When metals prices are high, we are generally taught that we should lower the cutoff grade. Our cutoff grade versus metal price spreadsheet tells us this is the correct thing do. Our grade-tonnage curve reaffirms this since we will now get more ounces of gold in the mineral reserve. But is lowering the cutoff grade really the right thing to do?
Books have been written on the subject of cutoff grades where readers can get all kinds of detailed logic and calculations using Greek symbols (F = δV* − dV*/dT). Here is one well known book by Ken Lane that sells for $998 on Amazon the last time I checked. You can also download a 38-page abridged sample of this book at THIS LINK and the full version is available for $150 at the COMET Strategy web site.

Theory of COG

Recently we have seen higher production cash costs at operating mines when commodity prices are high. Why is this? It may be due to higher operating costs inputs caused by increasing labour rates or supplies costs. It also may be partly due to the lowering of cutoff grades, thereby lowering the milled head grade, which then requires more tonnes to be milled to produce the same quantity of metal.
A mining construction manager once said to me that he never understood us mining guys who lower the cutoff grade when gold prices increase. His rationale was that, since the plant throughput rate is fixed, when gold prices are high you suddenly decide to lower the head grade and produce fewer ounces of gold and at a higher cash cost. His point was that we should be doing the opposite; when prices are high you should produce more ounces of gold, not fewer. In essence, in times when supply is low (or demand is high) may not be the right time to further cut back on supply by lowering head grades.
Now this is the point where the grade-tonnage curve comes into play. Certainly one can lower the cutoff grade, lower the head grade and produce fewer ounces now with the upside being extending the mine life. By doing this a company is able to report more ounces in their mineral reserve and the overall snapshot of the company looks better if it is being valued on reserve ounces.
The problem with this is that there is no assurance that metal prices will remain where they are or that the new lower cutoff grade will remain where it is. If the metal prices dip back down next year, the cutoff grade will be increased and the mineral reserve is back to where it was. All that was really done was accept a year of lower metal production for no real benefit. Such a trade-off essentially contrasts a short term vision (i.e. annual production) against a long term vision (i.e. mineral reserves).
My bottom line is that there is no simple answer on what to do with the cutoff grades, hence the need to write books about it. Different companies have different corporate objectives and each mining project will be unique with regards to the impacts of cutoff grade adjustments on their orebody. I would like to caution that one should be careful when taking your cutoff grade spreadsheet, plugging in new metal prices, and then running off to the mine operations department with the result. You need to fully understand the long term and short term impacts of that decision.
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7 thoughts on “44. Higher Metal Prices – Should We Lower the Cut-Off Grade?

  1. hardrockminer

    I think the relevant driver is net present value, not metal price. Given the restrictions of mill throughput, (and pit fleet size) the planning engineer should be attempting to provide the best NPV possible over the life of the orebody. This can be done quite simply using Whittle or another NPV scheduler, although I’ve only done it in Whittle.

    If you use Whittle, try this on your next project. Fix all the variables except the mill lower ore grade. Vary this grade and run some (a half dozen or so) optimizations. Then plot the cut-off against the resulting NPV’s and you will get a curve with a maximum NPV value, falling off towards either side of that value. This is the cut-off you want to select. You can also run the same optimizations at different metal prices to get a series of curves, but the optimal cut-off won’t change because, as your construction friend said…mill throughput is fixed.

    I like Whittle because it’s a strategic “what if” tool that integrates all of the mine variables to produce a result that even the boardroom cannot disagree with.

  2. hardrockminer

    After my last comment I downloaded and read the book sample. It appears to state what I said above. Look for ways to maximize NPV rather than mine life. The best way to do that is to pull grade forward in time, which means raising the cut-off or mining any high grade plums as soon as practicible.

    Jack Caldwell had a blog post about whether NPV was the best tool to use for evaluating risk. I think I had an email discussion with some of the participants. I’ll look to see if I can find the text they sent me.

  3. Ken Kuchling Post author

    In my experience the most common way to enhance NPV and reduce payback (i.e. risk) is to use stockpiles to process high grade and defer low grade. So the mining cutoff may still be to the breakeven COG but the processing target COG will be something higher. The hope is that at some time in the future the low grade can be processed (as long as metal prices haven’t dropped in which case the low grade SP might now be waste). I have seen several instances near the end of mining where the low grade SP has now been designated a waste dump.

  4. hardrockminer

    Yes, I agree on stockpiles. The exercise I wrote about will help determine the appropriate upper cut-off grade.

    If mine life is lengthy then processing them is a few years out and heavily discounted. Nevertheless they become a balance sheet item and can cause significant negative adjustments when prices are as low as they are nowadays. They also cause confusion over strip ratio depending on whether the low grade is included or not. Lastly, they will come under scrutiny as a closure liability if they contain significant pyrite.

    I will look at the link later today.

  5. hardrockminer

    Good video! Thanks. It made me realize that value improvment isn’t just a 2D study.

  6. Ken Kuchling Post author

    Yeah, it’s more than 2D for sure and its more than 3D. In the video they examined two factors that the operator can control such as mill production rate and basic COG. The operator can also control grind size (i.e. recovery), stockpiling strategies, and probably other things to. So the 3D graphs can become much more complex and that’s what these guys are trying to do (http://www.whittleconsulting.com.au/enterpriseoptimisation.html).

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