A look at the milestones in the development of any mining project, and the resulting upgrading of the company’s status in the eyes of investors.
In dividing-up the “evolution” of a mining project into seven specific phases, these individual phases are not equal increments – in terms of either the amount of time required, or the amount of money spent. Rather, they mark milestones in the development of a mining project which tend to lead to upward revaluations of the company, and (with regard to several of these phases) an “upgrading” of the company’s status as a mining company.
A miner with a resource estimate completed on its mineral deposit is deemed “more advanced” than one which merely has a collection of drilling intercepts. A company with a “feasibility study” under its belt (along with a resource estimate) is closer to production than a company with a resource estimate alone. As these companies inch closer and closer to production, two other factors emerge. The “discounting” of these mineral assets is reduced as a company gets closer to generating actual revenues from a deposit, and the level of risk in investing in a company declines – since there are now less things that can go wrong.
The trade-off for this decline in uncertainty and risk is a commensurate decline in the potential up-side for these companies. The earlier-stage companies are clearly much riskier, but offer investors more potential gains – as all of these developments (and the upgrades in valuation which usually accompany them) still lie ahead in the life of these companies.
This is why experienced investors in this sector balance their holdings between earlier-stage companies and producers/near-producers. We hold the former to provide us with the highest growth potential, while we hold the latter to reduce our overall level of risk – while still providing superior returns versus most other sectors.
Part III of this series left off as I presented many of the fundamentals associated with the “resource estimate” stage of development. Assuming a company has obtained encouraging results with their resource estimate (i.e. an adequate resource to potentially justify the capital costs of a mine), it is now ready for the detailed, technical process of doing an economic assessment on the viability of a mining project. Different terms are used to describe this phase, representing (in part) technical studies with different levels of depth of analysis.
A less-rigorous analysis of the economic and technical parameters for a particular project is often referred to as a “scoping study” or “pre-feasibility study” (PFS), but different terminology is used in different jurisdictions. Whatever it is called the objectives are the same.
Primarily there are two aspects to these economic and technical evaluations. One branch of analysis focuses on the metallurgical issues which exist with regard to actually extracting the metal(s) contained in the ore, given the existing geological matrix of the deposit.
Modern metallurgical techniques mean that most ores can now be processed with relatively high “recovery” rates of the metal(s) contained (i.e. the percentage of the total amount of metal which is successfully extracted). However, depending on the geological quirks of the deposit, there is considerable variation in both the cost of extracting the metal(s) and the amount of toxic waste produced from the extraction process.
Typically the two factors go together. Ore deposits which are more costly to process are also the most likely to resort to more heavily-toxic extraction methods. However, here we see new technology making mining “greener”. A good example is the recent innovation of using ‘ore-eating’ bacteria to partially sever the chemical bond which binds the valuable metal(s) to the waste-material in the rock, in certain types of mineral deposits. Once these bacteria have ‘eaten’ their fill, the ore is now suitable for normal processing, using much less-toxic reagents.
This means that those investors who factor-in the “environmental impact” of their investments into their investment decisions must pay close attention to these studies not only for the wealth of economic information they yield about the viability of an ore deposit, but also the environmental impact which the mining process will have on the local ecology.
Even those investors who are not troubled by the “environmental friendliness” of their holdings cannot afford to overlook these processing issues as they can often have an enormous impact on the success (or failure) of a mining company to seek and obtain the necessary regulatory permitting which must take place before any mining company can proceed with construction of a mine. Indeed, there are many fabulous metal deposits which will likely never be mined, because the “sensitivity” of the local environment and/or difficulties in processing the ore mean that any mine operating in these regions would devastate the environment – and thus no permit for mining operations will be forthcoming.
The other half of this study focuses on the capital costs required to build a facility which can a) effectively process ore from the particular geological formation encountered; and b) mine the ore at the most economically advantageous rate. Thus not only the precise nature of the mining facility is at issue, but also the size (i.e. production capacity) of the mine.
Typically, the larger the deposit, the larger the mine which will be constructed as a processing facility. However this general principle is qualified by several factors, two of which stand out as particularly notable. Mineral deposits which are judged suitable for “open pit” mining tend to have larger “tpd’s” (tons-per-day) of processing capacity than underground operations – relative to the size of the mineral deposit.
Conversely, many ore deposits contain their metal(s) in the form of numerous “high-grade”, but very narrow veins of ore. While even very narrow veins (i.e. only a few feet in thickness) can often be mined very profitably if the grades are good enough, such mineral extraction is inevitably much slower than where the ore is contained in much wider “intercepts”.
Here we don’t have to wait for the results of a feasibility study to yield “clues” on the nature of the processing facility which will ultimately be built. When we examine the company’s drilling results, if the ore is located near-surface with relatively wide belts of mineralization, we can deduce that the company will likely opt for a high-tonnage, open pit operation.
On the other hand, if we see one set of drill results after another showing the high-grade/narrow-width pattern previously mentioned (and not near to the surface), we can not only deduce that such ore would be mined in a conventional, underground mine, but that the mine capacity will be relatively small in relation to the total size of the deposit.
Obviously the rate at which a miner is able to extract the ore from any particular deposit will have a tremendous impact on the profitability of a miner, and thus its valuation by the market. However, there are clear trade-offs involved with companies at this stage of development. Those companies which can process large quantities of ore (and generate huge revenues) will typically require much larger facilities, and exponentially higher capital costs than a miner seeking to construct a smaller-scale operation.
Thus the company with the larger proposed facility will likely have to undergo much more dilution to finance such a project, or bring in a partner with “deep pockets” – but be forced to surrender ownership of much of the project. This means that many of these very large mining projects may present their best “buying opportunity” immediately after financing is announced (and dilution is factored into the valuation of the miner).
Conversely, with junior miners looking to construct more modest facilities this implies much lower capital costs – meaning that such miners can often avoid major dilutions to their share structure, and the pull-back in their share price which generally accompanies such dilution. This means that for those investors looking for “buy and hold” junior miners, “bigger” is not always “better”.
This also means that in our overall investment strategy we can now further refine our approach in selecting and investing in these companies. By closely following the drilling results of particular miners, we can eliminate some of the surprises which typically occur when the results of an economic assessment are announced.
We may really like the long-term future of a particular miner/mining project. However, if we know (from drilling results) that the company will be looking to construct some mammoth processing facility, we may choose to exit (partially or completely) from such a company as soon as the resource estimate is announced – and we enjoy the “bounce” in the share price which typically accompanies that.
We would then put our money to work elsewhere, and wait for this company to complete its economic assessment, and announce the results. Then after the financing (and dilution) takes place, we can re-enter this investment – and look to maximize our returns on the latter stages of development (and production).
We must also always remain cognizant of the geographical location of any particular mine/mineral deposit. Most successful junior miners operate in known “mining camps” or geographical “belts” for two related reasons. The probability of finding more metals to extract is higher where commercially viable ores have already been discovered (and mined) than in “virgin” territory. Of equal importance, existing mining districts already have much/most of the necessary infrastructure in place to facilitate a new mining operation.
The most important infrastructure for these mining companies usually involves transportation and power. If a mineral deposit can be accessed close to an existing transportation network, and if there is also reasonably convenient access to a nation’s power-grid, this will not only tend to dramatically lower the capital costs of a mining facility, but (in the case of power issues) can also have a large impact on the cash-costs for a particular mine.
A miner in a remote location who is forced to produce its own electricity (generally from oil-powered generators), will operate at a considerable cost-disadvantage in comparison to a mine able to simply purchase their power directly from a nation’s existing power generation.
If we have chosen our miners carefully (and have even a little luck), we can often afford to sit back as passive investors, and simply await the next announcement (and next phase) in the developments in our investments. Being in a sector with superb long-term fundamentals, time alone will tend to “float all boats”. However, if we are more active, pay close attention to the clues we are given by these companies, and plan our strategies carefully, then we can usually greatly enhance the overall performance of our portfolios.
More importantly, being proactive investors will allow us to avoid a lot of the nasty surprises which can befall less vigilant investors. We must fight the temptations of complacency and over-confidence, as maintaining our “study habits” with these companies can be just as important as maintaining our discipline in our buying and selling.
In the final installment to this series, I will examine the last chapters in the development of a mining project from initial exploration through to commercial production, and complete my analysis of the evolution of a mining company.
