Centerra weathers stormy 2006

As its fourth-quarter results laid bare, 2006 was not a banner year for Centerra Gold (CG-T, CAGDF-O).

But the company that built its name on mining gold in regions where others fear to tread — namely the Kyrgyz Republic and Mongolia — is taking its lumps in stride and looking forward to a strong year.

“While long term things look good for Kumtor, this past year was poor,” said David Petroff, Centerra’s chief financial officer, referring to the company’s flagship gold property.

Kumtor, in the Kyrgyz Republic, suffered from a pit wall collapse in July that forced the company to alter its mine plan. That, in turn, resulted in the mining of lower-grade material and higher cash costs.

Lower production and higher costs meant that Centerra saw its earnings fall to US$1.9 million or 1 per share in the fourth quarter, compared with US$6.4 million or 3 per share for the same period in 2005.

Total cash costs — including Kumtor and Centerra’s other operating mine, Boroo, in Mongolia — rose to US$473 per oz. compared with just US$300 an oz. for the same period in 2005.

Combined, the two mines produced 142,000 oz. gold for the quarter, compared with 167,000 oz. for the same period in 2005. Kumtor’s production for the period was 62,000 oz. compared with 99,000 oz. for the same quarter in 2005.

But Leonard Homeniuk, president and chief executive of Centerra, says mining at Kumtor will soon reach the higher-grade SB zone at the southern end of the pit. Exploration in 2006 identified a 1.8-million-oz. inferred resource in the zone. The company says it will be mining SB starting this quarter, with higher-grade ore coming out in the second half of the year.

Kumtor was also hit with unexpected costs in the form of what is being called a “high altitude premium.” Centerra settled with striking workers over the premium by agreeing to pay US$6 million for 2006, and roughly the same amount in each of the next two years.

But the company will not make those payments without a fight. It argues that its investment agreement with the previous government protects it from making the payment.

“We look forward to talking to the new government,” Homeniuk said of the recently installed administration. “We have some issues on the high altitude premium.”

Capital spending for 2007 will be roughly US$110 million, with US$25 million going towards maintenance capital, US$45 million going into Mongolia and US$40 million to Kumtor.

Much of the money spent at Kumtor will be for exploration, as the project will eat through US$15 million of the entire US$25-million exploration budget.

Centerra estimates production will rise to between 700,000 and 720,000 oz. gold for 2007, a 20% increase, with cash costs coming in between US$375 and US$385 per oz.

Mongolia

The political intrigue was not limited to the Kyrgyz Republic. Mongolia grabbed its share of attention last year for its parliament’s treatment of what had been a burgeoning mining industry.

While its Boroo open-pit gold mine has been protected by a favourable agreement — signed with the government before controversy erupted around the parcelling of the country’s mineral reserves — the shaky political climate is weighing on the development of Centerra’s most advanced exploration project, Gatsuurt.

The roughly 1 million oz. gold in reserves sitting at Gatsuurt can’t be mined and delivered to Boroo for processing until Centerra secures an investment agreement with the Mongolian government.

The much-publicized lack of a similar investment agreement at Ivanhoe Mines’ (IVN-T, IVN-N) massive Oyu Tolgoi copper-gold project had one analyst wondering if the government is waiting to deal with Centerra until it has first negotiated an agreement with Ivanhoe.

“They may, but I don’t think so,” Homeniuk said. “OT (Oyu Tolgoi) is huge for them while (Gatsuurt) is only one million ounces. So they wouldn’t necessarily have to conclude OT before us.”

Adding to the wait time thus far has been the firing of the Mongolian minister of industry under whose domain the agreement fell.

Homeniuk says Centerra will have to wait at least a couple of months for the government to organize itself and be ready for a new round of negotiations.

“We are not in negotiations right now. We’ve negotiated what we thought was an acceptable deal, but they weren’t able to consummate it on their side,” he said.

Still, Centerra is budgeting for 2007 as if Gatsuurt will go ahead. The project is estimated to cost US$75 million to build, US$25 million of which Centerra has budgeted for 2007.

Good news

The Boroo mine has delivered more certainty to Centerra. The company said operations there “exceeded expectations” with the production of 80,000 oz. in the fourth quarter compared with 68,000 oz. for the same period in 2005. Cash costs at the mine rose only marginally to US$225 per oz. up from US$223 per oz. in the fourth quarter of 2005.

On the exploration side, 343,000 oz. were added at the project, which replaces the reserves mined in 2006.

More positive news at Boroo is that in addition to its already operating mill, a heap-leach pad has been approved for processing lower-grade ore, and should begin producing gold by the fourth quarter of this year.

As the conference call wound down, Homeniuk laid out the company’s priorities for the coming year.

At the top of the pile is getting Gatsuurt into production, followed by moving underground at Kumtor to mine the SB zone. Third, Homeniuk said, is expanding reserves and resources, and last is finding new growth opportunities through acquisitions.

On the quarterly results, Centerra shares were off 36 to $13.17 on roughly 460,000 shares traded.