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Southern Copper Rides on Cost Reduction Efforts, Debt Rises

Zacks Equity Research

On Apr 8, we issued an updated research report on Southern Copper Corporation SCCO. Backed by largest copper reserves in the industry, and the company’s endeavor to increase low-cost production and make continued investment in growth, it is well poised sustain enhanced performance. However, current weakness in copper prices and high-debt levels will affect near-term results.
 
Low Cost Producer & Largest Reserves

 
Thanks to its cost-reduction program, the company’s cash cost reduction went down 5.3% to 87 cents per pound, despite an increase of 16.5% in fuel cost and other materials. In 2019, Southern Copper anticipates cash cost to go down further 8% to average of 80 cents per copper pound.
 
Southern Copper boasts of the largest copper reserves in the industry, and operates high-quality and world-class assets in investment grade countries, such as Mexico and Peru. As of Dec 31, 2018, its copper ore reserves, calculated at a copper price of $2.90 per pound, totaled 69.7 million tons of contained copper.

Backed by a positive market outlook, constant commitment to increasing low-cost production, largest copper reserves and growth investments, the company is well poised to continue delivering improved performance.
 
Expansion Projects on Track

The Toquepala concentrator expansion was completed during the fourth quarter of 2018 for $1.3 billion and by 2018-end, it was producing at about 60% of capacity. It is anticipated to reach full capacity by the beginning of the second quarter of 2019. This expansion project will increase Toquepala´s annual copper production to 258,000 tons in 2019, a 52% production increase for this operation compared with last year. It will help the company’s copper production to go up to 986,700 tons, higher than the 883,689 tons produced in 2018.
 
In Mexico, the company has a planned investment of $413 million in the Buenavista Zinc-Sonora project which includes the development of a new concentrator to produce approximately 80,000 tons of zinc and 20,000 tons of additional copper annually. Once completed, this new zinc concentrator is likely to double the company's zinc production capacity.
 
An investment of $159 million is estimated for Pilares-Sonora project in Mexico which consists of an open pit mine operation with an annual production capacity of 35,000 tons of copper in concentrates. It will significantly improve the overall mineral ore grade. In addition to these, the company has number of other projects that it may develop in the future. Notably, the company expects to reach 1.5 million tons of copper production by 2025.
 
Peru has Immense Potential
 
Peru is currently the second largest producer of copper and its national output is expected to hit 4.8 million ton per year by 2021 — double the output of 2017. In June 2018, Southern Copper completed the acquisition of Michiquillay project in Cajamarca, Peru, which boasts mineral resources of 1,150 million tons and a copper grade of 0.63%. It will produce 225,000 tons of copper annually and by-products such as molybdenum, gold and silver, at a very competitive cash-cost. Michiquillay offers immense growth opportunities for the company and fits into its portfolio of mining projects in the Americas, especially in Peru. It is likely to become one of the largest copper mines in Peru.
 
Taking the Michiquillay ($2.5 billion) and Los Chancas ($2.8 billion) projects into consideration, the company’s total investment program in Peru amounts to $8.2 billion.
 
Low Copper Prices, High Debt: Near-term Concerns
 
During fourth-quarter 2018, the LME per pound copper price decreased 9.3% to $2.80, from average of $3.09 in the prior-year quarter. This fall in prices reflected the market uncertainty with regard to a possible escalation of trade protectionism between the United States and China.
 
Further, the company’s debt-to-equity ratio is currently at 90%, which is also a cause of concern.
 
Metal Prices to Pick Up in the Long Term
 
Notwithstanding the current low copper prices, the impending demand-supply imbalance will eventually drive copper prices. Copper production has recently been affected by persistent decline in investments. Notably, this issue has been plaguing several companies in recent years. On top of this, labor unrest, excess government taxation and technical difficulties are impacting production further. All these factors will restrict supply growth while demand is on the rise for the metal given its requirement across a gamut of industries.
 
Molybdenum prices are set to increase on the back of healthy demand from the oil and gas industry, and decline in supply growth. Long-term fundamentals for zinc remain strong due to its significant industrial consumption and expected mine production shutdowns. Further, silver prices are likely to gain driven by its industrial use and impending demand-supply imbalance.


Shares of Southern Copper have plunged 25.8% in the last year, compared with the industry’s decline of 26.2%.
 
Zacks Rank and Stocks to Consider
 
Southern Copper currently carries a Zacks Rank #3 (Hold).
 
Some better-ranked stocks in the basic materials space are Ingevity Corporation NGVT, Kirkland Lake Gold Ltd. KL and Innospec Inc. IOSP. All these stocks sport a Zacks Rank #1 (Strong Buy).You can see the complete list of today’s Zacks #1 Rank stocks here.
 
Ingevity has expected earnings growth rate of 17.9% for 2019. The company’s shares have gained 52% in the past year.
 
Kirkland Lake Gold has expected earnings growth rate of 51.5% for 2019. Its shares have rallied 101% in a year’s time.
 
Innospec has expected earnings growth rate of 3.5% for 2019. Its shares have rallied 22% in a year’s time.

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