Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended: March 31, 2010

 

or

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                            to                            

 

Commission File Number: 1-14066

 

SOUTHERN COPPER CORPORATION

(Exact name of registrant as specified in its charter)

 

Delaware

 

13-3849074

(State or other jurisdiction of incorporation or
organization)

 

(I.R.S. Employer Identification No.)

 

 

 

11811 North Tatum Blvd. Suite 2500 Phoenix, AZ

 

85028

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code: (602) 494-5328

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes x   No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes x   No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer”, “accelerated filer and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer x

 

Accelerated filer o

 

 

 

Non-accelerated filer o

 

Smaller reporting company o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes o   No x

 

As of April 30, 2010 there were outstanding 850,000,000 shares of Southern Copper Corporation common stock, par value $0.01 per share.

 

 

 



Table of Contents

 

Southern Copper Corporation (“SCC”)

 

INDEX TO FORM 10-Q

 

 

 

 

Page No.

Part I. Financial Information:

 

 

 

 

 

 

Item. 1

Condensed Consolidated Financial Statements (Unaudited)

 

 

 

 

 

 

 

Condensed Consolidated Statement of Earnings for the three months ended March 31, 2010 and 2009

 

3

 

 

 

 

 

Condensed Consolidated Balance Sheet as of March 31, 2010 and December 31, 2009

 

4

 

 

 

 

 

Condensed Consolidated Statement of Cash Flows for the three months ended March 31, 2010 and 2009

 

5

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements

 

6-28

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

29-44

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosure about Market Risk

 

45-47

 

 

 

 

Item 4.

Controls and procedures

 

48

 

 

 

 

 

Report of Independent Registered Public Accounting Firm

 

49

 

 

 

 

Part II. Other Information:

 

 

 

 

 

 

Item 1.

Legal Proceedings

 

50

 

 

 

 

Item 1A.

Risk factors

 

50-51

 

 

 

 

Item 6.

Exhibits

 

52-53

 

 

 

 

 

Signatures

 

54

 

 

 

 

 

List of Exhibits

 

55-56

 

 

 

 

Exhibit 15

Independent Accountants’ Awareness Letter

 

 

 

 

 

 

Exhibit 31.1

Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

 

 

 

 

 

Exhibit 31.2

Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

 

 

 

 

 

Exhibit 32.1

Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

 

 

 

 

 

Exhibit 32.2

Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

 

 

 

 

 

Exhibit 101

Financial statements for the quarter ended March 31, 2010 Formatted in XBRL: (i) the Condensed Consolidated Statement of Earnings, (ii) the Condensed Consolidated Balance Sheet, (iii) the Condensed Consolidated Statement of Cash Flows, and (iv) the Notes to Condensed Consolidated Financial Statements, tagged as blocks of text.

 

Submitted electronically with this report

 

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Table of Contents

 

PART I — FINANCIAL INFORMATION

 

Item 1.  Condensed Consolidated Financial Statements

 

Southern Copper Corporation

 

CONDENSED CONSOLIDATED STATEMENT OF EARNINGS

(Unaudited)

 

 

 

3 Months Ended
March 31,

 

 

 

2010

 

2009

 

 

 

(in thousands, except
per share amounts)

 

Net sales

 

$

1,219,405

 

$

621,998

 

 

 

 

 

 

 

Operating costs and expenses:

 

 

 

 

 

Cost of sales (exclusive of depreciation, amortization and depletion shown separately below)

 

499,198

 

375,455

 

Selling, general and administrative

 

21,718

 

18,792

 

Depreciation, amortization and depletion

 

81,253

 

78,221

 

Exploration

 

8,465

 

5,402

 

Total operating costs and expenses

 

610,634

 

477,870

 

 

 

 

 

 

 

Operating income

 

608,771

 

144,128

 

 

 

 

 

 

 

Interest expense

 

(23,788

)

(23,966

)

Capitalized interest

 

 

2,075

 

Loss on derivative instruments

 

 

(2,604

)

Other income (expense)

 

1,433

 

3,363

 

Interest income

 

2,052

 

4,275

 

Income before income taxes

 

588,468

 

127,271

 

 

 

 

 

 

 

Income taxes

 

203,241

 

48,025

 

 

 

 

 

 

 

Net income

 

385,227

 

79,246

 

 

 

 

 

 

 

Less: Net income attributable to the non-controlling interest

 

1,983

 

554

 

 

 

 

 

 

 

Net income attributable to SCC

 

$

383,244

 

$

78,692

 

 

 

 

 

 

 

Per common share amounts:

 

 

 

 

 

Net income attributable to SCC - basic and diluted

 

$

0.45

 

$

0.09

 

Dividends paid to SCC common shareholders

 

$

0.43

 

$

0.12

 

Weighted average common shares outstanding - basic and diluted

 

850,000

 

852,772

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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Table of Contents

 

Southern Copper Corporation

 

CONDENSED CONSOLIDATED BALANCE SHEET

(Unaudited)

 

 

 

March 31,

 

December 31,

 

 

 

2010

 

2009

 

 

 

(in thousands)

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

651,964

 

$

772,306

 

Short-term investments

 

20,080

 

22,948

 

Accounts receivable trade, less allowance for doubtful accounts (2010 - $4,509; 2009 - $4,614)

 

469,402

 

407,979

 

Accounts receivable other (including affiliates 2010 - $5,571; 2009 - $4,491)

 

27,901

 

31,971

 

Inventories

 

469,075

 

456,122

 

Deferred income tax

 

27,185

 

19,672

 

Other current assets

 

52,961

 

67,131

 

Total current assets

 

1,718,568

 

1,778,129

 

 

 

 

 

 

 

Property, net

 

3,973,569

 

3,969,558

 

Leachable material, net

 

95,477

 

107,262

 

Intangible assets, net

 

113,647

 

113,840

 

Deferred income tax

 

51,907

 

52,670

 

Other assets

 

47,419

 

41,113

 

Total assets

 

$

6,000,587

 

$

6,062,572

 

 

 

 

 

 

 

LIABILITIES

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Current portion of long-term debt

 

$

10,000

 

$

10,000

 

Accounts payable

 

254,230

 

283,703

 

Accrued income taxes

 

69,198

 

91,359

 

Due to affiliated companies

 

1,488

 

 

Accrued workers’ participation

 

119,968

 

150,692

 

Accrued interest

 

15,633

 

39,795

 

Other accrued liabilities

 

31,907

 

26,876

 

Total current liabilities

 

502,424

 

602,425

 

 

 

 

 

 

 

Long-term debt

 

1,270,327

 

1,270,252

 

Deferred income taxes

 

156,863

 

143,508

 

Non-current taxes payable

 

28,178

 

26,201

 

Other liabilities and reserves

 

80,388

 

77,607

 

Asset retirement obligation

 

49,725

 

48,925

 

Total non-current liabilities

 

1,585,481

 

1,566,493

 

 

 

 

 

 

 

Commitments and Contingencies (Note M)

 

 

 

 

 

 

 

 

 

 

 

STOCKHOLDERS’ EQUITY

 

 

 

 

 

Common stock

 

8,846

 

8,846

 

Additional paid-in capital

 

1,022,549

 

1,013,326

 

Retained earnings

 

3,487,677

 

3,469,930

 

Accumulated other comprehensive loss

 

(13,061

)

(13,061

)

Treasury stock

 

(612,105

)

(603,413

)

Total SCC stockholders’ equity

 

3,893,906

 

3,875,628

 

Non-controlling interest

 

18,776

 

18,026

 

Total equity

 

3,912,682

 

 

3,893,654

 

 

 

 

 

 

 

Total liabilities and equity

 

$

6,000,587

 

$

6,062,572

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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Southern Copper Corporation

 

CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS

(Unaudited)

 

 

 

3 Months Ended
March 31,

 

 

 

2010

 

2009

 

 

 

(in thousands)

 

OPERATING ACTIVITIES

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

385,227

 

$

79,246

 

Adjustments to reconcile net earnings to net cash provided from operating activities:

 

 

 

 

 

Depreciation, amortization and depletion

 

81,253

 

78,221

 

Loss (gain) on currency translation effect

 

8,364

 

(1,394

)

Provision for deferred income taxes

 

5,853

 

18,927

 

Gain on sale of property

 

(1,603

)

 

Gain on sale of short-term investment

 

(519

)

(707

)

Unrealized gain on derivative instruments

 

 

(25,079

)

 

 

 

 

 

 

Cash provided from (used for) operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(57,353

)

(107,336

)

Inventories

 

(12,953

)

2,306

 

Accounts payable and accrued liabilities

 

(106,606

)

(250,462

)

Other operating assets and liabilities

 

5,576

 

12,472

 

Net cash provided from (used for) operating activities

 

307,239

 

(193,806

)

 

 

 

 

 

 

INVESTING ACTIVITIES

 

 

 

 

 

Capital expenditures

 

(75,363

)

(63,456

)

Net proceeds from sale of short-term investments

 

3,387

 

12,102

 

Sale of property

 

4,809

 

204

 

Net cash used for investing activities

 

(67,167

)

(51,150

)

 

 

 

 

 

 

FINANCING ACTIVITIES

 

 

 

 

 

Dividends paid to common stockholders

 

(365,498

)

(99,555

)

Distributions to non-controlling interest

 

(1,149

)

 

Repurchase of common shares

 

 

(71,566

)

Other

 

75

 

70

 

Net cash used for financing activities

 

(366,572

)

(171,051

)

 

 

 

 

 

 

Effect of exchange rate changes on cash and cash equivalents

 

6,158

 

(9,458

)

Decrease in cash and cash equivalents

 

(120,342

)

(425,465

)

Cash and cash equivalents, at beginning of period

 

772,306

 

716,740

 

Cash and cash equivalents, at end of period

 

$

651,964

 

$

291,275

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

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Southern Copper Corporation

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

A.    In the opinion of Southern Copper Corporation, (the “Company”, “Southern Copper” or “SCC”), the accompanying unaudited condensed consolidated financial statements contain all adjustments (consisting only of normal recurring adjustments) necessary to state fairly the Company’s financial position as of March 31, 2010 and the results of operations and cash flows for the three months ended March 31, 2010 and 2009.  The condensed consolidated financial statements for the three months ended March 31, 2010 and 2009 have been subject to a review by Galaz, Yamazaki, Ruiz Urquiza S.C., a member firm of Deloitte Touche Tohmatsu, the Company’s independent registered public accounting firm, whose report dated April 29, 2010, is presented on page 49.  The results of operations for the three months ended March 31, 2010 and 2009 are not necessarily indicative of the results to be expected for the full year.  The accompanying condensed consolidated financial statements should be read in conjunction with the consolidated financial statements at December 31, 2009 and notes included in the Company’s 2009 annual report on Form 10-K.

 

B.    Adoption of New Accounting Standards:

 

In the first quarter of 2010 the Company adopted the following Accounting Standards Update’s (“ASU”) to the FASB Accounting Standards Codification (the “ASC”) issued by the Financial Accounting Standard Board (“FASB”)

 

ASU No. 2010-09: In February 2010 the FASB issued ASU No. 2010-09 “Amendments to Certain Recognition and Disclosure requirements” an amendment of ASC topic 855 “Subsequent events.”  This ASU requires a SEC filer to evaluate subsequent events through the date the financial statements are issued. In addition, public filers are no longer required to disclose the date through which the evaluation of subsequent events was carried out.  The Company adopted this ASU on the date it was issued.

 

ASU No. 2010-06: In January 2010, the FASB issued the ASU No. 2010-06 “Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements”, an update of ASC Subtopic 820-10 “Fair Value Measurements and Disclosures - Overall.”

 

This ASU includes the following new disclosure requirements:

 

1.     Significant transfers in and out of Levels 1 and 2 fair value measurements and a description of the reasons for the transfers.

 

2.     The reconciliation of activity in Level 3 fair value measurements should present separately information about purchases, sales, issuances and settlements on a gross basis rather than as one net number.

 

This ASU also clarifies existing disclosures as follows:

 

1.     A reporting entity should provide fair value measurement disclosures for each class of assets and liabilities.  A class is often a subset of assets or liabilities within a line item in the statement of financial position.  A reporting entity needs to use judgment in determining the appropriate classes of assets and liabilities.

 

2.     Disclosures about inputs and valuation techniques used to measure fair value for both recurring and nonrecurring fair value measurements.  These disclosures are required for fair value measurements that fall in either Level 2 or Level 3.

 

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The new disclosures and clarifications of existing disclosures are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements, which are effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years.  Please see disclosures required in Note Q “Financial instruments.”

 

ASU 2010-02: In January 2010, the FASB issued ASU 2010-02 “Accounting and Reporting for Decreases in Ownership of a Subsidiary—a Scope Clarification” an update of Subtopic 810-10 “Consolidation-Overall” to address implementation issues related to the changes in ownership provisions in Subtopic 810-10, which establishes the accounting and reporting guidance for non-controlling interests and changes in ownership interests of a subsidiary.

 

This ASU provides amendments that clarify the scope of the decrease in ownership provisions of Subtopic 810-10 and related guidance applies to the following:

 

1.     A subsidiary or group of assets that is a business or nonprofit activity.

2.     A subsidiary that is a business or nonprofit activity that is transferred to an equity method investee or joint venture.

3.     An exchange of a group of assets that constitutes a business or nonprofit activity for a non-controlling interest in an entity (including an equity method investee or joint venture).

 

The amendments also clarify that the decrease in ownership guidance does not apply to sales of in substance real estate and conveyances of oil and gas mineral rights.

 

The amendments in this ASU are effective beginning in the first interim or annual reporting period ending on or after December 15, 2009 and should be applied retrospectively to the first period that an entity adopted Statement 160.  The Company has adopted this ASU and will apply it to future decreases in ownership of subsidiaries.

 

C.    Short-term Investments:

 

Short-term investments were as follows:

 

 

 

At

 

Investments

 

March 31, 2010

 

December 31, 2009

 

Short-term investments in securities issued by public companies (in millions)

 

$

20.1

 

$

22.9

 

Weighted average interest rate

 

0.65

%

0.63

%

 

Short-term investments consist of securities issued by public companies, which have been classified as available for sale.  Each security is independent of the others.  As of March 31, 2010 and December 31, 2009, gross unrealized gains and losses on available for sale securities were not material.

 

Related to these investments the Company earned interest which was recorded as interest income in the condensed consolidated statement of earnings.  Also the Company redeemed some of these securities and obtained gains (losses) due to changes in fair value, which were recorded as other income (expense) in the condensed consolidated statement of earnings.

 

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The following table summarizes the activity of these investments (in millions):

 

 

 

Three months ended

 

 

 

March 31,

 

 

 

2010

 

2009

 

Interest earned

 

$

(*

)

$

0.3

 

Investment redeemed

 

$

3.3

 

$

12.1

 

Gain in fair value

 

$

0.5

 

$

0.7

 

 


(*) Less than $0.1 million

 

D.    Inventories:

 

Inventories were as follows:

 

(in millions)

 

March 31,
2010

 

December 31,
2009

 

Metals at lower of average cost or market:

 

 

 

 

 

Finished goods

 

$

58.1

 

$

55.5

 

Work-in-process

 

165.4

 

150.8

 

Supplies at average cost

 

245.6

 

249.8

 

Total inventories

 

$

469.1

 

$

456.1

 

 

E.     Income taxes:

 

The income tax provision and the effective income tax for the first quarter 2010 and 2009 were as follows:

 

 

 

2010

 

2009

 

Income tax provision (in millions)

 

$

203.2

 

$

48.0

 

Effective income tax rate

 

34.5

%

37.7

%

 

These provisions include income taxes for Peru, Mexico and the United States.  The decrease in the effective tax rate for the first quarter of 2010 is largely due to the proportionately higher incremental U.S. income tax provided on dividend distributions made by our Mexican subsidiary to the U.S. parent in the first quarter of 2009.  Because the pretax earnings in the first quarter of 2009 were significantly lower than the 2010 pretax earnings, the effect of this incremental tax had a larger than normal impact on the effective rate.  For the full year 2009 the final effective tax rate was 33.5%.  This dividend distribution is taxable in the U.S. at the difference between the 35.0% U.S. statutory rate and the foreign tax credit rate of 28.0%.

 

As of March 27, 2009, Grupo Mexico, through its wholly-owned subsidiary, Americas Mining Corporation (“AMC”), became the beneficial owner of 80% of SCC’s common stock.  As a result of this new level of ownership, beginning March 27, 2009 SCC will no longer file a separate U.S. federal income tax return and its operating results will be included in the AMC consolidated U.S. federal income tax return.  In addition to now holding an 80% interest in SCC, AMC also owns 100% of ASARCO, LLC (“Asarco”) and its subsidiaries.  It is expected that current and deferred taxes will be allocated to members of the AMC group as if each were a separate taxpayer.  The Company has initiated discussions with AMC to put in place a tax sharing agreement in order to establish this allocation as well as other procedures and policies necessary for an equitable management of U.S. federal income tax matters.  SCC provides current and deferred income taxes, as if it were a separate filer.

 

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Accounting for Uncertainty in Income Taxes:

 

There were no material changes in the unrecognized tax benefits in the three months ended March 31, 2010.

 

F.     Provisionally Priced Sales:

 

At March 31, 2010, the Company has recorded provisionally priced sales of copper at average forward prices per pound, and molybdenum at the March 31, 2010 market price per pound.  These sales are subject to final pricing based on the average monthly LME or COMEX copper prices and Dealer Oxide molybdenum prices in the future month of settlement.

 

Following are the provisionally priced copper and molybdenum sales outstanding at March 31, 2010:

 

Copper
(million lbs.)

 

Priced at

 

Month of
Settlement

 

6.1

 

$

3.53

 

April 2010

 

 

 

 

 

 

 

 

Molybdenum
(million lbs.)

 

Priced at

 

Month of
Settlement

 

4.1

 

$

17.10

 

April 2010

 

2.4

 

17.10

 

May 2010

 

2.5

 

17.10

 

June 2010

 

0.1

 

17.10

 

July 2010

 

9.1

 

$

17.10

 

 

 

 

Management believes that the final pricing of these sales will not have a material effect on the Company’s financial position or results of operations.

 

G.    Derivative Instruments

 

The Company occasionally uses derivative instruments to manage its exposure to market risk from changes in commodity prices, interest rate and exchange rate risk exposures and to enhance return on assets.  The Company does not enter into derivative contracts unless it anticipates a future activity that is likely to occur that will result in exposing the Company to market risk.  The Company did not hold any derivative contracts in the first quarter 2010.

 

Exchange rate derivatives, U.S. dollar/Mexican peso contracts:

 

Because more than 85% of the Company’s sales collections in Mexico are in U.S. dollars and many of its costs are in Mexican pesos, in 2009, the Company entered into zero-cost derivative contracts with the purpose of protecting, within a range, against an appreciation of the Mexican peso to the U.S. dollar.

 

Related to the exchange rate derivative contracts the Company recorded a net loss of $2.6 million in the first quarter of 2009.  This loss was recorded as loss on derivative instruments in the condensed consolidated statements of earnings.  At March 31, 2010 the Company did not hold any exchange rate derivative contracts.

 

H.    Asset Retirement Obligation:

 

The Company maintains an estimated asset retirement obligation for its mining properties in Peru, as required by the Peruvian Mine Closure Law.  In accordance with the requirements of this law the Company’s closure plans have been approved by the Peruvian Ministry of Energy and Mines (“MINEM”).  As part of the closure plans,

 

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commencing in January 2010 the Company is required to provide annual installments of $2.6 million over a 34 year period to guarantee the availability of funds to meet this obligation.  Therefore, in January 2010 the Company made the first installment of the guarantee, in the form of a lien on its Lima office building.  The accepted value of the Lima office building, for this purpose, is $17 million. In 2009, the Company adjusted its original retirement obligation to record the liability established in the mine closure plans.

 

The closure cost recognized for this liability consists of the cost as outlined in its closure plans, which includes the dismantling of the Toquepala and Cuajone concentrators, the smelter and refinery in Ilo, and the shops and auxiliary facilities at the three units.

 

The following table summarizes the asset retirement obligation activity for the three months ended March 31, 2010 and 2009 (in millions):

 

 

 

2010

 

2009

 

Balance as of January 1

 

$

48.9

 

$

18.0

 

Changes in estimates

 

 

 

Additions

 

 

 

Accretion expense

 

0.8

 

0.2

 

Balance as of March 31,

 

$

49.7

 

$

18.2

 

 

I.      Related Party Transactions:

 

Receivable and payable balances with affiliated companies are shown below (in millions):

 

 

 

As of

 

 

 

March 31, 2010

 

December 31, 2009

 

Affiliate receivable:

 

 

 

 

 

Grupo Mexico S.A.B de C.V. and affiliates

 

$

1.2

 

$

1.5

 

Ferrocarril Mexicano S.A. de C.V.

 

0.5

 

1.4

 

Mexico Proyectos y Desarrollos S.A. de C.V. and affiliates

 

3.9

 

1.6

 

 

 

$

5.6

 

$

4.5

 

Affiliate payable:

 

 

 

 

 

Grupo Mexico S.A.B. de C.V. and affiliates

 

$

1.5

 

$

 

 

 

$

1.5

 

$

 

 

The Company has entered into certain transactions in the ordinary course of business with parties that are controlling shareholders or their affiliates.  These transactions include the lease of office space, air transportation and construction services and products and services relating to mining and refining.  The Company lends and borrows funds among affiliates for acquisitions and other corporate purposes.  These financial transactions bear interest and are subject to review and approval by senior management, as are all related party transactions.  It is the Company’s policy that the Audit Committee of the Board of Directors shall review all related party transactions.  The Company is prohibited from entering or continuing a material related party transaction that has not been reviewed and approved or ratified by the Audit Committee.

 

Grupo Mexico, the Company’s ultimate parent and the majority indirect stockholder of the Company, and its affiliates provide various services to the Company.  These services are primarily related to accounting, legal, tax, financial, treasury, human resources, price risk assessment and hedging, purchasing, procurement and logistics, sales and administrative and other support services.  The Company pays Grupo Mexico Servicios S.A de C.V., a subsidiary of Grupo Mexico for these services.  The Company expects to continue to pay for these services in the future.

 

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The Company’s Mexican operations paid fees for freight services provided by Ferrocarril Mexicano S.A de C.V and for construction services provided by Mexico Constructora Industrial and its affiliates; both companies are subsidiaries of Grupo Mexico.

 

The Larrea family controls a majority of the capital stock of Grupo Mexico, and has extensive interests in other businesses, including oil drilling services, construction, aviation, and real estate.  The Company engages in certain transactions in the ordinary course of business with other entities controlled by the Larrea family relating to mining and refining services, the lease of office space, sale of vehicles and air transportation and construction services.  In connection with this, the Company paid fees for maintenance services and sale of vehicles provided by México Compañía de Productos Automotrices, S.A. de C.V., a company controlled by the Larrea family.

 

Additionally, in 2007, the Company’s Mexican subsidiaries provided guaranties for two loans obtained by Mexico Transportes Aereos, S.A. de C.V. (“MexTransport”), a company controlled by the Larrea family, from Bank of Nova Scotia in Mexico.  These loans require semi-annual repayments.  Conditions and balance as of March 31, 2010 are as follows:

 

 

 

Loan 1

 

Loan 2

 

Total

 

Loans (in millions)

 

$

2.3

 

$

8.5

 

$

10.8

 

Maturity

 

August 2010

 

August 2013

 

 

 

Interest rate

 

Libor + 0.65

%

Libor + 0.15

%

 

 

Remaining balance at March 31, 2010 (in millions)

 

$

0.3

 

$

4.5

 

$

4.8

 

 

MexTransport provides aviation services to the Company’s Mexican operations.  The guaranty provided to MexTransport is backed up by the transport services provided by MexTransport to the Company’s Mexican subsidiaries.  If MexTransport defaults on the loan, SCC’s subsidiaries would have to satisfy the guaranty and repay to the bank the remaining balances, plus interest.  The Company paid fees to MexTransport for aviation services.

 

The Company purchased industrial materials from Higher Technology S.A.C in which Mr. Carlos Gonzalez has a proprietary interest.  Also the Company paid fees for maintenance services provided by Servicios y Fabricaciones Mecanicas S.A.C., a company in which Mr. Carlos Gonzalez has a proprietary interest. Mr. Carlos Gonzalez is the son of SCC’s Chief Executive Officer.

 

The Company purchased industrial material from Sempertrans France Belting Technology, in which Mr. Alejandro Gonzalez is employed as a sales representative.  Also, the Company purchased industrial material from PIGOBA, S.A. de C.V., a company in which Mr. Alejandro Gonzalez has a proprietary interest. Mr. Alejandro Gonzalez is the son of SCC’s Chief Executive Officer.

 

The Company purchased industrial material and services from Breaker, S.A. de C.V., a company in which Mr. Jorge Gonzalez, son-in-law of SCC’s Chief Executive Officer, has a proprietary interest.

 

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The following table summarizes the purchase activity with related parties in the three months ended March 31, 2010 and 2009 (in millions):

 

 

 

As of March 31,

 

 

 

2010

 

2009

 

Grupo Mexico and affiliates:

 

 

 

 

 

Grupo Mexico Servicios S.A de C.V

 

$

3.5

 

$

1.7

 

Ferrocarril Mexicano S.A de C.V.

 

1.1

 

0.8

 

Mexico Constructora Industrial S.A. de C.V.

 

5.9

 

1.6

 

 

 

 

 

 

 

Other Larrea family companies:

 

 

 

 

 

Mexico Compañia de Productos Automotrices S.A. de C.V.

 

0.1

 

 

Mexico Transportes Aereos S.A. de C.V.

 

0.5

 

0.3

 

 

 

 

 

 

 

Companies with relationships to SCC executive officers families:

 

 

 

 

 

Higher Technology S.A.C.

 

0.8

 

1.0

 

Servicios y Fabricaciones Mecanicas S.A.C.

 

0.1

 

0.1

 

Sempertrans France Belting Technology

 

0.3

 

0.3

 

PIGOBA S.A. de C.V.

 

0.1

 

0.1

 

Breaker S.A. de C.V.

 

0.2

 

0.4

 

Total purchased

 

$

12.6

 

$

6.3

 

 

It is anticipated that in the future the Company will enter into similar transactions with these same parties.

 

J.     Financing:

 

New SCC Notes:

 

On April 16, 2010 the Company issued $1.5 billion in fixed-rate unsecured notes with an underwriting discount of $10.3 million, which will be amortized using the interest method over the term of the related debt.  Net proceeds will be used for general corporate purposes, including the financing of the Company’s capital expenditure program.

 

The $1.5 billion fixed-rate senior unsecured notes were issued in two tranches, $400 million due in 2020 at an annual interest rate of 5.375% and $1.1 billion due in 2040 at an annual interest rate of 6.75%.

 

Interest on the notes will be paid semi-annually in arrears.  The notes will constitute our general unsecured obligations and the series of notes will rank pari passu with each other and will rank pari passu in right of payment with all of our other existing and future unsecured and unsubordinated indebtedness.

 

The Company will capitalize the costs associated with the issuance of this facility, which will be included in “Other assets” non-current in the condensed consolidated balance sheet.

 

In connection with the transaction, on April 16, 2010 the Company entered into a base indenture with Wells Fargo Bank, National Association, as trustee, as well as a first supplemental indenture and a second supplemental indenture which provide for the issuance, and set forth the terms of, the two tranches of notes described above. The indentures contains covenants that limit the Company's ability to, among other things, incur certain liens securing indebtedness, engage in certain sale and leaseback transactions, and enter into certain consolidations, mergers, conveyances, transfers or leases of all or substantially all the Company's assets. The Company may issue additional debt from time to time pursuant to the base indenture.

 

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Credit risk rating:

 

On April 1, 2010 Moody’s investors service upgraded to Baa2 from Baa3 the Company’s senior unsecured ratings and the rating on our Yankee bonds.  Also on April 5, 2010 Fitch and Standard & Poor’s ratings services assigned its ‘BBB’ and ‘BBB-’, respectively, as debt rating on the new notes issued.  At the same time, these credit rating agencies confirmed their long-term corporate credit rating on SCC (‘Baa2’, ‘BBB, and ‘BBB-, for Moody’s, Fitch and S&P, respectively).

 

K.    Benefit Plans:

 

SCC Defined Benefit Pension Plans

 

The components of the net periodic benefit costs for the three months ended March 31, 2010 and 2009 are as follows (in millions):

 

 

 

2010

 

2009

 

Interest cost

 

$

0.2

 

$

0.2

 

Expected return on plan assets

 

(0.2

)

(0.1

)

Amortization of net loss (gain)

 

*

 

*

 

Net periodic benefit costs

 

$

 

$

0.1

 

 


(*) amount is lower than $0.1 million

 

SCC Post-retirement Health Care Plan

 

The components of the net periodic benefit costs for the post-retirement health care plan for the three months ended March 31, 2010 and 2009 are individually, and in total, less than $0.1 million.

 

Minera Mexico Pension Plans

 

The components of the net periodic benefit costs for the three months ended March 31, 2010 and 2009 are as follows (in millions):

 

 

 

2010

 

2009

 

 

 

 

 

 

 

Interest cost

 

$

0.4

 

$

0.5

 

Service cost

 

0.5

 

0.6

 

Expected return on plan assets

 

(0.7

)

(0.7

)

Amortization of transition assets, net

 

(*

)

(*

)

Amortization of net actuarial loss

 

(0.2

)

(0.2

)

Amortization of prior services cost

 

(*

)

(*

)

Net periodic benefit cost

 

$

 

$

0.2

 

 


(*) amount is lower than $0.1 million

 

Minera Mexico Post-retirement Health Care Plan

 

The components of the net periodic cost for the three months ended March 31, 2010 and 2009 are as follows (in millions):

 

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2010

 

2009

 

 

 

 

 

 

 

Interest cost

 

$

1.1

 

$

1.2

 

Service cost

 

0.1

 

0.2

 

Amortization of net loss (gain)

 

(*

)

0.2

 

Amortization of transition obligation

 

0.3

 

0.4

 

Net periodic benefit cost

 

$

1.5

 

$

2.0

 

 


(*) amount is lower than $0.1 million

 

L.     Comprehensive Income (in millions):

 

 

 

Three months ended
March 31,

 

 

 

2010

 

2009

 

Net income

 

$

385.2

 

$

79.3

 

Other comprehensive income (loss) net of tax:

 

 

 

 

 

Decrease in liability for employee benefit obligation

 

 

1.2

 

Comprehensive income

 

385.2

 

80.5

 

Comprehensive income attributable to the non-controlling interest

 

2.0

 

0.5

 

Comprehensive income attributable to SCC

 

$

383.2

 

$

80.0

 

 

M.   Commitments and Contingencies

 

Environmental matters:

 

The Company has instituted extensive environmental conservation programs at its mining facilities in Peru and Mexico.  The Company’s environmental programs include, among other features, water recovery systems to conserve water and minimize impact on nearby streams, reforestation programs to stabilize the surface of the tailings dams and the implementation of scrubbing technology in the mines to reduce dust emissions.

 

Peruvian operations

 

The Company’s operations are subject to applicable Peruvian environmental laws and regulations.  The Peruvian government, through the MINEM conducts annual audits of the Company’s Peruvian mining and metallurgical operations.  Through these environmental audits, matters related to environmental commitments, compliance with legal requirements, atmospheric emissions, and effluent monitoring are reviewed.  The Company believes that it is in material compliance with applicable Peruvian environmental laws and regulations.

 

In 2003 the Peruvian congress published a new law announcing future closure and remediation obligations for the mining industry.  In accordance with the requirements of this law the Company’s closure plans have been approved by MINEM.  As part of the closure plans, the Company is providing guarantees to ensure that sufficient funds will be available for the asset retirement obligation.  See Note H, “Asset retirement obligation”, for further discussion of this matter.

 

Mexican operations

 

The Company’s operations are subject to applicable Mexican federal, state and municipal environmental laws, to Mexican official standards, and to regulations for the protection of the environment, including regulations relating to water supply, water quality, air quality, noise levels and hazardous and solid waste.

 

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The principal legislation applicable to the Company’s Mexican operations is the Federal General Law of Ecological Balance and Environmental Protection, which is enforced by the Federal Bureau of Environmental Protection (“PROFEPA”).  PROFEPA monitors compliance with environmental legislation and enforces Mexican environmental laws, regulations and official standards.  PROFEPA may initiate administrative proceedings against companies that violate environmental laws, which in the most extreme cases may result in the temporary or permanent closing of non-complying facilities, the revocation of operating licenses and/or other sanctions or fines.  Also, according to the federal criminal code, PROFEPA must inform corresponding authorities regarding environmental non-compliance.

 

Mexican environmental regulations have become increasingly stringent in recent years, and this trend is likely to continue and has been influenced by the environmental treaty entered into by Mexico, the United States and Canada in connection with NAFTA in 1999.  However, the Company’s management does not believe that continued compliance with the federal environmental law or Mexican state environmental laws will have a material adverse effect on the Company’s business, properties, results of operations, financial condition or prospects or will result in material capital expenditures.  Although the Company believes that all of its facilities are in material compliance with applicable environmental, mining and other laws and regulations, the Company cannot assure that future laws and regulations would not have a material adverse effect on the Company’s business, properties, results of operations, financial condition or prospects.

 

Environmental capital expenditures in the three months ended March 31, 2010 and 2009 were as follows (in millions):

 

 

 

2010

 

2009

 

Peruvian operations

 

$

1.1

 

$

0.4

 

Mexican operations

 

3.9

 

7.6

 

 

 

$

5.0

 

$

8.0

 

 

Litigation matters:

 

Peruvian operations

 

Garcia Ataucuri and Others against SCC’s Peruvian Branch (“SCC’s Peruvian Branch”, “Branch” or “Peruvian Branch”):

 

In April 1996, the Branch was served with a complaint filed in Peru by approximately 800 former employees seeking the delivery of a substantial number of its “labor shares” (acciones laborales) plus dividends on such shares, to be issued in a proportional way to each former employee in accordance with their time of employment with SCC’s Peruvian Branch.

 

The labor share litigation is based on claims of former employees for ownership of labor shares issued during the 1970s until 1979 under a former Peruvian mandated profit sharing system.  In 1971, the Peruvian government enacted legislation providing that mining workers would have a 10% participation in the pre-tax profits of their employing enterprises.  This participation was distributed 40% in cash and 60% in an equity interest of the enterprise.  In 1978 the equity portion, which was originally delivered to the mining industry organization, was set at 5.5% of pre-tax profits and was delivered in the form of “labor shares” to individual workers.  The cash portion was set at 4.0% of pre-tax earnings and continued to be delivered to individual employees.  In 1992 the workers’ participation was set at 8%, with 100% payable in cash and equity participation was eliminated from the law.

 

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In 1995, the labor shares were exchanged for common stock of the Company and approximately 80.8% of the issued labor shares were exchanged.  The remaining 0.71% is included on the consolidated balance sheet under the caption “Non-controlling interest.”

 

In relation to the issuance of “labor shares” by the Branch in Peru, the Branch is a defendant in the following lawsuits:

 

1)              The Garcia Ataucuri litigation seeks the delivery of 38,763,806.80 “labor shares” (acciones laborales), now “investment shares” (acciones de inversion) (or nuevos soles (“S/.”) 3,876,380,679.56), plus dividends on such shares.  After lengthy proceedings before the civil court in Peru on September 19, 2001, on appeal from the Branch, the Peruvian Supreme Court annulled the proceedings noting that the civil courts lacked jurisdiction and that the matter had to be decided by a labor court.

 

In October 2007, in a separate proceeding initiated by the plaintiffs, the Peruvian Constitutional Court nullified the September 19, 2001 Peruvian Supreme Court decision and ordered the Supreme Court to decide again on the merits of the case accepting or denying the Branch’s 2000 appeal.

 

In May 2009, the Supreme Court rejected the 2000 appeal of the Branch affirming the adverse decision of the appellate civil court and lower civil court.  While the Supreme Court has ordered SCC’s Peruvian Branch to deliver the labor shares and dividends, it has clearly stated that SCC’s Peruvian Branch may prove, by all legal means, its assertion that the labor shares and dividends were distributed to the former employees in accordance with the profit sharing law then in effect, an assertion which SCC’s Peruvian Branch continues to make.

 

On June 9, 2009 SCC’s Peruvian Branch filed an extraordinary appeal before a civil court in Peru seeking the nullity of the 2009 Supreme Court decision and other protective measures.  The civil court has now rendered a favorable decision suspending the enforcement of the Supreme Court decision, among other reasons, for the reasons indicated above.  In view of this, and the recent civil court decision, SCC´s Peruvian Branch continues to analyze the manner in which the Supreme Court decision may be enforced and what financial impact, if any, said decision may have.

 

2)              The May 10, 2006 Cornejo Flores and others vs. SCC’s Peruvian Branch litigation, seeks the same number of labor shares as in the Garcia Ataucuri case, plus interest and labor shares resulting from capital increases made by the Branch in 1980 “for the amount of the workers’ participation of S/.17,246,009,907.20, equivalent to 172,460,099.72 labor shares”, plus dividends.  On May 23, 2006, the Branch answered this new complaint, denying the validity of the claim.  As of March 31, 2010 the case remains open with no new developments.

 

3)              The June 27, 2008 Alejandro Zapata Mamani and others vs. SCC’s Peruvian Branch litigation seeks the same number of labor shares as in the Garcia Ataucuri case, plus interest, and labor shares resulting from capital increases, plus dividends.  The Branch answered this new complaint, denying the validity of the claim.  As of March 31, 2010 the case remains open with no new developments.

 

4)              The January 2009 Arenas Rodriguez and others —represented by Mr. Cornejo Flores- vs. SCC’s Peruvian Branch litigation seeks the same number of labor shares as in the Garcia Ataucuri case, plus interest, and labor shares resulting from capital increases, plus dividends.  The Branch answered this new complaint, denying the validity of the claim.  As of March 31, 2010 the case remains open with no new developments.

 

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The Company asserts that the labor shares were distributed to the former employees in accordance with the profit sharing law then in effect.  The Company has not made a provision for these lawsuits because it believes that it has meritorious defenses to the claims asserted in the complaints.  Additionally, the amount of this contingency cannot be reasonably estimated by management at this time.

 

Exploraciones de Concesiones Metalicas S.A.C.:

 

In August 2009 a new lawsuit was filed against SCC’s Branch by the former stockholders of Exploraciones de Concesiones Metalicas S.A.C. (“Excomet”).  The plaintiffs allege that the acquisition of their shares in Excomet by the Branch is null and void because the $2 million purchase price paid by the Branch for the shares of Excomet was not fairly negotiated by the plaintiffs and the Branch.  In 2005, the Branch acquired the shares of Excomet after lengthy negotiations with the plaintiffs, and after the plaintiffs, which were all of the stockholders of Excomet, approved the transaction in a general stockholders’ meeting.  Excomet was at the time owner of a mining concession which forms part of the Tia Maria project

 

The Company asserts that the lawsuit is without merit and is vigorously defending against this lawsuit.

 

Mexican operations

 

Ejido Pilares de Nacozari:

 

In 2008, the Ejidal Commissariat of the “Ejido Pilares de Nacozari”, initiated a protective action (Amparo) against the second expropriation decree (by means of which 2,322 hectares were expropriated for public use), ignoring the judicial settlement reached with the Company on this matter.  The judicial settlement was ratified in January 2006.  This new case was resolved by a federal tribunal, which dismissed the Ejido case in first instance.  The Company will defend the settlement reached with the Ejido Commissariat and seek the definitive dismissal.

 

Pasta de Conchos Accident:

 

On February 19, 2010 three widows of miners, who perished in the 2006 Pasta the Conchos accident, filed a complaint for damages in the United States District Court for the District of Arizona against defendants Grupo México, Americas Mining Corporation and Southern Copper Corporation. Plaintiffs allege that defendants’ purported failure to maintain a safe working environment at the mine amounted to a violation of several laws and treaties.  The Company considers that the court does not have subject-matter jurisdiction over the plaintiffs’ claims and will defend itself vigorously.

 

Labor matters:

 

In recent years the Company has experienced a number of strikes or other labor disruptions that have had an adverse impact on its operations and operating results.

 

Peruvian Operations

 

Approximately 61% of the Company’s Peruvian labor force was unionized at March 31, 2010, represented by eight separate unions.  Three of these unions, one at each major production area, represent the majority of the Company’s workers.  The collective bargaining agreements for these unions last through February 2010.  The Company has started negotiations with these unions on February 5, 2010 and continues through April 2010.  The Company expects that the negotiations will be amicably resolved.  Additionally, there are five smaller unions, representing the balance of workers.  Collective bargaining agreements for this group are in force through November 2012.

 

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During 2009 there were no strikes at the Company’s Peruvian operations.  In 2008, strikes in support of a mining federation strike occurred at the Company’s operating areas, during which operations were near to normal.

 

Mexican operations

 

Approximately 76% of the Mexican labor force was unionized at March 31, 2010, represented by two separate unions.  Under Mexican law, the terms of employment for unionized workers is set forth in collective bargaining agreements.  Mexican companies negotiate the salary provisions of collective bargaining agreements with the labor unions annually and negotiate other benefits every two years.  The Company conducts negotiations separately at each mining complex and each processing plant.

 

The Company has tried unsuccessfully to resolve the current labor stoppage that has obstructed production at the Cananea mine since July 2007.  In the second quarter 2008 the Board of Directors offered all Cananea employees a severance payment in accordance with the collective bargaining agreement and applicable law.  This was offered in order to award the employees a significant severance payment that allows them to choose the labor alternative that is best for each of them.  During 2008, under this plan a group of employees was terminated at a cost to the Company of $15.2 million, which was recorded in cost of sales on the consolidated statement of earnings.  There were no termination payments made in 2009 or in the three months ended March 31, 2010.  The Company has estimated a liability of $33.8 million, which was recorded on the condensed consolidated balance sheet.

 

On March 20, 2009 the Company notified the Mexican federal labor court of the termination of all the individual labor contracts of the Cananea workers, including the collective bargaining agreement with the union.  This decision was based upon a finding by the Mexican mining authorities that confirmed that the Cananea mine was in a force majeure situation since it was unable to operate due to severe damages caused by striking workers.  On April 14, 2009, the Mexican federal labor court issued a resolution approving the termination of Cananea’s labor relationships with individual and unionized employees, as well as the termination of its collective bargaining agreement with its employees and with the National Mining and Metal Workers Union.  This ruling has been challenged before federal tribunals.  Most of the individual challenges by unionized workers have been resolved by a federal judge dismissed their complaint.

 

On February 11, 2010, a Mexican federal district court confirmed that the damages caused to the Cananea mine by the neglect and sabotage of striking workers since the commencement of labor stoppages and strikes in July 2007 resulted in force majeure providing legal basis for the termination of individual and unionized employees by the Company’s subsidiary, Mexicana de Cananea, S.A. de C.V.  A workers’ appeal was dismissed on April 21, 2010 by the Mexican Supreme Court. The Company expects to regain access to the installations in accordance with the law.

 

Due to the lengthy work stoppage the Company has performed an impairment analysis on the assets at the Cananea mine.  The Company has determined through its impairment analysis that no impairment exists as of March 31, 2010.  Should estimates of future copper and molybdenum prices decrease significantly, such determination could change.  During 2009 the Company continued providing periodic maintenance to the assets.

 

Additionally, the Taxco and San Martin mines have been on strike since July 2007.  On December 10, 2009 a federal tribunal confirmed the legality of the San Martin strike.  It is expected that operations at these mines will remain suspended until these labor issues are resolved.

 

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Other legal matters:

 

Class actions:

 

Three purported class action derivative lawsuits have been filed in the Delaware Court of Chancery (New Castle County) late in December 2004 and early January 2005 relating to the acquisition of Minera Mexico by SCC.  On January 31, 2005, the three actions Lemon Bay, LLP v. Americas Mining Corporation, et al., Civil Action No. 961-N, Therault Trust v. Luis Palomino Bonilla, et al., and Southern Copper Corporation, et al., Civil Action No. 969-N, and James Sousa v. Southern Copper Corporation, et al., Civil Action No. 978-N were consolidated into one action titled, In re Southern Copper Corporation Shareholder Derivative Litigation, Consol.  Civil Action No. 961-N and the complaint filed in Lemon Bay was designated as the operative complaint in the consolidated lawsuit.  The consolidated action purports to be brought on behalf of the Company’s common stockholders.

 

The consolidated complaint alleges, among other things, that the acquisition of Minera Mexico is the result of breaches of fiduciary duties by the Company’s directors and is not entirely fair to the Company and its minority stockholders.  The consolidated complaint seeks, among other things, a preliminary and permanent injunction to enjoin the acquisition, the award of damages to the class, the award of damages to the Company and such other relief that the court deems equitable, including interest, attorneys’ and experts’ fees and costs.  The defendants believe that this lawsuit is without merit and are vigorously defending against the action.

 

The Company’s direct and indirect parent corporations, including AMC and Grupo Mexico, have from time to time been named parties in various lawsuits involving Asarco, including a previously reported lawsuit brought by Asarco in connection with AMC’s purchase of SCC’s interest from Asarco.  As a result of the completion of the reorganization of Asarco and the exiting of Asarco from Chapter 11, this lawsuit has been satisfactorily resolved.

 

The Company is involved in various other legal proceedings incidental to its operations, but the Company does not believe that decisions adverse to it in any such proceedings, individually or in the aggregate, would have a material adverse effect on its financial position or results of operations.  Additionally, the Company does not believe that the outcome of the purported class action derivative lawsuit would have a material adverse effect on its financial position, results of operations or its cash flows.

 

Other commitments:

 

Regional development contribution:

 

In 2006, the Company’s Peruvian Branch signed a contract with the Peruvian government committing the Company to make annual contributions for five years to support the regional development of Peru based on prior year’s net earnings.  This was in response to an appeal by the president of Peru to the mining industry.  The contributions are being used for social benefit programs.

 

These contributions were deposited with a separate entity, Copper Assistance Civil Association (Asociación Civil Ayuda del Cobre) which will make disbursements for approved investments in accordance with the agreement.  Future contributions could increase or decrease depending on copper prices.  The commitment of the Branch is for a total of 1.25% of its annual earnings, after Peruvian income tax.  If the average annual LME copper price is below $1.79 per pound the contribution will cease.

 

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The Company made provisions for this contribution in the first quarter of 2010 and 2009, as follows (in millions):

 

 

 

2010

 

2009

 

Regional development contribution

 

$

2.2

 

$

0.6

 

 

These provisions are included in “Other income (expense)” in the condensed consolidated statement of earnings.

 

Royalty charge

 

In June 2004, the Peruvian Congress enacted legislation imposing a royalty charge to be paid by mining companies.  Under this law, the Company is subject to a 1% to 3% royalty, based on sales, applicable to the value of the concentrates produced at the Toquepala and Cuajone mines.  The Company made provisions for this charge in the first quarter of 2010 and 2009, as follows (in millions):

 

 

 

2010

 

2009

 

Royalty charge

 

$

12.9

 

$

3.7

 

 

These provisions are included in “Cost of sales (exclusive of depreciation, amortization and depletion)” in the condensed consolidated statement of earnings.

 

Power purchase agreement

 

In 1997, SCC sold its Ilo power plant to an independent power company, Enersur S.A. (“Enersur”).  In connection with the sale, a power purchase agreement was also completed under which SCC agreed to purchase all of its power needs for its Peruvian operations from Enersur for twenty years, commencing in 1997.  In 2003 the agreement was amended, releasing Enersur from its obligation to construct additional capacity to meet the Company’s increased electricity requirements and changing the power tariff as called for in the original agreement.

 

The Company has recently signed a Memorandum of Understanding (“MOU”) with Enersur regarding its power supply agreement.  The MOU contains new economic terms that the Company believes better reflect current economic conditions in the power industry and in Peru.  The Company expects to obtain savings in its future power costs.  The new economic conditions agreed to in the MOU have been applied by Enersur to its invoices to the Company since May 2009.  Additionally, the MOU includes an option for providing power for the Tia Maria project.

 

Tax contingency matters:

 

Tax contingencies are provided for under ASC 740-10-50-15 Uncertain tax position (see Note E, “Income taxes”).

 

N.            Segment and Related Information:

 

Company management views Southern Copper as having three operating segments and manages on the basis of these segments.  The segments identified by the Company are: the Peruvian operations, the Mexican open pit operations and the Mexican underground mining operations segment identified as the IMMSA unit.

 

Financial information is regularly prepared for each of the three segments and the results of the Company’s operations are regularly reported to the Chief Operating Officer on the segment basis.  The Chief Operating Officer of the Company focuses on operating income and on total assets as measures of performance to evaluate

 

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different segments and to make decisions to allocate resources to the reported segments.  These are common measures in the mining industry.

 

Financial information relating to Southern Copper’s segments is as follows:

 

 

 

Three Months Ended March 31, 2010

 

 

 

(in millions)

 

 

 

Mexican
Open Pit

 

Mexican
IMMSA
Unit

 

Peruvian
Operations

 

Corporate,
other and
eliminations

 

Consolidated

 

 

 

 

 

 

 

 

 

 

 

 

 

Net sales outside of segments

 

$

378.4

 

$

91.2

 

$

721.8

 

$

28.0

 

$

1,219.4

 

Intersegment sales

 

21.2

 

51.7

 

 

(72.9

)

 

Cost of sales (exclusive of depreciation, amortization and depletion)

 

166.1

 

91.3

 

283.4

 

(41.6

)

499.2

 

Selling, general and administrative

 

7.4

 

3.2

 

10.5

 

0.6

 

21.7

 

Depreciation, amortization and depletion

 

41.6

 

5.9

 

32.9

 

0.8

 

81.2

 

Exploration

 

1.2

 

3.6

 

3.7

 

 

8.5

 

Operating income

 

$

183.3

 

$

38.9

 

$

391.3

 

$

(4.7

)

608.8

 

Less:

 

 

 

 

 

 

 

 

 

 

 

Interest, net

 

 

 

 

 

 

 

 

 

(21.8

)

Other income (expense)

 

 

 

 

 

 

 

 

 

1.4

 

Income taxes

 

 

 

 

 

 

 

 

 

(203.2

)

Non-controlling interest

 

 

 

 

 

 

 

 

 

(2.0

)

Net income attributable to SCC

 

 

 

 

 

 

 

 

 

$

383.2

 

 

 

 

 

 

 

 

 

 

 

 

 

Capital expenditure

 

$

12.2

 

$

5.9

 

$

57.2

 

$

0.1

 

$

75.4

 

Property, net

 

$

1,586.6

 

$

275.2

 

$

2,050.3

 

$

61.5

 

$

3,973.6

 

Total assets

 

$

2,394.5

 

$

696.6

 

$

2,873.2

 

$

36.3

 

$

6,000.6

 

 

 

 

Three Months Ended March 31, 2009

 

 

 

(in millions)

 

 

 

Mexican
Open Pit

 

Mexican
IMMSA
Unit

 

Peruvian
Operations

 

Corporate,
other and
eliminations

 

Consolidated

 

 

 

 

 

 

 

 

 

 

 

 

 

Net sales outside of segments

 

$

172.3

 

$

90.3

 

$

346.8

 

$

12.6

 

$

622.0

 

Intersegment sales

 

0.8

 

27.2

 

 

(28.0

)

 

Cost of sales (exclusive of depreciation, amortization and depletion)

 

98.6

 

99.4

 

199.1

 

(21.6

)

375.5

 

Selling, general and administrative

 

7.5

 

3.3

 

6.9

 

1.1

 

18.8

 

Depreciation, amortization and depletion

 

41.3

 

6.1

 

30.2

 

0.6

 

78.2

 

Exploration

 

0.7

 

1.2

 

3.5

 

 

5.4

 

Operating income

 

$

25.0

 

$

7.5

 

$

107.1

 

$

4.5

 

144.1

 

Less:

 

 

 

 

 

 

 

 

 

 

 

Interest, net

 

 

 

 

 

 

 

 

 

(17.6

)

Loss on derivative instruments

 

 

 

 

 

 

 

 

 

(2.6

)

Other income (expense)

 

 

 

 

 

 

 

 

 

3.4

 

Income taxes

 

 

 

 

 

 

 

 

 

(48.0

)

Non-controlling interest

 

 

 

 

 

 

 

 

 

(0.6

)

Net income attributable to SCC

 

 

 

 

 

 

 

 

 

$

78.7

 

 

 

 

 

 

 

 

 

 

 

 

 

Capital expenditure

 

$

25.6

 

$

4.8

 

$

24.1

 

$

9.0

 

$

63.5

 

Property, net

 

$

1,643.7

 

$

270.0

 

$

1,846.6

 

$

42.9

 

$

3,803.2

 

Total assets

 

$

2,624.2

 

$

590.7

 

$

2,284.0

 

$

(134.7

)

$

5,364.2

 

 

21



Table of Contents

 

O.    Impact of New Accounting Standards:

 

Please see impact of the adoption of new accounting standards on note B “Adoption of New Accounting Standards”

 

P.     Stockholders’ Equity:

 

Treasury Stock:

 

Activity in treasury stock in the three-month period ended March 31, 2010 and 2009 is as follows (in millions):

 

 

 

2010

 

2009

 

Southern Copper common shares

 

 

 

 

 

Balance as of January 1,

 

$

460.7

 

$

388.9

 

Purchase of shares

 

 

71.6

 

Used for corporate purposes

 

 

 

Balance as of March 31,

 

460.7

 

460.5

 

 

 

 

 

 

 

Parent Company (Grupo Mexico) common shares

 

 

 

 

 

Balance as of January 1,

 

142.7

 

125.5

 

Other activity, including dividend, interest and currency translation effect

 

8.7

 

(0.3

)

Balance as of March 31,

 

151.4

 

125.2

 

 

 

 

 

 

 

Treasury stock balance as of March 31,

 

$

612.1

 

$

585.7

 

 

The following table summarizes share distributions in the first quarter 2010 and 2009:

 

 

 

2010

 

2009

 

Southern Copper common shares

 

 

 

 

 

Directors’ Stock Award Plan

 

 

13,200

 

 

 

 

 

 

 

Parent Company (Grupo Mexico) common shares

 

 

 

 

 

Employee stock purchase plan (shares in millions)

 

11.5

 

12.1

 

 

SCC share repurchase program:

 

In 2008 the Company’s Board of Directors authorized a $500 million share repurchase program.  Under this program the Company may purchase additional shares from time to time, based on market conditions and other factors.  This repurchase program has no expiration date and may be modified or discontinued at any time.  These shares will be available for general corporate purposes.

 

As of December 31, 2009 the Company repurchased 33.4 million shares of SCC Common Stock at a cost of $456.6 million.  As a result of the repurchase of SCC common shares and AMC’s purchase of SCC shares, Grupo Mexico’s direct and indirect ownership increased to 80% at March 31, 2009 and remains at this level to date.  There was no activity in the first quarter of 2010.

 

Directors’ Stock Award Plan:

 

The Company established a stock award compensation plan for certain directors who are not compensated as employees of the Company.  Under this plan, participants will receive 1,200 shares of common stock upon election and 1,200 additional shares following each annual meeting of stockholders thereafter. 600,000 shares of Southern Copper common stock have been reserved for this plan.  The fair value of the award is measured each year at the date of the grant.

 

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Table of Contents

 

The activity of the plan in the three-month period ended March 31, 2010 and 2009 is as follows:

 

 

 

2010

 

2009

 

 

 

 

 

 

 

Total SCC shares reserved for the plan

 

600,000

 

600,000

 

 

 

 

 

 

 

Total shares granted at January 1,

 

(241,200

)

(229,200

)

Granted in the period

 

 

 

Total shares granted at March 31,

 

(241,200

)

(229,200

)

 

 

 

 

 

 

Remaining shares reserved

 

358,800

 

370,800

 

 

Employee Stock Purchase Plan:

 

In January 2007, the Company offered to eligible employees a stock purchase plan (the “Employee Stock Purchase Plan”) through a trust that acquires shares of Grupo Mexico stock for sale to its employees, and employees of subsidiaries, and certain affiliated companies.  The purchase price is established at the approximate fair market value on the grant date.  Every two years employees will be able to acquire title to 50% of the shares paid in the previous two years.  The employees will pay for shares purchased through monthly payroll deductions over the eight year period of the plan.  At the end of the eight year period, the Company will grant the participant a bonus of 1 share for every 10 shares purchased by the employee.

 

If Grupo Mexico pays dividends on shares during the eight year period, the participants will be entitled to receive the dividend in cash for all shares that have been fully purchased and paid as of the date that the dividend is paid.  If the participant has only partially paid for shares, the entitled dividends will be used to reduce the remaining liability owed for purchased shares.

 

In the case of voluntary resignation of the employee, the Company will pay to the employee the purchase price applying a deduction over the amount to be paid to the employee based on the following schedule.

 

If the resignation occurs during:

 

% Deducted

 

1st year after the grant date

 

90

%

2nd year after the grant date

 

80

%

3rd year after the grant date

 

70

%

4th year after the grant date

 

60

%

5th year after the grant date

 

50

%

6th year after the grant date

 

40

%

7th year after the grant date

 

20

%

 

In the case of involuntary termination of the employee, the Company will pay to the employee the difference between the fair market value of the shares at the date of termination of employment, and the purchase price.  When the fair market value of the shares is higher than the purchase price, the Company will apply a deduction over the amount to be paid to the employee based on the following schedule.

 

If the termination occurs during:

 

% Deducted

 

1st year after the grant date

 

100

%

2nd year after the grant date

 

95

%

3rd year after the grant date

 

90

%

4th year after the grant date

 

80

%

5th year after the grant date

 

70

%

6th year after the grant date

 

60

%

7th year after the grant date

 

50

%

 

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Table of Contents

 

In case of retirement or death of the employee, the Company will render the buyer or his legal beneficiary, the shares effectively paid as of the date of retirement or death.

 

For the three months ended March 31, 2010 and 2009, the stock based compensation expense under this plan was as follows (in millions)

 

 

 

2010

 

2009

 

 

 

 

 

 

 

Stock based compensation expense

 

$

0.5

 

$

0.5

 

Unrecognized compensation expense

 

$

10.1

 

$

12.3

 

 

The unrecognized compensation expense under this plan is expected to be recognized over the remaining five year period.

 

The following table presents the stock award activity for the three months ended March 31, 2010 and 2009:

 

 

 

2010

 

2009

 

 

 

Shares

 

Unit
Value

 

Shares

 

Unit
Value

 

Outstanding shares at January 1,

 

11,556,625

 

$

1.16

 

14,577,011

 

$

1.16

 

Granted

 

 

 

 

 

 

 

Exercised

 

 

 

 

(2,469,689

)

1.16

 

Received as dividend

 

 

 

 

 

 

 

Forfeited

 

(89,869

)

1.16

 

 

 

 

Outstanding shares at March 31,

 

11,466,756

 

$

1.16

 

12,107,322

 

$

1.16

 

 

Executive Stock Purchase Plan:

 

Grupo Mexico also offers a stock purchase plan for certain members of its executive management and the executive management of its subsidiaries and certain affiliated companies.  Under this plan, participants will receive incentive cash bonuses which are used to purchase up to 2,250,000 shares of Grupo Mexico over an eight year period.  The fair value of the award is estimated on the date of grant and is recognized as compensation expense over a weighted average requisite service period of eight years.

 

For the three months ended March 31, 2010 and 2009, the stock based compensation expense under this plan was as follows (in millions)

 

 

 

2010

 

2009

 

 

 

 

 

 

 

Stock based compensation expense

 

$

0.1

 

$

0.1

 

Unrecognized compensation expense at March 31,

 

$

1.8

 

$

1.9

 

 

The unrecognized compensation expense under this plan is expected to be recognized over the remaining five year period.

 

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Table of Contents

 

The following table presents the stock award activity for the three months ended March 31, 2010 and 2009:

 

 

 

2010

 

2009

 

 

 

Shares

 

Unit Value

 

Shares

 

Unit Value

 

Outstanding shares at January 1,

 

697,500

 

$

0.77

 

697,500

 

$

0.77

 

Granted

 

 

 

 

 

 

 

Exercised

 

 

 

 

 

 

 

Forfeited

 

 

 

 

 

 

 

Outstanding shares at March 31,

 

697,500

 

$

0.77

 

697,500

 

$

0.77

 

 

The “Unit Value” means the unit weighted average grant date fair value.

 

Q.    Financial instruments:

 

Subtopic 810-10 of ASC “Fair value measurement and disclosures — Overall” establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value.  The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).  The three levels of the fair value hierarchy under Subtopic 810-10 are described below:

 

Level 1 – Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

 

Level 2 – Inputs that are observable, either directly or indirectly, but do not qualify as Level 1 inputs. (i.e., quoted prices for similar assets or liabilities)

 

Level 3 – Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).

 

The carrying amounts of certain financial instruments, including cash and cash equivalents, accounts receivable (other than accounts receivable associated with provisionally priced sales) and accounts payable approximate fair value due to their short maturities.  Consequently, such financial instruments are not included in the following table that provides information about the carrying amounts and estimated fair values of other financial instruments that are not measured at fair value in the condensed consolidated balance sheet as of March 31, 2010 and December 31, 2009 (in millions):

 

 

 

As of March 31, 2010

 

As of December 31, 2009

 

 

 

Carrying
Value

 

Fair Value

 

Carrying
Value

 

Fair Value

 

 

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

 

 

Long-term debt

 

$

1,280.3

 

$

1,346.1

 

$

1,280.3

 

$

1,292.3

 

 

Fair value for long term debt is based on quoted market prices classified as Level 1 in the fair value hierarchy.  The Mitsui loan is based on the present value of the cash flow discounted at 9%, which is the Company’s weighted average cost of capital.

 

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Table of Contents

 

Fair values of assets and liabilities measured at fair value on a recurring basis were calculated as follows as of March 31, 2010 and December 31, 2009:

 

 

 

Fair Value at Measurement Date Using:

 

Description

 

Fair Value
as of
March 31,
2010

 

Quoted prices in
active markets
for identical
assets

(Level 1)

 

Significant
other
observable
inputs
(Level 2)

 

Significant
unobservable
inputs

(Level 3)

 

Assets:

 

 

 

 

 

 

 

 

 

Available for sale debt securities:

 

 

 

 

 

 

 

 

 

Foreign bonds

 

$

2.0

 

 

 

$

2.0

 

 

 

Corporate bonds

 

2.8

 

 

 

2.2

 

$

0.6

 

Asset backed obligations

 

5.7

 

 

 

5.7

 

 

Mortage backed securities

 

9.6

 

 

 

9.6

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives:

 

 

 

 

 

 

 

 

 

Provisionally priced sales:

 

 

 

 

 

 

 

 

 

Copper

 

3.0

 

3.0

 

 

 

 

 

Molybdenum

 

26.3

 

26.3

 

 

 

 

 

Total

 

$

49.4

 

$

29.3

 

$

19.5

 

$

0.6

 

 

 

 

Fair Value at Measurement Date Using:

 

Description

 

Fair Value
as of
December 31,
2009

 

Quoted prices in
active markets
for identical
assets

(Level 1)

 

Significant
other
observable
inputs
(Level 2)

 

Significant
unobservable
inputs

(Level 3)

 

Assets:

 

 

 

 

 

 

 

 

 

Available for sale debt securities:

 

 

 

 

 

 

 

 

 

Foreign bonds

 

1.9

 

 

 

1.9

 

 

 

Corporate bonds

 

4.8

 

 

 

3.1

 

1.7

 

Asset backed obligations

 

6.6

 

 

 

6.6

 

 

 

Mortage backed securities

 

9.6

 

 

 

8.2

 

1.4

 

 

 

 

 

 

 

 

 

 

 

Derivatives:

 

 

 

 

 

 

 

 

 

Provisionally priced sales:

 

 

 

 

 

 

 

 

 

Copper

 

4.1

 

4.1

 

 

 

 

 

Molybdenum

 

(16.2

)

(16.2

)

 

 

 

 

Total

 

$

10.8

 

(12.1

)

$

19.8

 

$

3.1

 

 

The Company classifies investments within Level 3 of the valuation hierarchy in certain cases where there is limited activity or less observable inputs to the valuation.  Investments classified within Level 3 include corporate bonds, asset backed obligations, and mortgage-backed securities.  These investments are valued by the fund’s management advisor taking into consideration different factors and methodologies considered appropriate in the circumstance.  Factors can include the following or a combination of the following: observed transactions, broker quotes, cash flow analysis, vendor prices and other factors as appropriate.

 

Derivatives are valued using internal models that use as their basis readily observable market inputs, such as time value, forward interest rates, volatility factors, and current and forward market prices for foreign exchange rates.  The

 

26



Table of Contents

 

Company generally classifies these instruments within Level 2 of the valuation hierarchy.  Such derivatives include foreign currency, copper and zinc derivatives.

 

The Company’s accounts receivables associated with provisionally priced copper sales are valued using quoted market prices based on the forward price on the London Metal Exchange (LME) or on the Commodities Exchange (COMEX) in New York.  Such value is classified within Level 1 of the fair value hierarchy.  Molybdenum prices are established by reference to the publication Platt’s Metals Week and are considered Level 1 in the fair value hierarchy.

 

The table below sets forth a summary of changes in the fair value of the Company’s Level 3 short-term investments (corporate bond, asset backed obligations, and mortgage backed securities) for the first quarter 2010 and 2009.

 

 

 

3 months ended March 31, 2010

 

 

 

Available for sale debt securities:

 

 

 

 

 

Corporate
bonds

 

Asset backed
obligations

 

Mortgage
backed
securities

 

Total

 

 

 

 

 

 

 

 

 

 

 

Balance as of January 1,

 

$

1.7

 

 

 

$

1.4

 

$

3.1

 

Unrealized gain (loss)

 

 

 

 

 

 

 

Purchases, sales, issuance and settlements (net)

 

(1.2

)

 

 

 

 

(1.2

)

Transfers in/out of Level 3

 

0.1

 

 

 

(1.4

)

(1.3

)

Balance as of March 31,

 

$

0.6

 

 

 

$

 

$

0.6

 

 

 

 

3 months ended March 31, 2009

 

 

 

Available for sale debt securities:

 

 

 

 

 

Corporate
bonds

 

Asset
backed
obligations

 

Mortgage
backed
securities

 

Total

 

 

 

 

 

 

 

 

 

 

 

Balance as of January 1,

 

$

6.9

 

$

0.8

 

$

3.3

 

$

11.0

 

Unrealized gain (loss)

 

(0.1

)

 

 

(0.1

)

Purchases, sales, issuance and settlements (net)

 

(1.5

)

(0.6

)

(0.4

)

(2.5

)

Transfers in/out of Level 3

 

(0.2

)

 

0.3

 

0.1

 

Balance as of March 31,

 

$

5.1

 

$

0.2

 

$

3.2

 

$

8.5

 

 

The unrealized gains (losses) were included in other income in the condensed consolidated statement of earnings for the quarter ended March 31, 2010 and 2009.

 

R.    Subsequent events:

 

Dividends:

 

On April 22, 2010, the Board of Directors authorized a quarterly dividend of 45 cents per share payable on May 25, 2010, to SCC shareholders of record at the close of business on May 12, 2010.

 

Technical review of Tia Maria EIA:

 

On April 27, 2010, a Peruvian Ministerial Resolution created a technical agency to analyze and respond to comments on the environmental impact of the Tia Maria project.

 

27



Table of Contents

 

This technical agency is an alternative to the cancelled public hearing and will, during a period of 90 days, analyze comments on the environmental impact of the Tia Maria project.  At the end of the period, a final report will be issued.

 

This technical agency will include representatives of Peruvian national and regional authorities and representatives of the community and the Company.  SCC will participate in this process to further inform the local communities of the value of the project and the benefits that it will bring to the region and its people.

 

28



Table of Contents

 

Part I

 

Item 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion provides information that management believes is relevant to an assessment and understanding of the consolidated financial condition and results of operations of Southern Copper Corporation and its subsidiaries (collectively, “SCC”, “the Company”, “our”, and “we”).  This item should be read in conjunction with our interim unaudited Condensed Consolidated Financial Statements and the notes thereto included in this quarterly report.  Additionally, the following discussion and analysis should be read in conjunction with the Management Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements included in Part II of our annual report on Form 10-K for the year ended December 31, 2009.

 

EXECUTIVE OVERVIEW

 

Business: Our business is primarily the production and sale of copper.  In the process of producing copper, a number of valuable metallurgical by-products are recovered, such as molybdenum, zinc, silver, lead and gold, which we also produce and sell.  Market forces outside of our control largely determine the sales prices for our products.  We therefore focus on copper production, cost control, production enhancement and maintaining a prudent capital structure to remain profitable.  We believe we achieve these goals through capital spending programs, exploration efforts and cost reduction programs.  Our aim is to remain profitable during periods of low copper prices and to maximize financial performance in periods of high copper prices.

 

Outlook:  Various key factors will affect our outcome.  These include, but are not limited to, some of the following:

 

·          Changes in copper and molybdenum prices.  Copper and molybdenum represented 70% and 16%, respectively, of our sales in the first quarter 2010. Molybdenum began trading on the LME this year. We view this as positive in the long-term outlook for molybdenum.

·          We expect that the 2010 production of copper and molybdenum will match our 2009 production levels.

·          We have a capital investment program of $2.8 billion for the next three years (2010-2012), which is expected to increase annual copper and molybdenum production by approximately 754 million pounds and 15 million pounds, respectively.

·          In the year 2010 we have budgeted capital spending of $600 million in Peru and $200 million in Mexico. Through March 31, 2010 we have spent $75.4 million on our 2010 capital program.

 

Earnings: Copper prices continued to improve during the first quarter of 2010.  Prices for other metals have also improved during this period.  During the first quarter of 2010 per pound LME spot copper prices ranged from $2.83 to $3.55 and averaged $3.28, as compared to an average of $1.56 in the first quarter 2009.  While in the near term the outlook for copper could be volatile we believe that the copper market outlook remains strong for the next few years.  Limited supplies from existing mines, the absence in the near term of any major new development projects and increasing demand from Asia, we believe supports this outlook.  The LME spot price for copper closed at $3.55 per pound on March 31, 2010.

 

First quarter 2010 sales of $1,219 million and net earnings attributable to SCC of $383 million reflects the continuing recovery of copper prices and prices of our other metal products, as well as Company-wide productivity improvements which have increased our production and sales.  This allows us to continue with our capital projects to increase production levels and improve our profitability.

 

29



Table of Contents

 

The table below highlights key financial and operational data for our Company for the three months ended March 31, 2010 and 2009:

 

 

 

Three months ended March 31,

 

 

 

2010

 

2009

 

Variance

 

Net sales (in millions)

 

$

1,219

 

$

622

 

$

597

 

Net income attributable to SCC (in millions)

 

$

383

 

$

79

 

$

304

 

Earnings per share

 

$

0.45

 

$

0.09

 

$

0.36

 

Dividends per share

 

$

0.43

 

$

0.12

 

$

0.31

 

Average LME copper price

 

$

3.28

 

$

1.56

 

$

1.72

 

Pounds of copper sold (in millions)

 

257

 

265

 

(8

)

 

Production: First quarter 2010 mined copper production was 8.8% lower than the first quarter of 2009. Mined zinc mined and silver production in the first quarter of 2010 was close to the production level in the first quarter of 2009.  However, we increased our production of molybdenum mined by 17.2% in the first quarter of 2010 compared to the first quarter of 2009.

 

The table below highlights key mine production data for our Company for the three months ended March 31, 2010 and 2009:

 

 

 

Three months ended March 31,

 

 

 

2010

 

2009

 

Variance

 

 

 

 

 

 

 

 

 

Copper mined (in million pounds)

 

241

 

264

 

(23

)

Molybdenum mined (in million pounds)

 

10.5

 

8.9

 

1.6

 

Zinc mined (in million pounds)

 

59

 

60

 

(1

)

Silver mined (in million ounces)

 

3.2

 

3.2

 

 

 

Cananea strike: Operations at our Cananea, San Martin and Taxco facilities remained closed during the first quarter of 2010, due to continuing strike activity.  These strikes began in July 2007.  However, on February 11, 2010 a Mexican federal court ruled in favor of us in the Cananea case.  As a consequence, all existing labor contracts were terminated.  A workers’ appeal was dismissed on April 21, 2010 by the Mexican Supreme Court. We expect to regain access to the installations in accordance with the law.

 

We are ready to resume operations at Cananea with a new labor contract, which we believe will increase productivity and competitiveness for this operation.  The end of the labor struggle at Cananea could also make possible an investment of $3.8 billion to expand Cananea’s annual production from 180,000 tons to 460,000 tons of copper and to 5,400 tons of molybdenum, as well as the development of the Pilares mine site.  These projects include the generation of its own power requirements at a very competitive cost and would generate approximately 9,000 new jobs during the project construction phase and bring significant economic benefits to the people of Cananea. As part of these investments we are including several educational and cultural initiatives that would significantly enhance the life of the people of Cananea, as well as the nearby urban and rural areas.  Such investments were on hold until now due to union activities.

 

Due to the lengthy work stoppage we have performed an impairment analysis on the assets at the Cananea mine and have determined that no impairment exists as of March 31, 2010.

 

Closing of the San Luis Potosi copper smelter: On March 16, 2010, as part of a remediation program to fully comply with the international standards of the mining industry, we announced the closing of the San Luis Potosi copper smelter, which was in operation for almost one hundred years. We believe operating efficiencies will increase with La Caridad replacing the copper smelting capacity of San Luis Potosi.  Our modern

 

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San Luis Potosi zinc refinery will not be affected by the smelter’s closing and a potential expansion that could double its capacity is under study.

 

After the closing of the 1925 San Luis Potosi smelter we now comply with the highest international environmental standards at 100% of our mining and metallurgical facilities in Mexico and Peru.  Therefore, we will apply for ISO-14000 certification as a ratification of our clean industry standard.

 

Financing: On April 16, 2010 the Company issued $1.5 billion in fixed-rate senior unsecured notes.  The $1.5 billion fixed-rate senior unsecured notes were issued in two tranches, $400.0 million due in 2020 at an annual interest rate of 5.375% and $1.1 billion due in 2040 at an annual interest rate of 6.75%.  Proceeds are to be used for general corporate purposes, including the financing of our capital expenditure program.

 

On April 1, 2010 Moody’s Investors Service upgraded to Baa2 from Baa3 the Company’s senior unsecured ratings and the rating on our Yankee bonds.  Also on April 5, 2010 Fitch and Standard & Poor’s ratings services assigned its ‘BBB’ and ‘BBB-’, respectively, as debt rating on the new notes issued.  At the same time, these credit rating agencies confirmed their long-term corporate credit rating on SCC (‘Baa2’, ‘BBB, and ‘BBB-, for Moody’s, Fitch and S&P, respectively).

 

Major capital projects: On January 28, 2010 our Board of Directors approved an investment program of $2.8 billion for the next three years (2010-2012), which is expected to increase annual copper and molybdenum production by approximately 754 million pounds and 15 million pounds, respectively, when this program is completed.  The program also aims to improve cost competitiveness and efficiencies.  All capital spending plans will continue to be reviewed and adjusted to respond to changes in the economy or market conditions.

 

The approved program considers some ongoing projects as well as new initiatives and has begun at our Peruvian operations with the Tia Maria project and the Toquepala concentrator expansion.

 

Tia Maria project:  The second public hearing for the Tia Maria project, scheduled for April 19, 2010, did not take place because of social unrest in the Islay Province.  On April 27, 2010, a Peruvian Ministerial Resolution created a technical agency to analyze and respond to comments on the environmental impact of the Tia Maria project.

 

This technical agency is an alternative to the cancelled public hearing and will, over a period of 90 days, analyze comments on the environmental impact of the Tia Maria project.  At the end of the period, a final report will be issued.

 

This technical agency will include representatives of Peruvian national and regional authorities, and representatives of the community and the Company.  We will participate in this process to further inform the local communities of the value of the project and the benefits that it will bring to the region and its people.  Construction will begin as soon as we receive approval of the EIA, which is expected in the third quarter of 2010.

 

The investment in the Tia Maria project would be $934 million and produce 120,000 tons of copper cathodes using state of the art technology, which would be compliant with the international environmental and sustainable development standards. The project is expected to generate 4,000 jobs during the construction phase. When in operation, Tia Maria would directly employ 600 workers and indirectly another 3,500. Through its expected eighteen years of life, the project required services would create significant opportunities for small and medium business growth in the region.

 

In addition, we intend to implement social responsibility programs in the Arequipa region similar to those established in the communities near our other operations in

 

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Peru. In addition to these initiatives, the mining voluntary contribution program is estimated to be $5.0 million per year for Arequipa, and could be immediately applied to the development of the communities near Tia Maria.

 

To obtain the necessary water supply for the Tia Maria project, we have offered to build the Paltiture dam with an increased capacity of approximately 40 million cubic meters of water, that currently drain into to the Pacific Ocean. We would only use seven million cubic meters per year of this dam. The remaining additional 33 million cubic meters would be available for the benefit of the Tambo valley agriculture communities and the Islay population.

 

As part of our contribution to local communities, we would improve telecommunications facilities in the Tambo valley with better services for cell phone, television and internet.

 

We consider that, these projects bring an excellent opportunity for real quality of life improvements with no negative environmental impact to the nearby communities.

 

KEY MATTERS:

 

We discuss below several matters that we believe are important to understand our results of operations and financial condition.  These matters include, (i) our “operating cash costs” as a measure of our performance, (ii) metal prices, (iii) business segments, (iv) the effect of inflation and other local currency issues, and (v) our expansion and modernization program and environmental protection programs.

 

Operating Cash Costs: An overall benchmark used by us and a common industry metric to measure performance is operating cash costs per pound of copper produced.  Operating cash cost is a non-GAAP measure that does not have a standardized meaning and may not be comparable to similarly titled measures provided by other companies.  A reconciliation of our operating cash cost per pound to the cost of sales (exclusive of depreciation, amortization and depletion) as presented in the condensed consolidated statement of earnings is presented under the subheading, “Non-GAAP Information Reconciliation,” below.  From time to time we purchase copper concentrates on the open market in order to maximize the use of our smelter capacity or to take advantage of an attractive market situation.  We view these purchases on an incremental basis and measure the results incrementally.  We find that the inclusion of these purchases with our own production often creates a distortion in our unit cost.  Accordingly we only include the net revenue or loss from the transaction in the calculation.  We believe this will allow others to see a truer presentation of our cash cost.  Amounts for prior years have been restated to show this change.

 

We have defined operating cash cost per pound as cost of sales (exclusive of depreciation, amortization and depletion), less the cost of purchased concentrates, plus selling, general and administrative charges, treatment and refining charges, net revenue (loss) on sale of metal purchased from third parties and by-products revenues, and sales premiums; less workers’ participation and other miscellaneous charges, including the Peruvian royalty charge and the change in inventory levels; divided by total pounds of copper produced by our own mines.  In our calculation of operating cash cost per pound of copper produced, we credit against our costs the revenues from the sale of by-products, primarily molybdenum, zinc, silver and the premium over market price that we receive on copper sales.  We account for the by-product revenue in this way because we consider our principal business to be the production and sale of copper.  We believe that our Company is viewed by the investment community as a copper company, and is valued, in large part, by the investment community’s view of the copper market and our ability to produce copper at a reasonable cost.  We also include copper sales premiums as a credit, as these amounts are in excess of published copper prices.  The increase in recent years in the price of molybdenum, as well as increases in silver and zinc, have had a significant effect on our traditional

 

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calculation of cash cost and its comparability between periods.  Accordingly, we present cash costs with and without crediting the by-product revenues against our costs.

 

We exclude from our calculation of operating cash cost depreciation, amortization and depletion, which are considered non-cash expenses.  Exploration is considered a discretionary expenditure and is also excluded.  Workers’ participation provisions are determined on the basis of pre-tax earnings and are also excluded.  Additionally excluded from operating cash costs are items of a non-recurring nature and the royalty charges.

 

Our operating cash costs per pound, as defined, are presented in the table below, for the three months ended March 31, 2010 and 2009.

 

 

 

Three Months Ended
March 31,

 

Positive
(negative)

 

(dollars per pound)

 

2010

 

2009

 

Variance

 

Operating cash cost per pound of copper produced

 

$

(0.147

)

$

0.598

 

$

0.745

 

Less: by-products revenue and net revenue on sale of metal purchased from third parties

 

$

(1.651

)

$

(0.694

)

$

0.957

 

Operating cash cost per pound of copper produced without by-products revenue and net revenue on sale of metal purchased from third parties

 

$

1.504

 

$

1.292

 

$

(0.212

)

 

As seen in the table above, our per pound cash cost for the three months ended March 31, 2010 when calculated with by-products revenue are a credit of 14.7 cents per pound compared with a cost of 59.8 cents per pound in the same period of 2009.  The decrease of 74.5 cents per pound was primarily due to higher by-products credit in the 2010 period as a result of higher sales prices and higher molybdenum sales volume.  An increase of 80.3% in molybdenum price caused a higher credit of approximately 65.5 cents per pound.

 

Our cash cost, excluding by-product revenues, was higher by 21.2 cents per pound for the three months ended March 31, 2010 than the 2009 period due to higher power, fuel and material repair costs and to decreased copper production in the first quarter of 2010 see caption “Production” below.

 

Metal Prices. The profitability of our operations is dependent on, and our financial performance is significantly affected by, the international market prices for the products we produce, especially for copper, molybdenum, zinc and silver.  Metal prices historically have been subject to wide fluctuations and are affected by numerous factors beyond our control.  These factors, which affect each commodity to varying degrees, include international economic and political conditions, levels of supply and demand, the availability and cost of substitutes, inventory levels maintained by producers and others and, to a lesser degree, inventory carrying costs and currency exchange rates.  In addition, the market prices of certain metals have on occasions been subject to rapid short-term changes due to speculative activities.

 

We are subject to market risks arising from the volatility of copper and other metal prices.  Assuming that expected metal production and sales are achieved, that tax rates are unchanged, giving no effect to potential hedging programs, metal price sensitivity factors would indicate the following change in estimated 2010 net income attributable to SCC resulting from metal price changes:

 

 

 

Copper

 

Molybdenum

 

Zinc

 

Silver

 

Change in metal prices (per pound, except silver – per ounce)

 

$

0.01

 

$

1.00

 

$

0.01

 

$

1.00

 

Annual change in net income attributable to SCC (in millions)

 

$

5.7

 

$

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