Freeport-McMoRan - 10-Q quarterly report FY

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 __

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes X No __

On June 30, 2004, there were issued and outstanding 173,770,485 shares of the registrant’s Class B Common Stock, par value $0.10 per share.

FREEPORT-McMoRan COPPER & GOLD INC.

TABLE OF CONTENTS

FREEPORT-McMoRan COPPER & GOLD INC.

PART I.  FINANCIAL INFORMATION

Item 1. Financial Statements.

FREEPORT-McMoRan COPPER & GOLD INC.

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)

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

FREEPORT-McMoRan COPPER & GOLD INC.

CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

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

FREEPORT-McMoRan COPPER & GOLD INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

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

FREEPORT-McMoRan COPPER & GOLD INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.

EARNINGS PER SHARE

Freeport-McMoRan Copper & Gold Inc.’s (FCX) basic net income (loss) per share of common stock was calculated by dividing net income (loss) applicable to common stock by the weighted average number of common shares outstanding during the period.  The following is a reconciliation of net income (loss) and weighted average common shares outstanding for purposes of calculating diluted net income (loss) per share (in thousands, except per share amounts):

Stock options representing 2.7 million shares in the second quarter of 2004 and 3.0 million shares in the 2004 six-month period and unvested restricted stock representing 0.5 million shares in the second quarter of 2004 and 0.4 million shares in the 2004 six-month period, that otherwise would have been included in the 2004 periods’ earnings per share calculations, were excluded because of the net loss reported for the periods.

Outstanding stock options with exercise prices greater than the average market price of the common stock during the period are excluded from the computation of diluted net income per share of common stock.  In addition, FCX’s convertible preferred stock and convertible senior notes are excluded for the 2004 periods because of the net loss during the periods and certain of these instruments are excluded for the 2003 periods because including the conversion of these instruments would have increased reported diluted net income per share.  A recap of the excluded amounts follows (in thousands, except exercise prices):

a.

FCX’s 7% Convertible Senior Notes were issued on February 11, 2003, and are convertible into 18.6 million shares of common stock.

b.

See Note 3 for a discussion of these securities.

c.

Included in diluted calculation.

Stock-Based Compensation Plans.  FCX has four stock-based employee compensation plans and one stock-based director compensation plan, which are more fully described in Note 6 of FCX’s 2003 Annual Report on Form 10-K.  In May 2004, FCX’s shareholders approved the “2004 Director Compensation Plan” (the 2004 Plan).  The 2004 Plan authorizes awards of options and restricted stock relating to up to 1.0 million shares and the one-time grant of 66,882 stock appreciation rights.  During the second quarter, FCX granted 202,017 stock options, 20,000 restricted shares and 66,882 stock appreciation rights under the 2004 Plan.  Annual stock option and restricted stock grants vest under the 2004 Plan in 25 percent annual increments beginning one year from the date of grant.  FCX accounts for options issued under all of its plans under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations, which require compensation cost for stock-based employee compensation plans to be recognized based on the difference on the date of grant, if any, between the quoted market price of the stock and the amount an employee must pay to acquire the stock. Because all the plans require that the employee pay at least the market price on the date of grant, FCX recognizes no compensation expense on the grant or exercise of its options.  The following table illustrates the effect on net income and earnings per share if FCX had applied the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) No. 123, “Accounting for Stock-Based Compensation,” which requires compensation cost for all stock-based employee compensation plans to be recognized based on a fair value method (in thousands, except per share amounts):

For the pro forma computations, the values of option grants were calculated on the dates of grant using the Black-Scholes option pricing model.  No other discounts or restrictions related to vesting or the likelihood of vesting of stock options were applied.  The following table summarizes the calculated average fair values and weighted average assumptions used to determine the fair value of FCX’s stock option grants under SFAS No. 123 during the periods presented.

2.

BUSINESS SEGMENTS

FCX has two operating segments:  “mining and exploration” and “smelting and refining.”  The mining and exploration segment includes the copper and gold mining operations of PT Freeport Indonesia in Indonesia and FCX’s Indonesian exploration activities.  The smelting and refining segment includes Atlantic Copper’s operations in Spain and PT Freeport Indonesia’s equity investment in PT Smelting in Gresik, Indonesia.  The segment data presented below were prepared on the same basis as the consolidated FCX financial statements.

a.

Includes PT Freeport Indonesia’s sales to PT Smelting totaling $166.2 million in the 2004 quarter, $154.6 million in the 2003 quarter, $293.2 million in the 2004 six-month period and $275.9 million in the 2003 six-month period.

b.

Includes deferrals of intercompany profits on 25 percent of PT Freeport Indonesia’s sales to PT Smelting, for which the final sale has not occurred, totaling $10.3 million in the 2004 quarter, $6.5 million in the 2003 quarter, $2.0 million in the 2004 six-month period and $4.4 million in the 2003 six-month period.

c.

Includes charges to the mining and exploration segment for FCX stock option exercises which are eliminated in consolidation totaling $2.2 million in the 2004 quarter, $6.8 million in the 2003 quarter, $66.8 million in the 2004 six-month period and $11.2 million in the 2003 six-month period.

d.

Includes PT Freeport Indonesia’s trade receivables with PT Smelting totaling $71.8 million at June 30, 2004, and $49.5 million at June 30, 2003.  

e.

Includes PT Freeport Indonesia’s equity investment in PT Smelting totaling $54.4 million at June 30, 2004, and $43.1 million at June 30, 2003.

3.

DEBT AND EQUITY TRANSACTIONS

During the first quarter of 2004, FCX completed a tender offer and privately negotiated transactions for a portion of its remaining 8¼% Convertible Senior Notes due 2006 resulting in the early conversion of $226.1 million of notes into 15.8 million shares of FCX common stock.  FCX recorded a $10.9 million charge to losses on early extinguishment and conversion of debt in the first quarter of 2004 in connection with these conversions.  The $10.9 million charge included $6.4 million of previously accrued interest costs that were reversed, resulting in an equivalent reduction to interest expense.  Of the $603.8 million of these notes issued in 2001, a total of $537.3 million had been converted to equity as of June 30, 2004.  In June 2004, the remaining $66.5 million of notes were called for redemption on July 31, 2004.  During July, all $66.5 million of the notes were converted into 4.7 million shares of FCX common stock.

On February 3, 2004, FCX sold $350 million of 6⅞% Senior Notes due 2014 for net proceeds of $344.4 million.  FCX used a portion of the proceeds from the sale of the 6⅞% Senior Notes to repay $162.4 million of Atlantic Copper borrowings and to refinance certain other FCX 2004 debt maturities.  Atlantic Copper recorded a $3.7 million charge for losses on early extinguishment of debt.  Interest on the notes is payable semiannually on February 1 and August 1 of each year, beginning August 1, 2004.  FCX may redeem some or all of the notes at its option at a make-whole redemption price prior to February 1, 2009, and afterwards at stated redemption prices.  The indenture governing the notes contains certain restrictions, including restrictions on incurring debt, creating liens, selling assets, entering into certain transactions with affiliates, paying cash dividends on common stock, repurchasing or redeeming common or pr eferred equity, prepaying subordinated debt and making investments.  During the second quarter of 2004, FCX purchased in the open market $9.7 million of the 6⅞% Senior Notes for $8.8 million, which including deferred financing costs resulted in a gain of $0.8 million recorded as a reduction to losses on early extinguishment and conversion of debt.

On March 30, 2004, FCX sold 1.1 million shares of 5½% Convertible Perpetual Preferred Stock for $1.1 billion, with net proceeds totaling $1.067 billion.  Each share of preferred stock is initially convertible into 18.8019 shares of FCX common stock, equivalent to a conversion price of approximately $53.19 per common share.  The conversion rate is adjustable upon the occurrence of certain events, including an increase in FCX’s common stock dividend rate above the current annual rate of $0.80 per share.  Beginning March 30, 2009, FCX may redeem shares of the preferred stock by paying cash, FCX common stock or any combination thereof for $1,000 per share plus unpaid dividends, but only if FCX’s common stock price has exceeded 130 percent of the conversion price for at least 20 trading days within a period of 30 consecutive trading days immediately preceding the notice of redemption.  FCX used a portion of the proceeds from the sale to purchase 23.9 million shares of FCX common stock owned by Rio Tinto for $881.9 million (approximately $36.85 per share) and used the remainder for general corporate purposes.

During the second quarter of 2004, FCX purchased 3.4 million shares of its common stock for $99.5 million ($29.39 per share average) under its 20-million-share repurchase program and 16.6 million shares remain available.

4.

EMPLOYEE BENEFITS

The components of net periodic pension benefit cost (credit) for the second quarters of 2004 and 2003 follow (in thousands):

The components of net periodic pension benefit cost (credit) for the six months ended June 30, 2004 and 2003 follow (in thousands):

a.

Includes $1.5 million in the second quarter and $2.6 million in the six month period for the new SERP

benefit plan discussed below.

In February 2004, FCX established a Supplemental Executive Retirement Plan (SERP) for its two most senior executive officers.  The SERP provides for retirement benefits payable in the form of a joint and survivor annuity or an equivalent lump sum.  The annuity will equal a percentage of the executive’s highest average compensation for any consecutive three-year period during the five years immediately preceding the earlier of the executive’s retirement or completion of 25 years of credited service.  The SERP benefit will be reduced by the value of all benefits due under FCX’s cash-balance pension plan and all other benefit plans sponsored by FCX or any other predecessor employer. Unrecognized prior service cost at inception of the SERP totaled $18.9 million and is being amortized over the five-year term of the executive officers’ current employment agreements.  

5.

INTEREST COST

Interest expense excludes capitalized interest of $0.7 million in the second quarter of 2004, $0.8 million in the second quarter of 2003, $1.1 million in the first six months of 2004 and $1.5 million in the first six months of 2003.

6.   COMPREHENSIVE INCOME

A summary of FCX’s comprehensive income is shown below (in thousands).

7.

RATIO OF EARNINGS TO FIXED CHARGES

The ratio of earnings to fixed charges for the first six months of 2004 and 2003 was 1.0 to 1 and 3.8 to 1, respectively.  For this calculation, earnings consist of income from continuing operations before income taxes, minority interests and fixed charges.  Fixed charges include interest and that portion of rent deemed representative of interest.

----------------------

Remarks

The information furnished herein should be read in conjunction with FCX's financial statements contained in its 2003 Annual Report on Form 10-K.  The information furnished herein reflects all adjustments which are, in the opinion of management, necessary for a fair statement of the results for the periods.  All such adjustments are, in the opinion of management, of a normal recurring nature.  

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To The Board of Directors and Stockholders of

Freeport-McMoRan Copper & Gold Inc.:

We have reviewed the condensed consolidated balance sheet of Freeport-McMoRan Copper & Gold Inc. (a Delaware Corporation) and subsidiaries as of June 30, 2004, the related consolidated statements of operations for the three-month and six-month periods ended June 30, 2004 and 2003, and the consolidated statements of cash flows for the six months ended June 30, 2004 and 2003.  These financial statements are the responsibility of the Company’s management.  

We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States).  A review of interim financial information consists principally of applying analytical procedures to financial data, and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board, the objective of which is the expression of an opinion regarding the financial statements taken as a whole.  Accordingly, we do not express such an opinion.

Based on our review, we are not aware of any material modifications that should be made to the condensed consolidated financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.

We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of Freeport-McMoRan Copper & Gold Inc. as of December 31, 2003, and the related consolidated statements of income, stockholder’s equity, and cash flows for the year then ended not presented herein, and in our report dated January 28, 2004, which included an explanatory paragraph for changes in accounting principles, we expressed an unqualified opinion on those consolidated financial statements.  In our opinion, the information set forth in the accompanying condensed consolidated balance sheet as of December 31, 2003, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.

ERNST & YOUNG LLP

New Orleans, Louisiana

July 21, 2004

Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations.

OVERVIEW

In management’s discussion and analysis, “we,” “us” and “our” refer to Freeport-McMoRan Copper & Gold Inc. (FCX) and its consolidated subsidiaries.  In our discussions of production and sales, references to “aggregate” amounts mean the total of our share and Rio Tinto plc’s share as our joint venture partner.  You should read this discussion in conjunction with our financial statements, the related discussion and analysis of financial condition and results of operations and the discussion of our “Business and Properties” in our Form 10-K for the year ended December 31, 2003, filed with the Securities and Exchange Commission.  The results of operations reported and summarized below are not necessarily indicative of future operating results.

We operate through our majority-owned subsidiaries, PT Freeport Indonesia and PT Puncakjaya Power (Puncakjaya Power), and through Atlantic Copper, S.A. (Atlantic Copper) and PT Irja Eastern Minerals (Eastern Minerals), our principal wholly owned subsidiaries.  PT Freeport Indonesia, our principal operating subsidiary, conducts exploration, mining and production activities in a 24,700-acre area called Block A located in Papua, Indonesia.  PT Freeport Indonesia also conducts exploration activities (which are currently suspended) in an approximate 500,000-acre area called Block B in Papua.  Puncakjaya Power’s sole business is to supply power to PT Freeport Indonesia’s operations.  Our principal asset is the Grasberg mine located in Block A, which contains the largest single gold reserve and one of the largest copper reserves of any mine in the world.

Atlantic Copper’s operations are in Spain and involve the smelting and refining of copper concentrates and the marketing of refined copper products and precious metals in slimes.  PT Freeport Indonesia owns a 25 percent interest in PT Smelting, an Indonesian company which operates a copper smelter and refinery in Gresik, Indonesia. Eastern Minerals conducts mineral exploration activities (which are also currently suspended) in Papua, Indonesia.  

We own approximately 90.64 percent of PT Freeport Indonesia, of which 9.36 percent is owned through our wholly owned subsidiary, PT Indocopper Investama.  The Government of Indonesia owns the remaining approximate 9.36 percent of PT Freeport Indonesia.  We received a request from the Indonesian Department of Energy and Mineral Resources to offer to sell to Indonesian Nationals shares in PT Indocopper Investama at fair market value.  In response to this request and in view of the potential benefits of having additional Indonesian ownership in our project, we have agreed to consider a potential sale of an interest in PT Indocopper Investama at fair market value.  Neither our Contract of Work with the Indonesian Government nor Indonesian law requires us to divest any portion of our ownership interest in PT Freeport Indonesia or PT Indocopper Investama.

Outlook

Our copper and gold sales volumes have averaged 1.4 billion pounds of copper and 2.35 million ounces of gold annually over the 1999 to 2003 period.  Average annual sales volumes over the next five years (2004 to 2008) are expected to approximate 1.3 billion pounds of copper and 2.2 million ounces of gold. Based on these estimates and copper prices at approximately $1.30 per pound, the impact on our annual cash flow for each $0.10 per pound change in copper prices would approximate $60 to $65 million, including the effects of price changes on royalty costs and treatment charges, and for each $25 per ounce change in gold prices would approximate $28 million.

Following the October 9, 2003, slippage event and the December 12, 2003, debris flow in the same section of the Grasberg open pit, PT Freeport Indonesia focused its open-pit operations on accelerating the removal of waste material from the south wall to restore safe access to the higher-grade ore areas in the pit.  These activities allowed PT Freeport Indonesia to resume in April 2004 previously planned mining operations in the key ore areas of the pit while continuing waste removal activities.  

As previously reported, a portion of the higher grade ore previously forecast to be mined in 2004 has been deferred to future periods, resulting in plans to produce significant volumes of copper and gold in the last half of 2004 and in 2005.  Compared to the first half of 2004, ore grades are expected to be higher for the remainder of 2004 and 2005 resulting in increased metal production in those periods.  

Annual sales are expected to approximate 1.0 billion pounds of copper and 1.5 million ounces of gold in 2004, and 1.5 billion pounds of copper and 2.9 million ounces of gold in 2005.  Consolidated operating cash flows for 2004 are expected to be adversely affected by the significant volume of PT Freeport Indonesia’s metal sales in the fourth quarter and Atlantic Copper’s operating results (see “Smelting and Refining”).  Consolidated operating cash flows in 2005 are expected to benefit from the projected increase in PT Freeport Indonesia’s metal sales.

Copper and Gold Markets

The graph above illustrates copper prices and estimated available world copper inventories through July 31, 2004.  Copper stocks at the London Metal Exchange (LME) and New York Commodity Exchange (COMEX) declined sharply in 2003 and in 2004.  The outlook for copper demand improved during the first quarter of 2004 with continued strong demand from China and emerging signs of increased manufacturing activity around the world and copper prices rose sharply following large increases in late 2003.  During the second quarter of 2004, steps taken by the Chinese government to slow growth in the Chinese economy, the expectations for increased U.S. interest rates, the resulting impact on foreign exchange rates particularly with respect to the U.S. dollar and euro exchange rate, and investor sentiment about commodity prices caused copper prices to be volatile.  Copper prices ranged from $1.16 to $1.44 per pound and averaged $1.26 per pound i n the second quarter of 2004.  Favorable supply and demand fundamentals and continued declines in world copper inventories have resulted in higher copper prices, which closed at $1.31 per pound on the LME on August 5, 2004.  The outlook for copper markets remains positive and many industry analysts are forecasting a market deficit in the next two years and average prices of over $1.00 per pound.

The positive environment for gold continued in the second quarter with gold prices ranging from $374 to $427 per ounce, supported by ongoing geo-political strife and terrorist fears, a weak U.S. dollar and large U.S. deficits, and actions by gold producers to reduce hedge positions.  Gold prices averaged $393 per ounce in the second quarter of 2004 and the current view of gold prices expressed by many market analysts remains positive.  Movements in gold prices have closely followed movements in the U.S. dollar against other currencies.  The London gold price closed at approximately $391 per ounce on August 5, 2004.  

World metal prices for copper and gold have historically fluctuated widely and are affected by numerous factors beyond our control as described further in our Form 10-K for the year ended December 31, 2003.  Accordingly, we make no predictions regarding future prices.

CONSOLIDATED RESULTS

Summary comparative results for the second-quarter and six-month periods follow (in millions, except per share amounts):

Consolidated revenues include PT Freeport Indonesia’s sale of copper concentrates, which also contain significant amounts of gold and silver, and the sale by Atlantic Copper of copper anodes, cathodes, wire and wire rod, and gold in anodes and slimes.  Consolidated revenues and net income vary significantly with fluctuations in the market prices of copper and gold and other factors.  Based on PT Freeport Indonesia’s projected share of 2004 copper sales (1.0 billion pounds) and assuming an average price of $1.30 per pound of copper, a $0.01 per pound change in the average price realized would have an approximate $9 million impact on our revenues and an approximate $5 million impact on our net income.  A $5 per ounce change in the average price realized on PT Freeport Indonesia’s share of projected 2004 gold sales (1.5 million ounces) would have an approximate $7 million impact on our revenues and an approximate $4 million impact on our net income.  

On limited past occasions, in response to market conditions, we have entered into copper and gold price protection contracts for a portion of our expected future mine production to mitigate the risk of adverse price fluctuations.  We currently have no copper or gold price protection contracts relating to our mine production.  We have outstanding gold-denominated and silver-denominated preferred stock with dividends and redemption amounts determined by commodity prices.  

Consolidated revenues for the second quarter and first six months of 2004 reflect substantially lower copper and gold revenues at PT Freeport Indonesia and at Atlantic Copper, compared with the same periods in 2003.  PT Freeport Indonesia’s revenues were adversely affected by lower ore grades and reduced mill throughput as PT Freeport Indonesia completed its efforts to restore safe access to the higher-grade ore areas in its Grasberg open-pit mine following the fourth-quarter 2003 slippage and debris flow events (see “Mining and Exploration – PT Freeport Indonesia Operating Results”).  Atlantic Copper’s revenues were adversely affected by its scheduled major maintenance turnaround (see “Smelting and Refining – Atlantic Copper Operating Results”).  PT Freeport Indonesia resumed mining activities in high grade ore areas in April 2004 and normal milling operations in June 2004.  

Second-quarter 2004 consolidated revenues included net reductions of $5.6 million ($2.9 million to net income or $0.02 per share) primarily for final pricing of concentrates sold in prior quarters, compared with $0.6 million ($0.3 million to net income or less than $0.01 per share) to second-quarter 2003 revenues.  Six-month 2004 consolidated revenues included net additions of $7.2 million ($3.7 million to net income or $0.02 per share) compared with $11.0 million ($5.7 million to net income or $0.03 per share), primarily for final pricing of concentrates sold in prior years.

Consolidated production and delivery costs for the 2004 periods were higher than the 2003 periods primarily because of the largely fixed nature of PT Freeport Indonesia’s cost structure and the lower level of sales from PT Freeport Indonesia to Atlantic Copper in the 2004 periods. Consolidated depreciation and amortization expense decreased to $42.6 million in the second quarter of 2004 and $68.0 million in the first six months of 2004 compared with $68.3 million and $136.1 million, respectively, in the 2003 periods, primarily because of lower sales volumes at PT Freeport Indonesia.  Exploration expenses increased to $2.8 million in the second quarter of 2004 and $5.0 million in the first six months of 2004, from $1.8 million and $3.3 million, respectively, in the 2003 periods, reflecting increased drilling in Block A during 2004.  General and administrative expenses increased to $22.6 million in the second quarter of 2004 and $38.1 mi llion in the first six months of 2004 from $20.7 million and $37.2 million, respectively, in the 2003 periods (see “Other Financial Results”).  

Net interest expense decreased to $39.3 million in the second quarter of 2004 from $55.5 million in the second quarter of 2003, and to $72.7 million in the first six months of 2004 from $108.0 million in the first six months of 2003 primarily because we reduced average debt levels, including through the early conversions of our 8¼% Convertible Senior Notes into common stock (see Note 3 and “Capital Resources and Liquidity – Financing Activities”).  First-quarter 2004 conversions of 8¼% Convertible Senior Notes also resulted in a $6.4 million reduction of interest expense for previously accrued amounts that were reclassified as losses on early extinguishment and conversion of debt.

Other income (expense) includes the impact of translating into U.S. dollars Atlantic Copper’s net euro-denominated liabilities, primarily its retiree pension obligations.  Changes in the $/€ exchange rate require us to adjust the dollar value of net euro-denominated liabilities and record the adjustment in earnings.  The exchange rate was $1.26 per euro at December 31, 2003, and $1.22 per euro at March 31, 2004 and June 30, 2004.  Exchange rate effects on our net income from euro-denominated liabilities were gains (losses) of $(0.2) million in the second quarter of 2004, $(3.8) million in the second quarter of 2003, $1.8 million in the first six months of 2004 and $(6.3) million in the first six months of 2003.

PT Freeport Indonesia’s Contract of Work provides for a 35 percent corporate income tax rate.  PT Indocopper Investama (100 percent owned by FCX) will pay a 30 percent corporate income tax on dividends it receives from its 9.36 percent ownership in PT Freeport Indonesia.  In addition, the tax treaty between Indonesia and the United States provides for a withholding tax rate of 10 percent on dividends and interest that PT Freeport Indonesia and PT Indocopper Investama pay to our parent company.  We also incur a U.S. alternative minimum tax at a rate of two percent based primarily on consolidated income, net of smelting and refining results.  We currently record no income taxes at Atlantic Copper, which is subject to taxation in Spain, because it has not generated significant taxable income in recent years and has substantial tax loss carryforwards for which we have provided no financial statement benefit.  We receive no c onsolidated tax benefit from these losses because they cannot be used to offset PT Freeport Indonesia’s profits in Indonesia.  

Parent company costs consist primarily of interest, depreciation and amortization, and general and administrative expenses.  We receive minimal tax benefit from these costs, including interest expense, primarily because our parent company generates no taxable income from U.S. sources.  As a result, our provision for income taxes as a percentage of our consolidated income before income taxes and minority interests will vary as PT Freeport Indonesia’s income changes absent changes in Atlantic Copper and parent company costs. Summaries of the approximate significant components of the calculation of our consolidated provision for income taxes are shown below (in thousands, except percentages).

a.

Excludes charges for FCX stock option exercises which are eliminated in consolidation totaling $2.2 million in the 2004 quarter, $6.8 million in the 2003 quarter, $66.8 million in the 2004 six-month period and $11.2 million in the 2003 six-month period.

b.

Rates are not meaningful for the 2004 periods because of the small amounts of consolidated income before taxes and minority interests.

RESULTS OF OPERATIONS

We have two operating segments:  “mining and exploration” and “smelting and refining.”  The mining and exploration segment consists of FCX’s Indonesian activities including PT Freeport Indonesia’s copper and gold mining operations, Puncakjaya Power’s power generating operations (after eliminations with PT Freeport Indonesia) and FCX’s Indonesian exploration activities.  The smelting and refining segment includes Atlantic Copper’s operations in Spain and PT Freeport Indonesia’s equity investment in PT Smelting.  Summary comparative operating income (loss) by segment follows (in millions):

a.

Includes charges to the mining and exploration segment for FCX stock option exercises which are eliminated in consolidation totaling $2.2 million in the 2004 quarter, $6.8 million in the 2003 quarter, $66.8 million in the 2004 six-month period and $11.2 million in 2003 six-month period.

b.

We defer recognizing profits on PT Freeport Indonesia’s sales to Atlantic Copper and on 25 percent of PT Freeport Indonesia’s sales to PT Smelting until their sales of final products to third parties.  Changes in the amount of these deferred profits impacted operating income by $(9.6) million in the second quarter of 2004, $(33.9) million in the second quarter of 2003, $38.6 million in the first six months of 2004 and $(35.9) million in the first six months of 2003.  Our consolidated quarterly earnings fluctuate depending on the timing and prices of these sales.  At June 30, 2004, our deferred profits to be recognized in future periods’ operating income totaled $17.6 million, $9.0 million to net income, after taxes and minority interest sharing.

MINING AND EXPLORATION

A summary of changes in PT Freeport Indonesia revenues between the periods follows (in millions):

PT Freeport Indonesia reported lower production and sales in the 2004 periods, reflecting the mining of lower grade material and accelerated waste removal activities following the fourth-quarter 2003 slippage and debris flow events.  Copper sales volumes totaled 205.1 million pounds in the second quarter of 2004, 48 percent lower than the 395.2 million pounds reported in the second quarter of 2003.  Second-quarter 2004 copper price realizations of $1.22 per pound were $0.47 per pound higher than the second-quarter 2003 realizations of $0.75 per pound.  Gold sales volumes totaled 351,100 ounces in the second quarter of 2004, 59 percent lower than the 849,200 ounces reported in the second quarter of 2003.  Gold price realizations of $389.97 per ounce in the second quarter of 2004 were $42 an ounce higher than second-quarter 2003 realizations of $347.69 per ounce.  For the six month periods, copper sales volumes totaled 310.5 mi llion pounds in 2004, 61 percent lower than the 787.2 million pounds in 2003, and gold sales volumes totaled 474,900 ounces, 67 percent lower than the 1,433,100 ounces in 2003.  Copper price realizations of $1.24 per pound in the first six months of 2004 were $0.49 per pound higher than the 2003 period realizations of $0.75 per pound.   Gold price realizations of $393.80 per ounce in the first six months of 2004 were approximately $49 an ounce higher than 2003 period realizations of $345.14 per ounce.

Treatment charges and royalties were lower in the 2004 periods compared with the 2003 periods primarily because of lower sales volumes.  Royalty costs totaled $7.9 million in the second quarter of 2004, $9.8 million in the second quarter of 2003, $12.7 million in the first six months of 2004 and $16.7 million in the first six months of 2003. Treatment charges vary with the volume of metals sold and the price of copper, and royalties vary with the volume of metals sold and the prices of copper and gold.  In addition, treatment charges vary based on PT Freeport Indonesia’s customer mix.

Substantially all of PT Freeport Indonesia’s concentrate sales contracts provide final copper pricing in a specified future period based on prices quoted on the LME.  PT Freeport Indonesia records revenues and invoices its customers based on LME prices at the time of shipment.  Under accounting rules, these terms create an “embedded derivative” in our concentrate sales contracts which must be adjusted to fair value through earnings each period until the date of final copper pricing.  PT Freeport Indonesia’s second-quarter 2004 revenues include net reductions of $15.8 million for adjustments to the fair value of embedded copper derivatives in second-quarter 2004 concentrate sales contracts, compared with net additions of $7.7 million in the second quarter of 2003.  PT Freeport Indonesia’s six-month 2004 revenues included net reductions of $0.8 million for adjustments to the fair value of embedded derivative s in concentrate sales contracts, compared with net additions of $1.9 million in the 2003 period.

At June 30, 2004, embedded derivatives on consolidated copper sales totaling 144.8 million pounds were recorded at an average price of $1.22 per pound.  All of these sales are expected to be finally priced over the next few months.  A one-cent movement in the average price used for these embedded derivatives will have an approximate $0.7 million impact on 2004 consolidated net income.

PT Freeport Indonesia sells its copper concentrates primarily under long-term sales agreements denominated in U.S. dollars, mostly to companies in Asia and Europe and to international trading companies.  In December 2003, PT Freeport Indonesia declared force majeure following the fourth-quarter 2004 slippage and debris flow events in the Grasberg open pit.  In April 2004, PT Freeport Indonesia established safe access and resumed mining activities in the higher-grade ore areas of the pit.  PT Freeport Indonesia’s share of sales for the third quarter of 2004 is projected to approximate 260 million pounds of copper and 360,000 ounces of gold, and 430 million pounds of copper and 660,000 ounces of gold for the fourth quarter of 2004.  PT Freeport Indonesia’s share of sales is expected to approximate 1.0 billion pounds of copper and 1.5 million ounces of gold in 2004, and 1.5 billion pounds of copper and 2.9 million ounces of gold in 2005.  Pursuant to the joint venture agreement, Rio Tinto has a 40 percent interest in certain assets and future production exceeding specified annual amounts of copper, gold and silver through 2021 in Block A, and, after 2021, a 40 percent interest in all production from Block A.  The agreement provides for adjustments to the metal sharing when events such as the slippage and debris flow events described above occur. Our estimate of PT Freeport Indonesia’s share of sales is subject to adjustment based on actual results and interpretation of the joint venture agreement.

Safety continues as PT Freeport Indonesia’s highest priority and the information gained from recent technical studies following the 2003 slippage events is being incorporated in our long-range mine plans.  PT Freeport Indonesia’s share of annual sales over the five-year period from 2004 to 2008 is expected to average approximately 1.3 billion pounds of copper and 2.2 million ounces of gold.  Annual metal production is expected to vary depending on the sequence of mine phases at the Grasberg mine.  In addition, the recent mine plan incorporates a design would allow PT Freeport Indonesia to access at least 20 million metric tons of high-grade Grasberg underground reserves through the open pit, thereby extending the open pit life into 2015.

PT Freeport Indonesia has long-term contracts to provide approximately 60 percent of Atlantic Copper’s copper concentrate requirements at market prices and nearly all of PT Smelting’s copper concentrate requirements. Under the PT Smelting contract, for the first 15 years of PT Smelting’s operations beginning December 1998, the treatment and refining charges on the majority of the concentrate PT Freeport Indonesia provides will not fall below specified minimum rates, subject to renegotiation in 2008.  The rate was $0.23 per pound since commencement of PT Smelting’s operations in 1998 until April 2004, when it declined to a minimum of $0.21 per pound.  

PT Freeport Indonesia Operating Results