Primero’s future uncertain 
after strike at San Dimas

VANCOUVER — Primero Mining’s (TSX: P) future hangs in the balance after 18 months of operational inefficiencies and labour-related work stoppages at its flagship San Dimas gold-silver operation, 125 km northeast of Mazatlan, Mexico.

The company was recently forced to sell its Black Fox gold complex in Ontario to McEwen Mining (TSX: MUX; NYSE: MUX) for US$35 million in cash, and it continues to pursue “all alternatives” to repay a fully drawn, US$75-million revolving credit line due in the fourth quarter.

It acquired Black Fox via the US$220-million acquisition of Brigus Gold in late 2013.

Primero has had sociopolitical problems in Mexico since it was hit with a legal claim from the Mexican tax authorities in early 2016.

The company then tangled with San Dimas’ local union in February when employees went on strike, leading to a complete stoppage of mining and milling activities.

San Dimas was offline for two months during negotiations and only resumed production in April. Primero had hoped for a smooth restart, but union relations soured again in July when labour disruptions reignited over proposed bonus payments under a new collective bargaining agreement.

An underground safety and coordination meeting in Primero Mining’s San Dimas gold-silver mine, 125 km northeast of Mazatlan, Mexico. Credit: Primero Mining.

“The annual bonus process and the related negotiations were quite extended and quite difficult. We saw a number of actions that the union took in July to put pressure on us in terms of slowing the operation down,” said Primero chief operating officer Damien Marantelli. “We need to move forward. So that’s what our team is focused on … but the union is a tough union, and we need to be mindful of that. We need to deal with it, and we’ve done so thus far this year.”

The work stoppages have resulted in San Dimas production dropping 55% year-on-year in quarterly gold equivalent output to 15,000 ounces.

Meanwhile, Primero’s ability to generate cash flow is hampered by a silver stream negotiated with Wheaton Precious Metals (TSX: WPM; NYSE: WPM) during the San Dimas acquisition in 2010.

The company has been obligated since August 2014 to sell Wheaton 6 million payable silver oz. produced per year, plus 50% of any excess, at US$4.20 (plus 1% inflation) per ounce. The rest of San Dimas’ silver production will be sold at spot market prices.

Primero chief financial officer Kevin Jennings said the Wheaton agreement is equivalent to a 39% net smelter return royalty on the project, which he noted was “probably one of the largest streams in the industry.”

“Our strategic review has been a prolonged process influenced by a number of factors, including the two-month strike at San Dimas,” added Primero interim president and CEO Joseph Conway. “Many of the proposals we’ve seen have been based on a reduced silver streaming arrangement on the asset, and [Wheaton Precious Metals] has noted publicly they’d be interested in lowering the stream in return for appropriate compensation.”

Primero said its exploration efforts have come up empty across the San Dimas property package.

The company indicated in its second-quarter results that it has “not identified large replacement veins for the depleting Roberta and Robertita veins … despite exploration investment,” which could impact its ability to keep its 1,800-tonne-per-day processing rate.

Primero slashed its annual capital investment at San Dimas by US$17.7 million to US$33.4 million, with the reductions attributed to “exploration planned for 2017.”

San Dimas hosts 4 million proven and probable tonnes grading 4 grams gold per tonne and 322 grams silver per tonne for 517,000 oz. gold and 41.2 million oz. silver. The operation has a five-year mine life based on the reserve figures.

The San Dimas mine site in Mexico. Credit: Primero Mining.

“We’d like to continue to invest, but we just don’t have the capacity,” Marantelli said. “Absent the stream, the operation can make money and is robust. The problem is that we don’t see it with the stream. The other leg is really the union and the culture.”

Primero reported a net loss of US$300 million during the second quarter, which includes US$285 million in asset impairments. Conway attributed the writedown to a “higher-risk profile associated with the productivity issues,” lack of exploration success at San Dimas and renegotiations over Wheaton’s silver stream.

Primero produced nearly 36,000 equivalent oz. gold during the second quarter, though the recently divested Black Fox accounted for 21,000 oz. gold. The company reported consolidated all-in sustaining costs of US$1,262 per ounce.

“We’ll reduce our total outstanding debt with the sale of [Black Fox]; however, we still have outstanding debt that matures in [November 2017] that will require additional funding or refinancing to repay in full,” Conway said. “We’ve made progress with the Mexican tax authority and have started receiving refund installments, which have helped improve our financial position.”

Shares of Primero have plummeted over 94% year-on-year en route to a 12¢ close at press time. The company finished the second quarter with US$12 million in cash and has 192 shares outstanding for a $23-million market capitalization.

BMO Capital Markets analyst Brian Quast removed his price target on Primero and applied a “speculative market perform” rating to the stock. He noted that “absent a sale of San Dimas … it seems nearly impossible that the company will be able to repay the revolver when it comes due [in the fourth quarter].”