Chinese firm Novel to buy stake in SouthGobi

A privately held company in China called Novel Sunrise Investments will become the largest shareholder in SouthGobi Resources (TSX: SGQ; US-OTC: SGQRF; HK: 1878) after it acquires shares from Turquoise Hill Resources (TSX: TRQ; NYSE: TRQ), and completes a private placement in the Mongolia-based coal producer.

Novel Sunrise is part of the Novel Group of Companies, which rose to prominence on the back of residential and commercial real-estate investments before diversifying into construction materials and commodities, such as iron ore and coking coal.

The first US$3.5-million tranche of the private placement will help SouthGobi keep the lights on through the end of March, while the second US$4-million tranche will keep the company running until the end of April. As of Feb. 23, SouthGobi’s cash balance stood at US$2.7 million.

The private placement price of 43.2¢ per share is a 20% discount to SouthGobi’s five-day, volume-weighted average trading price of 54¢ per share.

Under the transaction, Novel Sunrise will appoint three members to SouthGobi’s board, including Ted Chan, the brother of Wilson Chan, who is the sole owner and founder of Novel Sunrise and the Novel Group.

In a separate transaction, Novel Sunrise is also buying 48.7 million shares in SouthGobi from Turquoise Hill Resources which owns a 47.9% stake in the company.

After the two transactions are complete, Turquoise Hill’s ownership in SouthGobi will be reduced to 56.1 million shares, or 23.3% of the expanded share capital, while Novel Sunrise will own 29.3%, or 70.5 million shares. That will make Novel Sunrise SouthGobi’s largest shareholder, as long as China Investment Corp. does not exercise its conversion rights under a $250-million debenture issued by the company. 

SouthGobi noted in a press release that given its “serious financial difficulty” and because it “does not have sufficient time to obtain shareholder approval in a timely manner prior to the completion of the private placement and the Novel SPA,” it has applied to the TSX under the exchange’s financial hardship provisions for an exemption of the requirement to get shareholder approval.

SouthGobi announced on Feb. 18 that it has filed an appeal against a Jan. 30 verdict by Mongolia’s Second District Court of Justice against three former employees of its wholly owned SouthGobi Sands LLC, which holds the mining and exploration licences in the country and operates the flagship Ovoot Tolgoi coal mine. The coal mine sells coal to customers in China. 

The Mongolian court found the three employees guilty of tax evasion and sentenced them to prison terms of between five years and six months and five years and 10 months. The court also ruled that SouthGobi Sands was financially liable as a civil defendant for a US$17.9-million penalty.

In a Feb. 18 press release, SouthGobi noted that the company was informed after receiving the written verdict on Feb. 10 that the three jailed employees — Justin Kapla, Hilarion Cajucom Jr. and Cristobal David — requested pardons from the President of Mongolia, which if granted, would allow them to be released and leave the country.

“The company understands that as a condition of the potential pardon and whilst in a detention centre in Mongolia, the three individuals were asked by the relevant authorities to elect in writing not to exercise their right to appeal,” SouthGobi stated. “The company supports its three former employees who are facing extraordinary and unjust hardships and understands their rationale for requesting a pardon. However, the company continues to believe they have demonstrated their innocence throughout the investigation and court process.”

SouthGobi reiterated in the press release that it has not committed tax evasion, “firmly rejects the court’s verdict and what have been gross violations of Mongolian law throughout the investigations and the court process,” and that it has launched an appeal.

In an email response on Feb. 4 to questions from The Northern Miner about the court’s verdict, SouthGobi Resources said it came as a surprise, and that it “did not know how or why the court came to its conclusions, because there was simply no evidence to support [what] it presented during the legal process.

“The verdict is completely contradictory with the fact that, during the hearing, SouthGobi, Chris, Larry and Justin, with their legal counsel, were able to entirely disprove the accusations against them,” the company continued. “In fact, we merely saw a repeat of the process that occurred during the initial hearing before the same panel of judges in August 2014, which culminated in the judges throwing out the accusations due to insufficient evidence.”

SouthGobi confirmed that the decision “has sent shockwaves across the Mongolian and international business community,” and says that “the harsh verdict — and a complete lack of evidence to back up the court’s findings — has added a fresh layer of uncertainty to the investment equation in Mongolia … one of the fundamentals of a good investment climate is certainty, and the court’s verdict has left investors with many questions about transparency, governance and the rule of law, not only for companies but also for individuals. We should not underestimate how damaging this decision is for the Mongolian investment outlook.”

Over the last year, SouthGobi’s shares have traded from 40.5¢ to 95¢. At press time they were 55¢ apiece.