Eye On Pan American Silver

Feb.15.07 | About: Pan American (PAAS)

I am providing my thoughts in preparation for Pan American Silver's (NASDAQ:PAAS) fourth quarter conference call on 22 February 2007.

For those of you unfamiliar with Pan American Silver, it is a silver mining company that continues to do very well, both operationally and financially. I will provide a quick snapshot of the company's developed and operating properties. Furthermore, I will provide some commentary on the company's last conference call:

Alamo Dorado: Sonora, Mexico

The company began development of this open pit project in April of 2005. The mine has 44.1 million ounces of proven and probable reserves. The company forecasts that the mine will contribute 5 million ounces of silver and 14 thousand ounces of gold annually at a cash cost of less than $3.25/oz net of gold by-product credits during the mine's 8 year life. During the last conference call, the company announced that Alamo Dorado mine was being inaugurated and that it was built on time and on budget. Given the heat engineering and construction environment, the company should rightfully be proud of this accomplishment.

As an aside, for those not familiar with mine accounting, mines often report the revenues from byproducts as a negative cost.

La Colorada: West Central Mexico

This mine is located within the geological belt know as the "faja de plata" (silver belt) that extends for approximately 800km (500 miles) along the Sierra Madre Mountains. According to Pan American, this region is known for having tremendous silver deposits and is responsible for making Mexico the largest silver producing country. The mine is one of the purest silver mines in the world with over 90% of its revenue coming from silver.

The company spent money on improving the mine's facilities in 2003. In 2005, the mine produced a record 3,094,301 ounces of silver. However, mining conditions are different than anticipated that will likely prevent deeper portions of the ore body from being recovered. The company wrote down $29.7 million in asset value. The company stated in early 2006 that it was exploring options and was hopeful that new discoveries in the region will offset the loss. In the most recent conference call, the company announced that it has achieved some success in this regard.

And at La Colorada mine in Mexico, we have found this year a rich, new high-grade silver vein, called Amolillo, and a 200 meter extension to our high grade NCP vein. And in addition, we plan an aggressive exploration program in 2007 of the deep zone we found in 1998 at La Colorada that we have really had on since then. And in those days we had very deep holes and expensive drilling to access this new zone, whereas now we actually have mined quite a bit deeper and we are able to access the deep zone from underground, thus saving us a lot of drilling cost for mining -- for drilling from surface.

The company forecasted in early 2006 that the mine would produce 3.6 million ounces at a $5.44/oz.

Quiruvilca: Northern Andes in Peru

Quiruvilca is one of Peru's oldest mine with mining activity dating back to at least the 1500s. Pan American has been the operator of the mine for approximately 12 years, and the company forecasted in early 2006 that the mine would produce 2 million ounces of silver at a cash cost of $4.30/oz net of the byproducts metals zinc, lead, and copper.

In the last conference call, the company commented that "...while our silver drilling hasn't been particularly spectacular this year, we have discovered a significant new gold zone."

Huaron: 300 km (190 mi) Northeast of Lima

The Huaron silver-zinc mine was acquired in 2000 and started production in 2001. A quote from the company's annual report is as follows:

In 2005, Huaron produced 3,690,786 ounces of silver, 11,701 tonnes of zinc, 6,774 tonnes of lead and 1,689 tonnes of copper at a cash cost of $5.08/oz of silver and a total cost of $6.30/oz. Cash costs increased in 2005 largely as a result of lower by-product zinc credits, which resulted from lower than historical zinc recoveries. The operation has been making modifications to the mill to increase zinc recoveries, which improved significantly in January 2006. For 2006, Huaron is forecast to produce 3.7 million ounces of silver at a cash cost of $4.70/oz.

In the company's most recent conference call, Ross Beaty, the company's chair, stated the following:

At Huaron, there will be a major increase in reserves, since we are generating outstanding exploration results by drilling at depth below the lowest existing mining level. At Huaron, there are dozens of veins that are wide open, below that level and with our drilling now we are intersecting excellent new silver, lead, zinc grades with all of those veins that we are drilling now at depth, and this will materially increase our reserves there.

That is a positive development and one that warrants continued attention.

Morococha: Peru

The company acquired an 87% interest in the mine in August of 2004, and has become an important asset to Pan American. In 2005, the mine contributed the following to the company: 2.7 million ounces of silver; 15,500 tonnes of zinc; 5,800 tonnes of lead; and 900 tonnes of copper at a cash cost of $2.61/oz of silver. In the most recent conference call, Ross Beaty stated the following:

At Morococha, we have 10 drills streaming right now and already know, again, that we will have a major increase and improvement in probable reserves at that operation.

Again, more positive news regarding reserves.

Stockpiles: Peru

I will simply provide a quote from the company annual report.

The Stockpiles are also in the Cerro de Pasco mining district of Peru. Volcan Compania Minera, a Peruvian mining company, is the largest producer in this district. For many decades, Volcan's Cerro de Pasco mine accumulated large silver-rich pyrite stockpiles from which the silver could not be extracted by standard metallurgical processes. In 2002, Pan American acquired these stockpiles and entered into an agreement to mine and sell 600,000 tonnes of the highest grade silver stockpiles to the La Oroya smelter, where the ore is used as process flux and Pan American is paid for the silver contained. The purchase price for this small mining operation was $4.5 million, plus one third of cash flow to Volcan after recovery of Pan American's acquisition, tax and interest costs. Production from these stockpiles in 2005 totaled 692,381 ounces of silver at cash and total costs of $1.82/oz, including Volcan's share of the cash flow. These production rates are expected to continue in 2006.

Manantial Espejo: Argentina

This project is a 50/50 joint venture with Silver Standard Resources with Pan American as the operator, and the project is located in the Santa Cruz province of southern Argentina. At about this time last year, the company had finished its feasibility study and had submitted its Environmental Impact Study to the Argentine government. Assuming that there were no significant impediments, the company expected the project (100% interest) "...to produce an average of 4.2 million ounces of silver and more than 60,000 ounces of gold annually over an 8-year mine life, at a cash cost of $0.02/oz of silver, net of gold by-product credits." Ross Beaty indicated during the last conference call that the mine should begin production in early 2008.

The above provides a quick summary of the company's developed and producing properties. In the last quarter, the company produced just shy of 3 million ounces of silver—annualized, that is about 12 million ounces of silver. Ross Beaty stated in the last conference call the following:

When our Manantial Espejo mine comes on stream in Argentina, its high volume construction right now, in early 2008 we will be producing annually about 25 million ounces of silver. And if our cash costs remain where they are today, we should very significantly increase both, earnings and cash flow. That is our growth right in front of us. These are from mines that are financed, permitted and either in production or in construction.

From a property development perspective, the company appears to be firing on all cylinders.

In the company's last quarter Management, Discussion and Analysis, I noted that its smelting, refining, and transportation charges had nearly doubled from the same quarter in 2005. More than offsetting the increased costs were by-product credits that had more than doubled and were significantly more in absolute dollars. I found that interesting because it indicates how heated the commodities markets are—in terms of both revenues and costs.

Obviously, key drivers to the company are silver prices. A good source for information on silver is Kitco: Silver and the same site provides historical graphs. Pan American Silver's website is another helpful source for information regarding silver fundamentals. What I found very interesting was the company presentation at its AGM last year where it showed "Identified Silver Stocks" being drawn down. You can download Pan American Silver's PowerPoint Presentation and then view slide 26. The whole presentation is worth viewing and understanding; however, I have highlighted slide 26 with respect to the silver stockpiles being depleted. I am bullish on silver for many reasons, including my concern with the U.S. dollar, strong demand for silver, and silver stocks almost depleted.

As an aside, the company's website is extremely informative. It provides information on generic information concerning silver, the company (filings, conference calls, and presentations), the company's operations and more. I found it to be one of the best organized and most informative websites from an investor's point of view.

A quick comment is that I have not provided in this article a detailed discussion on the company's reserves. If you are interested, please consult the company's filings. You can find the company's filings at www.sec.gov and at www.sedar.com. The latter site is the Canadian equivalent to the SEC. Pan American Silver is a Canadian company located in Vancouver, British Columbia.

In addition to the structural elements discussed so far, the company is also extremely well managed. I also like its board members. The lead director is Bill Fleckenstein, CEO of Fleckenstein Capital Investment Management and writer for FleckensteinCapital.com, an investment website. He provides excellent market commentary and insights. In short, he is a brilliant money manager. Another high profile board member is Michael Larson, who is the investment manager of Cascade Investment, a private investment firm owned by Bill Gates. I am very comfortable with the company's management and the substance and clarity of the information provided to its shareholders.

Some key information provided by Yahoo!Finance: PAAS is as follows:

  • Forward PE (fye: 31-Dec-07): 20.35
  • Average Earnings Estimate (q4: Dec-06): 0.26
  • Average Earnings Estimate (fye: Dec-06): 0.70
  • Average Earnings Estimate (fye: Dec-07): 1.40
  • Average Revenue Estimate (q4: Dec-06): 51.7M
  • Average Revenue Estimate (fye: Dec-06): 242.47M
  • Average Revenue Estimate (fye: Dec-07): 357.49M
  • Here are the signposts that I am paying attention to during the next conference call:

  • Operations from each of its properties
  • Production: Are the production figures matching expectations?
  • Costs: Are they still being well managed?
  • How is the pricing of the byproducts affecting the profitability?
  • Company's outlook for future, with emphasis on production levels and costs.
  • Note that the company is still growing its production into 2008 as evidenced by the comments made during the last conference call. And if silver prices are higher than most analysts anticipate (go to the Kitco site referenced earlier), then the forward PE might, indeed, be very low.

    I am looking forward to the company's conference call. The company appears to be doing well with an even brighter future on the horizon.

    Disclosure: I am long Pan American Silver shares.