here's how you value any gold project
The mining industry is a fascinating space not only for the fact that almost everything around us comes from mining but also because of the possibility of striking gold with penny stocks that have the potential to turn into a multi-million dollar mine-producing company. But just as much as there is the possibility of blue sky upside, risk is around every bend even after the mining company has started production, which is why it is crucial to know how to value a mine instead of blindly investing in them.
Many investors and economic enthusiasts are obsessed with gold, but it is hard to break into understanding how one would go about valuing a mine because of a lot of technical jargon. But heres something outsiders dont know every mining company starts out as a cookie cutter of another. For example, how you value a mine is essentially the same, mining executives bounce around companies such that they are all familiar names, and even corporate presentations follow a certain template. Knowing this already is a huge advantage when learning how to value a mining company. In other words, mining is seemingly a mysterious industry, but once you are equipped with the minimal essential knowledge of how to value a mine, you pretty much know 80% of what you need to know.
We are going over everyones favorite: GOLD. Keep reading and youll find that its pretty simple, and once you learn these step-by-step guide, you might just become addicted to valuing more. Lets get started.
(Presumably, you already have a company in mind that you want to value, but if you dont, the best free resource for finding one amongst a sea of mining companies is 24hgold but you have to pay to view more than 3 searches. Another tool thats free is simply googling gold mining feasibility study and limit search results to the last 6 months.)
Every mine that goes into production has a technical report written by geologists and engineers. This report is called NI 43-101. They can be found on the companys website or in the SEDAR database for a Canadian mining company or on SEC EDGAR for a US mining company. The first page of the technical report will tell you the type of report, which basically means the stage of the mine. These stages are:
A PEA is a very early stage report that defines the resources but that is pretty much it. The probability of a mine with a PEA eventually going into production is very low (i.e. just because a mine has a PEA, it does not mean its sure to become a mine). The next progression after a PEA is a pre-feasibility study, which has a 10%-30% chance of the mine going into production down the road. It defines the resources with more confidence and discusses the possible economics of the mine (i.e. how much capital costs might go into developing the mine, which is determined by the annual production capacity that makes sense for this particular mine, etc.). The next step after a pre-feasibility study is a feasibility study, which is the most advanced stage of the mine before construction and development begins. It is a more detailed report than the pre-feasibility study with a higher certainty of its assumptions being met. Aside from the majority of the report being a technical assessment, it is essentially a detailed business plan.
By the way, each stage takes years. After a PEA is issued, most likely it will take 2-3 years before a pre-feasibility study and then another 1.5-2 years for a feasibility study. Then anywhere from 1year-never for the permitting process. And finally once you have all the ducks in a row, another 2-3 years for construction and development. In other words, it takes anywhere from 6-10 years before a mine starts producing from the time a PEA is issued. (Note that there is a variance to this time frame depending on many factors. Most notably, a smaller mine in an already mining prolific town where it is easy to get permitting may shave off a couple of years or a big, complicated mine in a politically unstable environment or where there are indigenous protests, may take north of 10 years.)
As I said before, there is a lot of technical jargon to understand in mining. And a technical report can be hundreds of pages long. But from my many years of valuing mining companies, you just need to extract the necessary info to value a mine. (Of course, the more of a technical expert you are, the more you can understand the viability of the mine, but most of us arent going back to school to get a geology or engineering degree, I dont think.) So, what to extract from a technical report:
A feasibility is usually optimistic in the permitting process, the length of time for construction and development phase and the pre-production phase. So, I would add 1-2 years to the mine start year that the feasibility study lays out. If the company has already made significant plans to develop the mine after the feasibility study has been issued, you can often find in their annual or quarterly reports or press releases when they expect production to start. *Note that before full capacity production, the company tests the processing and optimizes the plant. This phase is pre-production and the very first gold produced is called a gold pour. We are looking for the year in which commercial production starts.
By the time a feasibility study is written on a mine, the resources are reported with a high degree of certainty. These are called Proven & Probable Reserves. Each category of reserves or resources tells you the degree of certainty that the stated minerals are indeed there and mineable. If youre trying to value a mine that only has a PEA, you may only see Inferred Resources. This is kind of a stick your finger in the air and guess how much mineral might be contained in the ore. Well, maybe a little more certain than that. The general rule-of-thumb in converting each category of stated reserves & resources into mineable minerals is:
In my valuation model, Im going to cap the number of ounces produced by the mine at 90% of 1.96 million ounces or 90% of 21.7 million tonnes which is 19.5Mt. Note the grade of 2.8g/t of gold (Au) in the table. Were going to use this number below.
Note that Tonnes is the ore (or the actual raw rock) that is mined and processed, Grade is how much gold is contained in the ore, and the Ounces is the resulting number of gold in ounces. The formula is very simple. It helps us figure out the production rate (discussed in the next section):
Under the Economic Analysis section, the feasibility study will lay out the plant throughput. The plant throughput is how much ore (the raw rock) is mined and processed to extract the gold. This is where the grade calculation from above is used. In the Kalana Mine feasibility study, the plant throughput rate is 1.5 million tonnes per annum:
And to convert the 1.5Mt of ore processed each year, using the formula stated above, we multiply it by the grade of 2.8g/t from the reserves table above. That will give us 4.2 million grams. Gold is expressed in troy ounces, so 4.2 million grams is then divided by 31.1035 to result in 135k ounces.
Once gold is extracted through the plant at the gold grade, the gold gets further processed to become refined. The Kalana Mine feasibility study states that the Life of Mine (LOM) gold recovery rate is 92.7%, which is extremely optimistic. But for the purpose of this valuation, we will use this number (and because we can always change this assumption later). We simply multiply this to the gold produced to get the refined, recovered gold of 125.2k ounces per year.
the cost of producing an ounce of gold | american bullion
Although gold has been used as jewelry and currency for thousands of years, it also has many other uses. For instance, many electronics and medical appliances use gold for its excellent and durable conductive properties. Investors and banks also hold onto gold as a loose form of commercial insurance against dramatic economic events. Individuals, businesses, and governments continue to clamor for more gold. Gold reserves are finite, and pulling new gold out of the ground can be very expensive. In fact, it is common to hear industry insiders cite $1,200 as the all-in cost for mining a single ounce of gold.
In the 1990s, mining companies picked up the habit of reporting cash costs on their financial statements. This is a non-GAAP and non-IFRS measure that combines the costs of mining gold and the costs of complying, bringing gold to market, and selling it.
However, cash costs ignore the expenses associated with sustaining capital equipment, as well as general and administrative expenses.
To more accurately relay the true expenses of production, the World Gold Council developed a new measure: all-in sustaining costs. This measure does not leave out as many associated costs, but it can be easy for a company to exaggerate or play accounting tricks to make its margins appear smaller or larger than they actually are.
The practical, regulatory, and security costs associated with gold production can vary dramatically from region to region. The most expensive place in the world to mine gold is in South Africa. There, all-in gold production costs can be more than twice as much as in Peru, which is the least expensive place to mine gold. According to the Thomson Reuters GFMS Gold Mine Economics Service, average all-in costs for South Africa were over $1,400 between 2005 and 2013. Compare that to less than $700 in Peru, approximately $850 in the United States, $1,100 in China, and $1,200 in Australia.
South African gold mines are relatively insecure, mainly because South Africa remains a relatively dangerous place to conduct business. Companies there may have to hire additional security because the region lacks the property rights protection, police presence, and just legal systems of more developed regions.
This is where exploratory drilling and extensive geochemical analysis take place. Once a potential spot is identified, gold companies often need to halt the process until the local authority grants an exploration license (along with other approvals and/or studies).
The stage where a gold mining company prepares the new site for construction. New buildings, roads, and mining apparatus need building. Sometimes, old buildings or structures need clearing out before construction begins. This process can last for years.
Rehabilitation rules vary from location to location, but nearly all modern gold excavation sites must be restored to pre-exploration conditions or at least as close as possible, within reason. Rehabilitating a gold mine can be very expensive.
The last stage involves an assessment by the local authorities. If the government believes the company has done enough to return the site to a natural state, the company many relinquish its lease, tenure, and liability for the area.
During large chunks of the 20th century, the worlds central banks were net suppliers of gold. After spending their early history accumulating gold to back up national currencies, central banks sold more gold than they purchased after the U.S. dollar became the de facto world reserve currency under the Bretton Woods Agreement.
According to the United States Geological Survey, the worlds largest share of minable gold reserves lie in Australiamore than 9,000 tonnes, or almost 20% of known global reserves. Other notable reserves exist in South Africa, Russia, Chile, Indonesia, the United States, and Brazil.
When it comes to harvesting gold, however, no country is more proactive than China. Despite having just the ninth-largest known gold reserves (a little more than 3% of the global supply), China produces 12-15% of all the worlds new gold each year.
Gold is a rare element, and much of the worlds supply of easily attainable gold was picked up, mined, and prospected long ago. Even though mining efforts are much more sophisticated than they used to be, finding new sources of goldand cost-effectively mining themgrows more challenging each year.
Although the information in this commentary has been obtained from sources believed to be reliable, American Bullion does not guarantee its accuracy and such information may be incomplete or condensed. The opinions expressed are subject to change without notice. American Bullion will not be liable for any errors or omissions in this information nor for the availability of this information. All content provided on this blog is for informational purposes only and should not be used to make buy or sell decisions for any type of precious metals.
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