TORONTO (miningweekly.com) – Nearly 17%, or 162-million short tons, of forecast US coal output is at risk of idling or closure this year, as these mines' total cash costs and sustaining capital expenditures exceed current market pricing, advisory firm Wood Mackenzie’s latest coal market outlook has found.
The firm on Monday said the majority of the coal at risk was produced in Central Appalachia, where about 72% of the total output was unprofitable.
Years of declining productivity, thinning seams, increasing strip ratios, more stringent government regulations and a high paid workforce had taken their toll and made Central Appalachia the highest-cost region within the US.
Woodmac explained that other US regions also had substantial amounts of coal at risk, ranging from 47% of production in Southern Appalachia, to a low of 8% in both Western Bituminous and Powder River basin. In total, this equated to about 14% of US thermal coal output and 58% of metallurgical coal output being at risk.
"Based on current economics there are a significant number of mines unable to cover their operating costs plus sustaining capital. Despite this, mine closures, while not rare, certainly aren't happening frequently,” Woodmac senior research analyst Dale Hazelton explained.
“Part of the reason for this is [that] the amount of thermal coal sold on the open market is very small compared with that sold under contract. Contracts can cover multiple years and prices may have been agreed well before the current market's lows. A producer may also be able to beat the market prices as they have a valuable niche-quality coal, such as stoker coal, or the location of the mine is near an end-user providing a transportation advantage over competitors."
According to Woodmac, there were also other reasons for not idling or closing a mine. For example, a company could be actively shopping the assets and having them currently in operation would be more attractive to potential buyers.
Hazelton added that a company might need to generate certain levels of revenue or cash flow to avoid triggering debt covenants that could result in accelerated debt payments or higher interest rates.
“Some companies may also be willing to temporarily lose a certain amount of money on some mines where the losses from operating are not yet high enough to require idling or closing the operation.
"This is particularly true for some of the assets recently bought by new mining companies or private equity firms. In those cases, the companies understand that there will be some period of losses as management gets costs under control. The end-game here is to maintain operations and customer relationships until the eventual recovery," Hazelton advised.
However, Woodmac emphasised that for prices to rise, fundamentally one of two things must happen – either the global demand for steel and power must increase or the supply of coal must decrease.
Hazelton pointed out that the growth prospects for steel demand remained tenuous at best, as many countries’ economies remained fragile. The recent strength of the US dollar also encouraged non-US producers to grow their output as a strengthening US dollar compared with their local currency effectively lowered their costs of production, when denominated in US dollars.
Further, natural gas prices in the US remained at very low levels, resulting in higher levels of coal-to-gas switching in power generation. Woodmac’s outlook noted that additional cost-cutting measures were starting to reach limits as producers globally had already cut costs significantly, serving to suppress coal prices further.
Therefore, the only practical way for the market to get back into balance was for producers to cut production. "This needs to happen sooner rather than later, either voluntarily or involuntarily through bankruptcy, as the losses these mines are generating cannot be sustained," Hazelton said.
Persistently weak demand for metallurgical coal would lead to lower earnings over the next 12 to 18 months and, along with near-term challenges in the thermal coal sector, would exacerbate the industry’s long-term, secular decline, which prompted Moody’s Investors Service to last week change the outlook for the North American coal industry to ‘negative’ from ‘stable’.