The Second Annual Global Workshop on Mining-related Water and Environmental Risks and their Financial Implications

The mineral extraction industry faces the dual challenge of rising water management costs and growing public scrutiny of the often-irreversible effects of mining on local land and water resources. Awareness of these risks has led to a growing desire from industry leaders to better assess and manage water resources. On September 13, 2016, Columbia Water Center hosted the second annual Global Workshop on Mining-related Water and Environmental Risks and their Financial Implications as part of the research supported by a 3-year grant from Norges Bank Investment Management (NBIM). NBIM is supporting the research project and actively participated in the workshop. Isabelle Thompsen, CFA, Senior Analyst at NBIM, provided the opening remarks and highlighted the importance of academic research in developing the foundation for responsible investment. Water management has been a focus area for the Fund since 2009 and this research will help develop relevant dataset and methodologies to better understand environmental and social risks in the mining industry. Over 60 participants from the mining industry, financial institutions, non-profit organizations and academia came together to give presentations and then participated in roundtable discussions to tackle some specific challenges facing the industry.

Jason Siegel, Natural Resources Private Equity Fund and member of Columbia’s project team, began the discussion with his presentation on water risks in a financial context that covered how risks significantly impact cash flows, what the expected project deliverables will be for investors, regulators, and mining companies, and how the research should inform companies’ disclosure. Revenue, costs and capex are a few of the bigger financial implications that affect the profitability of an asset. Jason pointed out some of the short and long term impacts that water has in the below graph:

“I’ve highlighted how revenue, costs and capex can be impacted and specifically related to water, how some of the three bigger picture topics that people think about could impact these specific financial metrics.”

Upmanu Lall, Director of the Columbia Water Center gave an introduction to session one Integrated approach to water related financial risks for the mining sector: climate extremes, tailing dams and other factors. There seems to be much confusion and discrepancy in the industry as to what exactly constitutes risk analysis. Lall elaborated on the difference between a cost profile versus risk of an extreme event causing uncertainty in the system. The difference between these is still a source of confusion when developing an operating policy for a mine. Inherently, the decision making in mining companies is based on a very short-term discounting structure, which leaves most risk factors out of the planning process. Perhaps one possible solution is to implement a governance structure that would pinpoint the standards to achieve. The gold standard mining companies could take the lead and disclose what they are doing so that others will follow suit. Most of the current disclosure is self-disclosure, which is proving to be insufficient. There needs to be a way to separate the regulator function and the data collection and verification function.

Karthyek Murthy, Postdoctoral Research Scientist, Department of Industrial Engineering and Operations Research gave a presentation on, ‘Statistical advances on robust modeling of water related financial risks for the mining sector.’ One of the primary tasks in modeling financial risks is to develop a statistical model for evaluating values of mines. As discounted cash flow type valuations typically underestimate the potential upsides due to flexibility in operations that mining projects allow, we adopt a real options based modeling approach. Specifically, the value of a mine is estimated as the net present value due to following the optimal sequence of actions (such as extracting mineral, closing / reopening the mine, etc.) evaluated dynamically in time over possible future price scenarios. A key feature in the model is the introduction of a shock process modeling social and environment induced economic losses. To account for the challenges due to limited data to appropriately model these shocks, we include a robustification procedure in addition to the real options model to estimate an interval, which, in turn, can be used to infer whether the market under-prices / over-prices the mine, and well-informed investment decisions can be made.

Luc Bonnafous, Staff Associate, Columbia Water Center, gave a presentation on ‘A Water Risk Index for Portfolio Exposure to Climatic Extremes: Conceptualization and an Application to the Mining Industry’. Most water risk concern focuses on water scarcity and competition for the resource between agriculture, urban users, ecology and industry, however water related hazards also exist and include flooding due to extreme rainfall, persistent drought, and pollution, either due to the industrial operations, or infrastructure failure. Most companies have risk management plans at each operational location to address these risks to a certain design level but the residual risk may or may not be managed, and is typically not quantified at a portfolio scale, i.e., across many sites. For a multi-national corporation, it is possible that there is correlation in the climate induced portfolio water risk across its operational sites as multiple sites may experience a hazard beyond the capacity for which they were designed to handle in a given year. Therefore, from an investor’s perspective, a need exists for a water risk index that shows time-varying risk of climatic extremes across many sites contained in a portfolio.

The researchers at Columbia University have developed an index for financial exposure of a geographically diversified, global asset portfolio at the company-level to the time-varying risk of climatic extremes using daily global rainfall data sets derived from climate re-analysis models. Focusing on flooding due to extreme daily rainfall amounts and using examples from major mining companies, they illustrate how the index can be developed and used. Bonnafous discussed how companies can use the index to explore their corporate exposure, and what they may need to disclose to investors and regulators to promote transparency as to risk exposure and mitigation efforts.

Bonnafous also addressed how water scarcity has emerged as a potential risk for mining operations, given examples of high capital spending for desalination in some locations, and water conflicts leading to asset stranding in others. Researchers developed an index considering drought duration, severity and frequency at each mining asset through a measure of financial exposure related to production or Net Asset Value. Thus, an analyst can customize a scenario around a short duration drought to assess potential losses in production value or profits, or around a long duration drought to assess whether conflicts could emerge that lead to either stranded assets or a high capital expenditure to secure alternate water supplies. The intention is to use such scenarios to gain an understanding of the exposure and also for financial modeling using a real options model.

During session two, The causality between environmental, social and legal factors and the financial performance of mining companies, Madison Condon, Postdoctoral Research Fellow at the Columbia Water Center gave a presentation titled, ‘Investor Influence as Cross Border Environmental Regulation’ and Juan F. Garcia Quijano, HydroTerra S.A.C. presented on ‘Water Risk for Mining activities in Peru in the framework of Climate Change’. Both presenters emphasized the impact that water scarcity and floods have on mines.

Condon stated, “These risks are predicted to increase as the effects of climate change are felt around the world. Water demands are increasing… Many countries where large mining operations take place are strengthening their environmental legislation and implementing stricter enforcement of environmental permits. Communities are growing in organizational strength and greater attention is being paid to the potential negative impacts of mining activities on water sources.”

Quijano displayed models of Peru that showed the variation of water surplus and water scarcity in different regions over time to establish a baseline. One must consider, geographically, all of the ways that water is being used such as in mining and power operations to fully understand the potential future impacts of extreme events that could be brought on by climate change.

“The first thing to solve is the use of water… you cannot manage what you cannot count.”

Morgan Gillespy who heads the water division at the CDP, an environmental disclosure platform, presented on ‘Drying and Drowning Assets’. The CDP reaches out to the largest publicly listed companies in the world that have the greatest potential to either impact water resources or be impacted by water. They issue an annual water specific questionnaire that is applicable to all companies globally and the data that gets collected is published in an open report. Gillespy reported on some of the data from the 2015 survey –

“68% of the companies that responded to CDP are reporting exposure to substantive water related risks. More interestingly, almost 1/4 of those companies expect those risks to impact in the short term. So this is very different from climate change… Water securities risks are expected to impact in a much shorter time frame than what we expect from climate change.”

Gonzalo Urbina, Universidad Nacional Agraria La Molina presented on ‘Conflict as EIA failure: Blocking projects in Peru’. Urbina talked about how the Environmental Impact Assessments (EIAs) are creating roadblocks to new developments and how these assessments are not actually accredited for several reasons including, they are not systematic or searchable, the scoping is inflexible, doesn’t consider “unplanned impacts” such as spills and prohibits community members from having any input.

The final session centered around data sources and analytical tools for risk analysis. Although tools to measure risk already exist, there is a great lack of confidence in their effectiveness because there are no set standards in the industry. Additionally, it was agreed that data gaps can be a real barrier to effective governance. Determining the right level of granularity needed on data for water risk and determining if this should be open source or proprietary information depends on the end user focusing on the local or country level. New technology could be a truly important game changer for data collection using tools along the spectrum of satellite data to hand-held devices as well as members of the community being able to use apps to download data.

Alexis Morgan, Water Stewardship Specialist, WWF: ‘A 21st century dowsing rod? Exploring water risk data sources and analytical tools.’ Morgan presented the various water risk assessment tools, water assessment tools and water risk evaluation tools that are currently available and pointed out the subtle nuances to each. He stressed that the options are unique and are often not utilized for the correct situation. As these tools begin to emerge there is a strong push to get investors to use them. In reference to data from China Water Risk that shows how investors are using the available tools, Morgan says-

“This speaks to how little these tools are recognized or used, there’s basically a low level of awareness of these different forms of tools. Whether we’re talking about financial evaluation tools on water or the risk assessment and mapping tools, we’ve got a long way to go to penetrate the mainstream investor community.”

The final presenter was Gavin Mudd, Monash University: ‘Water & Mining: Linking Reporting to Risks and Impact.’ The scale of mines is so much larger than it was in the past, and as mines continue to increase in size the risks also get bigger. Mudd gave several examples of Australian mines that have experienced extreme water related issues that led to either temporary closure or near closure conditions. He then gave several examples of 100 year old mines that have closed and have gone through rehabilitation, however the rehabilitation of millions of tons of mine waste has shown to result in very disappointing outcomes. As the environmental footprint in mining continues to rise, there are some opportunities to consider. Ensure that there are good reporting systems in place, ensure that there are good upstream and downstream monitoring systems, take advantage of the digital age and use new technologies and better approaches to the way that the industry engages with water.

Lall summarized the discussions by pointing out some of the opportunities for change such as: setting up industry based standards, establishing a process for forward-thinking regulators, and encouraging more people to contribute as citizen scientist to help gather and distribute missing data. As a collective group we will continue to engage with each other, we will continue to develop new tools and technologies, we will track how this progresses across the globe and we will influence the processes that go on. Everyone can agree we need disclosure, modeling and estimates of risk that people will use to make better decisions.


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