Argonaut Gold Inc

TSX:AR

Earnings Call Transcript 2018-Q2

[Operator]

Good morning. My name is Michelle, and I will be your conference operator today.At this time, I would like to welcome everyone to Argonaut Gold's Second Quarter Results Conference Call. [Operator Instructions]I would now like to turn the call over to Mr. Pete Dougherty, President and CEO of Argonaut Gold. You may begin your conference.

[Peter C. Dougherty, President, CEO & Director]

Thank you, Michelle, and welcome, everybody, to Argonaut Gold's Second Quarter Financial and Operating Results Conference Call and Webcast.I have with me today the entire management team. Before we get going on the formal presentation, I'd like to draw your attention to the photo on the title slide of the presentation.This is a photo taken in July of our El Creston pit at our La Colorada mine, where I'm happy to report that we are back to blasting material. We will discuss some of the impacts of this temporary suspension [Audio Gap] of the explosives permit later in the presentation. But I wanted to point out that we are back in action and everything is ramping up well.Please turn to Slide #2. During this presentation, we will be making forward-looking statements based on our best knowledge as of today. Please note that we cannot predict the future with 100% accuracy. What is shown is based upon management's best information at this time.Please turn to Slide #3. This morning, we will provide an overview of the quarter, and then we will take a deeper dive into some of the financial and operating highlights. Towards the end of the presentation, I would also like to spend some time looking ahead to the balance of this year and beyond.Please turn to Slide #4. Given that we had one of our mines, the La Colorada operation, which was slated to represent nearly 1/3 of our annual production, lose the ability to blast material for basically the entire quarter, I am very pleased that we were able to show a positive cash increase of $1.5 million during the quarter.Under the circumstances, we had a solid quarter financially and produced more than 38,000 gold equivalent ounces.In Q2 of 2018, versus Q2 of 2017, production was up 30%. Cash costs were down 10% and all-in sustaining costs were down 8%, primarily due to the ramp-up of our low-cost, San Agustin mine with the -- within the El Castillo complex.We also made solid progress on both our short-term and long-term growth initiatives during the quarter. And recently, we continue to see outperformance at our San Agustin mine, with its quarterly crushing capacity and throughput of 24% above nameplate.At the El Castillo operation, you will remember we completed a CR2 crusher expansion during Q1. This was to increase throughput from 20,000 tonne per day to 29,000 tonne per day. This ramp-up is underway and should lead to a stronger second half at El Castillo.We also continue to de-risk our development projects. At the Magino project, we continue to advance the environmental assessment process. I'm happy to announce that early in Q2, we signed our third indigenous agreement to date with the execution of a Community Engagement Agreement with the Métis First Nation of Ontario. At the Cerro del Gallo project, we initiated drill program for metallurgical testing, work and samples, as we will be progressing with this metallurgical work during the second half of the year at this project.Perhaps, most importantly, before we leave this slide, I would like to recognize everyone in our organization for their commitment in continuing the high standard of work.For the seventh consecutive year in a row, our -- at our La Colorada operation, we were recognized as an environmentally, socially responsible company. At the El Castillo complex, given this is our first year, we are being recognized as a environmentally, socially responsible company here. Individually, this represents the sixth consecutive year of recognition at the El Castillo line. We are proud of this recognition, and will continue to operate our business in the same manner with the same core values that we have over the past several years.Please turn to the next slide, Slide #5, financial performance. Most of this page is very positive as indicated by the year-over-year and quarter-over-quarter performance we shared earlier.Net income was affected by changes in foreign currency translation exchanges during the quarter, as the Mexican peso weakened. On an adjusted basis, taking out this foreign exchange effect, the company was up 100% quarter-over-quarter on earnings and year-over-year, up 66%. We generated $17 million worth of cash flow from our operations during the quarter, representing a 26% improvement year-over-year. During the first half of the year, we generated $38 million in cash flow, up 34% over 2017.Revenue during the quarter is up 18% as compared to last year, with only a 3% increase in gold price, representing the increase in overall production performance for the company.Please turn to Slide #6. Q2 2018 capital spending, cash flow and liquidity. To me, the most important item on this slide is the cash balance. Despite the obvious challenges we experienced during the quarter, we still managed to add cash to our balance sheet therein. This positive cash flow was accomplished while continuing to invest in our existing projects.During Q2, capital spending was $9.4 million, with the bulk of this dedicated to investment in heap leach pad expansion at all 3 of our projects.As we turn to the next slide, Slide #7, we will discuss the importance and the timing of these leach pad expansions. We would also like to note that we have eliminated nearly $10 million from our full year capital estimate and are now guiding between $40 million and $45 million in capital spending for the year.Of this, $20 million has been spent through June 30 of the year. This change is primarily an elimination of capitalized stripping at the La Colorada operation, which is now recognizing these costs in our operating cost.Please turn to Slide #7, leach pad construction. Here you can see the 4 quadrants or 4 pictures of the various leach pads and their phases of construction and their representative completion dates.We'd like to try and get our leach pad expansions completed during the first half of the year, before the rainy season. And as you can see here that we were successful in doing so this year. Another very important reason for the early building of pads is flexibility; Bill Zisch, our COO, will touch on this momentarily. I will now pass the call to Bill Zisch, our Chief Operating Officer, and have him provide an overview of the operations during the quarter. Bill?

[William M. Zisch, Chief Operating Officer]

Thanks, Pete, and hello, everyone on the call today. We continue to see strong results at San Agustin, with crusher throughput exceeding nameplate capacity by 24% during the quarter.At El Castillo, the timing of recoveries was impacted during the first half of the year as the height of the heap leach pads delayed the timing of solution breakthrough to the pad. Also, it is taking longer than anticipated to get the CR2 crusher up to its nameplate of 14,000 tonnes per day after we completed the expansion project at the end of Q1, primarily related to maintenance issues with the conveying line.I'm confident we will get to 14,000 tonnes per day and are taking the steps necessary to do so. I'll discuss that in more detail in a moment.At La Colorada, we saw only a 6% reduction in production during Q2 this year compared to last year, despite the inability to blast during the quarter. The cash cost per ounce sold for La Colorada increased from $590 per ounce to $833 per ounce. However, on a unit cost or a cost per tonne process basis, we actually experienced a 28% reduction in costs of La Colorada versus Q1 2018, since we were not incurring blasting expenses and had shorter haul distances from the low-grade stockpile.Given the nature of the heap leach recovery cycle, we do expect the low-grade material stack during Q2 to impact La Colorada production during Q3 this year and, likely, the early part of Q4 as well. We will also see higher costs per ounce sold at La Colorada in Q3. The cost associated with ramping back up to normal operations will be incurred during Q3, but production, and therefore, ounces sold will be lower due to lower grades from the stockpiles mine during the Q2 period when we were not blasting. Despite some of the challenges we faced at both El Castillo and La Colorada during the quarter, all of which are now moving in the right direction, the importance of a low-cost operation like San Agustin is clear.On a consolidated basis, our San Agustin quarterly production was up 29% versus Q2 last year, while our costs were down 10%. We expect production at the El Castillo complex to pick up as the year progresses due to increased crushing capacity at El Castillo and the improvements in operational flexibility that I'll discuss on the next slide.Please turn to Slide 9. I'd like to discuss both the challenges we experienced during the second quarter and the solutions we have implemented to overcome these challenges.During the first half of 2018, the vast majority of ore that has been placed on the upper lift -- had been placed on the upper lifts of our leach pads. This results in slower recovery due to longer time for solution to reach the liner. We also experienced equipment availability issues and maintenance-related issues at El Castillo, which hampered productivity during the quarter.The good news is that our operational flexibility has greatly increased with the completion of 2 leach pad projects at El Castillo. We now have a leach pad on both the east and west side of the pit, where each of the crushers' conveying and stacking lines can start stacking ore at the bottom of the pads, which will lead to faster solution breakthrough to the liner.After an economic trade-off in capital and operating costs, and because we will be able to negotiate a favorable contract with the mining contractor that has performed well for us at La Colorada, we have moved the mobile fleet consisting of 6 trucks and 2 loaders from San Agustin to El Castillo and initiated contract mining at San Agustin effective July 1.This will provide us more flexibility in terms of equipment availability El Castillo, which hampered us during the quarter. We also experienced issues with uptime on our conveying line with several grasshopper units, which hampered our ability to achieve our desired stacking rate.I'm confident that El Castillo can and will reach its nameplate capacity of 29,000 tonnes per day following the CR2 crusher enhancement we have completed over the last few months. I'm confident because we have achieved this rate already. We just need to achieve this rate consistently, which has been hampered recently by maintenance issues that led to lower equipment availability. As I have outlined, we have taken corrective measures to solve these issues, so we expect improvements. Although we experienced good performance and impressive quarterly results at San Agustin, we have experienced a challenge at this operation. I classify it as a bit of a good problem to have. But because we have achieved increased ore placement from crusher throughput that was 24% above nameplate capacity, we were able to max -- we were not able to maximize solution application to the pads because we had not developed our solution capacity. We've now drilled and brought on a second water well that will allow us to increase our solution flow to match the increased ore placement on the pad.Please go to Slide 10. At La Colorada, we had a single major operational challenge during the quarter that I'm sure everyone on this call is aware of. We lacked the ability to blast. We challenged the team to maintain our budget of 12,000 tonnes per day through the crusher without impacting the long-term mine plan, and they did just that. We mined previously blasted material, pre-dig material in the pit, and we utilized low-grade stockpiles. These low-grade stockpiles were not in our current life-of-mine plans, so we actually extended the mine life slightly through this exercise. A silver lining is that since we had no blasting expenses and much shorter haul distances, we experienced a 28% unit cost reduction versus Q1 2018.We averaged 12,500 tonnes per day through the crusher during the quarter versus our budget of 12,000 tonnes per day.During the temporary explosives permit suspension, approximately 70 people were let go by our mining contractor. While many of these people were still available and have since been rehired, we will have to find some new people. These are the types of things that can cause slight delays in a restart to full operations, but I'm happy to say that ramp-up at La Colorada is well underway and progressing well now.Before I hand the call back to Pete, I want to take a moment to recognize the team at La Colorada. Adjusting the mine plan on the fly is not an insignificant challenge, but maintaining crusher throughput levels and tonnes placed on the pad at budgeted rates without being able to blast was quite an accomplishment. I'm going to congratulate and acknowledge the team for its ability to make these temporary adjustments to mine plan without materially impacting the long-term mine plan. It wasn't easy, and it took a lot of creativity and innovation. So, well done to all involved.I'll now pass the call back to Pete. But like -- I'd be happy to answer any questions with respect to our operations during the Q&A session following the call. Pete?

[Peter C. Dougherty, President, CEO & Director]

Thank you, Bill. Just before you flip to the next slide, I want to make for sure everyone is aware that the Collegiate Tribunal, or the Supreme Court in this case, of Mexico ruled to lift the suspension of the explosives permit.The original lawsuit against the Secretary of National Defense or SEDENA and the Municipality of La Colorada remains ongoing. Timing of when this will ultimately wrap up is unclear, but we continue to believe the case is without merit and are very pleased that the Collegiate Tribunal ruled that there was no evidence of risk to public health or safety due to our blasting and ordered that the explosive permit be reinstated.We think this ruling will help SEDENA and the Municipality of La Colorada [indiscernible] in their defense of the ongoing lawsuit. Please turn to Slide #11. Reiterating 2018 GEO production and cost guidance. Despite the challenges that Bill has discussed, on a consolidated basis, our current forecasts are within the 2018 production and cost guidance ranges. We estimate that we will produce between 165,000 and 180,000 gold equivalent ounces, although currently tracking towards the lower end of this range, having cash costs between $700 to $800 per ounce, with all-in sustaining costs between $850 and $900 per ounce. We continue to note, as we have since originally releasing this year's guidance, that production will be weighted toward the second half of the year, with the fourth quarter expected to be our strongest quarter.If you will turn to the next slide, Slide #12, you'll see why we feel the speed bump that we experienced at La Colorada will be made up for by the outperformance of San Agustin.Please turn to Slide #12. San Agustin 2018 crusher throughput by month. After initial start-up period during 2017, the San Agustin project has been performing above expectations. Here we detail this outperformance on a monthly basis.Through the first half of 2018, San Agustin has outperformed nameplate crusher capacity by 20%. It outperformed nameplate crushing capacity by 24% during Q2. We see no reason why this 20-plus percent over nameplate capacity isn't sustainable after achieving this during the first 6 months of the year.Our current forecasts show any shortfall that we experience at La Colorada or El Castillo will be made up for on a consolidated basis by the San Agustin project, our lowest-cost operation, which is why, on a consolidated basis, we are reiterating our 2018 production cost and guidance.Please turn to the next slide, Slide #13. While we must always make sure we are putting forth our best efforts in executing day-in and day-out, but there are [Audio Gap] no matter what the challenges are that we encounter, we are committed to remain focused on our goals and objectives.Our focus as a company is threefold: continue to ramp up production, build our balance sheet and de-risk our development projects.Please turn to Slide #14. Achieving our objectives and delivering value, 3-year production outlook. Early last year, we challenged ourselves to deliver 65% production growth between 2017 and 2019, while maintaining all-in sustaining costs below $950 an ounce. And I'm happy to say that we are on track. As discussed, on a consolidated basis, we are within our 2018 guidance due to the outperformance at San Agustin. We are taking steps now, such as providing more operational flexibility at El Castillo, to put ourselves in a good position to meet our objectives and deliver value with over 200,000 ounces of production next year.Please turn to the next slide, Slide #15, development assets. When you look at the current valuation for Argonaut, it is clear that we are not getting much value for our development assets in the current market environment. That being said, we feel one of our greatest opportunities to unlock value for the company and our shareholders is to continue to de-risk our development portfolio of assets.Between Magino, Cerro de Gallo and San Antonio, we hold a lot of leverage in a rising gold price environment in terms of ounces.Please turn to the next slide, Slide #16. De- risking development projects. We continue to add value by de-risking our development projects.Earlier this year, we relogged all the drill core at the Cerro del Gallo project and developed our own geologic model. During the second quarter, we initiated a drill program for metallurgical test work and samples.Next steps at this project include, but are not limited to, network and preparing an internal scoping study on the project. At the Magino project, we continue to advance the environmental assessment process and are hopeful this will be completed by the year-end. Once the EA process, or Environmental Assessment process, is complete, we will be in a position to file applications for other key permits.We are also very pleased that, during the second quarter, we signed a Community Engagement Agreement with the Métis First Nation of Ontario, our third indigenous agreement completed for this project.2018, at Magino, is about permitting and continued working with our indigenous end communities to de-risk this project as we move forward towards production.Please turn to Slide #17. Summary of investment case. Argonaut is well known for its strong balance sheet, which provides stability and fuels growth. We have $23 million in cash with $8 million drawn on our revolver and $20 million in VAT receivables. We have proven that we can add cash to the balance sheet, even in challenging times. We have also shown that we can operate low-gold-grade mines profitable. With close to 4 million ounces in mineral reserves and over 8 million ounces of measured and indicated resource, we provide tremendous leverage to a rising gold price environment. And as we continue to de-risk our development assets, we should see more value in the market for these assets.And importantly, we discussed our 65% growth objective, while maintaining all-in sustaining cost below $950 an ounce for 2017 through 2019.At the end of Q2 of this year marks the halfway point in completing this objective. And I am pleased to say that we are on track to meet our consolidated guidance this year and ramp towards 200,000 ounces of production next year.Please turn to Slide #18. Our focus. We all understand that -- that in this business, there will be challenges, and we experienced some of those during the second quarter. We, as a management team, must work through such challenges, while continuing to be focused on our objectives.Our commitment is to stay focused on building the balance sheet, de-risking our development projects and preparing for that 200,000-plus ounces of production next year. I am grateful to be surrounded by a team that is dedicated towards this and can adjust and make the changes necessary.Thank you, and that concludes our formal presentation portion of our call today. We, as a management team, again are committed towards achieving our goals. And we will be available to answer any questions that you will have during our brief question-and-answer session.I will now turn things back over to Michelle, our operator, for a brief question-and-answer session. Michelle?

[Operator]

[Operator Instructions] Your first question comes from Rahul Paul from Canaccord Genuity.

[Rahul Thomas Paul, Director]

Bill, I think you touched on this in your comments. But I'm wondering if you could provide a little more color on what the -- what are the issues of bottlenecks impacting the ability of the CR2 crusher at Castillo to ramp up to design of 14,000 tonnes a day? What sort of throughput are you experiencing now? And how long do you expect it might take to address any of the issues and ramp up to design?

[William M. Zisch, Chief Operating Officer]

Sure, Rahul. Yes, Thanks for the question. Issues at the CR2 crusher that we've seen, I mentioned, are kind of mechanically as far as availability of some of the equipment. We've got a grasshopper line of several grasshoppers that deliver the ore to the pad. We've had some electrical issues with those, most of which we've now resolved. And we're not seeing as -- the downtime from the grasshoppers. And then, just kind of start-up mechanical issues through the crusher itself, all of which now we've resolved. We've been seeing -- had been seeing about 10,000 tonne per day as we move upwards our goal of 14,000. We now have seen several days where, and over the last several weeks, we're able to meet that. So our goal really now is to make sure that we can sustain that rate.

[Rahul Thomas Paul, Director]

Okay, that's helpful. And then also a bit curious as to the decision to move your owner operator fleet from San Agustin to Castillo and to initiate contract mining at San Agustin. You mentioned that you've obtained a favorable contract. But in general, is that a temporary move to, say, defer the purchase of new equipment? Or do you see contract mining playing a significant role going forward at San Agustin and Castillo, looking -- just looking at the complex?

[William M. Zisch, Chief Operating Officer]

Yes, well, right now, as far as San Agustin goes, the move that we've made is for several years, it's not just short term. It's for several years and that's how we intend to operate our San Agustin mine in the near term. It does -- it did allow us to avoid capital expenditures at El Castillo that we would have incurred. So in that case, it was a trade-off of capital for some operating costs at the complex. So we're managing it as a complex, trying to maximize the cash flow, and look at both capital and operating cost. And this is the structure and the model that makes the most sense for us right now in the near term.

[Operator]

[Operator Instructions] Your next question comes from Mark Mihaljevic from RBC Capital Markets.

[Mark Mihaljevic, Analyst]

I guess, my first question, we've seen some challenges recently with large, open-pit projects in Canada. And I was just wondering if is it -- if it's really changed your views of Magino? Or how comfortable you are with the numbers you've put out so far? Again, any color you could provide on that?

[Peter C. Dougherty, President, CEO & Director]

I'll take a start at that. This is Pete. And thanks, Mark. Yes, we have seen some challenges with some other operations in Canada. We continue to refine our understanding of the Magino project as we move it forward at this stage. While this year is primarily focused on permitting, we are also moving forward on some of the other key items associated with getting that project ready, whether it be reviewing the capital or reviewing our operating profile, how we would move forward with mining and also ore delineation and great control programs. We have further defined and refined those programs even more, and at this time, we remain very comfortable with that project. As we continue to do these refinements, I think we're finding that, that project looks to stand actually a little better than where we stood earlier.

[Mark Mihaljevic, Analyst]

Okay. And I guess, given the recent moves in the gold price, I'm just wondering if you've kind of taken a reevaluation of kind of your development plans. Obviously, this year was always targeted at being a cash build year -- cash build year for you guys. But have you really made any changes given that? Or obviously, the -- this outperformance in Sat -- San Agustin has helped with that, and obviously, a lower capital at La Colorada?

[Peter C. Dougherty, President, CEO & Director]

Right. I think everybody in this business, as I think it's been stated many times, we are price takers in this business, not price makers. And we cannot change what the market will do. Our concern is running the business, is looking at trying to create a business where all-in sustaining costs will be in that $950 market. Therefore, modest changes in the gold price like we've seen this year should not overly impact our long-term-range perspective for this business. And whilst that is still happening, we do take into consideration the individual changes that may happen as we see today with the falling gold price, and we look to see where we can enhance and make improvements within the operations.

[Operator]

At this time, I have no further questions in queue. I'll turn the call back over to presenters for closing remarks.

[Peter C. Dougherty, President, CEO & Director]

Thank you all for joining us this morning. Again, I'm grateful for the team that surrounds us and for their ability to adjust to the challenges that come from this mining business and happy with the results here from Q2 and look forward to the remainder of this year as we continue to ramp up towards the -- that overall 3-year guidance of a 65% challenge of growth rate for the company. We are well poised with a solid team to deliver on that and have made significant steps and strides towards getting there. And I look forward to talking to you again in November as we discuss the Q3 results. Thank you, again, for your time this morning.

[Operator]

Thank you, everyone. This will conclude today's conference call. You may now disconnect.