METALLURGICAL COAL
Is History Repeating Itself?
August 2017
With the premium HCC price forecast to increase 68% in 2017, there are signs operators are prioritising production volumes over cost control. When prices rose during 2009–2011, the largest coal producers employed a similar strategy, resulting in exaggerated cash margin reductions of up to 90% when prices dropped in 2012. With significant 1H 2017 cost increases being reported, will this latest price rise be a case of lessons learned or history repeating itself?

A Story of Excess 

  • From 2009–2011, metallurgical coal prices soared primarily on the back of an explosion in Chinese demand, aided by the 2011 weather-related supply disruptions in Australia. The average annual price for premium hard coking coal increased 124% over this period, resulting in some metallurgical coal producers loosening cost control in order to increase production.

 

 

  • This spending increase is clear when analysing the sustaining capital expenditure (capex) at metallurgical coal-producing operations in recent years for five of the largest exporters of coking coal globally.
  • Of these producers, BHP experienced the most significant increases in sustaining capex, more than doubling from US$25/t in 2010 to US$56/t in 2012. Anglo American’s sustaining capex increased 107% to US$28/t over the same period, with Glencore and Peabody rising markedly to US$27/t and US$21/t, respectively. Canadian miner Teck Resources was the only producer to carefully control costs over this period, decreasing sustaining capex from US$11/t to US$10/t.
  • As prices continued declining post-2012, metallurgical coal producers implemented extensive cost cutting initiatives in order to maintain profits. BHP was able to reduce sustaining capex to US$9/t by 2015, with Glencore and Peabody achieving US$6/t and US$1/t, respectively. Anglo American was the only producer unable to notably reduce sustaining capex, with levels remaining at US$19/t in 2015.
  • With the price recovery seen towards the backend of 2016, growth in sustaining capex was reported at three of the five companies, with Anglo American, Teck and Peabody reporting increases of US$4/t, US$3/t and US$1/t, respectively.

 

What Goes Up, Must Come Down

  • The advantage for the companies that carefully controlled costs over this period is clearly displayed by analysing cash margins.

 

 

  • Teck Resources possessed the highest cash margin of all producers of export metallurgical coal globally in 2011 at US$111/t, a mantle the company held onto in 2012 despite falling prices, and primarily due to Teck’s careful cost control. With prices recovering somewhat in 2016, Teck was well-positioned to take maximum advantage, increasing cash margins from US$16/t to US$39/t.
  • At the other end of the scale, BHP’s high expenditure in the boom years left it vulnerable when prices fell, dropping from a positive cash margin of US$97/t in 2011 to US$13/t in 2012. With an extensive cost cutting regime, BHP was able to recover to a positive cash margin of US$20/t by 2015, before rising prices contributed to a US$36/t margin in 2016.


Maintaining Control

  • AME forecasts the price for premium hard coking coal to average US$198/t FOB Australia in 2017, an increase of 68% year on year. With this substantial rise, it is intriguing to speculate whether metallurgical coal producers will undertake an alternate approach compared to what happened in 2009–2011.
  • At the time of writing, only Anglo American and Teck Resources have reported financial data for the first half of 2017. Anglo’s average FOB costs across its metallurgical coal-producing mines equated to US$83/t for the first six months of 2017, increasing a significant 43% from 2016. Teck’s costs have also risen, albeit to a lesser extent, with an average FOB cost of US$77/t for the first half of 2017, up 13%.
  • Based on guidance provided in the March Quarter of 2017, AME forecasts Anglo to be the lowest-cost hard coking coal producer of the five companies in 2017 with an FOB cost of US$75/t.