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AMPLA LIMITED

MODEL FORM MINING SERVICES CONTRACT

Pre Contract Assessment - Identification and Allocation of Key Factors and Risks

Note: This document is the property of AMPLA Ltd which owns the copyright. It is made available on the AMPLA website for the information of AMPLA members only and on the understanding that AMPLA Ltd is not engaged in rendering professional advice. AMPLA makes no warranty, representation, guarantee or promise express or implied, that this document is accurate, complete, up to date or fit for any use whatsoever. Readers of it should exercise their own skill and judgment in relying on it in any way or adopting or adapting any part of it for their own use. AMPLA accepts no responsibility for any loss, cost or expense arising from use of this document and shall not be liable in any manner whatsoever for any direct, incidental, consequential, indirect or punitive damages arising out of the use of this document by any person or any errors or omissions in the content of this document.

General commercial context

The best outcome from a mining project is for maximum value to be extracted for the minimum consumption of resources in a safe manner. It follows that the best mining contract outcome is one in which both principal and contractor maximise their returns by adding value to the mining project in a safe manner. A contractual arrangement that encourages inefficiency makes everyone a loser.

• From experience, the parties should keep in mind the following Do’s and Don’ts:

Exploit the orebody, not one another.

• Energy spent mining each other’s margins is better directed to mining ore.

• Consider incentives for contractor performance that benefit the principal and discourage underperformance/share the pain where value to the principal is lost.

• Encourage and reward improvement and innovation – avoid the situation where one party will reject an improvement to the project because it will benefit only the other party.

• Don’t make a project fly by unsustainably reducing margins or by understating risks.

• Don’t try to win a tender by bidding low if that means discounting risk or underpricing inputs.

• The lowest tender is dangerous if you don’t believe they can deliver for the stated price.

• The project should use the best of what each party can offer – expertise, contacts, equipment, supply arrangements, logistics, infrastructure, safety and other systems.

Two important pre-contract steps are:

1. try to align the respective interests of the parties as far as practicable to promote a successful outcome for them both; and

2. identify, assess and deal with important risk factors impacting on the project.

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Alignment

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A contract that facilitates alignment of the parties’ objectives will provide the best environment for a successful relationship and a positive outcome. This is not a straightforward task as there are a range of issues/factors to consider plus some inherent tensions to overcome. For example (not exhaustive):

Some factors to consider:

Do the principal and the contractor have common/similar/compatible objectives?

Is there agreement about standards?

How compatible are the contractor’s management systems with those of the principal (e.g. safety, environmental monitoring, financial and other reporting)?

Is there a risk that one party’s approach to operating could compromise the other party’s reputation?

Does either party have any particular sensitivities or exposures (eg environmental or safety reputation, corporate profile, industrial relations stance, community or government relationship issues)?

Are the managers for each party likely to maintain the relationship in a sufficiently positive and cooperative fashion?

Can these matters be adequately addressed by the contract?

Principal’s ideal

Mine all of the ore - and nothing else - safely, as cheaply as possible over the whole life of the project and as quickly as the mill can process it:

No ore loss (in practice, optimal ore loss)

No dilution (in practice, optimal dilution)

No contract cost overruns

Maximum synergies with current and future works (assisting, not impeding, planned or potential future activity)

Low management costs and overheads – no additional layers of management or supervision, or other costs in managing or controlling the contractor

Low infrastructure costs

Low rehab and closure costs

No negative interactions between contractors and community, no negative effect by association on reputation

Minimal costs passed to the mill – eg no contamination of ore by oil or rubbish; no rockbolts, loader teeth or other material that will damage belts or crushers; no oversized ore; and ore broken as small as possible to minimise comminution costs

Constant flow of high grade feed to the mill – no excessive stockpiles, no shortages of mill feed

No compensation claims or litigation

No post-mining liabilities

Relief from risks best carried by a contractor

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Access to the remaining orebody when the contractor’s work is finished.

Contractor’s ideal

Dig the hole safely, and as quickly and cheaply as possible over the term of the job:

Minimal costs in establishment, mobilisation and infrastructure

Maximum equipment performance and availability; minimal idle or underused equipment or labour

No recruitment problems and minimal staff turnover, efficient rosters

Equipment free of damage and good for long service life

Frugal use of consumables; no wastage and no excess inventory of equipment, parts or consumables

Accurate schedules for the planned deployment of equipment, labour and supply of other inputs

No unforseen escalation of input costs

Favourable fundamentals - good roads, short haulage distances, sound ground, easy drilling and blasting conditions, no excessive water, fresh water

Minimal un-invoiced double handling or rework

Invoices submitted and paid quickly; no disputes over tonnages, distances, volumes or hours

No delays, scheduling constraints or burdensome controls (survey, planning, geology, supervisory)

No problems with demobilisation

Maximum synergies (equipment, people, timing) with work elsewhere

Freedom from risks best carried by the principal.

Tensions in alignment

Between differences in standards

Between speed and quality

Between speed and future liabilities

Between speed and schedule (operating efficiencies vs cashflow and timing synergies)

About who bears unspecified costs and delays

Where a reduction in one party’s risk comes at a cost to the other party, or an increase in their risk

Between efficiency of the contract project and efficiency of the mining operation.

Contracting approach

Consider what contracting style and approach is appropriate for the proposed mining work and the parties involved. Traditional contract delivery? Partnering? Alliance? This will involve considering a wide range of factors including those referred to below.

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See also the papers given by Stephen Boyle and Mark Lynch at the 2003 AMPLA National Conference.

Accommodating risk and uncertainty

A key step in the negotiation of any mining contract is for each party to identify and assess early in the process important factors regarding, and risks inherent in, the proposed mining work. Risks need to be identified and allocated as clearly as possible. An assessment must be made about who is best able to carry or manage each risk, or how they should be shared, in a way that promotes efficiency and effectiveness in the safe performance of the work.

Accept that at the time of drafting the contract, you won’t think of everything. Mining is an environment full of risk and uncertainty.

THE PROJECT MODEL WILL BE WRONG – it’s just a question of by how much:

The orebody will be different to the model. Geologists model complex orebodies from a smattering of relatively tiny drillhole intersections using their subjective judgements and interpretations along with complex software

Geomechanics experts recommend mining parameters and methods from the same or lesser data

Mining engineers model mines on the strength of all this information and more even less certain input

Consequently the design and schedule will change during the course of a project

The ground conditions will differ from that expected – hardness, competency, geological structure, blasting parameters, abrasiveness, groundwater conditions etc

The equipment will perform differently to the manufacturers’ handbooks – faster or slower

Things will break, and break dow

People will behave in unexpected ways

The weather will not be as per the long-term average

Suppliers and others will surprise you

Commodity prices will change

Business imperatives will intrude

Forecasts of market conditions, exchange rates and interest rates will be inaccurate

Inaccuracies and uncertainties abound – grades; densities; surveys of volumes; moisture contents; weights given by devices on trucks, loaders and conveyor belts.

The contract must be able to accommodate such changes. Also each party needs to consider its own exposure to the other party’s risk – for example:

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The geological risk resides with the principal, but the contractor will be affected if the ore’s not there

The risk of equipment breaking down is the contractor’s risk, but this is little comfort to the principal if the mill runs out of ore.

The contract must be able to accommodate either:

Underperformance (self evidently a problem); or

Over achievement (which can also be a problem – it is easier to applaud record operational outputs if it is not translating into huge stockpiles and an unforecast drain on cashflow).

Risks should reside with the party best equipped to manage them. Time should be spent understanding, assessing, quantifying and discussing the risks. Where possible, specify to whom which share of which risks belong.

Neither party should accept a risk they don’t understand, and it’s unwise to let the other party accept a risk they don’t understand.

When things change the contract should enable this to be treated as a problem to be solved. However, the contract must also provide for a means of resolving disputes. Energy spent on contractual disputes is better spent on mining ore safely, but disagreement is, from time to time, inevitable in such a complex undertaking. The contract should aim to support a mutually positive relationship but also act as a fair pre- nuptial when a dispute arises.

Time and resources should be spent to get the contract right.

Note that lawyers rarely administer the contract!

Some examples of factors and risks to be considered are set out below (in no particular order). Obviously the following is neither exhaustive nor detailed, and each proposed job may have factors unique to it.

Nature, basis and scope of the work

Clearly establish the general parameters of scope, nature and duration of work.

Scope of work – what mining activities are involved, what are the limits of the work?

Basis of contract – time, work or both?

Duration of work and contract – in what circumstances could the contract be terminated?

Special skills required, competencies, expertise?

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What equipment will be required? How specific are the needs in respect of this? What is its availability and lead time? What is required to operate and maintain it? What alternatives or options are there?

Programming and design (“mining control”) responsibility

How will programming and design be undertaken (processes, timing, planning tools, etc.)? Who will be responsible and to what degree?

What is the level of confidence in the model of the orebody and other relevant parameters? What probability is there that other business pressures might prevail that could change the scope or timing of the work? Consequently, what degree of flexibility is required and what potential impact might this have on the cost of performing the work (and cost drivers/parameters) and the resources required to perform the work?

Costs

Identification and allocation of cost risks is important factor in determining remuneration structure.

There is a range of potential remuneration structures that could be used. Each alternative involves differing allocations of cost risks.

The right structure needs to be chosen for the proposed work and related requirements and risks. Factors to consider include the complexity of the work involved, the degree of confidence/certainty with required work, the mining fleet required and how it will be procured, financed, operated and maintained, and the prospect of underlying cost drivers changing during the term of the contract (rise and fall).

Does the proposed cost structure encourage efficiency and performance and meet the needs of both parties? The structure should support the efficiency of the operation. Any structure that encourages the unproductive addition of cost or a sub-optimal operating process is likely to result in reduced returns for contractor, principal or, most likely, both.

Geology/ground conditions

Consider factors such as ground conditions, water, voids, orebody geometry, complexity of orebody, potential for density changes.

What happens if there are variations to conditions from what is anticipated? Allocate who bears the risk of any resulting costs and delays.

Safety and health, environment, community

Allocate responsibility for supervision and control of the work and the site.

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Identify any particular safety and health related risks involved with the work (eg will any fibrous minerals be encountered?).

Identify and deal with environmental risks and requirements applicable to the proposed work.

Consider any community related factors relevant to the work.

Delay

Identify and allocate potential delay risks. For example:

(1)

Inclement weather. Who bears the risk, including re cost and delay, and to what extent? Consider mechanisms for allocating the risk.

(2)

Force Majeure events. Who bears the risk, including re cost and delay, and to what extent? Potential impact of more serious events on the work and the contract?

(3)

Permitting and Approval. Identify all permits and approvals required for the work and allocate responsibility between the parties for procuring, retaining and renewing each of them. Is it possible that permitting – statutory, environmental, heritage, Native Title, local government etc. - could cause delays? Has the time required for internal approval processes been properly allowed for?

(4)

Industrial. Consider any existing site arrangements versus the contractor’s preferred or proposed arrangements. What is the likelihood of industrial relations issues arising that could affect the site workforce and/or the mining schedule?

Liability

Identify and allocate potential liability for loss or damage arising from the performance of the work (taking into account the contracting style or approach being used).

Use of mechanisms such as indemnity and insurance.

Also consider whether any limitation of liability should apply.