Phil Wright – President and CEO
Joao Carrelo – EVP and COO
Neil O’Brien – SVP, Exploration
Paul Conibear – SVP, Corporate Development
Orest Wowkodaw – Canaccord Genuity
Greg Barnes – TD Securities
Christian Kopfer – Nordea Markets
David Charles – GMP Securities
Lundin Mining Corporation (OTCPK:LUNMF) Q3 2010 Earnings Conference Call October 27, 2010 10:00 AM ET
Good day, ladies and gentlemen, and welcome to today’s Lundin Mining third quarter 2010 reports conference call. For your information, this conference is being recorded.
At this time, I would like to turn the call over to your host today, Phil Wright. Please go ahead sir.
Thank you. Welcome everyone, thanks for joining us.
On the call today, João Carrêlo, Chief Operating Officer; Marie Inkster, CFO; Paul Conibear, Senior VP of Corporate Development. And I think as most of you, I’m sure are probably aware, we’ve also released really important release regarding a new discovery at Neves-Corvo, so Neil O’Brien, who’s our Senior VP of Exploration and new Business Development is also with us, and you’ll have a chance to ask any questions to Neil later if you wish.
I’m going to be using slides today. They are available on the webcast, they are also available on our website. So let me turn to the Q3 highlights.
And just comparing Q3 this year to Q3 of last year, metal prices obviously are stronger, the euro has been weaker, and both of those sectors have been good for us, and you can see that in the profit results.
Production this quarter has been disappointing, thus affecting both copper and nickel, both of which were below our line of expectations. However, net income is up pretty substantially owing to the stronger metal prices.
Turning to Tenke, looking at the contract review, we obviously are extremely pleased that Freeport and the DRC government has reached resolution on the contract review and it’s a resolution that’s been reached on the basis of give and take and I think to the satisfaction of all parties.
As far as production is concerned, Tenke is now running consistently above design capacity and Freeport expecting annual production to increase to around a 130,000 ton a year next year from an expectable forecast from this year of a 115,000 tons of copper.
Looking at Tenke’s effect on Lundin, earnings pickup this quarter is $17.5 million. I think probably more significantly than the earnings is that, there’s s been a $40 million reduction in the Excess Over-run facility. And that facility now is reduced down to a 148. So post the payment of this facility, you can start to see the significance that Tenke will have in terms of Lundin Mining’s results.
The other, I think really important news is we’ve announced the discovery of a new high-grade massive sulfide deposit at Neves. I’ll cover that in a bit of detail later. But the significance of this, this is the first time in 20 years, in over 20 years that we’ve found such a deposit and I don’t think we should underestimate the potential importance of this as far as Neves is concerned, and I continue to justify the view that we’ve taken that Neves remains under explored.
On the finance side, we’ve already announced that we’ve refreshed and extended our revolving credit facility. This now stands at $300 million, that’s a three-year term. And at this stage it is unused.
On this slide, you have normalized earnings. It’s in the news for those of you not following on slide. I think it’s very hard if we don’t normalize our earnings to try and do a comparison between quarters. So our net income this year includes a few nonrecurring items we have it going on as well as some exploration assets in Spain. And there is a pretax $8.1 million charge in respect of royalty adjustment stemming from 2008.
We expensed some loans from Somincor that we had advanced to Aljustrel and having followed now, an arbitraging process with the Mines Department of Portugal, we have now been directed to pay this $8.1 million relating back to 2008. So that is in our results and needs to be adjusted when you’re looking at our cost as well.
I think also in the prior periods, there was a number of big adjustments, necessary to normalize our results. The one thing I haven’t normalized for is exchange gains and losses. Mentally I certainly adjust for those because it’s really got no relevance to operating results. And generally what we see is an offsetting adjustment going through the statement of comprehensive income. So is a bit of I won’t say funny accounting or funny money, but it really doesn’t have much relevance to us from operational effects. If you adjust for that our earnings on a comparative basis, this year it is sitting somewhere around $83 million compared to $37 million last year and $40 million for the last quarter. So earnings this quarter, despite the fact we’ve had a few issues over twice what we’ve produced to this same time last year and also the previous quarter this year.
Financial provision remained strong. Bearing your mind that the operating cash flow that we report does not include the $40 million that’s coming back from Tenke and we had a big working capital change this year both owing to increase in prices and also an increase in receivables and inventory. So looking at changes before working capital and not adding on the $40 million coming back from Tenke, we’ve have seen $90 million compared to $53 million same quarter last year. So cash flow continues to be strong for us.
Changing production, this chart shows the movements in each of the metals from Q3 last year to Q3 this year. As I said already that both copper and nickel were below expectations. A number of reasons. At Neves‐Corvo we were affected by delays on two high‐grade stopes, just to understand this, I mean these stopes are in excess of 7% copper. And one stope we had a geotech related failure and the miners had to in fact end up mining around the back side of the stope, extracting a whole lot of waste to get there and delaying that full production coming on line.
Second high grade stope, we opened up and it had very high level of impurity at a time when we had quite a lot of high level of impurity coming through in the plant anyway. And so, rightfully, I made a decision to slow down the production from next stope until such stage as the impurity levels stabilize. So both of those events were largely, I think beyond our control and I’ll make up, if we take out 7% or 8% copper, we are making it up with something that’s probably less than 2% and we just cannot move sufficient tons to cover sort of shortfall.
So overall we are moving the tons of ore and waste that we expected to. So from a material handling point of view, everything is flowing as it should, it’s just we can’t make those high-grade stopes if something interrupts.
As far as Aguablanca is concerned, last quarter we indicated that we were going to take a stope to remove a million tons of waste, we have done that. We also lost effectively 10 days to strikes at Aguablanca. We have some continuing concerns. At Aguablanca, we are back in production. but until we fully understand the geotech issues or the hydraulic issues, we have quite a high water pressure sitting behind the pit slope and this is a safety issue for us. It has affected roadways. I think we are very well on top of it. But we continue just to be cautious until phase as we get that resolved.
I think as you can see from this chart, we are making very good progress on the zinc side. Zinkgruvan is well up on last year. Having said that, I think Zinkgruvan can do more. There were periods during this quarter that in fact the plant was idled. And the issue that’s affecting us is these ore path that failed in the first quarter cleared itself in the second quarter has refailed. And as a consequence, we have a lot of waste underground necessitates double handling.
We are about a month of breaking through on the new daylight ramp and the moment we get through the new daylight ramp, we have another point of egress from the mine, we have an ability to shift the waste from the mine and the shaft in fact becomes dedicated almost solely to hoisting of ore. So Zinkgruvan on a go-forward basis is going to be quite a different operation from what it’s been in the past. But despite that and despite the fact that we have a lot of waste, I think that they are doing a very good job and you can see that we are continuing to lift production from Zinkgruvan.
Looking at cash costs, these are on page 13 of the MD&A. You can see that we have been helped better byproduct credits and also by the weaker euro.
So a couple of points to bear in mind when you are looking at this chart, Neves‐Corvo, the costs, this period includes 8 cents of pound for mining zinc. That’s a similar cost to the byproduct offset that we get back from the zinc. And so, at Neves, the costs are actually pretty well controlled against budget. In fact, I think it’s slightly below.
So from a cost perspective, my particular concern is at Neves. Zinkgruvan, on a net cost basis, we are extremely low. We do have some double handling. We have some unscheduled maintenance as well that came through, but costs continue to perform well.
I think if you look at Aguablanca, the cost comparison is really not that meaningful. Last year we were operating on restricted operating basis, this year we are on a full production basis or part of the period we were shut down while we were just moving waste. So we do have a high level of waste removal at the moment. We foreshadowed that when we brought Aguablanca back into production and that will endure for the next couple of years and then the waste drops away virtually to nothing and we see a total change in the cost of production in Aguablanca at that stage.
I have got a slide that shows the source of revenue for Lundin in the last quarter; 64% of our revenue this quarter came from copper. This does not include Tenke. I think that would have been something if we did nominal adjustment for revenue from Tenke, it would be up around copper. I think the important thing to recognize though that while zinc and lead revenue is comparatively small at present, we still retain a tremendous leverage to the zinc and lead price. Zinc price has been – zinc and lead during the quarter were not particularly strong. It certainly made quite an attempt to catch up at the end of quarter. But I think when zinc prices rebound, as they ultimately will, you will see some of the earnings leverage that Lundin has to zinc and lead.
Okay, looking at change in prices, metal prices generally quite a bit stronger; copper up the most and zinc and lead, as I said, basically the laggards. In terms of operating cost compared to year-ago, the euro is weaker and the SEK [ph], which is affecting, zinc revenue is pretty much unchanged.
I have a slide up now and financial results is not really much worth commenting and on specifically here, I think most of the changes have been referred to. I’ll note again, you can see in the other income and expenses, the $19 million exchange loss coming through, that’s about $0.03 a share or just like a $0.03 a share effect on the earnings this quarter. And the difference between this quarter and last quarter is something like $32 million just as a result of this – something around $0.05 a share.
Also through the tax increase expense, you’ll notice our profitability comes back. I think the view that I gave on the earlier slide with the adjusted earnings gives a much better view as to comparative changes than what the slide actually does.
Change in operating earnings, taking that out we have included, there you can see a 2008 royalty of $8.1 million. Taking that out, operating earnings are up by $36 million from last year. That is all due to price and foreign exchange. The weaker Euro effect on our operating costs.
Most of the change in volume that you see there is related to – and cost is related to Aguablanca. The volume affected Aguablanca is $7.5 million. So you can see the other operations, we are pretty much balanced, slightly low copper made up for higher zinc. And on the cost side, the variance at Aguablanca was $9.4 million. So the rest of cost slightly elevated, you have seen that in our higher unit costs because of the lower production.
What I would like to do now is just have look at Tenke. The copper and cobalt is now consistently exceeding nameplate capacity; the milling throughput is performing consistently above design, capacity as well. And with procurement of more mine equipments and changes to the mine plan, Freeport has announced that they’re going to increase production or will expect to see production increase next year to something like a 135 tons of copper.
Cash cost during the quarter, there is a net cash cost of $0.86. This includes cobalt byproduct growth. What we are seeing is operating costs reducing month by month during the quarter. And I think as production, and especially cobalt recoveries continue to improve, we will see those costs coming down. I mean against our own views that we see further benefits to come in the future, high throughput from the plant debottlenecking.
Some successful information at some of the ongoing operating cost reduction efforts and also initiatives to prove the SO2 plants and the cobalt circuit should also hopefully continue to improve the cost situation.
Looking now at the effect on us, we have had a much stronger equity pickup quarter. The excess over-run facility now down to $148.9 million and I think a big issue now for Tenke going forward is the expansion studies. We are expecting obviously expansion studies continuing now. A number of these scenarios are being assessed and I think it’s now up to Freeport as to when they’re in a position to move this forward on expansion. Obviously, from our point of view it’s pretty difficult for us to forecast our expansion CapEx until such stages as Freeport have made up their minds on this and we can give guidance at that time.
I think well understood at this stage, I have slide here, which just summarizes the Tenke contract review and the resolution of that. Basically the key fiscal terms continue to apply, no changes. There has been a minor change in relation to the equity percentages, a fresh royalty, some additional payments, surface fees coming in. We have converted something like $50 million from advances to equity. And as a partial offset on some of these issues, as you’ve seen an increase in the interest rate that is payable to ourselves and Freeport on the advances that have been made to build the project.
So I think the conclusion of the review is certainly positive, judging by the market’s reaction, I think the market thinks of these two, and we’re really pleased that this has opened up the way for us to be able to reconsider the expansion options for what is one of the world’s greatest deposits.
I would like to just spend a few minutes now looking at Semblana. This is a newly emerging issue for us. I have a slide here, which shows the existing Neves‐Corvo ore bodies and on the same scale, and in the correct position, it shows the little that we do now about Semblana at the moment. It’s approximately a kilometer to the northeast of Zambujal and Corvo, so it’s very close to existing infrastructure. What we do know about it at this stage is that’s a new system, it’s quite unrelated to any of the other ore bodies. Generally at Neves the ore bodies are large and we already know that this is going to be the similar scale for the others. We also know that it is copper rich. And our exploration people are actually placing – we are also finding quite high elevated tins. The exploration guys are placing quite a lot of store on this indicates that this has been a relatively hot system and geologically, the initial interpretation is out, and this is likely to be more akin to Corvo than it is to a Lombador.
Let me just reflect on potentially what this path of discovery means to Neves. We are seeing in our production this quarter, Neves’ copper is now aging. We are deeper, we have more stress to deal with as the ore body is mined out and we replace mined ore with fill. And you are seeing the disruptions this quarter that was caused as a result of two schedule starts to come into production, which were held up or delayed.
We do not have alternative high-grade sources to turn to when that happens. And I think that a large new ore body that’s carrying high-grade copper clearly has the potential to reduce Neves’ copper. So very early days yet. But our theme is that Neves still has quite a lot more to review and next year exploration guys now, I think with the confidence of the Semblana discovery, are planning for a fully seismic survey across the Neves‐Corvo area. I understand that a previous test with seismic shot up the Lombador signature very well. And I think the possibility still remains pretty good. There are other undiscovered deposits yet remaining in Neves.
With a chart here, this is a very simplistic graphic of where we are at staff lining the Semblana discovery. I think it is dangerous to read too much into this but it just gives you some idea of where we are and the relativity of the holes and we have given the intersections. This points out the amount of massives and stockwork that’s in each of these. But look, very early days. We have four drill rigs working on this, we continue to explore it and obviously as and when new information comes forward, we will release that to the market.
So turning now to the outlook, the production we lost this quarter we can’t make up in Q4. So as a consequence we have basically adjusted our guidance for the year on the basis what we lost here in Q3. You can see Neves, we have reduced copper guidance about 2000. The guys are still going to have to work – our targets have not been easy ones for this and I think that maybe still has a lot of work on the tins.
Zinkgruvan, we are leaving unchanged. Aguablanca, we have taken down quite a lot in relation to that as we continue to be pretty cautious as to – until we fully understand the effect of the geotech and we are just not prepared to take too much risk in the pit at this stage until everything is fully understood. There is a whole lot of watermodeling going on at the moment and a lot of work studying this and we should get this resolved by year end. Galmoy there’s been a minor change just really on the basis of a re-estimate.
So looking forward, to give a slightly longer-term view, our preliminary plans for 2011, copper production including our attributable share of Tenke is looking like something like 115,000 tons, which is a bit up from last year. Zinc production, we presently are looking at something like a 125,000 tons, which is quite a lot up on projection for this year. And our lead is looking probably similar to where we are this year. Neves, on a mine-by-mine basis, Neves copper similar to 2010, zinc increasing as we commission the zinc capacity. Zinkgruvan, similar zinc and lead with copper ramping up to around 300,000 tons. And with Aguablanca, we have a new mine plan that is being worked. And as a consequence, it’s really probably a little early for me to give indications on that except nothing that I have seen so far that would indicate that it’s going to be anything less than what we have actually produced this year. And Tenke guidance we have already covered.
CapEx, this year we are still expecting to be steady somewhere around $190 million, possibly a bit shorter that – expenses on exploration this year, $25 million. I am expecting that to increase quite significantly next year as we continue to investigate Semblana and also we carry out a seismic survey at Neves.
I think the Tenke contract resolution obviously now opens up a basis for much more positive look in terms of the development of this asset. So, I think in fact, it’s been a tough year to-date. However, on the positive side, I think we have had lots of really external news in the last week or so with this discovery at Neves-Corvo, which we are very eager and very excited about and also the resolution of the Tenke contract review.
We are certainly continuing to make good progress in relation to our own internal growth projects. Our balance sheet continues to strengthen. And we continue to very actively externally assessing new projects and intending to continue to do so. But I think as we said before, we are not going to do a transaction unless we can see a situation, which is clearly value adding for shareholders and you can deduce from that at this stage, we’ve looked at a lot of things, but at this point, we have seen nothing that is compelling us to move forward and do a transaction.
So with that, I would like – operator, open it up to questions please.
(Operator Instructions) We will now take our first quarter from Orest Wowkodaw from Canaccord Genuity.
Orest Wowkodaw – Canaccord Genuity
Two questions; one, with your new discovery here at Neves, what do you think, Phil, the earliest you could actually get down there from a development perspective to access that ore?
The ore is about 900 meters below surface and it is approximately a kilometer wide from existing operations. I think the timeline is going to be probably governed by the exploration exercise to make sure we understand what we have there. But we are talking about something that is comparatively close to existing operations. So, I don’t know, Joao, if you want to take – if you want to try and quantify something there. I think it’s probably preliminary to do that, though.
It’s too early to tell really. I think we have to have some more information in hand before a real sort of idea as to how long it would take us to get down there, and where to start.
Orest Wowkodaw – Canaccord Genuity
And Phil, with your announcement that you’re stepping down next year, does this at all open up the possibility for the Board that Lundin could consider putting itself up for sale?
I don’t think my decision to go sailing has anything to do with influencing the Board as to what they should do and I would see frankly very low reason at this stage why they would want to put Lundin Mining up for sale. I think it’s totally unrelated. I came here for a period of time and it’s been a great period of time. And for me, I have a desire to go and do some sailing and we foreshadow in that well enough in advance that this shouldn’t be an issue and the board now has appointed a committee to look for suitable persons to take over. I have every confidence that they will find someone.
Our next question comes from Greg Barnes from TD Securities.
Greg Barnes – TD Securities
Phil, you said that the new discovery at Semblana is looking like Corvo. What was the original size of Corvo when it was drilled off in terms of tons and grades?
Well, you are making the big jump. I will hand that (inaudible).
Greg Barnes – TD Securities
I won’t be alone in that, Phil.
I can carve out Corvo just Corvo by itself, maybe Joao knows, but the original Neves-Corvo reserves were 34 million tons at 8.5% of copper. But that included a real 3 million to 4 million tons at 10% copper and 2% tin, which is in part why we are more interested in the tin from – a perspective of what signature does it have, does it have something more like Lombador or more like Corvo. And right now anyways that’s what it’s looking like.
If I can make one comment as to the earlier caller’s question, keep in mind that this is completely open and it’s open towards both Corvo and Zambujal. So we may find out that there is even a higher rig zone, even closer in to the reserves. So keep it on mind as well as we drill this off.
Greg Barnes – TD Securities
The two stopes that you missed in Q3, when do you think you’ll get back to them?
I believe they are running now. Correct, Joao?
Yes, they are running now. More particularly, the 135 and 107, both of which have head grades around the existing mark. We are extracting from them right now.
Our next question comes from Christian Kopfer from Nordea Markets.
Christian Kopfer – Nordea Markets
Too bad hearing that you’re retiring, Phil. Just a follow-up question on the slide 14 and the Tenke investment slide. Just to make sure that I understand it correctly. It says that the excess overrun facility decreased by $40 million during the quarter. Does this mean that you would receive cash flows in approximately four quarters, just based on the difference in this quarter?
Yes, that’s our expectation, we would expect it to be extinguished based on present prices and present production levels. We would expect it to be extinguished somewhere around Q3 next year. And beyond that, then that would represent a net cash flow coming back to Lundin.
Christian Kopfer – Nordea Markets
And the amount of the cash flow to Lundin is typically these amounts or levels that we see, I mean at least if prices remain at Q3 levels.
Yes, we until the debt is repaid to the funding shareholders, Freeport and ourselves to build the initial project, we take available cash 70-30 back to Freeport and Lundin ourselves. So that $40 million that was paid off during this last quarter represents the 30% that we would have got if the excess overrun had already been paid off.
Just a point on that, I guess any changes in equity values don’t affect the cash flow on the 70-30 basis. That continues. So equity change doesn’t have any impact on that because this is a repayment of loans.
(Operator Instructions) Our next question comes from David Charles from GMP Securities.
David Charles – GMP Securities
Phil, just a quick question. You sort of termed that this was a tough year. I mean I’m just wondering, do you expect it will get better as you move forward? I mean you highlighted that once you get the ramp in at Zinkgruvan, that’s going to ease a lot of your logistical problems there. Aguablanca is sort of, it is what it is, I suppose. I’m just wondering what are you going to do with Aguablanca, is there anything you can do with it so that you relieve some of the issues that you have there?
And I suppose just looking at Neves, it’s a big mine, it’s got a lot of work spaces. I suppose the hope there is that as you go forward you can just get it back to – you’ll have less of these issues with stopes.
I mean it’s been an extraordinary year. We started off the quarter with 100-year runs or whatever in the Iberian Peninsula, which has caused a lot of problems in the first quarter. We had the failure of Lombador, which year where we had planned huge increase in development. So we had set ourselves a pretty some tough targets this year in terms of development to open up new ore sources to give us more availability so that we could actually increase our flexibility.
So a few events have actually coincided at a time, which is the worst time that you would want them to coincide. So I think Zinkgruvan, as you say, will be very clearly a different operation next year. Neves I don’t see any reason for continuing issues there. The guys have implemented some plans following the loss of production in the first quarter. Those plans are clearly starting to bite now. Some of them have taken a little slower to implement, but I think you will continue to see those come through.
As far as Aguablanca is concerned, all of the instabilities that we are dealing with now, fundamentally are within – was inside of the ultimate pit shell. So we are moving material, which has to be removed anyway. We are removing material, which has to be removed anyway. We are removing at a time which is not of our choosing in terms of sequencing and that has messed up the operation of the pit from a sequencing point of view. And Aguablanca, I think we made pretty clear, general speaking, we don’t regard as being a core operation forest. It certainly is talking a bit of our time at the moment. But there is nothing there that we are seeing that’s causing us concern.
The new mine plan that we are looking at is one way we have also reduced our cut-off grade slightly. Ultimately our experts will probably extract perhaps a bit more metal out of this operation than we previously planned and then might become a little bit slower. But ultimately I don’t think that if there is anything there that we are seeing at that moment that’s insurmountable. We are just being very cautious. We did not want to put any safety issues or people at risk in terms of driving over driveways that maybe unstable.
David Charles – GMP Securities
I was just wondering on Galmoy, I mean what should we do when we look at the production at Galmoy? Do you have any feel of what it’s going to look like going forward? Will it look more like the 14,000 tons into 2011 or will it look more like the 12,000 tons?
If you work back on the guidance that we gave for next year and we gave guidance from the three operations and I didn’t specifically talk about Galmoy. You will see that we are actually counting on probably a bit more next year than we are forecasting for this.
David Charles – GMP Securities
Excellent. Well, it looks like you’re going to leave everything in good shape for your successor and have fun sailing.
There are no further questions in the queue at this time.
Okay, thanks very much operator. Thanks very much everyone and any further follow-up questions, you have our phone numbers, welcome to call. Thank you.
Thank you. That will conclude today’s conference call. Thank you for your participation. You may now disconnect.
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