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Farm-in agreements are the easiest way for small cap explorers to generate returns for investors before legitimate exploration activities or when things haven’t been going as well as expected.
Before anything else comes from it, shares will re-rate due to the mere mention of the big name company that has signed the deal.
As the aurora wears off, you might be wondering if anything more will come of it down the line? Well, just as would be the case if there was no farm-in agreement, it is all about what can be found in the ground – if anything.
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What are farm-in agreements and what is involved?
Farm-in agreements refer to a common practice in the resource exploration industry of one company acquiring an interest in a drilling lease from another company by agreeing to assume a portion of the costs associated with drilling and exploration activities. In essence, one company “farms in” to the other’s lease.
Farm-in agreements can take many forms, including earn-in agreements, joint ventures and production-sharing agreements. They can involve different levels of risk and reward for each party, depending on the specifics of the agreement.
What is in it for both companies?
For the explorers, it helps them conduct exploration activities they may not be able to on their own due to lack of capital or expertise. For larger companies, there are several benefits to this type of arrangement.
For one, it allows large miners to diversify their portfolio by exploring new mineral deposits without having to undertake the financial risk of exploring, developing and operating a new project from scratch. Yes, major mines can last for many decades – but not forever. Miners will be on the look out for new projects, or potentially an undiscovered resource at an adjacent property to a mine. The large miner benefits from reduced risk by leveraging the smaller explorer’s existing knowledge of the local geology and exploration data.
Overall, farm-in agreements provide a win-win situation for both parties involved – at least assuming all goes well, which is no guarantee. In fact, it is the exception rather than the norm.
Examples of farm-in agreements
Farm-in agreements are being signed all the time – here are a few prominent examples:
One of the most recent examples was between Liontown Resources (ASX:LTR) and Olympio (ASX:OLY) – a deal signed just over a week ago. Liontown will be able to earn up to a 90% interest in Olympio’s Mulwarrie and Milline projects over 3 different stages.
First, Liontown must complete geochemical tests of 1,100 samples across these projects, using best endeavours to complete this within four months. It can then earn a 51% interest in the projects after spending $400,000 on a 12-month exploration program. Afterwards, subject to Olympio’s consent, a further 39% interest can be earned by spending $1m over the following three years.
Another recent farm-in agreement was signed between Newmont and Legacy Minerals (ASX:LGM). Newmont will be able to earn up to an 80% stake in Legacy’s Bauloora gold project in New South Wales. At the first stage of the deal, Newmont can earn up to 51% after spending $5m within two years, of which at least $2m must be spent in year one and that expenditure must include 4,000m of drilling. In the second stage, a further 24% may be earned by Newmont after spending an extra $10m and conducting a further 8,000m of drilling within 48 months.
As you can see by these two examples, exact terms vary from deal to deal.
So, are farm-in agreements a good thing or a bad thing?
It all comes down to whether or not anything is found. But small cap explorers certainly have more to lose from any downside than large cap miners. The miners can just move on to other endeavours while the explorers will be left to ponder if anything can be salvaged from the relevant asset.
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