WEBVTT

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[SQUEAKING]

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[RUSTLING]

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[CLICKING]

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RICHARD DE NEUFVILLE: Now, the
bidding process was two stages.

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There was a big penalty if you
kept it but didn't develop it.

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Why would that be?

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Well, because what
would happen is,

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a company might want to say,
well, I will acquire the site,

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but then I'm a
big copper company

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and I have assets elsewhere,
I won't use it right away.

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I'll use my other assets
and only use this one

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and spend the money to develop
this particular project when

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it's worthwhile for me.

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Now, the country
that owned it, Peru,

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was not interested in
that because they were

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interested in having the jobs.

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They were interested
in having the exports.

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They were interested
in having investment.

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So they wanted to be sure that
the company that bid for it

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would, in fact, either develop
it seriously or walk away

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from it if it turns out
not to be geologically

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or, in terms of timing,
to be interesting.

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So the timeline was,
you could explore

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the geology and the
topography and the access

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and the technical aspects
in phase 1, and in phase 2,

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you had to spend three
years or more developing--

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three years or less
developing the project

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before getting your profits.

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So that's the timeline for it.

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So in a decision and
analytic point of view,

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a decision tree,
if you won the bid,

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you had two years to explore.

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You could then walk
away from it or, if that

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was your flexibility, you could
decide it wasn't a good deal,

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or spend three
years developing it

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and then produce
metal or ore, and then

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metal for as long as you want
until you closed them off.

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So the question of
flexibility was to walk away.

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This was flexibility on the
system because at this level

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it didn't say whether you did
anything to design the mine one

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way or the other.

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It was simply, is it worthwhile?

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Now, here's where the
flexibility analysis came in

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and the simulation came in.

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I've said to talk about that.

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So the system model
was, so the NPV

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depended on a lot of things.

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It depended on the oil
quality and quantity.

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Was it 2% copper or 1% copper?

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What other materials
might be associated

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and how valuable might they be?

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What was the cost of mining?

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What was the price of
metals once you got them out

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of the country and
into the market?

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What's the price of copper?

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They had the distribution
of the key parameters.

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You had estimated ones on
the technical cost model.

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Like, how is this
factory going to work,

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this smelter going to work?

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You had to do something
about the market data

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based upon history, but guessing
in for the next 25 years.

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You had to have expert judgment
based upon the test boards

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that you might have
going down a couple

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thousand feet through rock.

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You couldn't spend-- you
couldn't drill that many.

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They cost about a million
dollars apiece at least.

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But what did it all add up to?

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So you had a number
of uncertainties

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to value of the outcomes
of this process.

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So here's a listing of
the sources of uncertainty

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in terms of the mine's life.

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What happened?

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So there's the mine's life.

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In this case, they
determined it was 20 years.

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Why was that?

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Well, at the discount
rates that they're using,

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they figured out the
value beyond 20 years

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didn't amount to very much,
given the other uncertainties,

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so they didn't calculate
out beyond that.

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They could easily have
done it if they wanted to,

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but it didn't seem worthwhile.

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You had the future prices of
zinc and copper, particularly.

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That was done through
a stochastic process.

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And a lattice analysis
is a technical term

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used here for it.

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I won't explain this for now.

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Then there was the quantity of
the ore, the cost and so on.

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These were all done by
probability distributions

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and Monte Carlo simulations.

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Now, just a side note
on the historic copper

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prices in the past.

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And this is the-- well,
somehow my footnote on this--

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This is actually the price that
was quoted in about a week ago.

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I had a footnote to
say that right up here,

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but it seems to
have disappeared.

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I'm sorry.

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And here is the prices.

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And what happened in
this particular case,

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it's illustrative that
there was an event that

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occurred around
here, which really

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was the commitment
by China to build

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an enormous amount of things--

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cities and apartment
buildings and railroads

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and so forth consuming a lot
of copper for electric wire

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and so forth.

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So then a huge jump in demand.

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And there was a
before and an after.

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So a simple analysis, everything
that occurred over this time

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would not have been
so appropriate.

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The question of whether
this phenomenon will

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last forever, and
maybe this will

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continue on at more or
less this level or not,

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that's yet to be determined.

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But that's the
situation with it.

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So looking at the more
recent was the idea.

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So the sources of uncertainty
I've listed there.

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The simulation drew from
the various distributions

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that happened.

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It can draw from all
kinds of ones here.

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You had the probability
distribution,

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selection of factors, the
determination of each NPV.

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And you repeated this
2,000 or so times

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to get the NPV distribution.

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And here is the results
of it with no flexibility.

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That is, if you were
committed to doing this,

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and you could not
walk away from it,

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here is their assessment, or
their view of the assessment,

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with a mean value of a
half a billion dollars.

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But it could be loss
of a billion dollars

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and could be a gain up here
of as much as $3 or $4 billion

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if everything
turned out the best.

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And so it was a very risky
thing without the flexibility.

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So base case, no flexibility.

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Now, I'm analyzing it
with a flexibility, which

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meant if it's not
looking good, we're

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going to walk away from it.

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You say, aha.

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If at the end of the two
years it's not looking good,

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it means that we are
not going to do it.

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So you walk away from it.

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We drop all of this, and we
only look at the positive side,

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then it has a value
of $800 million.

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So you walk away in
case it looks bad,

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it doesn't look profitable.

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So this analysis
was done before they

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committed what the bid was.

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So it looks like it has
a value of $819 million.

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So the rule here was, you only
have one chance to walk away

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from it.

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You either do it
and get the value,

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or you walk away from it.

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So having the flexibility
changes your value

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from with the flexibility
to without, the value

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of the flexibility is about
a quarter of million dollars,

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269 in terms of this analysis.

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And that's the value
of the flexibility.

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So now the question was,
what do they bid for?

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And they have to now think about
what the competition might do

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and so forth.

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What you bid for something
is another aspect of it.

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But the value of the
flexibility to abandon,

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that was the question, is
an estimate of $269 million.

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Going back, it is--

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the values without it, taken
away from the value with it,

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and left over the 269.

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