Business Context and Reporting Period
Company: Southern Copper Corporation (SCC)
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Quarter and six months ended June 30, 2007
Business Overview: SCC operates in the mining industry, primarily producing copper, with significant by-product sales of molybdenum, zinc, silver, and gold. Operations are managed across three segments: Peruvian operations, Mexican open-pit operations, and Mexican underground operations (IMMSA unit).
Key Financial Metrics
| Metric (in millions, except per share) | 3 Months Ended June 30, 2007 |
3 Months Ended June 30, 2006 |
6 Months Ended June 30, 2007 |
6 Months Ended June 30, 2006 |
|---|---|---|---|---|
| Net Sales | $1,826.5 | $1,276.7 | $3,184.8 | $2,398.0 |
| Operating Income | $1,145.2 | $649.0 | $1,932.6 | $1,281.7 |
| Net Earnings | $726.0 | $439.3 | $1,277.6 | $860.9 |
| Earnings Per Share (Basic/Diluted) | $2.465 | $1.492 | $4.339 | $2.923 |
| Operating Cash Flow | $648.9 | $132.8 | $1,197.8 | $570.4 |
| Cash and Equivalents (Balance Sheet) | $1,013.6 (as of June 30, 2007) | |||
| Total Debt (Current + Long-term) | $1,523.2 (as of June 30, 2007) |
Dividends: $1.50 per share paid in Q2 2007; $1.60 per share declared for Q3 2007 payment.
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 43% in Q2 2007 and 33% in the first six months of 2007 compared to 2006. This was driven by higher metal prices (copper, molybdenum, zinc, silver) and increased sales volumes.
- Production Volumes: Mine copper production rose 28.1% in Q2 2007 to 351.0 million pounds. The increase was primarily due to the resumption of normal operations at Mexican mines (La Caridad and Cananea) following strikes in 2006. Peruvian production decreased slightly due to lower ore grades.
- By-Product Impact: Molybdenum production increased significantly (69% in Q2), and higher by-product prices contributed to a negative operating cash cost per pound of copper (a credit of 29.5 cents/lb in Q2 2007 vs. a cost of 40.5 cents/lb in Q2 2006).
- Derivative Losses: The company recorded a loss of $55.5 million on derivative instruments in Q2 2007, primarily due to unrealized losses on marketable securities indexed to SCC stock prices. This contrasts with a $257.9 million loss on copper derivatives in Q2 2006.
- Cost Structure: Operating costs increased due to higher production volumes and worker participation payments, but were offset by a reduction in the purchase of third-party copper concentrates required during 2006 strikes.
Outlook, Risks, and Contingencies
- Guidance: Management expects to meet cash requirements from internally generated funds. No specific numerical guidance for full-year 2007 earnings was provided in this text, though metal price sensitivity analysis indicates a $8.2 million change in annual net earnings for every $0.01 change in copper price.
- Labor Relations: Significant risk factor. Strikes occurred in Peru in April and June 2007, though resolved quickly. In July 2007, work stoppages at three Mexican units (Cananea, Taxco, San Martin) were declared illegal by the company. Negotiations with remaining unions were ongoing.
- Legal and Tax Contingencies:
- Peru: Ongoing litigation regarding "labor shares" from former employees. The company believes claims are without merit. Tax disputes with SUNAT regarding interest deductions and royalties are pending.
- USA: IRS audits for years 1997-2004 are in the appeals process regarding capitalization of costs and depreciation periods. A formal protest was filed in June 2007.
- Asarco Litigation: Parent company Grupo Mexico faces claims related to the Asarco bankruptcy and alleged fraudulent conveyance, which could indirectly impact SCC.
- Environmental: The company is finalizing mine closure plans for Peruvian operations required by law. An estimated liability of $6.1 million has been recorded, but final costs are pending regulatory approval.
- Capital Projects: The Ilo smelter modernization was completed in Q1 2007. Future projects include a new SX/EW plant at Cananea and expansion of the concentrator.
Investor Verification Checklist
- Derivative Valuation: Verify the methodology and potential for further losses on the $340 million portfolio of marketable securities indexed to SCC stock, which currently holds an unrealized loss of $63.8 million.
- Labor Stability: Monitor the status of negotiations with the remaining three Peruvian unions and the three Mexican units currently on work stoppage, as strikes significantly impact production volumes.
- Tax Resolution: Track the outcome of the IRS appeals process (1997-2004) and Peruvian tax disputes, as these could result in significant cash outflows or adjustments to deferred tax assets.
- By-Product Pricing: Assess the sustainability of high molybdenum and zinc prices, which currently provide a substantial credit to operating cash costs.
- Capital Expenditures: Review the progress and cost overruns of the Cananea SX/EW plant and concentrator expansion projects.