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North American Palladium Ltd. (NYSEMKT:PAL)

Q2 2012 Earnings Call

August 9, 2012 9:00 AM ET

Executives

Camilla Bartosiewicz – Director, IR and Corporate Communication

Bill Biggar – President and CEO

Jeff Swinoga – VP- Finance and CFO

Greg Struble – VP and COO

Analysts

Sam Crittenden – RBC

Leon Esterhuizen – CIBC

Heiko Ihle – Euro Pacific Capital

Andrew Mikitchook – GMP

George Topping – Stifel

Nathan Littlewood – Credit Suisse

Annie Zhang – Octagon Capital

Operator

Good morning, ladies and gentlemen. Welcome to North American Palladium’s 2012 Second Quarter Results Conference Call and Webcast being held on Thursday, August 9, 2012 at 9 AM Eastern time.

I would now like to turn the call over to Mr. Camilla Bartosiewicz, Director of Investor Relations and Corporate Communications. Please go ahead, Camilla.

Camilla Bartosiewicz

Thank you, operator. Good morning everyone and welcome to North American Palladium’s 2012 second quarter results conference call and webcast. The company’s financial results were issued yesterday, and they are available on our website at nap.com.

Our presenters today are Bill Biggar, NAP’s President and CEO; Jeff Swinoga, Vice President, Finance and Chief Financial Officer, and Greg Struble, Vice President and Chief Operating Officer.

Please be advised that the information discussed today is current as of August 8, 2012, unless otherwise indicated and that comments made on today’s call may contain forward-looking information. This information, by its nature, is subject to risks and uncertainties and, as such, actual results may differ materially from the views and expectations expressed today. For further information on these forward-looking statements, please consult the company’s relevant filings with SEDAR and with the U.S. Securities and Exchange Commission.

Lastly, please be reminded that all currency amounts discussed on today are in Canadian dollars, unless otherwise stated. All references to production ounces refer to payable production and all tons are in metric tons.

And now I’d like to turn the call over to Bill.

Bill Biggar

Thanks, Camilla and good morning, everyone. During a very active development period in the second quarter and despite the weather-related challenges that we encountered, LDI delivered solid production results.

By way of background, in Q2, the Thunder Bay Region experienced unprecedented rainfall, resulting in flooding across the city of Thunder Bay to declare a state of emergency for two days. The impact of LDI was less significant, although there was an interruption in our underground mining activities at the peak of the event.

In the second quarter, we produced approximately 40,000 ounces of palladium at a cash cost of US$429 per ounce. Our realized palladium selling price in the quarter was US$622 per ounce, which gives a palladium operating margin of CAD193 per ounce for a total margin of about CAD8 million.

With a strong first half of the year, marked by almost 82,000 ounces of palladium produced, we’re confident that we will meet our 2012 production guidance of 150,000 to 160,000 ounces of palladium with cash cost in the range of US$375 to US$400 per ounce.

Our Q2 financial performance was, for the most part, within our expectations. Although compared to the same quarter last year, we were negatively affected by a lower realized palladium selling price, no gold sales, as well as the one-time costs of about CAD700,000 that were incurred relating to the flood mitigation efforts.

During the quarter we completed a CAD35 million flow-through financing and, subsequent to quarter-end, completed a CAD43 million convertible debenture financing. These financings have strengthened our balance sheet to facilitate the funding of our LDI mine expansion. Given the recent volatility of financial markets around the world and commodity prices, we believe that this was a prudent measure.

The LDI mine expansion continues to be our number one priority at NAP. Through an investment of CAD65 million in the first half of this year, we achieved a number of important development milestones and are nearing a stage of substantial completion on much of the surface work required to support the expansion. Above all, we remain on target to begin commissioning the shafts by year-end. And the commissioning of the shaft continues to be our primary focus as it will enable us to expand our output and lower our cost profile starting next year.

Now as you may have seen yesterday, we also released the results of our updated reserve and resource statement as of March 31, 2012 for LDI to reflect the results from our 2011 and Q1 2012 infill drill program. Recall that the objective of the infill drill program was to upgrade the resource model in support of ongoing development and mine planning. And I’m pleased to say that we accomplished this objective, as the results substantially upgraded categories, particularly the measured category, thereby giving the increased confidence in the resource estimates.

The new resource model provides a foundation for effective long-term mine planning that is critical to the successful ramp-up of mining operations in the Offset Zone deposit, while at the same time highlighting the tremendous opportunity to significantly expand resources from new underground drilling platforms that will become available next year after the shaft is commissioned.

And with respect to converting some of the Offset Zone resources into reserves, the estimation is currently in progress and is expected to be completed prior to year-end, following completion of our updated mining plan.

Now turning briefly to our gold business, now that we have all of the permits at Vezza, and with the development well advanced, we’ve recently announced that now is the appropriate time to explore divestiture opportunities and, ultimately, exit the gold business. While we continue to believe in Vezza’s cash generation potential, we believe we can build an enhanced shareholder value by focusing exclusively on our palladium assets and their growth potential.

This change in strategy has been most welcomed by the majority of our shareholders to invest in NAP as a palladium growth story. LDI is a world-class asset with excellent prospects for improved operating margins. It is also one of only two primary palladium operations in the world with leverage to the rising price of palladium, which continues to benefit from solid supply and demand fundamentals.

Therefore, the expansion program at LDI will be the main driver of our future growth in production and cash flow. Additionally, we believe in the significant palladium exploration potential we have here in Northwestern Ontario and have aggressively increased our land package over the last six months through strategic property acquisitions to consolidate our property portfolio around the LDI mine, which now totals over 62,000 acres.

And on the topic of shareholder value, I just wanted to make a couple of comments about our recent share price performance. As fellow shareholders, we are not pleased to see our stock trading near its 52-week low. There are many factors at play that are beyond our control, such as the macroeconomic outlook affecting investment sentiment for resource stocks, commodity price volatility, and the short-selling that we’ve been vulnerable to.

However, what we do have control over is our operating costs and delivery of our production and development goals. And on that front, be assured that we are dedicated to building long-term shareholder value by realizing our vision of becoming a low-cost producer through the completion of our mine expansion. And we believe that this value creation will ultimately be reflected in our share price as we expand our operating margins and return to steady profitability. And we do appreciate the shareholders who continue to stand by us and sincerely value your patience as we complete our transition.

Now, I’m going to turn the call over to Jeff to discuss our second quarter financial results.

Jeff Swinoga

Thank you, Bill, and good morning, everyone. Starting with our financial performance for the second quarter, revenue was CAD40.6 million, compared to CAD51.4 million in the same quarter last year. Second quarter total revenue is primarily lower compared to last year, due to a number of reasons.

LDI sold less ounces this quarter and a lower realized palladium price. LDI’s realized palladium selling price for Q2 was CAD622 per ounce, compared to CAD754 per ounce in the same quarter last year. There is also no gold revenue recognized this quarter with the closure of the Sleeping Giant gold mine at the beginning of this year. And finally, gold sales from Vezza are being capitalized until the mine achieves commercial production.

Total operating expenses in the second quarter were CAD38.2 million, compared to CAD37.5 million in the same quarter last year. The increase in operating expenses at LDI resulted from mining and processing more tonnage, higher contractor cost, higher parts supplies, fuel charges compared to the same period of last year, which was largely offset by the closure of the Sleeping Giant gold mine at beginning of this year.

I should point out that in the second quarter, the mine incurred a one-time CAD734,000 mine restoration cost related to the flooding cost of by the unprecedented rainfall in the Thunder Bay region in June. This was excluded from our Q2 cash cost per ounce figure.

Overall, the net income for the quarter was CAD3.1 million or CAD0.02 per share, compared to the net earnings of CAD5.4 million or CAD0.03 per share in the same period of last year. Looking at adjusted net income, which excludes flood cost, as well as exploration expense, mine closure and care and maintenance cost, it was CAD1.9 million in the second quarter, compared to CAD11.5 million in the same quarter last year.

Second quarter EBITDA was CAD431,000. Now excluding the flood cost and exploration expense, mine closure cost and maintenance cost, adjusted EBITDA was CAD5.4 million. And cash provided by operating activities before changes in non-cash working capital was CAD3.7 million or CAD0.02 per share.

Looking at our capital spent during the second quarter, NEP invested CAD40.7 million in development in capital expenditures, which includes CAD32.1 million at LDI, of which CAD28.2 million were towards the mine expansion project, and CAD8.6 million at Vezza gold mine. Until Vezza reaches commercial production, all costs will continue to be capitalized.

Our six month total CapEx is CAD85.7 million, which includes CAD69.3 million at LDI, of which CAD65 million was towards the mine expansion. Recall that our capital guidance for LDI for the mine expansion with the CAD116 million for 2012.

And we spent CAD16.4 million at the Vezza gold mine. Capital spending at Vezza is under review to minimize expenses where appropriate, but it is not expected to differ materially from the previous annual guidance of CAD20 million for 2012.

Turning to exploration, during the second quarter, we expensed CAD4 million in exploration, and we also spent CAD500,000 in exploration expenditures that were capitalized in connection with infill drilling for the LDI mine expansion project.

Now turning to the balance sheet. During the second quarter, the company issued 11.3 million (inaudible) shares at a price of CAD3.10 per share for growth proceeds of CAD35 million. The company is required to spend these funds on eligible exploration and mine expansion development expenditures, which are (inaudible) to investors for the 2012 tax year.

At the end of the second quarter, approximately CAD6.8 million was spent so far. As at June 30, 2012, the company had CAD65.4 million in working capital, including CAD23.9 million of cash on hand. After Q2, we’ve recently closed at CAD43 million convertible debenture financing. So, if add these proceeds, our pro forma cash position as of June 30 would be approximately CAD65 million.

Regarding our US$60 million bank facility with the bank Nova Scotia, which is secured by accounts receivable and inventory, this is to be used for working capital liquidity. At June 30, US$16.2 million was utilized for letters of credit primarily for reclamation deposits and US$15 million has been drawn down, leaving approximately US$29 million available under this line of credit.

In closing, I’d like to reiterate that the company’s growth initiatives continued to be supported by strong balance sheet.

And, now I’d like to turn the call over to Greg to discuss our operational and development activities during the quarter. Greg?

Greg Struble

Thanks, Jeff. Despite some weather-related challenges that we experienced in the Thunder Bay region at LDI, we still achieved very significant and solid results during the second quarter. I want to take this opportunity to congratulate the team for reacting quickly and efficiently in mitigating the effects of the flooding and to ensure the safety of all our employees during that time.

As you know, our 2012 production plan includes the blending of underground ore and surface ore, which we forecast will give an average head grade of around 3.7 grams per ton for the year. The second quarter results matched our internal projections quite well and we continue to have a high degree of confidence in meeting our full-year production targets for 2012.

To briefly recap our production results from the second quarter, we produced about 40,000 ounces of payable palladium. Approximately 528,000 tons of ore were milled with majority contributed from the surface. Our average head grade at the mill was 3.4 grams per ton. Underground and surface grades were consistent with our internal budget and our planned stoping sequence and the 3.4 gram per ton is slightly lower than our annual guidance of 3.7 gram per ton because we processed more from the lower-grade surface ores.

Our overall recovery at the mill has been consistent at 77% and our cash cost during the quarter were CAD429 per ounce, which is higher than our guidance mostly due to the slightly lower overall grade processed by the mill, the highest smelter costs under our new contract with Vale and our lower byproduct metal prices.

Now, looking at the first half of the year, ounce production stands at approximately 82,000 and our cash costs are at US$404 per ounce and we believe that we will meet our annual guidance in terms of production between 150,000 and 160,000 ounces of palladium at a cash cost in the range of US$375 to US$400 per ounce.

Now turning to an update on the mine expansion, we continue to see very positive progress and are on target to begin commissioning the shaft by the year-end. Recent mine expansion development highlights include – surface construction work has been significantly advanced and remains on target to be all but complete by the end of Q3. Shaft sinking is underway and is on target to begin commissioning at the end of the year.

Underground development is, overall, progressing on schedule, despite the weather related interruption to the deeper mine development. Preparation for the first upper Offset Zone production stope is now complete and the final mining plans are being formalized.

Commissioning of the service and auxiliary hoists is on schedule for later this month, and the main substation was successfully commissioned and connected to the power grid. Looking at this picture of the mine expansion construction site, the steady progression is clear to see.

And now, I’ll turn the call back to Bill for some closing remarks. Bill?

Bill Biggar

Thanks, Greg. Before we open up the call for questions, I just wanted to make a few brief comments about the palladium market, which has been experiencing some, what we view as, temporary price weakness, so during the second quarter palladium spot prices averaged about CAD629 per ounce, ranging from a low of CAD566 per ounce to a high of CAD683 per ounce.

Despite this volatility in price, which predominantly stems from the uncertainty of the European debt crisis, the supply and demand fundamentals of palladium remained strong. The supporting factor behind this positive outlook for the metals’ future performance is the resilient industrial demand, increasing investment demand and constrained global supply.

On the supply side, a multitude of issues of affecting the South African PGM miners who produced about half of the world’s palladium supply, as a byproduct of their platinum production, do not appear to have any immediate solutions. The latest financial reports from listed PGM miners in South Africa have shown that over half of them are operating at a loss, or are trading and thin margins which do not generate sufficient cash flow to cover capital expenditures.

Several major South African PGM producers have embarked on strategic reviews to evaluate production and CapEx plans. And we’re starting to see some producers close unprofitable mines. What is very clear is that there won’t be any growth coming out of South Africa, and we may well be approaching a contraction in supply.

And yet the reality is that the world is going to need more palladium with the growth of vehicle production in the developing countries, led by China. So with no supply growth, but growing demand, the stage is set for a rise in the price of palladium, which I believe will test its historic high of CAD1100 per ounce in the next two years. We just need to be patient until the issues in Europe settle down and the macro-overhang is removed.

So in closing for the remainder of the year, we will focus on commissioning of the LDI mine shaft by year-end, realizing value for our gold division assets and advancing our ongoing near-mine and greenfields palladium exploration programs. Thank you for listening and we’d be pleased now to answer any questions.

Question-and-Answer Session

Operator

(Operator Instructions) First up we have Sam Crittenden from RBC. Please go ahead.

Sam Crittenden – RBC

Hi, good morning, everyone. A question on open pit resources. Do you expect to mine at a similar level from the open pit next year. And then, what has to happen to bring some of those other ounces into reserves? And at what point you run into sort of a big layback to capture some of those ounces?

Bill Biggar

Good morning, Sam. Yes we do expect to be mining from the pit next year. And you can see in the reserve table, I believe it’s about 46,000 ounces in reserves in the pit. And I’ll point out that those are in-pit reserves, so there’s no layback required to get at those. In terms of the other pit resources, which are in the measured and indicated categories, Greg you want to comment on what it would take to get at those?

Greg Struble

Yeah, I think it would take a little deeper view, Sam. We intend to look at what it would generate if we had to do a bit of layback, more unlikely to the west. We don’t see any huge cost coming that way but if we did go that route, we would do a full study of that before we move forward.

Sam Crittenden – RBC

Okay. And then another question on Sheriff Zone, would that potentially be connected – would you be able to get that from an open pit, or would it look more like an underground mine? I know it’s pretty early stage still, but do you have any sort of plan for that, how that would be mined?

Greg Struble

Yeah, I think we’re very excited about what we’re seeing there, Sam. It’s, I think, got potential to be accessed from several different directions – open pit and from underground. But it’s clearly an exciting development we have going on.

Sam Crittenden – RBC

Okay. And then, remind me, do you plan on starting the mine that stope in the Offset Zone now from a ramp before the shafts get going? Or are you waiting until the shafts gets up and running?

Bill Biggar

Yeah, we’re going to mine that from the ramp. So, we know that’s going to be a bit of a limitation, but we plan that for all the way through this year, the rest of this year and into 2013, as we ramp that shaft up.

Sam Crittenden – RBC

Are you able to say how many ounces are in your 2012 guidance from the Offset versus Roby?

Jeff Swinoga

Sam, I don’t want to give you that kind of granularity. I think it’s safe to...

Bill Biggar

It fits within our overall guidance that we’ve given so far.

Sam Crittenden – RBC

Okay, thanks. I’ll let others to ask questions. Thanks, guys.

Bill Biggar

Thanks, Sam.

Operator

Okay. Next up we have Leon Esterhuizen with CIBC. Please go ahead.

Leon Esterhuizen – CIBC

Hi, guys, just one quick question. Greg, maybe, that’s for you. Obviously, the current spot price is down another 8% on the average that you received for the previous quarter. So, that’s kind of put a lot of pressure on the bottom line. But I do notice that you’re saying you’re still sticking to your 3.7 grams a ton average for the year, which should imply something like a 4 gram a ton achievement for H2. Is that okay? Are you going to be able to give us 4 gram per a ton, because that’ll obviously offset a lot of the palladium price softness as well?

Greg Struble

I think I’d careful going quite that high, but we’re pretty comfortable with where we see the rest of the grade profile for the second half of the year, the material in front of us.

Leon Esterhuizen – CIBC

Yeah, but to achieve 3.7 grams a ton, which you said you’re still sticking to, just based on math, you’re going to have to give 4 grams a ton at some point?

Greg Struble

Yeah. There’ll be 4 gram material coming, Leon. Like I said, I think it’s going to be in that range. So, we feel good about where we’re at (inaudible).

Bill Biggar

If I can just clarify Leon, it’s Bill. There’s a number of factors that go under cash cost rather than grade. And what we feel good about is our cash cost range of US$375 to US$400. Grade is one factor that goes into that, but in terms of our guidance on production ounces and cash cost, we feel good about being able to achieve that for the entire year.

Leon Esterhuizen – CIBC

Okay. Well, let me just phrase it slightly differently, with the drop in the current spot price of palladium, have you got some plans to try and counter for that, that you don’t run into a loss making position at the operating level?

Greg Struble

Yeah. Actually, Leon, I’m hearing, and that’s exactly why we’re looking at this. We’re going to focus on all the aspects we can to make sure we’re accounting for where the price is.

Leon Esterhuizen – CIBC

All right. Thanks. Okay.

Greg Struble

Okay.

Operator

Okay, so does it answer your question?

Leon Esterhuizen – CIBC

Yeah. It does. Thanks.

Operator

Okay. Next up we have Heiko Ihle with Euro Pacific Capital. Please go ahead.

Heiko Ihle – Euro Pacific Capital

Thank you so much for taking my question. You guys seem very positive in your medium to longer term outlook for palladium prices, obviously. Have you ever considered keeping more substantial amount of palladium on your books, just sort of to hedge it, especially considering your earlier comment of temporarily depressed prices there?

Jeff Swinoga

It’s, Jeff speaking. We prefer to sell it at the prices as of course we produce it. And that we don’t see a need to hold back the palladium ounces. And basically, we’d like see the cash on our balance sheet, so we can invest in our business and actually grow the mine to the expansion project that we see fulfilling our 2015, 250,000 ounce target.

Heiko Ihle – Euro Pacific Capital

Simple enough. And then, can you give some more color on the decline in palladium recoveries in 2012 compared with 2011? How reversible is this long-term, or is it simply kind of stay where this right now?

Greg Struble

Yeah, it’s a great recovery curve more than anything else. And actually, we’ve had to our great recovery curve, a bit of an improvement on that.

Heiko Ihle – Euro Pacific Capital

Okay. And then how is interest in the Vezza mine been so far? Should we expect this to be completed by the end of the year, or do you think this will be a longer term thing?

Bill Biggar

We’ve had considerable interest to date. But it’s still in the early stages. So, I wouldn’t necessarily want to put a timeline on it. But other than to say, we’ve had considerable interest.

Heiko Ihle – Euro Pacific Capital

Fair enough. Thank you guys, so much.

Greg Struble

Thank you.

Operator

Okay. Next up we have Andrew Mikitchook with GMP. Please go ahead.

Andrew Mikitchook – GMP

Good morning, gentlemen. Just the CapEx for the underground, I’m not sure if you can provide any detail, I guess, the just over CAD15 million left on the year, is that going to be more in Q3 rather than Q4? Can you give us any breakdown on that?

Greg Struble

Yeah, I think – Andrew, this is Greg. We’re nearing the end of all our surface work like we’ve said. So, that’s really we’re wrapping up. So, Q3 is going to be that, plus we do underground. And then Q4, you’re pretty much talking all underground and development work.

Andrew Mikitchook – GMP

Okay. So, if we split it, we should put slightly more in Q3 than in Q4?

Greg Struble

That’s probably...

Andrew Mikitchook – GMP

Reasonable. Okay. And then just to...

Jeff Swinoga

Yeah.

Andrew Mikitchook – GMP

Go ahead.

Jeff Swinoga

No, it’s okay, and this is Jeff. It just depends on when the spend occurs and the expansions like Greg was talking about. So, I would say it’s roughly balanced.

Andrew Mikitchook – GMP

Okay. And then, just to come back to previously discussed question that went in quite detail already, but it’s the grade question for the second half of the year. You’re clearly guiding for an increasing grade. Can you give us an idea, if you think that the increase is essentially all driven by getting higher grades from underground, be it Roby and/or Offset? Or do you also expect better grades from, I don’t know, stockpiles or open pit source material. Can you give us an idea of how that should be expected?

Greg Struble

Yes, Andrew. No, I’m teasing a bit, but it’s coming from more underground source, as well as, from some improvements we’re seeing on the surface ores.

Andrew Mikitchook – GMP

The improvements in both sides?

Greg Struble

Yes.

Andrew Mikitchook – GMP

Okay. And then, this smelting and refining contract or new smelting and refining contract, when should we see that impact the financial statements so we can get an idea of the differences on a payability and on the cost basis? Is it going to be only part of Q3, or is it all of Q3, or when does that kick-in and when do we see that on your financials?

Jeff Swinoga

Andrew, it’s Jeff here. The contract was commenced in the beginning of May. So, we’ve seen the impact of that already.

Andrew Mikitchook – GMP

Okay, so Q3 is the first full quarter with the new terms?

Jeff Swinoga

Yeah, that’s right.

Andrew Mikitchook – GMP

And the drawdown of the previous larger working capital will occur over, I guess, part of Q2, part of Q3, and even dragging out in the Q4?

Jeff Swinoga

Yeah, it’s a transition that will happen in September and October, and a little bit into November, that’s right.

Andrew Mikitchook – GMP

Yeah. Okay. Thank you very much. I’ll let someone else to ask questions.

Bill Biggar

Thanks, Andrew.

Operator

Okay next up we have George Topping with Stifel. Please go ahead.

George Topping – Stifel

Great. Hello, everyone. Hey, Bill or Greg, could you give us update on – or even Jeff – an update on the CapEx for 2013. Is there any changes there? What are you expecting?

Jeff Swinoga

Yeah, George, it’s Jeff here. We haven’t given the guidance for CapEx in next year and 2014. And as we go through our budgeting process end of this year, I think at that point, early next year, we’ll provide a better number as to what that CapEx number could be.

George Topping – Stifel

Okay. So that will be in January next year, or so we’ll get an update on that or...

Jeff Swinoga

Yes, that’s correct.

Bill Biggar

George, we give annual guidance in January of each year.

George Topping – Stifel

Right, okay. Good. And then secondly, in Vezza, I’m wondering – this is for Greg – if you’re able to retain people at Vezza? Are the contractors sending you the (inaudible) people given that they all know that the operation is going up for sale?

Greg Struble

George, this is, Greg. It doesn’t mean we’re shutting it down. So obviously, the people that are there interested in staying in a new project that’s got some pretty good potential. So, there is really no issue there.

George Topping – Stifel

Right. So, we’re still on track to get some production out of Vezza for this year?

Greg Struble

No. As we said, we’re postponing commercial production till the end of the year.

George Topping – Stifel

Okay. So, there won’t be any preproduction or anything like that?

Jeff Swinoga

Yes, George, if you look through our MD&A, we do have preproduction revenue coming from Vezza that’s offset the capital that goes in to Vezza. That’s right. We do have gold sales, but they’re not reflected in as on our income statement, but they’re showing as a net to capital.

George Topping – Stifel

Okay. So, there is some stoping going on. Okay, then, just lastly on the Offset stopes, just if you could remind me, Greg, what depth is that at?

Greg Struble

Yeah, that’s at the 735 level.

George Topping – Stifel

735, good. And then, lastly on the open pit, and this is a question asked earlier on, but I didn’t quite catch the answer, when will be the open pit production, the 46,000 ounces, when will that cease? And then have you decided on whether you want to push back or not?

Greg Struble

Yeah, we really didn’t talk to it that detail, George, but we have – and that’ll be in our guidance for next year as well, but we don’t see a problem with the need for push back until well in past next year.

George Topping – Stifel

So, that 46,000 ounces, it will be trickled in, essentially, through into the middle of year (inaudible) previous plan?

Greg Struble

Yeah, it will be considered in our operating plans, yes.

George Topping – Stifel

All right, good. Thank you.

Operator

Okay. Next up we have Nathan Littlewood with Credit Suisse. Please go ahead.

Nathan Littlewood – Credit Suisse

Good morning, guys. And first of all, congratulations on a very solid result. A few questions for you, could you remind us on the timeline of news flow for exploration updates on some of the satellite opportunities surrounding LDI?

Bill Biggar

Sure, Nathan, it’s Bill. We don’t have a specific timeline, other than, I guess, historically, we typically give an update about every five or six months, but obviously as it evolves and there are results we’ll look to keep the market apprised.

Nathan Littlewood – Credit Suisse

Fair enough. I guess you don’t know what you’re going find until you find it. Next on the new resource numbers, just looking at the downgrades to the grades of the Offset Zone relative to the last resource segment, could you talk about how much of that is depletion-related and how much of that is perhaps related to changes in the cut-off assumptions?

Bill Biggar

Sure. Actually, we did not change the cut-off assumptions, Nathan. It’s same 3.5 gram return cut off. And then if you have a look on the table, on the measured and indicated – and remember, the measured is, obviously the density of drilling is tighter than the indicated – but the great change overall went from about 5.31 grams per ton down to 5.22 grams per ton.

So, it’s not really, from our point of view, a material change in the grade. And then, the inferred has gone down. But that’s where we’ve got wider drill spacing. And the expectation would be when we densify that, that would come up. So I don’t know if that answers your question.

Nathan Littlewood – Credit Suisse

Yeah, it does, sort of. I guess, a related question to that and circling back on some of your earlier questions that you’ve heard from others about the full year guidance.

At the beginning of the year, I recall that you’re expecting some 1 million tons out of the open pit for the full year. If we annualize the first half, it looks like you’re probably going to be closer 1.25 million tones. So there is significantly more tonnage coming from the open pit and presumably less tonnage coming from the underground. Just wondering what’s driven that change in the composition of the ore (inaudible)?

Greg Struble

Yeah, I think, it’s just regular timing more than anything else, Nathan. We’re going to see more of our underground work coming through. Obviously, we had a little bit of an interruption in Q2 on our underground because of the weather events, not a significant amount, but enough to adjust a bit. So I’d look at it more as a normal variation across the year.

Nathan Littlewood – Credit Suisse

But you gave a full year forecast, which is now looking like being significantly different. So I mean, over the full year, any quarter-over-quarter variance should kind of level out. Is it something that’s kind of stopped you getting as much material out of the underground, and that’s needing to be made out with extra material from the open pit somehow?

Greg Struble

No, not at all.

Nathan Littlewood – Credit Suisse

No. Okay. The other – final question I had was about incentive pricing, and I guess the whole approval process at the board level for the 5,500 tons a day expansion. Could you talk about the timeline for that, when it might be up for board approval or perhaps what is the incentive price for that expansion project, presumably the incentive price sits somewhere between today’s spot price and your CAD1,100 an ounce was expectation for two years.

Bill Biggar

Yeah, we formulate our capital plans year-by-year Nathan. And obviously, when we do that, we have to take into account the commodity price environment we’re operating in. But if we look at our CAD500 – palladium is roughly CAD580 an ounce today, I’d say that if it remains at that level, based on where we see our cost profile going, which is down to the low CAD200s, we would continue with our expansion over the next couple of years to be able to get that shaft running at 5,500 tons a day. But clearly, we take it year-by-year. I mean we’re in pretty volatile markets, but based on where the price is today and we see our cost profile, where we think we can get it to, we would continue with expansion.

Nathan Littlewood – Credit Suisse

Okay. So, today’s sort of price environment is sufficient to make the project to go ahead, then what’s the timeline for Board approval of that project?

Bill Biggar

We’ve already had Board approval for the project sometime ago. Obviously, we do annual budgets and we have a Board approval each year, which will depend on the factors that we face at that time.

Nathan Littlewood – Credit Suisse

Okay. So, can you tell us what the CapEx number that the Board approved was?

Bill Biggar

CapEx number for which, which period?

Nathan Littlewood – Credit Suisse

For the 5,500 tons a day expansion.

Bill Biggar

If you go back and look at the scoping study, you can see what’s outlines there. This goes back to couple of years. Obviously since that time, we’ve had scope changes and modifications. But I think, the reality Nathan is, we’re just about done, all on surface. The shaft we expect to start commissioning at year-end. And then, in terms of ramping up underground development, that’s simply stope development. And we take that year-by-year.

Nathan Littlewood – Credit Suisse

Okay. Thank you very much gentlemen. Appreciate your time.

Bill Biggar

Okay. Thanks, Nathan.

Camilla Bartosiewicz

Thanks, Nathan.

Operator

Okay. And next up we have Andrew Mikitchook with GMP. Please go ahead.

Andrew Mikitchook – GMP

So, just a quick follow-up question for Greg. This whole minor flooding delay incident, can you just give us any detail on that? And was it a matter of just a couple of days, or cleanup and stuff took more or like on a couple of weeks?

Greg Struble

Yeah, it was right around a week period in that area. It was, I think, actually a very good test of our crew up there and how they responded to it. Obviously, a lot of water came into the area. We had our fair share of it. And so, it demanded that we make sure everything was safe and (inaudible) were clean and travelable. And so that was the sense behind the delay. But, in general, it was really no delay because it allowed us to – we had enough flexibility throughout the rest of the mine to be able to almost get through without a hitch. Did that answer it Andrew?

Andrew Mikitchook – GMP

Sure. So just to be clear, so whatever water pounded near the bottom of the workings, you just redeployed people to, a, keep the place from fully flooding and, b, work on other things that were higher up?

Greg Struble

Yeah, exactly you got it. We deployed crews to where they could do work and brought some things ahead, and just balanced things out that way. You bet.

Andrew Mikitchook – GMP

And just going forward, do you think you’re in a better position should you have one-in-hundred year rains again, or is that just something that’s not really – something you can (inaudible)?

Bill Biggar

We’re definitely in a much better position today than we were then. How is that?

Andrew Mikitchook – GMP

Okay. Thank you very much.

Bill Biggar

Yeah.

Camilla Bartosiewicz

Thanks, Andrew.

Operator

Okay, next up we have Annie Zhang with Octagon Capital. Please go ahead.

Annie Zhang – Octagon Capital

Thank you. Good morning, everyone. Congratulations on the good quarter. A couple of questions. First of all, can you – with regard to the exploration expenses, if I remember correctly, CAD10 million out of the CAD16 million actually were to be capitalized. But I actually have seen (inaudible) year-to-date being expensed. Did I miss something here?

Jeff Swinoga

No, Annie. Hi, it’s Jeff. With respect to one of the implications of the flood, even though it was only about a week, is that we did have to remove some of the exploration crews that were drilling down at depth. So, some of those crews were actually drilling other parts of the Roby mine since the drills were there. So our expense portion will likely be higher than our capitalized portion for the year.

Annie Zhang – Octagon Capital

Okay, but the CAD16 million is unchanged – just a higher portion would we expensed?

Jeff Swinoga

Yeah, that’s correct.

Annie Zhang – Octagon Capital

Okay. Thank you. And secondly, Jeff, can you give me some color on the unrealized gain on palladium warrants of CAD2.3 million?

Jeff Swinoga

Sure, Annie. That gain was associated with – we had issued some palladium warrants associated with the long-term debt that we had issued last year. And that had a strike price of US$620. So as the price of palladium decreased during the quarter, the value of those warrants that we have in our balance sheet were – had less value to them. So, the result is that we had a gain on our income statement.

Annie Zhang – Octagon Capital

Okay. So, that’s something – and is going to be continued. Can you let me know like how many ounces (inaudible) warrant?

Jeff Swinoga

Yes, so, it’s roughly about 25,000 ounces, and it’ll vary with the palladium price. So, the valuation – if palladium price goes up, of course, which we’re all hoping it does, as Bill mentioned with the fundamental factors driving it, then we’ll have an increase to that warrant value, and it’ll impact our income statement negatively. Yes.

Annie Zhang – Octagon Capital

Okay. Thank you, Jeff. Next question is for Greg. With regard to Vezza, based on what you have seen, could you please give me some color on how much of the dilution and the stope preparation time actually surprised you negatively?

Greg Struble

Say that again, Annie, does it surprise me? Is that what you’re saying?

Annie Zhang – Octagon Capital

Yeah, because you mentioned that the dilution is bigger than you expected and preparation time is slower.

Greg Struble

Yeah, I think the preparation time was marginally slower than what we thought it would be. Dilution was a bit of a surprise, but we see that as very, very controllable, very natural reaction to fix. So, it’s not that big of an issue I think going forward, now that we’ve seen some real time in the stopes.

Annie Zhang – Octagon Capital

Okay. Can you remind me the metal prices that you used to get to the cash cost guidance of between US$375 and US$400 per ounce?

Greg Struble

Sure. I believe that we used US$1600 gold, US$1600 platinum. Nickel I believe was US$8.50 and copper was US$3.25, I believe.

Annie Zhang – Octagon Capital

Okay. Thank you gentleman, that’s all for me.

Bill Biggar

Thanks, Annie.

Greg Struble

Thank you.

Camilla Bartosiewicz

Thank you.

Operator

Okay. And that was our last question.

Bill Biggar

Okay, well thanks everyone for joining us this morning and have a good day.

Operator

Thank you, ladies and gentlemen. This conference is now concluded.

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