Valuation of mineral properties mining engineering

219

CHAPTER 4.6

Valuation of Mineral Properties

Bernard J. Guarnera and Michael D. Martin

INTRODUCTIONThe valuation of mineral properties or mining companies involves the integration of geology, mining, processing, min-eral markets, society, and the environment Accordingly, it is common for a multi-disciplinary team to work on valuation efforts and their findings to be incorporated into the valuation. It is essential, however, that any effort be led by an experienced valuator who assumes responsibility for the valuation report.

What Is a Valuation?How does a valuation differ from an evaluation? An evalu-ation simply focuses on the technical aspects of an asset or assets, whereas a valuation focuses on the worth of the asset. Two major factors are considered:

1. Highest and best use: Although all mineral-containing properties have an inherent value, which in itself does not indicate that a valuation of the minerals is required, the valuation performed must be based on the highest and best use of a property. An example would be a mineral deposit suddenly discovered on an undeveloped property in the middle of an area with developed residential or commercial real estate. It is possible that the value of the real estate would exceed the value of the minerals (the highest use) or, if it did not, that real estate development was the only possible use of the property because of zon-ing or environmental factors (the best use). Therefore, unless the valuation was for a condemnation proceeding specifically to value the mineral interest, the highest and best use would be deemed to be real estate development.

2. Fair market value (FMV): The valuation should always be based on the FMV of the asset, which is the price an asset would be exchanged for with the parties being a willing buyer and seller, with both parties having access to the same information about the asset, and with neither party being under compulsion to buy or sell the asset.

Types of PropertiesValuation methods vary in type and effectiveness for both undeveloped properties and properties already in operation. Properties warranting or requiring a valuation can range from

raw land, where the presence of minerals is only suspected, to large developed properties that have been mined for many years. The commodities can include metallic minerals, non-metallic minerals, energy minerals, and gemstones.

Valuation AssumptionsBefore a valuation is undertaken, certain basic assumptions must be satisfied:

• Mineral development is the highest and best use of the property (unless the valuation is for condemnation purposes).

• A fair market value is attainable.• All lands have an inherent value for minerals that might

occur on them.• A market exists for the mineral or minerals that may be

on or under the land.• Economic realism must be employed (e.g., a granite

deposit under an ice cap would have no value, whereas one adjacent to a major city could be developed for aggregates or dimension stone).

Existing Mineral Valuation CodesAlthough valuations of assets have many things in common, it is recognized that the valuation of mineral deposits, prop-erties, or mining companies requires expertise beyond that offered by the typical appraiser. In recognition of these dif-ferences, specific codes governing the valuation of mineral deposits and properties have been developed by professional mining associations in countries where mineral resources sig-nificantly contribute to the economy:

• VALMIN code—Australasian Institute of Mining and Metallurgy. This code is statutory in Australia.

• CIMVAL code—Canadian Institute of Mining, Metallurgy and Petroleum. This code is due to become statutory in Canada.

• SAMVAL code—South African mining associations. This code is statutory in South Africa.

The Mining and Metallurgical Society of America is in the process of developing recommended standards for mineral

Bernard J. Guarnera, President and Chairman of the Board of Directors, Behre Dolbear Group, Inc., Denver, Colorado, USA Michael D. Martin, Senior Associate, Behre Dolbear & Company (USA), Inc., Denver, Colorado, USA

220 SME Mining Engineering Handbook

property valuation in the United States. The International Valuation Standards Council is also developing guidelines for the valuation of mineral properties. These are anticipated to focus on market factors and will potentially be in conflict with the above three codes.

Unless specifically requested otherwise, mineral property valuations should be carried out in accordance with one of the VALMIN, CIMVAL, or SAMVAL codes/standards. The choice of code will depend primarily on the reporting location of the company as well as the property, the party requesting the valuation, and the party carrying out the valuation.

TYPES OF VALUATION METHODSThere are three primary methods of valuations:

1. The income (cash-flow) approach, whereby the cash flow resulting from a financial model is discounted at an appropriate rate to yield a net present value (NPV)

2. Market-related approaches, which develop a value based on recent related transactions, and the market multiples approach for publicly traded companies or from recent transactions

3. The replacement cost approach, in which the cost required to duplicate the asset being valued is assessed

Secondary methods include option/real option pricing valu-ations and Monte Carlo simulations. Table 4.6-1 lists the six valuation methods, together with the types of properties to which they are applicable. The methods themselves are described later in more detail.

In contrast to the other methods listed in Table 4.6-1, the income approach should yield a “true or long-term value” over the life of the asset, provided that the inputs to the cash-flow model are realistic. The market-related transaction or market multiples approach, on the other hand, provides a snapshot value at the time of the valuation; the derived value will likely be higher than the income approach value in prosperous times and lower in difficult times.

The market multiples approach differs from the market-related transaction method in that, rather than comparing the asset against one that was recently sold, it is based on the value ascribed by public markets to units of production of spe-cific commodities. An example would be to base the valuation solely on the pounds of copper or ounces of gold recoverable from the property.

When market valuation methods are used, it is essential that they be adjusted to reflect the realities and characteris-tics of the asset or company being valued. Failure to allow

for these differences will result in incorrect valuations. Thus a property containing 1 million ounces of recoverable gold with the capability of achieving full (cash plus capital) pro-duction costs of $200 per ounce is clearly worth much more than another million-ounce property whose full produc-tion costs are forecast to be $400 per ounce. Similarly, an underground gold property with a refractory ore would be negatively viewed when compared with an underground gold property with an ore that would only require simple flotation and concentration.

The replacement cost approach can be used as a check on one of the other methods, or alone if none of the other methods is particularly applicable. This method puts a value on finding another similar mineral property and replacing similar infra-structure that previously existed. This method is most com-monly used for valuing early-stage exploration properties or properties that have ceased operations but still have resources or reserves. When using this approach, it is essential to con-sider improvements in technology.

The option/real option pricing valuation approach should be used only to value a company with multiple operations, rather than an individual property. This method is described later in this chapter.

The Monte Carlo simulation approach is a method of analysis based on the use of random numbers and probabil-ity statistics to investigate problems with variable potential outcomes. In financial analysis and valuation there is a fair amount of uncertainty and risk involved with estimating the future value of financial numbers or quantity amounts because of the wide variety of potential outcomes (i.e., grade of deposit, reserve tonnage, commodity price, operating costs, capital costs, etc.) The use of Monte Carlo simulation is one technique that can be applied to evaluate the uncertainty in estimating future outcomes and allows for the development of plans to mitigate or cope with risk.

Typically with conventional spreadsheet models, the engineer, geologist, or analyst creates models with the best-case, worst-case, and average-case scenarios, only to find later that the actual outcome was very different. With Monte Carlo simulation, the analyst explores thousands of combinations of the what-if factors, analyzing the full range of possible outcomes—an iterative process yielding much more accurate results with only a small amount of extra work, thanks to the numerous choices of Monte Carlo simulation software that are available. The Monte Carlo simulation cannot eliminate uncertainty and risk, but it does make them easier to under-stand by ascribing probabilistic characteristics to the inputs

Table 4.6-1 Applicable valuation methods

Method

Types of Properties

Exploration Stage Feasibility Stage Development Stage Operating StageMulti-Property

Company

Income (cash-flow) approach x* x x xMarket-related transaction x x x xMarket multiples approach x x xReplacement cost approach x x x xOption/real option pricing xMonte Carlo simulation x x x x x

Source: Adapted from CIMVAL 2003.* The income approach may or may not be applicable at the feasibility stage, depending on the reliability of the available information at the time that the valuation is required.

Valuation of Mineral Properties 221

and outputs of a model. The determination of the different risks and factors affecting forecasted variables can lead to more accurate predictions—the desire of all mining managers.

Reviewing Table 4.6-1, one can observe the four stages in the life of a mineral property and the likely applicable valua-tion methods for each one. Early-stage exploration properties are the hardest to value, whereas operating-stage properties are usually the easiest. In between those two stages, more than one method can usually be employed, with a weighted average value based on the strength of each method used or range of values developed from which a preferred value can be derived. It is also possible for a given property to be in more than one stage at any given time. One such example is a property with undeveloped resources undergoing exploration very near an operating mine.

Valuation Methods for Developed or Operating PropertiesProperties that are developed (i.e., ready to operate) or are operating and have a financial history, are usually valued by the income approach. This approach employs the life-of-mine production schedule, forecast or actual operating costs, fore-cast sustaining and replacement capital costs, and reclamation/closure costs. On the assumption that these have been cor-rectly forecast and projected, the only parameters that would be subject to dispute in this method are the commodity prices and the discount rate used in the valuation.

Some other valuation methods used for developed or operating properties include

• Liquidation value,• Market-related values,• Replacement value, and• The value of a royalty stream if the property is being val-

ued for a lessor.

Income (Cash-Flow) ApproachThe income, or cash-flow, method involves constructing a financial model of the cash flow covering the expected life of the mine, generally up to the first 20 years of production. The financial model should be based on constant dollars, where product selling prices, cash operating costs, and future capi-tal requirements are not inflated (varied). It is appropriate to change future operating costs over time by reflecting changing physical conditions, such as longer haul-truck cycles, reduced metallurgical recoveries because of a change in the character of the ore body, and similar measures that the mining profes-sional can predict.

To perform an accurate valuation using this method, the following inputs are required:

• Ore reserves over the life of mine. Resources can be included if factored for their probability of conversion to reserves; however, the valuator should be cognizant of regulatory requirements, such as those of the TSX Venture Exchange (a Canadian stock exchange) that pre-cludes the inclusion of resources in a cash-flow model.

• Production rates• Operating costs, including on-site general and admin-

istrative (G&A) costs, ongoing development costs, and nonincome taxes

• Capital costs—preproduction and sustaining/replacement• Environmental and reclamation costs

• Commodity prices• Discount rate

The commodity prices and discount rate utilized in the cash-flow valuation are two critical items that are based on the valu-ator’s experience and judgment. Because of the critical impact these two inputs have on the income approach valuation, they should be developed by the valuator from first principles.

Commodity price selection. While valuations are forward-looking, income approach valuations should nor-mally incorporate a constant commodity price based on long-term historical data. Commodity prices should reflect the up-and-down cycles, which are common to the mineral indus-try. It is the authors’ experience that a 10-year period would normally incorporate both cycles. When valuing an operating property or one near operating status, however, it is acceptable and appropriate to include consensus pricing for the first 2 or 3 years of operation prior to returning to the long-term price. As an example, when an examiner values an operating copper property, if the copper price for the last 10 years has averaged $1.75 per pound, but the current price is $3.50 per pound, the consensus view might be to use $3.50 per pound for year 1 of the cash flow model, $3.00 per pound for year 2, $2.25 per pound for year 3, and then level off at the 10-year average price of $1.75 per pound for the remainder of the mine life.

Discount rate determination. The discount rate essen-tially reflects the risks present in an investment and is the rate at which the cash flow from a mining property or of a mining company will be discounted. It is never appropriate when con-ducting a valuation to arbitrarily assign a discount rate; rather the discount rate should be derived from first principles.

Three methods are employed for deriving a suitable dis-count rate; the method selected is based on the nature of the asset being valued.

1. Weighted average cost of capital (WACC) method2. Capital asset pricing model (CAPM)3. Risk buildup method

Weighted average cost of capital discount rate deriva-tion. The WACC method is based on the proportional cost of equity and debt for a particular corporation at a specific time. It should be used as a discount rate only for companies; it is not appropriate for valuing single projects. The key strength of the WACC method is that it incorporates the global risks of all of a company’s operations and projects into a single rate, which should reflect the melded risks of the company’s assets.

Capital asset pricing model. The CAPM was developed as a valuation tool for shares of publicly traded stocks. It incor-porates various elements of an investment, including the risk-free rate of return offered by U.S. Treasury bills and notes, the greater risks inherent in stocks versus other investments, and the volatility of the shares of a company compared to the average company’s shares as measured by its beta. (Note: Beta is a measure of a stock’s price volatility in relation to the rest of the market. In other words, it is a guide on how a stock’s price is likely to move relative to the overall market. Beta is calculated using regression analysis. The whole market, which for this purpose is considered to be the Standard and Poor’s 500 (S&P 500), is assigned a beta of 1. Stocks that have a beta greater than 1 have greater price volatility than the over-all market and are more risky. Conversely, a beta lower than 1 denotes less volatility than the market and therefore less risk. For example, if the market with a beta of 1 is expected to


return 8% annually, a stock with a beta of 1.5 should return 12%. Young technology stocks will always carry high betas; many utility stocks, on the other hand, carry betas below 1.) The CAPM method is appropriate only for valuing companies; it is not appropriate for establishing the discount rate for indi-vidual mining projects or properties. Importantly, the discount rate derived is after-tax for a seller of the shares, and pretax for a buyer of the shares.

Risk buildup discount rate derivation. The risk buildup method is preferred by the authors of this chapter as it reflects the values relevant to the specific properties. In form it is simi-lar to the CAPM method; however, it is differentiated by its inclusion of the technical and other risks associated with the typical mining project. Essentially it adds the components of risk at the project to arrive at an overall risk rate for a given specific property or group of properties. The usual compo-nents incorporated are

• The real risk-free rate of return;• The risk premium expected by an investor who would

invest in mining projects which can be assumed to be the same as that for a publicly traded company. There would be additional premium if the project being valued would have a market capitalization of a “small cap” (i.e., less than $200 million);

• Mining industry specific risk; and• Site-specific risk for individual properties.

The real risk-free rate of return is the difference between the interest rate on U.S. Treasury notes of a maturity approxi-mating that of the project life and the current inflation rate and is measured by the following formula:

1Rfr IeRfn

11

= ++

−^^

hh

where Rfr = real risk-free rate of return Rfn = nominal risk-free rate offered by U.S. Treasury

notes Ie = expected inflation rate

Accordingly, assuming a 10-year mine life and 10-year U.S. Treasury notes yielding 4% with inflation at 1.5%, the real risk-free rate of return is

..

1 0.0251 0 0151 0 04

=++

−^^

hh or 2.5%

With a public company risk premium, investors clearly require a greater return on their investment than that provided by risk-free U.S. Treasury notes. They are willing to accept additional risk for the expectation of a greater return.

If the company involved is a large one (S&P500), the risk premium for such shares can be found at the Ibbotson Associates’ Web site. The risk in 2007 was about 7%.

If the company has a market capitalization of less than $200 million (i.e., small cap), an additional risk premium is warranted. In 2007, this was an additional 3% for a total pub-lic company risk premium of 10%.

With mining industry risk, based on historic company and industry returns on equity, there is an above-average risk premium for certain industries. These include the aggregate, mining, and petroleum industries, all of which are dependent on the vagaries of natural resources. In 2007, the industry risk premium for the mining industry was 2.5%.

With site-specific project risk, multiple risk factors exist at mining properties ranging from reserve risk through pro-cessing, environmental, political, and geotechnical risk. Following are some of the factors that need to be considered:

• Project status—This involves exploration, develop-ment, or in operation. As a project advances through these stages, the risk factor will normally decrease. For a mature operating property that is performing up to fore-casts, the risk will be lowest.

• Quality of analytical data—If the quality of the data derived from the drilling, sampling, and assaying of the ore body is suspect, the project risk must reflect this uncertainty.

• Processing-related risk—This risk can be high if ade-quate metallurgical test work has not been performed on samples truly representative of the whole ore body or if new, unproven technology is being employed.

• Infrastructure-related factors—Risks can occur if there are unusual circumstances that might cause inter-ruption to the power and water supply or cause access to the property to be lost.

• Environmental considerations—In contrast to projects 20 or more years ago, a project located in a sensitive envi-ronmental setting must be given a risk rating higher than one that is isolated and insulated from likely environmen-tal damage; government, regulatory, and permitting risks are thus assessed.

• Operating and capital costs, and working capital—Poorly predicted figures for these three items introduce substantial risk. The most common of these is an under-estimation of total project capital.

• Prices and markets—Price projections on which the project economics are based must be realistic, and there must be a market for the product produced.

• Labor/Management issues—The availability, educa-tion, and trainability of the required labor force in less developed countries is an issue. Union activism poses a risk to some projects. The quality and experiences of the company’s management must be considered.

• Political and social issues, and the social license to operate—The lack of perceived support from the local inhabitants and government bodies is a major risk.

It is not always possible to secure good information on all of these factors affecting site-specific project risk. If possible, a matrix should be constructed with a ranking from 1 to 10 assigned to each factor. From this, an overall risk factor can be assigned. For an exceptionally low-risk project, a factor of 1% or 2% may be chosen; for one with many uncertainties, the factor is likely to be 5% or higher.

Summary of risk-buildup discount rate. Table 4.6-2 is an example of a risk-buildup discount rate, showing both pretax and after-tax figures. Since the discount rate developed is pre-tax, it must be converted to an after-tax basis.

Other factors to be considered in the income approach valuation method. Two other factors should be taken into account in an income approach valuation of a property or properties.

The first, and more important of the two, comes into play if an acquisition is involved and if the acquirer will end up being in control of the property, properties, or company. Given that the acquirer will be in charge of his or her own destiny, he or she is not subject to the bad decisions of a senior owner. If


the acquirer is in charge, a “control premium” should be added to the total valuation obtained from the income approach method. The amount of this premium cannot be standardized and depends on the type of company and its position in the development/operating chain. During 2007, the control pre-mium for acquisitions of large properties and companies fre-quently exceeded 30%.

The second factor to be considered is a terminal value of the free cash flow for operations that have a life exceed-ing that of the financial model. A terminal value is commonly arrived at using the assumption that ongoing operations will mirror the conditions that applied to the last 5 years of the cash-flow valuation, unless there is good reason to expect an ore-grade change or a metallurgical recovery change, and so forth, to occur. The terminal value is measured by the follow-ing formula:

Tv D GFCFN 1= −

+^ h

where Tv = terminal valueFCFN+1 = annual free cash flow in the residual years

after the final year in the financial model D = discount rate used for the terminal value G = annualized rate of growth of the enterprise

over the life of the financial model

The discount rate used may be higher than that used in the financial model as the inputs to the model would be less cer-tain in the terminal value years.

It is not uncommon for the terminal value to be a signifi-cant part of the NPV determined by the financial model.

Market-Related TransactionOn the surface, the market-related transactions or comparable sales approach valuation method should be the simplest to under-stand and the easiest not to fault. One can simply find several recent transactions with their documented purchase prices and then compare the price paid per pound or ounce at that property with the one requiring the valuation. Unfortunately, it is not that simple. No two mining properties are even remotely identical due to differences in all the parameters that were itemized in the site-specific project risk discourse previously discussed. Even parts of the same mineral deposit can be different. Nevertheless, because of the perceived simplicity of the method, this is a fre-quently used valuation method and is a preferred technique by the International Valuation Standards Council.

To achieve even relative comparability, all transactions considered must be adjusted in relation to the property being

valued. For example, if both are narrow-vein, underground gold properties and one has a grade of 0.6 ounces per ton and the subject property has 0.3 ounces per ton, the value of an ounce at the subject property will obviously be lower than the property it is being compared with. Similar adjustments need to be made for mining costs, processing costs, political fac-tors, geography, and so on.

Market-related transactions, as applied to exploration properties. Generally little information is available about exploration properties due to the early stage of the property in the mine development cycle. Assuming that results are positive, the value of exploration properties increases with the level of work performed. Frequently a “prospectivity fac-tor” is added or deducted to the value based on known results, regional settings, and history.

By the time that a property has either been fully explored, reached the development stage, or started production, there are likely to be other transactions that can be used for develop-ing a market-related transaction valuation, provided that the individual differences between the properties are taken into account.

Market-related transactions, as applied to develop-ment or operating properties. When a property is either in development or operating, there will be much credible information available for it, and, unless the commodity is an unusual one, there are likely to be several fairly recent compa-rable transactions to reference for the valuation. Even so, care must be taken in two areas:

1. The transaction prices for the comparables must be adjusted to present-day conditions when either or both metals prices and costs of production may have changed; and

2. The transaction prices must be adjusted to reflect the different variables that will have affected the price paid for each property, including the relative size of the min-eral deposit; differences in ore grade, mining method, and processing recoveries and methods; and the amount and cost of required infrastructure, operating and capital costs, environmental and social issues, tax regimes, and political risk.

Market Multiples ValuationThe market multiples valuation method has similarities to the market-related transactions valuation method and has some of the same drawbacks (principally property or corporate differ-ences). It also has the “advantage” wherein other transactions (comparable existing properties) do not have to be identified and evaluated.

Market capitalization, which is the quoted share price multiplied by the number of issued shares, can be divided by many factors to derive a value per ounce or pound of proven and probable ore reserves or resources, the value per pound or ounce of annual production, the multiplier given to earn-ings, and so forth. These different metrics constitute a market multiples valuation, and these can then be used to develop a generic value for the company. Such figures are available for many mineral companies, enabling an average valuation per unit of the metric to be established.

A market multiples valuation can also be based on

• A multiple of average annual cash flow, and• A multiple of earnings before interest, taxes, deprecia-

tion, and amortization.

Table 4.6-2 Summary of risk buildup discount rate

Item Rate, %

Real risk-free rate of return 2.5Public company risk premium 7.0Small cap premium 3.0Industry-specific risk 2.5Site-specific risk* 3.0*Total (pre-tax) 18.0Total (after-tax) 12.0†

*A low-average risk rate of 3% has been chosen for this example.†From Lerch 1990; the example assumes a tax rate of 33.3%.


Again, adjustments must be made to ensure that the value developed is truly based on comparable factors. For example, a market capitalization value for a major mining company with several producing mines should not be used to develop a market multiples value for a junior company with only one producing mine.

Replacement Cost ValuationReplacement cost valuations are simply the expenditure that would be required in current dollars (or other currency units) to duplicate a prior effort. Replacement cost valuations are most commonly used for

• Exploration properties at various stages, and• Operations that have been shut down with remaining

resources or reserves.

For exploration properties, the costs of land acquisition, duplicating any geological, geochemical, or geophysical work, duplicating the prior drilling and assaying performed, and so forth, are determined as the basis of the property’s value. Any negative results must be considered, and, using the appraiser’s judgment, they may be subtracted entirely or included in a factored manner.

When being applied to operations that have been dor-mant for a period of time but which still have facilities in place, the replacement cost valuation focuses on the current cost required to replicate the facilities. A factor that must be considered is whether new technology has made the original equipment obsolete. If such is the case, the cost of the new technology must be included, although it is possible that this would overvalue the property. Another factor that should be considered is whether there has been any change in the mar-kets for the commodity that was previously produced.

If the property is being valued by the replacement cost method and resources and/or reserves are still present, the value could be based on the cost of replacing those ounces, pounds, or tons present.

Option/Real Option Pricing ValuationAlthough used less frequently than the methods already described, the option/real option pricing valuation method is one that can be used for valuing mining companies with mul-tiple operating properties. The philosophy behind options is based on the formula developed in 1973 by Black and Scholes to be used in the valuation of equities. As currently applied to mineral properties, option valuations are based on the follow-ing premises:

• The income approach valuation method may undervalue both producing and nonproducing mining assets. This is gen-erally true in “boom” times, but incorrect in difficult times.

• Mining properties offer the opportunity to be shut down when economics are negatively affecting cash flow and reopened when economic factors are positive. Although this is true in concept, in practice, closing and reopening mines based on volatile economic changes is impractical and would potentially be financially ruinous if attempted by mining companies. The cost of shutting down, main-taining the property on a standby basis, and the time it would take to reopen and ramp-up production is not con-sidered in option theory.

• Mining properties offer a call option on increases in met-als prices. (If the gold price is, for instance, $300 per ounce, then a property requiring a price of $350 per ounce to generate a positive cash flow has a finite value.) Note: For readers not familiar with the concept of options, ref-erence is made to puts and calls on 100 shares of a stock on a major stock exchange. Simply, each call gives the call owner the right to purchase 100 shares of the stock in question at a fixed price for a fixed period of time. (The lower the fixed price and the longer the period of time, the higher is the price of buying the call.) For example, if Party A owns 100 shares of a stock currently selling at $100 per share and the calls on a price of $110 per share expiring 2 months in the future are trading at $3 per share, then Party A can sell a call on his or her stock and immediately pocket a check for $300. If the stock does not reach the call price of $110 per share in the next 2 months, Party A will have made $300 and will still have the stock. In the meantime, Party B has bought Party A’s call for $300, but if the stock does not reach $110 a share within the 2-month time period, Party B will have lost their $300. However, should the price of the stock rise to, for instance, $116 per share before the 2 months are up, Party B will have doubled their initial investment of $300. (Party B’s call gives them the right to buy the stock at $110 per share and they can turn around and immedi-ately sell it for $116 per share, thus realizing a net profit of $300.)

When considering the use of option valuations, it is also important to recognize that

• The longer the option period, the higher the value will be;• The greater the volatility of the commodity price, the

higher the value will be;• This valuation method will always produce the highest

(and probably unrealistic) value; and• This method is applicable to valuations of companies, not

single properties.

Monte Carlo SimulationThe Monte Carlo simulation method can be used for any prop-erties that are at least at the advanced exploration phase. Monte Carlo simulations allow for multiple variables to be changed simultaneously while a specific operation is mathematically performed literally thousands of times. The probabilistic value results from a range of probabilities assigned to each variable in the analysis (i.e., capital and operating costs, and commod-ity prices) to arrive at a most likely value, or range of values, as based on iterations of cases that sample the distributions of each variable.

Alternative Valuation Methods for Undeveloped PropertiesUndeveloped properties include those with blocked-out resources or properties with drill holes that have “ore grade” intercepts. Although the lack of concrete information makes the valuation of such properties more difficult, a “probability” approach, such as the risk-adjusted income approach, can be used. The approach entails the construction of a financial model of the property using likely production rates, ore grades, min-ing and processing methods, and capital and operating costs.


A justifiable commodity price is chosen, the real risk-free rate of return is used for the discount rate, and the discounted cash flow is calculated. The valuation for an example property then becomes the calculated NPV (say, $100 million), as adjusted for the percentage probability that the items incorporated in the financial model, such as ore reserves, costs, and environ-mental risks, have been correctly estimated. If the risks for the stated items are, respectively, 80%, 90%, and 50%, the valu-ation would be $36 million ($100 million # 0.8 # 0.9 # 0.5).

Alternative Valuation Methods for Exploration PropertiesExploration properties include those where no work has been performed and those where some work has been performed.

For properties where no work has been performed, two methods are commonly used:

1. The valuation is a percentage of the surface value of the property. For no work of any kind in a mineralized or unmineralized area, the percentage is 5%. For raw prop-erty, but where initial reconnaissance has indicated favor-able potential, the percentage is 10%.

2. The valuation is the money that has been spent in staking/leasing and maintaining the property.

For properties where some exploration work has been performed, the following methods are commonly used:

• Modified cost of work performed, with prospectivity factors included

• Geoscience matrix valuation

In the modified cost of work valuation method, the direct costs of work performed are added to valid G&A costs to arrive at a base value. If there have been some highly favorable explora-tion results, some enhancement of the base valuation is appro-priate. Similarly, if results on or at nearby similar properties have been negative, a negative prospectivity factor is applied.

The geoscience matrix valuation method was devel-oped by Lionel Kilburn for the British Columbia Securities Commission to assist them in validating the values being assigned to exploration properties by junior mining compa-nies. Five major criteria are considered, which are divided into nineteen possibilities:

1. The location of the property with respect to off-property mineralization;

2. The presence of any on-property mineralization;3. The location of the property with respect to off-property

geochemical/geophysical/geological targets;4. The presence of any on-property geophysical/geochemical

targets; and5. Geological patterns on the property associated with

known commercial deposits.

The starting point, or base value, for the valuation is the per-acre or per-hectare cost of acquiring the right to a mineral property, usually the cost of staking and maintaining a claim for 1 year. The property is then rated on the basis of its score from the matrix, and this rating is then used to adjust the base value. The value from the matrix is arrived at by assigning points in the five categories, based on whether the property is above or below average. Table 4.6-3 illustrates how the matrix rating is derived.

RULES-OF-THUMB VALUATIONSIn the rules-of-thumb valuation method, the valuation is based on a percentage of the commodity’s price, with the percent-age dependent on the state of advancement of the particular property. Table 4.6-4, based on more than 500 transactions analyzed by Frank Ludeman in his publication, ADecadeofDeals, gives the range of percentages for the different stages of properties (Ludeman 2000).

The rules-of-thumb values provided in Table 4.6-4 should be considered as generic, and the actual percentage a prop-erty will value varies with the tenor of the mining industry.The 500 properties studied provided an average value, and the percentage of the commodity price assigned to a property should be based on its characteristics versus that of the “aver-age” property.

REQUIRED QUALIFICATIONS FOR A VALUATORThe required qualifications for a valuator will depend to some extent on the complexity of the property to be valued, as well as on the type and number of the methods to be employed. The greater the complexity and the number of methods to be

Table 4.6-3 Categories used in matrix valuation

Category RankValue Factor

A. Location with respect to off-property mineralizationSub-ore grade in two horizontal directions 17 1.5Ore grade with two horizontal dimensions 13 2.0Sub-ore grade with three dimensions known 12 2.5Ore grade with three dimensions known 8 3.0A past or present producing mine 5 4.0A major past or present mine 4 5.0

B. Location with respect to on-property mineralizationInteresting but sub-ore grade with two horizontal directions

13 2.0

Ore grade with two horizontal dimensions of economically interesting size

8 3.0

Interesting but sub-ore grade in three dimensions 4 5.0An economically interesting ore-grade zone in three dimensions

3 6–8

Past producer with ore grades measured in three dimensions

2 7–8

Major past or present producer with ore grades measured in three dimensions

1 9–10

C. Location with respect to off-property geochemical/geophysical/geological targetsOne target or two, based on different methods 19 1.3Three or more targets 17 1.5

D. Location with respect to on-property geophysical/geochemical targetsOne target 13 2.0Two or three targets 8 3.0Four or more targets 7 3.5

E. Geological patterns associated with known commercial depositsOne or two patterns 13 2.0Three or more patterns 8 3.0

Source: Adapted from Kilburn 1990.


used, the greater must be the knowledge and experience of the valuator (who may be one individual with all the necessary skills and experience or a small team whose combined exper-tise covers all the skills needed).

The principal qualifications, not necessarily in order of importance, are

• A total lack of bias as to the outcome of the valuation,• Knowledge of and previous experience in the valuation

method(s) to be used, and• Familiarity with all relevant aspects of the minerals

industry.

Sometimes in special circumstances, the valuator or the head of the valuating team may be required to be a member of an

accredited appraisal association or professional society. The valuator and the members of the valuation team should hold degrees in geology, mining engineering, or metallurgy; how-ever, overall experience in, and a working knowledge of, the minerals industry is the most important qualification.

ACKNOWLEDGMENTThe authors and SME acknowledge Behre Dolbear Group Inc. for granting permission to use their copyrighted material in this chapter.

REFERENCESBlack, F., and Scholes, M. 1973. The pricing of options and

corporate liabilities. J.Polit.Econ. 81:637–654.CIMVAL. 2003. Standards andGuidelines for Valuation of

Mineral Properties. www.minevaluation.com/CIMVal_Final_Standards.pdf. Accessed November 2009.

Kilburn, L. 1990. Valuation of mineral properties which do not contain exploitable reserves. CIMBull.83:90–93.

Lerch, M.A. 1990. “Pre-tax/after-tax conversion formula for capitalization rates and cash flow discount rates. Bus.Val.Rev. (March).

Ludeman, F.L. 2000. ADecadeofDeals:GoldandCopperOreReserveAcquisitionCosts,1990–1999. Castle Rock, CO: The Mining Business Digest.

Table 4.6-4 Rules-of-thumb values

Property Stage

Precious Metals (%-per-ounce

price)

Base Metals (%-per-pound

price)

Early exploration 1.5–2.5 1.0–2.0Inferred resources 2.5–5.0 2.0–3.0Measured and indicated resource 5.0–7.5 3.0–5.0Feasibility 10.0–15.0 5.0–7.50

Production 20.0+ 10.0+

Source: Data from Ludeman 2000.

Documents

Valuation of mineral properties mining engineering