Freeport-McMoRan 2008 Annual Report Download - page 24

Management’s Discussion and Analysis
Recoverable Copper. We record, as inventory, applicable
costs for copper contained in mill and leach stockpiles that
are expected to be processed in the future based on proven
processing technologies. Mill and leach stockpiles are evaluated
periodically to ensure that they are stated at the lower of cost or
market (refer to Note 5 and “Consolidated Results” for further
discussion of LCM inventory adjustments recorded in 2008).
Accounting for recoverable copper from mill and leach stockpiles
represents a critical accounting estimate because (i) it is
generally impracticable to determine copper contained in mill
and leach stockpiles by physical count, and therefore, requires
management to employ reasonable estimation methods and
(ii) recovery rates from leach stockpiles can vary significantly.
The quantity of material delivered to mill and leach stockpiles
is based on surveyed volumes of mined material and daily
production records. Sampling and assaying of blasthole cuttings
determine the estimated copper grade contained in the material
delivered to the mill and leach stockpiles.
Expected copper recovery rates for mill stockpiles are
determined by metallurgical testing. The recoverable copper
in mill stockpiles, once entered into the production process,
can be extracted into copper concentrate almost immediately.
Expected copper recovery rates for leach stockpiles are
determined using small-scale laboratory tests, small- to large-
scale column testing (which simulates the production-scale
process), historical trends and other factors, including mineralogy
of the ore and rock type. Ultimate recovery of copper contained in
leach stockpiles can vary significantly from a low percentage to
more than 90 percent depending on several variables, including
type of copper recovery, mineralogy and particle size of the rock.
For newly placed material on active stockpiles, as much as 70
percent of the copper ultimately recoverable may be extracted
during the first year, and the remaining copper may be recovered
over many years.
Processes and recovery rates are monitored regularly, and
recovery rate estimates are adjusted periodically as additional
information becomes available and as related technology changes.
At December 31, 2008, estimated recoverable copper was 2.7
billion pounds in leach stockpiles (with a carrying value of $1.4
billion) and 1.1 billion pounds in mill stockpiles (with a carrying
value of $350 million).
Reclamation and Closure Costs. Reclamation is an ongoing
activity that occurs throughout the life of a mine. In accordance
with SFAS No. 143, “Accounting for Asset Retirement
Obligations,” we record the fair value of our estimated asset
retirement obligations (AROs) associated with tangible long-lived
assets in the period incurred. Fair value is measured as the
present value of cash flow estimates after considering inflation
and then applying a market risk premium. Our cost estimates are
reflected on a third-party cost basis and comply with our legal
obligation to retire tangible, long-lived assets as defined by SFAS
No. 143. These cost estimates may differ from financial assurance
cost estimates for reclamation activities because of a variety of
factors, including obtaining updated cost estimates for
reclamation activities, the timing of reclamation activities,
changes in scope and the exclusion of certain costs not accounted
for under SFAS No. 143. Refer to Note 1 for further discussion of
our accounting policy for reclamation and closure costs.
Generally, ARO activities are specified by regulations or in
permits issued by the relevant governing authority, and
management judgment is required to estimate the extent and
timing of expenditures based on life-of-mine planning. Accounting
for reclamation and closure costs represents a critical accounting
estimate because (i) we will not incur most of these costs for a
number of years, requiring us to make estimates over a long period,
(ii) reclamation and closure laws and regulations could change in
the future and/or circumstances affecting our operations could
change, either of which could result in significant changes to
our current plans, (iii) calculating the fair value of our AROs in
accordance with SFAS No. 143 requires management to estimate
projected cash flows, make long-term assumptions about inflation
rates, determine our credit-adjusted, risk-free interest rates and
determine market risk premiums that are appropriate for our
operations and (iv) given the magnitude of our estimated reclamation
and closure costs, changes in any or all of these estimates could
have a significant impact on our results of operations.
At least annually, we review our ARO estimates for changes in
the projected timing of certain reclamation costs, changes in
cost estimates, and additional AROs incurred during the period.
Following is a summary of changes in our AROs for the years
ended December 31, 2008, 2007 and 2006 (in millions):
2008 2007 2006
Balance at beginning of year $ 728 $ 30 $ 27
Liabilities assumed in the acquisition of
Phelps Dodge – 531
a
–
Liabilities incurred 5 1 –
Revisions to cash flow estimates 21 179
b
–
Accretion expense 51 27 3
Spending (91) (40) –
Foreign currency translation adjustment (2) – –
Balance at end of year $ 712 $ 728 $ 30
a. The fair value of AROs assumed in the acquisition of Phelps Dodge was estimated
based on projected cash flows, an estimated long-term annual inflation rate of 2.4
percent, a discount rate based on FCX’s estimated credit-adjusted, risk-free interest
rate of 7.8 percent and a market-risk premium of 10 percent to reflect what a third
party might require to assume these AROs.
b. The most significant revisions to cash flow estimates in 2007 were related to
changes at Chino, Tyrone and PT Freeport Indonesia. During 2007, Chino and
Tyrone each submitted updated third-party closure cost estimates to the state of
New Mexico as part of the permit renewal process. As a result, we revised our cash
flow estimates and increased our ARO by $95 million for Chino and $45 million for
Tyrone. Additional adjustments may be required based upon the state’s review of
the updated closure plans and any permit conditions imposed by the state of New
Mexico. Additionally, PT Freeport Indonesia updated its cost estimates primarily for
changes to its plans for the treatment of acidic water, resulting in an increase of
$33 million.
22 FREEPORT-McMoRan COPPER & GOLD INC. 2008 Annual Report