Capstone Copper Corp

TSX:CS

Earnings Call Transcript 2021-Q2

[Operator]

Good morning, my name is Colin, and I'll be your conference operator today. At this time, I'd like to welcome everyone to the Capstone Mining Q2 2021 Results Conference Call. [Operator Instructions]Mr. Annett, you may begin your conference.

[Jerrold I. Annett]

Good morning. I'd like to welcome everyone on the call today. Please note that the news release and regulatory filings announcing Capstone's 2021 second quarter financial and operational results are available on our website and on SEDAR. If you are logged into the webcast, we will be advancing slides of today's presentation, which is also available on our website.Joining me on the call today are our President and CEO, Darren Pylot; our Chief Financial Officer, Raman Randhawa; and our Chief Operating Officer, Brad Mercer. Following our brief remarks, there will be an opportunity for questions. Please note that the comments made on the call today will contain forward-looking information within the meaning of applicable securities laws. This information, by its nature, is subject to risks and uncertainties, and actual results may differ materially from the views expressed today. For further information on the risks and uncertainties pertaining to our business, please see Capstone's most recent filings, which are available on our website and on SEDAR. And finally, I'll just note that all amounts we will discuss today are in U.S. dollars, unless otherwise specified.Now, I'll turn the call over to Darren Pylot.

[Darren M. Pylot, President, CEO & Director]

Thank you, Jerrold, and good morning, everyone. I'd like to start on the cover page of this presentation, showing our tailings thickeners at Pinto Valley. The focus over the past several months has been to complete Phase 2 of our PV3 optimization project, with the majority of this year's work at the back end of our operation. These upgrades will improve reliable throughput and water recovery capability, thereby decreasing water consumption.Turning now to Slide #6, I'd like to mention our 2020 sustainability report, which we published recently and is available to download from the Responsibility section of our website. This is Capstone's fifth annual sustainability report, and it follows on the summary report for the period of 2018 to June 2020, which we published last year. The report was prepared in accordance with the core option of the Global Reporting Initiative Standards and discusses how our approach and long-standing commitment to sustainable mining practices continue to guide our vision of a responsible, copper-focused mining company, capable of generating value for all of our stakeholders.Our cross-functional ESG committee is currently developing our long-term ESG strategy to formalize our contributions to the United Nations Sustainable Development Goals, and we expect to incorporate this strategy into our 2021 sustainability report to be published next year. We're very proud of this achievement and commend our ESG team for their diligent work. We look forward to seeing their work reflected in our future results and ESG reporting initiatives going forward.Moving now to Slide 7. During Q2 of this year, we produced 43.3 million pounds of copper at cash cost of $1.91 per pound. Thanks to a record production quarter at our Cozamin mine and a strong quarter at Pinto Valley in the context of a significant scheduled downtime as we focused on Phase 2 PV3 optimization work. As of now, though, all the major work has been completed. And with that, we expect a strong second half to the year. I'm very pleased with Cozamin's performance as it was the first full quarter at expanded production rates of 3,800 tonnes per day, and the mine achieved the highest quarterly production in its history of 13.8 million pounds of copper in the quarter at $1 per pound cash cost, which is at the low end of our cost guidance.Over now to Slide #8. Q2 financial performance was another record-setting quarter in Capstone's history with $128 million in adjusted EBITDA and $110 million in adjusted after-tax operating cash flow. Our cash balance has significantly increased to $172 million at quarter end, and it's incredible to look back a year ago and see what a difference a year makes. We have added $336 million of cash onto our balance sheet over the past 12 months or $1.03 per share.Slide #9 now. And as I mentioned, this was a record quarter for Capstone, and this wouldn't have been possible if we hadn't invested into our future during the tough years of 2019 and '20. Both our mines are now operating at optimized levels and well-timed in this $4 copper environment. At Santo Domingo, we are making great progress on infrastructure sharing, capital reduction and financing discussions, and we expect to have an announcement on this during the quarter -- third quarter.Over now to Slide #10. Q2 EBITDA of $128 million beat Street consensus of $100 million and first half tax operating cash flow of $205 million demonstrates our cash generation capability as we approach a permitted transformational growth phase with Santo Domingo construction next year.On Slide 11, to put things into perspective, this chart shows this year's operating cash flow performance at June 30 compared to our historical quarterly results.Now, over to Raman.

[Raman S. Randhawa, CFO & Senior VP]

Thanks, Darren. We are now on Slide 12. Our cash balances increased quarter-over-quarter by $127 million to $172 million as of June 30. We have a undrawn $225 million corporate revolver, which gives us just under $400 million of current liquidity and growing in this $4 copper price environment. I'm very proud of how efficient we are turning cash flow from operations into cash build on to the balance sheet. This has come as a result of keeping our corporate G&A low, and not having to deal with interest on debt, given we have been debt free since early Q1. Our year-to-date EBITDA of $247 million, if you annualize that is approximately $500 million is a good indicator of our financing capacity as we look forward to Santo Domingo.In addition, we are benefiting from input cost hedges we put in place during COVID-19 back in 2020. For example, at Pinto Valley, we fixed diesel prices for the majority of our planned consumption for 2021 and 2022, resulting in approximately $2 million of realized savings in the first half of 2021, and we expect realized savings at current prices of approximately $5 million through the end of 2022. We hedge fuel at $1.76 per gallon for this year and current spot is around $2.35 per gallon, just for reference. In addition, we hedged the Mexican Pesos at MXN23 to U.S. dollar, which has provided an additional gains of $3 million for 2021.Turning to Slide 13. Our initial 2021 total capital guidance of $128 million issued in January was based on a $2.75 copper price environment. It also assume we own 70% of Santo Domingo versus our current 100% ownership. The 100% ownership resulted in an increase of $9 million, and another $11 million related to a few carryover items, commencement of brownfields exploration drilling plus the decision to green light the cobalt pre-feasibility study, which has now entered Phase 2. An increase of $22 million will be spent this year at Pinto Valley with one-time optimization investments in water management and tailings and accelerated stripping, which you've seen in Q2, and additional expansion in capital related to advancing the PV4 study, and a booster station for Jetti-assisted dump leach production.Overall, the increased spend is from a position of strength as we look forward to further investing our business for growth and sustainability. Our previous capital investments during a period of sub- $3 copper prices in PV3 optimization and the Cozamin ramp are now paying significant dividends and align well with their focus on low capital and high-return projects.Now we are on Slide 14. In anticipation of a financing deal and construction decision on Santo Domingo, we had the project team update the initial capital estimate. You may recall the initial capital estimate is tied to the original 2018 feasibility study, which was further updated in '22 for capital certainty. The reduced capital estimate has increased by only $35 million. The increase primarily relates to labor materials, including increased steel prices and cost inflation, including an updated process plant and mine equipment quotations as well.Overall, the capital increase is approximately 10% as one may expect, but largely offset by a change in the assumed U.S. dollar to Chilean Peso exchange rate from 600 to 700. Spot Chilean Peso is currently around 760, and we could hedge this in our favor once the construction decision has been made. Updating the capital estimates provides additional assurance prior to a construction decision.Now, I'll turn it over to Brad to provide a review of the operations.

[Bradley J. Mercer, Senior VP & COO]

Thank you, Raman, and good morning, everyone. For listeners, we're now on Slide 15. With a very busy quarter of Pinto Valley with the Phase 2 of PV3 optimization work leading to a significant planned downtime. Mill throughput averaged just under 50,000 tonnes per day, which was similar to Q3 of 2020, where most of the Phase 1 Optimization work took place. We did see some minor production impacts due to workforce shortages as there were road closures and evacuations due to several wildfires in the area. High recoveries of nearly 89% copper and improved head grades in the quarter of 0.33% helped deliver an overall strong result in light of the lower on line time in the mill. PV4 study work is making good progress with the Jetti catalytic column leach test kicking off and underway over the next 9 to 12 months.An internal feasibility study for Eriez HydroFloat continues as further engineering work is needed to dovetail this technology with the tailings management strategy that we intend to incorporate within the PV4 expansion. Another project, Pyrite Agglomeration had low CapEx, potentially high-impact project with strong environmental benefits as it would divert a stream of asset-generating minerals away from the tailings storage facility. A tailings stream for flotation containing pyrite and chalcopyrite will be agglomerated with dump leach feed and the result would lower sulfuric acid purchases and increase copper cathode production recovering extra copper from the tailings.Turning to Slide 16. Ball mill #3 was safely replaced at Pinto Valley in 30% less time this year than Ball mill 4's replacement last year, which was an incredible feat and clearly shows the operation's focus on continuous improvement. The major focus for Phase 2 optimization has been upgrades for -- to tailings thickeners and related tailings infrastructure. The upgrades will allow for higher recycled water rates and higher throughputs. We have also commenced to restart our molybdenum flotation circuit during July and expect to ramp up production over the second half of '21. Moly prices have increased $8 per pound to over $18 per pound this year, which makes this an attractive by-product at this time.Moving on to Slide 17. Cozamin ramp-up is complete with the mill averaging over 3,800 tonnes per day. You'll recall that was the target in the tech report in Q2. Grades averaged 1.86% during the quarter. And with the higher grades, we saw slightly improved recovery -- copper recovery at 96.3%. The mine realized record cash flow of $46 million during the quarter, which was an outstanding performance. We're very proud of this team. Construction of dry stack tailings and paste backfill facilities are in progress and on schedule. The purchase of long lead items is complete. The first full year of the operation will be in 2023, construction ending in '22. And we are excited about getting this plant installed as it will maximize the extraction of high-grade ore from this world-class asset.Exploration at Cozamin has been focused on the West end of the Mala Noche Footwall Zone with 2 surface rigs. And we are developing 2 west exploration drifts and crosscuts, and they are progressing well as well. Once they are completed, they will allow for easier infill drilling from underground in early '22. Now on to Slide 18. We believe the San Domingo cobalt project could result in one of the lowest cost cobalt producers outside of the Democratic Republic of the Congo. The $20 million cobalt pre-feasibility study announced in Q1 is progressing according to schedule and has entered Phase 2. A geochemical model is being developed to quantify pyrite ferrous cobalt distribution throughout the ore body, which guided the location of drill holes for the current drill program from which more samples will be obtained for further plant optimization testing. The drilling campaign started in May of '21. And from samples, we will use to develop a 3D geometallurgical pyrite cobalt flotation model.And in parallel, engineering activities will continue to bring cobalt plant design[Audio Gap]The current PEA to a full FS study in 2022. Capstone expects to provide an update to the market on metallurgical work, process flow sheet design, updated cobalt reserves and resources in Q1 of 2022.Now with that, I'll pass it back to Darren.

[Darren M. Pylot, President, CEO & Director]

Thank you, Brad. We added this Slide #19 because the mining tax in Chile has been top of mind for many investors and our shareholders. Santo Domingo is fortunate to have a 15-year tax stability agreement that commences following commercial production. This is clearly a significant attribute and it's being recognized as such by the numerous partners and potential partners we are engaging with. We view Chile as a top mining jurisdiction to invest in and expect it to stay this way.On now to Slide 20. We have been executing on our plan to become a 200 million pound producer of copper by next year. And with Santo Domingo under construction, we will have over 100% production growth by 2024 with lower cost in the future to look forward to. The PV3 optimization investments we have made at Pinto Valley to increase production, improve metallurgical and environmental performance and decrease costs have been delivering great results. With the project wrapped up, we expect to see sustainable operations moving forward. I'm excited about the true potential for Pinto Valley being unlocked in the upcoming PV4 study due to be released next year.Slide 21. Innovation is key to unlocking incredible value for us at Capstone, and we look to apply a number of technologies, including the Jetti catalytic leaching to boost copper cathode production from low-grade material and Eriez Coarse Particle Flotation to boost copper recovery by 6% or higher. At Cozamin, I'm pleased that our paste fill -- that our paste backfill plant and dry stack tailings plant is on schedule and on budget. This project will give the mine optionality as we look to extend the mine life well into the 2030s.I'm also pleased that our paste backfill and dry stack tailings plant is on schedule as it will also ensure strong operational performance and extend the mine life. At Santo Domingo, the project is advancing at a fast pace right now. And along with the Port deal, we are focused on rail and other infrastructure sharing agreements to reduce the capital outlay as well as lower risk.Overall, over the coming months, we expect to have both the strategic partnership and financing announced for Santo Domingo, and that will keep us on track to delivering transformational growth for our shareholders. We're in a strong position to execute this project as our cash balance is building.Before we open the call for questions, and on Slide 22, we would like to acknowledge and thank all the emergency response crews and volunteers who worked tirelessly control -- to control the wildfires that broke out in Arizona last month. And in particular, the Telegraph and Mescal incidents, which prompted evacuations in neighboring communities and briefly disrupted communications and supplies to our Pinto Valley mine.Pinto Valley's infrastructure and personnel were always safe, and we were -- we are always very grateful for that. We are proud of the key role that our team plays in disaster prevention and emergency response efforts, and we reaffirm our unwavering commitment to support the communities in which we operate to preserve their well-being and the integrity of the environments around us, because we're all in this together.So with that, we'll open the floor to any questions anybody may have.

[Operator]

[Operator Instructions] So your first question comes from Orest Wowkodaw from Scotiabank.

[Orest Wowkodaw]

On the Santo Domingo process, I mean, your release talks about decision with respect to partnership and financing in the third quarter. So clearly, we're pretty close to the finish line on that. I'm just curious at this stage, have you determined what the ultimate structure will look like? I remember when we talked 3 months ago, there were multiple tracks in terms of ownership for Capstone, 50%, 70%, 100% options. Can -- I realize things are not finalized, but can you give us an idea of which track is the most likely outcome at this point?

[Darren M. Pylot, President, CEO & Director]

Yes. Thanks, Orest. It's Darren here. Yes, as you can imagine, it's been a little frustrating with COVID and then with Chile coming out with some noise around taxes and royalties. And so having to just understand how that's going to play forward and understanding our strong position with our DL 600 and our tax stability agreement has created a little bit of extra work for us in this process. But I guess -- I can't say a lot about the structure, obviously, but I can say that Capstone desires to own as much of the project as we can as with our balance sheet and financing capabilities[Audio Gap]At this $4 copper environment, and we view this project as a Tier 1 asset. So we'd like to own as much as we can and so on that dual-track process that will give you a bit of guidance.

[Orest Wowkodaw]

Is there a scenario where Capstone could proceed on its own at 100%?

[Darren M. Pylot, President, CEO & Director]

We are not contemplating that scenario right now. No, we would like to have partner. Yes, no. We would like to have and feel very strongly that we will have a partner there.

[Operator]

Your next question comes from Dalton Baretto from Canaccord.

[Dalton Baretto, Analyst]

Darren and team, I just want to pick up where you just left off there. So Darren you said, you do want on as much of this project as you can. But I mean, how much you get out of the project is probably a function of who the partner, right? And whether it is in mining company or like an off day partner, we have talked about. I'm curious as to whether having another mining company build the project is completely off the table now given that you want to own as much of the project as possible?

[Darren M. Pylot, President, CEO & Director]

Well, at this point until we get it finalized though then nothing is off the table. Right, because we haven't finalized it. But I will say that, again, as I said the Eriez was, we would like as much as a project as we can with that, but also including a minority partner in there, at least.

[Dalton Baretto, Analyst]

Okay. And then, as you move forward on the financing side of things, given where copper prices are, are you considering hedging over the construction period?

[Darren M. Pylot, President, CEO & Director]

Are we consider hedging copper during the construction period, is that your question?

[Dalton Baretto, Analyst]

That is correct. Yes.

[Darren M. Pylot, President, CEO & Director]

Yes. Well, everything is up for consideration. And then obviously, we look at the copper price and understand how that affects the project going forward. And depending on capital contribution to Capstone and the risks of the balance sheet, as you know, it is on the table for sure. Not 100% there yet, depending on again, how much of the capital contribution we do have to commit based on who our partners. But yes, absolutely it will be up for consideration to insulate the balance sheet and keep it strong.

[Dalton Baretto, Analyst]

Got it. Okay. And then just maybe switching gears. We talked in the past about some of these regional opportunities around Pinto Valley, just curious as to where you are at on that and how you are thinking about those in the context of PV4 or how you think about PV4 in the context of these opportunities?

[Darren M. Pylot, President, CEO & Director]

Yes, that is a great question. So PV4, as Brad mentioned on the call, the technical report is scheduled to be completed in the fourth quarter of next year. And that is due mostly to the length of time needed for the Jetti column these tests and you need 9 to 12-months of testing before you can call anything a reserve there. And we expect to get at least half of the ways that we would script from PV4 would hopefully come back as ore through this process allowing our stripping costs to be significantly lower than what you normally get, at a mine. So that is the PV4 tech report, and that sec report will encompass everything on our property, and only with us only with our infrastructure and resources and reserves. And then of course, there is, as you mentioned, the regional opportunity this on top of that, and we continue to make extremely good progress discussing synergies with our neighbors around us. So we feel good about potential partnerships with our neighbors, and that is advancing month by month, week by week and feel good about significantly can consolidate in the district in kind of a near-term future.

[Dalton Baretto, Analyst]

Got it. And then just maybe one last one for me. Any concerned around water rights as you think about the PV4 expansion?

[Darren M. Pylot, President, CEO & Director]

Any concerns around, well water, water is always a concern where we operate in our climates being Arizona, Mexico and Chile. It is top of mind, obviously, and also from an ESG perspective, us conserving and recycling as much water as we can, is extremely important. So it will always be one of our top risks and top things that we focused on. But we currently have a situation where we do have the water to operate where we are currently and also at the race we are digging around PV4.

[Operator]

Your next question comes from Stefan Ioannou from Cormark Securities.

[Stefan Ioannou, Analyst of Institutional Equity Research]

Just kind of curious what sort of the transition of the whole Jetti idea from sort of PV3 and of course, I guess more sort of fully detailed and PV4. I think there was some talk about a PV3 study coming out late this year, just to sort of update the market is exactly what that is looking like. Is that still the plan? Are we - so we just sort of looked at a PV4 study in late 2022 is the next big tech report in Pinto Valley?

[Darren M. Pylot, President, CEO & Director]

Yes. You are right, Stefan. We were originally planning on the end of this year to incorporate some of these PV3 optimization projects that we have completed into the report, but decided because we hadn't put a report for so long to make it to update it earlier, which is the one that just came out. And so we probably won't put one out now until the end of next year, which will incorporate. PV3 optimized projects that are done, and then also include the Jetti and other things into the PV4 study and do one report at the end of next year.

[Stefan Ioannou, Analyst of Institutional Equity Research]

Okay, great. And then just on closing, and obviously, the whole, the dry tech stack tailings work is going ahead. Is the other impact 23 initiatives are they continuing as sort of previously detailed as well?

[Darren M. Pylot, President, CEO & Director]

Stefan, what I will do is I will pass that on to Brad to answer, because he has got more of the detail on that one. But good question.

[Bradley J. Mercer, Senior VP & COO]

Yes, absolutely. We are continuing to see floor for extensions to the zone or to the west. We brought in - help us train on getting better drove of last procedures, higher tonnes per meter. That is going well. The other one is we are testing a number ore sorting technologies. Bench scale testing looks very, very promising. Because if you will recall, there is about 7 million tonnes of resources that are not in reserves, we think the best test to get those in reserves are to target through a ore sorting. So we wouldn't sort everything that - ore body, we would select the more problematic higher dilution areas that are not currently in reserves, send them to the bottom of the mind near the shaft, stored them there and bring them up the shaft. That is the concept. We are we are well into testing the 2 technologies and we will be making this decision, probably in the next budget year.

[Stefan Ioannou, Analyst of Institutional Equity Research]

Okay, great. And maybe just one last housekeeping question for me. Just given the rise in copper prices, I'm going to, correct me if I'm wrong, but there is some payables to do on Domingo sale, just given that the copper price has done so well. Is that something that is going to be coming through in the next quarter or so where are we at on that?

[Darren M. Pylot, President, CEO & Director]

Based on copper price and where we are at, we would expect by year-end to get the remaining payments, I believe it is 15 million based on the copper price. So looking forward to having that additional capital on the balance sheet and happy that the mentor mine is continuing to flourish under these strong copper prices.

[Operator]

[Operator Instructions] Your next question comes from Craig Hutchison from TD Securities.

[Craig Hutchison, Research Analyst]

The question's on Pinto Valley. At the start of the year you guys are targeting like 56,000 or 57,000 tonnes per day for the year. And then going into next year for the range of 60,000 to 63,000 tonnes per day. Is that still the case? Do you guys think you are going to going to be above 60,000 tonnes per day starting - getting into next year?

[Darren M. Pylot, President, CEO & Director]

Hey, Craig. Yes, it is Darren. Exactly. You saw us put Q4, Q1 of this year, we did run Q4 last year, Q1 this year we did run it 56, 57 and can operate the mine and operation up at 6 year even higher. And then, of course, getting into the PV3 and most of the optimization work occurred over this last quarter. Our rates dropped down, but with most of the maintenance behind us, we were back up at that 56,000 expect to do that for the balance of this year. And with some work on our backend and tailings we expected the outfits at 60 or higher next year as we said.

[Craig Hutchison, Research Analyst]

Okay, great. And in terms of the spend in the Eriez HydroFloat. Should we assume no spend this year and next or spend likely in 2023?

[Darren M. Pylot, President, CEO & Director]

Yes, we did. That is correct. We might do what we will do some more engineering as part of our PV4 study, but we are going to put it the bulk of that would come after that study comes out. And with the capital of PV4, we realized that the areas is works extremely well, Pinto Valley, it boosts recovery. But we do need to just solve the rest of it to tie it all in together. It doesn't work as a standalone. So it does have to be part of the PV4 capital and study. And so you won't see that spend come in until post 2022.

[Craig Hutchison, Research Analyst]

Okay, great. And you mentioned earlier in comments discussing CMGs with your neighbors around Pinto Valley. Are you guys looking at a possible partnership to pick up some of the additional resources and around Pinto?

[Darren M. Pylot, President, CEO & Director]

Well, there is a lot of synergies. There is excess water that is around the area that needs to be treated by our neighbors that we could potentially take on and use on our dumpling leaches and recover that copper responsibly. There is additional copper resources that some of our neighbors would never mine themselves. So there is lots of synergies, and it makes sense for all of us to be helping each other out to produce a sustainable, environmentally friendly operation going forward. And we do have the willingness of our partners to - of our neighbors to engage in that. So there is a lot of synergies from water to copper to brownfield infrastructure as well.

[Craig Hutchison, Research Analyst]

One last question for me, just on Santo Domingo. Should we assume you will have off-take agreements in place in Q3 here with the financing and in partnership discussions?

[Darren M. Pylot, President, CEO & Director]

I wouldn't assume that. I mean, we are pretty, we are very fortunate that not only a Santo Domingo, but all of our concentrate is currently up on encumbered to off to long-term off-take agreements and all of our concentrate is extremely clean and with no deleterious elements. So that is a strong, asset to have when you are acquiring a potential partnership. So it is on the table for sure, but I wouldn't assume that that is definitely a part of any agreement necessarily.

[Operator]

Your next question comes from John Tumazos from John Tumazos Independent Research.

[John Charles Tumazos, President and Chief Executive Officer]

In terms of shareholder dividends, is that something that we should think about 3 to 5 years from now when Santo Domingo is still through the commissioning stage hitting the tonnes per day metrics and the feasibility study or is it something that could develop sooner?

[Darren M. Pylot, President, CEO & Director]

Thanks, John that is a very good question the strong copper environment, and we think about that a lot and the short answer is you are right. As long as we are turning $1 into $3 or $4 with these high return projects, initially around Pinto Valley and Cozamin, but as you mentioned, that the big transformational asset is Santo Domingo in the future. So we would like to see that asset built and our capital will be dedicated to that until we understand how much it needs to be allocated. And then we have the Tier 1 asset producing extremely strong cash flows in all parts of the copper price cycle. And we would then look, as you mentioned to put in a dividend policy and be able to return meaningful cash to our patient shareholders. So that is the current thinking exactly as you have outlined it.

[Operator]

There are no further questions at this time. I will turn it back to Darren for closing remarks.

[Darren M. Pylot, President, CEO & Director]

Okay, well, thank you, operator, and thank you all of you for joining us on the call today. We will release our Q3 results in October. I look forward to updating you on progress then. In the meantime, don't hesitate to contact us with any additional questions you may have. And keep observing your local health officials directed to stay healthy and safe. Have a great day everybody.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines.