Freeport-McMoRan 2004 Annual Report Download - page 41

Management’s Discussion and Analysis
2004 ANNUAL REPORT |฀39
of฀copper฀and฀gold฀and฀other฀factors.฀A฀change฀of฀$0.10฀
in฀the฀average฀price฀per฀pound฀of฀copper฀would฀have฀an฀
approximate฀$150฀million฀impact฀on฀our฀2005฀consolidated฀
revenues฀and฀an฀approximate฀$75฀million฀impact฀on฀our฀2005฀
consolidated฀net฀income,฀assuming฀approximately฀1.5฀billion฀
pounds฀of฀2005฀PT฀Freeport฀Indonesia฀copper฀sales.฀A฀change฀
of฀$25฀in฀the฀average฀price฀per฀ounce฀of฀gold฀would฀have฀an฀
approximate฀$72฀million฀impact฀on฀our฀2005฀consolidated฀
revenues฀and฀an฀approximate฀$36฀million฀impact฀on฀our฀2005฀
consolidated฀net฀income,฀assuming฀approximately฀2.9฀million฀
ounces฀of฀2005฀PT฀Freeport฀Indonesia฀gold฀sales.
At฀times,฀in฀response฀to฀market฀conditions,฀we฀have฀in฀
the฀past฀and฀may฀in฀the฀future฀enter฀into฀copper฀and฀gold฀
price฀protection฀contracts฀for฀some฀portion฀of฀our฀expected฀
future฀mine฀production฀to฀mitigate฀the฀risk฀of฀adverse฀price฀
fluctuations.฀We฀currently฀have฀no฀commodity฀price฀protec-
tion฀contracts฀relating฀to฀our฀mine฀production฀other฀than฀
our฀gold-denominated฀and฀silver-denominated฀preferred฀stock฀
discussed฀below.
PT฀Freeport฀Indonesia’s฀concentrate฀sales฀agreements,฀with฀
regard฀to฀copper,฀provide฀for฀provisional฀billings฀at฀the฀time฀
of฀shipment฀with฀final฀pricing฀settlement฀generally฀based฀on฀
the฀average฀LME฀price฀for฀a฀specified฀future฀period.฀Under฀
SFAS฀No.฀133,฀“Accounting฀for฀Derivative฀Instruments฀and฀
Hedging฀Activities,”฀PT฀Freeport฀Indonesia’s฀sales฀based฀on฀
a฀provisional฀sales฀price฀contain฀an฀embedded฀derivative,฀
which฀we฀bifurcate฀from฀the฀sale฀of฀the฀concentrates฀at฀the฀
current฀spot฀LME฀price.฀The฀embedded฀derivative,฀which฀
does฀not฀qualify฀for฀hedge฀accounting,฀is฀marked-to-market฀
through฀earnings฀each฀period฀until฀the฀date฀of฀final฀copper฀
pricing฀(see฀Note฀1฀of฀“Notes฀to฀Consolidated฀Financial฀
Statements”).฀At฀December฀31,฀2004,฀we฀had฀consolidated฀
embedded฀derivatives฀on฀copper฀sales฀totaling฀292.2฀million฀
pounds฀recorded฀at฀an฀average฀price฀of฀$1.45฀per฀pound.฀We฀
expect฀final฀prices฀on฀these฀sales฀over฀the฀next฀few฀months.฀
We฀estimate฀that฀a฀two-cent฀movement฀in฀the฀average฀price฀
used฀for฀these฀embedded฀derivatives฀will฀have฀an฀approxi-
mate฀$3฀million฀impact฀on฀our฀2005฀consolidated฀net฀income.
We฀have฀outstanding฀two฀issues฀of฀redeemable฀preferred฀
stock,฀which฀have฀cash฀dividend฀and฀redemption฀requirements฀
indexed฀to฀gold฀and฀silver฀prices.฀We฀account฀for฀these฀
securities฀as฀a฀hedge฀of฀future฀production฀and฀reflect฀them฀
as฀debt฀on฀our฀balance฀sheets฀at฀their฀original฀issue฀value฀
less฀redemptions.฀As฀redemption฀payments฀occur,฀differ-
ences฀between฀the฀carrying฀value฀and฀the฀redemption฀
payment,฀which฀is฀based฀on฀commodity฀prices฀at฀the฀time฀
of฀redemption,฀are฀recorded฀as฀an฀adjustment฀to฀revenues฀
(see฀Notes฀1,฀5฀and฀11฀of฀“Notes฀to฀Consolidated฀Financial฀
Statements”).฀During฀2003,฀we฀redeemed฀all฀our฀gold-denomi-
nated฀preferred฀stock฀due฀in฀August฀2003฀and฀made฀an฀annual฀
partial฀redemption฀of฀our฀silver-denominated฀stock.฀We฀paid฀
$221.3฀million฀to฀redeem฀these฀securities,฀which฀had฀a฀book฀
balance฀of฀$245.1฀million.฀We฀recorded฀the฀$23.8฀million฀
gain฀as฀revenues.฀In฀August฀2004,฀we฀funded฀the฀sixth฀of฀
eight฀scheduled฀annual฀redemption฀payments฀on฀our฀Silver-
Denominated฀Preferred฀Stock฀for฀$13.9฀million.฀The฀mandatory฀
redemption฀resulted฀in฀a฀$12.5฀million฀decrease฀in฀debt฀and฀a฀
hedging฀loss฀to฀revenues฀of฀$1.4฀million฀($0.7฀million฀to฀net฀
income฀or฀less฀than฀$0.01฀per฀share)฀in฀2004.฀Future฀redemp-
tion฀payments฀denominated฀in฀ounces฀and฀equivalent฀value฀in฀
dollars,฀as฀well฀as฀dollar-equivalent฀dividend฀payments,฀based฀
on฀the฀December฀31,฀2004,฀London฀A.M.฀gold฀fixing฀price฀for฀
one฀ounce฀of฀gold฀($438.00)฀and฀the฀London฀silver฀fixing฀
price฀for฀one฀ounce฀of฀silver฀($6.82)฀in฀the฀London฀bullion฀
market฀(which฀determine฀the฀preferred฀stock฀redemption฀and฀
dividend฀amounts),฀follow฀(dollars฀in฀millions):
฀ Gold฀ Silver
฀Redemption฀ Carrying฀ Dividend฀ Redemption฀ Carrying฀ Dividend
฀ Ounces฀ Amount฀฀ Value฀ Amount฀ Ounces฀ Amount฀ Value฀ Amount
2005฀ ฀ ฀ ฀ —฀ $฀ —฀ $฀ —฀ $฀6.1฀ ฀2,380,000฀ $฀16.2฀ $฀12.5฀ $฀1.2
2006฀ ฀ ฀ ฀ 430,558฀ ฀188.6฀ ฀167.4฀ ฀1.5฀ ฀2,380,000฀ ฀16.2฀ ฀12.5฀ ฀0.5
฀ ฀ ฀ ฀ ฀ ฀ ฀ $฀188.6฀ $฀167.4฀ ฀ ฀ ฀ ฀ $฀32.4฀ $฀25.0
The฀fair฀values฀of฀the฀redeemable฀preferred฀stock,฀based฀on฀
December฀31,฀2004,฀quoted฀market฀prices฀of฀$43.65฀per฀
depositary฀share฀for฀our฀gold-denominated฀preferred฀stock฀
due฀in฀2006฀and฀$7.40฀per฀depositary฀share฀for฀our฀silver-
denominated฀preferred฀stock,฀were฀$187.9฀million฀for฀the฀
preferred฀stock฀indexed฀to฀gold฀prices฀and฀$35.2฀million฀for฀
the฀preferred฀stock฀indexed฀to฀silver฀prices.
Atlantic฀Copper฀prices฀its฀purchases฀of฀copper฀concentrate฀
at฀approximately฀the฀same฀time฀as฀it฀sells฀the฀refined฀copper,฀
thereby฀protecting฀Atlantic฀Copper฀from฀most฀copper฀price฀
risk.฀Atlantic฀Copper฀enters฀into฀futures฀contracts฀to฀hedge฀
its฀price฀risk฀whenever฀its฀physical฀purchases฀and฀sales฀
pricing฀periods฀do฀not฀match.฀At฀December฀31,฀2004,฀Atlantic฀
Copper฀had฀contracts,฀with฀a฀fair฀value฀of฀$(0.9)฀million,฀
to฀sell฀12.7฀million฀pounds฀of฀copper฀at฀an฀average฀price฀of฀
$1.40฀per฀pound฀through฀March฀2005.
Foreign Currency Exchange Risk
Our฀operations฀are฀in฀Indonesia฀and฀Spain,฀where฀our฀func-
tional฀currency฀is฀the฀U.S.฀dollar.฀All฀of฀our฀revenues฀and฀a฀
significant฀portion฀of฀our฀costs฀are฀denominated฀in฀U.S.฀
dollars;฀however,฀some฀costs฀and฀certain฀asset฀and฀liability฀
accounts฀are฀denominated฀in฀Indonesian฀rupiah,฀Australian฀