Valuing a multi-product mining project by compound rainbow option analysis

Abstract

Resources development projects, including the early stage of exploration, can be regarded as a type of R&D project that consists of multiple stages. In each stage there is an option to proceed to further stages at an appropriate time after a certain period needed to complete the ongoing stage. The value of a resources development project in general depends on the price of the main product and the prices of several by-products; these are usually correlated to some extent. A development project of a gas field, which also produces a certain amount of crude oil as a by-product, has been evaluated by an extended multi-stage SSA (stratified state aggregation) method. The project was treated as having a compound rainbow option, whose underlying asset prices correlate with each other, and also as having geological and technical uncertainties that decrease according to the project stage. Consequently, the expected value of the project with compound rainbow option and the expected optimal timing to exercise the investment option to proceed to the following stages were obtained.