Investors will soon get a look at one of the biggest initial public offerings (IPOs) for quite some time, in the form of Coronado Coal, which could raise up to $1 billion, and list on the Australian Securities Exchange (ASX) as a $2 billion company.
Err, yes, “Coal.” That dirtiest of words.
But relax, we’re mainly talking about metallurgical coal – otherwise known as coking coal, or steelmaking coal.
In other words, the good coal – if you think that thermal, or electricity coal, is bad.
Coronado Coal is currently owned by Texas-based private equity group EMG. It owns four mines, including Curragh in Queensland – which it bought from Wesfarmers in March – and three metallurgical mines in the United States, the Buchanan, Logan and Greenbrier mines in Virginia and West Virginia. Curragh is the biggest asset, producing about 12.5 million tonnes a year. After that, Buchanan churns out about 5 million tonnes, Logan 3.5 million tonnes and Greenbrier 1 million tonnes.
It has been reported that the prospectus will show that the four-mine portfolio recorded $US2.165 billion ($2.9 billion) in revenue in 2017, and $US539 million ($718.7 million) in earnings before interest, tax, depreciation and amortisation (EBITDA), on a pro forma basis.
Why would Coronado want to list in Australia? It appears that given that more than half of the production will come from Australia, most of the coal will be sold to Asian customers, and the fact that the Australian stock market understands bulk commodities producers well, have driven that decision.
But we can get a feel for the prospects for the steelmaking coal business, from some other sources.
The first thing we know is that metallurgical coal producers are enjoying strong demand from steel producers around the world. Metallurgical coal is a proxy for steel, which itself is a proxy for a nation’s gross domestic product (GDP) growth. According to the Australian Department of Industry, Innovation and Science, to produce 1,000 kilograms of steel in a blast furnace, you need 1,400 kilograms of iron ore and 800 kilograms of metallurgical coal.
Global economic growth is driving demand for metallurgical coal. While coal demand in the developed nations is projected to fall, the International Energy Agency (IEA) expects coal demand in Asia to continue to rise, driven by China and India. India has become the world’s largest importer of metallurgical coal, surpassing China, Japan and the US. India is also the largest buyer of Australia’s specific kinds of high-quality steelmaking coal, and is expected to remain so over the coming years.
Since 2000, says the IEA, China and India have doubled their combined steel production, from 800 million tonnes to 1.6 billion tonnes, while production in the rest of the world has remained virtually flat. Even China’s production has plateaued since 2013, but India has on its own accounted for half of the global increase, from 1.65 billion tonnes in 2015 to 1.69 billion tonnes in 2017. New Delhi projects that its steel production will grow to 300 million tonnes by 2030, growing at an annual rate of 8.7%.
China still accounts for about half of that 1.69 billion tonnes of steel production, but there are complicating factors that are limiting China’s growth. China has realised that its steel sector is both bloated and full of old-fashioned, inefficient and dirty mills: it is trying to get these out of the industry, and it is also imposing seasonal restrictions on a range of industries and large construction projects, in a bid to reduce air pollution during winter.
This actually works in favour of Australian steelmaking coal (and iron ore), because Chinese steel mills have an incentive to use higher-quality inputs: in steelmaking coal, it works to the benefit of premium low-volatility coking coal (PLV index) against mid-volatility coal (PMV index) and weaker coking coals.
These developments have played into rising prices for steelmaking coal. The S&P Global Platts US metallurgical coal price rose from about US$80 a tonne at the start of 2016 to a peak of US$295 in 2017 – when Cyclone Debbie, which hit eastern Australia in March last year, caused widespread disruption to much of Australia’s steelmaking coal production – but it has fallen back as supply has normalised, to levels around US$185 a tonne, last week.
According to the March 2018 Resources and Energy Quarterly, published by the Department of Industry, Innovation and Science, steelmaking coal prices are expected to soften as more supply comes on stream, but are not expected to drop past $US140 a tonne before rebounding later this year.
While thermal coal has its difficulties, the metallurgical coal side of the industry appears to have a very promising outlook. The Resources and Energy Quarterly expects the next few years to see Australia’s metallurgical coal production (and export volumes) growing by about 2% a year, to rise above 200 million tonnes per year.
A new kid on the block
Local investors have really only been able to use Queensland-based producer Whitehaven Coal to invest in steelmaking coal, although Whitehaven also produces thermal coal. When steelmaking coal prices are high enough, Whitehaven will sell its thermal coal as semi-soft coking coal by washing it. Whitehaven typically needs semi-soft prices to be $US10 per tonne higher than thermal coal prices to justify the cost of washing the coal to convert it to semi-soft: recent prices have made it more profitable for the company to sell most of its coal as thermal.
Whitehaven Coal has certainly been a very strong stock market performer, rising from $1 when it opened its Maules Creek mine in September 2015 to $5.32 at present, and paying (unfranked) dividends, but on analysts’ consensus price targets, Whitehaven has moved past fair value (the analysts’ consensus price target for the stock, on Thomson Reuters’ collation, stands at $4.63, while FN Arena has it at $4.76.)
There are also a number of promising minnows in the steelmaking sector, but the most important attribute of Coronado Coal will be its large-scale, profitable exposure predominantly to steelmaking coal – a commodity that appears to have a buoyant future. We will take another look at Coronado Coal when we have a prospectus and can see what the dividend picture looks like, but suffice to say there is likely to be a lot of investor interest – both professional and retail – in the float.
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