Gold Resource Earnings Call INSIGHTS: Water Strategy, Drilling Development

On Friday, Gold Resource Corp (AMEX:GORO) reported its second quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Water Strategy

William (Bill) Reid – Chairman and CEO: Okay. It’s pretty much axiomatic as we go deeper we are going to encounter more and more water. Water comes down through the earth through fractures and it’s those same fractures where our ore deposit was formed. So, every time we crosscut over to the vein we encounter the water pretty much coming out of the vein system. So, what we’ve done on this particular period of time, we’ve built a bigger ponds on level 11. We’ve had to get bigger pumps and we are looking at a near term solution on level 11 to drain the upper levels. More long term, we have a long additional decline going off to the south. The reason we’re going off to the south is to encounter the ore deposit on the south edge so that we – we’re basically mining on the northern part of the ore body. Once that long crosscut or long drift rather gets to the south side of the deposit, we will have the ability to mine over there and that will help increase maybe even double our production tonnage out of the mill at some point. But what we’re going to be doing is not crosscutting every level right now. We’re on level 12 and then we’ll go 13, 14 and also this long drift will come back in under on about level 14 or 15. We will then set up and be prepared to drain the water from that level, so that those levels above will be drained when we’re ready to mine them. So it’s a very extensive a development program, which we are undertaking and going on as we speak. Now another aspect with water and it’s increasing when we go with depth is this water has CO2 gas that emanates from the fractures in the water. Now CO2 gas is not lethal, it’s not dangerous from the standpoint of breathing it. However, CO2 is heavier than air and so it’s known and it does display the air, therefore the oxygen in areas where it’s stagnant or lower and that’s why ventilation is become so much of an importance, because of the CO2 we have greater ventilation demand. We didn’t have CO2 on the upper levels, but as we go deeper we have more. So it’s a – these are issues that are common with a lot of different mines, we are encountering them and we have to address both the water and the CO2, which is also the ventilation at any point in time. We now have a plan that we think long-term will address this situation.

Jason Reid – President: The second question is from Mr. Dudas. Can you provide a breakdown of costs, milling and mining cost per ton for the quarter? Are you seeing both production and costs at normal levels in August?

William (Bill) Reid – Chairman and CEO: Okay, we didn’t break down the mining costs, the milling costs in this particular Q, but we will in the next one and we will probably have that in each quarter thereafter. Certainly, and I’ll address the fact that you can see that our costs are up for this quarter. I might mention that we have hired a lot more people; we’ve hired additional contractors to help us. We have actually upgraded our staff. We have a new mine superintendent, we have a new mill superintendent; we have a new safety superintendent. So in the process of adding a lot of experienced people and our costs have come up with the adding of the lot of more production people. So I think we will have a leveling off of the cost and actually maybe even a decrease as we get more optimized.

Jason Reid – President: Then the third question, taxes, can you explain in detail how taxes on repatriation worked for Gold historically and how that would change in the future? What should we think about future effective tax rate?

William (Bill) Reid – Chairman and CEO: Okay. We’ve have been able to transfer money from Mexico back up to the United States without – first of all transferring the money is not a problem, but from a tax standpoint, we appear in the U.S., Gold Resource provided funds to the Mexican subsidiary through loans and as long as those loans were being paid back, there was no tax implication, but basically we paid those back and so now, when we distribute – when we send out money to the United States to pay our dividend, it is now taxed by the United States also. So as I mentioned, this quarter we paid $8 million to Mexico, I don’t have the exact number, but we paid some money to United States taxing authorities or basically will be. So, consequently what we have is taxes are so confusing and especially you are dealing with international taxes that a lot of this has to be based on estimates and this particular quarter we change some of our estimates, and so you will see that we have like a 55% tax rate that’s not normal, but long-term and I think will be for this year we will be at about 37%, 38% tax rate. So, for those who like taxes we are paying taxes to the Mexican government and we are paying taxes to United States government.

Jason Reid – President: Fourth question, it seems management has been exploring possible acquisition targets have you come across any interesting targets what kind of assets are you looking at country size, early late stage gold, polymetallic? I will take this one. Our focus will remain on our recent deposit, first and foremost. We expect to be here very long time but having said that we have been and will be looking for opportunities in mining-friendly jurisdictions. Ideally, they would be immediately accretive, but we will look at each opportunity for what it could potentially provide. On a spectrum of early greenfield opportunities on one end and producing assets on the other, we will most likely fall within the first (word) of that spectrum towards the early exploration stage and we would be targeting gold and silver ideally with the base metal component to help offset cost. Moving on to our second…

William (Bill) Reid – Chairman and CEO: Let me just add one thing. I think we will go after a minimum of 100,000 but you know 100,000 to 150,000 additional ounces from the next project. Obviously, we’d like more but I mean that would probably the minimum.

Drilling Development

Jason Reid – President: Our second question is from (Jerry Wolf) an Individual Investor. Question, will quarterly or even annual forecast be as explicit as they have been or will a wider and directional forecast be used? Jerry, with all the moving parts and variables operating in mine it is difficult to target production levels, especially as the junior producer with one mine operating. We are in early development of not only the Arista mine but the company in general and I want to be clear Gold Resource does not give guidance that’s for major producers with multiple mines they are better suited to give guidance. We give targets and goals. So, we set a production range during the year to help account for variables in the mining business and there are many of those. So that range that we set may go up or down throughout the year depending on development and as we see it moving forward. We still target 100,000 to 120,000 ounces this year which was – and moving onto 200,000 ounces of precious metal gold equivalent in the future. Now, whether that 200,000 ounces happens in 2013 or 2014 it’s too early to call at this point. Again, when we finish each year we plan to set a new range for the following year based on mine development. Now, at the low end of the current range, as Bill mentioned, I want to reiterate this that the 100,000 ounce gold equivalent range and again that may change, but that’s where we’re currently going after that still represents again a 50% increase from last year. Now, that’s a great growth production profile going forward, and we can’t understate that enough. We don’t need to push it beyond that. Third question also (Al Solis) an individual investor. He says, question, please forgive me if I have gotten the numbers wrong, but last update the exploration budget was set around $10 million for 2012, but during the first six months it appears you have not spent very much of this money. Does this mean exploration will be a significant increase in remaining months of the year? Are you still on track to drill Las Margaritas this year?

William (Bill) Reid – Chairman and CEO: Let me take the first part. I want to clarify, because semantics in accounting makes certain stick that’s heading here. When we talk about exploration from an accounting point of view exploration is not at the La Arista deposit, and I will get to that in a minute. Exploration is outside of the La Arista deposit. I think that we actually are – estimate that’s in our filings said it was like $7 million for exploration in 2012, while we have spent $3.6 million thus far so we are pretty much on track that we spend half the money in the budget for outside the La Arista area. Now the La Arista area is not really considered technically exploration, because what you’re doing is infill drilling and expanding the ore deposit and so that falls from an accounting under the development of that deposit. That gets put in the construction and development line, normally would be capitalized, but that particular line for us we also expense. But there is a breakdown between what is exploration that’s outside the La Arista area and what’s development which is expanding the La Arista deposit. We have three drills underground, we have a drill on the surface and we really don’t have a fixed budget we just will continue to drill and continue to drill with that.

Jason Reid – President: Okay, the second part of your question regarding Las Margaritas, we finished the access road and are preparing to drill roads and pads in preparation to drill. I believe this property is the darkhorse in all our properties here. It had historic mining on a pre-Mexican Revolution timeframe in which they built a town surrounded by various small mines been (added). We have substantiated the high-grade gold and silver potential, this potential is mentioned in the Mexican government publication called the Mines of Mexico and we believe we’ll be the first-ever driller. I personally think that things will come from this exciting property and we’re trying to get it drilled there as soon as possible. The next question is from (Scott Libo), individual investor. On May 10, the Company maintained its 2012 production guidance of 120,000 to 140,000 ounces, the next day Bill Reid mentioned challenges with respect to electrical ventilation and trucking issues. He also mentioned there would be times when production grades would temporarily be lower. Why did the Company maintain its production guidance nearly halfway through the quarter when the production issues had led to lower 2012 production guidance were already well-known? Bill meant to talk about this in the conference call, but the answer to his statement, as Bill mentioned in his statement, with one month of peak operation, while processing high-grade stopes can drastically change the quarter’s outcome. So it’s kind of another way to answer that question is the recurring theme here. We are just going to report on a quarterly basis going forward. The second part of your question is, is the Company satisfied with the way it announced lower 2012 production guidance? The answer is yes. When the quarter ended we worked hard to get the preliminary numbers prepared and announced them when we were comfortable with the preliminary numbers. We did not expect them to be as low as they were, but we could have waited till yesterday to announce them. So we did the right thing by announcing them as preliminary before they officially do, just like we announced the preliminary numbers in the first quarter. Our production numbers again will be announced on a quarterly basis. Third part to your question since starting commercial production in 2010 the Company has lowered production guidance on several occasions. Are there any issues you know of how we could lead to further downward production guidance? This is the mining business little goes as planned. We made lower or raised our future targets depending on what challenges lie ahead. We’ve been criticized for lowering our production targets few times since 2010. I will take that criticism as the big picture illustrates our ability to reach production. We are on track to increase that production substantially year-over-year, regardless of the lower target and we have put the Company in unique position, as Bill mentioned, as a growth in income equity at the same time with our substantial monthly dividend. Again, I’ll take that criticism any day of the week as I and all our shareholders collect our monthly dividend as we consistently grow the Company for the long run with our target – which current target being 50% plus growth profile it is an excellent growth profile. Moving on to the next question by (Harvey Bolan) an individual investor. Exactly, when did management know about the second quarter problems? If it was something during the quarter why did management choose to be silent until well after the quarter end? Again, the same theme this probably will be the last question to this theme that we will answer, but to answer another way every quarter has its challenges some routine, some unique. We had some good days in the quarter, we had not some good days in the quarter. Had we had higher grade stopes come online in the end of the quarter, it may have changed the quarter drastically. That did not happen. We’ll release the preliminary numbers as soon as we have them again prior to the recording date. The next question by (Brett Fowler) individual investor. How are the ore grades in the additional deeper drilling in El Aguila. Are they staying consistent or improving with depth?

William (Bill) Reid – Chairman and CEO: We really haven’t got to the point where we’ve been drilling deeper. There has been a lot of need for our drills with regards to help the miners and secondarily just because of the problems with the development this last quarter. We are in a position to put a drill station on level 10, which will really be the platform by which we will drill the depth extension of this deposit. We were hoping to get that done much earlier than we have. It’s not quite done yet for the various reasons that I mentioned ventilation, water issues. Once that gets done, then we will start drilling the depth extension. Now as far as the mineralization goes we are pleased with what we see when we are in the areas that the model says will be high grade they are high grade. When we are in areas, the model says they’ll be a little less, they are a little less. So all in all and I think it’s very informative that Pincock Alan & Holt when they compared our actual mining to their model which believe me that’s a much better indication than even measured resource to actually be able to compare. Their model was 24% precious metal lower than what we actually mine which is very positive. We have a high grade deposit and you will see the impact of that overtime.

Jason Reid – President: Second question, have there been any positive drill results on any of the other projects?

William (Bill) Reid – Chairman and CEO: I’ll take this one. We have drilled several good mineralized, though smaller veins under the open pit. (Harvey), we don’t feel we’ve intercepted the feeder vein that would have fed this the regular open pit ore. If we have, if one of those is the feeder vein, it may open up at depth. We know that the percentage of feeder vein could also be offset by a rather distance from the pit location and it may take a while to find it. At Alta Gracia most holes that were previously drilled hit the structure mineralization we’re targeting. We need to digest that information and follow-up with another drill program. I did mention Las Margaritas. As far as El Rey, we think we’re making good headway with everybody involved there to be back there in the near-term, I can’t give you an exact date we don’t know what we like, what we’re seeing so far.

Jason Reid – President: The next question by (GC Mill), individual investor. In Q2 the company milled about 15,000 tons less than in Q1. However, in Q2 production costs applicable to sales increased about 12.6 million. Why did production cost increase so dramatically when tons milled decreased by quarter, what specifically drove the increase.

William (Bill) Reid – Chairman and CEO: Okay, I alluded to that before, but let me try to be a little clear. We have a mill and we have the people staff for that. When that mill is running, it use electricity, it uses all that all the different types of utilities that we have et cetera, air, water. But that’s kind of a fixed cost and if you were to only run a small amount of tonnage through that mill your – it doesn’t lower your cost it actually raises your cost per ton milled. So essentially we have fixed costs at the mill at any point in time and then when we upgraded the staffing at the mine we have basically increased the overall fixed cost down there. So as I gave in my example, if we only run – you pretty much have this pooled cost, if you only run 15,000 tons through there and the cost of 500 if you were able to run 30,000 tons in that same quarter, you’d had about $250. So we expect our cost to go down as we get back our production going up.