Prefeasibility hazard adjusted NPV
Jan 25th, 2023
A mining company asked us to perform a Prefeasibility hazard adjusted NPV evaluation. Our action first focused on bringing clarity in their risk register which presented numerous classic mistakes. Among these the usual confusion in terminology, confusing risks and hazards, uncertainties vs risks, etc.
Once the risk register was corrected it was possible to perform the requested hazard adjusted NPV and to draw valuable conclusions. Among these, we highlighted potential fatal flaws of the project which warranted in depth analyses at prefeasibility stage.
A note on uncertainties
Uncertainties are triggers for mishaps of various nature. Uncertainties contribute to many hazards but one should not double count them in the risk register. Indeed, they are not hazards per se. However, they influence the likelihood of “true” hazards to occur.
Risk register at pre feasibility stage
At prefeasibility stage it is possible that uncertainties may be preponderant with respect to probabilities of identified hazard generated mishaps. In that case it is advisable to proceed with a simplified approach as discussed below.
Risk register hazard and potential fatal flaws
Remarkably, even at prefeasibility stage under major uncertainties, the risk register can be used to:
- estimate what the potential fatal flaws of the project and
- evaluate the NPV correction that should arise from the presently corralled uncertainties and hazards.
Indeed, using the uncertainties and the estimated values of the hazard impacts Riskope was able to estimate a reduction of the theoretical NPV.
The estimated reduction of the NPV due to uncertainties and hazards was 76% in the considered case! Such a significant reduction was the sign that the project had excessive uncertainties. Our advice was not to approve the project at that time. Further analyses will hopefully allow to reduce the uncertainties and hopefully approve the project with a better NPV expectancy.
Hazards adjusted vs. Risk adjusted NPV
Notably, the hazard adjusted NPV is not the same as a risk adjusted NPV. Indeed, it is less reliable, but oftentimes it is the only value one can estimate using reasonable procedures. The reason for this is unfortunately simple. Especially at pre-feasibility stage there are generally too many uncertainties on key questions that require detailed studies and answers. These bear on the technical and design level as well as on risk engineering: probabilities of occurrences and cost of potential consequences.
Uncertainties vs NPV
The project uncertainties and NPV we are using as a case history can be illustrated using the graph below. The graph has the knowledge/uncertainties in the horizontal axis. The vertical axis bears the “chances of reaching the theoretical NPV”.
The project (red circle) was at the bottom left quadrant. It had 40% knowledge level and very poor chances of reaching the theoretical NPV value during the first pass.
The next steps preferred path should be a diagonal upward. The path should aim toward the top right box (red arrow and dashed line). Indeed, the dashed line shows that good data will allow to increase the chances of raising toward the theoretical NPV. However, there will be an asymptotical trend. That means that there will be a point where further investment in data and mitigation will lead to less efficiency. Finding the optimum in that investment correspond to finding the “minimum” ALARP level.
Finding the “minimum” ALARP level
The figure below shows the results of a ALARP analysis performed on a tailings dams system. The object of the analysis can of course be different, from a pit slope to an entire operation.
The vertical axis shows the annualized risk (purple curve). Risk decrease as the mitigative investment (green curve) increases. This happens when going from the “initial stage” to “enhanced investigations” and then various phases of successive mitigation.
The crossing of the two curves is the theoretical ALARP. That level also corresponds to the risk considered in the legal negligence test applied in some jurisdictions. Public pressure and ethical considerations may however push decision-makers to adopt mitigation levels to the right of the theoretical minimum if the efficiency remains reasonable.
Let’s note however that only a quantitative risk assessment can yield this result.
Closing remarks on Prefeasibility hazard adjusted NPV
It is possible to use the methodology outlined in this post to investigate fatal flaws and hazard-adjust the NPV of a project. This can occur even if the uncertainties are very significant and with relatively little effort.
The main result is to indicate a roadmap to be followed in the next steps of development. Of course, the goal of the roadmap is to increase the chances of reaching the theoretical NPV.
The actions described above should be followed by a true quantitative risk assessment.
Generally, the first next step toward quantitative risk assessment is to adopt a sound risk register structures. It should include at least the three dimensions of cost of consequences (Safety (H&S) Dollar Impact (BI and physical loss), and License to Operate (ESG)). These must be additive as stated previously in order to mimic “reality”.
Probabilities estimates follow, leading to risk.
Tagged with: decision, Hazard, management, NPV, risk, uncertainties
Category: Hazard, Mitigations, Probability Impact Graphs, Risk analysis, Risk management, Uncategorized