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(Exact
name of registrant as specified in its charter)
New
York
13-1255630
(State
or other jurisdiction of
incorporation or organization)
(IRS
Employer Identification No.)
1801
Park 270 Drive, Suite 300
St.
Louis, Missouri
63146
(Address
of principal executive offices)
(Zip
Code)
(314)
453-7100
(Registrant’s
telephone number, including area
code)
Securities
registered pursuant to Section 12(b) of the Act:
Title
of each class
Name
of each exchange on which registered
None
Not
Applicable
Securities
registered pursuant to Section 12(g) of the Act:
None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined
in
Rule 405 of the Securities Act.
[
]
Yes
[X]
No
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act
[X]
Yes
[
]
No
Indicate
by check mark whether the registrant: (1) has filed all reports required to
be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements
for
the past 90 days.
[
]
Yes
[X]
No
Note:
The Registrant files pursuant to an indenture, but is not otherwise subject
to
the reporting requirements of Section 13 or 15(d).
Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of the registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this
Form 10-K. [X]
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of “accelerated
filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check
one)
[
]Larger accelerated filer
[
] Accelerated filer
[X]
Non-accelerated filer
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
[
]
Yes
[X]
No
Aggregate
market value of the voting and non-voting common stock held by non-affiliates
of
the registrant: $0;
all shares of the voting stock of the registrant are owned by its parent, DR
Acquisition Corp.
Number
of
shares outstanding of each of the registrant’s classes of common stock, as of
October 19, 2006: Common
stock, $0.10 par value per share; 1,000 shares
The
Doe
Run Resources Corporation (the “Company”) is filing this Amendment No. 1 on Form
10-K/A (the “Amended Filing”) to the Company’s Form 10-K for the fiscal year
ended October 31, 2005, filed with the Securities and Exchange Commission
(“SEC”) on March 21, 2006 (the “Original Filing”), for the purposes of:
·
Amending
“Item 1. Business” to (a) include additional products in the Doe Run Peru
products tables, (b) add a table of historical concentrate purchases
from
outside sources for the Company’s Peruvian operations for the last five
years and (c) update the address for the SEC’s public reference
room;
·
Expanding
“Item 2. Properties” to include greater detail regarding the Company’s
properties and leases, including a small-scale map that displays
the
location of each of the Company’s properties;
·
Amending
“Item 3. Legal Proceedings” to clarify the Company’s disclosure regarding
the BNSF Railway Company
litigation;
·
Amending
“Item 7. Management’s Discussion and Analysis of Financial Condition and
Results of Operations” to (a) include the costs associated with the
Peruvian environmental remediation as of October 31, 2005 in the
contractual obligation table, and (b) include depreciation, depletion
and
amortization amounts attributable to costs of sales in the gross
margin on
sales disclosure;
·
Amending
“Item 8. Financial Statements and Supplementary Data” to (a) include a
revised audit report of Doe Run Peru’s prior auditor that references the
correct fiscal periods covered by the report and incorporates such
auditor’s letterhead that was inadvertently omitted during the
Edgarization process, and (b) include revised audit reports of KPMG
LLP
and Doe Run Peru’s current auditors that incorporates such auditors’
letterhead that was inadvertently omitted during the Edgarization
process;
and
·
Correcting
certain typographical errors.
Except
as
described above, no other changes have been made to the Original Filing and
this
Amended Filing does not amend, update or change any other items or disclosures
in the Original Filing. This Amended Filing continues to speak as of the date
of
the Original Filing and the Company has not updated the disclosure in this
Amended Filing to speak to any later date.
The
Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for
forward-looking statements. We make forward-looking statements in this Annual
Report on Form 10-K and in the public documents that are incorporated herein
by
reference, which represent our expectations or beliefs about future events
and
financial performance. When used in this report and the documents incorporated
herein by reference, the words “expect,”“believe,”“anticipate,”“goal,”“plan,”“intend,”“estimate,”“may,”“will” and similar words, or the negative
of such words, are intended to identify forward-looking statements. These
forward-looking statements are subject to known and unknown risks, uncertainties
and assumptions, including those referred to under “Risk Factors” in this Annual
Report on Form 10-K and otherwise described in our periodic
filings.
All
predictions as to future results contain a measure of uncertainty, and
accordingly, actual results could differ materially. Among the factors that
could cause actual results to differ from those contemplated, projected or
implied by the forward-looking statements (the order of which does not
necessarily reflect their relative significance) are:
·
general
economic and business
conditions;
·
increasing
industry capacity and levels of imports of non-ferrous metals or
non-ferrous metals products;
·
industry
trends, including the price of metals and product pricing;
·
competition;
·
currency
fluctuations;
·
the
loss of any significant customer or supplier;
·
availability
of raw materials;
·
availability
of qualified personnel;
·
effects
of future collective bargaining agreements;
·
outcome
of litigation;
·
historical
environmental liabilities;
·
changing
environmental requirements and costs, including the capital requirements
in Peru;
·
political
uncertainty and terrorism;
·
major
equipment failures;
·
changes
in accounting principles or new accounting standards;
and
·
compliance
with laws and regulations and other unforeseen
circumstances.
In
light of these risks, uncertainties and assumptions, the forward-looking events
discussed in this Annual Report on Form 10-K may not occur. In addition, actual
results could differ materially from those suggested by the forward-looking
statements. Accordingly, investors are cautioned not to place undue reliance
on
the forward-looking statements. Except as required by law, we undertake no
obligation to publicly update or revise any forward-looking statements, whether
as a result of new information, future events or otherwise. Investors should,
however, review additional disclosures we make from time to time in our periodic
filings with the Securities and Exchange Commission.
This
Annual Report on Form 10-K and the documents incorporated herein by reference
should be read completely and with the understanding that our actual future
results may be materially different from what we expect. All forward-looking
statements we make in this Annual Report on Form 10-K and our other filings
with
the Securities and Exchange Commission are qualified by these cautionary
statements.
All
references in this Annual Report on Form 10-K to “we,”“us,”“our” or “Company”
refer to The Doe Run Resources Corporation and its subsidiaries. All dollars
are
in thousands except where noted otherwise.
Overview
General
We
are a
producer of non-ferrous and precious metals with operations in the United States
and Peru. We are also the largest integrated lead producer in North America
and
the largest primary lead producer in the western world. We
operate our business in the United States through The Doe Run Resources
Corporation, which we refer to as Doe Run, and our wholly owned subsidiary
Fabricated Products, Inc., which we refer to as Fabricated Products. We operate
our Peruvian operations through Doe Run Peru S.R.L., an indirect subsidiary
of
Doe Run that we refer to as Doe Run Peru. Doe Run operates an integrated primary
lead operation and a recycling operation located in Missouri, referred to as
Buick Resource Recycling. Fabricated Products operates a lead fabrication
operation located in Arizona and a lead oxide business located in
Washington.
Doe Run
Peru, operates a smelter in La Oroya, Peru, one of the largest polymetallic
processing facilities in the world, producing an extensive product mix of
non-ferrous and precious metals, including silver, copper, zinc, lead and gold.
Doe Run Peru also has a copper mining and milling operation in Cobriza, Peru
in
the region of Huancavelica, which is approximately 200 miles southeast of La
Oroya in Peru. See “Item
8.
Financial Statements and Supplementary Data—Note 16 to Consolidated Financial
Statements” for
financial information about operating segments and geographic
areas.
Our
auditors issued unqualified opinions on the 2005 audited consolidated financial
statements of the Company and the 2005 audited financial statements of Doe
Run
Peru that expressed substantial doubt about the Company’s and Doe Run Peru’s
ability to continue as going concerns due to net capital deficiencies,
substantial debt service requirements, and significant capital requirements
under environmental commitments. See
further discussion and management’s plans in “Item 7. Management’s Discussion of
Financial Condition and Results of Operations—Liquidity
and Capital Resources.”
Corporate
Structure
Doe
Run
is a New York corporation formed in 1981. Doe Run is the successor via merger
to
the St. Joseph Lead Company, which was formed in 1864. All of Doe Run’s issued
and outstanding common and preferred stock is directly or indirectly owned
by
The Renco Group, Inc. (Renco). Renco is owned by trusts established by Mr.
Ira
Leon Rennert, Renco’s Chairman and Chief Executive Officer, for himself and
members of his family. As a result of such ownership, Mr. Rennert controls
Doe
Run and its subsidiaries, including Doe Run Peru, subject to the provisions
of
an Investor Rights Agreement discussed in “Item 5. Market for Registrant’s
Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities.”
Doe
Run
owns 100% of Doe Run Cayman Ltd., a Cayman Islands corporation, which in turn
owns in excess of 99% of the interest in Doe Run Peru. As required by Peruvian
law, the remainder of Doe Run Peru’s shares are owned by present and former
employees of both Doe Run Peru and Empresa Minera del Centro del Peru S.A.,
(Centromin). Centromin is the Peruvian government entity whose subsidiary
previously owned La Oroya. Doe Run Peru purchased that subsidiary on October23,1997.
Doe
Run’s
fiscal year ends on October 31. Any reference herein to a specific year, such
as
2005, refers to the fiscal
year
2005,
unless otherwise noted.
U.S.
Operations
Doe
Run’s
primary lead operation in the U.S. consists of two primary lead smelters, one
of
which is active and the other is indefinitely suspended as a result of market
conditions. The active smelter obtains concentrates principally from Doe Run’s
four operating mills. The mills are supplied with ore mined from six production
shafts along approximately 40 miles
of
the Viburnum Trend in southeastern Missouri, one
of the world’s most productive lead deposits. As of October 31, 2005, our U.S.
ore reserves consisted of approximately 34 million proven and probable tons,
containing average grades of 6.23% lead, 1.36% zinc and 0.26%
copper.
Doe
Run
also operates the world’s largest secondary lead smelter, which is located in
southeastern Missouri and produces lead metal from recycled lead-acid batteries
and other lead-bearing materials.
Fabricated
Products produces value-added lead products such as lead oxide, lead sheet
and
lead pipes at facilities in Arizona and Washington.
These
operations enable our U.S. operations to participate in and manage the entire
lead life cycle from mining lead ore, to producing refined lead metal, to
fabricating value-added lead products, to recycling batteries and other
materials containing lead.
In
2005,
our U.S. operations delivered approximately 324,000 tons of refined lead metal
and lead alloy products, including lead recycled for customers (tolling). This
represented approximately 17% of North American consumption and 6% of western
world consumption. In addition, our U.S. operations delivered approximately
152,000 tons of lead concentrates to international metal trading companies
in
2005.
Approximately
50% of our U.S. operations’ sales in 2005 were to battery manufacturers or their
suppliers. Historically, the lead-acid battery has been the dominant technology
for automotive and other starting, lighting and ignition batteries as well
as
for motive power, telecommunication, network power, uninterruptible power
systems and emergency lighting. Management believes this will continue to be
the
case for the foreseeable future because of its cost competitiveness,
recyclability and existing infrastructure. Refined lead is also used in products
such as computer and television screens, ammunition, and rolled and extruded
lead products.
See
“Item
7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations—Results
of Operations”
for
a
detailed discussion of the markets for lead and other metals affecting Doe
Run’s
results of operations. By taking advantage of our extensive polymetallic ore
resources and smelting assets, we are somewhat able to reduce the impact of
metal price volatility through adjustments to our mining, milling and smelting
plans beyond the short-term. In addition, sales from tolling services,
by-products and fabricated products provide Doe Run with sources of revenue
that
are largely independent of lead prices.
Peruvian
Operations
Doe
Run
Peru acquired La Oroya in October 1997 and Cobriza in August 1998. La Oroya’s
unique combination of non-ferrous metal smelters, refineries and by-product
circuits enable it to process complex polymetallic concentrates and to produce
a
number of high quality finished metals. In 2005, La Oroya was one of Peru’s
largest exporters, exporting approximately 89% of its total sales to North
America, Latin America, Asia and Europe. Its customers include end-users of
non-ferrous and precious metals and metal by-products as well as international
metal trading companies.
La
Oroya’s operations smelt and refine complex concentrates obtained from Cobriza
and from unaffiliated mining operations primarily in Peru. La Oroya typically
purchases concentrate feedstock pursuant to contracts under which the cost
of
concentrates is based on a percentage of the non-ferrous metal and precious
metal content of the concentrates, reduced by treatment and refining charges
to
process the concentrates and penalties for impurities within the concentrates.
The impurities, such as arsenic, antimony and bismuth, can be processed and
sold
as by-products. Non-ferrous metal prices are generally established by reference
to international metal markets, primarily the London Metal Exchange (LME).
Treatment charges are negotiated with concentrate sellers, generally based
on
world terms. They are affected by numerous factors beyond Doe Run Peru’s control
including:
·
global
and regional demand for smelter capacity,
·
availability
and quality of concentrates and
·
expectations
for inflation.
The
aggregate effect of these factors is impossible for us to predict. La Oroya’s
ability to process the impurities in copper and lead concentrates allows Doe
Run
Peru to charge a penalty for processing these concentrates. These penalties
are
a significant source of revenue to Doe Run Peru, and La Oroya is one of only
six
smelters in the western world that can process these types of
concentrates.
La
Oroya
derives its operating profit primarily from treatment charges, refining charges
and penalties on concentrates purchased. The smelter pays for the majority
of
the metal contained in the concentrates purchased, but metallurgical recoveries
are typically greater than the percentage of metal content paid for. Therefore,
it generates a portion of its operating profit from sales of the metals produced
from these excess recoveries. Additional operating profit is generated from
the
sale of by-products as well as from premiums over market prices received on
its
refined metal sales.
The
market for La Oroya’s products is global, and demand depends upon worldwide
economic conditions. Given the diversity of its products and by-products, Doe
Run Peru’s financial performance is not solely dependent upon any single product
or by-product. Also, because the La Oroya smelter is primarily a processor
of
complex concentrates that are purchased based on market prices, its financial
performance is less sensitive than Doe Run’s U.S. operations to the volatility
of metal prices. La Oroya’s operating results, however, are sensitive to the
level of treatment and refining charges and penalties received for concentrates
processed and the availability of economically suitable concentrate feed. See
“Doe Run Peru’s Operations—Raw
Materials”
for
a
discussion of treatment charges and difficulties encountered in obtaining
adequate feed supply.
Doe
Run’s U.S. Operations
Products
and Services
The
principal products produced by Doe Run’s operations include refined lead from
primary and recycled sources, lead, zinc and copper concentrates, fabricated
lead products and other by-products. Historically, the majority of lead
concentrates produced have been used to feed Doe Run’s two primary smelters, but
in November 2003, Doe Run indefinitely suspended operations at its Glover
primary smelter and began selling its excess concentrates on the open market.
Doe Run also generates revenue from tolling fees received for recycling spent
lead-acid batteries and other lead-bearing materials for its customers. The
following table sets forth net sales of products and services for Doe Run:
For
the
years ended October 31, 2005, 2004 and 2003, exports represented approximately
17%, 17% and 6%, respectively, of Doe Run’s operations’ net sales. See the
discussion in “Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations—Results
of Operations”
for
information regarding the impact of price and volume on sales.
Transportation
Doe
Run
transports its products by truck, barge and rail. It sells a significant amount
of lead concentrates on the global market requiring transloading to barge on
the
Mississippi River.
Customers
Doe
Run
had approximately 128 lead metal customers in 2005, including the largest
lead-acid battery manufacturers in the world. Approximately 50% of Doe Run’s
revenues from unaffiliated customers were directly from U.S. battery
manufacturers, primarily automotive, or their suppliers. Lead concentrates
are
sold to international trading companies.
Competition
Doe
Run
is the largest integrated lead producer in North America and the largest primary
producer in the western world. It is also the third largest secondary lead
producer in North America and the fourth largest in the world. Doe Run primarily
services the North American lead metal market, where its major competitors
are
three primary lead producers and 12 secondary lead producers.
Competition
within the North American lead metal market is based primarily on quality,
price, service, timely delivery and reliability. Because lead is generally
sold
on a delivered basis with freight charges included, Doe Run’s central U.S.
location typically allows it to have transportation costs significantly lower
than its major competitors with operations outside of North America. Due to
its
location, Doe Run also is able to provide its customers just-in-time delivery
at
a lower cost than most of its competitors. In addition, management believes
Doe
Run’s combined primary and secondary production capabilities and focus on the
lead business as its core business provide it with additional competitive
advantages.
In
response to a declining domestic metal market, and as battery manufacturers
move
production overseas, primarily to China, Doe Run has reduced its lead metal
production and is selling more of its production as lead concentrates, competing
in the global market for concentrates, where there is currently a deficit in
supply.
Doe Run
produces clean concentrates, relatively free of impurities, which can be used
with lower quality concentrates to improve smelters’ feed mix.
Raw
Materials
At
current production levels, lead concentrates for Doe Run’s primary smelting
operation are supplied by its mining operations. However, should production
levels change, lead concentrates may , from time to time, be purchased from
third parties. For a discussion of our mineral reserves, see “Item 2.
Properties—U.S. Operations—Ore
Reserves.”
Doe
Run utilizes various other raw materials, principally metallurgical coke,
chemicals and reagents, which are secured from external sources, primarily
on
the basis of competitive bids.
There
is
a shortage in the U.S. market for coke due to competition from China. Coke
supply was an issue in 2005 as was increased raw material costs at the
Herculaneum primary smelter and Buick Resource Recycling Poor coke quality
negatively impacted production at Buick Resource Recycling by approximately
4,000 tons in 2005. We believe the coke supply is improving, and Doe Run is
working on a contract for the 2006 supply requirements although the costs have
continued to increase from current cost levels. Increased natural gas and
propane costs also contributed to negative cost variances at the Herculaneum
primary smelter and at the secondary operations. Soda ash was in short supply
for the U.S. recycling operation in the first half of 2005. Alternative supplies
have been located, and we do not anticipate an ongoing problem. We believe
that
Doe Run has adequate sources of the other raw materials to meet its present
production needs.
Doe
Run’s
recycling operation recycles a variety of lead-bearing materials, primarily
spent batteries, which it purchases from customers or tolls for customers.
The
chemistry and composition of feed materials can have a significant impact on
the
cost and operating performance of the recycling operation.
Power
The
primary electric power source for the majority of Doe Run’s operations is Ameren
UE, a public utility headquartered in St. Louis, Missouri. The Viburnum-35
mine
obtains its electric power from Black River Electric Cooperative located in
southeastern Missouri. Natural gas and propane are secured from external
sources, primarily under contracts that are awarded on the basis of competitive
bidding, whose prices fluctuate with the market for natural gas and petroleum,
respectively. We believe Doe Run has adequate power sources to meet its present
production needs.
Environmental
Matters
Doe
Run’s
operations are subject to numerous federal, state and local environmental laws
and regulations governing, among other things, air emissions, wastewater
discharge, solid and hazardous waste treatment, storage and disposal, and
remediation of releases of hazardous substances. As is the case with much of
the
mining industry, Doe Run’s facilities are located on sites that have been used
for heavy industrial purposes for decades and may require remediation.
Environmental laws and regulations may become more stringent in the future,
which could increase costs of compliance. See “Item 8. Financial Statements and
Supplementary Data—Note 19 to Consolidated Financial Statements.”
Safety
For
both
our U.S. and Peruvian operations, we strongly emphasize providing a safe working
environment through extensive employee training to ensure safe work practices
and worker knowledge of proper equipment operation. In the U.S., the Mine Safety
and Health Administration of the Department of Labor regulates Doe Run’s mining
and milling operations, and the Occupational Safety and Health Administration
of
the Department of Labor regulates its smelting and fabricating operations.
Doe
Run has achieved safety results that are among the best in its industry
classifications. In 2005, the mining and milling operations’ lost-time injury
rate was about two times better than the national average for the underground
metal mining industry. The lost-time injury rate for Doe Run’s primary smelter
and its recycling operation was three times better than the national average
for
the primary nonferrous metals industry. In addition, the lost-time injury rate
at Fabricated Products was two times better than the national fabricated metal
products industry. The Fletcher, Viburnum #29, Viburnum #35 and Sweetwater
mines, Buick Resource Recycling, and Fabricated Products completed 2005 with
no
lost-time injuries. Doe Run and its predecessor companies have won the
prestigious Sentinels of Safety award 23 times in the past 31 years. The annual
award is sponsored by the Mine Safety & Health Administration and the
National Mining Association. The Doe Run Brushy Creek Mine won the award for
2004, and five of the six SEMO mines are in contention for the 2005
award.
Employees
As
of
October 31, 2005, Doe Run had 332 active salaried employees and 1,034 active
hourly employees, of which Local 7450 of the United Steelworkers of America
(USWA) represented five active hourly employees at our Glover primary smelter.
Doe Run has extended a three-year labor agreement with the USWA for an
additional period of one year. The labor agreement expires in May
2006.
We
received a letter on February 24, 2006 from the National Labor Relations Board
requesting a representation election for all Buick Resource Recycling’s hourly
production, maintenance and materials handling employees by the International
union, United Automobile, Aerospace and Agricultural Implement Workers of
America, AFL-CIO.
Doe
Run Peru’s Operations
Products
Doe
Run
Peru’s principal products are refined silver, copper, lead, zinc and gold. In
addition, Doe Run Peru produces a variety of by-products and provides tolling
services. The following table sets forth net sales, excluding sales to Doe
Run,
for each of Doe Run Peru’s principal products.
See
the
discussion in “Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations—Results
of Operations”
for
information regarding the impact of price and volume on sales.
Transportation
Doe
Run
Peru primarily transports its products by ocean freight after first being
transported by truck and rail to the port of Callao in Lima, Peru. The primary
exception is that exported gold is transported via aircraft. Ocean freight
availability has tightened due to competition for cargo vessels with China,
which has in turn led to higher shipping costs.
Customers
Doe
Run
Peru had approximately 327 customers in 2005, including a wide variety of
industrial and international trading companies. In 2005, approximately 89%
of
net sales were exported, with sales to North America, Latin America, Asia and
Europe representing approximately 37%, 24%, 16% and 12%, respectively, of net
sales. Substantially all of Doe Run Peru’s 2005 metal sales were pursuant to
contractual agreements, typically with terms of one year or less. Such contracts
generally set forth pricing mechanisms with minimum volumes. Substantially
all
of Doe Run Peru’s sales are denominated in U.S. dollars.
Competition
The
unique combination of non-ferrous metal smelters, refineries and by-product
circuits at La Oroya are capable of processing complex concentrates into high
quality base and precious metals. Only five other facilities in the western
world have the capability to treat lead and copper concentrates containing
high
antimony, arsenic, bismuth and precious metal values in addition to a variety
of
residues. Chinese smelters, however, which can also process complex
concentrates, are competing with Doe Run Peru in the market for concentrates.
See the discussion of concentrates below in “Raw
Materials.”
Raw
Materials
Doe
Run
Peru’s primary raw material is concentrate feedstock. In addition, Doe Run
Peru’s processes consume various other raw materials, principally coke and
fluxes.
Copper.
During
2005, approximately 65% of the copper concentrates processed at La Oroya were
obtained from the Peruvian domestic market, including approximately 25% from
Cobriza. In 2006, we expect to obtain approximately 66% of La Oroya’s copper
concentrate requirements from the Peruvian domestic market, including
approximately 26% from Cobriza. We expect to obtain the remaining 34% primarily
from neighboring Latin American countries. La Oroya requires approximately
77,000 tons per year of copper metal contained in concentrates to produce at
capacity.
Zinc.
All of
the zinc concentrates processed at La Oroya during 2005 were secured from the
Peruvian domestic market. La Oroya requires approximately 50,000 tons of zinc
metal contained in concentrates per year to optimize production volume. During
2005, the capacity was voluntarily decreased from 88,200 tons to 50,000 tons
per
year in order to reduce sulfuric acid gas and other gas emissions as well as
to
reduce the disposal of liquid effluents.
Lead.
During
2005, approximately 96% of the lead concentrates processed at La Oroya were
obtained from the Peruvian domestic market. The smelter requires approximately
134,000 tons of lead contained in concentrates per year to produce at
capacity.
The
following table sets forth Doe Run Peru’s purchases of copper, zinc, and lead
concentrates (in tons) from outside sources for the last five fiscal
years.
Year
Ended October 31,
(tons/year)
2005
2004
2003
2002
2001
Copper
193,244
165,468
183,414
178,306
197,224
Zinc
95,251
153,358
168,402
174,300
174,300
Lead
246,300
236,574
226,768
227,774
231,943
Feed
Supply.
Most of
Doe Run Peru’s copper, lead and zinc concentrate feed supplies are secured from
a small number of suppliers in the Peruvian domestic market. Due to the
proximity of La Oroya to these suppliers, it is economically advantageous for
Doe Run Peru to acquire its concentrates from Peruvian suppliers. Tightness
in
the global market for concentrates, however, has caused intense competition
from
buyers outside of Peru, especially in China, for all concentrates, including
the
complex concentrates that may have been previously undesirable for some
smelters. This intense competition has adversely affected concentrate
availability and treatment charges received. Since the middle of 2003 and
through October 31, 2005, however, copper, zinc and lead prices have increased
significantly, primarily due to decreased availability of supply. The increase
in the copper prices has encouraged more production from the mines and, together
with the decision of Chinese smelters to reduce their copper concentrate
imports, has generated a radical change in the availability of copper
concentrate beginning in the last quarter of 2004. Management estimates that
there will be an excess of copper concentrates for the near future, which will
improve the performance of the copper circuit in La Oroya. In spite of the
price
improvements, in the case of lead and zinc concentrate, the market remains
tight, and we project that it will be tighter for the next few years since
there
are only a few mining projects coming on stream.
Currently,
Doe Run Peru has secured approximately 95% of its concentrate requirements
for
2006 through material supplied by Cobriza and contracts with independent
suppliers. For 2005, all of Cobriza’s output fed the La Oroya smelter,
representing approximately 25% of the smelter’s copper concentrate requirements.
Water.
Doe Run
Peru obtains water for La Oroya from two main sources: the Tishgo River and
the
Cuchimachay Spring. The Mantaro River was another source of water until
September 2005 when we stopped taking water out of the river and began to
recycle our industrial water. Management believes the remaining two sources,
in
addition to numerous adjacent springs and wells, provide adequate water supplies
for the facility.
Power.
La Oroya
receives electric power from Empresa de Electricidad de los Andes S.A., also
known as Electroandes, a local electric power company owned by PSEG Global
Inc.
The smelting complex consumes approximately 63 megawatts of ongoing load, which
represents approximately 45% of the capacity of Electroandes. Doe Run Peru
has a
supply contract with Electroandes that expires in July 2008. Management believes
this agreement provides sufficient power at satisfactory rates. Most of
Cobriza’s electrical power is also provided by Electroandes. Cobriza’s
requirements do not represent a significant portion of Electroandes’ capacity.
Electroandes is not the only source of electricity in the areas where Doe Run
Peru operates.
Other.
Doe Run
Peru uses various other raw materials, principally oxygen, coke, fluxes and
oil.
Its oxygen plant at La Oroya supplies oxygen for the oxy-fuel burners of the
reverberatory furnace of the copper smelter and for the blast furnaces of the
lead smelter. The plant supplies all of La Oroya’s oxygen requirements.
Historically,
Doe Run Peru consumed coke it produced and coke it imported. In order to reduce
emissions at its coke processing plant, on November 8, 2004, Doe Run Peru began
importing all of its coke instead of producing it. By the end of 2004, coke
prices increased significantly, which resulted in higher production costs.
Fluxes consumed in the smelting process are supplied primarily by Doe Run Peru
controlled mining concessions near La Oroya. Doe Run Peru also purchases silica
and pyrite fluxes containing precious metals. The smelter primarily uses
industrial and diesel oil for fuel. During 2004, fuel prices increased
significantly. Management believes that its sources of these materials are
adequate to support operations for the foreseeable future.
Environmental
Matters
Modern
environmental legislation has been introduced only in the last 15 years in
Peru.
Nevertheless, we are governed by a number of agencies. For instance, the
National Environmental Council coordinates government regulations and policies,
including the air quality standards for Peru. The Directorate General of
Environmental Health (DIGESA), a division of the Ministry of Health, issues
wastewater discharge permits based on water quality standards. For mining and
metallurgical activities, the Ministry of Energy and Mines, known as the MEM,
is
the principal regulatory authority. The MEM has issued “maximum permissible
limits” for liquid effluent and air emissions. MEM also requires all new mining
or metallurgical operations, and existing operations expanding by over 50%
of
installed capacity, to submit an Environmental Impact Study to the
MEM.
La
Oroya’s operations historically and currently exceed some of the applicable MEM
maximum permissible limits pertaining to air emissions and wastewater effluent
quality. Prior to our acquisition of La Oroya, Metaloroya S.A., the former
owner, and at the time a subsidiary of Centromin, received approval from the
Peruvian government for an Environmental Remediation and Management Program,
known as a PAMA. The PAMA was designed to achieve compliance with MEM’s air and
wastewater limits. It consisted of an environmental impact analysis, monitoring
plan and data, mitigation measures and a closure plan. The PAMA also sets forth
the actions and corresponding annual investments the concession holder agrees
to
undertake in order to achieve compliance with the maximum permissible limits
prior to expiration of the PAMA (ten years for smelters, such as Doe Run Peru’s
operations in La Oroya, and five years for any other type of mining or
metallurgical operation like Cobriza). After expiration of the PAMA, the
operator must comply with all applicable standards and requirements. The PAMA
projects, which are more fully discussed below, have been designed to achieve
compliance with these requirements. The Peruvian government may, in the future,
require compliance with additional environmental regulations that could
adversely affect Doe Run Peru’s business, financial condition and results of
operations.
As
part
of our acquisition of La Oroya, Doe Run Peru assumed certain obligations under
the PAMA, and Centromin agreed to indemnify Doe Run Peru against any
environmental liability arising out of its prior operations and its apportioned
share of any other liabilities related to emissions as mentioned above.
Performance of the indemnity has been guaranteed by the Peruvian government
through the enactment of Supreme Decree No. 042-97-PCM. There can be no
assurance, however, that Centromin will satisfy its environmental obligations
and investment requirements, including those in its PAMA, or that the
governmental guarantee will be honored. Any failure by Centromin to satisfy
its
environmental obligations could adversely affect Doe Run Peru’s business,
financial condition or results and operations. There can be no assurance that
the Peruvian government will not, in the future, require compliance with
additional environmental regulations that could adversely affect Doe Run Peru’s
business, financial condition and results of operations.
The
PAMA
provides a specific plan for achieving the applicable MEM maximum permissible
limits pertaining to air emissions and wastewater effluent quality. However,
the
specific projects included in the PAMA may be modified and amended as to the
actual design and timing to be implemented, provided compliance with the
applicable maximum permissible limits is achieved by the date in the
PAMA.
Under
the
current approved PAMA, Doe Run Peru has committed to implement projects that
include:
·
constructing
water and sewage treatment
facilities
·
installing
slag handling equipment and disposal facilities
and
·
building
sulfuric acid plants for the metal circuits — including some process
changes that may be necessary to ensure compliance with Peru government
agency regulations.
La
Oroya’s current PAMA requires Doe Run Peru to complete these projects by
December 31, 2006. Doe Run Peru expects that it will not be able to comply
with
the spending requirements of La Oroya’s PAMA investment schedule in 2006 with
respect to the construction of the sulfuric acid plants required by the PAMA
and, as a result, could be subject to penalties. Failure to comply with the
PAMA
could result in the forced cessation of operations at the La Oroya smelter,
which would adversely affect our business, financial condition and results
of
operations. Peruvian law changed in 2004 to allow companies to request an
extension of the compliance date. Doe Run Peru applied for an extension to
complete the construction of the sulfuric acid plant contemplated by the
original PAMA. See the discussion in “Item 7. Management’s Discussion and
Analysis of Financial Condition and Results of Operations—Liquidity
and Capital Resources”
for
a
description of the law and Doe Run Peru’s plans.
The
Cobriza mine has a separate PAMA in which Doe Run Peru committed to complete
projects to manage tailings, mine drainage, sewage and garbage. Doe Run Peru
completed its PAMA requirements with respect to Cobriza in June 2004, ceased
discharging mine waste into the Mantaro River and is in compliance with the
emissions standards required by the PAMA.
Safety
In
Peru,
the MEM is also responsible for regulations enacted to minimize accidents.
It
conducts annual inspections to ensure compliance with numerous safety standards.
The Peruvian operations maintain a high regard for safety and health. During
2004, Doe Run Peru received the John T. Ryan award, granted by Mining Safety
Appliances, or MSA, for obtaining the best performance in mining safety in
the
category of Smelting and Refineries and for having achieved the best indexes
of
safety in Peru during the last two years. The La Oroya smelter completed nearly
two million employee hours without a lost-time accident between July and October
2005.
During
2005, La Oroya experienced a fatal accident involving a contractor’s employee,
and Cobriza experienced a fatal accident involving an employee in February
2005.
Management has thoroughly investigated these incidents and reinforced the
appropriate safety procedures with the workforce and its contractors. There
were
no other lost-time accidents at Doe Run Peru’s operations during
2005.
Employees
As
of
October 31, 2005, Doe Run Peru’s employees included 779 active salaried
employees, 2,119 active hourly employees and 1,185 contractors. Management
believes its relations with employees are good. There are three unions for
hourly employees and two unions for salaried employees. The principal union,
representing 73% of the hourly employees, is the Sindicato de Trabajadores
Metalúrgicos La Oroya (La Oroya Metallurgic Workers Union). The Sindicato de
Trabajadores Cobriza (Cobriza Workers Union) and the Sindicato de Trabajadores
Ferroviarios La Oroya (La Oroya Railroad Workers Union) represent 14% and 3%
of
the hourly workers, respectively. On July 21, 2003 and September 1, 2003, Doe
Run Peru entered into a five-year labor agreement with the unions representing
the hourly employees at La Oroya and Cobriza, respectively. The salaried
employees are represented by the Sindicato de Empleados Yauli-La Oroya (Yauli-La
Oroya Employees Union), representing 33% of the salaried employees, and by
the
Sindicato de Empleados Cobriza (Cobriza Employees Union), representing 4% of
salaried employees. On January 6, 2003 and September 1, 2003, Doe Run Peru
entered into a five-year labor agreement with the unions representing the
salaried employees at La Oroya and Cobriza, respectively.
Additional
Information
We
file
annual, quarterly and current reports with the SEC. Any materials filed with
the
SEC may be read and copied at the SEC’s Public Reference Room at 100 F Street,
Washington D.C. 20549. Further information is available at 1-800-SEC-0330.
Reports are also available on the SEC’s website at www.sec.gov.
Doe
Run’s
Southeast Missouri Mining and Milling Operations (‘SEMO”) based in Missouri are
a major producer of lead, zinc and copper. In order to exploit the underground
lead-zinc-copper reserves Doe Run has seven production shafts, six of which
are
currently operating, that form a north-south line along approximately 40 miles
of the ore body. Two of its production shafts, Viburnum-29 and Viburnum-35,
lie
within a five-mile radius, north and south, respectively, of Viburnum, Missouri,
which is located approximately 125 miles southwest of St. Louis, Missouri
(Figure 1). Doe Run’s Buick, Brushy Creek, Fletcher, West Fork and Sweetwater
production shafts are within 30 miles of Viburnum. The seventh production shaft,
known as West Fork, is on care and maintenance status.
Figure
1
Doe Run's Missouri Mining Operations as of October 31,2005
Doe
Run
also has five grinding/flotation mills located near its production shafts,
four
of which are currently operating as shown below. All of the mining and milling
facilities are accessible by state or county roads or haul roads owned by Doe
Run. Products are shipped by truck over public roads.
The
production capacities of Doe Run’s mills are as follows:
Milling
Capacity
Mill
(Tons
of Ore Per Day)
Sweetwater
6,800
Buick
6,400
Fletcher
5,000
Brushy
Creek
5,000
West
Fork (1)
4,000
(1)
The
West Fork mill is on care and maintenance status, where production
at the
facility is temporarily suspended, but certain maintenance activities
are
continued.
Historic
SEMO Production
SEMO
Production Statistics 2001-2005
2001
2002
2003
2004
2005
Ore
milled (dry tons)
5,354,098
5,070,334
4,672,924
5,002,459
5,537,230
Ore
grade - (%):
Lead
6.17%
6.23%
6.51%
5.73%
5.36%
Zinc
1.22%
1.21%
1.25%
1.16%
1.01%
Copper
0.10%
0.12%
0.16%
0.22%
0.23%
Production
(dry tons):
Lead
concentrates
405,209
388,648
374,918
352,728
363,328
Grade
(%)
78.66%
78.79%
78.84%
77.95%
77.55%
Recovery
(%)
96.56%
97.00%
97.24%
95.85%
94.96%
Lead
content
318,744
306,208
295,581
274,950
281,772
Zinc
concentrates
93,238
86,887
82,047
80,606
73,899
Grade
(%)
58.65%
58.36%
57.99%
57.43%
58.06%
Recovery
(%)
83.74%
82.47%
81.50%
79.78%
76.44%
Zinc
content
54,687
50,708
47,578
46,290
42,906
Copper
concentrates
8,083
9,433
13,977
20,643
22,516
Grade
(%)
27.17%
28.10%
28.82%
28.79%
28.74%
Recovery
(%)
39.19%
45.27%
52.90%
54.99%
51.29%
Copper
content
2,196
2,651
4,028
5,943
6,470
Land
Ownership
Doe
Run
owns the property where the necessary surface structures for mining and milling
are located. The mineral rights are held either by fee title or mineral leases
with either private landowners or the federal government. There are also
numerous prospecting permits, most of which are for exploration of new mineral
ore deposits. Five of the production leases are private leases and 13 are
government leases. Doe Run makes royalty payments under these leases. The
mineral leases with private landowners have no expiration periods. The
government leases are for a period of either 10 or 20 years and are renewable
at
Doe Run’s option if no default exists under the agreement, subject to
negotiation of specific terms of the lease, including royalty rates. Although
no
assurance can be given, management anticipates that these leases will be renewed
at rates that do not exceed the current levels.
A
summary
of the lands owned and leased by Doe Run for its Southeast Missouri Mining
Operations as of October 31, 2005 is as follows:
Land
Owned by Doe Run
Acres
Acres
Acres
Total
Operation
Entire
(1)
Mineral
(2)
Surface
(3)
Acreage
SEMO
23,079.27
19,474.70
10,256.32
52,810.29
Exploration
249.24
2,284.05
235.47
2,768.76
Total
acreage
23,328.51
21,758.75
10,491.79
55,579.05
Third
Party Land Leased by Doe Run
Area
Acres
Bureau
of Land Management -USA (“BLM”)
33,622.79
Missouri
5,560.04
Total
acreage
39,182.83
(1)
Acres
Entire refers to acres where both subsurface and mineral rights are
owned.
(2)
Mineral
Acres refers to acres where only the mineral rights are
owned.
(3)
Surface
Acres refers to where only surface rights are
owned.
Doe
Run’s
producing leases from the federal government, managed by the BLM, consist of
the
following:
The
following tables set forth the proven and probable reserves estimated by Doe
Run
for the fiscal years ended October 31, 2005 and 2003, which have been audited
by
the mining consulting firm of Pincock, Allen & Holt (PAH), a division of
Runge, Inc. PAH reviewed the methodology and cost basis used in the reserve
calculation, as discussed in their reports dated January 16, 2006 and January29, 2004, and believe that the reserve estimations have been performed in a
reasonable manner consistent with industry accepted standards. For the purposes
of calculating cutoff grades and reserves, beginning with the 2004 fiscal year,
the 3-year annual average prices for lead, zinc and copper were used. Prior
to
that period 8-year annual price averages had been used for purpose of the
calculation(s). The table below includes the audited reserves for the 2003
and
2005 fiscal years. The table does
not
include
the total proven and probable reserves as of the fiscal year ended October31,2004, which were estimated by the Company to be 45.2 million tons consisting
of
5.51% lead, 1.31% zinc and 0.29% copper. The 2004 proven and probable reserves
were not audited by Pincock, Allen & Holt and therefore were not included in
the table.
The
estimated average extraction recovery of metals, after allowing for
expected dilution for lead, zinc and copper, is approximately 89%.
This
dilution is included in the above reserve table. Estimated average
metallurgical recoveries for lead, zinc and copper are 96.5%, 83.0%
and
50.0%, respectively. Metallurgical recovery losses have not been
included
in the above reserve table.
Included
in the 2005 table of proven and probable reserves is the Higdon deposit, which
is outside of the Viburnum trend, consisting of 2.3 million tons of ore with
a
grade of 5.7% lead and 2.2% zinc. Similarly, the table representing the 2003
proven and probable reserves includes Higdon, which consisted of 2.7 million
tons of ore with a grade of 5.7% lead and 2.0% zinc. While the surface
structures and shaft are in place for the hoisting of ore from the mine,
underground mine development requiring significant investment would be necessary
in order to generate production from the mine. Processing of any ore mined
from
the Hidgon resource would require permitting and construction of a mill at
the
site or haulage of the ore to an existing mill in the Viburnum
trend.
Total
proven and probable reserves for 2005 declined 28% from the audited 2003
total. PAH attributed this reduction due mainly to higher operating
costs, which resulted in higher cutoff grades for the calculation.
Additionally, mine production decreases to the reserve base were only partially
offset by ore added through exploration.
The
term
“reserve” means that part of a mineral deposit that could be economically and
legally extracted or produced at the time of the reserve determination. The
term
“proven (measured) reserves” means reserves for which: 1) quantity is computed
from dimensions revealed in outcrops, trenches, workings or drill holes; grade
and/or quality are computed from the results of detailed sampling and 2) the
sites for inspection, sampling and measurement are spaced so closely and the
geologic character is so well defined that size, shape, depth and mineral
content of reserves are well-established. The term “probable (indicated)
reserves” means reserves for which quantity and grade and/or quality are
computed from information similar to that used for proven (measured) reserves,
but the sites for inspection, sampling and measurement are farther apart or
are
otherwise less adequately spaced. The degree of assurance, although lower than
that for proven (measured) reserves, is high enough to assume continuity between
points of observation.
Smelting
Operations
Doe
Run’s
Herculaneum primary lead smelter is located approximately 35 miles south of
St.
Louis on the Mississippi River in Herculaneum, Missouri. It has a capacity
of
250,000 tons per year, but is limited to 200,000 tons per year by permit. The
smelter is currently operating at an annualized run rate of approximately
175,000 tons. The smelter, which began operations in 1892, is the largest
primary lead smelter in North America and the third largest in the
world.
Located
in Glover, Missouri, approximately 20 miles southeast of the Sweetwater
production shaft, is Doe Run’s Glover primary smelter, which began operations in
1968 and has a capacity of approximately 136,000 tons per year. Doe Run
indefinitely suspended operations at the Glover primary smelter in the first
quarter of 2004 due to decreased U.S. demand for lead. See the discussion in
“Item 7. Management’s Discussion and Analysis of Financial Condition and Results
of
Operations—Overview.”
Doe
Run’s
recycling operation, located in Boss, Missouri, approximately ten miles south
of
Viburnum, began operations in 1991 and currently has an annual physical capacity
of approximately 165,000 tons. The facility operates under a Resource
Conservation and Recovery Act permit allowing it to handle hazardous waste,
primarily lead-bearing material. Up until January 2005, the smelter was
permitted for 152,410 tons of furnace production annually. A permit to
permanently expand the emissions capacity of the recycling operation to allow
approximately 175,000 tons of production was received in January 2005. The
facility can, however, recycle lead metal scrap materials that are not required
to go through the furnaces in order to achieve additional metal
production.
Doe
Run
owns its two primary smelters and its secondary smelter.
Fabricated
Products, operates in leased facilities located in Casa Grande, Arizona, and
Vancouver, Washington. Fabricated Products ended production at its Lone Star
Lead Construction facility in Houston, Texas in December 2003.
Substantially
all of the assets of our U.S. operations are pledged as collateral under various
financing agreements.
Peruvian
Operations
Smelting
Operations
Doe
Run
Peru’s smelting operations are located in the central Peruvian Andes town of La
Oroya, approximately 110 miles east of the Peruvian capital of Lima and at
an
altitude of approximately 12,000 feet above sea level. The complex is linked
to
port facilities by highway and railroad service. Most local supply sources
also
have rail service. Doe Run Peru owns the facilities, which consist of a copper
smelter, lead smelter, copper refinery, lead refinery, copper fabricating plant,
zinc refinery, precious metals refinery, antimony plant, arsenic plant, coke
plant, cadmium plant, maintenance shops and other support facilities. Current
production capacities of primary products are as follows:
Product
Annual
Capacity
Copper
(short tons)
77,000
Lead
(short tons)
134,000
Zinc
(short tons)
50,000
Silver
(thousands of troy ounces)
37,000
Gold
(thousands of troy ounces)
64
During
2004, La Oroya produced at less than capacity primarily due to environmental
limits and insufficient availability of suitable feed materials. See the
discussion in “Item 1. Business—Doe Run Peru Operation’s—Raw
Materials.”
See
the
discussion of production levels for 2004 in “Item 7. Management’s Discussion and
Analysis of Financial Condition and Results of Operations—Results
of Operations.”
In
2005,
Doe Run Peru ceased operating its three New Jersey zinc roasters, which were
costly to operate and environmentally inefficient. The decision resulted in
a
reduction of refined zinc production to 50,000 tons per year, down from the
previous capacity of 88,200 tons per year. We believe that this change will
reduce sulfuric acid gas and other gas emissions as well as reduce the disposal
of liquid effluents.
Mining
Operations
Doe
Run
Peru’s Cobriza mine is located approximately 250 miles southeast of Lima in the
district of San Pedro de Coris, Churcampa Province (Figure 2). Access to the
site is by improved unpaved road through rugged terrain. Concentrates produced
at the mine are trucked 130 miles over unpaved road to Huancayo and then an
additional 70 miles over paved road to the La Oroya smelter. Cobriza’s mill has
a capacity of 10,000 short tons per day. Cobriza used approximately half of
its
capacity as of October 31, 2005.
Figure
2
Doe Run Peru's Mining Operations as of October 31, 2005
The
Cobriza Mine is a copper/iron skarn deposit which is accessed through a series
of adits and a single production shaft. The mineralization occurs as a
replacement body in the Cobriza Limestone, which is interbedded within a thick
sequence of clastic, shale and lesser amounts of carbonate units.
Landholdings
at Cobriza include approximately 2,700 acres of surface ownership and
approximately 128,235 acres of mining concessions. The current mining operation
is located on a portion of the area held. The mining concessions are issued
by
Instituto Nacional de Concesiones y Catastro Minero ("INACC") of the Peruvian
government, the sole authority for issuing mining concessions. A mining
concession gives the holder of the concession the right to explore and mine
any
minerals found on the concession. The concessions can be maintained in good
standing by making an annual concession fee payment of US $3/hectare. An
additional annual fee of US $6/hectare is required for the seventh year and
onwards if no mine production is achieved from the mining concession. This
additional annual fee rises to US $20/hectare for the twelfth year and onwards.
In the case of the Mantaro property 1998 is considered the first year of the
concession.
Economic
mineralization outside the existing mining area has not been confirmed as of
October 31, 2005. Doe Run Peru’s estimates indicate an unaudited, proven and
probable ore reserves of approximately 7.2 million short tons containing
approximately 1.20% copper. In the table below is the historical production
for
the Cobriza Mine for the period Fiscal Year 2001 through Fiscal Year
2005.
Historic
Cobriza Production.
Cobriza
Productions Statistics 2001-2005
2001
2002
2003
2004
2005
Ore
milled (dry tons)
1,623,776
1,649,539
1,565,417
1,453,843
1,605,463
Ore
grade - (%):
Copper
1.07%
1.02%
1.10%
1.10%
1.00%
Production
(dry tons):
Copper
concentrates
65,534
67,243
67,766
62,992
65,329
Grade
(%)
24.79%
23.36%
24.02%
24.03%
22.93%
Recovery
(%)
93.35%
93.29%
94.35%
94.77%
93.57%
Copper
content
16,244
15,705
16,274
15,135
14,982
Exploration
We
continue to explore for additional reserves within the Viburnum Trend, one
of
the world’s most productive lead-zinc ore districts. Current exploration is
focused on surface and underground drilling in and adjacent to the operating
mines for the purpose of discovering new ore reserves in the mines as well
as
discovering additional ore bodies in the general area of the existing mines.
Drilling
in 2004 in the Viburnum Trend led to the discovery of a new ore body, the RC
West Fork ore body. Development on the ore body began in the first quarter
of
2005, with full production scheduled to begin in late 2006. The
reserve, as calculated by Doe Run and audited by Pincock, Allen and Holt, stands
at 2.9 million tons, grading 6.65% lead and 0.83% zinc. The RC West Fork ore
body remains open both to the north and south and will remain a focus for
further drilling planned for 2006.
We
hold
additional exploration tracts outside the Viburnum Trend in the U.S. In
Missouri, 50 miles east of the Viburnum Trend, we have conducted pre-development
work on the Higdon lead-zinc-cobalt deposit. See “Ore
Reserves”
for
further detail.
Current
mine exploration at Doe Run Peru is focused on underground drilling in the
Cobriza mine for the purpose of discovering additional ore reserves. Regional
exploration is ongoing on Doe Run Peru landholdings in the Cobriza region.
Geological mapping and surface sampling as well as airborne and ground
geophysical methods are being utilized in the search for new ore bodies.
Drilling of developed targets began in the first quarter of 2006.
In
South
Africa, through a subsidiary, we have conducted pre-feasibility work on a zinc
and lead deposit approximately 100 miles from Kimberly, in the Northern Cape
Province. Surface rights to these properties are currently being held with
minimal cost pending further economic evaluation. We continue to pursue revised
exploration permits for these properties from the South African
government.
In
addition to the items discussed below, we are involved in various litigation
and
claims, government investigations and other legal proceedings that arise from
time to time in the ordinary course of business. While management does not
believe any of these matters will have a material adverse effect on our
financial position, litigation is inherently unpredictable, and excessive
verdicts do occur. Although management believes valid defenses exist in these
matters, we could in the future incur judgments or enter into settlements of
claims that could have a material adverse effect on our financial condition,
liquidity and results of operations.
Doe
Run
is a defendant in 29 lawsuits alleging certain damages from lead emissions
stemming from the operations at the Herculaneum smelter. The cases were brought
in the Circuit Court of the City of St. Louis: Meyer,
et al. v. Fluor Corporation, et al. (formerly known as Mitchell, et al. v.
Fluor
Corporation, et al.),
Doyle,
et al. v. Fluor Corporation, et al.
and
Figge,
et al. v. Fluor Corporation et al.,
all
filed July 9, 2001; Gross
v. Fluor Corporation et al.,
filed
May 9, 2002; Warden,
et al. vs. Fluor Corporation et al.,
filed
September 12, 2002; Cross
v. Fluor Corporation et al.,
filed
January 10, 2003; Johnson,
et al. v. Fluor Corporation, et al.
and
Browning,
et al. v. Fluor Corporation, et al.,
both
filed September 9, 2003; Farrow,
et al. v. Fluor Corporation, et al.,
filed
May 6 2005; Dawson,
et al. v. Fluor Corporation, et al., Alexander, et al. v. Fluor Corporation,
et
al., Pedersen, et al. v. Fluor Corporation, et al., Heilig, et al. v. Fluor
Corporation, et al., Lynch, et al. v. Fluor Corporation, et al., Brown II v.
Fluor Corporation, et al., Whaley, et al. v. Fluor Corporation, et al., Duncan,
et al. v. Fluor Corporation, et al., Meyer v. Fluor Corporation, et al., Edmond,
et al. v. Fluor Corporation, et al., Lucas, et al. v. Fluor Corporation, et
al.,
McCoy v. Fluor Corporation, et al., and
Damazyn,
et al. v. Fluor Corporation, et al., all
filed
August 25, 2005;and
Joyner,
et al. v. Fluor Corporation, Miller, et al. v. Fluor Corporation, et al.,
Wamble, et al. v. Fluor Corporation, et al., Hawley, et al. v. Fluor
Corporation, et al., Wren, et al. v. Fluor Corporation, et al. , Jarvis v.
Fluor
Corporation, et al., and
Ruessler, et al. v. Fluor Corporation, et al., all
filed
August 26, 2005.
The
Doyle,
Meyer,and
Johnson
cases
are class action lawsuits. In the Doyle
and
Johnson
cases,
the plaintiffs seek to have certified a class of property owners in a certain
section of Herculaneum, alleging that property values have been damaged due
to
the operations of the smelter. In the Meyer
case,
plaintiffs seek to have certified a class of children who lived in Herculaneum
during a period of time when they were six years old or younger and children
born to mothers who lived in Herculaneum during their pregnancies. The remedy
sought is medical monitoring for the class. The trial court has granted the
property class action in Doyle,
but has
denied the medical monitoring class action in Meyer.
Both
decisions are being appealed.
The
remainder of the 29 cases are personal injury actions by 161 individuals who
allege damages from the effects of lead poisoning they attribute to operations
at the smelter and seek punitive damages.
Doe
Run
is also a defendant in a wrongful death action, Schmidt-Sido,
et al., v. Doe Run Resources Corporation,
filed
August 26, 2005, concerning an individual who drowned in the City of
Herculaneum. The lawsuit was filed in the circuit court of the City of St.
Louis, Missouri.
Doe
Run
is a defendant in 17 lawsuits alleging certain damages from past mining
operations in St. Francois County, Missouri (one suit also alleges exposure
to
operations in Iron County) filed in the Circuit Court of the City of St. Louis,
Missouri: Dowd,
et al. v. Fluor Corporation, et al., filed
July 9, 2001; Lee
Ann Stotler and Keely Stotler v. Fluor Corporation, et al. and
Layne
Stotler v. Fluor Corporation, et al.,
both
filed January 10, 2002; Mullins
v. Fluor Corporation, et al.
and
Mullins
II v. Fluor Corporation, et al.,
both
filed April 15, 2002; Shannon
v. Fluor Corporation, et al., White, et al. v. Fluor Corporation, et al.,
Stotler, et al. v. Fluor Corporation, et al., Sorbello, et al v. Fluor
Corporation, et al,
and
Brewer v. Fluor Corporation, et al.,
all
filed August 24, 2005;
Mullins II, et al. v. Fluor Corporation, et al., Losh, et al. v. Fluor
Corporation, et al., Burnia, et al. v. Fluor Corporation, et al., Ball v. Fluor
Corporation, et al.,
and
Snyder, et al. v. Fluor Corporation, et al.,
all
filed August 25, 2005; and Politte,
et al. v. Fluor Corporation, et al
and
Baker v. Fluor Corporation, et al.,
all
filed August 26, 2005.
The
Lee
Ann Stotler,
Layne
Stotler, Mullins, and
Mullins
II
cases
are class action lawsuits. The Lee
Ann Stotler
and
Layne
Stotler cases
are
class actions for property damages and medical monitoring, respectively,
concerning alleged damages caused by tailings and related operations in Bonne
Terre. The Mullins
and
Mullins
II cases
are
class actions for property damages and medical monitoring, respectively,
concerning alleged damages caused by chat, tailings and related operations
in
six areas in St. Francois County, Missouri.
The
remainder of the 17 cases are personal injury actions by 28 individuals who
allege damages from the effects of lead poisoning they attribute to chat,
tailings and related operations and seek punitive damages.
Doe
Run,
with several other defendants, was named in several lawsuits alleging personal
injuries as a result of lead poisoning from exposure to lead paint and
tetraethyl lead dust. While filed in the summer of 2000, these suits have not
been served on Doe Run: Hall
v. Lead Industries Association, Inc., et al.,
Hart
v. Lead Industries Association, Inc., et al.,
Williams
v. Lead Industries Association, Inc., et al.
and
Randell
v. Lead Industries Association, Inc., et al.
The
suits were all filed in the Circuit Court of Baltimore, Maryland and seek
damages, including punitive damages.
Doe
Run
is a defendant in a lawsuit by the BNSF Railway Company, who has
alleged that Doe Run and other companies associated with lead mining operations
in Missouri are responsible for property damage at certain rail yards and for
contribution and indemnity for costs incurred by the BNSF associated with
settlement by BNSF of lead exposure cases. Although the demands in the complaint
indicate that some amount of material liability is reasonably possible,
given the early stage of this case and the uncertainty as to relative fault
among the defendants, we are unable at this time to estimate the expected
outcome and any final costs of this action or provide a reasonably possible
range of these amounts.
B.H.,
et al. v. Gold Fields Mining Corporation, et al. and
R.S.,
et al. v. Gold Fields Mining Corporation, et al., were
filed on July 19, 2004 in the U.S. District Court for the Northern District
of
Oklahoma and the District Court of Ottawa County, Oklahoma, respectively,
against four companies, including Doe Run, alleging personal injury to 45 and
three minors, respectively, resulting from past mining operations in Ottawa
County, Oklahoma. The latter case has been removed to the U.S. District Court
for the Northern District of Oklahoma. These two cases have been consolidated,
and six of the 48 plaintiffs have been dismissed from the case.
Two
class
action suits, Cole,
et al. v. Asarco, Inc., et al.,
filed
May 14, 2003, and Evans,
et al. v. Asarco Inc., et al.,
filed
February 9, 2004, were filed in the U.S. District Court for the Northern
District of Oklahoma, alleging personal injury and property damage in Picher,
Oklahoma and Quapaw, Oklahoma respectively. Brewer,
et al. v. Asarco, Inc., et al., was
filed
on July 8, 2003, and Moss,
et al. v. Asarco, Inc., et al., Nowlin, et al. v. Asarco, Inc., et al., Sargent,
et al. v. Asarco, Inc., et al.
and
South,
et al. v. Asarco, Inc., et al.,
were
filed July 29, 2003 in the District Court of Ottawa County, Oklahoma and allege
personal injury to children living in Picher, Oklahoma. These cases were
subsequently removed to the U.S. District Court for the Northern District of
Oklahoma and have been consolidated. Another class action suit, The
Quapaw Tribe of Oklahoma, et al. v. Asarco, Inc., et al.,
was
filed in the U.S. District Court for the Northern District of Oklahoma on
December 10, 2003 against seven companies, including Doe Run. This action
alleges damage to natural resources and to property of members of the Quapaw
Tribe.
Priesmeyer
v. Union Carbide, et al.
was
filed in the Circuit Court of Madison County, Illinois on May 16, 2002, alleging
that a contractor was injured by exposure to asbestos and is seeking
reimbursement for damages, but Doe Run has not been properly served. Doe Run
received notice that a similar suit, Hawrylak
v. Allied Glove Corp., et al.
was
filed on May 16, 2003 in the Court of Common Pleas of Lawrence County,
Pennsylvania. Straussner
v. Union Carbide Corp., et al.,
an
asbestos suit originally filed on February 25, 2003, was dismissed on June8,2005. A new suit, Straussner
v. Union Carbide Corp., et al.,
was
filed on September 13, 2005 in the Circuit Court of Madison County, Illinois
against 88 corporations, including Doe Run, alleging that a contractor has
a cancer caused by exposure to asbestos. Overberg
v. Arch City Drywall Supply, et al.,
an
asbestos suit filed in the Circuit Court of the City of St. Louis, was dismissed
on October 12, 2005. A tentative settlement has been reached in Pagano
and Roti v. Anheuser-Busch, Inc., et al.,
an
asbestos suit filed in the Circuit Court of Madison County, Illinois on December17, 2004.
Doe
Run
is in a commercial dispute with a buyer concerning one ocean shipment of lead
concentrates. Buyer is seeking reimbursement of expenses incurred to address
a
large amount of water that appeared during the voyage on top of concentrates
in
the forward holds. This contract dispute is in arbitration before the
LME.
Doe
Run
is a defendant in a lawsuit by Korea Zinc Co. and affiliates filed on January19, 2006 in the Circuit Court of St. Louis County, concerning alleged violations
of an agreement regarding the sale of zinc concentrates. Doe Run disputes the
claim and will seek dismissal because the dispute should be subject to
arbitration.
On
December 26, 2003, Peru’s tax authority, SUNAT, notified Doe Run Peru of an
income tax assessment for the 1998 tax year. On December 23, 2004, assessments
were received for tax years 1999 through 2001. The assessments primarily relate
to Doe Run Peru’s income tax treatment of the December 1997 merger of Doe Run
Peru and Metaloroya S.A., which was purchased by Doe Run Peru in October 1997,
and its effects on subsequent years’ taxable income. Under the assessment by
SUNAT, the tax basis of Doe Run Peru’s fixed assets acquired would decrease,
resulting in lower tax depreciation expense than originally claimed. The
assessed amount, consisting of additional income taxes due, penalties and
interest, as of October 31, 2005, totals approximately $109.0 million. We
estimate that the effect of a similar assessment for tax years after 2001 would
be approximately $30.3 million.
Furthermore,
Doe Run Peru would also be required to make additional workers’ profit sharing
payments equal to 8% of the increase in taxable income generated by the changes
discussed above, or approximately $11.2 million for tax years 1998 through
2005.
On
November 15, 2004, SUNAT notified Doe Run Peru of a Value Added Tax (VAT)
assessment for the
period from January through July 2004.
On
December 23, 2004, Doe Run Peru received additional VAT assessments for tax
years 1999 through 2001. The assessments primarily relate to Doe Run Peru’s
exports with holding certificates and differences in a tax credit application.
The total assessment for these periods was approximately $43.5 million. SUNAT
offset the amount assessed for 2004 of $2.3 million against Doe Run Peru’s VAT
receivable balance from July 2004. Future VAT reimbursements cannot be used
to
offset the assessment by SUNAT. The Company discontinued use of the holding
certificates for exports in June 2004. We estimate expected additional
assessments related to VAT for tax years 2002 and 2003 to total approximately
$20.2 million in regard to its exports with holding certificates.
Management
believes that in each case Doe Run Peru has followed the applicable Peruvian
tax
statutes and intends to pursue all available administrative and judicial
appeals. Doe Run Peru is not required to make any payments pending the
administrative appeal process. If Doe Run Peru is not successful in the
administrative appeal processes and were to appeal in the judicial system,
some
type of financial assurance would be required.
All
existing and pending litigation at the time of the acquisition of Doe Run Peru
were retained by Centromin, the prior owner of the La Oroya smelter and Cobriza
mine. Centromin
has also agreed to indemnify Doe Run Peru against environmental liability
arising out of its prior operations and their apportioned share of any other
complaint related to emissions.
Doe
Run
Peru is a defendant in 198 lawsuits in the Lima, Peru labor courts that allege
damage to workers from industrial diseases. Doe Run Peru has made claims in
most
of the cases against Centromin and has also made claims against both
governmental agencies and private companies that provide workers’ insurance. The
average claim is $18. Of 17 concluded cases in this category, 16 were dismissed
and one resulted in an award of $9.
Doe
Run
Peru is also a defendant in 163 lawsuits by workers alleging that they are
owed
certain differences in salaries and benefits. The average claim is $21. Of
31
concluded cases in this category, 26 were dismissed and five resulted in awards
totaling $15. Doe Run Peru is also a defendant in a lawsuit by the Yauli-La
Oroya Employees Union concerning salaries and benefits. The claims of the 146
workers remaining in the lawsuit have been valuated at a total of $238 according
to a report by an expert appointed by the court.
Doe
Run
Peru is also a defendant in 26 lawsuits alleging claims ranging from industrial
diseases to salary disputes, including indemnification for arbitrary dismissal,
nullity of dismissal, moral damage compensation, compensatory damages from
work
accident and readmission of worker. The average claim is $6. Of 29 concluded
cases in this category 26 were dismissed and three resulted in awards totaling
$22.
The
amount of awards in the various categories of lawsuits referenced above
represent total judgments issued by the relevant courts. For certain of these
lawsuits, Centromin will pay a portion of the total award.
On
January 19, 2005, Doe Run Peru was served with a lawsuit by an association
of
municipalities of the Junin Region of Peru against Doe Run Peru and two other
mining companies. This lawsuit alleges environmental damages to the Mantaro
River basin in the amount of $5.0 billion. Material liability to Doe Run Peru
is
believed to be remote because it is the opinion of management and outside
counsel for Doe Run Peru that the probability under Peruvian law of
this case proceeding to a conclusion at the favor of the plaintiffs is low.
Any
potential judgment would be subject to the indemnification obligations of
Centromin, which are guaranteed by the Peruvian government.
On
May25, 2005, Doe Run Peru was served with a civil lawsuit alleging the existence
of
lead in a person caused by Doe Run Peru’s operations. The claim is for $100.
On
July11, 2003, Doe Run Peru filed an administrative lawsuit against the Yauli -
La
Oroya Provincial City Hall in order to dismiss a number of fines for the amount
of $2.8 million. Doe Run Peru was fined for not having construction licenses
for
the PAMA projects.
Doe
Run
is a party to a number of orders with various regulatory agencies that require
ongoing expenditures for compliance. See “Item 8. Financial Statements and
Supplementary Data—Note 19 to Consolidated Financial Statements” for a
discussion of these matters.
We
are
unable at this time, except as noted, to estimate the expected outcome and
the
final costs of these actions. No amounts have been accrued as liabilities
related to these actions. There can be no assurance that these cases will not
have a material adverse effect, both individually and in the aggregate, on
our
results of operations, financial condition and liquidity. We have and will
continue to vigorously defend ourselves against these claims.
Refer
to
“Item 8. Financial Statements and Supplementary Data—Notes 13, 19 and 20 to
Consolidated Financial Statements” for further information regarding the
aforementioned legal proceedings.
The
following discussion and analysis should be read in conjunction with our
condensed consolidated financial statements and the notes thereto and other
financial information included herein.
Overview
Metal
prices
Metal
prices extended their dramatic rise during 2005, continuing on an upward trend
that began in mid-2003. Lead prices increased from a LME settlement monthly
average of $847.40 per short ton in October 2004 to $911.40 per short ton in
October 2005. The Company benefited from this price increase in both its U.S.
operations’ lead metal and lead concentrate sales. See further discussion below
in “Results
of Operations—Impact of Metals Pricing.”
Primarylead
operations
In
response to continued strong metal prices, our primary lead division made
significant changes to operations in 2005. The lead grade of ore mined was
lowered approximately 5% compared to the 2004 period, while the tonnage
processed increased by 10%. These changes were made in an effort to optimize
the
return on Doe Run’s ore reserves. As in the previous year, Doe Run continued to
sell a substantial portion of the lead concentrates produced from its mines
into
the open market.
A
major
development project was started at the south end of the Company’s Fletcher mine
to access an ore body known as RC Westfork. We expect to complete this
development project in 2006.
Lead
production from the Herculaneum primary smelter in 2005 was 5% lower than in
2004, primarily as a result of production interruption due to storm damage
to
some process buildings. Environmentally, the smelter did not meet the ambient
air standard at the nearby Broad Street monitor in three of four quarters during
the period. All other results were in attainment. The State Implementation
Plan
(“SIP”) will be revised to address attainment and maintenance of the standards
and may include engineering controls and a buffer zone.
Recycling
operation
Our
recycling operation produced approximately 2% more lead in 2005 than in 2004.
The increase is the result of 7% more batteries being processed than in 2004.
This is the 12th
consecutive year that Buick Resource Recycling has set a new production record
for the volume of batteries recycled.
The
mix
of feed into Buick Resource Recycling continues to be an issue that is limiting
production. A tight scrap market and the reduced availability of high lead
content feed have adversely affected production and costs at the division.
Production
costs at both the primary lead division and the recycling operation were up
substantially due to inflationary cost increases of raw materials, coke, fuels
and repair parts. The increased costs were partially offset by savings realized
from the implementation of lean manufacturing principles at the
operations.
Doe
Run Peru
Doe
Run
Peru is subject to numerous requirements pursuant to La Oroya’s PAMA. See “Item
1. Business - Doe Run Peru’s Operations - Environmental Matters.” Doe Run Peru
expects that it will not be able to comply with the spending requirements of
La
Oroya’s PAMA investment schedule in 2006 with respect to the construction of the
sulfuric acid plant required by the PAMA and, as a result, could be subject
to
penalties. Failure to comply with PAMA could result in the forced cessation
of
operations at the La Oroya smelter, which would adversely affect our business,
financial condition and results of operations.
On
December 29, 2004 the Peruvian Government issued Supreme Decree No. 046-2004-EM
(Supreme Decree), which recognized that exceptional circumstances may justify
an
extension of one or more projects within the scope of a PAMA. The Supreme
Decree specifies that companies had until December 31, 2005 to apply for an
extension. The maximum extension is for three years, and the MEM may
authorize an additional year based upon the results of a health risk
study.
Doe
Run
Peru applied for an extension to complete the construction of the sulfuric
acid
plant contemplated by the original PAMA on December 20, 2005.
Upon
approval of a modified PAMA, Doe Run Peru would be required to create a trust
account. The trust account would administer the receipts and disbursements
related to the extended PAMA project. The Supreme Decree requires that receipts
from sales, in an amount sufficient to fund the monthly cash requirements of
the
extended PAMA project, be remitted directly to the trust account.
The
Supreme Decree also requires that, within 30 days of the approval of the PAMA
extension, the Company provide financial security in an amount equal to 20%
of
the projected cost of the project or projects to be extended. The company
currently expects the remaining investment needed to build the sulfuric acid
plant to be approximately $102.0 million.
To
achieve the financial guarantee and the trust contract required by Supreme
Decree, Doe Run Peru has amended the Doe Run Peru Revolving Credit Facility
to
allow for those arrangements and has filed a draft of a trust guarantee contract
with a Peruvian bank. Additionally, on December 10, 2005 Doe Run Peru signed
a
Working Capital Financial Facility Agreement for the amount of $30,000 (named
Ferrites Loan) with Servicios Mineros Integrados S.A.C. a Trafigura Beheer
B.V.,
subsidiary, to use such funds in the fulfillment of the financial security
requirements of the extended PAMA project.
Doe
Run
Peru has performed other environmental projects to reduce fugitive emissions
in
2005 including the installation work on the short rotary furnace, enclosing
the
blast furnace and dross plant, along with other complementary work. Major
projects scheduled for fiscal year 2006 include an upgrade of the ventilation
system in the Sinter plant, completion of the
enclosure
work around the lead and dross furnace, the
enclosure of the anode residue plant along with the elimination of its nitrous
gases, and the reduction of fugitive emissions from the copper and lead beds.
The total cost of the currently remaining PAMA projects, including the sulfuric
acid plant construction, and these projects is approximately $130.0
million.
Management
believes that Doe Run Peru will obtain an approval of an extension to complete
the sulfuric acid plant. There is no assurance, however, that Doe Run Peru
will
receive an extension, or, if it does, that the project will be completed within
the time limitation specified by the Supreme Decree.
In
the
future, as part of a modernization plan and to enrich sulfurous gas feed to
the
sulfuric acid plant, we are planning to replace the oxy-fuel reverberatory
furnace with a reactor furnace to smelt copper concentrates. The anticipated
cost is approximately $57 million.
Doe
Run
Peru has developed a business plan that identifies several revenue generating
and cost reduction activities. Management believes the plan will enhance
liquidity, which will improve Doe Run Peru’s ability to make the investments
under the proposed modifications to the PAMA. In fiscal year 2005 Doe Run Peru
launched its zinc ferrites processing plant, which, as of October 31, 2005,
is
producing 845 tons/month of high silver, zinc concentrates valued at
approximately $991 per ton.
Doe
Run
Peru has received income tax assessments from Peru’s tax authority, SUNAT for
tax years 1998 through 2001. The assessments primarily relate to Doe Run Peru’s
income tax treatment of the December 1997 merger of Doe Run Peru and Metaloroya
S.A., which was purchased by Doe Run Peru in October 1997, and its effects
on
subsequent years’ taxable income. Under the assessment by SUNAT, the tax basis
of Doe Run Peru’s fixed assets acquired would decrease, resulting in lower tax
depreciation expense than originally claimed. The estimated assessed amount
consisting of additional income taxes due, penalties and interest as of October31, 2005 totals approximately $109.0 million. The Company estimates that the
effect of a similar assessment for tax years after 2001 would be approximately
$30.3 million. Furthermore, Doe Run Peru would also be required to make
additional workers’ profit sharing payments equal to 8% of the increase in
taxable income generated by the changes discussed above, or approximately $11.2
million for calendar years 1998 through 2005.
Doe
Run
Peru has also received Value Added Tax (VAT) assessments for the tax years
1999
through 2001 and for the period from January through July 2004. The assessments
primarily relate to Doe Run Peru’s exports with holding certificates and
differences in a tax credit application. The total assessment for these periods
was approximately $43.5 million. SUNAT offset the amount assessed for 2004
of
approximately $2.3 million against Doe Run Peru’s VAT receivable balance from
July 2004. Future VAT reimbursements cannot be used to offset the assessment
by
SUNAT. The Company discontinued the use of holding certificates for exports
in
June 2004. The Company estimates expected additional assessments related to
VAT
for tax years 2002 and 2003 to total approximately $20.2 million in regard
to
its exports with holding certificates.
Results
of Operations
Impact
of Metals Pricing
Our
results for 2005 reflect significant increases in the market prices of lead,
copper, zinc and silver as compared to 2004. The following table sets forth
average LME prices for lead, copper and zinc and the average London Bullion
Market Association (LBMA) price for silver for the periods indicated:
The
average annual LME lead price increased in 2005 by over $111.00 per short ton,
or 15%, from 2004. This increase was a result of several factors, including
reduced supply of both lead concentrates and lead metal in the world market
and
an increase in global lead demand, particularly from China. Previously, the
price had declined approximately 38% from 1996 through mid-2003. These low
lead
prices from 1996 through mid-2003 resulted in several lead producing mines
closing, suspending operations or reducing production, mainly in North America
and Australia.
In
the
United States and Western Europe, however, lead demand continues to decline
as
lead consuming industries move to lower labor cost areas. In the U.S., this
movement has been most pronounced in automotive lead-acid batteries. Conversely,
U.S. lead consumption in industrial batteries rebounded sharply in 2005 in
line
with overall economic improvements. The net result has been a significant
tightening in lead metal availability.
Copper
prices continued their strong rebound in 2005 from historically low prices.
The
copper price increased by nearly $695.00 per short ton, or 28%, from 2004 to
2005. Again, Chinese demand was the main influence. The high copper prices
have
resulted in several producers announcing the re-opening of closed mines or
increasing copper production of existing mines. Several commodity-forecasting
services are predicting a balanced market of copper concentrates in 2006,
ultimately resulting in the refined copper market moving into surplus by
2006.
Zinc
prices have also recovered from the lows set in 2002. Fundamentals for zinc
improved as zinc metal consumption exceeded zinc production in 2005. Zinc
prices, like lead and copper, also benefited from a weak U.S. dollar. Currently,
demand for zinc concentrates is exceeding the supply, making the market very
competitive.
Changes
in the market prices for metals expose us to variability in our cash receipts.
We employ a commodity price risk management strategy using forward sales
commitments, futures and commodity put and call option contracts. The purpose
of
our price risk management program is to limit our risk to acceptable levels,
while enhancing revenue through the receipt of option premiums. See the
discussion in “Item 7A. Quantitative and Qualitative Disclosures About Market
Risk.”
As
with
lead prices mentioned above, low zinc and copper prices in the preceding five
years have induced mine closures and cutbacks and slowed the development of
new
copper, zinc and lead projects. In addition, new smelting capacity has come
on
stream in China and India, increasing demand for concentrates. As a result,
supplies of lead and zinc concentrates have been very tight. Copper
concentrates, however, are no longer in tight supply due to the re-opening
of
closed mines and increased copper production of existing mines.
Production
The
following table sets forth our production statistics for the periods indicated:
In
response to continued strong lead metal market conditions at the beginning
of
2005, we made a number of changes in our U.S. primary lead division during
the
year. We increased the amount of tons of ore mined at the Viburnum-29,
Viburnum-35 and Sweetwater mines, knowing that we would be mining a slightly
lower lead grade of ore for 2005 due to the extra ore from Viburnum-29,
Viburnum-35 and Sweetwater being relatively low grade. The net effect of these
changes was that our lead grade of ore processed lowered from 5.73% in 2004
to
5.36% in 2005, but the volume of ore processed increased by over 535,000 tons,
or 11%, from 2004 to 2005. Although the volume of ore mined increased by 11%
in
2005 versus 2004, our expected total ore volume was 2% less than planned because
of less than planned production from the Sweetwater Mine. The Sweetwater Mine
ore production shortfall was due to poor development results from the south
end
of the mine that limited the availability of production areas. Current
production plans include the extraction of pillars and a retreat from the south
end of the Sweetwater Mine with the abandonment of the last development to
the
south. We expect these changes will raise the grade of ore mined from Sweetwater
and reduce its operating costs for the 2006 period. Also, technical changes
made
to the pillar recovery process in 2004 allowed the Buick mine to substantially
improve its performance in 2005.
Gross
operating costs from the mining operations were just over 8% over the amount
planned for 2005, with some major consumable costs increasing over 20%. Major
consumable costs include items such as tires, explosives, diesel fuel, repair
parts and grinding media. The benefits derived from the continued implementation
of lean manufacturing principles helped offset some of the inflationary cost
increases. Manpower at our U.S. primary lead division mining operations
increased by 6% as compared to 2004 in order to process the higher ore
volume.
We
started a major development to the south end of the Fletcher mine in 2005 and
will continue that development throughout 2006. It accesses a new major ore
body
called RC Westfork. The total development is 5,000 feet, and is approximately
50% complete at October 2005. As
of
October 2005 the RC Westfork ore reserves are 2.9 million tons of ore grading
6.65% lead and 0.83% zinc. Exploration drilling will continue in
2006.
In
2005,
production at the Herculaneum primary smelter was 155,800 tons, over 5% less
than 2004. This was primarily due to storm damage to the sinter plant process
building in the third quarter of 2005 that required several days for repair
and
sealing of the building. Production was curtailed during this period and was
intermittently curtailed throughout the quarter to control emissions.
Blast
furnace slag chemistry control also contributed to some production shortfall
in
the third quarter of 2005. The reduced production combined with inflationary
cost increases of coke, natural gas and repair parts resulted in higher unit
costs. Process control changes and the completion of repairs to the sinter
and
acid plants resulted in increased fourth quarter production.
Environmentally,
the Herculaneum primary smelter did not meet the ambient air lead standard
at
the Broad Street monitoring station in the first three quarters of 2005.
However, it was in attainment for the fourth quarter. All other monitoring
stations’ results were in attainment. Since the air quality monitors reflected
three quarters of non-compliance, the permitted annual capacity of the
Herculaneum primary smelter decreased from 250,000 to 200,000 tons, which does
not affect results at current production levels.
Our
recycling operation produced 136,500 tons of finished lead products in 2005,
approximately 2% more than the prior year. However, production was less than
management’s expectations for 2005. The production shortfall was the result of
lower blast furnace production due to poor coke quality and high levels of
sulfur in the feed. Coke quality improved during the second half of the year,
and we made process changes to the slag handling system at the reverb furnace
that have reduced sulfur levels in the feed to the blast furnace. October’s
blast furnace production was about 20% greater than the average production
rate
during the balance of the year.
Unit
operating costs at the recycling operation were higher than expected due to
both
the production shortfall described earlier and inflationary cost increases,
particularly coke, propane and repair parts. The recycling operation made
additional improvements to the desulfurization circuit in 2005 that allowed
it
to process 7% more scrap batteries in the period compared to the prior period.
This represented the 12th
consecutive year that Buick Resource Recycling set a new record for tons of
batteries processed. These improvements were the main contributor to the
increase in production in 2005 versus 2004.
Doe
Run
Peru’s La Oroya smelter copper production was affected by frequent stoppages to
reduce gaseous emissions and to perform maintenance on the reverberatory
furnace, however not to the extent in 2004, therefore the overall result was
an
increase in copper production of 2% in 2005 as compared to 2004. Temperature
inversions experienced at La Oroya can trap gases in the mountain peaks
surrounding the plant. In order to reduce the level of gases, management may
cease operations of the reverberatory furnace and copper converters. The
temperature inversions also caused increased maintenance to replace the bricks
in the furnace, since repeated heating and cooling shorten the life of the
bricks. Receipts of lead concentrates improved in 2005, resulting in a 2%
increase in lead production in 2005 compared to 2004. Feed costs increased
substantially as a result of the increase in metal prices.
Ore
production at Doe Run Peru’s Cobriza mine in 2005 was approximately 10% higher
than 2004; however, ore grade was 9% lower. The net result was that metal
content decreased by 1% from 2004 to 2005. Management is implementing corrective
actions to address ground stability issues based on studies by the Company’s
technical services personnel and outside consultants. Cobriza is in the process
of obtaining new equipment, which management believes should improve production
volume.
The
aging
of the Company’s assets has resulted in increased maintenance costs to keep them
in condition to operate at current levels. All operations have seen an increase
in maintenance costs over comparable periods in prior years.
Results
of operations for the years ended October 31, 2005, 2004 and 2003 include the
results of the Company’s U.S. operations and Doe Run Peru. In order to provide a
more meaningful analysis, the results of operations attributable to Doe Run
Peru
will be noted and discussed separately under “Results
of Doe Run Peru.”
Fiscal
2005 Compared to Fiscal 2004
Gross
margin increased
from $60.8 million in 2004 to $94.2 million in 2005 and gross margin for our
U.S. operations increased from $36.8 million in 2004 to $57.5 million in 2005.
The increase in gross margin from 2004 to 2005 was primarily due to an increase
in our U.S. sales of approximately $84.3 million from 2004 to 2005. The largest
factor driving our increased sales was a 30% increase in the U.S. operation’s
realized prices for lead metal, fueled by higher LME prices, which contributed
$49.3 million in sales in 2005. The increase in the lead metal net realized
price in 2005 was more than the increase in the average LME settlement price,
due to the effects of our risk management strategy, which reduced our exposure
to changes in the market price in an attempt to fix an acceptable price for
its
products. Increases in copper and zinc metal prices in 2005, which fueled an
increase in the net realized price for copper and zinc concentrate sales and
the
increase in lead concentrate prices in 2005 contributed an additional $7.0
million and $7.4 million of sales in 2005, respectively. Our increased U.S.
sales were partially offset by additional production costs at the U.S.
operations in 2005 driven by the increases in repairs and maintenance costs,
payroll and benefit costs, higher feed and raw material costs and the effects
of
the change in feed mix on the production at the recycling
operation.
Gross
margin is net sales less cost of sales, including depreciation, depletion,
and
amortization attributable to cost of sales disclosed in the table
below.
Depreciation,
Depletion and Amortization Attributable to Cost of Sales
(dollars
in the millions)
2005
2004
2003
U.S.
operations
$
11.3
$
12.3
$
17.7
Consolidated
$
23.5
$
24.3
$
29.3
Selling,
general and administrative costs
increased $10.3 million in 2005 compared to 2004, $4.5 million of which relates
to Doe Run Peru. The increase was due to increased salaries and employee benefit
costs, increase in professional services and an increase in insurance
expense.
Losses
from impairment and disposal of long-lived assets
relate
primarily to recognition of impairment losses for the value of houses purchased
in Herculaneum relating to properties purchased under a residential property
purchase plan in the town of Herculaneum.
As
of
October 31, 2005, a total of 149 homeowners had requested and were delivered
offers, and 142 of those offers had been accepted. As of October 31, 2005,
the
Company had spent approximately $10.0 million under the residential property
purchase plan. Another $1.1 million of accepted offers are awaiting a closing
date and $0.4 million in outstanding offers have not been accepted. Doe Run
has
complied in all material respects with the property purchase provisions of
the
settlement agreement.
Unrealized
(gain) and loss on derivative financial instruments
arerelated
to the change in fair market value of derivative financial instruments that
were
a part of Doe Run’s risk management strategy. The increase in unrealized gains
from 2003 to 2005 is the result of the continual rise in the LME price over
that
period. See also “Item 7A. Quantitative and Qualitative Disclosures About Market
Risk.”
Income
tax expense (benefit) in
2004
reflects a reversal of a U.S. federal income tax liability and a change in
tax
law in Peru. In 2004, the Company reversed a U.S. federal income tax liability
related to years that are closed to audit of $2.8 million. Offsetting this
reversal were taxes of $2.2 million paid in the third quarter of 2004 pursuant
to a law passed in Peru in December 2003, under which certain technical services
that Doe Run provided under an agreement with Doe Run Peru are taxed at 30%.
Renco
has
elected for the Company to be treated as a qualified subchapter S subsidiary
(QSSS) for U.S. federal tax purposes. Most states in which the Company operates
will follow similar tax treatment. QSSS status requires the ultimate
shareholders to include their pro rata share of the Company’s income or loss in
their individual tax returns. As a result of the Company’s tax status in the
U.S., the Company is not generally subject to U.S. federal and most state income
taxes; however, under a tax sharing agreement with Renco, the Company is liable
to Renco for pro forma federal and state income taxes as defined in the
agreement. See “Item 13. Certain Relationships and Related Transactions” for
more information.
Fiscal
2004 Compared to Fiscal 2003
Gross
margin
increased from $12.2 million in 2003 to $60.8 million in 2004 and gross margin
for our U.S. operations increased from $8.4 million in 2003 to $36.8 million
in
2004. The increase in gross margin from 2003 to 2004 was primarily due to an
increase in U.S. sales of approximately $54.8 million from 2003 to 2004. The
largest factor driving our increased sales was a 35% increase in the U.S.
operation’s realized prices for lead metal, fueled by higher LME prices, which
contributed $61.4 million in sales in 2004. The increase in the lead metal
net
realized price in 2004 was less than the increase in the average LME settlement
price, due to the effects of our risk management strategy, which reduced our
exposure to changes in the market price in an attempt to fix an acceptable
price
for its products. Increases in copper and zinc metal prices in 2004, which
fueled an increase in the net realized price for copper and zinc concentrate
sales and the increase in lead concentrate prices in 2004, contributed an
additional $9.1 million and $9.4 million of sales in 2004, respectively. Our
increased U.S. sales were partially offset by additional production costs the
U.S. operations in 2004 driven by the increases in repairs and maintenance
costs, payroll and benefit costs, higher feed and raw material costs and the
effects of the change in feed mix on the production at the recycling operation.
Selling,
general and administrative costs
increased $7.4 million in 2004 compared to 2003, $1.4 million of which relates
to Doe Run Peru. The remaining increase was due primarily to insurance refunds
received in 2003 applicable to legal fees incurred in a previous fiscal year
and
credited to selling, general and administrative costs and to increased salaries
and employee benefit costs and insurance expense.
Losses
from impairment and disposal of long-lived assets
relate
primarily to recognition of impairment losses for the value of houses purchased
in Herculaneum relating to properties purchased under a residential property
purchase plan in the town of Herculaneum.
Unrealized
losses on derivative financial instruments arerelated
to the change in fair market value of derivative financial instruments that
were
a part of Doe Run’s risk management strategy. The decrease in unrealized losses
in 2004 compared to 2003 is the result of the substantial increase in the LME
price at the end of 2003, which caused large unrealized losses to be recognized
in the fourth quarter of 2003. See also “Item 7A. Quantitative and Qualitative
Disclosures About Market Risk.”
Income
tax expense (benefit) in
2004
reflects a reversal of a U.S. federal income tax liability and a change in
tax
law in Peru. In 2004, the Company reversed a U.S. federal income tax liability
related to years that are closed to audit of $2.8 million. Offsetting this
reversal were taxes of $2.2 million paid in the third quarter of 2004 pursuant
to a law passed in Peru in December 2003, under which certain technical services
that Doe Run provided under an agreement with Doe Run Peru are taxed at 30%.
Cumulative
effect of change in accounting principle resulted
in a charge of $3.9 million in the first quarter of 2003, which relates to
the
adoption of Statement No. 143.
Results
of Doe Run Peru
Fiscal
2005 Compared to Fiscal 2004
Gross
margin for
Doe
Run Peru increased from $24.1 million in 2004 to $36.7 million in 2005. This
increase is primarily due to the improvement in treatment charges received
in
processing copper and lead concentrates and free metal benefits for lead and
zinc. Also contributing to the improved gross margin were increases in sales
from by-product sales such as indium, tellurium and premium improvements for
copper and lead metal. These increases in sales were offset by higher conversion
costs primarily due to higher fuel and coke prices, increased salaries combined
with a weakened U.S. dollar, and higher maintenance, spare parts and supplies
costs.
Gross
margin is net sales less cost of sales, including depreciation, depletion,
and
amortization attributable to cost of sales disclosed in the table
below.
Depreciation,
Depletion and Amortization Attributable to Cost of Sales
(dollars
in the millions)
2005
2004
2003
Doe
Run Peru
$
12.2
$
11.9
$
11.5
Selling,
general and administrative costs
for Doe
Run Peru increased by $4.5 million in 2005 compared to the prior year. The
difference is due primarily to increases in compensation costs, professional
fees and contributions to community activities, partially offset by a decrease
in insurance expense.
Other,
net for
Doe
Run Peru increased by $1.2 million in 2005 compared to 2004, primarily due
to
exchange gains on transactions denominated in Peruvian nuevos soles as a result
of the effect of a decrease in the value of nuevos soles against the U.S.
dollar.
Income
tax expense
for Doe
Run Peru was $0 in 2005 and 2004, reflecting tax losses and management’s belief
that sufficient uncertainty exists regarding the realization of certain deferred
tax assets, which requires that a valuation allowance be
established.
Fiscal
2004 Compared to Fiscal 2003
Gross
margin
for Doe
Run Peru increased from $3.8 million in 2003 to $24.1 million in 2004. The
increase in gross margin was a result of the increase in metal prices which
fueled price related increases of $32.2 million in sales for 2004. These
increases in sales were offset by increased production costs. More specifically,
conversion costs increased slightly due to increases in maintenance, fuel and
coke costs and maintenance expense increased as Doe Run Peru completed
maintenance programs originally scheduled for 2003 in 2004. These increases
in
production costs were partially offset by lower labor costs as the benefits
of a
2003 reduction in labor were realized in 2004.
Selling,
general and administrative costs
for Doe
Run Peru increased by $1.4 million in 2004 compared to the prior year. The
difference is due primarily to increases in contributions to community and
regional activities, compensation costs and professional fees, partially offset
by a decrease in insurance expense.
Other,
net for
Doe
Run Peru decreased in 2004 compared to 2003, primarily due to exchange losses
on
transactions denominated in Peruvian nuevos soles as a result of the effect
of
an increase in the value of nuevos soles against the U.S. dollar.
Income
tax expense
for Doe
Run Peru was $0 in 2004 and 2003, reflecting tax losses and management’s belief
that sufficient uncertainty exists regarding the realization of certain deferred
tax assets, which requires that a valuation allowance be
established.
Liquidity
and Capital Resources
Overview
Doe
Run
is highly leveraged. Doe Run Peru has significant capital requirements under
environmental commitments, which, if not met, could result in defaults of the
Company’s credit agreements; has substantial contingencies related to tax; and
has significant debt service obligations that raise substantial doubt about
the
Company’s ability to continue as a going concern. These commitments require us
to dedicate a substantial portion of cash flow from operations to the payment
of
these obligations, which will reduce funds available for other business
purposes. See “Contractual
Obligations”
for a
summary of these and other contractual obligations. These factors also increase
our vulnerability to general adverse conditions, limit our flexibility in
planning for or reacting to changes in its business and industry, and limit
our
ability to obtain financing required to fund working capital and capital
expenditures and for other general corporate purposes. An unfavorable outcome
to
the lawsuits and tax assessments in Peru, as discussed in “Item 3. Legal
Proceedings,” would have a further adverse effect on our ability to meet our
obligations when due. These factors are discussed in more detail
below.
Our
auditors issued unqualified opinions on the 2005 audited consolidated financial
statements of the Company and the audited financial statements of Doe Run Peru
that expressed substantial doubt about our ability to continue as going concerns
due to net capital deficiencies, substantial debt service requirements and
significant capital requirements under environmental commitments.
Cash
Flow Summary
Net
cash
provided by or (used in) activities of the Company are identified
below.
We
had
capital expenditures of $51.3 million in 2005 and have projected capital
expenditures of approximately $54.1 million for 2006, including spending on
Doe
Run Peru’s PAMA projects. In the U.S., we had capital expenditures of $17.2
million in 2005 and have projected total capital expenditures of approximately
$14.7 million for 2006, primarily to fund expansion, to support ongoing
operations and for operational and environmental improvements, including
expenditures required pursuant to a settlement agreement with the State of
Missouri that established a residential property purchase plan in Herculaneum.
See “Item 8. Financial Statements and Supplementary Data—Note 19 to Consolidated
Financial Statements.” In addition to these capital investments, our U.S.
operations expended approximately $82.6 million, $66.5 million and $51.3 million
on repairs and maintenance for 2005, 2004 and 2003, respectively. Doe Run Peru
had capital expenditures of $34.0 million in 2005 and has projected capital
expenditures of approximately $39.4 million for 2006, primarily for PAMA
projects and to support ongoing operations. Doe Run Peru expended approximately
$22.6 million, $19.6 million and $16.8 million on repairs and maintenance for
2005, 2004 and 2003, respectively. As a result of these expenditures, we believe
that the operations will continue to maintain modern and efficient
facilities.
Capital
Resources
The
Company’s primary available sources of liquidity are cash provided by operating
activities and its two revolving credit facilities. The Doe Run revolving credit
facility allows Doe Run and certain U.S. subsidiaries to borrow up to $75.0
million and expires August 29, 2008. The availability of loans under the Doe
Run
revolving credit facility is limited to a percentage of eligible U.S. accounts
receivable and inventories, less any outstanding loans and letters of credit.
All cash received by Doe Run’s domestic operations is transferred by wire daily
to the financial institutions to pay down the
outstanding
loan balance, if any. The Doe Run Peru
revolving credit facility had an expiration date of November23, 2005, which was subsequently extended to June 23, 2006,
and
provides Doe Run Peru with working capital loans up to $40.0 million, with
a
limit on letters of credit of $5.0 million, but the total commitments may not
exceed the maximum line of $40.0 million. The balances in these revolving credit
facilities are classified as current liabilities on the balance
sheet.
Net
unused availability at October 31, 2005 under the Doe Run revolving credit
facility and Doe Run Peru revolving credit facility was approximately $22.1
million and $0.2 million, respectively. In addition to the availability under
its revolving credit facilities, cash balances at Doe Run and Doe Run Peru
were
$8.9 million and $14.6 million, respectively, at October 31, 2005. Net unused
availability at October 31, 2004 was approximately $22.5 million and $0.06
million under the Doe Run revolving credit facility and Doe Run Peru revolving
credit facility, respectively, and cash balances at Doe Run and Doe Run Peru
were $13.4 million and $6.9 million, respectively, at October 31, 2004.
The
Doe
Run revolving credit facility, the Doe Run Peru revolving credit facility,
the
term note and the indenture governing the notes contain numerous covenants
and
restrictions. They include certain requirements with respect to net worth,
working capital, EBITDA and debt to earnings ratios. These agreements also
place
limitations on capital expenditures, dividend payments and other outside
borrowings. The Doe Run Peru revolving credit facility also contains covenants
that restrict Doe Run Peru’s ability to make distributions to Doe Run in excess
of a $4.0 million management fee.
The
Company has debt service requirements in the future, as shown in “Contractual
Obligations,”
including the maturity in 2006 of $8.0 million for the term note, of which
$6.0
million was subsequently paid, and interest payments of $25.7 million for the
11.75% notes. At October 31, the Doe Run Peru revolving credit facility had
an
expiration date of November 23, 2005, which was subsequently extended to June23, 2006. It will need to be renegotiated and there can be no assurance that
we
will be successful in renewing the agreement, or if it is successful, that
the
renewal would be at terms favorable to us.
Effective
July 1, 2004, Doe Run and Doe Run Peru cancelled a sales agency agreement under
which Doe Run acted as a sales agent on behalf of Doe Run Peru. Under the
cancellation, the balance owed to Doe Run of $22.6 million will be paid in
$1.0
million quarterly installments or as otherwise agreed by the
parties.
Debt
Instruments
On
October 29, 2002, the Company consummated the Restructuring whereby most of
its
Old Notes were exchanged with a principal amount of $294.84 million, plus unpaid
accrued interest of $37.473 million, for stock warrants, exercisable for an
aggregate of approximately 39% of the fully diluted common stock of the Company
and new 11.75% notes with a principal amount of $175.832 million described
in
“Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.” In addition to the reduction of
principal, the notes improved the Company’s liquidity by extending the maturity
date to November 1, 2008, and provided that a portion of interest may be paid
in
kind with the issuance of additional notes whereby, through October 15, 2005,
interest may be paid, at the option of Doe Run, at an annual rate of either
3%
in cash and 11.5% paid in kind or 8.5% paid in cash. After October 15, 2005,
interest will accrue at the rate of 11.75% per annum and will be payable in
cash. Beginning with the April 2005 interest payment, the Company began paying
cash interest. The notes are recorded in accordance with Statement of Financial
Accounting Standards No. 15, Accounting
by Debtors and Creditors for Troubled Debt Restructurings (SFAS
No.
15). See the discussion in Significant
Accounting Policies and Estimates
for a
description of SFAS No. 15. The effect of this accounting is that Doe Run will
recognize substantially less interest expense related to the notes during their
term than is reflected in the stated rate of interest because the majority
of
the interest payments are reflected in the carrying amount of the
notes.
Our
balance sheet reflected $386.5 million and $417.3 million of total debt on
a
consolidated basis as of October 31, 2005 and 2004, respectively. The face
amount of indebtedness outstanding at October 31, 2005 and 2004 was $219.0
million.
We
were
in compliance with the covenants under the various debt agreements as of October31, 2005, with the exception of the delivery of audited financials and other
reporting requirements for the year ended October 31, 2005 by January 29, 2006
under the Doe Run Revolving Credit Facility and the Term Note. Waivers for
these
reporting defaults were received on March 17, 2006 and March 16, 2006,
respectively.
During
the period beginning on October 29, 2005 and ending on October 29, 2012, the
holders of a majority of the warrants have the right to require Doe Run to
repurchase all, but not less than all, of the warrants and any outstanding
shares
issued
upon the exercise thereof at a price equal to
the fair market value of the warrants, as determined by a third party appraisal.
Management
engaged a nationally recognized valuation firm to calculate the fair value
of
the warrants at October 31, 2005 and 2004. Management’s
estimate of the fair value of the warrants based
on
the valuation is
approximately $0.6 million at each of the years ended October 31, 2005 and
2004.
Environmental
Commitments
Our
commitments under agreements with regulatory agencies for environmental
activities are significant. Our recorded liability for environmental matters
and
asset retirement obligations was $34.7 million at October 31, 2005, which does
not include capital expenditures related to Doe Run Peru’s PAMAs. Spending
estimates may change based on the activities required, which could have a
significant adverse impact on our liquidity.
Doe
Run
Peru’s existing PAMA requires it to perform projects in 2006 at an additional
cost of $108 million. Doe Run Peru expects that it will not be able to comply
with the spending requirements of the PAMA investment schedule in 2006 with
respect to the construction of the sulfuric acid plant required by the PAMA
and,
as a result, could be subject to penalties. Failure to comply with the PAMA
could result in the cessation of operations at the La Oroya smelter, which
would
adversely affect our business, financial condition and results of operations.
Doe Run Peru submitted an application for extension discussed in the
“Overview—Doe
Run Peru”
to
modify the requirements of the existing PAMA and extend the term of the PAMA.
Doe Run Peru will perform other environmental projects to reduce fugitive
emissions, including heavy metal dust, to address the health issues of the
community. The total estimated completion cost of the PAMA projects, including
the sulfuric acid plant construction, and these projects is approximately $130.0
million. Doe Run Peru’s actual expenditures for these projects in 2005 was $12.7
million. If the extension of the PAMA is approved, management expects to fund
the PAMA projects from cash from operations. Failure to comply with the PAMA
could result in the cessation of operations at the La Oroya smelter. See the
discussion of the PAMA requirements and compliance in “Item 1. Business—Doe Run
Peru’s Operations—Environmental
Matters.”
A
default under the requirements of the PAMA could result in a default under
the
Doe Run Peru revolving credit facility. A default under the Doe Run Peru
revolving credit facility would result in a default under the Doe Run revolving
credit facility.
Management
believes that the price improvements and other revenue enhancements and the
issuance of the Supreme Decree allowing an application to extend La Oroya’s PAMA
requirement for the construction of the sulfuric acid plant will enable us
to
continue as a going concern. Our ability to meet obligations after 2005 could
be
affected by the factors discussed in “Item 1. Business—Risk
Factors”
or
an
unfavorable outcome to any of the items noted above, and, accordingly, no
assurance can be given that it will be able to meet such obligations.
Tax
Commitments
Doe
Run
Peru has received income tax assessments from Peru’s tax authority, SUNAT for
tax years 1998 through 2001. The assessments primarily relate to Doe Run Peru’s
income tax treatment of the December 1997 merger of Doe Run Peru and Metaloroya
S.A., which was purchased by Doe Run Peru in October 1997, and its effects
on
subsequent years’ taxable income. Under the assessment by SUNAT, the tax basis
of Doe Run Peru’s fixed assets acquired would decrease, resulting in lower tax
depreciation expense than originally claimed. The estimated assessed amount
consisting of additional income taxes due, penalties and interest as of October31, 2005 totals approximately $109.0 million. The Company estimates that the
effect of a similar assessment for tax years after 2001 would be approximately
$30.3 million. Furthermore, Doe Run Peru would also be required to make
additional workers’ profit sharing payments equal to 8% of the increase in
taxable income generated by the changes discussed above, or approximately $11.2
million for calendar years 1998 through 2005.
Doe
Run
Peru has also received Value Added Tax (VAT) assessments for the tax years
1999
through 2001 and for the period from January through July 2004. The assessments
primarily relate to Doe Run Peru’s exports with holding certificates and
differences in a tax credit application. The total assessment for these periods
was approximately $43.5 million. SUNAT offset the amount assessed for 2004
of
approximately $2.3 million against Doe Run Peru’s VAT receivable balance from
July 2004. Future VAT reimbursements cannot be used to offset the assessment
by
SUNAT. The Company discontinued the use of holding certificates for exports
in
June 2004. The Company estimates expected additional assessments related to
VAT
for tax years 2002 and 2003 to total approximately $20.2 million in regard
to
its exports with holding certificates.
We
believe that in each case Doe Run Peru has followed the applicable Peruvian
tax
statutes and intends to pursue all available administrative and judicial
appeals. Doe Run Peru is not required to make any payments pending the
administrative appeal process. If Doe Run Peru is not successful in the
administrative appeal processes and were to appeal in the judicial system,
some
type of financial assurance would be required, which would have a significant
adverse effect on liquidity.
Contractual
Obligations
The
following table summarizes our contractual obligations at October 31, 2005
(in
millions):
Payments
Due By Period
Less
Than
1
- 3
3
- 5
After
5
Total
1
Year
Years
Years
Years
Long-term
debt (a)
$
308.2
$
89.2
$
219.0
$
-
$
-
Redeemable
Preferred Stock (b)
28.5
-
-
28.5
-
Operating
leases
30.8
8.1
7.8
4.0
10.9
Purchase
obligations (c)
880.4
508.6
369.8
2.0
-
Royalty
obligations (d)
1.7
0.2
0.5
0.4
0.6
Pension
funding obligations
10.1
10.1
(e
)
(e
)
(e
)
Doe
Run Peru’s PAMA (f)
108.1
40.4
67.7
-
-
Total
$
1,367.8
$
656.6
$
664.8
$
34.9
$
11.5
(a)
The obligations relating to long-term debt reflect the commitments
as of
October 31, 2005 for principal payments. The amounts recorded as
long-term
debt in our financial statements in Item 8 reflect long-term debt
as
accounted for under SFAS No. 15. See “Item 8. Financial Statements and
Supplementary Data—Note 8 to the Company’s Consolidated Financial
Statements” for more information.
(b)
The
Redeemable Preferred Stock is redeemable after May 1, 2009.
(c)
Purchase
obligations include Doe Run Peru’s commitments to purchase 277,011,
178,381 and 80,689 short tons of copper concentrates, 243,611, 169,403
and
49,763 short tons of lead concentrates and 100,310, 77,823 and 14,771
short tons of zinc concentrates in 2006, 2007 and 2008, respectively.
Purchase prices are generally based on the average quoted exchange
prices
for the month of delivery, less deductions for treatment and refining
charges and impurity penalties. The estimated cost of the obligations
less
than one year was based on the following metal prices: $3,319/ton
for
copper, $865/ton for lead and $1,549/ton for zinc. The estimated
cost of
the obligations greater than one year was based on the following
metal
prices: $2,800/ton for copper, $722/ton for lead and $1,522/ton for
zinc.
(d)
Royalty obligations represent royalty commitments calculated through
the
next renewal date. As discussed in “Item 2. Properties—U.S.
Operations—Mining
Operations,”
government leases are for a period of either 10 or 20 years and are
renewable at Doe Run’s option if no default exists under the agreement,
subject to negotiation of specific terms of the lease, including
royalty
rates.
(e)
Our projected benefit obligation in excess of plan assets was $38.2
million as of October 31, 2005. Our defined benefit plan is funded
to
comply with the minimum funding requirements under ERISA. The minimum
contribution requirements will differ from year to year based on
actual
market returns, changes in assumptions, changes in plan demographics
and
any significant updates to government regulations. In order to maintain
minimum funding levels for the pension plan, the Company expects
to fund
approximately $10.1 million in 2006. Subsequent payments will be
dependent
upon the factors discussed above.
(f)
Doe Run Peru submitted an application for extension of its PAMA in
December 2005. See the discussion in “Overview” and “Environmental
Commitments”.
For
a
discussion of environmental and reclamation obligations, see “Item 8. Financial
Statements and Supplementary Data—Note 19 to Consolidated Financial Statements.”
Our recorded liability for environmental matters and asset retirement
obligations (AROs) was $34.7 million at October 31, 2005. Timing of the related
spending is dependent upon a number of factors, including the required
completion date of reclamation work under agreements with regulatory agencies
and the date of facility closures. Therefore, these obligations are not included
in the table.
Off-Balance
Sheet Arrangements
In
the
normal course of business, we are involved in certain off-balance sheet
arrangements. These include letters of credit, surety bonds and joint and
several liability with all other members of a controlled group under ERISA
for
obligations of other members of the controlled group. Liabilities related to
these arrangements are not reflected in our consolidated balance sheets. We
do
not expect any material adverse effect on the results of operations, financial
condition and liquidity to result from these off-balance sheet arrangements.
See
“Item 1. Business—Risk
Factors—Risks
Relating to Control by Renco—DOE RUN MAY HAVE OBLIGATIONS UNDER A CONTROLLED
GROUP THAT COULD HAVE A MATERIAL ADVERSE EFFECT ON US” for more information on
the pension controlled group liabilities.
Significant
Accounting Policies and Estimates
The
consolidated financial statements are impacted by the accounting policies used
and the estimates and assumptions made by management during their preparation.
Significant accounting policies and estimates that most impact the consolidated
financial statements are those related to revenue recognition, mineral
interests, impairment of long-lived assets, estimated liabilities for
environmental and legal claims, income taxes, pension benefits and derivative
instruments.
Sales
are
recorded as products are delivered to customers or as tolling services are
performed in accordance with contract terms. Concentrate and certain smelter
product sales are recorded based upon estimated weights and metal contents
and
metal prices in effect at time of delivery. Revenues are adjusted between month
of delivery and month of settlement based on changes in market prices.
Adjustments with respect to such sales are recorded based on final settlement
weights, metal contents and metal prices pursuant to applicable customer
agreements.
Mineral
interests are amortized using the units of production method. Our ore reserves
are based on geological studies and test hole drillings conducted by our
geologists. These estimates are reviewed and certified periodically by an
independent mining consultant. The most recent independent report on our ore
reserves was issued in January 2006. Ore reserves can and do fluctuate with
the
underlying market price or prices of the metals to be mined. As such, there
can
be no assurances that the reserves currently reported would be economical to
mine in the future.
Long-lived
assets, such as property, plant and equipment, and purchased intangibles subject
to amortization are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to the estimated undiscounted
future cash flows expected to be generated by the asset. If the carrying amount
of an asset exceeds its estimated future cash flows, an impairment charge is
recognized by the amount by which the carrying amount of the asset exceeds
the
fair value of the asset. Assets to be disposed of are separately presented
in
the balance sheet and reported at the lower of the carrying amount or fair
value
less costs to sell and are no longer depreciated. The assets and liabilities
of
a disposed group classified as held for sale are presented separately in the
appropriate asset and liability sections of the balance sheet.
The
restructuring, discussed in Debt
Instruments
above,
was accounted for in accordance with SFAS No. 15. Under SFAS No. 15, a debtor
may not change the carrying amount of the payable at the time of restructuring
unless the total future cash payments, including interest, specified by the
new
terms are less than the carrying amount of the payable at the time of
restructuring. Under the terms of the 11.75% notes, total expected payments,
including all amounts contingently payable, will be greater than the carrying
amount of the old notes exchanged. In accordance with Statement No. 15 the
11.75% notes are recorded on the balance sheet at a carrying amount equal to
the
carrying amount of the notes exchanged, including unpaid accrued interest,
reduced by deferred issue costs related to the old notes exchanged and the
fair
value of the warrants issued.
We
accrue
for loss contingencies, including costs associated with environmental
remediation obligations, when it is probable that a liability has been incurred
and can be reasonably estimated. Liability estimates for environmental
remediation
obligations are based on an evaluation
of, among other factors, currently available facts, existing technology,
presently enacted laws and regulations, our experience in remediation, our
status as a potentially responsible party (PRP) and the ability of other PRPs
to
pay their allocated portions. Costs of future expenditures for environmental
remediation obligations are not discounted to their present value. Recoveries
of
costs from other parties are recorded as assets when their receipt is deemed
probable, consistent with the American Institute of Certified Public Accountants
Statement of Position 96-1, Environmental
Remediation Liabilities.
However, there can be no assurance established liabilities will be sufficient
to
cover the costs of the actual commitments or that in the future new commitments
will not arise that could have a material adverse effect on our results of
operations, financial condition and liquidity. See “Item 8. Financial Statements
and Supplementary Data—Notes 19 and 20 to Consolidated Financial Statements” for
a more detailed discussion of environmental and litigation
matters.
As
of
November 1, 2002, we adopted SFAS No. 143, which addresses financial accounting
and reporting for obligations associated with the retirement of tangible
long-lived assets and the associated asset retirement costs. The standard
applies to legal obligations associated with the retirement of long-lived assets
that result from the acquisition, construction, development and/or normal use
of
the asset. SFAS No. 143 requires that the fair value of a liability for an
ARO
be recognized in the period in which it is incurred if a reasonable estimate
of
fair value can be made. The fair value of the liability is added to the carrying
amount of the associated asset, and this additional carrying amount is
depreciated over the life of the asset. These liabilities will be increased
to
full value over time through charges of accretion to operating expense. Changes
in the ARO liability resulting from revisions to the timing or the amount of
the
original estimate of undiscounted cash flows shall be recognized as an increase
or a decrease in the carrying amount of the liability for an ARO and the related
asset retirement cost capitalized as part of the carrying amount of the related
long-lived asset. If the obligation is settled for other than the carrying
amount of the liability, we will recognize a gain or loss on
settlement.
The
cumulative effect related to the adoption of SFAS No. 143 for the year ended
October 31, 2003 was a loss of $3.9 million, a net decrease to plant, property
and equipment of $2.1 million and an increase of $1.9 million to the liability
for asset retirement obligations.
Renco
has
elected for us to be treated as a QSSS for U.S. federal tax purposes. Most
states in which we operate will follow similar tax treatment. QSSS status
requires the ultimate shareholders to include their pro rata share of our income
or loss in their individual tax returns. The election does not affect foreign
income taxes related to our foreign subsidiaries.
Deferred
tax assets and liabilities are recognized in foreign jurisdictions for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and the respective
tax bases of these assets and liabilities. Deferred tax assets and liabilities
are measured using enacted tax rates expected to apply to taxable income in
the
years in which those temporary differences are expected to be recovered or
settled. Management believes that sufficient uncertainty exists regarding the
realization of certain deferred tax assets such that a valuation allowance
is
required.
We
sponsor a noncontributory defined benefit plan for our U.S. employees. We have
also adopted a supplemental defined benefit plan, the Supplemental Employee
Retirement Plan (SERP), effective November 1, 1996. The SERP provides benefits
to those participants of the defined benefit plan whose benefits under the
plan
are limited by Sections 401(a) (17) or 415 of the Internal Revenue Code. Changes
in the assumptions used to calculate Doe Run’s accumulated benefit obligation
and periodic pension cost can have a significant effect on our results of
operations. On April 11, 2005, our Board of Directors adopted changes to our
defined benefit plans. Effective July 1, 2005, no new employees are eligible
to
participate in the plans and participants’ benefit accruals have been frozen. A
curtailment loss of $690 thousand was reflected in operating expenses for the
year ended October 31, 2005.
We
record
all derivative instruments on the balance sheet at fair value. The accounting
for changes in the fair value (that is, gains and losses) of a derivative
instrument depends on whether it has been designated and qualifies as part
of a
hedging relationship, and if so, whether the derivative instrument is designated
as a hedge of exposures to changes in fair value or cash flows. If the hedged
exposure is an exposure to changes in the fair value of a fixed commitment,
the
gain (loss) is recognized in earnings in the period of change, with an equal
and
offsetting (loss) gain recognized on the change in value of the hedged item.
If
the hedged exposure is an exposure to changes in forecasted cash flows, the
effective portion of the gain (loss) is reported as a component of other
comprehensive income (outside earnings) until the forecasted hedged transaction
affects earnings, when it is reclassified into earnings.
Recent
Accounting Pronouncements
In
November 2004, the FASB issued Statement of Financial Accounting Standards
No.
151, Inventory
Costs,
which
requires that amounts
of idle facility expense, freight, handling costs, and wasted material be
recognized as current-period charges. In addition, the Statement requires that
allocation of fixed production overheads to the costs of conversion be based
on
the normal capacity of the production facilities. This statement is effective
for inventory costs incurred during the year beginning after June 15, 2005.
Therefore, the Company will adopt this standard beginning November 1, 2005.
The
Company does not expect the adoption of this interpretation to have a material
impact on its financial statements.
In
December 2004, the FASB issued Statement of Financial Accounting Standards
No.
153, Exchanges
of Nonmonetary Assets,
which
eliminates the exception for nonmonetary exchanges of similar productive assets
and replaces it with a general exception for exchanges of nonmonetary assets
that do not have commercial substance. The provisions of this statement are
effective for nonmonetary assets exchanges occurring in fiscal periods beginning
after June 15, 2005 therefore, the Company will adopt this standard beginning
November 1, 2005. The Company does not expect the adoption of this
interpretation to have a material impact on its financial
statements.
In
May
2005, the FASB issued Statement of Financial Standards No. 154, Accounting
Changes and Error Corrections
(SFAS
No. 154),
which
requires retrospective application to prior periods’ financial statements of a
voluntary change in accounting principle unless it is impracticable. In
addition, SFAS No. 154 requires that a change in method of deprecation,
amortization or depletion for long-lived, non-financial assets be accounted
for
as a change in accounting estimate that is affected by a change in accounting
principle. SFAS No. 154 is effective for accounting changes and corrections
of
errors made in fiscal years beginning after December 15, 2005. Earlier adoption
is permitted for fiscal years beginning after June 1, 2005. The Company does
not
expect the adoption of this interpretation to have a material impact on its
financial statements.
Financial
statements and supplementary data follow immediately and are listed in Item
15
of Part IV of this report.
Report
of
Independent Registered Public Accounting Firm
Board
of
Directors and Shareholders
The
Doe
Run Resources Corporation
St. Louis,
Missouri
We
have
audited the accompanying consolidated balance sheets of The Doe Run Resources
Corporation and subsidiaries as of October 31, 2005 and 2004, and the
related consolidated statements of operations, comprehensive income and
shareholders’ deficit, and cash flows for the years then ended. These
financial statements are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether
the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In
our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of The Doe Run Resources
Corporation and subsidiaries as of October 31, 2005 and 2004, and the
results of their operations and their cash flows for the years then ended in
conformity with U.S. generally accepted accounting principles.
The
accompanying consolidated financial statements have been prepared assuming
the
Company will continue as a going concern. As further discussed in Note 2
to the consolidated financial statements, the Company’s Peruvian subsidiary has
significant capital requirements under environmental commitments, which, if
not
met, could result in defaults of the Company’s credit agreements; has
substantial contingencies related to tax; and has significant debt service
obligations that raise substantial doubt about the Company’s ability to continue
as a going concern. Management’s plans in regard to these matters are also
described in Note 2. The consolidated financial statements do not include
any adjustments that might result from the outcome of this
uncertainty.
Report
of Independent Registered Public Accounting Firm
The
Board
of Directors
The
Doe
Run Resources Corporation:
We
have
audited the accompanying consolidated statements of operations, comprehensive
income and shareholder’s deficit, and cash flows of The Doe Run Resources
Corporation and subsidiaries (the Company) for the year ended October 31, 2003.
These consolidated financial statements are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audit.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements, assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall consolidated financial statement presentation. We believe
that our audit provides a reasonable basis for our opinion.
In
our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the results of operations and the cash flows of The
Doe Run Resources Corporation and subsidiaries for the year ended October 31,2003 in conformity with U.S. generally accepted accounting
principles.
The
accompanying consolidated financial statements have been prepared assuming
that
the Company will continue as a going concern. As discussed in Note 2 to the
consolidated financial statements, the Company has suffered recurring net
losses, has a net capital deficiency, and has liquidity concerns that raise
substantial doubt about its ability to continue as a going concern. Management’s
plans in regard to these matters are also described in Note 2. The consolidated
financial statements do not include any adjustments that might result from
the
outcome of this uncertainty.
As
discussed in Notes 1 and 19 to the consolidated financial statements, the
Company adopted the provisions of SFAS No. 143, Accounting
for Asset Retirement Obligations,
as of
November 1, 2002.
These
consolidated financial statements include the accounts of The Doe Run Resources
Corporation (Doe Run) and its wholly owned subsidiaries (on a consolidated
basis, the Company). All material intercompany balances and transactions have
been eliminated.
Nature
of Business
The
principal domestic business of the Company is the exploration, development,
and
mining and processing of non-ferrous metals, primarily lead, and recycling
of
lead-acid batteries and other lead-bearing materials. Doe Run, doing business
as
The Doe Run Company, has mines in southern Missouri, primary smelters in
Herculaneum, Missouri and Glover, Missouri and operates a recycling facility
in
Boss, Missouri. Operations at the Glover primary smelter were indefinitely
suspended in the first quarter of 2004. Fabricated Products, Inc. (FPI), a
subsidiary, fabricates lead products used in radiation, X-ray shielding and
nuclear shielding and is a leader in the production of shaped anodes and anode
sheets for those applications. In Peru, Doe Run Peru S.R.L. (Doe Run Peru)
is
engaged in the mining, smelting and refining of polymetallic concentrates,
producing mainly silver, copper, lead, zinc and gold, which are sold as refined
metals primarily to customers located outside of Peru. Doe Run’s issued and
outstanding common and preferred stock is owned directly or indirectly by The
Renco Group, Inc. (Renco).
Foreign
Currency Translation
The
functional currency of the Company’s foreign subsidiaries is the U.S. Dollar.
Accordingly, foreign currency translation gains and losses are included in
determining net income (loss).
Use
of Estimates
The
preparation of consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts
of
assets and liabilities, the disclosure of contingent assets and liabilities
at
the date of the consolidated financial statements and the reported amounts
of
revenues and expenses during the reporting periods. Actual results could differ
from these estimates.
Cash
Management
All
cash
received by Doe Run's domestic operations is transferred daily by wire to pay
down the outstanding balance, if any, of its revolving credit facility (the
Doe
Run Revolving Credit Facility), which is described in further detail in Note
8.
Doe Run borrows under the Doe Run Revolving Credit Facility to fund its accounts
on a daily basis as checks are disbursed. At October 31, 2005 and 2004,
outstanding checks of $612 and $2,859, respectively, were included in accounts
payable.
Inventories
Finished
metals and concentrates, metals and concentrates in process and raw materials
are stated at the lower of cost or market. The last-in, first-out (LIFO) method
of determining cost is used for the majority of the Company’s inventories.
Supplies and repair parts are principally stated at average cost, net of
reserves for obsolescence.
Inventory
costs include labor, material and other production costs.
Property,
Plant and Equipment
Property,
plant and equipment are recorded at cost. In accordance with Statement of
Financial Accounting Standards Statement No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets,
long-lived assets, such as property, plant and equipment, and purchased
intangibles subject to amortization are reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount of an asset may
not be recoverable.
Recoverability
of assets to be held and used is measured by a comparison of the carrying amount
of an asset to the estimated undiscounted future cash flows expected to be
generated by the asset. If the carrying amount of an asset exceeds its estimated
future cash flows, an impairment charge is recognized by the amount by which
the
carrying amount of the asset exceeds the fair value of the asset. Assets to
be
disposed of are separately presented in the balance sheet and reported at the
lower of the carrying amount or fair value less costs to sell and are no longer
depreciated. The assets and liabilities of a disposed group classified as held
for sale are presented separately in the appropriate asset and liability
sections of the balance sheet.
Major
additions and improvements to property, plant and equipment are capitalized,
at
cost, when they significantly increase the productive capacity or the life
of
the asset. Repair and maintenance expenditures which are routine, unanticipated,
or for which the timing cannot be estimated, and which do not extend the useful
life or increase the productive capacity of the asset, are charged to operations
as incurred. Major expenditures required to maintain the originally anticipated
productive capacity and life of the asset (such as furnace rebuilds), for which
both the amount and timing can be reasonably estimated, are accrued and charged
to operations over the period through the next anticipated maintenance date.
Interest
incurred for the direct or indirect debt for the construction of assets to
be
used in operations is capitalized when the interest is charged. The amount
of
interest capitalized was $1,040, $274, and $414 for the years ended October31,2005, 2004 and 2003, respectively.
Costs
to
treat environmental contamination are capitalized when they extend the life,
increase the capacity or improve the safety or efficiency of the property,
when
they mitigate or prevent future environmental contamination or when they are
incurred in preparing property for sale.
Mineral
interests are amortized using the units of production method.
Depreciation
is computed using the straight-line method over the estimated useful lives
of
the assets, as follows:
Buildings
and improvements
3
to 20 years
Machinery
and equipment
2
to 15 years
Facilities
at which operations have temporarily ceased may be placed on a standby care
and
maintenance basis. The Company continues to depreciate the related assets during
the standby period.
Software
Costs
The
company accounts for computer software development costs that are incurred
in
the preliminary project stage as expense. Once the project is in the application
development stage, the direct costs are capitalized. The costs associated with
the accounting application and infrastructure development are capitalized.
The
capitalized costs of computer software and accounting applications developed
or
obtained for internal use are amortized on a straight-line basis over five
years. All other software development costs are expensed as
incurred.
Exploration
and Development Costs
Exploration
costs and development costs incurred to maintain production at operating mines
are charged to operations as incurred. Development expenditures for mining
properties that are considered to be commercially feasible, but are not yet
producing, and major development expenditures at operating mines that are
expected to benefit future production are capitalized and amortized using the
units of production method over the estimated proven ore reserves to be
benefited.
Reclamation
and Mine Closure Costs
The
Company’s mines and related processing facilities are subject to governance by
various agencies that have established minimum standards for reclamation.
As
of
November 1, 2002, the Company adopted Statement of Financial Accounting
Standards No. 143, Accounting
for Asset Retirement Obligations
(SFAS
No. 143), which addresses financial accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated
asset retirement costs. The standard applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and/or normal use of the asset.
Prior
to
the adoption of SFAS No. 143, the Company accrued for mine and other closure
obligations at their estimated, undiscounted cost. SFAS No. 143 requires that
the fair value of a liability for an asset retirement obligation be recognized
in the period in which it is incurred if a reasonable estimate of fair value
can
be made. The fair value of the liability is added to the carrying amount of
the
associated asset, and this additional carrying amount is depreciated over the
life of the asset. These liabilities will be increased to full value over time
through charges of accretion to operating expense. If the obligation is settled
for other than the carrying amount of the liability, the Company will recognize
a gain or loss on settlement.
The
cumulative effect related to the adoption of SFAS No. 143 for the year ended
October 31, 2003 was a loss of $3,940, a net decrease to plant, property and
equipment of $2,088, and an increase of $1,852 to the liability for asset
retirement obligations.
Commitments
and Contingencies
The
Company accrues for loss contingencies, including costs associated with
environmental remediation obligations, when it is probable that a liability
has
been incurred and can be reasonably estimated. Liability estimates for
environmental remediation obligations are based on an evaluation of, among
other
factors, currently available facts, existing technology, presently enacted
laws
and regulations, the Company’s experience in remediation, the Company’s status
as a potentially responsible party (PRP), and the ability of other PRPs to
pay
their allocated portions. Costs of future expenditures for environmental
remediation obligations are not discounted to their present value. Recoveries
of
costs from other parties are recorded as assets when their receipt is deemed
probable, as is consistent with the American Institute of Certified Public
Accountants Statement of Position 96-1, Environmental
Remediation Liabilities.
Revenue
Recognition
Sales
are
recorded as products are delivered to customers as defined in the specific
contracts or as tolling services are performed. Concentrate and certain smelter
product sales are recorded based upon estimated weights and metal contents
and
metal prices in effect at the time of delivery. Revenues are adjusted between
the month of delivery and the month of settlement based on changes in market
prices. Adjustments with respect to such sales are recorded based on final
settlement weights, metal contents and metal prices using applicable customer
agreements.
Derivative
Instruments and Hedging Activities
Statement
of Financial Accounting Standards No. 133, Accounting
for Derivative Instruments and Hedging Activities,
was
issued by the Financial Accounting Standards Board in June 1998 and amended
by
Statement No. 138, Accounting
for Certain Derivative Instruments and Certain Hedging Activities, an amendment
of FASB Statement No. 133,
issued
in June 2000 (collectively, SFAS No. 133). Under SFAS No. 133, the Company
carries all derivative instruments on the balance sheet at fair value. The
accounting for changes in the fair value (i.e. gains and losses) of a derivative
instrument depends on whether it has been designated and qualifies as part
of a
hedging relationship and if so, whether the derivative instrument is designated
as a hedge of exposures to changes in fair value or cash flows. If the hedged
exposure is an exposure to changes in the fair value of a fixed commitment,
the
gain (loss) is recognized in earnings in the period of change, with an equal
and
offsetting (loss) gain recognized on the change in value of the hedged item.
If
the hedged exposure is an exposure to changes in forecasted cash flows, the
effective portion of the gain (loss) is reported as a component of other
comprehensive income (outside earnings) until the forecasted hedged transaction
affects earnings, when it is reclassified into earnings.
Research
and Development
Research
and development costs are expensed when incurred and are included in selling,
general and administrative expenses on the statements of operations. Research
and development costs are not significant.
Income
Taxes
Renco
has
elected for the Company to be treated as a qualified subchapter S subsidiary
(QSSS) for U.S. federal tax purposes. Most states in which the Company operates
will follow similar tax treatment. QSSS status requires the ultimate
shareholders to include their pro rata share of the Company’s income or loss in
their individual tax returns. The election does not affect foreign income taxes
related to the Company’s foreign subsidiaries.
Deferred
tax assets and liabilities are recognized in foreign jurisdictions for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and the respective
tax bases of these assets and liabilities. Deferred tax assets and liabilities
are measured using enacted tax rates expected to apply to taxable income in
the
years in which those temporary differences are expected to be recovered or
settled. See Note 13- Income Taxes for additional discussion.
Recent
Accounting Pronouncements
In
November 2004, the FASB issued Statement of Financial Accounting Standards
No.
151, Inventory
Costs,
which
requires that amounts
of idle facility expense, freight, handling costs, and wasted material be
recognized as current-period charges. In addition, the Statement requires that
allocation of fixed production overheads to the costs of conversion be based
on
the normal capacity of the production facilities. This statement is effective
for inventory costs incurred during the year beginning after June 15, 2005.
Therefore, the Company will adopt this standard beginning November 1, 2005.
The
Company does not expect the adoption of this interpretation to have a material
impact on its financial statements.
In
December 2004, the FASB issued Statement of Financial Accounting Standards
No.
153, Exchanges
of Nonmonetary Assets,
which
eliminates the exception for nonmonetary exchanges of similar productive assets
and replaces it with a general exception for exchanges of nonmonetary assets
that do not have commercial substance. The provisions of this statement are
effective for nonmonetary assets exchanges occurring in fiscal periods beginning
after June 15, 2005 therefore, the Company will adopt this standard beginning
November 1, 2005. The Company does not expect the adoption of this
interpretation to have a material impact on its financial
statements.
In
May
2005, the FASB issued Statement of Financial Standards No. 154, Accounting
Changes and Error Corrections
(SFAS
No. 154),
which
requires retrospective application to prior periods’ financial statements of a
voluntary change in accounting principle unless it is impracticable. In
addition, SFAS No. 154 requires that a change in method of deprecation,
amortization or depletion for long-lived, non-financial assets be accounted
for
as a change in accounting estimate that is affected by a change in accounting
principle. SFAS No. 154 will be effective for accounting changes and corrections
of errors made in fiscal years beginning after December 15, 2005. Earlier
adoption is permitted for fiscal years beginning after June 1, 2005. We do
not
expect the adoption of SFAS No. 154 to have a material impact on our financial
statements.
Reclassifications
Certain
balances have been reclassified from their previous presentation in order to
conform to the current year presentation.
(2) Financial
Condition
General
The
Company is highly leveraged and has significant commitments both in the US
and
Peru for environmental matters and for Environmental Remediation and Management
Program (PAMA) expenditures that require it to dedicate a substantial portion
of
cash flow from operations to the payment of these obligations, which will reduce
funds available for other business purposes. (See Note 19: Asset Retirement
and
Environmental Obligations). These factors also increase the Company’s
vulnerability
to general adverse conditions, limit the
Company’s flexibility in planning for or reacting to changes in its business and
industry, and limit the Company’s ability to obtain financing required to fund
working capital and capital expenditures and for other general corporate
purposes. An unfavorable outcome to certain contingencies, discussed below,
would have a further adverse effect on the Company’s ability to meet its
obligations when due. The Company’s ability to meet these obligations is also
dependent upon future operating performance and financial results which are
subject to financial, economic, political, competitive and other factors
affecting Doe Run, many of which are beyond the Company’s control.
Fiscal
Year 2003
For
the
year ended October 31, 2003 and for several years prior, the Company reported
recurring losses, primarily the result of the low treatment charges for
concentrates processed by Doe Run Peru and low metal prices for metals sold
by
both the US and Peru operations, a condition exacerbated by the Company's
significant interest costs prior to a debt restructuring in October 2002. During
fiscal 2003, the Company’s liquidity continued to be affected by these factors.
The Company failed to meet certain financial covenant requirements contained
in
its revolving credit agreements and a term note (the Term Note), which defaults
continued into fiscal years 2004 and 2005. In addition, the Company had the
environmental and litigation matters mentioned above. These issues combined
raised substantial doubt about the Company's ability to continue as a going
concern.
Doe
Run
Peru's fiscal year 2003 results of operations and liquidity were severely
impacted by low treatment charges received by Doe Run Peru for processing raw
materials resulting from a shortage in the global supply of concentrates. The
effects of low metals prices also caused some of Doe Run Peru's suppliers of
concentrates to suffer financial distress, which affected the availability
of
concentrate feed, which resulted in changes to concentrate mix and interruptions
in delivery schedules adversely affecting Doe Run Peru's metal production and
results of operations. Doe Run (US) was negatively impacted by the low metal
prices, primarily lead.
Doe
Run
Peru proceeded with efforts to identify alternative methods of achieving
compliance with environmental requirements. These efforts included, but were
not
limited to, reducing or curtailing production from a portion of the plant thus
eliminating the need for the equipment presently contemplated and replacing
it
with another alternative. These efforts took into consideration the impacts
on
profitability and liquidity, as well as other economic impacts.
During
fiscal year 2003, the Company implemented actions to improve its liquidity,
including changes in mine plans, reductions in production and its workforce,
and
acceleration of cash receipts. In response to declining demand in the U.S.
for
lead metal and increasing global demand for clean lead concentrates, the Company
indefinitely suspended operations at its Glover smelter in November, 2003 and
began selling on the open market any concentrates that are not required to
maintain production at its Herculaneum smelter. These changes improved the
Company’s cash flow and availability in 2003. At October 31, 2003, Doe Run cash
balance and net unused availability under its revolving credit facility were
$16,794 and $14,373, respectively, and Doe Run Peru’s cash balance and net
unused availability under its revolving credit facility were approximately
$16,794 and $3,830 at October 31, 2003, respectively.
Doe
Run
and Doe Run Peru were in the process of negotiating amendments to agreements
governing the revolving credit facilities and the Term Note at October 31,2003, and amendments to the revolving credit facilities were finalized
subsequent to October 31, 2003.
Fiscal
Years 2004-2005
Metal
prices have risen dramatically over the past two fiscal years. Lead prices
increased from a London Metal Exchange (LME) settlement monthly average of
$532.60 per short ton in October 2003 to $847.40 per short ton in October 2004
to $911.76 per short metal ton in October 2005. The Company has benefited from
this price increase in both its lead metal and lead concentrate sales. In
response to continued strong metal prices, our primary lead division made
significant changes to operations in 2005. The lead grade of ore mined was
lowered while the tonnage processed increased. These changes were made in an
effort to optimize the return on Doe Run’s ore reserves. Doe Run continued to
sell a substantial portion of the lead concentrates produced from its mines
into
the open market.
The
Company continues to have substantial cash requirements in the future, including
maturities in 2006 of $8,000 for the Term Note, cash interest payments on Bonds
of $25,729 and revolving credit facilities (See Note 8: Debt), and also
significant capital requirements under environmental commitments (See Note
19:
Asset Retirement and Environmental Obligation). In addition, there are
substantial contingencies related to taxes (See Note 13: Income Taxes) and
litigation (See Note 20: Litigation).
Net
unused availability at October 31, 2005 and 2004 under the Doe Run Revolving
Credit Facility was $22,138 and $22,506, respectively. Net unused availability
at October 31, 2005 and 2004 under the Doe Run Peru Revolving Credit Facility
was approximately $200 and $60, respectively. In addition to the availability
under its revolving credit facilities, cash balances at Doe Run were $23,486
and
$20,318, respectively, at October 31, 2005 and 2004 and at Doe Run Peru were
$14,569 and $6,905, respectively, at October 31, 2005 and 2004. Doe Run Peru
has
reached and maintained its maximum borrowing level under the Doe Run Peru
Revolving Credit Facility due in part to the higher metal prices resulting
in
higher outlays for concentrate purchases and higher VAT payments funded by
cash
from operations.
The
Doe
Run Revolving Credit Facility expires on August 29, 2008. The Doe Run Peru
Revolving Credit Facility expires in the fourth quarter of 2006, and will
require renegotiation to extend their terms. There can be no assurance that
the
Company will be successful, or if it is successful, that the renewal would
be at
terms that are favorable to the Company. The maturity date of the Term Note
has
been extended to June 16, 2006 with an amended repayment schedule.
A
default
under the requirements of the PAMA could result in a default under the Doe
Run
Peru Revolving Credit Facility. A default under the requirements of the Doe
Run
Peru Revolving Credit Facility results in a defaults under the Doe Run Credit
Facility and the Indenture governing the Bonds.
Current
Status
The
consolidated financial statements have been prepared assuming the Company will
continue as a going concern. Doe Run Peru has significant capital requirements
under environmental commitments, which, if not met, could result in defaults
of
the Company’s credit agreements; has substantial contingencies related to tax;
and has significant debt service obligations that raise substantial doubt about
the Company’s ability to continue as a going concern. Management believes that
the price improvements seen through fiscal year 2005 and the continuing
increases seen in the first quarter of fiscal year 2006, the potential revenues
and cash flow enhancements from the new ferrite project in Peru and the
anticipated approval of the application to extend the PAMA requirement for
the
construction of the sulfuric acid plant, will enable the Company to continue
as
a going concern through October 31, 2006. However, there can be no assurance
that these actions will achieve the desired results.
(3) Related
Party Transactions
Doe
Run
has a management consulting agreement with Renco. Under the agreement, Renco
provides Doe Run with management services for an annual fee. The agreement
is
automatically renewed every three years unless either party gives six months
prior notice, with the current term ending October 31, 2006. Fees expensed
under
this agreement were $2,400 in each of the years ended October 31, 2005,
2004 and 2003. Fees outstanding and unpaid were $8,700 and $7,600 at October31,2005 and 2004, respectively. The indenture for the 11.75% notes limits the
payment of fees to $1,200 per year unless defined earnings before interest,
taxes, depreciation and amortization for the Company, less that for Doe Run
Peru, exceeds $35,000, in which case an additional $1,200 is allowed. No
additional management fees were permitted to be paid to Renco for 2004 under
this provision of the 11.75% notes. For 2005 the aforementioned defined earnings
were exceeded, therefore the additional $1,200 of management fees were paid
during 2006. See Note 8 for a description of the Company’s debt.
Renco
held 2,849 and 2,533 shares of Doe Run’s Series A Redeemable Preferred Stock at
October 31, 2005 and October 31, 2004, respectively. See Note 9 for more
information.
On
October 29, 2002, Renco signed a Junior Participation Agreement with the lender
under the Doe Run Revolving Credit Facility to provide credit support for
supplemental loans to Doe Run. No supplemental loans have been made and on
October 14, 2005 this agreement was terminated.
At
October 31, 2005 and 2004, Doe Run owed $8,000 and $15,500, respectively, on
the
Term Note due to Renco pursuant to a credit facility. See further discussion
in
Note 8.
On
October 29, 2002, Doe Run and Renco signed a tax sharing agreement. See Note
13
for further discussion. The amounts paid under this agreement were $534 and
$0
during the years ended October 31, 2005 and 2004, respectively, and was paid
in
the form of dividends. The amounts due under this agreement were $384 and $0,
respectively for the years ending October 31, 2005 and 2004.
At
times,
to obtain the advantages of volume, Renco purchased certain insurance policies
for a number of its subsidiaries, including the Company. The actual cost of
such
policies, without markup, is reimbursed by the covered subsidiaries. For the
years ended October 31, 2005, 2004 and 2003, the Company made payments to
Renco of approximately $66, $35 and $23, respectively, under the Renco insurance
program.
Materials,
supplies and repair parts are stated net of reserves for obsolescence of $5,389
and $5,146 at October 31, 2005 and 2004, respectively.
The
FIFO
cost of inventories valued under the LIFO cost method were approximately
$139,220 and $113,092 at October 31, 2005 and 2004, respectively. If the
FIFO cost method had been used to determine cost, inventories would have been
approximately $61,274 and $38,289 higher at October 31, 2005 and 2004,
respectively.
As
a
result of reducing certain inventory quantities valued on the LIFO basis in
2005, 2004, and 2003, inventory costs prevailing in previous years were charged
to cost of sales. The Company calculates the effect of LIFO liquidations on
results of operations based on the current cost method. The effect of such
liquidations on the results of operations were increases to net income of
approximately $1,780 and $1,900 for the years ended October 31, 2005 and 2004,
respectively. The impact was not significant in 2003.
In
2004,
the Company changed its methodology of calculating the remaining effect of
adjustments to “lower of cost or market” on inventory costed on a LIFO basis in
years after the initial year the adjustment to market was recorded. . Inventory
at October 31, 2005 and 2004 would have been $851 and $855, respectively, lower
under the method used prior to 2004.
(5) Property,
Plant and Equipment, Net
Property,
plant and equipment, net consists of the following:
Changes
to the estimates of expected cash flows related to asset retirement obligations
resulted in an additional increase (decrease) to plant, property and equipment
of ($537), ($1,547) and ($691) for the years ended October 31, 2005, 2004 and
2003, respectively. See additional disclosures related to SFAS No. 143 in Note
19.
Losses
from impairment or retirement of long-lived assets for the years ended October31, 2005, 2004 and 2003 included $2,881, $3,588 and $1,255, respectively,
relating to residential properties purchased under a residential property
purchase plan in Herculaneum, Missouri, where one of the Company’s primary
smelters is located. See further discussion of the residential property purchase
plan in Note 19.
Rental
expense applicable to minimum rentals under operating leases was $10,707, $8,063
and $7,725 for the years ended October 31, 2005, 2004 and 2003,
respectively. Contingent rental payments, based primarily on equipment usage,
were $0, $796 and $666 for the years ended October 31, 2005, 2004 and 2003,
respectively. Other various rental expense amounted to $3,095, $2,483 and $1,080
for the years ended October 31, 2005, 2004 and 2003, respectively.
The
Company’s operating leases relate primarily to operating equipment, office
facilities and office equipment. The minimum rental commitments under
noncancellable leases, with terms in excess of one year are as follows:
The
Company has available two revolving credit facilities. The first facility,
the
Doe Run Revolving Credit Facility, allows Doe Run and certain U.S. subsidiaries
to borrow up to $75,000 and expires August 29, 2008. The availability of loans
under the Doe Run Revolving Credit Facility is limited to a percentage of
eligible U.S. accounts receivable and inventories, less any outstanding loans
and letters of credit. The Doe Run Revolving Credit Facility bears interest
at
the prime rate plus 0.75% per annum for an effective rate of 7.50% at October31, 2005 and requires an unused line fee equal to 0.25% on the amount by which
the maximum credit of $75,000 exceeds the average daily balance of outstanding
loans and letters of credit. All cash received by Doe Run’s domestic operations
is transferred by wire daily to the financial institution to pay down the
outstanding loan balance, if any. Revolving loans outstanding under this
facility were $41,397 and $31,801 at October 31, 2005 and 2004, respectively.
Actual availability was $22,138 and $22,506 at October 31, 2005 and 2004,
respectively. Because the agreement requires a lockbox for cash receipts and
contains a subjective acceleration clause, loans under this agreement are
classified as current in the balance sheet.
On
October 14, 2005, Doe Run entered into an amendment of Doe Run’s Revolving
Credit Facility. The amendment extended the maturity date to August 29, 2008,
removed the net worth measurement the Company was required to maintain, and
included an option for Libor rate loans.
The
second facility, the Doe Run Peru Revolving Credit Facility, allows Doe Run
Peru
to borrow up to $40,000 for working capital,, with a limit on letters of credit
of $5,000 and expires on November 23, 2005 . The Doe Run Peru Revolving Credit
Facility bears interest at LIBOR (1-month, 3-month or 6-month rate, depending
on
the term of the loan) plus 3.5% per annum for an effective rate of 7.59% at
October 31, 2005. An unused line fee of 0.375% per annum on the average unused
portion of the line is payable quarterly, in arrears. The Doe Run Peru Revolving
Credit Facility is secured by accounts receivable and inventories. Availability
of loans under the Doe Run Peru Revolving Credit Facility is limited to a
percentage of Doe Run Peru’s eligible accounts receivable and inventories, less
any outstanding loans and letters of credit. Revolving loans outstanding under
this facility were $39,800 and $39,400 at October 31, 2005 and 2004,
respectively. The availability was approximately $200 and $60 at October 31,2005 and 2004 respectively.
On
November 22, 2005 Doe Run Peru entered into an amendment of its revolving credit
facility which extended the maturity date of the Doe Run Peru Revolving Credit
Facility to December 15, 2005.
On
December 15, 2005, Doe Run Peru entered into an amendment of its revolving
credit facility. The amendment extended the maturity date to June 23, 2006
with
certain conditions precedent, that if met would extend the maturity date to
September 23, 2006. The conditions precedent are, that the PAMA extension be
approved, that Doe Run Peru diligently seek financing to replace the existing
credit line and that Doe Run Peru obtain the letter of guarantee required by
the
Peruvian government if the PAMA extension is approved. The amendment also
changed the interest rates to LIBOR (1-month, 2-month or 3-month rate, depending
on the term of the loan) plus 3.5%, 3.75% and 4.25%, respectively, per annum.
The amendment also allows Doe Run Peru additional indebtedness, and the ability
to create a trust account to administer the receipts and disbursements related
to the PAMA project.
On
October 29, 2002, Doe Run consummated a consensual restructuring (the
Restructuring) of most of its previously outstanding notes (Old Notes) by
exchanging Old Notes with a principal amount of $294,840, plus unpaid accrued
interest of $37,473, for stock warrants (Warrants) exercisable for an aggregate
of approximately 39% of the fully diluted common stock of Doe Run and new 11.75%
notes with a principal amount of $175,832. In connection with the completion
of
the exchange offer, Doe Run borrowed $15,500 under the Term Note and received
$20,000 from the sale of redeemable preferred stock to Renco, and used the
proceeds from these transactions to pay down the balance on the Doe Run
Revolving Credit Facility, pay certain fees related to the transaction and
pay
interest due and unpaid, plus penalties, on the outstanding notes that were
not
exchanged.
The
Restructuring was accounted for in accordance with Statement of Financial
Accounting Standards No. 15, Accounting
by Debtors and Creditors for Troubled Debt Restructurings
(Statement No. 15). Under Statement No. 15, a debtor may not change the carrying
amount of the payable at the time of restructuring unless the total future
cash
payments, including interest, specified by the new terms are less than the
carrying amount of the payable at the time of restructuring. Under the terms
of
the 11.75% notes, total expected payments, including all amounts contingently
payable, will be greater than the carrying amount of the Old Notes exchanged.
In
accordance with Statement No. 15 the 11.75% notes were recorded on the balance
sheet on October 29, 2002 at a carrying amount equal to the carrying amount
of
the Old Notes exchanged, including unpaid accrued interest, reduced by deferred
issue costs related to the Old Notes exchanged and the fair value of the
warrants issued.
The
effect of this accounting treatment is that substantially less interest expense
will be recognized related to the 11.75% notes during their term because the
majority of the interest payments are reflected in the carrying amount of the
11.75% notes. In addition, Statement No. 15 required that all costs of
restructuring be expensed when incurred. Because contingent amounts payable
are
assumed payable in the application of Statement No. 15, a gain may result in
future periods if contingent amounts payable are not paid. In conjunction with
the Restructuring, the Company recognized a gain of $9,233 in the year ended
October 31, 2005 and a loss of $550 the year ended October 31, 2003,
representing the costs of restructuring.
The
face
amount of the 11.75% notes, plus accrued interest, was $218,967 at October31,2005. Interest on the 11.75% notes is paid semi-annually in arrears on April
15
and October 15, except that on each payment date occurring on or prior to
October 15, 2005, Doe Run, at its option, could have paid interest by either
a)
a cash payment of accrued interest at an annual rate of 3% and issuance of
additional notes with a principal amount equal to interest accrued since the
last payment date at a
rate
of 11.5% or b) a cash payment of accrued
interest at an annual rate of 8.5%. During 2005 interest was paid in cash at
a
rate of 8.5%. During 2004 and 2003, interest was paid in cash at the 3% rate
and
additional notes totaling $23,165 and $19,971 were issued during the years
ended
October 31, 2004 and 2003, respectively. Doe Run may redeem the notes prior
to
maturity at a premium dependent on the date of redemption. Renco has the right,
at any time, to purchase all or part of the then outstanding notes at a price
equal to the price (including accrued interest) that Doe Run would have to
pay
to redeem such notes at that time. The 11.75% notes are guaranteed by certain
subsidiaries of Doe Run.
The
11.25% unsecured senior notes (the Unsecured Notes) and 11.25% senior secured
notes (the Secured Notes) were paid at the maturity date of March 15,2005.
The
Term
Note is held by Renco, pursuant to a credit facility (Senior Credit Facility).
The Senior Credit Facility allows for loans and letters of credit up to $35,500,
as agreed to by Doe Run and the lender. Interest is paid monthly at the rate
of
11.25% per annum. In addition, an annual anniversary fee of $75 is payable
on
each anniversary prior to the maturity date and at maturity.
There
were two amendments to the Term Note since October 31, 2004, with the most
recent “Fourth Amendment” dated January 17, 2006. The Fourth Amendment extended
the maturity date to June 16, 2006, reaffirmed the waiver of a default and
amended the repayment schedule. The loan matures on June 16, 2006 but requires
minimum aggregate principal payments of $2,000 by February 13, 2006, $4,000
by
March 13, 2006 and $6,000 by May 12, 2006, with earlier payments required if
the
cash availability exceeds prescribed limits before such dates. As a result
of
excess cash availability, in February, 2006 the Company paid $6 million in
aggregate principle payments.
In
2002,
Doe Run tendered a deposit made in 1998 (the Special Term Deposit) as payment
of
a loan made to Doe Run Peru by a foreign bank, and, in return, Doe Run Peru
delivered an intercompany note to Doe Run in an equivalent amount, plus accrued
and unpaid interest, for an aggregate balance of $139,063. This intercompany
note does not bear interest during the term of the Doe Run Peru Revolving Credit
Facility. Obligations under the intercompany note are subordinate to Doe Run
Peru’s obligations under its revolving credit facility.
The
aggregate estimated amounts of long-term debt maturing after October 31,2005 are as follows:
Fiscal
year ending October 31:
2006
$
114,947
2007
25,735
2008
26,870
2009
218,967
$
386,519
Included
in the long-term debt maturities is a portion of the interest payments due
on
the 11.75% notes that under Statement No. 15 was included in the carrying amount
of the 11.75% notes. Interest of $25,729, $25,729 and $26,870 is included in
the
maturities of long-term debt for the fiscal years ending October 31, 2006,
2007,
and 2008, respectively.
The
Doe
Run Revolving Credit Facility is secured by substantially all of the accounts
receivable and inventory relating to the Company’s U.S. operations. The Doe Run
Peru Revolving Credit Facility is secured by the accounts receivable and
inventory of Doe Run Peru. The lender of the Term Note has a second priority
security interest in the accounts receivable and inventory pledged under the
Doe
Run Revolving Credit Facility and a first priority security interest in the
remainder of the Company’s assets of its U.S. operations. The 11.75% notes have
a second priority interest in substantially all of the assets related to U.S.
operations, except for accounts receivable and inventory pledged under the
Doe
Run Revolving Credit Facility, for which they have a third priority
interest.
At
October 31, 2005, the Company’s various debt agreements contained certain
requirements with respect to net worth, working capital, earnings before
interest, taxes, depreciation, depletion and amortization (EBITDA), and fixed
charge coverage ratios. These agreements also place limitations on domestic
and
foreign capital expenditures, dividend payments and other outside borrowings.
The Doe Run Peru Revolving Credit Facility limits Doe Run Peru’s ability to make
distributions
to Doe Run in excess of management fees
of $4,000 per year unless certain cash flow tests are met. The Company was
in
compliance with its covenants as of October 31, 2005, with the exception of
the
delivery of audited financials and other reporting requirements for the year
ended October 31, 2005 by January 29, 2006 under the Doe Run Revolving Credit
Facility and the Term Note. Waivers for these reporting defaults were received
on March17,2006 and
March16, 2006, respectively.
(9) Redeemable
Preferred Stock
The
Company has 2,849 outstanding shares of Series A Redeemable Preferred Stock
(Redeemable Preferred Stock). The Redeemable Preferred Stock is redeemable
by
the holder of the shares only after May 1, 2009. The shares have a par value
of
$1,000 per share and a liquidation and redemption value of $10,000 per share.
There were no accrued or unpaid dividends at October 31, 2005 or 2004. Dividends
of 12.5% of the liquidation value per share per annum accrue and are payable
only in kind as long as obligations under the Senior Credit Facility or Warrants
remain outstanding. Because the Company has an accumulated deficit, dividends
are recorded as a reduction to additional paid-in capital until depleted, after
which they will be accumulated in a contra-equity account called preferred
stock
dividends. Of the 2,849 outstanding shares of Redeemable Preferred Stock, 2,000
were issued to Renco for $20,000 on October 29, 2002 in conjunction with the
Restructuring referred to in Note 8. An additional number of shares in the
amount of 316, 282 and 251 shares were issued to Renco on October 31, 2005,2004
and 2003, respectively, as payment of the aforementioned dividends.
The
Redeemable Preferred Stock’s dividend rights and liquidation preference rank
prior and in preference to the Company’s common stock. The holder of the
Redeemable Preferred Stock has voting rights with respect to matters of mergers,
issuance of debt or equity securities, stock transactions and
reorganization.
(10) Warrants
In
conjunction with the Restructuring, Warrants were issued to holders of the
11.75% notes. The Warrants entitle warrant-holders to purchase 644.7813 shares
of common stock, representing approximately 39% of the common stock outstanding
on a diluted basis, at the initial exercise price of $5,997 per share beginning
November 1, 2008 until October 29, 2012 (Expiration Date). Alternatively, the
Warrants may be converted into common stock whereby the holders will be entitled
to receive a number of shares whose fair value is equal to the difference
between the fair value of the shares the holder would receive upon exercise
and
the exercise value of the shares. The Warrants may not be exercised or converted
unless a majority of Warrant holders vote in favor of such, and then all
Warrants must be exercised or converted.
The
Warrants are also subject to a call and a put feature. Either Doe Run
or
Renco
may, at any time, call all (but not less than all) of the Warrants and any
outstanding shares of stock issued upon exercise thereof at a price equal to
the
greater of $10,000 or the appraised fair market value of the Warrants, provided
that in the event that this call option is exercised by Doe Run or Renco during
the first 48 months after the Warrants are issued, Doe Run or Renco will be
required to, at the same time, redeem the 11.75% notes at the applicable
redemption prices. After October 29, 2005 holders of the Warrants may , require
Doe Run or Renco to repurchase all (but not less than all) of the Warrants
at a
price equal to the appraised fair market value of the stock the Warrant holders
would receive if exercised. If this option is exercised by the Warrant holders,
Doe Run may, under certain circumstances, defer the payment of the purchase
price to the warrant holders. Such a deferral of the purchase price would
require interest to accrue on any unpaid amounts and, upon the third anniversary
of the exercise of the put option with such purchase price still unpaid, the
warrants holders will have the right to cause the Doe Run’s stockholders to
elect a special director to serve on Doe Run’s Board of Directors for the
remainder of the period such purchase price remains unpaid.
On
the
Expiration Date, the Company must purchase all outstanding warrants or shares
issued pursuant to an exercise or conversion of the warrants. With the Company’s
permission, Renco may honor the purchase.
Management
engaged a nationally recognized valuation firm to calculate the fair value
of
the Warrants. Management estimates that the fair value of the Warrants based
on
the valuation was $639 at each of the fiscal years ended October 31, 2005,
2004
and 2003, and this value is reflected in other noncurrent liabilities. Any
changes in the fair market value of the Warrants will be recorded in the
Company’s results of operations as interest expense.
(11) Accumulated
Other Comprehensive Losses
Accumulated
other comprehensive losses consist of the following:
Unrealized
(gain) loss on derivative financial instruments (see Note
18)
-
97
Accumulated
other comprehensive losses
$
41,507
$
42,036
(12) Fair
Value of Financial Instruments
At
October 31, 2005 and 2004, the fair values of the Company’s financial
instruments, except for long-term debt, were not materially different from
their
carrying amounts. The fair value of the Company’s long-term debt was
approximately $266,586 and $282,513 at October 31, 2005 and 2004, respectively.
The fair values of the Company’s long-term debt were based on the estimates of
incremental borrowing rates for similar types of borrowing arrangements or
dealer quotes.
(13) Income
Taxes
Renco
has
elected for the Company to be treated as a QSSS for U.S. federal tax purposes.
Most states in which the Company operates will follow similar tax treatment.
QSSS status requires the ultimate shareholders to include their pro rata share
of the Company’s income or loss in their individual tax returns. The election
does not affect foreign income taxes related to the Company’s foreign
subsidiaries.
Doe
Run
is subject to a tax sharing agreement with Renco, effective October 29, 2002.
Pursuant to the agreement, Doe Run is required to make quarterly payments to
Renco based on a pro forma U.S. federal and state income tax liability, assuming
that the Company is not and never was a subsidiary of Renco (subject to certain
limitations), and amounts reasonably determined by Renco to cover tax
liabilities of current or prior years not reflected in the Company’s pro forma
tax calculations. The pro forma income tax liabilities will assume that Doe
Run
became a C corporation under the Internal Revenue Code of 1986 (the Code) on
the
day after the Restructuring and will include no income attributable to any
cancellation of indebtedness prior to the Restructuring or any effect of such
cancellation on the basis of the assets of the Company. See Note 3 for further
information.
Doe
Run
Cayman is subject to the regulations of the Cayman Islands, which currently
have
no corporate income or capital gains tax. Doe Run Cayman’s subsidiaries located
in Peru are subject to Peruvian taxation. The statutory income tax rate in
Peru
is 30%. Doe Run Peru has obtained a ten-year tax stabilization agreement with
the Peruvian government, which provides for Peruvian taxation based on tax
statutes and regulations prevailing on November 6, 1997, beginning with the
Peruvian tax year ending on December 31, 1997 through December 31, 2006.
On
December 30, 1997, Doe Run Peru signed a Contract of Guarantees and Measures
to
Promote Investments, as modified in 2005. This agreement is effective beginning
in the calendar year ended December 31, 2007, provided that Doe Run Peru
complies with the committed investments related to the improvements of the
facilities, and provides tax stability through December 31, 2021. The principal
provisions are similar to those established in the Tax Stabilization Agreement,
except that Doe Run Peru will utilize the tax statutes prevailing as of December23, 1997.
The
last
accepted modification of the current contract requires Doe Run Peru to spend
a
total $108,442 on a specific set of projects. Included in this list of projects
is a portion of the total sulfuric acid plant cost of $39,000. All expenditures
for this contract must be completed by December 31, 2006. Through October 31,2005, Doe Run Peru had invested $117,315 on projects within the projects list
of
this contract. Even though the total spending has been exceeded, specific
projects expenditures on the list have not been accomplished. As of October31,2005 only $4,600 of the $39,000 has been spent on a new sulfuric acid plant.
Under the current agreement the remaining $34,400 must be spent by December31,2006.
On
August23, 2005, Doe Run Peru filed for a modification to the contract, to reduce
the
total investment commitment to $102,342. This modification included addition
of
some projects and reduction of others. Included in the reduction was a reduction
of the sulfuric acid plant project from $39,000 to $5,600. On January 19, 2006
the Energy and Mines Ministry ruled on the modification and did not approve
the
reduction, but did approve certain new projects expenditures. As a result of
the
January 19, 2006 ruling, the overall commitment under the modification is now
$133,542 which still includes a sulfuric acid plant commitment of $39,000.
On
February 9, 2006, Doe Run Peru filed before the Mining Council of the Mining
Ministry an appeal against this ruling. Doe Run Peru is expecting reductions,
one of which reduction is the sulfuric acid plant investment to $5,600. With
these changes the total investment amount to meet the contract will be reduced
to $95,642, with remaining specific project investments required by December31,2006 of $17,000.
As
a
result of the Company’s status as a QSSS, the Company was not subject to U.S.
federal income taxation for the years ended October 31, 2005, 2004 and 2003,
and
recognized no state or U.S. federal income tax expense during that period.
For
the year ended October 31, 2004 certain technical services that Doe Run provided
under an agreement with Doe Run Peru were taxed at 30% under a law passed in
Peru in December 2003. Taxes of $2,146 were paid in the third quarter of 2004.
Offsetting this tax was the reversal of a U.S. federal income tax liability
related to years that are closed to audit of $2,807. Doe Run Peru had no foreign
income tax expense for the years ended October 31, 2005 and 2004 due to tax
loss
carryforwards and an increase in the valuation allowance against deferred tax
assets, as discussed below.
The
tax
effects of temporary differences that give rise to significant portions of
the
deferred tax assets and deferred tax liabilities are as follows:
The
deferred tax balances as of October 31, 2005 and 2004 relate solely to the
Company’s Peruvian subsidiaries. The deferred tax assets and liabilities related
to property, plant and equipment are principally due to differences in book
and
tax allocations of the excess of the fair value of the sum of assets acquired,
less liabilities assumed over the purchase price paid and accelerated
depreciation methods used for tax purposes.
The
net
operating loss carryforwards in Peru may be offset against the taxable income
that the Company obtains up to December 31, 2007, inclusively.
Management
believes that sufficient uncertainty exists regarding the realization of certain
deferred tax assets such that a valuation allowance is required. The valuation
allowance decreased $9,686 and $1,287 for the years ended October 31, 2005
and
2004, respectively, and increased $5,473 in the year ended October 31, 2003.
Doe
Run
Peru has received income tax assessments from Peru’s tax authority, SUNAT for
tax years 1998 through 2001. The assessments primarily relate to Doe Run Peru’s
income tax treatment of the December 1997 merger of Doe Run Peru and Metaloroya
S.A., which was purchased by Doe Run Peru in October 1997, and its effects
on
subsequent years’ taxable income. Under the assessment by SUNAT, the tax basis
of Doe Run Peru’s fixed assets acquired would decrease, resulting in
lower
tax depreciation expense than originally
claimed. The assessed amount consisting of additional income taxes due,
penalties and interest as of October 31, 2005 totals approximately $109,030.
The
Company estimates that the effect of a similar assessment for tax years after
2001 would be approximately $30,300. Furthermore, Doe Run Peru would also be
required to make additional workers’ profit sharing payments equal to 8% of the
increase in taxable income generated by the changes discussed above, or
approximately $11,200 for calendar years 1998 through 2005.
Doe
Run
Peru has also received Value-Added Tax (VAT) assessments for the tax years
1999
through 2001 and for the period from January through July 2004. The assessments
primarily relate to Doe Run Peru’s exports with holding certificates and
differences in a tax credit application. The total assessment for these periods
was approximately $43,489. SUNAT offset the amount assessed for 2004 of
approximately $2,300 against Doe Run Peru’s VAT receivable balance from July
2004. Future VAT reimbursements cannot be used to offset the assessment by
SUNAT. The Company discontinued use of the holding certificates for exports
in
June 2004. The Company estimates expected additional assessments related to
VAT
for tax years 2002 and 2003 to total approximately $20,166 in regard to its
exports with holding certificates.
Management
of the Company believes that in each case Doe Run Peru has followed the
applicable Peruvian tax statutes and intends to pursue all available
administrative and judicial appeals. Doe Run Peru is not required to make any
payments pending the administrative appeal process. If Doe Run Peru is not
successful in the administrative appeal processes and were to appeal in the
judicial system, some type of financial assurance would be required. No amounts
have been accrued as liabilities related to these actions.
(14) Employee
Benefits
Domestic
Plans
Defined
Benefit Plans
The
Company sponsors a noncontributory defined benefit plan for its U.S. employees.
Benefits provided to salaried employees under the defined benefit plan are
based
on average final compensation and years of service. Benefits provided to hourly
employees are based on a flat rate and years of service. The Company has also
adopted a supplemental defined benefit plan, the Supplemental Employee
Retirement Plan (SERP), effective November 1, 1996. The SERP provides
benefits to those participants of the defined benefit plan whose benefits under
the plan are limited by Sections 401(a)(17) or 415 of the Code. Benefits under
the SERP represent the amount by which the benefits under the defined benefit
plan, if such benefits were not limited, exceed those benefits the participants
are entitled to receive. The SERP plan is unfunded.
On
April11, 2005, the Company’s Board of Directors adopted changes to the Company’s
defined benefit plans. Effective July 1, 2005, no new employees are eligible
to
participate in the plans and participants’ benefit accruals have been frozen. A
curtailment loss of $690 was reflected in operating expenses for the year ended
October 31, 2005.
The
Company uses a measurement date of October 31 for its pension benefit
plans.
Net
periodic pension expense is comprised of the following:
The
expected return on assets assumption for fiscal 2005 was 8.50% and will continue
to remain at 8.50% for fiscal 2006. The expected long-term rate of return on
plan assets is based on the historical and projected rates of return for the
asset classes in the plan’s investment portfolio. Assumed projected rates of
return for each asset class were selected after analyzing historical experience,
future expectations of the returns and the volatility of the various asset
classes. Based on the target asset allocation for each asset class, the overall
expected rate of return for the portfolio was developed, with adjustments for
the historical and expected future experience of active portfolio management
results compared to benchmark returns and for the effect of expenses paid from
plan assets.
The
following table sets forth the funded status of the Company’s defined benefit
plan:
(1)
Includes accumulated benefit obligation related to the SERP plan
of $5,244
and $4,149, respectively.
The
following assumptions were used to determine benefit:
Obligations,
at the end of the year
2005
2004
Discount
rate
5.75
%
5.75
%
Rate
of compensation increase
N/A
3.00
%
Change
in plan assets:
Beginning
of year at fair value
$
66,380
$
54,849
Actual
return on plan assets
5,334
4,449
Employer
contributions
9,040
13,003
Benefits
paid
(6,274
)
(5,921
)
End
of year at fair value
$
74,480
$
66,380
The
target allocation for 2006, by asset category and the asset allocation for
Doe
Run’s U.S. pension plan at October 31, 2005 and 2004 follows.
Percentage
of Plan Assets at October 31,
Asset
Category:
Target
Allocation
2005
2004
Equity
securities
60.0
%
59.9
%
59.1
%
Fixed
income
40.0
%
37.0
%
38.3
%
Cash
equivalents
0.0
%
3.1
%
2.6
%
Total
100.0
%
100.0
%
100.0
%
Pension
plan assets are managed in accordance with the Employees Retirement Income
Securities Act of 1974 (ERISA) and its fiduciary standards, including the
“prudent investor” guidelines. The Plan’s investment strategy supports the
objectives of the fund, which are to promote stability and, to the extent
appropriate, growth in the funded status. Investments are diversified across
asset classes, sectors and manager styles to minimize the risk of large losses.
The Company delegates investment management to specialists in each asset class
and, where appropriate, provides the investment manager with specific
guidelines, which include allowable and/or prohibited investment types. The
Company monitors manager performance and compliance with the established
investment guidelines.
Reconciliation
of funded status:
October
31,
Projected
benefit obligation in excess of
2005
2004
plan
assets
$
(38,243
)
$
(46,373
)
Unamortized
net transition asset (liability)
(136
)
427
Unrecognized
actuarial loss
41,644
47,353
Unrecognized
prior service cost
-
116
Net
amount recognized
$
3,265
$
1,523
Amounts
recognized in the balance sheet:
Intangible
asset
$
-
$
938
Accrued
benefit liability - current
(10,082
)
(9,025
)
Accrued
benefit liability - noncurrent
(28,160
)
(32,292
)
Accumulated
other comprehensive income
41,507
41,902
Net
asset (liability) at end of year
$
3,265
$
1,523
Information
regarding the expected cash flows for the pension plans is as
follows:
Pension
Benefits
Employer
Contributions
2006
(expected)
$
10,082
Expected
Benefit Payments
2006
$
6,600
2007
$
6,700
2008
$
6,900
2009
$
7,000
2010
$
7,300
2011-2015
$
38,500
The
Company is a member of a controlled group with other Renco-owned companies.
Accordingly, the Company is jointly and severally liable with all other members
of the controlled group under Title IV of ERISA for obligations of other members
of the controlled group that could include certain pension funding and excise
taxes in the event that any member of the controlled group does not satisfy
certain of its pension obligations arising pursuant to ERISA.
In
such
an event, statutory liens would arise in favor of the Pension Benefit Guaranty
Corporation (the PBGC) upon the assets of the other members of the controlled
group not in bankruptcy, and the PBGC may seek to obtain court approval to
terminate the plan (a PBGC Termination) and may require the other members of
the
controlled group to satisfy such pension plan obligations. In the event that
a
PBGC Termination occurs, and the PBGC requires that the Company satisfy such
pension plan obligations, such requirements could have a materially adverse
effect on the Company’s financial condition and liquidity. Obligations under the
controlled group have not been determined.
On
February 3, 2006, the PBGC notified another member of the controlled group
of
its intention to seek a PBGC Termination of that member’s plan. On the same day,
the PBGC filed a complaint in the US District Court seeking to terminate the
plan as of February 3, 2006 and for the appointment of the PBGC as the plan's
Trustee under ERISA. An agreement in principal has been reached whereby
sponsorship of the member’s plan would be transferred to Renco and upon the
agreement being finalized, the PBGC would withdraw its compliant and PBGC
termination. In any event Renco has assured the Company that these actions
will
not have an impact on the Company's financial condition.
Postretirement
Benefit Plans
The
Company sponsors three postretirement medical plans for its U.S. employees.
Two
of these plans are self-insured plans. The plans generally cover medical
expenses subject to deductibles, copayments and limits on specified coverage.
For persons retired on or before January 1, 1992, the retiree’s
contribution to the cost of these plans varies primarily based upon the date
of
retirement and the respective plan. The Company’s contribution to the cost of
coverage of employees retiring after that date decreased gradually, until 1997,
when retirees began to pay 100% of the cost of coverage. The Company maintains
stop-loss insurance for claims exceeding $175 per person under the age of 65
in
any calendar year for those plans that are self-insured. The Company also
sponsors a life-insurance plan for its U.S. employees who become eligible for
this benefit after retirement and reaching age 55. The benefit upon
retirement is based on final salary, but gradually decreases to $6 in the fifth
year after retirement and remains at that level thereafter.
The
Company uses a measurement date of October 31 for its postretirement benefit
plans.
Net
periodic postretirement benefit cost includes the following
components:
Year
that the rate reaches the ultimate trend rate
2010
2009
Assumed
health care cost trend rates have a significant effect on the amounts reported
for the health care plans. A one-percentage-point change in assumed health
care
cost trend rates would have the following effects:
Effect
of
Effect
of
1%
Increase
1%
Decrease
Accumulated
postretirement benefit obligation
$
474
$
(437
)
Net
periodic postretirement benefit cost
$
27
$
(25
)
Defined
Contribution Plans and Profit Sharing Program
The
Company sponsors a 401(k) plan that covers substantially all U.S. employees.
Participants can contribute up to 50% of compensation on a before-tax basis
subject to certain restrictions. Effective July 1, 2005, the Company’s 401(k)
plan was amended to change the definition of eligible compensation and change
the Company’s mandatory match from 25% of the first 6% of a participant’s
before-tax contribution to 50% of the first 5% of a participant’s before-tax
contribution. In addition, the amendment provides for a fixed 1% profit sharing
contribution. The Company may make additional contributions at management’s
discretion. The Company’s expense representing its matching contribution was
$1,085, $527 and $535 for the years ended October 31, 2005, 2004 and 2003,
respectively. Plan assets consist primarily of investments in common stock
and
debt securities.
The
Company has a profit sharing program, which covers substantially all U.S.
employees. The program provides for a distribution to employees equal to 15%
of
U.S. income, subject to certain adjustments. The
first
$1.5 million of profit sharing is made as a contribution to the 401(k) plan,
with the remaining amount distributed to employees in cash payments.
The
Company had expense of approximately $993 and
$400 under this program for the years ended October 31, 2005 and 2004,
respectively, and no expense for the year ended October 31, 2003 as a result
of
losses before income tax expense in the U.S. The Company made cash payments
of
$211 in December 2005 to employees under the profit sharing plan agreement
with
the remaining $782 to be paid to the employee’s 401(k) plan in
2006.
Net
Worth Appreciation Agreements
Certain
employees are parties to net worth agreements with Doe Run, pursuant to which,
upon termination of each person’s employment with Doe Run, they are entitled to
receive a fixed percentage of the increase in the net worth of the Company,
as
defined in such agreement, from a base date until the end of the fiscal quarter
preceding the date of his termination. Such amount is payable without interest
in 40 equal quarterly installments, commencing three months after the
termination of each person’s employment, and at three month intervals
thereafter. The net worth appreciation agreements also provide that, in the
event of payment of certain dividends or a sale of the Company, the active
participants will be entitled to receive a percentage of such dividends or
the
net proceeds of the sale equal to their maximum percentages under the
agreements.
On
July1, 2005, the Company’s Board of Directors adopted changes to the Company’s net
worth appreciation agreements, primarily consisting of changes to the base
dates
as defined in the agreements. In accordance with these changes, the Company
recorded $874, $0, and $0, in expense during the years ended October 31, 2005,
2004 and 2003, respectively.
Foreign
Plans
Doe
Run
Peru is required to make semi-annual deposits into a bank account for severance
indemnity benefits for Peruvian employees under Peruvian government regulations.
The balance in the account represents the full benefit due to such employees
upon termination. The Company accrues for the additional amount that would
be
contributed to the account since the last deposit date as if all such employees
were to terminate as of the balance sheet date. The Company’s expenses related
to severance indemnity benefits were $3,523, $3,428 and $3,974 for the years
ended October 31, 2005, 2004 and 2003, respectively.
In
accordance with government regulations in Peru, employees are entitled to
receive 8% of Doe Run Peru’s taxable income, 50% of which is distributed to
employees based on the number of days worked and the remaining distributed
in
proportion to their salaries. Such profit sharing, which is tax deductible,
is
limited to 18 times the annual salary for each worker. Any excess is to be
reserved and used for training the workers. The Company had no expense relating
to workers’ profit sharing payments for the years ended October 31, 2005, 2004
and 2003 due to tax loss or offset of taxable income by tax loss carryforwards.
See Note 13 for further discussion.
(15) Business
and Credit Concentrations
Metal
prices fluctuate and are affected by numerous factors beyond the Company’s
control, including expectations for inflation, speculative activities, the
relative exchange rate of the U.S. dollar, global and regional demand and
production, political and economic conditions and production costs in major
producing regions. The aggregate effect of these factors makes it impossible
for
the Company to predict metal prices. Fluctuations in metal prices can have
a
material adverse effect on the results of operations, financial condition and
liquidity of the Company.
For
the
years ended October 31, 2005, 2004 and 2003, approximately 50%, 58% and
64%, respectively, of the Company’s U.S. operations’ revenues from unaffiliated
customers were from U.S. battery manufacturers (primarily automotive) or their
suppliers. At October 31, 2005 and 2004, the accounts receivable balances
related to these U.S. battery manufacturers were $36,771 and $26,708,
respectively.
No
single
customer accounted for greater than 10% of consolidated revenues for the years
ended October 31, 2005, 2004 and 2003.
(16) Segment
Information
The
Company’s operating segments are separately managed business units that are
distinguished by products, location and production process. The primary lead
segment includes integrated mining, milling and smelting operations located
in
Missouri. The recycling operation segment, located in Missouri, recycles
lead-bearing materials, primarily spent batteries. The fabricated products
segment produces value-added lead products. Doe Run Peru produces an extensive
product mix of non-ferrous and precious metals.
The
accounting policies of the segments are the same as those described in the
summary of significant accounting policies, except that the primary lead,
secondary lead and fabricated products segments value finished metals and
concentrates, work in process and raw materials inventories at FIFO cost.
Certain functions are performed at the Company’s corporate office for the
primary lead and secondary lead segments, such as sales and billing, as well
as
the general administration of the Company. Related accounts receivable and
corporate overhead expenses are not allocated to operating
segments.
Transactions
between segments consist of metal sales recorded based on sales contracts
that are negotiated between segments on terms that management feels
are
similar to those that would be negotiated between unrelated
parties.
Revenues
are attributed to countries based on destination of shipments.
The
measure of segment profit and loss used by the Company is earnings of the
segment before interest, taxes, depletion, depreciation and amortization
(EBITDA), as adjusted to exclude losses from impairment and disposal of
long-lived assets and Doe Run Peru’s expenses related to hedging and agency fees
under an agreement with Doe Run (Adjusted EBITDA). Consolidated Adjusted EBITDA
also excludes accretion expense under SFAS No. 143.
Operating
Segments -Adjusted EBITDA (Earnings before
interest,
taxes, depletion, depreciation, accretion and
Year
Ended October 31,
amortization)
2005
2004
2003
Primary
lead
$
69,420
$
55,397
$
12,281
Doe
Run Peru
32,005
22,528
3,798
Recycling
operation
14,784
15,857
12,413
Fabricated
products
2,199
1,452
731
Total
reportable segments
118,408
95,234
29,223
Realized
gains (losses) on derivatives
(9,140
)
(11,626
)
1,609
Other
revenues and (expenses)(3)
(11,080
)
(13,572
)
(1,835
)
Corporate
selling, general and administrative expenses
(27,417
)
(21,594
)
(15,584
)
Intersegment
eliminations
20
(21
)
(14
)
Consolidated
adjusted EBITDA
70,791
48,421
13,399
Depreciation,
depletion and amortization
(24,170
)
(25,322
)
(30,407
)
Interest
income
141
19
29
Interest
expense
(10,010
)
(13,289
)
(13,270
)
Unrealized
gain (loss) on derivatives
4,876
(231
)
(7,220
)
Losses
from impairment and disposal of long-lived assets
(2,978
)
(3,591
)
(1,409
)
Asset
retirement obligation accretion expense
(1,497
)
(1,754
)
(1,530
)
Gain
(Loss) on retirement/restructure of long-term debt
9,233
-
(550
)
Income
(loss) before income taxes and cumulative
effect
of change in accounting principle
$
46,386
$
4,253
$
(40,958
)
(3)
Other
revenues and expenses include metal sales not attributed to operating
segments,
expenses not allocated to operating segments, including environmental
expenses relating to historic operations of $8,220, $8,450 and $520
for
the years ended October 31, 2005, 2004 and 2003, respectively; certain
employee compensation expenses of $1,462, $1,353 and $0 for the years
ended October 31, 2005, 2004 and 2003, respectively; and adjustments
necessary to state the primary lead and recycling operation’s inventories
at LIFO cost of $833, $2,569 and $1,657 for the years ended October31,2005, 2004 and 2003, respectively.
(4) Unallocated
corporate assets consist primarily of cash, primary lead and secondary lead
segments’ accounts receivable, investments and receivables from subsidiaries,
pension assets, and deferred financing costs.
(17) Commitments
and Contingencies
Tolling
The
Company has entered into tolling arrangements with major battery manufacturers
whereby the manufacturers will deliver spent lead-acid batteries and other
lead-bearing material to the Company’s recycling facility and, for a processing
fee, the Company will return finished lead metal. The largest of these contracts
expire in March 2007 and September 2007. The agreements cover approximately
25%
(unaudited)
of
the
Company’s anticipated combined primary and secondary lead metal production for
2006.
Sales
Commitments
The
Company has commitments to sell approximately 94% (unaudited)
of its
anticipated 2006 lead metal production and 100% (unaudited)
of its
lead, zinc and copper concentrates. Metal sales agreements are usually less
than
one year; concentrate sales agreements are typically evergreen with a one-year
cancellation. Metal sales prices are generally based on the average quoted
exchange prices for the month of shipment, plus a premium. Concentrate sales
terms are based on average quoted exchange prices less a treatment charge.
Treatment charges are usually based on a world benchmark.
Letters
of Credit
At
October 31, 2005, the Company had outstanding irrevocable standby letters of
credit totaling $5,320 in connection with the Company’s insurance and bonding
activities. The Company also had outstanding customs bonds of $946 relating
to
concentrate and other purchases.
Employment
Agreements
The
Company has employment agreements with a number of its senior executives through
October 31, 2006, with automatic renewal annually thereafter unless written
notice is given at least three months prior to the expiration date.
(18) Hedging
and Derivative Financial Instruments
A
significant portion of the Company’s sales contracts are priced based on an
average LME or other exchange price for the respective metal plus a negotiated
premium. As such, the prices of the Company’s products fluctuate due to factors
in the market that are beyond the Company’s control. These price changes expose
the Company to variability in its cash receipts. The purpose of the Company’s
price risk management program is to limit the Company’s risk to acceptable
levels, while enhancing revenue through the receipt of option premiums.
The
Company’s price risk management program uses various derivative instruments in
its attempt to mitigate commodity price risks. The Company may use purchased
futures contracts as a fair value hedge of the change in fair value of inventory
related to firm sales commitments with customers or as a cash flow hedge to
lock
in the price of lead purchases for its fabricated products subsidiary. In fair
value hedges, the futures contracts are established at terms (quantities, prices
and timing) that mirror those of the firm commitments. The Company uses sold
futures contracts as a cash flow hedge to lock in the price of a portion of
forecasted lead metal sales and to lock in the price of by-product sales whose
prices are based on an average for a period after they are shipped.
For
derivative instruments designated as hedges (futures contracts), the Company
assesses effectiveness by comparing the changes in fair value or cash flows
relating to the hedged transaction with all changes in the fair values or cash
flows of the related derivative contract. Because the futures fluctuate in
the
same amount as the hedged transaction (the change in the LME price), the hedges
are considered effective.
The
Company writes call options that, if exercised, will create sold futures
contracts that are economic hedges of forecasted lead metal sales. The options
generate premiums that enhance revenues. Because these instruments do not meet
the requirements for hedge accounting, the changes in fair value of these
instruments are recorded in results of operations as unrealized (gain) loss
on
derivative financial instruments.
The
fair
value of the Company’s derivative financial instruments reflected in the
Company’s balance sheets as of October 31, 2005 and 2004 is the difference
between quoted prices at the balance sheet date and the contract settlement
value. The fair market value represents the estimated net cash the Company
would
receive (pay) if the contracts were cancelled on the balance sheet date.
The
Company’s open derivative financial instruments at October 31, 2005
were:
Sold
(Purchased) Futures Contracts(tons,
ounces and dollar amounts not in thousands)
Metal
Quantity
Weighted
Average
Price
Fair
Value
Period
Lead
20,145
tons
$750.39/ton
$
$
(2,803,955)
Nov.
05 to Jan.06
(9,673)
tons
$786.29/ton
1,073,453
Nov.
05 to Dec. 05
Copper
1,302
tons
$2,577.07/ton
(1,296,940)
Nov.
05 to Jan. 06
(350)
tons
$3,470.86/ton
52,900
Dec.
05
Zinc
827
tons
$1,305.44/ton
(18,570)
Nov.
05 to Jan. 06
(138)
tons
$1,374.99/ton
12,139
Nov.
05
Silver
987,300
oz.
$6.83/oz.
(209,601)
Nov.
05 to Dec. 06
Sold
(Purchased) Call Option Contracts(tons,
ounces and dollar amounts not in thousands)
Metal
Quantity
Price
Range
Fair
Value
Period
Lead
13,228
tons
$929.87/ton
to $938.84/ton
$
(351,790)
Jan.
06 to Jun. 06
Silver
120,670
oz.
$5.47/oz.
(175,124)
Jan.
06
Crude
Oil
100,000
barrels
$70.00/barrel
359,750
Feb.
06 to Dec. 06
Sold
(Purchased) Put Option Contracts
(tons, ounces and dollar amounts not in thousands)
Metal
Quantity
Price
Range
Fair
Value
Period
Lead
49,604
tons
$725.75/ton
to $802.86/ton
$
1,356,576
Jan.
06 to Jun. 06
The
Company’s open derivative financial instruments at October 31, 2004
were:
Sold
(Purchased) Futures Contracts(tons,
ounces and dollar amounts not in thousands)
Metal
Quantity
Weighted
Average
Price
Fair
Value
Period
Lead
66,965
tons
$618.86/ton
$
(13,325,766)
Nov.
04 to Apr. 05
(65,808)
tons
$698.76/ton
7,831,684
Nov.
04 to Feb. 05
Lead
- cash flow hedges
4,960
tons
$768.28/ton
(113,250)
Jan.
05 to Mar. 05
(551)
tons
$762.94/ton
16,000
Feb.
05
Copper
3,580
tons
$2,269.54/ton
(1,311,261)
Nov.
04 to Aug. 05
(3,031)
tons
$2,450.01/ton
693,575
Nov.
04 to Dec. 04
Zinc
4,905
tons
$816.33/ton
(680,388)
Nov.
04
(5,016)
tons
$948.78/ton
31,375
Nov.
04
Silver
850,175
oz.
$5.26/oz.
(1,191,098)
Nov.
04
(987,300)
oz.
$5.56/oz.
1,088,910
Nov.
04
Gold
6,472
oz.
$264.36/oz.
(792,370)
Nov.
04
(6,198)
oz.
$299.91/oz.
538,445
Nov.
04
Sold
(Purchased) Call Option Contracts(tons,
ounces and dollar amounts not in thousands)
Metal
Quantity
Price
Range
Fair
Value
Period
Lead
12,125
tons
$521.63/ton
to $952.54/ton
$
(1,389,883)
Nov.
04 to Feb.05
(1,653)
tons
$816.47/ton
27,313
Nov.
04
Copper
1,100
tons
$2,500.00/ton
(262,086)
Feb.
05
(1,102)
tons
$2,608.16/ton
to $2,948.35/ton
74,097
Dec.
04
Zinc
(1,653)
tons
$997.90/ton
28,150
Dec.
04
Silver
416,860
oz.
$5.47/oz.
to $7.06/oz.
(479,378)
Dec.
04 to Mar. 05
(54,850)
oz.
$7.06/oz.
10,889
Dec.
04
Sold
(Purchased) Put Option Contracts
(tons, ounces and dollar amounts not in thousands)
Metal
Quantity
Price
Range
Fair
Value
Period
Copper
(1,764)
tons
$2,512.90/ton
$
204,748
Jan.
05 to Apr.05
Silver
(164,550)
oz.
$6.20/oz.
23,880
Dec.
04
At
October 31, 2005 and 2004, the Company had recorded liability of $2,001 and
$8,976, respectively, related to the fair market values of these instruments.
The
Company does not obtain collateral or other security to support hedge
instruments subject to credit risk but assesses the reliability and reputation
of its counterparties before contracts are established.
(19) Asset
Retirement and Environmental Obligations
The
Company is subject to numerous federal, state and local environmental laws
and
regulations governing, among other things, air emissions, wastewater discharges,
solid and hazardous waste treatment, storage and disposal and remediation of
releases of hazardous substances. The Company’s facilities are located on sites
that have been used for heavy industrial purposes for decades and may require
remediation. The Company has made and intends to continue making the necessary
expenditures for environmental remediation and compliance with environmental
laws and regulations. Environmental laws and regulations may become more
stringent in the future, which could increase costs of compliance.
Asset
Retirement Obligations
Asset
retirement obligations (AROs) are recognized as liabilities when incurred,
with
the initial measurement at fair value. These liabilities will be increased
to
full value over time through charges of accretion to operating expense. In
addition, an asset retirement cost is capitalized as part of the related asset’s
carrying value and will be depreciated over the asset’s useful life. Changes in
the ARO liability resulting from revisions to the timing or the amount of the
original estimate of undiscounted cash flows shall be recognized as an increase
or a decrease in the carrying amount of the liability for an ARO and the related
asset retirement cost capitalized as part of the carrying amount of the related
long-lived asset.
The
Company’s mines and related processing facilities are subject to governance by
various agencies that have established minimum standards for reclamation. The
Company’s primary smelter slag produced by and stored at the primary smelter in
Herculaneum, Missouri, is currently exempt from hazardous waste regulation
under
the Resource Conservation and Recovery Act of 1976, as amended (RCRA), but
is
subject to a state closure permit, which requires the Company to contain and
cover the pile upon cessation of operations. The Company’s mining and milling
operations are subject to Missouri mine waste closure permit requirements and
lease agreements that require the Company to reclaim surface areas, including
remediation of mining waste disposal areas, and to perform closure activities
underground. These activities, which tend to be site specific, generally include
costs for earthwork, revegetation, water treatment and demolition. Closure
activities may be performed over time.
The
Company has a RCRA permit addressing the closure of portions of its recycling
operation. The majority of the cost will arise from removing hazardous materials
from the facility. No ARO liability or related asset cost has been recorded
because
the fair value of the obligation cannot be
determined due to the indeterminate timing. The cost of closure, based on third
party estimates for bonding purposes, is approximately $3,000. The life of
the
operation is considered indeterminable because there is not currently a
cost-effective alternative to the lead acid batteries and because battery
manufacturers are required to recycle the batteries.
Mine
Closure Law No. 28090 (Law) became effective as of October 15, 2005. The Law
establishes the obligations and procedures that titleholders of mining
activities must adhere to, including a financial guarantee for environmental
issues. Doe Run Peru must submit a mine closure plan to the Ministry of Energy
and Mines by August 17, 2006. The mine closure plan must include a description
of the remediation measures to be done, along with their cost and timing, and
the expected amount of the financial guarantee. Pursuant to the Tax
Stabilization Agreement , Doe Run Peru is exempt from new obligations that
could
result in a reduction of its cash availability, such as the guarantee discussed
above. Therefore, Doe Run Peru considers that the establishment of the
corresponding environmental guarantee would be in opposition to the provisions
set forth in the Tax Stabilization Agreement.
Doe
Run
Peru also has AROs at its Cobriza mine related to the costs associated with
closing the mine openings and covering acid rock. Doe Run Peru is also
responsible for the covering and revegetation of mixed lead and copper slag
stored in Huanchan, an area a short distance from the smelter where the slag
is
currently stored.
The
Company had recorded liabilities of approximately $20,000 and $18,800 related
to
remediation obligations as of October 31, 2005 and 2004,
respectively.
Doe
Run
is subject to an Administrative Order on Consent (AOC), effective May 29, 2001,
to study and address issues related to the slag pile, plant property, community
soils adjacent to the primary smelter in Herculaneum, elevated blood lead levels
in the community and lead releases from the plant. Under this AOC, Doe Run
completed additional soil testing in the area within a one-mile radius of the
smelter and subsequently signed a second AOC with the U.S. EPA on December21,2001, which has essentially been completed. The May 29, 2001 AOC was modified
effective on May 20, 2004. At October 31, 2005 the estimated remaining cost
of
remediating these properties was approximately $688.
Doe
Run
signed a settlement agreement with the State of Missouri on April 26, 2002,
whereby it agreed to offer to purchase approximately 160 residential properties
in an area close to the smelter if the owner requests such an offer. The offers
have expired except for a few with pending closing dates or special
arrangements. As of October 31, 2005, a total of 149 homeowners had requested
and were delivered offers, and 142 of those offers had been accepted. As of
October 31, 2005, the Company had spent approximately $10,000 under the
residential property purchase plan. Another $1,100 of accepted offers are
awaiting a closing date, and $400 in outstanding offers have not been accepted.
Doe Run has complied in all material respects with the property purchase
provisions of the settlement agreement.
The
Company’s statements of operations reflect losses from impairment or retirement
of long-lived assets primarily related to the residential properties owned
in
Herculaneum, as it cannot be assured that the cost of the properties will be
recovered through future cash flows. The Company’s recorded liability for
remediation does not include the future purchase costs relating to the
residential property purchase plan as these costs are capitalized.
Doe
Run
is subject to a State Implementation Plan (SIP) with the Missouri Department
of
Natural Resources and the Missouri Air Conservation Commission to attain and
maintain compliance with the ambient air quality standard for lead promulgated
under the federal Clean Air Act for the city of Herculaneum. The plan was
included in a consent judgment entered into by Doe Run and has been approved
at
the state level and by the U.S. EPA. The air quality monitors reflected
attainment of the lead standard for 10 of the last 13 quarters. Since the air
quality monitors reflected three quarters of non-compliance, the permitted
annual capacity of the Herculaneum primary smelter decreased from 250,000 to
200,000 tons, which does not affect results at current production levels.
Further non-compliance could result in SIP revisions that could have a material
adverse financial impact on the Company. Management is in discussions with
the
Missouri Department of Natural Resources to explore options intended to improve
the smelter’s ability to attain and maintain compliance in the
future.
Doe
Run
has received notice that it is a potentially responsible party (PRP) subject
to
liability under The Comprehensive Environmental Response, Compensation and
Liability Act of 1980, as amended (CERCLA), at the following sites: six sites
in
St. Francois County, Missouri, including the Big River Mine Tailings site,
the
Bonne Terre site, the Federal site, the National site, the Rivermines site
and
the Leadwood site; sites comprising areas along roads in Iron, Dent and Reynolds
counties in Missouri; the Oronogo-Durenweg site in Jasper County, Missouri;
the
Cherokee County site in Cherokee County, Kansas; the Tar Creek site in Ottawa
County, Oklahoma; the Block “P” site in Cascade County and Judith County,
Montana; and the Missouri Electric Works site in Cape Girardeau, Missouri.
There
are two additional sites in St. Francois County for which the U.S. EPA has
indicated it will issue notice. CERCLA provides for strict and, in certain
circumstances, joint and several liability for response costs and natural
resource damages. The Company’s estimate of the cost of the remediation of these
sites, including the two additional sites in St. Francois County, is included
in
the total liability for remediation obligations, which the Company believes
is
adequate based on its investigations to date. However, depending upon the types
of remediation required and certain other factors, additional costs at these
sites, individually or collectively, could have a material adverse effect on
the
results of operations, financial condition and liquidity of the Company.
In
addition to being asked to conduct remediation at these sites, the U.S. EPA
may
also seek reimbursement from Doe Run for response actions it has conducted
at
these sites. The U.S. Government has advised PRP’s at the Tar Creek site,
including Doe Run, that it will seek reimbursement for approximately $125
million of such costs. Given legal issues about Doe Run’s responsibility for
activities of a former subsidiary, the fact that the former subsidiary’s
activities at the site were localized and small (less than 1% of the waste),
and
the major involvement at the site of the U.S. Government through the Bureau
of
Land Management’s and the Bureau of Indian Affairs’ management of mineral
leasing at the site, the Company is unable to estimate the expected outcome
of
any such potential claim.
In
February 2004 the U.S. Department of Agriculture issued a Unilateral
Administrative Order (UAO) ordering certain remediation activities by Doe Run
at
the Block “P” mill site in Montana. Doe Run has requested that other parties be
added to the order. Doe Run will seek reimbursement from the U.S. Government
and
these other parties. The final remediation was essentially completed as of
October 31, 2005.
Doe
Run
has completed an Engineering Evaluation/Cost Analysis (EE/CA) for the Bonne
Terre site and has signed two AOCs to conduct removal actions on the west and
east portions of the site. Work is completed on the west Bonne Terre site and
is
nearly finished on the east site with completion expected in early 2006.
Doe
Run
has completed an EE/CA for the Rivermines site and, while unable to accept
certain financial assurance provisions of a proposed AOC, has agreed to conduct
a removal action at the site under a UAO. Work has commenced on the removal
action. The EPA accelerated the timeframe to complete the majority of the
remediation effort by the summer of 2006.
Doe
Run
is subject to an AOC with the U.S. EPA to remediate the Big River Mine Tailings
site. The remediation work required by the AOC has been substantially completed
and will continue with revegetation and ongoing monitoring and maintenance
activities.
Doe
Run
has also signed AOCs to perform an EE/CA on each of the National and Leadwood
sites for remediation of mine waste areas. The National EE/CA was completed
by
the PRPs and was submitted to the U.S. EPA for approval. The U.S. EPA then
prepared two EE/CAs, the last of which is currently open for public discussion.
The cost of their remedy is higher than that estimated by the EE/CA prepared
by
Doe Run. The Leadwood EE/CA has been submitted to the U.S. EPA for approval.
In
addition, Doe Run has signed an AOC with the U.S. EPA to conduct a Remedial
Investigation/Feasibility
Study
(RI/FS) to assess potential off-site impacts of
these site operations on groundwater, residential soils, several creeks and
a
river and the need for related remediation. The initial draft of the RI/FS
was
submitted in early March 2002. Doe Run signed an order to conduct interim
measures, which consisted of blood lead testing of young children, residential
soil sampling and limited soil remediation as indicated by the testing and
sampling results, which was terminated and replaced by an AOC to conduct certain
additional soil remediation in the area and has included its best estimate
of
these efforts in its recorded liabilities. The Company believes the recorded
liabilities related to these sites are adequate. However, should remediation
goals or areas change, requiring substantially increased measures, there can
be
no assurance that the recorded liabilities would be adequate.
In
March
2004, Doe Run received notice that it is a PRP subject to liability under CERCLA
for contamination along roads in Iron, Dent and Reynolds counties in Missouri,
along with a number of mining companies involved in the transportation of
concentrates. After sampling approximately 750 houses by the U.S. EPA and the
Missouri DNR, approximately 150 houses were identified as potentially requiring
some level of remediation. Doe Run and four other mining companies have signed
an AOC to conduct soil remediation at approximately 40 of these houses. Recorded
liabilities could change, due to changes in management’s estimates of the number
of houses requiring remediation, remediation methods, the costs of remediation
and Doe Run’s apportionment of the costs. Also, in regard to potential
contamination from transportation activities in and near the City of Viburnum,
Doe Run has signed an AOC to conduct sampling and prepare a Preliminary
Assessment/Site Inspection report.
Doe
Run
has been advised that the U.S. EPA is considering taking certain response
actions at a mine site in Madison County, Missouri known as the Mine LaMotte
Site. Doe Run and the owner of the other 50% share of stock in the company
that
mined the site have signed an AOC to conduct an RI/FS at the site. This site
is
substantially smaller than the sites in St. Francois County where the Company
has been named a PRP, and the potential issues are less complex. Doe Run has
also been advised that remediation is required at a related small satellite
mine
site. After conducting an investigation, Doe Run has determined that it was
not
involved in operations at the satellite site, but further review will be
required before a determination can be made as to whether it has any liability
at the main site. At this time, based on preliminary information and an
inspection of the sites, management does not believe that any future action
will
result in a material adverse impact to the results of operations, financial
condition or liquidity of the Company.
Doe
Run’s
recycling facility is subject to corrective action requirements under RCRA
as a
result of a storage permit for certain wastes initially issued in 1989. This
will involve remediation of solid waste management units at the site, and it
is
expected that the plan for corrective action will be approved in fiscal 2006.
The Company’s estimate of the cost of this corrective action is $1,000. While
management believes that recorded liabilities are adequate based on expectations
of the closure plan requirements, regulators could require that additional
measures be included in the finalized plan, which could change the estimate
of
the costs for corrective action.
On
August25, 2004, the U.S. EPA issued a Notice of Violation (NOV) to the Company
alleging past violations of the recycling facility’s air permit conditions
regarding production limits for its reverbatory furnace. Management believes
the
facility has operated in compliance with state and federal air requirements
and
has objected to the NOV. Consequently, management believes this issue will
not
cause a material adverse impact on the Company.
The
domestic operating facilities have wastewater discharge permits issued under
the
federal Clean Water Act, as amended. Doe Run currently meets the effluent limits
under these permits, but if compliance is not maintained, additional
improvements to its treatment facilities could be required.
Environmental
remediation - Foreign Operations
Doe
Run
Peru’s La Oroya operations historically and currently exceed some of the
applicable Ministry of Energy and Mines (MEM) maximum permissible limits
pertaining to air emissions and wastewater effluent quality. Prior to our
acquisition of La Oroya, Metaloroya S.A., the former owner, a subsidiary of
Empresa Mineral del Centro del Peru S.A. which we refer to as (Centromin)
received approval from the Peruvian government for an Environmental Remediation
and Management Program, known as a PAMA. The PAMA was designed to achieve
compliance with MEM’s air and wastewater limits. It consisted of an
environmental impact analysis, monitoring plan and data, mitigation measures
and
a closure plan. The PAMA also sets forth the actions and corresponding annual
investments the concession holder agrees to undertake in order to achieve
compliance with the maximum permissible limits prior to expiration of the PAMA
(ten years for smelters, such as Doe Run Peru’s operations in La Oroya, and five
years for any other type of mining or metallurgical operation like
Cobriza).
The PAMA projects, which are more fully
discussed below, have been designed to achieve compliance with these
requirements. The Peruvian government may, in the future, require compliance
with additional environmental regulations that could adversely affect Doe Run
Peru’s business, financial condition and results of operations. After expiration
of the PAMA, the operator must comply with all applicable standards and
requirements. Because these costs improve the property or prevent future
environmental contamination, they are capitalized.
Doe
Run
Peru has committed under its current approved PAMA to implement the following
projects at its La Oroya smelter through December 31, 2006:
· Construct
new sulfuric acid plants;
· Construct
a treatment plant for the copper refinery effluent;
· Construct
an industrial wastewater treatment plant for the smelter and
refinery;
· Improve
the slag handling system;
· Improve
Huanchan lead and copper slag deposits;
· Construct
an arsenic trioxide deposit;
· Improve
the zinc ferrite disposal site;
· Construct
domestic wastewater treatment and domestic waste disposal; and
· Construct
a monitoring station.
An
investment schedule in the PAMA provides a specific plan for achieving the
applicable MEM maximum permissible limits pertaining to air emissions and
wastewater effluent quality. The PAMA may be modified and amended as to the
actual design and timing of projects to be implemented, provided compliance
with
the applicable maximum permissible limits is achieved by December 31, 2006.
The
required estimated
spending for the projects approved in the La Oroya PAMA, as amended on January25, 2002, is estimated at $108,000 for calendar 2006.
Doe
Run
Peru expects that it will not be able to comply with the spending requirements
of La Oroya’s PAMA investment schedule in 2006 with respect to the construction
of the sulfuric acid plants required by the PAMA and, as a result, could be
subject to penalties. Failure to comply with the PAMA could result in the
cessation of operations at the La Oroya smelter, which would adversely affect
our business, financial condition and results of operations.
On
December 29, 2004 the Peruvian Government issued a Supreme Decree, which
recognized that exceptional circumstances may justify an extension of one or
more projects within the scope of a PAMA. The Supreme Decree specifies that
companies had until December 31, 2005 to apply for an extension. The
maximum extension is for three years and the MEM may authorize an additional
year based upon the results of a health risk study.
Pursuant
to the Supreme Decree, the application for a PAMA extension must be supported
by
a health risk study performed by a third party. The application must contain
an
engineering description and funding plan of any project to be extended, a
discussion of how and when environmental emission standards will be met, a
plan
to monitor emissions with the participation of the community, proof that at
least three public workshops were held in various districts to provide
information on Doe Run Peru’s financial situation and health programs, proof
that two public hearings were held regarding the extension plans, and other
financial information. Upon meeting these requirements, Doe Run Peru applied
for
an extension on December 20, 2005.
Upon
approval of a modified PAMA, Doe Run Peru would be required to create a trust
account. The trust account would administer the receipts and disbursements
related to the extended PAMA project. The Supreme Decree requires that receipts
from sales, in an amount sufficient to fund the monthly cash requirements of
the
extended PAMA project, be remitted directly to the trust account.
The
Supreme Decree also requires that Doe Run Peru provide financial security within
30 days of the approval of the PAMA extension in an amount equal to 20% of
the
projected cost of the project or projects to be extended. The Company currently
expects the remaining investment needed to build the sulfuric acid plants to
be
approximately $102,000.
To
achieve the financial guarantee and the trust contract required by Supreme
Decree, Doe Run Peru has amended the Doe Run Peru Revolving Credit Facility
to
allow for those arrangements and has filed a draft of a trust guarantee contract
with a Peruvian bank. Additionally, on December 10, 2005 Doe Run Peru signed
a
Working Capital Financial Facility
Agreement
for the amount of $30,000 (Ferrites Loan)
with Servicios Mineros Integrados S.A.C., a Trafigura Beheer B.V. subsidiary,
to
use such funds in the fulfillment of the financial security as mentioned
above.
Doe
Run
Peru has performed other environmental projects to reduce fugitive emissions
in
2005 including the installation work on the short rotary furnace, enclosing
the
blast furnace and dross plant, along with other complementary work. Major
projects scheduled for fiscal year 2006 include an upgrade of the ventilation
system in the sinter plant, completion of the enclosure work around the lead
and
dross furnace, the enclosure of the anode residue plant along with the
elimination of its nitrous gases, and the reduction of fugitive emissions from
the copper and lead beds. The total cost of the currently remaining PAMA
projects, including the sulfuric acid plant construction, and these projects
is
approximately $130,000.
Management
believes that Doe Run Peru will obtain an approval of an extension to complete
the sulfuric acid plants. There is no assurance, however, that Doe Run Peru
will
receive an extension, or, if it does, that the projects will be completed within
the time limitation specified by the Supreme Decree.
In
the
future, as part of a modernization plan and to enrich sulfurous gas feed to
the
sulfuric acid plant, we are planning to replace the oxy-fuel reverberatory
furnace with a reactor furnace to smelt copper concentrates. The anticipated
cost is approximately $57 million.
The
PAMA
projects have been designed to achieve compliance with the maximum permissible
limits of emission prior to the expiration of the PAMA. However, no assurance
can be given that implementation of the PAMA projects is feasible or that their
implementation will achieve compliance with the applicable legal requirements
by
the end of the PAMA period. Furthermore, there can be no assurance that the
Peruvian government will not in the future require compliance with additional
or
different environmental obligations that could adversely affect Doe Run Peru’s
business, financial condition and results of operations.
Under
the
purchase agreement related to the acquisition of the La Oroya assets in October
1997, Centromin, the prior owner of the La Oroya smelter and Cobriza mine,
agreed to indemnify Doe Run Peru against environmental liability arising out
of
its prior operations and their apportioned share of any other complaint related
to emissions. Performance of the indemnity has been guaranteed by the Peruvian
government through the enactment of the Supreme Decree No. 042-97-PCM. However,
there can be no assurance that Centromin will satisfy its environmental
obligations and investment requirements, including those in its PAMA, or that
the guarantee will be honored. Any failure by Centromin to satisfy its
environmental obligations could adversely affect Doe Run Peru’s business,
financial condition and results of operations.
The
Cobriza mine has a separate PAMA in which Doe Run Peru committed to complete
projects to manage tailings, mine drainage, sewage and garbage. Doe Run Peru
completed its PAMA requirements with respect to Cobriza in June 2004, ceased
discharging mine waste into the Mantaro River and is in compliance with the
emissions standards required by the PAMA.
In
addition to its PAMA obligations, Doe Run Peru is responsible for the
remediation costs relating to a zinc ferrite disposal site. The current closure
plan provides for encapsulating the ferrite residues in place at Huanchan,
an
area a short distance from the smelter where they are currently stored, for
which an environmental liability of $1,600 has been recorded as of October31,2005 and 2004.
Environmental
remediation -Consolidated
The
Company believes its reserves for domestic and foreign environmental, mine
closure and reclamation matters are adequate, based on the information currently
available. Depending upon the type and extent of activities required, revisions
to management’s estimates of costs to perform these activities are reasonably
possible in the near term. Therefore, there can be no assurance that additional
costs, both individually and in the aggregate, would not have a material adverse
effect on the results of operations, financial condition and liquidity of the
Company.
(20) Litigation
Doe
Run
is a defendant in 29 lawsuits alleging certain damages stemming from the
operations at the Herculaneum primary smelter. Three of these cases are class
action lawsuits. In two cases, the plaintiffs seek to have certified a class
of
property owners in a certain section of Herculaneum, alleging that property
values have been damaged due to the operations
of
the smelter. In another case, plaintiffs seek to
have certified a class of children who lived in Herculaneum during a period
of
time when they were less than six years old and children born to mothers who
lived in Herculaneum during their pregnancies. The remedy sought is medical
monitoring for the class. Twenty-six of the cases are personal injury actions
by
161 individuals who allege damages from the effects of lead due to operations
at
the smelter. Punitive damages also are being sought in each case. Doe Run is
also a defendant in a wrongful death action concerning a drowning in the City
of
Herculaneum.
A
resident of Herculaneum has claimed personal injuries allegedly resulting from
exposure to emissions from the smelter. No suit has yet been filed in this
matter.
Doe
Run
is a defendant in 17 lawsuits alleging certain damages from discontinued mine
facilities in St. Francois County. Four of the cases are class action lawsuits.
The first case seeks to have certified a class consisting of property owners
in
Bonne Terre, Missouri, alleging that property values have been damaged due
to
the tailings from the discontinued operations. In the second case plaintiffs
seek to have certified a class of children who lived, went to school or day
care
in Bonne Terre, or whose mothers lived in Bonne Terre during their pregnancies.
The third and fourth cases are class actions for property damage and medical
monitoring concerning alleged damages caused by chat, tailings and related
operations in six areas in St. Francois County. The remainder of the cases
allege personal injury to 28 individuals who were exposed to lead in St.
Francois County.
Doe
Run
is a defendant in a lawsuit by the BNSF Railway Company, who has
alleged that Doe Run and other companies associated with lead mining operations
in Missouri are responsible for property damage at certain rail yards and for
contribution and indemnity for costs incurred by BNSF associated with settlement
by BNSF of lead exposure cases. Given the early stage of this case, the Company
is unable at this time to estimate the expected outcome and any final costs
of
this action.
Doe
Run
is a defendant in five lawsuits alleging certain damages from past mining
operations in Ottawa County, Oklahoma. Three of these suits are class
actions alleging personal injury and property damage in Picher and Quapaw,
Oklahoma. One lawsuit, a consolidation of five suits, alleges injury to
seven children living in Picher, Oklahoma. One lawsuit, a consolidation of
two suits, alleges injury to 42 children living in Ottawa County.
Doe
Run,
with several other defendants, has been named in four cases in Maryland but
has
not yet been joined as a defendant in any of these cases. These suits seek
damages, alleging personal injuries as a result of lead poisoning from exposure
to lead paint and tetraethyl lead dust. The suits seek punitive damages. Doe
Run
was dismissed from two similar cases in which it was joined as a defendant.
Until Doe Run is actually joined as a defendant in one or more of these cases,
material liability from these cases is considered remote.
Doe
Run
is currently a defendant three asbestos injury suits filed in Madison County,
Illinois, each alleging that a worker was exposed to asbestos at the premises
of
the St. Joe Minerals Corporation. However, Doe Run has not been properly served
in one of these cases. Doe Run has reached a tentative settlement in another
of
these case prior to going to trial. Doe Run is also a defendant in an asbestos
case filed in Lawrence County, Pennsylvania. Doe Run was named in an asbestos
injury suit in the City of St. Louis, Missouri but that case was subsequently
dismissed.
Doe
Run
is in a commercial dispute with a buyer concerning one ocean shipment of lead
concentrates. Buyer is seeking reimbursement of expenses incurred to address
a
large amount of water that appeared during the voyage on top of concentrates
in
the forward holds. This contract dispute is in arbitration before the
LME.
Doe
Run
is a defendant in a lawsuit by Korea Zinc Co. and affiliates filed on January19, 2006 in the Circuit Court of St. Louis County, concerning alleged violations
of an agreement regarding the sale of zinc concentrates. Doe Run disputes the
claim and will seek dismissal because the dispute should be subject to
arbitration.
Doe
Run
has been named as a party in various lawsuits relating to certain operations
of
its predecessor. Fluor Corporation, the owner of Doe Run’s predecessor, retained
the obligation for any costs of defense or claims relating to these lawsuits.
Should Fluor Corporation become unable to fulfill its contractual obligation,
Doe Run could be liable for any costs or claims resulting from these lawsuits.
There is no reason at this time to believe that Fluor Corporation could not
fulfill its contractual obligations.
Doe
Run
Peru is a defendant in 198 lawsuits in the Lima, Peru labor courts that allege
damage to workers from industrial diseases. Doe Run Peru has made claims in
most
of the cases against Centromin and has also made claims against both
governmental agencies and private companies that provide workers’ insurance. The
average claim is $18. Of 17 concluded cases in this category, 16 were dismissed
and one resulted in an award of $9.
Doe
Run
Peru is also a defendant in 163 lawsuits by workers alleging that they are
owed
certain differences in salaries and benefits. The average claim is $21. Of
31
concluded cases in this category, 26 were dismissed and five resulted in awards
totaling $15. Doe Run Peru is also a defendant in a lawsuit by the Yauli-La
Oroya Employees Union concerning salaries and benefits. The claims of the 146
workers remaining in the lawsuit have been valued at a total of $238 according
to a report by an expert appointed by the court.
Doe
Run
Peru is also a defendant in 26 lawsuits alleging claims ranging from industrial
diseases to salary disputes, including indemnification for arbitrary dismissal,
nullity of dismissal, moral damage compensation, compensatory damages from
work
accident and readmission of worker. The average claim is $6. Of 29 concluded
cases in this category 26 were dismissed and three resulted in awards totaling
$22.
The
amount of awards in the various categories of lawsuits referenced above
represent total judgments issued by the relevant courts. For certain of these
lawsuits, Centromin will pay a portion of the total award.
On
January 19, 2005, Doe Run Peru was served with a lawsuit by an association
of
municipalities of the Junin Region of Peru against Doe Run Peru and two other
mining companies. This lawsuit alleges environmental damages to the Mantaro
River basin in the amount of $5 billion. Material liability to Doe Run Peru
is
believed to be remote because it is the opinion of management and outside
counsel for Doe Run Peru that the probability under Peruvian law of
this case proceeding to a conclusion at the favor of the plaintiffs is low.
Any
potential judgment would be subject to the indemnification obligations of
Centromin, which are guaranteed by the Peruvian government.
On
May25, 2005, Doe Run Peru was served with a civil lawsuit alleging the existence
of
lead in a person caused by Doe Run Peru’s operations. The claim is for $100.
On
July11, 2003, Doe Run Peru filed an administrative lawsuit against the Yauli -
La
Oroya Provincial City Hall in order to dismiss a number of fines for the amount
of $2,800. Doe Run Peru was fined for not having construction licenses for
the
PAMA projects.
Since
most of the above cases are either in the pleading or discovery stages, the
Company is unable at this time to estimate the expected outcome and the final
costs, except as noted, of these actions. No amounts have been accrued as
liabilities related to these actions. There can be no assurance that these
cases
will not have a material adverse effect, both individually and in the aggregate,
on the results of operations, financial condition and liquidity of the Company.
The Company has and will continue to vigorously defend itself against such
claims.
The
Guarantor Subsidiaries (Fabricated Products, Inc. (FPI) and DR Land Holdings,
LLC (together, the Domestic Guarantors) Buick Resource Recycling Facility,
LLC,
Doe Run Cayman Ltd. (Doe Run Cayman) and its subsidiary Doe Run Peru) have
jointly and severally, fully, unconditionally and irrevocably guaranteed the
11.75% notes of the Company. Doe Run Cayman has no operations separate from
those of Doe Run Peru. Separate financial statements and other disclosures
concerning certain Guarantor Subsidiaries and disclosures concerning
non-Guarantor Subsidiaries have not been presented because management has
determined that such information is not material to investors. Intercompany
transactions eliminated in consolidation consist of various service and agency
fees between Doe Run and Doe Run Peru and sales of metal to Doe Run by Doe
Run
Peru and to FPI by Doe Run.
We
have
audited the accompanying balance sheets of Doe Run Peru S.R.L. (a Peruvian
Company subsidiary of Doe Run Cayman Ltd.) as of October 31, 2005 and 2004
and
the related statements of operations, changes in shareholders’ equity (deficit)
and cash flows for the years then ended. These financial statements are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining,
on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and
significant estimates made by management, as well as evaluating the overall
financial statements presentation. We believe that our audits provide a
reasonable basis for our opinion.
In
our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Doe Run Peru S.R.L. as of October31, 2005 and 2004, and the results of its operations and its cash flows for
the
years then ended in conformity with U.S. generally accepted accounting
principles.
The
accompanying financial statements have been prepared assuming the Company will
continue as a going concern. As further discussed in Note 17 to the
financial statements, the Company has significant capital requirements under
environmental commitments, which, if not met, could result in defaults of the
Company’s credit agreement; has substantial contingencies related to tax; and
has significant debt service obligations that raise substantial doubt about
the
Company’s ability to continue as a going concern. Management’s plans in
regard to these matters are also described in Note 17. The financial
statements do not include any adjustments that might result from the outcome
of
this uncertainty.
We
have
audited the accompanying consolidated balance sheet of Doe Run Peru S.R.L.
(a
Peruvian Company) as of October 31, 2003, and the related consolidated
statements of operations, changes in shareholders’ equity (deficit), and cash
flows for each of the years in the two-year period ended October 31, 2003.
These
consolidated financial statements are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan
and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts
and
disclosures in the consolidated financial statements. An audit also
includes assessing the accounting principles used and significant estimates
made
by management, as well as evaluating the overall consolidated financial
statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
In
our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Doe Run Peru S.R.L. as
of
October 31, 2003, and the results of their operations and their cash flows
for
each of the years in the two-year period ended October 31, 2003 in conformity
with U.S. generally accepted accounting principles.
The
accompanying consolidated financial statements have been prepared assuming
that
the Company will continue as a going concern. As discussed in Note 17 to the
consolidated financial statements, the Company has jointly and severally, fully,
unconditionally guaranteed notes issued by Doe Run Resources. Also, the Company
has suffered recurring losses and has a net capital deficiency. These
conditions, along with other matters as set forth in note 17, indicate the
existence of material uncertainties that raises substantial doubt about its
ability to continue as going concern. Management’s plans in regards to these
matters are also described in Note 17. The consolidated financial statements
do
not include any adjustments that might result from the outcome of this
uncertainty.
As
discussed in Note 3 to the consolidated financial statements, the Company
adopted the provisions of SFAS No. 143 Accounting
for Asset Retirement Obligations, as
of
November 1, 2002.
(U.S.
dollars and nuevos soles in thousands, except share data)
(1)Nature
of Business
Doe
Run
Peru S.R.L. (Doe Run Peru or the Company) is a Peruvian company incorporated
on
September 8, 1997, and since June 1, 2001, 99.9% owned by Doe Run Cayman Ltd.
(Doe Run Cayman). Prior to June 1, 2001, Doe Run Peru was 99.9% owned by Doe
Run
Mining S.R.L. (Doe Run Mining), a subsidiary of Doe Run Cayman.
Doe
Run
Peru is engaged in the mining, smelting and refining of polymetallic
concentrates, producing mainly copper, lead, zinc and silver which are sold
as
refined metals primarily to customers located outside of Peru.
(2) Basis
of Presentation
The
financial statements of the Company have been prepared in accordance with
accounting principles generally accepted in the United States of America (U.S.
GAAP).
Use
of Estimates
The
preparation of financial statements in conformity with U.S. GAAP requires
management to make estimates and assumptions that affect the reported amounts
of
assets and liabilities, the disclosure of contingent assets and liabilities
at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting periods. Actual results could differ from these
estimates.
(3) Summary
of Significant Accounting Policies
Inventories
Finished
metals and concentrates, metals and concentrates in process, and raw materials
are stated at the lower of cost or market. The last-in, first-out (LIFO) method
of determining cost is used for the majority of the Company’s inventories.
Supplies and repair parts are principally stated at average cost, net of
reserves for obsolescence.
Inventory
costs include concentrates purchased, labor, material and other production
costs.
Property,
Plant and Equipment
Property,
plant and equipment are recorded at cost. In accordance with Statement of
Financial Accounting Standards Statement No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets,
long-lived assets are reviewed for impairment when events or circumstances
indicate that the carrying amount of the assets may not be recoverable. The
impairment loss on such assets, as well as long-lived assets and certain
identifiable intangibles to be disposed of, is measured as the amount by which
the carrying value of the assets exceeds the fair value of the
assets.
Recoverability
of assets to be held and used is measured by a comparison of the carrying amount
of an asset to the estimated undiscounted future cash flows expected to be
generated by the asset. If the carrying amount of an asset exceeds its estimated
future cash flows, an impairment charge is recognized by the amount by which
the
carrying amount of the asset exceeds the fair value of the asset. Assets to
be
disposed of would be separately presented in the balance sheet and reported
at
the lower of the carrying amount or fair value less costs to sell, and are
no
longer depreciated. The assets and liabilities of a disposed group classified
as
held for sale are presented separately in the appropriate asset and liability
sections of the balance sheet.
Major
additions and improvements to property, plant and equipment are capitalized,
at
cost, when they significantly increase the productive capacity or the life
of
the asset. Repair and maintenance expenditures which are routine, unanticipated,
or for which the timing cannot be estimated, and which do not extend the useful
life or increase the productive capacity of the asset, are charged to operations
as incurred.
Interest
incurred for the direct or indirect debt for the construction of assets to
be
used in operations is capitalized when the interest is charged. The amount
of
interest capitalized was $763, $112, and $206 for the years ended October 31,2005, 2004 and 2003, respectively.
Costs
to
treat environmental contamination are capitalized when they extend the life,
increase the capacity, or improve the safety or efficiency of the property;
when
they mitigate or prevent future environmental contamination or when they are
incurred in preparing property for sale.
Depreciation
is calculated on a straight-line basis at the rates indicated in Note
7.
Exploration
and Development Costs
Exploration
costs and development costs incurred to maintain production at operating mines
are charged to operations as incurred. Development expenditures for mining
properties that are considered to be commercially feasible, but are not yet
producing, and major development expenditures at operating mines that are
expected to benefit future production are capitalized and amortized using the
units of production method over the estimated proven ore reserves to be
benefited.
Reclamation
and Mine Closure Costs
The
Company’s mining and smelting facilities are subject to governance by various
agencies that have established minimum standards for reclamation.
As
of
November 1, 2002the Company adopted Financial Accounting Standards Statement
No. 143, Accounting
for Asset Retirement Obligations (Statement
No. 143), which addresses financial accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated
asset retirement costs. The standard applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and/or normal use of the asset.
Prior
to
the adoption of Statement No. 143, the Company accrued for mine and other
closure obligations at their estimated, undiscounted cost. Statement No. 143
requires that the fair value of a liability for an asset retirement obligation
be recognized in the period in which it is incurred if a reasonable estimate
of
fair value can be made. The fair value of the liability is added to the carrying
amount of the associated asset and this additional carrying amount is
depreciated over the life of the asset. The liability is accreted at the end
of
each period through charges to operating expense. If the obligation is settled
for other than the carrying amount of the liability, the Company will recognize
a gain or loss on settlement.
The
cumulative effect related to the adoption of Statement No. 143 for the year
ended October 31, 2003 was a loss of $92, a net decrease to plant, property
and
equipment of $1,613, and a decrease of $1,521 to the liability for asset
retirement obligations.
Commitments
and Contingencies
The
Company accrues for loss contingencies, including costs associated with
environmental remediation obligations, when it is probable that a liability
has
been incurred and can be reasonably estimated. Liability estimates for
environmental remediation obligations are based on an evaluation of, among
other
factors, currently available facts, existing technology, presently enacted
laws
and regulations and the Company’s experience in remediation. Costs of future
expenditures for environmental remediation obligations are not discounted to
their present value.
Revenue
Recognition
Sales
are
recorded as products are delivered to customers as defined in the specific
contracts or as tolling services are performed. Concentrate and certain smelter
product sales are recorded based upon estimated weights and metal contents
and
metal prices in effect at the time of delivery. Revenues are adjusted between
the month of delivery and the month of settlement based on changes in market
prices. Adjustments with respect to such sales are recorded based on final
settlement weights, metal contents and metal prices using applicable customer
agreements.
Derivative
Instruments and Hedging Activities
Statement
of Financial Accounting Standards No. 133, Accounting
for Derivative Instruments and Hedging Activities,
was
issued by the Financial Accounting Standards Board in June 1998, and amended
by
Statement No. 138, Accounting
for Certain Derivative Instruments and Certain Hedging Activities, an amendment
of FASB Statement No. 133,
issued
in June 2000 (collectively, Statement No. 133). Under Statement No. 133, the
Company carries all derivative instruments in the balance sheet at fair value.
The accounting for changes in the fair value (i.e. gains and losses) of a
derivative instrument depends on whether it has been designated and qualifies
as
part of a hedging relationship, and if so, whether the derivative instrument
is
designated as a hedge of exposures to changes in fair values, or cash flows.
If
the hedged exposure is an exposure to changes in the fair value of a fixed
commitment, the gain (loss) is recognized in earnings in the period of change,
with an equal and offsetting (loss) gain recognized on the change in value
of
the hedged item. If the hedged exposure is an exposure to changes in forecasted
cash flows, the effective portion of the gain (loss) is reported as a component
of other comprehensive income (outside earnings) until the forecasted hedged
transaction affects earnings, when it is reclassified into
earnings.
Deferred
Income Taxes
Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts
of
existing assets and liabilities and the respective tax bases of these assets
and
liabilities. Deferred tax assets and liabilities are measured using enacted
tax
rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled.
Deferred
Workers’ Profit Sharing
In
accordance with government regulations in Peru, employees are entitled to
receive 8% of Doe Run Peru’s taxable income, 50% of which is distributed to
employees based on number of days worked, and the remaining amount is
distributed in proportion to their salaries. Such profit sharing, which is
tax
deductible, is limited to 18 times the annual salary for each worker. Any excess
is to be reserved and used for training of the workers.
Because
workers’ profit sharing is calculated on taxable income, the Company recognizes
the effect of temporary differences between financial reporting and tax bases
of
assets and liabilities related to workers’ profit sharing on a basis consistent
with that used for income taxes.
Reclassifications
Certain
balances have been reclassified from their previous presentation in order to
conform to the current year presentation.
(4) Remeasurement
into U.S. Dollars
The
methodology utilized for the remeasurement of nuevos soles (S/) into U.S.
dollars, as established by Statement of Financial Accounting Standards No.
52,
Foreign
Currency Translation,
is as
follows:
(a) Non-monetary
accounts have been remeasured at historical exchange rates.
(b)
Monetary
accounts in Peruvian currency have been remeasured at free market
average
exchange rates in effect at the respective year-end. See Note
5.
(c)
Income
and expenses have been remeasured at the average monthly exchange
rates.
Cost of sales was determined from its components once remeasured.
The net
effect of foreign exchange differences has been reflected in the
accompanying statements of
operations.
(5) Foreign
Currency Transaction and Exchange Risk Exposure
Under
current law, foreign currency transactions are made through the Peruvian
financial banking system at free market exchange rates. The exchange rates
in
effect were S/3.380, S/3.325 and S/3.473 to U.S. dollar for assets at October31, 2005, 2004 and 2003, respectively, and S/3.376, S/3.322 and S/3.472 to
U.S.
dollar for liabilities at October 31, 2005, 2004 and 2003,
respectively.
Assets
and liabilities denominated in Peruvian nuevos soles (S/) are as
follows:
The
Company recorded net foreign currency transaction gains (losses) relating to
transactions denominated in Peruvian nuevos soles of $241 for the year ended
October 31, 2005, $(471) for the year ended October 31, 2004 and $(157) for
the
year ended October 31, 2003, which have been reflected in the statements of
operations.
Materials,
supplies and spare parts are stated net of reserves for obsolescence of $1,162
and $1,436 at October 31, 2005 and 2004, respectively.
The
FIFO
cost of inventories, valued under the LIFO cost method, were approximately
$97,122 and $78,977 at October 31, 2005 and 2004, respectively. If the FIFO
cost
method had been used to determine cost, inventories would have been $42,789
and
$26,417 higher at October 31, 2005 and 2004, respectively.
As
a
result of reducing certain inventory quantities valued on the LIFO basis in
2003, inventory costs prevailing in previous years was charged to cost of sales.
The Company calculates the effect of LIFO liquidations on results of operations
based on the current cost method. The effects of this liquidation on the results
of operations in the year ended October 31, 2003 was not
significant.
(7) Property,
Plant and Equipment, Net
Property,
plant and equipment consists of the following:
Average
Annual
Depreciation
October
31,
Rate
2005
2004
Cost:
Land
-
$
5,847
$
5,847
Buildings
and improvements
5%
and 10
%
41,051
35,966
Machinery
and equipment
6.67
%
104,957
105,317
Transportation
units
33.33
%
4,176
4,147
Other
equipment
10%
and 20
%
21,477
20,328
Construction
in progress
-
63,911
37,252
241,419
208,857
Less
accumulated depreciation
79,856
68,114
$
161,563
$
140,743
The
implementation of Statement No. 143 resulted in changes to the estimates of
expected cash flows related to asset retirement obligations resulted in an
additional decrease to plant, property and equipment of $0, $0, and $600 as
of
October 31, 2005, 2004 and 2003, respectively. See additional disclosures
related to Statement No. 143 in Note 12.
There
is
a long-term portion of the capital lease in the amount of $6 which is included
in “Other non current liabilities” on the Balance Sheet.
The
revolving credit facility (the Doe Run Peru Revolving Credit Facility) allows
Doe Run Peru to borrow up to $40,000 for working capital, with a limit on
letters of credit of $5,000 and expire on November 23, 2005. The Doe Run Peru
Revolving Credit Facility bears interest at LIBOR (1-month, 3-month or 6-month
rate, depending on the term of the loan) plus 3.5% per annum for an effective
rate of 7.59% at October 31, 2005. An unused line fee of 0.375% per annum on
the
average unused portion of the line is payable quarterly, in arrears. The Doe
Run
Peru Revolving Credit Facility is secured by accounts receivable and
inventories. Availability of loans under the facility is limited to a percentage
of Doe Run Peru’s eligible accounts receivable and eligible inventories, less
any outstanding loans and letters of credit. Revolving loans outstanding under
the Doe Run Peru Revolving Credit Facility were $39,800 and $39,400 at October31, 2005 and 2004, respectively. The availability was approximately $200 and
$60
at October 31, 2005 and 2004, respectively.
On
November 22, 2005 Doe Run Peru entered into an amendment of its revolving credit
facility which extended the maturity date of the Doe Run Peru Revolving Credit
Facility to December 15, 2005.
On
December 15, 2005, Doe Run Peru entered into an amendment of its revolving
credit facility. The amendment extended the maturity date to June 23, 2006
with
certain conditions precedent, that if met would extend the maturity date to
September 23, 2006. The conditions precedent are, that the PAMA extension be
approved, that Doe Run Peru diligently seek financing to replace the existing
credit line and that Doe Run Peru obtain the letter of guarantee required by
the
Peruvian government if the PAMA extension is approved. The amendment also
changed the interest rates to LIBOR (1-month, 2-month or 3-month rate, depending
on the term of the loan) plus 3.5%, 3.75% and 4.25%, respectively, per annum.
The amendment also allows Doe Run Peru an additional indebtedness and the
ability to create a trust account to administer the receipts and disbursements
related to the PAMA project.
The
Doe
Run Peru Revolving Credit Facility contains certain covenants governing minimum
net worth requirements, limitations on indebtedness and investments, capital
expenditures, and restrictions on the payments of dividends in the event of
default. The Company was in compliance with all of the covenants as of October31, 2005.
If
Doe
Run Peru is not successful with its administrative appeal of the tax assessment
discussed in Note 10, the lender can, at its discretion, require that the amount
of the assessment reduce net worth as defined under Doe Run Peru’s Revolving
Credit Facility. Such reduction along with other factors, including results
of
operations, would affect Doe Run Peru’s ability to comply with the net worth
requirement.
In
2002,
The Doe Run Resources Corporation (Doe Run), Doe Run Cayman’s parent, tendered a
special term deposit in payment of a loan made to Doe Run Peru by a foreign
bank, and, in return, Doe Run Peru delivered an intercompany note to Doe Run
in
an equivalent amount, plus accrued and unpaid interest, for an aggregate balance
of $139,063. This intercompany note will not bear interest during the term
of
the Doe Run Peru Revolving Credit Facility. The due date of the intercompany
note is December 1, 2006, however obligations under the intercompany note are
subordinate to obligations under the Doe Run Peru Revolving Credit Facility.
On
January 16, 2006, Doe Run Peru entered into an amendment to the intercompany
note which extended the due date to December 9, 2006. This balance of this
note
is in current liabilities under due to related parties.
(10) Taxation
Doe
Run
Cayman is subject to the regulations of the Cayman Islands, which currently
have
no corporate income or capital gains tax. Doe Run Cayman’s subsidiaries located
in Peru are subject to Peruvian taxation. The statutory income tax rate in
Peru
is 30%. Doe Run Peru is a party to a Tax Stabilization Agreement and a Contract
of Guarantees and Measures to Promote Investments with the Peruvian Government
as follows:
Tax
Stabilization Agreement
The
Tax
Stabilization Agreement expires as of December 31, 2006. Under this agreement,
Doe Run Peru utilizes tax statutes prevailing as of November 6, 1997. The
principal provisions of the agreement are as follows:
·
In
exercise of the regulation permitted in the tenth clause of the Tax
Stabilization Agreement, Doe Run Peru adopted the tax statutes prevailing
as of November 6, 1997.
·
Custom
duties will be calculated at rates ranging from 12% to
20%.
·
Free
trade of its products.
·
No
restrictions on the use of proceeds from export
sales.
·
Free
conversion of foreign currency generated by local
sales.
·
No
discrimination in foreign currency
transactions.
Contract
of Guarantees and Measures to Promote Investments
On
December 30, 1997, Doe Run Peru signed a Contract of Guarantees and Measures
to
Promote Investments, as modified in 2005. This agreement is effective beginning
in the calendar year ended December 31, 2007, provided that Doe Run Peru
complies with the committed investments related to the improvements of the
facilities, and provides tax stability through December 31, 2021. The principal
provisions are similar to those established in the Tax Stabilization Agreement,
except that Doe Run Peru will utilize the tax statutes prevailing as of December23, 1997.
The
last
accepted modification of the current contract requires Doe Run Peru to spend
a
total $108,442 on a specific set of projects. Included in this list of projects
is a portion of the total sulfuric acid plant cost of $39,000. All expenditures
for this contract must be completed by December 31, 2006. Through October 31,2005, Doe Run Peru had invested $117,315 on projects within the projects list
of
this contract. Even though the total spending has been exceeded, specific
projects expenditures on the list have not been accomplished. As of October31,2005 only $4,600 of the $39,000 has been spent on a new sulfuric acid plant.
Under the current agreement the remaining $34,400 must be spent by December31,2006.
On
August23, 2005, Doe Run Peru filed for a modification to the contract, to reduce
the
total investment commitment to $102,342. This modification included addition
of
some projects and reduction of others. Included in the reduction was a reduction
of the sulfuric acid plant project from $39,000 to $5,600. On January 19, 2006
the Energy and Mines Ministry ruled on the modification and did not approve
the
reduction, but did approve certain new projects expenditures. As a result of
the
January 19, 2006 ruling, the overall commitment under the modification is now
$133,542 which still includes a sulfuric acid plant commitment of $39,000.
On
February 9, 2006, Doe Run Peru filed before the Mining Council of the Mining
Ministry an appeal against this ruling. Doe Run Peru is expecting reductions,
one of which reduction is the sulfuric acid plant investment to $5,600. With
these changes the total investment amount to meet the contract will be reduced
to $95,642, with remaining specific project investments required by December31,2006 of $17,000.
Peruvian
Income Tax
The
Company had no expense relating to Peruvian income tax for the years ended
October 31, 2005, 2004 and 2003, due to changes in valuation allowance described
below.
Peruvian
income tax expense (benefit) differed from the amount computed by applying
the
statutory income tax rate of 30% to income before income tax expense (benefit)
as a result of the following:
The
tax
effects of temporary differences that give rise to significant portions of
the
deferred tax assets and deferred tax liabilities are as follows:
The
deferred tax assets and liabilities related to property, plant and equipment
are
principally due to differences in book and tax allocations of the excess of
the
fair value of the sum of assets acquired, less liabilities assumed over the
purchase price paid and accelerated depreciation methods used for tax
purposes.
The
net
operating loss carryforwards may be offset against the taxable income that
the
Company obtains up to December 31, 2007, inclusive.
Management
believes that sufficient uncertainty exists regarding the realization of certain
deferred tax assets that a valuation allowance is required. The valuation
allowance decreased $9,686 and $1,287 for the years ended October 31, 2005
and
2004, respectively and increased $5,473 for the year ended October 31,2003.
Tax
Assessments
Doe
Run
Peru has received income tax assessments from Peru’s tax authority, SUNAT for
tax years 1998 through 2001. The assessments primarily relate to Doe Run Peru’s
income tax treatment of the December 1997 merger of Doe Run Peru and Metaloroya
S.A., which was purchased by Doe Run Peru in October 1997, and its effects
on
subsequent years’ taxable income. Under the assessment by SUNAT, the tax basis
of Doe Run Peru’s fixed assets acquired would decrease, resulting in lower tax
depreciation expense than originally claimed. The estimated assessed amount
consisting of additional income taxes due, penalties and interest as of October31, 2005 totals approximately $109,030. The Company estimates that the effect
of
a similar assessment for tax years after 2001 would be approximately $30,300.
Furthermore, Doe Run Peru would also be required to make additional workers’
profit sharing payments equal to 8% of the increase in taxable income generated
by the changes discussed above, or approximately $11,200 for calendar years
1998
through 2005.
Doe
Run
Peru has also received Value Added Tax (VAT) assessments for the tax years
1999
through 2001 and for the period from January through July 2004. The assessments
primarily relate to Doe Run Peru’s exports with holding certificates and
differences in a tax credit application. The total assessment for these periods
was approximately $43,489. SUNAT offset the amount assessed for 2004 of
approximately $2,300 against Doe Run Peru’s VAT receivable balance from July
2004. Future VAT reimbursements cannot be used to offset the assessment by
SUNAT. The Company discontinued the use of holding certificates for exports
in
June 2004. The Company estimates expected additional assessments related to
VAT
for tax years 2002 and 2003 to total approximately $20,166 in regard to its
exports with holding certificates.
Management
of the Company believes that in each case Doe Run Peru has followed the
applicable Peruvian tax statutes and intends to pursue all available
administrative and judicial appeals. Doe Run Peru is not required to make any
payments pending the administrative appeal process. If Doe Run Peru is not
successful in the administrative appeal processes and were to appeal in the
judicial system, some type of financial assurance would be required. No amounts
have been accrued as liabilities related to these actions.
(11) Employee
Benefits
Severance
Indemnities
Doe
Run
Peru is required to make semi-annual deposits into a bank account for severance
indemnity benefits for Peruvian employees under Peruvian government regulations.
The balance in the account represents the full benefit due to such employees
upon termination. The Company accrues for the additional amount that would
be
contributed to the account since the last deposit date as if all such employees
were to terminate as of the balance sheet date. The Company’s expense related to
severance indemnity benefits was $3,523, $3,428 and $3,974 for the years ended
October 31, 2005, 2004 and 2003, respectively.
Workers’
Profit Sharing
In
accordance with government regulations in Peru, employees are entitled to
receive 8% of the Doe Run Peru’s taxable income, 50% of which is distributed to
employees based on number of days worked, and the remaining distributed in
proportion to their salaries. Such profit sharing, which is tax deductible,
is
limited to 18 times the annual salary for each worker. Any excess is to be
reserved and used for training of the workers. The Company had no expense
relating to workers’ profit sharing payments for the years ended October 31,2005, 2004 and 2003, due to tax loss or offset of taxable income by tax loss
carryforwards. See Note 10 for further discussion.
(12)
Commitments and Contingencies
Environmental
Matters
Doe
Run
Peru’s La Oroya operations historically and currently exceed some of the
applicable Ministry of Energy and Mines (MEM) maximum permissible limits
pertaining to air emissions and wastewater effluent quality. Prior to our
acquisition of La Oroya, Metaloroya S.A., the former owner, a subsidiary of
Empresa Mineral del Centro del Peru S.A which we refer to as (Centomin),
received approval from the Peruvian government for an Environmental Remediation
and Management Program, known as a PAMA. The PAMA was designed to achieve
compliance with MEM’s air and wastewater limits. It consisted of an
environmental impact analysis, monitoring plan and data, mitigation measures
and
a closure plan. The PAMA also sets forth the actions and corresponding annual
investments the concession holder agrees to undertake in order to achieve
compliance with the maximum permissible limits prior to expiration of the PAMA
(ten years for smelters, such as Doe Run Peru’s operations in La Oroya, and five
years for any other type of mining or metallurgical operation like Cobriza).
The
PAMA projects, which are more fully discussed below, have been designed to
achieve compliance with these requirements. The Peruvian government may, in
the
future, require compliance with additional environmental regulations that could
adversely affect Doe Run Peru’s business, financial condition and results of
operations. After expiration of the PAMA, the operator must comply with all
applicable standards and requirements. Because these costs improve the property
or prevent future environmental contamination, they are
capitalized.
Doe
Run
Peru has committed under its current approved PAMA to implement the following
projects at its La Oroya smelter through December 31, 2006:
·
Construct
new sulfuric acid plants;
·
Construct
a treatment plant for the copper refinery
effluent;
·
Construct
an industrial wastewater treatment plant for the smelter and
refinery;
·
Improve
the slag handling system;
·
Improve
Huanchan lead and copper slag
deposits;
·
Construct
an arsenic trioxide deposit;
·
Improve
the zinc ferrite disposal site;
·
Construct
domestic wastewater treatment and domestic waste disposal;
and
·
Construct
a monitoring station.
An
investment schedule in the PAMA provides a specific plan for achieving the
applicable MEM maximum permissible limits pertaining to air emissions and
wastewater effluent quality. The PAMA may be modified and amended as to the
actual design and timing of projects to be implemented, provided compliance
with
the applicable maximum permissible limits is achieved by December 31, 2006.
The
required estimated spending for the projects approved in the La Oroya PAMA,
as
amended on January 25, 2002, is $108,000 for calendar 2006.
Doe
Run
Peru expects that it will not be able to comply with the spending requirements
of La Oroya’s PAMA investment schedule in 2006 with respect to the construction
of the sulfuric acid plants required by the PAMA and, as a result, could be
subject to penalties. Failure to comply with the PAMA could result in the
cessation of operations at the La Oroya smelter, which would adversely affect
our business, financial condition and results of operations.
On
December 29, 2004 the Peruvian Government issued a Supreme Decree No.
046-2004-EM (Supreme Decree), which recognized that exceptional circumstances
may justify an extension of one or more projects within the scope of a PAMA.
The
Supreme Decree specifies that companies had until December 31, 2005 to apply
for
an extension. The maximum extension is for three years and the MEM may authorize
an additional year based upon the results of a health risk study.
Pursuant
to the Supreme Decree, the application for a PAMA extension must be supported
by
a health risk study performed by a third party. The application must contain
an
engineering description and funding plan of any project to be extended, a
discussion of how and when environmental emission standards will be met, a
plan
to monitor emissions with the participation of the community, proof that at
least three public workshops were held in various districts to provide
information on Doe Run Peru’s financial situation and health programs, proof
that two public hearings were held regarding
the
extension plans, and other financial information.
Upon meeting these requirements, Doe Run Peru applied for an extension on
December 20, 2005.
Upon
approval of a modified PAMA, Doe Run Peru would be required to create a trust
account to administer the receipts and disbursements related to the extended
PAMA. The Supreme Decree requires that receipts from sales be remitted monthly
directly to the trust account, in an amount sufficient to fund the month’s cash
requirements of the extended PAMA.
The
Supreme Decree also requires that Doe Run Peru provide financial security within
30 days of the approval of the PAMA extension in an amount equal to 20% of
the
projected cost of the project or projects to be extended. The Company currently
expects the remaining investment needed to build the sulfuric acid plants to
be
approximately $102,000.
To
achieve the financial guarantee and the trust contract required by Supreme
Decree, the company has amended the Doe Run Peru Revolving Credit Facility
to
allow for those arrangements and has filed a draft of a trust guarantee contract
with a local bank. Additionally, on December 10, 2005the company signed a
Working Capital Financial Facility Agreement for the amount of $30,000 (named
Ferrites Loan) with Servicios Mineros Integrados S.A.C., a Trafigura Beheer
B.V.
subsidiary, to use such funds in the fulfillment of the financial security
as
mentioned above.
Doe
Run
Peru has performed other environmental projects to reduce fugitive emissions
in
2005 including the installation work on the short rotary furnace, enclosing
the
blast furnace and dross plant, along with other complementary work. Major
projects scheduled for fiscal year 2006 include an upgrade of the ventilation
system in the sinter plant, completion of the enclosure work around the lead
and
dross furnace, the enclosure of the anode residue plant along with the
elimination of its nitrous gases, and the reduction of fugitive emissions from
the copper and lead beds. The total cost of the currently remaining PAMA
projects, including the sulfuric acid plant construction, and these projects
is
approximately $130,000.
Management
believes that Doe Run Peru will obtain an approval of an extension to complete
the sulfuric acid plants. There is no assurance, however, that Doe Run Peru
will
receive an extension, or, if it does, that the project will be completed within
the time limitation specified by the Supreme Decree.
In
the
future, as part of a modernization plan and to enrich sulfurous gas feed to
the
sulfuric acid plant, we are planning to replace the oxy-fuel reverberatory
furnace with a reactor furnace to smelt copper concentrates. The anticipated
cost is approximately $57 million.
The
PAMA
projects have been designed to achieve compliance with the maximum permissible
limits of emission prior to the expiration of the PAMA. However, no assurance
can be given that implementation of the PAMA projects is feasible or that their
implementation will achieve compliance with the applicable legal requirements
by
the end of the PAMA period. Furthermore, there can be no assurance that the
Peruvian government will not in the future require compliance with additional
or
different environmental obligations that could adversely affect Doe Run Peru’s
business, financial condition and results of operations.
Under
the
purchase agreement related to the acquisition of the La Oroya assets in October
1997, Centromin, the prior owner of the La Oroya smelter and Cobriza mine,
agreed to indemnify Doe Run Peru against environmental liability arising out
of
its prior operations and their apportioned share of any other complaint related
to emissions. Performance of the indemnity has been guaranteed by the Peruvian
government through the enactment of the Supreme Decree No. 042-97-PCM. However,
there can be no assurance that Centromin will satisfy its environmental
obligations and investment requirements, including those in its PAMA, or that
the guarantee will be honored. Any failure by Centromin to satisfy its
environmental obligations could adversely affect Doe Run Peru’s business,
financial condition and results of operations.
The
Cobriza mine has a separate PAMA in which Doe Run Peru committed to complete
projects to manage tailings, mine drainage, sewage and garbage. Doe Run Peru
completed its PAMA requirements with respect to Cobriza in June 2004, ceased
discharging mine waste into the Mantaro River and is in compliance with the
emissions standards required by the PAMA.
In
addition to its PAMA obligations, Doe Run Peru is responsible for the
remediation costs relating to a zinc ferrite disposal site. The current closure
plan provides for encapsulating the ferrite residues in place at Huanchan,
an
area a short distance from the smelter where they are currently stored, for
which an environmental liability of $1,600 has been recorded as of October31,2005 and 2004.
Asset
Retirement Obligations
Asset
retirement obligations (AROs) are recognized as liabilities when incurred,
with
the initial measurement at fair value. These liabilities will be increased
to
full value over time through charges of accretion to operating expense. In
addition, an asset retirement cost is capitalized as part of the related asset’s
carrying value and will be depreciated over the asset’s useful life. Changes in
the ARO liability resulting from revisions to the timing or the amount of the
original estimate of undiscounted cash flows shall be recognized as an increase
or a decrease in the carrying amount of the liability for an ARO and the related
asset retirement cost capitalized as part of the carrying amount of the related
long-lived asset.
Mine
Closure Law No. 28090 (Law) became effective as of October 15, 2005. The
Law establishes the obligations and procedures that titleholders of mining
activities must adhere to .including a financial guarantee for environmental
issues. Doe Run Peru must be submitted a mine closure plan to the
Ministry of Energy and Mines by August 17, 2006. The mine closure plan
must include a description of the remediation measures to be done, along with
their cost and timing, and the expected amount of the financial guarantee.
Pursuant to the Tax Stabilization Agreement, Doe Run Peru is exempt from new
obligations that could result in a reduction of its cash availability, such
as
the guarantee discussed above. Therefore, Doe Run Peru considers that the
establishment of the corresponding environmental guarantee would be in
opposition to the provisions set forth in the Tax Stabilization
Agreement.
Doe
Run
Peru has AROs at its Cobriza mine, related to the costs associated with closing
the mine openings and covering acid rock. Doe Run Peru is also responsible
for
the covering and revegetation of mixed lead and copper slag also stored in
Huanchan, an area a short distance from the smelter where the slag is currently
stored.
Activity
related to Doe Run Peru’s AROs for the years ended October 31, 2005 and 2004 are
as follows:
Doe
Run
Cayman and its wholly-owned subsidiary, Doe Run Peru, have jointly and
severally, fully, unconditionally guaranteed notes issued by Doe Run. The total
principal amounts owed under these notes as of October 31, 2005 and 2004 was
$
226,967 and $241,967, respectively. These notes are secured by a second priority
interest in substantially all of the assets of Doe Run’s U.S. operations, except
for substantially all accounts receivable and inventory.
The
guarantee of Doe Run Peru is contractually subordinated to the indebtedness
of
Doe Run Peru under the Revolving Credit Facility described in Note
9.
Litigation
All
existing and pending litigations at the time of the acquisition of Doe Run
Peru
were retained by Centromin, the prior owner of the La Oroya smelter and Cobriza
mine.
Doe
Run
Peru is a defendant in 198 labor lawsuits in the Peruvian labor courts that
to
workers allege damage from industrial diseases. Doe Run Peru has made claims
in
most of the cases against Centromin and has also made claims against both
governmental agencies and private companies that provide workers’ insurance. The
average claim is $18. Of 17 concluded cases in this category, 16 were dismissed
and one resulted in an award of $9.
Doe
Run
Peru is also a defendant in 163 lawsuits by workers alleging that are owed
certain differences in salaries and benefits. The average claim is $21. Of
31
concluded cases in this category, 26 were dismissed and five resulted in awards
totaling $15. Doe Run Peru is also defendant in a lawsuit by the Yauli-La Oroya
Employees Union concerning salaries and benefits. The claims of the 146 workers
remaining in the lawsuit have been valued at a total of $238 according to a
report by an expert appointed by the court.
Doe
Run
Peru is also a defendant in 26 labor lawsuits alleging claims ranging from
industrial diseases to salary disputes including in indemnification for
arbitrary dismissal, nullity of dismissal, moral damage compensation, and
compensatory damages from work accident and readmission of worker. The average
claim is $6. Of 29 concluded cases in this category 26 were dismissed and three
resulted in awards totaling $22.
The
amount of awards in the various categories of lawsuits referenced above
represent total judgments issued by the relevant courts. For certain of these
lawsuits, Centromin will pay a portion of the total award.
On
January 19, 2005, Doe Run Peru was served with a civil lawsuit by an association
of municipalities of the Junin Region of Peru against Doe Run Peru and two
other
mining companies. This lawsuit alleges environmental damages to the Mantaro
River basin for the amount of $5.0 billion. Material liability to Doe Run Peru
is believed to be remote because it is the opinion of management and outside
counsel for Doe Run Peru that the probability under Peruvian law of this case
proceeding to a conclusion at the favor of the plaintiffs is low. Any potential
judgment would be subject to the indemnification obligations of Centromin,
which
are guaranteed by the Peruvian government.
On
May25, 2005, Doe Run Peru was served with a civil lawsuit alleging the existence
of
lead in a person caused by Doe Run Peru’s operations. The claim is for
$100.
On
July11, 2003, Doe Run Peru filed an administrative lawsuit against the Yauli -
La
Oroya Provincial City Hall in order to dismiss a number of fines for the amount
of $2,800. Doe Run Peru was fined for not having the Construction Licenses
for
the PAMA projects.
Since
most of the above cases are either in the pleading or discovery stages, the
Company is unable at this time to estimate the expected outcome and the final
costs, except as noted, of these actions. No amounts have been accrued as
liabilities related to these actions. There can be no assurance that these
cases
would not have a material adverse effect, both individually and in the
aggregate, on the results of operations, financial condition and liquidity
of
the Company. The Company has and will continue to vigorously defend itself
against such claims.
Letters
of Credit and Other Contingent Obligations
At
October 31, 2005, the Company had outstanding customs bonds of $946 relating
to
materials and supplies and other purchases.
Sales
Commitments and Concentration
The
Company has commitments to sell approximately 79%, 98%, 99%, 39% and 94% of
its
anticipated 2006 copper, lead, zinc, silver and gold metal production,
respectively, under agreements, with terms of generally less than one year.
Sales prices are generally based on the average quoted exchange prices for
the
month of shipment, plus a premium.
Doe
Run
Peru derives its revenue from the sale of its refined metals and other products
to numerous customers. Doe Run Peru’s three largest customers accounted for 16%,
8% and 7%, respectively, of net sales in the year ended October 31, 2005, 17%,
14% and 10%, respectively, of net sales in the year ended October 31, 2004,
and
15%, 9% and 8%, respectively, of net sales in the year ended October 31, 2003.
The customers have sales contracts, under which the Company will supply products
at prices based on international market quotations.
(13)
Hedging and Derivative Financial Instruments
The
Company uses derivative financial instruments primarily to enhance revenue
by
receiving premiums on option contracts. The Company sells futures contracts
and
options and combinations thereof that effectively establish contract prices
for
sales and purchases that are acceptable to the Company, should the options
be
exercised. The options generate
premium
income, which enhance revenues. Because these
instruments do not meet the requirements for hedge accounting under Statement
No. 133, the changes in fair market value related to these instruments
(including the time value portion), which reflect market prices and volatility
at the balance sheet date, are recorded in results of operations, and are
expected to increase the volatility of reported results.
The
unrealized gain or loss reflected in the statement of operations relates to
the
change in fair market value of derivative financial instruments that are not
designated as hedges. For derivative instruments designated as hedges (futures
contracts), the Company assesses effectiveness by comparing the changes in
fair
value or cash flows relating to the hedged transaction with all changes in
the
fair values or cash flows of the related derivative contract. Because the
futures contracts fluctuate by the same amount as the hedged transaction (the
change in the London Metal Exchange price), the hedges are considered
effective.
The
fair
market value of the Company’s derivative financial instruments reflected in the
Company’s balance sheet as of October 31, 2005 and 2004 is the difference
between quoted prices at the balance sheet date and the contract settlement
value. The fair market value represents the estimated net cash the Company
would
receive (pay) if the contracts were canceled on the balance sheet
date.
The
Company’s open derivative positions as of October 31, 2005 were:
Sold
/ (Purchased) futures contracts
(tons, ounces and dollar amounts not in thousands)
Metal
Quantity
Weighted
Average Price
Fair
Value
Period
Copper
1,302
tons
$2,577.07/ton
($1,296,940)
Nov
05 - Jan 06
(350)
tons
$3,470.86/ton
$52,900
Dec
05
Silver
987,300
oz
$6.83/oz
($209,601)
Nov
05 - Dec 06
Sold
/ (Purchased) call option contracts
(tons, ounces and dollar amounts not in thousands)
Metal
Quantity
Price
range
Fair
Value
Period
Silver
120,670
oz
$5.47/oz
($175,124)
Jan
06
Crude
Oil
100,000
barrel
$70.00/barrel
359,750
Feb
06- Dec 06
The
Company’s open derivative positions as of October 31, 2004 were:
Sold
/ (Purchased) futures contracts
(tons, ounces and dollar amounts not in thousands)
Metal
Quantity
Weighted
Average Price
Fair
Value
Period
Copper
1,102
tons
$2,400.41/ton
($148,421)
Nov
04 - Aug 05
Silver
850,175
oz
$5.26/oz
($1,191,098)
Nov
04
(987,300)
oz
$5.56/oz
$1,088,910
Nov
04
Gold
6,472
oz
$264.36/oz
($792,370)
Nov
04
(6,198)
oz
$299.91/oz
$538,445
Nov
04
Sold
/ (Purchased) call option contracts
(tons, ounces and dollar amounts not in thousands)
Metal
Quantity
Price
range
Fair
Value
Period
Silver
416,860
oz
$5.47
- $7.06/oz
($479,378)
Dec
04 - Mar 05
(54,850)
oz
$7.06/oz
$10,889
Dec
04
Sold
/ (Purchased) put option contracts(tons,
ounces and dollar amounts not in thousands)
Metal
Quantity
Price
range
Fair
Value
Period
Copper
(1,764)
tons
$2,512.90/ton
$204,748
Jan
05 - Apr 05
At
October 31, 2005 and 2004, the Company had recorded an asset of $0 and $1,
respectively, and a liability of $1,269 and $768, respectively, related to
the
fair values of these instruments.
The
Company does not obtain collateral or other security to support hedge
instruments subject to credit risk but assesses the reliability and reputation
of its counterparties before contracts are established.
(14) Fair
Value of Financial Instruments
The
fair
values of the Company’s long-term debt were estimated using discounted cash flow
analysis, based on the estimates of incremental borrowing rates for similar
types of borrowing arrangements. At October 31, 2005 and 2004, the fair values
of the Company’s financial instruments were not materially different from their
carrying amounts.
(15) Related
Party Transactions
The
Company has signed the following agreements with Doe Run:
Pursuant
to the terms and conditions included in an International Sales Agency Services
Contract dated November 1, 2000, Doe Run agreed to perform marketing and sales
services for Doe Run Peru. The term of this agreement is for two years after
which it is automatically renewed on an annual basis unless either party gives
notice of non-renewal. The commission is 2.25% of the sales revenue. Effective
July 1, 2004, Doe Run and Doe Run Peru cancelled the International Sales Agency
Services Contract under which Doe Run acted as a sales agent on behalf of Doe
Run Peru. Under the cancellation, the balance owed to Doe Run of $22,600 will
be
paid in $1,000 quarterly installments or as otherwise agreed by the parties.
Doe
Run Peru expensed $0, $7,502 and $9,046 for the years ended October 31, 2005,
2004 and 2003, respectively.
Pursuant
to the terms and conditions included in a Hedging Services Contract renewed
November 1, 2002, Doe Run agreed to perform trading and hedging services. The
agreement is automatically renewed on an annual basis unless either party gives
notice of non-renewal. The commission is $42 per month. On July 1, 2004 Doe
Run
and Doe Run Peru amended the Hedging Service Contract changing the terms of
the
commission calculation through January 1, 2006. Doe Run Peru expensed $0, $336
and $504 for the years ended October 31, 2005, 2004 and 2003,
respectively.
In
addition to the above, Doe Run has paid expenses on behalf of Doe Run Peru
of $0
and $666 in 2005 and 2004, respectively. The following balances relating to
inter-company transactions were outstanding as of October 31, 2005 and
2004:
(a)
As
a result of these transactions, the Company had a due to related
parties
balance of $18,057 and $21,432 at October 31, 2005 and 2004, respectively.
(b)
Sales
of refined metals to Doe Run were $9,588, $2,996 and $707 for the
years
ended October 31, 2005, 2004 and 2003, respectively. As a result
of these
sales the Company had a due from related parties of $4,224 and $1,994
as
of October 31, 2005 and 2004, respectively and are included as trade
accounts receivable in the balance sheet as of October 31, 2005 and
2004.
(c)
The
Company has signed a subordinated promissory note payable to Doe
Run in
the aggregate principle amount of $139,063. See Note
9.
Doe
Run
Peru has guaranteed notes of Doe Run. See the related discussion in Note 12.
Certain
of Doe Run’s debt agreements contain covenants that limit the ability of Doe Run
Peru to, among other things, incur additional indebtedness, make certain
restricted payments, consummate certain asset sales, enter into certain
transactions with affiliates, incur lines, impose restrictions on the ability
of
a subsidiary to pay dividends or make certain payments to Doe Run, merge or
consolidate with any other person or sell, assign, transfer, lease, convey
or
otherwise dispose of all or substantially all of its assets.
(16)Geographic
Data
The
following is an analysis of net sales by country of destination:
For
the
year ended October 31, 2003 and for several years prior, Doe Run Peru reported
recurring losses, primarily due to the decline of treatment charges Doe Run
Peru
received for processing raw materials over the prior five years, which had
severely impacted Doe Run Peru's liquidity. Doe Run Peru had failed to meet
certain financial covenant requirements contained in its revolving credit
agreement during fiscal 2003, which default continued into fiscal 2004. The
Company has substantial environmental commitments that will affect the Company's
liquidity. These issues combined raise substantial doubt about the Company's
ability to continue as a going concern.
Doe
Run
Peru's results of operations and liquidity had been severely impacted by
declining treatment charges that Doe Run Peru received for processing raw
materials resulting from a shortage in the global supply of concentrates. The
effects of low metals prices for the past several years had also caused some
of
Doe Run Peru's current suppliers of concentrates to suffer financial distress,
which had affected the availability of concentrate feed. During 2003, deliveries
of lead and zinc concentrates to La Oroya from a major Peruvian supplier were
below contracted amounts. While Doe Run Peru was able to replace a portion
of
this shortfall with concentrates from other suppliers, total concentrate
receipts were less than expected and the resulting changes in concentrate mix
and interruptions in delivery schedules adversely affected Doe Run Peru's metal
production and results of operations. If one or more of Doe Run Peru's
significant local suppliers were to cease delivery of concentrates, there could
be no assurance La Oroya would be able to secure sufficient replacement
feedstock at economically acceptable terms. If such shortages resulted in a
significant interruption in feed supply, a material reduction in the production
of metals from La Oroya or an interruption of production in the lead and zinc
circuits could result, which could have a significant adverse effect on the
Company's results of operations, financial condition and liquidity.
Doe
Run
Peru proceeded with efforts to identify alternative methods of achieving
compliance with environmental requirements. These efforts included, but were
not
limited to, reducing or curtailing production from a portion of the plant thus
eliminating the need for the equipment presently contemplated and replacing
it
with another alternative. These efforts took into consideration the impacts
on
profitability and liquidity, as well as other economic impacts. Failure to
comply with the PAMA could result in the cessation of operations at the La
Oroya
smelter.
During
fiscal year 2003, Doe Run Peru implemented cost savings, including a reduction
of approximately 10% of its workforce, acceleration of cash receipts, as well
as
other measures, to improve its liquidity. In addition, the retirement of Doe
Run
Peru's loan from a foreign bank, reduced Doe Run Peru's interest payments by
approximately $14,000 per year. These changes improved Doe Run Peru's cash
flow
and availability in 2003. The cash balance and net unused availability under
Doe
Run Peru's revolving credit facility were approximately $16,800 and $3,800
at
October 31, 2003, respectively.
Fiscal
Years 2004-2005
Metal
prices rose dramatically in 2005 and 2004. Doe Run Peru’s revenues and feed
costs increased as a result of the price increases, as did accounts receivable,
inventory and accounts payable as of October 31, 2005.
Net
unused availability at October 31, 2005 and 2004 under the Doe Run Peru
Revolving Credit Facility was approximately $200 and $60, respectively. In
addition to the availability under its revolving credit facilities, cash
balances at Doe Run Peru were $14,569 and $6,905, respectively, at October31,2005 and 2004. Higher metal prices resulted in higher outlays for concentrate
purchases and higher VAT payments funded by cash from operations, as Doe Run
Peru has reached its maximum borrowing level under the Doe Run Peru Revolving
Credit Facility.
As
discussed in Note 12, Doe Run Peru’s existing PAMA requires it to perform
projects in 2006 at a total cost of $108,000. Doe Run Peru expects that it
will
not be able to comply with the spending requirements of the PAMA investment
schedule in 2006 with respect to the construction of the sulfuric acid plant
required by the PAMA and, as a result, could be subject to penalties. Failure
to
comply with the PAMA could result in the cessation of operations at the La
Oroya
smelter, which would adversely affect our business, financial condition and
results of operations.
The
Peruvian Government has issued the Supreme Decree, which recognized that
exceptional circumstances may justify an extension of one or more projects
within the scope of a PAMA. On December 20, 2005the Company filed the request
of extension of the term to comply with the sulfuric acid plants projects
included in the original PAMA. Doe Run Peru will perform other environmental
projects to reduce fugitive emissions, including heavy metal dust, to address
the health issues of the community. The total cost of the currently remaining
PAMA projects, including the sulfuric acid plant construction, and these
projects is approximately $130,000. If the extension of the PAMA is approved,
management expects to fund the PAMA projects from cash from
operations.
Upon
approval of a modified PAMA, Doe Run Peru would be required to create a trust
account. The trust account would administer the receipts and disbursements
related to the extended PAMA project. The Supreme Decree requires that receipts
from sales, in an amount sufficient to fund the monthly cash requirements of
the
extended PAMA project, be remitted directly to the trust account.
The
Supreme Decree also requires that Doe Run Peru provide financial security within
30 days of the approval of the PAMA extension in an amount equal to 20% of
the
projected cost of the project or projects to be extended. The Company currently
expects the remaining investment needed to build the sulfuric acid plants to
be
approximately $102,000.
To
achieve the financial guarantee and the trust contract required by Supreme
Decree, the company has amended the Doe Run Peru Revolving Credit Facility
to
allow for those arrangements and has filed a draft of a trust guarantee contract
with a local bank. Additionally, on December 10, 2005the company signed a
Working Capital Financial Facility Agreement for the amount of $30,000 (named
Ferrites Loan) with Servicios Mineros Integrados S.A.C. a Trafigura Beheer
B.V.
subsidiary, to use such funds in the fulfillment of the financial security
as
mentioned above.
Management
believes that Doe Run Peru will obtain an approval of an extension to complete
the sulfuric acid plant. There is no assurance, however, that Doe Run Peru
will
receive an extension, or, if it does, that the project will be completed within
the time limitation specified by the Supreme Decree.
In
the
future, as part of a modernization plan and to enrich sulfurous gas feed to
the
sulfuric acid plant, we are planning to replace the oxy-fuel reverberatory
furnace with a reactor furnace to smelt copper concentrates. The anticipated
cost is approximately $57,000.
A
default
under the requirements of the PAMA could result in a default under the Doe
Run
Peru Revolving Credit Facility.
As
discussed in Note 10 Doe Run Peru has received income tax assessments from
SUNAT
for the tax years 1998 through 2001, the assessed amount consisting of
additional income taxes due, penalties and interest as of October 31, 2005,
totals approximately $109,030. Doe Run Peru has also received VAT assessments
for tax years 1999 through 2001 and for the period from January through July
2004, the total assessment was approximately $43,489, SUNAT offset the amount
assessed for 2004 of approximately $2,300 against Doe Run Peru’s VAT receivable
balance from July 2004. Future VAT
reimbursements
cannot be used to offset the
assessment by SUNAT. The Company discontinued use of the holding certificates
for exports in June 2004. As discussed in Note 9, if Doe Run Peru is not
successful with its administrative appeal of the tax assessment, the lender
can,
at its discretion, require that the amount of the assessment reduce net worth
which would affect Doe Run Peru’s ability to comply with the net worth
requirement. In addition, the Company estimates that the effect of similar
assessments for periods not yet assessed would be approximately $32,000 and
$20,166 for the income tax and VAT matters, respectively. Furthermore, Doe
Run
Peru would also be required to make additional workers’ profit sharing payments
equal to 8% of the increase in taxable income generated by the changes discussed
above, or approximately $11,700 for calendar years 1998 through
2005.
Management
believes that in each case Doe Run Peru has followed the applicable Peruvian
tax
statutes and intends to pursue all available administrative and judicial
appeals. Doe Run Peru is not required to make any payments pending the
administrative appeal process. If Doe Run Peru is not successful in the
administrative appeal processes and were to appeal in the judicial system,
some
type of financial assurance would be required, which would have a significant
adverse effect on liquidity.
These
issues raise substantial doubt about the Company's ability to continue as a
going concern. Management believes that the price improvements and other revenue
enhancements, and the issuance of the Supreme Decree, by allowing an application
to extend La Oroya’s PAMA requirement for the construction of the sulfuric acid
plant, will enable Doe Run Peru to continue as a going concern through October31, 2006. However, there can be no assurance that these actions will achieve
the
desired results.
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf
by
the undersigned, thereunto duly authorized.