Geological-Economic Audit in Russia

Geological-economic audit in Russia: peculiarities and development prospects

According to the Directive of the Government of the Russian Federation dated December 22, 2018 No. 2914-r “On the strategy for the development of the mineral resource base of the Russian Federation until 2035.” in the preparation of which Decrees No.176, No.203, No.208 of the President of the Russian Federation V.V. Putin were taken into account:

• The strategic goal for the development of the mineral resource base is to create conditions for the sustainable provision of mineral raw materials for socio-economic development and maintaining a sufficient level of economic and energy security of the Russian Federation.
• The achievement of the aforementioned strategic goal is realized based on the expansion of the mineral resource base due to an increase in the investment attractiveness of geological exploration work at all stages, improving the quality of prediction and search for new deposits, as well as increasing the efficiency of the development of known, including undeveloped, deposits through the introduction of modern processing technologies, enrichment, and comprehensive extraction of minerals.

The set goals can be significantly achieved through the development of the Russian sovereign system of geological-economic audit, which contributes to:

• conducting a geological-economic assessment of reserves of mineral deposits
• the development of a high-liquid mineral resource base
• increasing investment attractiveness,
• improving the efficiency of the development and technologies applied
• growth in prediction quality,
• ensuring rational use of subsoil resources
• ensuring a stable influx of off-budget investments, including in geological exploration work
• qualitative improvement of the information support system for subsoil use, monitoring, and control over the development of the mineral resource base of the Russian Federation
• the introduction of advanced geological exploration technologies
• involvement in the development of mining waste
• the introduction of modern methods of analysis and interpretation of accumulated geological, geophysical, and geochemical information for prediction tasks
• the development and introduction of modern geological-economic methods of accelerated reassessment of mineral reserves based on market requirements
• the transfer of foreign technologies in the field of prediction, searches, and assessment of mineral deposits, their introduction into the practice of domestic geological exploration industry
• development and improvement of technologies for profitable mining and processing of low-quality ores of acute-deficit and high-liquid mineral raw materials.

The implementation of multiple objectives set by the strategy approved by the Government of the Russian Federation, as well as the improvement of the declining quality of balance reserves, places the development of the Russian system of geological-economic audit at the forefront.

Main concept:

• Geological-economic audit — is a non-governmental independent geological-economic check, which includes the procedure for regulatory compliance (checking the compliance of subsoil users' activities related to the geological study, use and protection of subsoil, the conditions of licenses for the right to use subsoil, legislative and regulatory requirements in the field of subsoil use) of technological and technical decisions affecting the economic efficiency of recommendations for increasing financial results from the use of subsoil plots in economic turnover. Geological-economic audit also involves checking the accuracy of the company's technical reporting and the compliance of its production activities with regulatory legal acts and technical requirements.

Auditors in this field do not engage in geological exploration work, they use existing materials (geological, technological, technical, and economic, etc.) and based on them, make conclusions about the quantity of resources and reserves, as well as a cost estimate of minerals at the deposit.

A geological-economic audit is carried out at the initiative of:

• subsoil user for the purpose of checking the compliance with the requirements and developing appropriate corrective measures to increase the efficiency of subsoil use, disclosure of information to shareholders and increasing trust from investors, when calculating capitalization, etc.;
• potential subsoil user with the aim of selecting an optimal subsoil use object put up for competition or auction;
• executive authorities, financial, credit, and other interested bodies by agreement with the subsoil user
• state control bodies in the field of subsoil use.

Why can't the state act as an auditor?

The independence of the auditor requires special attention - a requirement according to which the auditor is not an employee of a state institution and is not subject to audit and control bodies, is not related to the audited organization. The auditor strictly adheres to federal standards, as well as standards of the auditor organization, having no property or personal interests with the audited enterprises. The principle of independence in auditing is placed at the forefront, at the level of establishing the essence of the audit.

The question often arises about entrusting auditing functions to government agencies, so let's discuss why this approach is unviable and hasn't caught on in international practice:

• Question of independence and conflict of interest. Government bodies can't be completely independent as they are part of the state as a whole and their creation process implies a degree of dependence on the state's legislative bodies. A certain degree of dependence exists in the subsequent operation of state control bodies in terms of safeguarding the interests of legislative (representative) bodies, and consequently, society as a whole. The state also has numerous connections with the audited organization which one way or another affect the evaluation. One must also consider that the domestic system was formed in a planned centralized economy and is therefore oriented towards inventorying reserves. Currently, the state aims to put as many reserves as possible on its balance sheet, regardless of the economic feasibility of extracting them at the moment in a constantly changing market. Sometimes it goes so far that the amount of economically feasible resources, out of the reserves put on the state's balance sheet, reaches only 30 percent, which in turn, greatly distorts the actual number of income-generating reserves on the state's balance sheet. And this is just one example of how the state's interest, and as a consequence the interest of state bodies, affect the evaluation of reserves.
• Question of accountability and competitiveness. When conducting a state geological-economic audit, there can be no responsibility other than administrative or criminal, while competition as such is absent. In the event of an error during a state audit, risks in the form of damage compensation or rework fall on the state budget. In turn, auditing organizations or individual auditors conducting geological-economic audits and providing associated auditing services - cannot be employed in state bodies, except for those involved in scientific or teaching activities, and must not allow any factors that call into question their independence and impartiality in evaluation. There is healthy competition and accountability for work performed between auditing firms and the experts working in them, before the expert community and the regulator in the form of a rating, evaluating competence, as well as applicable measures, in the form of fines with correction of the work done or disqualification from the auditors' company/individuals' rating who participated in the evaluation with identified violations. The activity of auditors, like any entrepreneurial activity, is subject to mandatory insurance.
• Question of unification, standardization, and mutual recognition at the international level. A state auditing system must coexist with other regulatory documents, which will result in each country having its own system (or even several overlapping systems), based on historically established precedents in the regulatory process. Therefore, it is impossible to bring all countries to a unified regulatory system with the same rules. If unification is imposed, it will be perceived as nothing more than a threat to the sovereignty of each state. Non-profit organizations that enforce the Code of Ethics and carry out regulatory functions, on the other hand, can successfully bring international interaction to a unified format and, thanks to this, by understanding and speaking to each other in the same language, promote mutual trust, understanding, and recognition.
• Question of the feasibility of introducing state audit. The only presence of the state as an auditor has been realized by creating control state bodies by the Federal Assembly of the Russian Federation through the Accounts Chamber, in order to ensure the constitutional right of citizens of the Russian Federation to participate in the management of state affairs to carry out external state audit (control) over the use of state budgetary funds at all levels of power. The tasks of the Accounts Chamber include organizing and carrying out control over the targeted and efficient use of federal budget funds and auditing the feasibility and effectiveness of achieving strategic goals of socio-economic development of the Russian Federation. In this case, it was appropriate to give the audit function to the state, and this practice is international (Lima Declaration of guiding principles of control). If geological-economic auditing is to be carried out by the state, it will lead to a number of negative consequences for the state and subsoil users: 1) Huge costs from the state budget and the need to expand the state civil service staff 2) Companies will once again be forced to order audits from foreign auditors operating within internationally recognized standards 3) The Russian standard, which has already gained recognition (NAEN Code), will not develop, and along with it, the Russian audit system will not develop 4) Because of the order of audits from foreign auditors, the old problems resulting from this will remain: the leak of secret information, the imposition of rules by other countries, underestimation of economically feasible reserves, and as a result of the capitalization of companies, etc.

Differences between the domestic system of reserves estimation and the international one.

While the domestic system is focused on inventorying and documenting the maximum amount of reserves, regardless of their complexity and the feasibility of their extraction, the international system originates from market needs and is built on the principles of ensuring investment transparency and standardizing mining companies' reports on mineral assets to investors for determining the economic feasibility of exploiting deposits.

The difference in the systems is reflected in the different approaches to the classification of mineral reserves. Therefore, for domestic companies entering international markets, it is necessary to convert the quantitative assessment of reserves made according to domestic rules into a quantitative assessment of reserves, including economic feasibility, made according to international standards. Also, it is required to verify the correctness of this conversion by engineering auditing firms recognized on international exchanges, operating in the field of geological-economic auditing.

Thus, geological-economic audit or reserve audit means verifying the reliability of data from technical and other company reports on the volume of resources and mineral reserves. It involves due diligence of the quantitative assessment of resources and reserves of minerals. This check is a mandatory procedure before any major transactions with mining companies, listing, determining capitalization, and other cases.

Russian companies ordering a geological-economic audit according to international standards expect that their capitalization will significantly increase after its conduct due to the emergence of a cost assessment of the portion of the property located underground, recognized by international financial institutions. After conducting a geological-economic audit, data on resources and reserves are used by companies for reporting to shareholders, planning activities, and conducting operations with securities and operations on exchanges.

Geological-economic audit in Russia today

In Russia, the procedure for a geological-economic audit is not officially conducted. Due to the absence of a full-fledged system of geological audit with international recognition, Russian companies entering international markets were forced to turn to Western auditing firms recognized on financial markets to conduct an audit of mineral resources.

However, now in Russia, all the necessary elements exist to create a self-sufficient Russian system of geological-economic audit:

1. Russian standards - the NAEN Code (for solid minerals) and "Hydrocarbon Resource Management Systems" based on the internationally accepted PRMS (for hydrocarbons);
2. Russian non-profit organizations in the face of JSC "NAEN" and NTO NG named after Gubkin;
3. Russian companies conducting geological-economic audit at the corresponding international level - IMC Montan, EGEER;
4. Russian specialized universities;
5. Russian insurance companies, ready to insure the professional liability of geological-economic auditors.

However, the state does not provide the necessary support to domestic non-profit organizations, standards, and companies in the field of auditing, possibly due to insufficient awareness within this area of activity. The maintenance of such ignorance is lobbied by foreign companies who benefit from this situation. For these reasons, the Russian audit system is not used, and the whole system remains at the preceding level of development. Today, the largest companies in the country still ignore the existence of the Russian audit system, conducting audits in foreign companies, not using Russian standards, maintaining the membership of their employees in foreign public organizations (including SPE), thereby they:

• pay for audits to American organizations, replenishing their treasury and developing the economy of America;
• strengthen Russia's dependence on the assessment of other countries;
• transmit secret particularly valuable exploration data obtained during the audit to uncontrollable use, including by hostile countries;
• destroy Russian associations and professional communities of experts by lack of support;
• leave the Russian audit system in an embryonic state;
• allow foreign auditors to underestimate the capitalization of all Russian companies and the assets of the state as a whole;
• increase their own and state costs due to the preservation and maintenance of the system with the duplication of audits;
• etc.

Today in Russia, mining companies carry out the same procedure within the framework of four different processes, reserve calculation is carried out for:

1. business planning;
2. conducting an international audit in accordance with the requirements of banks and exchanges;
3. state examination of reserves for approval of project documentation in the State Commission on Reserves;
4. when justifying tax benefits with the Ministry of Finance and the Ministry of Energy.

In each of them, different estimates of profitable reserves and production profiles are obtained. Further implementation and unification of the Russian national reserve audit system will allow to align estimates within these processes, remove excessive administrative barriers, and also reduce the costs of subsoil users and the state by excluding duplicative procedures and functions.

Existing Russian standards for conducting geological-economic audit:

1. for solid minerals - NAEN Code

The only internationally recognized Russian national standard, according to which the audit of resources and reserves of solid minerals can be carried out, for use in Russia and worldwide, is the NAEN Code (recognized by CRIRSCO and the State Commission on Mineral Reserves of the Russian Federation (GKZ RF)).

The Code was developed by JSC "NAEN" - a non-profit organization acting as the internationally recognized "National Reporting Organization" (NRO) from Russia - responsible for developing codes, standards, and guidelines for reporting on solid minerals. The main goal of JSC "NAEN" is to form a community of professional participants in expert activities to generalize advanced experience and disseminate knowledge and innovations in the field of geological study and expert assessment of subsoil use, as well as to promote the development of the Russian geological-economic audit system, including through the development and implementation of the national sovereign internationally recognized NAEN Code. It should be noted that according to international rules, only one NRO from each country can be approved, which is part of CRIRSCO.

Key points in choosing the international CRIRSCO system as the basis when developing the NAEN Code:

• CRIRSCO does not assign professional qualifications and does not keep a register of competent persons/experts. These issues are within the competence of each NRO and/or the RPOs that are part of it.
• The governing body consists of CRIRSCO Members, who in turn are nominated by the NRO of each of the countries (no more than 2 members from each country)
• The code of each country is approved in the language of the country, to avoid double interpretation, as well as to harmonize with the internal regulatory documents of each of the countries.
• The task of CRIRSCO is to encourage further development of international recognition of Competent Persons/Experts.
• CRIRSCO stays out of the political plane and focuses exclusively on interaction in the professional field within the "international standards of reporting on solid mineral reserves".
• Membership of the Russian Federation has allowed maximum harmonization not only of Russian audit reporting standards with international ones, but also the classification of GKZ, by creating the NAEN Code.

The main principles of operation and use of the NAEN Code are transparency, materiality, and competence:

• Transparency requires the technical report to contain sufficient information, clear and unambiguous, so that the user can understand the report and not be misled.
• Materiality requires the technical report to contain all necessary information, and investors could find in the report all the data to make an informed and weighted judgment about the resources and reserves of minerals.
• Competence requires the technical report to be based on work for which a sufficiently qualified and experienced person who adheres to a professional ethical code is responsible.

The status of the NAEN Code and JSC "NAEN", including the competence level of experts, is recognized by:

• countries: Brazil, India, Turkey, Colombia, Australia (Australasia), USA, Canada, United Europe, Brazil, Chile, South Africa, Russia, Kazakhstan, Mongolia, Indonesia. In the near future, the list will be replenished with countries such as China, the Philippines, and Kyrgyzstan.
• organizations (including through mutual recognition by CRIRSCO): European Federation of Geologists (EFG); Geological Society of London; Institute of Materials, Minerals, and Mining; Institute of Geologists of Ireland; Fennoscandian Association for Metals and Minerals Professionals; Iberian Mining Engineers Board; Financial Conduct Authority of Great Britain (FCA); Pan-European Reserves and Resources Reporting Committee (PERC); Chilean Mining Commission (Commission Minera); South African SAMREC/SAMVAL Committee; Society for Mining, Metallurgy, and Exploration (SME) of the USA; Australian JORC Committee; Canadian Securities Administrators (CSA); CRIRSCO committee and many others.

Differences in approaches to data verification within the framework of public reporting CRIRSCO and in the composition of the GKZ examination:

The Russian GKZ expertise system is historically oriented towards checking data presented in reserve calculation reports for compliance with industry standards and guidelines and does not question their reliability or completeness. The verification of the correct implementation of methodological instructions is an editorial approach to the analysis of geological data. In contrast, a geological audit carried out according to the Russian "NAEN Code" within the framework of CRIRSCO public reporting is an active approach as it aims to identify specific problems related to the peculiarities of a particular deposit and its geology and the corresponding adjustment of the applied instructions.

Drilling data and a well-composed, verified database are the primary, fundamental asset of a company and project. Regardless of the need to prepare a public report to attract funding, any company needs an independent audit in accordance with the international "NAEN Code" to ensure that resource modeling is based on accurate, correct, and reliable data. Without quality data, the company will not have reliably substantiated mineral resources or ore reserves, which will lead to unsatisfactory project results at the stage of mineral extraction.

2. for hydrocarbon raw materials - "Hydrocarbon Resource Management System" based on internationally recognized PRMS

The Scientific and Technical Society of Oil and Gas Workers named after Academician I.M. Gubkin - the leading expert and technological association of Russia in the field of hydrocarbon resource use. This public organization, in interaction with the scientific and technical expert community of the Gubkin Oil and Gas University and other specialized universities, as well as NAEN, has issued a revision of the national sovereign "Hydrocarbon Resource Management System" based on PRMS, meeting all the requirements of international standards, reflecting an objective comprehensive approach, starting from the origin of the accounting, control, classification, and development of hydrocarbon fields. The adaptation of PRMS into the national "Hydrocarbon Resource Management System", which is the most common system for assessing hydrocarbon reserves in the world, recognized as a global standard for geological and economic assessment of hydrocarbon reserves and resources, will allow all domestic industry companies to provide the necessary level of disclosure and is a necessary language for mutual understanding on projects with countries including those not joining sanctions against the Russian Federation. At present, work is underway to further integrate HRMS/PRMS in the Russian Federation and the international arena.

The Scientific and Technical Society of Oil and Gas Workers has been operating in the territory of the Russian Federation since 1933, including in the field of subsoil use. By 1991, the Society covered more than one thousand collective members - leading enterprises and organizations of the oil and gas industry, and about 200 thousand members of the Society who worked in 46 regional and regional branches of the Society and in 13 republican organizations of the USSR. Currently, the Interregional Scientific and Technical Society of Oil and Gas Workers is represented by regional branches in the cities of Moscow, Volgograd, Khanty-Mansiysk, Noyabrsk, Kogalym, Perm, Usinsk, Orenburg, Almetyevsk, Irkutsk, covering more than 1000 members of the Society. One of the main activities of the Scientific and Technical Society of Oil and Gas Workers is conducting independent public expertise. When conducting procedures for developing a geological and economic audit in the exploration and production of hydrocarbons, the experts of this public organization will replace the experts of the SPE (Society of Petroleum Engineers), which has developed in the Russian Federation lately, with headquarters in Texas.

Foreign Geological and Economic Auditors in Russia Today

For centuries, Western countries have been implementing levers to control financial markets. To get an investment, a subsoil user has to confirm their reserves - provide the bank with an audit opinion. This crucial juncture is occupied by American companies - Gaffney, Cline & Associates, Sproule, Miller and Lents, Ltd., DeGolyer and MacNaughton, Ryder Scott, Netherland, Sewell & Associates Inc. (NSAI), Lloyd's Register (LR), Evolution Resources, Cawley, Gillespie & Associates Inc. (CG&A) and others.

American auditors provide access to the American capital market through the system they manage and it's logical. But Asian financial centers are playing an increasingly important role in the world, and it is completely unclear why a Nigerian subsoil user working with a Shanghai banker cannot do without an audit report signed by Americans. And even more so a Russian subsoil user.

Today, many American companies have de jure left the Russian market, in fact, by registering new auditing companies with a dissimilar Russian name. However, these companies de facto continue to support:

• foreign interests and maintain the dependency of Russian companies and Russia as a whole;
• accountability for the work done and sending valuable, and sometimes secret data in the form of reports to their foreign parent companies;
• the necessity to work according to foreign standards, which are at the same time internationally recognized as Russian standards;
• membership and significance of foreign non-profit expert organizations, while still denying the existence of Russian ones.

Potential of the Russian Geological-Economic System

The Russian Federation, possessing its own internationally recognized mechanism for verifying reserves (in the form of the NAEN Code, SUUR/PRMS, and Russian audit companies) within its own interest and the interest of companies should promote its development in its territory. The term "sovereign audit" precisely reflects the essence of the issue: a question concerning the provision of sovereign development of sectors, free from control and pressure from foreign states, and more broadly - a question of ensuring the state's resource sovereignty.

The point of implementing, supporting, and developing our own Russian system of sovereign audit of reserves is to free this important mechanism of subsoil use audit from the domination and dictatorship of other countries, to provide our country with an objective and transparent evaluation, understandable to everyone and providing access to international capital markets.

Banks act as intermediaries. For the system to be efficient, the interests of the buyer should be considered first and foremost. The strategic buyer of Russian resources is abroad. The created Russian system of geological and economic audit will provide objective international recognition of reserves of Russian subsoil users, simultaneously attracting investors from around the World with transparency and justification of the accepted evaluation. Therefore, the creation of precisely an international national system was the only correct way to solve the task, which was successfully accomplished.

It is quite expected that Russia will be the first country to take the first steps towards sovereignty in the field of audit. It will do so not only because the existence within the framework of the old paradigm is no longer possible, but also because Russia has the largest reserves, competencies in their study and accounting, a vast expert and scientific community, and colossal experience significantly ahead of many countries. The support, development, and further implementation of the Russian system of geological and economic audit will be a strategic achievement in the fight for our country's sovereignty in relation to reserves on Russian territory. Russia's experience will be of interest to a variety of countries, primarily the EAEU and SCO countries, and thereafter to the entire international community.

The necessity of developing a Russian system of geological-economic audit and conducting it annually is conditioned by:

1. Obtaining reliable information about the resource base and reserves of minerals of the company
2. Obtaining reliable information about the amount of profitable reserves and their cost estimate for the current period
3. Maintaining transparency between organizations and their shareholders
4. The ability to predict the amount of reserves and their cost to take timely measures to adjust extraction technologies to achieve the goals of rational subsoil use
5. Evaluation of the economy and efficiency of technical and technological solutions at operating and planned objects based on a comprehensive study of individual operations, technological schemes, etc.
6. Objective and fair international recognition of the reserves of Russian subsoil users
7. Increasing the capitalization of organizations due to the emerged evaluation of part of the property located in the subsoil, recognized by international financial institutions
8. Maintaining the necessary secrecy regime on some information obtained in the process of auditing on the territory of the RF
9. Freeing the Russian audit system of subsoil use from the dominance and dictatorship of other countries, achieving sovereignty
10. Development and improvement of its own system of geological-economic audit, which includes specialized universities, non-profit organizations and associations, auditing companies, experts/competent persons, regulatory framework
11. Increasing the investment attractiveness of companies
12. Reducing the costs of subsoil users and the state by eliminating duplicative procedures and functions
13. Obtaining data as a result of a geological-economic audit, which serves as a basis for the development and adjustment of Russia's energy strategy, as well as a long-term program for the search and exploration of deposits.
14. Obtaining reliable information about the number of reserves and their cost within the entire state for a specific period of time
15. The ability to create a single information model, with the ability to track in real-time the capitalization of companies, extraction, reserves, and many other characteristics, allowing using AI: forecasting extraction within the current areas, building forecasts for nearby territories, forecasting changes in extraction and its economic feasibility and rationality of subsoil use modeling different extraction technologies.
16. The possibility of forecasting the current and future load of logistics chains for the supply of minerals, as well as determining the most suitable places for further placement of processing plants, enrichment factories, etc.

Actions necessary for the development of the audit system in the field of subsoil use in Russia:

• In order to standardize the reporting requirements for extracting companies, it is necessary to introduce a reporting system according to the NAEN Code (CRIRSCO) for solid minerals and the PRMS for hydrocarbon raw materials, which will provide internationally accepted standards for information disclosure. For the practical implementation of the proposed initiative, it will be sufficient to make changes to some Provisions of the Bank of Russia.
• In order to build a stable system of geological-economic audit of reserves in Russia, within the framework of import substitution, when choosing an auditor, preference should be given to Russian auditing companies working according to the Russian national sovereign internationally recognized Code "NAEN" for solid minerals and PRMS for hydrocarbon raw materials.
• In order to develop a Russian sovereign system of geological-economic audit, it is necessary to support and develop Russian specialized non-profit organizations represented by the JSC "NAEN" and NTO NG named after Gubkin, which are engaged in both the development and popularization of Russian standards (NAEN Code and PRMS), as well as the development of the Russian scientific and expert community, numbering thousands of experts throughout Russia.