I get goose bumps when I ponder the profits that Thompson Creek Metals (NYSE: TC ) will enjoy once the Mt. Milligan copper and gold mine initiates production during the second half of 2013. Despite a quick 37% advance since I suggested a few months ago that the downtrodden stock offered exposure to Mt. Milligan's massive treasure in copper and gold essentially for free, I believe the market has scarcely begun to properly account for the impending mine's phenomenal and long-lasting supply of ultra-low-cost copper production.
During my recent conversation with Thompson Creek Metals CEO Kevin Loughrey, it became immediately clear that he and his team are just as excited as I am to see this world-class deposit enter production. Loughrey proclaimed:
Everybody here is looking forward to the opportunity of running Mt. Milligan. Building a project is fun, but it's fun because you eventually want to run it. We've run Thompson Creek since 1983, and Endako since 1965. We know how to run big surface mines, and we're looking forward to this opportunity [to] build one from scratch and then operate it. It goes without saying that we're also looking forward to the revenue stream that will be generated by the project.
In this second installment from my recent interview with Loughrey, we will dive into the numbers that make Mt. Milligan such a phenomenal project for Thompson Creek; even after taking into account the challenges of a rising capital cost environment for mine construction. Click here to review Part 1 if you missed it, but please be sure to come back here. You're not going to want to miss this conversation. To catch the remainder of this in-depth look at Thompson Creek Metals, and all my ongoing coverage of the mining industry, please bookmark my article list or follow me on Twitter.
Before we begin, please take a moment to consider just what it is that shareholders like me are patiently awaiting here. Mt. Milligan boasts copper reserves of 2.1 billion pounds, accompanied by a powerful gold by-product totaling 6 million ounces. Over a 22-year estimated mine life, annual output from Mt. Milligan will average 81 million pounds of copper and 194,500 ounces of gold. But wait until you see the back-of-the-envelope numbers that Loughrey will share with us below to help us grasp the looming profitability of this operation!
A nickel doesn't buy what it used to
Sure, industrywide cost pressures are pushing the capital costs for mine construction higher, and Mt. Milligan will be no exception. Fools will recall that Kinross Gold (NYSE: KGC ) recently placed its entire growth platform on hold to reassess its plans in response to those mounting cost pressures, and that Barrick Gold (NYSE: ABX ) has conceded some massive cost overruns throughout its project pipeline. It is important for investors to recall, however, that these rising construction costs are also accompanied by an enhanced price environment for the metals being mined, as reflected in Barrick's statement that "stronger metal prices have significantly improved project economics and overall rates of return despite higher estimated capital costs."
As Loughrey explained to me, it's no longer a question of sticking to initial cost projections, which is proving impossible in this environment. The task at hand, rather, is to remain competitive with one's peers in responding to the cost inflation; or, in Loughrey's words: "to execute at a cost structure that is in line with what other mining companies in the world are experiencing." Adapting to this rising cost environment, Thompson Creek Metals recently inked a second gold stream agreement with Royal Gold (Nasdaq: RGLD ) to raise an additional $270 million, while retaining full exposure to 60% of Mt. Milligan's life-of-mine gold production. The following excerpts from our conversation offer additional context:
Christopher Barker: Thompson Creek Metals has been executing a fairly monumental build-out phase, between the recapitalization and expansion project at Endako, and the ongoing construction of the Mt. Milligan mine for start-up in late 2013. What have been the greatest challenges to overcome during that process, and what do you look forward to most about the completion of the projects?
Kevin Loughrey: The greatest challenge, clearly, for both those projects has been in containing the capital costs. We are living in a world where mining projects are expensive to build, and getting more expensive. There are too many mining projects seeking out too few skilled people to build them. And when that happens, you get cost escalation for parts and for labor. You have a hard time finding labor that's as experienced as you'd like, and you have a high turnover rate for the labor. And all of that impacts your productivity. So, both of our projects have experienced cost escalation beyond what we thought would initially apply. We've worked very hard to limit that.
At Mt. Milligan, for example, we bought hundreds of millions of dollars' worth of parts, and priced them in advance, so that they are not subject to further inflation, but you can't really buy the labor in advance. And then if you have productivity issues, then there are more employee-hours involved in doing what you need to do. And so containing costs is always a problem, and it continues to be a problem for us. And I think it will continue to be a problem for the industry generally.
Also, in terms of the existing regulatory system for those two projects, that has been adroitly and efficiently handled by the Canadian governments. I think we've had good luck working our way through the regulatory system without undue cost or delay, while those agencies have still done a good job protecting their constituencies and making sure things were done correctly and at the same time working co-operatively to allow us to make it happen. So that has not been the problem that it sometimes can be.
Barker: That's great to hear. I know there's some trepidation among retail investors about the regulatory environment after Taseko Mines' (AMEX: TGB ) Prosperity project was denied its permit at the federal level...
Loughrey: You know, on the same day -- and in the same press release -- in which the Prosperity project was denied, our Mt. Milligan project was approved. So we've had a positive experience in that regard, and I attribute that to the quality of not only our people, but also the Terrane people that preceded us. I raise it because it's so commonly thought of as an issue, but it has not been a problem for us. The biggest problem for us has clearly been with cost containment. We do what we can, but it is not possible to totally control it. The things that we buy, and the labor that we need to employ is costing more.
Barker: That brings to mind Kinross Gold's recent decision to delay its growth initiatives in order to reassess capital cost structures.
Loughrey: Yes, and that's going to happen more. This trend is not about to end anytime soon. Although, in that problem lies its own solution. As it becomes more expensive, the natural response to that has to be that people will stop moving forward with projects that cost so much, and then we might expect prices to moderate. But I don't see much evidence of that so far; the prices are still going up quite a bit.
The golden incentive to achieve commercial production
Barker: To help finance construction of Mt. Milligan, Thompson Creek has committed 40% of gold production from the mine through a pair of gold stream transactions with Royal Gold. With gold prices where they are -- and where they may be heading -- could you speak for a moment about the significance of the company's exposure to that remaining 60% of Mt. Milligan's gold production at spot? What will be the impact of that gold by-product on the cost structure for your copper production?
Loughrey: When Mt. Milligan is done, we think it will cost us about $160 million to $170 million to operate, and $40 million or thereabouts for the treatment and refining charges for the copper and gold. So we're in the $200 million ballpark to operate that facility.
We'll start out with 260,000 ounces of gold, and we get 60% of that; or 156,000 ounces. That 156,000 ounces at today's gold prices yields you about $270 million. And then the copper, which is about 90 million pounds for the first few years, that's another $340 million. And then the gold that Royal Gold does pay for, even though they pay a much-reduced price, that 40% accounts for another $45 million. All in all, you've got over $650 million for an operation that's costing you about $200 million to run. So it's going to be very profitable for us.
And if gold goes to $2,000, as many commentators are suggesting, that would be about $40 million more. And even at today's prices, the copper cost comes in at about negative $0.70 to produce. It's a significantly negative copper cost because the gold revenue more than pays for the entire cost of running the operation. So it's quite an attractive proposition. Of course, you don't know what prices we're going to obtain in 2013, though most commentators are predicting good things for copper and gold prices. But what those numbers show you is that the mine will sustain and be profitable both at those numbers and at numbers significantly lower. The cost structure is very reasonable at significantly lower numbers. So we feel very positive about where we're going there, and think it represents a great opportunity for shareholders.
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