CHICAGO--(BUSINESS WIRE)--Fitch Ratings has assigned an initial long-term foreign currency Issuer Default Rating (IDR) and an initial long-term local currency IDR of 'BB+' to Hochschild Mining Plc (Hochschild).
Fitch has also assigned a 'BB+(EXP)' rating to Hochschild's proposed senior unsecured notes of up to USD350 million due 2020/2023. The senior unsecured notes will be issued through the company's 100% owned subsidiary in Peru, Compania Minera Ares S.A.C. The unsecured notes will be fully and unconditionally guaranteed, jointly and severally, by Hochschild and its subsidiaries Minera Suyamarca S.A.C. (Minera Suyamarca), Hochschild Mining (Argentina) Corp. S.A., Hochschild Mining Plc. and Minas Santa Maria de Moris, S.A. de C.V.
Proceeds from the proposed notes will be used to finance the planned USD280 million acquisition (USD271 million in cash) of the 40% stake in Minera Suyamarca in Peru that is currently owned by International Minerals Corporation (IMZ) of Canada, taking Hochschild's ownership in this subsidiary to 100%. Minera Suyamarca is the holding company for the Pallancata Unit and the Immaculada Project (Immaculada). The remainder of the proceeds will be used towards other general corporate purposes including the repayment of the USD115 million convertible bond due 2014 issued by the company in 2009.
KEY RATING DRIVERS:
Historically Conservative Leverage Expected to Remain Low:
Hochschild has a strong historical track record of very low leverage ratios, a common feature among Peruvian mining companies. For the LTM to June 30, 2013, Hochschild's total-debt-to-EBITDA ratio was 0.6x while its net-debt-to-EBITDA ratio was negative 0.4x. Hochschild's average FFO adjusted leverage ratio from 2009 to 2012 was 0.8x. Fitch expects the company's total-debt-to-EBITDA ratio to be around 1.6x and its net-debt-to-EBITDA at around 0.8x by the end of 2014, declining from 2015 onward as a result of the benefit from Immaculada. Hochschild generated USD262 million of EBITDA with a 34% margin and USD195 million of CFFO as of the LTM to June 30, 2013. These figures were significantly lower than the company's EBITDA and CFFO generation of USD532 million and USD464 million, respectively, during 2011.
Liquidity Expected to Remain Robust:
Hochschild has a robust cash balance and ready access to additional liquidity through its major shareholder and banking partners, if required. The company held cash of USD239 million and short-term debt of USD40 million as of June 30, 2013, corresponding to a cash-to-short term debt ratio of 6.0x. The cash-plus-CFFO-to-short term debt ratio for the period was 11.2x. Fitch forecasts negative FCF for the company in 2013 and 2014, yet despite this, it exhibits sufficient liquidity headroom to meet capex commitments even under a worsening commodity price environment. Fitch expects the company to maintain a cash position in excess of USD100 million under its conservative base case. Following the expected senior unsecured notes issuance and repayment of the convertible notes, the company's debt repayment profile will be pushed out to 2020, with no scheduled amortization until then.
Negative FCF to be Offset by Resilient Credit Metrics:
Fitch's base case indicates FCF in 2013 and 2014 of around negative USD165 million and negative USD130 million, respectively. This is due to Hochschild's planned acquisition of the 40% interest held by IMZ in Immaculada and Pallacanta for USD280 million in 2013 that will take the company's ownership in this advanced project and this operating mine to 100% alongside increased capex related to project development during the period. Representative of management's conservative approach to leverage, this acquisition will be partially funded through USD73m of equity. The expected negative FCF is also under a scenario of lower prices and volumes. Offsetting the expected negative FCF in 2013 and 2014 are the company's resilient credit metrics projected for 2013 with FFO fixed charge cover around 16x. Due to increased capex of USD344 million and a dividend payment of USD62 million in 2012, Hochschild had FCF of negative USD152 million in 2012 compared to FCF of USD177 million in 2011 and USD106 million in 2010.
Strong Response to Lower Silver and Gold Prices:
Management responded swiftly and materially to the decline in silver and gold prices during 1H13 by introducing a cash flow optimization program with around USD200 million of initiatives identified. As a result, unit cost inflation is expected to be low between 0-5% in Peru and 5-10% in Argentina for 2013, further supported by the recent devaluation of the Peruvian Nuevo Sol. Sustaining capex has been cut to USD150 million from the budgeted USD180 million in 2013, and exploration costs reduced to USD50 million from USD77 million this year. Administration costs have also been reduced by USD20 million, including a reduction in the size of the company's Board of Directors. The full impact of these measures is expected to show during 2H13 and 1H14 and have been incorporated in Fitch's base case expectations for the company.
Production Costs to be Reduced through Volume Growth:
Fitch expects Hochschild's all-in sustaining costs (AISC), which include general and administrative costs plus exploration, interest and total capex, to decrease to around USD20/oz silver equivalents (including gold) as the company's production volumes increase following 100% ownership of Pallancata from 2014. This cost measure is expected to decrease further following the volumes received from the Immaculada mine from 2015. Hochschild's total cash costs declined from USD20.80/oz silver equivalents in FY12 to USD20.40/oz silver equivalents in 1H13, which compares well to silver prices of above USD21/oz and gold prices of around USD1300/oz over the last three months. According to standardized calculations made by Bank of Montreal (BMO), Hochschild's standalone cash cost for silver including gold separately as a by-product is expected at around USD12.95/oz for 2013, decreasing to USD9.05/oz in 2014. Fitch uses a price of USD20/oz for silver and USD1200/oz for gold under its base case for Hochschild.
Significant Exposure to Argentina:
Hochschild's San Jose mine in Argentina (LT FC IDR 'CC' / LT LC IDR 'B-'/Negative Outlook) currently represents 30% of the company's production of silver equivalents and 38% of its revenues as of 1H13. Management's strategy is to dilute the exposure of the company to Argentina through the Immaculada and Crespo projects so that San Jose represents 18% of production and 29% of revenues by 2017. The Argentine treasury permitted the company to extract a one-off dividend of USD3.5 million in 2013. Hochschild will be permitted to extract future dividends from its operations in Argentina under a recent agreement, subject to payment of a 10% dividends tax. The production at San Jose has remained strong in the face of the local operating and political environment, with high inflation contributing to double-digit unit cost increases. However, continuous devaluation in the Argentine peso combined with cost savings strategies has offset some of this increase. The company held a cash balance of approximately USD25 million in Argentina as of June 30, 2013.
Half Century Replenishing Reserves and Resources:
Hochschild has a strong exploration track record dating back almost 50 years for the mining company and 100 years for its parent company, and has consistently added to reserves and resources, increasing mine life at its main operations. The mine life based on reported reserves is relatively short at around two to four years but has been replenished on a rolling-basis continually for almost 50 years in the Arcata mine in Peru. Peru is geologically rich in minerals and Hochschild has sizeable mining concessions across the country, in addition to concessions in Mexico, Chile and Argentina. Considering reported resources, Hochschild's average mine lives are around 10 years. The company increased its average mine life to a decade following feedback from its investors following the company's listing on the LSE.
Diversified Mining Operations:
Hochschild currently operates five mines: three underground mines in southern Peru, a part of the country that is pro-mining and rich in mineral resources; one open pit mine in Mexico that will close in 2014; and has 51% ownership of San Jose, an underground mine located in Argentina. The remaining 49% of San Jose is held by McEwen Mining Inc. (NYSE listed). One advanced project and two growth projects are in the pipeline: the Immaculada advanced project (due 2015), the Crespo growth project (due 2017) in Peru, and the Volcan growth project (post 2020) in Chile. Hochschild's silver equivalent attributable production by mine in 2012 was as follows: Arcata (Peru) 32%, San Jose (Argentina) 28%, Pallancanta (Peru) 27%, Ares (Peru) 10%, and Moris (Mexico) 3%. Following the transaction with IMZ, Pallancata will represent 43% of revenues in 2014 diluting San Jose to 28%. By 2015 the production distribution by mine will be as follows: Arcata 19%, Pallancata 29%, Immaculada 34% and San Jose 18%.
Medium-Term Reliance on Immaculada:
Immaculada will have an estimated unit cost of around USD10/oz silver equivalents including pre-production capex, and is the key driver of the company's forecasted silver equivalent volume growth of 50% from 2012 to 2016. Immaculada is expected to produce on average 12 million/oz of silver equivalents per year and will significantly lower Hochschild's production costs as a result of higher ore grades and volumes. Capex for the project has been confirmed at USD370 million with approximately USD155 million spent to date, and the mine is on track to begin production in 2H14. Grades of new resources and reserves that have been added have been lower than reserve grade in recent years, resulting in declining reserve and resource grades at Arcata and Pallancata that will be offset by new production at Immaculada. Silver equivalent output peaked at 28.5 million/oz in 2008 and has subsequently declined by 30% to a low of 20.3 million/oz in 2012. Output is expected to remain essentially flat in 2013 and 2014 at just over 20 million/oz before the anticipated commissioning and ramp-up of the Immaculada and Crespo projects. Following the final completion of these two projects and considering the additional volumes as a result of the IMZ acquisition, production is expected to reach around 34.7 million silver equivalents/oz by 2017.
Return to Positive Cash Flows in 2015:
Fitch's base case indicates a return to positive FCF, robust debt service coverage ratios with FFO fixed charge cover of around 12x and higher, and low leverage ratios of below 1.0x net debt/EBITDA from 2015 to 2017 following successful execution of Immaculada and no major issues arising from San Jose. Completion of Immaculada will lead to lower cash costs, increased volume, and lower capex from 2015 and beyond. The reduction in cash generation over the last few years reflects the 44% drop in the average price of silver from around USD36/oz in 2011 to around USD20/oz in June 2013. Fitch expects the company to pay low to no dividends until 2015 due to the intensive investment period.
Established Silver Mining Company:
Hochschild has a successful history of operating silver mines in Latin America for almost 50 years, with its well-respected parent company, Hochschild Group, dating back over 100 years. The company exhibits a very high level of corporate governance consistent with its listing on the London Stock Exchange (LSE) since 2006. Leverage at the company has historically been very low. As of year-end 2012 the main shareholder was Eduardo Hochschild owning 53.95% of ordinary shares, followed by M&G Investment Management with 17.66%, BlackRock Investment Management with 5.51% and the rest held by a large number of other investors, including Peruvian pension funds. Hochschild Mining is part of the Hochschild Group of Companies headquartered in Lima that owns TECSUP, a technical education consultancy; UTEC University, focussed on engineering (both educational units are funded directly by the Hochschild Family, among others); and Cementos Pacasmayo S.A.A. (Pacasmayo: 'BBB-'/Stable Outlook), a leading buildings material business in Peru.
RATING SENSITIVITIES:
Hochschild's ratings could be downgraded or result in a negative outlook following lower than forecasted sales volumes of silver equivalents over the next few years that could keep production costs relatively elevated at current silver and gold price levels, negatively impacting the capital structure of the company. Lower sales volumes from Peru would also result in the company remaining significantly exposed to Argentina, currently a volatile jurisdiction. In addition, cash flows and credit metrics consistently worse than Fitch's base case as demonstrated by FFO net adjusted leverage above 3.0x on a consistent basis, could also result in a negative rating action.
A combination of significantly diluting the company's exposure to Argentina and consistently outperforming Fitch's base case assumptions could result in a rating upgrade of positive outlook. The planned growth in the company's production volumes should cement its position as a senior silver mining company. A return to robust FCF generation sooner than expected and a faster than envisaged reduction in production costs, are also positive for the credit.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 5, 2013);
--'Parent and Subsidiary Rating Linkage' (Aug 8, 2012);
--'Evaluating Corporate Governance' (Dec. 13, 2011).
Applicable Criteria and Related Research:
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715139
Evaluating Corporate Governance
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=694649
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=809718
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