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SCCO > SEC Filings for SCCO > Form 10-Q on 5-Aug-2014All Recent SEC Filings

Show all filings for SOUTHERN COPPER CORP/

Form 10-Q for SOUTHERN COPPER CORP/


5-Aug-2014

Quarterly Report


Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion provides information that management believes is relevant to an assessment and understanding of the condensed consolidated financial condition and results of operations of Southern Copper Corporation and its subsidiaries (collectively, "SCC" the "Company" "our" and "we"). This item should be read in conjunction with our interim unaudited Condensed Consolidated Financial Statements and the notes thereto included in this quarterly report. Additionally, the following discussion and analysis should be read in conjunction with the Management Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements included in Part II of our annual report on Form 10-K for the year ended December 31, 2013.

EXECUTIVE OVERVIEW

Business: Our business is primarily the production and sale of copper. In the process of producing copper, a number of valuable metallurgical by-products are recovered, which we also produce and sell. Market forces outside of our control largely determine the sale prices for our products. Our management, therefore, focuses on value creation through copper production, cost control, production enhancement and maintaining a prudent capital structure to remain profitable. We endeavor to achieve these goals through capital spending programs, exploration efforts and cost reduction programs. Our aim is to remain profitable during periods of low copper prices and to maximize financial performance in periods of high copper prices.

We are one of the world's largest copper mining companies in terms of production and sales with our principal operations in Peru and Mexico. We also have active ongoing exploration programs in Chile, Argentina and Ecuador. In addition to copper we produce significant amounts of other metals, either as a by-product of the copper process or in a number of dedicated mining facilities in Mexico.

Outlook: Various key factors will affect our outcome. These include, but are not limited to, some of the following:

† Changes in copper and molybdenum prices: The average LME copper price was $3.14 per pound in the first half of 2014, 8.2% lower than in the first half of 2013. The average silver price in the first half of 2014 also decreased 24.5% from the average price in the first half of 2013. Meanwhile, average molybdenum and zinc prices in the first half of 2014 increased 5.9% and 5.7%, respectively, from the average prices in the first half of 2013. During the first half of 2014 per pound LME spot copper prices ranged from $2.92 to $3.37. The LME spot price for copper closed at $3.15 per pound on June 30, 2014.

† Sales structure: In the first half of 2014 approximately 76% of our revenue came from the sale of copper, 10% from molybdenum, 5% from silver, 4% from zinc and 5% from various other products, including gold, sulfuric acid and other materials.

† Copper: During the second quarter of 2014, we have seen relative softness in copper prices, which have decreased by about 4% when compared to the first quarter of this year. Simultaneously however, we have been seeing the copper market's future fundamentals improving positively. As of July 23, 2014, inventories at the three major warehouses (LME, COMEX and Shanghai) have decreased by 221,000 tons or 46% from their position at the beginning of 2014.

As we have indicated in the past, we believe copper demand is improving due, in large part, to the synchronized economic recovery of the United States, Europe and Japan, which together represent about 54% of the world GDP and consume directly about 31% of the world's refined copper production.

Regarding the world's main copper consumer, China, we believe that recent Chinese Strategic Reserve purchases as well as an expected copper demand rebound of this country for the second half of this year will support global copper demand growth in 2014.

On the supply side, we think that several structural factors, such as scrap scarcity, delays in projects startups, technical problems, labor unrest and other difficulties will continue to affect supply from new projects and existing operations, as well as scrap production.


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As a consequence of these factors, we think there is now a small probability of a surplus market for 2014.

Molybdenum: Our most significant by-product, represented 10% of our sales in the first half of 2014. In the second quarter we saw a growing demand for molybdenum in Europe that has supported prices 35% higher than the first quarter of 2014. This price increase seems to be contrary with the outlook of higher supply due to a 10% worldwide growth coming from our Buenavista operation, as well as from Sierra Gorda, Toromocho and Caserones, among other projects.

Even though the current scenario for molybdenum prices is not positive, it is important to note that about 50% of the supply of this metal comes from primary or dedicated molybdenum mines, which have a cash cost in the range of $9-$12 per pound. This creates a natural barrier for the molybdenum market to adjust production volume and thereby protect low cost secondary molybdenum producers such as our Company.

Silver: Represented 5% of our sales in the first half of 2014. Silver prices averaged $20.04 per ounce in the first half of 2014, 24.5% lower than its price in the first half of 2013. We believe that silver prices will have strong support due to its industrial uses as well as being perceived as a value shelter in times of economic uncertainty.

Zinc: Represented 4% of our sales in the first half of 2014. We also believe that zinc has very good long term fundamentals due to its significant industrial consumption and expected mine production shutdowns. In the last 12 months, zinc inventories have decreased significantly, improving this market΄s fundamentals. We are expecting an increasing price scenario for zinc in the next few years.

† Production: For 2014, we are expecting to produce 672,400 tons of copper from our mines. The construction of the new 120,000 ton capacity SX-EW III plant at Buenavista was completed and started commercial production this June. We expect it to be at full capacity by the end of the third quarter of 2014 and contribute to our 2014 production with 53,400 tons.

We expect to produce 22,000 tons of molybdenum in 2014, 10.6% more than our 2013 production and a new Company record.

We now expect to produce and sell 15 million ounces of silver and produce 82,000 tons of zinc in 2014. This is a reduction from our previous outlook, due to lower silver and zinc grades and some temporary disruptions at our zinc mines.

† Cost: Our operating costs and expenses for the first half 2014 and 2013 were as follows ($ in millions):

                                                          Variance
                                 2014        2013         $       %
Operating costs and expenses   $ 1,681.6   $ 1,692.9   $ (11.3 ) (0.7 )%

The decrease was largely due to lower cost of sales, as result of a temporary build-up of copper inventory as well as lower sales of metal purchased from third parties.

† Capital Investments. In the first six months of 2014, we spent $699.4 million on capital expenditures, which represents 106% of net income. We continue with the development of our capital expansion program which aims to increase copper production capacity by approximately 87% from 630,000 tons in 2013 to 1,175,000 tons by 2017.

† Tax changes in Peru: On July 12, 2014, the Peruvian government enacted a new law with certain tax and administrative changes in order to promote investments in Peru. The law includes several tax and environmental changes that could positively affect our Company. Changes include providing more favorable terms for tax stability agreements for both new investments and for the inclusion of major expansions in these stability agreements. In addition, these proposals cap interest accumulations on some contested assessments and penalties. Other provisions provide for more flexibility in the implementation of environmental regulations.

KEY MATTERS:

We discuss below several matters that we believe are important to understand our results of operations and financial condition. These matters include (i) our earnings, (ii) our production, (iii) our "operating cash costs" as a measure of our performance, (iv) metal prices, (v) business segments, (vi) the effect of inflation and other local currency issues, and (vii) our capital investment and exploration program.


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Earnings: The table below highlights key financial and operational data for our Company for the three and six months ended June 30, 2014 and 2013 (in millions, except per share amounts):

                                    Three months ended June 30,                    Six months ended June 30,
                                   2014               2013       Variance       2014          2013       Variance
Net sales                 $                 1,487   $   1,410   $       77   $    2,842    $    3,033   $     (191 )
Net income attributable
to SCC                    $                   337   $     373   $      (36 ) $      661    $      868   $     (207 )
Earnings per share        $                  0.40   $    0.44   $    (0.04 ) $     0.79    $     1.03   $    (0.24 )
Dividends per share       $                  0.10   $    0.20   $    (0.10 ) $     0.22    $     0.44   $    (0.22 )
Pounds of copper sold                         354         331           23          684           675            9

Net sales and net income in the first six months of 2014 were lower than in the first six months of 2013 by $191 million and $207 million, respectively. These decreases were mainly the result of lower prices for copper and silver, partially offset by increases in molybdenum and zinc prices. Silver and zinc sales volume decreased in the first six months of 2014 by 21.8% and 1.9%, respectively, compared with the first six months of 2013, this was partially offset by higher sales volume of copper 1.2% and molybdenum 21.4%.

Production: The table below highlights mine production data for our Company for the three and six months ended June 30, 2014 and 2013:

                   Three months ended June 30,          Six months ended June 30,
                                      Variance                            Variance
                 2014      2013    Volume     %       2014     2013    Volume     %
Copper (in
million
pounds)          364.5     325.1     39.4    12.1 %   724.3    654.7     69.6    10.6 %
Molybdenum
(in million
pounds)           12.8       9.9      2.9    29.6 %    25.1     20.5      4.6    22.4 %
Zinc (in
million
pounds)           36.4      59.6    (23.2 ) (39.0 )%   82.3    111.4    (29.1 ) (26.1 )%
Silver (in
million
ounces)            3.2       3.4     (0.2 )  (4.7 )%    6.6      6.5      0.1     1.7 %

The table below highlights copper production data at each of our mines for the three and six months ended June 30, 2014 and 2013:

                       Three Months Ended June 30,          Six Months Ended June 30,
                                          Variance                           Variance
                     2014      2013    Volume     %       2014    2013    Volume     %
COPPER (in
million pounds)
Toquepala             76.0      70.8      5.2     7.3 %   151.0   140.4     10.6     7.6 %
Cuajone               98.7      90.6      8.1     8.9 %   198.1   178.8     19.3    10.8 %
La Caridad            70.7      66.7      4.0     6.0 %   139.6   132.9      6.7     5.0 %
Buenavista           116.5      93.1     23.4    25.2 %   230.0   195.2     34.8    17.8 %
IMMSA                  2.6       3.9     (1.3 ) (34.6 )%    5.6     7.4     (1.8 ) (24.7 )%
Total mined
copper               364.5     325.1     39.4    12.1 %   724.3   654.7     69.6    10.6 %

Second quarter: Copper mine production in the second quarter of 2014 increased 12.1% to 364.5 million pounds compared with 325.1 million pounds in the second quarter of 2013. This increase was due to:

† Higher ore grades and recoveries at all our mines and higher production at the Buenavista mine due to the first commercial production of the new SX-EW III plant, which produced 1.7 million pounds,

† higher production at the Cuajone mine resulting from higher ore grades and the projects developed at this site,

† higher production at the Toquepala mine due to better ore grades and recoveries, and

† higher production at the La Caridad mine due to higher ore grades and recoveries, partially offset by

† lower production at IMMSA mines due to lower ore grades at each of their mines.

Molybdenum production increased 29.6% in the second quarter of 2014 compared to the second quarter of 2013 due to the contribution of 1.8 million pounds from the new Buenavista molybdenum plant and from higher production at our Peruvian mines, principally as a result of better grades.

Silver mine production decreased 4.7% in the second quarter of 2014 from the second quarter of 2013, principally as a result of lower production at our IMMSA mines, partially offset by an increase in production at the Buenavista mine and our Peruvian mines.

Zinc production decreased 39.0% in the second quarter of 2014 due to lower grades at all our IMMSA mines and lower production at the Charcas mine due to an accident that temporarily restricted production.


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Six months: Copper mine production in the first six months of 2014 increased 10.6% to 724.3 million pounds compared with 654.7 million pounds in the same period of 2013. This increase was due to:

† Higher production at the Buenavista mine due to higher throughput at the concentrator and better ore grades and recoveries, as well as the first production from the new SX-EW III plant,

† higher production at the Cuajone mine resulting from higher throughput and higher ore grades from the HPGR production,

† higher production at the Toquepala mine due to better ore grades and recoveries, and

† higher production at the La Caridad mine due to better ore grades and recoveries, partially offset by

† lower production at IMMSA mines due to lower ore grades at all of their mines.

Molybdenum production increased 22.4% in the first six months of 2014 compared to the same period of 2013 due to our new Buenavista molybdenum plant΄s contribution of 3.1 million pounds of molybdenum and higher production at our Peruvian mines, principally as a result of better grades.

Silver mine production had a slight increase of 1.7% in the first six months of 2014 from the same period of 2013, principally as a result of higher production at all our Peruvian mines and at the Buenavista mine, partially offset by lower production at the Charcas mine due to an incident that temporarily restricted production.

Zinc production decreased 26.1% in the first six months of 2014 due to lower grades at all our IMMSA mines and lower production at the Charcas mine due to an accident that temporarily restricted production.

Operating Cash Costs: An overall benchmark used by us and a common industry metric to measure performance is operating cash cost per pound of copper produced. Operating cash cost is a non-GAAP measure that does not have a standardized meaning and may not be comparable to similarly titled measures provided by other companies. This non-GAAP information should not be considered in isolation or as substitute for measures of performance determined in accordance with GAAP. A reconciliation of our operating cash cost per pound of copper produced to the cost of sales (exclusive of depreciation, amortization and depletion) as presented in the condensed consolidated statement of earnings is presented under the subheading "Non-GAAP Information Reconciliation" on pages 44 - 45. We disclose operating cash cost per pound of copper produced, both without and with the inclusion of by-product revenues.

We define operating cash cost per pound of copper produced without by-product revenues as cost of sales (exclusive of depreciation, amortization and depletion), plus selling, general and administrative charges, treatment and refining charges net of sales premiums; less the cost of purchased concentrates, workers' participation and other miscellaneous charges, including royalty charges and the change in inventory levels; divided by total pounds of copper produced by our own mines.

We define operating cash cost per pound of copper produced with by-product revenues as operating cash cost per pound of copper produced, as defined in the previous paragraph, less by-product revenues and net revenue (loss) on sale of metal purchased from third parties.

In our calculation of operating cash cost per pound of copper produced, with by-product revenues, we credit against our costs the revenues from the sale of all our by-products, including, molybdenum, zinc, silver, gold, etc. and the net revenue (loss) on sale of metals purchased from third parties. We disclose this measure including the by-product revenues in this way because we consider our principal business to be the production and sale of copper. As part of our copper production process, much of our by-products are recovered. These by-products and the process of copper purchased from third parties are a marginal part of our production process and their sales value contribute to cover part of our fixed costs incurred. We believe that our Company is viewed by the investment community as a copper company, and is valued, in large part, by the investment community's view of the copper market and our ability to produce copper at a reasonable cost.

We believe that both of these measures are useful tools for our management and our stakeholders. Our cash costs, without by-product revenues allow us to monitor our cost structure and address operating management areas of concern. The measure operating cash cost per pound of copper produced with by-product revenues is a common measure used in the copper industry and it is a useful management tool that allows us to track our performance and better allocate our resources. This measure is also used in our investment project evaluation process to determine a project's potential contribution to our operations, its competitiveness and its relative strength in different price scenarios. The expected contribution of by-products is generally a significant factor used by the copper industry in determining whether to move forward with the development of a new mining project. As the price of our by-product commodities can have significant fluctuations from period to period, the value of its contribution to our costs can be volatile.

For further discussion please see our section of Operating cash costs in Part II, Item 7 of our Annual report on Form 10-K for the year ended December 31, 2013.


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Our operating cash cost per pound of copper produced, with and without by-product revenues, is presented in the table below for the three and six months ended June 30, 2014 and 2013.

Operating cash cost per pound of copper produced (1)

(in millions, except cost per pound and percentages)

                            Three Months Ended                        Six Months Ended
                                 June 30,                                 June 30,
                                           Variance                                   Variance
                     2014      2013      Value      %        2014        2013       Value      %
Total operating
cash cost without
by-product
revenues            $ 699.4   $ 633.5   $  65.9    10.4 %  $ 1,354.3   $ 1,243.3   $ 111.0     8.9 %
Total by-products
revenues             (374.3 )  (303.9 )   (70.4 )  23.2 %     (671.6 )    (633.8 )   (37.8 )   6.0 %
Total operating
cash cost with
by-products
revenues            $ 325.1   $ 329.5   $  (4.4 )  (1.3 )% $   682.7   $   609.5   $  73.2    12.0 %
Total pounds of
copper produced       352.9     316.9      36.0    11.4 %      702.7       638.9      63.8    10.0 %
Operating cash
cost per pound
without
by-product
revenues            $  1.98   $  2.00   $ (0.02 )  (1.0 )% $    1.93   $    1.95   $ (0.02 )  (1.0 )%
Operating cash
cost per pound
with by-products
revenues            $  0.92   $  1.04   $ (0.12 ) (11.5 )% $    0.97   $    0.95   $  0.02     2.1 %



(1) This is a non-GAAP measure. Please see pages 44 - 45 for reconciliation to GAAP measure.

As seen on the table above, our cash cost without by-products revenues in the second quarter and the first six months of 2014 were two cents lower than in the same periods of 2013 mainly due to the diluting effect of higher production at all our open pit mines mainly from Buenavista. This increase production volume offset the cost inflation, which increased fuel, power, tires, reagents and other operating materials for our production process.

Our per pound cash cost for the three months ended June 30, 2014, when calculated with by-products revenues was 92 cents per pound compared with $1.04 per pound in the same period of 2013. The decrease was largely attributable to the increase in molybdenum sales due to the higher production from the new Buenavista molybdenum plant and higher market price which increased by 24.5% in the second quarter 2014 compared with the same period of 2013.

In addition, our per pound cash cost for the six months ended June 30, 2014 when calculated with by-products revenues was 97 cents per pound compared with 95 cents per pound in the same period of 2013. This increase of two cents per pound or 2.1% was result of lower by-products market prices except for molybdenum and zinc which partially offset the reduction together with an increase in molybdenum production.

Metal Prices: The profitability of our operations is dependent on, and our financial performance is significantly affected by, the international market prices for the products we produce, especially for copper, molybdenum, zinc and silver. Metal prices historically have been subject to wide fluctuations and are affected by numerous factors beyond our control. These factors, which affect each commodity to varying degrees, include international economic and political conditions, levels of supply and demand, the availability and cost of substitutes, inventory levels maintained by producers and others and, to a lesser degree, inventory carrying costs and currency exchange rates. In addition, the market prices of certain metals have on occasion been subject to rapid short-term changes due to economic concerns and financial investments.

We are subject to market risks arising from the volatility of copper and other metal prices. For the remaining six months of 2014, assuming that expected metal production and sales are achieved, that tax rates are unchanged, giving no effect to potential hedging programs, metal price sensitivity factors would indicate the following change in estimated net income attributable to SCC resulting from metal price changes:

                                         Copper      Molybdenum       Zinc         Silver
Change in metal prices (per pound,
except silver - per ounce)             $     0.01    $      1.00    $    0.01    $     1.00
Annual change in net income
attributable to SCC (in millions)      $      4.7    $      14.7    $     0.6    $      5.1

Business Segments: We view our Company as having three operating segments and manage on the basis of these segments. These segments are (1) our Peruvian operations, (2) our Mexican open-pit operations and (3) our Mexican underground operations, known as our IMMSA unit. Our Peruvian operations include the Toquepala and Cuajone mine complexes and the smelting and refining plants, industrial railroad and port facilities which service both mines. The Peruvian operations produce copper, with significant by-product production of molybdenum, silver and other material. Our Mexican open-pit operations include La Caridad and Buenavista mine complexes, the smelting and refining plants and support facilities which service both


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mines. The Mexican open-pit operations produce copper, with significant by-product production of molybdenum, silver and other material. Our IMMSA unit includes five underground mines that produce zinc, lead, copper, silver and gold, a coal mine which produces coal and coke, and several industrial processing facilities for zinc and silver.

Segment information is included in our review of "Results of Operations" and also in Note 10 - "Segment and Related Information" of our condensed consolidated financial statements.

Inflation and Exchange Rate Effect of the Peruvian Nuevo Sol and the Mexican Peso: Our functional currency is the U.S. dollar and our revenues are primarily denominated in U.S. dollars. Significant portions of our operating costs are denominated in Peruvian Nuevo sol and Mexican pesos. Accordingly, when inflation and currency devaluation/appreciation of the Peruvian currency and Mexican currency occur, our operating results can be affected. In recent years we believe such changes have not had a material effect on our results and financial position. Please see Item 3 "Quantitative and Qualitative Disclosures about Market Risk" for more detailed information.

Capital Investment Programs: We made capital investments of $375.6 million and $699.4 million for the three and six months ended June 30, 2014, compared with $385.5 million and $702.3 million in the comparable periods of 2013, respectively. In general, the capital investments and investment projects described below are intended to increase production, decrease costs or address social and environmental commitments.

Set forth below are descriptions of some of our current expected capital investment programs. We expect to meet the cash requirements for these projects from cash on hand, internally generated funds and from additional external financing, if required. All capital spending plans will continue to be reviewed and adjusted to respond to changes in the economy or market conditions.

Projects in Mexico:

Buenavista Projects: The new copper molybdenum concentrator has an annual production capacity of 188,000 tons of copper and 2,600 tons of molybdenum. In addition, the project will produce annually 2.3 million ounces of silver and 21,000 ounces of gold. The total capital budget of the project is $1,383.6 million and through June 30, 2014 has an 80.7% progress with an investment of $783.1 million. The project is expected to be completed in the first half of 2015. All major equipment is on site and 72.5% has been installed.

Regarding the mine equipment acquisition for the Buenavista expansion, through June 30, 2014 we have invested $510.8 million and have received 61 400-ton capacity trucks, seven shovels and eight drills required for the mine expansion.

The first copper cathode at our SX-EW III plant was produced in June. The first . . .

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