Fortuna Mining - Earnings Call - Q1 2020

Transcript

Operator (participant)

Ladies and gentlemen, good day, and thank you all for joining us for this Fortuna Silver Mines First Quarter 2020 Financial Call and Operational Results. As a reminder, all phone participants will remain in a listen-only mode, and today's session is being recorded. To get us started with opening remarks and introductions, I am pleased to yield the floor to Mr. Carlos Baca, Investor Relations Manager. Please go ahead, sir.

Carlos Baca (Investor Relations Manager)

Thank you very much. Good morning, ladies and gentlemen. I would like to welcome you to Fortuna Silver Mines and to our Financial and Operations Results Call for the First Quarter of 2020. Today, we will be using a webcast presentation, which will be controlled by us. To download the presentation, please go to our website at www.fortunasilver.com, click on the Investors tab, then click on the Financials subtab, and under Q1 2020, click on the Earnings Call webcast link. Jorge Alberto Ganoza, President, CEO, and Director, and Luis Dario Ganoza, CFO, will be hosting the call from their home offices in Lima, Peru. Before I turn over the call to Jorge, I would like to indicate that this earnings call contains forward-looking information that is based on the company's current expectations, estimates, and beliefs. This forward-looking information is subject to a number of risks, uncertainties, and other factors.

Actual results could differ materially from a conclusion, forecast, or projection in the forward-looking information. Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information. Additional information about the material factors that could cause actual results to differ materially from the conclusion, forecast, or projection in the forward-looking information, and the material factors or assumptions that were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information is contained in the company's Annual Information Form and MD&A, which are publicly available on SEDAR. The company assumes no obligation to update such forward-looking information in the future except as required by law. In addition, as Fortuna is in the midst of a public offering of its securities, management will not be taking any questions during or after the call today.

I would now like to turn the call over to Jorge Alberto Ganoza, President, CEO, and Co-founder of Fortuna.

Jorge Alberto Ganoza (President, CEO, and Director)

Thank you, Carlos, and good morning to all. I'll be presenting an introduction to our First Quarter Results and discuss actions taken during these months of unprecedented uncertainty we're living in, and then turn the call over to Luis who will take you through the financial statement. On Slide 6 of the presentation. We'll give it a second so we can move on to Slide 6 of the presentation. In the quarter, we reported strong free cash flow of $14 million and EBITDA margin of 34%, below our targeted 40% margin. Overall, our results were negatively impacted by lower gold and silver production and sales against the comparable period and year budget. This is the result of mining from lower-grade zones at the San José Mine and lower silver and byproduct metal prices. We will provide more detail on this during the presentation.

The company has taken actions to maintain an adequate level of liquidity considering these uncertain times and the capital demands of our project pipeline. As of the end of March, we reported $88.5 million in cash, announced a $60 million equity financing, planned for $23 million in 2020 CAPEX and OPEX reductions, and proposed amendments to financial covenants in our credit facility. As of March 19th, the date of the demobilization due to mandatory isolation period in Argentina, our Lindero Project is 94% complete. Remaining funding to commercial operations is $75-$80 million. Our construction and operations crews are mobilizing back to site during this second half of May. We expect to be up and running at full speed under our new construction and commissioning plan by the end of the month.

Considering all the COVID-related delays and limitations, we're now planning to be in commercial operations in Q1 2020. Over the past month, the COVID pandemic has put our generation to an unprecedented test. During these times of extreme uncertainty, our actions at Fortuna are being guided by three principles: support of local government actions, safety of our personnel and neighboring communities, and business continuity. We have withdrawn our 2020 production guidance. Our Caylloma Mine has managed to operate all this time, but our Lindero Project and San José mine were halted on March 19 and April 2nd, respectively. During this second half of May, we're mobilizing and preparing to resume activities at both units. In early May, we published our 2019 Sustainability Report. This report is a more comprehensive and significant improvement over the previous year's publication.

We're listening to our stakeholders and working to address the demands placed in our industry by a rapidly changing world. I invite you to read the document and provide comments to the company. Moving on to Slide 7. In Slide 7, we share with you our key safety performance indicators. We present the KPIs as a 12-month rolling average to better represent trends, and as you can appreciate, we are delivering solid and consistent improvement year over year. We still have a lot to improve on and are continuously learning from our mistakes, but a cultural change has been set in motion in our organization, and it shows with the results. Slide 8. In Slide 8, our Q1 production for both gold and silver was negatively impacted by lower grade and slightly lower tonnage throughput at our San José mine in Mexico.

San José production in the quarter deviated from the annual plan to accommodate two initiatives: pillar recoveries and a pilot test for long-hole stoping. These changes to the plan temporarily forced mining into higher-risk areas from the perspective of great predictability and mining dilution, leading to lower grades in the quarter. This issue has been addressed and corrected in late Q1, and although we have withdrawn 2020 guidance, we plan for grades to be in line with the base assumptions of our 2020 guidance for the remainder of the year. For the second quarter of this year, we expect a significant drop in silver and gold production as a result of the Mexican COVID response plan, which mandated an industry-wide stoppage, which at the San José Mine came into effect on April 2nd.

Based on the recently published government guidelines, mining has been included in the list of essential industries and is expected to resume operations either on May 18th or June 1st. The date for each operation will depend on a government regional assessment of the virus contagion. At this moment, the government has not provided any further guidance. Slide nine. Under Slide nine, silver accounted for 52% of sales and gold for 29%, for a combined 81% precious metals contribution. Silver price was a roller coaster in the quarter. We realized an average price of $16.30 per ounce for silver, but price at the end of Q1 closed at slightly below $14 at $13.90. Silver spot price today hovers back around $16.50. Gold continues to show a steadfast performance, with prices today trying to build a solid base above 1,700 compared to the 1,570 for the quarter. Slide 10.

We'll give it a minute for the presentation to update to the new Slide. Under Slide 10, compared to a year ago, sales dropped by $11.5 million, negatively impacted by the previously described lower metal production, lower byproduct-based metal prices, and commercial terms for concentrate. Our EBITDA was hit primarily by the lower sales. The adjusted net loss was deepened by -$2.6 million in our income tax provision as a result of the devaluation of the Mexican peso and $1.2 million dividend withholding tax. Slide 11. San José all-in sustaining cost was driven higher by lower metal production, but on a cost per ton basis, we were in line with our budget at $71 per ton. Caylloma all-in sustaining cost was driven higher by lower zinc and lead prices, which were down 20% and 8%, respectively.

Costs on a per ton basis were in line with our budgets at approximately $80. Here, we're still waiting for the Slide to upload. I don't know if everybody's seeing the same Slide in the presentation. I'll move on to Slide 12. In the quarter, we reported consolidated capital expenditures of $26.6 million. The bulk of this, of course, related to our Lindero project construction and commissioning activities, accounting for $21.4 million. On Slide 13 of the presentation, we share our project pipeline. Here, I can highlight once again the relevance of our Lindero project for low-cost co-production growth. On Slide 14 of the presentation, on May 8th, we disseminated a comprehensive news release updating the market on our plans to resume construction activities at Lindero. We also provided guidance on our revised construction and commissioning timelines, which take into consideration COVID-related restrictions and limitations.

The construction workforce is mobilizing back to site the second half of May. We plan to initiate ore stacking in the leach pad in July with the aim of producing first gold as part of the commissioning and ramp-up phase starting in September and going until December. During this period, gold doré production is estimated in the range of 25,000-28,000 ounces. On Slide 15, the project completion stands at 94% as of March 19th, the date the project demobilization took place. We are working to have our full construction workforce operational on site by early June. For the start of commissioning and initial ramp-up, we plan to bypass the tertiary HPGR crushing circuit and agglomeration. This means we will be placing secondary crushed ore on the leach pad until November when the tertiary crushing circuit is scheduled to come online.

The objective of this bypass plan is to remove the risk to initial production of commissioning the HPGR under a tight timeline without on-site vendor support. This plan will also allow us to reduce parallel activities, allowing a better concentration of resources on completion and commissioning of solution handling, ADR, and SART plants. Our remaining project funding requirements for CAPEX, pre-production, working capital, and VAT stand at $75-$80 million. Following, we have a series of recent pictures from our construction. In my computer here, the presentation has frozen on one of the early Slides, so I don't know if that's the case for everybody, but I would apologize if that is the case. But I will now turn the presentation to Luis, who can provide you with further details on our financial results.

Luis Dario Ganoza (CFO)

Thank you, Jorge. I'll make reference to Slide 20 of the webcast.

As Jorge has described, sales were impacted mainly by lower production at San José, a sharp drop in base metal prices, treatment, and refining charges, and quarter-end silver price adjustments. Compared to the first quarter of 2019, sales fell $11.5 million. The net loss of $4.5 million and the adjusted net loss of $2.2 million are the result of the decrease in sales combined with an unusually high income tax provision for the period. Pre-cash flow from ongoing operations for the quarter was $14.2 million, a strong increase over the same quarter in 2019. The increase was due primarily to positive changes in working capital of $9.5 million compared to negative changes in the first quarter of 2019, as well as lower capital expenditures in 2020. On the next Slide, Slide 21.

As mentioned before, the main component of the drop in sales was the lower precious metal production, in particular the effect of gold at San José. The negative sales adjustment of $2.8 million corresponds to the drop in silver, zinc, and lead prices at the end of March, which, when combined with a positive price effect of $1 million, results in a negative impact on metal prices of $1.8 million. The negative impact of treatment and refining charges reflects a deterioration of commercial terms for zinc and lead concentrate in 2020. On to the next Slide, Slide 22. Our adjusted operating income was $5.5 million. The effect from lower sales was mitigated by lower G&A of $2.9 million and a foreign exchange gain on an adjusted basis of $1.9 million. This is after adjusting for a $3.2 million loss related to the devaluation of the Argentine peso.

The details of these adjustments are shown on the appendix section on Slide 29 of the webcast. As a separate note, we also recorded in the quarter $1.1 million of Argentine peso denominated investment gains, which partially offsets the negative impact that the devaluation of the peso continues to have on our VAT receivables at the Lindero Project. Cash costs at both San José and Caylloma were mostly within similar levels as in 2019. The fall in EBITDA at both operations was mainly a result of lower sales. This effect was more pronounced at Caylloma, which recorded a sharper drop in EBITDA associated with a larger fall in sales when compared to 2019. On to Slide 23. Total G&A was $3.6 million, which was $2.9 million below 2019.

G&A for corporate and subsidiaries taken together was $0.3 million lower than Q1 2019, while the main reduction came from a credit in share-based payment of $1.4 million, as shown in the table, compared to a charge of $1.3 million in 2019. Our effective tax rate in the quarter reflects the impact, as Jorge mentioned, of the devaluation of the Mexican peso. To a large extent, this impact is on the deferred component of the income tax provision. As we know, under IFRS, the calculation of the income tax is subject to the volatility of foreign exchange. We estimate this effect at around $2.6 million. Additionally, there was a one-time charge in the quarter related to $1.25 million of withholding taxes. On to the next Slide, Slide 24.

Here also, as mentioned by Jorge, we have taken measures to strengthen our balance sheet, preserve liquidity, and address the impact of the suspension of operations at San José on our financial covenant. We expect that these budget reductions of $12 million in CapEx and brownfield exploration and $11 million in operating and corporate expenses will be constantly reassessed over the coming months as the overall situation related to the pandemic and commodity prices evolve. Our cash liquidity position at the end of the quarter was $88.5 million. Thank you, and back to you, Carlos. Thank you, Luis. As noted at the beginning of the call, Fortuna is in the midst of a public offering of its securities. Accordingly, management will not be taking any questions today. I would like to thank everyone for listening to today's earnings call, and we look forward to you joining us next quarter.