Mining Asset Valuation Techniques

How Do You Value a Mining Asset?

Mining involves the removal of minerals and other geological resources from the earth. The process of mining asset valuation usually involves five phases: exploration, evaluation, development, production, closure, and reclamation.

The exact definition of an asset depends on the standards used, but overall, an asset is the company’s present right to an economic benefit.

Generally speaking, there are 3 main categories of mining assets, discussed below briefly.

Exploration Assets

These are connected to the expenses incurred during the exploration and evaluation phases of the mining process. At this stage, the viability of extracting minerals and other geological resources has not been proven to exist.

Development Assets

The viability of extracting minerals and other geological resources has been proven to exist by various studies, but the construction hasn’t started yet.

Production Assets

These relate to the mining projects that are in production.

Mining assets are valued for multiple reasons, including but not limited to mergers and acquisitions transactions, pricing of an initial public offering, reassessment of fair value in the company's financial statements, assessment for insurance claims, etc. 

Asset valuation involves an estimation of the fair value of the valued asset. In contrast, fair value is the price that would be received in exchange for an asset in an orderly transaction between the market participants.  

Valuation of mining assets is a very challenging process. On top of the standard corporate finance and economics knowledge, it demands specialized knowledge and experience in areas such as geology, engineering, and mining processing.

Thus, valuation should be carried out by a competent mining asset valuator whose duty is to perform valuation following governing principles, standards, and requirements.

Valuation Of Mining Assets

Multiple national and international codes govern the valuation of mining assets. All of them set out requirements and provide guidance for the technical assessment and valuation of mining assets. 

Some commonly known are

• Australasian Code for Public Reporting of Technical Assessments and Valuations of Mineral Assets (The VALMIN Code).
• Canadian CIMVal Standards and Guidelines for Valuation of Mineral Properties (The CIMVAL Code).
• The South African Code for the Reporting of Mineral Asset Valuation (The SAMVAL Code).
• American SME Standards and Guidelines for Valuation of Mineral Properties (SME Valuation Standards).
• The International Valuation Standards Council (International Valuation Standards).

The codes are fairly consistent regarding approaches used in the valuation of mining assets. The three generally accepted approaches are

Market Approach

It is based on the “willing buyer, willing seller” concept. In other words, value is determined as if an arm’s-length transaction occurred. Methods include, among others:

• The Comparable Transaction, also referred to as prior transactions
• Option Agreement Terms

Income Approach

It is based on the principle of anticipation of benefits from an asset. The approach requires the determination of the present value of cash flows generated over the useful life of an asset. Methods include, among others:

• Discounted Cash Flow (DCF)
• Real Options Pricing

Cost Approach 

It is based on the amount of historical, current, and/or future spending on an asset. The principle behind this approach is that the buyer won’t buy the asset for more than it costs to construct it. Methods include, among others:

• Replacement Cost Method
• Multiples of Exploration Expenditure 

The valuation approaches depend on many factors - how marketable the company’s assets are and whether the company generates cash flows, among others. 

Different approaches can yield different results, so using multiple approaches is required.

In addition, the development stage should be considered when determining the valuation approaches used. The table below provides a summary of the respective information.

Market Approach of Mining Asset Valuation

Value is determined by comparing the asset with an identical or similar asset for which price information is available.

The approach is best applied when:

• An asset being valued or a similar asset is actively traded in an open market
• Frequent and observable transactions with similar assets are taking place
• An asset that is being valued has recently been sold

Given the nature of mining assets, finding evidence of transactions involving similar assets is often problematic or impossible.

In this case, choose the closest available transaction and analyze qualitative and quantitative similarities/differences between the comparable assets and the asset being valued so that the respective adjustments can be made and the value estimated.

The main factors to consider when assessing the similarity/alikeness of mining assets are:

• The phase of the mining process
• Discovery potential: the existence of mineral resources and ore reserves
• Geological attributes: grade of the produced ore
• Location of the mining asset
• Jurisdiction: the government’s policies relating to exploration, etc
• Licensing: the availability of the required licenses

Income Approach of Mining Asset Valuation

Value is determined by discounting the expected future cash flows of an asset valued back to the valuation date.

The approach is best applied when:

• Projections of the amount and timing of the future cash flows of an asset being valued can be reasonably estimated.
• The income-producing ability of the asset being valued is a critical element that affects the value.

There are circumstances, though, that could signal that using an income approach on a stand-alone basis might not provide a representative value. Some of these are:

1. The asset's income-producing ability being valued is only one out of all the elements that affect the value.
2. Uncertainty regarding the amount and timing of future cash flows exists.
3. Access to critical information is limited.
4. An asset being valued has yet to start generating cash flows as of the valuation date.

Assumptions Under DCF Valuation

The key assumptions/estimates used when applying a DCF method specifically for mining assets include:

1. Revenue:
   • Volume and grade of the mineable reserves;
   • Projection of commodity prices. 
2. Operating Costs: Includes such costs as labor, energy, raw materials, transportation, and other administration and distribution expenses, among others.
3. Capital Expenditures: The cost of constructing an asset and the cost of replacing equipment throughout the useful life of the mine.
4. Discount Rate: also known as the cost of capital. 

Given the amount of information required to prepare a DCF model, it is only appropriate for the development of mining assets or mining assets in production.

Cost Approach of Mining Asset Valuation

One of the methods to determine the value under the cost approach is by calculating the replacement cost of an asset being valued and adjusting it for any relevant forms of deterioration/obsolescence.

The cost elements may vary depending on the asset’s type. However, in any case, they should include direct (such as labor, etc.) and indirect (such as transportation costs, professional fees, etc.) costs necessary to replace the asset as of the valuation date.

The value of an exploration or mineral resource property is usually identified as adding the past exploration costs and the warranted future costs necessary to test the remaining exploration potential.

The approach is best applied when:

• Market or income approaches do not apply
• Market participants can relatively easily and quickly recreate an asset being valued

Researched and authored by Kseniia Tokarieva | LinkedIn

Reviewed and edited by Parul Gupta | LinkedIn

Free Resources

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