Management’s Discussion and Analysis In December 2004, the FASB issued SFAS No. 123 (revised  2004), “Share-Based Payment.” SFAS No. 123 (revised 2004)  requires all share-based payments to employees, including  grants of employee stock options, to be recognized in  the income statement based on their fair values. Through  December 31, 2004, we have accounted for grants of employee  stock options under the recognition principles of APB Opinion  No. 25, “Accounting for Stock Issued to Employees,” and related  interpretations, which require compensation costs 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. If we had applied the fair value  recognition provisions of SFAS No. 123, “Accounting for Stock- Based Compensation,” which requires compensation cost for  all stock-based employee compensation plans to be recognized  based on the use of a fair value method, our net income would  have been reduced by $5.2 million, $0.05 per diluted share, for  2004, $4.7 million, $0.05 per diluted share, for 2003 and $6.5  million, $0.07 per diluted share, for 2002 (see Note 1 of “Notes  to Consolidated Financial Statements”). We must adopt SFAS No.  123 (revised 2004) no later than July 1, 2005; however, we can  elect to adopt SFAS No. 123 (revised 2004) as early as January  1, 2005. We are still reviewing the provisions of SFAS No. 123  (revised 2004) and have not yet determined if we will adopt  SFAS No. 123 (revised 2004) before July 1, 2005. Also, stock  options were granted to employees in February 2005, including  multi-year grants to our senior executive officers. As a result,  the annual charges for share-based payments will be higher than  the pro forma annual amounts presented in Note 1 of “Notes  to Consolidated Financial Statements.” Based on currently  outstanding employee stock options, including those granted in  February 2005, if we adopt SFAS No. 123 (revised 2004) on July  1, 2005, we estimate the charge to earnings before taxes and  minority interest sharing in the second half of 2005 would total  approximately $11 million, and the reduction in net income  would be approximately $6.5 million, $0.04 per basic share using  common shares outstanding at December 31, 2004. Net cash production costs per pound of copper is a measure  intended to provide investors with information about the  cash generating capacity of our mining operations expressed  on a basis relating to its primary metal product, copper. PT  Freeport Indonesia uses this measure for the same purpose and  for monitoring operating performance by its mining opera- tions. This information differs from measures of performance  determined in accordance with generally accepted accounting  principles and should not be considered in isolation or as  a substitute for measures of performance determined in  accordance with generally accepted accounting principles.  This measure is presented by other copper and gold mining  companies, although our measures may not be comparable to  similarly titled measures reported by other companies. We calculate gross profit per pound of copper under a “by- product” method, while the copper, gold and silver contained  within our concentrates are treated as co-products in our  financial statements. We use the by-product method in our  presentation of gross profit per pound of copper because  (1) the majority of our revenues are copper revenues, (2) we  produce and sell one product, concentrates, which contains  all three metals and (3) it is not possible to specifically  assign our costs to revenues from the copper, gold and  silver we produce in concentrates. In the co-product method  presentation below, costs are allocated to the different  products based on their relative revenue values.  In both the by-product and the co-product method calcu- lations below, we show adjustments to revenues for prior  period open sales and for hedging as separate line items.  Because the copper pricing adjustments do not result from  current period sales, we have reflected these separately from  revenues on current period sales. Hedging adjustments,  which are attributed to our commodity-indexed preferred stock,  are included with pricing adjustments because they result  from transactions outside of our sales contracts. Noncash  and other nonrecurring costs, which consist of items such  as write-offs of equipment or unusual charges, have not  been material. They are removed from site production and  delivery costs in the calculation of net cash production costs  (credits). As discussed above, gold and silver revenues are  reflected as credits against site production and delivery costs  in the by-product method. PT Freeport Indonesia’s gross profit  totals are before considering the impact of the elimination of  its share of profits on its sales to PT Smelting. Presentations  under both methods are presented below together with a  reconciliation to amounts reported in our consolidated  financial statements. 2004 ANNUAL REPORT  | 41 PRODUCT REVENUES AND PRODUCTION COSTS PT Freeport Indonesia Product Revenues and Net  Cash Production Costs