Running a Risk

Arriving at a fair value for a mineral property depends very much on how you perceive the risks.

Mining companies, large and small, frequently seek outside financing of new mineral properties and they resort to joint ventures, bank loans, the stock markets or sale of other mineral properties to achieve this. Each of these methods requires that reasonable and fair value for the property concerned is created and established in the minds of potential purchasers or financiers. Value is dependent on the perceived risks or the weight of all negative attributes, whether technical, economic or political in nature.

On the premise that the scale of mining risks numbers 10 through one (maximum risk to minimum risk), this short paper offers a definition of each point on the risk scale and outlines the steps necessary to upgrade on the scale or reduce technical risks. The paper is not meant to imply any statistical theory on risk or the probability of risks.

A viewpoint by Jean Sorenson, published in the Canadian Mining Journal, quoted William Stevenson of the Vancouver Stock Exchange: “…There were 10 stages of a project passed through from prospect to producing mine. A mine was stage 10, and orebody stage 9, and a mineral deposit stage 8.” The publication goes on to say that the other end of the scale was a mineral conception, stage one, and a geophysical and geochemical response, stages two and three. The viewpoint, albeit simplistic, is not unreasonable and implies the existence of risk. Accepting that risk is greatest at project inception and is at a minimum when the mine has attained commercial production, the table on page 89 defines points of reducing risk on a scale of 10 to one. These points follow the normal sequence of events involved in taking a mineral property through to commercial production.

At risk scale 10, a regional survey of an area would have been undertaken and points of geological interest or anomalies defined. Typically, a geophysical program followed up by a geochemical program of trenching and outcrop examinations, would have isolated these points of interest.

Having secured the properties of interest through claim-staking and registration (risk scale 9), the developer would then proceed with an exploration program. At this point (risk scale 8), financial burdens for developing the property increase. The developer may then seek financing through joint ventures or partnerships for surface drilling or limited underground exploration tunnelling.

A discovery of economic mineralization by the exploration program leads to preliminary evaluations (scale 7) in which methods of mining and mineral-processing will evolve, together with gross estimates of the key project cash flow parameters, namely probable ore grade and dilution, mining and milling recovery rates, and the likely capital expenditures and operating expenses. Because of a possible major impact on capital and project timing, environmental aspects would not be overlooked and all technical problems requiring further examination would also be identified.

In essence, the preliminary evaluation is the first of three turning points in the property events. A positive result, based on technical feasibility, would lead to conceptual design being undertaken (risk scale 6) and a negative result would close the project down or recommend further exploration.

Conceptual design would typically examine alternatives for mine development, mining methods, and also for processing methods together with productivities and assessments of support facilities, utilities and waste disposal, et cetera. Based on these studies, property events would progress to a preliminary feasibility study (risk scale 5) at which point ore reserves would have been calculated and a scale of operation selected. This study essentially takes technical data through to a life-of-project cash flow analysis, normally on the basis of net present value or internal rate of return.

The preliminary feasibility study is commonly the second of the three project turning points. Negative economic results will lead to a shutdown of the project development, perhaps permanently. A positive result would advance the project to a test mining and bulk-sample milling program (risk scale 4) and onto a final feasibility study (risk scale 3), and may again require arrangements for additional financing.

The results of the final feasibility study are based on detailed technical plans, assumptions and cost studies. They are also based on reasonable assessments of the future market for the commodity. This study can be considered the last turning point of the project. A “no” result will likely shut down the project while a “maybe” would likely set the project back in development, possibly to the conceptual – design – preliminary – feasibility stage (risk scale 5 or 6).

A positive result, as shown in the table, would advance the project to the point of minimum risk, namely final design and construction (risk scale 2) followed by commercial production (scale 1) and would probably require further negotiations for production financing. While risk is at a minimum during commercial production, it is never zero in the mining industry because of many intangibles, the most important of which is the vagaries of the market.

Clearly, a developer spends considerable work, time and money in taking a mining property through to commercial production. Mines are made, not found, as is demonstrated by the property events in the table, and require capital to be injected at a minimum of three different points. Financial negotiations of these injection points are quite common, and their outcome depends on the degree of perceived risk. Considerable attention is necessary to prepare property documentation for the presentation of potential buyers, partners or lenders. The documents must lead the financier through the property events and demonstrate a technically sound approach to the exploration and future mining of the property. Potential financiers reviewing the documents probably will use a team of professionals, including geologists, mining engineers and metallurgists. In order for these teams to conduct a thorough and timely review, the documents could be broken into technical packages.

Three levels of documentation could be prepared. The first level would provide a quick review of the project. The second level would provide a digested summary of all the pertinent technical and economic data, and the third level would provide the detailed support for the other levels of documentation. In this way, fair and reasonable property values commensurate with the technical risk can be established in the minds of potential financiers. * Leonard Kilpatrick, P. Eng, is a mining engineer with Robertson & Associates, a unit of the Coopers and Lybrand Consulting Group. This paper was published previously in C&L’s “Mining Letter.”