The recovery of the capital invested in a project must be recovered during the first years of operation of the gold mine. It is not sufficient that there be a bare profit over operating costs. In this particular, gold mines differ wholly from many other types of investment, such as highways. In the latter, if proper appropriation is made for maintenance, the total income to the investor can be considered as interest or profit; but in gold projects, a portion of the annual income must be considered as a return of capital. Therefore, before the yield on a mine investment can be determined, a portion of the annual earnings must be set aside in such a manner that when the mine is exhausted the original investment will have been restored.
If the project manager considers the date due for the return of the capital as the time when the mine is exhausted, it is possible to consider the annual installments as payments before the due date, and they can be put out at compound interest until the time for restoration arrives. If they be invested in safe securities at the usual rate of about 5-8%, the addition of this amount of compound interest will assist in the repayment of the capital at the due date, so that the annual contributions to a sinking fund need not themselves aggregate the total capital to be restored, but may be smaller by the deficiency which will be made up by their interest earnings. Such a system of capital recovery is called amortization. Obviously it is not sufficient for the gold mine investor that his capital shall have been restored, but there is required an excess earning over and above the necessities of this annual funding of capital.
It is important to mention that the rate of excess return the mine must yield is a matter of the risks in the venture and the demands of the investor. Gold mining business is one where 10% above provision for capital return is an absolute minimum demanded by the risks inherent in gold mines, even where the profit in sight gives warranty to the return of capital. Where the profit in sight, which is the only real guarantee in mine investment, is below the price of the investment, the annual return should increase in proportion. In this way, there are thus two distinct directions in which interest must be computed, first, the internal influence of interest in the amortization of the capital, and second, the percentage return upon the whole investment after providing for capital return. There are many limitations to the introduction of such refinements as interest calculations in the value of a gold project. It is a subject not easy to discuss with finality, for not only is the term of years unknown, but, of more importance, there are many factors of a highly speculative order to be considered in valuing.
It may be considered that a certain life is known in any case from the profit in sight, and that in calculating this profit a deduction should be made from the gross profit for loss of interest on it pending recovery. This is true, but as gold mines are seldom dealt with on the basis of profit in sight alone, and as the purchase price includes usually some proportion for extension in depth, an unknown factor is introduced which outweighs the known quantities. The application of the final effect of interest accumulations is much dependent upon the sort of mine under consideration. In most cases of uncertain continuity in depth it introduces a mathematical refinement not warranted by the speculative elements. For instance, in a gold mine where the whole value is dependent upon extension of the deposit beyond openings, and where an expected return of at least 50% per annum is required to warrant the risk, such refinement would be absurd. On the other hand, in a Witwatersrand gold mine, in gold gravels, or in massive gold-copper operations where at least some sort of life can be approximated, it becomes a most vital element in valuation.