Mining Industry Overview PDF

BM2110 MINING Industry Overview As previously discussed, the mining industry is involved in extracting precious minerals and other geological materials. The extracted materials are transformed into a mineralized form that serves an economic be...

BM2110 MINING Industry Overview As previously discussed, the mining industry is involved in extracting precious minerals and other geological materials. The extracted materials are transformed into a mineralized form that serves an economic benefit to the prospector or miner. Generally, the mining process is divided into five (5) phases, as follows: Exploration. It means the search for resources suitable for commercial exploitation. It includes: o Researching and analyzing an area’s historic exploration data; o Conducting topographical, geological, geochemical, and geophysical studies; and o Exploratory drilling, trenching, and sampling. Evaluation. It means determining the technical feasibility and commercial viability of a mineral resource. It includes: o Assessing the volume and grade of deposits; o Examining and testing extraction methods and metallurgical or treatment processes; o Surveying transportation and infrastructure requirements; and o Conducting market and finance studies. This stage usually produces a feasibility study that identifies proved or probable reserves and decides to develop a mine. Development. It means establishing access to and commissioning facilities to extract, treat and transport production from the mineral reserve and other preparations for commercial production. It may include: o Sinking shafts and underground drifts; o Permanent excavations; o Constructing roads and tunnels; and o Advance removal of overburden and waste rock. Production. It means the day-to-day activities of obtaining a saleable product from the mineral reserve on a commercial scale. It includes extraction and any processing before sale. Closure and Rehabilitation. Closure occurs after mining operations have ceased and includes restoration and rehabilitation of the site. The Philippine Mining Industry The mining industry plays a very important role in the country’s economic development. It directly or indirectly provides employment opportunities to a significant portion of the population. Launching a mining project spurs local and regional economic development as mining firms invest in road infrastructure, utilities, and other facilities within the mine site. Moreover, mining contributes to the country's foreign exchange earnings through exports. It also provides additional revenues for the government through taxes and fees paid on mining and other related activities (Philippine Statistics Authority [PSA], 2021). However, the mining activities involve operations that have a significant impact on the environment. In every aspect of the mining activities, there is always the potential for environmental and ecological problems – the construction of mining facilities, the extraction of ore, to the processing of minerals. Moreover, mineral resources are non-renewable. Once extracted, the ore is gone and will take a very long time to replenish. 02 Handout 1 *Property of STI  [email protected] Page 1 of 4  BM2110 Therefore, the mining industry is faced with the sustainability issue. Serious implications such as exhaustion of the minerals may arise if the sustainability issue is not properly addressed. To address the issues, mining companies must meet the certifications such as Environmental Compliance Certificate Regulators of the Mining Industry The Department of Environment and Natural Resources (DENR) regulates and administers the mining industry in the Philippines. Its line bureau, the Mines and Geoscience Bureau (MGB), ensures compliance with the Mining Act and administers and disposes of mineral lands and mineral resources through the grant of exploration permits (Eps) and/or Mineral Agreements (Mas) to duly qualified entities. Also under the DENR’s mantle is the Environmental Management Bureau (EMB), which supervises the observance of the applicable environmental laws (Salazar, 2021). Some of the regulatory requirements of the mining industry are the following: Pay the annual corporate income tax and the 4% excise tax on mineral products; Pay the semi-annual fee mine wastes and tailings fees and the annual occupational fees; Report all solid minerals, including industrial minerals and coal using the Philippine Mining Reporting Code (PMRC); Comply with all the mines safety rules and regulations as may be promulgated by the Secretary OF DENR concerning the safe and sanitary upkeep of the mining operations and achieve waste-free and efficient mine development; and Conform to all the terms and conditions laid down in Republic Act No. 7492, otherwise known as the Philippine Mining Act of 1995. Key Audit Considerations Like other industries, there are certain key considerations in auditing the financial statements of a mining company that an auditor must understand. Given below are some of them (PricewaterhouseCoopers [PWC], 2012): Mining companies carry out the various stages of development necessary before production over a long period at a high cost. In some cases, they also carry it with high risk and uncertainty as to future commercial benefits. Mining operations typically require a high level of capital investment to develop, extract, and process minerals. Mining companies extensively use pieces of oversized mechanical equipment, cast/forged components (such as gears and pinions in mills and kilns), crushers, cranes, hoist components, and heavy- duty vehicles specially designed for construction tasks. Mining companies in the Philippines are heavily regulated by the Department of Energy and Resources (DENR). Non-compliance to which might result in the suspension of their operations. The mineral reserves are the most valuable asset of a mining company. However, they do not appear as an asset on the balance sheet except to the extent they were purchased. Under the historical cost model, mineral reserves that result from a company’s exploration activities do not appear as an asset. Yet, information on mineral reserves is vital to investors and analysts in predicting future cash flows and evaluating the prospects for a mining company. Mining companies normally incur high costs at mine sites after the minerals have been extracted and the mine is closed. Such costs include removing the plant and other facilities and restoring the area as required by law or following a company’s accepted practices. In addition, reclamation and other environmental obligations frequently arise during ongoing operations. 02 Handout 1 *Property of STI  [email protected] Page 2 of 4  BM2110 As discussed above, the mining process involves five (5) phases. Each phase has its cost, and thus, mining companies must clearly distinguish each phase. Mining companies assume and estimate their reserve. Such assumptions and estimates are often used in the purchase price allocation of business combinations. Mining companies may exchange mineral products, such as coal, with other mining companies to achieve operational objectives. A common term used to describe this is a “Buy-sell arrangement”. Mining companies are subject to 4% excise tax. Moreover, some mining companies may avail themselves of the Income Tax Holidays (ITH). The life of the mining company is estimated based on the ores that can be extracted from the site. Mineral resources are wasting assets that cannot be acquired indefinitely; thus, the mining companies' going concern assumption is always assessed. Mining companies usually hire third-party professionals such as geodetic engineers before and during the mining operations. Their assessments/outputs of such professionals may be used as audit evidence. Risk-Based Audit Process Generally, the risk-based audit process in each industry is the same. It only varies on the accounts or transactions that the audit shall focus on. For the risk-based audit of a mining company, the auditor may concentrate on the following accounts/transactions (Alfonzo, 2021): Cash. Most mining companies hold bonds. Thus, an auditor needs to identify whether a mining company’s Cash-in-Bank is restricted or not to determine if it was properly classified in the balance sheet. This can be done through bank confirmation. Moreover, the auditor must also check whether the listed cash equivalents are correct. In summary, the auditor’s objective in auditing the cash of the mining companies is to test its completeness, existence, and accuracy. Inventories. The inventories of a mining company include run-of-mine ore, work in progress (i.e., crushed ore, ore-in-circuit), and finished goods (i.e., concentrate, metal). These inventories are usually in bulk. Thus, to ascertain the number of inventories, an auditor may use the knowledge of an expert such as actuaries. Then the number of inventories determined by the actuary may be multiplied with the rates of the ores in the market, such as the London Metal Exchange (LME), to determine its market value. The market value can be used as a benchmark wherein the estimated value of the inventories recorded by the company must not go lower beyond it. The auditor may also test the costing of the inventories by extracting all the costs that are tagged as mining in the company’s database. It is to check whether the list only includes costs attributable to the mining site and not of the company's main office. Moreover, the auditor must also check if the inventories are recorded at lower costs and net realizable value following PFRS 2 – Inventories. This determines whether the cost of goods sold is valued correctly; thus, avoiding under or over-statements in the operating income. Property, plant, and equipment (PPEs). As discussed above, mining companies have heavy assets. The amounts of those assets must be precisely presented in the balance sheet. The auditor may check the balance of the PPE by testing and reviewing the fixed asset roll-forward of the company. A fixed asset roll- forward of the company is used to analyze summarized information about movements in fixed asset cost 02 Handout 1 *Property of STI  [email protected] Page 3 of 4  BM2110 and the accumulated depreciation. The auditor may also perform a test of movements of the fixed assets, which involves determining their additions, reclassifications, and disposals. The auditor must also check if the PPEs are properly valued and that depreciation is correctly recorded. As one can remember, PPEs used in mining activities must be depreciated the shorter between the estimated useful life of the PPE and the expected life of extraction of the site. To check if the PPE is correctly depreciated, an auditor must assess the acceptable method for depreciating the assets – whether unit-of-production or estimated useful life. He/she may inquire with the Geoscience department of the company and validate the appropriate life to be used. Renewal and reconditioning costs. The costs of performing a major renewal or reconditioning are capitalized if it gives access to future economic benefits. Such costs will include the labor and materials costs of performing the renewal or reconditioning. Renewal and reconditioning costs should not be accrued over the period between the renewal and reconditioning. Thus, the auditor must check whether these costs are properly recorded by the company and were not accrued over the company's operations. Rehabilitation bonds. Mining companies in the Philippines are required by the law to hold funds for extraction. The auditors must check whether the restoration bonds recorded by the company are complete. They must also check the components of the bond and determine whether there are separate bonds for planting trees and bonds for rehabilitation of the land. Moreover, the auditors must also check if the bonds exist. It can be done by sending confirmation letters to the bondholders, such as banks. They also need to test the reasonableness of the interest of the said bond. It can be done by recalculating it or comparing it with the interest of other mining companies’ bonds. Revenues. Revenue recognition can present challenges for mining entities. PFRS 15 – Revenue from Contracts with Customers provided that revenue shall be recognized when the significant risks and rewards are transferred to the buyer. However, it is somehow difficult to determine when the risks and rewards have been transferred in mining. For example, extracted mineral ores may need to be moved long distances and specific to meet smelter or refinery requirements. Mining companies may also exchange products to meet logistical, scheduling, or other requirements. Thus, the auditor may check the revenue contracts of a mining company. It can be done by “vouching” the agreement of the company and its clients. The auditor may also check the recorded receivables of the company by sending confirmations to its clients. Exploration cost. Mining companies incurred costs to discover and evaluate the mineral resources. PFRS 6 – Exploration for and Evaluation of Mineral Resources provides that the said costs shall be reported as an asset that will be subject to impairment. Thus, the auditors may perform impairment tests for this cost to determine if it is properly valued. There are various indicators to determine the impairment of exploration and evaluation assets as: o The right to explore in the geographical area has expired or is about to expire with no renewal option. Further exploration and evaluation are not planned. o There is sufficient data to conclude that exploration and evaluation will be discontinued due to a lack of commercial reserves. References Alfonzo, B. (2021). Specialized industries webinar series: Mining. Polytechnic University of the Philippines (PUP). Philippine Statistics Authority [PSA]. (2021). The Philippine mineral resources accounts. Retrieved from Mineral Resources: https://psa.gov.ph/content/mineral-resources PricewaterhouseCoopers [PWC]. (2012). Financial reporting in the mining industry: International financial reporting standards. Salazar, R. (2021). Philippines: Mining laws and regulators. International Comparatives Legal Guide (ICLG). 02 Handout 1 *Property of STI  [email protected] Page 4 of 4