Nexa Resources S.A. Q1 FY2023 Earnings Call

Good morning, and welcome to the Nexa Resources First Quarter 2023 Conference Call. This event is being recorded and is also being broadcast via webcast, and may be accessed through Nexa's Investors Relations website where the presentation is also available. I will now like to turn the conference over to Mr. Rodrigo Cammarosano, Head of Investor Relations, for opening remarks. Please go ahead.

Good morning, everyone, and welcome to Nexa Resources First Quarter 2023 Earnings Conference Call. Thanks for joining us today. This is my first conference call with the financial community since I was appointed Head of Investor Relations and Treasurer. I want to thank Nexa's leadership team for their trust and for this opportunity, and say that I'm very excited about this new role. I would also like to thank Roberta Varella for her contributions to Nexa's Investor Relations area over the past few years. During the call, we will be discussing the company's performance as per the earnings release that we issued yesterday. We encourage you to follow along with this on-screen presentation through the webcast. Before we begin, I would like to draw your attention to Slide #2, as we will be making forward-looking statements about our business, and we just ask that you refer to the disclaimer and the conditions surrounding those statements. It is now my pleasure to introduce our speakers. Joining us today is our CEO, Ignacio Rosado; our CFO, Jose Carlos del Valle; and our Senior Vice President of Mining, Leonardo Coelho. So now I will turn the call over to Ignacio for his comments. Ignacio, please go ahead.

Thank you, Rodrigo, and thanks to everyone for joining us this morning. Please let's move now to Slide #3, where we will begin our presentation. Let me begin by saying that despite a still challenging environment, with significant volatility in commodity prices, persisting inflationary pressures and some unexpected events in Cerro Lindo, we generated solid results in the first quarter of 2023. In mid-March, we experienced unusually heavy rains in Peru, which affected our Cerro Lindo mine. Nevertheless, we were able to resume operations at normal capacity at the end of March while ensuring all protocols and the safety of our employees. Our net revenue for the quarter reached $667 million, an 8% decline year-over-year, mainly explained by lower metal prices, but partially improved by mining production and metal sales over the period. Our adjusted EBITDA was $133 million, representing a 39% decrease year-over-year, impacted by lower LME prices and byproducts contribution. When compared to the fourth quarter of 2022, our adjusted EBITDA increased by 11%. In our new mine, Aripuanã, the ramp-up continues to progress. Our core focus is on plant stabilization, increasing throughput rates and improving concentrate rates and quality. We aim to reach nameplate capacity in the second half of this year. In terms of exploration activities in our mines, we look with optimism towards the initial results we had in the first quarter of 2023, especially in Aripuanã and Vazante, revealing outcomes with high-grade thick intersections. I would also like to emphasize our balance sheet, which remains solid despite the investment cycle we have gone through in the past years and the temporary pressure on working capital affecting our cash flow in the first quarter. Finally, I want to highlight that we are advancing in the studies related to the integration project of the Cerro Pasco complex. This is a project with the potential to transform the underground Atacocha and El Porvenir operations into a flagship combined mine, not only through production increase but also by extending the life of the two assets. Finally, we maintain an optimistic view for the year and remain confident about the long-term fundamentals of our industry and our business. Now moving to Slide #4. Regarding the operating performance of the Mining segment, you can see that zinc production in the first quarter increased to 75,000 tons, a 13% increase year-over-year, mainly explained by an increase in treated ore volume and higher lead zinc average rates. Compared to the fourth quarter of 2022, zinc production was relatively flat. About the cash cost, even though we are keeping it under control, our cash cost per ton of run-of-mine increased to $0.43 compared to $0.19 per pound in the first quarter of '22 and $0.20 per pound in the fourth quarter of last year. In both cases, the increase was mainly explained by lower byproducts contributions due to lower LME prices and the effects of the Cerro Lindo operation suspension. Now moving to Slide #5. Regarding the operating performance of the Smelting segment, metal sales totaled 144,000 tons in the first quarter, down 14% from the fourth quarter of '22, mainly due to lower comparable quarterly production and sales seasonality. Compared to the same period of last year, we were up 7%. About the cash cost per pound in the first quarter of this year, smelting cash cost decreased to $1.25 per pound compared to $1.26 per pound in the first quarter of '22. This slight decrease was mainly driven by lower raw material costs due to lower LME prices. When we compare the first quarter of '23 to the fourth quarter of '22, cash costs increased by 4% due to lower byproducts contribution and lower LME metal prices. Now moving to Slide #6. Ramp-up activities at the Aripuanã mine continued to progress, and we are currently focused on steadily increasing the plant throughput rate, asset reliability, and stability of concentrate grades and quality. During March, we had a planned stoppage at the plant to adjust some bottlenecks, such as the pumping and piping system, and improve the drainage configuration, which presented limitations after the rainy season. These measures are contributing to the overall performance of the asset and, consequently, the stabilization of production, aiming to reach nameplate capacity in the second half of this year. During the quarter, treated ore volume was 277,000 tons and zinc production reached 2,500 tons. Sustaining CapEx during the quarter was $15 million, mainly related to mining development and infrastructure. In our exploration activities in 2022 we added 8.3 million tons of mineral reserves, extending the life of Aripuanã by 3 years. In the first quarter of this year, these activities were focused on the Northwest extension of the Babaçu area with very positive results. Now moving to Slide #7. In the first quarter of 2023, we executed over 12,000 meters of exploratory drilling in all of our mines and projects. Over 12,000 meters of infill drilling and over 2,000 meters from earlier-stage exploration projects drilled in Peru. At Cerro Lindo, the Pucasalla mineralized body continued to be extended to the Southeast. At Vazante, brownfield exploratory drilling in the extreme north area confirmed mineralization with continuity at depth, which provides a good indication of the potential around the main infrastructure. At Aripuanã, exploratory drilling has been focused on the Northwest extension of Babaçu where new drilling continues to confirm high-grade mineralization and exploration infill drilling at the Ambrex orebody is being successful for resource classification upgrades. Regarding the Pasco complex, exploration activities continue to focus on the extensions of mine bodies like Porvenir Sul and integration at El Porvenir, highlighted by high-grade new intersections. Now moving to Slide #8. As I mentioned earlier, we are moving forward with the integration studies of the Atacocha and El Porvenir underground mines to create a robust strategic organic option for Nexa. The scope of the project includes a sequence of investments focused on upgrading the Porvenir shaft, developing the integration of both the Atacocha and El Porvenir underground infrastructure, and increasing the capacity of the Porvenir plant and Atacocha tailings dam. We are very confident in the potential of this project, and we expect to complete the studies in the second half of this year with submission for Board approval at the end of this year.

Thank you, Ignacio. Good morning to everyone. I will continue on Slide 9. As you can see, beginning with the chart on your upper left, total consolidated net revenues for the first quarter decreased by 8% year-over-year, due mainly to lower LME metal prices. Compared to the fourth quarter of 2022, net revenues decreased by 14%, mainly as a result of lower metal sales volumes and the impact of the Cerro Lindo temporary suspension. This was partially offset by higher LME metal prices. In terms of adjusted EBITDA, consolidated adjusted EBITDA in the first quarter of 2023 was $133 million, compared to $217 million in the first quarter of 2022 and to $120 million in the last quarter of last year. We now move to Slide 10, where I will explain our results in further detail. In the Mining segment, net revenues for the first quarter of 2023 totaled $268 million, down 17% versus the same period of last year. This is explained mainly by the decrease in metal prices, lower sales volumes of copper concentrate, and the higher TCs paid by our mines. These negative effects were partially offset by higher zinc, lead, and silver sales volumes. Regarding adjusted EBITDA, first quarter adjusted EBITDA for the Mining segment was $42 million, a reduction of 70% year-over-year, mainly driven by lower prices and higher TCs and the negative impact related to Aripuanã's higher unit costs during the ramp-up phase. Compared to the fourth quarter of 2022, adjusted EBITDA decreased by 47%. This was mainly driven by lower sales volumes in Cerro Lindo, which, as you already know, was affected by severe weather during early March, lower by total contribution, and higher operational costs in Aripuanã, partially offset by an increase in Aripuanã's sales volumes. Switching over to the Smelting segment. Net revenues in the first quarter of 2023 totaled $543 million, a decrease of 3% versus the first quarter of 2022, mainly driven by lower metal prices, offset by higher sales volumes. Compared to the fourth quarter of 2022, net revenues decreased by 10%, mainly due to lower sales volumes, partially offset by higher LME metal prices. The Smelting segment's adjusted EBITDA for the first quarter of 2023 totaled $89 million, up 9% from the first quarter of 2022. This is explained mainly by higher sales volumes, a positive impact of $26 million related to changes in market prices, which resulted in positive quotation period adjustments, which were partially offset by a decrease in byproduct contribution that was mainly explained by lower sulfuric acid prices and higher energy prices in Cajamarquilla. Compared to the fourth quarter of 2022, adjusted EBITDA for the Smelting segment increased by $43 million, mainly as a result of a positive price effect of $37 million related to changes in market prices that resulted in positive quotation period adjustments, the positive effect of variation in mark-to-market of inventories, and higher LME metal prices, partially offset by lower byproduct contribution and lower sales volumes. Now moving to Slide #11. On the top left of the slide, we can see that in the first quarter, we invested $56 million in CapEx, of which 100% was related to sustaining investments, including $15 million in Aripuanã. We expect disbursements for investments to accelerate in the upcoming quarters. Based on our projections for the year, we believe we will comply with the 2023 CapEx guidance of $310 million. With regards to mineral exploration and project evaluation, we invested a total of $21 million in the first quarter, of which almost $12 million was related to mineral exploration and mine development. I would like to emphasize that as part of our long-term strategy, we are focusing our efforts on replacing and increasing mineral reserves and resources, supporting our organic growth. In this regard, it is important to mention that we are maintaining our guidance on the investment category, expecting to finish 2023 at about $110 million. Let's move on to Slide 12. For the first quarter of 2023, starting from our $133 million of adjusted EBITDA, we can see that cash flow provided by operations before working capital changes was $106 million. We then paid $57 million related to interest and taxes and $56 million in total CapEx for our current operations. We also paid dividends of $25 million to our shareholders. Additionally, there was a $6 million combined positive effect of loans and investments and FX impact. Finally, there was a working capital variation of $105 million, mainly due to the combined impacts of the Aripuanã ramp-up and the decrease in trade and confirming payables driven by higher payment volumes in the period. We expect this to be reversed positively throughout the year. As a result of these effects, free cash flow in the first quarter of 2023 was negative at $132 million. We are confident that throughout 2023, with the completion of the Aripuanã ramp-up and our ongoing efforts to be more productive and efficient, we will positively contribute to the company's free cash flow generation in 2023. Now moving to Slide #13. In this slide, you can see that our liquidity remains robust, and we continue to report a sound balance sheet with an extended debt profile. By the end of the first quarter of 2023, our current available liquidity was approximately $675 million, including our undrawn revolving credit facility of $300 million. It is important to mention that as of March 31, the average maturity of our total debt was 4.4 years, with a 5.5% average cost of debt. Finally, our leverage, measured by net debt to adjusted EBITDA, was 1.9x compared with 1.5x at the end of the fourth quarter and 1.4x a year ago. Going to my last slide before I turn it over to Ignacio. In this slide, we show that in the first quarter of 2023, LME zinc price averaged $3,124 per ton, down 17% compared to the same period a year ago. We believe zinc demand remains positive in the mid- to long-term, driven by investments in infrastructure, construction, renewable energy, and the auto sector, now boosted by sales of electric vehicles. On the supply side, a lack of feasible projects to fulfill demand requirements will continue to put positive pressure on prices. Regarding copper, the LME price was down 11% compared to the first quarter of 2022 and up 12% compared to the fourth quarter of 2022. Copper prices, like those of other metals, have benefited from a weaker U.S. dollar and optimism of a Chinese economic recovery. In terms of demand, the metal will play a key role in the energy transition. On the supply side, volumes from greenfield and brownfield projects will materialize in 2024 and 2025, contributing to a mild temporary surplus in the market with long-term additional supply facing important challenges. Overall, the outlook for zinc and copper in the mid- to long term remains positive and supported by solid market fundamentals.

I would like to close this presentation by reinforcing our priorities for 2023 and our short-term strategy. We are progressing with the ramp-up of Aripuanã. Currently, we are performing at a higher running rate capacity and both zinc and copper concentrate grades and quality are improving in line with our projections. Looking ahead, the Pasco complex integration project has the potential to be a robust organic strategic option for Nexa. We will keep executing our exploration program in our current operations and key projects. We continue to have very encouraging results in the first quarter of this year. I would like to point out that we are moving forward with our ESG strategy, and we intend to release our annual sustainability report in May. We will remain focused on optimizing costs, OpEx, and CapEx, and once again, we remain confident in the long-term dynamics for our industry.

Our first question will come from Lawson Winder with Bank of America Merrill Lynch.

Yes. I have two questions. First, I would like more details on the anticipated ramp-up at Aripuanã and also on the issues encountered at the plant. From what I understand, the mining is operating well. I'll hold off on my second question until you address this.

Okay. Lawson, thank you. No, Aripuanã is going as planned. We had an unplanned interruption in March because of the rainy season; it was very heavy. And as we said in the presentation, we were working on the piping system, the pumping system, and also on the drainage system. In April, and this is not in the call, throughput is around 70% to 75%, and the quality of concentrate is very high and is ready to go to our Tres Marias facility. So, in the second quarter, you will see a major improvement compared to the first quarter, and this was always in the plan. And as I was saying, we are aiming to reach nameplate capacity in the second half, hopefully sooner than later. The guidance on production, even if we are behind in this part of the year because, I mean, it's a ramp-up, we believe that in the second half, we're going to catch up, and we will achieve our guidance. The other part that is important is that we want to make sure that on a monthly basis, we stop losing cash flow. At the ramp-up, always the sales that you have are below the CapEx and the OpEx of the month. So part of the problem that we face for this cash flow of all the mining business was because Aripuanã; we invested $40 million in Aripuanã in the first quarter. And the second is going to be much less. And hopefully, the second part is going to be positive. And all the benefits of Aripuanã will come in 2024.

Okay. The second question I wanted to ask was just on the exploration results you put out earlier in the week. They were very encouraging, with very positive findings. So my questions would be, what is the distance of that strike from the existing inferred resource? What is the distance from the existing underground infrastructure? So how much development would it take to get there? And could you be accessing that in 2024, for example? And then finally, is it on land subject to the silver stream?

Yes. No, this is a very good question. These drill calls that we are doing at the surface in Pucasalla are 3 kilometers away from the main infrastructure. So it is not connected, okay? The Cerro Lindo mine today has 8 years of life of mine in the main infrastructure. And as you can see, we have improved that year-over-year. So the Pucasalla and all the surrounding areas that we are finding that we are reporting are open and are helping us, and this area is to develop the new Cerro Lindo that is coming later on. So I would say, during this year and next year, we will delineate what we have in that area. Because of that, we will plan to connect these 3 kilometers in the coming years. This is more about the second wave growth of Cerro Lindo.

Okay. Clear on Pucasalla, I was actually asking about OB-8.

Yes, the OB-8 is part of the main infrastructure, and we are in the process of replacing it. All the mineralized zones and bodies are accessible at greater depths in the mine. This presents good opportunities to replace what we have consumed over the years. As for the silver stream, if I understood correctly, it pertains only to the current infrastructure in the OB, and the Pucasalla area is not included in that silver stream. Additionally, the percentage that we will relinquish is expected to decrease in the coming years.

Our next question will come from Pedro Nunez with Banco Financial.

I wanted to ask a question on your smelting EBITDA and on the $26 million positive impact of mark-to-market. Could you please provide some detail as to what was the reason for the positive impact? Is this based on observable market prices that are higher than you expected? So I wanted to get more detail on that.

The smelting EBITDA is very stable. As a reminder, the Smelting business is straightforward with four sources of revenue. The first is the 15% of zinc linked to prices. The second is the repayments we receive, which have been higher this year than in previous years, with a benchmark around $280 per ton. The third source is premiums that are also higher this year due to a shortage of smelters in Europe caused by energy prices; some are reducing operations while others are not, resulting in high premiums today. The fourth source consists of our byproducts, primarily sulfuric acid from Cajamarquilla. As a result of these factors, we achieved very positive results in the smelting, contributing to the $26 million figure mentioned.

Yes. There's an additional impact related to higher prices, which has two effects really. One related to the cost of the inventory because those concentrates were bought at lower prices. And also due to the higher prices due to mark-to-market; at the end of every month, we can adjust our valuations. So that also has a benefit on the result of the company. The mark-to-market is based on the latest prices at the end of each month, and that also contributed to better results that are shown in the EBITDA.

I would now like to turn it over to Rodrigo Cammarosano for questions from the webcast.

Thank you, operator. We have a question from Matias Moreira from Bradesco BBI. Actually, there are two questions. The first one, if you could provide a bit more color on zinc and copper demand fundamentals for 2023? And then the second question would be about Aripuanã. What is the current capacity, meaning the running rate capacity of Aripuanã currently?

I'll start with the second question, which is very straightforward. Current capacity at Aripuanã is between 60% and 70%. And we're looking optimistically at the evolution of the stability of the plant. Regarding the first question, as I mentioned during the presentation, we believe that there are very strong fundamentals for both copper and zinc. Definitely, copper has more visibility and it's more discussed. But zinc is also a very important metal, obviously, in relation to infrastructure, similarly as copper, but also in the energy transition, as it is used for energy storage for solar power and wind power. So it's more of an under-the-radar metal that is also very important for energy transition alongside copper. On the demand side, therefore, there are strong fundamentals. And on the supply side, as you know, copper grades continue to decline in general. It takes longer to bring up a new mining operation, whether it's copper or zinc due to environmental standards and social consultation that has to be carried out ahead of time. It takes longer and is costlier because costs have gone up as well. So you require higher prices to incentivize investments in new projects. Taking all this into consideration, we continue to believe that these are strong fundamentals.

Yes. Just to add to what Jose Carlos was saying, from a practical point of view, you know that we sell 600,000 tons of zinc in the market; 45% that goes into the Brazilian and Latin American markets. The rest goes to Europe, Asia, and the U.S. What we see on that specific front is that demand is weaker, but not excessively. It's still strong. So my comment is that in terms of fundamentals, the demand and supply, we find that the fundamentals are still strong. The issue is all the surrounding noise from the economy regarding China, the Ukraine and Russia crisis, and the recessions in Europe and in the States, along with what will happen in the States with the increasing rates of debt, etc. The fundamental value, in the short term, is robust. We see this on a monthly basis. So hopefully, during the coming months, that will start to reflect in prices. Currently, you can see that zinc prices are low, and we are waiting to observe the positive movement of that in the coming months.

Okay. Thank you for the questions. Now we will have a question from Orlando Barigga from CrediCorp Capital. Can you please provide an update regarding the new mining tax in Mato Grosso state?

Yes, there is a new tax in Mato Grosso that we are not very familiar with, particularly because it has only been introduced in the last two months and has minimal exposure to the mining sector. I can confirm that the tax rate is significantly higher than the industry average in Brazil. We are currently working with the Mato Grosso government to ensure we align with market practices. However, in the short term, we are obligated to pay this tax, which we estimate to be between $3 million and $4 million annually. We hope to see it align with market practices in the future, but this is an ongoing process.

Okay. Now we have a question also from the webcast from Jose Maria Suva from BTG Pactual. Should we expect a reversal of the working capital negative effect in the coming quarters? And what would drive that working capital reversal?

Yes. This negative working capital variation in the first quarter is something that we planned. It has to do with seasonality. Typically, there are a lot of expenses and cash disbursements towards the end of the year, which are paid in the first quarter. This results in accounts payable and confirming payables going down, representing a negative impact on working capital. Additionally, there has been an increase in accounts receivable related to higher sales and higher LME prices, which has also had a negative impact on the working capital variation. This is seasonal and is in line with our expectations for the first quarter. Therefore, this will gradually reverse throughout the year.

Okay. Now we have another question. It's a follow-up question from Matias Moreira from Bradesco BBI. In terms of capital allocation, is the company looking for any zinc opportunities through M&A or does the focus remain on ramping up Aripuanã?

I guess the priority in the short term is ramping up Aripuanã. This is the reality. It's only going to the process of the ramp-up. Aripuanã is going to be a reality. I would also like to mention that in Aripuanã we are drilling extensively because we want to ensure a long-life mine for Aripuanã. That is a new mine, so we create more opportunities to make it more profitable in the coming years. Today we have around 11 years of life, and hopefully towards the end of this year, it's going to be much higher. So this is a priority for the short term. The second one is, as I mentioned, Cerro Pasco. Cerro Pasco presents an opportunity for us because if we connect the two mines underground, we will be able to recover some inventory of resources, especially in Atacocha that will give us a long life of mine. We won't recover these resources if we do it through the restructure of Atacocha; it won't pay. So by leveraging the infrastructure of El Porvenir, we will be able to do that and create a combined asset that is robust and for the long term. These are the priorities for the short term. From an M&A point of view and capital allocation, we are looking for opportunities. We have some early-stage projects that we are working on now. We are active in the market looking for zinc and copper opportunities. So we explained that before, and this is still the case. The market is not easy to penetrate, but we are optimistic that within the next 12 to 14 months, we will identify something comparable to our current mines. We are searching for sizes such as Cerro Lindo, Vazante, and Aripuanã. So we are active on that front as well.

Okay. We have one question from the phone.

Yes. Ignacio, I just had a question, maybe it's a little bit of extension to the working capital question that was asked before. How do you see the progression of the free cash flow? Because in most of the last several quarters, it has been negative? And I understand that Aripuanã obviously had an impact on this. But it would be interesting to see if now that Aripuanã is ramping up, despite potentially lower commodity prices and a stronger BRL, if you expect positive free cash flow to show up in the coming months or in the coming quarters?

Yes. No, that is very important, and thank you for the question. You're right. I would like to start by saying that if you see the cash flow of the mining segment and the smelting segment, the Smelting segment is very stable, as I was saying before, because of these sources of revenue. However, the cash flow in mining was low due to two factors. One is Cerro Lindo; the operation of Cerro Lindo has an impact on cash flow, and Cerro Lindo is a big mine and very profitable. The second one is Aripuanã. Aripuanã and Cerro Lindo, combined, contributed about $45 million to $48 million in cash flow for the quarter. The reason behind Aripuanã is that during the ramp-up, the only production we had in the quarter was 2,500 tons. This will change positively in the second quarter, and we will start breakeven in the next quarter, depending on prices, yes? If we use an average price from last year, the mining segment will be able to provide cash flow toward the end of the year, including Aripuanã and considering that Aripuanã is ramping up. The question around the cash flow issues reflects the previous years; the answer is Aripuanã. Even if the CapEx in Aripuanã was $625 million, which we communicated last year, Aripuanã had working capital and free operating expenses that have resulted in increased costs linked to this line. Last year, we mentioned that around $290 million was allocated to Aripuanã, part in CapEx and part in operating expenses, etc. Once we reach a steady state and have the rest of the mines contributing to positive cash flow, we anticipate improvements in the overall cash flow profile of the company.

We have another question from the webcast. This question comes from Omar. What is the expected CapEx for the Porvenir and Atacocha integration? And when do you expect to deploy this investment?

Yes. I guess it's in the early stage today, as we were saying, we have four projects that are advancing in analysis. The number that we have — I can give you a range between $160 million to $200 million. This will be deployed between '24 and '27. The idea is that we deploy these with our cash flow from Porvenir and Atacocha while running the mines. We are working towards that outcome, and as I mentioned before, I would say that by the end of the third quarter, beginning of the fourth quarter, all of these studies will be ready. We will have a technical report regarding this as well, and we will submit this proposal to the Board for approval, after which we will be more specific regarding investments and timelines.

Okay. So we don't have any other questions. Thank you very much, as always, for attending the call. I would like to say that we would like to thank Roberta for these 5 years working with us in Investor Relations. She's a fantastic professional, and we appreciate very much the work that she has done. Rodrigo Cammarosano, our new Investor Relations Manager, is available for you to make calls to the team after this. We look forward to speaking to you in the next quarter, hopefully with a more stabilized demand and supply. We hope to see better signals from the macroeconomic environment in the world, so we can benefit from the cash flow that we can generate at a higher price. Thank you very much, and have a good weekend.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.