Southern Copper Corp (SCCO) 2006 Q3 法說會逐字稿

Good morning, and thank you for holding, and welcome to your Southern Copper third quarter 2006 results call with Mr. Gonzalez. At this time, all lines are muted to cut down on background noise. There will be a Q&A session at the end of this conference. This conference is also being recorded for replay and transcription purposes.

Mr. Gonzalez, I'll turn the call over to you and thank you for using the conference center, sir.

Thank you very much. Welcome, ladies and gentlemen. Today with us we have two Gonzalezes. We have, of course, Oscar Gonzalez Rocha, who is the President and Chief Executive Officer of Southern Copper. We have myself, Chief Financial Officer. And we also have with us today, Raul Jacob, Director of Investor Relations.

Let me begin by stating a couple of important events that have occurred in recent weeks and months. And obviously, the most important of which is the resolution, or the favorable resolution of the illegal work stoppages at both our Northern Mexican open pit copper operations. That is Cananea and Caridad.

Both of these mines -- mine strikes were lifted in the month of July, and we think this is the best or the most relevant event during the third quarter as we started ramping up production at both of these mining camps.

La Caridad, unfortunately, has been a bit slower than the case of Cananea. The reason being that the -- as that mine was shut down for a longer length of time, approximately four and a half months. And we re-hired everyone. That is, all of the workers required retraining, re-evaluations and re-contracting, so that has taken us a bit longer than usual. But Caridad is ramping up. We have reached approximately 75% of capacity to date, and expect to reach industrial capacity by the end of this quarter.

The case of Cananea was not as severe as the case of La Caridad. Cananea initiated operations in late July as well, and ramped up rather quickly to almost full capacity during the third quarter and is already working, in fact, slightly above capacity during this fourth quarter.

The other item that we would like to emphasize in this conference call is our emphasis on expanding our own operations. As many of you know, we have a considerable amount of reserves. If we compare to our peer group and industry group in terms of years, we are, I believe, the largest mining company listed in the New York Stock Exchange or the largest mining company in the world, in terms of years of reserves. We hope to take advantage of that fact.

We hope to start projects as fast as we can start them and you should expect in the future that a lot of the free cash flow from the Company is re-invested into these expansions. Particularly, we have already approved by the Board the SX/EW expansion at Cananea. We also have the molybdenum plant at Cananea approved by the Board, and we expect Board approval for Tia Maria and several other projects relatively soon.

Now, let's turn to the third quarter results. As usual, I will keep my comments brief and to the point. We will follow first, third quarter 2006 results and compare those to the last quarter. That is quarter to quarter and we will compare it also to last year's quarter and then cumulative result.

In terms of copper prices during this quarter and, in fact, on a cumulative basis, we show a significant increase. Copper prices during the third quarter of '06 amounted to 354 per pound of copper. That represents a 108% increase year on year and a 5% increase quarter on quarter and a 95% year on -- that is cumulative year on year.

Zinc prices also showed a considerable gain - 159% year on year, 2% quarter to quarter and 130% on a cumulative basis.

Silver and gold also demonstrated increases, except on a quarter to quarter basis, where there was a slight decline in these prices.

Molybdenum, on the other hand, on a year on year basis, declined by approximately 14% from a price of $30 last year to a price of $25.90 during the third quarter of '06. This, of course, had a mitigating impact on the increase of copper prices and zinc prices.

Our total production, in terms of copper, that is mine production, during the third quarter of '06 amounted to 241,200 metric tons. This, of course, is a decline when we compare to the same quarter last year of 20% and a slight increase on a quarter to quarter basis.

The reasons for this are obvious. We have regained the control and reinitiated operations this quarter in both Cananea and Caridad and, as a result, we have produced more copper. However, compared to last year when we had no strikes, we show a decline.

On a cumulative basis, we have produced a total of 426,000 metric tons, compared to 508,000 metric tons last year. That is a 16% decline. Approximately 57,000 metric tons of this production loss is due to the mine strikes at both Caridad and Cananea.

In terms of copper sold, we do not demonstrate the same declines. During the quarter, we were able to sell 144,600 metric tons, slightly above our mine production. And it represents a 14% decline year on year, and a 3% decline quarter on quarter.

The reason that the decline during the second quarter is not as significant is mainly because we acquired a very significant amount of concentrates from third parties in order to keep our metallurgical complexes running during the months when Caridad and Cananea were on strike.

Clearly, this has a significant impact in cost of goods sold and production costs, and certainly on margins. But nevertheless, we were able to keep our production up and probably more importantly, most of our deliveries to customers were kept in line with what we have promised last year and this year.

On a cumulative basis, total production sold amounts to 445,000 metric tons and that shows a decline of 11% compared to last year, again, for the same reasons.

Molybdenum sold amounted to a little over 2,000 metric tons during the third quarter. This represents a 50% decline year on year and a 13% decline quarter on quarter. This is a result of the La Caridad mine strike on the one hand, but on the other hand, we have predicted lower molybdenum grades at both Cuajone and Toquepala as well, and that has been the result. Suffice it to say that we are still above our projected molybdenum content at both Cuajone and Toquepala.

On a cumulative basis, we have sold a total of 7,700 metric tons of molybdenum compared to 11,400 last year, representing a 32% decline. With these metals prices and volumes, total sales for the quarter amounted to $1.4b. That is an increase of 37% year on year and an increase of 10.6% quarter on quarter.

On a cumulative basis, revenues amounted to $3.8b and that represents a 30% increase from last year.

Cost of sales, on the other hand, also increased to $514m during the third quarter. That is a 32% increase year on year and a slight 2% decline quarter on quarter. Cost of sales is relatively high compared to our sales, and that is due to third party concentrate purchases. That is the largest effect on our cost of goods sold during the third quarter, is the sales of third party concentrates. That cost us a lot more than producing our own mine production.

On a cumulative basis, cost of goods sold amounted to a total of $1.45b, up 21% from last year. Operating income amounted to $804m. That is up 47% on a year on year basis and up 24% on a quarter on quarter basis. Cumulative basis, the total operating income, amounted to almost $2.1b and that represents a 43% increase.

Operating margin, that is EBITDA margin, amounted to 57% during the third quarter and compares favorably to last year, which is 7.5% higher. Total EBITDA for the third quarter of '06 amounted to $877m, up 40% on a year on year basis, and up almost 20% on a quarter to quarter basis.

The 20% increase in EBITDA is significant on a quarter to quarter basis because that was done despite a slight decrease in molybdenum prices, only a 5% increase in copper prices, and having lifted the strikes at both Cananea and Caridad and starting to ramp up those operations. So we think it is a rather significant event that we have hit record high EBITDA this quarter compared to any quarter we have registered in the past.

On a cumulative basis, EBITDA amounted to $3.3b. That is up 38% from $1.65b last year.

In terms of net income, the Company generated during the third quarter, a total of $521.5m, equivalent to approximately $1.77 per share. Let me remind you that this is after the stock split and represents a significant 41.7% increase per share when we compare it to last year, and a 20% increase, or almost 20% increase on a quarter on quarter basis.

Total net income accumulative to date amounts to almost $1.4b and it is equivalent to $0.0469 per share. That is a 41% increase when we compare it to the same period of last year.

Total dividends declared during this quarter amounted to $1.375 or $1.38 per share on a rounded basis, and is equivalent to the same payout ratio, more or less, during the first and second quarter before we experienced the significant work stoppages or illegal work stoppages at both Cananea and Caridad. So we thought we would increase dividends this quarter as we have accumulated a significant amount of cash.

Another significant amount of cash is being kept on balance in order to fund the expansion projects that we have mentioned earlier or will continue to mention as we move on through pre-feasibility analysis, etcetera.

Total capital expenditures in the quarter amounted to $146m. That is up approximately 2% on a year on year basis and up 66% on a quarter to quarter basis. Most of this is invested in the completion of the Ilo smelter modernization program. We expect that program will be completed by the end of this year and will be fully operational.

Cumulative to date, total capital expenditures have amounted to $376m, compared to $341m last year. That's a 10% increase.

As we move on, in the future we will, of course, disclose to the market the capital expenditures and projects that have been approved and will be budgeted for 2007.

With that in mind, ladies and gentlemen, let me open up the floor now for questions, and thank you very much for joining us.

[OPERATOR INSTRUCTIONS] We have a question from George Beristain from the Deutsche Bank. Go ahead.

Hi. Good morning, Eduardo. It's Jorge Beristain with Deutsche Bank. My first question had to do with your hedging policy. For the last few quarters you've tended to hedge yourself out a few months in advance. Could you discuss what your policy is for the fourth quarter as it relates to copper?

Yes. Currently, we have very few hedges in place. During the fourth quarter we had approximately 15% of the production hedged at approximately $3.57. We have registered a bit of a gain, as you may imagine, in those hedges, but it is not a significant amount. We have, currently, nothing hedged for the first quarter of '07 and onwards.

And my second question has to do with the force majeure that you declared at Caridad earlier in the year. Would there be any kind of insurance payments or penalties that would have to be met in coming quarters related to that force majeure with clients?

No, there is no particular gains. Force majeure is declared in this case because we are not able to meet a certain shipment or certain customer contract. We did declare force majeure, but at the end of the day we were fortunate in the sense that our clients only showed slight declines in our contracts and we were able to net out rather well by buying third party concentrates in copper, and so on and so forth.

But no, you should not expect any extraordinary gains from this force majeure.

Thank you.

Or losses, for that matter.

Thank you.

Our next question is from Rafael Biderman from BBVA. Go ahead.

Eduardo, congratulations for the results. My first question is regarding outlook for corporate prices, how you see, and if you could comment a little on China. China has reduced their demand because of inventories, their consumer inventories. Not only there is a distortion of DSRB, but some say that consumers have a final [transaction] their inventories, and there are also the inventories of concentrates from new smelters. Last year, Europe had a reduction in inventories, which distorted consumption. Consumption in Europe was going down. And this year, consumption in Europe is going up by 17%. Indeed, there was a rebuilding of inventories in line back for the next year. Should you expect China -- something like that to happen to China and the consumption start regaining, not only because of the China consumption, but in addition to the rebuild of the inventories? And if you believe this could offset the increase on capacities we are seeing for -- we expect for next year and the slowdown on demand in the United States?

Well, our experience to date has been that Europe has shown considerable strength. And that has shown up in our contracts for next year. In the case of China, it certainly is volatile, but we still see fundamental -- a very large fundamental deficit in terms of them meeting their own supply, or required supply. So we do see them importing in a considerable basis throughout next year and to the next future years.

And on the other hand, what is most important is perhaps the lack of projects, or projects that have been announced and have not come into production as hoped. So again, fundamentally, we do see growth in China.

There may be volatility in the short term and so on and so forth, but in general, we think that the deficit will continue and that they will continue to keep copper prices up. Whether that is a $4 copper price or $3 copper price, it's difficult to say, because, as you know, there is a lot of speculation within that range. But we expect copper prices to remain very strong and if you look at the forward curve, we think that the copper prices will remain at or above the forward curve as we move into the future. And there is a lot of value to capture there, because if you discount the value of even the forward curve today, taking into consideration our cash costs, there's still a lot of value to catch and a lot of value to make up for there.

The U.S. has shown some slight slowdown, but very slight indeed. We do not expect any surprises there. They will continue to consume, although growth certainly is not in line with that of China. China's where the growth is coming from, as well as India. I don't know if that answers your question.

It does, Eduardo. A second question, Eduardo, regarding Asarco. Can you give an update on what is the situation there? I mean, Asarco has to propose a Chapter 11 or a proxy restructuring package and their [voters] has to discuss it and accept it or not. There is a time period for that to happen. What is the timing -- what's the situation on this? Has it been proposed already, or not?

I'm sorry to say that is a question more appropriately asked to Grupo Mexico management. The conference call for that is tomorrow. We at Southern Copper, as you know, have nothing to do or deal with directly or indirectly with Asarco, so I would rather you hang in there to Grupo Mexico management.

Okay. Okay, Eduardo, thank you.

You're welcome.

Our next question is from [David Estes], an investor. Go ahead.

Hi. Yes, I understand your dividend will be $1.375 dollars. What will your holder of record date be?

Raul, do we have a record date yet for that?

Yes. The record date is November 16. And the ex-dividend rate, which may be of interest for this person, is two days before that, so it's November 14.

Thank you very much.

You're welcome.

[Inaudible].

Our next question is from [Uri Maslo] from Thames River Capital. Go ahead.

Yes, thank you. Could you please tell us the volume and total cost of your purchase concentrate of third quarter?

Yes. The total cost of third party concentrate purchases during the third quarter was almost $200m.

And what was the volume of your purchase concentrate in this period?

I'm sorry?

What was the volume of your purchase concentrate in this period in [inaudible].

Approximately 30,000 metric tons of copper contain.

Okay, many thanks.

Our next question is from Marina Rohe from Bear Stearns. Go ahead.

Hi, Eduardo. Congratulations on the results. They were really great. I have a question regarding the timing of the key projects. If you can go over that with us and also give us a sense for how costs have increased and why the projects keep getting delayed at this point? And also, give us a sense for the CapEx expected for the new projects for the next couple of years? Thanks.

Absolutely. In terms of the projects, Oscar, I don't know if you would like to add something of what we're looking at.

Yes, as you mentioned, we are having these project in Cananea. We have this other plant, the leaching [correctional] leaching and the moly plant and the possible expansion of the concentrator too.

And in Peru, we have the Tia Maria project of this upsize and will be a leaching plant. And the Cuajone expansion of the concentrator, too, will be 20,000 tons of million capacity in the region of what we have right now. And that is what are the first stage projects.

Then in a second extension, we can talk about the possible expansion of the Toquepala and the Los Chancas projects in Peru. That is, like Tia Maria, a new project. And in Cananea we can have, too, a possible expansion of the concentrator or a new concentrator. And we have the study in Ilo for the possible expansion of the smelter. We are going to finish its modernization at the end of this year. But will be a possible expansion of this [inaudible] of course.

If the expansion of the smelter will occur, we will have the expansion of the refinery from 280,000 to 360,000 tons of copper production. That is what we have. Of course, we have a third stage that will include [De Arco] in Mexico and that is a new project, too. But we are analyzing the possibility of a study in order to see if we can go ahead with that, because it has a lot of infrastructure to the cost that the government will need to support

Thank you for that. I'm also wondering, in terms of the timing. It seems that every time we get any updates on these projects, there has been a delay another year. So what are the main limitations you see right now and is really 2009 a realistic date for the current expansions.

Yes, we think that at least for the first stage, that will occur. The new plant [inaudible] plant in Cananea will be ready for 2009. The crushing and conveyance system that is related to this new leaching plant will be finished by 2009 and the same within that will be with the Tia Maria, that will be ready for that and the expansion of the Cuajone concentrate. Definitely, that is something that we are going to get the approval in the first part of next year in order to start the engineering and later, the construction of this project that I mentioned.

Thank you very much.

[OPERATOR INSTRUCTIONS] Our next question is from Rafael Ogura from Citigroup. Go ahead.

Yes, good morning. My question has to do with cost. I was wondering if you could comment on what you are seeing in the cost front? If you are seeing some kind of easing in the cost and now that oil prices are coming down, or regarding some other input of raw materials, such as explosives, steel whatever?

Yes, we have seen some of the cost pressures ease over, from last year, that is. The huge increase in prices or in costs, so to speak, mainly occurred from 2005 leading up to 2006 and so on. But this year we haven't seen such huge increases in cost, with the exception, of course, of electricity, which has continued to increase in terms of cost. But that has even shown some slight declines lately, into, as you well mentioned, the decline in oil prices. Some of the oil or electricity we purchased has been generated with fuel oil, so that is why we have a slight advantage there.

We have seen some of the fuels come down recently as oil prices have come down. But again, that has been mitigated by, mainly electricity costs that are higher and another important cost that has been still up there is the cost of steel ball and steel items still up there and workers' profit sharing has been relatively higher than last year as well, due to much larger profits despite illegal work stoppages.

But in general, we think costs are easing or, let's say, flattening out and we do not expect significant cost pressures going into 2007, or additional cost pressures, that is.

And regarding spare parts or tires for the trucks, for instance, did you notice any greater availability in that regard?

Yes, tires have been an issue for some time. Fortunately, we have not experienced shortages. We have our orders covered for our mine production plants, but we have actually found a new market in terms of used tires. It used to be that we used to pay to get rid of tires or simply not be able to get rid of them. Today, we're able to obtain significant prices for used tires being sold to smaller mining companies that do not have access to the larger producers of tires, that is.

So we've found ways to actually mitigate the increases of prices and tires and so on. And on the other hand, we've also implemented initiatives whereby we -- we're improving the, let's say, the wear and tear of tires over time and we have shown a significant decline in terms of consumption of tires, despite raw material moved this year compared to last year.

Okay. Thank you very much.

Thank you.

Our next question is from Jamie Nicolson, from Credit Suisse. Go ahead.

Hi. Good morning. I'm wondering if you could comment on any acquisition or divestiture strategies you may be evaluating, given the current environment of consolidation trends in the industry?

No, we have currently nothing to mention in that front. We'd like to keep it as a no comment at this stage.

Okay, and maybe I missed this. Did you describe what your CapEx budget in terms of dollar amounts was for '07?

No, we have not disclosed the '07 budget, although you should expect that the budget will, of course, include at least the expansion of the SX/EW plant in Cananea, which is already underway. The Moly circuit at Cananea and perhaps some other projects around Peru, perhaps even Tia Maria, but we have not disclosed those budgets yet.

Okay. And then, just one last question. At the Minera, Mexico subsidiary, have you paid down any of the two bonds or just the inter-company debts in Southern Peru?

The total bonds outstanding at the -- our Minera, Mexico subsidiary, or Mexican division, are $154m of 08s and $125m of 28s.

And what's the -- and then there's an inter-company loan to Southern Copper, right?

Yes, but that has been reduced. I don't recall exactly what that amount is today. I think there is about $300m remaining there, but again, that is inter-company and, of course, gets eliminated in the consolidation. But if you don't mind emailing Jorge or Raul Jacob can give you that information [inaudible].

Okay. Thanks so much, Eduardo.

You're welcome.

Our next question is from Rafael Biderman from BBVA, go ahead.

Eduardo, a follow-up on your comment on corporate prices. I only want to make more than two questions. There has been some increase on inventories in the LME. In the first half of the year we saw in Asian locations, like in Korea, so everybody for this pool DSRB. But now we are seeing more significant inflows into Europe and in the U.S. I'd like to know if you guys have a suspicion where is that from. I mean, is it really new producers, new capacity. Is there a surplus happening or is just, like, the DSRB? I don't suppose it is.

And also, if you could give some update on the statistics of international corporate study group are like four months, three months delayed. If you could give us some feeling on what is China demand, how are you filling demand from China, Europe and the main markets right now?

In terms of your first question, the highest level of inventories in a combined basis was reached in the month of February. I believe that was around 180,000 metric tons of total inventories, Shanghai, LME and COMAX. Today, we show a considerable decline from those levels. Of course, we've seen ups and downs since, but we still show a considerable decline, and on average, we still have a critically low level of inventories.

Most of these inventories are usually dumped, in the case of traders, or in the case of fund managers that simply have nowhere to put this and put it on the inventories. It's not producers, in general. Producers tend to sell it to their customers, and so on. Your second question I don't understand. Raul, did you understand that?

No, I didn't. I couldn't understand what he meant like that.

Sorry, the statistics of international copper study group are like three months delayed. I mean, the latest we have is from June/July. And, for instance, they show China demand not very strong and not picking up after, for instance, the holidays in China. You guys have -- you are in the market so you might give me a more updated view on like, October, September. Demand was strong, weak, that's what I mean?

It was basically following the same trend that we have seen through 2005 and the first half of 2006. Our indication on the Shanghai LME warehouses is that inventories have dropped from the last measurement that we have been following from them. So we believe that the Chinese economy is still very strong and especially in copper consumption.

Besides this, we need to consider that China has been selling some of their strategic stocks in copper to fill up certain mismanagement of their people that happened at the end of 2005. So that is something that has affected all the copper physical deliveries and consumption in China, as well. So we're seeing probably, a portion of that. But in general terms, the Chinese economy is very strong, so far.

Will your demand from Chinese clients are picking up more recently, are strong?

We don't have direct sales to China.

Okay. One last thing. You mentioned you have no comments on acquisition. Eduardo, can you make some comment on the story of the eventual acquisition of Philips Deutsche?

Afraid I can't.

Okay. All right. Thank you.

Thank you.

Our next -- this question is from Wayne Atwell from North Street Capital. Go ahead.

Thank you. Could you outline the expansion projects you have in the [QIE]? If you complete all the projects, you're talking about how much that's going to grow your capacity. And second of all, are you going to continue to pay out the majority of your earnings in dividends?

Well, let me answer that in two ways. In terms of the first-generation projects Oscar mentioned, we expect by 2009 to add to our base mine production approximately 110,000 metric tons in additional copper production. Oscar also mentioned some of the second-generation projects.

Second-generation projects, quoted as much as 283,000 metric tons of additional copper production. That is on top of the 109 and one of those projects does include the Cuajone concentrator and conveyor belt construction, which Oscar mentioned should be complete by '09.

The other projects should be complete by 2011. That is in the second-generation projects. Once we move on to what Oscar said were the third-generation projects, that is Los Chancas and [Elarco] that could add even an additional 360,000 metric tons of copper, but that will take between 2011 and 2019.

Okay.

In terms…

Go ahead.

Okay. In terms of our dividend practice, as you well know, we don't have a policy. We will keep a high dividend payout ratio as long as we are generating a very significant amount of free cash flow and have no use for that cash.

That is to say, if we're not able to invest this cash in projects that yield a higher return, than what investors can get on their own, then we declare that as a dividend. That is a basic philosophy. We do intend to avoid the negative carries associated with keeping a lot of cash on hand. And you should expect, again, that if we're not able to invest that in higher returns than our costs of capital it will be returned to shareholders.

Thank you. And can you give us any kind of a ballpark estimate as to how much the capital cost might be for these first, second and third phase expansions?

Absolutely. Oscar, would you mind?

I think that you have that there. But in the case of Peru, for example, Tia Maria, we are talking about 150m to produce 43,000 tons of cathodes. In the case of Cuajone expansion, we'll be in the order of, I would say, 250 or 230m the first part. That will include another 35,000 tons of concentrate and, in the case of Cananea, 133,000 tons from the leaching plant in cost of production that will cost in the order of 120m too, plus the crushing and conveying that will be another 50m more of cost in order to have that production.

Then I would say that altogether we are talking, for 2009, of the amount that you mentioned, 110,000 but with a cost of maybe $350m. I don't know if you have that in writing, because I don't have it with me, in order to clarify something of what I say right now.

Thank you.

And too, Oscar, and the figures you mentioned are exactly right. The first-generation projects are approximately 109,000 metric tons of additional copper production by '09 with a total CapEx of $345m. Second-generation, as I mentioned, would be closer 280,000 metric tons. And total capital expenditures for those projects would be approximately $1.77b. And third-generation, which would be another 360,000 metric tons would be about $2b in CapEx between 2011 and 2018.

Okay. Thank you very much.

You're welcome.

[OPERATOR INSTRUCTIONS] We have a question from Rafael Ogura, from Citigroup. Go ahead.

Yes, thank you. My question has to do with the new labor contract with workers at La Caridad. I would like know, what are the main differences between this new labor contract and the former one, if there is any?

Oscar, would you like answering that?

Yes. We are working with new contracts right now and with the open collective contract with the union. The new area of the union, not with these Napoleon Gomez Sala unions. With the Mr. Morales union. And we think that we are going to be ready to sign something later or in the middle of 2007 after we saw what we are doing with these contracts, because we are, right now, only with 700 persons in working and we need to hire a little more in order to be at full production by the end of this year.

Then we think that it is going to be a benefit for the Company, this new contract, because we are starting really from a low contract more than a new negotiation. And when we will negotiate with the union, we'll be some fringe benefits that we will add to this low contract. I don't know if that will answer your question.

Yes. So you haven't reached a final settlement with the union in this regard?

No, not yet. We are just starting with the initial contract with them in order to reinitiate the operations. But that will occur maybe in a year.

Okay. Thank you very much.

I show no more questions at this time, sir.

Okay. Thank you very much, operator and thank you very much ladies and gentlemen for joining us today and we'll see you next quarter.

Okay. Thank you.