Rio Tinto reportedly plans to sell off several billion dollars of Australian coal assets – the sale being part of Rio’s plan to increase shareholder value by cutting costs and shedding “non-core or underperforming assets.“
Rio generates 90% of its revenue from its iron ore operations, which means its coal operation conceivably qualifies as “non-core”. With the price of coal in decline the coal assets could be considered underperforming as well.
The following chart from the Bureau of Resources and Energy Economics tells the story through September of 2012:
For FY 2011 and FY 2012 to Q2 we exported $63 billion dollars worth of iron ore and A$47.8 billion in combined thermal and metallurgical coal. Note the forecast through FY 2013 shows declines for iron ore and metallurgical (coking) coal and a slight increase for thermal coal. In the same report BREE forecasted a 27% drop in the world price of iron ore and pellets; a 28% drop in the price of metallurgical coal; and an 11% drop in the world price of thermal coal through 2014.
With official forecasts like that, should you stay clear of iron ore and coal stocks?
In the case of iron ore, the world will always need steel and there’s no substitute for iron ore in the steel-making process. It is a commodity without competition.
This is not the case for thermal and metallurgical coal. The competitor for both is natural gas and falling natural gas prices have bumped coal from its long-held position as the most cost-effective means of generating electricity. Furthermore, a new technology called Direct Reduced Iron (DRI), already in use, replaces coal with natural gas in the smelting process.
Both coal and iron ore have suffered prices drops since 2011, slightly recovering in the first quarter 2013. The chart below shows iron ore and coking coal prices into 2013; the second chart shows thermal coal through July 2012:
The big question for investors is whether natural gas is a real threat to coal stocks. Or are coal plays still worth considering?
Coal has the advantage of being an abundant resource – and there’s the possibility that prices may shift in favour of coal over natural gas. Political starts and stops sometimes present opportunities for investors and the upcoming Federal election may have one in store. The opposition party has made an electoral issue of the Carbon Pricing Mechanism (CPM), threatening to kill it while still in its cradle.
According to carbon advisory firm RepuTex, electrical generation from natural gas would fall by some 60% should CPM be repealed and Australian gas prices continue to rise (LNG exports to Asia is already driving up domestic gas prices). In that event, the removal of support for natural gas inherent in the CPM could restore coal to its pre-eminent position as the most cost-effective fuel for electricity generation.
Another factor making coal plays attractive is its sheer abundance. Long-range forecasts from energy producers like Exxon Mobil, the World Bank and the US Energy Information Agency show coal in the global energy mix for decades to come, although with a declining share.
Below we take a look at 6 coal stocks including pure plays, diversified miners and explorers.
Take not that Aussie coal miners not only face the challenge of declining prices and demand, but also higher costs of doing business due to the strength of the dollar.
Winning bets in times of uncertainty tend to be companies with low costs of production, low debt and plenty cash on hand.
52 Wk % Change
Cash per Share
Washington H. Soul Pattinson and Company Ltd
New Hope Corporation
Washington H. Soul Pattinson and Company Limited (SOL) is a diversified company with some coal exposure, which means that you’re hedging your bets. The company owns shares and majority interest in coal mining, pharmaceutical products, and building products.
The principal revenue drivers are operating subsidiaries Pitt Capital Partners and New Hope Corporation, one of the coal mining stocks in our table. The company has minority investments in notable Australian companies including Australian Pharmaceutical Industries Ltd (API), Brickworks Limited (BKW), TPG Telecom (TPM), as well as Ruralco Holdings Limited (RHL), and Clover Corporation Limited (CLV.)
In October last year CIMB Securities downgraded SOL from BUY to HOLD based solely on valuation; the share price at that time had exceeded the broker’s target. On SOL’s prospects, the analyst maintained the view the stock offers investors diversified exposure to the market and solid dividends. The current dividend yield is 3.2%. The company has paid dividends every year for the last decade ranging from a low of $0.17 per share in 2003 to a high of $0.57 in 2009. For FY 2012 the dividend paid per share was $0.44.
Although the share price is up just 5% year over year, the company has performed well for its investors over a five year period with a solid recovery from the GFC and 70% stock price appreciation over the period. Here is the chart:
Although pure plays like New Hope Corporation (NHC) have greater capital appreciation potential than a diversified parent like SOL, less risk tolerant investors can get exposure to coal by investing in SOL – plus gain exposure to other sectors like health care, telecommunications and construction.
New Hope is an energy company with some modest diversification of its own. The company has three operating segments – coal production and exploration; coal marketing and infrastructure, and treasury and investments.
In 2012 New Hope mines in Queensland produced 6.29 tonnes of coal, with 65% of the total shipped to customers in the Asia Pacific region and Chile, with the remaining 35% going towards domestic use. The company has ownership interests in rail and port infrastructure facilities as well as 100% ownership of Queensland Bulk Handling facility, an export terminal used by coal producers in the region. The treasury and investment division manages the company’s substantial land holding in the region and makes fixed income investments as well. During fiscal 2012, the Company acquired Northern Energy Corporation, an Australian coal producer in which New Hope already had an 83% interest. New Hope’s strong balance sheet made the takeover possible and as you can see from the table, the company’s balance sheet remains strong with no gearing and substantial cash on hand. In addition, the company’s margins dwarf the margins of the other active coal producer in the table, Whitehaven Coal (WHC). New Hope’s operating margin of 27.94% and profit margin of 19.1% compare very favorably to margins of 29.96% and 14.35% at BHP.
On 20 March 2013 Credit Suisse maintained an UNDERPERFORM recommendation on NHC based on uncertain conditions in the coal sector, while at the same time upgrading earnings estimates by 15% for 2014 and 10% for 2015. New Hope’s current dividend yield is 3.4%. The company has paid dividends in each of the last six years with a high of $0.82 per share in 2009 and a low of $0.076 in 2007. For FY 2012 the dividend per share was $0.31.
New Hope is another company whose share price over 5 years suggests the possibility of better days ahead if prices and demand return to more favorable levels. Here is the chart:
Whitehaven Coal Limited (WHC) has four producing mines, both underground and open cut. Three of the mines are 100% owned by WHC and the fourth is 70% owned. The company is also the sole owner of coal handling, preparation, and rail loading facilities and has exploration and development projects in progress. Whitehaven produced 4.28 million tones of coal during FY 2012.
The company is looking to grow both organically and via acquisitions.
In 2012 Whitehaven bought Coalworks Limited and in March 2013 secured a 29% interest in the Vickery South Coal Project, in a deal with the Itochu Corp of Japan.
Unlike SOL and NHC, Whitehaven has not rewarded its investors over 5 years, faring moderately better than the 60% year over year loss we see today. Here is the chart:
Whitehaven has a market cap of $1.95 billion with abysmal margins, low cash for its size, and moderately high debt. Despite this, from 27 February 2013 to 13 March 2013 only one major analyst downgraded the stock from OUTPERFORM to NEUTRAL. The downgrade came from CIMB Securities citing startup delays in the company’s mines under development. Macquarie, Citi, BA-Merrill Lynch, UBS, Credit Suisse, and Deutsche Bank maintain BUY, OUPERFORM, or OVERWIGHT ratings. Some analysts expressed concern about low margins but believe improving coal prices will help. However, they still cite high operating costs as an issue. With all due respect to these analysts, New Hope seems on paper to be a safer play.
Coalspur Mines Limited (CPL) is in the exploration and development phase with an eye toward creating a new exporting region for thermal coal based in Alberta, Canada. Coalspur has offices in Alberta, British Columbia, and Australia. The stock trades on both the ASX and the TSX (Toronto Stock Exchange.) The company has coal exploration leases covering about 55,000 hectares in the Hinton region of Alberta.
Right now the company’s main focus is on the development of the three Vista mining projects with a total of around 45,000 hectares. The three areas are the Vista Coal Project, the Vista South Coal Project, and the Vista Extension. These projects are in close proximity to rail transportation, adjacent to a major Canadian National Railways line for easy transport of the thermal coal to ports on Canada’s west coast. Coalspur has also secured a port allocation agreement with Ridley Terminals Inc. The agreement ensures the logistics necessary to move the coal to its targeted destinations in the Asia Pacific Rim. Prospective customers include China, Japan and Korea.
Coalspur’s share price, once bouyed by the resources boom, has tumbled alongside commodity prices, as you can see from the company’s five year chart:
Coalspur has a grand vision but of the four companies still in the exploration stage, CPL is the only one with debt and a relatively weak cash position. The market cap is $279 million.
Bandanna Energy Limited (BND) is a Queensland-based thermal coal explorer and developer in the Bowen and Galilee basins. Bandanna has a 14% interest in the Wiggins Island Coal Export Terminal at Gladstone.
The main attraction of this stock is its 100% ownership in five shale oil tenements in the region, although there is little information about the size and scope of the tenements. The company is a classic example of the risk of investing in speculative penny stocks. The share price rose from pennies per share to a high of $2.00 per share in late 2011 and has since retreated to $0.47. Here is the chart:
However, if you have a fondness for rolling the dice, this company’s shale oil assets make this a stock to watch. In March 2013 the company was downgraded to NEUTRAL from BUY by UBS in light of concerns about the company’s ability to fund future operations. Credit Suisse expressed the same concern, but reiterated its BUY rating in the belief a JV partner can be found. Credit Suisse thinks the company is undervalued.
Jameson Resources Limited (JAL) is an exploration company focussed on coking coal prospects in the province of British Columbia, Western Canada. Jameson has four exploration and development projects underway; two at 100% ownership; one with 90% ownership; and one with a minority 20% stake. The most promising may be the Dunleavy project in BC’s Peace River coal fields where the BC Ministry of Energy and Mines estimates there are 1 billion tonnes of recoverable export quality metallurgical coal. The company has no debt but its cash position should be of concern for funding future operations. The share price has done well over 5 years. Here is the chart:
Atrum Coal NL (ATU) listed on the ASX in July last year after raising $9.1 million. As at December last year the company’s total cash on hand stood at $4,576,874 with $412,054 in liabilities.
Take a look at this price chart – this stock is defying market and sector trends:
The share price jumped from $0.20 per share to over $1.00 a share in less than a year. What happened?
Atrum is another Australian company looking to strike it big in the coal region of British Columbia. The company’s flagship project is the Groundhog development in the Peace River region. Shortly after its listing the company made some key acquisitions and in September 2012 got exploration approval from the BC Ministry of Energy and Mines.
On 30 December 2012, Atrum announced that it had augmented Groundhog Project with the 100% acquisition of a substantial coal license package called the Panstone Applications, including six coal exploration licenses spanning 8,343 hectares.
On 03 April 2013 the company announced another increase in the resources at Groundhog, representing a 460% increase, raising total estimated coal resources to 1.57 billion tonnes. Company management claims Groundhog is now the largest underdeveloped high-grade anthracite deposit in the world. This is one stock to watch.
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