Commentary

Introduction

The first six months of 2016 were characterised by low commodity prices and significant fluctuation in the Rand/US Dollar exchange rate. The global stainless steel and ferrochrome markets were not immune to these influences, and as a result experienced an extremely volatile first quarter of 2016. The Metal Bulletin charge chrome CIF Shanghai price index (“index”) reduced to a low of 55USc/lb in March 2016, recovering in the second quarter when the price increased to 74USc/lb in June 2016.

Despite the above mentioned factors, Merafe Resources Limited ("Company" or “Merafe”) remained profitable and cash generative for the six months ended 30 June 2016.

Review of results

The condensed consolidated interim financial statements of Merafe for the six months ended 30 June 2016 have been reviewed by the Company's external auditors, KPMG Inc. In their review report, dated 29 July 2016, which is available for inspection at the Company's Registered Office, KPMG Inc. state that their review was conducted in accordance with the International Standard on Review Engagements 2410: Review of Interim Information Performed by the Independent Auditor of the Entity. The auditors have expressed an unmodified conclusion on the condensed consolidated interim financial statements.

Merafe’s revenue and operating income is primarily generated from the Glencore- Merafe Chrome Venture (“the Venture”) which is one of the global market leaders in ferrochrome production, with a total installed capacity of 2.3m tonnes of ferrochrome per annum. Merafe shares in 20.5% of the earnings before interest, taxation, depreciation and amortisation (EBITDA) from the Venture.

Revenue increased by 9% period on period mainly due to a 14% increase in ferrochrome sales volumes to 218kt (2015: 191kt) and a 29% weaker average Rand/US Dollar exchange rate which was partially offset by a 23% decrease in net CIF ferrochrome prices. Chrome ore revenue as a percentage of total revenue is 11% in the first half of 2016 (2015: 11%). Average export USD CIF prices of chrome ore reduced by 23% period on period.

Merafe’s portion of the Venture’s EBITDA for the six months ended 30 June 2016 is R275.0m (2015: R355.3m). The EBITDA includes Merafe’s attributable share of standing charges of R49.2m (2015: R30.1m) and a foreign exchange loss of R28.8m (2015: foreign exchange gain: R3.0m).

After accounting for corporate costs of R18.4m (2015: R19.4m) which includes a cash settled share based payment expense of R4.8m (2015: R2.7m), Merafe’s EBITDA is R256.6m (2015: R335.9m). The cash settled share-based payment expense increased period on period primarily as a result of a significant increase in the share price at 30 June 2016 compared to 30 June 2015.

Profit for the six months is R57.3m (2015: R124.3m) after taking into account depreciation of R146.5m (2015: R120.5m), net financing costs of R31.6m
(2015: R37.1m) and taxation expense of R21.1m (2015: R54.0m). The balance of unredeemed capital expenditure is estimated to be R101.0m as at 30 June 2016
(31 December 2015: R173.8m) which relates to the eastern taxation ring-fence. Depreciation increased period on period primarily as a result of the additional depreciation on Project Lion II as well as the accelerated depreciation arising from the re-assessment of useful lives and residual values in accordance with IAS 16: Property, plant and equipment. Net financing costs reduced as a result of the repayment of borrowings which was partially offset by the increase in the Johannesburg Interbank Agreed Rate (JIBAR) in South Africa. The effective tax rate reduced from 30.3% in the prior period to 26.9% in the current period primarily as a result of temporary differences on property, plant and equipment which were partially offset by non-deductible permanent differences arising from operating expenses relating to the Venture.

Sustaining capital expenditure incurred for the six months ended 30 June 2016 is R118.0m (2015: R103.9m) and expansionary capital expenditure incurred for the six months ended 30 June 2016 is R6.8m (2015: R22.9m). As at 30 June 2016, Merafe’s capital commitments were R227.7m (2015: R213.0m) of which R70.1m was contracted for but not provided for and R157.6m was authorised but not contracted for.

As at 30 June 2016, Merafe had a net cash balance of R412.2m (2015: R309.6m) which comprised cash held by Merafe of R97.5m and R314.7m being Merafe’s share of the cash balance in the Venture.

Merafe had total debt owing to ABSA and Standard Bank of R479.5m at 30 June 2016 which reduced by R80m from 31 December 2015. This was as a result of a R50m mandatory repayment of the term facility on 4 January 2016 and a R30m voluntary pre-payment of the revolving credit facility on 1 April 2016. Post the reporting period, a R70m repayment was made which comprised of a R50m mandatory repayment of the term facility and a R20m voluntary pre-payment of the revolving credit facility. This reduced the debt balance to R409.5m, resulting in unutilised debt facilities of R240.5m.

Trade and other receivables increased from 31 December 2015 primarily as a result of a 62% increase in sales volumes in the second quarter of 2016 compared to the last quarter of 2015 as well as the impact of the higher than expected receipts from customers in December 2015, as previously reported. Utilisation of the debtors financing facility increased from R411.4m at 31 December 2015 to R543.5m at 30 June 2016. Trade and other payables increased from 31 December 2015 as a result of the increase in selling expenses and commission arising from the increase in sales volumes in the second quarter of 2016 and the increase in production cost in the second quarter of 2016. The carrying amount of financial instruments are a reasonable approximation of fair value.

Finished goods on hand reduced to 99kt at 30 June 2016 which is approximately ten to twelve weeks of sales.

The Board declared an interim dividend of R20m.

Review of operations and safety

Merafe’s attributable ferrochrome production from the Venture for the six months ended 30 June 2016 increased marginally compared to the prior comparative period. Production volumes were managed across the first half of the year through timeous furnace refurbishments in order to optimise stock levels.

Production costs were contained through various cost-saving initiatives. This was achieved in spite of increases in both electricity and labour costs, which were well above inflation. The National Energy Regulator announced an electricity price increase of 9.4% which became effective on 1 April 2016. The Venture’s operations were not significantly impacted by electricity supply constraints in the first half of 2016.

Safety remains a critical focus area and all efforts continue to be made to ensure that the highest standards of safety remain in place at all the Venture’s operations. The Venture’s total recordable injury frequency rate (TRIFR) improved slightly from 4.17 at the end of 2015 to 4.00 at the end of June 2016 as a result of ongoing safety campaigns and programs at its operations.

Mineral Reserves, Mineral Resources and Mining Rights

During the first half of 2016, there were no material changes to the mineral reserves, mineral resources and mining rights of the participants in the Venture.

Market review

Global stainless steel production

Estimated global stainless steel production for the first half of 2016 totalled 21.8mt1, which increased 2.5%1 period on period. This increase was primarily driven by China as a result of the introduction of newly built capacity into the market.

Global ferrochrome production and demand

Global ferrochrome production for the first half of 2016 totalled 5.2mt1, a reduction of 4%1 period on period. The most significant decline was seen in China, where output was reduced by 17%1 period on period. This resulted in South Africa reclaiming its position as the largest ferrochrome producer in the world. Estimated global ferrochrome apparent demand reduced by 8%1 to 5.1mt1 for the first half of 2016, however the rising stainless steel production created a higher real demand. This shortfall was serviced from ferrochrome stocks.

Ferrochrome pricing dropped to the lowest levels since 2009 when the 2016 second quarter European ferrochrome benchmark price reduced to 82USc/lb. The lower price was mainly driven by a destocking of chrome ore, ferrochrome and stainless steel. Market sentiment improved during the second quarter of 2016 when increased demand for ferrochrome, coupled with shortages of supply, led to significant price increases. Post the reporting period, the European ferrochrome benchmark price for the third quarter of 2016 was settled at 98USc/lb which represented an increase of 19.5% compared to the second quarter of 2016.

Chrome ore

Chrome ore imports into China for the first six months of 2016 amounted to 4.6mt2 down 6%2 period on period. Chrome ore prices reduced significantly, with the weighted average price of South African material reducing to around 105USD/t1 in May 2016, down 66%1 in comparison to 2011 prices.

In the first six months of 2016, South African chrome ore accounted for 78%2 of imports into China which was up from 73%2 in the same period in 2015. This is representative of China’s increased reliance on South African exports for chrome ore.

Chrome ore stocks at Chinese ports at the end of June 2016 were approximately 1.3mt3, 7.8%3 lower compared to the beginning of January 2016.

1. Heinz Pariser, July 2016 Report
2. Chinese Customs
3. FERROALLOYNET

Outlook

Global stainless steel production is expected to grow by 2.8%1 in 2016 and by 3.1%1 in 2017, indicating increased demand prospects for ferrochrome.

With only four out of seven ferrochrome producers currently in production in South Africa, together with the Venture’s position as one of the lowest cost ferrochrome producers in the world, the Venture remains well positioned to take full advantage of this renewed positive demand outlook and market sentiment.

We remain on track to achieving our strategy of reducing Merafe debt and paying stable to increasing dividends in the short term.

With no major expansionary projects in the pipeline, it is expected that from 2018 onwards free cash flow will be applied mainly to returning cash to shareholders in the form of dividends and/or share buy backs.

Change to Directorate

As previously announced, independent non-executive director, Zed van der Walt resigned with effect from 7 March 2016.

Chris Molefe Zanele Matlala
Independent Non-executive Chairman Chief Executive Officer

Sandton
1 August 2016