Background to this Series of Posts

This is the 16th in a Series of 17 Posts that will be published on this Blog each Tuesday and Thursday from September 16 to November 11. All 17 Posts will appear under the Blog Category ‘Valuation of Mining Companies’. For previously issued Posts in this Series click here. We hope you find this Post Series useful.

Posts #11 – #16 of this Post Series discuss Valuation Methodologies adopted by stock market investors, stock market analysts, corporate acquirers, merger and acquisition intermediaries, and business valuation experts when they value shares in mining companies. In these Posts the following terms have the following meanings, where each is ‘point in time specific’:

1. Enterprise Value: The total value of a business including both its interest bearing debt and equity components.

2. Equity Value: The total value of the shareholders’ equity of a business, where shareholders’ equity is stated at its fair market value, not at its ‘book’ or ‘carrying’ value.

3. En Bloc Value: The value of all outstanding shares (or other ownership interests) of a business viewed as a whole.

4. Per Share Value: That portion of the ‘en bloc’ value appropriately attributed to each class of outstanding share capital divided by the number of shares of that share class that are outstanding at a particular point in time.

The following discussion is subject to important caveats:

1. Any conclusion as to whether a particular valuation methodology is reliable or who does or does not adopt it is fact and circumstance specific. Accordingly, the categorizations set out in the following table and commentary may be inaccurate in any given fact situation.

2. ‘Corporate Acquirer’ means a corporation that acquires all of the outstanding shares or control of another company where it is able to access all relevant information of the target company pursuant to a detailed due diligence process after executing Confidentiality and Non-Circumvention Agreements.

3. ‘Corporate Acquirer’ in the context of the following discussion does not mean a corporation who makes a takeover bid for a public company or portion of the shares thereof where the ‘bidder’ has access only to publicly available information with respect to the target company. In the latter circumstance the ‘bidder’, typically being a company who expects post-transaction synergies, will have specific knowledge of its synergy ‘expectations’ and be in a better position to assess the value of the ‘target’ to it than any analyst not directly advising on the transaction.

Other Methodologies

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The Internal Rate of Return Surplus Methodology

This ‘project valuation’ methodology (i.e. a ‘quasi-enterprise’ value, not an equity value) develops a form of en bloc enterprise value. It is sometimes used as a valuation methodology where a Small Cap mining company has made a major discovery and a feasibility study has been completed. Pursuant to this methodology a full ‘life of mine’ cash flow model is built and the project forecasted Internal Rate of Return is determined. If the project (or the outstanding shares of the company if that is the only project the company has) is offered for sale, in theory (and absent considerations of synergy and competitive bidding) acquirers would apply their respective project investment ‘hurdle rates’ to their own full ‘life of mine’ cash flow forecasts, thereby developing their respective bid prices for the project or the vendor company’s shares as the case may be. To my knowledge this methodology typically is not adopted by Securities Analysts (or if it is, likely not in a reliable way) when developing prospective stock market prices due to lack of complete project cost information, but I believe generally is adopted (being a discounted cash flow methodology) and relied on by Corporate Acquirers and their advisers as one component of acquisition analysis.

The Dividend Yield Methodology

This methodology is a ‘companies comparator’ methodology and results in development of a company’s equity value. Pursuant to this methodology annual cash dividends are divided by current market price, and the results are compared between the company being analyzed and companies taken to comprise that company’s ‘peer group’. It is a methodology that is not by itself determinative of point-in-time value, and should be employed in conjunction with other value methodologies. In my experience it is a value measurement comparator commonly adopted by Securities Analysts where a company and its peer group pay dividends, but is not relied on by Corporate Acquirers other than in the context of determining what post-acquisition dividend payout the public markets may expect, and whether as a result the public markets are likely to assess an acquisition as ‘accretive’.

The Present Value of Exploration Expenditures Methodology

This ‘project valuation’ methodology (i.e. a ‘quasi-enterprise’ value, not an equity value) is sometimes advanced as an alternate valuation method where mining projects are at an early stage of exploration and development. This methodology develops a form of en bloc enterprise value. Pursuant to this methodology the present value of historic exploration and development expenditures and so-called ‘justifiable’ proposed exploration and development expenditures, are aggregated to develop a ‘fair market value’ for a project. In turn, depending on how many projects a given ‘early stage’ mining exploration company has, this methodology might be adopted to develop an imputed market value for its outstanding shares. I do not believe this methodology typically is adopted by Securities Analysts or by Corporate Acquirers, and is noted only for completeness. In my view it should not be considered meaningful, and should not be given any weight.

The Historic Reserves per Km of Camp Structure Methodology, The Land Area Methodology, The Past Explorations Budget Methodology, The Proximity to Past or Active Mines Methodology

These ‘project valuation’ methodologies (i.e. ‘quasi-enterprise’ values, not equity values) sometimes are advanced as alternate methods of valuation where mining projects are at a very early (typically ‘showings’) stage of exploration and development. The basis for each methodology is obvious from their respective descriptions. These methodologies develop a form of en bloc enterprise value. As a practical matter values determined or estimated pursuant to any of these methodologies in my view are of little use in determine a point-in-time value. With the exception of the ‘Proximity to Past or Active Mines Methodology’ that sometimes is assigned some weight by them, to my knowledge neither Securities Analysts nor Corporate Acquirers typically adopt this methodology. These methodologies are noted only for completeness. Where adopted as a comparator test in my view they typically should not be considered meaningful, and should be no given weight, perhaps with the exception of the ‘Proximity to Past or Active Mines Methodology’ which absent discovering a resource is at best an ‘indicator’ of possible resource potential.

For previously issued Posts in this Series click here.

Ian R. Campbell has for over 35 years been one of Canada’s best-recognized Business Valuation Experts – see biography on this Blog.

This Series of Posts is reproduced and supplemented in E-Books titled ‘The Valuation of Mining Companies’ and ‘Valuation Methodologies’. Those E-Books can be found under the E-Learning tab in the Main Navigation Bar of www.StockResearchPortal.com. They are reviewed and amended as market conditions change and our experience dictates. Accordingly, we recommend readers of this Blog Series periodically visit www.StockResearchPortal.com and review those E-Books.

For a comprehensive discussion of Share and Business Valuation see ‘The Valuation of Business Interests’, Ian R. Campbell and Howard E. Johnson, The Canadian Institute of Chartered Accountants, 2001, available through the websites of either Campbell Valuation Partners Limited www.cvpl.com, or The Canadian Institute of Chartered Accountants www.cica.ca.

The views expressed in this Post are those of the author. The value of shares of a given company is time and fact specific. The valuation theories, principles, methodologies, observations, comments and data inputs discussed in this Post are of a general nature, and are provided for information and general guidance only. They should not be taken to include all ‘value or price relevant factors’. Nothing in this Post is intended to, nor should be taken to, constitute economic or investment advice. See Legal Disclaimer.

© 2008, Stock Research DD Inc., all rights reserved.

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