DraftGuidelinesfor

TechnicalEconomicEvaluationof
MineralsIndustryProjects

TheAusIMM
Level3,1531PelhamStreet
CarltonVictoriaAustralia3053
PostalAddress:
POBox660CarltonSouth
VictoriaAustralia3053
Telephone:+61396623166
Email:ceo@ausimm.com.au
WebPage:http://www.ausimm.com
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 TableofContents
1 INTRODUCTION...............................................................................................................................6

2 GUIDELINESFORSPREADSHEETMODELLING...............................................................................10

2.1 Purpose .................................................................................................................................10

2.2 KeyPrinciples ........................................................................................................................10

2.3 Easytofollow ........................................................................................................................10

2.3.1 IntuitiveandVisual .......................................................................................................10

2.3.2 Timetodoitproperly ...................................................................................................11

2.3.3 Architecture:WorkbookLayout....................................................................................12

2.3.4 WorksheetLayout.........................................................................................................12

2.3.5 ModularConstruction...................................................................................................13

2.4 TailoredtoPurpose ..............................................................................................................14

2.4.1 Sizeandcomplexity.......................................................................................................14

2.4.2 Minimalistassimpleasappropriate...........................................................................14

2.4.3 Matchingdetailandcontentwithitsimportance ........................................................15

2.4.4 MatchingDataandCalculations ...................................................................................16

2.4.5 DirectinvolvementofProjectTeammembers.............................................................17

2.4.6 HelicopterView.............................................................................................................17

2.5 Transparent...........................................................................................................................17

2.5.1 Thecompleteevaluationflowslikeasimplestorybook..............................................17

2.5.2 Inputdataisexposed ....................................................................................................18

2.5.3 Dubiousdataishighlighted...........................................................................................18

2.5.4 Sourceofdataisrecorded ............................................................................................18

2.5.5 Algorithmsflowvisually ................................................................................................19

2.5.6 Languageinfull .............................................................................................................19

2.5.7 Referencingotherworkbooksisavoided. ....................................................................20

 2.6 Disciplined,RigorousandConsistent...................................................................................20

2.6.1 Trustwhatisseen .........................................................................................................20

2.6.2 DisciplineandRigour.....................................................................................................21

2.6.3 AggregatesandTotals...................................................................................................21

2.6.4 ColumnHeadings ..........................................................................................................21

2.6.5 ReadymadeModelsandWorkedExamples ................................................................21

2.6.6 LogofChangesandModelVersions .............................................................................21

2.7 RecordingSourcesofAllData...............................................................................................22

2.7.1 Rownotesofthesourceofthedata ............................................................................22

2.8 RapidtoAudit .......................................................................................................................23

2.8.1 Speed.............................................................................................................................23

2.8.2 ProcessofAudit ............................................................................................................23

2.8.3 AuditingReportsbasedontheEvaluation....................................................................23

2.8.4 AuditingMechanisms....................................................................................................23

3 GUIDELINESFORECONOMICEVALUATION ..................................................................................25

3.1 Purpose .................................................................................................................................25

3.2 Context..................................................................................................................................25

3.2.1 TheoryandComputationofNPV,IRRandRisk ............................................................25

3.2.2 EconomicEvaluationandFinancialModelling..............................................................25

3.2.3 EvaluationandValuation ..............................................................................................25

3.2.4 StandAloneorIncrementalValue ................................................................................26

3.2.5 StandAlone,Synergies,UsingTaxLosses .....................................................................26

3.2.6 Gearing(Debt)...............................................................................................................27

3.2.7 ExpectedValuesandResults.........................................................................................27

3.2.8 Alternatives ................................................................................................................... 27

3.2.9 RangesandLikelihoods/SensitivityAnalysis ...............................................................28

3.2.10 InputDataQualityAssessment.....................................................................................28

 3.2.11 RealandNominal ..........................................................................................................29

3.2.12 LifeoftheEvaluation ....................................................................................................29

3.2.13 AfterTax........................................................................................................................30

3.2.14 RiskandUncertainty .....................................................................................................31

3.2.15 Materiality.....................................................................................................................32

3.2.16 EvaluationFramework ..................................................................................................33

3.3 Process ..................................................................................................................................34

3.3.1 ProductPrices,TreatmentandRefiningCharges,andForeignExchangeForecasts....34

3.3.2 Sales:Volumes,qualities,workingstocks/capital. .......................................................34

3.3.3 Production:Volumes,headgrades,recoveries,productgrade,delivery.....................35

3.3.4 CapitalCosts..................................................................................................................35

3.3.5 OperatingCosts.............................................................................................................37

3.3.6 ClosureCosts.................................................................................................................38

3.3.7 Taxes(directcompanyleveltaxes)andCarbonCosts..................................................39

3.3.8 DiscountRate ................................................................................................................40

3.3.9 Auditing.........................................................................................................................40

3.3.10 Graphs ...........................................................................................................................41

3.3.11 HelicopterView.............................................................................................................42

3.3.12 Avoid .............................................................................................................................42

3.4 AlternativeEvaluationandAssessmentMethodologies ......................................................43

3.4.1 RealOptionsValuation(ROV) .......................................................................................43

3.4.2 ValueatRisk(VaR) ........................................................................................................44

APPENDIXAWORKEDEXAMPLE........................................................................................................45

ExampleofaSummarypage.........................................................................................................45

ExampleofanExistingCasesheet ................................................................................................46

ExampleofanAlternativecasesheet...........................................................................................48

FinancialAnalysis ..........................................................................................................................49

APPENDIXBINTRODUCTIONTODISCOUNTRATES...........................................................................51

WeightedAverageCostofCapital ....................................................................................................51

TheCapitalAssetPricingModel(derivingtheCostofEquity) .........................................................52

AccountingforInflation ....................................................................................................................54

DiscountRatesandNPVsRealandNominal,BeforeandAfterTax ..............................................54

AdditionstoDiscountRates..............................................................................................................55

FinancingCashFlows ........................................................................................................................56

DiscountRatesinOtherValuationMethodologies ..........................................................................56

ConcludingComments ......................................................................................................................57

APPENDIXCRECOMMENDEDREADINGLIST........................................................................................59

APPENDIXDTECHNICALECONOMICEVALUATIONGUIDELINESCOMMITTEEMEMBERS...................60

1 INTRODUCTION
TheAustralasianInstituteofMiningandMetallurgy(TheAusIMM)istheleadingorganisation
representingtechnicalmineralssectorprofessionalsintheAustralasianRegion.Membersarebound
byaCodeofEthics,andcontinualimprovementofprofessionalandindustrystandardswithinthe
sectorinwhichtheywork.

Thestandardsandpracticesemployedintheprocessofevaluatingprojects,theapplicationof
economicstyledvaluationtechniquesand,byimplication,thespreadsheetmodellingprotocols
applied,areanareawhichisofconcerntomembersandtheindustrygenerally.Thereisa
compellingcaseforthedevelopmentofhandsonguidelinesforthesepractices.Althoughmany
ofthemajormininghouseshavedevelopedinternalguidelinesandprotocols(somemandated),
noneexistgenerallywithintheminingindustry.ThedevelopmentofguidelinesforTechnical
EconomicEvaluationisseenasbeneficialastheeconomicevaluationofprojectsandbusiness
opportunitiesisaregularfeatureinoursector.Also,coupledwithsuchassessmentsarenumerous
technicalassumptionsaroundgeology,miningandmetallurgicalparametersalongwithan
expectationofaccuratemodellingandapplicationoftheDiscountedCashFlowvaluation
methodology.Theconsiderationoftheseitemsisofteninthehandsoftheanalystandprojectteam
immediatelyundertakingtheevaluationwithnoreferencetoanindustrystandardaimedat
providingguidanceonthesecombinedtasks.

Consequently,TheAusIMMhasundertakentoassisttheminingindustryinestablishingstandards
andpracticesforthetechnicaleconomicevaluationofmines,projects,processesandbusinesses.
TheAusIMMDraftGuidelinesforTechnicalEconomicEvaluationofMineralsIndustryProjects
representsacollationofsoundpracticesthatcompetentpractitionersineconomicevaluationhave
cometoovertheyears,andcoverwhatisconsideredgoodpracticeinbothspreadsheetmodelling
andtechnicaleconomicevaluation.ThedocumentthusincludesasectionspecificallyonGuidelines
forSpreadsheetModellingaswellasGuidelinesforTechnicalEvaluation.Appendicesprovide
workedexamplesandabriefintroductiontodiscountratesfortheinformationoftechnicalanalysts
whodonothavefinancialtraining.

Itisintendedthatthisversionshouldbeaworkingtrialdocumentforuseandroadtestingover
thenexteightmonthstoenableaswideapracticalreviewaspossibleofitssuitabilityassetof
BestPracticeGuidelinesinthisimportantareaofprofessionalpractice.Itisthenintendedthat
feedbackreceivedduringthistestingperiodbeusedtopreparearefinedandupgradedversionfor
publicationbyTheAusIMM.

ShouldtheGuidelinesproceedtofinalpublication,theirusebymembersandcompanieswilla
matterforprofessionaljudgement;theyareintendedtoserveasaguideforbestpracticerather
thanaCode.Theultimategoalisforconsistencyofpracticeandtoensurethedeliveryofhigher
qualityeconomicevaluationandmodellingoutcomesacrosstheindustry.Thefinalversionofthe
guidelinesareintendedtobeadvisoryandeducative,notmandatory.

MakingaSubmission

Commentsandsubmissionscanbelodgedoverthenexteightmonthsviaemailorpostbefore
Fridaythe25thFebruary2011.

Pleasedirectyourcommentsto:

MonikaSarder
Manager,PolicyandProfessionalStandards
TheAusIMM
POBox660CarltonSouth
VictoriaAustralia3053
msarder@ausimm.com.au

ForadditionalinformationpleasecontactMonikaSarderatmsarder@ausimm.com.auor039662
3166.

WhattheseGuidelinesareandarenotintendedtodo

DuringthecourseofthepreparationoftheseGuidelines,inputsandcommentshavebeenreceived
fromnumerouspeople,bothonandfromoutsidetheCommittee.Manyoftheseareclearly
influencedbythepersonsroleintheindustry,includingtechnicalpractitioners,financiers,and
academics.SomeindicatestrongfeelingsabouttopicsthatshouldbeintheGuidelines.The
Committeehasreviewedallofthese,andbelievesitisimportanttosetoutthecurrentphilosophy
underlyingtheGuidelines,andhencewhycertaintopicshavebeenincluded,butperhapsmore
importantly,excluded,fromthisdraft.

TheGuidelinesare,asthetitlestates,fortechnicaleconomicevaluation.Theyareprimarilydirected
atananalystorevaluatorwithatechnical,ratherthanfinancial,background.Theywilltypicallybe
appliedforawiderangeofprojects,rangingfrom,forexample,thejustificationofthepurchaseofa
pieceofcapitalequipmentbyarelativelyjuniorengineeronaminesite,totheevaluationofa
completeprojectorproperty,leadingtodecisionstoproceedwithdevelopment,ortobuyorsell,by
ateamofspecialistsinvariousfields,manyofwhichwillbetechnical,andwhichwilltypicallybeled
byapersonwithatechnicalratherthanafinancialoreconomicbackground.

Theprimaryfocusisonthetechnicaleconomicevaluation,whichisintendedtoidentifytheviability
ofaprojectinitsownright,independentlyofanydecisionsastohowitmightbefinanced.Formany
projects,suchastheonsiteevaluationofproposedcapitalexpenditure,financingconsiderations
willneverbeanissuetheywillbefullyaccountedforinthespecifieddiscountrate.Inprojectsat
theotherendofthescale,suchastheproposeddevelopment,constructionandoperationofalarge
newmine,financingmaybecrucial:financiersshouldbeincludedintheteamandfinancing
considerationsshouldbeincludedinthedevelopmentoftheevaluationassoonaspracticable.
TheseGuidelineshoweverarenotdealingwiththedetailsoffinancingaspectsofsuchprojectsand
evaluations,otherthantoidentifythat,dependingonthenatureoftheprojectbeingevaluated,
suchconsiderationsmayexist;thatifsotheyneedtobeaccountedfor;andthatthesamesortof
processandrigourappliedtothetechnicalandeconomicaspectsoftheevaluationshouldbe
similarlyappliedtothefinancingaspects.

TheGuidelinesarenotdealingwithwhatonemighttermtheengineeringaspectsoftheproject:
thelevelofaccuracyoftheevaluation;themethodsofderivingvariousphysicalinputssuchas
constructionquantities,orereserves,andmineschedules;andsourcesofcostinformation.Neither
aretheydealingwith,forexample,thevariousalternativetreatmentsofsuchthingsastaxesin
variousjurisdictionsanddepreciation,northemechanicsoftheircalculations.Itisimplicitthatall
inputsandcalculationswillneedtobedonewiththedegreeofprocess,skill,anddetailappropriate
forthelevelofaccuracyofthestudybeingundertaken.Thetechnicaleconomicevaluationisbuta
partofthetotalstudy,albeitaveryimportantpartthatinonesensepullsallthevariousnon
financingactivitiestogether.

TheGuidelinesarealsonotdealingwiththeunderlyingtheoryofdiscountedcashflowtechniques,
norwiththeappropriatenessorimplicitassumptionsunderlyingtheuseofparticularvalue
measuressuchasNetPresentValue,InternalRateofReturn,andEquivalentAnnualValue.Thereare
numeroustextbooksandcoursesthatdealwiththeseissuesandtheGuidelinesarenotintendedto
replicateorreplacethese.
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TheexclusionofthesemattersfromtheGuidelinesisnotinanywayintendedtodownplaytheir
importance.Theyshouldbeunderstoodandappliedoraccountedforatthelevelofdetail
appropriateforthelevelofstudybeingundertaken.However,ifthereissufficientdemandfrom
usersoftheGuidelines,suchmatterscanofcoursebeincludedinlaterversions.

2 GUIDELINESFORSPREADSHEETMODELLING

2.1 Purpose

TheGuidelinesforSpreadsheetModellingoutlinethekeyprinciplesandmechanicsthatshouldbe
adopted,notonlyforeconomicevaluationmodelling,butalsoascurrentBestPracticeGuidelines
withinourindustryforanyspreadsheetmodellingexercises.Itisrecommendedthatthese
GuidelinesareappliedbyCompanies,Organisations,ConsultantsandIndividualswhilstrecognising
thattheiradoptionisvoluntaryandnotstrictlymandated.Workedexamplesthatservetoillustrate
theseprinciplesandthemechanics(alongwiththosefortheGuidelinesforEconomicEvaluation)are
providedinAppendixA.

ThefollowingdiscussionusestheterminologyandnomenclatureusedbyMicrosoftExcelTM,whichis
thesoftwareusedalmostuniversallybyindustrypractitioners.Thesameprinciples,however,apply
regardlessofthesoftwareused.

2.2 KeyPrinciples
Thekeyprinciplesoneshouldadheretowhenspreadsheetmodellingaresimplebutextremely
effective.Theyare:

Easytofollow

TailoredtoPurpose

Transparent

Disciplined,Rigorous,andConsistent

RecordingSourcesofAllData

RapidtoAudit

2.3 Easytofollow

2.3.1 IntuitiveandVisual
Ifyoucannotreadilyunderstandmymodelyoudonothaveaproblem,Ido!

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Apersonunfamiliarwiththebusinessshouldbeabletoreceivetheevaluationmodelbyemailand
beabletoreadilyunderstandandfollowtheevaluationfrombeginningtoend.

Thewholeworkbookshouldhaveanobviousvisualflowfromlefttoright,acrosslabelled
worksheets,anddowneachworksheet.

Withineachworksheet,thecolumnsandrowsshouldhaveobviousvisualflowsjustlikea
simpletextbook.

Thetitlesandsubtitlesusedineachsheetshouldcascadelikeonewouldseeinacontents
page.

Theworkbookshouldbeginwithabriefintroductionwhichexplainsthepurposeand
contextofthedocumentandhowtointerprettheformattingforfasterunderstanding.

Eachworksheetshouldhaveitsboldheadingfollowedbyanoutlineofitspurposeandits
broadlinkswithotherworksheets.Sectionswithineachworksheetarediscrete,with
obviousinputs,computations,outputsandgraphs.

Everycellshouldadhererigidlytotheformattingconventionandsocanbeinterpreted
visually.

Thisprincipleshouldnotbeseenasarequirementtodumbdownamodelofcomplex
processes.

Notehoweverthatintuitionincomplexsystemsmaycomefromexperienceofwhatis
merelyconventional.Unusualmodellingtechniquesthatsimplifythemodellingprocess,or
makeitmorepowerfulorrobust,maybeunintuitiveandrequireexplanation.

2.3.2 Timetodoitproperly
"Likepaintingaroomathomeitis90%preparation."

Timeshouldbetakentounderstandtheactivitybeingmodelledfromrawmaterialinputs
tofinishedproductoutputs,beitabusinessactivity,atechnicalactivityoranintellectual
activity.

Theevaluationmodelshouldbebuiltspeedilybutcarefullyandmethodically,rigorously
usingthemodellingpractices,soastobeeasytofollowandmakinganyerrorsrecognisable
duringaquickaudit.

Shortcuttingofmodellingpracticesfrequentlyproduceshiddenerrorsbecausethereis
inadequatetransparency,consistencyandrigour.

Beforeanyresultsarereleased,graphsshouldbegeneratedofthekeyinputsandresultsas
essentialchecks.

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 Beforeanyresultsarereleasedthemodelshouldbeproperlyauditedinternally,thenby
anexternalparty.

2.3.3 Architecture:WorkbookLayout
Thewholemodelshouldbeintuitive,eventoanonexpert,sothatitsstructureisobviousand
navigationaroundthepartsofthemodelisrapid.

Thereshouldbecompleteflexibilityinthewaythemodelisstructured.Somemodelswill
evolvefromoneworksheettomultipleworksheetsasmoredetailedmodellingisjustified.

Theflowofmultipleworksheetsshouldbealogicalsequencefromlefttoright.Each
Worksheethasatabnamethatshowsitspurpose.

Usuallythemodelshouldbesavedsothatitopensatthetopofthefirstworksheet,where
thereisabriefdescriptionof:

1. Thepurposeofthemodel,

2. Contactdetailsoftheauthorandusers,

3. Thedirectorylocationwhereitissecurelystored,

4. TheModelsarchitecture,

5. Anywarningsorlimitations,

6. Auditscompleted,

7. Themodellingpractices/formatting,and

8. Listallothermodelsthatareusedforinputsorthataredirectlylinked.

Themodelshouldincludeasummaryofresultsandkeyinputsinnumericandgraphicforms.
Themodellingmaycommenceunderthatsummarybutmorecommonlyonsubsequent
worksheets.

2.3.4 WorksheetLayout
Anonexpertshouldreadilyunderstandthefunctionofeachworksheet,howitisarrangedinto
componentparts,howthedataisentered,thecomputations,andtherelativeimportanceofthe
parts.

Thevisualflowdownandacrosseachworksheetshouldbeintuitiveandlogical.

Eachworksheetshouldhaveaboldheadingfollowedbyabriefoutlineofitspurpose,and
wherehelpful,itsimportantlinkswithotherworksheets.

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 Sectionswithineachworksheetshouldbeindiscreteworkblocks,withobvioussubsections
andsubheadingsusingacascadinglayoutforsubtitles.

Visuallyeachworkblockshouldbeselfcontainedwithanobviousstepbystepdevelopment
towardaboldsubtotalforthatworkblock.

Theseparateworkblocksshouldbeinalogicalsequencedownandacrosstheworksheet
andtheiraggregationisobvious.

Complexandextendedcomputationsshouldbeshowninaseriesofsmallstepssothatthe
logicisvisibleandtheinputparametersareobvious.Thereisnoneedtointerrogatethe
algorithm.Explainthelogicofcomplexalgorithmsinanote.

Usuallyifarowofdatathathasalreadybeenpresentedaboveisneededagaininawork
blockthentheentirerowshouldberepeatedsothatthereisvisualflowofthelogic.If
referencedfromanotherworksheetthenitshouldbecolouredcoded.

Keyinputsandresultsshouldbeshowningraphsasaselfcheckandforrapidunderstanding.

TheDataGroupandOutlinefacilitycanbeusedtodefineworksheetstructure,collapse
relatedgroupsofrowsorcolumnstoreducevisualclutter,andaidnavigation.

Eachworksheetshouldhaveaheaderand/orfootersothesource,date,etccanbe
identifiedwhenlookingathardcopies.

2.3.5 ModularConstruction
Asmuchaspossible,themodelshouldbeconstructedasmodules,eachhavingaclearsetofinputs,
calculations,andoutputsthatareusedinvariousothercalculationsdownstream,orpresentedas
finalresults.

Thegeneralprincipleis:onlycalculatesomethingonce,thenusethatoneresultinallother
placeswhereitisrequired.

Modularconstructionandcalculatingsomethingoncefacilitateslatermodificationstothe
modelchangesneedonlybemadeinoneplace,ratherthanhavingtosearchthroughthe
modeltofindallplaceswherethesameparametershavebeencalculated.

Thetestingofsmallindependentmodulesfacilitateserrorcheckingandauditing.

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2.4 TailoredtoPurpose
Thepurposeoftheevaluationwilldetermineamongstotherthingstheparametersthatmustbe
investigated,andhencethemodellogicnecessarytohandlechangestothoseparametersinthe
evaluationmodel.Modelswherefrontendphysicals(egminingandmillfeedschedules)arefixed
orspecifiedexternallymayberelativelysimpletoconstruct.Metallurgicalperformancedatawill
drivecalculationsofproducts,andhencerevenues,andcostsmayberelativelysimplyderivedfrom
thephysicalquantities.Ifontheotherhandthemodelmustbeabletoflexsuchthingsascutoff
grades,miningandmillingratesandthetimingofupgradestothese,andsoon,morecomplexdata
structuresandschedulingalgorithmswillberequired.Morecomplexcostmodelsmayalsobe
requiredtoaccountforchangesinratiosofvariousphysicalquantitiesthatareimplicitlyfixedin
simplercostmodelsforasingleminingschedule.

2.4.1 Sizeandcomplexity
Greatersophisticationandmathematicalcomplexitydoesnotautomaticallydeliverabettermodel.

Somemajordecisions,synthesesandriskscanbeevaluatedwithsmall,simplemodels,
whereassomeminorinvestigations/synthesesrequireelaboratemathematicalmodelling.

Whenmakingadecisionregardingsizeandcomplexityconsiderwhetherworkingata
conceptual,prefeasibility,orfeasibilitylevelofdetail,andhenceitsmateriality.

Complexmodelsmayberequiredforsometasks.

Increasingcomplexitydecreasesthemodelsuniversalappeal,includingitsauditability.

Wherealongandcomplexmodelisrequireditshouldbemadeeasytofollow.

Intellectualprowessshouldbeusedtotransformcomplexityintosmallsteps.

Modellingshouldproceedasaseriesofvisuallyeasytofollowstepsratherthanusing
complexalgorithmsandinbuiltsoftwarefunctions.

Modelsshouldtakethereaderthroughthelogicprocessinsmallstepsratherthanusinga
trustmymodellingapproachinasinglecellorcomplexalgorithm/function.

Itshouldbenotedthatthereisalevelofdetailandcomplexitynecessarytogetagood
outcome,butamoredetailedlevelofanalysismayberequiredtoprovethatitisgood,
particularlywhereresultsarecounterintuitiveorunexpected.

2.4.2 Minimalistassimpleasappropriate
Eachevaluationshouldbeginwiththethoughtofhavingtheentireactivitysensibly
representedinoneworksheet.

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 Asthemodelmaturesandexpandsonlyonemainmodeliscurrent.Thisshouldhandleall
thevariations.Thereshouldnotbemultipleversionsofthesamemodelfordifferent
scenarios.

Itmaybeusefultohavestandalonesubmodelsthatevaluatesubordinateissues.Once
resolvedtheoutcomeshouldbeincorporatedintothemainmodel.

Inacomplexmodelitmaybehelpfultohaveadiagraminthefrontsheetshowinghowthe
modelssheetsinteractandflow.

Modelsshouldbecommencedasminimalist.Computationsshouldnotbeincludedincase
theymaybeneededinthefuture.However,aspartoftheoverallprojectspecification,
modelcapabilitiesthatmightbeneededshouldbeidentifiedatthestartoftheprojectand
themodelconstructedinsuchawaythattheyarenotprecludedandcanbeeasilyadded
laterifrequired.

Complexityanddetailmaybeintroducedwhentheextrarowsofcomputationsarejustified.

Computations,whereused,shouldbesteppedoutrowbyrowwithoutskippingobvious
steps.Themodellershouldavoidoverlylengthyformulaewherepossiblesoastomakethe
modeleasiertounderstandandfollow.

Computationsshouldalsonotbeovercomplicatedbymixingmultipleactivities,e.g.having
amathematicalformulathatmodelstheprocessandalsoincludesachangeinunits.

Someresultsmaybecomputedtosufficientprecisionusingsimpleapproximations.For
example:

o Operatingcostsmaybesimplefixedandvariableuntiladetailedbottomup
computationiswarranted.

o Mineralconcentratepricesmaybebettercomputedasapercentageofcontained
valuesratherthanusingthedetailofcomplexhistoricalpricingmechanisms.

However,caremustbeexercised,assimplerelationshipswilltypicallyhaveasmaller
rangeofvaliditythanmorecomplexrelationships,whichmaylimittherangeofsensitivity
analysesthatcanbevalidlyconducted.Thelimitsofthevalidityofsimplerelationships
shouldbeascertainedandclearlyspecifiedadjacenttoassociateddataitemsorcalculations.

2.4.3 Matchingdetailandcontentwithitsimportance
Computationsshouldbetailoredtomatchtheirimportance.

Thecomputationsthathavegreatestimpactontheresultshouldbegiventhemost
attention.

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 Thecomputationsofsecondaryandtertiaryimportanceshouldbegivenlesspriorityand
detail.

Computationsthatareafocusofaparticularpersonshouldnotbegivenundueattention,
forexampleworkingcapitalbyanaccountant.

Incometaxandworkingcapitalmaybeapproximatedinafewcoarsecomputations,rather
thantoaccountingdetail.

Accountingstatementsshouldbederivedfromthetechnicaleconomiccashflows,rather
thanviceversa.

Itisrecognisedthatsomekeydecisionmakersandinfluencersmayhavestronglyheld
theorieswhichmayneedtobeprovenordisprovenbyextraevaluationdetail.

Selectappropriatetimescalesforcalculationofphysicalquantities,cashflowsandreporting.
Thesemayallbedifferent.Thereisatradeoffbetweenaccuracy,complexityandmodelsize.

o Smalltimeincrements(e.g.daily,weekly,monthly)maybetoodetailedforthelevel
ofstudy,implyanaccuracythatdoesnotexist,andincreasethemodelsize
unnecessarily.

o Largetimeincrements(e.g.yearly)maybetoocoarseforsomepurposes,requiring
complexlogictohandleinteractionsbetweentimeperiods(e.g.ifthemodelis
generatingautomatedscheduleswithpredecessor/successorrelationships).

o Anintermediatetimeframe(e.g.quarterly,halfyearly)mayprovideagoodbalance
betweenthevariousconsiderations.

o Smallermodellingtimeincrementscanbeeasilysummarisedforfinalreportingof
results.

2.4.4 MatchingDataandCalculations
Createdataentryareasinalayoutthatmakesiteasyandnaturalfortheusertounderstand
andtoentertherightdataaccurately.

Ifnecessary,preprocesstheentereddatatoconvertunitsusedorintoadifferentformat
thatfacilitatesthedevelopmentofsimple,robust,errorfreemodellogic.

o Donotforcetheusertoenterdatainanunnaturalwaysimplytosuitthe
calculations.

o Donotdevelopcomplexlogicjustbecausethedataisenteredinaparticularway.

Docalculationsinnaturalorunfactoredunitse.g.tonnes,dollarsetc(thisdoesnotaffect
calculationtimeorinternalprecisionoffloatingpointcalculations).

16

 o Usegradesandrecoveriesasdecimalfractions(valuesbetween0and1),notas
percentages(valuesbetween0and100).Makeuseofthespreadsheetsnumber
formattingfeaturesandstylestodisplaypercentages.

o Avoidmultiplyinganddividingby1000,1000000etcinthebodyofthemodel.Thisis
errorproneandaddsunnecessarycomputations.Makeuseofthespreadsheets
numberformattingfeaturesandstylestoroundthedisplaytoshowthousands,
millions,etc.

o Preprocessrawdataoncebytheseunitand/orscalingconversionfactorsif
necessarybeforefurtheruseinthemodel.

Ifexportingresultstoanothermodel,createanexportworksheetintheformatrequiredby
thatmodel,anddoanyunitorscalingconversionsnecessary(topercentages,thousands,
millionsetc)whenpopulatingtheexportsheet.

2.4.5 DirectinvolvementofProjectTeammembers
KeyTeammembersmayassistwiththecreationofthemodelintheirareasofexpertise.

Theirenthusiasmforlotsofdetailtoreplicatetheintellectualchallengesoftheirspecial
areasistemperedbyandmatchedwiththerelativelevelofimportance.

Theyaudittheirownpartofthemodelandsocoownthemodel.

2.4.6 HelicopterView
Eachteammemberneedstogainaworkinghelicopterviewofthemodelling.Focusisgiventothe
areasthatmatterthemost.Workonintellectuallystimulatingbutminorissuescanbeminimised.

AsummarysectionwithgraphsofkeyassumptionsandresultsgivesTeamMembersand
Managementareadilyunderstoodoverview.

2.5 Transparent

2.5.1 Thecompleteevaluationflowslikeasimplestorybook
Bystartingatthetopofthefirstworksheetandreadingonscreenorprintingtotheendof
thelastworksheettheinexperienced,nonexpertshouldbeabletoreadilyfollowthelogic.

Nonexpertreadersshouldbeabletoreadilyunderstandhowthemodelworksandhowits
componentpartsfit.

17

 Thearchitectureandadherencetogood/recommendedmodellingpracticesshouldmake
theevaluationtransparent.

Itshouldbeeasytovisuallydistinguishbetween:

1. Inputofrawdata

2. Referencingofdatafromotherworksheets

3. Computations

4. Outputs

Everyworksheetandeverycellshouldhaveapurposeandgenesisthatisobviousonthe
screenandinprint.

2.5.2 Inputdataisexposed
Everypieceofinputdatashouldbeenteredinaninputcellbeforeitisusedinanalgorithm.

Noinputshouldbehiddeninanalgorithm,withthepossibleexceptionofeveryday
conversionssuchasdividingbythousandsorconvertingpoundstokilograms.However,itis
recommendedthatunitconversionfactorsalsobeenteredonce(preferablyinanamedcell),
andreferredtowhererequired.Thisavoidstypographicalerrorsorinconsistencies(e.g.the
numberofsignificantfiguresused)whenthesamefactorisenteredmultipletimesin
multiplelocations,andpotentiallyatdifferenttimesandbydifferentpeople.

Aspecificfontcolourshouldbeusedtoreadilyidentifydatainputs.Blueiscommonlyused.

AppropriateuseofControls(e.g.dropdownboxes,checkboxesetc)canshowtheranges
orspecificoptionsfordatavaluesandscenariosettingsthatmaybevalidlyusedinthe
model,andlimitentriestothese.

2.5.3 Dubiousdataishighlighted
Adistinctivecolourcodingshouldbeusedtohighlightinputdataorcomputationsthatare
dubiousorverypreliminary.Pinkmaybeused.

2.5.4 Sourceofdataisrecorded
Alldatasourcesshouldberecorded(seesection2.7).

Whererelevantincludeanumberofcolumnswithhistoricaldatafrompreviousyearsthis
willhelpdemonstratetheveracityofforecastdata.

18

2.5.5 Algorithmsflowvisually
Visuallythesequenceofcomputationsshouldflowlikeasimplestorybookdownand
acrossthespreadsheet.

Complexalgorithmsshouldbebrokenintoeasytofollowsteps.

Computationsshouldappearobviousandgenerallydonotrequireinterrogationofcells.

Anychangeorinconsistencyinasequenceofalgorithmsacrossarow(ordownacolumn)
shouldbehighlighted.

Linkstootherworkbookscanbedangerousbecausetheothermodelmaybealtered
withoutthechangebeingrecognised.Iflinkstootherworkbooksareused,thewhole
row/columnwithtitlesandlabelsshouldbereferencedacrosssothatcovertchangescanbe
seen.Thelinkedrowshouldbehighlightedincolour.

Macrosthatperformcalculationscannotbereadilyfollowedvisuallyorauditedand
generallyarenottrusted.

SomespreadsheetFunctionshaveahistoryofmisuseandcannotbeaudited,whereaslong
handcomputationscanbefollowedeasilyandvisually.

Multiplerecalculationsofthesamethingareavoided.

Ifcreatingnewlogicthatsupersedesexistinglogicinanoldmodel,itisrecommendedthe
modellereither:

o Labeltheoldlogicclearlyassuperseded,andpreferablymoveitawayfromthe
activelogic,e.g.tothebottomofthesheet,or

o Deletetheoldlogic,butlogthechange,identifyingthesupersededversionofthe
modelthatusedit.

2.5.6 Languageinfull
Unitsandtechnicalexpressionsshouldbeexpressedinfullatleastonceinamodel.
ConsiderusingalistofAbbreviationsoraGlossaryofTerms.Abbreviationssuchast,T,
mandMhavedifferentmeaningstodifferentpeoplesomeofwhicharenotconsistent
withinternationalstandards.ExamplesincludedrytonnesandwetshortTons.

Ifanalgorithmrequiresdatafromanotherworksheetthenthecompleterowisfirst
referencedacross,usuallyjustabovewhereitisneeded.

Everyrowthatisreferencedfromanotherworksheetisshowninadistinctivecolourcoding
andorfontstyle.

Thismeansthateveryalgorithmusesdataalreadyshowninitsownworksheet.Auditingan
algorithmwillnevershowdatathatislinkedfromanotherworksheet.

19

2.5.7 Referencingotherworkbooksisavoided.
Linkstoworksheetsinotherworkbooksshouldbetreatedwithextremecaution.Ifdoneit
shouldbeobvious,limitedtospecialsituations,anddonewithextremecare.Thewholerow
orcolumnorrectangularrangeshouldbelinkedacross.Adistinctivecellformatshould
highlightsuchimports.

Ideallythisshouldonlybedoneforimportingdatathatwillchangeinfrequently(ornotat
all),oftenpreprocessedintosuitabletablestructuresorsummariesforuseinthemodel.
(ExamplesmightincludetablesofOreReservesgeneratedfromdataextractedfrom
geologicalblockmodelsandmineplanningsoftware,orfixedandvariableunitcostsderived
fromdetailedcostrecords.)

Informationfromotherworkbooksshouldalwaysbeimporteddirectlyintocellssimilarto
dataentrycellswithnootherprocessing,andthenusedincalculationselsewhere.Formulas
inacellshouldneverbothimportdatafromanotherworkbookandperformsome
calculationonorwiththatexternalinformation.

Separateexternaldatafilesshouldbemaintainedforeachversionofsuchdata,linksfrom
themainmodelshouldbecarefullycheckedregularly.

Informationidentifyingthedataversionshouldbeimportedfromthelinkedworkbookas
wellasthedataitself,sothatitcanbeeasilyseenwhatisbeingusedwithouthavingtoedit
thelinkages.

Calculationlogicthatflowsfromoneworkbooktoanotherandbacktothefirstshouldbe
avoidedifatallpossible,aschangesmadeearlyinthelogicinthefirstworkbookwillnot
flowcorrectlytolaterstagesofthelogiciftheotherworkbookisnotopenorlinksboth
waysbetweenthetwoworkbookshavenotbeencorrectlymaintained.Suchlinkscaneasily
bebrokenifoneworkbookissavedwithanewnamewhiletheotherisclosed.

2.6 Disciplined,RigorousandConsistent

2.6.1 Trustwhatisseen
Whatisseenonthescreenorinprintshouldrepresentwhatishappeningineachrow,
columnandcell.

Everycellshouldadhererigorouslytothemodellingpracticeswhichareshownatthestart
ofthemodel.

Everycellshouldbeabletobetrustedtobeconsistentwithitsneighboursofthesame
formatting.

Anyinconsistenciesinalgorithmsshouldbehighlighted.
20

 Worksheets,columnsorrowsshouldnotbehidden.TheDataGroupfacilityisacceptable
becauseitmarksthecollapseddata.

2.6.2 DisciplineandRigour
Eitherhave100%modellingPracticesorzeroPractices.ModelsthatfollowthePractices
inthemainbutwhichcovertlyfalterinpartsarefarworsethanmodelsthathaveno
Practices.

Timeshouldbeallowedtousethemodellingpracticesandproperlyauditthemodelbefore
resultsareexpected.

2.6.3 AggregatesandTotals
Totalsandsubtotalsshouldbeobvious.Itisrecommendedthatacolumnontheleftsideof
thespreadsheetisused,whereitisusuallyvisible,ratherthanontheright.Totalrows
shouldbehighlightedwithboldfontorborders.

Eachdatarangebeingevaluated(rowand/orcolumns)shouldbeaggregatedandthese
totalsmadeobvioussothatitcanbereadilyunderstoodandcanbecheckedagainstsource
data.

2.6.4 ColumnHeadings
Thesequenceofcolumnsacrosseveryworksheetinaworkbookshouldbeidenticalunless
clearlyidentified,especiallyforyear(orothertimeperiod)headings.

Onceasequenceofcolumnheadingsisestablishedinoneworksheetitshouldbe
maintainedinallotherworksheets.Forexampleiftheyear2013isinColumnKinone
worksheetthenitshouldbeincolumnKinallworksheets.Exceptionsshouldbeclearly
highlighted.

2.6.5 ReadymadeModelsandWorkedExamples
Modelswithblankinputfieldstobefilledforentryintoablackboxshouldbeusedwith
caution.Theymaybeusefulforsortingopportunities.

WorkedExamplesofModellingPracticescanbeusedasthestartingpointandadapted.

2.6.6 LogofChangesandModelVersions
Whereahistoryofchangestothemodellingneedstoberecorded:
21

 o Versionnumbersshouldbegiventomodelsdistributed,and

o Notedwithoutputsinreports,presentationsetc(i.e.includefilename,worksheet,
date,andrevisioninfooterorprintedcellforpublishedoutputs).

Themodeldistributedorusedforreporttablesandfiguresshouldbethelastwiththat
versionnumber.Anysubsequentworkdoneshouldbewiththenextversionnumber.

Anyoneeditingthemodelshouldlistallupdatesinalogofchangeswith:

o Dateandperson

o Adescriptionoftheupdate(withfiguresnoted),newNPVfigureetc,and

o Commentsdescribinganyreconciliation/explanationoftheeffect(ifrequired).

2.7 RecordingSourcesofAllData

2.7.1 Rownotesofthesourceofthedata
Anyonereadingthemodelshouldbeabletoimmediatelyidentifythesourceanddateofthe
data,andsoassesswhetheritisthemostrecentandappropriate.

Thisappliestoeveryrowofnumericalinputvaluesandtocomputationallogicthatis
unusual.

Thesourceofeachitemofinformationshouldberecordedwiththedate,personand/or
documentname.

Thisshouldshowasarowimmediatelyaboveorbelowtheinputteddataandalways
appearsinfullonthescreenorinprint.Itshouldnotbeinahidden,embeddedcellnote.

Someanalystsusenotesincellsaspersonalremindersofchangeforrecordingwhy
algorithmschangeand/orachronologicalrecordofallhistoricaldatausedandupdates.

Anysourcedatathatisknowntobedubiousortoneedcheckingshouldbeidentifiedina
specificfontcolour.Pinkormagentaisbeingwidelyused.

Atthebeginningofthemodelthenameofthepersonperformingthemodellingshouldbe
stated,withthecontacttelephoneand/oremailaddressandthestartdate.

Disciplineisrequiredtoupdatesourceinformationwhendataisupdated.Thereislittleor
nowaytocheckonthislaterifitisnotdoneatthetime.

Itmaybeusefultoretainpreviousdatasets,withcapabilityinthemodeltoswitchbetween
them.Inthiscasedatasourceinformationmightbeenteredinaparticularcolumnineach
datarow,anditwillbemoreevidentifsomedatasetshavethesameornosource
information.

22

2.8 RapidtoAudit

2.8.1 Speed
IfthePracticeshavebeenfollowedrigorouslythemodelshouldbeeasytofollowand
thereforequicktoaudit.Consequentlypeoplearelikelytobemorewillingtoauditothers
models.

2.8.2 ProcessofAudit
Threephasesofauditarerecommended:

1. Selfauditbythepersonwhodevelopedthemodel,

2. AuditsbyinternalmembersoftheTeamwhochecktheirownsections,and

3. Aformalauditoftheentiremodelbyanindependentperson(s)externaltothe
model.

2.8.3 AuditingReportsbasedontheEvaluation
Thepersonauditingthemodelusuallyshouldalsoaudittherelevantsectionsofanyreports
basedonthatmodel.

Theinterpretationofmodelresultsovertherangesofcasesneedstobeconfirmed.

2.8.4 AuditingMechanisms
Acommonapproachtoauditistoworkfromthekeyoutputs,suchasNPVorproduction,
backupthestreamsofcomputationstotheinputsforeach.

Createerrorcheckingformulaswithinamodel.Themoreoftheseformulasinamodel
themoreselfauditingitbecomes.

Again,usingcolumnsspecificallyfortotallingcashflowsandNPVsofeachcomponentof
cashflowswillassist.

Thetotalforeachdatainputoverthelifeoftheevaluationshouldbecheckedagainstthe
sourcedata.Globaltotalsofkeyinputsandoutputsaretested.

Wheretheevaluationispartofalargersizedresourceorbusinessitsvalidityandcontext
shouldbeinvestigated.

Useofspreadsheetauditing/checkingsoftwarecanhighlightinconsistenciesandtheuseof
datavalueshardwiredintoformulas.

23

 Consistencyofalgorithmsacrossrowsanddowncolumnsmaybetestedbycopyingthe
algorithminthefirstrowacross/downallothers.Itisnotuncommonforthefirstcolumnto
bedifferent,thoughthatshouldbehighlighted.Copyingthesecondcolumnmaybebetter.

Auditdowncolumnsisbetterdoneinotherthanthefirstcolumnincasethefirstcolumn
wasalteredbutmistakenlynotcopiedacross,orisdifferentfromtherestforsomevalid
reason(inwhichcasethedifferenceshouldbehighlighted).

Itisrecommendedtoincludeatotalinacolumntotheleftofthedatatocheckagainst
inputdata(asatotaltotherightofthedataislikelytobeoffthescreen).

Whenauditing,itcanbeusefultocreateanewsheetatthefrontoftheworkbookwith:

o Allauditingnoteslisted,

o Aprioritisationcolourcodenotinghigh,mediumandlowrankeditems(usingred,
yellowandgreencellcolouring),and

o Linkstothesectionsofthemodelthattheauditingnotesapplyto.

24

3 GUIDELINESFORECONOMICEVALUATION

3.1 Purpose
TheGuidelinesforEconomicEvaluationdiscusskeyconceptsandmechanicsineconomicevaluations
andareindependentoftheGuidelinesforSpreadsheetModelling.Itisrecommendedthatthese
GuidelinesareappliedbyCompanies,Organisations,ConsultantsandIndividualsascurrentBest
PracticeGuidelineswhilstrecognisingthattheiradoptionisvoluntaryandnotstrictlymandated.
Workedexamplesthatservetoillustratetheseprinciplesandthemechanics(alongwiththosefor
theSpreadsheetModelling)areprovidedinAppendixA.

3.2 Context

3.2.1 TheoryandComputationofNPV,IRRandRisk
RefertoFinancialTheory,RiskTheoryandrelateddocumentsforthecalculationofDiscountedCash
Flow(DCF),NetPresentValue(NPV),InternalRateofReturn(IRR),riskadjustmentandrelated
metrics.AppendixBprovidesabriefintroductiontodiscountratesfortheinformationoftechnical
analystswhodonothavefinancialtraining.

3.2.2 EconomicEvaluationandFinancialModelling
Preferablytheevaluationoftheeconomicsofaninvestmentiskeptseparatefromthemodellingof
itsfinancing.

Evaluatetheeconomicsoftheunderlyingcashflowswithoutfinancingasthefirststep.
Understandtheviabilityoftheunderlyinginvestment.

Considerwaysoffinancingtheinvestment,infinancialmodelling,asthesecondstep.

Differentdiscountratesshouldbeuseddependingonwhetherfinancingcashflowsarepart
oftheanalysisornot.

3.2.3 EvaluationandValuation
Evaluationisaprocessofwhichavaluationisanoutcome.

Evaluationistheprocessofconsideringtheeconomicworthofanactivity.Itshould
investigateallinputs,computations,outputs,casesandalternatives.

25

 Valuationisanoutcomeoftheevaluationprocesswhereasinglevalueorarangeofvalues
is/areproducedunderset/setsofconditions.

Often,valuationisreferredtoasanart.Thenumerousassumptionsinvolvedcanleadto
varyingviewsastothevalueofaproject,company,etcwhenapplyingtheDCFtechnique.
Thistendstolendweighttoexperiencebeingofparticularimportance.

Valuationexercisesaremoreaccuratewhenrankingprojects,etc,onarelativebasis.That
is,underacommonsetofassumptions,onecanidentifywhichproject,withinasuiteof
projects,willprovidethegreatestvalue.Valuationsarealsoundertakeninanabsolute
sense:anabsolutevalueisattributedtotheproject,whichisnotrankedrelativetoother
options.Valuesarealwaysbasedonfutureestimatesandhencealevelofuncertaintyis
inherent.

Whenundertakingvaluationsonanabsolutebasisarangeofoutcomesshouldbe
determined.

3.2.4 StandAloneorIncrementalValue
Theoverallapproachtoevaluationmaybeincrementalvalueorabsolutevalue.

Anexistingbusinessoractivityisusuallyvaluedinabsoluteterms.

Aninvestmentisusuallyvaluedasitsincrementaleconomicimpactthevalueof
proceedingminusthevalueofnotproceeding.

Incrementalevaluationsshouldincorporateallimpactsofachange.Itmaybebetterto
modelthewholebusiness,withandwithoutthechange,ratherthantryingtoisolatethe
incrementalimpactsonly.

Inallcasestheevaluationshouldconsiderwhethertherearealternativesi.e.stayingwith
thestatusquoorwhetheritmayimproveitsbaseactivitywithasmallerinvestment.

Synergiesbroughtbycombiningoperationswillusuallyrequireastandaloneevaluation.

3.2.5 StandAlone,Synergies,UsingTaxLosses
Normallytheassessmentistobeoftheentityonastandalonebasis.Ifthereisaspecialreasonfor
crosssubsidyorcrosspenaltythenitsquantum,importanceandlikelihoodmustbeclearly
described.

Typicalbenefits/penaltiesfromoutsidemayincludetherealisationofpreexistingtaxlosses,
(ifusable),synergiesfromcombiningactivities,andmarketposition.

Thisshouldnotbeincludedifthebenefit/penaltyislikelytorealisedinthenormalcourseof
businesswithoutthisactivity/investment.
26

 Thevaluationclearlydifferentiatesbetweenthevalueoftheentityonitsown("standalone")
andthevalueofanyspecialbenefits/penaltiesfromoutside.

Theconditionsforreceivingbenefits/penaltiesfromoutsideareoutlined.Otherwaysof
realisingthesebenefits/penaltiesareoutlined.

3.2.6 Gearing(Debt)
Normallytheassessmentistobeoftheunderlyingeconomicsbeforetheintroductionofanydebt.
Ifforsomereasondebtmustbeconsideredthediscountratemustbeadjustedandthequantum,
risksandimportanceofthedebtdescribed.

Insomecases,cashflowanalysisisundertakeninnominaltermsandinclusiveofdebt.Thisis
commoninfinancialcirclesdeterminingifinterestondebtcanbecoveredwithoutperiodsofdefault,
ifthedebtcanberepaid,andwhattheequityvalueisviathisparticularapproach.

Normallythecashflowsaretobeunleveragedorungearedi.e.beforetheuseofany
debtand,hence,interestcostsondebt.

AccordingtoFinancialTheorythediscountrateisadjustedifdebtisintroduced.

FaultyevaluationscanmakedebtappeartoimprovetheNPV.

3.2.7 ExpectedValuesandResults
Thereisalwaysanelementofsubjectivitywhenestimatingwhatisexpectedinthefuture
evenifbasingestimatesonhistoricaldata,aspastoccurrenceswillnotnecessarilyrepresent
whatwillhappeninthefuture.

Certainvariableswillbemoresubjectivethanothers:futurecommoditypricesaregenerally
unknownandcanvarywidelyfromtheforecast,whereasfutureconcentratorrecoveryrates
foranoperatingplantmightchangebutaremorelikelytobeunderstoodverywell.

Theimpactofachangetoaparametershouldbeanticipatedandcheckedagainsttheresult
fromthemodel.Unexpectedeffectsshouldbereconciled.

3.2.8 Alternatives
Theevaluationshouldconsiderallreasonablealternativeactivities/investmentsthatarepossible.

Althoughoneactivity/investmentisproposedtheremaybealternative
activities/investmentsthatachievethedesiredoutcome.

Thedonothingcaseisalwaysanoption,andislogicallytherealbasecase.

27

3.2.9 RangesandLikelihoods/SensitivityAnalysis
Withineachactivity/investmenttheevaluationshouldconsidertherangeofpossibleoccurrences
andevaluatethespreadandlikelihoods.

Unlessonlyoneresultispossibletheevaluationshouldconsiderthelikelyrangeofinputs,
computationsandresultsratherthanreportingasinglecase.

Therearevariousmethodsofconsideringrangesandlikelihoods.

Onemethodconsidersaseriesofdiscretefeasiblecasesfromlowtohighandprobability
weightsthem.

Anothermethodusessoftwaretogenerateadistributionofoutcomes.Ifthismethodis
used,theparametersincludedandexcludedshouldbedisclosed.

Keyinputsshouldbeprioritisedbasedonassessmentandcouldbevariedby10%,25%or
upto50%keepinginmindifapplyingthesamepercentagemovementtoallinputsis
appropriategivendifferentlevelsofvariabilityoftheinputs.Theeffectofthisinput
variationontheoutputshouldbereported.

Itisimportanttorecognisethatthistypeofsensitivityanalysistypicallyassumesonlyone
variablechangesatatime,andthesameunderlyingphysicalmining,treatmentandsales
planismaintainedforallvariationsconsidered.Itdoesnottakeanyaccountofhow
decisions,andhencetheplans,wouldchangeinresponsetorealchangesintheinputsbeing
flexedintheevaluation.

3.2.10 InputDataQualityAssessment
Ifdistributionsorlikelyrangesarenotavailableforvariousinputdataitems,thefollowingranking
schemeisoneofmanythatmaybeuseful:

Aseparatecolumnbesidetheinputnumbersmaybepresentedtoindicatethereliabilityof
variousinputdataitems.Thescoreofinputdatawouldbeputasanumbere.g.from1to3.
Forexample,iftheinputisfromareliablesuppliersquoteitmayscore1,iffromopen
literatureandverified,2,andifaneducatedguesswithlargeuncertainty,score3.

Totalscoresmaybeaveraged.Thenuncertaintycanbelow,mediumorhighdependingon
theclassofscorethedatareceived.Iftheinputdataqualityscoredlessthan2,uncertainty
islow,ifabove2butbelow4,mediumandifabove4ishighetc.

Insomesituationsthedataqualitymayberequiredtoscorea1andinothersituations,
e.g.preliminarytechnicaleconomicevaluationorwheretheprocessisconceptual,ahigher
uncertaintyisacceptable.

28

 Othersmaychoosetodescribethelevelofaccuracyasconceptual(e.g.30%),pre
feasibility(e.g.20%)orfeasibility(e.g.10%)andreflectaccuracyincontextofsome
weightedaverage.

3.2.11 RealandNominal
ARealmodelexpressesatimeseriesofcashflowsinwhichtheeffectofinflationisexcluded.The
advantageofpresentingdatainrealtermsisthatevaluationsaremoreeasilyunderstoodand
audited.Economicmodelsofwholeoflifeprojectsandstrategicplansarenormallyexpressedin
realterms.

ANominalmodelexpressesatimeseriesofcashflowsintheactualdollarsoftheperiod,thatis
withinflationincluded.Budgets,shorttermforecastsandcommoditypriceforecastsareusually
expressedinNominaldollars.

Caremustbetakentoensurethattherealandnominalinformationisnotmixedandthateachis
clearlyidentified.Arealcurrencyunitshouldbelabelledwithitsyear.

Ifapplyingthecorrectrealandnominaldiscountratestotherealandnominalcashflows,
theNPVandIRRwillbethesamebyeithermethod,andIRRsfromrealandnominalcash
flowswilldifferonlybytheinflationrate.Caremustbetakentoapplyanominaldiscount
ratetonominalcashflows,andarealdiscountratetorealcashflows.

ForRealTermsevaluationstheeffectofinflationovertheyearsisremoved.Pricesmay
increase/decreaseinrealtermsbecauseofproductionefficiencies,marketdemand/supply,
foreignexchangemovementsandothernoninflationimpacts.

Careneedstobetakenwithinputstodistinguishwhethertheyarespecifiedinrealor
nominalterms.

Ifworkinginrealterms,therearetwowaysofhandlingtaxdepreciationandotheritems
normallycalculatedinnominalterms.

o modeltheseitemsinnominaltermsandconvertbackintorealterms,or

o Modeltheseitemsinrealtermsanderodetheirvaluebyinflation

3.2.12 LifeoftheEvaluation
Normallyanevaluationisdoneforthefull,remainingeconomiclifefromthepresentdaytotheend
includingclosureandlegacies.Ifthereisaspecialsituationandonlypartoftheeconomiclifeis
consideredthepartsofthelifeexcludedandestimatesoftheirimpactonvalueshouldbeclearly
described.

TheNetPresentValue(NPV)canbemathematicallycalculatedatanypointinthelifeofa
cashflow.Forpracticalpurposesaconvenientdateintherecentpastorthenearfuture(as
aguide,withinsixmonths)isusedwithanysignificantcashflowsintheinterveningperiod

29

 clearlynoted.Manycompaniesspecifyavaluationdatetobeappliedforconsistencyinall
evaluationsconducted.TheremainingNPVatvarioustimesinthefuture(i.e.theNPVthat
wouldbedeterminedbyanalystsatthattime,assumingtheprojectandtheworldeconomy
proceedaspredictednow)mayalsobeausefulmeasureforcomparingoptionsinalonglife
project.

Theenddateshouldbeasensibletimeinthefuturewhensignificantcashflowsand
liabilitiesareexpectedtofinish.

Estimatesofclosurecostsandlegaciessuchasongoingremediationmaybesubstantialand
canhaveasignificantimpactonNPV.Abroadassumptionthatsalvagewillpayforclosure
costsandlegaciesisnotusuallyvalid.

SunkcostsshouldbeexcludedfromanNPVcalculationastheydonotrepresentafuture
cashflow.However,thewrittendownvalue(fortaxpurposes)ofpreviouslypurchased
assetsisrelevanttofuturetaxcalculationsandmayberequired.

3.2.13 AfterTax
Normallyevaluationsareafteralltaxes.Iftherearespecialcircumstanceswherepretaxevaluation
isappropriatethecircumstancesshouldbeexplained.

Taxesotherthancompanyincometaxandinternationalwithholdingtaxesarenormally
includedinthecapitalcosts,operatingcostsandrevenue.

Normally,companyincometaxisincludedintheevaluation.

Normally,theevaluationisunleveragedandsocompanyincometaxisbeforethe
introductionofdebtrelatedcashflows.

Wherethevaluationisofanentityinanothercountrytheimpactofinternationaltaxes,such
aswithholdingtax,shouldbeestimated.

Whereinternationaltaxesarenotyetadequatelydefined,astatementdescribingtherange
ofpossibilities,alongwiththeimpactsonvalue,shouldbeincluded.

Itishowevernotuncommonforcompaniestospecifythatevaluationsbeingconductedat
minesitese.g.toselectbetweenvariousoperatingstrategiesbeconductedonapretax
basis.Thisisusuallysatisfactoryforoptionswithsimilarlevelsofcapitalintensity,butmay
givemisleadingresultsifcomparisonsarebetweenlowcapital/highoperatingcostandhigh
capital/lowoperatingcostoptions.Itisadvisableforthetechnicaleconomicevaluatortoat
leastincludeasimpletaxcalculationtoensurethepreandposttaxevaluationsarenot
suggestingdifferentstrategies.

30

3.2.14 RiskandUncertainty
Theinclusionorexclusionofriskinanevaluationisofhighimportance.

Acompleteeconomicevaluationrequiresanunderstandingoftheimpactofriskand
uncertaintyonthefinaloutcome.Decisionsshouldtakeintoaccounttherobustnessinthe
expectedperformance.Therearemanywaysofmodellingriskanduncertaintyineconomic
evaluations:thesemethodsaretouchedonbutnotcomprehensivelycoveredinthis
document.Toadequatelyevaluateriskanduncertainty,economicevaluationsshould
includeoneormoreofthefollowingfeatures:

o SensitivityAnalysis:theimpactofchangingonevariableatatime.Theseresults
haveseverelimitationsbecausetheytypicallyneglecttheflowonimpactsofthat
changeontheplan.

o ScenarioAnalysis:thesearesuperiorbecausetheyconsiderthedynamicsof
interrelatedchanges

o MonteCarloSimulation:Independentorcorrelatedvariablearechangedmultiple
timestoreflecttheprobabilitydistributionsoftheirvalues,producingaprobability
distributionoftheoutcomes.

o Optionanalysis(seesection3.4.1)

o ValueatRisk(seesection3.4.2)

Theevaluationshouldclearlydescribeifriskwasexcludedanddescribestheriskcontext.

Theevaluationreportshouldclearlydescribetheprocessbywhichriskwasincludedandany
recogniseddeficiencies.

Therisksmaybeintroducedintothecomponentcashstreamsduringcomputations,orinto
thecaseasawholebywayofthediscountrate.

o Ifintroducedintothecomponentcashstreamsariskcanbereflectedbyadjusting
theinputrelatedtotheriske.g.metallurgicalrecoveryratelowerrecovery,lower
valuation.Caremustbeexercisedifworstcasevaluesareusedforanumberof
variables:theprobabilityofalltheworstcasescenariosoccurringconcurrentlyis
generallyverylow.Aprobabilisticanalysisispreferableifsuitabledistributionscan
bedevelopedforvariousinputparameters.

o Ifintroducedbythediscountratethenariskpremiumcanbeaddedtoincreasethe
discountrateandgeneratealowervaluation.ThisisdiscussedfurtherinAppendixB

Someprojectmanagerswillidentifyrisksthatareconsideredpartiallyortotallyavoidable.
Theassessorsofsuchtechnicalandnontechnicalriskswillrelyontheirprofessionalopinion
andprecedenttoweighupthevalidityofsuchassumptions.Thisdoesnotguaranteethe
riskswillbeaddressedasenvisagedandtheanalystinconjunctionwiththeproject
membersandleaderwillhavetodetermineiftheserisksshouldbeconsideredinthe
31

 quantitativecomponentofevaluationviatheapproachesdescribedaboveorviaanexercise
inlikelihood/sensitivityanalysis.

3.2.15 Materiality
Theevaluationshouldmatchthequality(detail,precision,complexity)ofeachcomputationwithits
impactontheresult.

Theevaluationshouldgivemostattentiontotheinputsandcomputationsthathavethe
greatestimpactonvalue.ExtracolumnstotallingcashflowandshowingNPVmayhelp
identifymateriality.

Theevaluationshouldaimtoreducethecomplexityanddetailoflessimportant
computationswherethiswillnotsignificantlyreducethevalidity/precisionoftheresult.

Focusshouldbeonthekeydriversofvalue.Itavoidscomputationsthatareoverlydetailed
inareaswithminorimpactonthekeyresults.

Usually,thecomputationofRevenuehasthegreatestimpactonvalue,followedby
OperatingCostsand/orCapitalCosts,andtheleastimpactcomesfromTaxes.

Normallythegreatestfocusisonthegenerationofrevenuefromtheresourceintheground
throughproductiontosalesvolumesandproductquality,andtopriceandforeignexchange
rates.

Operatingcostsinpreliminaryevaluationsmaybesimplefixedandvariablecosts,whereas
inprecisionevaluationsmaybedetailedfixedandvariablecosts.Detailedvariablecosts
usuallyusePhysicalsxUnitCosts.

Capitalcostsinpreliminaryevaluationsmaybecoarseestimates,whereasinprecision
evaluationsmaybedetailedestimates.

Inmanyevaluationstaxesandworkingstockcalculationscanbegreatlysimplifiedwithout
significantlossofprecision.

32

3.2.16 EvaluationFramework
AneasytofollowframeworkistousethefourcashstreamsofProduction/Revenue,CapitalCosts,
OperatingCostsandTaxesleadingtoNetCashFlowandvaluemeasuressuchasNPV.

Reducingtheevaluationtofourcashstreamsmakescomputations,auditandunderstandingrapid.

Cashstream1(Production)=SalesxPrice=Revenue+/debtors

Cashstream2=Capital+/anyworkingstocks

Cashstream3(Production)=ConsumptionsXCosts(includingrelatedtaxes)=Operating
Costs+/WorkingCapital

Cashstream4=CompanyIncomeTax+GovernmentRoyalties(ifnotinoperatingcosts)=
Taxes+/adjustmentsforcashpaymentdates

Internationaloperationsmayrequireconsiderationofsuchthingsasvarioustaxesinthecountry
wheretheoperationislocated,plusrepatriationoffundstotheparentcompanyslocationand
furthertaxationandvaluationthere.

33

3.3 Process

3.3.1 ProductPrices,TreatmentandRefiningCharges,andForeignExchangeForecasts
Usuallyforecastsofproductpricesandforeignexchange(forex)areamongstthemostimportant
assumptionsforcalculatinganNPV.Theynotonlypartiallydeterminerevenueeachyearbutthey
determinehowmuchofthemineraldepositiseconomic.Thefollowingactivitiesarerecommended:

Explainthesourcesofforecasts,andwhethertheyweremodified.

Graphthekeyprice(s)andforeignexchangeinhistoricaltermsandthelow,midandhigh
price(s)assumedintothefutureforthelifeofproject.

Usuallythecomputationsofrevenuehavegreatestimpactonvalue.Ironicallycomputations
ofrevenueareusuallysimpleonceproductionandsalesarecomputed.

Wherethecomputationofpriceiscomplexsuchasthetreatmentterms,refiningcharges
andassociatedchargesformetalconcentratesatopdownapproachmaybeasuperior
method.

o ForexamplethehistoryofTreatmentCharges(TC)andRefiningCharges(RC)is
convertedintographsofhowthevalueofeachcontainedmetalintheconcentrate
hasbeensharedonapercentagebasis,e.g.67%tominesand33%tosmeltersand
thisisforecastratherthanusingTCsandRCs.Howeverthesplitmayvarywithprice
andamorecomplexpricingmodelmayberequired.

Therearenumerousapproachesusedfordealingwithcurrencymixesandrealandnominal
termswithintheeconomicevaluation.Oneapproachisdescribedinthesectionbelowon
OperatingCosts.

3.3.2 Sales:Volumes,qualities,workingstocks/capital
Togetherwithpriceandforeignexchangeforecaststhesalesvolumesareimportantassumptions.It
isrecommendedthatthemodel:

Outlinemarketvolumeandqualityassumptions.

Outlinetheforecastimpactofthesesalesonthemarket.

Outlineanyunusuallogistics.

Workingcapitalindebtorsandcreditorscanbeapproximatede.g.4weeks/52weeksxSales
Revenuefordebtors(andcostsforcreditors).Revenuelagsforbasemetalsconcentrates
maybeestimatedfromactualortypicalsalesterms.

34

 Workingstocksofsalesproductshouldbeapproximatedinthesynthesisofproduction
wheretheyaresignificant.

Establishingworkingstocksmaybesignificantatprojectstartupandduringrampup.There
maybeasignificantlagbetweenproductionrampupandproductdespatchesuntilthe
businessplateaus.

Movementsinworkingcapitalarethenincludedinthecashflow.

Simplestockscalculationmethodscaninclude:

o Maintainingaspecifiedstockpilesizeattheendofeachtimeperiod,drawndownat
theendofthelife,or

o Applyingatimelagbetweenproductionandsalesdates.

3.3.3 Production:Volumes,headgrades,recoveries,productgrade,delivery.
Theeconomicevaluationmaysynthesisetheproductionprocessoruseoutputsfromdetailed
computationsandsyntheses.Itisrecommendedthatthemodel:

Outlinethemethodsusedtoestimateproduction,includinghowLifeofMine(LOM)figures
aredetermined,whichmayincludemineandplantavailabilities,miningvolumes,mining
recoveryanddilution,headgrade,processrecoveriesandproductspecificationsfor
economicmetalsandkeydeleteriousconstituents.

Describethemethodsbywhichtimeframeofthelifeoftheentitywasestimated,including
constructiontime,rampup,operationallifeandclosure.

Outlinethevariousbroadproductioncasesconsidered.

Disclosewhethertheresourceandreservefiguresusedinthemodelarereportedin
accordancewiththeAustralasianJointOreReservesCommitteeCode(JORC)i.e.ifthe
figuresareexistingResourcesandReserves,iftheevaluationwillbeusedtosupport
publicationofReserveCategories,oriftheyareestimatesthatarenotJORCcompliant(Note
thattheJORCCodeisforpublicreportingofResourcesandReserves.Internalevaluations
candowhateverisreasonableforthepurposesoftheevaluations,thoughJORCCode
categoriesofresourcesandreservesmaybeimportantinputinformationevenifresultsare
nottobemadepublic).

3.3.4 CapitalCosts
Estimatesofcapitalcostscanvaryfromhighlevelestimatestocomprehensiveestimatesincluding
contingenciesandallowances.Itisrecommendedthatthemodel:

35

 Outlinethemethodusedtoestimatecapitalcosts,includingindirectcosts,contingencies,
allowances,etc.Preferablytheseestimateswouldbebasedonstudiesthatemployan
industriallyacceptedmethodologyandsupportedbyappropriatedocumentation.The
accuracyandconfidenceintheestimateisexpectedtoincreaseastheprojectprogresses
throughtheconceptual,scoping,prefeasibility,feasibilityanddetailedengineeringstudy
stages.

Outlinethemethod(suchasquotations,materialtakeoffs,factors,benchmarking,etc)used
toestimatecapitalcosts,includingindirectcosts,contingencies,allowances,construction
costs,EPCM,freightcosts,localduties,etc.

Outlinethekeyconstructioncostsandtimetocommissioningassumptions.

Itisnotimportantifaparticularitemisclassifiedasanoperatingcostorasacapitalcostin
theevaluationfordeterminingpretaxcashflows.However,correctclassificationisessential
fordeterminingdepreciationandprofitortaxableincomeforthemodellingofbothtaxation
andfinancialaccountingeffects.Itshouldbenotedthatcertainitemsmaybecapitalisedfor
onesetofcalculationsandexpensedfortheother,orcapitalisedbutdepreciatedby
differentmethodsand/orratesfortaxandfinancialaccountingcalculations.

Outlinetherangeofestimatesofcapitalcost.

Considerthetimingdifferencesbetweenwhencapitalconstructionandpayment.

Outlinedetailsofanybond(egenvironmental)thatmayberequired,distinguishingbetween
noncashaccountingprovisionsandcashflows.

Ongoingorsustainingcapital,whichmaintainsthecapabilitiesacquiredbytheinitialproject,
shouldbecalculatedfromitsdrivers.Itmaybeaproportionoftheinitialcapital
expenditure,orbasedonhistoryinamorematureoperation.Althoughoftenexpressedas
anannualcost,itmaybemoreappropriatetoexpresssomecomponentsonapertonne
basisifchangesinproductionratesaretobemodelled.

WorkingCapitalmaysignificantlyimpactonearlycashflows.Keyitemsaretypically:

o Firstfillofconsumablesintheoperatione.g.grindingmedia,tyresetc

o Majorcriticalspareparts

o Initialstockingofotherwarehouseconsumables

o Operatingcostsincurredbeforeinitialrevenueisreceived.

36

3.3.5 OperatingCosts
Estimatesofoperatingcostscanvaryfrombroadapproximationstodetailedestimates.The
principlesdiscussedinthecapitalcostsectiononaccuracyanddatasourcesgenerallyapplyto
operatingcost.Itisrecommendedthatthemodel:

Outlinethemethod(suchasquotations,materialtakeoffs,factors,benchmarking,etc.)
usedtoestimateoperatingcosts,includingfixedandvariablecosts,socialand
environmentalcosts,contingencies,etc.

Categorisecostsbyfunctione.g.mining,milling,etc,orbycostelemente.g.labour,fuel,
consumables,power,maintenance,materials,etc.Coststructuresthatarebuiltupbyboth
functionandcostelementalongwithfixedandvariablecomponentsareconsideredto
representthehighestorderofdetail.Itshouldbenotedthatwhenaccessinghistorical
accounting,functionalandcostelementinformationisgenerallyavailablewhilsttheanalyst
willhavetoformaviewonwhatcostsarefixedandwhatcostsarevariableasaccounting
systemsdonotcategoriseonthisbasis.

Asageneralprinciple,variablecostsshouldbeappliedtoeachphysicalactivitywhose
quantitieswillvaryrelativetothekeyactivityquantitiesasaresultofchangesininputsthat
maybeflexed,ornaturallyasaresultofchangesintheresourcebeingminedorthetonnage
treated.However,materialityeffectsandtherequiredlevelofaccuracyofthestudyshould
alsobetakenintoaccountchangesintheratiosofthephysicalquantitiesmaybesmall
enoughtoobviatetheneedforthemorecomplexcostmodel,andasimplefixedplus
variablepertonneoforemodelmaybeadequate.

Outlinethecommissioningandrampupassumptions.

WorkingstocksareincludedinthesynthesisofProductionandareapproximatedwhere
thereisinsignificantimpactonvalue.

Privateroyaltiesareincludedasanoperatingcostbutgovernmentroyaltiescanbeincluded
eitherasanOperatingCostorasaTaxdependingoncustom.However,theprocedure
adoptedintheevaluationshouldbedefined.

Forleasedequipment,noteiftheleaseisanoperatingleaseorafinancedlease.

Aspertheclassificationofcapitalcosts,itisnotimportantifaparticularitemisclassifiedas
anoperatingcostorasacapitalcostintheevaluationfordeterminingpretaxcashflows.
However,correctclassificationisessentialfordeterminingdepreciationandprofitortaxable
incomeforthemodellingofbothtaxationandfinancialaccountingeffects.Itshouldbe
notedthatcertainitemsmaybecapitalisedforonesetofcalculationsandexpensedforthe
other,orcapitalisedbutdepreciatedbydifferentmethodsand/orratesfortaxandfinancial
accountingcalculations.

Theoperatingcostscomponentofworkingcapitalmaybesimplymodelledby:

37

 o Maintainingaspecifiedinventoryatthestartofeachtimeperiod,drawndownat
theendofthelife,butallowingforspoilageandobsolescence,or

o Applyingaleadtimebetweenproductionandspending.

Outlinetherangeofestimatesofoperatingcost.

Therearenumerousschoolsofthoughtwhendealingwithoperatingcostsinvarious
currenciesandamixtureofrealandnominaltermsoneapproachthatcanbeappliedto
overseasoperationsisasfollows:

1. Initiallymodelcostsinthecurrencyinwhichtheyareincurred.

a. Itmaybenecessarytoseparatedifferentcurrenciese.g.expatriateand
locallabourcosts,consumablessourcedfromvariouslocations,etc.

b. Identifythecostswhicharequotedinonecurrencybutareactuallyincurred
inanothere.g.petroleumproducts.

2. Deriveasreal(orperhapsmoreaccurately,"uninflated")costsinthecurrencyin
whichincurred,forthephysicalquantitiesscheduled.

a. Notetheageofvariousdataitemsandinflate/deflatetoacommonpointin
timeifappropriate.

3. Applyinflationfororiginalcurrency,appropriatetoeachcashflowitemproduces
nominalcashflowsinthosecurrencies.

4. Converttothecurrencyofthecountrytaxingtheoperatingentity(usuallythe
countrywheretheoperationislocated),usingnominalexchangerates.

5. Calculatedepreciationfortaxpurposes,andhencetaxableprofitandtax,andhence
netcashflowinthecurrencyofthetaxingcountry.

6. Converttothereportingcurrency,usingnominalexchangerates.(Additionaltaxes
mayneedtobecalculatedinthiscurrency.)

7. Deflatetorealmoneyamountsusingtheappropriatedeflatorforthereporting
currency.

8. Discountusingrealaftertaxdiscountrate.

3.3.6 ClosureCosts
Estimatesofclosurecostscanvaryfrombroadapproximationstodetailedestimates.Itisnot
adequatetoassumethatclosurecostswillbeoffsetbytheproceedsofsalvage.Itisrecommended
thatthemodel:

38

Outlinethemethodusedtoestimateclosurecostsandongoingactivities.Describeif
indirectcosts,contingencies,allowances,etcareincluded.

Iftheevaluationswillvaryparametersthatwillchangetheminelife,itmaybenecessaryto
expressrehabilitation,redundancycosts,salvageandscrapvaluesasfunctionsoftheclosure
date.

3.3.7 Taxes(directcompanyleveltaxes)andCarbonCosts
Inaneconomicevaluation,taxesarenotusuallycomputedtotheprecisionofofficialincometax
returns,butusuallyaremoresimplifiedsothattheresultsmatchtheprecisionandimpactofother
keycomputations.

Taxesincludecompanyincometax,specialcompanytaxes,capitalgains,withholdingtaxes,
internationaltaxesandgovernmentroyalties.Ifnotincludedinoperatingcosts,indirect
taxesareusuallyincludedincapitalandoperatingcosts.

Outlinecompanyincometax,otherdirectcompanytaxes,governmentroyaltiesandany
internationaltaxes.Describeanyspecialtaxissuese.g.ifwithholdingtaxescanbecredited
inthetaxregimewhereprofitsarerepatriatedto.

Outlineanytaxbenefitsorpenaltiesthatarespecifictothisinvestment,suchaspreexisting
losses,orcrosssubsidyspecialgovernmenttaxationarrangements.Describethe
importancetovalue.

Incometaxmaybeapproximatedwheretheimpactisnotmaterial.Afewrowsof
algorithmsmaysubstituteformanyrowsoflonghanddepreciationorothercalculations.If
theevaluationmodelisconstructedtobeflexibletopermittheevaluationofalargenumber
ofoptionsandscenarios,itisessentialthattaxcalculationsarealsoflexiblewithinthemodel.
Itisnotthenappropriatetohavetaxescalculatedindetailbytaxaccountantsfewafew
casesenteredasdataformanydifferentcases.

Ifcapitalcostsarecomputedinrealtermsthenintheevaluationmodelthetaxdeductions
forcapital(andanyotherdeductionsspreadoveryears)areerodedbyinflationunlessthe
impactofinflationisnotsignificant.Thisiscapturedwhentaxdepreciationiscomputedin
nominaltermsandconvertedbackintorealterms.

AsdiscussedinthesectiononOperatingCosts,governmentroyaltiescanbeincludedin
OperatingCostsorinTax,dependingoncustom.

Companieshavecommencedconsideringcarboncostsintheoveralleconomicevaluation.
Insomecasesthesearetreatedasdeductibleforthetaxcalculations.Thetopicofcarbon
costsisstilldevelopingandtheissueofdeductibilityfortaxpurposesshouldbegiven
consideration.

39

3.3.8 DiscountRate
Technicaleconomicanalystswillrarelyhavetoderivethediscountratetobeused.Doingthisisan
experttasknotnormallywithintheexpertiseofsuchanalysts.TheDiscountRateiscomputed
accordingtoFinancialTheoryandistypicallyspecifiedbythecompanycommissioningthe
evaluation.NotesonthederivationofdiscountratesareincludedinAppendixBasbackground
informationfortechnicalevaluatorswithoutfinancialtraining.Theimportantthingfortheanalystis
toensurethatthediscountrateusedandthecashflowstowhichitisappliedareconsistent.

HistoricallyintheMiningIndustrytherehavebeenvariousconflictingapproachesto
computingdiscountrate.Theseinclude:

1. IsthediscountratefortheCompanyorfortheindustrysectorbeingevaluated?

2. Howisdebtincluded?

3. Istheevaluationbeforeoraftertax?

InanevaluationmodelthenetcashflowcanbeconvertedtoanNPVusingseveralmethods.
Onemethodistouseafewrowsofeasytofollowcomputations(longhand)ratherthan
usingNPVFunctionsorsoftware.(Longhandcomputationsaremorereadilyunderstood
andcheckedforbasedateanddiscountfactorforthefirstperiods).Theothermethodisto
usespreadsheetfunctions.Howevertheseareoftenusedincorrectly,andcareisrequired
withregardtothetimingofcashflows.

Thediscountratemustmatchthecashflowi.e.realornominalterms,andbeforeorafter
tax.

Usingtheappropriatediscountratewithacashflow,whetherinrealornominalterms,
shouldgivethesameNPV.BeforeandaftertaxNPVscandiffer.

Cashflowsfromoperationsoccurthroughanyyear,notnecessarilyatthestartorendofa
year.Toreflectthis,discountingfromthemidpointofeachperiodisrecommendedfor
obtaininganabsolutevaluation.Forcomparativevaluations,thisislessimportant,but
consistencyofapproachforallcasesisessential.

3.3.9 Auditing
Auditingisanessentialcomponentoftheevaluationprocess.Itbestoccursduringtheevaluation,
andmustbeundertakenbeforeanyresultsarereleased.ProgressisrecordedintheIntroduction
toeveryevaluationmodel.

Step1:Periodicselfauditsoftheevaluationmodelasitisdeveloped.

Step2:Auditsofthepartsoftheevaluationbytheexpertsineachoftheparts.

Step3:Athoroughauditofthefinalevaluationmodelbypartiesexternaltotheevaluation
project.Onepartymayauditthemechanicsofcomputationswhileotherspecialists
auditthevalidityofinputsandoutputs.

40

 Additionaltipsonauditing:

o Checkthegraphsforanomalies,inconsistenciesandtrendsthatlookincorrect.

o Usesoftwarethatanalysesspreadsheetstofinderrors.

o Includeselfchecksfortotalsandsubtotalsthroughoutthemodel.Dothesetotals
matchtheinputdataandexternaldocuments?

o StartingattheNPVworkbackupeachofthecashstreamstotheinputs.

o Checkacolumnawayfromthefirstcolumnofcomputationsincaseachangehas
beenmadebutaccidentlynotcopiedacrosstherows.

o Copythealgorithminthefirstcolumnofcomputationsacrosstotheendoflifeand
seeiftheresultschange(butbeawareofrowswherethefirstcolumnmay
legitimatelybedifferentfromtheothers).

o Checktheoutputsoflargeevaluationsbycreatingastandalonesummarymodel
ofonlyafewrows.

o Whenauditing,itcanbeusefultocreateanewsheetatthefrontoftheworkbook
with:

Allauditingnoteslisted,

Aprioritizationcolourcodenotinghigh,mediumandlowrankeditems
(usingred,yellowandgreencellcolouring),and

Linkstothesectionsofthemodelthattheauditingnotesapplyto.

3.3.10 Graphs
Graphsarerecommendedas:

1. Aquickcheckforerrorsininputdata,computationsandoutputs,and

2. Afastwayforotherstounderstandtheevaluation.

Adequatetimeshouldbeallowedfortheevaluationmodeltographallkeyinputsand
outputsaschecksonerrorsandforrapidunderstandingoftheentity.Theseshouldinclude
includingcashflows,NPV,prices,salesvolumes,production,grades,saleableproduct,
revenue,capitalcosts(constructionandongoing),operatingcosts,tax,netcashflow.

41

3.3.11 HelicopterView
Theevaluationprocessshouldbeconductedwithregularpausestounderstandhowtheentitylooks
fromahelicopterview.

Resultsandgraphsshouldbeviewedafterimportantstagesinthedevelopmentofthe
evaluation.

3.3.12 Avoid
Overcomplexityandblackboxspreadsheetfunctions.

Linkstootherworkbooks:thesearedangerousbecausetheothermodelmaybealtered
withoutthechangebeingrecognised.Ifusedthewholerow/columnwithtitlesandlabelsis
referencedacrosssocovertchangescanbeseen.

Macrosthatperformcalculations:thesecannotbereadilyfollowedvisuallynorauditedand
generallyarenottrusted.

Hiddenrows,columnsorworksheets:theDataGroupfacilityissatisfactorybecauseit
marksthecollapseddata.

Spreadsheetfunctionsthathaveahistoryofmisuse:thesearedifficulttoaudit,whereas
longhandcomputationscanbefollowedeasilyandvisually.

42

3.4 AlternativeEvaluationandAssessmentMethodologies

AlthoughtheDCFapproachisthepreferredmethodologyusedintheminingindustry,numerous
othermethodologiesareavailableandareincreasinglybeingusedonamoreregularbasis.During
thecourseofdevelopingtheAusIMMGuidelinesforModellingandEvaluationthetopicof
alternativemethodologieswasraisedanddiscussed.Itwasdeemedprudenttohighlightthe
existenceandcontinuingemergenceofthesealternatemethodologiesandtodiscussacouplein
brief,namelyRealOptionsValuation(ROV)andValueatRisk(VaR).TheAusIMMdoesnotinany
waysuggestthatthesemethodologiesbeusedinassessingmineralprojects,butratherthat
memberskeepinmindthatalternativetoolsareavailableandarebeingincreasinglyacceptedin
conjunctionwiththetraditionalDCFapproach.

3.4.1 RealOptionsValuation(ROV)

WhatisRealOptionsValuation?

TheRealOptionsValuation(ROV)techniquewasderivedfromtheBlackandScholesfinancial
optionpricingmodeldevelopedin1973.Thesequenceandtimingofdecisionscanbemodelled
usingROVthusprovidingamethodwhichvaluesprojectflexibility.

WhenROVshouldbeapplied?

RealOptionsValuationissuitedtoprojectswithinherentfutureuncertainties.Foraprojectwith
littleornouncertainty,ROVcanbeused;howeveritwillyieldthesameresultasatraditionalDCF
valuation.

ROVshouldbeusedwhendifferingbusinessstrategiesexisttodeterminethevalueofeachstrategy.
Additionally,itcandetermineatwhichtimeastrategyshouldbeactedupon.

Benefitsanddrawbacksofthemethod

ROVcanaccuratelyvaluedecisionsunderanuncertainfuture.However,theaccuracyofthe
valuationdependssignificantlyontheassumptionsusedtocarryoutthevaluation.

Computingtimeisdependentofthenumberofuncertainparametersincorporatedintothe
valuation,thusasROVcomplexityincreasessotoodoescomputingtime.Tominimisecomputation
timekeyparameters(i.e.commodityprice,recoveryandminingrate)needonlybeincluded.
Computerprograms,suchasDPL(DecisionProgrammingLanguage),allowaROVtobecomputedin
underaminutewithasmanyastenuncertaininputparameters.

43

Oneofthegreatestbenefitsofusingarealoptionsprocessisthatitcanchangeadecisionmakers
wayofthinking.Therealoptionwayofthinkingmayseetheearlyabandonmentofanuneconomic
projectasasuccess.Itplacesimportanceontheabilitytomodifyaplanratherthantoadheretoit
anditfavoursinvestmentsthatarerobusttouncertaintyratherthandependentonit.

3.4.2 ValueatRisk(VaR)

WhatisValueatRisk?

VaRisusedinfinanceformeasuringandmanagingrisk.Whenusedinportfoliomanagementitis
commonlyexpressedasaprobabilityofmakingalossorreturnbelowacertaindollarvalueovera
specifictimeperiode.g.anassetportfoliowithaoneweek5%VaRof$10mhasa5%chanceof
decreasinginvaluebymorethan$10movertheweek.

WhenVaRshouldbeapplied?

TheVaRmethodprovidesanestimateddistributionofoutcomes.Italsoallowsthemanagementof
riskbyprovidingafeelforexposureonthedownsideandhenceprovidesanopportunitytotailor
riskexposure.

Benefitsanddrawbacksofthemethod

ApplicationofVaRintheminingindustryinvolvestheidentificationofrisksandtheir
interdependenciesatalllevels.Thisinvolvesacomprehensivestageofquantifyingandconsidering
alltherisksreducingthechanceofoversightsthatmayoccurwhenusingalternativemethods.

Theidentificationofrisksthatarematerial,understandingtheirinterdependencies,alongwiththe
quantificationandmodellingofprobabilitycurvesisaninvolvedprocessthatrequiresgatheringa
considerableamountofinformation.

Theconceptthatastatisticalapproachcanbeappliedforunderstandingthedistributionofvalue
outcomesandthatthenstrikingaVaRisapplicabletonumerousmarketsholdstrue.Infinancial
markets,themethodisusedtomakedecisionsforinvestinginvariousmarketseachwiththeir
respectivelevelsofrisk,liquidityandvolatility.Miningassetsdemonstratetheirownpeculiar
characteristicsaroundliquidityandvolatility,suggestingthatconceptsinherentinVaRwillbeused
formakinglongertermdecisionsconcerningexistingandproposedprojectsratherthan,asitis
currentlyusedinfinancialmarkets,forshortertermportfoliomanagement.

44

APPENDIXAWORKEDEXAMPLE
Thefollowingexampleisillustrative,andnotintendedtobedefinitive,ofhowtostructureamodel.
Theanalystshouldalwaysconsider,amongstotherthings,that,whenstructuringamodeland
summarypage,itisimportanttoconsiderthelevelofdetailatwhichtheexerciseistobe
undertaken,theaudienceitisintendedfor,andtheinformationnormallyexpectedtobeconveyed.

ExampleofaSummaryPage
Summary
Purpose
Thisworksheetsummariestheresultsandinputassumptions

ExistingCase
ABCMineproposesproducinggoldusingcarboninpulptechnology
NetPresentValueExistingCase A$ 2,007,342
InternalRateofReturnExistingCase 9.1%

AlternativeCase
ABCMineisconsideringifitshouldcontinuetostudyusinglowergradeoreandthenewunproven'rapidtransfer'technology
NetPresentValueAlternativeCase A$ 37,833,798
InternalRateofReturnAlternativeCase 9.4%

CumulativeNPV
CumulativeNPVExistingCase
CumulativeNPVAlternativeCase

Mining ExistingCase TonnesOreorOuncesGold Mining AlternativeCase

TonnesOreorOuncesGold

1,200,000 6 1,200,000 6

1,000,000 5 1,000,000 5

Grams/Tonne
Grams/Tonne

800,000 4 800,000 4

600,000 3 600,000 3

400,000 2 400,000 2

200,000 1 200,000 1

0 0 0 0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
OreProduction Containedgoldmined Headgrade OreProduction Containedgoldmined Headgrade

ExistingCase GoldSoldandPrice ExistingCase GoldSoldandPrice

60 1,200 60 1,200

50 1,000 50 1,000
Ounces(000's)

Ounces(000's)

40 800 40 800
$/ounce

$/ounce
30 600 30 600

20 400 20 400

10 200 10 200

0 0 0 0
1 2 3 4 5 6 7 8 9 10 1 2 3 4 5 6 7 8 9 10

Goldsold Goldproduced GoldpriceForecast Pretaxmargin/oz Goldsold Goldproduced GoldpriceForecast Pretaxmargin/oz

ExistingCase CashStreams AlternativeCase CashStreams

60 60

40 40

20 20
A$M

A$M

0 0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
20 20

40 40

60 60
Cashstream1:Revenue ExistingCase Cashstream3:OperatingCosts ExistingCase Cashstream1:Revenue AlternativeCase Cashstream3:OperatingCosts AlternativeCase
Cashstream2:CapitalCosts ExistingCase Cashstream4:Taxes ExistingCase Cashstream2:CapitalCosts AlternativeCase Cashstream4:Taxes AlternativeCase
CashFlow CashFlow

ExistingCase NPV AlternativeCase NPV

60 60
40 40
20 20
0 0
A$M

A$M

2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
20 20
40 40
60 60
80 80
DiscountedCashflow ExistingCase Cashflowifpositive DiscountedCashflow AlternativeCase CashflowDeficit
CumulativeNPV ExistingCase Cashflowifpositive CumulativeNPV AlternativeCase

45

ExampleofanExistingCasesheet

Existingcase
Purpose
ThisworksheetvaluestheexistingmethodofproducinggoldatABCMine

ExistingCase
ABCMineproposesproducinggoldusingcarboninpulptechnology

Results
NetPresentValueExistingCase A$ 2,007,342
InternalRateofReturnExistingCase 9.1%

Mining ExistingCase ExistingCase CashStreams

TonnesOreorOuncesGold

60
1,200,000 6
40
1,000,000 5

Grams/Tonne
800,000 4 20

A$M
600,000 3 0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
400,000 2 20

200,000 1 40

0 0 60
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Cashstream1:Revenue ExistingCase Cashstream3:OperatingCosts ExistingCase
Cashstream2:CapitalCosts ExistingCase Cashstream4:Taxes ExistingCase
OreProduction Containedgoldmined Headgrade CashFlow

ExistingCase GoldSoldandPrice ExistingCase NPV

60 1,200 60

50 1,000 40
Ounces(000's)

20
40 800
$/ounce

0
A$M

30 600 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
20
20 400
40
10 200 60
0 0 80
1 2 3 4 5 6 7 8 9 10
DiscountedCashflow ExistingCase CashflowDeficit
Goldsold Goldproduced GoldpriceForecast Pretaxmargin/oz Cashflowifpositive CumulativeNPV ExistingCase

LifeofMine units Total 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Cashstream1:ProductionandRevenue
Production
10Aug09TBensonmineschedule"MinePlanABCMineGoldProduction12June09"
OreProduction tonnes 2,150,000 300,000 500,000 500,000 500,000 350,000
Headgrade grams/tonne 3.1 2.5 3.1 3.8 2.9 2.8
Containedgoldmined ounces 213,183 0 0 0 24,116 49,839 61,093 46,624 31,511 0 0
ProcessingRecovery %ofcontainedgold 78% 83% 83% 83% 83%
Goldproduced ounces 175,736 0 0 0 18,810 41,367 50,707 38,698 26,154 0 0

Sales
23Aug09JGomachie:"ABCMineSalesPlan:July2009"
Goldincircuit weeks 3 3 3 3 3 3 3 3 3 3
Goldincircuit ounces 0 0 0 1,085 2,387 2,925 2,233 1,509 0 0
Goldsold ounces 175,736 0 0 17,725 40,065 50,169 39,391 26,878 1,509 0

Revenue
23Aug09JGomachie:"ABCMineSalesPlan:July2009"
GoldpriceForecast A$/ounceREAL 1,000 1,000 1,000 1,000 1,000 1,000 1,000 1,000 1,000 1,000 1,000
GoldRevenue A$REAL 175,736,334 0 0 0 17,725,080 40,065,236 50,168,501 39,390,613 26,877,999 1,508,904 0

23Aug09JGomachie:"ABCMineSalesPlan:July2009"
Debtors days 30 30 30 30 30 30 30 30 30
DebtorsClosing A$REAL 0 0 1,456,856 3,293,033 4,123,438 3,237,585 2,209,151 0 0

Cashstream1:RevenueExistingCA$REAL 175,736,334 0 0 16,268,224 38,229,059 49,338,096 40,276,467 27,906,433 3,718,055 0

Cashstream2:CapitalCosts
10Aug09GDawson"CapitalCostEstimateABCMine:IndicativeEstimatesVersionG"
InitialCapitalCosts A$REAL 58,000,000 3,000,000 30,000,000 25,000,000
OngoingCapitalCosts A$REAL 10,000,000 3,000,000 4,000,000 2,000,000 1,000,000
Cashstream2:CapitalCostsExistA$REAL 68,000,000 3,000,000 30,000,000 25,000,000 3,000,000 4,000,000 2,000,000 1,000,000 0 0 0

TaxdeductionsforCapitalExpenditure
3May09EHermiAssumeallcapitalisdeductedinproportiontothegoldsoldoverthelifeofmine.
TaxDeductionforCapitalExpenditure %ofcontainedgold 10% 23% 29% 22% 15% 1% 0%
Taxdeductionforcapitalexpenditure 68,000,000 6,858,601 15,502,975 19,412,366 15,241,935 10,400,262 583,860 0

46

LifeofMine units Total 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Cashstream3:OperatingCosts
5May09GDawson"OperatingCostEstimateABCMine:IndicativeEstimates."Thereisnowastetobemined.
miningcostpertonne A$REAL/tonneore 31 5 5 6 7 8
miningcost A$Real 13,300,000 1,500,000 2,500,000 3,000,000 3,500,000 2,800,000 0 0
processingcostpertonne A$REAL/tonneore 100 20 20 20 20 20
processingcost A$Real 43,000,000 6,000,000 10,000,000 10,000,000 10,000,000 7,000,000 0 0
fixedcosts A$REAL 15,000,000 3,000,000 3,000,000 3,000,000 3,000,000 3,000,000
Cashstream3:OperatingCostsE A$REAL 71,300,000 0 0 0 10,500,000 15,500,000 16,000,000 16,500,000 12,800,000 0 0
costperounce A$/ounceReal 558 375 316 426 489 0 0

Cashstream4:Taxes
GovernmentRoyaties
2June09RTorply:XXStateRoyaltyis1%ofrevenuepaidmonthly
StateRoyalty %ofrevenue 1% 1% 1% 1% 1% 1% 1% 1% 1% 1%
StateRoyalty A$REAL 1,757,363 0 0 0 177,251 400,652 501,685 393,906 268,780 15,089 0

CompanyIncomeTax
2June09RTorply:CompanyIncometaxrateis30%.Thecashpaymentaveragesmidyear.Assumeoperatingcostcashstreamapproximatesthecostofgoodssold.
GoldRevenue 175,736,334 0 0 0 17,725,080 40,065,236 50,168,501 39,390,613 26,877,999 1,508,904 0
less
Cashstream3:OperatingCostsExistingCase 71,300,000 0 0 0 10,500,000 15,500,000 16,000,000 16,500,000 12,800,000 0 0
Taxdeductionforcapitalexpenditure 68,000,000 0 0 0 6,858,601 15,502,975 19,412,366 15,241,935 10,400,262 583,860 0
StateRoyalty 1,757,363 0 0 0 177,251 400,652 501,685 393,906 268,780 15,089 0
AssessableIncome 34,678,971 0 0 0 189,228 8,661,608 14,254,450 7,254,773 3,408,957 909,955 0
2June09RTorply:CompanyIncometaxrateis30%.Thecashpaymentaveragesmidyear.Assumeoperatingcostcashstreamapproximatesthecostofgoodssold.
CompanyIncomeTaxRate %ofassessableincome 30% 30% 30% 30% 30% 30% 30% 30% 30% 30%
IncomeTax 10,403,691 0 0 0 56,768 2,598,483 4,276,335 2,176,432 1,022,687 272,986 0
Incometaxpayment 10,403,691 0 0 0 56,768 2,598,483 4,276,335 2,176,432 1,022,687 272,986 0

Cashstream4:TaxesExistingCaseA$REAL 12,161,055 0 0 0 234,019 2,999,135 4,778,020 2,570,338 1,291,467 288,075 0

CashflowandNPV
Cashlows
Cashstream1:RevenueExistingCase A$REAL 175,736,334 0 0 0 16,268,224 38,229,059 49,338,096 40,276,467 27,906,433 3,718,055 0
Cashstream2:CapitalCostsExistingCase A$REAL 68,000,000 3,000,000 30,000,000 25,000,000 3,000,000 4,000,000 2,000,000 1,000,000 0 0 0
Cashstream3:OperatingCostsExistingCasA$REAL 71,300,000 0 0 0 10,500,000 15,500,000 16,000,000 16,500,000 12,800,000 0 0
Cashstream4:TaxesExistingCase A$REAL 12,161,055 0 0 0 234,019 2,999,135 4,778,020 2,570,338 1,291,467 288,075 0
CashflowExistingCase A$REAL 24,275,280 3,000,000 30,000,000 25,000,000 2,534,205 15,729,924 26,560,076 20,206,129 13,814,966 3,429,979 0

InternalRateofReturnExistingCase 9.1%

47

ExampleofanAlternativecasesheet

Alternativecase
Purpose
ThisworksheetvaluesthealternativemethodofproducinggoldatABCMine

AlternativeCase
ABCMineisconsideringifitshouldcontinuetostudyusinglowergradeoreandthenewunproven'rapidtransfer'technology

Results
NetPresentValueAlternativeA$ 37,833,798
InternalRateofReturnAlternativeCase 9.4%

Mining AlternativeCase AlternativeCase CashStreams

TonnesOreorOuncesGold

60
1,200,000 6
40
1,000,000 5

Grams/Tonne
800,000 4 20

A$M
600,000 3 0
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
400,000 2 20

200,000 1 40

0 0 60
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 Cashstream1:Revenue AlternativeCase
Cashstream3:OperatingCosts AlternativeCase
OreProduction Containedgoldmined Headgrade Cashstream2:CapitalCosts AlternativeCase

ExistingCase GoldSoldandPrice AlternativeCase NPV

60 1,200 60

50 1,000 40
Ounces(000's)

20
40 800
$/ounce

0
A$M

30 600
2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
20
20 400
40
10 200
60
0 0 80
1 2 3 4 5 6 7 8 9 10
DiscountedCashflow AlternativeCase CashflowDeficit
Goldsold Goldproduced GoldpriceForecast Pretaxmargin/oz Cashflowifpositive CumulativeNPV AlternativeCase

LifeofMine units Total 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Cashstream1:ProductionandRevenue
Production
10Aug09TBensonmineschedule"MinePlanABCMineGoldProduction12June09"
OreProduction tonnes 4,300,000 600,000 1,000,000 1,000,000 1,000,000 700,000
Headgrade grams/tonne 1.5 1.3 1.5 1.6 1.7 1.1
Containedgoldmined ounces 204,180 0 0 0 25,080 48,232 51,447 54,662 24,759 0 0
ProcessingRecovery %ofcontainedgold 75% 80% 80% 80% 80%
Goldproduced ounces 162,090 0 0 0 18,810 38,585 41,158 43,730 19,807 0 0

Sales
23Aug09JGomachie:"ABCMineSalesPlan:July2009"
Goldincircuit weeks 0 3 3 3 3 3 3 3 3 3 3
Goldincircuit ounces 0 0 0 1,085 2,226 2,374 2,523 1,143 0 0
Goldsold 162,090 0 0 17,725 37,444 41,009 43,581 21,187 1,143 0

Revenue
23Aug09JGomachie:"ABCMineSalesPlan:July2009"
GoldpriceForecast A$/ounceREAL 1000 1000 1000 1000 1000 1000 1000 1000 1000 1000 1000
GoldRevenue A$REAL 162,090,032 0 0 0 17,725,080 37,444,348 41,009,152 43,581,499 21,187,237 1,142,716 0

23Aug09JGomachie:"ABCMineSalesPlan:July2009"
Debtors days 0 0 30 30 30 30 30 30 30 30 30
DebtorsClosing A$REAL 0 0 1,456,856 3,077,618 3,370,615 3,582,041 1,741,417 0 0

Cashstream1:RevenueAlternatiA$REAL 162,090,032 0 0 16,268,224 35,823,587 40,716,154 43,370,073 23,027,861 2,884,133 0

Cashstream2:CapitalCosts
10Aug09GDawson"CapitalCostEstimateABCMine:IndicativeEstimatesVersionG"
InitialCapitalCosts A$REAL 83,000,000 3,000,000 40,000,000 40,000,000
OngoingCapitalCosts A$REAL 15,000,000 6,000,000 6,000,000 2,000,000 1,000,000
Cashstream2:CapitalCostsAlterA$REAL 98,000,000 3,000,000 40,000,000 40,000,000 6,000,000 6,000,000 2,000,000 1,000,000 0 0 0

TaxdeductionsforCapitalExpenditure
3May09EHermiAssumeallcapitalisdeductedinproportiontothegoldsoldoverthelifeofmine.
TaxDeductionforCapitalExpenditure %ofcontainedgold 11% 23% 25% 27% 13% 1% 0%
Taxdeductionforcapitalexpenditure 98,000,000 10,716,624 22,638,938 24,794,226 26,349,473 12,809,852 690,889 0

48

LifeofMine units Total 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Cashstream3:OperatingCosts
5May09GDawson"OperatingCostEstimateABCMine:IndicativeEstimates."Thereisnowastetobemined.
miningcostpertonne A$REAL/tonneore 31 5 5 6 7 8
miningcost A$Real 13,300,000 1,500,000 2,500,000 3,000,000 3,500,000 2,800,000 0 0
processingcostpertonne A$REAL/tonneore 100 20 20 20 20 20
processingcost A$Real 43,000,000 6,000,000 10,000,000 10,000,000 10,000,000 7,000,000 0 0
fixedcosts A$REAL 15,000,000 3,000,000 3,000,000 3,000,000 3,000,000 3,000,000
Cashstream3:OperatingCostsE A$REAL 71,300,000 0 0 0 10,500,000 15,500,000 16,000,000 16,500,000 12,800,000 0 0
costperounce A$/ounceReal 558 375 316 426 489 0 0

Cashstream4:Taxes
GovernmentRoyaties
2June09RTorply:XXStateRoyaltyis1%ofrevenuepaidmonthly
StateRoyalty %ofrevenue 1% 1% 1% 1% 1% 1% 1% 1% 1% 1%
StateRoyalty A$REAL 1,757,363 0 0 0 177,251 400,652 501,685 393,906 268,780 15,089 0

CompanyIncomeTax
2June09RTorply:CompanyIncometaxrateis30%.Thecashpaymentaveragesmidyear.Assumeoperatingcostcashstreamapproximatesthecostofgoodssold.
GoldRevenue 175,736,334 0 0 0 17,725,080 40,065,236 50,168,501 39,390,613 26,877,999 1,508,904 0
less
Cashstream3:OperatingCostsExistingCase 71,300,000 0 0 0 10,500,000 15,500,000 16,000,000 16,500,000 12,800,000 0 0
Taxdeductionforcapitalexpenditure 68,000,000 0 0 0 6,858,601 15,502,975 19,412,366 15,241,935 10,400,262 583,860 0
StateRoyalty 1,757,363 0 0 0 177,251 400,652 501,685 393,906 268,780 15,089 0
AssessableIncome 34,678,971 0 0 0 189,228 8,661,608 14,254,450 7,254,773 3,408,957 909,955 0
2June09RTorply:CompanyIncometaxrateis30%.Thecashpaymentaveragesmidyear.Assumeoperatingcostcashstreamapproximatesthecostofgoodssold.
CompanyIncomeTaxRate %ofassessableincome 30% 30% 30% 30% 30% 30% 30% 30% 30% 30%
IncomeTax 10,403,691 0 0 0 56,768 2,598,483 4,276,335 2,176,432 1,022,687 272,986 0
Incometaxpayment 10,403,691 0 0 0 56,768 2,598,483 4,276,335 2,176,432 1,022,687 272,986 0

Cashstream4:TaxesExistingCaseA$REAL 12,161,055 0 0 0 234,019 2,999,135 4,778,020 2,570,338 1,291,467 288,075 0

CashflowandNPV
Cashlows
Cashstream1:RevenueExistingCase A$REAL 175,736,334 0 0 0 16,268,224 38,229,059 49,338,096 40,276,467 27,906,433 3,718,055 0
Cashstream2:CapitalCostsExistingCase A$REAL 68,000,000 3,000,000 30,000,000 25,000,000 3,000,000 4,000,000 2,000,000 1,000,000 0 0 0
Cashstream3:OperatingCostsExistingCasA$REAL 71,300,000 0 0 0 10,500,000 15,500,000 16,000,000 16,500,000 12,800,000 0 0
Cashstream4:TaxesExistingCase A$REAL 12,161,055 0 0 0 234,019 2,999,135 4,778,020 2,570,338 1,291,467 288,075 0
CashflowExistingCase A$REAL 24,275,280 3,000,000 30,000,000 25,000,000 2,534,205 15,729,924 26,560,076 20,206,129 13,814,966 3,429,979 0

InternalRateofReturnExistingCase 9.1%

FinancialAnalysis
Whyandwhenweshouldconsiderfinancialanalysiswitheconomicanalysis

DCFanalysisconcernsitselfwithcashinandcashout,thetimingofthesecashflows,andwhatthe
netvalueisinpresenttermsunderthedesiredrateofreturnsetbytheinvestorsthatprovideequity
andthelendersthatprovidedebt.Thepartiesprovidingequityanddebtfinancingwillrequirea
returnthatiscommensuratewithofthelevelofrisk(perceivedorreal)andtheseratesdetermine
thediscountrateusedinDCFanalysis.

AlthoughDCFanalysiswillidentifytheexpectedcashflowsattheoperationallevelitwillnot
necessarilyidentifythetimingandquantityofreturnsthatthepartiesprovidingtheequityanddebt
fundingwillreceive.Thisisofobviousimportancewhenconsideringthatthepartiesproviding
financewillwanttoknowwhentheirpaybackwillbereceived.Debtholderswillrequireassurance
that,underarangeofpossiblescenarios,interestontheloanfacilitycanbecoveredandthatthe
debtwillbepaidback.Equityholderswillwanttounderstandwhenpaybackintheformof
dividendswillcommenceandwhatthereturnwillbeoverthelifeofaproject.Giventhatdividends
arepaidfromretainedearningsanddebtrepaymenthasseniorityoverequitypayouts,the
operationneedstobemodelledfinancially.Ultimatelyitcomesdowntohowprovidersofcapital
receivereturnsbasedonwheretheysit,e.g.geographically,inwhichcurrency,basedontaxregimes
thatapply,howandwhentheycanaccesscashreturnsorearnings,etc.

49

Publicallylistedcorporationsaroundtheworldhaveastatutoryrequirementtoreporttheirresults
undertherespectiveaccountingstandards.Hencefinancialperformanceisassessedunderthese
accountingmeasures.Itisimportanttounderstandthat:

DCFprovidesameasureofvalueunderaneconomicapproachandtestsifthecostofdebt
andequityissatisfied(etc)overtheperiodofthecashflows,andthat

Financialanalysisisanecessarystepwhengravitatingtowardsthecorporateandfinancial
environmentsandwilltest,amongotherthings,forthesameovermorediscretetime
periods(e.g.ifinterestpaymentscanbecoveredeachyear).

50

APPENDIXBINTRODUCTIONTODISCOUNTRATES
Thisappendixisintendedtobeabriefintroductiontothetheoryunderlyingthespecificationof
discountrates.Itisassumedthatthereaderunderstandsthebasicprinciplesofthetimevalueof
moneyandthemechanicsofconductingadiscountedcashflow(DCF)analysistoderiveaNet
PresentValue(NPV):thesearenotdiscussedhere.Rather,thepurposeistoprovidebackground
informationtothetechnicaleconomicanalystwhomaynothaveformaltraininginthefield,sothat
he/sheunderstandswhatthediscountrateisintendedtodo,howitislikelytohavebeenderived,
andmostimportantlytoensurethatthediscountrateusedandthecashflowstowhichitisapplied
areconsistent.

ItshouldbenotedthatthediscussionisfortypicalDCFevaluations.However,manyoftheprinciples
apply,withvariations,toalternativevaluationmethodologiessuchasRealOptionsValuation(ROV).
Thediscussionisunderseveralsubheadings,asfollows:

WeightedAverageCostofCapital(WACC):Thediscountratetypicallyusedinmany
companies.

TheCapitalAssetPricingModel(CAPM):Typicallyusedtodeterminetherateofreturn
requiredbyshareholders(orequityholders)inacompany.

CashflowsRealorNominal,BeforeorAfterTax:Anyofthefourcombinationsofthese
parameterscouldbederived,anddifferentdiscountrateswillberequiredineachcase.
CashflowscanalsobeexpressedasbeforeandafterDebt,i.e.excludingorincluding
interestcoststhatwillapply.Cashflowsthatareafterthedeductionofinterestcostsare
typicallyreferredtoasgeared.Inourcoverageofdiscountratewewill,asistypicalinthe
resourcesindustry,refertoanalysisonanungearedbasis,beforeconsideringthefinancing
cashflows,hencethefourpossiblediscountratesratherthantheeightthatarepossible
ifalsoconsideringgearedcashflowanalysis.

AdditionstotheWeightedAverageCostofCapital:Therearetwogenerallyaccepted
approachesforreflectingriskinDCFvaluationsviathecashflowsorviathediscountrate.
Thatis,eitherthecashflowisreducedorthediscountisincreasedandthisresultsinalower
valuation.Ineffect,thehighertherisk,thenthegreaterthereturnsought.Many
companiesaddriskpremiumstotheWeightedAverageCostofCapitaltoaccountforrisks
ofdealingwithdifferentcommoditiesordifferentcountries.

WeightedAverageCostofCapital
Tospecifyadiscountrate,itisessentialtoaskwhatitisintendedtoachieve.Clearlythiswillbethe
sameaswhatitisintendedthattheprojectshouldachieve.Theunderlyingpurposeofanyproject
willtypicallybeatleasttoreturntotheinvestorstheircapitalplusarequiredrateofreturn.The
mechanicsofatypicalDCFcalculationaresuchthat,ifwediscountacompanyscashflowatthe
companysWeightedAverageCostofCapital(WACC)andgetanNPVofzero,wehaverepaidthe
capitalanddeliveredtherequiredreturn.AnypositiveNPVistheValueAddedbytheprojectover
andabovetherepaymentofcapitalanddeliveryoftherequiredreturn.

51

Anyventurewillbefundedbydebt,equity,oramixofthetwo.TheWeightedAverageCostof
Capitalisthecosttothecompanyofitstotaldebtandequityfunding.Itisderivedfromthe
followingformula:

WACC=rE.E/V+rD.(1t).D/V

where rE=returnrequiredonequity,orcostofequity

rD=returnrequiredondebt,orcostofdebt

E=marketvalueofequity

D=marketvalueofdebt

V=E+D

t=taxrate

WhendiscountingacashflowtocalculateanNPVitisimportanttouseadiscountratethatisinthe
sametermsasthecashflow.TheWACCisappliedtoungearedaftertaxcashflowsandsohasa
componentofcostofdebt(orinterest)andcostofequitytosuitthefactthatthecashflowis
availableforservicingdebtandequity.Thecostofdebtispaidbeforetax.Hence,itsaftertaxcost
isrD.(1t).The1tfactorisoftenreferredtoasthetaxshield.Equityholdersarepaidfrom
retainedearningsandthephysicalcashpaymentfromcashflowsaftertax.Hence,thecostofequity
isalreadyposttaxanddoesnotneedtobeadjustedforthetaxshielditdoesnotapply.

ThevariablesEandDaresometimesdeterminedfromthecompanyspubliclyreportedBalance
Sheet.Thebalancesheetfiguremaybeagoodrepresentationofthemarketvaluefordebtwhilst
themarketvalueofequityforpublicallylistedentitiesisbetterrepresentedbythemarket
capitalisationofthefirm.

Thecostofdebt,rD,istypicallyrelativelyeasytodeterminefromthedollaramountandinterestrate
ofeachsourceofdebtfunding,typicallydescribedindetailinthenotestotheannualaccountsin
thecompanysannualreport.Oneshouldalsoremembertocheckforanyneworretireddebt
facilitiesreportedbythecompanysincethelastreportedbalancesheet.

Therequiredreturnonequitycapital,rE,canbederivedbyvariousmethods:thisdiscussionwill
covertheCapitalAssetPricingModel(CAPM)approach.

TheCapitalAssetPricingModel(derivingtheCostofEquity)
Shareholdersreceivereturnsbytwomeans,DividendsandCapitalGains.Therateofreturn
requiredbyshareholdersdependsontheriskinessoftheinvestment:ifhighrisk,highexpected
returnsarerequired;iflowrisk,lowexpectedreturns.

Whileacceptingthatinrealitythereisalwayssomerisk,thereareinvestmentsthatareconsidered
riskfreee.g.governmentbonds.TheseprovidetheRiskfreeReturn,rF,andthe10year
governmentbondrateismostoftenused.

52

Investmentsspreadoverthetotalmarketwouldfacethemarketrisk,andwouldbeexpectedto
providetheMarketReturn,rM.

Investmentportfolioscanbebuiltwithalowerriskthanthemarket,andtheseareexpectedto
providereturnsbetweentheriskfreeandmarketreturns(i.e.greaterthanrFandlessthanrM).
Similarly,investmentportfolioscanbebuiltwithahigherriskthanthemarket,andtheseare
expectedtoprovidereturnsgreaterthanrM.Notethatreturnsforinvestmentsinnonriskfree
assetsareaverageexpectationsinthelongterm,butarenotguaranteedinanytimeframe,and
certainlynotintheshortterm.

TheCapitalAssetPricingModel(CAPM)relatesshareholdersexpectedreturn(rE)toriskbyalinear
functionwithagradientof,knownasthebetafactorofsimply,thebeta.

rE=rF+(rMrF)

whereistheratioofVolatilityofCompanyReturnstoVolatilityofMarketReturns

ThebetacanbeestimatedastheChangeinSharePrice(AdjustedforDividends)dividedbythe
ChangeintheMarketAccumulationIndexforthesametimeperiod.Todetermineacompanysbeta,
aseriesofsuchdatapointsisplottedovertime,andthegradientcalculated.Onecouldtrackshare
pricesandmarketmovementsoneself,orbuyinformationfromspecialistmarketresearchfirms.In
amathematicalsense,betarepresentsameasureofsystematic(ornondiversifiablerisk)ina
portfolioofassetsandismeasuredasthecovarianceofanassetsperformancerelativetothe
marketdividedbythevarianceinperformanceofthemarket.

Companybetasarequotedonvariousmarketwebpages,suchasthemajorbankssharetrading
websites,andalsopublishedbytheAustralianGraduateSchoolofManagement.Itisalsoimportant
torememberthatbetascanbecalculatedovervariousperiods(e.g.over18months,fouryears,etc)
andthereismorethanoneapproachavailable(butoftentheOrdinalLeastSquaremethodisused).
Acompanysbetacanalsochangeovertimemorethanonefigurecanbequotedovertime.

Bydefinition,themarket=1(if <1,theriskislowerthanthemarket,andif >1,higher),and

(rMrF)isdefinedtobethemarketriskpremiumabovetheriskfreealternative.Thefigurebelow
showstheserelationshipsgraphically:isthegradientofthereturnvsriskline.

53

Whenidentifyingthebeta,itisalsoofsomeimportancetonotethestatisticalcorrelation
coefficientfortherelationshipidentified:althoughabetavaluemaybedetermined,itmaynotbe
statisticallysignificant.Itshouldalsobenotedthatsomecompaniesarecountercyclicalandhave
negativebetas:theirreturnsmoveintheoppositedirectiontotheoverallmarket.

AccountingforInflation
Interestrateschargedbyfinanceproviders,andquotedinthecompanysannualreport,areusedto
specifynumericallythedollarvaluesoftherepaymentsthatwillbemadeinthefuture,inthemoney
ofthetimethatthepaymentsaremadethesearethereforenominalrates.Similarly,therates
ofreturngeneratedtoderiverEaretypicallybasedonreportedpricesovertime,withoutany
adjustmentfortheeffectsofinflationthesearealsothereforenominalratesofreturn.The
discountrateformulasquotedabovearethereforeNominalDiscountRates,whichcanonlybe
correctlyappliedtoNominalCashFlows.

Inflationerodesthepurchasingpoweroftheinterestandcapitalrepaidovertime.Therealreturn
isthatwhichisoverandabovetheinflationrate.

If rN= thenominalrateofreturn,and
ri= theinflationrate,

therealrateofreturnrRisNOTgivenby
(rNri),
butratherbytherelationship(knownastheFisherequation)
1+rR=(1+rN)/(1+ri)

i.e. rR=[(1+rN)/(1+ri)]1

DiscountRatesandNPVsRealandNominal,BeforeandAfterTax
Combiningtheabove,fourpossiblediscountratescanbederivedandapplied.Theappropriateone
tousewilldependonwhatthecashflowstobediscountedare:

Nominal,BeforeTax rNBT=WACC/(1t)=rE.E/V/(1t)+rD.D/V

Nominal,AfterTax rNAT=rE.E/V+rD.(1t).D/V

Real,BeforeTax rRBT=[(1+rE.E/V/(1t)+rD.D/V)/(1+ri)]1

Real,AfterTax rRAT=[(1+rE.E/V+rD.(1t).D/V)/(1+ri)]1

Thecostofequity,rE,isanaftertaxcostandsothebeforetaxdiscountrateshaverEgrosseduptoa
pretaxbasisofrE/(1t).

BeforeandaftertaxNPVscanbedifferent:

Theaftertaxdiscountratewillbelowerthanthebeforetaxdiscountrate.

54

 Thepointsintimesatwhichcapitalexpenditureisincurredandwhentaxdepreciationis
realisedaredifferent.

Anaftertaxevaluationmayincludetaxlossescarriedforwardatthestartoftheproject,itis
quitepossiblefortheaftertaxNPVtobegreaterthanthebeforetaxNPV(ifavalueisnot
attributedtothetaxlossesinthebeforetaxNPVcalculation).

NPVscalculatedfromrealandnominalcashflowsshouldbethesameifthecorrectdiscountrates
areused.Mathematically,deflatingnominalcashflowstorealandapplyingtherealdiscountrate
doesintwocalculationstepswhatisdoneinonestepbyapplyingthenominaldiscountrateto
nominalcashflows.Nominaltermcalculationsmayusedifferentinflatorsforvariousdriversand
componentsofthecashflow.Theeffectofthesewillnotnecessarilyaverageouttothegeneral
inflationratethatmaybequoted,butiftheoveralldeflationrateusedintheanalysisisalsousedin
theFisherequationforarrivingattherealandnominaltermdiscountrates,thereshouldbeno
differenceinNPVs.

AdditionstoDiscountRates
ThediscountratesasdefinedabovebytheWACCtakeaccountofinvestorsrequiredreturnsonly,
andthesystematicormarketrisk.Theydonottakeaccountofthebusinessriskofdealing
withcertaincommoditiesorincertainpartsoftheworld.

ManycompaniesaddariskpremiumtotheWACCtoaccountforthesefactorstypicallyupto
severalpercentagepointsforsomecommodities,andforvariouscountriesorregions.

Riskpremiumsarerulesofthumbthatappeartohaveacquiredlegitimacybyconsensusandlong
use.Thecommitteedevelopingtheseguidelinesisnotawareofanytheoreticalorevidentiary
supportfortheprocessitself,norforthevaluesusedfortheriskpremiums.Thecommitteenotes
that,whileusingdiscountratesthatincluderiskpremiumsmaybesatisfactoryforcomparing
alternativeswithinaparticularproject,givenitslocationandcommodity,thereareconceptual
difficultieswithcomparingsimpleNPVsderivedatdifferentdiscountratesforprojectswithdifferent
commoditiesand/orindifferentcountries.Itisalsoperhapsworthnotingthatthecompanysbeta
alreadyaccountsforitscurrentmixofcommoditiesandcountrieswhereitisoperating.

MonteCarlosimulationmaybeamorerigorouswaytoaccountforbusinessrisk,butonlyifreliable
probabilitydistributionsforvariousdataitemsareavailable.Allkeyparametersincluding
productionrateandmineableresourceneedtobeincluded:notjusttheeasiertoquantify
parametersofoperatingcosts,capitalcosts,gradesandrecoveries,etc.Itissuggestedwithout
proofthattheloweringoftheNPVresultingfromusingadiscountrateelevatedbytheuseofarisk
premiumisperhapsasurrogateforidentifyinganNPVthathasahigherprobability(perhaps90%)of
beingbetteredthantheexpectedvaluethatwouldbederivedwithnosimulationofbusinessrisks
anddiscountingattheWACC,whichwouldtypicallyhaveperhapsa50%probabilityofbeing
achieved.

Proponentsofothervaluationmethodologieswouldalsosuggestthattheuseofthesewould
precludetheneedtoapplysuchriskpremiums.ThisisdiscussedbrieflyinthesectionDiscount
RatesinOtherValuationMethodologiesbelowinthisappendix.
55

FinancingCashFlows
Thefinancingcashflowscapitalrepayments,interest,dividends,andthetaxeffectsofinterest
paymentsareaccountedforinthediscountrates.Theyarethereforenotincludedinthecash
flowsforeconomicevaluationsdeterminingprojectNPVetcforatypicalungearedtechnical
economicevaluation.

Thefinancingcashflowsmayhoweverneedtobecalculatedoutsidetheeconomicevaluationto
confirmtheabilityoftheoperationtorepayloansandmeetdebtcoveragerequirements,asmaybe
requiredbyfinanciers.

CalculationofanEquityNPVcalculationmayberequested,assumingspecifieddebtfundingfor
theproject,todeterminethereturntoshareholders.Debtdrawdowns,andrepaymentsofcapital
andinterestwillthencomeintothecashflowanalysis,andthediscountratetobeusedwillbethe
requiredreturnonequity.Thisisgenerallynotrecommendedforthetechnicaleconomicevaluation:
theprojectshouldstandonitsownmerits,andnotdependonthefinancingarrangementsforits
viability.

Onecouldalsoevaluateaprojectattheequitydiscountratewithzerodebtfundingtoassessstand
aloneviabilityofproject.Thiswouldtypicallybeamoreconservativeapproach,astherequired
equityrateofreturnwouldusuallybegreaterthantherateofreturnfordebt.

DiscountRatesinOtherValuationMethodologies
Asnotedintheintroductiontothisappendix,theprecedingdiscussionisfortypicalanalysesoftotal
netprojectcashflowwithdiscountingatthecompanysWACC,whichinessencetreatsthenetcash
flowbyreferencetothecompanysoverallriskinessasperceivedbythemarket.Riskpremiumsare
usedbysomecompaniestoaccountfortheadditionalperceivedrisksofdealingwithcertain
commoditiesand/orincertaincountries.

Othervaluationmethodologies,suchasModernAssetPricing(MAP),ArbitragePricingTheory(APT),
andRealOptionsValuation(ROV)approachthevaluationproblemfromthepointofviewof
identifyinganddealingwithvariousrisksindividually.Someofthesemethodologiesaredescribedin
moredetailinothersectionsoftheseguidelines,butforthesakeofcompletenessinthisdiscussion
ofdiscountrates,certainaspectsaredescribedhere.

Someofthesetechniquesaccountfortheriskassociatedwithindividualcomponentsofthecash
flow.Individualbetasarederivedfor(forexample)metalpricesandvariouscostcategories,suchas
labour,consumables,energy,andsoon.Thetechniquesusedtoderivethesebetaswillbesimilarto
thosedescribedabovefordeterminingtheshareholdersrequiredrateofreturn.Thebetasthus
derivedareappliedtothemarketpremium(iethedifferencebetweenthemarketandriskfree
ratesofreturn)toderivediscountratesrelatingonlytothesystematicormarketriskofeachcash
flowitem.

Eachcashflowitemisthendiscountedatitsappropriatediscountrate,theresultingcashflowsthen
summedtoobtainatotal,whichisthenaccountingforallrisks.Theonlyotheritemtothenbe

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accountedforisthetimevalueofmoney.Thetotalriskdiscountedcashflowisthereforethen
discountedattheriskfreerateofreturntoaccountfortheeffectsoftimingonly.

Thebetasderivedforeachcashflowitemwillautomaticallyaccountfortherisksassociatedwiththe
commoditiesandcountriesinvolvedintherevenueandcoststructureofthecompanyand/or
project.Theresultwillbeadollardenominatedvalue,butsincethediscountratesusedhaveno
referencetothecostsofdebtandequity,thereisnoguaranteethatapositivevalueimpliesthat
debtprovidersandequityholderscanberepaidtheirinvestmentsandpaidtheirrequiredratesof
return.

ConcludingComments
Itisrarelythetaskoftheengineerortechnicalanalysttoderivediscountrates.Theyareusually
specifiedbythecorporatefinancedepartment.

Technicaleconomicanalystsshouldhoweverbefamiliarwiththeassumptionsunderlyingtheir
derivation,andensurethattheappropriaterateisapplieddependingonthecashflowsgenerated:
realornominal,beforeoraftertax.

Inparticularitshouldbenotedthat,whilegeneratingapositiveNPVusingtheWACCasthediscount
rateimpliesthatallprovidersoffundinghavereceivedtherepaymentoftheirinvestmentsplustheir
requiredratesofreturn,thisdoesnot,asnotedinthebodyoftheseguidelines,implythatany
particularpatternoffinancerepaymentscanbemade.

Differentprojects,companiesandindustrieshavedifferentWACCs.Therearenumerousviewson
whattheapplicableWACCiswhenvaluinganinvestment.Theauthorsmakenorecommendations
regardingthesesometimesopposingviewsexcepttomakereadersawaretheyexist.However,itis
recommendedthatsomethoughtisgiventosuchmattersas:fromwhatperspectivethevaluationis
beingundertaken,thesizeoftheinvestmentrelativetothecompany,whetheritisinanindustry
withdifferentrisksandtypicalWACCsfromthecompanysinvestorsperceptions,howitwillalter
thecostofcapitalifthetransactionproceeds,andhavingawellconsideredandjustifiableposition.
Someofthe(conflicting)viewsthatmaybeencounteredare:

Whenvaluinganinvestment,themarginalcostofcapitalisconsideredrelevant.Butthe
WACCcanbeusedifweightedwiththeadditionalmarginalcost.Thisignoresissuessuchas
themarginalcapitalrequirementsbeingfullyfundedusingdebtandanyeffectsoncredit
ratingsandapossibleincreaseincostofdebt.Manybelieve,iffullyfundedbydebt,then
usetheexistingWACCatmargin.Overtime,companiesrefinanceandthemarginalcostof
capitalwillceasehencethislendssupporttousingthecurrentproportionofdebtand
equityatexpectedcostsofdebtandequity.

Whenvaluinganothercompanyforacquisition,useyourcompanyWACCasthatiswhatthe
acquiredcompanyscashflowswillbevaluedatwhenconsolidated.

Whenvaluinganothercompanyforacquisition,usethatcompanysWACC.

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 Dobothoftheabovetoidentifywhetheryouandtheothercompanyvalueitdifferently,
withpotentialimpactsonacquisitioncosts.

Whenvaluingacompanyinthesameindustry,usetheindustryWACCthismaybebased
ontheviewthatanoptimalcapitalstructureisobtainableand,giventheoptimalmixis
difficulttoobserve,oneusestheindustryaveragecostofcapitalinstead.

Whenvaluingacompanyinadifferentindustry,usetheindustryWACCwithanadjustment
foryourdebtposition.

BusinessUnitswithinacompanyeachhavetheirownsetofrisks,henceitisappropriateto
useadifferentcostofcapitalwhenrankingopportunities.

58

APPENDIXCRECOMMENDEDREADINGLIST

DiscountRates

Smith,L,1990.Inflationinprojectevaluation,CIMBulletin,83(935):129133.

Smith,L,1995.Discountratesandriskassessmentinmineralprojectevaluations,CIMBulletin,
88(989):3443.

Smith,L,2002.Discountedcashflowanalysis,CIMBulletin,95(1062):101108.

ValueatRisk

Lai,F.J.andStange,W.UsingValueatRiskforIntegratedProjectRiskEvaluation.AusIMMProject
EvaluationConference2009,2122April2009.

Stange,W.andCooper,B.ValueOptions,RiskandFlexibilityinPlantDesignandOperations.
AusIMMMetallurgicalPlantDesignandOperatingStrategies(MetPlant2008),1819August2008
Perth,WA.

Whittle,G.,StangeW.andHansonN.OptimisingProjectValueandRobustness.AusIMMProject
EvaluationConferenceMelbourne,Vic,1920June2007.

RealOptions

Howell,S,Stark,A,NewtonDP,Paxson,D.,Cavus,M.,AzevedoPereira,J,Patel,K.,2001,Real
Options:EvaluatingCorporateInvestmentOpportunitiesinaDynamicWorld,(FinancialTimes:
PrenticeHall).

Copeland,TEandAntikarov,V,c2001,RealOptions:APractitionersGuide,(Texere:NewYork).

Schwartz,ESandTrigeorgis,L,RealOptionsandInvestmentUnderUncertainty:Classicalreadings
andrecentcontributions,c2001,(MITPress:Cambridge,Massachusetts).

Clemen,RT,c1996,Makingharddecisions:Anintroductiontodecisionanalysis,(DuxburyPress:
Belmont,California)

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APPENDIXDTECHNICALECONOMICEVALUATIONGUIDELINES
COMMITTEEMEMBERS
ConvenorandChairman DrBrianWhite

SubCommitteeMembers SimonAllard

PeterCard

MichaelConanDavies

TimDaffern

BrianHall

RichardHorton

AlisonMorley

DrNawshadHaque

DrAndrewNewell

TimPeters

MonikaSarder

StellaSearston

DrBillShaw

DrWayneStange

AlexTrevisin

MikeWarren

GrahamWood

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