Treatment of Exploration Results

The proposed rules would require a registrant to disclose material exploration results (as and if determined by a qualified person) for each of its material mining properties. This

proposed disclosure requirement would align the Commission’s disclosure requirements for exploration results with those in CRIRSCO-based codes. The proposed rules also would provide guidance for registrants when exploration results are considered material.

Although the Commission’s current disclosure requirements and policies do not provide for the disclosure of exploration results, some registrants disclose exploration results on a voluntary basis. Presumably, registrants currently providing such voluntary disclosures benefit from doing so. From an individual mining registrant’s perspective, the proposed requirements would be beneficial if the associated incremental economic benefits exceed the incremental costs of complying with the disclosure requirements, as proposed. From an investor’s perspective, the proposed rule would be incrementally beneficial if the expected benefit in terms of more efficient investment decisions due to the additional information exceeds the cost of processing the same information.

Because a new mining project inevitably starts from some form of exploration activity, disclosure of material exploration results would provide important information to investors about registrants’ mining operations and potential growth opportunities. We expect the disclosure of exploration results by smaller mining registrants to be especially useful to investors as such registrants tend to have a narrower range of mining operations and fewer individual projects. We estimate that a majority of mining registrants are very small firms: 51% of mining registrants (176 out of the 345 registrants identified above) have $5 million or less in total assets, suggesting they are mainly exploration stage registrants.

It is important to recognize that exploration results, by themselves, without the assessment of geologic and grade continuity required in resource estimation, are inherently speculative. Thus, it may be difficult for investors to value exploration results accurately and there is a risk that some investors would put too much weight on this information, which in turn could lead to inefficient investment decisions. The proposed requirements are intended to mitigate any potential costs related to the uncertainty associated with the disclosure of exploration results in a couple of ways. First, the proposed rules would preclude the use of exploration results, by themselves, to derive estimates of tonnage, grade, and production rates, or in an assessment of economic viability. This should reduce the potential for overvaluing the disclosed exploration results. Second, disclosure of material exploration results must be based on the analysis of a qualified person submitting a technical report summary that is filed as an exhibit with the Commission. The proposed qualified person and technical report summary requirements should increase the accuracy and reliability of the disclosed exploration results. In addition, the proposed requirements would also increase the usefulness of this information to investors by aligning the disclosure of material exploration results with the requirements in CRIRSCO-based codes, which would improve the comparability of the disclosed information relative to similar disclosures by mining companies in jurisdictions such as Canada and Australia.

Quantifying the anticipated net benefit to investors from the proposed disclosure requirement is difficult. There is some academic evidence suggesting that investors respond favorably to the disclosures of exploration results. For example, an academic study of 1,260 exploration results announcements made by 307 unique Australian mining companies over the

announcement day.453 For each such company, the abnormal return was calculated relative to the return on the same day for a size-matched non-announcing commodity peer. Consistent with exploration results being more value relevant for smaller firms, the study also finds a

significantly higher announcement day return for smaller firms, where size is measured by pre- announcement market capitalization. We also note that the announcements of explorations results in the sample were compliant with the 2004 edition of the Australian JORC code for mining disclosure, which contains requirements for disclosure of exploration results that are similar to the proposed requirements.454

We expect an increase in compliance costs for those registrants that disclose material exploration results for the first time for any particular project. These costs would include the assessment of materiality, the costs of preparing the required technical report summary, and the costs of reporting the results in annual reports and registration statements filed with the

Commission. To the extent that these costs are fixed rather than scaled to the size of the project, the cost burden would be relatively larger for smaller registrants.

We note that the proposed requirement to disclose material exploration results does not impose an affirmative obligation to hire a qualified person to make a determination about exploration results. Registrants who perceive that the compliance costs related to engaging a qualified person are prohibitive can refrain from engaging a qualified person to make a

determination about the exploration results. In that situation, the registrant would not be required to disclose material exploration results because the required information and documentation by

453

See Ron Bird, Matthew Grosse, and Danny Yeung, “The market response to exploration, resources, and reserve announcements by mining companies: Australian data” (2013), Australian Journal of Management, Volume 38, Issue 2, pp. 311–331.

an expert necessary to support the public disclosure of material exploration results would not be present.

The compliance costs of the proposed disclosure requirement should be substantially mitigated for registrants that already report based on CRIRSCO standards, as those standards have similar disclosure requirements for material exploration results.

The proposed rules require disclosure of determined material exploration results only with respect to individually material properties.455 One alternative to the proposed requirement would be also to require disclosure of material exploration results when the registrant has determined that the aggregate mining operations are material but no individual property is material.456 Relative to the proposed rules, this alternative would provide investors with more information concerning the prospects of the registrant’s mining operations but it would be significantly costlier for affected registrants. The costs of this alternative could be mitigated by requiring the additional material exploration results to be presented in summary form.

4. Treatment of Mineral Resources

As discussed above, disclosure of mineral resources is currently precluded in SEC filings unless required pursuant to foreign or state law. Industry participants have raised concerns regarding the adverse competitive effects potentially stemming from the inability of U.S. registrants to disclose mineral resources.457 These industry participants have stated that mining companies and their investors consider mineral resource estimates to be material and

455 _{See Section II.D., supra.} 456 _{See Section II.B.1, supra.} 457 _{See note 27, supra.}

fundamental information about a company and its projects.458

The proposed rule would require a registrant with material mining operations to disclose specified information concerning any mineral resources that have been determined based on information and supporting documentation from a qualified person. In the absence of such information and supporting documentation, the registrant would not have mineral resources as defined in the proposed rules, and as such, would not be required or allowed to disclose mineral resources in a SEC filing.459

As proposed, a registrant with material mining operations that has multiple properties would be required to provide both summary disclosure about its mineral resources in addition to more detailed disclosure concerning its mineral resources for each material property.460 As discussed above, the proposed requirement would expand the scope of the current disclosure regime, while aligning the Commission’s mining disclosure rules with those in foreign jurisdictions based on the CRIRSCO standards.

We expect the proposed framework for disclosure of mineral resources to result in additional useful information concerning a registrant’s operations and prospects. Because mining registrants already assess mineral resources in the course of developing mining projects, requiring information about mineral resources to be disclosed would significantly reduce the information asymmetries between investors and registrants. Reducing information asymmetry

458 _{See SME Petition for Rulemaking at 1 and 13.} 459

In other words, the disclosure requirement would not be triggered if the registrant chose not to hire a qualified person because it would lack the information and documentation to support the disclosure of mineral resources, as required by the proposed rule.

relating to mineral resources should lower the cost of capital and improve capital formation.461 Moreover, since the CRIRSCO-based codes already require similar disclosure of mineral resources, the proposed framework would improve competition among mining registrants by removing the competitive disadvantage that U.S. registrants currently experience relative to reporting firms in foreign jurisdictions. This also may improve the attractiveness of U.S. capital markets for mining companies. Similar to the case of the proposed requirement to disclose material exploration results, the proposed requirement to disclose mineral resources may be particularly beneficial to smaller exploration stage mining registrants (and their investors) as their valuations may be more dependent on non-reserve mineral deposits.

We note that for registrants that currently disclose “mineralized materials” there should be a comparatively lower incremental reduction in information asymmetries. Nonetheless, the proposed framework would result in disclosures that are more consistently presented and more transparent to investors, thereby increasing comparability of such information across mining registrants. For example, the differences between measured and indicated mineral resources would be clear under the proposed rules since they will be distinct and not aggregated as mineralized material. The proposed requirement that the disclosures must be supported by information and documentation provided by a qualified person would also improve the quality and reliability of the disclosures compared to the current disclosures of mineralized material. To the extent the above expected incremental improvement in disclosure to investors reduces

information asymmetries, the efficiency of investment decisions would increase and registrants

461

Although we expect disclosures that reduce information asymmetries to reduce cost of capital for the typical mining company, we also expect there to be a reallocation of capital from relatively low quality companies to higher quality companies as better information on the companies’ prospects are revealed. This reallocation would help improve efficiency and capital formation overall, but also means that some

that currently disclose mineralized material may still experience a reduction in cost of capital. Finally, relative to the current practice for disclosure of mineralized materials, requiring the disclosure of mineral resources by rule should reduce registrant uncertainty and facilitate compliance.

Estimates of mineral resources are typically associated with a greater uncertainty than estimates of mineral reserves. To help investors better assess the uncertainty surrounding

mineral resource estimates, the proposed disclosure framework would mandate a classification of mineral resources into inferred, indicated and measured mineral resources, in order of increasing confidence based on the level of underlying geological evidence, with the estimates for inferred mineral resources being the most uncertain.462 In addition, we are proposing that resource disclosures must be supported by an initial assessment by a qualified person and that this

assessment, at a minimum, must include a qualitative evaluation of modifying factors to establish the economic potential of the mining property or project. We believe that requiring an initial assessment by a qualified person would reduce the uncertainty surrounding mineral resource estimates and increase the value of the information for investors. Specifically, we believe that a well-defined and specific technical study to support disclosure of mineral resources should improve the accuracy and reliability of the mineral resource estimates for investors. Since estimates of mineral reserves are based on estimates of mineral resources, the greater accuracy of the resource findings should lead to better mineral reserve determinations.

The proposed rule would generate compliance costs for registrants with material mining operations that disclose mineral resources. The increase in costs would be greater for registrants

462 _{Because of the inherent uncertainty associated with inferred resources, we note that registrants may have an}

incentive to aggressively report such resources. However, this incentive would be mitigated by not allowing inferred resources to later be directly converted to mineral reserves. See section II.E.2, supra.

not currently disclosing mineralized material. The costs would include the incremental costs (above the registrant’s mineral resource assessment practices) of the initial assessment and the costs of preparing the technical report summary, in the case that one is required. As discussed above, if registrants are currently using a professional who would not meet the qualified person definition, search costs and potentially higher compensation costs may also be incurred. In deciding whether to disclose mineral resources, we expect companies would weigh the

incremental compliance costs of producing reports that meet the required standards against the expected benefits stemming from such disclosure, based on their individual facts and

circumstances.

The compliance costs associated with the proposed framework for disclosure of mineral resources would be mitigated to some extent for registrants that report in foreign jurisdictions with CRIRSCO-based disclosure codes given the similarity between the requirements in those codes and our proposal. In this regard, however, although all CRIRSCO-based codes require some type of study to support the determination and disclosure of mineral resources, most do not define a specific type of study. As such, the proposed initial assessment requirement could result in increased burdens for these mining registrants to the extent that our proposed initial

assessment differs from registrants’ practices for determining resources.

For example, although the CRIRSCO-based codes prohibit the use of inferred mineral resources to support a determination of mineral reserves, they typically permit the use of inferred mineral resources in a scoping study463 as long as the competent or qualified person provides

463 _{A scoping study (called a preliminary economic analysis in NI 43-101) is used to determine whether to}

proceed with further work leading to preparing a pre-feasibility or feasibility study for mineral reserve determination. In contrast to our proposed rules, CRIRSCO-based codes allow registrants to disclose results

appropriate cautionary language regarding the low level of geological confidence in those

resources. Accordingly, a registrant may incur costs if it has obtained a scoping study that would not be in compliance with the proposed rules because it contains an economic analysis that includes inferred mineral resources.464

There is evidence suggesting that investors respond favorably to the disclosures of mineral resources. For example, the previously discussed study regarding the disclosure of exploration results also analyzes the announcement returns to disclosures of mineral resources.465 Analyzing 624 resource announcements by 278 publicly traded Australian firms between 2005 and 2008, the authors document an average abnormal stock return of 2.5% on the announcement day. As for the exploration results announcements, the abnormal return was calculated relative to the return on the same day for a size-matched non-announcing commodity peer. Unlike the announcements of exploration results, the authors find no relation between company size and the abnormal returns. However, abnormal returns are significantly greater when a mining company announces mineral resources for the first time. The authors suggest this may be the case because much of the existing information asymmetry is resolved at the time of the first announcement.

One alternative to the proposed disclosure requirement for mineral resources is not to require the qualified person to provide an assurance that all issues relating to the relevant modifying factors can be resolved with further exploration and analysis. Instead, as is required by the CRIRSCO-based codes, the qualified person could be guided by the definition of mineral resources provided in the proposed rules in determining that the mineral resources have

464 _{See note 155, supra.}

“reasonable prospects of economic extraction.”466

The compliance cost related to preparing an initial assessment to support mineral resource disclosure associated with this alternative would likely be lower than the costs associated with the proposed requirement. First, the alternative would reduce the amount of work that the qualified person has to do to support his or her determination of resources. In addition, the absence of the requirement to provide the specified assurance could reduce the qualified person’s potential liability, and as a result, reduce the cost of engagement of the qualified person. At the same time, this alternative could increase the uncertainty surrounding the prospects of economic extraction of mineral resources and therefore reduce the value of the disclosure of such resources.

Another alternative we considered is not to require the preparation of a technical report summary, as in most CRIRSCO jurisdictions. This alternative would further lower compliance costs but would also reduce consistency in the disclosures and increase the uncertainty about the quality of the mineral resources estimates.

5. Treatment of Mineral Reserves

As discussed above, we propose to revise the definition of mineral reserves to align it with the CRIRSCO standards by requiring that the qualified person apply defined modifying factors to the indicated and measured mineral resources in order to convert them to mineral reserves. The proposed rules would permit either a pre-feasibility or a feasibility study to

provide the basis for determining and reporting mineral reserves. The proposed rules would also require that the reserve estimations and disclosures thereof be based on the work of a qualified

466

See, e.g., CRIRSCO’s International Reporting Template pt. 21, which states “[t]he term ‘reasonable prospects for eventual economic extraction’ implies a judgment (albeit preliminary) by the Competent Person in respect of the technical and economic factors likely to influence the prospect of economic extraction, including the approximate mining parameters.”

person.467

We expect the proposed revisions to the disclosure of mineral reserves to have several economic benefits. First, the proposed revisions specify in more detail the process that is required for registrants to convert mineral resources to probable or proven mineral reserves, including, as noted above, requiring the application and description of relevant modifying factors that affect the conversion. The increased detail and clarity of the proposed requirements should lead to more reliable and consistent disclosures. Second, because the determination of mineral reserves would be based on the analysis and documentation provided by a qualified person, the disclosure would be associated with the incremental benefits potentially stemming from the qualified person requirement, as discussed above. Third, the staff currently requests that

registrants obtain a full feasibility study to support the determination of mineral reserves, but the proposed rules would allow, under certain conditions, the use of a pre-feasibility study, thus reducing compliance costs relative to current practice. This benefit is likely to be more significant for smaller, capital-constrained registrants since the cost of feasibility studies is positively related to the size of individual projects rather than the size of the registrant.

Pre-feasibility studies, while adequate for disclosure of mineral reserves, require less time than feasibility studies. For example, one study estimates that between 12% and 15% of the engineering work on a project is completed by the end of the pre-feasibility study compared to between 18% and 25% at the end of the feasibility study.468 Thus, assuming the same cost per worker-hour, a pre-feasibility study will be around 33-40% less costly than a feasibility study.