Valuation of Mineral Assets: Introduction
The valuation methodology used to assign a value to a mineral asset depends upon how advanced the asset is, and what information is available to the valuer. However, all valuation methodologies have one factor in common: the opinion of the valuer. The valuation of a mineral asset therefore includes subjective beliefs and preferences. In this regard it should be noted that risk can be measured but uncertainty cannot. Mineral assets often carry substantial uncertainty.
Mineral asset valuations are important because they: are used to determine the sale price of an asset; can help determine whether a proposed exploration or development project is of value; and can assist in setting the relative contributions for the partners in a joint venture project.
Mineral asset valuations in Australia have to comply with the VALMIN Code, 2005 Edition. Read the Code here. The Code provides guidelines and recommendations for use by the Independent Expert when undertaking a project valuation. The Independent Expert must have a high level of competence in all aspects of the project being valued and be legally independent.
Common Valuation Methodologies include:
- Multiples of Exploration Expenditure Method – where asset value depends on how much money has been spent on exploration in the past and/or how much will be spent in the future.
- Joint Venture Method – where value is related to how much the Joint Venture partner has spent and/or is planning to spend on the asset.
- Geoscience Method (Kilburn Method) – where asset value is determined by assigning a value to various, predetermined technical factors.
- Comparative Value – where asset value is determined by comparison with the sale price of other similar projects.
- Income Method – where asset value is calculated from the likely future cash flows generated from the project.
There are four commonly accepted levels of mineral asset development:
- Grass roots exploration project
- Advanced exploration
- Predevelopment and mines in development
- Operating mines
The history of mineral asset valuation shows that more projects fail because of reserve estimation error than any other reason. In general, there is too much optimism in production forecasts and in price forecasts. Thus mineral assets are rarely undervalued and commonly overvalued. This is of considerable importance to the investor that is relying on a valuation as part of an investment decision. Healthy scepticism is in order.
I shall write on mineral asset valuation in more detail in future articles.