An Example Of Using Real Options To Model A Mine Expansion Decision At A Multi-Zone Deposit

Real options (RO) valuation is an alternative net present value (NPV) framework that is able to incorporate both management flexibility and dynamic project risks. In this paper, management is considering the development of a satellite low-grade zone while operations in a developed high-grade zone continue. If the low-grade zone is developed prior to high-grade zone exhaustion, mine capacity must be expanded before additional production from the low-grade zone can be processed. This expansion can be avoided only if low-grade zone development is delayed until the high-grade zone is exhausted. The RO model presented here allows the development and capacity expansion decisions to be reconsidered on a discrete half-year basis. It delineates price regions, for given levels of high-grade zone reserves, in which it is optimal to develop the low-grade zone, defer low-grade zone development and abandon the mine irrevocably.