The year under review
In last year’s Chairman’s statement, I cautioned that the trend of increased earnings experienced by Assore over the past five years would not continue. This was due mainly to the significant weakening in iron ore prices, which was already evident in the last quarter of the 2014 financial year and had continued into the first quarter of the 2015 financial year. By this time the iron ore price had already decreased from an average of US dollars 125 into a range of between US dollars 70 and 80 per tonne. This weakening continued throughout the current financial year and its original cause, being the unprecedented additional tonnage being purposefully put into the market by Australian and Brazilian producers in order to squeeze out high cost producers, has now been compounded by the significant decrease in economic growth rates being experienced in China and the uncertainty surrounding economic data emanating from that region. As a consequence, iron ore prices have decreased during the year to as low as US dollars 44 per tonne and have lately traded around US dollars 57 per tonne. As approximately 75% of Assore’s earnings were generated by sales of iron ore in 2014, this continued weakening in the iron ore price has impacted severely on the headline earnings for the year which decreased by 53,3% to just less than R2,0 billion (2014: R4,2 billion). Fortunately, most of the group’s markets are priced in US dollars, so the weaker level at which the rand traded against the US dollar for most of the year has provided some set off, but it has not nearly compensated for the weaker commodity prices experienced across the group.
The contributions to headline earnings by the divisions of Assmang (Iron Ore, Manganese and Chrome) and the other transactions and businesses conducted by the group over the past five years are illustrated below:
As expected, the contribution by the Iron Ore division for 2015 is at its lowest over this period, at 63,2% of headline earnings, showing decreased reliance on this commodity. Average index prices for iron and manganese ore were lower by 42% and 22% respectively, while prices for chrome ore showed some resilience, with US dollar prices declining by 12% (see “Operational review and commentary”). Despite the weak market referred to above (see also “Market conditions” below), the group achieved record sales volumes of iron and chrome ores, with the volumes for iron ore being achieved on the back of higher sales into the local market.
For the first time in six years, world steel production is expected to reduce year-onyear and could be as little as 1 640 million tonnes for the 2015 calendar year, with China reducing its consumption by up to 4% and exporting the excess of approximately 100 million tonnes. The markets for iron and manganese ores were largely oversupplied for the year. This oversupply, combined with weak steel production, excess steel production from China and a shift in expectations of future steel growth, resulted in weak market conditions throughout the year. On the positive side, the group’s ability to produce approximately half of its iron ore as lumpy grades, which attract premiums, enables it to take advantage of the increasing trend by steel mills to use lumpy in their production processes for environmental reasons. The stainless steel market has also reported lower growth levels, albeit not to the same extent as for the carbon steel industry. This resulted in reasonably good demand for chrome ore from China and the rand netback to the mines remained fairly constant despite a fall in US dollar prices.
Although prices for commodities were generally significantly lower across the year, netbacks were enhanced slightly by continued low freight rates, lower oil prices worldwide and a weak rand/US dollar exchange rate. The local (South African) price of electricity continued its upward trend, far exceeding inflation and despite the resultant closure of two ferromanganese furnaces by Assmang and other reductions in local smelting capacity, prices for high-carbon ferromanganese remained depressed, with prices for medium-carbon ferromanganese also declining but to a lesser extent.
Expansion and capital expenditure
The acquisition from ARM of its 50% share of Dwarsrivier Chrome Mine (Dwarsrivier) for R450 million, announced on 24 June 2015, represents a major step forward for the group in balancing its product risk more equitably. The transaction is subject to regulatory approval and the management team has commenced with the necessary steps to bring Dwarsrivier into the group as smoothly as possible once the approval has been achieved.
On 2 December 2014, the group announced that it had subscribed for a 30,3% stake in IronRidge Resources Limited (IronRidge), against which it was awarded a stake of 29,9% on 12 February 2015 for UK pounds 6,98 million. The major focus of IronRidge is prospecting for iron ore deposits in Gabon and active exploration is currently under way.
Consistent with previous years, most of the capital expenditure during the year occurred in Assmang, which spent approximately R3,8 billion (2014: R3,6 billion) of which R720 million was spent on new projects and R3,1 billion on replacement capital required at its operations. The allocation of capital expenditure over the past five years across the divisions of Assmang is set out below:
The operations at Khumani Iron Ore Mine have now reached a steady state of production and the level of capital expenditure has stabilised, with R1 billion (2014: R1,1 billion) being spent in the current year, of which approximately one third was spent on waste-stripping. The “Village Pit” at Beeshoek Iron Ore Mine is expected to start producing ore in the second quarter of calendar 2016.
The group continues to invest in its manganese ore sustainability and expansion project and spent a further R1,3 billion on this project during the year. Much of the infrastructure at Black Rock Manganese Mine is either being expanded or replaced, with the aim of increasing capacity in the Manganese division to produce four million tonnes per annum of various grades of manganese by 2020.
The group’s disciplined approach to the conservation of cash has placed it in a position, where it can continue to pay dividends, despite the weak market conditions and lower level of earnings. In line with the reduced earnings for the year, the interim dividend, paid in March was decreased from R4,50 to R3,00 per share and the recent final dividend from R5,50 to R3,00 per share, making the total dividend payment in relation to the group’s activities for the year R6,00 (2014: R10,00) per share.
Recent forecasts have been unanimous in downgrading world economic growth. The devaluation of the Chinese currency, the recent sharp reductions in Chinese property and share prices, the timing of possible interest rate rises in the United States and other developed markets and the capital flight from emerging markets are all adding to the uncertainty.
At present, the level of economic growth which China is able to sustain is unclear, however, it is certainly not expected to recover, in the foreseeable future, to levels experienced in the past five years. Elsewhere in the world, India appears to be the only area showing signs of stronger economic growth, with the other major steel producing areas of Japan, South Korea, North America and Europe likely to show a gradual decline. With the world market for crude steel in over supply and forecast to remain so for some time, it is probable that the prices for the commodities in which the group trades will continue to remain at lower levels in the short to medium term.
Yet in this uncertain environment, the increase in iron ore production continues globally, and many of the new mines have had to maintain high levels of production in order to meet capital repayment commitments. Unfortunately, there has not been sufficient closure of high cost mines thus far to negate the impact of this additional low cost production on the price of iron ore, which is expected to trade in the foreseeable future between US dollars 40 and 60, for 62% content fines grade, delivered into China. Although Assmang sold record volumes of iron ore into the local market during the past year, concern exists over the sustainability of the South African steel-making industry. The belated imposition of a 10% import duty on some Chinese steel imports is “too little, too late” and without anti-dumping and countervailing duties, the local steel industry will struggle to survive, particularly as the demand for steel locally remains weak.
The market for manganese is somewhat less uncertain, given that there is little additional production coming on stream in the short to medium term. Prices in US dollars are expected to stabilise around the current levels for higher grade ores (44% manganese content), but there may be further downward pressure on lower grade ores (37% manganese content) due to the rand devaluation. The market for high-carbon ferromanganese remains oversupplied and prices are not expected to recover soon. This, combined with increases in the price of electricity, places the South African smelting industry, together with the steel-making industry, in an economically precarious position. Demand for high grade chrome ores, as produced by Dwarsrivier, is expected to remain consistent as Chinese production of stainless steel and consequently ferrochrome is anticipated to remain relatively robust.
The markets in which the group operates are therefore likely to remain highly volatile over the short to medium term, making forecasts for commodity prices and earnings uncertain, particularly in the light of the recent volatility in the rand/US dollar exchange rate to which the group is directly exposed. It is therefore expected that the lower level of earnings experienced this year will continue for at least the next few years.
This has been one of the most difficult years the group has experienced for some time. I express my thanks to the board, management and all staff in the group for their efforts during the year. The ongoing support of customers, agents, suppliers and bankers in maintaining constructive relationships is greatly appreciated.
19 October 2015