The entire boom in commodities has been driven over the last few years by Chinese demand, and now that growth in both China and India is decelerating, there are understandable concerns about the future of the business. The apprehensions of the iron ore mining industry have been well publicized, and many iron ore mining companies are cutting back on production growth as well as exploration. An examination of the third quarter 2012 results for Freeport-McMoRan (FCX) provides some great insight. Freeport-McMoRan is not in the iron ore business but is a major producer of metals like copper, gold and molybdenum.
Freeport-McMoRan reported results for the third quarter of 2012 and the nine months to September 30th, 2012. Net income attributable to common stock for the quarter was $824 million (EPS of $0.86 per share) compared with net income of $1.1 billion (EPS of $1.10 per share) for the same quarter of the previous year. Net income attributable to common stock for the first nine months of 2012 was $2.3 billion (EPS of $2.41 per share) compared with $3.9 billion (EPS of $4.10 per share) for the first nine months of the previous year.
Consolidated sales from mines for the third quarter of 2012 totaled 922 million pounds of copper, 202,000 ounces of gold and 21 million pounds of molybdenum, compared with 947 million pounds of copper, 409,000 ounces of gold and 19 million pounds of molybdenum for the same quarter of the previous year. Consolidated sales from mines for the year 2012 are expected to be approximately 3.6 billion pounds of copper, 1 million ounces of gold and 82 million pounds of molybdenum which includes 930 million pounds of copper, 255,000 ounces of gold and 20 million pounds of molybdenum for the fourth quarter of 2012. Consolidated sales from mines for the year 2013 are expected to touch 4.3 billion pounds of copper, 1.4 million ounces of gold and 90 million pounds of molybdenum.
Consolidated unit net cash costs (net of by-product credits) averaged $1.62 per pound of copper in the third quarter, compared with $0.80 per pound for the same quarter of the previous year. Based on current 2012 sales volume and cost estimates and on the assumption of average prices of $1,700 per ounce for gold and $11 per pound for molybdenum for the fourth quarter, consolidated unit net cash costs (net of by-product credits) are expected to average approximately $1.50 per pound of copper for the year 2012.
Cash flows generated by operations totaled $526 million for the third quarter (net of $765 million for working capital uses and tax payments) and $2.5 billion (net of $1.5 billion for working capital uses and tax payments) for the first nine months of 2012, compared with $1.8 billion for the third quarter of the previous year (including $256 million of working capital sources and other tax payments) and $5.9 billion (net of $126 million in working capital uses and tax payments) for the first nine months of the previous year. Cash flows generated by operations are expected to be approximately $4.0 billion for the year 2012 (net of an estimated $1.4 billion for working capital uses and tax payments). On September 30th, 2012, consolidated cash and equivalents amounted to $3.7 billion, while total debt amounted to $3.5 billion.
Freeport-McMoRan operates large, long-lived, geographically diverse assets with large proven and probable reserves of copper, gold and molybdenum. It has a portfolio of operating, expansion and growth projects in the copper industry and is the world's largest producer of molybdenum. The portfolio of assets includes the Grasberg minerals district in Indonesia which is the world's largest copper and gold mine in terms of recoverable reserves, major mining operations in the Americas, including the large Morenci minerals district in North America and the Cerro Verde and El Abra operations in South America as well as the Tenke Fungurume minerals district in the DRC.
There were no major surprises in the results for investors and it is evident that the company is wrestling with higher production costs and concerns about demand in China just like other major mining companies including BHP Billiton (BHP), Southern Copper (SCCO), Rio Tinto (RIO) and Vale (VALE). However, Freeport-McMoRan Copper & Gold has its own unique problems in Indonesia that could affect production significantly.
Freeport-McMoRan owns the Grasberg mine, which has the world's largest recoverable copper and gold reserves, in the Indonesian province of Papua on the island of New Guinea. The province has had problems with separatists who have been blamed for attacks in the area around the mine but the biggest problem for the company concerns labor. A miners strike in July last year lasted three months as workers demanded a pay hike. Production was stopped in the first quarter for two weeks because of further violence and there was another one-day strike at the beginning of October. Moreover, the third quarter results were also affected by lower ore grades at Grasberg because of changed mining plans that delayed access to higher grades and resulted in higher costs. Developments at the mine need to be watched because it accounts for around 20% of the company's revenue.
Freeport-McMoRan CEO Richard Adkerson pointed out that despite misgivings about economic slowdown in China, there are no signs that the country's rate of copper consumption is declining and Freeport actually expects to increase its copper output by 25% over the next three years. China's commitment to reinvesting in infrastructure development projects and the likelihood for additional stimulus in the near term underscores the bullish outlook for copper demand in this region. Freeport-McMoRan's copper sales are on target in 2012, and may increase 19% for 2013. Copper prices have improved in the past few years due to increased demands from emerging markets bolstered by limited supply, and the strength is expected to continue.
An investment in Freeport stock at this moment involves two implicit bets. The first one is that the company is able to resolve its problems in Indonesia. This is a reasonable expectation because the Indonesian government benefits from royalty payments. The second one is that Chinese demand will continue, which also seems to be a reasonable expectation. I believe that the third-quarter results and the company's problems have already been baked into the current stock price and that, barring some unforeseen catastrophe, there is very little downside in an investment. I believe the bets on Indonesia and China are worth making, and I would certainly recommend a buy.