FCX

Business Context and Reporting Period

Company: Freeport-McMoRan Copper & Gold Inc. (FCX)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 1998
Primary Operations: FCX is a major global producer of copper and gold, with principal operations conducted through its subsidiary P.T. Freeport Indonesia Company (PT-FI) in Irian Jaya, Indonesia. The company also operates a copper smelter in Spain (Atlantic Copper, S.A.). FCX holds an aggregate 85.87% ownership interest in PT-FI and maintains a joint venture with Rio Tinto plc, which holds a 40% interest in future development projects and production exceeding specified amounts.

Key Financial Metrics

Income Statement (Parent Company Condensed Data):

• Net Income: $153.8 million (1998) vs. $245.1 million (1997).
• Income from Investment in PT-FI/PT-II: $211.2 million (1998) vs. $218.8 million (1997).
• Interest Expense (Net): $66.1 million (1998) vs. $59.6 million (1997).
• Preferred Dividends: $35.5 million (1998).

• Total Assets: $1.61 billion (1998) vs. $1.64 billion (1997).
• Cash and Cash Equivalents: $0.8 million (1998) vs. $1.5 million (1997).
• Long-term Debt: $967.3 million (1998) vs. $825.3 million (1997).
• Stockholders' Equity: $103.4 million (1998) vs. $278.9 million (1997).

• Net Cash Provided by Operating Activities: $67.9 million (1998) vs. $185.8 million (1997).
• Net Cash Used in Financing Activities: $59.0 million (1998), driven largely by $259.2 million in share repurchases and $35.4 million in common stock dividends.

• Copper Production (Net of Rio Tinto): 1.43 billion pounds (22% increase over 1997).
• Gold Production (Net of Rio Tinto): 2.23 million ounces (24% increase over 1997).
• Average Ore Throughput: 196,400 metric tons per day (MTPD).
• Cash Production Costs: $0.12 per pound of copper (47% lower than 1997, largely due to Indonesian rupiah devaluation).

• Copper: 40.0 billion pounds.
• Gold: 51.6 million ounces.
• Silver: 119.1 million ounces.

Material Changes vs. Prior Period

Production and Costs: Production of copper and gold increased significantly (22% and 24% respectively) due to the completion of the fourth concentrator mill expansion in early 1998. Cash production costs dropped 47% year-over-year, primarily attributed to the devaluation of the Indonesian rupiah reducing labor costs, lower diesel and power costs, and economies of scale.

Financial Performance: Despite higher production volumes, Net Income at the parent company level declined from $245.1 million in 1997 to $153.8 million in 1998. This decline was influenced by higher interest expenses ($66.1M vs $59.6M) and a reduction in income from investments. Stockholders' equity decreased significantly from $278.9 million to $103.4 million, reflecting substantial share repurchases ($259.2 million) and dividend payments.

Debt and Liquidity: Long-term debt increased by approximately $142 million to $967.3 million. Cash and cash equivalents at the parent level decreased to $0.8 million. However, the company maintains a strong ratio of earnings to fixed charges of 2.5x for 1998.

Guidance, Outlook, Risks, and Contingencies

Outlook and Guidance: Management expects 1999 sales to approximate 1.4 billion pounds of copper and 2.1 million ounces of gold. This projection assumes higher mill throughput rates offset by lower average ore grades and recoveries compared to 1998.

Key Risks:

• Indonesian Political and Economic Instability: The filing highlights significant risks related to the Indonesian economy, including currency volatility (rupiah), inflation, and political transitions following the resignation of President Suharto. Social unrest and separatist activities in Irian Jaya pose potential operational disruptions.
• Commodity Price Risk: Revenues are highly sensitive to fluctuations in copper and gold prices. Final settlement for concentrate sales is based on future London Metal Exchange (LME) prices.
• Environmental and Regulatory: Operations face strict environmental regulations regarding tailings disposal. Estimated ultimate reclamation and closure costs range from $100 million to $150 million, with $9.2 million accrued as of year-end.
• Legal Proceedings: Two significant lawsuits (Beanal and Alomang) allege environmental and human rights violations in Indonesia, seeking billions in damages. The company intends to defend these vigorously.
• Year 2000 (Y2K) Compliance: Estimated incremental costs for Y2K compliance are approximately $3 million, with completion targeted for the second quarter of 1999.

• Voluntary Royalties: PT-FI agreed to pay voluntary additional royalties on production above 200,000 MTPD effective January 1, 1999, to support local development.
• Infrastructure Sales: PT-FI sold infrastructure assets to joint ventures in prior years and subsequently leased them back, consolidating the ventures due to guaranteed returns for partners.

Investor Verification Checklist

• Reserve Verification: Confirm the independent verification of the 40 billion pounds of copper and 51.6 million ounces of gold reserves by Independent Mining Consultants, Inc.
• Currency Exposure: Assess the impact of the Indonesian rupiah's volatility on future cost structures and the effectiveness of the company's hedging program (covering ~40% of rupiah payments).
• Legal Liability: Monitor the status of the Beanal and Alomang lawsuits, which seek $6 billion and unspecified damages respectively, and the potential for material adverse effects.
• Debt Service: Review the $967 million long-term debt load and the company's ability to service this debt given the decline in parent-level net income and cash flow.
• Political Stability: Evaluate the risk of operational disruption in Irian Jaya due to the 1999 Indonesian elections and ongoing separatist tensions.
• Environmental Accruals: Verify the adequacy of the $9.2 million accrual for mine closure and reclamation against the estimated $100-$150 million ultimate cost.