Turquoise Hill Resources Ltd (TRQ) 2018 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Turquoise Hill Resources First Quarter 2018 Financial Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would like to introduce your host for today's conference, Mr. Tony Shaffer. Sir, please go ahead.

Thank you, operator. Welcome to our financial results conference call. Yesterday, we released our first quarter results press release, MD&A and financial statements. These items are available on our website and SEDAR. With me today is our CEO, Jeff Tygesen; Luke Colton, our CFO; and Brendan Lane, Vice President of Development and Operations. We'll take your questions at the conclusion of our prepared remarks. Please refer to the forward-looking statements included in our press release and MD&A.

I'd now like to turn the call over to Jeff.

Thanks, Tony. During the first quarter, Oyu Tolgoi continued to make progress on multiple fronts, with underground development and open-pit production. As the open-pit transitions to Phase 4 ore, we are beginning to see higher gold grades and improved recoveries. Due to the hardness of Phase 4 ore, we expect throughput to be a bit lower this year than 2017 when the concentrator mainly process softer Phase 6 ore. Before I move on, I want to comment on Oyu Tolgoi safety performance during the quarter where they had an AIFR of 0.21 per 200,000 hours worked. This includes both the open-pit operations and underground project. We're extremely proud of Oyu Tolgoi safety accomplishment, and how they are sharing our approach to safety with other Mongolian businesses. Good safety practices should be shared.

Moving to underground development during the first quarter, Oyu Tolgoi saw their best lateral development rates since project restarted in 2016, with an almost 20% increase in total equivalent kilometers complete over the fourth quarter. In March, the team had their highest development month. We are seeing development momentum build and this should continue with the completion of Shaft 5 fan commissioning, which is expected soon.

Following the completion of Shaft 2 sinking in January, the installation of structural steel inside the shaft began during the quarter. Fit out of the shaft is expected to take place throughout the year, and when complete, we expect to see further increases in lateral development rates.

During the quarter, Oyu Tolgoi spent a little over $270 million on underground expansion resulting in total spend since January 2016 of approximately $1.4 billion. At the end of the quarter, Oyu Tolgoi had committed more than 60% of the direct project contracts and procurement packages. We continue to expect production from first draw bell in mid-2020 and first sustainable production in 2021. Brendan will go into more detail later in the call on underground development.

Moving to open-pit operations. First quarter production was as expected. Due to plant concentrator maintenance in January, mill throughput was down over the fourth quarter. The impact of maintenance was partially offset by increases in recovery, particularly for gold. As the higher-grade Phase 4 ore became a bigger part of mill feed, we started seeing increased gold production. Gold grades and production are expected to increase throughout 2018, particularly in the second half of the year. Copper grades in production are expected to be fairly consistent.

I would now like to provide a bit of context on our first quarter announcements. In mid-February, we announced the Government of Mongolia canceled the Power Sector Cooperation Agreement, or the PSCA, between the government and Oyu Tolgoi. This agreement was put in place at the request of the government to explore possible SouthGobi power plant site locations, and see if a third-party supplier would provide power to Oyu Tolgoi. The cancellation of the PSCA as it relates to the building of power plant has resulted in the restart of the 4-year timeframe for Oyu Tolgoi to source power domestically.

We're working with Rio Tinto to evaluate all viable power options, including building a power plant at Oyu Tolgoi. I would expect a decision on the path forward in the next 4 to 6 months. In mid-March, Oyu Tolgoi received an information request from the Mongolian Anticorruption Authority, or the ACA, to provide financial information relating to Oyu Tolgoi, which we're advised they continue to comply with. The request relate to an investigation about possible abuse of power by authorized government officials during negotiation of the 2009 investment agreement. While we cannot make any assurances that the scope of the investigation will not change, there was nothing in the information or request to suggest that Oyu Tolgoi is the subject of the investigation and to date we have received no information suggesting otherwise. Up to now, Turquoise Hill has not been contacted by the Mongolian ACA, the Swiss attorney general's office or, indeed, by any regulator about this issue. We have received several questions on the investment agreement. The IA was authorized by the Mongolian Parliament concluded after 16 months of negotiation and reviewed by numerous constituencies within the Mongolian Government.

We have been operating in good faith under the terms of the investment agreement since 2009, and we believe not only that it is a valid and binding agreement, but it has proven beneficial to all parties. The investment agreement has provided the framework that has allowed for the development of the underground project in a manner that has given rise to significant long-term benefits to Mongolia. The country has and continues to benefit from Oyu Tolgoi's open-pit operations and underground development, including, but not limited to, employment. Current direct employment is roughly 14,000 people. Indirect has been estimated at about 50,000.

Between 2010 and 2017, Oyu Tolgoi paid approximately $1.8 billion in taxes and royalty. Oyu Tolgoi spent more than $2.2 billion on Mongolian procurement from 2010 to 2017. Over that same time period, Oyu Tolgoi spent more than $7 billion in Mongolia. Overall, the benefits are significant. All combined, the investment agreement has led to economic development and sustainability in Mongolia. In summary, underground development continues to advance, and we are making good progress. As open-pit operations move further into Phase 4, we expect to see increasing gold grades and production. Our copper grades and production should be fairly consistent.

With that, I'm going to turn the call over to Luke to discuss the financial highlights.

Thanks, Jeff, and hello to everyone listening in. Revenue for the quarter was $246 million, which is an increase of approximately 3% over the first quarter 2017. This reflects higher copper and gold prices, partially offset by lower concentrate sells volumes. Copper prices in the quarter averaged $3.16 a pound. That's an increase of 19% compared to the first quarter '17. Average gold prices for the quarter increased about 9% from the first quarter of '17. Concentrated volumes sold decreased by approximately 14% over the first quarter 2017, impacted primarily by the force majeure declaration in January 2018. Gross margin for the quarter was 31%, up from 18% in the first quarter 2017, driven primarily by a 13% reduction in cost of sells, combined with the 3% higher sells revenue.

The decrease in costs of sells reflects lower volumes of concentrate sold and reduce depreciation and depletion due to certain long-lived assets reaching the end of their depreciable lives. Finance cost of $24 million are net of the balance capitalized on the underground of $68 million. Income attributable to Turquoise shareholders in the quarter was $86 million. Cash from operating activities in the quarter was $19 million compared to $86 million in the first quarter of 2017. The reduction was primarily driven by significant movements in working capital, impacted by the force majeure partially offset by higher copper prices. We expect the force majeure related impact upon sells and working capital to be made up over the next few quarters.

Capital expenditure on a cash basis was $286 million in the quarter, compared to $148 million in the first quarter of 2017. This includes $271 million for the underground project. Since January 1, 2016, the total amount spent on underground development is $1.4 billion. In addition, Oyu Tolgoi had further capital commitments of $1.2 billion as of March 31, 2018. The net realizable value of copper and gold stockpiles at the end of the quarter was $110 million, an increase of $11 million compared to the end of 2017. The increase in stock pile net realizable value in the quarter was primarily driven by an improved short-to-medium-term price outlook. And net reversal to the income statement of $10 million was consequently included within operating expenses. This includes a $3 million charge related to the materials and supplies provision.

In the quarter, the total deferred tax assets recognized increased by $32 million to $506 million. This was the main driver of an income statement credit for income and other taxes of $26 million in the quarter. The increase in deferred tax assets primarily reflects additional Mongolian operating losses in interest charges incurred by Oyu Tolgoi during the first quarter of 2018, combined with an increase to the long-term consensus copper prices assumptions. At 31st of March 2018, Turquoise Hill's cash balance was $1.5 billion compared $1.4 billion at the end of 2017. Total operating costs at OT were $177 million in Q1 2018, compared to $168 million in Q1 2017, mainly due to higher open-pit and concentrate or maintenance costs. C1 costs for the quarter were $1.76 per pound of copper produced, a decrease from $1.85 per pound in the first quarter 2017. This is due primarily to lower realization costs and higher gold sells. That concludes my comments.

And I'll turn the call over to Brendan.

Thanks, Luke. First of all safety performance was again encouraging with excellent results in the open-pit and underground during the quarter and an AIFR of 0.21. In the concentrator, the first quarter 2018 saw feed drop compared to quarter 4 2017 with no maintenance occurring in January. And I note the second outage is planned in the second half of the year. However, after the mill maintenance, good production rates occurred for the rest of the quarter with an above-planned result achieved. We're seeing promising results for the high-intensity blasting practices helping mill throughput at the heart of Phase 4 ore in the quarter. And the plan will be to continue mining the ore with that practice while at Phase 4. Mining also continued from Phase 6 during the quarter, but this will decrease going forward as we move to a majority of the higher gold areas in Phase 4 as planned in the second half of the year.

Moving to the underground, overall development continues to advance and the workforce is still mobilizing according to plan. Currently, the site-based workforce is approximately 89% Mongolian and total project workforce has mobilized to over 6,600 people to site since notice to proceed, with the daily average on site during March being over 4,000. Construction of the new camp is now more than 75% complete at the end of March, including the occupancy of 8 buildings. When fully complete, the new camp will be a large scale accommodation facility with more than 1,800 rooms and catering for over 5,000 people.

Underground development continued during the quarter with a notable development of just over 900 equivalent meters in March, and now a total of 10.3 equivalent kilometers completed since project restart. The main focus area for the project continues to be critical headings development, Shaft 5 exhaust fan commissioning, Shaft 2 infrastructure works, in addition to construction of an underground ore bin, new monodraught facilities and a central heating plant expansion.

Our base camp activities work around shafts 2 and 5 are important enablers of increased underground development activity in terms of both equipment and people, and support the next step-ups in mining development. Shaft 2 structural steel installations have started on multiple fronts in the shaft, and Shaft 5 sinking completed in the quarter. Shaft 5 will be a dedicated exhaust ventilation shaft, and is fitted with 3 service fans that provide extra capacity to exhaust air from the mine. And we'll have 2 ventilation take-up points, including one at the bottom of the shaft. Installation of all 3 Shaft 5 exhaust fans is mechanically complete along with electrical and instrumentation, and commissioning is occurring over the coming days.

With the increased ventilation progressively more equipment and personnel will be able to operate underground, and hence increased development activities are expected to occur. Additionally, during the quarter, the convey-to-surface development continued and earthworks commenced by shafts 3 and 4 with a sinking package expected to be finalized over the next few months. Finally, we remain on target for the first draw point blast in mid-2020 and sustainable production in early 2021. That concludes my comments.

I will now turn back to Jeff.

Thanks, Brendan. To summarize first quarter, lateral development momentum continues to build. The completion of Shaft 5 fan commission is expected soon. Early works for Shaft 3 and 4 have commenced. As the concentrator process has increased amounts of Phase 4 ore, we expect gold production to increase throughout the year. The open pit continues to generate operating cash flow. That concludes our prepared remarks.

Michelle, we are ready to take questions.

(Operator Instructions) Our first question comes from the line of Ralph Profiti with Eight Capital.

This is Yasir Siddiqi on behalf of Ralph Profiti. Can you guys talk about the impact of raising commodity prices, especially energy, on your operating and capital costs?

Thank you for your question. The impact of increased commodity prices, is that what your question is?

Especially, energy, oil and gas, oil prices increasing.

Yes. So there will be some impact. There wasn't a significant impact in the first quarter. The main increases really were in the maintenance base for the first quarter with some additional maintenance being undertaken at both the open-pit and the concentrator.

Okay. And just one more question. Is there any seasonal impact to the pace of underground development work? Could we see the pace accelerate further as we head into the summer month?

Could you repeat that? It faded in and out on that second question. I think, it said something to do with seasonal impact on the underground development.

On the pace of underground. Yes, does it get easier as we move into the summer months?

We don't see a lot of seasonal impact on the underground, but we did, in January, in the open pit where we had some severe weather. But the underground has been fairly isolated. One thing we're doing with Shaft 2 with that becoming an intake shaft in the near future, is we have plans to install heaters to make sure the -- during the winter months, the air could be as low as minus 30 to minus 35, so we are putting those in place. So there will be minimal impact.

And our next question comes from the line of Craig Hutchison with TD Securities.

The CapEx for the open pit was only $15 million in Q1. I think your guidance is $150 million. Do you expect a significant pick up over the back half of this year?

Yes, so there were a few delays in the first quarter. There were some capital spares meant to be purchased in Q1 that were actually delayed till later in the year. So we're not changing the full year guidance, Craig. We think we'll still hit it.

Okay. And I know OpEx guidance for the open pit, I think, was $700 million. Do you think it will still be served in line with that? Or do you think you guys can come below that?

We're still forecasting to be in line with that.

Okay. And Jeff you mention about, obviously, gold grades are going to pick up in the latter half of this year. You also touched on recoveries. What's your sort of target you think you can get for recoveries as you move into the higher grade of Phase 4 ore?

So we're -- as we mentioned, the second half is in the lower part of Phase 4 -- 4A. The expectation for gold recoveries that we had in Phase 2 were in the 70s, so I would think that would be comparable to those.

Okay. Great. And then, I guess political risk is obviously on the rise. We've seen some announcements here that the -- a couple former PMs have been arrested. Can you just talk about what the charges are there? What you’re understanding of why these guys have been charged related to the investment agreement?

Well the official word that I've heard is they've been detained for questioning. I don't know if they've officially been charged. The statement by the Mongolian authorities is, they're investigating abuse of power by members of the government, but any more detail than that I don't have. Their investigation is still ongoing.

And our next question comes from the line of Raphael de Souza with CIBC.

So the Mongolian workforce seems to continue performing well. I know Rio Tinto has just recently made a cost review. But would you -- if this continues, would you expect another cost or CapEx revision anytime soon?

So last year, there was a scheduling cost review undertaken, and the project was roughly about 10% complete at that time. And the high-level summary of that was the scope cost and schedule are still on plan. Within the Rio Tinto organization for large-scale projects they have, I don't want to call it, an annual review, but a regular review depending on the duration of the project and the scale. There's another one scheduled for this year. There's been another one scheduled for next year. The exact timing to be determined as far as the close-out dates for that review. But at this stage of the project, the forecast is still to hit the milestones in the feasibility study and the capital estimate.

Okay. And you mentioned the -- in your MD&A that the Rio provided some high-level overview of that cost review. So these points that you mentioned are those -- are these -- this points, right? Or do you have any other key takeaways from that review?

So in the beginning of the project, we mobilized a workforce that's now, as Brendan mentioned, over 6,000 for the underground project. A lot of those folks had to go through training. So compared to the original plan in order to maximize Mongolian content, we took the time and the effort to do more training upfront, which had us a little bit slower in the first 3-ish months. But as mentioned earlier on the call, the underground teams are matching the schedule in the technical report and had their highest quarter ever. And with Shaft 5 commissioning, we expect those underground development rates to continue to go up.

Okay. And just a quick clarification on the Mongolian tax authority assessment. So we're currently in that 60 working day period, correct?

That's correct.

And our next question comes from the line of Mark Llanes with Credit Suisse.

I'm on the call for Anita Soni. Just had a couple questions on the Phase 4A higher grade ore for gold. So are we expecting to see that come online in Q3? And how long do we -- how long can we expect those grades to process?

For 2017, this is Brendan Lane here, we'll see an increase -- 2018, we'll see an increase in Q3, but the main impact will be felt in quarter 4, and particularly right towards the end of the year for this year's production.

All right. Okay. And also just a follow up question on Rio Tinto's cost and schedule review. I know that you spent, I believe, $1.4 billion in CapEx to date. In terms of where you are in the -- your project plan in terms of percentage of completion, was that CapEx spent to date above or below budget?

I think that's tracking behind budget at the moment.

And our next question comes from the line of Dalton Baretto with Canaccord.

I just like to follow up on Craig's question there with regards to this anticorruption investigation. Jeff, you talked about abuses of power being sort of the general charge. Do you have a sense for how the investment agreement ties into that?

I don't have the details from what the Mongolian authorities are looking into while we receive his request for information around their view possible -- I wanted to say possible abuse of power.

Okay. But are these abuses of power claims predicated on the investment agreement process?

Well, there have been a few people, and you've read in the headlines, a few people detained and they span different timeframes. And the statements made by the Mongolian officials is, representatives of the government and abuse of power, so one was in office around 2009, another was an employee of Mongolian company around 2015. So I don't know exactly what they're looking at as far as that time span, but the first one was reference to the investment agreement in 2009. As I mentioned and it's in our MD&A, the investment agreement, originally when set out in 2008, the expectation was that a group of people were authorized by parliament to negotiate on behalf of the government. And the expectation is they would have this agreement done in 2.5 months. The overall timeframe to finalize that agreement going through multiple different groups within the government, including a working group in parliament, in total took 16 months because of the scale of the Oyu Tolgoi project. So it wasn't one person, it was a lot of different people looking at and assessing the agreement. And then in the end, the Mineral's Council reviewed and approved the technical portions of that agreement, and then we ended up having signing by all parties. So in my view, it was thoroughly reviewed by a lot of people on both sides to make sure the investment agreement benefited all parties.

Okay. And then maybe on just a slightly different note. I understand there is a government committee that's been tasked with actually reviewing the investment agreement and this is sort of par for the course every time there is a new government. Have you guys heard anything back from that yet -- on that review?

No, no. There so (inaudible) pointed out since the investment agreement was finally signed, it's fair to say whenever there's been a new government that there's been a request by different members of parliament to review the agreement to make sure that there's a good understanding. So I look at that as another way for this new government, which has been in place since September of last year, to improve their understanding and confidence level in the agreement. But as you pointed out, it's not a whole lot different than what's been done over the past since 2009. And I would expect going forward with the change in government when they occur where they will probably have members ask for review just to make sure that the agreement is being met.

Okay. And then just maybe one last one from me. These Rio Tinto project and schedule reviews that sounds like that they're going to happen annually, are those the mechanism, I guess, within which decisions around expansions will be made? Or is that going to be a completely separate process?

The schedule and cost reviews are specific to just this scope of work, and it wouldn't include options to, as we have in our tech report, for the different scenarios of the different deposits and/or concentrator expansions. That would be a separate process.

Okay. And what's the current thinking around those now? Is there discussion around maybe starting to look at those opportunities? Or is it still kind of the base case?

Well, as we've talked before, the #1 driver and value option is to complete Lift 1. And as Lift 1 gets closer and closer to production, there will be groups looking at the optionality of Hugo South or the timing of Lift 2. So the #1 goal for everybody right now is to focus on getting to Lift 1, where a big chunk of the value is sitting.

Thank you, and I'm showing no further questions. And I'd like to turn the conference back over to Jeff Tygesen for any further remarks.

Thank you for joining us today. I'd just like to make one last comment that we continue to advance underground development towards production in the near future, and Oyu Tolgoi realizing its full potential.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.