Our value proposition

It is critical to articulate the key elements of the thinking that underpins our vision and strategy, in particular as to how they relate to value creation for shareholders over the medium term. The key issue being value per se and how we can attribute value to the development projects within our portfolio as they progress up the value curve.

Operating mines have cash flow and earnings and as such valuation is straightforward. Exploration projects however do not generate cash flow or earnings; they rely on astute management to manoeuvre them up the value curve and as such are notoriously difficult to value.

The value curve diagram depicts the sequential decision phases through the life cycle of a typical mining project with what we see as the different points of value. There are pre-determined clear deliverables which determine if we elect to proceed to the next stage or not. During the exploration phase, we typically decide whether to proceed with early evaluation techniques including inter alia Aeromag, Lydar, geophysics, with the outcome of these processes culminating in a drilling decision. In the case of drilling success (discovery), we have the option to continue to invest up to the feasibility study phase. When the remaining technical uncertainty does not justify additional investment in information i.e. once the feasibility study has been completed, we have the option to develop the resource by committing capital to the development phase. At this point we also have the option to relinquish the undeveloped resource.

Real option valuation (ROV) is becoming more readily recognised as a very useful valuation tool for mining projects. Valuing early stage projects with the ROV method, one can essentially treat the resource in the ground as an option. It finds its roots in the Black-Scholes option pricing model.

For valuing a mining company that owns multiple resources, we believe the preferred approach would be to consider each resource separately as an option, value it, and cumulate the values of the options to get the company’s value, i.e. a sum of the parts valuation.

Petmin’s assets on the value curve

Value of a mining company:

Higher commodity prices increase the value of developed and undeveloped resources; higher volatility in these prices may reduce the value of developed resources by increasing the risk and discount rate, but it increases the value of undeveloped resources by increasing the option time premium.

Consequently, if we regard undeveloped resources as options, DCF valuation generally undervalues natural resources companies because it ignores the value of the option – the additional value of flexibility in the face of future uncertain events. This can lead to poor decision making by analysts and managers, and loss of potential value to the company. The difference is greatest for companies with significant undeveloped resources and with commodities where price volatility is highest.

All valuations of mining companies differ, given that valuations are undertaken by persons with different skills, experience, socio-economic backgrounds, etc. It is immensely difficult to estimate production figures, costs, prices, etc. into the future and these inputs will differ vastly between persons undertaking the valuation.

No valuation method can be said to be right, but no method is wrong either. Real Options should not be viewed as being independent of DCF and multiples valuation approaches. The underlying idea is that they should complement the findings of each other. The valuation above simply shows the need for Petmin to clearly articulate the value of each of its independent projects using a rational method well understood by the investment community.

It remains for management to deliver the message clearly to our investors so that they understand our strategy and the value of optionality we now offer and make their investment decisions with this in mind; on this basis we believe we will see an improved recognition for the project pipeline and the BOT strategy in our share price.

In summary, our global expansion strategy is founded on a solid cash-producing base while simultaneously investing in high potential exploration projects in Africa, Turkey and North America, which provide Petmin shareholders with significant optionality and future potential value.

Focus on the steel value chain

Petmin is focused on commodities which support the steel value chain and are required for infrastructure and development.

Today, there are 26 cities today with a population greater than ten million. By 2025 there will be 13 more of these super-cities. In China, the proportion of the population living in urban areas will grow from 47% in 2010 to 55% in 2020. Similar demand is anticipated in other high-growth economies such as India. Our strategy is predicated on these demographic developments. These demographic developments are accompanied by an increasing demand for steel. Chinese steel consumption is expected to grow to 870 million tonnes by 2010, up from 450 million tonnes in 2008.