Hudbay Minerals Inc. (HBM) Q2 2014 Earnings Report, Transcript and Summary

Good day and welcome to the HudBay’s Q2 2014 Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Ms. Candace Brule, Director, Investor Relations. Please go ahead, Ms. Brule.

Thank you operator. Good morning and welcome to Hudbay’s 2014 second quarter results conference call. Hudbay’s financial results were issued yesterday and are available on our website at www.hudbayminerals.com. A corresponding PowerPoint presentation is also available and we encourage you to refer to it during this call. Our presenter today is David Garofalo, Hudbay’s President and Chief Executive Officer. Accompanying David for the Q&A portion of the call will be David Bryson, our Senior Vice President and Chief Financial Officer; Alan Hair, our Senior Vice President and Chief Operating Officer; Brad Lantz, our Vice President Business Development and Technical Services and Rob Winton, our Vice President Manitoba Business Unit. Please note the comments made on today’s call may contain forward-looking information, and this information by its nature is subject to risks and uncertainties and as such actual results may differ materially from the views expressed today. For further information on these risks and uncertainties, please consult the Company’s relevant filings on SEDAR and EDGAR. These documents are also available on our Web site. For the purposes of this presentation we have assumed a U.S. to Canadian dollar conversion ratio of 1:1. And now, I’ll pass the call over to David Garofalo. Dave?

Thanks Candace. Good morning everyone. During the second quarter we saw notable increases in our production earnings and cash flow over the same period last year. These increases are especially significant since it represents the beginning of our expected production earnings and cash flow increases as we are on the verge of completing the mine building plan we laid out four years ago. We also continue to solidify reputation as being a low cost operator. Our operating costs at our Manitoba business unit improved in the second quarter relative to comparable periods, primarily reflecting economies from the increase in scale of our business in Manitoba. Ore production at our Manitoba business unit was 23% higher than the prior year’s second quarter as a result of higher production volumes at Lalor and a full quarter of production at Reed. This, factored together with the continued reduction of contract labor at 777 at Lalor resulted in an improved unit cost performance across the Manitoba business unit. Despite the increases in production, earnings and cash flow, our financial results were negatively affected by continued accumulation of unsold copper in concentrate and refined zinc amounting to approximately 14% and 8% respectively of the quantity produced in the quarter. This was due to poor rail service availability following extreme weather conditions in early 2014 and recent flooding in Manitoba. Steps have been taken to improve rail car availability and the excess copper concentrate and zinc metal inventories are expected to be drawn down over the balance of 2014 with a majority of the draw down in the fourth quarter. Our production and operating cost results to date, the successful completion of Lalor shaft, the Snow Lake concentrator expansion commissioning and full a production at Reed have enabled us to remain confident in our 2014 guidance,…

The first question comes from David Charles from Dundee Capital Markets. Please go ahead.

Maybe just a quick question, a little bit of a detail. I think early this year you guided that as you move from the last phase to the current phase at Lalor, there might be a period of a month or two where you would have to decide at what point you would declare commercial production. When I read your MD&A, it sounds like that's gone down to a month. I just wanted to be sure that it looks like Lalor is going a little bit maybe faster than expected and that would suggest that third quarter will be a little bit better than you had previously hoped?

Hey, David. It’s David Bryson. With the accounting definition of commercial production, it varies based on the circumstances and for the commissioning of the Lalor production shaft, given that there is already an operating mine underground, we determined that it was appropriate to just have a 30 day test for the main production shaft there. That was really independent with any assessment time how the project is going, although it’s going well. So what we expect during the third quarter is certainly that month we would be back in pre-commercial production. The revenues and cost associated with that would go to the balance sheet rather than to the P&L, although that’s going to be smoothed out a little bit because that flows through into inventory and so we’ll have inventory that was produced prior to the start of that period, that we’ll still recognize into earnings and then some of the inventory produced during the pre-commercial production period will be sold and recognized after the end of the period. So you should see some impact on that in Q3, but probably not a dramatic impact.

Excellent and is it safe to say that if I’m not mistaken, the hoisting is going very, very well and that you’ve lots of underground development already completed and so your expectation would be that as you said, that basically production from Lalor would start to ramp up pretty fast?

Hi David its Alan Hair. Yes, that’s correct, the shafts [indiscernible] have been commissioned and both ore and waste has been hoisted up the shaft. So we’re just doing handover to operations currently and we should slowing into production and early August.

Thank you. The next question comes from Matt Murphy from UBS. Please go ahead.

Just wondering if you have had any change in -- progress and thoughts on a Lalor concentrator given your acquisition of Augusta? UBS: Just wondering if you have had any change in -- progress and thoughts on a Lalor concentrator given your acquisition of Augusta?

We’re still -- we’re looking at basically we did the optimizing the Lalor mine plant in the concentrator path going forward. So that work is still underway and we should have reached a conclusion by later this year

By late this year? UBS: By late this year?

Yes. Matt Murphy – UBS: Okay. And on Augusta just any updates on you’re thinking on timelines for permitting of Rosemont?

Its early days. That's as far we’re concerned. Obviously we’ve just taken over the project. We'd like the permitting process to go forward as quickly as possible but we want to respect the process and make sure that the process is forward we end up with the permits in a timely fashion. So really I don’t think we’re really in a position to give any specific guidance on timeline at this stage. Obviously our expectations previously were it take longer to get penalties than Augusta had been indicating and that's still our view.

Thank you. Your next question comes from Brett Levy from Jeffries. Please go ahead.

Yes, the time that the Augusta Rosemont transaction was announced, you’d probably only need to spend about $30 million on the ramp up before Constancia was at full production. As you sort of get in there, give a little sense as to what you think the timeline might be and the expenditures on Rosemont as Constancia ramps up. Jeffries: Yes, the time that the Augusta Rosemont transaction was announced, you’d probably only need to spend about $30 million on the ramp up before Constancia was at full production. As you sort of get in there, give a little sense as to what you think the timeline might be and the expenditures on Rosemont as Constancia ramps up.

I'd suggest it is very early days. Yet we've really only started to look under the hood as it were and currently still developing budgets and plans around that. So I don’t think it’s appropriate to give guidance at this time.

But I think Brett, it's is fair to say that the spending that we anticipate on Rosemont prior to commercial production at Constancia is not particularly material.

All right. And with this new refinancing and some of the other sort of I think you said 219 and 209 of other expenditures, can you give a revised CapEx budget for this year and then also can you sort of say the point at which liquidity as you guys see it, would be at its lowest and give a rough sense as to what trough liquidity would be somewhat near? Jeffries : All right. And with this new refinancing and some of the other sort of I think you said 219 and 209 of other expenditures, can you give a revised CapEx budget for this year and then also can you sort of say the point at which liquidity as you guys see it, would be at its lowest and give a rough sense as to what trough liquidity would be somewhat near?

Okay. The CapEx for each of our projects are laid out in our MD&A and our CapEx for Constancia and Lalor, all of that is going to be spent this year. Our sustaining CapEx guidance is on track for the full year. As we look ahead from a liquidity perspective, we expect to reach minimum cash position in either very late this year or during the first quarter of 2015. And I think including available credit facilities and minimum cash, we’d expect minimum liquidity, obviously recognizing that there is a financing transaction pending that we’re not in a position to speak to in any detail, but I think we'd anticipate minimum liquidity of comfortably above $300 million if not significantly higher than that.

Thank you. The next question comes from Stefani Anu from Hybrid Securities. Please go ahead.

Just wondering the $135 million from Silver Wheaton, is that something that's come in this quarter or is it about to come in or can you give us some maybe guidance on timing for that?

We expect to receive that during this third quarter, Stefani.

And just I know its early days are Rosemont, but just now that [indiscernible] in your hand, you reviewed the project obviously to a certain extent to make the acquisition. Would there be any sort of notable scope changes that something that you may do differently in the development plan that would also alter the permitting schedule on that project or is it the way it’s laid out in the feasibility from Augusta’s work, is that pretty much the status quo going forward?

Certainly our view currently that it will be far simple. So continue with the financing process that’s already in place. So we don’t want to be changing anything mid-cost.

(Operator Instructions). The next question comes from Greg Barnes from TD Securities. Please go ahead.

Alan, can you step us through the next six to nine months at Constancia and how you see the ramp up of the concentrator going and what the critical steps in your view are?

We're obviously well advanced now on the construction side. So there is a critical path there that's really defined by electrical installation and commissioning of the backend of the plant currently. The crusher at the front end of the plant is well advanced. So obviously the pre-stripping has been going very well and the mining side of things is really well. We're very pleased with it. So we're still basically in line with our previous guidance drag that we anticipate commissioning the primary crusher before the end of Q3. And then we'll get some grinding lines which will commission sequentially in either late October, early November 1st and the second and by the end of November the current plan. And then we’ve got reasonably conservative ramp up schedule we believe that takes us through to achieving our definition of commercial production sometime before the middle of the year, sometime in Q2 and that’s three months at 60% of it is only throughput. All the key issues are addressed. We’ve got actually more than adequate water for startup captured now. The heavy civil site, the whole [indiscernible] construction has gone very well. In fact we're now and just commencing the actual construction of the West [indiscernible] facility. So all the things that need to be in place to allow us to achieve the targeted ramp up are all happening as well. On an operational readiness point of view, we've basically got the -- the owners operating team assembled and will very shortly be resting [ph] on site permanently so. So the really the things are coming together pretty much as we’ve indicated previously.

What about finding Peruvians to run the plant and run the mine? Are you having any issues there or is that well in hand as well?

No, that’s actually not been a problem. Operations at Yanacocha have been ramping down. There's actually quite good availability of test now right now in Peru and I think that we’ve got a very, very good mainly local Peruvian operating team that the project team was very much a U.S. expat team. The operating team is almost exclusively local Peruvians of what tells where in Peru.

And the initial ore in to the concentrator is just straight typical [indiscernible] recover, no anticipated issues on that front from the mine plant?

No we don’t anticipate. Certainly in the early phases of the mine plant, there should be no issues. A bit of concern as we've again indicated there are some [indiscernible] zones but they're not part of the initial production phase.

Thank you. The next question comes from Oscar Cabrera from Bank of America. Please go ahead.

Just wanted to focus on the cost of sales during the quarter and just questions about the purchase of concentrate and the changes in domestic inventory. Those two figures -- the purchase of concentrator has been steady over the last five quarters but the changes in domestic inventory, those two figures -- the purchase of concentrator has been steady over the last five quarters but the changes in domestic inventory have swing around quite a bit. So in the quarter, was that just the railroad disruption? How should we think about your purchase of concentrate going forward as well as these changes in domestic inventory?

Hi, Oscar. What's been happening is sort of not to belabor the rail situation, but in addition to having challenges, getting copper concentrate and zinc metal out, we also had some issues with getting some -- purchasing concentrate that we had committed to into Flin Flon given the winter weather issue. And so over the course of Q1 and Q2 we’ve been receiving purchase concentrate, putting that into the zinc plant which does tend to affect our financial results on an earnings basis if not on a cash basis because we’re putting in higher cost concentrate by running the purchase through it then the domestic con, that still economic for us to run that purchase con through the zinc plant. But we don’t anticipate any further purchases of zinc con going forward assuming that the Lalor operations produce according to plan for the balance of this year and into 2015. We should be in a good situation for concentrate. So we do anticipate this issue going away. By the end of the year we’ll be back to normal zinc concentrate inventory levels and won’t have this higher cost of purchased zinc inventory washing through our cost of sales.

Okay, great. That’s very helpful. We’re looking forward to see Constancia in September but thinking about the next phase of expansion, what do you think is the biggest bottleneck? Is it financing for Rosemont? Would you try free cash flow Constancia as much as possible before you get that project started or are you looking at different capital structures to be able to crystallize that growth profile?

I think critical path for the project for Rosemont is permitting engineering. That will drive our timing on that project more than financial capacity. I think we’re going to have more than sufficient financial capacity to fund it internally from other debt sources as we ramp up our existing business, but our focus right now is just integrating the project, filling up our business unit Arizona and staring the engineering process, because even if Augusta had received the permits in timeline they'd advertised, the project was not in a position to start construction. It hadn’t been sufficiently engineered. So we want to get that going contemporaneously with the permitting process.

Thank you. The next question comes from Gary Lampard from Canaccord Genuity. Please go ahead.

Good morning, everyone. My question concerns some of the working capital issues at Constancia. I’m assuming that $209 million of accrued but not yet paid CapEx is sitting in the accounts payable line, which is about $300 million. So, is it a fair assumption to assume that that will probably stay about $300 million until the end of this year and then through the early part of next year, that should drop down to about $100 million? So there is $200 million of cash needed for those accruals. And if that’s correct, on top of that, what do you think at this stage as the right working capital allowance to actually start the operations? Canaccord Genuity: Good morning, everyone. My question concerns some of the working capital issues at Constancia. I’m assuming that $209 million of accrued but not yet paid CapEx is sitting in the accounts payable line, which is about $300 million. So, is it a fair assumption to assume that that will probably stay about $300 million until the end of this year and then through the early part of next year, that should drop down to about $100 million? So there is $200 million of cash needed for those accruals. And if that’s correct, on top of that, what do you think at this stage as the right working capital allowance to actually start the operations?

Gary, the accrued expenditures that we talk about in our liquidity discussion, yes, those are essentially accounts payable with respect to mainly the Constancia project and so we would expect that to be drawn down over the course of Q4 and Q1 of next year. I don’t think that accounts -- I think that accounts payable, just given the growth in our operations that the run rate will be higher, obviously, with all of the mines up and running than it has been with just the Manitoba operations historically, but we will need to fund and have liquidity in place to fund the construction accounts payable and then I would anticipate another 50 to perhaps ultimately $100 million in additional funding required for the Constancia working capital build. We’ve got levers available to us on how we dispose of the initial concentrate production and that allow us to manage that working capital build. For example, selling some of the early production to traders rather than smelters will get us paid faster as we feather some of the smelter contracts into the sales program later in 2015 and that will start to stretch things out. But that’s sort of an overall view where I see working capital going.

Okay. That’s helpful. So the bottom line there even though accounts payable will go up to a higher level in the future, so will accounts receivable, but from where we’re sitting at the moment, we need to allow for $200 million of accruals plus $50 million to $100 million on top of that? Canaccord Genuity: Okay. That’s helpful. So the bottom line there even though accounts payable will go up to a higher level in the future, so will accounts receivable, but from where we’re sitting at the moment, we need to allow for $200 million of accruals plus $50 million to $100 million on top of that?

Yes, although I wouldn’t see it’s getting to 100 million until we're free cash generating from Constancia. So it will be self-funding.

Okay, right and just a follow up question. Somebody earlier asked you for a best guess of maximum liquidity and I think you said $300 million. Did that include or not include the impact of the debt that you’ve announced this morning? Canaccord Genuity: Okay, right and just a follow up question. Somebody earlier asked you for a best guess of maximum liquidity and I think you said $300 million. Did that include or not include the impact of the debt that you’ve announced this morning?

That would -- I would describe that Gary as a minimum liquidity position. I’ve talked in the past about how we would want our cash balances to be never less than $100 million. We’ve arranged the Constancia credit facility. We have our corporate revolver available to us and so on, aggregating all of those together, but I would see that as more of a stress case liquidity situation and I'm not sure that I want to give a point estimate for where we expect to be on a minimum cash basis assuming that those credit facilities remain undrawn, but I certainly expect it to be higher than 300 million total liquidity or higher than $100 million minimum cash.

Thank you. The next question comes from Orest Wowkodaw from Scotiabank. Please go ahead.

I realize it's early but we can finally sort of see the light at the end of the tunnel here with the production growth coming with Constancia and Lalor. Just a curious question for David. Could you sort of set out the criteria on what it would take to reinstate your dividend? I realize we're probably 12 to 18 months early on this, but I'm just curious where your head might be at with that?

Well, we're certainly revisiting that in the context of just revisiting our strategy as we do every couple of years with our Board and on the strategy side, we don't expect to change significantly at all any of our geological or geographical criteria. I think we're going to stay in the same narrow geographies and geologies and we're also looking at optimum capital structure and I think the offering that we're doing today as part of that exercise and it'll include at some point introducing a dividend formula based on operating cash flow, less sustaining capital. It's something we're discussing with our Board. We know conceptually they're very supportive and as we redo our budgets and five-year plans over the course of this year into early next year, we do expect to talk about a longer term dividend policy with our shareholders.

Thank you. Ladies and gentlemen, this concludes conference call for today. We thank you for your participation. You may now disconnect your lines and have a great day.