Fortuna Silver Mines Inc. (NYSE:FSM) Q1 2023 Earnings Call Transcript May 16, 2023

Operator: Greetings. And welcome to the Fortuna Silver Mines First Quarter 2023 Financial and Operational Results Call. At this time, all participants are in a listen-only mode and a question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded. I will now turn the conference over to your host, Carlos Baca, Director of Investor Relations. Sir, you may begin.

Carlos Baca: Thank you, Ali. Good morning, ladies and gentlemen. I would like to welcome you to the Fortuna Silver Mines first quarter 2023 financial and operational results conference call. Hosting the call today on behalf of Fortuna will be Jorge Alberto Ganoza, President and Chief Executive Officer; Luis Dario Ganoza, Chief Financial Officer; Cesar Velasco, Chief Operating Officer, Latin America; David Whittle, Chief Operating Officer, West Africa; and Paul Weedon, Senior Vice President, Exploration. Today’s earnings call presentation will be available on our website, fortunasilver.com. As a reminder, statements made during this call are subject to the reader advisories included in yesterday’s news release and in the earnings call presentation.

Financial figures contained in the presentation and discussed in today’s call are presented in U.S. dollars unless otherwise stated. Before I turn over the call to Jorge, I would like to indicate that this earnings call contains forward-looking information that is based on the company’s current expectations, estimates and beliefs. This forward-looking information is subject to a number of risks, uncertainties and other factors. Actual results could differ materially from a conclusion, forecast or projection in the forward-looking information. Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information. Additional information about the material factors that could cause actual results to differ materially from the conclusion, forecast or projection in the forward-looking information and the material factors or assumptions that were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information is contained in the company’s Annual Information Form and MD&A, which are publicly available on SEDAR.

The company assumes no obligation to update such forward-looking information in the future, except as required by law. I would now like to turn the call over to Jorge Alberto Ganoza, President, Chief Executive Officer and Co-Founder of Fortuna.

Jorge Alberto Ganoza: Thank you, Carlos. Good morning to all. Our business performed well during the first quarter. We recorded net income of $0.04 per share, achieved production of 94,110 gold equivalent ounces on track to meet annual guidance and our costs were all in line with our guidance projections for the period. The sustained worldwide inflation and corresponding cost creep that we all experienced over the past couple of years has been compressing business margins across the precious metals, mining industry. This, despite initiatives to optimize our operations and streamline the business. Gold and silver prices did not provide any significant relief on margins as of Q1 2023. But going into the second quarter, metal prices and margins for the business are looking much stronger.

Our average realized gold price for Q1 was $1,893, which is essentially flat against what we realized in the comparable quarter for 2022 and only 7% higher against a realized price two years ago in Q1 2021. For silver, the story is even a bit more difficult. For 2023, we realized — for this Q1 we realized $22.52, which is 14% lower against the $26.20 we realized in Q1 2021. Over the last years — over last year quarter against the comparable quarter or consolidated cash cost per ounce went from $772 per ounce to $923 per ounce, up 20%. Despite all this, our EBITDA came in at a healthy $65 million and the business generated net cash from operation — operating activities of $41.8 million. After meeting all our sustaining capital demands, funding corporate expenses and paying $12.9 million in taxes, the business generated free cash flow of $8.7 million.

Luis will expand on our management discussion of financial results later in this presentation. Subsequent to the end of the quarter, we have had a few relevant events of importance that I want to mention. During April at the San Jose mine in Mexico, we had to contend with a 15-day stoppage derived from a union claim demanding increase in profit sharing beyond what’s stipulated by law this dispute has been resolved and operations resumed. In early May as well, the Mexican Government approved the new mining reform, which we view as negative for investment in the country, unfortunately. For starters, mineral exploration in open ground becomes an activity reserve for the government and existing mineral concessions and mine operations will be subject to many questionable articles in the law, which provides for higher costs and uncertainties to investment.

We expect there will be many constitutional appeals filed with the Supreme Court of Justice in Mexico against the new law coming from mining companies and other interest groups. Another item to be aware of is our first gold pour at the newly built Séguéla mine, which is imminent and we expect the pour in this second half of May. And on May 8th, we announced we reached an agreement with Chesser Resources to acquire 100% of the company for an all-share consideration, representing approximately 5.1% of the pro forma Fortuna. We expect this transaction to close in late August. Chesser is a great strategic fit to Fortuna. Geographically, the Chesser properties are located in Senegal, a near neighboring country to our existing operations in Cote d’Ivoire and Burkina Faso, a mining-friendly jurisdiction Senegal and a place where we can leverage our West African management infrastructure and expertise.

The Diamba Sud Project is a high value advanced exploration opportunity with multiple target still to be drilled test located in the heart of the Senegal-Mali Shear Zone within a few kilometers of Tier 1 mines in the portfolio of gold majors. And the preliminary economic assessment carried by Chesser on the Diamba Sud outlined a conventional open pit and CIL process that even with a sub-million ounce gold resource as it stands today, can deliver robust internal rates of return above our minimum investment thresholds. Paul Weedon, our Senior Vice President of Exploration, is with us. And Paul, can you please share our views on the exploration opportunities that Chesser presents to us.

Paul Weedon: Yeah. Certainly. Thank you, Jorge. As Jorge said, Chesser represents the next step for our West African growth and it follows the together development. And this is a project we have also been tracking for a few years now and watching it grow over time. So just a quick summary. As Jorge indicated located in Senegal, actually located in the Southeast corner of Senegal, about 680 km from Dakar, easy to access. It’s a well-serviced major regional road that runs on through that way, the highway, low security risk, it’s a mining friendly jurisdiction and we have got several Tier 1 scope mines within 50 kilometers of the project. Chesser’s highlighted a — just a Scoping Study highlighted technically simple, open pit mining concept across several pits, with conventional 2 million tonne per annum operation and with CIL something we would continue to pursue.

We would also anticipate this being a project that we would follow very closely behind the Séguéla development path. Given that when we acquired that four years ago, we had an incurred resource of 100,000 ounces and today we have got total growth. So I’d anticipate that we would see a similar growth through Diamba Sud. Just moving across to the geology side, why do we really like it? It’s located in a really highly prospective Kedougou-Kinieba Inlier, which is a world-class mining district, host to several large Tier 1 operations and the Diamba Sud Project itself is located on fertile splays across the main Senegal-Mali Shear Zone, which is hosted the majority of those large deposits and I really like the structural complex nature of the deposit that’s there highlighting regional prospectivity.

And also, you see there’s a lot of similarities to the nearby Fekola Gold and Gounkoto and Yalea operations of B2 Gold’s and Barrick. They are all within the closest to those 12 kilometers away. So far, the Chesser folks have identified four shallow gold deposits with a very well-developed oxide supergene signature. And we would certainly see that evolving further with further exploration with when we are looking to carry out later on this year, we are receiving that work. At the moment, though, it’s a very attractive exploration play for us. We have got the resources. We have currently got 625,000 ounces of indication at 1.9 grams and a further 235,000 ounces of inferred at 1.5 grams. We see those growing over time, as well as the work that we have got to do at the — Chesser announced recently with Kassassoko.

There is been, I think, some big noise intervals reported there, Gamba Gamba Nord and the Western Splay. These are all drill-ready targets. It’s the preliminary work done to-date. In addition to those, there are several new additional targets that we have identified using their datasets and that’s really one of the highlights for us. These are a portfolio here of new targets available for us to walk up and test. And then there’s also the potential there for a wider regional consolidation. We see a lot of encouragement there. Barrick and middle adjacent device which is Kabewest and we are going to share at least boundary with them. They have got a project there which is quite interesting and then to the Midwest, we also have Afrigolds Karakaene project, which is also again highlighting the potential that we see through that area.

So, in short, what we see here is in an advanced exploration play that we could see moving through the phases to feasibility in a short order of time, on which we have a high potential for growth, very simple geology in the sense that we know it’s there. We have got a nice degree of structural complexity, which adds a bit more excitement to the process and it’s a project which we think we can carry through fairly quickly and we are looking forward to getting into the ground later on this year. Thank you, Jorge.

Jorge Alberto Ganoza: Thank you, Paul. And we will move now to get an update from our operations from our Chief Operating Officer. So, David, you want to give one.

Q&A Session

David Whittle: Thanks, Jorge. Operations in West Africa continued the solid performance during Q1 2023. The Yaramoko delivery gold production of 26,437 ounces. This was ahead of the mine plan. The additional production contributing to Yaramoko’s all-in sustaining costs and cash costs of $1,509 per ounce and $819 per ounce, respectively, both ahead of the lower end of annual guidance. Séguéla construction remains on time and on budget with the first level gold projected for this month. Safety performance at Yaramoko was strong, no injury reported. Unfortunately, at Séguéla an exploration contractor received a finger injury which is later classifiers as an LTI. In early April, a failure beyond line tunneling structure at the Yaramoko portal occurred, which resulted in the loss of the access to the underground mine for a period of 27 days, whilst rehabilitation operations took place.

Normal underground operations resumed on the 1st of May, with the processing plant treating existing stockpiles throughout the rehabilitation period. Production for Q2 remained [Technical Difficulty] and we do not anticipate any [Technical Difficulty] Yaramoko underground grade control and brownfields exploration programs continued with encouraging result, extending our planned mining boundaries on the western side of the ore body and increasing stope coming within the existing reserve boundaries. Construction progress at Séguéla continues on time and on budget with the project being 99% complete as of the end of April. April saw a ramp-up of mining and processing activities is always delivered to the [inaudible] from the Antenna pit, which is the first deposit being mined.

Delivered to the crushing and milling circuits and grade control drilling at the initial phases at Antenna with more than 12,000 meters drill. Road clearing and construction to the Antenna pit, the second deposit being mined is currently taking place with great control drilling expected to start in late May 2023. All mining major equipment is now being mobilized to site and Mota-Engil, the mining contractor is now in the final stages of the construction of key infrastructure. In parallel with excellent progress on the ground, operational readiness stope done well. The mining, tactical, processing and maintenance teams have all been recruited, with Mota-Engil scheduled to recruit the remaining members of the mining team over the coming months.

Back to you, Jorge.

Jorge Alberto Ganoza: Thank you, David. Cesar, can you give valuation your update on LatAm operations, please?

Cesar Velasco: Sure, Jorge. Thank you very much. And as you mentioned before, last week, our San Jose mine in Mexico resumed operations after a 15-day illegal blockade. We are now working on the production recovery plan and don’t anticipate any impact on annual guidance at this stage. We are also assessing potential impacts on the additional costs related to the agreements reached with the union, as well as production targets and safety performance for the year. During the first quarter, San Jose produced 1.3 million ounces of silver and 8,231 ounces of gold. These results are slightly below Q1 2022 due to lower grades than planned as a result of higher dilution in one of the sublevel stoping areas and a small delay in the mining sequence level 800.

We anticipate mining better grade stopes in the upcoming months, though. Cash cost per ounce at San Jose has come under pressure from a stronger Mexican peso coupled with higher inflation and lower head grades. All-in sustaining cost for the quarter is in line with annual guidance as lower production and higher cost of sales were offset by timing in CapEx execution. Moving down to Argentina, Gold production at the Lindero mine was 25,258 ounces, aligned with the mining sequence for the quarter. Head grades are expected to improve in the upcoming mining zones as per mine plan. Mine production for the quarter was 1.6 million tonnes of mineralized material with a stripping ratio of 1.07 to 1, which is aligned with the operations planned for the year of 1.17:1.

Lindero ASIC is in line with guidance for the year. Cash cost per ounce was impacted by higher labor and onetime services costs, as well as the effect of lower grades, but partially offset by lower CapEx execution and savings in key consumables. ASIC is expected to come in at the high end of guidance for the year. In Peru, despite social unrest and numerous road blockades throughout the country in January and February, operations at the Caylloma mine have not been significantly affected. The operation delivered strong production for the first quarter with 8%, 19% and 10% higher production for silver, lead and zinc, respectively. The operation benefited from better head grades of levels 16 and 17, the deepest levels of the mine and higher tonnes processed during the period.

Caylloma’s all-in sustaining cost for the quarter benefited from higher production, lower cash cost and lower CapEx execution, and is on target to achieve the lower cost range of annual guidance. That covers the three Latin American operations. Jorge, back to you.

Jorge Alberto Ganoza: Thank you. Luis, you want to give your report on financial results, please?

Luis Dario Ganoza: Yes. So sales were $175.6 million in the quarter, a decrease of $6.7 million or 4% compared to Q1 2021. The slight decrease was driven by 7% lower silver prices and 14% lower zinc prices. The volume effect on our sales year-over-year was neutral as slightly lower gold and silver sales were offset by higher zinc production at our Caylloma mine. Year-over-year, our key financial metrics reflect the impact from inflation rates experienced throughout 2022, as well as lower operating margins at Yaramoko and Lindero related to schedule decreases in headwind. These impacts resulted in cash cost per gold equivalent ounce sold of $916 for Q1 2023, which was above the prior year. As I just mentioned, this increase is the combined effect of higher input costs across our operations more processed tonnage to produce a lower number of ounces at Yaramoko and Lindero, and the negative effect of relative prices in the calculation of gold equivalent production of approximately $29 per ounce.

So adjusted net income for the quarter was $13.2 million, down $20 million year-over-year and adjusted EBITDA was $65.3 million, down $15 million year-over-year. We have disclosed for the quarter, consolidated all-in sustaining costs, including corporate expenses of $1,514 per gold equivalent ounce sold, which represents an increase of $230 per ounce year-over-year. The increase is explained by higher cost per ounce sold described before, higher sustaining CapEx of $109 of which two-third is timing of payments in the prior year, with an offset from lower corporate G&A of $24 per gold equivalent unsold. For Q2 of 2023, we expect to see somewhat higher consolidated all-in sustaining cost due to a pickup in sustaining CapEx and the stoppage at San Jose.

And for Q3 and Q4 of this year, we expect to see a trend towards lower levels as Séguéla starts weighing positively on our all-in sustaining cost performance. Moving on to cash flows. Net cash from operating activities in the quarter was $41.8 million, compared to $33.2 million in Q1 of 2022, as changes in working capital and lower income taxes paid compensated for the lower EBITDA of $15 million year-over-year. Free cash flow from operations was $8.5 million, compared to $9.6 million in the prior year. As Jorge emphasized, our reported free cash flow figure is after sustaining CapEx, brownfield exploration and corporate expenses. It does exclude Séguéla construction and greenfield exploration. Our additions to mineral properties and properties plant and equipment as per the cash flow statement was $61.5 million, which consisted mainly of $30 million of sustaining CapEx and brownfield exploration, $17.3 million Séguéla construction expenditures, $4.5 million of other preproduction activities at Séguéla, $3.7 million of greenfields exploration and capitalized interest of $2.8 million.

On to the balance sheet, we closed the quarter with a liquidity position of $129.7 million, which includes $45 million undrawn under our existing trade facility as of the end of March. The remaining cash to be spent on the Séguéla construction as of the end of the quarter was approximately $23 million. And finally, our total net debt, including the outstanding convertible debenture is $166 million resulting in a leverage ratio of total net debt to adjusted EBITDA of 0.7%. Back to you, Jorge.

Jorge Alberto Ganoza: Thank you. That concludes the management discussion. So, Carlos, for the Q&A.

Carlos Baca: Thank you, Jorge. We would now like to open the call to any questions that you may have.

Operator: Thank you. [Operator Instructions] Thank you. We have a question from Tony Christ with Odyssey Investments. You may proceed.

Operator: Thank you. We have another question from Adrian Day with Adrian Day Asset Management. You may proceed.

Operator: Thank you. Our next question is coming from Justin Stevens with PI Financial. You may proceed.

Operator: Thank you. Our next question is coming from Jasper Wyke [ph] with [Technical Difficulty]. Sir, you may proceed.

Operator: Thank you so much. At this time, we have no further questions on the telephone lines, so I will hand the call back to management.

Jorge Alberto Ganoza: Thank you, Ali. If there are no further questions, I would like to thank everyone for listening to today’s earnings call. Have a great day.

Operator: Thank you. This does conclude today’s conference and you may disconnect your lines at this time and we thank you for your participation.