Ero Copper - Q2 2023

Transcript

Operator (participant)

Thank you for standing by. This is the conference operator. Welcome to the Ero Copper Q2 2023 Financial and Operating Results conference call. As a reminder, all participants are in listen-only mode, and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. To join the question queue, you may press star, then 1 on your telephone keypad. Should you need assistance during the conference call, you may say null and operator by pressing star, then 0. I would now like to turn the conference over to Courtney Lynn, Vice President, Corporate Development and Investor Relations, for opening remarks. Please go ahead.

Courtney Lynn (SVP, Corporate Development, Investor Relations and Sustainability)

Thank you, operator. Good morning, and welcome to Ero Copper's Q2 2023 earnings call. Our operating and financial results were released yesterday afternoon and are available on our website, as are our financial statements and MD&A for the 3 and 6 months, ended June 30, 2023. On the call with me today are David Strang, Ero's Co-founder and Chief Executive Officer, Makko DeFilippo, President and Chief Operating Officer, and Wayne Drier, Chief Financial Officer. We will be making forward-looking statements that involve risks and uncertainties from which actual results may differ materially. We would refer you to our most recent annual information form, available on our website, SEDAR and EDGAR, for a discussion of the risk factors of our business and their potential impact on future performance. As a reminder, and unless otherwise noted, all amounts are in U.S. dollars.

I will now pass the call over to David Strang.

David Strang (Executive Chairman)

Thank you, Courtney. Thank you everybody for joining us today. During Q2, we continued to navigate a dynamic macroeconomic environment as we observed strengthening fundamentals in global copper demand, while at the same time experiencing softer copper prices driven by global economic concerns. The transition to clean energy has intensified the need by governments and downstream industries to secure critical minerals supply, as evidenced by impressive investments from non-traditional investors across the copper sector. Despite this positive backdrop, we saw lower copper prices during the period, as well as a stronger Brazilian real. We're able to offset the impact of these changes in the copper price and exchange rate through the strong execution of our full-year operating plan. This resulted in a noteworthy increase in copper production of nearly 30% compared to Q1.

Additionally, our Xavantina operations performed well, contributing to adjusted EBITDA of $49.1 million, and adjusted net income attributed to the owners of the company of $22.3 million, or $0.24 per share on a fully diluted basis. We also made meaningful progress on our key growth initiatives, including the Tucumã project and the Caraíba operations' new external shaft. I am pleased to report that we are approaching 50% physical completion of the Tucumã project. Similarly, the pre-sink phase of development for the Caraíba operations' new external shaft was successfully completed, and we are gearing up for the main shaft sinking later this year. Importantly, we have achieved over 95% visibility on planned CapEx at Tucumã, and approximately 80% visibility on shaft capital, with total forecasted capital for both projects remaining within 5% of the original estimates.

Before I hand over the call to Makko to provide more detail on the progress around our key growth projects, let me give you an overview of our Q2 operating performance and the expected cadence of production during the second half of the year. At our Caraíba operations, we produced 12,004 tons of copper in concentrate at C1 cash costs of $1.52 per pound of copper produced. The higher mine tonnage and copper grades at all three of our mines were driven by planned stope sequencing, resulting in increased production and lower unit costs compared to the first quarter. While we continued to sell copper concentrate to our domestic smelter during the quarter on a limited and prepaid basis, the associated reduction in concentrate sales costs was offset by continued strengthening of the BRL.

As for the cadence of production in the second half of the year, we expect copper production to be slightly lower in the Q3 compared to Q2, due to slightly lower planned mill throughput volumes and copper grades resulting from stope sequencing. We expect mill throughput volumes to increase in the fourth quarter with the anticipated commissioning of the new ball mill and drive quarterly production to its highest level of the year. Putting aside any fluctuations in the BRL exchange rate, we expect these variations in production to be reflected in Caraíba's C1 costs, with slightly higher C1 cash costs expected in the Q3 and lower C1 cash costs expected in the fourth quarter.

As a result, we are reaffirming our full-year copper production guidance of 44,000-47,000 tons of copper produced at C1 cash costs of between $1.40-$1.60 per pound of copper produced. Turning to our Xavantina operations, we continue to benefit from strong mined and processed gold grades of over 13 grams per ton during the quarter. This represents an increase in grade of over 11% quarter-on-quarter and 100% year-on-year, effectively offsetting low metallurgical recoveries that were impacted by elevated mill inventory at quarter end, as well as elevated carbon content in several high-grade stopes mined and processed during the period. Consequently, we produced 12,333 ounces of gold at C1 cash costs of $492 per ounce of gold produced.

We are reaffirming Xavantina's 2023 gold production guidance of 50,000-53,000 tons. Sorry, thousand ounces. I wish it was tons, of gold at C1 cash costs of $475-$575 per ounce of gold produced. With the completion of development to the Matinha vein during Q2, we expect higher gold production in the second half of the year as we commence production from the second ore source. Regarding our 2023 capital expenditure guidance, we have increased our range by $15 million-$20 million to reflect proactive investments following a detailed review of major projects and support infrastructure at the Caraíba operations during Q2.

While the shaft project remains within 5% of budget, we have elected to invest in various upgrades in the second half of the year, which Makko will discuss more, to support our expanded life of mine operating plans. It is worth noting that the non-Caraíba components of our capital expenditure guidance, as well as our C1 cash cost guidance, remain unchanged. Nevertheless, we are closely monitoring the BRL to U.S. dollar exchange rate, which averaged approximately 4.8 in July. The BRL has since weakened, following a higher-than-expected 50 basis point rate cut by Brazil's central bank and central bank rate, combined with a more dovish tone expressed by the country's policymakers.

If the BRL remains at current levels or strengthens again, we may consider adjusting the five dollar, BRL 5.30 exchange rate assumed in calculating our full year operating costs and capital expenditure guidance ranges. I will now pass the call to Makko to discuss the highlights around our year-to-date project execution, after which Wayne will discuss our financial results for the quarter.

Makko deFilippo (President and COO)

Thank you, David, and good morning, everyone. During Q2, we continued to make excellent progress across our portfolio of growth projects. Advancement of critical path work streams at both Tucumã and our shaft project at Caraíba is evident in the updated project photos we have included in our Q2 news release. At Tucumã, as David mentioned, we are approaching 50% physical completion and are on track to achieve first production during the second half of next year. Contractor mobilization, hiring of key operational positions, and a continuation of our training programs, which are focused on hiring locally, all progressed significantly during the period, and we now have a workforce of over 1,100 people on-site. Notable achievements this quarter include the completion of all critical path earthwork activities and completion of all large volume civil work.

In addition, we commenced assembly and erection of structural steel for the primary crusher, the ball mill, and flotation areas as planned. During the 3rd quarter, we expect to complete the construction of our water reservoir, continue to advance steel and electromechanical assembly throughout the process area, install our primary crusher and ball mill, which are both on-site, and install our main substation, which is completing final testing and should arrive on-site in the coming weeks. In summary, physical progress and procurement at Tucumã remains on track, and with over 95% visibility on planned capital expenditures for project completion, we are reaffirming our $305 million capital cost estimate.

We expect capital spend at Tucumã to be second-half weighted this year due to the ramp-up on steelworks, electromechanical assembly, and piping, as well as a number of final equipment deliveries expected during the second half of the year. At our Caraíba operations, we are focused on executing our operational plans and advancing our Pilar 3.0 initiative, which includes the construction of a new external shaft for the Pilar mine and an expansion of our mill capacity. The new external shaft project for the Pilar mine is progressing according to schedule and was approximately 25% complete as at quarter end. As David mentioned, we completed the pre-sink phase of the shaft during the period. Subsequent to quarter end, we successfully lowered the sinking stage into the shaft collar and commenced hoisting of the pre-assembled headframe into its permanent configuration.

Our mill expansion project, which includes installation of a third ball mill and a new flotation upgrade, is on track to start commissioning and ramp up during the fourth quarter. Looking ahead at Caraíba, we remain fully on track to complete our mill expansion project and initiate the main sink on the new shaft by year-end. Underground at Pilar, we remain on schedule with development and permanent underground infrastructure installations for shaft handover to operations by the end of 2026. It is worth noting that during the quarter, we completed a detailed assessment of support infrastructure at our Caraíba operations. This thorough review identified new capital investments and upgrades totaling approximately $15 million-$20 million. These investments are specifically focused on bolstering the support infrastructure for the deepening project of the Pilar Mine, our underground paste fill distribution system, and overall tailings capacity.

The primary objective behind these strategic investments is to enhance operating resiliency of the Caraíba operations and support its extended mine life. In the months and years ahead, we will continue to look at stage strategic investments in infrastructure and new technologies to improve operational performance, ensure operating resiliency, and protect our frontline workforce. I will now turn the call to Wayne to discuss our financial results.

Wayne Drier (CFO)

Thank you, Makko. As David mentioned earlier, our Q2 financial performance reflected a notable increase in copper production, mixed with lower copper prices and a stronger Brazilian real compared to Q1. This drove operating cash flows of $55.5 million and helped to fund capital expenditures of $126.9 million, which were primarily directed towards the ongoing execution of our organic growth initiatives. We ended the quarter with a robust liquidity position of approximately $330 million. This included cash and cash equivalents of $124 million, short-term investments of $56 million, and $150 million of undrawn availability under our senior secured revolving credit facility.

Regarding our Brazilian real to U.S. dollar exchange rate hedges, we reported realized gains of $2.8 million and unrealized gains of $2.1 million. Looking ahead to the second half of the year, we are hedged on approximately $15 million per month at an average floor rate of 5.3 and an average cap rate of approximately 6.3 Brazilian real to U.S. dollar. We also remain hedged on approximately 75% of our copper production for the remainder of the year through a zero-cost collar hedge program initiated in January. The hedge contracts provide a floor price of $3.50 per pound on 3,000 tons of copper per month through December 2023. It's worth noting that our realized metal prices for each quarter reflect settlement adjustments and other miscellaneous items not captured in C1 cash costs.

Furthermore, average realized prices are influenced by the timing of the metal sales, which do fluctuate within a given quarter. With that, I'll now hand the call back to David for some final remarks.

David Strang (Executive Chairman)

Thank you, Wayne, and everyone who joined the call today. Before we proceed to the Q&A session, I want to take a moment to express my sincere appreciation to our dedicated colleagues in Canada and Brazil. Their commitment and hard work have been instrumental in not only executing our operating plans, but also driving progress on our organic growth projects. Additionally, I am pleased to announce the publication of our 2022 sustainability report earlier this week. This report outlines our strategy and performance across key environmental, social, and governance topics. As the global decarbonization movement gains momentum and stakeholder interests converge, we are proud of our strong ESG profile, which we firmly believe will translate into positive financial outcomes, and we are excited about the opportunities to expand our contributions to the green economy as we execute on our growth strategy.

On a personal note, a lot of you know Courtney very well. I'd like to also extend our congratulations to Courtney, who was promoted to Senior Vice President of the Corporation for Corporate Development, Investor Relations and Sustainability. This is a true testament to her strength and what she adds to our team, that we were pleased to be able to provide her with this promotion. So congratulations, Courtney, from us and the rest of the team. With that, operator, we'll now open the lines for questions.

Operator (participant)

Thank you. We will now begin the question and answer session. To join the question queue, you may press star, then one on your telephone keypad. You will hear a tone acknowledging your request. If you are using a speakerphone, please pick up your handset before pressing any keys. To withdraw your question, please press star, then two. We will pause for a moment as callers join the queue. The first question comes from Dalton Baretto with Canaccord Genuity. Please go ahead.

Dalton Baretto (Managing Director, Equity Research, Metals and Mining)

Thank you. Good morning, guys, and congrats, Courtney. I wanted to start by asking about the realized price, and I understand Wayne just touched on it, but maybe just a little bit more context. Over the last few quarters, I mean, you've been realizing, you know, somewhere between a 10% and 15% discount to the LME. I'm just trying to understand, you know, really what's in there and whether that's kind of a go-forward assumption to make. Thanks.

Wayne Drier (CFO)

Yeah, Dalton, I think we obviously have a number of adjustments that flow through that. Obviously there's settlement adjustments as well, as I mentioned. When you think about the final deliveries, there are weight adjustments, assay adjustments. When you look at what we realize versus the headline price, I think that's a fair assumption to make going forward.

Dalton Baretto (Managing Director, Equity Research, Metals and Mining)

Okay, great. Thanks, Wade. Maybe I can just ask you another one. On the BRL implications, if the BRL does stay around 4.8, 4.9, and I understand, you know, the, the floor on some of your hedges is around 5.3. If the BRL does stay around 4.9. What are the implications on your C1 costs as well as on your CapEx estimates for the two projects?

Makko deFilippo (President and COO)

Yeah. Hey, Dalton, this is Makko. I'll, I'll pick that one up. You know, when you look at our business, and I think we've, you know, talked about this in the past, particularly in the operating cost level, our operating costs are about 95% denominated in Brazilian reais. That excludes things like diesel, which do have a dollar link component. That's a, you know, 9.5 to 1 ratio on the BRL and, or 0.95 to 1 ratio on the BRL. On our capital projects, it depends on which one you're talking about. The Tucumã, when you look at the remaining spend, is about 90%-95% BRL. When you're looking at the shaft project, it's less, it's probably about 60% BRL, and on the mill expansion would be the same 95%.

It's predominantly labor at this stage.

Dalton Baretto (Managing Director, Equity Research, Metals and Mining)

Great. Thanks, guys. I'll jump back in queue.

Operator (participant)

The next question comes from Orest Wowkodaw with Scotiabank. Please go ahead.

Orest Wowkodaw (Managing Director, Senior Research Analyst, Metals and Mining)

Hi, good morning. David, can you please give us an update on the nickel exploration? I'm curious whether we should still be anticipating. I think you previously mentioned October as a target for more of a fulsome nickel update. Is that still the case?

David Strang (Executive Chairman)

Thanks. Thanks, Orest. I'm surprised Dalton didn't, didn't beat you to the punch on that one. With regards to nickel, we continue to advance the projects and moving them forward. I think where we're standing right now is we're hopeful to be able to have a more fulsome conversation with the market, probably more likely in November. I don't want to get too into the reads with regards to everything that's going on in and around the projects as we're working on them. We want to be able to give the most comprehensive update we can with regards to how, how that's all coming together. It looks like the best guidance I can give you right now is possibly November with regards to, to doing that.

There's a couple of items that we're working through with regards to land packages, and as they come to fruition, and hopefully, they still come to fruition in the near term, so we'll be able to have a more fulsome discussion. I think right now, the best indicators I can give you is sometime in November is, is likely when we would like to be able to have a more fulsome discussion with the marketplace about it.

Orest Wowkodaw (Managing Director, Senior Research Analyst, Metals and Mining)

Okay, thank you. Just as a follow-up to that, should we be anticipating a potential maiden resource on the nickel, or is that, is that way too premature?

David Strang (Executive Chairman)

I think it's a little premature there, Orest. What we're trying to understand with regards to the various areas that we have, is what is the quantum of opportunity we have with regards to various nickel targets that we're dealing with? I think resources right now, I think is, is premature. I think what we're trying to understand is, what is the quantum of the opportunity throughout the Curaçá Valley in terms of the number of these that we can look at, and we can start working on in a comprehensive fashion over the course of the next few years.

Orest Wowkodaw (Managing Director, Senior Research Analyst, Metals and Mining)

Okay, perfect. Just 1 follow-up to Dalton's question for Wayne about the realized nickel price. Or sorry, copper price. I realized that this quarter was pretty volatile with respect to copper price. Going forward, in a flat copper price environment, which then eliminates the provisional pricing impact, what kind of run rate discount should we be anticipating to LME in that kind of environment? Because I feel like the discount this quarter was exaggerated to the downside.

Makko deFilippo (President and COO)

Yeah, Orest, I think this quarter, we did have one shipment, which was, we had an anomalous settlement on assay. We decided to. It's still out for umpire, but we decided to book that through. That had an oversized impact on this number. I think going forward, it'll be much more in line with what you've seen in the past, which is sort of 5%-10%.

Orest Wowkodaw (Managing Director, Senior Research Analyst, Metals and Mining)

And if-

Makko deFilippo (President and COO)

That reflects, just to add, that reflects there are a lot of adjustments that come through that are really specific to the different contracts we sign with the various offtakers. As you know, we're not under long-term contracts, we do short-term contracts. Every short-term contract has different nuances as to the adjustments and sort of terms and conditions outside of, you know, treatment and refining charges.

Orest Wowkodaw (Managing Director, Senior Research Analyst, Metals and Mining)

Okay, because this is, I'd say this is an unusual to see it this way in terms of it being reported. I mean, should not these be reflected in costs, in C1 costs, rather than a discounted LME price?

Makko deFilippo (President and COO)

Look, we have a certain approach that we take, and, you know, we're comfortable that these reflect discounts to the, to the, the metal price. We've been very consistent with this approach, over the last few years. We haven't changed our approach to that. I think that's reflected in, if you look back in, in our, in prior reporting.

Orest Wowkodaw (Managing Director, Senior Research Analyst, Metals and Mining)

Okay. Thank you very much.

Operator (participant)

The next question comes from Gordon Lawson with Paradigm Capital. Please go ahead.

Gordon Lawson (Analyst, Mining)

Hey, good morning, and thank you for taking my question. Can you please provide a little more color on the 45% completion at Tucumã, in terms of the status of delivery of long lead items?

Makko deFilippo (President and COO)

Yeah. Hey, Gordon, this is Makko. When you look at our long lead items, effectively, all the purchases have been placed. As I said, the longest lead items, which would have been our bar, ball mill and primary crusher.

Those have arrived on site. When I go through the manufacturing punch list, across the remaining long lead items, those are in near completion stage at most of our, our providers, for those pieces of equipment. We expect deliveries to occur throughout the balance of the year, on all long lead items that we purchased or put deposits on in the last 12-14 months.

Gordon Lawson (Analyst, Mining)

Okay, great. Thank you. Looking at the pre-stripping, seeing how far it's ahead of schedule, are there any plans to mine and stockpile the sulfide ore prior to the mill completion?

Makko deFilippo (President and COO)

Yeah, if you look at the schedule, Gordon, it's a great question. We're about 2.7 million cubic meters advanced, or approximately 5 million tons on the pre-strip. We anticipate reaching first sulfide ore in November of this year, sometime during Q4, and we will accumulate a stockpile of ore, in advance of commissioning, which we anticipate occurring in 2024, as you know.

David Strang (Executive Chairman)

I'll even add on to that, Gordon. What I'm pretty impressed with, with the group is the detail they've gone into, even with the stockpile. Obviously, everybody knows that we're gonna be mining very, very high grades in the early part of the mine's life. The team has actually put together a plan whereby we're gonna have both a high grade and a lower grade stockpile, so that as we go through wet commissioning, and we are starting to work and make sure everything works, that we're not wasting high grade material, running it through, as we're testing, but rather using lower grade material for that test work.

You know, I've got to commend Makko and the team, with regards to the thinking, with regards to doing that and the, the, the granular, granularity that the team is working towards, even with regards to, to that nuance.

Gordon Lawson (Analyst, Mining)

Okay, that sounds great. Thank you very much. I appreciate it.

Operator (participant)

Once again, if you have a question, please press star, then one. The next question comes from Stefan Ioannou with Cormark Securities. Please go ahead.

Stefan Ioannou (Mining Analyst, Base Metals)

Yeah, thanks very much, guys, and congratulations, Courtney. Just curious, in past calls, you sort of, you mentioned, you know, seeing potential, district potential beyond Tucumã. I know it's always hard to comment on these things, but is there anything more you can update us on that front, in terms of what you're seeing in that area, maybe next?

David Strang (Executive Chairman)

Nothing right now, with regards to that, Stefan. We are, we are working. We've mentioned that we're working on a project called Soma. I think it's a little early to get into too much detail with regards to what we're seeing there. The team is also widening its viewpoints with regards to a more regional review in terms of the general area around the Tucumã project. Nothing new to report there with regards to that

Stefan Ioannou (Mining Analyst, Base Metals)

Okay. Okay, great. Thanks very much.

Operator (participant)

The next question comes from Jackie Przybylowski with BMO Capital Markets. Please go ahead.

Jackie Przybylowski (Managing Director, Metals and Mining Equity Research Analyst)

Thanks for taking my question, and I'll add my congratulations to Courtney as well. Well deserved. I was wondering on the, on the changes to your CapEx guidance that you've given for 2023, can you talk a little bit about which projects you've brought forward or added to the list for, for this year, for the second half? Thanks.

Makko deFilippo (President and COO)

Yeah, for sure, Jackie. This is Makko. When you go through, I think it's important to note that it's a various number of line items. No single line item is above $2.5 million. These are a series of small investments, operational improvements, in the areas related to some of the permanent infrastructure for the Deep Mine Project, which frankly, we won't have the opportunity to go back into once the shaft is in operation. And we're advancing some of the installation on our permanent infrastructure, as well as in tailings and the underground distribution system for the paste fill line. Those are the main buckets. As I said, it's a series of investments, and line items that cumulatively add up to about $15 million-$20 million.

Jackie Przybylowski (Managing Director, Metals and Mining Equity Research Analyst)

Can, can I ask, just as a follow-up, sorry. What, what prompted the, those projects to be brought forward? I know you mentioned, the, coordinating with, with the shaft, but is this, is this related to the fact that your balance sheet's in better shape than you had anticipated, or, or just, the shaft's moving forward more quickly than you'd expected?

David Strang (Executive Chairman)

I'm gonna take this one. In terms of Makko taking over the role as COO, he decided to do a comprehensive review. He felt that certain projects needed to be moved up in terms of the overall profile of some of the items with regards to efficiencies in the business, along with some projects that he felt needed to be spent sooner rather than later.

Jackie Przybylowski (Managing Director, Metals and Mining Equity Research Analyst)

That makes a lot of sense. Thanks very much.

Operator (participant)

This concludes the question and answer session. I would like to turn the conference back over to David Strang for any closing remarks.

David Strang (Executive Chairman)

I'd just like to thank everybody again for coming on the call. I hope everybody's having a great summer. As always, we are available for questions. Please feel free to reach out to Courtney, myself, Makko, Wayne, if you have anything further you'd like to get clarity on. Thanks again, operator. Thanks to everybody. Bye-bye.

Operator (participant)

This concludes today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.