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North American Palladium (NYSEMKT:PAL)

Q3 2013 Earnings Call

November 14, 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

James E. Gallagher - Chief Operating Officer

Analysts

Leon Esterhuizen - CIBC World Markets Inc., Research Division

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

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Annie Zhang - Octagon Capital Corporation, Research Division

Arnold Van Graan - CIBC World Markets Inc., Research Division

Operator

Good morning, ladies and gentlemen, and welcome to the North American Palladium's Third Quarter Results Conference Call and Webcast being held today, Thursday, November 14, 2013, at 8:30 a.m. Eastern time. I would now like to turn the call over to Camilla Bartosiewicz, Director of Investor Relations and Corporate Communications. Please go ahead, Camilla.

Camilla Bartosiewicz

Thank you, John. Good morning, everyone, and welcome to NAP's Q3 Results Conference Call and Webcast. The company's financial results were issued earlier this morning and they're available on our website at nap.com.

Before we get started, please be advised that the information today is current as of November 13, 2013, unless otherwise indicated, and that comments made on today's call may contain forward-looking statements. This information, by its nature, is subject to risks and uncertainties and as such, actual results may differ materially from the views and expectations 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 on today's call are in Canadian dollars, unless otherwise stated. All references to production in ounces refer to payable production and all tonnes are in metric tonnes. Our presenters today are Phil Du Toit, NAP's President and Chief Executive Officer; and Dave Langille, Chief Financial Officer. We're also joined by Jim Gallagher, our new Chief Operating 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. Let me briefly recap the quarter. We had quite a busy transition period, but LDI delivered steady operating results with some encouraging operating trends. For the 9-month period, production stands at 104,000 ounces of palladium, basically in line with our forecast. Our Q3 financial performance was for the most part within our expectations for the transition period.

Looking ahead to 2014, I'm optimistic that we will see an improvement to our operating and financial performance as we increase our production and start to realize decreased cash cost per ounce.

During the third quarter, we completed the construction of the shaft and subsequently commenced shaft commissioning in early Q4.

We're now in the process of production commissioning and although the commission is taking slightly longer than what we would have optimistically hoped for, our target is to ramp-up to 3,000 tonnes per day towards the end of December. In short, in Q3 we were basically on target in all aspects CapEx, OpEx and production volumes.

So let's look at the preliminary indications for Q4. We have an optimistic forecast that we were aiming for internally, but it's proving to be a little bit more challenging than previously conceived. This forecast had assumed a faster ramp-up through the shaft in October. While we had hoped we would beat our internal forecast, the strength of our balance sheet was always contingent on certain expectations and operating cash flow, CapEx, production and the timely ramp-up of the mining by shaft.

The slowed and anticipated ramp-up has reduced the accounts receivable levels that we previously anticipated in Q4, thus decreasing our borrowing base and our credit facility.

Looking at our balance sheet, it's apparent now that we are faced with a short-term liquidity shortfall for working capital purposes, and need to breach the gap until NAP achieves profitable or breakeven operations in 2014. To that end, we are now actively engaged in discussions with various parties about securing additional financing to produce back on the stable footing and we continue to review all of our options. This is most certainly the priority for us now. In Q4, we might still encounter some unforeseen events. This would not be uncommon for the phase we're in. But be assured that the company has adequate risk litigations in place with the appropriate technical expertise to resolve the issues as they occur. 2013 has its challenges so far, no doubt, but we achieved what we said, we do so far, and the accomplishments of the year have better positioned us for 2014 onwards.

We plan to increase our underground throughput to about 4,000 tonnes per day during 2014. We expect to see the costs come down, and likewise, our capital expenditures program will be reduced.

Although we are not quite ready to give formal guidance until January, I'm optimistic about the LDI prospects for improved operating margins in 2014.

Commissioning and production board of phases have had their fair share of challenges, and it's not uncommon in the industry, but it's also temporary in nature. We are no different. We will be well positioned for 2014 onwards, as hopefully our guidance in January will indicate. So if we move now to our quarterly operating results, our production of approximately just over 30,000 ounces, with slightly below our internal forecast for the quarter, in part due to the mining transition from 1 zone to the other. Year-to-date, for the 9-month period, we were at 104,000 ounces of palladium for the year.

As previously guided, our cash cost of $581 per ounce was quite high, mostly impacted by the lower production volumes that was as a result of the transitioning to the new ore body, as well as the transitioning phase the mine is going through which is still utilize the ramp system for haulage, as well as the decreased metal prices of the byproduct metals. For the 9-month period, our cash cost per ounce averaged about USD 559 per ounce. During the third quarter, we continued to blend underground Offset Zone ore of low-grade surface stockpiles as the open pit is now essentially mined out. Although, our underground grades of 4.5 grams per tonne were higher than what we mined in the past quarters this year, we blended with proportionately more surface ore, hence, our overall milled head grade decreased to 2.5 grams per tonne.

Despite this decrease in overall head grade, I'm pleased to see that our recoveries held up well at 80.7%, consistent with what we saw in quarter 2 when the head grade averaged about 3.1 grams per tonne. As a matter of fact, we are in the process of making some improvements at the mill while utilizing our vertimole circuit a little bit more efficient and respect this yield improvement -- we expect to see this yield improvement in recoveries in 2014.

Our total cost per tonne milled also decreased the quarter-over-quarter to about $48 per tonne, although that's also in part due to the blend proportions at the surface material cost less to move.

Moving onto our development update. I'll elaborate further on the shaft commissioning phase. During the commissioning, as we started up the crusher, we had experienced some difficulties with the automated controls. This did not represent a major setback as we were able to move to manual operation, but it slowed down the process somewhat. We're currently hoisting both ore and waste through the shaft, although still at reduced rates against our internal plans, in part because of some material flow challenges, and then demobilization of the sinking equipment. This temporarily limits our skipping to a single shift for safety reasons. In any event, both the crusher automation and demobilization phase will be completed in the next couple of weeks and those issues are all being addressed in the material flow system as well. As I said, we're now hoisting ore and waste through the shaft and we maintain our target rate of reaching 3,000 tonnes per day towards the end of the quarter.

And I will now call -- I will now turn the call over to Dave, our CFO, to discuss the financial performance. Dave?

David Carlo Langille

Thank you, Phil, and good morning, everyone. To recap our financial performance in the third quarter in comparison to the same quarter in 2012, the revenue is $33.3 million compared to $36.2 million. The decrease is primarily due to lower cost of these precious metals sold and lower realized priced for byproduct mills. In Q3, the company realized the palladium price of USD 721 per ounce, which coincidentally was also the spot price for the quarter. This gave us a palladium operating margin of USD 140 per ounce or $4.2 million.

Net loss was $5.3 million or $0.03 per share compared to a net loss of $8 million or $0.05 per share in Q2 of 2012. EBITDA was $3.8 million compared to $0.1 million. Adjusted EBITDA, which excludes interest expenses and other costs, depreciation and amortization, exploration and mine restoration costs net of insurance recoveries was $3.2 million compared to $4.4 million.

Looking at our capital spend during the third quarter, NAP invested $26.9 million in development and capital expenditures at LDI. Of which, $22.1 million was invested in the LDI mine expansion, excluding $6.2 million of capitalized interest and $3.9 million was invested in the tailings management facility. For the 9-month period, capital expenditures totaled $92.5 million, of which, $75.9 million was invested in the LDI mine expansion, excluding $12.1 million of capitalized interest. And $16.6 million was invested in other sustaining capital expenditures at LDI, including $13.7 million investment in the tailings management facility.

Looking ahead to the rest of the year, we estimate that our capital expenditures will now exceed $130 million. During the fourth quarter, we'll continue to invest in the development to open up more working stopes for 2014. We're -- be completing a tailings management facility upgrade and this also includes other sustaining capital expenditures.

Turning to exploration. In Q3, the company spent $3.9 million in exploration, of which, a $100,000 was capitalized as part of the mine expansion expenditures and $3.8 million was expensed.

To date, as of September 30, 2013, NAP's total expenditures in exploration and infill drilling amounts to $10.9 million, of which, $1.9 million was capitalized in connection with the LDI mine expansion.

We expect to have an update on our drilling results in the third -- from the third quarter, sometime in December, and we plan to release our annual estimate of mineral reserves and resources in late January 2012 -- 2014.

Turning to the balance sheet. As of September 30, 2013, the company had cash balance of $18 million. Our USD 60 million credit facility was limited by our borrowing base of USD 37.4 million, and thus was fully utilized at quarter end, which unfortunately, has put us in a liquidity squeeze during the transition period.

Transition phase of the shaft in conversion to Offset Zone mining has resulted in lower production volumes than previously anticipated, which is negatively impacting revenue and accounts receivable, resulting in a need for additional cash for working capital purposes.

Accordingly, as Phil said, we are currently in the process of evaluating our options to bridge the gap until company achieves profitable or breakeven operations in 2014. While the mine generates revenues, it has not yet achieved consistently profitable operations. Our ability to continue operations and exploration development activities is dependent on the company achieving profitable operations. The achievement of this is dependent on a number of variables including, but not limited to, metal prices, operational costs, capital expenditures, timely ramp-up of mining by shaft, meeting production targets and profitable operations. I'll now turn the call back to Phil for some closing remarks. Phil?

Philippus F. Du Toit

Thank you, Dave. Before we open up the call for questions, I'll now make a brief comment about the palladium market. Palladium spot prices averaged around USD 721 in quarter 3, ranging from a low of USD 674 per ounce to a high of USD 760 per ounce, currently trading back around USD 750 an ounce. Palladium remains the most popular precious metal amongst the investors, trading to be one of the best-performing metals this year. Most commodity forecast has predicted that strong performance will continue into next year as global cost sales are estimated to rise by about 4.8%. The supply and demand fundamentals of palladium remains strong, keeping the market in the deficit.

The supporting factor behind the positive outlook for the metal's future performance is the resilient industrial demand and constrained global mine supply. In fact, earlier this week, Jonathan -- Johnson Matthew released an update on the PGM market review. Their research reaffirms a well-known prospects for palladium, pointing out to the forecast of 740000-ounce deficit in 2013. This deficit is forecasted to grow as we have less contribution from Russian stockpiles, investment demand could arise if South American palladium ETF is launched, and we continue to see more double-digit growth out of China. Johnson Matthew forecasted a price range between $680 to $815 per ounce over the next 6 months, with an average of about $760 an ounce.

We remain optimistic about where the price of palladium can still go and we believe that our investments do expand, our palladium operations are well timed in this commodity cycle. In closing, I want to reiterate that we are dedicated to building long-term shareholder value by realizing our vision of becoming a low-cost reliable palladium producer. We are appreciative of the shareholders who continue to stand by us and sincerely value your patience as we're in the process of turning operations around.

I also wanted to briefly mention the recent volatility in our share price. I recognize that some of it may have stemmed from some uncertainty regarding our operations, or perhaps some speculation around our financial position. I hope that today's disclosure can help to alleviate some of these concerns, and I hope that you can see past this transition period and stay focused on the longer-term prospects ahead of us. Regardless of the quarter, we are committed to bode shareholder value, and we are hopeful that as we execute our long-term strategy, this will be reflected on an improved share price performance. With that, thank you very much for your participation. And now, we can look forward to answering some questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question is from Leon Esterhuizen from CIBC.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

So I know you probably won't be giving us any guidance on next year, but obviously that the big question today is how much meaning you still need to raise? Given the fact that you're talking about $130 million capital for 2013, there's at least another $37 or so million to be spent in the final quarter. If I deduct about $18 million or so from that in terms of cash in the bank, then you still have a need of at least $20-plus million, however much it will take to get you to profit in the following year. So a couple of questions on that. First is maybe Dave can tell us what the options are? How you're looking at bridging those gap? And secondly, if it is impossible to give us some sort of guidance on capital for the next year?

Philippus F. Du Toit

Thanks for the question Leon. I would turn over to Dave. Dave?

David Carlo Langille

Yes, Leon. We said up to a $130 million and that does include capitalized interest. One of the things we find as we move through the quarter to the extent of the shaft not up and running included in our CapEx number is going to be some capitalized interest on a monthly basis, which is increasing the room, but that's cash we would've spent anyway, but your math is reasonably accurate. What we are looking at right now, we're looking at all possible options, so we're looking at -- we're having, like as we said, active discussions with other parties and reviewing all of our options available at this point in time. And again, we're not in a position to give any expenditure CapEx for next year, sufficient to say that it's dramatically lower than what we're looking at for 2013.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

Okay. I guess just to make the obvious point that, that makes it almost impossible for the market to judge how much money you need and how you're going to get that then. So I guess that's obvious but it makes it very difficult to make a call.

David Carlo Langille

No, I appreciate that. And it's something that obviously, we're reviewing as the mine transitions into the Offset Zone as that transition occurs and we get the stokes up and opened and start ramping up production and similarly with the shaft coming on stream at the same time. There is this fact that every month or every time that we have a delay in terms of those -- that combination, CapEx is going to be somewhat higher, revenues are going to be that much lower and operating costs will be higher until we get those efficiencies in place. And that's one of the things we're finding in terms of our build-up the receivables to make availability under our revolving credit facility. Right now, it's a $60 million facility but we do not have access to go USD 24 million of it.

Operator

Our next question is from Matthew O'Keefe from Mackie Research.

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

Just following on some of the operational, here extending the financing aspects have been well covered but the -- on the operational. So obviously, you are drawing a little bit more from the low-grade stockpile than originally -- well, than we originally thought. But how big is that stockpile now and what do you expect the split to be between the underground and the stockpile in Q4?

James E. Gallagher

It's Jim Gallagher here. I'll respond to that. We've in the ballpark of 12 million tonnes of this low-grade stockpile material, which averages just below a gram. And we really use that to supplement our mill feed during the 2-week runs that we do each month. So for those who aren't really familiar with the operation, there is a 15,000 tonne a day processing plant, which was sized for the open pit days. Currently, with the underground production, obviously, we don't need that full capacity, and we run a 2-week campaign every month. And it really does pay. We certainly run the number several times over and at current palladium prices, it really does pay to supplement the underground feed with the low-grade stockpile to get a full 2-week run. And we will continue to do that and check those numbers through 2014. Next year, I believe it'll be in the range of approximately 25% to 75% of the underground pit and that will balance each month. Essentially, we target about 200,000 tonnes through that process plant each mill run for each month.

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

Okay. And that's for 2014, that's the target -- Q4 we're still, I guess, working towards that because you were kind of the other ratio this quarter? The opposite, right?

James E. Gallagher

That's correct. The Q4 production in October was slightly below for the reasons that Phil talked about and we -- the ratio was much higher in our October mill work.

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

Okay. Okay. And I guess on your -- I guess, one of the questions was sort of on the financing side of things, you're demobilizing all the shaft -- all the shaft's crew and all the, I guess, you said it in here, the development crew. Are there some additional costs associated with that? Or is that, I mean, are we effectively done the bulk of the shaft expenditures reflected in the Q3?

James E. Gallagher

No, there are obviously -- the remaining work for the shaft contractors, the 2 shaft sinking work is complete. They are demobilizing their shaft sinking equipment. The final task that they will complete before they fully move off-site, there are still sinking buckets what will become the cage hoist. The mine cage is not yet installed. The skipping facility, as we discussed, is operational. And so there's changing of hoist ropes, installing the cage, commissioning that cages, a lot of regulations around that. That will be completed over the next few weeks and they will be demobilized by early to mid-December from site.

Operator

[Operator Instructions] And we do have a question from Leily Omoumi from Scotiabank.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

I realize that you guys are obviously still ramping up. I was just wondering if you could comment at all on underground operating cost? What you've seen, now that you kind of up and running and directionally what we could expect going into Q4 and 2014?

Philippus F. Du Toit

We are really busy putting our 2014 detailed plan together, and we will be giving far better detailed guidance in January on that. Very difficult to give exact numbers while we're still in a ramp-up sort of commissioning phase, but we're confident that we will overcome these issues in the near-term. And then our guidance in January will give a clear indication of what our expectations for the operating cost in 2014 would be. But as you can expect, the first quarter will probably not have sort of dramatic improvement in it, but certainly quarter 2, quarter 3, quarter 4 as we bode confidence and experience with the method, we'll have a gradual improvement. But as I've said, in January, we'll have a very, very good view on that and that is when the guidance will come out. I hope I've answered your question.

Leily Omoumi - Scotiabank Global Banking and Markets, Research Division

Sure. No, that's fair enough. And then just maybe on the CapEx breakdown for Q4. Can you maybe give us some guidance -- are there things that -- are there any expenditures that you could postpone? Like how flexible are the remaining dollars to be spent in Q4?

Philippus F. Du Toit

We have already taken a very hard look at Q4 and we've realized that with a slight change in the mine plan for '14, we can curtail quite a bit of capital on the future development work, as well as we had some minor changes to the shaft that we could save money on. And we are analyzing on a daily basis areas where we can get CapEx down. We've looked at the tailings facility and taken a hard look at the rates of raising of the tailings facility and the details in the design, there's some savings to be made there. So, as we've mentioned earlier on, we're confident that our CapEx expenditures for 2013 will be within what we forecast.

David Carlo Langille

I would just like to add to that, that over the last 2 weeks, in fact, we have removed by completing work over 100 contractors from site. And the majority of that work was all capital work. So we are dramatically ramping down the capital spend at this time.

Operator

Our next question is from Annie Zhang from Octagon Capital.

Annie Zhang - Octagon Capital Corporation, Research Division

I just want to verify a few numbers here. For the tonnage from underground within quarter, that averaged to close to 2,300 tonnes per day. Is that all from the ramp since you didn't commission the shaft until October? And then for your target of 3,000 tonnes per day by December, and that's a combination of through ramp and a shaft? Or is it only through shaft alone?

James E. Gallagher

Thank you very much. No. You're absolutely correct. In October, 2,300 tonnes a day was all ramp haulage through the surface and looking forward from that, and to meet Phil's target of 3,000 tonnes a day for the rest of the quarter -- in the fourth quarter, it will be a combination of both ramp haulage and shaft haulage. So we are moving material in the shaft now. It is not up to full capacity for some of the reasons as we discussed and -- so it will be a combination in -- over the next quarter.

Operator

Our next question is from Arnold Van Graan from CIBC.

Arnold Van Graan - CIBC World Markets Inc., Research Division

Just a follow-up on the financing question. Obviously, you don't have full access to the $60 million credit facility, but based on your current forecast, do you anticipate that a proportion of this will become available in Q4. So in other words, can we assume that a portion of this is available when we're trying to calculate the possible shortfall?

David Carlo Langille

Yes, thanks Arnold. We do expect availability to be opened up under that facility. Obviously, it depends on shaft up and running and getting the production, hitting the production targets, we expect. So yes, in the fourth quarter, that room will increase as the revenue -- our volume increases, the revenue increases, which drives accounts receivables and that will open up the room under the facility. And the other thing you keep in mind is that because of the timing of our payments, specifically on platinum and palladium, which represents roughly 78% of our revenue stream, we are dropping off -- and we do the calculations in each month of the fourth quarter. We're dropping off some fairly weak quarters in the second and third quarter and replacing them with a stronger quarter in, say, November and December. So that will make it relatively significant difference to that borrowing base.

Operator

[Operator Instructions] And we have a question from Leon Esterhuizen from CIBC.

Leon Esterhuizen - CIBC World Markets Inc., Research Division

Phil and Dave, sorry to come back again on the financing. But I just want to sort of get this view from you guys. It sounds like we are aiming to just try and squeeze through by trying to find something either in equity or debt or something like that to fill a smallish gap. But if you look at the numbers and I'm just specifically looking at the capitalized interest, that's expected to reach, let's say, in the order of $7 million in the final quarter, and you're generating in the order of $3 million. So I think you have to double the upward or have a cost, just to cover your interest. And I mean, you're not making real money yet. So is it not possible that we should be looking at this -- this stage, and say, well, there should be a real proper very large scale complete reorganization of the capital structure in the company? Or am I being way too negative here?

David Carlo Langille

I think you're being very negative there from that perspective. We are looking at our numbers, then again, there is -- and somewhere in the state of flux. Yes, the interest is expensive, obviously, and it is building. But we do see 2014 improving on things and we certainly have not done the work as Phil mentioned. We've not finalized the mine plan and the cash flows for that period. But we do see that we are going to be generating sufficient cash to a minimum breakeven, but we're still doing analysis on that. And again, we've curtailed the CapEx quite dramatically. So I don't think a massive recapitalization is something that would be a first choice at this point in time. But as mentioned on the call, we are looking at all options available to us.

Operator

Okay. And I'll now turn it back over to Phil for any closing remarks.

Philippus F. Du Toit

Thank you, operator, and thank you, all, for participating. If we have missed anyone, please get in touch with Camilla. Thank you once again and have a good day, everyone.

Operator

Thank you, ladies and gentlemen. That concludes today's call. Thank you for participating. You may all disconnect at this time.

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