Case Study: Mining fleet capital
The largest capital items in the mining side of the operation are normally the truck and shovel fleets. Additional trucks and shovels are often required to expand the fleet capability or replace old equipment. The planned size of the mining equipment fleets is often determined in the feasibility study for the project based on the geology, mining, processing, environmental and market costs, productivities and prices. As many of these factors can change over time, the appropriate size of fleets needs to be reviewed periodically, given the size of the costs best practice is to review them annually for projects with a life of five years or more.
In this example we will firstly consider the size of the truck fleet. The number of trucks is normally matched to the number of shovels; the cycle times to the various waste dumps and crushers.
Consider the implications on the truck fleet of a simplistic goal of reducing annual costs by ten per cent while maintaining the budgeted metal production (so as not to lose revenue). To reduce the annual cost of the operation, projects can reduce the number of trucks operated, perhaps park ten per cent of the trucks and/or not buy additional trucks. In order to not sacrifice the metal production while using fewer trucks, plans can be adjusted so that the areas containing ore continue to receive high priority, but the waste handling receives a lower priority.
In this way, metal production targets are still achieved and the operating costs of the business are reduced. The truck fleet requirements could be substantially reduced in this scenario. The waste that is no longer mined may not impact on the business for several years until eventually the reduced availability of high-value ore is impacted. In this scenario, the impact on shareholder value can be substantially worse than the costs saved, while the high-capital processing assets and business infrastructure are not utilised with high-revenue-generating ore. We clearly need a much more sophisticated measure of shareholder value than simply the cash flow for a few years.
The implications on the value of the project for large capital decisions last many years or even decades. The best framework will use the full value implications on the entire business (NPV, the single overarching objective), not just during the budgeting period. Analysis of the project for scenarios with and without the extra trucks (finding the most valuable case for a good decision) requires multiple cases to determine the size and timing of the truck fleet investments.
The impact on revenue and costs also needs to be evaluated according to the year in which the value is realised. Although costs saved this year are more valuable than the same revenue lost next year, substantial revenue forfeited in the future can outweigh short-term cost savings.
This systematic analysis leads to many measures of potential project value that will then reveal if cost reduction goals should be applied to the truck fleet and how large the cost reduction should be. If the delayed or reduced revenue is less than the value saved through cost reduction, should this decision be implemented? There may be times when significantly more than ten per cent of costs should be saved, and other times when costs should actually be increased so that maximum project value is achieved for the shareholders.
Prestripping is a clear example of when we need to incur upfront costs to gain revenue in future years. Large multiphase projects require many stripping initiatives, and each needs to be implemented to maximise shareholder value. These large projects use the cash flows from every period to be optimised simultaneously so as to maximise the value of the project and associated shareholder value.
Case Study: Mine extension or closure
As a mine matures, it is common for additional reserves to be included in the project or for parts of it to be closed. Extensions may be in the form of satellite projects, additional pushbacks and/or the inclusion of underground operations as the surface mining draws to an end. The capital costs for mine extensions may include additional workshops, mining fleets, conveyor extensions and services. Closure of mines or parts of mines has the potential to reduce costs significantly.
The single overarching objective remains to maximise the value of the entire business for the shareholders. When capital is limited and the economics of projects are dropping, the temptation can be to cut those projects with the lowest rates of return or the longest payback periods. Both of these financial instruments have serious flaws (Principles of Corporate Finance, Brealey & Myers) and shareholders would be better to determine the NPV for the different options.
A set of cases with a range of capital requirements should be optimised to measure value (NPV) from each scenario. Care is needed to ensure that each case is compared with similar optimisation rigour and that it can be implemented in practice. We should not put a lot of energy into only tweaking the value from our favourite case since this can lead to bias in the results. All cases should be optimised to a similar level of rigour so that they can be compared fairly and decisions made that truly improve shareholder value.
During downward cycles, companies tend to quickly spread the message that there is ‘no capital’ available during these times. However, these statements rarely actually mean ‘zero’ capital constraint. Instead, they typically mean that significant justification will be needed for capital requests, and the larger the request the greater the justification. If there truly is a capital limit, then we should undertake the bulk of our analysis within this constraint and be extremely careful of unrealistically ‘unconstrained’ scenarios.
Case Study: Process plant expansion
Processing plant expansions can be a source of substantial value to a long life project. A 60-year project has many years that have a very low impact on the project value. The impact of ten per cent annual cash flow discounting means that revenue delayed by two years only receives 81 per cent of its value today. After ten years, this drops to 35 per cent, and after 44 years it is less than one per cent. This provides a significant incentive to delay large costs and a strong motivation to bring forward revenue. Many analysts therefore only consider the first 20–30 annual cash flows to value mining companies. This discounting of cash flows encourages processing plant expansions to be considered since they may move revenues from years 40–60, where they contribute little to project value, into the first 20–30 years.
We start with the objective of maximising shareholder value where NPV as the best proxy for this. This is an important first step since it is easy to become distracted with the additional metal that is produced and lose sight of the costs required to produce it.
We then have a range of processing expansion options to consider. Doubling and tripling the processing capability has advantages in terms of simplicity of design, implementation and maintenance, but does not necessarily provide the highest value for shareholders. There may also be good reasons to use different equipment or only expand part of the process.
When evaluating each scenario, we want to make sure that we make the most of each capital step. For example, the mining policies such as pushback sequencing, stockpiling and cut-off grades should be optimised for each processing scenario. Modern optimisation algorithms allow processing policies such as throughput/recovery relationships to be simultaneously optimised with the mining policies for each case. As a further example, a copper flotation circuit may have its throughput and recovery changed by optimising the semi-autogenous grind size and flotation residence time simultaneously with the mining policies. Projects using leaching pads may optimise the leach times, irrigation and oxidation rates simultaneously with the mining policies.
Simultaneous optimisation of mining and processing policies is an old concept that has wide application for determining which processing plant expansion should be selected. If mining and processing policies are not optimised simultaneously, then lower value schedules result and decisions can be made that significantly destroy shareholder value.
These policies are often designed to achieve maximum recovery, being a ‘proxy’ for the maximum shareholder value. This proxy can hide significant value to the project when optimised using full project NPV. We can also optimise this policy over time; we normally see higher throughput rates early in the mine life when ore is plentiful, and maximum recovery in the last few years when the mine is shut down if it does not extract every economic part of the revenue-generating products. A key optimisation benefit is often found when the processing policies are varied over time with the mining policies.
The rigour of systematic optimisation should also be applied to the base case where no significant capital is required. For example, the integration of throughput/recovery relationships with mining policies (cut-off grades, phase sequencing and stockpiles) normally provides a substantial improvement (5 to 15 per cent NPV) in the value of a project. Rather than paying large amounts of capital for new processing facilities, similar improvements in metal production and revenue can be gained by using higher throughput rates with only slightly lower recoveries. Some additional mining equipment may be required to realise this value, which may be very cheap compared to the expanded processing plant capital option.
The capability to undertake this analysis is now available commercially, although much of the industry is unaware how substantial the value is, how low the capital costs are to implement it and how easily the analysis is to undertake with new optimisation software. These techniques have been already been applied to coal, copper, diamond, gold and poly-metallic mines, there is every indication that there is application in other commodities.
Simultaneous optimisation of mining and processing policies is an old concept that has wide application for determining which processing plant expansion should be selected. If mining and processing policies are not optimised simultaneously, then lower value schedules result and decisions can be made that significantly destroy shareholder value.
