Dec '14/Jan '15

Renewable Energy

Financial innovation on renewables

By Arnoldus Mateo van den Hurk

During the commodity boom, mining companies were focused on ramping up production and investing in new capital projects to expand supply. It was a time when the income statement was the key management paradigm in mining economics. Now, however, the global mining industry has refocused on cost control and capital discipline. Investors today value firms based less on how much they mine and more on how efficiently they do so, and how well they mitigate risk. In this new scenario, non-conventional renewable energy (NCRE) sources such as biomass crops, small-hydro, geothermal plants, concentrated solar power mirrors, wind turbines or solar panels can lower energy risks in mining. Why? Because renewable facilities act as mining assets whereas business as usual (BAU) energy options such as coal, diesel and gas, and even conventional hydro, become mining liabilities.

Proponents of NCRE projects need to develop new financial intelligence (i.e. knowledge of finance and accounting principles) to better comprehend the real value of NCREs for the mining industry. This new vision shifts accounting priorities away from analyzing the value of NCREs using the income statement (and the focus on profits and losses) and instead toward the balance sheet. Similarly, the focus should shift towards “cumulative savings” by viewing BAU energy as a long-term liability and NCRE as a long-term asset. Therefore I propose the industry adopt new energy metrics and key performance indicators (KPIs) linked to balance sheets and mining business valuation.

If you propose an NCRE project to many experienced mining managers or NCRE developers, often the first thing they will turn to is the income statement. Most operational managers know the income statement is where their performance is ultimately recorded in profits and losses. Here they look for any potential savings from an NCRE project and may argue that the large upfront capital investment will negatively affect the company’s credit rating.

However, if you try giving the same set of NCRE project financials to an experienced Toronto fund investor or a veteran board member of a mining company, the first statement they will turn to is usually the balance sheet. Here they look for figures that might prove the value of renewable facilities as long-term assets (which in turn could increase company value), how these numbers may lead to a fall in the weighted average cost of capital, and how the projected value of the business shows an upwards trend to eventually improve a company’s credit rating. If the projections are promising, they will allocate the upfront capex due to the attractive return on investment and the building of long-term shareholder equity.

Nevertheless, at present, many NCRE project promoters at mining companies do not analyze investment opportunities using a balance sheet. Therefore they see the large initial cost and want to avoid financing the upfront investment counterbalance; consequently the projects end up being abandoned.

In order to accurately communicate the value renewable facilities have, everyone must speak the same language. The first step toward accurately comparing BAU energy and NCRE is to keep other operational variables affecting the profitability of the mine constant (e.g. commodity prices, mineral ore grade and any other expenses). The second is to account for the expected increase in price for the BAU model based on international standards set by the International Energy Agency. These are the fundamentals of the methodology I employ for evaluating NCRE projects. These metrics are designed to help NCRE project proponents, mine managers, investors and directors of companies understand the projects they are working on from the same point of view. Renewable energy options in mining will grow along with the volatility of diesel prices. Demand for space and capex are the main handicaps for renewables in other industries. However, in mining, space is not an issue, and financial intelligence – by developing innovative financial models such as the one described here – transforms threats into opportunities and perceived liabilities into mining assets.

ARNOLDUS VAN DEN HURK
Arnoldus van den Hurk, PhD, is the founder and CEO of r4mining.com, an independent blog about financial innovation on renewable energy in the mining and oil and gas industry. Van den Hurk has extensive professional experience in geology, mining engineering, finance and renewable energies. He recently presented his r4mining methodology at the Renewables and Mining Summit and Exhibition in Toronto. Info@r4mining.com

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