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Molycorp, Inc. (NYSE:MCP)

Q1 2012 Earnings Call

May 10, 2012 4:30 pm ET

Executives

Brian Blackman – Senior Manager Investor Relations

Mark A. Smith – President and Chief Executive Officer

James S. Allen – Chief Financial Officer and Treasurer

Analysts

Anthony Young – Dahlman Rose & Co.

Colin Rusch – ThinkEquity LLC

Paretosh Misra – Morgan Stanley

Paul Forward – Stifel Nicolaus & Company, Inc.

Laurence Balter – Oracle Mutual Funds

Operator

Good day, ladies and gentlemen, and welcome to the First Quarter 2012 Molycorp Incorporated Earnings Conference Call. My name is Ann, and I will be your coordinator for today’s call. As a reminder, this conference is being recorded for replay purposes. At this time, all participants are in listen-only mode. (Operator Instructions) We will be facilitating a question-and-answer session following the presentation.

I would now like to turn the presentation over to Mr. Brian Blackman, Senior Manager of Investor Relations. Please proceed, sir?

Brian Blackman

Thank you, and good day everyone. We just released our financial and operating results for the first quarter of 2012. If you have not yet seen the press release, you can find it posted on the Investor Relations section of our website, at www.molycorp.com.

This call is being webcast and replay will be archived on the company’s website. For those of you who have dialed into the call, a slide show that accompanies our prepared remarks is available on the Molycorp website, in the investor relations section. For those of you listening by webcast, the slides will be presented in the webcast player. Please note that you need to advance the slides on your own.

Slide two includes our Safe Harbor statements. As always, we need to advice you that some of the information discussed on this conference call will contain forward-looking statements that involve risks, uncertainties, and assumptions that are difficult to predict.

The company’s actual results could differ materially from those contained in such statements, because of a variety of factors including those described in detail and risk factor section of Molycorp’s annual report on Form 10-K for the year ended December 31, 2011.

We also want to caution you that today’s presentation includes discussions of adjusted or non-GAAP financial measurements, which reflect how the management and directors of Molycorp, analyze the business on a daily basis. The adjusted measurements segregate out certain non-cash items such as depreciation, amortization, stock based compensation and certain out of ordinary items.

Internally, Molycorp management analyzes our business from an operating income perspective and we want our shareholders to have access to the same information we use in understanding our business.

However, these non-cash and other out of ordinary items are important to understanding the company’s long-term performance. Therefore, listeners are highly encouraged to study the non-GAAP to GAAP reconciliation supplied at the end of the earnings release, which can also be found on our website.

On the call today is Molycorp’s President and Chief Executive Officer, Mark Smith and our Chief Financial Officer and Treasurer, Jim Allen.

I’d like to now turn the call over to Mark.

Mark A. Smith

Thanks, Brain and good day everyone. Slide four shows the agenda for today’s call. I’ll begin by touching on a few of the financial highlights for the first quarter. Then I’ll review the progress we’re making on our top three business priorities. Jim Allen, our CFO will then step in to provide additional detail on our financial performance, then I’ll make some closing comments before opening the call for questions.

Skipping to slide six, let me give a few financial highlights of the quarter. We reported $84.5 million in revenues during the quarter, and adjusted non-GAAP diluted EPS of $0.18.

Revenues increased substantially year-over-year due to strong didymium and lanthanum sales, which helped offset lower cerium volumes. Adjusted gross margin of 44.6% was inline with internal expectations. We continue to believe that the economic scale of our business will begin to materialize as we complete and ramp up Project Phoenix production.

Lastly, I would note that the economics of our business came up confidently through Q1, which is always seasonally a slower quarter in the rare industry, largely due to the extended Chinese New Year holiday. Our mine to magnets vertical integration strategy has provided a sound diversified operating platform with growing cash from operations as we move beyond the first quarter.

This strong operational performance has allowed us to continue to make excellent progress in executing on other aspects of our business plan as well. In particular, we’re on track with our top three current priorities. Our number one priority, Project Phoenix, where we continue to meet our accelerated schedule.

Our number two priority, XSORBX, that’s our proprietary water purification technology where we are seeing increased demand in commercial traction for this innovative product.

And finally, our third top priority, our proposed acquisition of Neo Materials, which will help fuel very significantly, short and long-term growth for the company.

Now, I’d like to cover more detail for each of these three priorities. Starting on slide 7, with regard to Project Phoenix, many of you may recall that we announced on last quarter’s call, the successful sequential startup of several parts of our Project Phoenix facility. I’m proud to announce a major milestone to add to that list. As of today, we are starting up our new mill, flotation circuit and paste tailings plant including the associated permanent tailings disposal facility. This will effectively complete the rare earth concentrate production circuit portion of Project Phoenix.

As you can see, this circuit graphically is represented on slide eight. This means we are mining fresh ore, crushing and blending it, and starting to process milling and producing concentrate from our hot flotation process. We are also starting our paste tailings plant and the permanent disposal facility for our tailings.

I was just out at Mount Pass last week to be able to witness the final preparation of this operation firsthand was truly an amazing site, almost an emotional event. We plan to run the mill for a three week period, produce a large amount of concentrate for processing and then pause milling in order to further optimize that unit.

The entire concentrate circuit will run intermittently between now and continuous Phase 1 operations, which is slated for the beginning of the fourth quarter of this year. Achieving operation of a fresh ore concentrate production circuit is a significant milestone in our effort to increase the diversity of global rare earth production. This diversity benefits all rare earth customers and paves the way for an increased stability across our industry.

Slide nine, shows a photo representation of the major milestones that comprise Project Phoenix with those facilities that are either mechanically complete or operational in green and those facilities that are still under construction in the yellow.

Slide 10 shows the additional milestones that you will see us accomplish on our way to full Phase 1 production, which are moving from grid power to high efficiency, environmentally preferred power from our natural gas fueled combined heat and power plant, starting up our new full-size multi-stage cracking process, starting up the solvent exchange and heavy’s concentrate production, starting up the rare earth oxide facilities; and finally starting up the product finishing capabilities of the plant.

I cannot express how proud I am of the more than 1,850 employees and contractors working daily about that. Especially given that we recently logged more than 2.3 million hours of construction without a lost time incident. Indeed we have not had a recordable incident this year, which is truly a remarkable accomplishment in a project this large and complex.

We remain on track for Phase 1 operations by the beginning of the fourth quarter. Achieving our milestones on time and ahead of schedule where possible is important. But achieving these milestones while maintaining our ethics values and our safety culture is simply put, the way we do business.

Turning to slide 11, I’d like to move on to our second highest priority in the company, our patented water purification technology, we call XSORBX. Our XSORBX business is in its early commercialization stage, that over the past several months it has become an increasingly tangible part of our long term strategy.

The shift from product development to commercialization is a long and challenging process. For XSORBX, we are moving rapidly to commercialization and sales in one key market, recreational water purification. For example, we’ve recently signed a three year take or pay agreement with a domestic customer for 100 metric tons annually of XSORBX in the recreational pool and spa market. This new contract nearly doubles our 2011 sales volume. We’re producing a steady stream of XSORBX product out of our existing plant today. Our 2012 goal of selling approximately 1000 tons of XSORBX is on track.

Turning to slide 12, we also continue our XSORBX product development, the commercialization efforts in other water application markets including, pond remediation, municipal waste water, industrial waste water, municipal drinking water and point of use drinking water solutions.

As I’ve mentioned on prior calls, and in meetings with many of you, the potential for XSORBX in these additional markets is substantial, both in United States and around the world. To put this in the perspective, the United States market alone represents approximately, 163,000 metric tons annually of XSORBX product on the cerium oxide basis. Assuming only a 12.5% market penetration for XSORBX into these markets, we would consume all of the cerium that we would produce at full Phase 2 production.

Given the current favorable reception from our customers, we believe that achieving the internal target penetration rates are very realistic. The net result is that, XSORBX is materializing into an excellent growth platform for Molycorp.

Finally, on slide 13, I’d like to shift gears to our third near term priority, and update you on our pending acquisition of Neo Materials. We’ve been actively meeting with government officials, our customers and partners and of course with our investors on this deal. Things are progressing according to plan. We’ve already received clearance in the United States under the Hart-Scott-Rodino review process.

Our application for Investment Canada was filed on April 4, which started a 45 day clock that will expire next week on May 18. Neo Materials’ shareholder approval is also needed and the vote in scheduled to occur on May 30. We expect shareholder approval on that day.

Lastly, final court approval of the plan of arrangement is needed, which we anticipated occurring according to plan. Regarding Neo’s shareholder approval, their proxy circular was filed earlier this week and can be found on the SEDAR website or on Neo’s website in their Investor Relations section. The vote as I noted earlier is scheduled to take place on May 30. Based upon all information available, we remain confident that the deal should close sometime in the second or third quarter pending these approvals.

On to the slide 14, we reiterate some of the compelling industrials logic behind combining Molycorp and Neo Materials, and I’d like to make these points in that regard. First, this acquisition is truly a game changer for Molycorp. We will become virtually overnight, the most vertically integrated rare earth technology leader outside of China with a direct sales channel into Chinese markets. It is key to note that, while nearly 70% of rare earth sales take place within China, that’s largely a geographic distinction. In Neo’s case for example, most of its customers in China are actually Japanese, United States or European companies that move their manufacturing facilities into China, some time ago.

These companies tend to be large multi-national manufacturers that look for reliable rare earth material suppliers capable of producing for all of their facilities anywhere in the world. Neo’s base of operations strategically places us closer to these critical customers, and allows us to better meet their global needs.

Second, with Mountain Pass set to achieve Phase 1 production by the beginning of the fourth quarter, we’ll be in a strong position to leverage our low-cost production with Neo’s ultrahigh-purity rare earth processing and distribution strengths. And with Neo, we will be in a much better position to ramp up our Phase 2 production faster than originally anticipated.

Third, we will add to our portfolio, Neo’s patented magnet powder through its Magnequench subsidiary. This gives us a significant footprint in the bonded neodymium-iron-boron magnet market, and this strongly complements our plans to manufacture sintered neodymium-iron-boron magnets with our joint-venture partners Daido Steel and Mitsubishi Corporation. Given the independent forecast of annual growth rates for permanent rare earth magnets are between 8% to 12%, our expanded footprint in these markets positions us to tap into significant new revenue streams in 2013 and beyond.

And last, the Neo acquisition gives us expanded reach into the rare metal markets for high-purity gallium, indium and rhenium. The end-use application growth for these high-quality metals is substantial and provides additional exposure to the LED semiconductor and electronic component markets.

Immediately after closing, we intend to accelerate our development of ultrahigh-purity separations capabilities for heavy rare earth at both our Molycorp Mountain Pass and Molycorp Silmet facilities. This technology can be put to use very quickly, as we have been producing and stockpiling a heavy rare earth concentrate stream ever since we launched NFP separations at Mountain Pass in 2011.

We currently have tens of tons of this concentrate at Mountain Pass. With Neo, we will have the ability to again processing this concentrate almost immediately into ultrahigh-purity heavy rare earth products.

Simply put, we believe the combination of Molycorp and Neo Materials will create one of the industry's leading rare earth processing and high value added critical materials companies. I can’t wait to combine the immense human talent from both of these organizations to jointly tackle new opportunities, new technologies and new markets.

In addition to working hard on the top three priorities in the company, we have additional items that we have announced. Of note, following the end of the quarter, we announced that using SEC Industry Guide 7, our proven and probable reserves of contained rare earth oxide equivalent at Mountain Pass have increased by 36% as compared to 2010 levels.

Those reserves now stand at $18.4 million short tons of rare earth or at an average ore grade of 7.98% REO, and a cutoff grade of 5% REO. This equates to 2.94 billion pounds of contained REO equivalent in the ground or more than 1.3 million metric tons. We are also continuing our exploration efforts for new resources that are skewed towards higher concentrations of heavy rare earths. Exploratory drilling at a potential deposit near Mountain Pass has been completed, and analysis of those initial exploration course is ongoing. We are moving forward with development stage drilling, and we expect to have more updates on this project in the future.

Exploration of other deposits around the world also continues in earnest, and we will provide updates on this activity as the information is further developed. In short, we remain focused on execution, and on profitably growing our business. We’re investing in and assembling our world-class infrastructure now in order to support long term growth and increase shareholder value.

Now, let me turn the call over to Jim Allen for a detailed review of the quarter.

James S. Allen

Thanks, Mark, and good day everyone. For today’s discussion, I am going to first cover our quarterly financial performance on a consolidated basis, followed by segment detail, we’ll then review our cash position, tax rate, balance sheet and capital requirements.

I’ll start my discussion on slide 16. As Mark noted, we reported $84.5 million in sales during the first quarter as compared to $26.3 million during the first quarter of 2011. The increase is related to a stronger product mix due to increased didymium sales and a contributions from Silmet and Molycorp Metals & Alloys or MMA, which were both acquired during the second quarter of 2011.

On a consolidated basis, we sold 719 net metric tons of rare earth oxide equivalent products at an average sales price of $95.05 per kilogram. We also sold an additional 75 metric tons of rare metals at an average sales price of $182.88 per kilogram.

First quarter consolidated cost of goods sold was $53.4 million compared to $16.7 million in the first quarter of 2011. Consolidated gross margin percentage for the quarter was 36.7%. As indicated on our 2011 year-end call, we have recently incurred higher variable costs and additional non-capitalized cost related to Project Phoenix ramp up.

During the quarter, gross margin continued to experience pressure from higher variable costs such as labor and chemical, and increased regulatory inspections of construction and processing activities at Mountain Pass, which led to higher production cost per kilogram due to lower utilization of existing facilities and production.

Turning to slide 17, selling, general and administrative expenses excluding depreciation, amortization and accretion expenses for the quarter, were $31.2 million compared to $11.2 million first quarter of 2011. SG&A expenses increased compared to the prior year as a result of continued higher overhead related to Project Phoenix, exploratory drilling, M&A business development, research and development and other increased cost related to expanded business operations. These increases are in line with our expectations and in line with the statements made in our year-end call.

Note that this higher level of G&A cost will likely evade as move into the latter part of this year. Regarding taxes we experienced an income tax benefit of $2.2 million in the period ended March 31, 2012.

For the quarter we reported a GAAP net loss of $3.5 million. The more relevant measure is net income or loss attributable to common stockholders, which reflects dividends on our convertible preferred stock. Our net loss attributable to common stockholders is $6.3 million or a loss of $0.07 per diluted share. As a note, we no longer report net income attributable to non-controlling interest as we completed the 100% of acquisition of Silmet in October of 2011.

Removing certain non-cash out of ordinary and business expansion items, yields and adjusted net income attributable to common stockholders $15.5 million or an adjusted non-GAAP $0.18 per diluted share. Adjusted gross margin on non-GAAP basis was 44.6%.

Slide 18, provides details of our first quarter 2012 products and sales volumes.

Moving to slide 19, we have broken out performance by operating segment. As a reminder, consolidated financial and operational results presented on a net basis, which removes inter-company sales. Discussion of segment margins is performed on a gross basis.

Gross margin at Mountain Pass for the first quarter was 59.3%. This compares to a gross margin of 36.5% during the first quarter of 2011. The increase in gross margin is a result of shifting product mix and increased pricing for certain products.

During the quarter Mountain Pass produced 615 metric tons of REO equivalent product compared to 730 metric tons during the first quarter of 2011. We slowed production during the quarter to manage inventory levels both for finished product inventory and our rare earth concentrate stockpile.

As Mark mentioned earlier, the front-end concentrate circuit from mine to mill is in final preparation and will soon be operational to replenish our existing concentrate stockpile for feed into our NFB plant. Production at Silmet was 410 metric tons of REO equivalent during the quarter, as well as 170 metric tons of rare metals.

Cost of goods sold was negatively impacted by the lower constant market valuation adjustments totaling $15 million attributable to raw materials previously acquired at higher prices. While the majority of Silmet’s feedstock is being sourced from Mountain Pass, we will continue to source certain materials from third parties until we achieve Phase 1 production at Project Phoenix. The sourcing of feedstock from Mountain Pass on a more consistent basis will positively impact our margins.

Gross margin of Molycorp metals and alloys was 1.7% during the quarter. Total production during the period was 109 metric tons of rare earth alloys containing 44 metric tons of REO equivalents. In addition, the MMA facility produced 9 metric tons of other specialty alloys. As a reminder, the two year supply contract with Santoku Corporation display certain rare earth alloys of prices equal to feedstock cost plus the applicable product premium will come to term in April 2013.

Moving to the balance sheet, after closing the Molymet investment of $390 million will increase our cash and cash equivalents balance of $609.8 million as of March 31. Cash flow from operations during the quarter added $16 million to the business. Our consolidated capital expenditures totaled $206.5 million on a cash basis and we also invested $3.9 million in our magnet production joint-venture.

To date $628 million has been spent towards Project Phoenix. As indicated in the previous quarters financial results call, the company conducted and completed an extensive formal review of the Project Phoenix capital expenditure budget. The result of that analysis shows that the company anticipates no material change to its Project Phoenix EPC capital budget of $895 million, assuming that measures that we have implemented to mitigate certain adverse cost trends are successful.

Certain additional capital expenditures for capital projects related to operations at Mountain Pass are expected to total approximately $105 million. These operations relate to capital projects that cover in the company’s operating budget plans. We are continuing to closely monitor overall project expenses and we’ll revisit our forecast for all capital projects at the end of the second quarter.

Before I turn the call back to Mark for closing comments, I also want to address the proposed financing for Neo Materials. The structure outlined during the March conference call remains our intended financing structure. We anticipate that 29% of the acquisition consideration will be financed with Molycorp common stock. The remaining 71% will be cash secured to an expected debt offering, as well as proceeds from the Molymet investment and cash from the combined company balance sheets.

The debt to be issued from the expected offering will replace our current bridge financing commitment. The pending acquisition has been structured in Canadian dollars and at the end of March, we entered into a contingent forward contract to hedge the potential risk of foreign currency fluctuations between the U.S. dollar and the Canadian dollar.

As of March 31, marking this contract to market, we incurred an unrealized or non-cash loss of $6.7 million, which is recorded in the other expense line. This contract valuation partially reflects the premium related to the elimination of unwind risk should the acquisition not close.

I’ll now turn the call back over to Mark for closing comments on slide 20.

Mark A. Smith

Thank you, Jim. In my view the Molycorp value proposition has strengthened significantly since our year-end call in February.

we’re further ahead in reaching Phase 1 production at Mountain Pass. We’re seeing increased demand and commercial traction for XSORBX and our planned acquisition of Neo Materials, a game changer for our company is proceeding smoothly.

As those of you have been on past calls know, the first quarter of every year is seasonally the lowest for all rare earth companies largely as a result of the effects of the extended Chinese New Year holiday. While sales volumes were again impacted in the first quarter, the quarter also marked the end of the 2011 pricing roller coaster ride.

We’re starting to see more regular sustained business activity. Any potential demand destruction that begins to take hold during the summer of 2011 appears to have subsided. In mid-March, we observed a strengthening of internal China pricing, which is clearly reflective of revived demand. Early trends in April continue to build our confidence in a more stable market.

Of course, one month is not necessarily indicative of the entire quarter, but our day-to-day experience in these markets is demonstrating precisely what we have been predicting for many months. The long-term worldwide supply and demand fundamentals point to relatively tight markets that are leading to more stabilized pricing.

As Jim discussed, and as indicated on our year-end 2011 call, our margins are expected to face headwind this year, particularly in the first half of the year. In addition, spending associated with Project Phoenix will continue, but we expect these expenditures to scale down in the second half of this year, particularly towards the end of the fourth quarter.

Our goal remains to ensure Project Phoenix Phase 1 production rates to commence at the beginning of the fourth quarter this year. we are also reaffirming that we expect to reach our 2012 production guidance range of 8,000 to 10,000 metric tons of REO equivalent products across all of our operating segments this year.

With this increased production, we’ll be in a much better position to leverage our multi-facility approach especially with Neo Materials in the mix. It’s been a very busy two years. we know what we need to do, and we remain on track with our stated goals. I remain very optimistic about our future.

In closing, I want to say again that I could not be more proud of the work done by all of the members of the Molycorp family. I believe that in 2013, our customers, partners, and investors will see the benefits of our strategy and the impact that our global production strategy can and will have on our top and bottom line performance.

We’ll now open the call for questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) and our first question comes from the line of Anthony Young with Dahlman Rose. Please proceed.

Anthony Young – Dahlman Rose & Co.

Hey, guys. Thanks for taking the question.

Mark A. Smith

Hi, Anthony.

Anthony Young – Dahlman Rose & Co.

On the XSORBX, you kind of touched upon this, I just wanted to make sure I understand this correctly, the additional 100 tons that you guys are selling, is that to a new customer or is that customers from last year they are stepping up and taking more material?

Mark A. Smith

That is a customer from last year that tested our product. He is very happy with it and is now taking significantly more product in over a three-year period.

Anthony Young – Dahlman Rose & Co.

Okay. and then, as far as those XSORBX sales are concerned, is that going to go in the cerium sort of line item when you guys are reporting numbers, is that checks out to be the cerium products or is it in the?

James S. Allen

XSORBX will be placed in the cerium category were we have...

Mark A. Smith

Yeah. It will probably be – eventually we’re going to separate it out, Anthony, because we do expect it to be significant. so I would expect – we’ll show that separately.

Anthony Young – Dahlman Rose & Co.

Okay. And then just as far as the CapEx goes, you’re breaking out a little bit differently with the Mountain Pass or the other CapEx and 105 million there that you guys have, would not obviously specifically, but sort of just generalizations like what are those items that’s being spent on?

Mark A. Smith

Yeah, I’ll give you a couple of examples of those projects, Anthony. And it’s kind of a differentiation, I guess for the most part, EPC versus non-EPC. But we have to, in order to get the pit operational we had to do a certain amount of stripping. So we had stripping costs associated there. When we start up the solvent extraction units as part of Project Phoenix, we’ll have chemical fill costs that we have to experience. So those are the types of things that are included under that figure. I think the interesting part of that is that about 50 million of that has already been spent, and we cover those additional operational projects or capital projects under our annual operating plan. So, those have been paid for in prior years, this year and probably it’s on next year, but it’s spread out over a period of time

Anthony Young – Dahlman Rose & Co.

Okay, okay, thanks for taking the questions guys.

Mark A. Smith

Okay, Anthony. take care.

Operator

And our next question comes from the line of Colin Rusch with ThinkEquity. Please proceed.

Colin Rusch – ThinkEquity LLC

Thanks guys. Can you talk a little bit about your XSORBX pricing strategy as you take these customers from test volumes into larger volumes, can you talk about what’s happening with pricing, then also if you could talk about the number of customers that you have testing the product right now?

Mark A. Smith

Yeah. Thanks Colin and good to hear from you again. The pricing strategy is fairly simple, what we do is we take a look at the competition, the water treatment products out there that XSORBX has to compete with and we calculate an equivalent efficacy and then we back calculate what the equivalent cerium price would be, so that we can measure it on a basis that we are more used to. And what we find is that we got five or six different categories, water purification that we’re going to be using XSORBX in and the uses of those materials and the efficacy comparisons will result in prices that can range from, anywhere from an equivalent cerium oxide price of $11 a kilogram all the way up to about $95 a kilogram. And obviously our goal as a company is to push as much of the use of XSORBX to the higher end of that number.

Colin Rusch – ThinkEquity LLC

All right, perfect. And then can you talk about the regulatory inspections. Are the lulls that you’re experiencing kind of within the expected range for the Mountain Pass project?

Mark A. Smith

I don’t know if I’d call it expected, I think it has been pretty intense as of late. But I will also say that our company has worked through all of those inspection issues, we don’t discourage inspections, we think certain set of eyes is a good thing to have out at the site to continue to enhance our safety culture. And we think that it does ultimately make for a safer facility, but these inspections are intense. They do result in significant disruptions in your operations and the inspections in the first quarter were significant enough for us to note them in our first quarter call today because it did have an impact on our production.

Colin Rusch – ThinkEquity LLC

And do you have any visibility to the end of these things and what the implications might be, I mean, I trust that your history with the site may give you some comfort with some of the folks that are involved with the inspection.

Mark A. Smith

Yeah, no doubt about it. When we were in a lower state of operations, we didn’t really receive a whole lot of regulatory inspections to speak off. Now that we’re operating at a much higher level and we have over 1,850 people on-site as part of both our current operations and the project. It necessarily commands a higher attention from the regulatory agencies, but I do think that as we see the construction side of this wind down and we get into a more normal operating mode; you’ll just see kind of the regular regulatory inspection level where they are active, but they are not as intense as they have been in the first quarter.

Colin Rusch – ThinkEquity LLC

Great. Thanks a lot guys.

Mark A. Smith

Thanks, Colin. take care.

Operator

And our next question comes from the line of Paretosh Misra with Morgan Stanley. Please proceed.

Paretosh Misra – Morgan Stanley

Hi, guys.

Mark A. Smith

Hi, Paretosh.

Paretosh Misra – Morgan Stanley

Couple of questions, first on your – given that you have – taking a look at your CapEx numbers for the project. How big of a bond offering are you looking at this time, are you going to allow some allowance for – and maybe a further CapEx escalation in the project?

Mark A. Smith

Paretosh, I'm not sure that we can actually say what that number is until we issue our offering memorandum.

Paretosh Misra – Morgan Stanley

Okay, fair enough. And in the second – just looking at the cost at Mountain Pass, obviously, it looks like there is a lot of one-time items here, but could you just tell us maybe how much of this is cash cost?

Mark A. Smith

Sure. Jim, do you have that number.

James S. Allen

Sure, Paretosh. About $8.9 million relates to the water removal and Project Phoenix non-capitalizable cost; those are the administrative cost that Mark referenced earlier. So those are significant and then also like due diligence, M&A type costs; those are about $3.3 million; and then other business expenses, which are have to do with just higher operating costs due to the higher level of operations that we are including additional employees.

Paretosh Misra – Morgan Stanley

Got it. Thanks.

James S. Allen

Those are all cash costs.

Paretosh Misra – Morgan Stanley

Okay. Thanks, Jim. And then one last question, just noticed that if you are looking sequentially at your volumes, cerium and didy volumes fell, but it seems like lanthanum volumes increased. So anything especially going on in that market that you saw increased volume even though it was seasonally weaker?

Mark A. Smith

It was actually a very simple answer to that Paretosh. Our largest lanthanum customer wanted more material in the first quarter. They are U.S. based customer. And obviously, the Chinese New Year didn’t impact them. They placed a large order in the first quarter. I don’t know that we need to look at that as anything extraordinary. We still anticipate very ratable volumes for rest of the year.

Paretosh Misra – Morgan Stanley

Got it. Thanks and good luck with everything guys.

Mark A. Smith

Thanks, Paretosh.

Operator

And our next question comes from the line of Paul Forward with Stifel Nicolaus. Please proceed.

Paul Forward – Stifel Nicolaus & Company, Inc.

Hi there. And well, I just want to say congratulations on getting the mill started up.

Mark A. Smith

Thank you.

Paul Forward – Stifel Nicolaus & Company, Inc.

It’s very exciting.

Mark A. Smith

It is very exciting.

Paul Forward – Stifel Nicolaus & Company, Inc.

Well, and I guess and I’d also have to say, we don’t talk about on these calls enough, but that’s – that’s an awfully good safety record so far with the project. So let me just say congratulations on that.

Mark A. Smith

Thank you, Paul. We are very proud of, and we hold a safety barbecue for 1,850 people last week, and our Chairman of the Board, Ross Bhappu and other Director Brian Dolan and myself, probably got to talked to about 50% of those people during the course of that lunch and thank them for what they are doing. So, we are very proud of it.

Paul Forward – Stifel Nicolaus & Company, Inc.

So on the – a couple of things, just on the seasonality of the product shipments, you had 719 metric tons of REO shipments in the quarter, and that was pretty comparable to the year-ago number, which I think was 696. But just looking at the year-ago, we stepped up from the first to the second quarter; you went from 696 to about 1,000 metric tons in the second quarter. So I was just wondering if you look into the second quarter and Chinese are back into the market and everything. I was just wondering if you could talk about what sort of a step-up since we’re kind of half way through the quarter already, could we anticipate for the sales volumes?

Mark A. Smith

I think overall, Paul, we don’t really see any significant changes one way or another this year versus what we experienced last year. There are a couple of items that we’re watching very closely, for instance, the impact on the rare earth industry as a result of the floods in Thailand. We aren’t 100% recovered from that yet as people are still trying to dry out so to speak. So there are some issues out there, but we are definitely seeing good stability in orders right now and we’re seeing kind of a different type of increased order as compared to normal in that. About this time, normally, during the course of the year, you’ll start to see orders increase in fairly large chunks at a time. What we are seeing right now is smaller amounts of material, but they’re coming in at a fairly rapid rate. And I think that’s probably nothing more than the scare that everybody went through last year with the wild roller coaster ride we took for prices and people want to make sure that they have literally sold their end-used product to their customer before they call up Molycorp and place and place an order for the rare earth materials. But we’re very encouraged with the level of orders that we’re seeing and the consistency of these order increases that are coming in.

Paul Forward – Stifel Nicolaus & Company, Inc.

Okay, great. and I think just as you had talked earlier about the Neo Material acquisition and how that might have – it might allow some acceleration of the move to the Phase 2 volume rate of 40,000 metric tons. I was just wondering, it’s good that you’ve reiterated the fourth quarter start-up of the 19,000 Phase 1 rate of production and that the Phase 2 is 40,000 tons. I was just wondering if you could talk about as you see this, as you see the project advance beyond the fourth quarter of this year, can you give us a little bit of help on when you ideally would plan to hit something like that 40,000 Phase 2 run rate? and then maybe also, could you give us a little bit of an update on the share of production from either Phase 1 or Phase 2 that currently have committed to customers?

Mark A. Smith

Yeah, let me start with the second part first. we reported in the first quarter that we had received notice from our largest lanthanum customer that they had issued us their disclosure letter saying that they were electing to take a 25% reduction in that contract, which took our contracting percentage of Phase 1 production from 78% to 72%. I will also note before I mention additional contracts that we’ve entered into, that I have every reason to believe that our lanthanum customer really did that for the purpose of making sure they didn’t lose any elections or options that they had under the contract and that’s why they issued a letter. I remained very confident that our customer is going to be a very good customer and that they will want as much material as they can get under that full contract.

That being said, I’m also happy to report that we’ve entered into three additional contracts since the first quarter call and those three additional contracts have actually put us right back up to that full 78%. Our goal remains that we want to have 100% of our Phase 1 production contracted out by the end of the year and that’s what our sales team is working very hard to make sure it happens. And I’m very encouraged by that. And I think especially with the stability in the market that we’re seeing over the last four to six weeks, I think their job will become much easier in that regard as we move into the year.

In terms of ramping up that additional production under Phase 2, I apologize upfront, but I’m going to have to get into a more detailed discussion there, Paul, because we really can’t talk about the additional 20,000 tons of production any more just on a total rare earth basis, we have to really take a look at what our combined portfolio is going to look like with Neo Materials. And Neo Materials has an operating division called Magnequench that we are just thrilled to identify. And that division can probably take upwards of, I don’t know, 2,500 tons to 3,000 tons neodymium, praseodymium or what we call didymium.

If you take a look at that the amount of material relative to our Phase 2 production, that would basically, if we’ve supplied 100% of their needs, that would basically take up all of the neodymium and praseodymium production under our Phase 2 production levels, which would then require us to sell the additional heavy, which we don’t think will be any problem at all. the additional lanthanum, which we also don’t think that we’ll have any specific problems with, but we’ll also have to sell an additional 10,000 tons of cerium. And I think that’s what really becomes evident, how important the XSORBX product is to the future of our company, because I really don’t want to have a lot of cerium that we’re competing with other rare earth producers for – in the two main markets that material goes into. I’d much rather be competing in a market that we have the access to by ourselves and one that gives us a premium for our material.

Paul Forward – Stifel Nicolaus & Company, Inc.

All right. Well that’s – thanks for all the details on that. I’ll just hop back in the queue. Thanks very much.

Mark A. Smith

Okay. Thanks, Paul. Good to talk to you.

Operator

(Operator Instructions) And our next question comes from the line of Laurence Balter with Oracle Mutual Funds. Please proceed.

Laurence Balter – Oracle Mutual Funds

Gentlemen, I wanted to know what your thoughts were on what President Obama said, and in regards to the World Trade Organization, what’s going on in the macro picture on the rare earth side?

Mark A. Smith

We can certainly provide our thoughts on that. first of all, let me say that governments will do what governments have to do and we don’t want to interfere with any of that or the decision-making involved. but we have taken a very hard look at what a case like that would do, especially, in light of our acquisition of Neo Materials. And it is our opinion that the WTO action would have literally no impact on the valuation proposition in our acquisition of Neo Materials.

That comes from kind of two views, if China were to win the case and everything remains status crow, then every thing remains status crow, and that’s how we model the business. If the U.S., Japan and the European Union win, and the export quotas go away, we don’t really see a whole lot of change, unless it were to be positive because Neo Materials does have one of the largest allocations of export quotas to any company in China, and they have extra quotas right now. So to the extent that not having any export quotas helps, it would be incremental at best.

I think our overall opinion of the WTO action is that legal matters take a very long time to resolve given the process that they have to go through, and that really the best answer here while we wait for this probably two year process to unfold is that, we’re going to have extra Molycorp supply out in the world, and I think extra supply is the best way and more diverse supply is the best way to resolve the issues of concern under the WTO action.

Laurence Balter – Oracle Mutual Funds

Okay, thank you very much.

Mark Alan Smith

Thank you.

Operator

Ladies and gentlemen, with no further questions in the queue, this does conclude today’s question-and-answer session. We thank you for your participation in today’s conference. This concludes the presentation, and you may now disconnect. Have a good day.

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