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North American Palladium (NYSEMKT:PAL)

Q2 2013 Earnings Call

August 08, 2013 8:30 am ET

Executives

Camilla Bartosiewicz - Director of Investor Relations & Corporate Communications

Philippus F. Du Toit - Chief Executive Officer and President

David Carlo Langille - Chief Financial Officer

Analysts

Sam Crittenden - RBC Capital Markets, LLC, Research Division

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Leon Esterhuizen - CIBC World Markets Inc., Research Division

Matthew O'Keefe - Mackie Research Capital Corporation, Research Division

Ross Yakovlev

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

Daniel McConvey

Nathan Littlewood - Crédit Suisse AG, Research Division

Annie Zhang - Octagon Capital Corporation, Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the North American Palladium Second Quarter 2013 Results and Corporate Update Conference Call and Webcast. [Operator Instructions] I would like to remind everyone that this conference is being recorded, today, Thursday, August 8, 2013. And I would now like to turn the conference over to Camilla Bartosiewicz, Director, Investor Relations and Corporate Communications. Please go ahead.

Camilla Bartosiewicz

Thank you, Rick. Good morning, everyone, and welcome to North American Palladium's Q2 2013 Results and Corporate Update Conference Call and Webcast. The company's financial results were issued earlier this morning and they're available on our website at www.nap.com.

Before we get started, please be advised that the information discussed today is current as of August 7, 2013, unless otherwise indicated, and that comments made on today's call may contain forward-looking information. This information, by its nature, is subject to risks and uncertainties and as such, actual results may differ materially from the views and expectations that will be expressed today. For further information on these forward-looking statements, please consult the company's relevant filings on SEDAR and with the U.S. Securities and Exchange Commission.

Also, please be reminded that all currency amounts discussed today will be Canadian, unless otherwise stated. And all references to production in ounces refer to payable production and all tonnes are metric tonnes. Our presenters today are Phil Du Toit, NAP's President and Chief Executive Officer; and Dave Langille, Chief Financial Officer. When the prepared remarks conclude, we'll be pleased to take questions from analysts and institutional investors.

And now I'd like to turn the call over to Phil.

Philippus F. Du Toit

Thank you, Camilla, and thank you, all, for joining us on the call this morning. As you will hear today, we had quite an active second quarter from closing and financing view to advancing several reviews of our operating and development banks. Apart from the effective impact of the onetime financing cost and the foreign exchange rate, our operating results for the second quarter were within our forecast, recognizing the transitional phase we are in.

Looking at 3 critical aspects facing us today, we made good progress in the areas of operations, shaft development and identifying low-cost growth opportunities. First, although still in transition, we delivered a better than expected production results with a promising improvement in our operating trends. Second, the shaft, which will actually present a path toward return to profitability, remains within forecast and on schedule for utilization in the fourth quarter of this year. And thirdly, our ongoing focus on capital savings identified potential production opportunities at LDI that would be lower cost alternatives to Phase II, which allow us to defer the price in capital spending without compromising production growth to 250,000 ounces by 2015.

So let me elaborate a little bit on this. Further to these 3 areas of our business: operations, shaft development and future planning. Starting with our operations, LDI may deliver promising results. Our production of 35,428 ounces was higher than our internal forecast, but was in part driven by improved recoveries and better-than-anticipated grades from the off schedule. For the 6-month period, we had approximately 74,000 ounces of palladium for the year. And as expected, our cash cost at USD 564 per ounce was high, mainly due to increase in operating cost related to longer haulage distance, higher to rent, decreased metal prices of byproduct metals and underground mining costs were high due to the transition into the new area and the development of new stopes. Cash cost in Q3 are expected to remain around this range of what we saw in Q2, and will decrease in Q4 when the shaft comes into operation. Looking ahead at the remainder of the year, we are approaching the critical phase as we prepare for the changeover to the shaft operation. This will have some growing pains, although we are making absolutely good progress with regards to the operations preparations to get ourselves thoroughly prepared for this phase. Although we're working hard to augment our 2013 production with new incremental sources of low feed, I want to maintain a cautious outlook of this stage consistent with what we said this past May, that our previous production plans would be challenged and that we may be about 10% lower than our previous guidance of 150,000 ounces for the year.

Moving to second point on the shaft development, I'm pleased to report that we're tracking within our forecast and on schedule to start utilizing the shaft at the beginning of the fourth quarter. As I said earlier, this is a critical milestone for the company as it represents the path towards return to a profitable operation. The shaft sinking recently reached a depth of 785 meters below surface, representing about 95% completion of the total of 825 meters planned at the start of Phase I, but also working on a shaft steel installation, as well as equipping the loading pockets and spill pockets. The stope development is back on track and our target is to ramp up to about plus 3,000 tonnes per day during quarter 4.

I'm also excited about the preliminary indications from our ongoing focus on cost savings. In Q2, we embarked upon a strategic mine planning exercise to identify production opportunities that maximize near present value and cash flows, while minimizing capital expenditure requirements. The review has identified several prospective surface and lateral growth opportunities that represent lower-cost alternatives through Phase II, whereby NAP would be able to defer Phase II capital spending without compromising production growth.

Although indications are still preliminary, these alternatives can potentially increase production volumes and reduce operating costs at significantly lower CapEx than would be required to deepen the new shaft as part of the Phase II development. Essentially, we would replace the volume gains that Phase II would bring with lower CapEx development options. The benefit of this approach is threefold. One, it would allow us to defer CapEx spend ideally to a time when we could self-fund the expansion. Two, it would give us time to do more drilling at depth and do more value engineering on our Phase II plans to access the deeper part of the Offset Zone ore body. And three, it would give us time to evaluate if we can exploit the bottom of the Offset Zone using a sub-level block cave mining method, therefore further optimizing cash cost per ounce.

So starting in 2014, the strategy is to augment underground production from the Offset Zone as conceived under Phase I, with some alternative production sources that could potentially increase annual palladium production to 250,000 ounces by 2015, that would reduce cash cost per ounce. The production opportunities that are currently being assessed, not limited to, but these include [indiscernible] production opportunities from the North VT Rim and the Lower North Roby Zone Stope. The North VT Rim deposit which outcrops near the Northeast end of the Roby Zone open pit was drilled off in the fourth quarter of 2012 and in the first quarter of 2013.

A small pit grade resource is identified at the western end of the North VT Rim that could potentially be mined using a surface box cut mining method. And in the lower northern part of Roby Zone, we were able to delineate an additional stope that could potentially still be developed. Other targets include extensions of the Roby Zone to the south and the northeast, and the lower grade resource in the footwall of the Roby Zone.

Collectively, these extensions could contribute meaningful reserve and resource gains that could leverage existing infrastructure. There's also potential for the southeastern extension of the upper part of the Offset Zone that's taken between the shaft and the Sheriff Zone. This upper-level target was recently identified through the review of existing drill hole data. This target is ideally situated close to the shaft and existing infrastructure and could potentially provide a new source of supplemental low feed through the shaft to augment Phase I.

So all these alternatives represent attractive opportunities that are currently undergoing study. The sequence of where each starting [ph] would be brought into production is currently being assessed through validation and conversion drilling, resource estimation, engineering studies and economic analysis to be followed by detailed development planning. Where warranted, [indiscernible] applications and independent reports will be commissioned.

As part of this ongoing initiative to maximize development of NAP's assets, we're also reviewing the viability of changing the mining method for certain deposits of LDI from a long-hole stoping to a sub-level block caving. Although too early to commit to yet, if we were able to implement sub-level block caving at LDI, it could be really a game changer for us. Some of the benefits can be summarizes as follows: the reduced capital expenditures over the current mining method; increase reserves and resources by being able to lower the cut-off grade; increase production levels and overall lower cash cost per crown [ph].

We recently engaged an external engineering firm to assist with the analysis of converting certain deposits through the sub-level block cave mining method. We're expect the internal engineering review will be completed by end of Q3 this year, and depending on the outcome of that review, we'll proceed with the test lot likely in the first half of 2014. And of course, if fairly successful, implementation could remain thereafter.

So over the next few months, we'll remain quite busy completing our reviews and advancing the various cost-saving initiatives that were launched in Q2, with Q2 informed as we learn more and provide more formal updates during the fourth quarter.

I'll now turn the call over to Dave to discuss the company's financial results and the second quarter. Dave?

David Carlo Langille

Thank you, Phil. Good morning, everyone. I'll start off by recapping our recent financings. As you know, this is one of our top priorities during the quarter. Despite deteriorating financial market conditions at the time, we were encouraged by the strong level of interest in the company and I'll review entail, analyzing a number of different options available to us. One of our objectives was to implement a solution that will prevent substantial dilution to our current shareholders through a combination of debt and equity we selected. On June 7, we announced the completion of the USD 130 million senior debt financing with Brookfield. A fully subscribed private placement at $20 million in flow-through shares. The private placements were completed in 2 $10 million tranches, which closed on June 19 and July 23, respectively. And we also announced that we extended our operating credit facility by a year, as it was coming due for repayment in July. The company's ability to finance funding during volatile market conditions and with a firm as reputable as Brookfield is a testament to the quality of our asset base at LDI and the opportunity before us.

Some things to note about the Brookfield loan. It bears interest at 15% per annum and is due June 7, 2017. It is secured by first priority security on fixed assets and second priority security on accounts receivable and inventory. The company has the option to accrued interest during the first 2 years of the loan in which case the interest rate would increase by 4% from the basic 15% rate. Our loan contains covenants typical of this type of facility, including senior debt to EBITDA ratios, minimum tangible net worth requirements and capital expenditure limits. The new $130 million U.S. debt was used to repay existing senior secured notes of CAD 72 million, plus the related redemption premium. The new debt instrument, plus $20 million of the flow-through shares, provides added liquidity to the company.

Turning to our financial performance in the second quarter, in comparison with the same quarter in 2012, revenue was $33.2 million compared to $40.6 million. The decrease in revenue was primarily due to decreased sales volumes, primarily related to lower production levels. Additionally, financial results were adversely affected by scheduling of concentrate shipments in June, which represented approximately $3 million of gross revenue that was not recognized in the quarter. In Q2, the company realized the price of USD 719 per ounce of palladium sold, which gave us a palladium operating margin of approximately USD 155 per ounce. Due to the one-time impact of our financing in Q2, net loss was much higher at $26.3 million or $0.15 per share compared to a net loss of $3.1 million or $0.02 per share in Q2 2012. The net loss was adversely impacted by an $11 million loss on extinguishment of past debt, $2.3 million financing cost, and $4.5 million foreign exchange loss on U.S. dollar denominated debt. Adjusted net loss, which excludes exploration costs, foreign exchange losses, loss in extinguishment of debt, financing costs, loss of investment held for trading, loss from discontinued operations, and mine restoration cost that net of insurance recoverables, were $5.1 million compared to adjusted net income of $1.3 million. It's not for the scheduling of concentrate shipments, adjusted net losses would've been approximately $3.8 million or $0.02 per share. EBITDA was negative $3.9 million compared to positive $4.3 million. However, adjusted EBITDA, which excludes interest expense and other costs, such as loss on extinguishment of debt, depreciation and amortization, exploration and mine restoration cost net of insurance recoveries, was $3.1 million compared to $6.8 million.

Looking at our capital spend during the second quarter. NAP invested $33.2 million in development and capital expenditures at LDI, which includes capitalized interest in capital leases. Of that number, $20.6 (sic) [$27.6] million was invested in the LDI mine expansion, including $3.5 million of capitalized interest. And $4.3 million was invested in the tailings management facility. For the 6-month period, capital expenditures were $72.5 million, including 53. -- $59.3 million invested in the LDI mine expansion, which included $5.9 million of capitalized interest. And $12.2 million investment in other sustaining capital expenditures at LDI, including $9.8 million in the tailings management facility. We estimate that our capital expenditures in the year will total up to approximately $130 million. This number includes mine expansion, the TMF upgrade, our sustaining capital expenditures and capitalized interest. The amount is below our prior guidance of approximately $142 million and will be further refined by the end of the third quarter when the analysis of alternative targets is completed and a decision has been made on the potential deferral of Phase II.

Turning to exploration. In Q2, the company spent $2.8 million on net -- in exploration of which $0.6 million was capitalized as part of the mine expansion expenditures and $2.2 million was expensed. To date, as of June 30, 2013, NAP's total expenditures in exploration and infill drilling amounts to $8.9 million, of which, $1.8 million was capitalized in connection with the LDI mine expansion. We expect to have an update on our drill results from the second quarter later this month. As was mentioned in the news release this morning, we plan to release our annual estimate of mineral reserves and resources in January of 2014, so that it can include the results from both the 2013 drill program and the ongoing engineering and cost analysis work on the high-priority targets that are currently being assessed.

Turning to the balance sheet as of June 30, 2013, the company had a cash balance of $44.8 million and $26.7 million in net working capital. Including the recently closed second $10 million tranche related to the flow-through financing, the pro forma cash position at June 30 was $54.4 million. Based on the current forecast, we believe that our current balance sheet, together with cash flow from operations, provide sufficient financial resources to complete Phase I of the LDI mine expansion and establish our operations for improved financial performance in 2013 and beyond.

I'll now turn the call back to Phil for some closing remarks. Phil?

Philippus F. Du Toit

Thank you, Dave. As you heard this morning, there are a number of reviews underway and we still have work ahead of us to ensure that our operations are efficiently transitioned from trucking to shaft operations. Our third quarter is expected to have its challenges, but we believe we are prepared for most of them coming our way. Although the review of our long-term mine and development plan is still ongoing, I'm encouraged by the prospects before us. Presently, we have done to date is confirmed my view that the LDI is a world class asset, underpinning our view that LDI has considerable upside. Although quite ambitious, our target is to be cash flow positive by year end of this year. Over the next few months, we'll be completing some reviews on the new ore bodies and advancing various cost-saving initiatives that we've launched in Q2 and we will certainly keep you informed as we learn more and provide formal updates during the fourth quarter.

Palladium market outlook. Before we open the call to questions, I'll make a few brief comments about the palladium market. Palladium's stock prices averaged around $710 in Q2, ranging from the low of $629 per ounce to a high of $768 per ounce, currently trading around $720 per ounce. Palladium remains the most popular precious metal among the investors, tending to be one of the best-performing metals so far this year. Despite some of the volatility that we've recently seen in the price, the supply and demand fundamentals of palladium remains strong. Supply is falling off from the major producers in South Africa and Russia, and there's less contribution from the Russian states stockpiles. Meanwhile, demand from the investors and automotive sector is strong, driving high rising car sales in China and the recovery in the U.S., solidifying the deficit that we entered into 2012. We remain optimistic about where the price of palladium can still go and believe that our investments to expand our palladium operations are well timed in the commodity cycle.

In closing, I want to reiterate that we're dedicated to building long-term shareholder value by realizing our vision of becoming a low-cost palladium producer. We are appreciative of the shareholders who continue to stand by us and sincerely value your patience as we complete our transition. So thank you for your participation. And now, we look forward to answering some questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question today will come from the line of Sam Crittenden of RBC Capital Markets.

Sam Crittenden - RBC Capital Markets, LLC, Research Division

Just a question on the timing of the CapEx for this year, so you've got $130 million. Is Q3 expected to look similar to Q2, and then also how much of that $130 million is for Phase II?

David Carlo Langille

I would suspect that Q3 will be similar to Q2, it will be slightly down. We do have a slight downward trend as some of the surface infrastructure gets completed and as we finalize the shaft. So roughly, we've probably spent 65% of the CapEx for the year overall. On the Phase II, we still have a number in there for it, it's a relatively broad range, plus or minus $10 million, but we have to define that more in the third quarter.

Sam Crittenden - RBC Capital Markets, LLC, Research Division

Okay, and then if you were to proceed with Phase II, would it mean kind of continuing at the similar burn rate as to now and just keep deepening the shaft, is that what it would look like if you were to still stay on that path?

Philippus F. Du Toit

I think the expectation would be that it might be at a slower burn rate and that the shaft sinking will carry through 2014. But we still have to do some refinement to the engineering program to have a better definition around that.

Sam Crittenden - RBC Capital Markets, LLC, Research Division

And then I guess the downside would be you would send away your shaft -- your workers that are skilled at doing this and they're there and then if you were to do Phase II at a later date, you'd have to bring them back. Is that kind of what your trade-off would be versus looking at some of these other sources?

Philippus F. Du Toit

The disestablishment and demobilization of a shaft contractor is certainly a cost if we do proceed with the Phase II at a later stage. But for us, it's very important to conserve capital. And looking at some of the other opportunities we have, and I must say they look very attractive, we do have the opportunity to delay Phase II potentially by a couple of years.

Sam Crittenden - RBC Capital Markets, LLC, Research Division

Okay. Yes, that makes sense. And then just looking at the Offset Zone mining rates, sort of looks like you're at about 1,500 tonnes per day now. Could you maybe walk us through the next couple of quarters, what you're hoping to get that ramped up to and then into 2014, just in terms of a mining rate?

Philippus F. Du Toit

Yes, certainly. As you know, we were in a transition period going from the Roby to the Offset Zone and we had some challenges in opening stopes. So we really started at a relatively low rate. Last month, we achieved 2,100 tonnes per day and it's still going upwards. Our target for this month will be in the region of 2,500 plus. And hopefully by the end of quarter 4, we are in the 3,000 plus range. And all indicators are, at this stage, that we're on track with the opening of the stopes. And once the shaft is in operation, we can certainly push the evacuation of the ore as well.

Sam Crittenden - RBC Capital Markets, LLC, Research Division

And then you're hoping to sustain that 3,000 through 2014 or is there further -- you're trying to get up to 3,500? I can't remember what the mine plan was.

Philippus F. Du Toit

We have to get up to 3,500. Our target is even trying to exceed the 3,500 target in 2014. And that certainly would be the target.

Operator

Your next question comes from the line of Leily Omoumi of Scotiabank.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Just a couple of questions. You mentioned that you hope to be free-cash-flow positive by year end. What kind of cost or palladium price are you looking at in order to achieve that? I mean, I know it's hard to give us like a cash cost guidance, but can you provide a range maybe for Q4?

David Carlo Langille

On cash cost, in terms of palladium prices, we've adjusted our byproduct rates down to market and we're still being relatively conservative using $675, $700 in the palladium price per se. So that's still what we have on an internal basis. In terms of cash cost in Q4, obviously, it's going to depend significantly on how quickly we can ramp up and commission the shaft and get that up and running. But we're looking at the $300 to $350 range is probably a safe range at this point in time for what we're thinking in terms of the cost.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

That's great. And then, just in terms of exploration, can you just give us a breakdown on how much you want to spend for the remainder of the year on exploration expense versus capitalized? And maybe just a breakdown of what's sustaining is also expected to be versus expansion CapEx?

David Carlo Langille

I'm not sure we can get into that level of detail. For the exploration program we have ongoing, we've reallocated capital expenditures, which we had originally put in the budget, and we have moved that off to the exploration program which will be expensed. It's not a massive amount, it's sort of in the $2.5 million to $3 million range. In terms of sustaining CapEx, we do have a tailings lift going on right now which is going to continue into November of this year. So all other items excluding the TMF for the balance of the year is probably going to be only a couple million dollars in terms of sustaining. It's is not a big number, really.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Okay, that's great. Just lastly on grades for the remainder of the year, should we expect similar grades as we saw in Q2?

Philippus F. Du Toit

I would say very much so. The underground grade is pretty much consistent as we see now. We do have some opportunities for blending from surface material. So my view is Q3 will probably see very similar head grades through the mill.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

And then in Q4 as well, similar grades?

Philippus F. Du Toit

Q4 as well, we should see similar grades. Hopefully with the shaft in operation, we can increase our underground contribution to the mill, which will start to include the head grades through the mill.

Operator

Your next question will come from the line of Leon Esterhuizen of CIBC.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

Just please help me out on this -- the financial position, the cash and the capital. The rough calculation have you at, say, $54 -- $54 million of cash with about $60 million worth of capital to spend still, and you are guiding for quarter 3 to be roughly the same as this quarter, implying some negative EBITDA after interest expense. So it looks like you're needing something in the order of $70 million, which is implying in the order of a $10 million to $15 million shortfall. Am I missing something in that calc?

David Carlo Langille

I guess what's missing is we're looking at the CapEx has come down, the numbers we have internally and in our cash flow does get significantly stronger, and we also have the credit facility will open up for us in the -- in the fourth quarter of the year, later in the third quarter, as we ramp up production. So we think cash on the balance sheet plus the additional availability under the credit facility is going to be enough for us. Certainly in November, December, we look to be cash flow positive and to -- assuming things ramp up accordingly, we believe that the cash flow will be there. The other thing which is included in our numbers is that Phase II expansion and continuing on Phase II and whether we proceed with that in the fourth quarter, it's something which we will -- we're looking at and deciding, but that is a decision which is literally a couple of months away.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

Can you just remind me what that credit facility is, how much it is?

David Carlo Langille

It's USD 60 million.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

$60 million.

David Carlo Langille

Current utilization at the end of June was $38 million, basically.

Operator

Your next question will come from the line of Matthew O'Keefe of Mackie Research Capital.

Matthew O'Keefe - Mackie Research Capital Corporation, Research Division

I had a couple of questions looking Q4 and beyond. Particularly, first off, the transition of the shaft, obviously, is the most critical event this year. Can you give us a sense of what the biggest challenge of transitioning to the shaft is going to be and what you're doing to ensure that that's going to be a smooth transition and you will meet these targets? Because it sounds like you are working on a very, very tight budget here.

Philippus F. Du Toit

Yes. Let me take you through it very quickly. Obviously we've got to finish all the installation with the mechanical equipment and the electrical installations and powering up. That's critical for us now when we've got the daily program that we're monitoring and following through our project management team on-site. The other thing is a very well-sequenced commissioning process, testing and commissioning process, to make sure that we don't burn out any electrical equipment prematurely because not having followed the right sequence of testing. So that is going to take some time and effort. But most importantly, the operational readiness of the staff and the people to be able to transition into the shaft so that we have our maintenance programs well defined, we've got our operating procedures well outlined, plus we have our -- all the safety aspects in place and we've got the necessary people trained up for that. So right now and for the next quarter, we'll be working very hard in terms of getting all those aspects ready. We started with testing of certain services on surface already. It's going according to plan, it's going quite smoothly. Operator training and standard operating procedures is ongoing right now as we speak. So we're trying to take all the necessary precautionary actions not to have any nasty surprises during the startup. But you know, as these things move, there are usually some bumps in the road, although we don't expect them to be big and too many, we are prepared for it.

Matthew O'Keefe - Mackie Research Capital Corporation, Research Division

I appreciate that. And then just on some of the extra opportunities that you're outlining particularly with the North VT Rim, is there a -- would you be able to permit that relatively quickly should the economics look good to you or would there be a long lead time with respect to permitting that open pit?

Philippus F. Du Toit

We are cautiously optimistic that the lead time to the permitting is not going to be that long because it's in a current footprint of the mine very close to the open pit, it's already recognized in our closure plan. So we believe it will not be a long process, probably a month or 2. Hopefully, not longer than that. We already commenced and started the process. So we're cautiously optimistic about that.

Matthew O'Keefe - Mackie Research Capital Corporation, Research Division

And then just my last question for now is on the -- you mentioned -- first time I've heard of it is, you're looking at potentially doing a test block in 2014, testing the block cave, you're block cave methodology or mine method. Is that a -- would that be part of an exploration budget or is that part of an operational budget and what kind of costs are associated with that?

Philippus F. Du Toit

It will be part of the operational budget and will be part of operational cost because every single cubic meter or tonne that will be liberated by the test block will be recovered and will be processed. So we do see it as part of our operating plan.

Operator

Your next question will come from the line of Ross Yakovlev of Raymond James.

Ross Yakovlev

I guess this question is for Dave, and not to beat a dead horse, but this is one more question on CapEx. Now could you please provide a little bit more of a breakdown for the remaining spending of about $50 million in CapEx? And specifically, how much of it is deemed to be essential for the completion of the shaft? And how much of it is sustaining? And potential, how much of it is also capitalized interest? Is the plan is still to push out the interest expense -- interest payments until later and this could be a noncash charge as part of the CapEx?

David Carlo Langille

Yes. In terms of the capitalized interest with the refinancing and the shaft coming on stream October 1, the quarter is basically going to be one quarter of the new debt interest rate. So it's basically going to be $5 million capitalized interest in Q3. And that will be the end of it, assuming the shaft's online, up and running currently in October. So that will cut off the capitalized interest, I think. Now just to be clear, in terms of the CapEx spent to date, we're basically at $72.5 million because that includes the Offset Zone, all other costs including a TMF, capitalized interest of $5.6 million from capital leases. So there is a little bit of disconnect. When you look at our cash flow statement, it has a lower number. But in terms of actual cash expenditure, when you compare it to the $130 million guidance, we spent $72.5 million already. So that is one number to look at. Phase II is something which is discretionary, so that's worth $10-plus million. So that's something which is $130 million, whether we go forward with that or not, somewhat discretionary. And in terms of the spending, we expect the Q3 to be in the $30 million to $35 million range. So I think when you do the math, you end up with Q4 our CapEx spending becomes very light, especially if we decide not to go forward with the Phase II and you've taken the fact we've got probably 2 months of TMF work done.

Ross Yakovlev

And how much of it is again sustaining?

David Carlo Langille

Sustaining, again, it depends. In the fourth quarter, it's -- when you back out the TMF, it's only a few million dollars. Now the TMF, for all other sustaining including the TMF for the back half of the year, we're looking at about $10 million to $12 million total. So all sustaining, including TMF.

Operator

Your next question will come from the line of George Topping of Stifel.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

Phil, could you give us July's production and cash cost numbers?

Philippus F. Du Toit

The July numbers, we did make our internal target on palladium production. And the cash cost was lower and it's similar to what we've seen in quarter 2.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

All right. On that internal production number, is it also a fairly constant run rate from Q2?

Philippus F. Du Toit

Yes, slightly improved, though, because we're getting the mining rate up. July is the first month of the upper mining rate, above 2,100 tonnes a day from the underground, and particularly, we're talking underground mining rate now. The surface rate will be pretty constant Q2, Q3. But we've seen some really promising trends from the underground.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And in the MD&A, you mentioned that the open pits in Roby are finished. So the substrate material is -- is it done? Are they oversized or...

Philippus F. Du Toit

There is some from the -- what we call the medium grade ore stockpile. And we're still doing some randomized mining in the open pit there, some pockets that is definitely economically extractable, that we are going through the medium grade ore stockpile.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

How many tonnes are on that stockpile and what grade?

Philippus F. Du Toit

The grade is about 1.2 to 1.3 grams per tonne. And the volume, I am not too sure of the volume. David, do you have the volume in that stockpile?

David Carlo Langille

I believe it was running around 300,000, 350,000 tonnes.

Philippus F. Du Toit

Probably slightly more than that, probably in the region of 400,000 tonnes.

David Carlo Langille

And George, that excludes 13 million tonnes of 0.97, the 1 gram material which we have in the low-grade stockpile as well.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

That's right. My understanding was that needed higher palladium prices to be economic. Has that changed?

Philippus F. Du Toit

The medium-grade ore stockpile, no. It's economic currently at about 1.1, 1.2 grams a tonne. But the low-grade stockpile, the 0.97, is a different issue.

David Carlo Langille

We're looking at it closely. I mean, the other thing is, with the mill recovery rates increasing, the numbers, even buffered with a fixed tail, the recovery rates of that material does seem to be higher than it has been historically as the mill processes have been improved.

Philippus F. Du Toit

But we've seen a very good increase or improvement in our recovery rate for quarter 2, which is very encouraging. And we've got a few things we're still doing to even improve that with another couple of percentage points.

David Carlo Langille

And maybe just to clarify. I've been asked questions about our go-forward forecast. I mean, we've taken a fairly conservative approach. So Phil was asked the question about the North VT Rim. That's not included in our numbers in terms of our cash flow approach. And similarly, even though it's stated in the MD&A that the Roby Zone and the open pit are largely mined out, those additional tonnes are not included in the bottom of the pit, as well as in the Roby Zone Vale. We mentioned that there is a lower Roby North sills available that we're looking to taking out, and that's not included in our numbers either. Until we get the engineering done, the company wouldn't place it. They don't make into our numbers.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

I see. Just another question would be, do you have an early look at offset mining costs per tonne?

Philippus F. Du Toit

George, the offset mining cost per tonne, you're talking underground, is, right now, it's not really representing what we will see towards the end of the third and fourth quarter simply because we've got low volumes as we opened and developed the stopes. So right now, the costs are high because of low volumes stocking up with the new zone. We have low volumes. But we certainly have planned and are seeing improvement to that.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

Okay. I'm going to ask the question for next quarter or so when you're further in with it?

Philippus F. Du Toit

Absolutely.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

I also noticed on your website there are vacancies listed for underground miners. Can you tell me how many miners you're looking for? With these markets, David, I may be interested.

Philippus F. Du Toit

You're very welcome. We've -- there's another element that I think we should also recognize in these assets. We're going to embark upon a pretty aggressive growth program with all these other opportunities that we have now identified. So generally, we'll be looking for additional crews to expand that production into other areas as well. So we will have a very good feel for the increase in mining resources that we will need by end of quarter 3, as we define the additional resources that we're going to mine.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

Great. Do you have a number of the underground production staff that you still need to hire? And how is the recruiting going? Are you able to source people, experienced people?

Philippus F. Du Toit

The recruiting is going fairly well. Actually, we've had very good responses. We've recruited virtually all over the country. And so we don't see a serious problem in getting the skills at all. And the exact number is going to vary a little bit once we've defined the number of mining phases we will -- we are planning with our new development plan to open up. So that is very much work in progress.

George J. Topping - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And then -- and I will just switch to David. I just want to make absolutely sure I'm understanding the Brookfield interest payments that -- you will make the payments in Q4 rather than capitalizing that?

David Carlo Langille

That's certainly -- that's the intent at this point in time, yes.

Operator

Your next question will come from the line of Daniel McConvey of Rossport Investments.

Daniel McConvey

Dave, just on those interest payments, we talked about before that you are -- you're obliged to get sort of the interest through the life of the term. I'm just wondering, if you did defer the interest payments, does that -- can you catch it up later or are you locked into paying the 19% interest? Once that clicks in, does it -- is it reversible? Or does it click in no matter whether you catch up or not?

David Carlo Langille

Well, it's reversible, but you have to make it on a basically 6-month increments. So if a decision was made to -- at the end of December to defer a payment, the 19% rate would kick in from June going forward, from July 1 to December, and then basically, you would be locked in until the following June. It's very onerous to make that. I mean, it's very expensive money for us to do that and it's certainly not our intent ever to do that.

Daniel McConvey

Okay. Great. With the -- I just want to confirm. All the underground -- going to the mining side, so everything underground mined is for the quarter and going forward is planned from the Offset Zone. It wasn't anything mined from Roby.

David Carlo Langille

That's correct. We've broken that out on Page 5 of our MD&A. We just split out the tonnes by source for the quarter. So nothing from Roby, it was all Offset Zone.

Daniel McConvey

Okay. Going to the sub-level cave. Can I ask you, the contractor you have that's advising you on the sub-level cave, is that -- can you tell us the name of that contractor or not?

Philippus F. Du Toit

It's an engineering company well recognized for its skills in the site of mining.

David Carlo Langille

And Daniel, I know people have referred to sub-level cave. It's actually sub-level block caving, which is an important difference. We're going to drill off every meter of rock, and we are going to blast and use explosives. It's just not -- we're supplying -- we're not just relying on gravity block compressors to the cave. So that's why we've put the slide in the presentation, just to show people that it's dramatically different from block caving per se.

Daniel McConvey

Phil, I'll respect it if you don't want to give the name, but I'll just ask one more time in case you can give the name.

Philippus F. Du Toit

Well, it's just a very recognized engineering company in the field.

Daniel McConvey

Okay. The shaft, I can't remember if it's 7,000 or 8,000 a day hoisting capacity. If you go to block-level caving, is there -- or sub-level, block-level caving, is there enough capacity, hoisting capacity, in the shaft to which you would envision doing?

Philippus F. Du Toit

That's a very good question. The capacity of the shaft is very much going to depend upon how we utilize the ore pass capacity and the underground mining rate. The shaft really has got quite a bit of flexibility, between 6,000 and 8,000 tonnes a day, even if that is squeezed a little bit more, dependent on the lifting cycle that we want to use. But the key for us is to try and maximize the utilization of that infrastructure, that's the shaft that is. So once we've really familiarized ourselves with all the movement and everything we need, optimize the underground traffic towards the ore pass, we probably can squeeze the shaft up to 8,000-plus tonnes a day quite comfortably. And it would be ideal not to have the mining phases as the bottleneck because that's -- you've got months of your variabilities in your mining activity. So the target would be for the mine to be able to outperform the shaft capacity. That would be a good position to be in.

Daniel McConvey

Okay. Nice figure. I guess, from other mines we covered, I just -- one thought would be that it would take some CapEx to set that up. I mean, it is -- it would be a fairly big project, I would assume, in terms of getting ore development done to set up a large sub-level block caving operation?

Philippus F. Du Toit

Yes. If you look at the development that we need to do to do the open stope mining that we do now versus the development required to get a block prepared for the sub-level caving test, it's pretty much in the same order of magnitude, if not a little bit less expensive for the development in the sub-level block caving case. So it's pretty much in terms of development costs.

Operator

Your next question will come from the line of Nathan Littlewood of Crédit Suisse.

Nathan Littlewood - Crédit Suisse AG, Research Division

Just a few questions. Firstly, with the surface material that you are processing in the back half of this year, can you just talk to us about any potential difference between cash and the accounting, or P&L costs, of that material? I'm just wondering whether there's some sort of deferred costs associated with having put that material there in the first place. And is there a significant difference between the cash and P&L cost of it?

David Carlo Langille

For modeling purposes, there's not. We don't have a huge amount of value associated with those items on the stockpile on the surface. So I mean, for modeling purposes, it's very nominal now per tonne. So it's not going to have much of an impact whatsoever.

Nathan Littlewood - Crédit Suisse AG, Research Division

Okay. And for the June quarter costs, is it possible to get a split between how much was attributable to this open pit or surface material, the underground?

David Carlo Langille

Yes. Not at this time because we're in a transition period. It's very tough, just with some of the work, some of the accounting, the costs were reported. I know in Q1, we split out the surface and underground. This quarter, it was difficult to do. So at this point in time, because we're in transition, it's really comparing sort of apples-to-oranges year-over-year. So we have to go back and just look at the mining cost on an aggregate basis. So I'd hope to do that in Q3. Back to other questions about splitting it off, that cost, it will be easier to do potentially in future periods. But because we're in that transition period, it's very difficult for us to actually come up with those numbers.

Nathan Littlewood - Crédit Suisse AG, Research Division

Okay. Next one, just on the CapEx number for this year, we can see it's come down a little bit relative to what you'd spoken about 3 months ago. I just wanted to check, are we talking apples-for-apples in terms of scope? Or has there been some scope that's perhaps slipped into 2014?

David Carlo Langille

No. It's apples-to-apples. The big change is [indiscernible] in Q1, we had the big overrun on the OpEx. We had the overrun in the CapEx by $8 million. Very concerned whether that trend was going to continue, so sort of backed off on our expectations and we hadn't done the work to actually dig in and look at the costs. Obviously, the biggest component of that is the Offset Zone, the development. Since that point in time, we brought in a professional engineering firm to take over the project. They've gone through, looked at the numbers, vetted the numbers, vetted the time frame. So more comfortable with the actual costs and when that project is going to be completed. So that is all basically the same. A lot of it is just refining the numbers and having better information. Certainly, in the third quarter, we'll have better information in terms of what strategy we're going to use forward -- excuse me, going forward. But it's apples-to-apples. We haven't cut back. The Phase II cost is basically unchanged from what we had in there initially. A lot of it has to do with a better level of confidence in the numbers and more clarity as to what exactly those numbers are for the Offset Phase I. It's a big difference.

Nathan Littlewood - Crédit Suisse AG, Research Division

Okay. Final question is, I guess, a bit of a philosophical one. I don't think it's a secret to anyone on this call that you guys are in a pretty tight position when it comes to cash and cash flow. So when you are looking at some of these development options and expansion options, I guess, there's potentially a pretty big difference between managing the mine for short-term cash flow and managing the mine/projects for sort of the longer-term DCF. And the 2 may not necessarily be consistent, but if you want to manage for long-term DCF, then perhaps there's higher capital costs involved and perhaps we need to start thinking more and more about equity dilution. So I'm just wondering if you could talk, I guess, philosophically how you're thinking about short-term cash flow attractiveness versus long-term DCF attractiveness and your willingness toward [ph] equity holders.

Philippus F. Du Toit

If I can maybe just give an overview on that very quickly is, our view is really to minimize CapEx for the short term, short and medium term. All these expansion projects or options that we're looking at, we've got one, shall I say, constraint that we've put in our modeling. And that is to be cash flow positive, not to go back to the market. So for the short and medium term, big focus on cash. And although we don't want to limit production increase and we've seen some potential of some of the areas or ore bodies that's very close to the existing infrastructure, required a little bit of capital development to get into the ore body and we can start to generate cash from those for very low CapEx. So one big constraint in our model that we're evaluating all these alternatives is to stay cash positive and not to consume CapEx. However, in the longer term, if we see there are very lucrative options to really increase a return on investment dramatically, then we shall evaluate that in those terms at a later date when we are in a position of -- in a stronger position from a cash flow perspective.

Operator

Your next question will come from the line of Annie Zhang of Octagon Capital.

Annie Zhang - Octagon Capital Corporation, Research Division

Most of my questions have been answered, but I just want to clarify on your near-term and the long-term mine plan here. So for the remainder of the year, the ore would be from the Offset Zone and the surface ore. And your surface material, which you have about 400,000 tonnes left and a grade of between 1.1 and 1.2, is that correct?

Philippus F. Du Toit

That's more or less correct, yes.

Annie Zhang - Octagon Capital Corporation, Research Division

Okay. And then going forward, with the goal that you have been talking about, palladium production of 250,000 tonnes by 2015, that's despite whether you will be able to bring either Phase II or the new targets that you have been working on into the mine plan?

Philippus F. Du Toit

That's correct. We have got a few very attractive new targets that we see have relative low capital requirements to bring them into production, utilizing the existing infrastructure. But as we've said, we need to do the confirmation drilling. We need to do the engineering and mine planning and the economic analysis offers, but they certainly include some of those targets for the longer-term plan for 2015.

Annie Zhang - Octagon Capital Corporation, Research Division

Okay. So maybe, David, do you have the awarding for your inventory, particularly the crushed ore to be processed number for me?

David Carlo Langille

I'm sorry, the value?

Annie Zhang - Octagon Capital Corporation, Research Division

The volume. The tonnage of your crushed ore in your inventory.

David Carlo Langille

I'll have to get back to you offline. I don't have that, the tonnes and grade with me. I know the grade's 1.2. I just have to -- for the medium grade, it's 1.2, and I have to get back with the tonnes. And I know, for the low grade, it's 1 gram and it's 13 million tonnes.

Annie Zhang - Octagon Capital Corporation, Research Division

What I'm trying to get is, it seems like your head grades going forward for the remainder of the year is likely going to be lower?

Philippus F. Du Toit

The head grade going forward for the remainder of the year, as we start to grow the production from underground, it should be improving. Because we started off underground at about 600 tonnes a day, we're running about 2,100 tonnes a day, growing up to 2,500 tonnes a day pretty quickly, and we are trying to push that up to 3,000 tonnes a day at a 4.5-plus grade. So the ratio from underground to surface material is improving. The underground is a lot higher grade. So the average grade for the mill feeds should improve -- or will improve.

Annie Zhang - Octagon Capital Corporation, Research Division

Okay, okay. And lastly, maybe I missed the answer to this one. I have a note on your 2013 exploration budget is about $7 million. So what do you expect to spend for the remainder of the year?

David Carlo Langille

Yes, Annie, we have an exploration program ongoing right now. So the remainder of the year, it's -- just let me look through here, it's probably just less than $2 million.

Philippus F. Du Toit

Just over $1 million, yes.

Operator

[Operator Instructions] We do have a follow-up question from the line Ms. Omoumi of Scotiabank.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Just really quickly. I want to follow up on the credit facility and what is still available on it. Maybe I'm mistaken, but I thought that it was pretty much drawn -- USD 23 million was drawn in Q1 and then there's USD 17.3 million of letter of credit. Can you just maybe expand on that and let us know under what conditions you have access to more capital there?

David Carlo Langille

Yes, the credit facility was fully drawn at the end of June. Availability, what we have in the books is the USD 37.9 million, and of that, USD 14.6 million was LC. So -- and that's U.S. dollars. So the total availability under that facility is USD 60 million. So it really is weighted towards receivables and inventory because there's a borrowing base calculation. So as production increased, the shaft comes online, we have more production out with our customers, that borrowing base will continue to increase over time. So that is basically where we see the number increasing, and we see availability under that facility probably getting up to the USD 55 million range. We won't be able to get to the USD 60 million and full availability likely until 2014 and we get our daily -- under their production from underground at a higher level.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Sorry, sorry. If you get up to USD 55 million, then how much is available to you then in that condition?

David Carlo Langille

Well, of the USD 55 million that's available, less what we're using now is the USD 38 million, so you get another USD 17 million anyway.

Operator

Your next question is a follow-up from Leon Esterhuizen of CIBC.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

It's a stupid mining question but -- or a minor question. Can you please tell me why you had to pay 11 million for extinguishing past debt. I mean, given your tight cash position, it doesn't make a lot of sense to me.

David Carlo Langille

Yes. So there are 2 components. We couldn't access the debt market until we repaid the debt. So the first thing we have to do, it was a 72 million face value, 7.2 million was the actual cash premium that we had to pay on extinguishing the debt. And the only other component of that is when that -- those secured notes were originally issued, they had a palladium warrant [ph] associated with them. So even though it was a 72 million face value, we've put on the books roughly 67 million as the carrying value for accounting purposes. So the balance between the 11 million and the 7.2 million premium was basically a noncash accounting adjustment relating to basically we had it our the books below the face value of 72 million. So when we paid it, obviously, we repaid the debt and we had to take a loss because we were bumping it up to full face value instead of accreting that over the next 1 year, 1.5 years.

Operator

Ladies and gentlemen, this does concludes the question-and-answer session. I'll now turn the call back to management for any closing.

Camilla Bartosiewicz

Thank you, everyone. If there are any follow-up questions, please get in touch with me at camilla@nap.com. Thanks, and have a good day.

Operator

And thank you. Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation, and you may now disconnect your lines.

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