On 27 April a story appearing here on thebull.com reported the sad tale of the “last train to leave Leigh Creek.” The train carried coal from a now-shuttered mine in the town formerly operated by electricity retailer Alinta Energy for the South Australian state government. At its peak the mine produced about 2.5 million tonnes of coal per year to fire two power generating stations that supplied 40% of South Australia’s electricity. Coal mining at Leigh Creek dates back to 1888.
Since the advent of electricity, coal has been viewed as the “king” of commodities. But even with the most highly valued commodities, technology can issue a death sentence. More than a century ago the world had a seemingly insatiable demand for whale oil to light the night. The onset of kerosene sent whale oil demand plummeting, leaving only its use in soap and vegetable and certain machine oils. The last whaling ship in the once mighty US whaling fleet left the Port of New Bedford Massachusetts in 1921.
The future of coal is a hotly debated topic. There are those who firmly believe thermal coal used to generate electricity will join whale oil as an obsolescent commodity as natural gas and renewable energies become dominant. Like or not, coal is a “dirty” fuel, pouring carbon into the atmosphere.
Metallurgical or coking coal used in the production of steel appears to have a better long term outlook, but even here steel is losing ground to lighter materials in many sectors, most notably automotive and aviation. In addition new technologies such as high-powered electric arc furnaces (EAF) are already used in lieu of coking coal in both the US and Europe.
Others scoff at the notion that King Coal is on its deathbed, believing the abundance of coal and its supposed price advantage over other forms of energy will keep coal afloat for decades to come.
We think the question to be addressed is not what the future of coal is; but what is the future of coal mining stocks as viable investment opportunities. Coal is a major Australian export commodity, making it a prime candidate for wishful long term thinking. Investors hoping for a rebound in the price of coal can find market experts proclaiming better days ahead due to rising demand in emerging markets as well as rising prices for natural gas.
Despite a downward share price drift spanning more than two years, the share prices of our two largest remaining pure-play coal producers on the ASX have spiraled upward in the last month. Here is a one month price chart for New Hope Corp Limited (NHC) and Whitehaven Coal (WHC).
What may have powered the move was the 16 April announcement from Indian conglomerate Adani that its proposed $21.7 billion coal mine project – the largest new coal mine on the planet – had received approvals from land owners in the Queensland Galilee Basin. The project faces environmental hurdles but could be serving as evidence to support the view that coal here in Australia is alive and well.
On 28 April, New Hope traded about 210 thousand shares, slightly lower than its three month average daily volume of 218 thousand; and Whitehaven traded 2.98 million, slightly below its average of 3.05 million. Reuters reports a consensus analyst recommendation of Hold on both stocks. Of the seventeen analysts covering the companies, only one has a Sell recommendation for Whitehaven, along with two Underperform ratings. New Hope has only one at Underperform.
Investors may also have been impressed with Whitehaven’s Half Year results showing a 54% increase in revenue and a return to profitability. New Hope’s Half Year results also showed a profit, albeit about half of what was reported last year.
Perhaps this news allowed some investors to ignore an ominous sign from the United States. On 13 April the largest coal company in the world – Peabody Energy – filed for bankruptcy protection in the United States. This is a company that traces its history back to 1883 when founder Francis S Peabody began selling coal from a mule-drawn wagon in Chicago.
King Coal believers make the case the filing is simply a matter of bad management, most notably the company’s decision to buy our own Macarthur Coal of Australia at a cost of $5.2 billion back when coal prices were high in 2011. Management, the skeptics claim, overestimated future Chinese demand for coal and underestimated coal supplies in the Asia Pacific region.
There may be some truth in that explanation, but how then does one account for the August 2015 filing of the second largest producer in the US – Alpha Natural Resources; or the October 2015 bankruptcy of Patriot Coal; or the January 11 bankruptcy filing of yet another major US coal producer – Arch Coal? The US has seen more than three dozen coal miners declare bankruptcy in the last three years.
King Coal believers have an answer for that as well, pointing to the explosion in US production of natural gas from shale drilling. The price of gas dropped so low it obliterated the cost advantage coal had held for decades.
The situation for coal miners in the US is so precarious major financial institutions there are refusing to fund any future coal mine developments. The list is impressive, including JP Morgan Chase, Morgan Stanley, Citigroup, Bank of America, and Wells Fargo. The following graph presents the apocalyptic case for coal, assuming a continuation of low natural gas prices.
The next graph makes the case that natural gas prices outside the US give coal an edge, especially when you factor in the increased imports of coal from the US due to the low price there driving down the price of coal in Europe.
The case for the future of coal here in Australia rests with China and India. For the retail investor the task of sorting through conflicting points of view is challenging at best. Here is a graph showing Chinese coal consumption in decline since 2002.
Now here is another graph supporting the case for future coal demand.
In January of 2016 the Chinese government banned the building of new coal-fired generating plants for three years. A 16 April article in the Australian from Environment Editor Graham Lloyd sports the headline Coal’s future burns bright despite shift to renewable energy. Lloyd states the Chinese are expanding electrical transmission capacity with the intent of selling coal-generated electricity to Germany, where renewables are driven up the cost of energy.
India reportedly has more than 400 million people without electricity and the country appeared to be committed to coal to expand its electrical generation capability. The following graph supports that case.
This picture bode well for importers of thermal coal until the Indian Energy Minister very recently announced the country is planning to cut its coal imports to zero by expanding the capabilities of its state-run coal operations.
In 2015 Deutsche Bank issued a report appearing to support an opposite conclusion, throwing cold water on the hopes for increased imported coal.
We now have the Indian Energy Minister claiming solar generated electricity is already cheaper than coal but without storage capacity solar cannot provide reliable 24/7 generation.
In the midst of all this we have confident pronouncements from the CEO of Whitehaven, with a solid Half Year financial performance in very challenging conditions to support his claim. Here is what he had to say:
‘Whitehaven remains positive about the medium and long-term outlook for coal, particularly the outlook for the high-quality coal we produce.’
He went on to state the company’s financial position is expected to continue to improve over the next three years, driven by further increases in production and improving margins as well as further reductions in net debt. The strength of growth in Asian energy demand combined with production cutbacks from key exporting countries suggest that Asian coal markets will return to balance over the course of 2016 and provide the basis for a price recovery commencing in 2017.
To put that into perspective we go back to 2014 when Commodity Research firm Platts named Peabody the Energy Company of the Year and its CEO the Energy CEO of the year. Here is what the CEO had to say following that award:
Coal will continue to dominate world energy markets for years to come. Platts’ looked at the strategy that we set out about 10 years ago to become a global player in the industry, the portfolio that we built which are the low-cost U.S. assets along with a major Australian platform.
He was wrong and although Peabody will emerge from bankruptcy and continue, the shareholders will not emerge unscathed.
Coal is not going completely away but the ability of publicly traded coal miners to provide shareholder returns in the face of such uncertainty is questionable at best and non-existent at worst.
The World Coal Association (WCA) claims that high efficiency, low emission (HELE) coal-fired power plants coupled with carbon capture, use, and storage (CCUS) could lead to near-zero carbon emissions from coal-fired generating stations. Perhaps, perhaps not. Whatever your personal beliefs about climate change and global warming may be, everyone can agree that humans all over the planet need to breathe. That is arguably the most compelling reason to either replace coal or reduce emissions from coal to tolerable levels. A picture is worth a thousand words.