Ero Copper Corp. Q3 FY2023 Earnings Call

Thank you for standing by. This is the conference operator. Welcome to the Ero Copper Third Quarter 2023 Financial and Operating Results Conference Call. As a reminder, all participants are in listen-only mode and the conference is being recorded. I would now like to turn the conference over to Courtney Lynn, Senior Vice President, Corporate Development and Investor Relations for opening remarks. Please go ahead.

Thank you, operator. Good morning, and welcome to Ero Copper's Third Quarter 2023 Earnings Call. Our operating and financial results were released yesterday afternoon and are available on our website as are our financial statements and the MD&A for the three and nine months ended September 30, 2023. On the call with me today are David Strang, Ero's Co-Founder and Chief Executive Officer; Makko DeFilippo, President and Chief Operating Officer; and Wayne Drier, Chief Financial Officer. We will be making forward-looking statements that involve risks and uncertainties from which actual results may differ materially. We would refer you to our most recent annual information form available on our website SEDAR and EDGAR for a discussion of the risk factors of our business and their potential impact on future performance. As a reminder, and unless otherwise noted, all amounts are in US dollars. I will now pass the call over to David Strang.

Thank you, Courtney, and thank you, everyone, for joining us today. We are speaking to you today from our offices in Sao Paulo, Brazil at the end of a weeklong tour with our Board, during which we visited each of our operations. I'm happy to share that everyone is buoyed from the visit, especially seeing the great progress our team in Brazil has made in each of our major growth initiatives. Our third quarter financial results reflect our team's exceptional strategic execution and operating performance amid challenging market conditions. Despite the macroeconomic headwinds that led to weaker metal prices and a stronger Brazilian real against the US dollar, we remained focused on executing and broadening our growth strategy, positioning Ero for long-term value creation as the global energy transition gains momentum. During the quarter, our near-term growth projects achieved several critical milestones. The Tucuma project, as announced last month, reached over 70% physical completion. Furthermore, a significant achievement was realized at the Xavantina operations, where we successfully initiated production from the Matinha vein, resulting in record gold production and operating margins. Meanwhile, at our Caraiba operations, we continue to advance our Pilar 3.0 initiative as we near completion of the mill expansion project and prepare to commence main sinking at the new external shaft. In parallel, we continue to bolster our medium and longer-term growth pipeline through ongoing regional copper and nickel exploration programs at the Caraiba operations, as well as through the execution of a binding term sheet to earn a 60% interest in Vale Base Metals Furnas copper project, which we announced earlier this week. Before I hand over the call to Makko to provide more detail on the execution of our growth projects, I will summarize our third quarter operating and financial performance. At the Caraiba operations, copper production was in line with our forecast at 10,766 tonnes of copper in concentrate. While our C1 cash costs for the quarter were also in line with our forecast in BRL terms when converted to US dollars at the average third quarter exchange rate of BRL4.88 per US dollar, our copper C1 cash costs in US dollar terms remained elevated at $1.82 per pound of copper produced. Copper production is expected to be strongest in the fourth quarter due to higher anticipated mined and processed copper grades. As a result, we are reaffirming our 2023 copper production guidance of 44,000 to 47,000 tonnes. Due to higher expected copper grades and with the current quarter-to-date exchange rate averaging over BRL5.05 per US dollar, we also expect to deliver lower C1 cash costs in the fourth quarter. For the full year, our copper C1 cash cost guidance range based on the original assumed foreign exchange rate of BRL5.30 per US dollar remains $1.40 and $1.60 per pound of copper produced. Yet, given the continued strength of the BRL against the US dollar, we are also providing a sensitivity range of $1.50 to $1.70 per pound of copper produced should the BRL to US dollar exchange rate remain at current levels for the remainder of the year. At our Xavantina operations, as I mentioned earlier, we successfully initiated production from the Matinha vein during the quarter, which contributed to a quarter-on-quarter increase of over 40% in both processed gold grades and gold production. As a result, we produced a record 17,579 ounces of gold at C1 cash costs of $371 per ounce. Due to our strong year-to-date operating performance at the Xavantina operations, we are increasing our 2023 gold production guidance range from 50,000 to 53,000 ounces to 55,000 to 59,000 ounces. We are also reducing our full year C1 cash cost guidance from $475 to $575 to $375 to $475 per ounce of gold produced and lowering our all-in sustaining cost guidance range from $1,000 to $1,100 to $900 to $1,000 per ounce of gold produced. Our financial results for the period reflect a combination of our strong continued operating performance as well as the metal price weakness in BRL strength that I mentioned earlier. As a result, adjusted EBITDA for the third quarter was $42.9 million and adjusted net income attributable to the owners of the company was $17.3 million or $0.18 per share on a diluted basis. As planned, our capital expenditures remained elevated at just over $120 million during the third quarter, largely due to the strong progress being made at our Tucuma project. In an effort to maintain the momentum we have carried forward from the second and third quarters, we have elected to accelerate select work streams originally slated for the first quarter of 2024 to the fourth quarter of this year. As a result, we have adjusted 2023 capital expenditure guidance for the Tucuma project to include an estimated increase of approximately $15 million to $20 million due to the expected shift in timing of associated payments. We have also provided foreign exchange rate sensitivities across our capital expenditures to guidance ranges to reflect the potential impact of the BRL to US dollar exchange rate remaining at current levels through the end of the year. I will now pass the call to Makko to discuss the highlights around our third quarter project execution after which Wayne will discuss our financial results for the quarter.

Thank you, Dave, and good morning, everyone. With respect to progress on our strategic initiatives, I am incredibly proud of our operational teams, and we are able to continue execution through the third quarter after an excellent first half of the year. Before discussing each of our projects in detail, I would like to congratulate all of our employees and contractors at the Tucuma project currently totaling over 1,700 people on site on achieving over 2 million hours without a lost time injury. In terms of the progress at Tucuma, we achieved a major construction milestone of over 70% physical completion, as you would have seen in our project update from October. Noteworthy achievements on site include the completion of earthworks, completion of all major civil concrete pours, major advancements in steel fabrication and erection as well as installation of several key pieces of process equipment, including our primary crusher, ball mill, and tertiary crushers. As evidenced in our updated site photos, we are making excellent progress in flotation cell installation and site-wide plate work and piping. In parallel, our main substation and power line installations are both tracking ahead of schedule, and we expect to tie into the national grid at the end of this month. As a result, mechanical completion testing and the first commissioning phases of installed equipment are expected to commence prior to year-end. With the progress made on procurement, manufacturing, equipment deliveries, and construction to date, our primary focus on the project has transitioned to piping, cabling instrumentation installations as well as our operational readiness planning, all of which is progressing on schedule. As Dave mentioned, given the excellent performance and momentum we have been able to achieve this year, in particular, on the pre-stripping and electrical power installation front, we expect to accelerate select work streams related to both mining and plant commissioning from the first quarter of 2024 to the fourth quarter of this year, which has been reflected in our updated guidance. While our expected project delivery date remains unchanged, we believe the acceleration of these work streams will continue to de-risk our overall commissioning and ramp-up schedule. Our total direct project capital estimate for the completion of the Tucuma project remains unchanged at approximately $305 million. It is worth noting that a Q2 redesign of our haulage route combined with decreased costs, below budget earthworks tailings, and waste on construction costs and reductions in duties on imported equipment versus our budget have largely offset the impacts of a stronger-than-anticipated foreign exchange rate and increases in forecast electromechanical erection costs through project completion. At our Caraiba operations, we continue to advance the new external shaft of the Pilar mine and the expansion of our Caraiba mill, both part of our Pilar 3.0 initiative. During the third quarter, we finalized the installation of the head frame for the new external shaft, concluded installations and are currently commissioning both the stage and personnel winders. We remain fully on track to commence main sinking activities prior to year-end. With respect to supporting infrastructure underground at the Pilar mine, we are in the final commissioning stages on our underground batch plant, are reaming the waste and ore silos for our ore flow system and are preparing for the second phase excavation of our crusher chamber. I'm pleased to report that all of our underground development requirements remain on schedule for shaft handover to operations in Q4 of 2026. Back on the surface at the Caraiba mill, installation of our new ball mill, Jameson cell and associated electrical installations were nearly completed during the third quarter. We anticipate an on-schedule physical completion of the expansion project prior to year-end. Last, but certainly not least, at Xavantina, we successfully developed into and commenced mining of the Matinha vein during the quarter, a fundamental component of our NX60 initiative. During the quarter, we mined ore from three different production levels within the Matinha vein. Our record production results this quarter and revised full-year guidance ranges for the Xavantina operations speak to the positive impact from this initiative. As Dave noted, we are expecting a strong fourth quarter at each of our operations and continued execution across our project portfolio. I will now turn the call over to Wayne to discuss our financial results.

Thank you, Makko. As Dave mentioned earlier, our third quarter financial performance reflected record gold production and operating margins, which partially offset a decrease in copper production as well as continued copper price weakness and a stronger BRL, which averaged BRL4.88 against the US dollar for the period. This drove operating cash flows of $41.9 million that helped to fund capital expenditures of $121.4 million, which were primarily directed towards the ongoing execution of our organic growth initiatives. We ended the quarter with a strong liquidity position of approximately $238 million. This includes cash and cash equivalents of $45 million, short-term investments of $43 million, and $150 million of undrawn availability under our senior secured revolving credit facility. Regarding our BRL to US dollar exchange rate hedge program, we reported realized gains of $3.5 million for the quarter. Consistent with our conservative strategy and in response to a favorable move in exchange rates towards the end of the quarter that extended into October, we opportunistically expanded our foreign exchange rate hedge program to cover the majority of projected operating costs and capital expenditures through the end of 2024. These hedges have a weighted average floor and ceiling of BRL5.04 and BRL5.43 per US dollar, and includes approximately $145 million designated for major project capital expenditures with a weighted average floor and ceiling of BRL5.10 and BRL5.23 per US dollar, respectively. It's also worth noting that we remain hedged on approximately 75% of our copper production for the remainder of the year through the zero-cost collar hedge program we initiated in January. The copper hedge contracts provide a floor price of $3.50 per pound on 3,000 tonnes of copper per month through the end of December 2023. With that, I'll now hand the call back to David to share some final remarks.

Thank you, Wayne, and thank you again to everybody who's been on the call. I think the theme for the quarter has been our operational excellence as a team, both operationally and on the capital projects in a dynamic macro environment, dealing with exchange rate and metal price volatility on the copper side of things. I cannot thank our team enough both in Vancouver and here in Brazil for their strong efforts in terms of continuing to move our projects forward and operate our operations. And while we don't want to single out any particular operation versus others, I want to commend the exceptional performance of our team at the Xavantina operations. And with that, operator, I will turn it over to you for the question period.

Thank you. We will now start the question-and-answer session. The first question comes from Dalton Baretto of Canaccord. Please go ahead.

Good morning guys. Dave, I actually wanted to kick off by talking about this new Furnas project that you didn't actually mention on the call. And I'm wondering, can you talk a little bit about the project itself, the rationale for the deal? Maybe why Vale didn't run with it and how this thing will compete for dollars versus your existing portfolio?

Thanks, Dalton. I think we did mention it at the beginning of the call. But with respect to Furnas, I think there are a couple of things we like to be able to point out. Number one, we've always said that we want to continue to grow our business here in Brazil. When we look at the long-term future of this company, when the opportunity came to us with respect to Furnas and Vale's approach to us if we would be interested, it was something that is extremely dynamic. I am being somewhat hesitant here because with respect to the rules under 43-101 and what we can and cannot say regarding the project. However, I can say that, as you know, Mike and the team from the geology side of things have a great understanding of a lot of projects here in Brazil. The work that Vale has put into this project involved drilling over 90,000 meters and over 240 drill holes. The opportunity to work with Vale is a bigger relationship that's starting to be established. The context between ourselves and Vale is based on Vale's viewpoint of a partnership that could help assess something they have looked at historically from an open pit perspective, while our opportunities focus on how we operate underground in Brazil. Our strong focus on ESG was something that gave Vale comfort, knowing that we are a company they feel comfortable entering a partnership like this. That's the general realities I can share right now as we continue to move forward with the project. Furnas represents a long-term growth opportunity for Ero Copper. We will be working on it, as I said, ideally, we'd like to accelerate it faster than our current program, but we will be working on that project for the next five years. The competition for exploration dollars does not exist between what we're doing in the Curaca Valley and our nickel projects versus what is happening around Furnas. We have confidence in the budgets that Mike and the team have put together with regards to the work we need to do at Furnas. Remember, with over 240 holes already drilled on the project, Mike and the team are doing a lot of compliance-related work regarding 43-101 to bring that project into the marketplace. So this is a great growth initiative for this company. We will be discussing it more over the course of the next 12 to 18 months. I believe the market will come to understand the great opportunity we have here and the great relationship that we are developing with one of the biggest mining companies in the world. The opportunity to work with Vale, the biggest mining company in Brazil, is significant for Ero Copper's future.

Great. Thanks for that, Dave. And then switching gears to Tucuma. So you're still guiding to first production in H2 2024, but the mine is almost complete, you're going to kick up plant commissioning by year-end. Is there any upside to your guidance? And what are some of the key risks between now and then?

Yeah, this is Makko. Great question, Dalton. Look, I think we're doing well. We've continued to build on the momentum from the first half of the year. We've seen a big jump in physical completion relative to last quarter. I believe starting the first commissioning phases and having our power site ready early will help us de-risk our commissioning ramp-up schedule. In terms of project completion, the risk is always the same, and that's the rainy season and how much progress we can make. We've planned for that in our current start-up schedule. That's part of the reason we are moving capital from Q1 next year into Q4 this year, while also maintaining our plan, which is still to aim for the second half of next year. There may be some opportunity for upside, but given the uncertainties involved, we're going to stick to our second half guidance for now.

Yeah, Dalton, just to reaffirm that, we're taking a conservative approach. The project is moving forward very well, but we do not feel comfortable changing any guidance right now in terms of when commissioning and commercial production will commence. Perhaps, we will have a conversation with the marketplace in the first half of next year regarding that, but we're not changing guidance right now.

Thanks guys. I’ll jump back in queue.

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

Hi, good morning. Makko, did I hear you say earlier that the impacts of the FX have been largely offset by savings elsewhere on Tucuma and that's why the total project CapEx of $305 million is unchanged?

Yeah, that's exactly right, Orest. Obviously, there was a stronger impact this quarter or in Q3. If you look at the big offsets there, it's going to be on the redesign of the mine haulage route, both in terms of pre-strip and when we're starting to build our RodoMine stockpiles. The Q2 redesign was able to shorten that haul route fairly significantly. We've also seen savings on operational costs, as well as changes to import duties on some of the equipment arriving on site, and that’s all reflected in our forecast. As we look ahead, we're seeing some things moving in the opposite direction, including increased electromechanical erection costs for completion. So as we continue to build this project out, both in Q4 and through the first half of next year to project handover, we're going to continue to see positive adjustments and negative adjustments. Fortunately, to date, those have largely offset each other. We're continuing to anticipate a completion cost of $305 million, but that's our best estimate; things are fluctuating regularly.

Okay. And just as a follow-up, I mean, given there's a lot of moving parts here, you're bringing forward some CapEx, you've got some currency changes. And now you're also introducing some spending for Furnas. What does CapEx look like for 2024 on a company-wide basis?

Yeah. Look, for us, we're in the process of budget season right now, so I think it would be premature to talk about company-wide capital in advance of our budget. As for Tucuma, all I can say is that we're still anticipating the cost of completion of that project to be at the time of handover at $305 million, subject to various fluctuations we talked about. With respect to company-wide CapEx, we’re currently discussing that.

Okay. Thank you.

Next question comes from Stefan Ioannou of Cormark Securities. Please go ahead.

Thanks very much guys. Just wondering if you could provide any more details on the exploration at Caraiba, whether copper or nickel?

Yes, Stefan. The program remains ongoing. We would have preferred to have a more fruitful discussion with the marketplace regarding our advancement of the nickel opportunities. Unfortunately, the A&M, which is the government organization that manages mineral licenses and exploration licenses in Brazil, went on strike in the middle of the year. That strike has now ended and it has affected our ability to close some transactions we were working on, as well as some government auctions. That has resulted in a delay in discussions with the marketplace regarding what we are starting to uncover with the nickel exploration. However, Mike and the team are continuing to explore in the areas they have been able to. We have expanded our exploration program into two to three other areas. The fact that Mike and the team have still got drill rigs turning is the best I can tell you regarding our current success rate. However, we hope to have more information to share. We've got to be super careful about giving a timeline regarding when we can talk fruitfully about our nickel program. I would love for it to be the first quarter of next year, but I doubt it will be until probably somewhere in the second quarter that we can have a more fruitful discussion. As the exploration program continues and we have any material updates we feel we need to discuss, we will do so in a timely manner.

Okay. Great. That's very helpful. So I guess, timing aside, obviously, a lot is going on to just stay tuned then.

Yeah. I mean, as with everything else, we’d love to put out quarterly exploration results. We're having success in some programs, including some work we're doing at Vermelhos. We have also conducted exploration work on copper in the Vermelhos district with some very interesting results. Our exploration program at Xavantina has gone incredibly well, and the teams have done great work, particularly around extensions to the San Antonio vein system. So there's a lot of good work that our team is doing in several different areas of our exploration program. We hope to continue to provide updates in the new year.

Okay, great. That's very helpful. And then just one other question, switching back to the Tucuma area and I guess, Furnas. There were previously high-level thoughts about Tucuma being in a hub-and-spoke model. Furnas is somewhat in the same area, but perhaps too far away to be considered part of that model. Are there still opportunities in the area that you're seeing to feed into that strategy over time, or is Furnas kind of the next step for the Carajas and Ero Copper?

Well, no. I think whether Furnas is in the Carajas or elsewhere in Brazil, Furnas itself is a great opportunity for our company. Regarding Tucuma, it is a foundational asset in the Western Carajas. Mike and the team are broadening their efforts on regional exploration in and around Tucuma. There are some potential opportunities that other players have looked at, and we are evaluating these. They are still at an earlier stage. However, we are getting our feet wet regarding the foundation we've built in the Western Carajas and the opportunities to potentially grow our business there. I think it's very much a matter of staying tuned right now concerning developments in the Western Carajas.

Okay. Great. Well, thanks very much. I appreciate it.

The next question comes from Craig Hutchison of TD Securities. Please go ahead.

Hi, good morning, guys. Just regarding Tucuma, the $305 million, can you just provide some clarity in terms of how much of that $305 million is left to spend, just the cash component?

Yeah. Sure, Craig. So, Craig, this is Makko again. As of the end of September, physical completion reached 70%. Our physical spend is tracking just behind that. So we're about 50% complete on direct project expenditures through the end of September.

Okay, great. And in terms of liquidity, I recognize you guys have a pretty strong liquidity position right now, but if copper prices sort of languish over the next few quarters, are you concerned at all about that position? Any thoughts in terms of bolstering that through an upsize of your credit facility or some other non-dilutive needs between now and sort of mid-next year when the project is complete?

Yeah. Thanks for that, Craig. Like any company with major capital programs, we constantly work through scenario analysis regarding various metal prices. Generally, we are comfortable at current metal price levels. However, you cannot run a company without risk management. We're constantly evaluating that and looking at all levers available to ensure the company is in a strong position to deliver Tucuma on time. If we feel it is prudent to pull certain levers, we will do so. For now, we are still in the process of evaluating various scenarios.

All right. Perfect. Thanks, guys.

The next question comes from Alex Terentiew of Stifel. Please go ahead.

Hey, good morning guys. A couple of questions for me. First, the Xavantina mine grades in the quarter are really impressive. The Matinha vein, obviously, is a good contributor to that. Were they higher than expected? And if so, any potential read through to 2024?

So, yes, we got into Matinha early and found some areas where the grade was significantly higher than we anticipated, which has been a positive benefit. It's too early to say how it will impact 2024 based on our early results. While we are excited about what we've encountered, we are not making any changes to our guidance regarding Matinha at this time.

Okay, good. Well, it's a good start anyway. Second question, at Furnas, you said greater than 240 holes drilled so far. That's a lot of holes. So can I read into that then? Do you think you have enough information available to put a 43-101 compliant resource together? Is that something we could expect over the next few months?

We have signed a binding letter of intent. We are now negotiating a definitive agreement between our teams. We've had discussions with Vale for the last 18 months about this. Both companies are motivated to get the definitive agreement signed, which will take a few months. At the same time, we are also initiating an environmental baseline study for our work on this project. Mike and the team, working with Vale, will start our drilling programs. We have a clear idea of what we want to accomplish in support of Vale's previous work. Vale has been working on this project for a long time, and we need to update part of their database to meet new QA/QC requirements. We are taking a conservative approach to discuss the project until we can ensure it is compliant with 43-101. We will be working on this project over the next 12 months to achieve that goal. I cannot provide a specific timeline for the completion of the 43-101, but we will progress and if there's an opportunity to put it out earlier, we will do so in coordination with Vale. We have an 18-month program initially planned to generate a Preliminary Economic Assessment (PEA) on this project and we will work towards that.

Okay. That is very helpful. Thank you.

The next question comes from Jackie Przybylowski of BMO Capital Markets. Please go ahead.

Alright. Thanks very much. A couple of questions for you and maybe one that's on a slightly different subject. Can you give us an update on the PMA smelter? And how much of your material you're selling domestically versus internationally right now?

Thanks, Jackie. With respect to PMA, we did not make any sales during the quarter to PMA. PMA has had some maintenance issues with regards to the smelter, and we’ve been working through that. Eduardo De Come, our CEO here in Brazil, has been working with PMA, and they have been open to discussing potential solutions moving forward. There may be an opportunity to send material to them this quarter, but we're not relying on it for our projections in Q4.

Okay, that's helpful, and that's consistent with your earlier guidance. I just wanted to see if that changed at all. I appreciate that. If I could ask one other question, regarding the startup of Tucuma, but for the company in general. As we see Tucuma moving into production, can you talk a little bit about your working capital needs and how that may add to the amount of inventory and just sort of working capital the company will need next year?

Yeah, Jackie, great question. Both Wayne and I have discussed this numerous times over the past several months. We have several levers we're exploring to address any working capital impact associated with production at Tucuma sales. We do not anticipate a huge change regarding working capital drawdown, given these levers we're considering.

Yeah. I mean, Jackie, it's Wayne here. Initial indications on the concentrate coming out of Tucuma are favorable. We're in advanced discussions with various buyers to establish first-year contracts around that, which provides opportunities to manage our working capital needs.

Sorry, Wayne, I didn't mean to cut you off. Thank you very much, Wayne and Makko and David. Thanks for your answers.

The next question comes from Gordon Lawson of Paradigm Capital. Please go ahead.

My first question was just stolen, so I'll roll over here. Can you clarify the key components of the 3.0 project in terms of timing? I've got the mill ramping up to 4.2 in 2024. But what does the second shaft add to the mining rate?

You're right about the mill expansion, Gordon. We're wrapping up the installation and commissioning phase in the fourth quarter as mentioned in our news release. In terms of the shaft handover to operations, we've completed about 40 meters of the precinct and still have roughly 1,460 meters to finish on the shaft. This progress will pick up at the end of the year alongside our underground infrastructure, and we expect to complete the shaft project on schedule in the fourth quarter of 2026, making it fully operational in 2027.

Okay. That helps. Thank you very much.

The 2.0 terminology comes from.

Great. Thanks a lot.

This concludes the question-and-answer session. I would like to turn the conference back over to David Strang for any closing remarks.

Thank you, operator, and thank you again to everybody for joining the call. I appreciate the questions we received, and I look forward to talking to you in February regarding our annual results. Hopefully, we can see many of you before then and continue discussions. We're always available to answer questions regarding how our operations are progressing. Again, I would like to thank our overall team for the great work they continue to do in delivering operationally and on our project basis, moving us toward our goals. Thank you once again, and thank you, operator.

Thank you. This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.