Great Panther Silver (NYSEMKT:GPL) is a Silver mining company with a market capitalization of $190M. It operates two mines in Mexico: the Topia Mine and the Guanajuato Mine. It also controls a number of exploration properties in Mexico, including the promising San Ignacio project, which might become Great Panther Silver's next mine. Our recent article on the company received considerable interest and triggered a lively online discussion.
GPL's Fiscal Year 2012 Financial Results were published on March 13 2013 and provided the context for us to contact the company and ask permission to perform an interview with Robert Archer, CEO of Great Panther Silver, which was swiftly facilitated by Rhonda Bennetto, Vice President of Corporate Communications.
We would like to thank Rhonda and Robert for generously allocating time to answer our queries, and we hope that existing and aspiring investors will find the answers as valuable and insightful as we did.
Q: Revenue for 2012 has increased slightly, due to an increase in production, especially the gold production, offsetting a drop in the realized silver price. However, earnings from mining activities are down by 29% and net income has more than halved. How do you explain the significant drop in income, combined with the increase in revenue?
RA: There are a number of factors which impacted our margins. An increase in site costs was certainly a major factor, and we are addressing this, but there were also some one-time costs, especially in G&A [ed: General & Administrative], that will not be recurring. We had a significant increase in our capital expenditures in the last two years, as we invested in our plants and increased our exploration and development at the mines. The higher CAPEX spend resulted in higher amortization and depletion charges in 2012, but should provide future benefits (increased plant capacity to process ore from San Ignacio and an access drift for the underground transportation of ore from Guanajuatito, for example). The increased exploration at Guanajuato also contributed to the discovery of new mineralization and the increased development will allow us to access this sooner. Exploration and evaluation costs were up $1.5 million year over year due to increased drilling activity (Santa Rosa) and other business development and exploration activities but this will likely continue in 2013 with the El Horcon drilling & continued M&A activity.
Q: The profit margin has dropped from almost 20% in 2011 to 9% in 2012. This is very low compared to other silver mining companies. Are increasing costs the only driver behind this trend, or are there other contributing factors?
RA: As with any business, profit margin reflects how one re-invests operating cash flow. As previously mentioned, in 2012, we had some higher than normal investments in our operations, so we wouldn't say it's a 'trend'. We are keenly aware of the decline in profit margin and are taking steps to bring it back up again. You can see a snapshot on Revenue, Earnings from Mining Operations and healthy Working Capital here on slide 17 of our corporate presentation.
Q: How does the tax rate for 2012 compare to previous years?
RA: The tax rate is high mainly due to deferred tax (i.e. non-cash). The Company paid very little in cash taxes in 2012 due to the full deductibility of mine development costs in Mexico. In 2011, the Company was able to utilize the benefit of losses in the Canadian parent company which are generally not available to use against income in Mexico. This offset deferred tax charges in 2011 and lowered the Company's effective tax rate in 2011 compared to 2012.
Q: Significantly higher production was reported for Q4 2012 compared to the previous three quarters. Is this a trend that can be expected to continue into 2013?
RA: While we certainly hope that the higher production we saw in Q4 continues, we have learned that there can be significant grade variability at both of our operations. This is a natural phenomenon and won't change. Consequently, there can be surprises to the upside or downside. While we are always seeking ways to smooth this out, such as with more diamond drilling and better grade control, there is a practical limit as to how much you spend on collecting data on a zone before you just go ahead and mine it.
As we go deeper at Guanajuato, we are encountering greater geological complexity and logistical challenges as well. For all of these reasons, we have determined that our guidance for the last few years has been too optimistic and we have scaled this back to a more conservative level for 2013. So, at present, there are no forward-looking 'trends' in grade or production. We will stress quality ounces over quantity in our mine planning, production, exploration and resource strategies while focusing on operational efficiencies.
Q: Guidance for 2013 shows almost no increase in production, but emphasizes cost reduction and improvements in operating efficiency. Could you elaborate where you see the greatest potential to improve on costs and efficiency?
RA: Expanding on the point above, we are trying to achieve better operational efficiency through the reduction of labor and materials costs which together account for about 75% of production costs. On the labor side of the equation, we have already taken some steps to reduce the labor force, and we continue to look at ways to gain better labor efficiency and productivity. We mine in many different areas of each operation, and we are looking at ways to best deploy labor and equipment in order to increase the mining on the most profitable areas and resources.
Q: GPL publish resource statements for the two operations, but no reserves. Could you explain the reasons for not reporting reserves?
RA: This was largely a cost-saving measure. The difference between M&I resources and P&P reserves is the application of economics. We know what our costs are within each of the zones we are mining, so we didn't feel that it was necessary to pay a consultant to tell us what we already know. We now have the ability to do this in-house, however, so you can expect to see at least some reserves in the next update for Guanajuato. We have developed our current resource base from zero in 2006 but Guanajuato, in particular, will probably just maintain a "rolling resource", where we replace what we mine each year. You can see the resource breakdown and chart on slides 15 and 16 of our corporate presentation.
Q: Various gold mining companies have switched from reporting Cash Costs to All-in Costs. What is your view on reporting costs and would you be prepared to provide All-in costs in future reports?
RA: The silver sector is different from gold in that cash costs are usually reported as costs per ounce of silver, net of by-product credits. This is further complicated by the nature (gold, lead, zinc, copper, etc.), price and percentage of those by-products. Some 'silver' companies actually derive more revenue from their by-products. Unit costs are also highly influenced by grade variability, which has been a challenge for us. Consequently, this is a very difficult metric to pin down and is not good for comparative purposes. We track various "fully loaded" measures internally. We have to be careful about what we decide to report, however, as this is a non-GAAP measure. We need to spend more time to understand exactly how companies are reporting this. Going to some kind of "all-in" number may just complicate the issue further.
Q: Martin Carsky, president of GPL, mentioned that you have been looking for M&A opportunities and that you are looking for 'the right fit'. Many commentators would agree that your neighbours at Guanajuato, Endeavour Silver (NYSE:EXK), seem like such a fit. Would you be prepared to comment on the possibility of combining GPL and EXK?
RA: We have a good relationship with Endeavour and no-one will argue that there could be operational synergies at the local level in Guanajuato, but that's as far as it goes. We restructured senior management last summer in part to allow me to focus more on M&A while Martin focuses on operations, however, our M&A strategy does not include putting ourselves up for sale. The financing we completed in 2011 was for an acquisition that later fell through (not because we had to raise money as someone on your blog stated) and we have not stopped looking for the right company/project since then (we have not used that cash yet). Our objective is to find the right fit, not just to do a deal for the sake of doing a deal. Geographically, we continue to focus on Mexico and Peru, the two largest silver-producing countries in the world.
Q: The Guanajuato mine has shown very solid production numbers with impressive cash costs owed in great parts to the high gold by-product credits at this mine. How long into the future do you expect the present high gold grades to last?
RA: As per the comments above - as we go deeper at Guanajuato, we are encountering high-grade silver-gold mineralization but also greater geological complexity and logistical challenges and the grade variability in the gold-rich Santa Margarita vein is quite high. We are currently undertaking detailed drilling in this area in order to better understand the grade distribution and so cannot say with any certainty right now as to how this will look in the future.
Q: Have you studied the sensitivity of cash costs at the mine to the gold grades mined?
RA: This is something we do as part of our planning and budgeting but we do not provide guidance or disclosure on it. That said, if your readers feel inclined, the analysis cited in our MD&A and other data in the MD&A can provide a rough idea of the sensitivity to gold grades.
Q: It seems that the results for Topia should be cause for some concern. Grades were down in 2012, cash costs were reported at $21.42 per ounce. Considering all cost components, was the mine profitable at all in the past year?
RA: Yes, Topia was profitable (refer to slide 18 of our corporate presentation) but we feel it should be better. We are working on this as noted above but some of the cost issues are unique to Topia. At this operation, we are mining many individual veins and each one has its own cost centre. Consequently, we can separate profitable from unprofitable mines and close down or modify the latter without any impact on the others.
Q: The drought in the first half of the year 2012 was mentioned in the conference call as one issue preventing Topia from showing better performance. Could you elaborate on possible other challenges at this mine, and on the solutions you envisage to meet these challenges?
RA: In addition to my answer above, the main challenge is the narrow width of the veins as this affects labor and ore transport costs and dilution. In addition, there is the natural variation in the silver grade, mining dilution (which affects the head grade) and local ground conditions which can slow down development, and further increase dilution and costs. These latter features are common factors in underground mining, so we just need to get a better handle on them.
Q: The San Ignacio Project seems to promise an attractive opportunity for organic near-term growth. It has been stated that development ore will be processed at the Cata plant easing the cost burden of mine development. Are you envisaging trucking ore or concentrate to the Cata plant as a longer-term solution?
RA: At this point, we envisage trucking all of the San Ignacio ore to the Cata Plant at Guanajuato and do not anticipate building a plant at San Ignacio. The ore is close to surface and will be accessed by ramp with no need for a shaft. Once we have prepared an actual mine plan, we will be able to elaborate on costs.
Q: Could you give a rough range of production volume that can be expected from the San Ignacio mine?
RA: At this point, we have only an Inferred Mineral Resource for San Ignacio. Until we get underground, do some detailed drilling and develop a mine plan, we would rather not provide any guidance on production.
Q: Are you expecting financing of the San Ignacio development to include a dilutive component?
RA: We do not expect to have to raise money to develop San Ignacio.
Q: It appears that one vein runs exactly along the property boundary that you share with Endeavour Silver. Are you anticipating a cooperation with Endeavour Silver in the exploration and possible exploitation of this vein?
RA: The map on slide 7 in the presentation is somewhat schematic but that vein appears to dip onto our property so there would be no need for any cooperative agreement. It is also outside the current resource block so would not be mined in the immediate future anyway.
Q: Exploration drilling will be significantly reduced in 2013. This will certainly contribute to cutting costs, but will it not also reduce the potential for new discoveries?
RA: The reduced drill budget reflects a change in focus but will not diminish our ability to make new discoveries. There has only been a small decrease in the drilling at Guanajuato, which takes more than 50% of our drilling budget. We reduced Topia quite a bit this year because we just updated the resource and have more confidence in the model. At San Ignacio, we decided to focus on the underground development in 2013, rather than further drilling, but we will resume that in 2014. We also decided not to drill Santa Rosa this year and to focus on El Horcon as that is a higher priority.
Q: 1653m were drilled at Santa Rosa in 2012, but no more drilling is scheduled for 2013. There is currently no resource estimate given for this property. Has last year's drilling campaign not warranted further exploration?
RA: The first round of drilling at Santa Rosa did not yield the results we were hoping for but it's a big property and, rather than just continue drilling, we decided to take a step back and do more mapping and sampling in order to better define future drill targets. We still see opportunity at Santa Rosa, but we want to conserve cash and focus our resources on the projects which have greater short term potential.
We continue to be an active explorer in and around our existing properties. A key goal is to leverage the additional capacity we have built at both of our plants. We have the cash flow from operations to strike the right balance between exploration funding and reinvestments in our existing assets and our growth assets to maximize profitability.
Q: Do you anticipate 3000m of drilling at El Horcon to be sufficient for the provision of a maiden resource at this property?
RA: Potentially. It all depends upon the results we get. They will be shallow holes as the mineralization is close to surface.
Q: Given your spare capacity at the Cata plant are you looking for opportunities for toll-processing? And specifically, have you explored such an agreement with Endeavour Silver for their Bolanitos concentrates?
RA: We would prefer to fill the plant with our own ore and that is the direction we are following. As such, we do not want to lock ourselves into a long-term contract for toll milling until we see how San Ignacio and El Horcon will work out. We produce concentrate ourselves so we do not have the ability to process anyone else's concentrate.
Disclosure: I am long EXK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.