ITEM 3 - -LEGAL PROCEEDINGS
ALASKA-JUNEAU During 1994, the U.S. Attorney began an investigation of potential Clean Water Act violations. The investigation is to determine whether the company unlawfully discharged pollutants from the drainage tunnel without a National Pollution Discharge Elimination System (NPDES) permit. The outcome of this investigation is uncertain.
See "Business and Properties--Other--Government Regulations."
SUMMA See note 16 to the company's consolidated financial statements.
OTHER The company is also engaged in routine litigation incidental to its business.
ITEM 4
ITEM 4 - -SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the fourth quarter of 1996.
PART II
ITEM 5
ITEM 5 - -MARKET FOR THE REGISTRANT'S COMMON SHARES AND RELATED SHAREHOLDER MATTERS
MARKET INFORMATION The company's common shares were first sold to the public at $2.36 per share in April 1983 after giving effect to the six-for-five share split in 1983 and the two-for-one share split in 1987. The company's stock exchange listings, together with the date of listing, are set out below.
Canada--Toronto and Montreal (April 1983) United States--American (October 1983) France--Paris (March 1985) Belgium--Brussels (October 1985) Switzerland--Zurich and Geneva (April 1987) Germany--Frankfurt, Berlin and Dusseldorf (November 1988)
The following table sets forth for the period from January 1, 1995 through February 28, 1997 the high and low reported prices and trading volume of the common shares on The Toronto Stock Exchange and the American Stock Exchange.
On January 31, 1997, the closing price of the common shares on The Toronto Stock Exchange and on the American Stock Exchange was C$8.70 and U.S.$6.44, respectively.
On January 31, 1997, the company had 139,357,131 common shares outstanding held by approximately 65,000 registered and nominee shareholders.
DIVIDENDS The company has suspended payment of dividends beginning in 1997. This will save approximately $21 million over the next two years for mine development, based on the company's prior practice of paying dividends totaling $0.0750 per share per year as was done in 1996, 1995 and 1994. Dividends payable to Canadian residents had been converted to and paid in Canadian dollars.
The declaration and payment of future dividends is dependent upon the company's capital requirements, earnings and economic outlook. See "Certain Tax Matters--Canadian Federal Income Tax Considerations" for information with respect to Canadian withholding tax applicable to non-Canadian shareholders.
CERTAIN TAX MATTERS The following paragraphs summarize certain United States and Canadian federal income tax considerations in connection with the receipt of dividends paid on common shares of the company and certain Canadian federal income tax considerations in connection with a disposition of common shares by non-residents of Canada. These tax considerations are stated in brief and general terms and are based on United States and Canadian law currently in effect. There are other potentially significant United States and Canadian federal income tax considerations and state, provincial or local income tax considerations with respect to ownership and disposition of the common shares which are not discussed herein. The tax considerations relative to ownership and disposition of the common shares may vary from taxpayer to taxpayer depending on the taxpayer's particular status. Accordingly, prospective purchasers should consult with their tax advisors regarding tax considerations which may apply to their particular situation.
United States Federal Income Tax Considerations Dividends on common shares paid to citizens or residents of the U.S. or to U.S. corporations (including any Canadian federal income tax withheld) will be generally subject to U.S. federal ordinary income taxation. Such dividends will not be eligible for the deduction for dividends received by corporations (unless such corporation owns by vote and value at least 10% of the stock of the company, in which case a portion of such dividend may be eligible for such deduction).
U.S. corporations, U.S. citizens and U.S. residents will generally be entitled, subject to certain limitations, to a credit against their U.S. federal income tax for Canadian federal income taxes withheld from such dividends. Taxpayers may claim a deduction for such taxes if they do not elect to claim such tax credit. No deduction for foreign taxes may be claimed by an individual taxpayer who does not itemize deductions. Because the application of the foreign tax credit depends upon the particular circumstances of each shareholder, shareholders are urged to consult their own tax advisors in this regard. Non-resident aliens and foreign corporations will be subject to U.S. federal income taxation at graduated rates upon dividends or gain with respect to their common shares (and may be entitled to such tax credit or such deduction), if such income or gain is treated as effectively connected with the conduct of the recipient's trade or business within the United States.
Canadian Federal Income Tax Considerations Dividends paid on common shares held by non-residents of Canada will generally be subject to Canadian withholding tax. This withholding tax is levied at the basic rate of 25%, although this rate may be reduced by the terms of any applicable tax treaty. The Canada-U.S. tax treaty provides that the withholding rate on dividends paid to U.S. residents on common shares is generally 15%.
Generally, a non-resident of Canada who holds common shares as capital property will not be subject to Canadian federal income tax on capital gains realized on the disposition of his common shares.
ITEM 6
ITEM 6 - -SELECTED FINANCIAL DATA
The following table is derived in part from the audited consolidated financial statements of the company. The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in Canada. In all material respects, they conform with principles generally accepted in the United States (except as described in footnote (1) to this table and note 12 to the company's consolidated financial statements). This information should be read in conjunction with the audited consolidated financial statements and the notes thereto.
(1) This information should be read in conjunction with the company's audited consolidated financial statements and accompanying notes. Contingencies are described in note 16 to the company's consolidated financial statements. The company's consolidated financial statements are prepared in accordance with Canadian generally accepted accounting principles. Had the consolidated financial statements been prepared in accordance with accounting principles generally accepted in the United States, certain selected financial data would be disclosed as follows.
See also note 12 to the company's consolidated financial statements.
(2) At December 31, 1992, the company wrote down its investment in Kettle River by $14.9 million ($0.14 per share) and wrote off $3.2 million ($0.03 per share) in two exploration properties. In 1996, the company recorded a $30.0 million ($0.22 per share) provision related to the estimated costs to remove waste rock from an unstable portion of the Cove pit wall at the McCoy/Cove mine in Nevada and recorded a $77.1 million ($0.57 per share) provision to write off the $57.1 million book value of its Alaska-Juneau development property in Alaska and to accrue $20.0 million for estimated reclamation and closure costs.
(3) All of the outstanding shares of preferred stock of subsidiary were redeemed or converted into common shares of the company during 1995.
ITEM 7
ITEM 7 - -MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of the financial results of the company's operations for the years 1994 through 1996 should be read in conjunction with the financial data and the company's consolidated financial statements, included elsewhere in this report. The company's consolidated financial statements are prepared in accordance with accounting principles generally accepted in Canada. In all material respects, they conform with those principles generally accepted in the United States, except as described in note 12 to the company's consolidated financial statements, and also with International Accounting Standards.
Material changes in the company's reserves may significantly impact results of operations and asset carrying values. See the discussion of reserves in "Business and Properties--Reserves".
The following contains statements that are, by their nature, forward looking and uncertain. See "Business and Properties--Risk Factors" and "Commitments and Contingencies" for a discussion of certain factors which should be considered in evaluating these statements.
SUMMARY The company's net loss in 1996 was $176.7 million. Total production costs in 1996 were $373 per ounce of gold, which includes $254 per ounce cash operating cost, $98 per ounce depreciation and amortization, $11 per ounce royalties, $7 per ounce reclamation and mine closure, and $3 per ounce production taxes. Total production costs do not include exploration and development, provisions, interest and other, general and administrative, income tax expense and preferred stock dividends. The average price realized in 1996 was $384 per ounce of gold, including forward sales and loan repayments, which was below the average market price of $388 per ounce of gold in 1996. Total working capital provided from operations was $25.8 million in 1996 after cash exploration and development expenses of $56.6 million.
RESULTS OF OPERATIONS The company had a net loss of $176.7 million ($1.31 per share) in 1996, compared to a net loss of $50.1 million ($0.43 per share) in 1995 and net earnings of $8.0 million ($0.07 per share) in 1994 . The 1996 results compared to 1995 reflect the provision for the Alaska-Juneau development property ($77.1 million), the provision for the McCoy/Cove pit wall stabilization ($30.0 million), lower precious metals sales ($20.4 million), increased operating costs ($8.9 million) and lower gold price realized ($3.0 million), partially offset by the absence of dividends on preferred stock ($8.5 million) and decreased exploration and development ($6.2 million). The 1995 results compared to 1994 reflect significantly increased exploration and development expenses ($23.3 million), lower precious metal sales ($13.5 million), increased operating costs ($11.1 million), increased environmental expenses at Sunnyside ($11.7 million) and lower silver prices realized ($4.5 million).
Revenue derived from the sale of gold and silver bullion is directly affected by the market prices of gold and silver and the volume of production. The significant majority of revenues continue to be derived from gold sales. The price of gold and silver is affected by many factors which are beyond the company's control. See "Business and Properties--Risk Factors."
The gold and silver ounces sold and other revenue data for the last three years are set out below.
The effects of changes in sales volume and prices were:
The increase in gold revenue from 1995 to 1996 was primarily due to higher production resulting from more tons processed at Round Mountain and higher production resulting from more tons processed and higher grades at Kettle River, partially offset by lower production resulting from lower grades and recoveries at McCoy/Cove, lower production resulting from lower grades at Lupin and lower prices realized ($384 per ounce in 1996 versus $388 per ounce in 1995). The decrease in silver revenue was due to lower production resulting from lower grades. The decrease in gold and silver revenue from 1994 to 1995 was primarily due to lower production resulting from less tons heap leached and lower grades milled at McCoy/Cove, lower production resulting from lower grades at Round Mountain and lower production resulting from less tons processed at Lupin, partially offset by higher production resulting from higher grades at Kettle River. Production by mine is set out in "Business and Properties--Operations Summary."
The company's profitability is subject to changes in gold and silver prices, exchange rates, interest rates and certain commodity prices. To reduce the impact of such changes, the company attempts to lock in the future value of certain of these items through hedging transactions. These transactions are accomplished through the use of derivative financial instruments, the value of which is derived from movements in the underlying prices or rates.
The gold- and silver-related instruments used in these transactions include commodity loans, fixed-forward and spot- deferred contracts, swaps and options. Sensitivity to changing metal prices is reduced, and future revenues are hedged, as the company's future production will satisfy these loans and other delivery commitments. The company engages in forward currency-exchange contracts to reduce the impact on the Lupin mine's operating costs caused by fluctuations in the exchange rate of U.S. dollars to Canadian dollars. The company also engages in crude oil hedging activities, including forward purchase
agreements and swaps, to reduce the impact of fluctuations in crude oil prices on its operating costs. During 1995 and 1994, the company used interest rate swap agreements to effectively convert its fixed-rate preferred stock dividends into floating-rate dividends. The interest rate swap agreements expired on December 31, 1995.
Gains and losses resulting from hedging activities are recognized in earnings on a basis consistent with the hedged item. When hedged production is sold, revenue is recognized in amounts implicit in the commodity loan, delivery commitment or option agreement. Gains or losses on foreign currency and crude oil hedging activities are recorded in operating costs, or capitalized in the cost of assets, when the hedged Canadian dollars are purchased and when crude oil supplies are used in operations. Gains and losses on early termination of hedging contracts are deferred until the hedged items are recognized in earnings.
In 1996, approximately 25% of gold production was delivered against forward sales and gold loans at an average price of $375 per ounce. This compares with 22% of gold production in 1995 at an average price of $395 and 19% of gold production in 1994 at an average price of $370. Approximately 45% of silver production was delivered against forward sales at an average price of $5.85 per ounce in 1996, compared to 46% at an average price of $5.48 in 1995 and 50% at an average price of $4.56 in 1994.
In the first quarter of 1997 the company repurchased its 218,000 ounce gold swap hedging its $84.0 million bond obligation and repurchased all of its gold and silver forward positions which consisted of 654,000 ounces of gold with delivery dates ranging from 1997 to 2002 and 8.5 million ounces of silver with delivery dates ranging from 1997 to 1999. To protect against a decrease in gold prices, the company purchased 450,000 ounces of gold put options priced at $345 per ounce and sold 300,000 ounces of gold call options priced at $394 per ounce. After these subsequent events, the company had gold loan obligations covering approximately 4% of its expected 1997 gold production. The company's hedging activities and commitments at December 31, 1996 are described in note 15 of the company's consolidated financial statements.
Operating costs include mining and processing costs for gold and silver sold during the year. The most significant of these costs are labor, consumable materials, repairs of machinery and equipment, fuel, utilities and environmental compliance. The cost of transporting personnel and freight to the Lupin mine is also a significant cost for that operation. Operating costs vary with the quantity of gold and silver sold and with the cash operating cost per ounce.
In 1996, the average cash operating cost per ounce was $254 compared with $229 in 1995 and $209 in 1994. Cash operating costs per ounce were higher in 1996 reflecting increased mining costs per ounce at McCoy/Cove and Round Mountain. Cash operating costs by mine are set out in "Business and Properties--Operations Summary." The company's consolidated cash operating cost target is $265-275 per ounce of gold produced in 1997. This increase is primarily the result of declining production and resulting higher costs per ounce at McCoy/Cove, as previously expected in its life-of-mine plan.
The decrease in depreciation and amortization was primarily due to amortization. Amortization expense varies with the quantity of gold and silver sold and the mix of production at the four mines. The quantity of the company's proven and probable reserves and other mineralization also affects amortization expense as the company's investment is amortized over these ounces. The $3.5 million decrease in total amortization expense in 1996 reflects lower silver production. On a per gold ounce basis, amortization was $34 in 1996, compared to $36 in 1995 and $33 in 1994. On a per gold ounce basis, depreciation was $64 in 1996 compared to $61 in 1995 and $56 in 1994.
Royalties are described in note 16 to the company's consolidated financial statements. Royalty expense increased in 1996 primarily due to higher production at Round Mountain and Kettle River, partially offset by lower production at McCoy/Cove.
Production taxes decreased in 1996 compared to 1995 and 1994 due to the lower production and higher costs at the Nevada mines. Less cash flow reduces the net profit on which the production taxes are calculated.
General and administrative costs have increased in 1996 compared to 1995 and 1994, reflecting increased support for the company's international focus, permitting, exploration and business development activities.
Exploration was $46.6 million in 1996 compared to $46.5 million in 1995 and development was $17.0 million in 1996 compared to $23.3 million in 1995. The decrease in development expense in 1996 was primarily due to the reduction in activity and personnel at the Alaska-Juneau development property (decreased cash spending of $2.3 million in 1996 compared to 1995) and lower amortization at Alaska-Juneau and Kensington properties (decreased amortization of $2.9 million in 1996 compared to 1995).
The company explores for extensions of known reserves at its mines and development properties as well as conducting exploration for new gold deposits. In response to available opportunities, as well as increased difficulty in obtaining mining permits and proposed U.S. federal royalties on production from U.S. public lands, the company has expanded its exploration focus outside North America. In addition to the United States and Canada, the company conducted exploration in Mexico, Central America, South America, the Philippines and West Africa in 1996. 1997 exploration expense is budgeted at $31 million, but is dependent on opportunities.
Interest and other includes net interest expense of $2.1 million in 1996 compared to net interest income of $4.8 million in 1995 and net interest income of $4.1 million in 1994, reflecting decreased cash on hand and increased currency financings in 1996. The 1996 amount also includes a $1.5 million accrual related to Summa royalty litigation offset by a $2.5 million gain on the sale of the company's investment in Cluff Resources plc and a $1.9 million gain on the sale of the company's investment in Etruscan Enterprises Ltd.
The provision for Alaska-Juneau development property represents the company's entire remaining investment in A-J of $57.1 million and a $20.0 million accrual for estimated reclamation and closure costs. The provision resulted from a new feasibility study concluding that the project as currently designed would not be economically feasible. See "Business and Properties--Alaska-Juneau."
The provision for McCoy/Cove pit wall stabilization represents the estimated cost to remove waste rock from an unstable portion of the Cove pit wall. The estimate of the provision is based on a preliminary evaluation of the tons to be removed and the associated costs, both of which will be further refined as McCoy/Cove completes its stabilization plan. See "Business and Properties--McCoy/Cove."
Income tax recovery (expense) is described in note 8 to the company's consolidated financial statements.
The 1996 net earnings also reflect the absence of dividends on preferred stock of Echo Bay Finance Corp., compared to dividends of $8.5 million in 1995 and $9.3 million in 1994. All of the preferred shares were converted or redeemed during the third and fourth quarters of 1995.
For 1997, the company expects gold production to be in the range of 700,000 to 725,000 ounces and silver production to be about the same as 1996. The decline in production is due to lower expected grades and recoveries at McCoy/Cove. The company's consolidated cash operating cost target is $265-275 per ounce of gold produced in 1997, primarily the result of the expected declining production and resulting higher costs at McCoy/Cove. See "Business and Properties-- McCoy/Cove," "--Cautionary 'Safe Harbor' Statement under the United States Private Securities Litigation Reform Act of 1995" and "--Risk Factors."
CAPITAL, EXPLORATION AND DEVELOPMENT SPENDING In 1996, the company incurred cash development property expense of $13.2 million and cash exploration expense of $43.4 million. Approximately 70% of the exploration expense was incurred outside of the U.S. and Canada. The company expects to incur $31 million of cash exploration expense in 1997, dependent on opportunities, with approximately 70% of the expenditure outside of the U.S. and Canada.
In 1996, the company capitalized $37.7 million in acquisition and development property costs including $11.2 million at Kingking, $6.1 million at Chapada, $6.1 million at Aquarius, and $6.6 million at Paredones Amarillos. For 1997, the company expects to capitalize $5 million at Kingking. On its construction programs, the company expects to spend $69 million at Aquarius and $44 million at Paredones Amarillos of the total capital budgets of $100 million and $67 million respectively.
Capital expenditures at the company's operating mines in 1996 were $49.3 million including $7.3 million at McCoy/Cove which was primarily related to the mill expansion and additional haul trucks; $17.5 million at Round Mountain which primarily related to the mill construction; $15.7 million at Lupin, of which $14.5 million was Ulu development costs; and $8.8 million at Kettle River which was primarily related to K-2 exploration and development. For 1997, the company expects a similar level of capital spending including $23 million related to mill construction at Round Mountain.
The company's capital, exploration and development spending has largely been funded by working capital provided by operations and by a drawdown of existing cash balances. Working capital provided by operations before exploration and development properties expenses was $82.3 million in 1996.
The company purchased common shares of exploration-oriented companies that give the company access to exploration and development prospects along some of the major gold belts of the world, including properties in South America, West Africa and the Philippines. The company has invested $8.8 million in these exploration-oriented companies during 1996 in addition to the $45.4 million invested during 1995.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES Working capital provided from operations amounted to $25.8 million for 1996 compared to $66.3 million in 1995. The 1996 results reflect lower silver production levels partially offset by higher gold production levels ($20.4 million); increased operating costs ($8.9 million); increased interest expense ($2.1 million expense in 1996 compared to $4.8 million income in 1995); the absence of 1995's conveyance of Canadian Development Expenses ($4.8 million); and lower gold prices ($3.0 million) partially offset by lower cash exploration and development expense ($3.8 million). Most of the exploration and development property spending represents discretionary investments for the future.
The decrease in cash invested in working capital related to operations was $4.1 million in 1996.
The company's financing activities provided $77.0 million in 1996. Outflows were $48.3 million, primarily related to gold loan repayments of $38.2 million and common share dividends of $10.1 million. The company had currency borrowings in the amount of $34.7 million, issued $85.8 million of shares in conjunction with the acquisition of Santa Elina, and received proceeds of $4.8 million on exercise of stock options.
The company had $189.5 million in investing activities during 1996; for mining properties, plant and equipment ($103.7 million); acquisition of Santa Elina ($97.1 million), partially offset by the receipt of $13.8 million in cash on the sale of mining properties and other assets including the investment in Cluff Resources plc ($5.5 million) and the investment of Etruscan Enterprises, Ltd. ($8.3 million).
Most of the company's hedging transactions have no margin requirements. In some instances however, mainly for longer term forward sales and options, margin deposits are required when the market value exceeds the contract value by a pre- determined amount. See note 15 to the company's consolidated financial statements.
The company has adequate resources and liquidity to pursue additional acquisition, investment, exploration and development programs: o Working capital provided by operations before exploration and development properties expenses was $82.3 million in 1996. o The company had $103.2 million in cash at December 31, 1996. o The company had $111.5 million in unutilized credit facilities at December 31, 1996. o The company expects to secure a new $75 million unsecured corporate credit facility to finance a portion of the construction costs at Aquarius. o The company expects to secure a $36 million non-recourse project loan to finance a portion of the construction costs at Paredones Amarillos. o The company received proceeds of $63.3 million in the first quarter of 1997 in connection with the repurchase of its 218,000 ounce gold commitment which hedged its $84.0 million bond obligation and the repurchase of all of its gold and silver forward sales positions, consisting of 654,000 ounces of gold and 8.5 million ounces of silver. o Pursuant to a shelf registration statement filed with the United States Securities and Exchange Commission in 1994, the company may offer from time to time up to $200 million in aggregate principal amount of debt securities, common shares, and/or guarantees of debt securities issued by Echo Bay Resources, Inc., a wholly owned subsidiary of the company. In connection with the U.S. shelf registration, the company also filed a shelf debt prospectus and a shelf equity prospectus with Canadian securities regulatory authorities. Under these prospectuses, the company could issue up to $125 million of debt securities and up to 10 million common shares.
COMMITMENTS AND CONTINGENCIES The company's profitability is subject to changes in gold and silver prices, exchange rates, interest rates and certain commodity prices. To reduce the impact of such changes, the company attempts to lock in the future value of certain of these items through hedging transactions. These transactions are accomplished through the use of derivative financial instruments, the value of which is derived from movements in the underlying prices or rates.
The gold- and silver-related instruments used in these transactions include commodity loans, fixed-forward and spot-deferred contracts, swaps and options. Sensitivity to changing metal prices is reduced, and future revenues are hedged, as the company's future production will satisfy these loans and other delivery commitments. The company engages in forward currency-exchange contracts to reduce the impact on the Lupin mine's operating costs caused by fluctuations in the exchange rate of U.S. dollars to Canadian dollars. The company also engages in crude oil hedging activities, including forward purchase agreements and swaps, to reduce the impact of fluctuations in crude oil prices on its operating costs.
During 1995 and 1994, the company used interest rate swap agreements to effectively convert its fixed-rate preferred stock dividends into floating-rate dividends. The interest rate swap agreements expired on December 31, 1995.
Gains and losses resulting from hedging activities are recognized in earnings on a basis consistent with the hedged item. When hedged production is sold, revenue is recognized in amounts implicit in the commodity loan, delivery commitment or option agreement. Gains or losses on foreign currency and crude oil hedging activities are recorded in operating costs, or capitalized in the cost of assets, when the hedged Canadian dollars are purchased and when crude oil supplies are used in operations. Gains and losses on early termination of hedging contracts are deferred until the hedged items are recognized in earnings.
The company's forward sales commitments, gold loan and swap commitments and option positions are described in notes 5 and 15 to the company's consolidated financial statements.
The company's obligation to purchase Canadian dollars are described in note 15 to the company's consolidated financial statements.
The company's crude oil commitments are described in note 15 to the company's consolidated statements.
During 1995, the company and TVI Pacific formed alliances with Filipino corporations to create Kingking Mines Inc. ("KMI"), a corporation under the laws of the Republic of the Philippines. KMI has signed an option agreement to acquire a 100% interest in the Kingking project after completion of a bankable feasibility study and a $67.0 million payment in 1998. A contingent payment of up to $18.0 million also would be payable if there were a significant increase in mineralization at Kingking. The company and its Philippine affiliates have an initial interest in the option of 75%, but the agreements provided for the acquisition and disposition of interests such that the interests of the company and its Philippine affiliates ultimately could be between 60% and 100% of the Kingking project.
Also during 1995, the company obtained an option to acquire a 50% interest in the Chapada development property, located in Brazil. Upon exercise of the option, the company has agreed to pay Santa Elina Gold Corporation $25 per ounce of gold and $0.02 per pound of copper in the company's share of the proven and probable reserves as determined by the feasibility study.
The company's operations are subject to laws and regulations concerning protection of the environment. These laws and regulations change periodically and are generally becoming more restrictive, which may have the effect of increasing future costs. See "Business and Properties--Other--Government Regulation."
The company's operations are subject to certain royalty obligations as described in note 16 to the company's consolidated financial statements.
Lease commitments are described in note 16 to the company's consolidated financial statements.
The company's provisions for future reclamation and closure costs at the former Sunnyside mine in Colorado and the Alaska-Juneau development property in Alaska are reviewed periodically and may be adjusted as additional information becomes available.
ITEM 8
ITEM 8 - -FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
The accompanying financial statements and related data are the responsibility of management. Management has prepared the statements in accordance with accounting principles generally accepted in Canada.
The integrity of the financial reporting process is also the responsibility of management. Management maintains systems of internal controls designed to provide reasonable assurance that transactions are authorized, assets are safeguarded, and reliable financial information is produced. Management selects accounting principles and methods that are appropriate to the company's circumstances, and makes decisions affecting the measurement of transactions in which estimates or judgments are required to determine the amounts reported.
The Board of Directors is responsible for ensuring that management fulfills its responsibilities for financial reporting. The Board carries out this responsibility principally through its Audit Committee.
The Audit Committee consists entirely of outside directors. The Committee meets periodically with management, the internal auditors, and the external auditors to discuss internal financial controls, auditing matters and financial reporting issues. The Committee satisfies itself that each party is properly discharging its responsibilities; reviews the quarterly and annual financial statements and the external auditors' report; and recommends the appointment of the external auditors for review by the Board and approval by the shareholders.
The external auditors audit the financial statements annually on behalf of the shareholders. They also performed certain procedures related to the company's unaudited interim financial statements and report their findings to the Audit Committee. The external auditors have free access to the internal auditors, management and the Audit Committee.
/s/ Richard C. Kraus --------------------------------------------- Richard C. Kraus President and Chief Executive Officer
/s/ Peter H. Cheesbrough --------------------------------------------- Peter H. Cheesbrough Senior Vice President--Finance and Chief Financial Officer
January 27, 1997
REPORT OF INDEPENDENT CHARTERED ACCOUNTANTS
The Board of Directors Echo Bay Mines Ltd.
We have audited the consolidated balance sheet of Echo Bay Mines Ltd. as at December 31, 1996 and 1995 and the consolidated statements of earnings, retained earnings (deficit) and cash flow for each of the years in the three-year period ended December 31, 1996. 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 generally accepted auditing standards. Those standards require that we plan and perform an audit to obtain reasonable assurance 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.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the company as at December 31, 1996 and 1995 and the results of its operations and changes in its financial position for each of the years in the three-year period ended December 31, 1996 in accordance with accounting principles generally accepted in Canada.
Edmonton, Canada (signed) Ernst & Young January 27, 1997 Chartered Accountants
ECHO BAY MINES LTD.
CONSOLIDATED BALANCE SHEET
December 31
See accompanying notes.
ECHO BAY MINES LTD.
CONSOLIDATED STATEMENT OF EARNINGS
Year ended December 31
CONSOLIDATED STATEMENT OF RETAINED EARNINGS (DEFICIT)
Year ended December 31
See accompanying notes.
ECHO BAY MINES LTD.
CONSOLIDATED STATEMENT OF CASH FLOW
Year ended December 31
See accompanying notes.
ECHO BAY MINES LTD.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
December 31, 1996
GENERAL Echo Bay Mines Ltd. mines, processes and explores for gold and silver. Gold accounted for 89% of 1996 revenue, and silver 11%. The company has four operating mines: McCoy/Cove in Nevada, U.S.A.; Round Mountain in Nevada, U.S.A.; Lupin in Northwest Territories, Canada; and Kettle River in Washington, U.S.A. All are 100% owned except for Round Mountain, which is 50% owned.
The company's financial position and operating results are directly affected by the market price of gold in relation to the company's production costs. Silver price fluctuations also affect the company's financial position and operating results, although to a lesser extent. Gold and silver prices fluctuate in response to numerous factors beyond the company's control.
The consolidated financial statements are prepared on the historical cost basis in accordance with accounting principles generally accepted in Canada and, in all material respects, conform with accounting principles generally accepted in the United States (except as described in note 12 to the company's consolidated financial statements) and with International Accounting Standards. The statements are expressed in U.S. dollars.
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.
Certain of the comparative figures have been reclassified to conform with the current year's presentation.
PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the company and its subsidiaries. Interests in joint ventures are accounted for using the proportionate consolidation method to consolidate the company's share of the joint ventures' assets, liabilities, revenues and expenses.
SHARE INVESTMENTS Common share investments are recorded using the cost method unless the company owns more than a 20% interest and can exercise significant influence, in which case the equity method is used. The cost method reports the investment at cost and the equity method reports the investment at cost adjusted for the company's pro rata share of the investee's undistributed earnings or losses since acquisition. A provision for loss would be recorded in income if there were a decline in market value of a share investment that is other than temporary.
FOREIGN CURRENCY TRANSLATION The company's self-sustaining Canadian operations are translated into U.S. dollars using the current-rate method, which translates assets and liabilities at the year-end exchange rate and translates revenue and expenses at average exchange rates. Exchange differences arising on translation are recorded as a separate component of shareholders' equity. The change in the balance is attributable to fluctuations in the exchange rate of U.S. dollars to Canadian dollars. The company's foreign operations that are not self-sustaining are translated into U.S. dollars using the temporal method, which translates monetary assets and liabilities at the year-end exchange rate, and translates additions to non-monetary assets and liabilities, revenue and expenses at average exchange rates. Exchange differences arising on translation are recorded in current earnings.
ECHO BAY MINES LTD.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
December 31, 1996 REVENUE RECOGNITION Revenue is recognized when title to delivered gold or silver passes to the buyer.
EARNINGS PER SHARE Earnings per share is calculated based on the weighted average number of common shares outstanding during the year. Fully diluted earnings per share are the same as basic earnings per share because the company's outstanding options are not dilutive.
CASH AND CASH EQUIVALENTS The company considers to be cash equivalents all highly liquid debt instruments purchased with a maturity of three months or less.
INVENTORIES Precious metals inventories are valued at the lower of cost, using the "first-in, first-out" method, or net realizable value. Materials and supplies are valued at the lower of average cost or replacement cost.
PLANT AND EQUIPMENT Plant and equipment are recorded at cost. Depreciation is provided using the straight-line method over each asset's estimated economic life to a maximum of 20 years.
MINING PROPERTIES Producing mines' acquisition, exploration and development costs Mining properties are recorded at cost of acquisition. Mine exploration and development costs include expenditures incurred to develop new ore bodies, to define further mineralization in existing ore bodies and to expand the capacity of operating mines. These expenditures are amortized against earnings on the unit-of-production method over the expected economic life of each mine.
Mining costs Mining costs are the costs incurred to remove ore and waste from an open pit or underground mine. These costs are deferred when they relate to gold that will be produced in future years. They are charged to operating costs in the period in which the production occurs.
For open pit mining operations, mining costs are deferred when the ratio of tons mined per ounce of gold recovered exceeds the average ratio estimated for the life of the mine. These deferred costs are charged to operating costs when the actual ratio is below the average ratio.
For underground mining operations, these costs include the cost of accessing and developing new production areas.
Development properties At properties identified as having development potential, the costs of acquisition, exploration and development are capitalized as they are incurred. If production commences, these costs are transferred to "producing mines' acquisition, exploration and development costs" and are amortized against earnings as described above. If a project is determined not to be commercially feasible, unrecoverable costs are expensed in the year in which the determination is made.
ECHO BAY MINES LTD.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
December 31, 1996
Exploration costs The costs of exploration programs not anticipated to result in additions to the company's reserves and other mineralization in the current year are expensed as incurred.
Reclamation and mine closure costs Estimated site restoration and closure costs for each producing mine are charged against operating earnings on the unit- of-production method over the expected economic life of each mine.
REVIEW OF LIFE-OF-MINE PLANS AND CARRYING VALUES Plant and equipment are depreciated and mining properties are amortized over their anticipated economic lives. Each year, the company estimates ore reserves and prepares a comprehensive mining plan for the then-anticipated remaining life of each property. The prices used in estimating the company's ore reserves at December 31, 1996 were $375 per ounce of gold and $5.00 per ounce of silver. The market prices were $369 per ounce of gold and $4.87 per ounce of silver at December 31, 1996. If the company were to determine that its reserves should be calculated at significantly lower prices, then ore reserves would likely be materially reduced.
Significant changes in the life-of-mine plans can occur as a result of mining experience, new ore discoveries, changes in mining methods and rates, process changes, investments in new equipment and technology, and other factors. Based on year-end ore reserves and each current life-of-mine plan, the company reviews its accounting estimates and makes needed adjustments. This complex process continues for the life of every mine.
The company reviews the carrying value of each producing mine by comparing the net book value with the estimated undiscounted future cash flow from the property. If the net book value exceeds the undiscounted future cash flow, then the excess is expensed. There has been no excess carrying value to be expensed in the three years ended December 31, 1996. Changes in the significant assumptions underlying future cash flow estimates may have a material effect on future carrying values and operating results.
Once major permits have been approved for a development property but a final construction decision has not yet been made, the company considers the uncertainty that the economics of the project may materially change if permits expire before a final construction decision is made, and records reductions in the property's book value when appropriate. Permits may not be renewable under the same terms and conditions as originally granted, and the grant of permits is often subject to appeal.
CAPITALIZATION OF INTEREST Interest cost is capitalized on construction programs until the facilities are ready for their intended use.
HEDGING ACTIVITIES The company's profitability is subject to changes in gold and silver prices, exchange rates, interest rates and certain commodity prices. To reduce the impact of such changes, the company locks in the future value of certain of these items through hedging transactions. These transactions are accomplished through the use of derivative financial instruments, the value of which is derived from movements in the underlying prices or rates.
The gold- and silver-related instruments used in these transactions include commodity loans, fixed-forward and spot- deferred contracts, swaps and options. Sensitivity to changing metal prices is reduced,
ECHO BAY MINES LTD.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
December 31, 1996
and future revenues are hedged, as the company's future production will satisfy these loans and other delivery commitments. The company engages in forward currency-exchange contracts to reduce the impact on the Lupin mine's operating costs caused by fluctuations in the exchange rate of U.S. dollars to Canadian dollars. The company also engages in crude oil hedging activities, including forward purchase agreements and swaps, to reduce the impact of fluctuations in crude oil prices on its operating costs. During 1995 and 1994, the company used interest rate swap agreements to effectively convert its fixed-rate preferred stock dividends into floating-rate dividends.
Gains and losses resulting from hedging activities are recognized in earnings on a basis consistent with the hedged item. When hedged production is sold, revenue is recognized in amounts implicit in the commodity loan, delivery commitment or option agreement. Gains or losses on foreign currency and crude oil hedging activities are recorded in operating costs, or capitalized in the cost of assets, when the hedged Canadian dollar transactions occur and when crude oil supplies are used in operations. Gains and losses on early termination of hedging contracts are deferred until the hedged items are recognized in earnings.
The carrying values of gold loans are remeasured using the market value of gold at the reporting date. Differences between these values and the loan proceeds that were originally received are recorded as deferred income and will be included in revenue when the production related to the loans is sold.
Under the interest rate swap agreements, the company received fixed-rate interest and paid interest based on the London Inter-Bank Offered Rate (LIBOR). The interest rate differential was recognized as an adjustment to dividends on preferred stock of subsidiary as the differential accrued.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
1. INVENTORIES
2. PROPERTY, PLANT AND EQUIPMENT Net book value
During 1995, the company and TVI Pacific formed alliances with Filipino corporations to create Kingking Mines Inc. ("KMI"), a corporation under the laws of the Republic of the Philippines. KMI has signed an option agreement to acquire a 100% interest in the Kingking project after completion of a bankable feasibility study and a $67.0 million payment in 1998. A contingent payment of up to $18.0 million also would be payable if there were a significant increase in mineralization at Kingking.
The company and its Philippine affiliates have an initial interest in the option of 75%, but the agreements provide for the acquisition and disposition of interests such that the interests of the company and its Philippine affiliates ultimately could be between 60% and 100% of the Kingking project.
Plant and equipment
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Mining properties
3. SANTA ELINA ACQUISITION On July 16, 1996, the company completed a series of transactions with Santa Elina Gold Corporation ("Santa Elina") and Sercor Ltd. ("Sercor," a private company that owned 67% of Santa Elina). The transactions enabled the company to increase its ownership of the outstanding common shares of Santa Elina from 7% to 50% by issuing 8,830,915 common shares to the shareholders of Santa Elina. As a result, the company and Sercor each owned 50% of Santa Elina. Santa Elina holds interests in mining properties, principally in Brazil and also in Bolivia.
The company has accounted for the transactions as the purchase of an additional 43% of Santa Elina. Santa Elina has been consolidated into the company using the proportionate consolidation method, as the company and Sercor jointly control Santa Elina. Under the proportionate consolidation method, the company's share of Santa Elina's assets, liabilities, revenues and expenses are included in the company's consolidated financial statements. The company's share of Santa Elina's operating results is included in the company's consolidated results of operations from the date of acquisition.
The total cost of the transactions was $106.0 million. This consists of $13.1 million to purchase the company's initial 7% interest in Santa Elina, $86.1 million to purchase the additional 43% interest in Santa Elina, the $5.3 million carrying value of the company's option to acquire a direct 50% interest in the Chapada property and $1.5 million of transaction costs. The purchase price has been allocated to the net assets of Santa Elina based on the relative fair values.
The assigned value of assets and liabilities acquired at July 16, 1996, based on the consideration given, follows.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Summarized below are the unaudited pro forma operating results of the company, assuming the Santa Elina purchase had been consummated on January 1, 1995. These pro forma results are based upon historical results of operations and not necessarily indicative of results that would have occurred.
Since the completion of the above transactions, the company increased its ownership in Santa Elina to 51% through additional share purchases of $7.0 million ($6.0 million in the fourth quarter of 1996 and $1.0 million in the first quarter of 1997). The increased ownership does not affect the joint control of Santa Elina, and proportionate consolidation will continue to be used.
4. LONG-TERM INVESTMENTS AND OTHER ASSETS
Share investments The company has purchased common shares of exploration-oriented companies that give the company access to exploration and development prospects along some of the major gold belts of the world, including properties in Central and South America, West Africa and the Philippines.
In the first quarter of 1996, the company sold its investment in Cluff Resources plc for $5.5 million. A gain of $2.5 million was recorded on the sale.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Equity investment In the fourth quarter of 1996, the company sold its investment in Etruscan Enterprises Ltd. in exchange for $8.3 million cash and the 49% of the Kilgore exploration property in Idaho that it did not own. The company recognized a gain of $1.9 million on this sale.
Property options In several cases the company paid a premium over the then-market value of the common shares of exploration-oriented companies to fund exploration programs on certain properties and for the right to acquire direct interests in these properties. These amounts are being expensed as the exploration work is conducted, until development potential is established. The company holds options to purchase direct interests in these properties at purchase considerations dependent on the properties' reserves and other mineralization at the time of option exercise.
5. GOLD AND OTHER FINANCINGS AND DEFERRED INCOME
Gold swaps Gold swaps refer to currency loans and related, independently arranged, future gold delivery commitments. Taken together, the loans and commitments create obligations effectively denominated in gold and represent hedges of future gold production. In 1990, bonds totaling $84.0 million were swapped for an obligation to deliver 218,000 ounces of gold in September 1997, equivalent to a selling price of $385 per ounce. The effective interest rate on the bond and swap arrangement was 3.54% at December 31, 1996.
Subsequent to December 31, 1996, the company repurchased its 218,000 ounce gold delivery commitment which hedged the $84.0 million bond obligation described above (see also note 15). The $84.0 million bond obligation has an effective interest rate of 10.34% and is expected to be repaid in March 1997.
Gold term loan and currency loan At December 31, 1996, a 41,562 ounce term loan was outstanding under a gold loan agreement (60,200 ounces at December 31, 1995). Under an August 1996 amendment, this term loan will be repaid over five years. All deferred gains related to the gold loan have been recognized in 1996 on a basis that matched the production originally designated for delivery. The remaining commitment is priced at $387.50 per ounce based on the gold price at the date of rescheduling. For financial statement presentation the outstanding gold loan was remeasured to $369 per ounce, the gold price at December 31, 1996 ($387 per ounce in 1995). Unrealized remeasurement gains or losses are included in deferred income. In August 1996, the company also borrowed an additional $34.7 million in U.S. dollars to be repaid over five years.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
The gold loan agreement contains both term and revolving provisions. At December 31, 1996, the company had no amounts outstanding, and $100.0 million or gold equivalent available until 2001, under the revolving commitment.
The facility is convertible between gold and dollar borrowings. Interest on gold borrowings is calculated at the banks' gold rate plus 0.475%, and interest on dollar borrowings at LIBOR plus 0.475%. At December 31, 1996, the effective interest rates were 2.90% on the gold loan and 5.85% on the dollar borrowings.
Gold loan related to Swiss franc bonds At December 31, 1995, the company's net gold delivery commitment related to the Swiss franc bond and swap arrangement was 118,990 ounces at approximately $374 per ounce, including deferred amounts. In 1996, 69,267 ounces of gold were delivered and the remaining 49,723 ounce commitment was rescheduled into quarterly payments of 5,525 ounces beginning in the first quarter of 1997 and ending in the first quarter of 1999. All deferred gains related to the Swiss franc transactions have been recognized in earnings in 1996 on a basis that matched the production originally designated for delivery. The remaining commitment is priced at $403 per ounce based on the gold price at the date of rescheduling. The effective rate of interest on the remaining commitment was 2.75% at December 31, 1996.
For financial statement presentation the remaining commitment was remeasured to $369 per ounce, the gold price at December 31, 1996.
Debenture payable A subsidiary of the company has issued a debenture in the amount of $28.0 million, bearing interest at the one-month discount rate for bankers' acceptances plus 0.325%. The interest rate was 3.44% at December 31, 1996. This debenture is payable in April 1997 and is secured by a letter of credit.
Other information Certain of the company's financing arrangements require it to maintain specified ratios of assets to liabilities and cash flow to debt. The company is in compliance with these ratios and other covenant requirements.
The company had outstanding letters of credit of $58.5 million at December 31, 1996, primarily related to the bonding of future reclamation obligations and to the debenture issued by a subsidiary of the company. Annual fees on the letters of credit range from 0.50% to 0.55%.
At December 31, 1996, the company had unutilized credit facilities of $111.5 million, including the $100.0 million or gold equivalent revolving commitment. Annual commitment fees on the unutilized credit facilities are 0.20%.
Interest payments were $9.0 million in 1996, $4.3 million in 1995 and $7.2 million in 1994.
Future gold and silver delivery commitments are summarized by year in note 15.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
6. OTHER LONG-TERM OBLIGATIONS
Reclamation and mine closure At December 31, 1996, the company's future reclamation and mine closure costs are estimated to be $72.6 million, excluding Alaska-Juneau described below. The aggregate obligation accrued to December 31, 1996 was $33.3 million, including accruals of $6.3 million at operating mines in 1996, $5.0 million at operating mines and $12.9 million at non- producing properties (note 7) in 1995 and $4.7 million at operating mines in 1994. The remaining $39.3 million will be accrued on the unit-of-production method over the remaining life of each mine. Future reclamation costs are determined using management's best estimates of the scope of work to be performed and related costs. These estimates may change based on future changes in operations, cost of reclamation activities and regulatory requirements.
At December 31, 1996, the company recorded a provision of $77.1 million on Alaska-Juneau development property, including its $57.1 million investment and $20.0 million for estimated reclamation and closure costs. The provision resulted from a new feasibility study concluding that the project as currently designed would not be economically feasible (note 16).
Provision for McCoy/Cove pit wall stabilization In the third quarter of 1996, the company recorded a $30.0 million provision related to the estimated costs to remove waste rock from an unstable portion of the Cove pit wall at the McCoy/Cove mine in Nevada. The cost estimate underlying the provision is based on a preliminary evaluation of the total tons to be removed and the associated costs, both of which will be further refined as McCoy/Cove completes its stabilization plan. This plan could affect a portion of McCoy/Cove ore reserves, if it is determined that the cost to remove waste rock renders the portion uneconomic. By December 31, 1996, total spending for the pit wall stabilization was $1.6 million.
7. INTEREST AND OTHER
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Gain on sale of Kensington In June 1995, the company completed the sale of its 50% interest in the Kensington development project to its partner, Coeur d'Alene Mines Corp., for $32.5 million and a scaled royalty on future production. A gain of $3.2 million was recorded on the sale.
Gain on disposition of Muscocho shares In June 1995, the company sold its 11,585,110 common shares of Muscocho Explorations Ltd., representing 24.8% of Muscocho's issued and outstanding capital, in a private transaction for $2.1 million. A gain of $2.1 million was recorded on the sale, as the company had written off its investment in Muscocho in 1990.
Environmental expenses During 1995, the company increased its provision for future reclamation costs at non-producing properties by $12.9 million, including $11.7 million related to the Sunnyside mine in Colorado.
8. INCOME TAX EXPENSE Geographic components The geographic components of earnings before income tax expense and of income tax expense were as follows.
Deferred income taxes The payment of certain income taxes is deferred due to the recognition of amounts for tax purposes in different periods than for accounting purposes. The principal timing differences and related tax effects were as follows.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Effective tax rate The effective tax rate on the company's earnings differed from the combined Canadian federal and provincial corporate income tax rate of 43.2% in 1996, 43.2% in 1995 and 42.9% in 1994 for the following reasons.
Loss carryforwards At December 31, 1996, the company had U.S. net operating loss carryforwards of approximately $254 million to apply against future taxable income and $44 million to apply against future alternative minimum taxable income. These loss carryforwards do not include provisions for the Alaska-Juneau development property and for the McCoy/Cove pit wall stabilization costs (note 6), which have not yet been recognized for income tax purposes. The net operating loss carryforwards expire during 2001-2011. Additionally, the company has Canadian non-capital loss carryforwards of approximately $24 million and net capital loss carryforwards of approximately $7 million. The non-capital loss carryforwards expire in various amounts from 1998 through 2003. The net capital loss carryforwards have no expiration date.
In 1995, the company realized $4.8 million from the conveyance of Canadian Development Expenses of $32.8 million to a third party. The proceeds were recorded as a recovery of income taxes in 1995 because the expenses represented unrecorded loss carryforwards for accounting purposes. The arrangement included the issuance of debentures to the third party (note 5).
Income tax payments (recoveries) Income tax payments (recoveries) were $0.4 million in 1996, ($3.6) million in 1995 and $4.5 million in 1994.
9. PREFERRED SHARES The company is authorized to issue an unlimited number of preferred shares, issuable in series. Each series is to consist of such number of shares and to have such designation, rights, privileges, restrictions and conditions as may be determined by the directors. No preferred shares are currently issued.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
10. COMMON SHARES Changes in the number of common shares outstanding during the three years ended December 31, 1996, were as follows.
The company has suspended payment of dividends beginning in 1997. This will save approximately $21.0 million over the next two years for mine development, based on the company's prior practice of paying dividends totaling $0.075 per share as was done in 1996, 1995 and 1994. Dividends payable to Canadian residents have been converted to and paid in Canadian dollars.
Shelf registration Pursuant to a shelf registration statement filed with the United States Securities and Exchange Commission in 1994, the company may offer from time to time up to $200 million in aggregate principal amount of debt securities, common shares, and/or guarantees of debt securities issued by Echo Bay Resources, Inc., a wholly owned subsidiary of the company.
In connection with the U.S. shelf registration, the company also filed a shelf debt prospectus and a shelf equity prospectus with Canadian securities regulatory authorities. Under these prospectuses, the company could issue up to $125 million of debt securities and up to 10 million common shares.
Shareholder rights plan Under the company's shareholder rights plan, if any person or group were to announce an intention to acquire, or were to acquire, 20% or more of the company's common shares without complying with the conditions of a "permitted bid," then the owners of each share of common stock (other than the acquiring person or group) would become entitled to exercise a right to buy one additional common share at 50% of the lowest share price on The Toronto Stock Exchange during the prior 90 days. The plan expires in 2004, subject to reconfirmation by shareholders in 1999.
A "permitted bid," which does not trigger the entitlement to acquire shares under the plan, is one that complies with applicable securities law in all jurisdictions where at least 5% of the company's common shares are owned; is made to all shareholders for all outstanding shares; is open for a minimum of 60 days; takes up no shares until at least 66-2/3% of the outstanding shares have been tendered to the bid, including those owned by the acquiring person or group; and meets certain other conditions.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Employee share incentive plan and director equity plan These plans provide for the granting of options to officers, key employees, and eligible directors to purchase common shares. Outstanding share options under the plans are exercisable at prices equal to the market value on the date of grant. The option holder may exercise each share option over a period of 10 years from the date of grant. Options generally vest in 25% increments on the first, second, third and fourth year anniversaries following the grant date. Option prices are denominated in Canadian dollars.
Changes in the number of options outstanding during the three years ended December 31, 1996 were as follows.
The number of shares reserved for future grants at December 31, 1996 are 288,085 under the Employee Share Incentive Plan and 264,800 under the Director Equity Plan. The number and weighted average price of shares exercisable under the Employee Share Incentive Plan are 2,282,905 at C$12.70 at December 31, 1996; 2,502,927 at C$11.82 at December 31, 1995; and 2,245,720 at C$11.24 at December 31, 1994. The number and weighted average price of shares exercisable under the Director Equity Plan are 41,550 at C$13.79 at December 31, 1996 and 13,800 at C$14.63 at December 31, 1995.
Options outstanding at December 31, 1996 had the following characteristics.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
11. PREFERRED STOCK OF A SUBSIDIARY There was no preferred stock of a subsidiary outstanding as of December 31, 1996. In July 1992, the company received net proceeds of $136.3 million from the sale of 5.75 million shares of Series A cumulative preferred stock of a financing subsidiary, Echo Bay Finance Corp. Quarterly dividends were paid on the preferred shares totaling $1.75 per share annually. On July 31, 1995, the preferred stock became redeemable, in whole or in part, at the option of the subsidiary.
In three separate calls for redemption during 1995, the entire issue of preferred shares was converted into common shares of the company at 2.985 common shares for each $25 preferred share or redeemed for cash at $26.225 per preferred share plus accrued dividends. During 1995, 5,667,437 preferred shares were converted into 16,916,695 of the company's common shares, and 82,313 preferred shares were redeemed for cash of $2.2 million.
12. DIFFERENCES BETWEEN CANADIAN AND U.S. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP)
U.S. GAAP financial statements The company prepares its consolidated financial statements in accordance with accounting principles generally accepted in Canada. These differ in some respects from those in the United States as described below.
In accordance with Canadian GAAP, certain long-term foreign exchange contracts are considered to be hedges of the cost of goods to be purchased in foreign currencies in future periods. Gains and losses related to changes in market values of such contracts are recognized as a component of the cost of goods when the related hedged purchases occur. Under U.S. GAAP, changes in market value would be included in current earnings.
In accordance with Canadian GAAP, certain share investments are carried at cost as long-term investments (note 4). These investments would be written down and a loss recognized in earnings only when there is a loss in value that is other than temporary. Under U.S. GAAP, these investments would be marked to market, with unrealized gains or losses excluded from earnings and reported as a separate component of common shareholders' equity, net of tax. The unrealized gain on share investments carried at cost is $5.0 million after a nil tax effect as of December 31, 1996 ($9.8 million at December 31, 1995).
In accordance with Canadian GAAP, the company uses the deferral method of accounting for income taxes. Under U.S. GAAP, the company would use the liability method of accounting for income taxes.
In accordance with Canadian GAAP, the cost of the Santa Elina acquisition included the market value of the 8.8 million common shares ($9.75 per share or $86.1 million) issued by the company on July 16, 1996 (note 3). Under U.S. GAAP, the cost would be determined based on the market value of the company's common shares on April 9, 1996, the date of the commitment agreement ($13.875 per share or $122.5 million). The difference between the methods would increase mining properties and common
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
shares under U.S. GAAP by $36.4 million. Additionally, in accordance with Canadian GAAP, the allocation of the purchase price of the Santa Elina acquisition does not include any adjustment for the effect of deferred income taxes. U.S. GAAP requires the recognition of deferred tax assets and liabilities for the tax effects of the differences between the allocated values and the tax bases of the assets acquired and the liabilities assumed. Under U.S. GAAP the recognition of deferred taxes would increase mining properties and deferred income taxes by $46.6 million, net of activity after acquisition of $1.1 million.
In accordance with Canadian GAAP, the company's mining properties are amortized over proven and probable reserves and other mineralization. Under U.S. GAAP, only proven and probable reserves would be used as the basis for amortization. The difference between the two accounting principles is not material to the results of operations for any of the periods presented. On a cumulative basis under U.S. GAAP, mining properties and common shareholders' equity would be $10.6 million lower and deficit would be $10.6 million higher at December 31, 1996 ($11.4 million lower and $11.4 million higher at December 31, 1995).
The effects on the consolidated statement of earnings of the above differences would have been as follows.
Selected information from the consolidated balance sheets under Canadian and U.S. GAAP is as follows.
Under U.S. GAAP, the 1996 common share issuance for the acquisition of Santa Elina and the 1995 preferred stock conversions to common shares would not have been shown in the consolidated statement of cash flow as they were non-cash transactions. Accordingly, common shares issued in acquisition of Santa Elina and the cost of the Santa Elina acquisition would have been reduced by $86.1 million each for 1996, and preferred share conversions and common share issues would have been reduced by $134.3 million each for 1995 on the consolidated statement of cash flow.
Effective January 1, 1996, for the purpose of preparing U.S. GAAP financial information, the company adopted FASB Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of," which requires impairment losses to be recorded on long-lived assets
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
used in operations when indicators of impairment are present. Implementation of Statement No. 121 had no effect on the U.S. GAAP financial information of the company.
U.S. GAAP tax disclosure Significant components of the company's deferred tax liabilities and assets under U.S. GAAP disclosure requirements would have been as follows.
The net increase in the valuation allowance for deferred tax assets was $56.5 million for 1996 and $10.0 million for 1995.
Stock-based compensation The U.S. Financial Accounting Standards Board ("FASB") Statement No. 123, "Accounting for Stock-Based Compensation," is applicable for fiscal years beginning after December 15, 1995 and gives the option to either follow fair value accounting or to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25") and related Interpretations. The company has determined that it will elect to continue to follow APB No. 25 and related Interpretations in accounting for its employee and director stock options in financial information prepared in conformity with U.S. GAAP.
In accordance with Canadian GAAP and U.S. GAAP (under APB No. 25), the company does not recognize compensation expense for stock option grants in the earnings statement, as the market prices of the underlying stock on the grant dates do not exceed the exercise prices of the options granted.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Had the company adopted statement No. 123 for its U.S. GAAP disclosure, the following net losses would have been reported.
The company has utilized the Black-Scholes option valuation model to estimate the fair value of options granted, assuming a weighted average option life of 6 years, risk-free interest rates ranging from 5.40% to 6.64%, a 1% dividend yield and a volatility factor of 40%. The weighted average fair value of options granted is estimated at $4.18 per share in 1996 and $4.37 per share in 1995.
Other The estimated fair values of financial instruments are set out below and in note 15. The fair values were determined from quoted market prices.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
13. JOINT VENTURES Summarized below are company's 50% interest in the Round Mountain mine and, in 1996, 51% interest in Santa Elina (note 3), accounted for by the proportionate consolidation method.
14. GEOGRAPHIC SEGMENT INFORMATION Financial information regarding geographic segments is set out below.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
15. HEDGING ACTIVITIES AND COMMITMENTS In the first quarter of 1997 the company repurchased its 218,000 ounce gold commitment which hedged the $84.0 million bond obligation (note 5) and repurchased all of its gold and silver forward sales positions, which consisted of 654,000 ounces of gold with delivery dates ranging from 1997 to 2002 and 8.5 million ounces of silver with delivery dates ranging from 1997 to 1999. These transactions resulted in cash proceeds of $63.3 million which are expected to be used, together with existing cash, to repay the $84.0 million bond obligation in March 1997. This $63.3 million has been deferred and will be recognized in earnings as the formerly hedged gold and silver production is sold. The gain will be recognized in revenue as follows: $14.1 million in 1997, $14.8 million in 1998, $27.7 million in 1999 and $6.7 million in 2000 and beyond. To provide protection against a decrease in gold prices, the company purchased 450,000 ounces of gold put options and sold 300,000 ounces of gold call options for a net cost of $0.4 million.
This note to the company's consolidated financial statements shows the company's pro forma hedge and commitments as of December 31, 1996, adjusted to reflect the first quarter 1997 transactions described above.
Gold and silver commitments The company's pro forma gold and silver commitments as of December 31, 1996, adjusted to reflect the first quarter 1997 transactions described above, were as follows.
The delivery prices on the gold loans stated above represent the prices established per the gold loan agreements. Gold loans are remeasured at each balance sheet date, resulting in deferred losses of $2.5 million at December 31, 1996. These losses are netted against deferred income and will be included in revenue when the production related to the loans is sold. See note 5.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
The company's pro forma option position as of December 31, 1996, adjusted to reflect the first quarter 1997 transactions described above, was as follows.
Currency position The company's obligations to purchase Canadian dollars as of December 31, 1996 were as follows.
Crude oil position The company's swap contracts and forward purchase commitment as of December 31, 1996 were as follows.
Other hedging activity information The company assesses the exposure that may result from a hedging transaction prior to entering into the commitment, and only enters into transactions which it believes accurately hedge the underlying risk and could be safely held to maturity. The company does not actively engage in the practice of trading derivative securities for profit. The company regularly reviews its unrealized gains and losses on hedging transactions.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Shown below are the carrying amounts and unrealized gains or losses on the company's hedging positions at December 31, 1996 and 1995, and pro forma at December 31, 1996, adjusted to reflect the first quarter 1997 transactions described above.
Fair values are estimated for the contract settlement dates based on market quotations of various input variables. These variables are used in valuation models that estimate the fair market value.
The credit risk exposure related to all hedging activities is limited to the unrealized gains on outstanding contracts based on current market prices. To reduce counterparty credit exposure, the company deals only with large credit-worthy financial institutions, and limits credit exposure to each. In addition, to allow for situations where positions may need to be reversed, the company deals only in markets it considers highly liquid.
Most of the company's hedging transactions have no margin requirements. In some instances, however, mainly for the longer-term forward sales and options, margin deposits are required when the market value exceeds the contract value by a predetermined amount.
The fair value of the company's hedged position can be affected by market conditions beyond the company's control. The effect of changes in various market factors on the company's pro forma outstanding hedged position at December 31, 1996, adjusted to reflect the first quarter 1997 transactions described above, would be as follows.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Hedging gains and losses represent the difference between spot or market prices and realized amounts. Shown below are the hedging gains (losses) recognized in earnings.
16. OTHER COMMITMENTS AND CONTINGENCIES Royalties Round Mountain mine production is subject to a net smelter return royalty ranging from 3.53% at gold prices of $320 per ounce or less to 6.35% at gold prices of $440 per ounce or more. Its production is also subject to a gross revenue royalty of 3%, reduced to 1 1/2% after $75.0 million has been paid. For the period from inception through December 31, 1996, cumulative royalties of $16.8 million have been paid on the gross revenue royalty.
McCoy/Cove production is subject to a 2% net smelter return royalty. This royalty is based on sales less certain deductions.
A portion of production from the Lamefoot area of the Kettle River mine is subject to a 5% net smelter return royalty. K-2 area production at Kettle River is subject to a 5% gross proceeds royalty and a net smelter return royalty ranging from 2% at gold prices of $300 per ounce or less to 3% at gold prices of $400 per ounce or more.
Operating lease commitments The company's principal lease commitments are for office premises, aircraft and equipment. The company's commitments under the remaining terms of the leases are approximately $23.7 million, payable as follows: $5.9 million in 1997, $2.8 million in 1998, $2.7 million in 1999, $2.5 million in 2000, $2.5 million in 2001 and $7.3 million thereafter.
ECHO BAY MINES LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1996
Tabular dollar amounts in thousands of U.S. dollars, except amounts per share and per ounce or unless otherwise noted
Contingencies At December 31, 1996, the company accrued $20.0 million for estimated reclamation and closure costs associated with the Alaska-Juneau development property. Actual spending related to reclamation and closure costs may differ from the current estimate of $20.0 million. The provision for future reclamation and closure costs is reviewed periodically and adjusted as additional information becomes available.
In 1995, Summa Corporation commenced in Nevada state court a lawsuit against the company and the predecessor owner of the McCoy/Cove and Manhattan mines, claiming improper deductions in calculation of royalties payable over several years of production at McCoy/Cove and the former Manhattan mine. Summa Corporation filed a motion for summary judgment seeking $10.3 million for allegedly underpaid royalties plus interest. The court denied Summa's motion. The case is scheduled for trial in the spring of 1997. The company has accrued $1.7 million related to the Summa litigation, including $1.5 million in 1996.
QUARTERLY FINANCIAL HIGHLIGHTS (Unaudited) (millions of U.S. Dollars except per share data)
(1) Includes a $30.0 million ($0.22 per share) provision related to the estimated costs to remove waste rock from an unstable portion of the Cove pit wall at the McCoy/Cove mine in Nevada. See "Business and Properties--McCoy/Cove." (2) Includes a $77.1 million ($0.57 per share) provision to write off the $57.1 million book value of the company's Alaska-Juneau development property in Alaska and to accrue $20.0 million for estimated reclamation and closure costs. See "Business and Properties--Alaska-Juneau."
ITEM 9
ITEM 9 - -CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None. PART III
ITEM 10
ITEM 10 - -DIRECTORS OF THE REGISTRANT
The information about the directors of the company required by this item is located in the Echo Bay Mines Ltd. proxy statement to be filed within 120 days after the end of the fiscal year. Information about the executive officers of the company required by this item appears in Part I of this Annual Report on Form 10-K.
ITEM 11
ITEM 11 - -EXECUTIVE COMPENSATION
The information required by this item appears in the Echo Bay Mines Ltd. proxy statement to be filed within 120 days after the end of the fiscal year.
ITEM 12
ITEM 12 - -SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item appears in the Echo Bay Mines Ltd. proxy statement to be filed within 120 days after the end of the fiscal year.
ITEM 13
ITEM 13 - -CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item appears in the Echo Bay Mines Ltd. proxy statement to be filed within 120 days after the end of the fiscal year.
PART IV
ITEM 14
ITEM 14 - -EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this report:
1. Financial Statements included in Part II, Item 8 Echo Bay Mines Ltd.
2. Financial Statement Schedules included in Part IV All schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto.
3. Exhibits required to be filed by Item 601 of Regulation S-K Exhibits 10.6, 21, 23.1, 23.2, 23.3, 24 and 27 are filed herewith. All other exhibits are incorporated by reference as indicated below.
(b) Reports on Form 8-K
Filed on January 14, 1997, reporting the write off of the company's Alaska-Juneau development property and corresponding $77.1 million charge to earnings (see "Business and Properties--Alaska-Juneau), the company's decision to proceed with construction and development of the Aquarius and Paredones Amarillos development projects (see "Business and Properties--Construction Programs--Aquarius" and "--Paredones Amarillos") and the suspension of dividends on common shares (see "Market for the Registrant's Common Shares and Related Shareholder Matters-- Dividends").
SIGNATURES
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.
ECHO BAY MINES LTD.
By: /s/ Richard C. Kraus -------------------------------------- Richard C. Kraus, President and Chief Executive Officer
Date: February 13, 1997
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant in the capacity and on the date indicated.
* By /s/ Robert L. Leclerc --------------------- February 13, 1997 Robert L. Leclerc, Attorney-in-fact
EXHIBIT INDEX