Diamond mining company ALROSA posted FY2008 loss due to the crisis and foreign-exchange fluctuations, and almost doubled its debt load during the year having obtained loans for underground mines construction.
According to the company’s financial statement, reviewed by Interfax agency, ALROSA’s net loss following the results of FY 2008 amounted to 32.598 billion rubles per IFRS compared to net profit worth 15.981 billion rubles in 2007.
The company’s statement associated the net loss with the reduction of forward contracts in foreign currency fair value, foreign exchange loss on loans and credits in US dollars as well as accumulation of reserves for forecasted payments per forward contracts.
«ALROSA financial results turned out to be expectedly bad. The decline in financial performance was caused by the increase of cost of financing as well as revaluation of currency contracts," Albert Sagiryan, a vice-president at JP Morgan, told Interfax.
In attempt to minimize currency risks amid strengthening of ruble exchange rate in 2006 ALROSA concluded forward contracts in foreign currencies with a number of banks, whereby it agreed to sell US dollars at a rate of 26.56 to 26.84 rubles within the period of five years. Consequently, the loss generated due to the change of fair value of the above contracts (in fact — the amount of reserves accumulated) in 2008 amounted to 25.077 billion rubles.
Operating loss in 2008 figured up to 14.097 billion rubles compared to operating profit of worth 24.43 billion rubles in the year of 2007. At year-end the miner got negative EBITDA worth 5.2 billion rubles whereas the surplus EBITDA worth 33.041 billion rubles was posted in 2007.
Meanwhile the company managed to retain its earnings at the level of preceding year despite leaving the diamond market since November 2008. FY 2008 earnings fetched 91.082 billion rubles compared to 90.734 billion rubles in 2007.
Diamond sales account for 86% of the total company’s earnings which is 78.244 billion rubles. ALROSA’s diamond sales proceeds declined by 2% in 2008 compared to the previous year. Export revenue dropped by 18% to 38.88 billion rubles, mainly due to sales curtail to De Beers. However revenue gained at domestic market rose by 27% to 35.292 rubles.
At the beginning of 2008 experts used to forecast significant upsurge of diamond sales and demand for diamonds. Diamond prices were actually fast-growing till September last year however in Autumn 2008 diamond industry faced severe recession. Sharp slump in demand, oversupply at the market and difficulties in obtaining loans resulted in drop of rough diamond prices. Consequently diamond giants announced sales reduction whereby some miners had to cut diamond production.
«At that time ALROSA had just initiated establishment of long-term relationship with its clients," Rough&Polished expert Sergey Goryainov told Interfax. «The majority of ALROSA’s clients were buying on a non-recurrent basis, i.e. they could effect large-scale diamond purchases making profit for ALROSA but not involving any guarantee of further business. Moreover, most of these clients were not interested in regular diamond procurement for further polishing: rough prices were climbing and diamonds were bought for speculative purposes. Consequently the following came to hand: since the recession emerged economic environment changed dramatically and once-only ALROSA’s clients disappeared while ALROSA fell short of long-term customers.»
Despite the fall in revenue, ALROSA retained its capital expenditure program which amounts to 18.259 billion rubles. Furthermore, geologic exploration expenses were expanded to 4.52 billion rubles compared to 4.14 billion rubles in 2007.
The principal budget item of the company’s investment is construction of mines in accordance with the program of switch to underground mining. As was previously reported, ALROSA is conducting construction of three underground mines each to cost approximately $1 billion. Commissioning of underground mine at the Mir diamond deposit is scheduled for the next week.
ALROSA used to raise credit resources in order to finance capital construction. Eventually the company’s net debt for 2008 increased to 115.545 billion rubles (compared to 59.861 billion rubles in 2007). Due to increase of floating debt in 2008 the company’s liquidity switched to decline to become negative because of reduction of cash inflow from diamond sales in 4Q of 2008. Following the results of 2008 ALROSA’s negative liquidity amounted to 37.557 billion rubles.
The problem of huge debt is attributable to the fact that the peak of recession fell within the moment when ALROSA was in active phase of underground mine construction," Sergey Goryainov said. «At the same time the underground construction reached the phase where it could not be suspended. Temporary shutdown of construction would have involved larger losses compared to present figures. Moreover, the company cannot afford suspension of such large-scale development otherwise it will be short of resources as far as kimberlite open-pit development is exhausted. The company was forced to take out loans lacking disposable cash resources.»
VTB bank is the main creditor of ALROSA, the other creditors are Bank of Moscow, Alpha Bank, Mezhprombank.
One of the sources of monetary funds to pay for loans might be sale of rough diamonds to the government. Earlier ALROSA stated that negotiations with Gokhran on additional rough buyouts were pending this year. A source close to the process of negotiations told Interfax that agreement was reached with the Government in respect of rough sales to Gokhran for a total of $1.5 billion both in 2009 and 2010.
Previously a source reported to Interfax that in the government had already purchased rough diamonds for worth 12 billion rubles from ALROSA in 2009. The amount stated is inclusive of 3.69 billion rubles annually allocated for rough buyout in accordance with Gokhran’s plan for 2008–2010. ALROSA sold rough worth this amount at the beginning of 2009. A total of 8.4 billion rubles was allocated for additional buyout (VAT included). This stock was sold by ALROSA to Gokhran in June, 2009.
«Should the decision of additional purchase worth $3 billion be passed, then nothing to threaten ALROSA position within 2 next years. Certainly it’s needless to speak of excessive profits, but these money to be enough for the conduct of operating activities and gradual payment of debts," Sergey Goryainov stressed.
Along with the latter the company will be able to lessen its debts by means of non-core assets sale. Interfax quoted the other source as saying that ALROSA’s hydrocarbon assets deal involving their sale to VTB for $620M was at the final point — the company is waiting for money transmission. The source clarified that for VTB «this is an investment project which might be developed by ALROSA itself but now the company is busy with other things.»
The source did not specify the oil & gas assets in question, however previously ALROSA conducted negotiations of the sale of ZAO Geotransgaz and Urengoyskaya Gazovaya Komapnia Ltd. The company also owns two hydrocarbon assets in Yakutia: ZAO Iryelyakhneft and controlling stake in OJSC Sakhaneftegaz, which was subject to judicial supervision late last year.
«The actions planned in order to sell non-core assets as well improvement of market environment and access to liquidity must result in enhancement of company’s operational and financial results," Sagiryan said.
During the first half of 2009 ALROSA proceeded with investment program implementation and managed to avoid production cuts however it hardly sold rough diamonds mined. Due to this fact the company posted negative results per IFRS: 1H 2009 net loss stood at 13 billion rubles compared to profit worth 112.57 billion rubles during the first half of 2008. Reporting per RAS (Russian Accounting Standards) has not been released yet for the first half 2009, however experts claim that the second quarter will be losing for ALROSA although some reduction of loss may be expected.
ALROSA returned to diamond market in July this year having sold rough diamonds worth $150M. Most consignments were sold per long-term contracts concluded in Spring 2009. Rough sales to Smolensk-based Kristall and Yakutian polishing enterprises were also resumed, more over, ALROSA got back to the form of auction for diamonds larger than 10.8 carats. During the first ten days of August ALROSA sold rough diamonds worth $35M at the market. The company expects August diamond sales to be not less compared to July. In general, according to a source from ALROSA, the company retains distribution plan for 2009 at the level of $2.6 billion.
At the same time experts don’t tend to regard July growth of diamond sales as the guarantee of further sales expansion. «Diamond market has suffered the recession most of other commodities markets," Sergey Goryainov notes. «We should not omit the seasonal factor. The second quarter and Summer season are usually characterized with larger turnover compared to the first quarter».
He added that the market experiences slight revival but it’s too early to make optimistic forecasts. «Experts agree that forecasts on the demand for rough diamonds should be based on demand for polished diamonds, i.e. end product. In accordance with different estimates, demand for polished diamonds is either on the decrease or stagnating but not on the rise anyway. And the reason for that is high unemployment rate in countries historically regarded as the major diamond consumers — USA, Japan and European countries. Unemployed people do not need diamonds. I suppose the company will follow cautious distribution policy to avoid drop in rough price. Basing on Gokhran’s support ALROSA will be able to build up long-term relations with major rough consumers which in their turn are interested in stable prices, he noted.
«There are some positive signs. Western market is recovering while it’s primary target market for ALROSA production», the Head of Morgan Stanley investment division in Russia Yan Tavrovsky said. «The company has returned to the market, according to the statements by its management and we regard this as a positive sign».
We take a positive view on the fact that new President Fyodor Andreyev was appointed at ALROSA and we see that he enjoys support from the shareholders. Previously ALROSA was responsible and punctual in meeting its obligations and we have no reason to wait for alteration in future," he noted.