SCCO

Business Context and Reporting Period

Company: Southern Peru Copper Corporation (SPCC)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2004
Operations: Integrated copper producer operating two open-pit mines (Toquepala and Cuajone), a smelter, and a refinery in southern Peru. The company also utilizes Solvent Extraction/Electrowinning (SX/EW) technology and tolls copper into rod in Amarillo, Texas.
Ownership: Grupo Mexico (via Americas Mining Corporation) holds a 54.2% interest. A proposed merger to acquire Minera Mexico S.A. de C.V. (MM) was approved by the Board, pending shareholder vote, which would increase Grupo Mexico's ownership to approximately 75%.

Key Financial Metrics (2004)

Production Highlights: Total copper production increased 6.1% to 876 million pounds. Molybdenum production increased to 23.5 million pounds. Average LME copper price was $1.30/lb; Molybdenum price was $16.41/lb.

Material Changes vs. Prior Period

• Revenue Surge: Net sales increased 115% to $1.72 billion from $798 million in 2003, driven primarily by a 60% increase in copper prices and a 208% increase in molybdenum prices.
• Profitability: Net earnings jumped 400% to $597 million from $119 million in 2003. Operating income rose to $927 million from $217 million.
• Cost Structure: Cost of sales increased $204 million, attributed to higher sales volume, increased fuel/power costs, a $67.5 million increase in workers' participation (8% of pre-tax earnings), and a $17.6 million provision for a new Peruvian royalty tax.
• Liquidity: Cash and marketable securities doubled to $591 million from $295 million. Total debt decreased to $289 million from $349 million.

Guidance, Outlook, Risks, and Contingencies

Outlook and Guidance

• Production: Management anticipates an 8% reduction in copper production volume for 2005 due to declining ore grades at the Cuajone mine.
• Capital Expenditures: Significant spending is planned for the Ilo smelter modernization ($171 million budgeted for 2005) and the Toquepala leach dump project.
• Dividends: A special transaction dividend of $100 million ($1.25/share) was paid on March 1, 2005, in connection with the proposed Minera Mexico acquisition.

Risks and Contingencies

• Regulatory/Tax: A new Peruvian royalty tax enacted in June 2004 resulted in a $17.6 million charge. The company is challenging the law's constitutionality in court. Future closure and remediation obligations under new Peruvian laws cannot currently be reasonably estimated.
• Environmental: The Ilo smelter modernization project is critical to meeting environmental standards (PAMA) by January 2007. Failure to comply could impact operations.
• Geotechnical: Deepening of open-pit mines presents slope stability risks, requiring ongoing monitoring and potential operational adjustments.
• Legal: Class action lawsuits were filed in Delaware challenging the fairness of the proposed Minera Mexico merger. The company intends to defend vigorously.
• Market Risk: Earnings are highly sensitive to copper, molybdenum, and silver prices. A $0.01 change in copper price impacts annual net earnings by approximately $4.5 million.

Investor Verification Checklist

• Merger Status: Verify the outcome of the shareholder vote for the Minera Mexico acquisition scheduled for March 28, 2005.
• 2005 Production: Monitor actual copper production volumes against the anticipated 8% decline due to Cuajone ore grades.
• Smelter Project: Track progress and cost overruns on the $500 million Ilo smelter modernization project, with a completion deadline of January 2007.
• Tax Litigation: Follow the status of the lawsuit challenging the Peruvian royalty tax and potential additional assessments from Peruvian tax authorities (SUNAT).
• Commodity Prices: Assess exposure to volatility in copper and molybdenum prices, which drove the majority of 2004 earnings growth.