By Zach Kauraisa
On June 28, 2022, Star Diamond Corp (“Star Diamond”), a US$100 million TSX-listed diamond mining company, saw its market capitalization plunge by 52% following a decision by its joint venture partner to halt further investment into a project.
This decision triggered asset write-downs under International Financial Reporting Standard 6 (IFRS 6), highlighting the inherent volatility and risk in the mining sector.
The mining industry operates in a landscape of uncertainty, particularly during the exploration phases. For publicly traded exploration companies, maintaining investor confidence and safeguarding share price stability are critical considerations that require board to make well informed strategic decision.
One common strategy to share exploration, development and financial risk in the mining sector is to enter into joint ventures and option agreements with strategic partners. While beneficial, these arrangements can introduce complex power dynamics, making strategic alignment and decision-making challenging – as demonstrated by the case of Star Diamond.
Over the last two decades, several listed exploration companies have entered Namibia to pursue projects that mirrored the risk profile (and occasionally the outcomes) of Star Diamond’s operations.
Today, listed exploration companies continue to enter Namibia, drawn by its mining-friendly environment and recent growth in demand for critical minerals – despite volatility in global mineral markets over the past five years.
This article aims to provide strategic insights for mining executives, focusing on the interplay between exploration asset valuation under IFRS 6, joint venture structures, and public market dynamics.
1. IFRS 6 and Its Impact on Mining Company Valuations
IFRS 6 is an accounting standard that addresses the unique nature of exploration activities in mining and offers a specific framework for the assessment of exploration and evaluation assets in the mining sector.
1.1. Key aspects of IFRS 6 include:
• Impairment Testing: IFRS 6 requires that assets be tested for impairment only under certain conditions or trigger events, such as when external factors or internal changes indicate that the asset’s carrying amount may not be recoverable.
• Trigger Events: These might include significant alterations in the market approach to the resource being mined, mineral license expiration, no further planned mineral evaluation, or mineral resources not being commercially viable.
Star Diamond developed the Fort à la Corne kimberlite properties (the “Project”). The Project boasted an estimated 66 million carats of recoverable diamonds, with a Net Present Value of $2 billion after tax, and an Internal Rate of Return of 19%.
Rio Tinto Exploration Canada Inc (“Rio Tinto”) entered into an option agreement and acquired a 75% interest in the Project – in exchange for funding exploration expenditure.
On June 28, 2022, Rio Tinto exercised its voting power to place the Project on care and maintenance and cease further investment in project development. The action by Rio Tinto triggered an impairment need under IFRS 6 due to reduced prospects of asset recoverability.
Rio Tinto’s decision was followed by a $66.4 million write-down of Star Diamond’s interest, which resulted in Star Diamond’s share price falling 52%, from CAD 0.27 to CAD 0.14. Its share price has continued to fall and trades at CAD 0.0025 in January 2025.
2. Joint Ventures, Public Market Dynamics and Recovery of Value
The above case exemplifies the potential pitfalls of joint ventures and how public market dynamics can shift rapidly in response to majority stakeholder decisions – sometimes to the detriment of minority stakeholders.
The following section explores the critical elements necessary for managing joint ventures effectively, mitigating market risks, and seizing opportunities to restore value.
2.1. Considerations for Effective Management of Joint Ventures Include:
• Clear Terms of Engagement: Agreements should clearly define the conditions under which the venture may be modified, or a project may be halted, and the benchmarks required to exercise particular rights.
• Exit Strategies: Effective agreements should outline procedures and rights related to exits, ensuring that all parties understand the financial and operational impacts of such decisions.
The strategic misalignments in expectations and commitments between Star Diamond and Rio Tinto exemplify the potential pitfalls of joint ventures. Rio Tinto’s decision to cease further investment and commence care and maintenance was within its rights under the agreement but detrimental to Star Diamond’s minority interests.
Robust minority protections may have provided optionality in the strategic decisions available.
2.2. Strategies To Manage Market Perceptions Effectively Include:
Star Diamond’s market value was halved following the decisions made by its majority partner, showcasing the critical nature of market perception.
• Proactive Communication: Regular, transparent communication with shareholders and the public helps manage expectations and provides reassurance during periods of uncertainty.
• Strategic Disclosure: While transparency is crucial, the timing and nature of disclosures can impact how information is received and processed by the market.
2.3. Impairment Reversals and Recovery of Value
Impairments do not have to be permanent. IFRS 6 allows for the reversal of impairments if specific criteria are met, which can help companies recover previously written-down value.
This aspect is crucial for mining companies, as it provides an opportunity to regain some value if a project’s prospects have improved in a manner that justifies a reversal or a more favorable valuation. However, reversals are rare and require strict adherence to accounting standards.
3. Conclusion: Crafting a Forward-Thinking Strategy
The case of Star Diamond Corp. serves as a stark reminder of the complexities inherent in the mining industry. For executives, it highlights several key areas:
• Financial Reporting: Mastery of IFRS 6 is essential for accurate financial representation and strategic planning.
• Joint Venture Management: Clear, comprehensive agreements that anticipate various business scenarios can protect against strategic misalignments.
• Market Relations: Effective communication strategies are crucial for maintaining investor confidence, especially in times of strategic shifts or downturns.
By integrating these lessons, mining executives can enhance their strategic decision-making processes, better manage financial and operational risks, and maintain robust investor relations.
* Zach Kauraisa is Head of Advisory at Eos Capital
