Watts, Griffis and McOuat Mineral Sector Valuations A Presentation on Practices in the Canadian Minerals Industry November, 2005 Al Workman, P.Geo., Vice-President.

Watts, Griffis and McOuat

Mineral Sector ValuationsMineral Sector Valuations

A Presentation on Practices in A Presentation on Practices in the Canadian Minerals the Canadian Minerals

IndustryIndustry

November, 2005November, 2005

Al Workman, P.Geo., Vice-PresidentAl Workman, P.Geo., Vice-President

Watts, Griffis and McOuat LimitedWatts, Griffis and McOuat Limited


Valuation StandardsValuation Standards

The Valuator must understand the standard of value that is required by the client:

Investment Value - the value to the ownerForced Liquidation Value - the value if assets of a failed business are sold at auctionOrderly Liquidation Value - net proceeds if assets of a business are sold over a period of time to maximize the proceeds receivedFair Market Value or Market Value – proceeds from unforced sale between willing vendor and a willing buyer



Most valuations in the Minerals Sector involve the estimation of “Fair Market Value”.

Fair Market Value is defined in accordance with Revenue Canada guidelines as “the highest price available in an open and unrestricted market between informed and prudent parties, acting at arm’s length, and under no compulsion to act, expressed in terms of money or money’s worth”.



Some valuations in the Minerals Sector involve the estimation of “Market Value”.

Market Value as defined by the British Columbia Mining Rights Compensation Regulations is defined as “the market value of an estate or interest in land is the amount that would have been paid to the holder of the expropriated mineral title if the title had been sold on the date of expropriation, in an open and unrestricted market between informed and prudent parties acting at arm’s length”.



The difference in these two definitions is important.

Market Value is estimated as the likely outcome of a sale and it requires the valuator to estimate the value in accordance with probability.

Fair Market Value is estimated as the highest outcome of a sale and it requires the valuator to estimate the value based on what the most willing buyer would pay.


Valuation ApproachesValuation Approaches

Three traditional approaches:

Cost – what did it cost to acquire the property and how much has been invested in it

Market – what would the market be willing to pay if the property were sold

Income – what is the earning power of the property expressed as a Net Present Value


Use of Valuation ApproachesUse of Valuation ApproachesCIMVal covers examples of many valuation methods:Valuation Approach

Valuation Method

Method Ranking Comments

Income Discounted Cash Flow Primary Very widely used and generally accepted in Canada as the best method

IncomeMonte Carlo Simulation Primary Less widely used but gaining in

acceptance

Income Option Pricing Primary Not commonly used and not well understood but gaining in acceptance

MarketComparable

Transactions Analysis Primary Widely used – based on substitution

MarketOption Agreement

Terms Primary Widely used but option terms must be discounted over time

MarketGross In-Situ Metal

Value x Not acceptable


Use of Valuation ApproachesUse of Valuation ApproachesSummary of valuation methods continued…………

Valuation Approach

Valuation Method

Method Ranking Comments

MarketNet Value of In-Situ

Metal Secondary Very widely used ‘rule of thumb’

Market Value per Unit Area Secondary For large reconnaissance exploration properties without central focus.

Market Market Capitalization Secondary Can be used for single property companies – usually junior companies

Cost Appraised Value Primary Widely used but not uniformly accepted

CostMultiple of Exploration

Costs Primary Not widely used or accepted in Canada

Cost Geoscience Factor Secondary Not widely used.



Income Approach:

Discounted Cash Flow Analysis - well suited for the valuation of mineral assets for which there are Mineral Resources and/or Mineral Reserves, and some form of economic analysis

Monte Carlo Simulation Analysis – well suited for the valuation of mineral assets for which there is some indication of Mineral Resources and/or Mineral Reserves, but where costs and revenue streams are uncertain



Market Approach:

Joint Venture Terms Analysis - quite effective if there are examples available for the subject property

Comparable Transaction Analysis - based on the principle of substitution, which says that the economic value of a property can be determined by the cost of acquiring an equally desirable substitute

In-Situ Resource Analysis – market value of the mineral in the ground


Application of Valuation MethodsApplication of Valuation Methods

DISCOUNTED CASH FLOW (DCF) MODELLING

CIMVal guidelines state that DCF modelling is an acceptable valuation method for valuing Measured and Indicated Mineral Resources, but it should be used with caution for Inferred Resources. It does not forbid the use of Inferred Resources.

The Toronto Stock Exchange (TSE) will not accept the use of Inferred Resources.

The use of Inferred Resources is prevalent within the industry in striking deals between companies, however there is little hard evidence of its use.



EXAMPLE OF THE USE OF INFERRED RESOURCESDuring 1996, Barrick Gold acquired Arequipa Resources just after the discovery of the Pierina gold deposit in Peru. At the time, only 20 diamond drill holes had been completed. Barrick paid US $756 M to purchase the deposit. Barrick recognized the geological model, and based on the model, inferred that the deposit contained at least 6 Moz of gold. Barrick was willing to pay $150 per potential contained ounce for the “inferred” resource. Further exploration showed that the deposit contained over 7 Moz of gold.




WGM believes that the position of the TSE is based on:

a misguided interpretation of National Instrument 43-101 rules;

fear of the misuse of Inferred Resources; and,

a desire to avoid the over-capitalization of companies




DCF modelling requires:

clearly defined resources and/or reserves;

good idea of appropriate mining and processing techniques, equipment requirements, G & A costs, capital and operating costs, metallurgical recoveries, by-product credits…etc

current and future commodity prices

taxes, royalties and mine closure costs

a production schedule;


Application of Valuation MethodsApplication of Valuation MethodsDCF EXAMPLE


Application of Valuation MethodsApplication of Valuation MethodsDCF EXAMPLE



MONTE CARLO SIMULATION

Use Monte Carlo simulation to develop realistic discounted cash flow valuations to reflect the uncertainty contained within a project.

Use MCS to build confidence in a project knowing where the main risk parameters are located.

Simulate and examine the affect of risk elements within a project by varying in-put parameters and visualizing the result.



MONTE CARLO SIMULATION

Use when DCF in-put parameters can not be defined, but can be estimated within a range.

TSE rules do not cover probabilistic modelling and so the use of Inferred Resources is not prevented.

MCS should be carried out by an experienced mineral economist in consultation with either (1) a Mining Engineer or (2) a current and comprehensive mine production database.

Careful consideration must be given to in-put ranges and the skewness of the range.



MCS APPLICATION

Early exploration property has 50 drill holes and Inferred Resource of 12.6 mt grading ~9 g Au/t.

Additional drilling indicates strong possibility of doubling and up-grading the estimated resource.

Based on other similar mines in the area, we can estimate, +/- 10-25%, the following:

metallurgical recoveries; total capital and production costs; taxes, royalties and mine closure costs



MCS APPLICATION

Symmetrical or Skewed Inputs?????

The confidence of the data may allow issues of the average grade to be a simple matter of assessing the need to cut high grade values:

Average gold grade with no cutting = 9.4 g/t

Average gold grade with assays cut at the 98th percentile (50 g/t) = 9.1 g/t.

Average gold grade with assays cut at the 95th percentile (30 g/t) = 8.8 g/t.



MCS APPLICATION


The effect of cutting shows no serious nugget affect caused by coarse gold and so we might reasonably select a normally distributed range of values for gold in-put between 8.8 and 9.4 g/t.

0

20

40

60

80

8.5 8.8 9.1 9.4 9.7

Pro

bab

ility



MCS APPLICATION


Uncertainties regarding the amount of refractory gold and its effect on overall recoveries may dictate a more cautious approach. Recovery of refractory gold may be 60% versus 95% for non-refractory gold.

0

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60 65 70 75 80 85 90 95 100

Pro

bab

ility



MCS EXAMPLE

ITEMITEM LowLow HighHigh Frequency DistributionFrequency Distribution

Average GradeAverage Grade 8.58.5 9.59.5

TonnesTonnes 12 MT12 MT 13.2 Mt13.2 Mt

Gold RecoveryGold Recovery 6060 100100

Mining CostsMining Costs 2020 5555

Processing CostsProcessing Costs 4040 6060

0

10

20

30

40

60 65 70 75 80 85 90 95 100

0

5

10

15

20

25

12 12.2 12.4 12.6 12.8 13 13.2

0

20

40

60

80

8.5 8.8 9.1 9.4 9.7

0102030

20 25 30 35 40 45 50 55 60

0

10

20

30

40

45 50 55 60 65 70



MCS EXAMPLE

0

10

20

30

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60 65 70 75 80 85 90 95 100

0

5

10

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25

12 12.2 12.4 12.6 12.8 13 13.2

0

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60

80

8.5 8.8 9.1 9.4 9.7

0102030

20 25 30 35 40 45 50 55 60

0

10

20

30

40

45 50 55 60 65 70

It is very important that the Monte Carlo simulation be repeated enough times to produce reliable out-put = recommend 1,000 iterations



MCS EXAMPLE – OPERATING COSTS



MCS EXAMPLE – CAPITAL COSTS



MCS EXAMPLE – COMMODITY PRICE



MCS EXAMPLE – NET PRESENT VALUE


MCS EXAMPLE – OTHER VARIABLES

Political risk

Environmental risk

Social risk

Other variables that could be analysed and used as multipliers of net present value could include:



JOINT VENTURE TERMS ANALYSIS

If I invest $1M into a property worth $5M, the property may become worth $6 M. – this is not a JV

The Valuator must always separate the value of the Joint Venture from the value of the underlying property – they are not the same.


If I invest $1M into a JV where the underlying property is worth $5M, the value of the JV may be worth $6M, but the value of the property to me must be determined by my earned position in the JV.




A useful formula is:

$Vp = $E x (100 - I%) / I%

Where $Vp is equal to value of 100% of the entire property

$E is the cash being contributed to the JV by in-coming Party (the investor)

I% is the interest to be earned in the JV by the investor




The underlying principle is that an investor putting money into a property will earn his interest immediately, and the property may see an increase in value using, for example, the appraised value method.

An investor putting his money into a JV is increasing the value of the JV, but not necessarily increasing the value of the underlying property, and the investors interest remains in the JV.


Other Valuation MethodsOther Valuation Methods

Other valuation methods exist, but many of these are not accepted as primary valuation techniques. However, they can be useful as a test of reasonableness.

These include:

Value per unit of area for an raw exploration property – use with caution to ensure areas are approximately comparable.

Decision tree (probabilistic) analysis – not commonly used.


ConclusionsConclusions

Valuing a mineral property is a time sensitive practice. What seems logical today may not seem reasonable 6 months from today. The Qualified Valuator must keep good notes to ensure that the chain of rational decisions that led him / her to his conclusions can be understood and duplicated in the future.

Cross-referencing of valuation techniques is an important means to ensure that the valuation is reasonable. If the valuator does not see congruence in his individual conclusions, he should re-examine the data and his conclusions each step of the way.


ConclusionsConclusions

MethodMethod

Comparable Transactions

Net Value In-Situ Metal

Monte Carlo Simulation

Appraised Value

Fair Market Value

2 4 6

$ Millions

2.6 5.8

2.2 3.6

2.7 4.3

2.5 3.6

3.6 4.4


Suggested ReadingSuggested Reading

CIMVal Standards and Guidelines for the Valuation of Mineral Properties (Canada).

VALMIN – supported by the AusIMM (Australia).

SAMVAL – South African Institute of Mining and Metallurgy – draws on CIMVal and VALMIN.

Watts, Griffis and McOuat Mineral Sector Valuations A Presentation on Practices in the Canadian Minerals Industry November, 2005 Al Workman, P.Geo., Vice-President.

Documents

market value proceeds

estimation of market

investment value

standard of value

unrestricted market

mcouat valuation approaches

mcouat valuation standards

net present value slide