Managing capital risk exposure by design

The mining industry has been criticised for over-investing in projects by front-loading capital investment. This criticism reflects the irreversibility of capital investment which can lead to negative returns and value destruction when business conditions turn hostile. An Integrated Valuation and Risk Modelling (“IVRM”) framework can help companies consider the possibility of both hostile and favourable commodity price environments in their investment decision-making. IVRM is illustrated with a case study involving design choice at a prefeasibility project. In this example, there is a choice between either a staged development or a frontloaded capital design when there is gold price uncertainty. The analysis shows how static cash flow models may lead to front-loading capital with unnecessarily high risk exposure while a dynamic IVRM analysis brings out the lower capital risk of staged development. When capital is expensive, there is a real benefit to using IVRM to better understand the value of actively managing capital risk exposure with flexible project design.