Royal Gold F2Q08 (Qtr End 12/31/07) Earnings Call Transcript

Royal Gold Inc. (RGLD)

F2Q08 (Qtr End 12/31/07) Earnings Call

January 31, 2008 12:00 pm ET

Executives

Karen Gross - Corporate Secretary

Tony Jensen - President and CEO

Stefan Wenger - CFO and Treasurer

Bill Heissenbuttel - VP, Corporate Development

Analysts

John Sergi

Victor Flores

Mike Jalonen

Andy Schopick

John Doody

Presentation

Operator

Good afternoon. My name is Connie and I will be your conference operator today. At this time, I would like to welcome everyone to the Royal Gold second quarter conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operators Instructions)

Thank you Miss. Gross, you may begin you conference

Karen Gross

Thank you, Connie, and hello, everyone. Welcome to our second quarter fiscal 2008 conference call that is being webcast live today. You will be able to access the replay of this call on our website at www.royalgold.com. Also on the website you'll find our release detailing our financial results.

As always, this discussion falls under the Safe Harbor provision of the Private Securities Litigation Reform Act. A discussion of the Company's current risks and uncertainties is included in the Safe Harbor statement in today's release and is presented in greater detail in our filings with the SEC. Participating on the call today are Tony Jensen, President, Chief Executive Officer; Stanley Dempsey, Executive Chairman; Stefan Wenger, Chief Financial Officer and Treasurer; Bill Heissenbuttel, Vice President in Corporate Development; and Bruce Kirchhoff, Vice President and General Counsel. A Q&A will follow our comments.

Let me also mention that the call will include a discussion of the company's free cash flow which is a non-GAAP financial measure. For your reference there is a free cash flow reconciliation in this morning's press release.

Now, I will turn the call over to Tony.

Tony Jensen

Thanks, Karen. Good morning, everyone. Our core producing properties continued to provide a strong revenue base for the company. In addition, the Taparko royalty and the three producing properties we acquired from Battle Mountain are now contributing to our revenue stream.

Financial highlights for the quarter include record revenue of $15.4 million, an increase of approximately 19% over the year ago quarter, net income of $5.1 million or $0.13 per share compared to $5.6 million or $0.24 per share for the second quarter of fiscal 2007, free cash flow of $11.2 million or 73% of revenues compared to $10 million or 78% of revenues for the previous period. Working capital as of December 31, was approximately $201 million, and we ended the quarter with a cash balance of approximately $196 million.

Earnings in cash flow were impacted during the quarter due to several non-recurring Battle Mountain and business development charges totaling approximately $0.05 per share on an EPS basis. We also have an earnings adjustment of $1.2 million or $0.04 per share due to accounting for the accumulated dividends on the 7.25% mandatory preferred shares.

And as you know, we have been building our asset base over the last year through the purchases of the Penasquito, Pasqua-Lama and Battle Mountain royalties. This resulted in a greater number of shares outstanding compared to the prior period, but as you'll hear in a bit, these acquisitions will help provide the basis of our future growth.

During the quarter, we positioned the company to consider a large potential transaction. Our review was extensive but ultimately we're unable to reach an agreement that was mutually beneficial to both parties. This review resulted in larger than normal business development expenses during the period.

Given that those discussions have since terminated we have reviewed our capital structure and our options regarding the mandatory preferred shares that were issued in November, and decided to redeem those shares by converting them to common shares. The conversion amount will depend upon the average share price during the pricing period.

We have also approved the limited share repurchase plan to be opportunistic and support this effort is necessary. This redemption will simplify our capital structure and significantly reduce our cost to capital since we're eliminating the 7.25% after tax dividend payment.

Turning to the revenue side of the business, I would like to first highlight the fact that approximately 82% of our revenue was generated from precious metal royalties during the quarter, a figure that distinguishes us from other royalty companies which have a much lower mix of precious metal royalties in their portfolios.

The Cortez, Goldstrike and Robinson mines recorded solid production contributing about 73% of revenues for the quarter. Marked on a smaller scale also continues to operate well and core just commissioned the mill last month on time in close to budget, which is remarkable in this environment. This mill will likely enhance the value of our royalty as we anticipate improvements in the costs structure, which should drive additional reserves overtime. While Leeville fell short of their annual goal, the mine finished the year at the design production level and contributed $1.3 million in royalty revenue for the quarter.

We understand that the infrastructure is now in place, but that manpower continues to be a challenge for the operation as it is in many parts of the world. In the coming quarters we're hopeful that Newmont will be able to deliver sustained and consistent production at the designed capacity of 3200 tons per day. Both, Bald Mountain and Troy provided less royalty revenue than was expected. Bald Mountain simply produces fewer ounces from our royalty ground than originally projected and at Troy the mine was limited for much of the quarter due to an Amshaw imposed restriction on mining in the east ore body following an earlier accident. Troy obtained permission to start mining in this area in October but production levels during the quarter did not return to the pre-accident level.

Now, I would like to discuss some of our more recent revenue generating properties. The Taparko mine at Burkina Faso began production in July of 2007 and has been in the ramp-up stage. Taparko produced 5,900 ounces during the second quarter and contributed approximately $1.1 million in royalty revenue. This payment amount was significantly impacted by increased RA levels in transit at yearend as well as relatively straightforward but untimely, no alignment problems.

In our last conference call, we said that we are taking a couple of months for the operation to reach full capacity. Both October and November proved challenging as the mine experienced problems in October when a coupling failed between the mill motor and the gear box due to a misalignment. The replacement coupling was sourced from outside the country which caused significant downtime in November and mill started up again in December and the drivetrain was completely realigned in January to correct the misalignment problem.

At current gold prices, and at the design capacity, Real Gold would earn about $60,000 per day in royalty revenue from the mine, which equates to about $5.4 million per quarter at steady state production. We expect this royalty will soon be one of our top revenue generators. Also during the quarter we received initial royalty revenue form the Bald Mountain producing properties. Collectively, we received approximately $700,000 from the Williams, Don Mario and El Limon for the two-month period after closing, which took place in October on 24th.

Now, I'd like Bill Heissenbuttel, our Vice President of Corporate Development to give you an update on several of our developments states properties in our recently announced acquisition with AngloGold.

Bill Heissenbuttel

Thank you, Tony, and good morning, everyone. I'd like to begin with some great news that was announced last month at the Penasquito property. In early December, Gold Corp announced the approval plans to expand mill throughput by 38%, and to accelerate the construction schedule at the project. Gold Corp now estimates the average annual license mine production to be 400,000 ounces of gold, 31 million ounces of silver, 417 million pounds zinc and 214 million pounds of lead.

Royal Gold holds a 2% net smelter return royalty on all metals at the Penasquito project. These operational expansions will increase and accelerate our royalty revenues and significantly enhance our return on this investment. Gold Corp also reported that the project remains on schedule and is expected to produce gold from heap leaching of oxides in late calendar 2008 with no startup in 2009.

In addition, Gold Corp reported exploration drilling, metallurgical evaluations and optimization efforts are continuing to provide further project enhancements. We expect this project will be our cornerstone royalty for the next couple of decades. Our current metal prices in full production capacity, we estimate this royalty would generate approximately $20 million to $25 million annually.

Turning to the Battle Mountain acquisition, the key asset is the royalty under the Dolores property just being constructed by Mine founders. We understand the project is still expecting production to commence in the second calendar quarter of 2008. At current metal prices and full capacity, this royalty should produce about $4 million to $5 million per year in royalty revenue.

In December, we closed the Benso transaction, a 1.5% net smelter return royalty on Golden Star's Benso concession in Ghana, West Africa. According to Golden Star, construction of the road from Benso to the Wassa processing plant began in October. They expect the first ore to be mined and hauled in the third quarter of 2008.

Last month, the operator also reported that based upon positive drill results, further drilling would be done in second quarter of 2008 to help them understand the full potential of the deposits.

Last week, we announced an agreement to acquire three royalty assets from AngloGold Ashanti for $13.75 million. The assets included 2% net smelter return royalty on the Marigold mine, an open pit, heap leach mine located in Nevada. Goldcorp is the majority owner and operator of the mine.

The royalty covers five sections to the North of the Basalt and Antler pits, the current source of production for Marigold. We have estimated that 35% to 40% of the current 2.1 million ounces of reserves are covered by the royalty. Production subject to the royalty is expected to recommence in 2010 as the operation moves north from its current focus.

The other two royalties included in the transaction are a 2% to 4% sliding-scale net smelter return royalty and a 10% net profit interest royalty on Capital Gold's El Chanate mine in Mexico. The NSR royalty remains at 4% at gold prices above $350 per ounce. El Chanate is an open pit, heap leach gold operation with an estimated annual production capacity of 50,000 ounces and proven and probable reserves of 832,000 ounces.

Production at the mine commenced in the third calendar quarter of 2007. The NSR and MPR royalties are capped at $17 million and $1 million respectively. El Chanate is now produced in well above the design capacity and Capital Gold is looking to increase production to 60,000 ounces in calendar 2008 with a study underway to determine that production levels can be increased to 100,000 ounces per year. At 60,000 ounces per year in current gold prices, we could receive revenue of over $ 2 million per year. This agreement is still subject to due diligence with closing targeted during this quarter.

Now, I'll turn the discussion back over to Tony.

Tony Jensen

Thanks, Bill. We're obviously quite excited about having grown Royal Gold into the company with a portfolio of 19 royalty properties with reserves, including the Anglo Gold transaction. It is rare to find a company of our size with this level of diversification. 13 royalty assets and production today and six in the near term production are developmental pipeline.

Our financial strength has never been better with nearly $200 million of working capital and strong and growing internal cash flow. Last week we extended the turn of our credit facility with HSBC until December 2012, which has a borrowing capacity of $80 million. We now have liquidity of about $280 million giving us ample resources for continued growth.

I would also like to take this opportunity to welcome Bill Hayes to our Board. Bill has a wealth of Senior Executive experience with both Exxon and Placer Dome where I had a chance to work with him for about 10 years. His political, financial and international experience in the mining industry will supplement the Board in these critical areas.

In conclusion, we had a strong revenue and free cash flow for the quarter and we anticipate increased production levels from Taparko and Troy, a full quarter of production from the Battle Mountain assets and fresh and immediate revenue from El Chanate. All of this should result in a stronger second half of fiscal 2008.

Operator, that concludes our prepared remarks and we would be happy to take any questions if there are any.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of [John Sergi].

Tony Jensen

Yes, go ahead please. John, are you there?

Operator

Mr. Sergi? Go ahead, sir.

John Sergi

Hello.

Tony Jensen

John, I heard you for just a bit. Can you hear us?

John Sergi

I can hear you. Can you hear me now?

Tony Jensen

Yes. Please go ahead.

John Sergi

Okay. On the non-occurring, re-occurring charges of $2.2 million, do we expect any in the current quarter, any non-reoccurring charges either from Battle Mountain or the evaluation of new business?

Tony Jensen

Stefan, would you take that?

Stefan Wenger

Yeah. John, this is Stefan. With respect to the Battle Mountain and the business development charges, we don't expect any of those additional charges in the current quarter. I should highlight with respect to the preferred dividend on the preferred shares that given in will seize on March 10th when the conversion is complete with respect to the preferred dividends.

John Sergi

Okay. So we expect some outlay of cash there then?

Stefan Wenger

Yeah. The remaining dividend will be paid on March 10th and that will be the end of that instrument.

John Sergi

Okay. Another question on the Battle Mountain acquisition, at one time they had had a loan outstanding that was to be paid back in actual gold ounces and originally it was 7,500 ounces I believe they had that paid down somewhat. When we went ahead and inherited that, I assume we inherited that debt as well. Had been paid up to this point?

Stefan Wenger

John, this is Stefan again. We paid that immediately following the acquisition actually about a week or so following acquisition. So that debt is no longer outstanding.

John Sergi

Terrific. And I don't see anything from Jewel Man. That property was once producing for Battle Mountain. Is that now defunct?

Tony Jensen

This is Tony, John. That property totally mind out its reserves, but it has just been sold to another firm and I can't think of the firm right off the top of my head and they're talking about doing some additional exploration of the property. But we don't expect any near-term production until they get some reserves out in front of them.

John Sergi

Okay. And the last question is on the pipeline. Have we been given any estimates for the current calendar year?

Tony Jensen

Not yet, but you will see those probably in late March, early April. We were actually in the process of going to visit all the sites just now. And the reserves are coming into us in bits and pieces and as well as the production profile for this calendar year, and we'll publish a press release in late March, early April.

John Sergi

Okay. I know that's property has been going for a long time. How much longer can you expect realistically for that mine to continue?

Tony Jensen

Last year, I think, Karen, if you can make sure I say this correctly we had 2.3 million ounces or 2.4 million ounces that were subject to our royalty interest. I think they consumed probably around 550,000 of that. So if you can just do that math and look forward, there is a few more years out in front of it. And we still expect that there is still some exploration potential in the property. Also, I think we've talked about a number of time on these calls, I want to highlight that the Crossroads deposit which just sits to the South of South pipeline and I think there is in the order of three million ounces of resource that have not made their way into reserves. And we've always been pretty high on that property, particularly higher gold prices. So, we are still pretty excited about being associated with that property John.

John Sergei

Yeah. That's fantastic because that I wanted to hear, great. And if you will have you heard anything about the Taparko and I know you talked about the alignment and so forth, but currently have you heard how they are cranking it out right now?

Tony Jensen

Well, they had a pretty good steady state production in the month of December when they came back up and they had pretty good steady state production in January and then they went down to completely revaluate that alignment issue and they laser aligned everything and so they are just coming back up from that and keeping a close watch on that entire drive train.

So apart from that one issue, which is not a real complex issue and normally a problem area in the mill, apart from that everything else seems to be operating very nicely. So we as you are very eager to see them get up in that sustained production mode.

John Sergei

Sure. So February and March could be very well there.

Tony Jensen

We're watching it close.

John Sergei

Okay. Alright, guys thank you very much.

Tony Jensen

Thanks, John.

Operator

Your next question comes from the line of Victor Flores.

Victor Flores

Yeah. Thank you. Good afternoon, Tony and everybody at Royal Gold. First a couple of financial questions. Going to the extra business expense that you incurred during the quarter is that also included in that jump in interest expense?

Stefan Wenger

No it’s not, it’s all up included up in the business development line item Victor. The jump in interest expense was part of the Battle Mountain charges and that line item relates to I would say about $400,000 of Battle Mountain one time charges there related to the actually paying down that gold loan and the rest of that is related to our Royal Gold Chile interest. So about $400,000 of that interest line will be non-recurring.

Victor Flores

That’s fine and then turning to the preferred dividends I have two questions one is do you have an estimate for how much you'll pay in total on the preferred dividends before you convert them?

Stefan Wenger

Yeah, Victor with the sure payment date now of March 10th, which is the conversion date the total dividend on the preferred shares for the entire outstanding period will be $2.8 million, $1.2 million of that was accrued into our financials for the three months ended December 31st, 2007, so about $1.6 million is what’s remaining, in February and March Victor so none of the cash has gone out yet.

Victor Flores

Right and then just an accounting question. My understanding is that when you pay preferred dividend you recalculate your diluted earnings per share by adding back the preferred dividend then dividing by the fully diluted number of shares as if you had converted. Why did you not do that, because it really makes your pick a hit through earnings, which I don’t think you deserve to take?

Stefan Wenger

Well we did do that and actually the dilutive calculation was anti-dilutive and I can walk through the details with your client if you would like?

Victor Flores

Okay.

Stefan Wenger

We just look at that in detail with respect to the basic shares you actually reduce the amount of net income in the numerator by the preferred shares, but the shares are not included in the basic?

Victor Flores

Alright, well it's just an accounting thing. We can deal with that later, thanks and then just turning to the operations. Tony, could you remind me what 'covenants' or requirements High River gold has with respect to the performance of Taparko. Given your rather large royalty financing and the agreements you made with them, because I understand mines have start up issues, but they haven’t come anywhere close to what they had guided towards. And they spent $90 million bucks on this thing you think it would run pretty well in its first six months and quite frankly the performance there has been well short of what they have advertised.

Tony Jensen

Right, Victor and we still do hope security on it. We have a couple of layers of security there. Let me just talk about the performance that's first. They have to run for 90 days at continuous performance and meet a whole series of different tests throughout the mill and in the mine, in the reserve, all of that has to work. We have not yet been given notice by High River that they are in the position where they want to start that test and in the mean time we still hold two pieces of security that, Stefan, I don't know if you have looked at those lately but they are probably well in excess of our $35 million investment in the project probably closer to $60 million or $70 million I would imagine.

Stefan Wenger

Yes. We have got ample security after that.

Victor Flores

Okay, so at this point of time you are basically willing to take a wait and see attitude with respect to the start up and at some point in time we hope that they are comfortable that the thing is running right and they can then initiate that 90-day period.

Tony Jensen

Absolutely, let me just say that I have been over the property twice and it is a straightforward property. The facility that's been installed is, there is nothing unique about it Victor, and it's just a matter of getting the critical spares on site, and getting a few of these things ironed out.

We've had a few other areas that have been addressed quite quickly like you would have in any startup issue, but this coupling ended up being quite a delay factor. So I don't see any reason why this is not going to operate smoothly in the near future. And frankly, we want them to succeed, because when they succeed we will as well.

Stan just had asked me to comment about our project engineer. We have a gentleman that we hired specifically for this task, and he goes over and monitors the project on a pretty frequent basis. And so we do have a pretty good understanding of what the status is of the project, and now we are providing any kind of input we can along the way.

Victor Flores

Okay, and just one final question if I may, have you heard any updates from the folks at Mine Finders with respect to their startup at Dolores?

Tony Jensen

We still understand that they are looking for production to start in the second quarter of calendar 2008. So I don't know if they've given any specific guidance with regard to a month, but we're just expecting sometime in the second quarter.

Victor Flores

Okay, I mean that's generally what I have heard of you, you had a little bit of an insight track there, but thank you.

Tony Jensen

Thanks Victor for your questions.

Operator

Your next question comes from the line of Mike Jalonen.

Tony Jensen

Mr. Jalonen, welcome to the call.

Mike Jalonen

Pronouncing my name correctly. Full marks, but every gets it wrong though. I was just wondering, look at the Troy, I guess, you've had, probably bashed Taparko enough and well Troy mentioned the mine hasn't comeback to former production levels, operating levels after I guess this temporary shut down. Just wondering were the mine stands now in the January of '08. Is it back up to full steam, because it always seems to have problems, so it's this mine.

Tony Jensen

Mike, I can't tell you the exact number where the production level is today, but I think they are going to be in a position where they can regain what they were doing last July. June, July, they started to coming on strong and reaching a level that I think is quite economical to sustain, but where they are today I don't know, whether at 2,000 or 3,000 tons a day, but I suspect they are getting back close to the June, July levels.

Mike Jalonen

Okay, that's good. I guess, just staying with Troy. You have that financing, I guess royalties that the initial money put it into it. Just wondering how much of that was left to be recouped?

Stefan Wenger

Mike, this is Stefan. I think through this quarter we put up -- we've received $6.6 million of the $10.5 million cap. So we've got depending on the production level, we've got a year and year half, two years left on that cap.

Mike Jalonen

Great. Well, thank you.

Tony Jensen

Thanks Mike.

Operator

Your next question comes from the line of Andy Schopick.

Andy Schopick

Good morning. I had full series of questions I would like to ask. First of all assuming an average share price around $30 into how many common shares would the mandatory preferred shares convert?

Stefan Wenger

This is Stefan at $30 we would issue 3.9 million common shares in [a hay].

Andy Schopick

I think that’s probably a reasonably assumption at this stage. Could you repeat how much precious metals royalties represented as a percentage of the quarters royalties?

Stefan Wenger

For the quarter we had 82% precious metals.

Andy Schopick

Okay I think you mentioned it and I didn’t hear it correctly. Also I have just kind of a general question about why Royal Gold shares have not tracked more closely with the rising price of gold. I can go back to like the spring of '06 when gold was still perhaps in the $500 range and it’s kind of frustrating and disappointing to not see Royal Gold shares track more closely, but generally very strong rising precious metal prices. I am kind of at loss to explain and wanted to get any comment on it?

Tony Jensen

Andy, I think you’ve seen the financials come through quarter-after-quarter in reasonably good shape we're certainly building the company for the future and part of building the company for the future was a couple of liquidity events that we had during the course of the year. And I think there is some shares that might have been in some softer hands after our March event and perhaps we took on a bit of share short selling shareholders hedge funds with the mandatory convert and that could have pressured the shares a bit. But the fundamentals in the company are extremely strong and we too would like to see a break out here

Andy Schopick

Yeah I think that mandatory preferred share situation may have been a factor in this. How about the common stock dividend? To what extent does the redemption of the preferred shares influence your future common stock dividend policy? Currently you have also made an announcement pertaining to a potential up to about $30 million share buy-back here in the first quarter. Just wondered if you want to comment on the overall dividend policy, given the expectations of the company's future royalty streams?

Tony Jensen

We take a look at our dividend policy at least once a year at the Board level and we believe that it's important to provide our shareholders with a yield not only share price appreciation but also yield along the way which is a bit unique in the gold space. So we do want to maintain a dividend that we can sustain into the future. So we will be continuing to look at that at the Board at least on an annual basis.

Andy Schopick

Did you say Taparko had full production and performance will be generating $5.5 million of royalties annually to the company?

Tony Jensen

That's per quarter.

Stefan Wenger

Per quarter?

Tony Jensen

So that's going to be a large royalty for about three years.

Andy Schopick

Okay, thank you.

Tony Jensen

Thanks, Andy.

Operator

Your next question comes from the line of John Doody.

Tony Jensen

You are there, John.

John Doody

Hello.

Tony Jensen

John, are you with us?

John Doody

I hear you, can you hear me?

Tony Jensen

Yes, sir.

John Doody

Okay, good morning. Two questions, one is maybe you can refresh my memory on the security that backs the Taparko debt and then I'll have a second one?

Tony Jensen

Can you take the securities, Stefan?

Stefan Wenger

Yeah, I am not going to talk about the dollar amounts but we hold certain marketable securities as collateral for one piece of our agreement and I believe that falls away once they meet the completion test. We also hold shares in the subsidiary of High River Gold that holds the Taparko Mine called [Samida].

John Doody

Okay so you hold some marketable securities of some other company that High River holds?

Stefan Wenger

Yes, I (Inaudible)

John Doody

Okay and is that roughly 50:50 kind of thing like that or is one disproportionally larger than the other?

Stefan Wenger

You could argue that the value of the shares in the subsidiary area are more valuable for marketable securities. But certainly the marketable securities have a liquidity so I think there is meant to be balance there in that package.

John Doody

Okay and second since you are now sitting on couple $100 million in cash, which presumably could be earning some nice royalties, if it was invested. Can you give us any sense as to when this might get deployed or what kind of I know you are not going in to exact details but what kind of stuff you are looking at?

Tony Jensen

John, just first of all say that we aren't in a position in comment on any particular business development activities but. We do have a good list of things that we follow on a continuous basis and Bill is always coming up with new and interesting ideas and we very much are pleased to have that kind fire power on our balance sheet right now. And we want to employ that as fast as we can.

John Doody

Okay I know you guys like to buy. Your royalties at some private market value as opposed to what the public might capitalize in it. Would we be out of line thinking that may be the $2200 million should you spend it all, might be it will generate something in the range of $20 million a year royalty?

Tony Jensen

John I just don't want to speculate on that but you have seen the kind of deals that we have done and the discipline we have had in our deal making. I think you can probably do your own math there and make an assumption.

John Doody

One more shot if you'll allow me. Anything like the Penasquito Royalty out there?

Tony Jensen

We look at all sizes of deals. We very much would love to do a whole bunch more of a Penasquito deals, but quite honestly those are not something that could generate $20 million existing is not a frequent thing in the marketplace.

But we do like the portfolio approach as well, where we have a number of active royalties in the portfolio, because small mines do make big mines at times. So I think you'll see us pursuing all of those existing royalties and at the same time trying to create royalties that part of the royalty financing products that tend to be a little bit larger in size.

John Doody

Okay. Great thanks. I think the sooner you can put the money to work, the more credits you'll get from the stock market for it.

Tony Jensen

Thanks John.

Operator

(Operator Instructions) There are no further questions at this time.

Tony Jensen

Well, thank you operator and thank you everybody for joining us here today. We certainly appreciate your interest and continued support of Royal Gold and we look forward to updating you on the progress during our next quarterly conference call.

Operator

Thank you. This concludes today's conference call. You may now disconnect.

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