Valuing Inactive Quarries and Gravel Pits: A DCF Approach

Many factors and situations need to be considered when valuing inactive quarries and gravel pits. The specifics determine what method we use. Today we will be looking at how to value an inactive gravel pit or quarry. We can use the “discounted cash flow” (DCF) method based on the potential profit it could generate if it were operational. This valuation method involves projecting the cash flows over a certain period, accounting for growth in sales volume and selling price, and then discounting these future cash flows to present value using a chosen discount rate. For a quick intro to the finance terms we are using check out this helpful video.

Understanding the market, the quality/ quantity of reserves, costs of operation etc. are essential for providing good estimates for the inputs. For example if a quarry’s life is only 10 years you can only value it based off operating for 10 years. Another example, if there’s significant overburden, you have to take into account the additional cost of moving and storing/ disposing of the overburden. If you put in bad estimates, you will get a poor valuation result. Next is an example of how to do the valuation.

Assumptions:

1. Year 1-4 sales volume, selling price, and profit margins are given.
2. Year 5 onward: Volume and ASP grow by 3% annually, while the profit margin stabilizes at 30%.
3. Discount Rate: Let’s assume a discount rate (typically around 10-15% for quarries to account for industry risks, but this can vary. Assume a higher discount rate based off of risk).

Step-by-Step Calculation:

Yearly Cash Flow Calculation (Years 1-4):

To calculate the cash flow for each year:

Cash flow = (Tons Sold x ASP) x Profit Margin

Example Calculations for Years 1-4:

Year 1:

• Tons: 75,000
• ASP: $10/ton
• Profit Margin: 15%
• Cash Flow = 75,000 x 10 x 0.15 = $112,500

Year 2:

• Tons: 125,000
• ASP: $11/ton
• Profit Margin: 20%
• Cash Flow = 125,000 x 11 x 0.20 = $275,000

Year 3:

• Tons: 150,000
• ASP: $12/ton
• Profit Margin: 25%
• Cash Flow = 150,000 x 12 x 0.25 = $450,000

Year 4:

• Tons: 200,000
• ASP: $13/ton
• Profit Margin: 30%
• Cash Flow = 200,000 x 13 x 0.30 = $780,000

Yearly Cash Flow Calculation (Years 5+ with 3% growth):

Starting in Year 5, we increase both tons sold and ASP by 3% annually, with a constant 30% profit margin.

For Year 5:

• Tons: 200,000 x 1.03 = 206,000
• ASP: 13 x 1.03 = 13.39
• Cash Flow = 206,000 x 13.39 x 0.30 = [calculated value]

This growth continues each year, compounding by 3%.

Discounted Cash Flow (DCF) Analysis:

1. Project the cash flows over a reasonable period (e.g., 10-15 years) based on the life expectancy of the quarry.
2. Apply a discount rate to each year’s cash flow to calculate its present value (PV).
3. Sum all present values to determine the total value of the quarry based on future cash flows.

• Formula: PV = Cash Flow/ (1+r)ⁿ
• Where ( r ) is the discount rate and ( n ) is the year number.

This DCF analysis helps value the quarry as a potential business, factoring in both expected growth and time-adjusted profitability. Different operators will have different abilities to fund the business (ie. investing in more efficient equipment) and different sales strategies and sales channels (ie. in house ready mix business to sell aggregate to) that will make the valuation vary between one operator and another. Reach out if you want help valuing your quarry or sand and gravel pit.