previously
reported Adjustment Restated reported Adjustment Restated
Raw coal production (millions of tonnes) 0.19 - 0.19 1.33 - 1.33
Coal sales (millions of tonnes) 0.12 0.48 0.60 1.33 0.65 1.98
Average realized selling price (per tonne) $ 34.62 $ (9.92 ) $ 24.70 $ 47.76 $ (0.27 ) $ 47.49
Revenue $ 3,633 $ 6,894 $ 10,527 $ 53,116 $ 24,945 $ 78,061
Cost of sales (34,327 ) (4,457 ) (38,784 ) (97,118 ) (30,289 ) (127,407 )
Other operating expenses (15,260 ) (95 ) (15,355 ) (54,345 ) 12,700 (41,645 )
Net income/(loss) (58,564 ) 1,756 (56,808 ) (103,019 ) 5,517 (97,502 )
Basic income/(loss) per share $ (0.32 ) $ 0.01 $ (0.31 ) $ (0.57 ) $ 0.03 $ (0.54 )
June 30, 2013 December 31, 2012
As previously As previously
reported Adjustment Restated reported Adjustment Restated
Trade and other receivables $ 7,947 $ (3,764 ) $ 4,183 $ 17,430 $ (14,138 ) $ 3,292
Inventories 45,872 1,617 47,489 53,661 6,074 59,735
Deferred revenue - 7,932 7,932 - 8,181 8,181
Year ended Year ended
December 31, 2011 December 31, 2010
As previously As previously
reported Adjustment Restated reported Adjustment Restated
Raw coal production (millions of tonnes) 4.57 - 4.57 2.79 - 2.79
Coal sales (millions of tonnes) 4.02 (0.93 ) 3.09 2.54 (0.81 ) 1.73
Average realized selling price (per tonne) $ 54.03 $ (3.39 ) $ 50.64 $ 34.61 $ 3.63 $ 38.24
Revenue $ 179,049 $ (48,293 ) $ 130,756 $ 79,777 $ (19,365 ) $ 60,412
Cost of sales (127,343 ) 35,165 (92,178 ) (69,904 ) 17,253 (52,651 )
Other operating expenses (29,189 ) 872 (28,317 ) (12,643 ) 218 (12,425 )
Net income/(loss) 57,745 (9,192 ) 48,553 (116,195 ) (1,421 ) (117,616 )
Basic income/(loss) per share $ 0.32 $ (0.08 ) $ 0.24 $ (0.66 ) $ (0.01 ) $ (0.67 )
December 31, 2011 December 31, 2010
As previously As previously
reported Adjustment Restated reported Adjustment Restated
Trade and other receivables $ 80,285 $ (64,051 ) $ 16,234 $ 30,246 $ (10,911 ) $ 19,335
Inventories 52,443 52,418 104,861 26,160 17,253 43,413
Deferred revenue - 17,653 17,653 - 10,827 10,827

Following the correction in the point of revenue recognition, revenues from affected coal sales contracts are recognized in later periods than previously reported and some revenue remains to be reported in periods after September 30, 2013 as not all contracted coal has been collected by customers. This change results in lower revenues and cost of sales in 2010 and 2011 followed by higher revenues and cost of sales in 2012 and year to date September 30, 2013.

The adjustments to other operating expenses in each applicable period primarily result from the reversal of provisions for doubtful trade and other receivables in those periods.

The impact on the net income/(loss) for the restated periods follows from the restated revenues, net of cost of sales and adjustments to other operating expenses. The net loss for the year 2010 increases, the net income for the year 2011 decreases and the net loss for the year 2012 decreases. The net loss for the six month period ending June 30, 2013 is also lower than previously reported.

During the periods from 2010 to September 30, 2013, trade and other receivables have been adjusted lower and deferred revenue recognized to reflect revenue being recorded in later periods than previously reported. The inventory balance increased over the same period to reflect higher coal inventory stockpile balances. Prepaid expenses also increased, with a corresponding decrease in trade and other payables, as coal sales royalty expenses were recognized in later periods than previously reported.

Effects of the restatements on previously filed statements of cash flows

The restatements do not result in a change in cash at the end of any period. The statement of cash flows as reported does not change except for the reclassification of various items within operating activities. Financing activities, investing activities, change in cash, cash at beginning of period and cash at the end of period remain unchanged from previously filed financial statements.

Timeline going forward

The Company is working expeditiously with PwC and Deloitte in order to file the full set of audited restated consolidated financial statements and MD&A as at and for the years ended December 31, 2012 and 2011 comprising the Restated Financials. The Restated Financials are expected to be available on or before December 13, 2013.

Notwithstanding the foregoing, if required, as a result of a delay in filing the Restated Financials the Company will be applying to the British Columbia Securities Commission (the "Principal Regulator") pursuant to Part 4 of National Policy 12-203 ("NP 12-203") for a Management Cease Trade Order ("MCTO") in connection with the Restated Financials. If issued, the MCTO will prohibit trading in securities of the Company, whether direct or indirect, by the Company's CEO, CFO and board of directors or other persons or companies who had, or may have had, access directly or indirectly to any material fact or material change with respect to the Company that has not been generally disclosed. There can be no assurance that an MCTO will be issued.

If an MCTO is not issued, the Principal Regulator can impose a general cease trade order ceasing all trading in securities of the Company for such period of time as the Principal Regulator may deem appropriate.

While the Company intends to file the Restated Financials as soon as possible, any delay in filing the Restated Financials could ultimately result in an event of default of the Company's convertible debenture held by China Investment Corporation ("CIC"), which if not cured within applicable cure periods in accordance with the terms of such debenture, may result in the principal amount owing and all accrued and unpaid interest becoming immediately due and payable upon notice to the Company by CIC.

REVIEW OF QUARTERLY OPERATING RESULTS
The Company's operating results for the previous eight quarters are summarized in the table below:
2013 2012 (i) 2011 (i)
QUARTER ENDED 30-Sep 30-Jun
(i)
31-Mar
(i)
31-Dec 30-Sep 30-Jun 31-Mar 31-Dec
Raw coal production (millions of tonnes) 1.13 0.17 0.02 - - 0.27 1.07 1.34
Sales volumes and prices (ii)
SouthGobi premium semi-soft coking coal
Coal sales (millions of tonnes) 0.04 0.21 0.08 0.03 - 0.42 0.33 0.26
Average realized selling price (per tonne) (iii) $ 37.50 $ 32.46 $ 45.81 $ 47.86 $ - $ 67.46 $ 67.58 $ 66.91
SouthGobi standard semi-soft coking coal
Coal sales (millions of tonnes) 0.87 - 0.01 0.36 0.10 0.26
Average realized selling price (per tonne) (iii) $ 21.67 $ $ - $ 49.91 $ 49.74 $ 49.43 $ 48.48
SouthGobi thermal coal
Coal sales (millions of tonnes) 0.03 0.11 0.20 - 0.31 0.28 0.15 0.37
Average realized selling price (per tonne) (iii) $ 13.07 $ 13.98 $ 13.67 $ - $ 15.87 $ 34.10 $ 30.29 $ 29.92
Total
Coal sales (millions of tonnes) 0.94 0.32 0.28 0.03 0.32 1.06 0.58 0.89
Average realized selling price (per tonne) (iii) $ 22.05 $ 26.26 $ 22.75 $ 47.86 $ 16.98 $ 52.86 $ 54.60 $ 46.18
Costs
Direct cash costs of product sold excluding idled mine asset costs (per tonne) (iv) $ 9.41 $ 11.49 $ 10.22 $ 11.67 $ 9.56 $ 16.52 $ 22.09 $ 24.70
Total cash costs of product sold excluding idled mine asset costs (per tonne) (iv) $ 11.61 $ 18.63 $ 11.68 $ 16.75 $ 13.31 $ 17.85 $ 28.25 $ 25.92
Waste movement and stripping ratio
Production waste material moved (millions of bank cubic meters) 1.57 2.71 0.40 - - 1.16 2.20 4.58
Strip ratio (bank cubic meters of waste material per tonne of coalproduced)
1.39

15.55

26.21

-

-

4.31

2.07

3.42
Other operating capacity statistics
Capacity of key mining fleet
Number of mining shovels/excavators available at period end 5 5 5 5 4 4 3 3
Total combined stated mining shovel/excavator capacity at period end (cubic meters)
113

113

113

113

98

98

64

64
Number of haul trucks available at period end 24 24 31 27 27 27 27 25
Total combined stated haul truck capacity at period end (tonnes) 4,978 4,978 5,615 4,743 4,743 4,743 4,743 4,561
Employees and safety
Employees at period end 463 449 444 465 644 693 720 720
Lost time injury frequency rate (v) - - - 0.1 0.2 0.2 0.3 0.2
  1. Restated, see Restated Financial Statements section
  2. The sales volumes previously disclosed as raw semi-soft coking coal, raw medium-ash coal and raw higher-ash coal have now been reclassified as SouthGobi premium semi-soft coking coal, SouthGobi standard semi-soft coking coal and SouthGobi thermal coal, respectively, to reflect the Company's new product strategy.
  3. Average realized selling price excludes royalties and selling fees
  4. A non-International Financial Reporting Standards ("IFRS") financial measure, see Non-IFRS Financial Measures section
  5. Per 200,000 man hours

On March 22, 2013, SouthGobi announced the resumption of operations at its Ovoot Tolgoi Mine. In the second quarter of 2013, the Company primarily moved waste material (overburden) and exposed coal in the pit. Sales volumes increased in the third quarter of 2013 and, as planned, raw coal production increased to meet contracted sales volumes.

The Company recognized revenue of $15.7 million in the third quarter of 2013 compared to $6.1 million in the second quarter of 2013 and $3.8 million in the third quarter of 2012. China's economic growth has recently shown signs of gradual improvement with increasing steel production and higher levels of manufacturing activity. Coal prices for both coking and thermal coal stabilized at near four year lows within the third quarter and have moved slightly higher in recent weeks.

For the three months ended September 30, 2013

For the three months ended September 30, 2013, the Company produced 1.13 million tonnes of raw coal with a strip ratio of 1.39. The lower strip ratio in the third quarter of 2013 is primarily the result of the waste material (overburden) activities undertaken in the second quarter of 2013.

For the three months ended September 30, 2013, SouthGobi recorded revenue of $15.7 million compared to $3.8 million for the three months ended September 30, 2012. Revenue increased primarily due to increased sales volumes and a higher average realized selling price. The Company sold 0.94 million tonnes of coal at an average realized selling price of $22.05 per tonne in the third quarter of 2013 compared to sales of 0.32 million tonnes of coal at an average realized selling price of $16.98 per tonne in the third quarter of 2012. Sales in the third quarter of 2013 primarily consisted of Standard semi-soft coking coal mined in 2013, whereas sales in the third quarter of 2012 primarily consisted of thermal coal from the Company's stockpiles to satisfy existing sales contracts.

Direct cash costs of product sold excluding idled mine asset costs (a non-IFRS financial measure, see Non- IFRS Measures section) were $9.42 per tonne for the three months ended September 30, 2013 compared to $9.56per tonne for the three months ended September 30, 2012.

Mine administration cash costs of product sold excluding idled mine asset costs (a non-IFRS financial measure, see Non-IFRS Measures section) decreased to $2.20 per tonne for the three months ended September 30, 2013 from $3.75 per tonne for the three months ended September 30, 2012 primarily due to mine administration costs being allocated over higher sales volumes.

For the nine months ended September 30, 2013

For the nine months ended September 30, 2013, the Company produced 1.32 million tonnes of raw coal with a strip ratio of 3.53 compared to production of 1.33 million tonnes of raw coal with a strip ratio of 2.52 for the nine months ended September 30, 2012.

For the nine months ended September 30, 2013, SouthGobi recorded revenue of $26.2 million compared to $76.9 million for the nine months ended September 30, 2012. The Company sold 1.54 million tonnes of coal at an average realized selling price of $23.08 per tonne for the nine months ended September 30, 2013 compared to sales of 1.96 million tonnes of coal at an average realized selling price of $47.48 per tonne for the nine months ended September 30, 2012. Revenue decreased primarily due to decreased sales volumes and a lower average realized selling price.

Direct cash costs of product sold excluding idled mine asset costs (a non-IFRS financial measure, see Non- IFRS Measures section) were $9.96 per tonne for the nine months ended September 30, 2013 compared to $17.01 per tonne for the nine months ended September 30, 2012.

Mine administration cash costs of product sold excluding idled mine asset costs (a non-IFRS financial measure, see Non-IFRS Measures section) increased to $3.19 per tonne for the nine months ended September 30, 2013 from $3.15 per tonne for the nine months ended September 30, 2012.

REVIEW OF QUARTERLY FINANCIAL RESULTS

The Company's financial results for the previous eight quarters are summarized in the table below:

($ in thousands, except for per share information, unless otherwise indicated)

2013 2012 (i) 2011 (i)
QUARTER ENDED 30-Sep 30-Jun (i) 31-Mar (i) 31-Dec 30-Sep 30-Jun 31-Mar 31-Dec
Revenue $ 15,652 $ 6,129 $ 4,398 $ 1,186 $ 3,804 $ 46,575 $ 26,497 $ 33,626
Gross profit/(loss) excluding idled mine asset costs (13,323 ) (5,593 ) (494 ) (12,601 ) (8,719 ) 20,277 4,657 4,639
Gross profit/(loss) margin excluding idled mine asset costs -85 % -91 % -11 % -1063 % -229 % 44 % 18 % 14 %
Gross profit/(loss) including idled mine asset costs (17,834 ) (11,348 ) (16,908 ) (31,043 ) (27,650 ) 4,690 4,657 4,639
Other operating expenses (1,003 ) (14,925 ) (431 ) (19,282 ) (18,315 ) (1,344 ) (2,702 ) (24,426 )
Administration expenses (4,204 ) (4,024 ) (3,733 ) (6,080 ) (5,178 ) (7,497 ) (5,882 ) (8,612 )
Evaluation and exploration expenses (186 ) (221 ) (273 ) (508 ) (958 ) (2,099 ) (5,033 ) (14,513 )
Loss from operations (23,227 ) (30,518 ) (21,344 ) (56,913 ) (52,101 ) (6,250 ) (8,961 ) (42,912 )
Net income/(loss) (41,928 ) (33,140 ) (23,666 ) (56,564 ) (46,413 ) 15,955 (10,480 ) (27,732 )
Basic income/(loss) per share (0.23 ) (0.18 ) (0.13 ) (0.31 ) (0.26 ) 0.09 (0.06 ) (0.16 )
Diluted income/(loss) per share (0.23 ) (0.18 ) (0.13 ) (0.31 ) (0.26 ) (0.04 ) (0.06 ) (0.18 )
2013 2012 (i) 2011 (i)
QUARTER ENDED 30-Sep 30-Jun (i) 31-Mar (i) 31-Dec 30-Sep 30-Jun 31-Mar 31-Dec
Net income/(loss) $ (41,928 ) $ (33,140 ) $ (23,666 ) $ (56,564 ) $ (46,413 ) $ 15,955 $ (10,480 ) $ (27,732 )
Income/(loss) adjustments, net of tax
Idled mine asset costs 3,383 4,316 12,312 14,474 13,572 10,966 - -
Share-based compensation expense/(recovery) 5 (21 ) 154 (1,144 ) 1,490 4,383 3,799 4,050
Net impairment loss on assets 10,531 18,146 581 25,375 23,258 - - 23,818
Unrealized foreign exchange losses/(gains) 564 60 10 906 335 (355 ) (794 ) (184 )
Unrealized loss/(gain) on embedded derivatives in CIC debenture (113 ) (3,343 ) (748 ) (662 ) (12,856 ) (26,770 ) 776 (10,790 )
Realized loss/(gain) on disposal of FVTPL investments (ii) 39 43 - 15 - 46 (85 ) -
Unrealized loss/(gain) on FVTPL investments 128 473 (5 ) 664 1,197 2,282 339 155
Adjusted net income/(loss) (iii) (27,391 ) (13,467 ) 11,363 (16,935 ) (19,418 ) 6,507 (6,446 ) (10,683 )
  1. Restated, see Restated Financial Statements section
  2. FVTPL is defined as "fair value through profit or loss"
  3. A non-IFRS financial measure, see Non-IFRS Financial Measures section

For the three months ended September 30, 2013

The Company recorded a net loss of $41.9 million in the third quarter of 2013 compared to a net loss of $33.1 million in the second quarter of 2013 and a net loss of $46.4 million in the third quarter of 2012.

Gross Profit/(Loss):

The Company recorded a gross loss of $17.8 million in the third quarter of 2013, $11.3 million in the second quarter of 2013 and $27.6 million in the third quarter of 2012. SouthGobi's gross loss in these periods was negatively impacted by idled mine asset costs. The Company recorded a gross loss excluding idled mine asset costs of $13.3 million in the third quarter of 2013, $5.6 million in the second quarter of 2013 and $8.7 million in the third quarter of 2012. Gross profit will vary by quarter depending on sales volumes, sales prices and unit costs.

The Company recognized revenue of $15.7 million in the third quarter of 2013 compared to $6.1 million in the second quarter of 2013 and $3.8 million in the third quarter of 2012.

SouthGobi's effective royalty rate in the third quarter of 2013 was 23%. Effective October 1, 2012 (for a six month trial period) the royalty was determined using the contracted sales price per tonne, not the reference price per tonne published by the Government of Mongolia. Despite SouthGobi, together with other Mongolian mining companies, engaging the appropriate Government of Mongolia authorities, the six month trial period was not extended and effective April 1, 2013, the royalty on all coal sales exported out of Mongolia was once again based on a set reference price per tonne published monthly by the Government of Mongolia. Although discussions have not been successful to date, SouthGobi, together with other Mongolian mining companies, continue the dialog with the appropriate Government of Mongolia authorities with the goal of moving to a more equitable process for setting reference prices.

Cost of sales was $33.5 million in the third quarter of 2013 compared to $17.5 million in the second quarter of 2013 and $31.5 million in the third quarter of 2012. Cost of sales comprise the direct cash costs of product sold, mine administration cash costs of product sold, idled mine asset costs, inventory impairments, equipment depreciation, depletion of mineral properties and share-based compensation expense. Of the $33.5 million, $17.5 million and $31.5 million recorded as cost of sales in the third quarter of 2013, the second quarter of 2013 and the third quarter of 2012, $29.0 million, $11.7 million and $12.5 million related to mine operations and $4.5 million, $5.8 million and $18.9 million related to idled mine asset costs, respectively. Cost of sales from mine operations in the third quarter of 2013, the second quarter of 2013 and the third quarter of 2012 included coal stockpile impairments of $10.8 million, $3.9 million and $7.2 million, respectively, to reduce the carrying value of the coal stockpiles to their estimated net realizable values. Cost of sales from mine operations, exclusive of impairments, increased in the third quarter of 2013 compared to the third quarter of 2012 primarily due to higher sales volumes.

Cost of sales from idled mine asset costs decreased in the third quarter of 2013 compared to the third quarter of 2012 due to the recommencement of mining operations at the Ovoot Tolgoi Mine on March 22, 2013. However, the 2013 production plan does not fully utilize the Company's existing mining fleet, therefore, idled mine asset costs will continue to be incurred moving forward.

Other Operating Expenses:

Other operating expenses in the third quarter of 2013 were $1.0 million compared to $14.9 million in the second quarter of 2013 and $18.3 million in the third quarter of 2012. In the third quarter of 2013, other operating expenses primarily related to a $0.6 million foreign exchange loss. In the second quarter of 2013, other operating expenses primarily related to an impairment loss of $3.1 million related to the Company's investment in Aspire, an impairment loss of $6.9 million related to surplus materials and supplies and $4.3 million of impairment charges to reduce various items of property, plant and equipment to their recoverable amounts. In the third quarter of 2012, other operating expenses primarily related to a $16.1 million an impairment loss related to the Company's investment in Aspire.

Administration Expenses:

Administration expenses in the third quarter of 2013 were $4.2 million compared to $4.0 million in the second quarter of 2013 and $5.2 million in the third quarter of 2012. The increase in administration expenses in the third quarter of 2013 compared to the second quarter of 2013 primarily related to increased legal and professional fees due to the ongoing governmental, regulatory and internal investigations and slightly higher salaries and benefits expenses. The decrease in administration expenses in the third quarter of 2013 compared to the third quarter of 2012 primarily related to decreased salaries and benefits and share-based compensation expenses.

Evaluation and Exploration Expenses:

Exploration expenses in the third quarter of 2013 were $0.2 million compared to $0.2 million in the second quarter of 2013 and $1.0 million in the third quarter of 2012. Exploration expenses will vary from quarter to quarter depending on the number of projects and the related seasonality of the exploration programs. The Company continues to minimize exploration expenditures to preserve the Company's financial resources.

Finance Income & Finance Costs:

Finance costs in the third quarter of 2013 were $5.4 million compared to $5.2 million in the third quarter of 2012. Finance costs in the third quarter of 2013 primarily consisted of $5.2 million of interest expense on the CIC convertible debenture; whereas, finance costs in the third quarter of 2012 consisted of $3.9 million of interest expense on the CIC convertible debenture and a $1.2 million unrealized loss on FVTPL investments.

Finance income in the third quarter of 2013 was $0.1 million compared to $12.9 million in the third quarter of 2012. In the third quarter of 2013 and 2012, finance income primarily consisted of a $0.1 million and $12.9 million unrealized gain on the fair value change of the embedded derivatives in the CIC convertible debenture, respectively. The fair value of the embedded derivatives in the CIC convertible debenture is driven by many factors including: the Company's share price, foreign exchange rates and share price volatility.

Taxes:

In the third quarter of 2013, the Company recorded $nil current income tax expense related to its Mongolian operations compared to a current income tax recovery of $0.9 million in the third quarter of 2012. The Company has recorded a deferred income tax expense related to deductible temporary differences and loss carry-forwards of $13.4 million in the third quarter of 2013 compared to a deferred income tax expense related to deductible temporary differences of $3.2 million in the third quarter of 2012.

For the nine months ended September 30, 2013

The Company recorded a net loss of $98.7 million for the nine months ended September 30, 2013 compared to net loss of $40.9 million for the nine months ended September 30, 2012.

Gross Profit/(Loss):

The Company recorded a gross loss of $46.1 million for the nine months ended September 30, 2013 compared to a gross loss of $18.3 million for the nine months ended September 30, 2012. SouthGobi's gross loss in these periods was negatively impacted by idled mine asset costs. The Company recorded a gross loss excluding idled mine asset costs of $19.4 million for the nine months ended September 30, 2013 compared to a gross profit excluding idled mine asset costs of $16.2 million for the nine months ended September 30, 2012. Gross profit will vary by quarter depending on sales volumes, sales prices and unit costs.

For the nine months ended September 30, 2013, SouthGobi recorded revenue of $26.2 million compared to $76.9 million for the nine months ended September 30, 2012. The Company sold 1.54 million tonnes of coal at an average realized selling price of $23.08 per tonne for the nine months ended September 30, 2013 compared to sales of 1.96 million tonnes of coal at an average realized selling price of $47.48 per tonne for the nine months ended September 30, 2012. Revenue decreased primarily due to decreased sales volumes and a lower average realized selling price.

Revenues are presented net of royalties and selling fees. Based on the reference prices for the nine months ended September 30, 2013, the Company was subject to an average 7% royalty based on a weighted average reference price of $69.16 per tonne. The Company's effective royalty rate for the nine months ended September 30, 2013, based on the Company's average realized selling price of $23.08 per tonne, was 24% or $5.62 per tonne compared to $7.21 per tonne for the nine months ended September 30, 2012.

Cost of sales was $72.3 million for the nine months ended September 30, 2013 compared to $95.2 million for the nine months ended September 30, 2012. Cost of sales comprise the direct cash costs of product sold, mine administration cash costs of product sold, idled mine asset costs, inventory impairments, equipment depreciation, depletion of mineral properties and share-based compensation expense. Of the $72.3 million (2012: $95.2 million) recorded as cost of sales for the nine months ended September 30, 2013, $45.6 million (2012: $60.7 million) related to mine operations and $26.7 million (2012: $34.5 million) related to idled mine asset costs. In the nine months ended September 30, 2013, cost of sales included coal stockpile impairments of $15.8 million (2012: $7.2 million) to reduce the carrying value of the Company's coal stockpile to its net realizable value. Cost of sales related to mine operations, exclusive of impairments, decreased for the nine months ended September 30, 2013 compared to the nine months ended September 30, 2012 primarily due to lower sales volumes. Cost of sales related to idled mine asset costs primarily consist of period costs, which are expensed as incurred and primarily include depreciation expense. The depreciation expense relates to the Company's idled plant and equipment.

Other Operating Expenses:

Other operating expenses for the nine months ended September 30, 2013 were $16.4 million compared to $22.4 million for the nine months ended September 30, 2012. For the nine months ended September 30, 2013, other operating expenses primarily related to the following:

  • Available-for-sale financial asset - the Company recognized an impairment loss of $3.1 million related to its investment in Aspire.
  • Materials and supplies inventory - the Company recognized an impairment loss of $6.9 million related to surplus materials and supplies inventories not expected to be utilized with the Company's existing mining fleet.
  • Property, plant and equipment - the Company recorded $4.3 million of impairment charges to reduce various items of property, plant and equipment to their recoverable amounts. The impairments relate to surplus capital spares not expected to be utilized with the
    Company's existing mining fleet.

For the nine months ended September 30, 2012, other operating expenses primarily related to a $16.1 million an impairment loss related to its investment in Aspire.

Administration Expenses:

Administration expenses for the nine months ended September 30, 2013 were $12.0 million compared to $18.6 million for the nine months ended September 30, 2012. The decrease in administration expenses primarily relates to decreased corporate administration, salaries and benefits and share-based compensation expenses, partially offset by increased legal and professional fees due to the ongoing governmental, regulatory and internal investigations.

Evaluation and Exploration Expenses:

Exploration expenses for the nine months ended September 30, 2013 were $0.7 million compared to $8.1 million for the nine months ended September 30, 2012. Exploration expenses will vary from period to period depending on the number of projects and the related seasonality of the exploration programs. The Company continues to minimize exploration expenditures to preserve the Company's financial resources.

Finance Income & Finance Costs:

Finance costs for the nine months ended September 30, 2013 were $16.0 million compared to $9.8 million for the nine months ended September 30, 2012. Finance costs for the nine months ended September 30, 2013 primarily consisted of $15.2 million of interest expense on the CIC convertible debenture; whereas, finance costs for the nine months ended September 30, 2012 consisted of $5.7 million interest expense on the CIC convertible debenture and $3.8 million unrealized loss on FVTPL investments.

Finance income for the nine months ended September 30, 2013 was $4.3 million compared to $39.2 million for the nine months ended September 30, 2012. For the nine months ended September 30, 2013 and September 30, 2012, finance income primarily consisted of a $4.2 million and $38.9 million unrealized gain on the fair value change of the embedded derivatives in the CIC convertible debenture, respectively. The fair value of the embedded derivatives in the CIC convertible debenture is driven by many factors including: the Company's share price, foreign exchange rates and share price volatility.

Taxes:

For the nine months ended September 30, 2013, the Company recorded a $1 thousand current income tax expense related to its Mongolian operations compared to a current income tax expense of $0.3 million for the nine months ended September 30, 2012. The Company has recorded a deferred income tax expense related to deductible temporary differences and loss carry-forwards of $11.9 million for the nine months ended September 30, 2013 compared to a deferred income tax expense related to deductible temporary differences of $3.2 million for the nine months ended September 30, 2012.

FINANCIAL POSITION AND LIQUIDITY

Cash Position and Liquidity

As at September 30, 2013, the Company had cash of $16.1 million compared to cash of $19.7 million and short term money market investments of $15.0 million for a total of $34.7 million in cash and money market investments as at December 31, 2012. Working capital (excess current assets over current liabilities) was $67.8 million as at September 30, 2013 compared to $120.4 million as at December 31, 2012.

The Company expects to have sufficient liquidity and capital resources to meet its ongoing obligations and future contractual commitments, including interest payments due on the CIC convertible debenture, for at least twelve months from the end of the September 30, 2013 reporting period. The Company expects its liquidity to remain sufficient based on existing capital resources and estimated cash flows from mining operations. Estimated cash flows from mining operations are subject to a number of external market factors including supply and demand and pricing in the coal industry. The Company continues to minimize uncommitted capital expenditures and exploration expenditures in order to preserve the Company's financial resources.

CIC Convertible Debenture

During the second quarter of 2013, the Company and the CIC mutually agreed upon a three month deferral of the convertible debenture semi-annual $7.9 million cash interest payment due on May 19, 2013. The Company and the CIC subsequently agreed to an additional deferral of one month, and the cash interest payment became due on September 19, 2013.

On September 19, 2013, the Company settled the $7.9 million amount, plus additional accrued interest of $0.2 million, as follows:

  • The Company issued 1.8 million shares to the CIC for the November 19, 2012 1.6% share interest payment, where the number of common shares was based on the 50-day volume-weighted average share price on November 19, 2012 of $2.16Cdn;
  • In consideration of the common share issue, the CIC applied the $4.0 million in cash already paid by the Company in the first quarter of 2013 for the November 19, 2012 share interest payment against the amount due on September 19, 2013; and
  • The Company paid the remaining $4.1 million balance in cash.

The mutually agreed upon deferral of the cash interest payment, and subsequent settlement in cash and common shares of the Company, did not trigger an event of default and all other terms of the convertible debenture remain unchanged.

Mongolian IAAC Investigation

In the first quarter of 2013, the Company was subject to orders imposed by the IAAC which placed restrictions on certain of the Company's Mongolian assets. The orders were imposed on the Company in connection with the IAAC's investigation of the Company. The SIA also continues to enforce the orders on the Company.

The orders placing restrictions on certain of the Company's Mongolian assets could ultimately result in an event of default of the Company's CIC convertible debenture. This matter remains under review by the Company and its advisers but to date, it is the Company's view that this would not result in an event of default as defined under the CIC convertible debenture terms. However, in the event that the orders result in an event of default of the Company's CIC convertible debenture that remains uncured for ten business days, the principal amount owing and all accrued and unpaid interest will become immediately due and payable upon notice to the Company by CIC.

The orders relate to certain items of operating equipment and infrastructure and the Company's Mongolian bank accounts. The orders related to the operating equipment and infrastructure restricts the sale of these items; however, the orders do not restrict the use of these items in the Company's mining activities. The orders related to the Company's Mongolian bank accounts restrict the use of in-country funds. While the orders restrict the use of in-country funds pending outcome of the investigation, they are not expected to have any material impact on the Company's activities.

Impairment Analysis

Unchanged from the assessment made as at June 30, 2013, the Company determined that an indicator of impairment existed for its Ovoot Tolgoi Mine cash generating unit as at September 30, 2013. The impairment indicator was the continued weakness in the Company's share price during the third quarter of 2013 and the fact that the market capitalization of the Company, as at September 30, 2013, was less than the carrying value of its net assets.

Therefore, the Company conducted an impairment test whereby the carrying value of the Company's Ovoot Tolgoi Mine cash generating unit was compared to its "value-in-use" using a discounted future cash flow valuation model. The Company's Ovoot Tolgoi Mine cash generating unit carrying value was $517.5 million as at September 30, 2013.

Key estimates and assumptions incorporated in the valuation model included the following:

  • Inland Chinese coking coal market coal prices;
  • Life-of-mine coal production and operating costs; and
  • A discount rate based on an analysis of market, country and company specific factors.

The impairment analysis did not result in the identification of an impairment loss and no charge was required as at September 30, 2013. The Company believes that the estimates and assumptions incorporated in the impairment analysis are reasonable; however, the estimates and assumptions are subject to significant uncertainties and judgments.

PROCESSING INFRASTRUCTURE

On February 13, 2012, the Company announced the successful commissioning of the dry coal handling facility ("DCHF") at the Ovoot Tolgoi Mine. The DCHF has capacity to process nine million tonnes of run-of- mine ("ROM") coal per year. The DCHF includes a 300-tonne-capacity dump hopper, which receives ROM coal from the Ovoot Tolgoi Mine and feeds a coal rotary breaker that sizes coal to a maximum of 50mm and rejects oversize ash. The objective of the DCHF is to reduce screening costs and improve yield recoveries.

The Company has received all permits to operate the DCHF. The 2013 mine plan considered limited utilization of the DCHF at the latter end of 2013, however there is now no plan to use the DCHF in 2013 due to higher quality coals being mined that likely will not require processing through the DCHF. The Company has delayed construction to upgrade the DCHF to include dry air separation modules and covered load out conveyors with fan stackers to take processed coals to stockpiles and enable more efficient blending. Uncommitted capital expenditures have been minimized to preserve the Company's financial resources.

A review of the DCHF, including the upgrade to the DCHF, and its future contribution to the Company's product strategy is ongoing. The total construction capital investment to date is $85.0 million. An impairment loss on the DCHF may be required depending on the outcome of the review.

To further enhance product value, in 2011, the Company entered into an agreement with Ejinaqi Jinda Coal Industry Co. Ltd ("Ejin Jinda"), a subsidiary of China Mongolia Coal Co. Ltd to toll-wash coals from the Ovoot Tolgoi Mine. The agreement has a duration of five years from commencement and provides for an annual wet washing capacity of approximately 3.5 million tonnes of input coal. Pursuant to the terms of the agreement, the Company prepaid $33.6 million of toll washing fees.

Ejin Jinda's wet washing facility is located approximately 10km inside China from the Shivee Khuren Border Crossing, approximately 50km from the Ovoot Tolgoi Mine. Primarily, medium and higher-ash coals with only basic processing through Ovoot Tolgoi's on-site DCHF will be transported from the Ovoot Tolgoi Mine to Ejin Jinda's wet washing facility under a separate transportation agreement. Ejin Jinda will charge the Company a single toll washing fee which will cover their expenses, capital recovery and profit.

Based on preliminary studies, the Company expected coals processed through Ovoot Tolgoi's on-site DCHF to then be washed to produce coals with ash in the range of 8% to 11% at a yield of 85% to 90% that generally meet semi-soft coking coal specifications. However, the Company is currently reassessing these preliminary studies and is currently cooperating with Ejin Jinda in studying the utilization of the wet washing facility.

Construction of Ejin Jinda's wet washing facility is now complete and it has been connected to utility supply. As at September 30, 2013, the delay in commencing wet washing coals has had no impact on the carrying value of the Company's prepaid toll washing fees of $33.6 million.

TRANSPORTATION INFRASTRUCTURE

On August 2, 2011, the State Property Committee of Mongolia awarded the tender to construct a paved highway from the Ovoot Tolgoi Complex to the Shivee Khuren Border Crossing to consortium partners NTB LLC and SouthGobi Sands LLC (together referred to as "RDCC"). SouthGobi Sands LLC holds a 40% interest in RDCC. On October 26, 2011, RDCC signed a concession agreement with the State Property Committee of Mongolia. RDCC has the right to conclude a 17 year build, operate and transfer agreement under the Mongolian Law on Concessions. Construction on the paved highway re-commenced in the second quarter of 2013 and remains ongoing. During the third quarter of 2013, a sub-contractor employee was fatally injured by a vehicle at the construction site. Following the fatality, additional safety training was carried out by RDCC and it sub-contractors in order to reinforce compliance with safety protocols.

Construction of the paved highway is expected to be substantially complete by the end of 2013. The remaining construction work and commissioning of the paved highway is expected to be completed by the end of the first half of 2014.

The paved highway will have an intended carrying capacity upon completion in excess of 20 million tonnes of coal per year.

A north-south railway line currently connects Ceke with Jiayuguan City in Gansu Province and with the interior of China. Another east-west railway line connects Ceke to Linhe, an industrial city in eastern Inner Mongolia. This line has a stated initial transportation capacity of approximately 15 million tonnes per year, with a planned increase to 25 million tonnes per year.

REGULATORY ISSUES

Governmental, Regulatory and Internal Investigations

The Company is subject to investigations by Mongolia's Independent Authority against Corruption ("the IAAC") and the Mongolian State Investigation Office (the "SIA") regarding allegations against SouthGobi and some of its former employees. The IAAC investigation concerns possible breaches of Mongolia's anti-corruption laws, while the SIA investigation concerns possible breaches of Mongolia's money laundering and taxation laws.

While the IAAC investigation into allegations of possible breaches of Mongolian anti-corruption laws has been suspended, the Company has not received notice that the IAAC investigation is complete. To date, four former SouthGobi employees have been named as suspects in the IAAC investigation and are subject to a continuing travel ban imposed by the IAAC. The IAAC has not formally accused any current or former SouthGobi employees of breach of Mongolia's anti-corruption laws.

The SIA has not accused any current or former SouthGobi employees of money laundering. However, three former SouthGobi employees have been informed that they have each been designated as "accused" in connection with the allegations of tax evasion, and are subject to a travel ban. The Company has been designated as a "civil defendant" in connection with the tax evasion allegations, and it may potentially be held financially liable for the criminal misconduct of its former employees under Mongolian Law. The Company has shown full cooperation with the investigation by providing relevant information. The relevant authorities are yet to conclude on this information. Accordingly, the likelihood or consequences for the Company of a judgment against its former employees is unclear at this time.

The SIA also continues to enforce administrative restrictions, which were initially imposed by the IAAC investigation, on certain of the Company's Mongolian assets, including local bank accounts, in connection with its continuing investigation of these allegations. While the orders restrict the use of in-country funds pending the outcome of the investigation, they are not expected to have a material impact on the Company's activities in the short term, although they could create potential difficulties for the Company in the medium to long term. SouthGobi will continue to take all appropriate steps to protect its ability to conduct its business activities in the ordinary course.

Certain of the allegations raised by the SIA and IAAC against SouthGobi (concerning allegations of bribery, money laundering and tax evasion) have been the subject of public statements and Mongolian media reports, both prior to and in connection with the recent trial, conviction, and unsuccessful appeal of the former Chairman and the former director of the Geology, Mining and Cadastral Department of the MRAM, and others. SouthGobi was not a party to this case. The Company understands that the court process is now concluded following the decision of the Supreme Court of Mongolia to uphold the convictions. As far as the Company is aware from publicly available information, the court concluded that the transfer of one of SouthGobi Sands LLC's licenses (5261X) involved government officials and violated applicable Mongolian anti-corruption laws. License 5261X was transferred to an entity nominated by MRAM, after the license had been reinstated by MRAM for this purpose, in exchange for MRAM renewing certain SouthGobi Sands LLC licenses (5259X, 5277X, 12388X and 9442X) that were due to expire. As a result the court invalidated the transfer of 5261X and cancelled the other licenses. At that time only one of the licenses at issue (9442X) was held by SouthGobi Sands LLC, with the other licenses having earlier been allowed to lapse when they were determined not to be prospective. The Company considers that it was entitled under applicable law to the renewal of the relevant licenses and that it received reasonable payment for the transfer of license 5261X.

Through its Audit Committee (comprised solely of independent directors), SouthGobi is conducting an internal investigation into possible breaches of law, internal corporate policies and codes of conduct arising from the allegations which have been raised. The Audit Committee has the assistance of independent legal counsel in connection with its investigation.

The Chair of the Audit Committee is also participating in a tripartite committee, comprised of the Audit Committee Chairs of the Company and Turquoise Hill and a representative of Rio Tinto, which is focused on the investigation of a number of those allegations, including possible violations of anti-corruption laws. Independent legal counsel and forensic accountants have been engaged by this committee to assist it with its investigation. The tripartite committee substantially completed the investigative phase of its activities during the third quarter of 2013. The Company continues to cooperate with the IAAC, SIA and with Canadian and United States government and regulatory authorities that are monitoring the Mongolian investigations. It is possible that these authorities may subsequently conduct their own review or investigation or seek further information from the Company and until all such reviews or investigations are complete the Audit Committee's and the tripartite committee's work may be considered ongoing.

The investigations referred to above could result in one or more Mongolian, Canadian, United States or other governmental or regulatory agencies taking civil or criminal action against the Company, its affiliates or its current or former employees. The likelihood or consequences of such an outcome are unclear at this time but could include financial or other penalties, which could be material, and which could have a material adverse effect on the Company. Refer to the Company's MD&A for the year ended December 31, 2012, which is available at www.sedar.com, Section 13, Risk Factors, "the Company is subject to continuing governmental, regulatory and internal investigations, the outcome of which is unclear at this time but could have a material adverse effect on the Company."

The Company, through its Board of Directors and new management, has taken a number of steps to address issues noted during the investigations and to focus ongoing compliance by employees with all applicable laws, internal corporate policies and codes of conduct, and with the Company's disclosure controls and procedures and internal controls over financial reporting.

WITHDRAWAL OF NOTICE OF INVESTMENT DISPUTE

On July 11, 2012, SouthGobi announced that SGQ Coal Investment Pte. Ltd., a wholly-owned subsidiary of SouthGobi Resources Ltd. that owns 100% of the Company's Mongolian operating subsidiary SouthGobi Sands LLC, filed a Notice of Investment Dispute on the Government of Mongolia pursuant to the Bilateral Investment Treaty between Singapore and Mongolia. The Company filed the Notice of Investment Dispute following a determination by management that they had exhausted all other possible means to resolve an ongoing investment dispute between SouthGobi Sands LLC and the Mongolian authorities.

The Notice of Investment Dispute principally concerned the failure by MRAM to execute the PMAs associated with certain exploration licenses of the Company pursuant to which valid PMA applications had been lodged in 2011. The areas covered by the valid PMA applications included the Zag Suuj Deposit and certain areas associated with the Soumber Deposit outside the existing mining license.

On August 22, 2013, SouthGobi announced that it had withdrawn the Notice of Investment Dispute in recognition of the fact that the dispute was resolved following the grant of three PMAs on August 14, 2013 relating to the Zag Suuj Deposit and certain areas associated with the Soumber Deposit, and the earlier grant of a PMA on January 18, 2013 pertaining to the Soumber Deposit. Each of the PMAs was granted and executed by MRAM in accordance with Mongolian law.

INTERNAL CONTROLS OVER FINANCIAL REPORTING

In conjunction with the matter described above, the Company's management has identified a material weakness in the Company's internal controls over financial reporting as of December 31, 2012, and at September 30, 2013, resulting in the failure to properly account for revenues in complex transactions. Specifically, the Company did not ensure that all aspects of sales arrangements were considered in the determination of the appropriate accounting for contracts in which the specified location of transfer of title in the contracts is the customer's stockpile in a stockyard located within the SouthGobi Ovoot Tolgoi mining license area. As a result of the material weakness, the Company's Chief Executive Officer and Chief Financial Officer have concluded that internal controls over financial reporting were not effective as of December 31, 2012, and at September 30, 2013.

Management has been enhancing controls by developing a more thorough review process in evaluating complex sales arrangements in each reporting period. The material weakness cannot be considered remediated until the applicable remedial controls operate for a sufficient period of time and management has concluded, through testing, that these controls are operating. Management expects to remediate this material weakness by December 31, 2013.

OUTLOOK

China's economic growth has recently shown signs of gradual improvement with increasing steel production and higher levels of manufacturing activity. Coal prices for both coking and thermal coal stabilized at near four year lows within the third quarter and have moved slightly higher in recent weeks. Mongolian coal exports to China increased by 6.1% during the third quarter compared to the second quarter with 11.1 million tonnes of coal exported in the year to date. Current market sentiment still remains uncertain and prices are not expected to rise dramatically for the remainder of the year and in to the first quarter of 2014. The longer term outlook is more positive; but remains dependent on the Chinese economy.

The Company resumed operations at the Ovoot Tolgoi Mine on March 22, 2013 after having been fully curtailed since the end of the second quarter of 2012. In the second quarter of 2013, the Company primarily moved waste material (overburden) and exposed coal in the pit. Sales volumes increased in the third quarter of 2013 and, as planned, raw coal production increased to meet contracted sales volumes. The rate of production in the fourth quarter of 2013 is expected to increase compared to the third quarter of 2013 as the Company provides contractual tonnages under current coal supply agreements and makes further sales. The Company expects total coal sales in excess of 1.50 million tonnes in the fourth quarter of 2013 subject to customer performance under the current coal supply agreements. As a result, the Company expects 2013 annual raw coal production of approximately 3.0 million tonnes.

Whilst SouthGobi has a predominantly two product strategy of a Premium and Standard semi-soft coking coal product from the Ovoot Tolgoi Mine, the capability to begin supplying a washed semi-soft coking coal product is an important step in improving both SouthGobi's market position and access to end customers. The Company is currently cooperating with Ejin Jinda in studying the utilization of the wet washing facility. SouthGobi has, however, commenced mining and selling some Premium semi-soft coking coal product as a raw coal in 2013.

The Company has been minimizing uncommitted capital expenditures, exploration and operational expenditures in order to preserve its financial resources. For at least twelve months from the end of the September 30, 2013 reporting period, the Company expects its liquidity to remain sufficient based on existing capital resources and estimated cash flows from mining operations. Estimated cash flows from mining operations are subject to a number of external market factors including supply and demand and pricing in the coal industry.

Longer term, SouthGobi remains well positioned, with a number of key competitive strengths, including:

  • Strategic location - SouthGobi is the closest major coking coal producer in the world to China. The Ovoot Tolgoi Mine is approximately 40km from China, which is approximately 190km closer than Tavan Tolgoi coal producers in Mongolia and 7,000 to 10,000km closer than Australian and North American coking coal producers. The Company has an infrastructure advantage, being approximately 50km from existing railway infrastructure, which is approximately one tenth the distance to rail of Tavan Tolgoi coal producers in Mongolia.
  • Premium quality coals - Most of the Company's coal resources have coking properties, including a mixture of semi-soft coking coals and hard coking coals.
  • Favorable cost structure - The long-term cost structure of SouthGobi provides a strong base for sustainable growth when access to end-user markets is obtained.
  • Substantial resource base - The Company's aggregate coal resources (including reserves) include measured and indicated resources of 533 million tonnes and inferred resources of 302 million tonnes.

Objectives

The Company's objectives for 2013 are as follows:

  • Resume production at the Ovoot Tolgoi Mine - The Company reviewed the overall structure of its workforce and market conditions and recommenced mining activities at the Ovoot Tolgoi Mine in March 2013. The focus has been to recommence mining activities in a safe manner that provides a sustainable long-term operating base.
  • Continue to develop regional infrastructure - The Company's priority was to complete the construction of the paved highway from the Ovoot Tolgoi Mine to the Shivee Khuren Border Crossing as part of the existing consortium that was awarded the tender by the end of 2013. Construction of the paved highway is expected to be substantially complete by the end of 2013. The remaining construction work and commissioning of the paved highway is expected to be completed by the end of the first half of 2014.
  • Advance the Soumber Deposit - The Company intends to substantially advance the feasibility, planning and physical preparation of the Soumber Deposit in order to commence small-scale mining activities in 2014.
  • Value-adding/upgrading coal - Implement an effective and profitable utilization of the wet washing facility contracted with Ejin Jinda to toll-wash coal from the Ovoot Tolgoi Mine and further develop the Company's marketing plans on product mix and seek to expand the
    Company's customer base. The Company is currently cooperating with Ejin Jinda in studying the utilization of the wet washing facility.
  • Re-establish the Company's reputation - The Company's vision is to be a respected and profitable Mongolian coal company. This will require re-establishing good working relationships with all our external stakeholders.
  • Operations - Continuing to focus on production safety, environmental protection, operational excellence and community relations.

NON-IFRS FINANCIAL MEASURES

Cash Costs:

The Company uses cash costs to describe its cash production costs. Cash costs incorporate all production costs, which include direct and indirect costs of production, with the exception of idled mine asset costs and non-cash expenses which are excluded. Non-cash expenses include share-based compensation expense, inventory impairments, depreciation and depletion of mineral properties.

The Company uses this performance measure to monitor its operating cash costs internally and believes this measure provides investors and analysts with useful information about the Company's underlying cash costs of operations. The Company believes that conventional measures of performance prepared in accordance with IFRS do not fully illustrate the ability of its mining operations to generate cash flows. The Company reports cash costs on a sales basis. This performance measure is commonly utilized in the mining industry.

The cash costs of product sold presented below may differ from cash costs of product produced depending on the timing of stockpile inventory turnover.

Adjusted Net Income/(Loss):

Adjusted net income/(loss) excludes idled mine asset costs, share-based compensation expense/(recovery), net impairment loss/(recovery) on assets, unrealized foreign exchange losses/(gains), unrealized loss/(gain) on the fair value change of the embedded derivatives in the CIC convertible debenture, realized losses/(gains) on the disposal of FVTPL investments and unrealized losses/(gains) on FVTPL investments. The Company excludes these items from net income/(loss) to provide a measure which allows the Company and investors to evaluate the results of the underlying core operations of the Company and its profitability from operations. The items excluded from the computation of adjusted net income/(loss), which are otherwise included in the determination of net income/(loss) prepared in accordance with IFRS, are items that the Company does not consider to be meaningful in evaluating the Company's past financial performance or the future prospects and may hinder a comparison of its period- to-period results.

FINANCIAL STATEMENT INFORMATION
Condensed Consolidated Interim Statements of Comprehensive Income
(Unaudited)
(Expressed in thousands of U.S. Dollars, except for share and per share amounts)
Three months ended Nine months ended
September 30, September 30,
2013 2012 2013 2012
(Restated ) (Restated )
Revenue $ 15,652 $ 3,804 $ 26,179 $ 76,875
Cost of sales (33,486 ) (31,454 ) (72,268 ) (95,178 )
Gross loss (17,834 ) (27,650 ) (46,089 ) (18,303 )
Other operating expenses (1,003 ) (18,315 ) (16,358 ) (22,362 )
Administration expenses (4,204 ) (5,178 ) (11,958 ) (18,556 )
Evaluation and exploration expenses (186 ) (958 ) (680 ) (8,090 )
Loss from operations (23,227 ) (52,101 ) (75,085 ) (67,311 )
Finance costs (5,382 ) (5,164 ) (15,991 ) (9,846 )
Finance income 124 12,947 4,259 39,236
Share of earnings of joint venture (66 ) 288 (39 ) 492
Loss before tax (28,551 ) (44,030 ) (86,856 ) (37,429 )
Current income tax recovery/(expense) - 859 (1 ) (268 )
Deferred income tax expense (13,377 ) (3,242 ) (11,876 ) (3,241 )
Net loss attributable to equity holders of the Company
(41,928
)
(46,413
)
(98,733
)
(40,938
)
OTHER COMPREHENSIVE LOSS
Items that may be reclassified to profit or loss:
Gain/(loss) on available-for-sale financial assets, net of tax
1,261

8,950

1,261

(16,559
)
Net comprehensive loss attributable to equity holders of the Company
$

(40,667
)
$

(37,463
)
$

(97,472
)
$

(57,497
)
BASIC LOSS PER SHARE $ (0.23 ) $ (0.26 ) $ (0.54 ) $ (0.23 )
DILUTED LOSS PER SHARE $ (0.23 ) $ (0.26 ) $ (0.54 ) $ (0.35 )
Condensed Consolidated Interim Statements of Financial Position
(Unaudited)
(Expressed in thousands of U.S. Dollars)
As at
September 30, December 31, January 1,
2013 2012 2012
ASSETS
(Restated ) (Restated )
Current assets
Cash $ 16,070 $ 19,674 $ 123,567
Trade and other receivables 7,683 3,292 16,234
Short term investments - 15,000 -
Inventories 48,540 59,735 104,861
Prepaid expenses and deposits 32,194 47,432 44,760
Total current assets 104,487 145,133 289,422
Non-current assets
Prepaid expenses and deposits 16,778 16,778 8,389
Property, plant and equipment 485,676 521,473 498,533
Long term investments 27,203 24,084 99,238
Deferred income tax assets 13,107 24,984 23,098
Total non-current assets 542,764 587,319 629,258
Total assets $ 647,251 $ 732,452 $ 918,680
EQUITY AND LIABILITIES
Current liabilities
Trade and other payables $ 18,938 $ 10,216 $ 43,552
Deferred revenue 8,395 8,181 17,653
Current portion of convertible debenture 9,326 6,301 6,301
Total current liabilities 36,659 24,698 67,506
Non-current liabilities
Convertible debenture 95,548 99,667 139,085
Deferred income tax liabilities - - 2,366
Decommissioning liability 4,284 4,104 4,156
Total non-current liabilities 99,832 103,771 145,607
Total liabilities 136,491 128,469 213,113
Equity
Common shares 1,063,821 1,059,710 1,054,298
Share option reserve 51,441 51,303 44,143
Investment revaluation reserve 1,261 - 16,559
Accumulated deficit (605,763 ) (507,030 ) (409,433 )
Total equity 510,760 603,983 705,567
Total equity and liabilities $ 647,251 $ 732,452 $ 918,680
Net current assets $ 67,828 $ 120,435 $ 221,916
Total assets less current liabilities $ 610,592 $ 707,754 $ 851,174
Selected information on third quarter and year to date September 2013 and the effects of the restatements on previously filed statement of comprehensive income
(Unaudited)
(Expressed in thousands of U.S. Dollars, except for share and per share amounts)
Three months ended Nine months ended
September 30, 2012 September 30, 2012
As previously As previously
reported Adjustment Restated reported Adjustment Restated
Raw coal production (millions of tonnes) - - - 1.33 - 1.33
Coal sales (millions of tonnes) 0.31 0.01 0.32 1.31 0.65 1.96
Revenue $ 3,337 $ 467 $ 3,804 $ 51,902 $ 24,973 $ 76,875
Cost of sales (30,869 ) (585 ) (31,454 ) (70,569 ) (24,609 ) (95,178 )
Gross profit/(loss) (27,532 ) (118 ) (27,650 ) (18,667 ) 364 (18,303 )
Other operating expenses (29,301 ) 10,986 (18,315 ) (35,682 ) 13,320 (22,362 )
Administration expenses (5,178 ) - (5,178 ) (18,557 ) - (18,557 )
Evaluation and exploration expenses (958 ) - (958 ) (8,090 ) - (8,090 )
Loss from operations (62,969 ) 10,868 (52,101 ) (80,996 ) 13,684 (67,312 )
Finance costs (5,164 ) - (5,164 ) (9,846 ) - (9,846 )
Finance income 12,947 - 12,947 39,236 - 39,236
Share of earnings/(loss) of joint venture 288 - 288 492 - 492
Income/ (loss) before tax (54,898 ) 10,868 (44,030 ) (51,113 ) 13,684 (37,429 )
Current income tax expense 859 - 859 (268 ) - (268 )
Deferred income tax recovery/(expense) (525 ) (2,717 ) (3,242 ) 180 (3,421 ) (3,241 )
Net income/(loss) attributable to equityholders of the Company
(54,564
)
8,151

(46,413
)
(51,201
) -
10,263

(40,938
)
Other comprehensive income/(loss) 8,950 - 8,950 (16,559 ) - (16,559 )
Net comprehensive income/(loss) attributableto equity holders of the Company
$

(45,614
)
$

8,151

$

(37,463
)
$

(67,760
)
$

10,263

$

(57,497
)
Basic income/(loss) per share $ (0.30 ) $ 0.04 $ (0.26 ) $ (0.28 ) $ 0.05 $ (0.23 )
Diluted income/(loss) per share $ (0.30 ) $ 0.04 $ (0.26 ) $ (0.40 ) $ 0.05 $ (0.35 )
Three months ended Six months ended
June 30, 2013 June 30, 2013
As previously As previously
reported Adjustment Restated reported Adjustment Restated
Raw coal production (millions of tonnes) 0.17 - 0.17 0.19 - 0.19
Coal sales (millions of tonnes) 0.04 0.29 0.33 0.12 0.48 0.60
Revenue $ 374 $ 5,755 $ 6,129 $ 3,633 $ 6,894 $ 10,527
Cost of sales (12,466 ) (5,011 ) (17,477 ) (34,327 ) (4,457 ) (38,784 )
Gross profit/(loss) (12,092 ) 744 (11,348 ) (30,694 ) 2,437 (28,257 )
Other operating expenses (14,877 ) (48 ) (14,925 ) (15,260 ) (95 ) (15,355 )
Administration expenses (4,024 ) - (4,024 ) (7,757 ) - (7,757 )
Evaluation and exploration expenses (221 ) - (221 ) (494 ) - (494 )
Loss from operations (31,214 ) 696 (30,518 ) (54,205 ) 2,342 (51,863 )
Finance costs (5,617 ) - (5,617 ) (10,608 ) - (10,608 )
Finance income 3,366 - 3,366 4,136 - 4,136
Share of earnings/(loss) of joint venture 44 - 44 27 - 27
Income/ (loss) before tax (33,421 ) 696 (32,725 ) (60,650 ) 2,342 (58,308 )
Current income tax expense - - - (1 ) - (1 )
Deferred income tax recovery/(expense) (241 ) (174 ) (415 ) 2,087 (586 ) 1,501
Net income/(loss) attributable to equityholders of the Company
(33,662
)
522

(33,140
)
(58,564
)
1,756

(56,808
)
Other comprehensive income/(loss) (930 ) - (930 ) - - -
Net comprehensive income/(loss) attributableto equity holders of the Company
$

(34,592
)
$

522

$

(34,070
)
$

(58,564
)
$

1,756

$

(56,808
)
Basic income/(loss) per share $ (0.18 ) $ - $ (0.18 ) $ (0.32 ) $ 0.01 $ (0.31 )
Diluted income/(loss) per share $ (0.18 ) $ - $ (0.18 ) $ (0.32 ) $ 0.01 $ (0.31 )
Year ended Year ended Year ended
December 31, 2012 December 31, 2011 December 31, 2010
As previously As previously As previously
reported Adjustment Restated reported Adjustment Restated reported Adjustment Restated
Raw coal production (millions of tonnes) 1.33 - 1.33 4.57 - 4.57 2.79 - 2.79
Coal sales (millions of tonnes) 1.33 0.65 1.98 4.02 (0.93 ) 3.09 2.54 (0.81 ) 1.73
Revenue $ 53,116 $ 24,945 $ 78,061 $ 179,049 $ (48,293 ) $ 130,756 $ 79,777 $ (19,365 ) $ 60,412
Cost of sales (97,118 ) (30,289 ) (127,407 ) (127,343 ) 35,165 (92,178 ) (69,904 ) 17,253 (52,651 )
Gross profit/(loss) (44,002 ) (5,344 ) (49,346 ) 51,706 (13,128 ) 38,578 9,873 (2,112 ) 7,761
Other operating expenses (54,345 ) 12,700 (41,645 ) (29,189 ) 872 (28,317 ) (12,643 ) 218 (12,425 )
Administration expenses (24,637 ) - (24,637 ) (28,749 ) - (28,749 ) (25,438 ) - (25,438 )
Evaluation and exploration expenses (8,598 ) - (8,598 ) (31,768 ) - (31,768 ) (18,769 ) - (18,769 )
Loss from operations (131,582 ) 7,356 (124,226 ) (38,000 ) (12,256 ) (50,256 ) (46,977 ) (1,894 ) (48,871 )
Finance costs (15,385 ) - (15,385 ) (12,765 ) - (12,765 ) (175,855 ) - (175,855 )
Finance income 39,942 - 39,942 107,732 - 107,732 103,948 - 103,948
Share of earnings/(loss) of joint venture 635 - 635 - - - - - -
Income/ (loss) before tax (106,390 ) 7,356 (99,034 ) 56,967 (12,256 ) 44,711 (118,884 ) (1,894 ) (120,778 )
Current income tax expense (354 ) - (354 ) (7,340 ) - (7,340 ) (1,806 ) - (1,806 )
Deferred income tax recovery/(expense) 3,725 (1,839 ) 1,886 8,118 3,064 11,182 4,495 473 4,968
Net income/(loss) attributable to equityholders of the Company
(103,019
)
5,517

(97,502
)
57,745

(9,192
)
48,553

(116,195
)
(1,421
)
(117,616
)
Other comprehensive income/(loss) (16,559 ) - (16,559 ) (11,202 ) - (11,202 ) 27,761 - 27,761
Net comprehensive income/(loss) attributableto equity holders of the Company
$

(119,578
)
$

5,517

$

(114,061
)
$

46,543

$

(9,192
)
$

37,351

$

(88,434
)
$

(1,421
)
$

(89,855
)
Basic income/(loss) per share $ (0.57 ) $ 0.03 $ (0.54 ) $ 0.32 $ (0.08 ) $ 0.24 $ (0.66 ) $ (0.01 ) $ (0.67 )
Diluted income/(loss) per share $ (0.63 ) $ 0.03 $ (0.60 ) $ (0.19 ) $ (0.07 ) $ (0.26 ) $ (0.66 ) $ (0.01 ) $ (0.67 )
Selected information on the effects of the restatements on previously filed statement of financial position
(Unaudited)
(Expressed in thousands of U.S. Dollars)
As at As at
June 30, 2013 December 31, 2012
As As
previously previously
reported Adjustment Restated reported Adjustment Restated
ASSETS
Current assets
Trade and other receivables $ 7,947 $ (3,764 ) $ 4,183 $ 17,430 $ (14,138 ) $ 3,292
Inventories 45,872 1,617 47,489 53,661 6,074 59,735
Prepaid expenses and deposits 33,467 5,431 38,898 37,982 9,450 47,432
Total current assets 106,457 3,285 109,742 143,747 1,387 145,134
Non-current assets
Deferred income tax assets 25,372 1,113 26,485 23,285 1,699 24,984
Total non-current assets 572,711 1,173 573,884 585,620 1,699 587,319
Total assets $ 679,228 $ 4,398 $ 683,626 $ 729,367 $ 3,085 $ 732,452
EQUITY AND LIABILITIES
Current liabilities
Trade and other payables $ 16,184 $ (194 ) $ 15,990 $ 10,216 $ - $ 10,216
Deferred revenue - 7,932 7,932 - 8,181 8,181
Total current liabilities 28,462 7,737 36,199 16,517 8,181 24,698
Total non-current liabilities 100,037 - 100,037 103,771 - 103,771
Total liabilities 128,499 7,737 136,236 120,288 8,181 128,469
Equity
Accumulated deficit (560,498 ) (3,339 ) (563,837 ) (501,934 ) (5,096 ) (507,030 )
Total equity 550,729 (3,339 ) 547,390 609,079 (5,096 ) 603,983
Total equity and liabilities $ 679,228 $ 4,398 $ 683,626 $ 729,367 $ 3,085 $ 732,452
Net current assets $ 77,995 $ (4,452 ) $ 73,543 $ 127,230 $ (6,794 ) $ 120,436
Total assets less current liabilities $ 650,766 $ (3,339 ) $ 647,427 $ 712,850 $ (5,096 ) $ 707,754
As at As at
December 31, 2011 December 31, 2010
As As
previously previously
reported Adjustment Restated reported Adjustment Restated
ASSETS
Current assets
Trade and other receivables $ 80,285 $ (64,051 ) $ 16,234 $ 30,246 $ (10,911 ) $ 19,335
Inventories 52,443 52,418 104,861 26,160 17,253 43,413
Prepaid expenses and deposits 38,308 6,453 44,761 10,264 - 10,264
Total current assets 294,603 (5,181 ) 289,422 576,237 6,342 582,579
Non-current assets
Deferred income tax assets 19,560 3,538 23,098 11,442 473 11,915
Total non-current assets 625,720 3,538 629,258 385,867 473 386,340
Total assets $ 920,323 $ (1,643 ) $ 918,680 $ 961,866 $ 6,816 $ 968,682
EQUITY AND LIABILITIES
Current liabilities
Trade and other payables $ 52,235 $ (8,683 ) $ 43,552 $ 24,137 $ (2,591 ) $ 21,546
Deferred revenue - 17,653 17,653 - 10,827 10,827
Total current liabilities 58,536 8,970 67,506 30,449 8,236 38,685
Total non-current liabilities 145,607 - 145,607 252,527 - 252,527
Total liabilities 204,143 8,970 213,113 282,976 8,236 291,212
Equity
Accumulated deficit (398,820 ) (10,613 ) (409,433 ) (442,791 ) (1,420 ) (444,211 )
Total equity 716,180 (10,613 ) 705,567 678,890 (1,420 ) 677,470
Total equity and liabilities $ 920,323 $ (1,643 ) $ 918,680 $ 961,866 $ 6,816 $ 968,682
Net current assets $ 236,067 $ (14,151 ) $ 221,916 $ 545,788 $ (1,894 ) $ 543,894
Total assets less current liabilities $ 861,787 $ (10,613 ) $ 851,174 $ 931,417 $ (1,420 ) $ 929,997

REVIEW OF INTERIM RESULTS

The condensed consolidated interim financial statements for the Company for the nine months ended September 30, 2013 and nine months ended September 30, 2012 (restated) were reviewed by the Audit Committee of the Company.

SouthGobi's results for the quarter ended September 30, 2013 are contained in the unaudited Consolidated Interim Financial Statements and Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A"), available on the SEDAR website at www.sedar.com and SouthGobi Resources' website at www.southgobi.com.

ABOUT SOUTHGOBI RESOURCES

SouthGobi Resources is listed on the Toronto and Hong Kong stock exchanges, in which Turquoise Hill Resources Ltd., also publicly listed in Toronto and New York, has a 57% shareholding. Turquoise Hill took management control of SouthGobi in September 2012 and made changes to the board and senior management. Rio Tinto has a majority shareholding in Turquoise Hill.

SouthGobi Resources is focused on exploration and development of its metallurgical and thermal coal deposits in Mongolia's South Gobi Region. It has a 100% shareholding in SouthGobi Sands LLC, the Mongolian registered company that holds the mining and exploration licenses in Mongolia and operates the flagship Ovoot Tolgoi coal mine. Ovoot Tolgoi produces and sells coal to customers in China.

Disclosure of a scientific or technical nature in this release and the Company's MD&A with respect to the Company's Mongolian Coal Division was prepared by, or under the supervision of, RungePincockMinarco ("RPM"). The professionals at RPM meet the definition of a "qualified person" for the purposes of National Instrument 43-101 of the Canadian Securities Administrators.

Forward-Looking Statements: This document includes forward-looking statements. Forward-looking statements include, but are not limited to: the ability to file the restated financial statements for the affected periods in a timely manner; the full impact of the revised revenue recognition approach on the previously filed financial statements subject to restatement; whether an MCTO will be granted by the Principal Regulator; the conclusions of the Company in respect of any material weaknesses in the Company's controls and procedures; the Company's expectations of sufficient liquidity and capital resources to meets its ongoing obligations and future contractual commitments; the estimates and assumptions included in the Company's impairment analysis; the outcome of the government regulatory and internal investigations; implications of financial statement restatements, or delays in filing thereof with respect to the Company's existing contractual covenants; the outcome of a review of the DCHF to the Company's product strategy; the statement that gross profit will vary by year depending on sales volume, sales price and unit costs; statements relating to the determination of the royalty rate on coal sales exported out of Mongolia; statements regarding future variances in exploration expenses; the statement that the Company expects to have sufficient liquidity and capital resources to meet its ongoing obligations and future contractual commitments for at least twelve months from the end of the September 30, 2013 reporting period; the statement that the Company expects its liquidity to remain sufficient based on existing capital resources and estimated cash flows from mining operations; statements regarding the estimates and assumptions incorporated into the impairment analysis on the carrying values of certain assets related to the Ovoot Tolgoi Mine; the statement that completion of the paved highway is expected by the end of the first half of 2014; the statement that the capacity of the paved highway is in excess of 20 million tonnes of coal per year; statements regarding the outlook for 2013; statements regarding the supply and demand of the coking coal market; statements regarding the Company's objectives for 2013 (including the production of the Ovoot Tolgoi Mine, plans to continue to develop regional infrastructure from Ovoot Tolgoi to the Shivee Khuren Border Crossing, plans regarding the implementation of the wet washing facility to toll-wash coal from the Ovoot Tolgoi Mine, plans to re-establish the Company's reputation and plans regarding operations); and other statements that are not historical facts.
When used in this document, the words such as "plan", "estimate", "expect", "intend", "may", and similar expressions are forward-looking statements. Although SouthGobi believes that the expectations reflected in these forward-looking statements are reasonable, such statements involve risks and uncertainties and no assurance can be given that actual results will be consistent with these forward-looking statements. Important factors that could cause actual results to differ from these forward-looking statements are disclosed under the heading "Risk Factors" in SouthGobi's MD&A for the year ended December 31, 2012 and the three months ended September 30, 2013 which are available at www.sedar.com.

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