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As major Australian coal producers cut costs and reduce production, GVK and India’s Adani Enterprises are moving forward with a “$21 billion bet” on the country’s Galilee Basin.
Trouble is brewing in Australia’s coal sector.
Midway through May, The Wall Street Journal reported that mining giant Glencore Xstrata (LSE:GLEN) would immediately be shelving its plans for a new coal export terminal in Queensland due to concerns about the medium-term outlook for Australia’s coal industry, poor market conditions and excess port capacity in the area.
The next week, the publication revealed more news regarding Glencore Xstrata. This time, the company, along with Yancoal Australia (ASX:YAL), was said to be auctioning off port assets worth “tens of millions of dollars” that were hot assets only a year and a half ago. Specifically, Glencore Xstrata voiced the expectation that 5 million metric tons (MT) of its annual port capacity of 10.9 million MT “may not be required in the near term.”
Only a week later, thermal coal miner New Hope Coal decided to cut production at its Jeebropilly mine, reducing its operating schedule from six days a week to five days a week. Like the other miners, it cited “difficult market conditions” as the impetus for its decision, The Australian reported.
Most recently, Yancoal has warned that “difficult” conditions in the global coal market will continue, stating at its annual meeting that lackluster demand and low coal export prices are forcing it — and all other coal miners — to cut costs, according to The Sydney Morning Herald.
Together, these events suggest that Australia’s coal sector will be stuck in a downward spiral for the foreseeable future — but is that really the case?
Oversupply and lack of demand are key issues
While RenewEconomy’s Giles Parkinson notes in a recent article that Dr. Nikki Williams, CEO of the Australian Coal Association, believes that “environmental extremists” are to blame for the nation’s coal problems, in truth the issue is more complex; in order to understand the trouble that is plaguing Australian coal miners, it is important to consider the supply and demand issues surrounding the sector.
In terms of demand, in the past China has been one of the main consumers of Australian coal. However, as Coal Investing News reported last month, China has introduced a “control coal” policy aimed at reducing pollution by curbing its coal consumption. Its goal is to limit its annual coal use to 4 billion MT by 2015 or 2016.
Parkinson’s article highlights that point, noting that China’s “major ports are currently overstocked with [coal] imports that are not required because of a fall in demand, which in turn has caused the closure of half of its mines in some regions.” The country simply does not need Australia’s product as much as it did in the past.
The issue of demand is highlighted by statements made by Yancoal at its annual meeting. While according to Platts, the company’s CEO, Peter Barton, told investors that “forecast production growth from Australia” means that “prices are expected to remain under pressure,” he also noted that the company plans to increase its output by 70 percent, to 24 million MT per year, by 2017.
His statement shows that though some companies are lowering their output, others are not, meaning that Australia is failing to adequately curb its coal output even as the fuel has nowhere to go.
GVK and Adani push forward
Despite these circumstances, GVK Group and Adani Enterprises (BSE:512599), India’s largest importer of coal for power stations, are forging ahead with a “$21 billion bet” on Queensland’s Galilee Basin, which covers over 247,000 square kilometers and is estimated to contain 14 billion MT of coal, Bloomberg reported. As GVK moves forward with both its Carmichael and Alpha mines, the latter of which is expected to begin exports by 2017, Adani is set to begin construction this year on its Carmichael mine, whose first output is slated for 2016.
Debasish Mishra, a partner and head of energy practice at Deloitte Touche Tohmatsu India in Mumbai, told Bloomberg that “GVK and Adani have reached a point of no return” and it is thus “very difficult for them to exit,” suggesting that perhaps they are moving forward with their projects simply because they have no choice.
However, the two companies remain optimistic: undeterred by China’s new coal policy, GVK believes the Alpha mine will begin producing in time to meet “Asian demand that’s forecast to increase 24 percent by 2018.” Adani intends to export the coal from the Carmichael mine to India.
Shedding light on GVK’s positivity, Paul Mulder, managing director of infrastructure and coal at Hancock Coal, which is owned by GVK and Hancock Prospecting, said he believes that coal developers are “taking a short-term view of a mature industry with bright long-term prospects,” according to Bloomberg.
“If you look at what China’s done in the last two years, going from 2010 to 2012, they’ve become a net importer of coal of some 250 million tons per year. Korea is lifting and Japan is starting to expand its baseload also. There’s going to be cyclical up and downs,” he concluded in conversation with the publication.
Only time will tell if the companies’ optimism is merited.
Securities Disclosure: I, Charlotte McLeod, hold no direct investment interest in any company mentioned in this article.
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