Southern Copper Corp/ Q1 FY2022 Earnings Call

Good morning, and welcome to Southern Copper Corporation's First Quarter 2022 Results Conference Call. With us this morning, we have Southern Copper Corporation, Mr. Raul Jacob, Vice President, Finance, Treasurer, and CFO, who will discuss the results of the company for the first quarter of 2022 as well as answer any questions that you might have. The information discussed on today's call may include forward-looking statements regarding the company's results and prospects, which are subject to risks and uncertainties. Actual results may differ materially, and the company cautions not to place undue reliance on these forward-looking statements. Southern Copper Corporation undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of the information, future events, or otherwise. All results are expressed in full U.S. GAAP. Now I'll pass the call on to Mr. Raul Jacob.

Thank you very much, Victor. Good morning, everyone, and welcome to Southern Copper Corporation First Quarter of 2022 Results Conference Call. At today's conference, I'm accompanied by Mr. Oscar Gonzalez Rocha, Southern Copper's CEO and Board member. In today's call, we will begin with an update on our view of the copper market. We will then review Southern Copper's key results related to production, sales, operating cost, financial results, expansion projects, and ESG. After this, we will open the session for questions. Now let's focus on the copper market, the core of our business. In the first quarter of this year, the London Metal Exchange copper price increased from an average of $3.85 per pound in the first quarter of 2021, up to $4.53 per pound, which is an 18% price increase. Currently, we're seeing prices in the range of $4.30 to $4.40 per pound, which remains higher than the 2021 average of $4.23 per pound. Those are positive indicators for the company. We believe the following factors are influencing the market. Firstly, we assume that demand will grow between 2% to 2.5% this year, particularly in terms of copper consumption in the U.S. An economic slowdown is expected in China due to recent COVID-19 outbreaks. Regarding supply, we understand that uncertainty regarding future production growth in Chile and Peru, which together represent 40% of the world supply of copper, is affecting the market. Chile registered a production drop of 7% in the first quarter of this year. While in Peru, 13% of its production is currently at risk due to social conflicts in Iquitos. In addition to these supply disturbances, Russia's copper supply, which is about 400,000 tons per year, has been shut out of the market due to the invasion of Ukraine. Considering these factors, the most relevant market in Peru is expecting a market deficit this year of about 100,000 tons for copper. Looking at our production profile, copper represented 78% of our sales in the first quarter of this year. Copper production registered a decrease of 10% compared to the first quarter of 2021 and reached 214,480 tons this quarter. This was attributable to the effect of the stoppage at Cuajone, which led production to fall 15,278 tons from the level reported in the same quarter of 2021. In addition to the Cuajone event, we experienced temporary reductions in production at our Toquepala and La Caridad mines due to lower ore grades and recoveries. These results were partially offset by higher production at Buenavista. Let me focus on the Cuajone stoppage that affected us during the past quarter. On February 28 of this year, a minority group of approximately 17 individuals from the community of Tumilaca, Pocata, Coscore, and Tala, which is one community with four names comprising 472 members, seized the facilities at the Viña Blanca water reservoir and cut off the water supply to about 5,000 people living in Cuajone, which also affected the Cuajone operations. Prior to this illegal action, on February 18, the railway between Cuajone and Ilo was also blocked by a group of about 20 community members. After several weeks and attempts by the authorities to restore order through dialogue, on April 20, the Peruvian government declared a state of emergency in the Moquegua region. On April 21, the protesters returned the facilities of the Viña Blanca water reservoir and the railway to the company. Our personnel immediately evaluated the damage caused by acts of vandalism and took the necessary steps to resume production at the Cuajone mining unit. As of today, the industrial railroad and the Cuajone mine concentrator and related facilities are operating at full capacity. This past Saturday, on April 30, the Peruvian government issued a Ministerial Resolution to set up a three-party round table, including representatives of the state, community, and the company to establish a dialogue to better understand all parties' concerns. The recognition of the fundamental rights of our employees and their families to safe drinking water and the fact that a formal dialogue process with the communities will shortly begin bodes well for a satisfactory solution to all concerns. For 2022, we expect to produce 895,800 tons of copper, which represents a decrease of 2.8% compared to the earlier 2022 plan. Our initial plan for copper was set at 922,000 tons. Annual production will continue to be affected by the stoppage at Cuajone and the temporary reduction in ore grades and recoveries at our Peruvian operations. We expect our copper production to bounce back in 2023 to around 971,000 tons as we get Peruvian production back on track and generate new production through our projects at Pilares and Buenavista in zinc concentrate. For molybdenum, it represented 10% of the company's sales in the first quarter of this year and is currently our first by-product. Molybdenum prices averaged almost $19 per pound in the quarter compared to $11.19 during the same quarter last year, representing a significant increase of about 70%. Molybdenum production decreased by 1.5% in the first quarter, mainly driven by a decrease in production at both the Cuajone and La Caridad mines due to lower grades, while these results were partially offset by higher production at Buenavista and Toquepala. We believe that prices for molybdenum will be supported by lower exports from China, which is also affected by an uptick in delivery times and port congestion. We believe these factors will help maintain prices at favorable levels through 2022. Silver represented 3.8% of our sales value in the first quarter of this year, with an average price of $24.05 per ounce in the quarter, a decrease of 8.5% from the same period of 2021. Silver is currently our second by-product. Mined silver production decreased by 13.4% in this past quarter after production fell at Cuajone by 35%. We also saw a reduction in silver production from Toquepala, IMMSA, and La Caridad, although all reductions were partially offset by an increase in production at the Buenavista mines. Refined silver production increased 7% in the first quarter, mainly due to an increase in production at our La Caridad refinery. Looking into our zinc sales, they represented 3.6% of our total sales value with an average price of $1.70 per pound this quarter, reflecting a 36% increase in sales. Zinc mine production decreased by 10.6% quarter-on-quarter, totaling 14,726 tons, primarily driven by lower production at Santa Barbara and San Martin and Charcas. Refined zinc production increased by 33.2% in the first quarter, mainly explained by the rebound of refinery production after some incidents affecting our refinery at the beginning of last year. We're now back at full operating capacity at the San Martin and San Luis Potosi refinery. Looking at our financial results, sales for the first quarter of this year were $2.8 billion, which is $231 million higher than sales for the first quarter of 2021, or a 9.1% increase. Copper sales volume decreased by 13.4%, while the value increased 1.8% due to better prices. For instance, prices increased by 18%. Regarding our main by-products, we reported higher sales of molybdenum, which increased by 63% due to better prices, although this was partially offset by a decrease in volume. We have an uptick in zinc sales of 176% due to better prices and volume. In the case of silver, we saw a decrease in sales of 24% due to lower prices and volume. Our total operating cost and expenses increased by $112.8 million or 9.6%. The main cost increment has been due to local currency appreciation, purchased copper, diesel, fuel, operating and repair material, explosives, and exploration costs. These cost increases were partially compensated by lower inventory consumption and workers' participation. In the first quarter of 2022, our adjusted EBITDA was $1.678 billion, which represented an increase of 8% compared to the $1.554 billion registered in the first quarter of 2021. The adjusted EBITDA margin was 60.7%, slightly lower than the 61.4% we had in the same period of 2021. For cash costs, the operating cash cost per pound of copper before by-product credits was $1.83 in the first quarter of this year, which is $0.01 lower than the value for the fourth quarter of last year at $1.84. This decrease in operating cash cost is a result of lower costs per pound from treatment and refining charges, higher premiums, and was partially offset by increases in production costs and administrative expenses. Southern Copper's operating cash cost, including the benefit of by-product credits, was $0.56 per pound in the first quarter of this year, which was $0.20 lower than the cash cost of $0.76 in the fourth quarter of 2021. Regarding by-products, we had a total credit of $583.5 million or $1.27 per pound in the first quarter. These figures represent an 18% increase when compared with $539 million or $1.08 per pound for the fourth quarter of last year. Total credits have increased for zinc, silver, and sulfuric acid and decreased for molybdenum when comparing the first quarter of this year to the fourth quarter of 2021. Net income in the first quarter of 2022 was $784.7 million, representing a 2.7% increase compared to the $763.8 million registered in the first quarter of 2021. The net income margin in the first quarter of this year was 28.4% versus 30.2% in the first quarter of last year. Cash flow from operating activities in the first quarter was $820.7 million, which represented an increase of 5% over the $782.6 million posted in the first quarter of 2021. This improvement was attributable to strong cash generation at our operations resulting from higher sales and cost control efficiencies. Looking into our CapEx investments, Southern Copper's investment philosophy is not based on the outlook for copper prices but on the quality of the assets that we operate and develop. Throughout the years, our strong financial discipline has consistently allowed us to make ongoing investments in our substantial asset portfolio. In the first quarter of this year, we spent $205 million on capital investments, reflecting an 11.8% decrease compared to the same period of 2021. This quarter's CapEx represented 26.1% of our net income for the year. Looking at our Peruvian projects, our current portfolio for projects approved in Peru totals $2.8 billion, of which $1.6 billion has already been invested. If we include the upcoming Michiquillay $2.5 billion investment and Los Chancas $2.6 billion projects, our total investment program in Peru reflects a commitment of $7.9 billion. For the Tia Maria project located in the Arequipa region in Peru, Southern Copper has been consistently working to promote the welfare of the population of the Islay province. As part of these efforts, we have implemented successful social programs in education, healthcare, and productive development to improve the quality of life in the region. We have also promoted agricultural and livestock activities in the Tambo Valley and supported growth in manufacturing, fishing, and tourism in Islay. We reiterate our view that the initiation of construction activities at Tia Maria will generate significant economic opportunities for the Islay province and the Arequipa region. Given the current economic situation in Peru, it is crucial to move ahead on projects that will stimulate a sustainable growth cycle. We will prioritize hiring local labor to fill the 9,000 jobs that we expect to generate during the Tia Maria construction. When operating, we expect Tia Maria to directly employ 600 workers and indirectly provide jobs to another 4,200. Additionally, from the very first day of our operations, we will generate significant contributions to revenues in the Arequipa region via royalties and taxes. Los Chancas in Apurimac is a greenfield project located in this region of Apurimac in Peru. It's a copper and molybdenum porphyry deposit. Current estimates of indicated copper mineral resources are 98 million tons of oxides with a copper content of 0.45% and 52 million tons of sulfides with a copper content of 0.59%. The Los Chancas project envisions an open-pit mine with a combined operation of concentrator and SX-EW processes to produce 130,000 tons of copper and 7,500 tons of molybdenum annually. In the first quarter, we continued to engage in social and environmental improvements for the local communities and work on the project's environmental impact assessment. For the Michiquillay program, Michiquillay is a world-class mining project with inferred mineral resources of 2.3 billion tons with an estimated copper grade of 0.43%. When developed, we expect Michiquillay to produce 225,000 tons of copper per year along with by-products of molybdenum, gold, and silver for an initial life mine of 25 years and a competitive cash cost. We estimate that an investment of approximately $2.5 billion will be required for Michiquillay, and we expect production to start by 2028. Michiquillay will become one of Peru's largest copper mines and will create significant business opportunities in the Cajamarca region, generating new jobs for local communities and contributing taxes and royalties to local, regional, and national governments. The social agreement signed last year with the Michiquillay and Encañada communities represents an opportunity to improve the quality of life of the residents of these communities via our strong social programs and backed by a social framework for technical work at the project level. These events are important steps that will allow Southern Copper to initiate an in-depth exploration program in the second quarter of this year. For the Mexican projects, we have the Buenavista zinc concentrator in Sonora. This project is located within the Buenavista facility and includes the development of a new concentrator to produce approximately 100,000 tons of zinc and 20,000 tons of copper per year. We have completed the engineering study, and procurement has progressed 99% at all the main equipment, which is on site. Construction site works are in progress. The project has all the necessary permits, and the capital budget is $413 million. As of March this year, we have invested $240.5 million in this project. We expect to initiate operations in the second half of 2023. The Pilares project is located 6 kilometers from our La Caridad mine, also in Sonora. This project consists of an open-pit mine operation with an annual production capacity of 35,000 tons of copper in concentrate. A new 25-meter wide off-road facility for mining trucks has been built and will be used to transport the ore from the pit to the primary crushers at the La Caridad copper concentrator. This project will significantly improve the overall mineral ore grade of the concentrator at La Caridad. We will achieve this by combining the 0.78% expected ore grade from Pilares with the 0.34% from La Caridad. The budget for Pilares is $159 million, of which we have invested $79.5 million as of March of this year. The project has obtained all permits and licenses required, and we expect to begin production in the last quarter of 2022. El Pilar is a low capital intensity copper greenfield project, strategically located in Sonora, Mexico. It's approximately 45 kilometers from our Buenavista mine. Its copper oxide mineralization contains estimated proven and probable reserves of 317 million tons of ore with an average copper grade of 0.25%. We anticipate that El Pilar will operate as an open-pit mine with an annual production capacity of 36,000 tons of copper cathodes. This operation will utilize highly cost-efficient and environmentally friendly SX-EW technology. The budget for El Pilar is $310 million. We expect production to begin in 2024, and the mine life is estimated at 13 years. The results from the experimental pads in the leaching process have confirmed adequate levels of copper recovery. The basic engineering study is finished, and the company continues to develop the project and conduct site environmental activities. El Arco, located in Baja California, is a world-class copper deposit located in the central part of the peninsula of Baja California. It has reserves of over 1,230 million tons with an average ore grade of 0.40%. It also has 141 million tons of leach material with an ore grade of 0.27%. The project includes an open-pit mine combining concentrator and SX-EW operations. Annual production is expected to total 190,000 tons of copper and 105,000 ounces of gold with an estimated capital budget of $2.9 billion. The company has started the baseline study and is reviewing the basic engineering analysis to request environmental impact permit. Several years ago, we began to acquire the rights to all relevant mining concessions in the area, completing this process in 2020. Southern Copper is committed to improving its ESG record, which stands for environmental, social, and governance, by adopting best practices and informing the investment community and other stakeholders about our progress in these matters. In line with our sustainability strategy, we've registered ongoing improvement in our main sustainability indicators. In terms of safety, we reduced the accident rate of our personnel and contractors by 22% in the last three years. For environmental indicators, we reduced our Scope 1 and 2 greenhouse gas emissions by more than 10% and improved the efficiency of freshwater consumption in the concentrator by 4% over the period. In social matters, the population served through our community programs has tripled, and we continue to strengthen the mechanisms for listening to and addressing concerns. To provide certainty to our investors and stakeholders, we present our progress regarding third-party validation of our environmental and social practices. Efforts to certify our occupational health and safety management systems and in the international standard ISO 45001, as well as our environmental management systems under ISO 14001, are underway at all of our mining units. In the first quarter of this year, the Santa Barbara and San Martin mines obtained ISO 45001 certification. And the Caridad mine and the Lime Plant in Sonora, ISO 14001 certification. Regarding our climate change management in 2021, Grupo Mexico rose 2 levels in the evaluation of the carbon disclosure project, moving from Level C to Level B, which positions the company above the average for the sector and region. The communities surrounding our operations in Peru comprise dozens of small towns that live between the high Andean desert region and the coast. We continue to address the needs and challenges relative to the water supply, education, and employment. Investments in infrastructure for water supply stand out, representing 70% of the $93.6 million invested in the last 10 years. In the first quarter of this year, we completed the construction of the Cularjahuira dam located in the province of Candarave, in the area of influence of our Toquepala mine. This facility will supply 2.6 million cubic meters of water to irrigate 500 hectares of agricultural land and will directly benefit 585 local families. Regarding dividends, as you know, it is company policy to review our cash position, expected cash flow generation from operations, capital investment plans, and other financial needs at each Board meeting to determine the appropriate quarterly dividend. Accordingly, as announced to the market on April 28, the Board of Directors authorized a cash dividend of $1.25 per share of common stock. This is payable on May 31 to shareholders of record at the close of business on May 17, 2022. Ladies and gentlemen, with these comments, we would like to end our presentation today. Thank you very much for joining us, and we would now like to open up the forum for questions.

My first question is regarding Cuajone. Could you clarify what communities stopped the operation? Is it likely that we can find a sustainable solution to the conflict, given the current situation? Also related to this topic, the cost performance was quite good, so positively surprising given what happened in the last month of the quarter. What are the prospects for cost and potential impacts from the Cuajone stoppage in the second quarter? Finally, looking at the long-term perspective, how is the company seeing the development of Los Chancas and Michiquillay projects in light of the negative experience and the challenges the company has seen in Cuajone?

Thank you very much for your questions, Carlos. Regarding the Cuajone conflict, the community indicated that the company has been operating lands that were property of the community, and they want compensation for that. They are requesting a compensation of $5 billion in U.S. dollars for the use of this land, claiming that it goes back to the second half of last century. As far as we understand, and we have all the titles to prove it, they are wrong; the company has been operating on state land. Just to clarify, in 1969, we signed a contract with the Peruvian government at that time, and the concessions to operate and open the Cuajone mine were given by the government on state-owned lands. We have all titles in order to prove it, and we believe that we will explain this situation to the local community. Concerning the cost performance and impact due to the Cuajone stoppage, we have lost some copper production to the Cuajone stoppage, which started on February 28 and went through April 21. We estimate about 30,000 tons of additional production was lost in the second quarter due to this stoppage, which will certainly affect our production profile. We have been using copper concentrate from a local supplier to supplement production from Buenavista. Our expectation for cash costs is stable. We have a very strong cash cost position due to by-products. We may see an impact on total costs due to the purchases of copper concentrate made from our Buenavista production, but that will be an intercompany transaction. Ultimately, we expect to maintain our cash costs where they are now.

Does this also apply to cash costs before accounting for by-products?

Yes, indeed. It should improve as we achieve production levels. As previously stated, we lost production in Peru that I mentioned over the two quarters, but we expect to recuperate our production level this month. Since approximately April 24, we resumed operations at full capacity in Cuajone. Therefore, just a few days in April were affected, and we return to normal in May and June.

How does this impact your outlook for Los Chancas and Michiquillay?

For Los Chancas and Michiquillay, we believe there’s no connection between the recent Cuajone issues and those projects. In Michiquillay, we signed social agreements with the two communities involved, and Cajamarca is a mining region with a trained workforce. We thus have no significant concerns at this point. For Los Chancas, we are currently working on the necessary environmental studies and believe we will stay on schedule for development.

I have two different questions here. Regarding capital allocation, would you consider any M&A on zinc in Peru, or any other opportunities relating to copper to accelerate growth rather than executing those big projects? Secondly, about the volume outlook for the second quarter, should we expect lower sequential volumes due to Cuajone, or do you think you'll make it up for the quarter?

Regarding the second quarter, we are estimating a loss in production of 13,000 tons due to Cuajone. However, we hope to partially catch up on this loss. Our goal for the year was initially 922,000 tons, and we’re now expecting about 895,000 tons for 2022, accounting for the impacts we’ve discussed.

On ore grades and recovery rates, how should we consider the upcoming quarters? Any improvements?

Regarding ore grades, we're performing somewhat better in Mexico, particularly at Buenavista. However, for the Peruvian operations, we project a temporary reduction in ore grades for Cuajone and Toquepala. For this year, we expect only slight improvements in these areas due to our current stripping plans in both locations.

Regarding your M&A ideas for zinc or copper, are you actively looking into opportunities in Peru?

To be straightforward, no, we are not pursuing anything specific in these two metals in Peru. However, if a good opportunity arises, we will evaluate it and make recommendations to our Board.

Can you confirm your total production outlook for the year?

Yes, our production goal for the year is 922,000 tons, but due to the Cuajone issues, we now expect 895,000 tons. We still expect improvements as the year progresses.

I wanted to ask about the project pipeline. I think we noticed that Pilares has moved out to the fourth quarter from the second-half guidance initially provided. What is causing these delays?

In terms of Pilares, we are acquiring mining equipment, and we've faced delays in delivery times primarily due to COVID-related issues. For Buenavista, we've developed a better understanding of the work required, leading us to adjust the timelines to the end of the year.

What efforts are being made to keep costs down in the face of rising expenses?

Prices for materials related to the steel industry are where we're experiencing significant price increases. Fortunately, labor costs and electricity remain stable for us. For many years, we've implemented various programs to mitigate the cost impact of operations. For instance, we've replaced truck haulage with conveyor belt transportation, which helps control costs. We are also utilizing high-pressure grinding roll technologies in our operations to facilitate faster milling, thus achieving cost savings. By using established methods and new technology, we are effectively managing costs.

Have you noticed a significant increase in poverty levels in your communities recently, not among your employees, but among the others in the towns due to rising energy and food prices? Can the government address these issues when encountering an economic shock?

The direct answer is yes, we are seeing challenges due to COVID-19 and the inflation affecting many ingredients consumed. Communities are understandably upset, and there are governmental roles to address these issues. We are initiating a dialogue with communities impacted by conflicts and remain hopeful for a good relationship moving forward.

Could you provide an update on the labor situation at La Caridad? There have been articles mentioning union demands for workers’ compensation aligning with prior years. Is this a similar case at Buenavista?

We are aware of the workforce concerns across mining operations in Mexico. Currently, we have a biannual review of salaries and working conditions, and we trust that this matter will progress smoothly. We have not experienced any strikes since resolving past issues.

Next question, what can you tell us about your CapEx plans, specifically regarding the potential for inflationary pressures?

In an inflationary environment, higher fuel costs are expected to impact equipment costs. But specifically discussing ongoing projects, we believe that our reported CapEx will remain consistent. We're closely monitoring developments, but we have already secured most of the equipment necessary for the Buenavista zinc project. So, any cost increases are still within budget.

Are you downgrading your CapEx expectations or spend for this year? I thought the guidance was around $1.5 billion.

We have slightly reduced our budget expectation from $1.542 billion to $1.481 billion for this year. This reallocation allows for the growth potential due to increased revenues, especially in by-products whether copper or molybdenum.

What will the profile of the CapEx spend look like? Should we expect it to be weighted more towards the second half?

Most spending will go toward ongoing construction projects throughout the year, though some equipment replacements will trend towards the latter part of the year, as is common.

I turn the call back over to the speakers for closing remarks.

Thank you very much, Victor. With this, we conclude our conference call for the first quarter of 2022 results. We certainly appreciate your participation and hope to have you back with us when we report the second quarter results. Thank you very much, and have a wonderful day.

This concludes today's conference call. Thank you for participating. You may now disconnect. Everyone, good day.