Earnings Call: Q4 2014

Mar 13, 2015

Good evening, and welcome to the Fortuna Silver Mines 2014 year-end earnings conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Carlos Baca, Investor Relations Manager. Thank you. You may begin. Thank you, Christine. Good morning, ladies and gentlemen. I would like to welcome you all to Fortuna Silver Mines and to our 2014 year-end financial and operations results call. Jorge Alberto Ganoza, President and CEO, and Luis Dario Ganoza, CFO, will be hosting the call from Lima, Peru. Before I turn over the call to Jorge, I would like to indicate that this earnings call contains forward-looking information that is based on the company's current expectations, estimates, and beliefs. This forward-looking information is subject to a number of risks, uncertainties, and other factors. Actual results could differ materially from a conclusion, forecast, or projection in the forward-looking information. Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information. Additional information about the material factors that could cause actual results to differ materially from the conclusions, forecast, or projection in the forward-looking information and the material factors or assumptions that were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information is contained in the company's Annual Information Form, which is publicly available on SEDAR. I would now like to turn the call over to Jorge Ganoza, President, CEO, and Co-founder of Fortuna. Thank you, Carlos, and good morning to all. I'll be sharing with you the highlights of the year and with the assistance of Luis, who will be showing operating performance, good financial results, and a positive decision for a third expansion of our San Jose mine, with construction taking place in 2015 and through the first half of 2016. With this expansion, Fortuna will be in a position to target a consolidated annual production of 8.5-9 million ounces of silver and 50,000-55,000 ounces of gold annually starting in mid-2016. For 2014, the company produced 6.5 million ounces of silver and 35,000 ounces of gold, up 42% and 66% when compared to 2013. Measured against our guidance, silver and gold production were up 10% and 9% respectively. The driver for the year-over-year production growth was the expansion of our San Jose mine, commissioned at a rate of 1,800 tons per day in September 2013 and expanded yet again in April 2014 to a current rate of 2,100 tons per day. For the year, precious metals accounted for 83% of sales, silver representing 64% and gold 19%. The balance is made of by-product lead and zinc from the Caylloma mine. Both our Caylloma and San Jose mines operated consistently with plan during the year, San Jose at an average rate of 2,000 tons per day and Caylloma at 1,300 tons per day. At San Jose, we processed 677,000 tons at an average grade of 226 grams per ton silver and 1.72 grams per ton gold, resulting in 4.4 million ounces of silver and 33,400 ounces of gold. Production is 11% and 10% above guidance for silver and gold, respectively. Guidance for 2015 is for 4.3 million ounces of silver and 33,000 ounces of gold. At Caylloma, we processed 464,830 tons at an average grade of 174 grams per ton silver, 2.97% zinc, and 1.7% lead, resulting in 2.2 million ounces of silver, 27.3 million pounds of zinc, and 16.1 million pounds of lead. Silver production at the Caylloma mine was 8% above guidance, and for 2015, we're guiding 2.2 million ounces of silver. Costs at our mines remained well under control in the year. Looking at costs per ton, at San Jose, we achieved $63, down from $71 in 2013. At Caylloma, we achieved $19.60, essentially in line with the previous year. For the year, our consolidated all-in sustaining cost net of by-products was $14.50 per ounce of silver and $12.50 for the quarter. Cost was significantly below the previous year at $20.45 and well below guidance at $17. For 2015, we have provided guidance of $16.60. This figure carries items related to sustaining capital projects we have decided to accelerate and bring forward in the life of mine due to the San Jose expansion. All-in sustaining cash cost for the year at the San Jose Mine was $12 and $9.40 for the quarter. This compares positively against $15.89 and $10.70 respectively from the previous year, and against $14 in our guidance for the mine. 2015 guidance is for $16, again, impacted by sustaining capital items being accelerated due to the expansion of the mine. The main driver for our cost reductions has been higher metal output against the previous year and also against budget due to higher grades. At Caylloma, all-in cost was $14 for the year and $14 for the quarter, well below guidance of $17 for the year and $20.80 from the previous year. 2015 guidance at the Caylloma Mine is for $12.78. For the past two years, we have been identifying opportunities and taking actions to improve productivity, reduce costs, and focus capital allocation to high-return projects only. These measures included corporate staff reductions of 53% over the last two years, mine staff reductions of 10% over the last two years, exploration cuts, optimization of mine plans to a new price environment, among others. The combined gross reductions amounted to an estimate of $6 million over the past two years. In the fourth quarter, we have approximately $1.1 million in restructuring costs related to the measures described. For 2014, we executed capital projects of $38.9 million, $29 million at the San Jose Mine and $10 million at Caylloma. This is in line with our guidance of $40 million for the year. The largest single project was a tailings dam expansion at the San Jose Mine, budgeted and executed for $11 million. For 2015, our capital budget has already been provided to the market as part of our guidance. The figure is $70.6 million. The allocation is $56.5 million to the San Jose Mine and $14 million to the Caylloma Mine. The $56 million San Jose figure breaks into $28 million for long-term tailings disposal projects, which includes a tailings filter facility and dry stack deposit, $12.5 million for the 3,000 tons per day expansion. This expansion has a total budget of $32 million, the balance of which will be executed in the first half of next year. $15.5 million split between exploration, mine development, and other sustaining capital items. The expansion project is advancing according to plan. We are concluding with basic engineering and advancing with detail engineering. All major equipment are defined and in the bidding process, and we reiterate our target to commission the expansion in June, July of 2016. At Caylloma, the $14 million budget includes $4 million allocated to plant optimization. Our plan and expectation is to improve silver recovery from the current 84%-85%, to an improved 88%, and gain additional 10% in throughput capacity by improving lead flotation circuits and implementing high-frequency sieving instead of hydrocyclones for separation. Moving on to exploration. As part of the capital budget, for 2014, the company executed $6.8 million in brownfields explorations in 2014, which covered 26,800 meters of core drilling at the San Jose Mine and 2,400 meters of drilling at Caylloma. For 2015, the $70.6 million capital budget previously mentioned includes $4.1 million for brownfields explorations, with $3.5 million allocated to San Jose, which will cover a plan to drill approximately 12,000 meters in the year. The success of our exploration programs is highlighted by the latest publication of annual resources and reserves. Contained silver ounces in proven and probable reserves increased 14% to 41 million ounces silver and contained gold increased 7% to 252,000 ounces. Contained silver ounces in our inferred resources increased 31% to 77 million ounces and contained gold increased 30% to 483,000. With that, I will conclude, and I will ask Luis to give us a run through the financial results. Thank you, Jorge. For 2014, we recorded net income of $15.6 million or $0.12 per share, compared to a net loss in 2013 of $19.1 million, where the loss was related to an impairment charge at the Caylloma Mine. Adjusted net income was $15.7 million in 2014, compared to $9.6 million in 2013. The driver for the improved performance was a higher metal production accompanied by higher margins in spite of a lower price environment. Realized silver price on our provisional sales was $18.90 per ounce, 20% below 2013. Sales for the year were $174 million, 27% above 2013, driven by higher silver sold of 45% and higher gold sold of 70%. The significant rise in metal sold is, in turn, the result of the expanded throughput at the San Jose Mine of 48% year-over-year. Mine operating income for the year was $60.20 million, 44% above 2013 as a result of higher sales and improved margins. Our gross margin increased from 30% in 2013 to 35% in 2014 as a result of higher head grades and lower unit costs at the San Jose Mine, which more than offset the negative impact from lower silver and gold prices. Selling, general, and administrative expenses were $25.2 million. That's $5.5 million above 2013. The breakdown on this item is provided on page 15 of our MD&A. Most of the increase was explained by a higher stock-based compensation charge of $3.7 million, related in turn to mark-to-market effects from the performance of the share price throughout the year. The total stock-based compensation charge was $6.7 million in 2014 compared to $3.2 million in 2013. Outside of the stock-based compensation, the SG&A expense was $18.5 million. Moving forward, we should expect an amount in the range of $16-$16.5 million on an annual basis. A restructuring charge of $1.1 million was recorded in the fourth quarter of 2014 related to cost reduction initiatives undertaken in the latter part of the year. Operating income was $33.7 million, which represents 19% of sales, and our effective tax rate for the period was 53%. As far as the fourth quarter goes, net income was $0.1 million. The fourth quarter results reflect the negative impact of a lower silver price as we realized $16.30 per ounce, compared to between $19 and $20 per ounce over the previous quarters. Fourth quarter was also impacted by the restructuring costs, I mentioned already, and an abnormally high effective tax rate due to, among other things, the volatility that the foreign exchange brings into the deferred tax calculation. Moving on to the cash flow statement, total cash from operations before working capital and after taxes paid was $59.8 million. That's 46% above 2013. We need to point out that we incurred current income taxes in the year of $13.5 million, but paid out only $3.4 million, as 2014 was the first year we incurred income tax at our Mexican operation and no tax installments throughout the year were yet due. Finally, our total cash balance, including short-term investments for year-end 2014, was $77.2 million, an increase of $28.2 million over year-end 2013. Thank you. Back to you, Carlos. Thank you, Luis. We would now like to turn the call over to any questions that you may have. Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. Once again, if you would like to ask a question, press star one on your telephone keypad at this time. One moment while we poll for questions. Thank you. Our first question comes from the line of Benjamin Asuncion with Haywood. Please proceed with your question. Good morning, guys, and congratulations on the quarter. I just have three quick questions here. Just touching on, Luis, on the taxes. The $9.7 million, that will be paid, I guess, just from a timing perspective, that's Q1. Is that correct? Yes. Okay. Would you be paying an additional sort of prepayment or installment for your 2015 year, or is that the only related tax? That is correct. Okay. Starting in 2015, we will see taxes paid throughout the year as part of regular tax installments or prepaid income tax, right, throughout 2015. Yes. Okay, perfect. Just touching on the capital program at Caylloma. Jorge, you're mentioning, I guess two things, the improvement in recovery to about 88% on the silver side and the optimization of throughput. Could you give us a sense of timing on how that would unfold throughout the year or when we should start to anticipate some of those results to filter through? We expect to conclude that project by year-end. It's not a complicated nor major infrastructure project. We're currently working on granting the detailed engineering or EPC to a local firm. We already advanced placing orders for the high-frequency screens. We expect to be concluded with that project before end of the year. For 2016, we should start feeling the positive impact of improved recoveries and 10% higher throughput, which are our targets. Okay, perfect. Just lastly, San José. Can you walk us through, in terms of the underground drilling, where you're at now and, I guess, timelines for results, in addition to any update on the surface drilling with regards to land access to test for further extensions to the north? Yes. With respect to the drilling, we continue drilling, working with 2 rigs on Trinidad North from the underground drill stations developed last year. We are advancing well with the program. I want to provide a figure for the meterage. We're well advanced, roughly around 3,000 meters of the 12,000-meter program up to now. We expect to be publishing results in the coming weeks. We are advancing with that. We have identified an opportunity with a parallel vein system called La Noria to the west of the Trinidad area where we're working. That's an area we're excited about as well. We will be providing results as they come from the surface mapping and surface sampling. That's another area where we would expect to be drilling by mid-year. That's a new area. We have access and permits to carry work there. So far, we're just working through environmental permits for the drilling. We have initiated that process and all of that good stuff. With respect to the permits from Magdalena, we have not gained their permits yet. We're getting into election season in Mexico. We would expect that to play a factor in further delays from the perspective of gaining surface access in the town of Magdalena. With other communities, we're making advances. Like I mentioned, we're currently conducting surface mapping and surface sampling on La Noria system, which is roughly two kilometers due west from where we're mining. It's a different community. We got the permits from them. Magdalena, that will still have to wait. We're working, but as you can imagine, it's a process. Okay. Sorry, just one last follow-up then. The underground drilling at San Jose, this is from the same drill station that we saw in the last results. Is that correct? Or is this a sort of a further step out on the underground drift? We have four underground drill stations. Mm-hmm. We have the first set of two from which we drilled most of last year. Mm-hmm. Towards the end of last year, we concluded two new drill stations from where we are drilling now. Probably some of the results we provided last time were coming from the new drill stations. Okay, perfect. Thank you very much. Thank you. As a reminder, if you would like to ask a question, press star one on your telephone keypad. One moment please while we poll for additional questions. It appears we have no further questions at this time. I would now like to turn the floor back to management for further comments. Okay. I would like to thank everyone for listening to today's earnings call. We look forward to you joining us next quarter. Have a good weekend. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.