Published Research
"Understanding Junior Miners"
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Executive Summary
Section A
- AIM and Junior
Miners
The rationale for this document is a perceived gap in the market for analysis of early stage mining juniors, where the AIM market has seen exponential growth over the past three years. Valuation issues in this sub-sector depend on where the company is in its lifecycle.
The
illustration opposite represents a successful mining company, but if a
company fails at the early stages of development, the value can
return to zero.
The performance of junior mining shares cannot be relied on as a consistent proxy for either the underlying commodity OR the major mining groups. The former tend to be driven much more by: the internal flow of information on the development of the asset; levels of liquidity; political risk shocks; investment stake by a major; interest rate moves; and scarcity value of the primary commodity exposure.
The risks of mispricing of equities can be considerable in the earliest days when data is not yet proved up on a company’s mineral assets, or when investors have no yardsticks for interrogating the technical information being released by the company. This document thus aims to provide investors with enough technical information OR the key questions to ask, in order to interrogate and understand early stage exploration and development plays. It does not claim to be a comprehensive textbook, but has focused on areas where the “panel” of writers possess considerable industry experience and knowledge.
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What the document includes.... |
And what is does NOT include... |
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In commodity terms, a focus on gold, PGE's and diamonds, as they represent the bulk of the AIM mining sector |
Base metals, coal and industrial minerals, despite some presence of these across a number of companies |
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Discussion of geology, exploration and measurement of reserves/resources to help interrogate early stage junior miners |
In depth analysis of fully producing companies on AIM as these are covered in some depth by broking houses in London |
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Summary table of mining companies listed on AIM |
No detailed analysis of these, beyond commodity and geographic exposure |
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Relatively detailed discussion of the challenges in bringing a deposit into operational phase, as more risk can lie in this element of a junior than generic political risk |
Little analysis of how the various issues raised in the document might differ due to political risk factors |
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Attempts to simplify and explain excessively technical geological and mining terminology where possible |
Complete elimination of technical terms, as investors need to recognise and understand many key bits of terminology in order to interrogate company management. |
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Coverage of various valuation approaches |
The one-stop “holy grail” of valuation in an environment where data on resources, reserves, operating costs and even processing technologies are still uncertain |
Section B - What are the assets the company owns?
Section B provides information to help investors with the questions to ask in order to assess the assets owned by early stage miners before they are in production. Coverage of three separate topics helps to emphasise the subjective nature of the interpretation of early stage data emerging on potentially economically viable mineral deposits i.e.
There are a number of definitions of resources and reserves as defined by the most extensively used system of classification (JORC), and major differences exist in Russian system.
Even within a single commodity category, a range of different types of deposits occur, dependent on how they were originally formed.
Monitoring of the process of exploration and evaluation techniques used in the conversion of mineralisation into proven reserves is essential for giving investors confidence in the robustness of the final results; share price moves can often be considerable as more detailed information on the asset becomes available.
Section C - Economic Exploitation of the Assets
In junior mining companies with particular skills sets in finding prospective assets, possibility the highest period of risk is associated with the actual development of the asset into a producing mine. As Section C outlines, a very wide range of factors will determine success or failure at this stage, most important of which are:
Security of tenure, given the geographic spread of junior miners in the so called “new frontier” regions with higher levels of political risk
Key characteristics of the ore body, particularly GRADE
Operating parameters of open pit vs. underground mine development Plant and metallurgy efficiencies, particularly in commodities that need to be separated out from by-products found in the same ore body e.g. PGE
Logistics, particularly when a mine is located in a remote region
Management record in developing projects to production stage
Environmental issues that demand increasing amounts of company time and resource, covering not only the physical environment (where actual legislation will govern company requirements) but also the socio-cultural component (where local communities are capable of stalling potentially viable ventures if their concerns are not addressed)
Section D- Financial and Valuation issues
Finally, Section D looks at the financial and valuation issues associated with understanding junior miners. It outlines accepted industry definitions for cash cost statistics, plus further items that should be realistically added on top, given the nature of the junior mining company i.e. essential capital expenditure required to ensure ongoing mining, plus financing costs. It points to areas of economic sensitivity that investors should probe i.e. by product credits; currency sensitivity with all commodity revenues designated in US dollars; cost escalation assumptions over the life of the mine, including possible change to royalty regimes.
Revenue projections for mining companies are clearly more complex than for UK-based industrial group, as they will depend on commodity price forecasts (spot or long term?), production forecasts, which may still be dependent on developmental timelines in early stage miners and currency fluctuations.
It is essential for investors to interrogate company management on their assumptions underlying both the cost and revenue sides of the profitability equation, as the robustness of this data will in turn affect the integrity of any valuation approaches adopted - ranging from the very blunt instrument of “ounces in the ground” to NPV. As the graph above shows, the risk to investors is highest in early stage development of a mine, where data is anything but robust, and mispricing can occur.
Unfortunately, no “holy grail” valuation methods exist to eliminate this risk, as interpretation of much of the early stage data is a specialist, and somewhat subjective, domain. But most standard methods can be enhanced by applying probability of outcome weightings to various factors. The content of this document aims to give investors the information and questions to ask, to enable them to assign their own probabilities to the successful outcome of a mining development.
In the final analysis, such success or value creation will depend overwhelmingly on:
- Large mineralisation and reserves, with potential “blue sky”
- Good convertibility of resources to reserves
- Downstream technical and economic viability
- Management team’s ability and track record in operations
- Security of tenure, taxation and other political and fiscal issues
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