When smaller is sometimes better

Until the last third of the twentieth century, most mine developers did not have ready access to project capital so they had to develop projects using a combination of new shareholders’ funds and retained earnings. Projects were built small and then expanded, which reduced the initial capital exposure and also ensured that further increments of investment were based on a growing understanding of the geology, metallurgy, mining performance and prospectivity of the deposit. Expansions could be timed to suit favourable market conditions.

With the advent of modern project finance and syndicated banking, capital constraints became less important. Companies both large and small based their studies on the immediate development of the largest possible project, because that invariably showed the highest net present value (NPV). It was assumed that any scale of project would attract project finance if it satisfied the hurdles set by bankers. Not enough thought was given to the magnitude of the risk to the owner.

In reality, regardless of the availability of finance, the interests of existing shareholder owners of a mineral deposit may be best served by a modest scale of development, with restricted use of external capital. The apparent value of a smaller project as measured by NPV may be lower, but the risk-adjusted value to shareholders may be greater.

Project risk includes not only production performance but also the timing and cost of project delivery. In a small company, if there is an overrun on a large initial capital cost, shareholders may suffer from a massive dilution in value by the need to raise additional funds in a time of adverse publicity, or they may even lose control of the project entirely. Even in large companies, poor delivery of a large project will be reflected in the share market.

In today’s world, the assumption that bank finance will be available for any scale of project at an acceptable cost must be challenged. Larger projects are more difficult to execute, have more demanding infrastructure requirements and a greater environmental and social impact. Most modern Mineral Resource / Reserve reporting standards require that extraction has been demonstrated to be viable under reasonable financial assumptions before an Ore (or Mineral) Reserve can be published. Those financial assumptions should include a reasonable expectation that finance for the proposed project will be available at an acceptable cost.

The staged development of a mine may result in multiple parallel processing circuits and smaller, more selective mining machines operating at higher cut-off grades, at least in the early phases. At Bougainville Copper Limited in the early 1970s, flexibility and selectivity were built into the initial pit operations by the technological limitations of the day, which included 100 tonne trucks and 13 cubic metre shovels. Similarly, the processing plant began with twelve ball mills. Mining capacity was never a constraint on mill throughput. Therefore, an increase in milling rate (at constant grind) or a finer grind (at constant milling rate) translated directly to increased production. As the head grade gradually declined the throughput was gradually increased to offset it. Had the plant started life with a single SAG circuit this would not have been possible. The modern alternative is to build very large expansions (e.g. Kennecott) or new concentrators (e.g. Escondida, Grasberg). This involves major changes in workforce numbers and retraining.

A small mine with a low capital investment can be viewed as a trial mine that enables ground conditions, mining methods, metallurgical performance and other factors to be evaluated. Stope and pillar stability or pit wall performance are full-scale experiments that may guide a subsequent, much larger, development. If the capital investment can be kept low, initial returns to shareholders may be very attractive. The history of the Mount Morgan mine in Queensland is one of gradual expansion and evolution of processing technology. This gave fabulous returns to the early investors with records suggesting 10,000 tonnes were mined in the first few years to produce 100,000 ounces of gold, giving investors a return of 130,000 per cent. In a modern development of the same orebody this opportunity would have been subsumed in building a much larger project from the outset. The gold cap on the copper orebody might today be seen as a sweetener or as an obstacle to be sluiced away in pre-stripping the “optimized” pit, both options having been taken in Papua New Guinea in recent memory.

In today’s changed commercial environment, more thought should be given to limiting the size of capital raisings and building smaller, but expandable, new mines. Simulation modelling of project success and failure at various scales will show when the outcome is likely to provide the best opportunity, and the lowest risk of loss, to the current owners.