Elements of Due Diligence for Mining Investment Projects

Due diligence, also known as "cautious investigation", refers to a series of activities conducted by investors in the field investigation and data analysis of all matters related to the investment of the target enterprise after reaching a preliminary cooperation intention with the target business.

In the large-scale aboard mining investment projects , generally will organize a team or entrust a third party department to carry out due diligence work, but in the small and medium-scale mining investment, the work is always ignored, while due diligence is the most important part in risk control, its importance should be taken serious treatment. Based on my personal recognition and superficial experience, I tried my best to show the elements of due diligence of mining investment projects abroad to you, but because of my ability and writing level is limited, inadequate, please correct.

In western countries, traditional due diligence mainly focus on the legal, financial and tax aspects, so as to ensure the legal validity of investor owned investment projects, to ensure the accuracy and reliability of investors investment projects past profits and assess the potential return on investment. Nowadays, many industry acquisition/MA are still around to investigate these three aspects, however, because of the particularity and complexity for mining investment projects, if you only investigate these three aspects, and you will ignore the most fundamental problems, namely investment in mineral project economic feasibility, technical feasibility, and the external environment.

Therefore, in western countries, the due diligence of mining investment projects is more comprehensive and detailed, including

(1) Using the international recognized standard and transparent assessment rules, analysis and determine the mineral resources and reserves;

(2) Comprehensive analysis of the project, including the selection of professional analysis, hardware condition analysis and investment environment analysis;

(3) The integration issues after acquisition/MA;

(4) The prediction of product market price trend, including supply and demand trend and financial situation analysis.

(5) Finance simulation analysis;

(6) the traditional three elements of due diligence.

For Chinese enterprises, the most lack person is who have international mining operation experience as well as mining knowledge and business mind, so it is very critical to make an appropriate list of due diligence. No matter whether organizing a team or entrust a third party department to be in charge of the due diligence work, it can be carried out one by one according to the elements of the list, collecting materials, establishing files, and summarizing them to the highest decision-making level. I will list the main points of the due diligence of oversea mining investment projects as below:

1. Using the international recognized standard and transparent assessment rules, analysis and determine the mineral resources and reserves; such as JORC(Joint Ore Reserves Committee)and NI43-101;JORC standard has become the most widely recognized classification standard for mineral resources and ore reserves in the world.

To investigate and verify the amount of resources and reserves, for mineral company it is not a problem, but for non-mineral company it will need more extra attentions, Many companies also conscious to improve the quality and increase the reserves and other indicators, so as to improve the price, these situation is widely seen in mining project transaction

2. Professional analysis of mining and mineral process. The key elements for the production and operation of the mining project also contain the mining and mineral process, such as mining conditions, difficulty degree and mineral processability, etc. Generally speaking, the survey work for these elements needs some experts with rich practice experience to the spot for on-site inspection and analysis of past information and data. If necessary, samples should be collected for comprehensive analysis and experiment to verify the authenticity of the data provided by the seller.

3. Analysis of the external environment. After analyzing the geology, mining and mineral processing of the project, we need to consider the external environment, including the infrastructure and construction conditions related to the project, and the circumstance, community and politics of the mining area.

Ignoring the hardware conditions is one of the most important reasons of mining investment projects failure abroad. In some projects, just outside the infrastructure investment will occupy 60-70% of the whole investment, they need not only construct production and living system of the mine and mining, but also they need construct the ports, railways, power stations, desalination infrastructure system, etc. any one’s investment is a large amount of money, so any element cannot be ignored;

The investment environment, including the political and legal environment, social and cultural environment, etc. Political and legal environment, including political system, political stability and continuity of policies, laws and regulations are comprehensive or not and judicial environment is strong or not; Many Chinese companies have paid a lot of tuition for social and cultural environment problems, including local citizen's education level, religious culture and customs and habits etc.

The education level will judge the quality of the main labor force during the project's construction and operation period; because of religious activities or holidays affect the duration and even lead to contradictory is often seen and reported. In some places, the mountains and rivers near the community are often regarded as gods. The exploitation of resources means the blasphemy of the gods. Therefore, they must not allow the entry and development of the outside world.

4. The integration issues after acquisition/MA.

There are several common phenomena of integration issues after acquisition/MA.

(1) Attention to acquisition/MA and ignore integration. After acquisition/MA, what kind of management system is needed to take over the purchased enterprises is widely neglected. Some foreign reports show that poor integration is the main reason for the poor results of the acquisition / MA of most projects.

(2) Attention to working ability and ignore behavioral ability. In most project aboard, working ability is the most element to consider, and behavioral ability is often been ignored. However if they do not have corresponding behavioral abilities to deal with different cultures, nationalities, languages, values, and legal systems, it will cause a lot of trouble for later stage.

(3) Attention to appoint and ignore the local. It is understandable that enterprises have the power to appoint new teams or individuals to acquisition/MA project to manage and supervise. However, how to smooth transition and develop the company for long are also important things which need to be considered.

(4) Attention to balance and ignore adjustment. After the completion of the acquisition/MA, some projects continue to retain the original team as they cannot find the right new team in short time, so that the continuity and smooth transition of the work are ensured. However, maybe there are some difference in ideas, thoughts or behavioral capabilities between the team and the buyer

Therefore, the integration of acquisition/MA is also one of the essential points for the due diligence of mining investment projects.

5. The prediction of product market price trend. The product is the main revenue source of the investment project, so the prediction of the product market price trend is obviously important. The life of the mining investment project is long, so it cannot just use short term’s data to be the basis for the trend prediction. The prediction of market price should be based on a product price fluctuation cycle at least, combined with market supply and demand, industrial macro regulation, product value in industry or finance and other parameters to analyze and predict.

6. Financial simulation analysis. Financial simulation analysis is the basis of weighing the reliable economic benefits of the project. Pre-project cost, project construction cost, production cost, equipment depreciation cost, financial cost and production operation proceeds will be the important components of financial simulation analysis.

7. The traditional three elements of due diligence.

(1) Financial due diligence. When conducting financial due diligence, we must first understand some basic financial situations of the project, and then have a comprehensive understanding of its accounting policies and tax policies. Then we should investigate the reliability and authenticity of the financial statements. Besides, we should make a comprehensive analysis of the change trend and influencing factors of the cost and income of the project as well as the change of the cash flow of the project.

(2) Tax due diligence. It includes the investigation of the status of tax compliance, the level of tax rating and the proposals for tax planning, etc.

(3) Legal due diligence, mainly including mining law, land law, environmental law, labor law, foreign exchange control and mineral products restrictions.

The above elements are the points which need to be paid attention to in the due diligence investigation of mining investment projects aboard, they are also the common problems which are often met. Of course, different countries or regions and different projects have their particularities and need to be treated differently. The more detailed, more objective, more accurate, and more accurate, can we provide the more solid support for the project decision - making layer.