ROYAL GOLD INC - Quarter Report: 2010 September (Form 10-Q)

Table of Contents

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

 

x      QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Quarterly Period Ended September 30, 2010

 

or

 

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from          to         

 

Commission File Number: 001-13357

 

 

Royal Gold, Inc.

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

Registrant’s telephone number, including area code (303) 573-1660

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x  No  o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  x  No  o

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act.

 

 

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  o  No  x

 

There were 53,681,310 shares of the Company’s common stock, par value $0.01 per share, outstanding as of October 29, 2010.  In addition, as of such date, there were 1,605,312 exchangeable shares of RG Exchangeco Inc. outstanding which are exchangeable at any time into shares of the Company’s common stock on a one-for-one basis and entitle their holders to dividend and other rights economically equivalent to those of the Company’s common stock.

 

 

Table of Contents

 

INDEX

 

		PAGE
PART I	FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
	Consolidated Balance Sheets	3
	Consolidated Statements of Operations and Comprehensive Income (Loss)	4
	Consolidated Statements of Cash Flows	5
	Notes to Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	15
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	25
Item 4.	Controls and Procedures	25
PART II	OTHER INFORMATION
Item 1.	Legal Proceedings	27
Item 1A.	Risk Factors	27
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	27
Item 3.	Defaults Upon Senior Securities	27
Item 4.	Removed and Reserved	27
Item 5.	Other Information	27
Item 6.	Exhibits	27
SIGNATURES		28

 

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ROYAL GOLD, INC.

Consolidated Balance Sheets

(Unaudited, in thousands except share data)

 

		September 30,
		2010			June 30,
		(Unaudited)			2010
ASSETS
Cash and equivalents		$	321,503		$	324,846
Royalty receivables		43,041			40,363
Income tax receivable		—			3,432
Prepaid expenses and other current assets		1,817			2,627
Total current assets		366,361			371,268
Royalty interests in mineral properties, net (Note 4)		1,474,594			1,467,983
Other assets		21,852			22,082
Total assets		$	1,862,807		$	1,861,333
LIABILITIES
Current portion of long-term debt (Note 5)		$	26,000		$	26,000
Accounts payable		2,233			2,367
Dividends payable		4,978			4,970
Income tax payable		935			—
Other current liabilities		3,056			2,437
Total current liabilities		37,202			35,774
Long-term debt (Note 5)		216,000			222,500
Net deferred tax liabilities		152,062			152,583
Other long-term liabilities		16,045			16,928
Total liabilities		421,309			427,785
Commitments and contingencies (Note 11)
EQUITY
Preferred stock, $.01 par value, 10,000,000 shares authorized; and 0 shares issued		—			—
Common stock, $.01 par value, 100,000,000 shares authorized; and 53,411,203 and 53,324,171 shares outstanding, respectively		534			534
Exchangeable shares, no par value, 1,806,649 shares issued, less 201,337 and 176,540 redeemed shares, respectively		70,650			71,741
Additional paid-in capital		1,282,596			1,284,087
Accumulated other comprehensive (loss)		(27		)	(34		)
Accumulated earnings		58,713			51,862
Treasury stock, at cost (0 and 96,675 shares, respectively)		—			(4,474		)
Total Royal Gold stockholders’ equity		1,412,466			1,403,716
Non-controlling interests		29,032			29,832
Total equity		1,441,498			1,433,548
Total liabilities and equity		$	1,862,807		$	1,861,333

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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ROYAL GOLD, INC.

Consolidated Statements of Operations and Comprehensive Income

(Unaudited, in thousands except share data)

 

		For The Three Months Ended
		September 30,			September 30,
		2010			2009
Royalty revenues		$	45,338		$	26,113
Costs and expenses
Costs of operations (exclusive of depreciation, depletion and amortization shown separately below)		1,192			1,201
General and administrative		3,724			2,195
Exploration and business development		687			885
Depreciation, depletion and amortization		18,925			11,078
Total costs and expenses		24,528			15,359
Operating income		20,810			10,754
Interest and other income		1,424			1,753
Interest and other expense		(2,305		)	(355		)
Income before income taxes		19,929			12,152
Income tax expense		(6,927		)	(3,030		)
Net income		13,002			9,122
Net income attributable to non-controlling interests		(1,171		)	(1,996		)
Net income attributable to Royal Gold stockholders		$	11,831		$	7,126
Net income		$	13,002		$	9,122
Adjustments to comprehensive income, net of tax
Unrealized change in market value of available for sale securities		7			53
Comprehensive income		13,009			9,175
Comprehensive income attributable to non-controlling interests		(1,171		)	(1,996		)
Comprehensive income attributable to Royal Gold stockholders		$	11,838		$	7,179
Net income per share available to Royal Gold common stockholders:
Basic earnings per share		$	0.22		$	0.18
Basic weighted average shares outstanding		54,986,700			40,502,139
Diluted earnings per share		$	0.21		$	0.17
Diluted weighted average shares outstanding		55,250,028			40,861,713
Cash dividends declared per common share		$	0.09		$	0.08

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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ROYAL GOLD, INC.

Consolidated Statements of Cash Flows

(Unaudited, in thousands)

 

		For The Three Months Ended
		September 30,			September 30,
		2010			2009
Cash flows from operating activities:
Net income		$	13,002		$	9,122
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, depletion and amortization		18,925			11,078
Gain on distribution to non-controlling interest		(912		)	(1,616		)
Deferred tax benefit		(521		)	(950		)
Non-cash stock-based compensation expense		1,285			1,150
Tax benefit of stock-based compensation exercises		(521		)	(51		)
Changes in assets and liabilities:
Royalty receivables		(2,678		)	(4,717		)
Prepaid expenses and other assets		1,421			534
Accounts payable		409			(752		)
Income taxes payable		4,887			2,545
Other		(1,063		)	(153		)
Net cash provided by operating activities		$	34,234		$	16,190
Cash flows from investing activities:
Acquisition of royalty interests in mineral properties		(25,000		)	—
Change in restricted cash - compensating balance		—			19,250
Proceeds on sale of Inventory - restricted		1,471			2,899
Deferred acquisition costs		(695		)	(249		)
Other		(33		)	(30		)
Net cash (used in) provided by investing activities		$	(24,257	)	$	21,870
Cash flows from financing activities:
Tax benefit of stock-based compensation exercises		521			51
(Prepayment of) borrowings under Chilean loan facility		—			(19,250		)
Common stock dividends		(4,973		)	(3,259		)
Repayment of debt		(6,500		)	—
Distribution to non-controlling interests		(1,971		)	(2,899		)
Other		(397		)	228
Net cash (used in) financing activities		$	(13,320	)	$	(25,129	)
Net increase (decrease) in cash and equivalents		(3,343		)	12,931
Cash and equivalents at beginning of period		324,846			294,566
Cash and equivalents at end of period		$	321,503		$	307,497

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

1.                                      OPERATIONS, SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

 

Operations

 

Royal Gold, Inc. (“Royal Gold”, the “Company”, “we”, “us”, or “our”), together with its subsidiaries, is engaged in the business of acquiring and managing precious metals royalties and similar interests.  Royalties are passive (non-operating) interests in mining projects that provide the right to revenue or production from the project after deducting specified costs, if any.

 

Summary of Significant Accounting Policies

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X under the Securities Exchange Act of 1934, as amended.  Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for annual financial statements.  In the opinion of management, all adjustments which are of a normal recurring nature considered necessary for a fair presentation of our interim financial statements have been included in this Form 10-Q.  Operating results for the three months ended September 30, 2010, are not necessarily indicative of the results that may be expected for the fiscal year ending June 30, 2011.  These interim unaudited financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2010 filed with the Securities and Exchange Commission on August 26, 2010 (“Fiscal 2010 10-K”).

 

Recently Adopted Accounting Standards

 

Variable Interest Entities

 

In June 2009, the Accounting Standards Codification (“ASC”) guidance for consolidation accounting was updated to require an entity to perform a qualitative analysis to determine whether the enterprise’s variable interest gives it a controlling financial interest in a Variable Interest Entity (“VIE”).  This qualitative analysis identifies the primary beneficiary of a VIE as the entity that has both of the following characteristics: (i) the power to direct the activities of a VIE that most significantly impact the entity’s economic performance, and (ii) the obligation to absorb losses or receive benefits from the entity that could potentially be significant to the VIE.  The updated guidance also requires ongoing reassessments of the primary beneficiary of a VIE.  Adoption of the updated guidance, effective for the Company’s fiscal year beginning July 1, 2010, had no impact on the Company’s consolidated financial position, results of operations or cash flows.

 

Fair Value Measurements

 

In January 2010, the ASC guidance for fair value measurements and disclosure was updated to require additional disclosures related to: (1) transfers in and out of Level 1 and 2 fair value measurements, and (2) enhanced detail in the Level 3 reconciliation.  The guidance was amended to provide clarity about the level of disaggregation required for assets and liabilities and the disclosures required for inputs and valuation techniques used to measure fair value for both recurring and non-recurring measurements that fall in either Level 2 or Level 3.  The updated guidance was effective for the Company’s fiscal year beginning July 1, 2010, with the exception of the Level 3 disaggregation, which is effective for the Company’s fiscal year beginning July 1, 2011.  The adoption had no impact on the Company’s financial

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

position, results of operations or cash flows.  Refer to Note 10 for further details regarding the Company’s fair value measurements as of September 30, 2010.

 

2.             ACQUISITION OF INTERNATIONAL ROYALTY CORPORATION

 

As discussed in more detail in the Company’s Fiscal 2010 10-K, on February 22, 2010, Royal Gold, through a wholly-owned Canadian subsidiary, RG Exchangeco Inc. (“RG Exchangeco”), acquired all of the issued and outstanding common shares of International Royalty Corporation (the “IRC Transaction”).  The purchase price for the IRC Transaction consisted of approximately $350.0 million in cash, 5,234,086 shares of Royal Gold common stock (valued at $230.4 million on February 22, 2010) and 1,806,649 exchangeable shares of RG Exchangeco (valued at $79.5 million on February 22, 2010), which shares are convertible at any time on a one-for-one basis for Royal Gold common stock.

 

The Company is in the process of finalizing its assessment of the fair value of the assets acquired and liabilities assumed as part of the IRC Transaction.  Royalty interests in mineral properties, deferred income taxes, and certain other tax matters were based on preliminary valuation data and estimates.  Accordingly, the fair values of these assets and liabilities are subject to change.

 

		(in thousands)
Purchase price		$	659,871
Current assets		$	83,720
Royalty interests in mineral properties		774,291
Other assets		14,304
Current liabilities		(10,839		)
Senior secured debentures		(28,769		)
Net deferred tax liabilities		(140,891		)
Uncertain tax positions		(8,362		)
Other liabilities		(2,878		)
Non-controlling interest		(20,705		)
Total allocated purchase price		$	659,871

 

There were no changes made to the purchase price allocation during the three months ended September 30, 2010 when compared to the purchase price allocation as of June 30, 2010, included in the Company’s Fiscal 2010 10-K.  The Company anticipates finalizing the IRC purchase price allocation during the quarter ended December 31, 2010.

 

3.             ROYALTY ACQUISITIONS

 

Acquisition of Additional Royalty Interests at Pascua-Lama

 

On July 1, 2010, the Company entered into two separate assignment of rights agreements with two private Chilean citizens whereby Royal Gold acquired an additional 0.75% NSR sliding-scale royalty on the Pascua-Lama project, which is owned and operated by Barrick Gold Corporation (“Barrick”) and located on the border between Argentina and Chile, for a purchase price of $53 million.  Of this amount, $25 million was paid immediately to acquire an additional 0.35% royalty interest.  A deferred payment of $28 million was made on October 28, 2010, to acquire the remaining 0.40% royalty interest.  Upon the October 28, 2010 closings, Royal Gold’s total gold NSR royalty interest in the Pascua-Lama project increased to 5.23%, at gold prices above $800 per ounce.  Pursuant to the assignment of rights agreements, Royal Gold also acquired a 0.20% fixed-rate net smelter return copper royalty that takes effect after January 1, 2017, increasing Royal Gold’s copper royalty interest in the Pascua-Lama project to 1.05%.

 

7

 

4.             ROYALTY INTERESTS IN MINERAL PROPERTIES

 

The following summarizes the Company’s royalty interests in mineral properties as of September 30, 2010 and June 30, 2010.

 

As of September 30, 2010 (Amounts in thousands):		Cost			Accumulated Depletion			Net
Production stage royalty interests:
Andacollo		$	272,998		$	(3,565	)	$	269,433
Voisey’s Bay		150,138			(3,874		)	146,264
Peñasquito		99,172			(2,828		)	96,344
Las Cruces		57,230			(965		)	56,265
Mulatos		48,092			(10,952		)	37,140
Dolores		44,878			(2,472		)	42,406
Taparko		34,858			(33,585		)	1,273
Gwalia Deeps		22,854			(678		)	22,176
Leeville		18,322			(11,396		)	6,926
Robinson		17,825			(8,065		)	9,760
Cortez		10,630			(9,519		)	1,111
Other		157,022			(55,677		)	101,345
		934,019			(143,576		)	790,443
Development stage royalty interests:
Pascua-Lama		340,610			—			340,610
Canadian Malartic		35,500			—			35,500
Wolverine		39,794			—			39,794
Other		49,662			—			49,662
		465,566			—			465,566
Exploration stage royalty interests		218,585			—			218,585
Total royalty interests in mineral properties		$	1,618,170		$	(143,576	)	$	1,474,594

 

Note:	The cost amount shown for the royalties acquired as part of the IRC Transaction are preliminary.
	This includes Voisey’s Bay, Las Cruces, Gwalia Deeps, the IRC interest at Pascua-Lama, Wolverine and certain royalties included within the Other category in the above table.

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

As of June 30, 2010 (Amounts in thousands):		Cost			Accumulated Depletion			Net
Production stage royalty interests:
Andacollo		$	272,998		$	(1,143	)	$	271,855
Voisey’s Bay		150,138			(2,052		)	148,086
Peñasquito		99,172			(2,162		)	97,010
Las Cruces		57,230			(490		)	56,740
Mulatos		48,092			(10,177		)	37,915
Dolores		44,878			(2,278		)	42,600
Taparko		33,570			(29,242		)	4,328
Leeville		18,322			(10,764		)	7,558
Robinson		17,825			(7,678		)	10,147
Gwalia Deeps		15,970			(416		)	15,554
Cortez		10,630			(9,499		)	1,131
Other		149,085			(49,285		)	99,800
		917,910			(125,186		)	792,724
Development stage royalty interests:
Pascua-Lama		315,610			—			315,610
Canadian Malartic		35,500			—			35,500
Wolverine		39,794			—			39,794
Other		50,733			—			50,733
		441,637			—			441,637
Exploration stage royalty interests		233,622			—			233,622
Total royalty interests in mineral properties		$	1,593,169		$	(125,186	)	$	1,467,983

 

Note:  The cost amount shown for the royalties acquired as part of the IRC Transaction are preliminary. This includes Voisey’s Bay, Las Cruces, Gwalia Deeps, the IRC interest at Pascua-Lama, Wolverine and certain royalties included within the Other category in the above table.

 

5.             DEBT

 

The Company’s current and non-current debt as of September 30, 2010 and June 30, 2010 consists of the following:

 

		As of September 30, 2010 (Amounts in thousands)						As of June 30, 2010 (Amounts in thousands)
		Current			Non-current			Current			Non-current
Credit facility		$	—		$	125,000		$	—		$	125,000
Term loan		26,000			91,000			26,000			97,500
Total debt		$	26,000		$	216,000		$	26,000		$	222,500

 

During the quarter ended September 30, 2010, the Company added one of its wholly-owned subsidiaries, RGLD Gold Canada, Inc., as a guarantor to the Company’s credit facility.

 

As discussed in the Company’s Fiscal 2010 10-K, the Company has financial covenants associated with its revolving credit facility and term loan.  At September 30, 2010, the Company was in compliance with each financial covenant.

 

6.             STOCK-BASED COMPENSATION

 

The Company recognized stock-based compensation expense as follows:

 

		For The Three Months Ended
		September 30,			September 30,
		2010			2009
		(Amounts in thousands)
Stock options		$	131		$	135
Stock appreciation rights		167			77
Restricted stock		470			468
Performance stock		517			470
Total stock-based compensation expense		$	1,285		$	1,150

 

Stock-based compensation expense is allocated among cost of operations, general and administrative, and exploration and business development in our consolidated statements of operations and comprehensive income as summarized below:

 

		For The Three Months Ended
		September 30,			September 30,
		2010			2009
		(Amounts in thousands)
Stock-based compensation expense allocation:
Costs of operations		$	265		$	270
General and administrative		683			566
Exploration and business development		337			314
Total stock-based compensation expense		$	1,285		$	1,150

 

There were no stock options granted during the three months ended September 30, 2010 and 2009.  As of September 30, 2010, there was $0.4 million of unrecognized compensation expense related to non-vested stock options, which is expected to be recognized over a weighted-average period of 1.77 years.

 

There were no stock appreciation rights granted during the three months ended September 30, 2010 and 2009.  As of September 30, 2010, there was $0.9 million of unrecognized compensation expense related to non-vested stock appreciation rights, which is expected to be recognized over a weighted-average period of 1.89 years.

 

There was no restricted stock granted during the three months ended September 30, 2010 and 2009.  As of September 30, 2010, there was $5.3 million of unrecognized compensation expense related to non-vested restricted stock, which is expected to be recognized over a weighted-average vesting period of 4.00 years.

 

There was no performance stock granted during the three months ended September 30, 2010 and 2009.  During the three months ended September 30, 2010 and 2009, 74,500 and 0 shares of performance stock, respectively, vested at a weighted average grant date fair market value of $42.53 and $0, respectively.  As of September 30, 2010, there was $0.9 million of unrecognized compensation expense related to non-vested performance stock, which is expected to be recognized over a weighted-average vesting period of 0.76 years.

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

7.             EARNINGS PER SHARE (“EPS”)

 

Basic earnings per common share were computed using the weighted average number of shares of common stock outstanding during the period, considering the effect of participating securities.  Diluted earnings per share include the additional dilutive effect of our potentially dilutive securities, which include stock options, stock appreciation rights, restricted stock and performance stock.  The dilutive effects of our potentially dilutive securities are calculated using the treasury stock method.

 

The following tables summarize the effects of dilutive securities on diluted EPS for the period:

 

		For The Three Months Ended
		September 30,			September 30,
		2010			2009
		(in thousands, except share data)
Net income available to Royal Gold common stockholders		$	11,831		$	7,126
Weighted-average shares for basic EPS		54,986,700			40,502,139
Effect of other dilutive securities		263,328			359,574
Weighted-average shares for diluted EPS		55,250,028			40,861,713
Basic earnings per share		$	0.22		$	0.18
Diluted earnings per share		$	0.21		$	0.17

 

For the three months ended September 30, 2010 and 2009, approximately 72,700 and 0 stock-based compensation awards, respectively, were excluded from the computation of diluted EPS as the result would be anti-dilutive.

 

Our calculation of weighted average shares includes all of our outstanding stock: common stock and exchangeable shares.  Exchangeable shares are the equivalent of common shares in that they have the same dividend rights and share equitably in undistributed earnings and are exchangeable on a one-for-one basis for shares of our common stock.

 

8.             INCOME TAXES

 

		For The Three Months Ended
		September 30,			September 30,
		2010			2009
		(Amounts in thousands, except rate)
Income tax expense		$	6,927		$	3,030
Effective tax rate		34.8		%	24.9		%

 

The increase in the effective tax rate for September 30, 2010 is primarily related to (i) an increase in tax expense related to earnings from non-U.S. subsidiaries, and (ii) the decrease in the tax benefit received on the statutory tax related to income from non-controlling interests.

 

The Company or one of its subsidiaries files income tax returns in the U.S. federal jurisdiction, and various state and foreign jurisdictions. With few exceptions, the Company is no longer subject to U.S. Federal, state and local, and non-U.S. income tax examinations by tax authorities for fiscal years before 2007.

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

As of September 30, 2010 and June 30, 2010, the Company had $13.0 million and $11.9 million of total gross unrecognized tax benefits, respectively.  The liability for unrecognized tax benefits is reflected within Other long-term liabilities on the Company’s consolidated balance sheets.  The increase in gross unrecognized tax benefits was primarily related to tax positions of IRC entities taken prior to or upon the acquisition by the Company during fiscal year 2010.  If recognized, these unrecognized tax benefits would impact the Company’s effective income tax rate.

 

The Company’s continuing practice is to recognize interest and/or penalties related to unrecognized tax benefits as part of its income tax expense. At September 30, 2010 and June 30, 2010, the amount of accrued income-tax-related interest and penalties was $0.7 million and $0.6 million, respectively.  This amount is included in the liability for unrecognized tax benefits and is reflected in Other long-term liabilities on the Company’s consolidated balance sheets.

 

9.             SEGMENT INFORMATION

 

We manage our business under one operating segment, consisting of royalty acquisition and management activities.  All of our assets and revenues are attributable to the royalty operating segment.

 

Royal Gold’s royalty revenue and long-lived assets (royalty interests in mineral properties, net) are geographically distributed as shown in the following table.

 

		Royalty Revenue				Royalty Interests in Mineral Property, net
		Three Months Ended
		September 30,				As of		As of
		2010		2009		September 30, 2010		June 30, 2010
United States		26	%	44	%	5	%	5	%
Africa		23	%	28	%	2	%	2	%
Chile		19	%	1	%	43	%	42	%
Mexico		13	%	17	%	13	%	13	%
Canada		9	%	2	%	26	%	27	%
Australia		7	%	—		6	%	6	%
Other		3	%	8	%	5	%	5	%

 

 

10.          FAIR VALUE MEASUREMENTS

 

FASB ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value.  The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).  The three levels of the fair value hierarchy under FASB ASC 820 are described below:

 

Level 1:      Quoted prices for identical instruments in active markets;

 

Level 2:      Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets; and

 

Level 3:      Prices or valuation techniques requiring inputs that are both significant to the fair value measurement and unobservable (supported by little or no market activity).

 

The following table sets forth the Company’s financial assets measured at fair value on a recurring basis (at least annually) by level within the fair value hierarchy.

 

		Fair Value at September 30, 2010
		(In thousands)
		Total			Level 1			Level 2			Level 3
Assets:
Money market investments(1)		$	284		$	284		$	—		$	—
Marketable equity securities(2)		199			199			—			—
		$	483		$	483		$	—		$	—

 

(1)  Included in Cash and equivalents in the Company’s consolidated balance sheets.

(2)  Included in Other assets in the Company’s consolidated balance sheets.

 

The carrying amount of our long-term debt (including the current portion) approximates fair value as of September 30, 2010.

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

The Company invests in money market funds, which are traded by dealers or brokers in active over-the-counter markets.  The Company’s money market funds, which are invested in United States treasury bills or United States treasury backed securities, are classified within Level 1 of the fair value hierarchy.

 

The Company’s marketable equity securities classified within Level 1 of the fair value hierarchy are valued using quoted market prices in active markets.  The fair value of the Level 1 marketable equity securities is calculated as the quoted market price of the marketable equity security multiplied by the quantity of shares held by the Company.

 

As of September 30, 2010, the Company also had assets that, under certain conditions, are subject to measurement at fair value on a non-recurring basis like those associated with royalty interests in mineral properties, intangible assets and other long-lived assets.  For these assets, measurement at fair value in periods subsequent to their initial recognition are applicable if any of these assets are determined to be impaired; however, no triggering events have occurred relative to any of these assets during the three months ended September 30, 2010.  If recognition of these assets at their fair value becomes necessary, such measurements will be determined utilizing Level 3 inputs.

 

11.          COMMITMENTS AND CONTINGENCIES

 

Voisey’s Bay

 

On February 22, 2010, as part of the IRC Transaction discussed in Note 2, we acquired a royalty on the Voisey’s Bay Mine in Newfoundland and Labrador owned by Vale Newfoundland & Labrador Limited (“VNL”).  The royalty is owned by the Labrador Nickel Royalty Limited Partnership (“LNRLP”), in which the Company’s wholly-owned indirect subsidiary, Canadian Minerals Partnership, is the general partner and 89.99% owner.  The remaining interests in LNRLP are owned by Altius (10%), a company unrelated to Royal Gold and IRC, and the Company’s wholly-owned indirect subsidiary, Voisey’s Bay Holding Corporation (0.01%).

 

On October 16, 2009, LNRLP filed a claim in the Supreme Court of Newfoundland and Labrador Trial Division against Vale Inco Limited (“Vale Inco”) and its wholly-owned subsidiaries, Vale Inco Atlantic Sales Limited (“VIASL”) and VNL, related to calculation of the NSR on the sale of concentrates, including nickel concentrates, from the Voisey’s Bay Mine to Vale Inco.  The claim asserts that Vale Inco is incorrectly calculating the NSR and requests an order in respect of the correct calculation of future payments.  The claim also requests specific damages for underpayment of past royalties to the date of the claim in an amount not less than $29 million, together with additional damages until the date of trial, interest, costs and other damages.  The litigation is in the discovery phase and was not valued as part of the purchase price allocation discussed in Note 2 as the outcome cannot be reasonably estimated.

 

Holt

 

On October 1, 2008, as part of the Company’s acquisition of a portfolio of royalties from Barrick, we acquired a royalty on the Holt portion of the Holloway-Holt mining project in Ontario, Canada, owned by St Andrew Goldfields Ltd. (“St Andrew”).  St Andrew succeeded Newmont Canada Corporation (“Newmont Canada”) as owner of the Holloway-Holt mining project in November 2006.  By virtue of the Company’s acquisition of Barrick’s royalty portfolio, RGLD Gold Canada, Inc. (“RGLD Gold”) succeeded Barrick as the royalty payee under the royalty agreement.

 

On or about November 3, 2008, St Andrew filed an action in the Ontario Superior Court of Justice (the “Court”) seeking, among other things, declarations by the Court that St Andrew’s obligation in respect of

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

the royalty is limited to only a portion of the total royalty payable, and that any additional royalty obligations under the royalty agreement remain the responsibility of Newmont Canada.  Newmont Canada responded that St Andrew is responsible for all royalty obligations under the royalty agreement.

 

Royal Gold and RGLD Gold (collectively “Royal Gold”) and Barrick were joined as necessary parties to the litigation in January 2009.  On July 23, 2009, the Court held that Royal Gold is entitled to payment from Newmont Canada of the full amount of the sliding-scale NSR royalty on gold produced from the Holt mine.  The Court also held that St Andrew’s sole obligation is to reimburse Newmont Canada for payment of the royalty up to a flat rate of 0.013% of the net smelter returns for gold, silver and other metals.  On August 21, 2009, Newmont Canada appealed the Court’s decision to the Court of Appeal of Ontario and on December 9, 2009, made Royal Gold a party to the appeal.  Oral argument of the appeal has been set for March 1, 2011.

The Holt royalty is currently classified as a development stage royalty interest and the Company does not currently receive revenue from the royalty.

 

12.          RELATED PARTY

 

Crescent Valley Partners, L.P. (“CVP”) was formed as a limited partnership in April 1992.  It owns a 1.25% net value royalty (“NVR1”) on production of minerals from a portion of Cortez.  Denver Mining Finance Company (“DMFC”), our wholly-owned subsidiary, is the general partner and holds a 2.0% interest in CVP.  In addition, Royal Gold holds a 29.6% limited partner interest in the partnership, while our Chairman of the Board of Directors, the Chairman of our Audit Committee and one other member of our board of directors hold an aggregate 35.56% limited partner interest.  The general partner performs administrative services for CVP in receiving and processing the royalty payments from the operator, including the disbursement of royalty payments and record keeping for in-kind distributions to the limited partners, which includes certain directors and our Chairman.

 

CVP receives its royalty from Cortez in-kind.  The Company, as well as certain other limited partners, sell their pro-rata shares of such gold immediately and receive distributions in cash, while CVP holds gold for certain other limited partners.  Such gold inventories, which totaled 17,055 and 18,067 ounces of gold as of September 30, 2010 and June 30, 2010, respectively, are held by a third party refinery in Utah for the account of the limited partners of CVP.  The inventories are carried at historical cost and are classified within Other assets on the Company’s consolidated balance sheets.  The carrying value of the gold in inventory was approximately $8.3 million and $8.7 million as of September 30, 2010 and June 30, 2010, respectively, while the fair value of such ounces was approximately $22.3 million and $22.5 million as of September 30, 2010 and June 30, 2010, respectively.  None of the gold currently held in inventory as of September 30, 2010 and June 30, 2010, is attributed to Royal Gold, as the gold allocated to Royal Gold’s CVP partnership interest is typically sold within five days of receipt.

 

13.          SUBSEQUENT EVENTS

 

Mt. Milligan Gold Stream Acquisition

 

On October 20, 2010, the Company entered into a Purchase and Sale Agreement (the “Purchase and Sale Agreement”) pursuant to which a wholly-owned subsidiary of the Company, RGL Royalty AG (“RGL”), acquired the right to 25% of the payable gold produced from the Mt. Milligan copper-gold project in British Columbia (the “Gold Purchase Transaction”) from Terrane Metals Corp. (“Terrane”), a wholly-owned subsidiary of Thompson Creek Metals Company Inc. (“Thompson Creek”).  The parties entered

 

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ROYAL GOLD, INC.

Notes to Consolidated Financial Statements

(Unaudited)

 

into the Purchase and Sale Agreement concurrently with the consummation of Thompson Creek’s acquisition of Terrane.

 

Pursuant to the Purchase and Sale Agreement, RGL paid $226.5 million at the closing of the Gold Purchase Transaction.  In the future, upon satisfaction of certain conditions set forth in the Purchase and Sale Agreement, RGL will make additional payments to Terrane in an amount not to exceed $85 million in the aggregate to fund a portion of the development costs of the Mt. Milligan project.  Upon commencement of production at the Mt. Milligan project, RGL will purchase 25% of the payable gold with a cash payment equal to the lesser of $400 or the prevailing market price for each payable ounce of gold until 550,000 ounces have been delivered to RGL and the lesser of $450 or the prevailing market price for each additional ounce thereafter.  The Purchase and Sale Agreement also contains representations and warranties, covenants, conditions and indemnification provisions in respect of each party.  The Company paid the $226.5 million portion of the total consideration from cash on hand.

 

Acquisition of Additional Royalty Interests at Pascua-Lama

 

Refer to Note 3 for further discussion on the acquisition of additional royalty interests at Pascua-Lama on October 28, 2010.

 

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ITEM 2.                  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

General

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to provide information to assist you in better understanding and evaluating our financial condition and results of operations.  We recommend that you read this MD&A in conjunction with our consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q, as well as our Annual Report on Form 10-K for the fiscal year ended June 30, 2010 filed with the Securities and Exchange Commission (the “SEC”) on August 26, 2010 (the “Fiscal 2010 10-K”).

 

This MD&A contains forward-looking information.  You should review our important note about forward-looking statements following this MD&A.

 

We refer to “GSR,” “NSR,” and other types of royalty interests throughout this MD&A.  These terms are defined in our Fiscal 2010 10-K.

 

Overview

 

Royal Gold, together with its subsidiaries, is engaged in the business of acquiring and managing precious metals royalties and similar interests.  Royalties are passive (non-operating) interests in mining projects that provide the right to revenue or production from the project after deducting specified costs, if any.  We seek to acquire existing royalties or to finance projects that are in production or in development stage in exchange for royalties or similar interests.  We are engaged in a continual review of opportunities to acquire existing royalties, to create new royalties or similar interests through the financing of mine development or exploration, or to acquire companies that hold royalties. We currently, and generally at any time, have acquisition opportunities in various stages of active review, including, for example, our engagement of consultants and advisors to analyze particular opportunities, analysis of technical, financial and other confidential information, submission of indications of interest, participation in preliminary discussions and involvement as a bidder in competitive auctions.

 

As of September 30, 2010, the Company owns royalties on 34 producing properties, 23 development stage properties and 130 exploration stage properties, of which the Company considers 39 to be evaluation stage projects.  The Company uses “evaluation stage” to describe exploration stage properties that contain mineralized material and on which operators are engaged in the search for reserves.  We do not conduct mining operations nor are we required to contribute to capital costs, exploration costs, environmental costs or other mining costs on the properties in which we hold royalty interests.  During the three months ended September 30, 2010, we focused on the management of our existing royalty interests and the acquisition of royalty and similar interests.

 

Our financial results are primarily tied to the price of gold, silver, copper, nickel and other metals, as well as production from our producing stage royalty interests.  The price of gold, silver, copper, nickel and other metals have fluctuated widely in recent years.  The marketability and the price of gold, silver, copper, nickel and other metals are influenced by numerous factors beyond the control of the Company and may have a material and adverse effect on the Company’s results of operations and financial condition.

 

For the three months ended September 30, 2010 and 2009, gold, silver, copper and nickel price averages and percentage of royalty revenues by metal were as follows:

 

		Three months ended
		September 30, 2010					September 30, 2009
Metal		Average Price			Percentage of Royalty Revenue		Average Price			Percentage of Royalty Revenue
Gold ($/ounce)		$	1,227		73	%	$	960		86	%
Silver ($/ounce)		$	18.97		4	%	$	14.69		2	%
Copper ($/pound)		$	3.29		9	%	$	2.65		7	%
Nickel ($/pound)		$	9.61		9	%	$	7.99		3	%
Other		N/A			5	%	N/A			2	%

 

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Principal Royalties

 

Our principal producing royalty interests are shown in the following table.  The Company considers both historical and future potential revenues in determining which royalties in our portfolio are principal to our business.  Estimated future potential royalty revenues from both producing and development properties are based on a number of factors, including reserves subject to our royalty interests, production estimates, feasibility studies, metal price assumptions, mine life, legal status and other factors and assumptions, any of which could change and could cause Royal Gold to conclude that one or more of such royalties is no longer principal to our business.

 

Please refer to our Fiscal 2010 10-K for further discussion of our principal producing royalty interests.

 

Mine		Location		Operator		Royalty (Gold unless otherwise stated)
Cortez		Nevada, USA		Barrick Gold Corporation (“Barrick”)		GSR1: 0.40% to 5.0% sliding-scale GSR GSR2: 0.40% to 5.0% sliding-scale GSR GSR3: 0.71% GSR NVR1: 0.39% NVR
Robinson		Nevada, USA		Quadra Mining Ltd. (“Quadra”)		3.0% NSR (copper, gold, silver, molybdenum)
Leeville		Nevada, USA		Newmont Mining Corporation (“Newmont”)		1.8% NSR
Peñasquito		Zacatecas, Mexico		Goldcorp Inc. (“Goldcorp”)		2.0% NSR (gold, silver, lead, zinc)
Mulatos(1)		Sonora, Mexico		Alamos Gold, Inc. (“Alamos”)		1.0% to 5.0% sliding-scale NSR
Dolores		Chihuahua, Mexico		Minefinders Corporation, Ltd. (“Minefinders”)		3.25% NSR; 2.0% NSR (silver)
Voisey’s Bay		Newfoundland and Labrador, Canada		Vale Inco Ltd. (“Vale”)		2.7% NSR (nickel, copper, cobalt)
Andacollo		Region IV, Chile		Compañía Minera Teck Carmen de Andacollo		75% of gold produced
Gwalia Deeps		Western Australia, Australia		St. Barbara Limited (“St. Barbara”)		1.5% NSR
Taparko(2)		Burkina Faso, West Africa		High River Gold Mines Ltd. (“High River”)		15% GSR (TB-GSR1); 0% to 10% sliding-scale GSR (TB-GSR2); 2.0% GSR (TB-GSR3)
Las Cruces		Andalucía, Spain		Inmet Mining (“Inmet”)		1.5% NSR (copper)

 

(1)             The Mulatos royalty is capped at 2.0 million gold ounces of production.  Approximately 610,000 cumulative ounces of gold have been produced as of September 30, 2010.

 

(2)             As of September 30, 2010, the Company has recognized $35.0 million associated with TB-GSR1.  In October 2010, the Company received the remaining amounts due associated with the $35.0 million cap.  Upon receipt of the remaining amounts due, TB-GSR1 and TB-GSR2 were terminated, and the Company’s perpetual 2.0% GSR royalty (TB-GSR3) became effective. The TB-GSR3 royalty covers all gold produced from the Taparko mine.

 

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Our principal development royalties are shown in the following table and are not yet in production.  Please refer to our Fiscal 2010 10-K for further discussion of our principal development stage royalty interests.

 

Mine		Location		Operator		Royalty or similar interests (Gold unless otherwise stated)
Pascua-Lama(1)		Region III, Chile		Barrick		0.78% to 5.23% sliding-scale NSR
						1.05% fixed rate royalty (copper)
Canadian Malartic(2)		Quebec, Canada		Osisko Mining Corporation (“Osisko”)		2.0% to 3.0% sliding-scale NSR
Holt(3)		Ontario, Canada		St Andrew Goldfields Ltd. (“St Andrew”)		0.00013 x quarterly average gold price NSR
Mt. Milligan(4)		British Columbia, Canada		Terrane Metals Corp. (“Terrane”)		25% of the payable gold
Wolverine		Yukon Territory, Canada		Yukon Zinc Corporation (“Yukon Zinc”)		0.00% to 9.45% sliding-scale NSR (gold and silver)

 

(1)             Refer to “Recent Developments, Business Developments” below within this MD&A for a further discussion on the acquisition of additional royalty interests at Pascua-Lama.

 

(2)             The Canadian Malartic royalty is subject to a buy down right, which if exercised by Osisko would lower the sliding-scale NSR royalty to 1.0% to 1.5%.

 

(3)             Operator has contested the royalty rate and its obligation to pay the royalty.  See Note 11 to our consolidated financial statements for further information.

 

(4)             Refer to “Recent Developments, Business Developments” below within this MD&A for a further discussion on the acquisition of the Mt. Milligan gold stream.

 

Operators’ Production Estimates by Royalty for Calendar 2010

 

We received annual production estimates from the operators of our producing mines during the first calendar quarter of 2010.  The following table shows such production estimates for our principal producing properties for calendar 2010 as well as the actual production reported to us by the various operators through September 30, 2010.  The estimates and production reports are prepared by the operators of the mining properties.  We do not participate in the preparation or calculation of the operators’ estimates or production reports and have not independently assessed or verified the accuracy of such information.

 

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Operators’ Production Estimate by Royalty for Calendar 2010 and Reported Production

Principal Producing Properties

For the period January 1, 2010 through September 30, 2010

 

		Calendar 2010 Operator’s Production Estimate(1)						Reported Production through September 30, 2010(2)
		Gold		Silver		Base Metals		Gold		Silver		Base Metals
Royalty		(oz.)		(oz.)		(lbs.)		(oz.)		(oz.)		(lbs.)
Andacollo(3)		27,000						13,050		—		—
Cortez GSR1		241,000		—		—		169,653		—		—
Cortez GSR2		—		—		—		1,239		—		—
Cortez GSR3		241,000		—		—		170,892		—		—
Cortez NVR1		188,000		—		—		123,558		—		—
Dolores(4),(5)		91,000		2.3 million		—		43,332		0.6 million		—
Gwalia Deeps		102,000						74,270		—		—
Las Cruces(4)
Copper						161 million						38.3 million
Leeville		429,000		—		—		321,247		—		—
Mulatos		160,000		—		—		103,611		—		—
Peñasquito(4)		180,000		13.4 million				102,568		8.5 million
Lead						107 million						56.0 million
Zinc						135 million						86.3 million
Robinson		75,000		—				62,787		—
Copper						115 million						83.1 million
Taparko(4)		137,000		—		—		90,540		—		—
Voisey’s Bay(4),(6)
Copper						N/A						12.6 million
Nickel						N/A						37.2 million

 

(1)             There can be no assurance that production estimates received from our operators will be achieved.  Please refer to our cautionary language regarding forward-looking statements following this MD&A, as well as the Risk Factors identified in Part I, Item 1A, of our Fiscal 2010 10-K for information regarding factors that could affect actual results.

 

(2)             Reported production relates to the amount of metal sales, subject to our royalty interests, for the period January 1, 2010 through September 30, 2010, as reported to us by the operators of the mines.

 

(3)             The operator estimates that the mine will produce on average approximately 55,000 ounces of gold in concentrate annually for the first ten years of commercial production.  The production estimate shown represents the expected ramp-up of production, beginning April 2010, to commercial production, which occurred during October 2010.

 

(4)             Please refer to “Recent Developments, Property Developments” below within this MD&A for further discussion on updates at this property.

 

(5)             Minefinders estimates that calendar 2010 production for gold will be between 91,000 ounces and 100,500 ounces of gold and silver production is estimated between 2.3 million ounces and 2.6 million ounces of silver.

 

(6)             The Company has not received calendar 2010 production guidance from the operator.

 

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