Equity Silver payout far from a sure thing

Potential changes to tax rules decrease the likelihood of an eventual cash payout to shareholders of Equity Silver Mines (TSE).

The company shipped the last load of concentrate from its silver mine near Houston, B.C., in the third quarter of 1994, concluding more than 14 years of production.

At the end of the quarter, working capital stood at more than $29 million, with a further $36.7 million set aside in a reclamation deposit. The company was planning to distribute its excess working capital to shareholders once a final figure for the total required reclamation deposit was determined. The acid-generating nature of some of the waste dumps at the silver mine requires that the company set aside money in a reclamation fund to pay for future water treatment. Income earned by the reclamation fund is used to pay the treatment costs while the principal remains untouched.

The tax treatment of the fund is of primary concern to Equity. Currently, the company holds the reclamation fund and most of its working capital off-shore; by doing so, it is able to ensure that any income earned is taxed at only 2%. However, proposed changes to tax legislation would result in income from the funds being taxed at this country’s full corporate rate of 45%. If income from the reclamation fund is taxed at the higher rate, Equity will be unable to generate enough money to pay for ongoing reclamation costs unless the fund is increased substantially.

As a result, the excess working capital may have to be used to bolster the reclamation fund, leaving less or no money for a final dividend payout to shareholders.

On the other hand, proposed changes to the taxation of reclamation funds may offer partial relief to Equity.

The House of Commons Standing Committee on Natural Resources tabled a report to Parliament recommending that reclamation funds be treated similarly to registered retirement savings plans (RRSPs). Income earned in the reclamation trust would not be taxable; only those funds removed from the trusts for use in the reclamation and remediation process would be taxed.

As with an RRSP, the mining company would receive a tax deduction for money deposited in a reclamation trust and add any money coming out of it to income. Equity’s situation is unusual in that the company already has set up a fund and is no longer an operating company. As a result, the money in the reclamation fund has already been taxed and no taxable benefit was received for its deposit.

The biggest unknowns for Equity are, which deductions will be allowed and what will be the resulting effective tax rate on money coming out of a reclamation trust? If the rate is higher than the 2% that the company is currently paying, the fund will likely have to be increased. Brenda Radies, a representative of Equity, says she hopes this year’s federal budget will address the uncertainty surrounding the issue.

Equity has not declared a dividend since December, 1993, and will not make any further payouts until the amount required for the reclamation fund is determined.

As of Sept. 30, 1994, Equity carried its future reclamation obligation on its balance sheet at $29.6 million, leaving shareholder equity of $44.4 million. The company has 32.5 million shares outstanding, 58.8% of which are owned by Placer Dome (TSE).