Fortuna Silver progresses at San Jose

SITE VISIT

SAN JOSE DEL PROGRESO, OAXACA, MEXICO — “Oaxaca is not for the faint of heart,” says Jorge Ganoza Durant with a slight grin, during a site visit to Fortuna Silver Mines’ (FVI-T) San Jose silver-gold project in the state.

As president and CEO of Fortuna, Ganoza Durant has led the company through both the recession and then a nearly two-monthlong blockade of the San Jose project, all the while overseeing Fortuna’s operating Caylloma silver mine in Peru.

Having survived the market collapse and the tensions in Oaxaca, the fourth-generation miner is now focusing on getting San Jose up and running.

Fittingly, Ganoza Durant commented about the social unrest in Oaxaca at the first stop of the site visit: a sewage treatment plant. Not because the topic was unpleasant, but because the plant represents part of the solution.

The town of Ocotlán de Morelos, roughly 15 km from the mine site, had built the treatment plant some years ago but had not spent the money needed to maintain it. The plant deteriorated and raw sewage was being dumped untreated into the environment.

Fortuna stepped in and has committed roughly $800,000 to refurbishing and ensuring the operation of the plant. The move has helped to win over locals by improving the environment, and almost eliminating the smell of the plant, situated within the town.

The treatment plant, however, was also an innovative solution to the other major problem of operating in Oaxaca: water.

Once the San Jose mine is running at full capacity, Fortuna plans to source 20% of its water supply from treating the sewage, pumping the filtered water to the mine site through a nearly-completed pipeline. The rest of the water is to come from a reservoir on the tailings pond.

“We produced a lot of goodwill in an unusual solution,” says Ganoza Durant of the plant. Having addressed the problems of water supplies and local support, the positive aspects of the San Jose project are now starting to shine through. The past-producing mine is located a few hundred metres off a major north-south highway that is currently being twinned. The fresh black asphalt already runs parallel to the existing road along much of the 47-km drive south from Oaxaca to the mine site. Once the road project is complete, the extra lanes should cut driving time to Mexico City, 470 km away, by half.

The project site also has an 115-kilovolt power line already running through it, with Fortuna only needing to build a sub-station to tap into the national grid.

The mine itself, meanwhile, hosts reserves totaling 3.5 million tonnes grading 205 grams silver per tonne and 1.6 grams gold per tonne for 23.2 million contained oz. silver and 181,000 contained oz. gold.

According to an April 2010 prefeasibility study, the reserves should support a mine life of 9 years, starting with a 750-tonne-per- day operation and ramping up to 1,500 tonnes per day. At its peak, it should produce 5 million silver-equivalent oz. a year.

Using a roughly US$15 per oz. silver price and a US$900 per oz. gold price, the study put the aftertax net present value with an 8% discount rate at US$36.3 million and the after-tax internal rate of return at 17.8%.

“There was disappointment in the market when the study was released,” says Ganoza Durant, noting the financial numbers were “nothing to write home about.”

The study “failed to capture the full potential of San Jose,” contends Ganoza Durant.

What that study doesn’t take into account is the large inferred resource that did not make the drill-density cut. The study set inferred resources at 2.4 million tonnes grading 262 grams silver and 2.11 grams gold, adding a potential 20.3 million oz. more silver and 164,000 oz. more gold.

Ganoza Durant says a significant amount of the inferred resource is in the upper portion of the mine, where Fortuna already plans to mine in the early years. More underground delineation drilling will also bring in more resources.

“The inferred resource is integral to the mine,” says Ganoza Durant. “The inferred will become part of the reserves immediately once we start drilling.”

Under construction

Despite the hesitation in the market, Fortuna has full faith in the mine plan and has been charging ahead with the US$56-million mine construction since receiving final environmental approval in March, and making the final go-ahead decision shortly after. The company expects to commission the mine by the third quarter of 2011.

There is evidence of mine construction everywhere you look at San Jose. From the perfectly flattened expanse of dirt that will host the thickening facilities, to the poured foundations for the crusher building, to the parts for the 1,200-tonne-per-day ball mill sitting in the dirt, waiting to be installed.

The plan is to mine the steeply-dipping epithermal quartz veins that host the gold and silver at San Jose through mechanized cut and fill. Roughly 45% of the ore will be used as backfill while the rest will go to the nearby tailings facility.

As to recovery rates, the company estimates 88% for silver and 90% for gold.

“We are blessed with a very simple metallurgical amalgam,” says Ganoza Durant.

The current plan is to produce a concentrate grading roughly 7,000 grams silver per tonne and 65 grams gold per tonne. The company is considering additional refinement but has not yet made a decision.

Originally the plan was to start milling at 750 tonnes per day, but the company secured a used ball mill that will allow San Jose to start at roughly 1,000 tonnes a day. Fortuna will, however, have to secure a second ball mill to achieve the 1,500-tonne-per-day peak output.

Planning for the mine was simplified by the operation of a small 100-tonne-per-day operation at the site until 2006 by a previous owner.

“We’ve seen the mine operate, the ore processed and concentrate made,” says Ganoza Durant.

The tailings pond is one of the most conspicuous aspects of the mine construction, at least when seen from above. The company has already stripped a large area of land and is nearing completion of a first stage, 24-metre-high containment board.

The pond will be expanded in three stages over the life of the mine. By the third one, the height of the containment board will be slightly more than 40 metres and the storage capacity will top 3.2 million cubic metres.

For the first stage, the pond is expected to cost US$3.2 million to build. The company went with a larger capacity rather than using a paste or dry stack for storage for its simplicity.

“The capex is high, but it’s dummy proof,” says Ganoza Durant.

Like the waste treatment plant, the tailings pond also serves a crucial secondary purpose of providing water for the mine. Around 80% of the mine’s water needs are to come from rain water collected on the tailings pond, and for the first two years of operation it should supply all the water needed.

Community

With mine construction moving forward on all fronts, the local community is seeing more economic benefits of its new neighbour.

Out of the roughly 400 people working at the mine, half come from San José del Progreso, a local town of 6,000. Another 30 or so are indirectly employed through supplying food and services.

Suiting up to head into the mine, Ganoza Durant notes that even the gloves, vests and coveralls are made locally. “We’re making them better; better jobs, better wages,” says Ganoza Durant.

Well-aware of the area’s water scarcity, Fortuna is also working to fund the installation of water tanks at homes to capture rain water. Other community investments include building more efficient wood ovens and dry, ecologic sanitary facilities.

Since the blockade ended last May, Fortuna has operated smooth- ly without outside interruption.

Ganoza Durant is cautiously optimistic that the company will avoid the same problems in the future. He explains that the
blockade was a symptom of the Mexican political system. The government does not automatically break up illegal blockades, but instead negotiates and sometimes ends up giving compensation to end the actions.

He says outsiders came to town and stirred up opposition for personal gain.

“Everyone knows you can challenge the government and get something in exchange,” says Ganoza Durant, “the ultimate motive (of the blockade) was economic.”

When negotiations failed, however, the blockade was ultimately broken up by federal and state police at the request of the local municipality. While dialogue continues with locals who opposed the project on environmental grounds and water concerns, those who started the blockade have left.

Because the underlying system is still there, Ganoza Durant can’t guarantee the problem is gone.

Instead, Fortuna continues to work with the locals and tries to demonstrate the positive effects of the mine, to prevent it from happening again.

“If the town didn’t want us, we wouldn’t be there,” says Ganoza Durant.

Exploration

Since coming onto the project in 2006, Fortuna has focused drilling on the main Trinidad area to expand the resource and move more of it into the reserve category. The company had little opportunity to explore elsewhere between the market collapse and the 2009 blockade.

The company, however, plans to ramp up exploration now that those issues have been largely dealt with.

“Now that we have a good grasp on social concerns, we’re advancing on an aggressive exploration program,” says Ganoza Durant.

There is some exploration potential near the mine, while also two highly prospective targets roughly 15 km east.

The San José del Progreso concession, where the mine is based, spans 7 sq. km. The concession is entirely surrounded by ground staked by Pan American Silver (PAA-T, PAAS-Q), but Fortuna then has more than 560 sq. km outside of Pan American’s ground.

The company has identified the Taviche and El Rancho anomalies on the east end of its larger land concession as priority targets. Both prospects have seen small-scale historic mining, with well-established vein systems.

With both extensive underground and exploration drilling planned, Fortuna could soon be adding mine-life to San Jose, which would help the economics of the project.

Already, however, the company has seen a strong stock price climb since construction got underway this summer. Since June, Fortuna’s stock price has climbed from a 52-week low of $1.80 to a closing high of $4.30 in early November.