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Edited Transcript of SMT.TO earnings conference call or presentation 14-Nov-19 3:30pm GMT

Q3 2019 Sierra Metals Inc Earnings Call

MONTREAL Nov 29, 2019 (Thomson StreetEvents) -- Edited Transcript of Sierra Metals Inc earnings conference call or presentation Thursday, November 14, 2019 at 3:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Edmundo Gontardo Guimaraes

Sierra Metals Inc. - CFO

* Igor Alcides Gonzáles Galindo

Sierra Metals Inc. - President, CEO & Director

* Michael McAllister

Sierra Metals Inc. - VP of IR

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Conference Call Participants

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* Heiko Felix Ihle

H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research and Senior Metals & Mining Analyst

* James Young

West Family Investments, Inc. - VP & Investment Analyst

* Mark La France Reichman

NOBLE Capital Markets, Inc., Research Division - Senior Natural Resource Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the Sierra Metals Q3 2019 Financial Results Conference Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I would now like to hand the conference over to your speaker today, Mike McAllister, VP, Investor Relations. Thank you. Please go ahead, sir.

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Michael McAllister, Sierra Metals Inc. - VP of IR [2]

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Thank you, operator, and good morning, everybody. Welcome to Sierra Metals Q3 2019 Results Conference Call. On today's call, I am joined by Igor Gonzales, our President and CEO; Ed Guimaraes, our CFO; Alonso Lujan, our VP of Exploration and Country Manager in Mexico; as well as Miguel Paucar, our Country Manager in Peru.

Today's call will be followed by a question-and-answer period. Today's accompanying presentation is available for download through both the webcast and from the company's website at www.sierrametals.com. Yesterday's press release, the financial statements and the management and discussion and analysis are also posted on the company's website.

Before I turn the call over to Igor, 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 our conclusions, forecasts or projections 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 forward-looking information and the material factors or assumptions that were applied in drawing a conclusion or making a forecast or a projection as reflected in the forward-looking information is contained in the company's annual information form which is publicly available on SEDAR or EDGAR via a Form 40-F on the company's website. Please note that all dollar amounts mentioned on today's call are in U.S. dollars, unless otherwise noted.

I would now like to turn the call over to Igor Gonzales, President and CEO of Sierra Metals.

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [3]

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Thanks, Mike, and good morning, everyone. I will begin the call on Slide #4 with some highlights from our consolidated results for the third quarter of 2019. After that, we will open the call for questions where myself, Ed Alonso and the Peru manager will respond some answers -- some questions, sorry.

Turning now to the highlights, the third quarter was a strong quarter for the company. We realized record consolidated quarterly equivalent metal production and throughput. The plant and mining expansions in Mexico have now been completed, and we are focused on the ramp-up of those operations. This has resulted in significant production increases. Also, we continue to recover the majority of the tonnages lost during the illegal strike action at the Yauricocha Mine in Peru.

During the quarter, we continued to face lower base metal prices, higher treatment and refining charges and increased labor and contractual costs mainly related to increase in the development work required to achieve higher throughput.

Despite these temporary challenges, the company generated a significant amount of operating cash flow, which has been allocated carefully and prudently in order to fund capital expenditures and maintain liquidity. Furthermore, we continue to realize strong results on the capital invested in our growth projects. Management continually monitors and modifies projects and capital allocation in a recent review. Management has decided at the end of Q3 2019 to further reduce our capital expenditures from $70 million to $55 million. The company's decision to defer $11 million of growth capital expenditures in Peru was due to project delays caused by the strike at Yauricocha, equipment procurement, and contractor hiring difficulties as well as program conditions at the areas proposed for the new ventilation raise bore.

Additionally, $4 million of growth capital at Bolivar was deferred due to the postponed equipment purchases, plant improvement costs and development costs previously planned to push throughput to 5,000 tonne per day level.

Despite these capital deferrals for 2019, the company remains committed to its growth plans and prudent use of capital to achieve its objectives at Yauricocha, regardless of whether these expenditures are made during 2019 or postponed until 2020 or '21.

Revenues from metals payable in Q3 2019 were $64.6 million, with $21.8 million of operating cash flows before movements in working capital on consolidated throughput of 709,461 tonnes and metal production of 4.9 million silver equivalent ounces or 32.3 million copper equivalent pounds or 80.4 million zinc equivalent pounds.

Looking now at Slide #5. You can see that on a consolidated basis, we had a slow quarter of operating performance with a 25% increase in the number of total tonnes processed, an increase in all metals produced as compared to Q3 2018.

The metals mixed as a percentage of revenue, and the revenues are shifting with copper now leading the way, representing 35% of the revenue, and it is expected to continue and possibly increase in the future. This is followed by 27% from silver, 23% from zinc, 14% from lead and 1% from gold.

Turning to Slide #6 and taking a closer look at each mine now. Yauricocha saw an 8% increase in throughput in Q3 2019 versus Q3 2018, as we continue to run the mine at higher throughput rates working to recover lost tonnages from the strike earlier this year.

As a result, management expects that the company will still be within the annual production guidance provided. Higher head grades and recoveries of all metals except zinc resulted in a 33% increase in zinc equivalent pounds produced during Q3 2019 as compared to Q3 2018.

Cash costs of $0.38 per zinc equivalent payable were lower at Yauricocha this quarter over the same period in 2018, and the all-in sustaining costs were slightly lower at $0.66 per zinc equivalent payable pound during Q3 2019 as compared to Q3 2018. This decrease was primarily due to the increase in the throughput, head grades and recovery for all metals except zinc, offset by higher labor cost, treatment and retuning charges related to zinc concentrate produced as well as higher general and administrative costs and an increase in capital expenditures.

Management continues to focus on cost reduction initiatives and their implementation at Yauricocha going forward. The Yauricocha Mine continues to be a solid performer for the company, and we continue improving the mine and our focus on the potential expansion to 3,600 tonnes per day expected in 2020.

We have received the required EIA and construction permits, which has allowed us to work on the completion of the tailing dam expansion. Work has also commenced on the ramp to connect the 820 level with 720 level of the Yauricocha Mine which will provide for an additional 10,000 tonnes per month of increased capacity to move oil and waste from the mine. These projects will also enable the mine to run more efficiently and help reduce costs.

Furthermore, surface drilling has commenced on high-value targets, such as Doña Leona and Kilcaska, where we recently received permits, and we look forward to seeing the drill results in the coming months.

Finally, the Yauricocha NI 43-101 reserve and resource update is well underway and is still on track to be released in late Q4 2019, where we hope to improve the quality of resources and reserves at the Yauricocha property. We are confident that we have the right team in place to manage this project, and the planning needed to see projects and exploration programs move ahead as planned.

Turning now to Slide #7. At Bolivar, we had an excellent third quarter and realized a 46% increase in throughput. Which was a quarterly records -- along -- a record -- along with a record quarterly metal production, which included a 55% increase in copper equivalent pounds produced when compared to Q3 2018. However, Bolivar realized a 13% reduction in copper head grades that was offset by the 46% increase in throughput, an 85% increase in gold head grades and 19% increase in silver head grades. Additionally, we were able to achieve improved copper and silver recoveries at the plant due to the significant plant improvements the company had made during the first 9 months of the year.

We expect copper grades to modestly improve as we source more ore from the Bolivar West zone in Q4 2019 and beyond. And this zone also has higher silver and gold grades.

Cash costs per copper equivalent payable pound decreased to $1.4 per pound but all-in sustaining costs were higher at $2.53 in Q3 2019 versus the same period in 2018. This is attributable to higher labor and contractor costs related to stope and ramp development within the mine to increase throughput to the 4,250 tonne per day level. A significant portion of these costs were included in OpEx. Additionally, sustaining capital expenditures were higher this quarter versus Q3 2018 due to the equipment purchases, mine development costs, exploration drilling and plant improvements.

Bolivar reached an average throughput of 3,792 tonnes per day during Q3 and is expected to reach close to 4,250 tonnes per day in the fourth quarter this year with continued development and infrastructure improvements. Also, it's important to note that we are well advanced and expect to release an updated NI 43-101 reserve and resource report for the Bolivar mine at the end of Q4 2019.

Turning now to Slide #8. During Q3 2019, Cusi throughput reached 805 tonnes per day average, which was a 28% increase over the same period in 2018, as the company continues working towards the 1,200 tonnes per day level. The increase in throughput resulted in a 15% increase in silver equivalent ounces produced. Despite the lower head grades and recoveries realized for all metals except gold as we continue to develop deeper into the Santa Rosa de Lima zone.

During the third quarter, we saw significant improvements to the crushing and grinding circuit at the Mal Paso mills. However, development delays due to heavy rains as well as an issue with subsiding required us to leave a 16-meter pillar to remain for stability purposes. As a result of this, the delayed development in the -- in lower grade zones that were accessible were mined, resulting in the lower grades for the quarter. Studies are underway on how to best access the ore within this pillar at all.

Additionally, we have had new contractors arrive at the mine in October, and with a focus on improving development rates and stope access. We're also focusing on the development of the 1704 and 1720 levels of the Santa Rosa de Lima zone to provide higher-grade ore to the mill starting in November this year. Throughput was lower over the previous quarter as effort continues to reduce dilution to economic ore -- is delivered to the plant. Work also continues enlarging the ramp size to 4.5 by 4 meters in section, allowing for larger trucks to hold more ore from the mine to the plant.

With these changes, Cusi can reach the 1,200 tonnes per day level of throughput and become proper. Cusi's cash cost per silver equivalent payable ounce was $18.75. And the all-in sustaining cost $24.6 per silver equivalent payable ounce, which was higher in Q3 2019 as compared to Q3 2018. The increase in all-in sustaining costs was due to higher treatment and refining charges as well as higher sustaining capital expenditures from an unexpected ground subsidence event. Now corrected with a wider support pillar left in place.

The subsidence issue required us to complete further mine development in deeper zones, which have brought the benefit of higher silver grades. The company expects to have an updated NI 43-101 Technical Report for Cusi during Q2 2020 and is expected to include the results from additional infill drilling currently being completed at the mine to improve the quality and classification of the resources contained within the NI 43-101 Technical Report.

Sierra Metals remains at an inflection point, and we continue working to improve our per share value and continue to work to be profitable at today's metal prices by improving throughput, head grades, dilution and recovery rates, which in turn will help lower costs.

The company's financial position and liquidity remain healthy. And the Board and management team are committed to investing in its operating mines to improve future cash flows. We are continuing with our aggressive exploration programs with a goal to improve the quality of our resources and add additional resources. The company continues to have a solid financial position and the liquidity to support our growth programs which always represents a prudent use of capital and provides for an excellent return on investment for the company and its shareholders. With that, I would like to review our cash flows for Q3 2019 in more detail.

Turning now to Slide #9. During Q3 2019, our operating cash flows before movements in working capital were $21.8 million. We had negative working capital adjustments of $1.9 million, we paid $4.9 million in taxes in Peru, we invested $13.1 million in capital expenditures in Mexico and Peru, we spent $1.4 million on loans, interest payments, and we also paid $0.3 million repurchase shares of the company, leaving us with a cash balance of $40.4 million as of September 30, 2019. Sierra's Board and management team do not believe that the current stock price reflects the value of the company and initiated a normal-course issuer bid in December 2018 with a 1.5 million share target.

On September 18, 2019, the company subsequently applied to the Toronto Stock Exchange to increase the share target to 2.5 million shares. To date, the company has repurchased and canceled a total of approximately 1,491,524 shares at a weighted average price of CAD 1.93. The company is in good financial health, and we maintain a strong balance sheet of $40 million in cash. Our total debt is -- was $99.3 million at the end of Q3 2019, with a net debt of $59 million.

For 2019, the company focus -- the company's focus remains on cash flow and the allocation of operating cash flows towards efficient growth capital. To provide funding for the remaining capital expenditures planned this year, management will continue to review metal prices and retain the option to further adjust capital expenditures should metal prices experience any dramatic changes within the year.

With that, I will now turn the call back to Mike McAllister.

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Michael McAllister, Sierra Metals Inc. - VP of IR [4]

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Thank you, Igor. That ends the presentation portion of this call. We would now like to open up the call to questions from participants. Operator, if you could please open up the lines.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Mark Reichman from NOBLE Capital Markets.

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Mark La France Reichman, NOBLE Capital Markets, Inc., Research Division - Senior Natural Resource Analyst [2]

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I just have one question and one follow-up. So Igor may have answered the question in his remarks but on Page 8 of the corporate presentation, you provide 2019 to 2021 new investments to expand operations. And so with the change in expected 2019 CapEx, will the time frame for those expenditures extend beyond 2021? Or might you expect any changes in those numbers?

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [3]

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I'm going to answer a portion, Mark, of this question and then Ed will complement that. Yes, we are going to defer some capital into 2020 and 2021. We expect to continue with our current budgets -- our current projects mean expanding Yauricocha to 3,600 tonnes per day, and we're working on the permits, and we will bundle that expansion. The other projects at Yauricocha will also involve the deepening of the shaft, the ramp connection of the Cachi Cachi mine with Esperanza and all the ventilation shafts that are required to support that effort, plus the tailings impoundment construction, which will take all this year and well into next year. We're also doing some camp improvements in Yauricocha, and so that's also be concluded in next year. In terms of Mexico, next year, we're going to try to continue our expansion at Bolivar. Our aim would be to reach the 5,000 tonne level next year. And so we'll try to put moderate capital for that effort. We don't think we need a whole lot of capital. And the capital spent in Cusi will be mostly development and infill drilling. You want to?

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [4]

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No, Mark. I thought Igor answered that fully. I have nothing to add.

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Mark La France Reichman, NOBLE Capital Markets, Inc., Research Division - Senior Natural Resource Analyst [5]

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Okay. Well, the follow-up was, it appears that you've been able to do more meters of drilling for less money this year. And I was wondering how that looks for the programs in 2020 through 2022? And I was also just wondering how you think about the split between adding new resources and upgrading the resource classification of current resources by mine?

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [6]

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Well, yes, our rates for drilling are indeed competitive. What we do is we invite several local companies. We use local companies, both at Mexico and Peru. And I think that's one of the reasons that our per unit costs are competitive. In terms of the increasing of the resources and reserves, we are -- as we announced, prepare now, we are in line to update our current NI 43-101s, both in Yauricocha and Bolivar by the end of this year. And the one in Cusi for the second quarter of next year. In those 3 reports, in the case of Yauricocha, you will probably see more an improvement in the quality of resource because we did some infill in the critical areas there to -- in order to achieve that objective. In the case of Bolivar, we also did infill to improve the resource base. And in the case of Cusi, we have targeted to improve the quality of the resource and probably get to a reserve in the report.

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Operator [7]

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And your next question comes from Heiko Ihle from H.C. Wainwright.

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Heiko Felix Ihle, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research and Senior Metals & Mining Analyst [8]

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Congratulations on a good quarter and some free cash flow. Following up a little bit on the last -- sorry, on the first question on this call. I mean the late growth capital expenditures, Yauricocha. I mean can you just walk us a little bit through the longer-term impacts of this? I mean are there any impacts over the next few quarters? Or there's just no impact in late 2020? You just spend the money and we're back to the status quo with, be it, a little bit of a delay. I mean in the release you mentioned the spend in 2020, 2021. And then also, same question for the $4 million at Bolivar, please.

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [9]

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Yes, sure. In the case of Yauricocha, the deferral will have an impact on all the projects, and some of them will be completed, as we said, into 2020, meaning the metal and some of the ventilation shops, the tailing dam, the ramp and the connection between Cachi Cachi and Esperanza. The project that could be impacted, and we are analyzing that, is the shaft, the deepening of the shaft and that we are assessing as we speak, what impact could be and kind of how we can offset that, if any impact is detected. In the case of Mexico, the deferral was in the procurement of equipment. And so we don't see any impact in the production for next year.

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Heiko Felix Ihle, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research and Senior Metals & Mining Analyst [10]

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Okay. Fair enough. So it is a delay, not a -- and a delay that really doesn't cost you any money?

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [11]

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That's right. Because the mill, the mill is still churning well above where we expected it at Yauricocha and on track at Bolivar. So no issues there.

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [12]

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Heiko, I should clarify that, yes, as you know, in every project, when you experience a delay, there is expense on the contractors, and we will assume that delay, that was part of the Yauricocha strike, the demob and mobilization of the contractors when this strike took place and remobilization of the same contractors to the job site.

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Heiko Felix Ihle, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research and Senior Metals & Mining Analyst [13]

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Got it. Okay. You're sitting on over $40 million of cash. I mean at what point in time does the extra cash on the balance sheet become having marginal utility? And when should we expect you guys to do something else with it? I mean I understand you're in some debt. But I mean the firm is big enough now where the question seems worthwhile. You do have the share repurchase program in place and, Igor, you mentioned earlier on this call that you've repurchased, I forgot the exact number, 1.4 -- let me call it 1.5 million shares. At what point in time should we expect you guys to do a little bit more with the cash balance, please?

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [14]

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Well, Heiko, that's very timely and very relevant. And it's something that we are considering as we speak, and it's something that we'll be presenting to the Board in terms of capital allocation and options going forward because we are in a position now after, call it, 4 years of pretty aggressive CapEx spend, where we're going. We're entering a phase of free cash flow accumulation, harvesting of cash, if you will. So it is something that we are looking at, whether it's an increased share buyback, dividend option, some M&A. Everything is on the table.

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Heiko Felix Ihle, H.C. Wainwright & Co, LLC, Research Division - MD of Equity Research and Senior Metals & Mining Analyst [15]

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Actually, a -- one more follow-up. Everything is on the table. What's your personal preference?

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [16]

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Heiko, all of the above needs a little bit more analysis.

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [17]

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Heiko, but let me complement that. We just had a management review of our strategy about 1.5 months ago in Mexico. So we all got together, review our current strategy in lieu of metal prices and the current market conditions, and we still think that the potential of brownfield exploration is there. And we're continuing to put our efforts there. We still think that the expansion programs are solid, especially for Mexico and Peru in terms of return of growth on investment. So I think we're going to stick to that. Exploration will continue to be one of our pillars for growth.

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Operator [18]

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(Operator Instructions) Your next question comes from Jim Young from West Family Investments.

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James Young, West Family Investments, Inc. - VP & Investment Analyst [19]

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Yes. A couple of questions. First of all, regarding your cost structure, it appears that the costs in this quarter increased a little bit higher than I was anticipating. And on Page 10 of the MD&A, you talk about an effort to reduce labor costs and improve efficiencies, et cetera. So I'm wondering if you can help us understand a little bit more specifically what you plan to do from a cost perspective. And if you can quantify the expected benefits and the timing that you would anticipate this to be realized?

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [20]

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Jim, so with the strike activity at Yauricocha so labor costs are -- there will always be uprising pressure on those costs. As we increase our tonnes we are -- we're expecting our labor cost per unit to come down. We are looking at the situation right now at Yauricocha, where we're starting a zero-based manpower evaluation, if you will, not only with employees, but also contractors. So we hope to have -- to see the benefits of that as soon as -- mid- to end of next year.

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [21]

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I'd like to complement on the cost, Jim, some of the initiatives that we're doing. For example, in Yauricocha, we just completed the implementation of the X-ray equipment to monitor in line the grades and analyze their own stream analyzer, basically. And that will help us -- small, but significant improvement in recoveries at all metals in Yauricocha. So that's directly to cost. The other efforts we're making in -- especially in Cusi as we move the ramp, as we're ramping up the mine, is on grade and dilution. We are being more -- we're focusing more and more on the structures. We're trying to minimize dilution. I think in the case of Bolivar, the cost is more on productivity rather than dilution. I think we are there with the grade and recovery. We have to work on productivity.

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James Young, West Family Investments, Inc. - VP & Investment Analyst [22]

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Okay. Secondly then, speaking of Bolivar. On Page 11, you mentioned that you're going to be intending to increase production, your grades would improve or are scheduled to improve from 86% to 90.95%. Recoveries are scheduled to improve from 82.4% up to 88%. So the question is, assuming constant copper prices, if you're able to execute on the production increases, the grade improvements and the recovery improvements, what type of annualized copper production can be expected out of Bolivar? And what type of EBITDA generation is possible out of this operation? Because when I look at this current quarter, the 5.9% EBITDA margin out of Bolivar is very, very low.

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [23]

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Jim, we're -- again, we can't really go into our increase in copper and talk about EBITDA. We try not to do that. But we should see -- based on what you mentioned, there should be definite improvements in those metrics that you mentioned. How big? I'm not prepared to answer at this point.

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Igor Alcides Gonzáles Galindo, Sierra Metals Inc. - President, CEO & Director [24]

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Yes, what we're doing right now, Jim, is reviewing -- we're working on finalizing our budget. If you can -- if you see in our performance quarter-over-quarter, you can see a definite trend in increased tons recovery, especially tons and recovery in Mexico. We have also, in the second quarter -- at the end of the second quarter access at Bolivar West. And that has giving us additional grade in Q3, and it should improve a little bit in Q4 as we reach the 40%-60%, meaning 40% from Bolivar West and 60% from Gallo Inferior. In terms of the recovery itself, that impacts also the cost structure in Bolivar. We completed the 3 flash flotation cells that were vital to close the core copper early in the stage, and that's giving us more flotation time in the regular flotation circuit. So I think those are the initiatives. Our mining costs in Bolivar are also trending down as we move in tonnes and as we improve our productivity. So those are the -- some of the initiatives that I can share with you.

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James Young, West Family Investments, Inc. - VP & Investment Analyst [25]

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Okay. And then on Page 27, where it is detailed by mine, the EBITDA and again, you've got significant variability where Yauricocha had a 45.7% EBITDA margin. Again, Bolivar, only a 5.9%. And Cusi at 26.9% for the quarter resulting in overall EBITDA margins for the company at 33.4% in the third quarter. So the question is, given the mix of assets that you have and the opportunities, is a 50% EBITDA margin for the whole company -- is that a potential? Or is this more of a 40% kind of an opportunity that we're looking at right here?

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Edmundo Gontardo Guimaraes, Sierra Metals Inc. - CFO [26]

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Well, Jim, you're always going to get on a quarterly basis, variability. For instance, at Cusi, we had the 1,000 tonnes of concentrate that was on the inventory at the end of Q2 that came into the -- into revenues in Q3. But to get right to the point, I don't see 50% being outlandish at all. I think that's a reasonable target.

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Operator [27]

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And there are no further questions at this time. I will turn the call back over to the presenters.

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Michael McAllister, Sierra Metals Inc. - VP of IR [28]

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Thank you, operator. That concludes today's call. On behalf of the management team, I would like to thank all participants for joining us. A replay of the webcast and all materials can be found on our website at www.sierrametals.com. If there are any further queries or concerns, you may reach out to us at any time after today's call. Our contact information can be found in today's presentation as well as on the company's website. Thank you, operator. Please conclude the call.

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Operator [29]

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Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.