Managing expectations – from buyer beware to buyer be aware

  • By PJ Fairfield FAusIMM CP(Min), Principal Consultant (Project Evaluations), SRK Consulting

Between 2012 and 2015 the resources industry experienced a downturn after a period of strong, sustained growth. As the commodity/investment cycle continues, the industry is again experiencing capital austerity in the wake of projects ‘failing’ (not delivering to expectations).

In response, the industry has experienced changes in investment behaviour (slowing of investment), the burden of increased regulatory environment and an increasing reliance on the regulatory framework and reporting requirements by stakeholders to assess risk. In addition to a softening and increasingly regulated market, investors have also had to accommodate multiple changes to the mineral reporting framework, including the release and implementation of the 2012 JORC Code, the 2015 VALMIN Code and increased penetration of the highly prescriptive Canadian National Instrument (NI) 43-101 reporting requirements (industry guides).

These changes have arisen following changes in investor sentiment from the aversion of risk in a greed-driven environment to one of fear (Widdup 2015) – perhaps driven by acknowledgement that investments are not well enough understood.

As investors seek to take advantage of the investment cycle, the key challenge of the technical specialist is to effectively communicate the technical risks/opportunity that drive project value.

If project risks and uncertainty (technical and financial) are more effectively and continually communicated, a greater depth of understanding will be generated, leading to more consistent and stable investment profiles. This could remove the extremes of the highs and lows of the investment cycle that are detrimental to our industry.

Challenges and reflections for the technical specialist

Yet again as an industry we are faced with project uncertainty, high levels of unemployment (after a period of unprecedented demand), reductions in investment levels (project capital and exploration), and declining investor sentiment due in no small way to the perceived failure of projects (poor investment return) over the last five years.

What can technical specialists do to manage the effect of the commodity price cycle and the resulting highs and lows in investor expectation and sentiment?

Papers will continue to be written about why projects fail to deliver, but it is suggested these reasons are the same today as in previous cycles. Are our studies failing or are we failing to adequately communicate the technical aspects that drive the results of the studies?

All models are wrong – some are useful

In recent years there have been many advances in the technical skills and techniques that have led to improvements in geological models and grade estimation, and detail in mining schedules. As a result, there followed a perception of improved accuracy of studies and forecasts.

So why are our studies not held in higher regard? What is our role in improving the way our findings are communicated?

Being precisely wrong

As an industry we are getting better at communicating the technical aspects of our work but there is still much that can be done. We have all ‘grown-up’ with and perhaps unwittingly accepted uncertainty and the inherent risk in our industry. When it comes to project value we traditionally report a single value defined by project assumptions based on detailed technical studies (implying precision and or accuracy) completed to varying levels of detail and accuracy.

What is the role of the technical specialist in improving the communication of risk uncertainties to set and manage the expectations of the stakeholder of this impact on the project economics?

Reporting requirements and regulatory frameworks

Canadian and Australian regulatory bodies have introduced and enforced tighter regulations on reporting standards and disclosure requirements The industry guides are mechanisms that we as an industry should be using to improve the quality of information provided to inform the investor.

The Australian Securities Exchange (ASX) and Australia Securities and Investments Commission (ASIC) have introduced and enforced tighter regulations associated with the public release and reporting of the results of technical and techno-economic studies.

In the author’s opinion, the intent of Table 1 and the ‘if not/why not’ approach as outlined in the JORC Code (2012) is now being embraced by the market and the responsible Competent Person/s. Comments and responses to the relevant sections within Table 1 are becoming more detailed and better address investor’s key requirements. The challenge going forward is balancing the use of Table 1 and not using it as a proxy for a technical report and burying the material aspects in technical detail and a minimalist response that does not adequately inform the reader.

It is the author’s opinion that the increased scrutiny and changes in ASX and ASIC requirements in recent years have, by and large, improved the quality of information made available through public releases. However, these moves have, at times, made it more difficult and prevented organisations from releasing relevant and potentially material information to stimulate investment. The author considers that as an industry we are yet to fully embrace and respond to the challenge of these increased requirements.

Ambiguity and understanding of the requirement to support public reporting at times leaves the junior with the apparent dilemma of not being able to report results of early stage project work and raise funds due to the absence of a supporting study, and not being able to complete a study and the required work due to a lack of funds. The tightening of reporting requirements has led to the perception that this information cannot be released. This isn’t true in all situations.

It is important that we as an industry continue to embrace and make the most of the changes in the industry guides and utilise them effectively to help educate the investor as to the likely range of outcomes for a project.

Investor response

Until recently, NI 43-101, JORC and VALMIN Code compliance were viewed by many investors as implying precision and accuracy, which discouraged detailed scrutiny and understanding of the underlying technical work. In the race to market, to take advantage of rising commodity and share prices, investors – particularly those new to the industry – appeared more interested in chasing returns than in understanding the technical risks associated with a mining project investment.

The investment community is now awakening to the fact that the industry guides are reporting standards and compliance does not necessarily imply precision and or accuracy.

More investors are looking to investigate beyond code compliance and now seek to better understand the technical basis to mining projects. The author has observed surprise by investors and some project owners following technical reviews revealing the extent of the variability and the resulting range of valuations. This reflects poorly on our industry’s ability to convey the inherently variable nature of project evaluation. The quality of the technical work undertaken is largely not in question, but the level of detail in the information being sought prior to an investment decision being made has reduced over the past five years. The author questions whether the investor really understood the associated risks and basis of the investment decision or was blinded by the allure of profit in a rising market.

We must recognise the role that technical specialists play in managing (or not) investor expectations and how this contributes to, and fosters, investor sentiment.

The author is observing greater and improved use of Table 1 of the JORC Code (2012) to address the questions being raised by potential investors leading to the opportunity for better informed investment decisions being made. The investor is now more aware and more easily identify the specific risks that are present and relevant at the particular stage of a project.

Response of the technical professional

The author has observed many parts of the industry become insular and defensive with increased scrutiny and questioning of technical work outcomes. Further, there appears to be a growing perception that not enough is being done to reduce the project risk and that we are getting it wrong. Are our reports misleading or is it that we are not communicating the relevant information effectively?

As the Competent Person, it is our responsibility to present the full details that support the results of our work. Rather than becoming defensive, we need to be proactive and better explain (in plain English, using layperson’s terms) the results and the uncertainty in the information we provide to make investors more aware of the likelihood and consequences of changes to the project.

As technical professionals, we know there is uncertainty in the technical assumptions and we expect the outcomes will change and lead to a range in project value. The capital cost estimates or operating cost estimates are likely to change, not to mention the grade of the Mineral Resource and Ore Reserve, yet as an industry we continue to strive for ‘the answer’.

We must recognise that a better informed investor will continue to invest in the right projects. We must be able to present these projects appropriately to provide confidence to the increasingly educated and sophisticated investor, such that the risks are understood and reflected in the results of the technical studies.

Public reporting

In a recent press release of results from a Scoping Study, an ASX listed company published capital and operating cost estimates with a range based on the uncertainty in the underlying technical basis. As an industry we should be encouraged by this response and see it as a positive outcome. Can/should the potential range of production scenarios be further explored or summarised?

This style of reporting should work to better inform investors of the range of values a project may deliver and lead to less disappointment from investors and attract investors back as they will be better informed and more aware of project uncertainty.

Conclusion

While the changes in reporting standards have at times been challenging, the author sees these being embraced and constructive dialogue is occurring between stakeholders to work through the differences in the intent and application of the codes and standards.

The author considers that by better and more clearly communicating the technical reasons for the likely range in project values, investors will become more aware of the likelihood for changes in project outcomes rather than being wary or fearful of project uncertainty.

It is considered that a greater understanding through availability of relevant information will clarify the uncertainty and mitigate the ‘fear’ of the industry.

As an outcome it is hoped that this will lead to more consistent and smoother levels of investment through all stages of the investment cycle that will assist the stability of the resource sector.

References

Widdup, H, 2015. Mining Cycles, in AusIMM Melbourne Branch Technical Meeting, November, 2015

Feature image: Copyright © 2014 Rio Tinto.

 


This paper was originally delivered at the Project Evaluation Conference, held in Adelaide from 8-9 March 2016.

The conference proceedings for Project Evaluation 2016 can be purchased via the AusIMM Shop.

View the AusIMM Conference Schedule to see upcoming professional development opportunities.

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