The past several years have been very challenging for the global coal industry and Canadian coal exporters have not been immune.
Low commodity prices brought on by excessive global supply of both metallurgical and thermal coal and weaker demand from Asia, have resulted in reductions in Canada’s coal industry labour force, cut backs in production and idled mines, and it doesn’t look like the global coal markets are poised for a quick rebound either.
On the back of a strong U.S. dollar, lower diesel prices and depressed seaborne freight rates, delivered costs have fallen and 2015 appears to hold more of the same for global coal producers.
Yet the Canadian coal industry should be proud of its many positive attributes and should be optimistic for the future.
Canada has coal of world-class quality, is well positioned for shipments to Asian markets, it has available port capacity and reliable rail infrastructure, experienced producers, and an exchange rate to the U.S. dollar that has recently improved significantly, benefitting Canadian mines’ competitiveness in global markets.
These characteristics will help favourably position Canada’s export coal industry for the coming years as markets return to equilibrium.
Though metallurgical and thermal coal markets remain in oversupply, we believe that coal markets are cyclical and an eventual recovery in prices will materialize.
On the bright side for metallurgical coal, there remains considerable upside for demand in China and India as they seek to continue the industrialisation and urbanisation process.
As excess supply is reduced in the next several years, spurred by expected mine closures in jurisdictions such as the U.S. where margins have been under considerable pressure, global coal prices are expected to gradually rise.
A strong U.S. dollar has made the situation ever bleaker for U.S. coal miners and some of them will likely find survival difficult in 2015. Longer term, post 2021, new metallurgical coal projects will be required to meet demand, at the same time that some key mines deplete their reserves. We believe that the effect will be an appreciable uptick in metallurgical coal pricing.
Like metallurgical coal markets, global thermal coal markets are facing extraordinary challenges driven by weakening global economic growth, a substantial overhang in mine and export capacity, volatile currencies in key supplier countries, and tightening environmental policies around the world.
Coal remains a dominant fuel in Asia but will give ground to gas and renewables in much of the developed world. King coal still reigns in Asia, but even there, non-coal power generation capacity will overtake coal-fired capacity in 2017 and will maintain that lead through 2035. However, we believe that absolute coal demand will continue to grow to fulfill electrification potential in Asia. As a result, seaborne thermal coal demand will rise from roughly 940 Mt in 2014 to over 1,100 Mt in 2020 and prices will improve.
Investors see the long-term potential of Canadian coal
Even in these depressed markets, Canadian coal continues to draw strong investment from abroad, as entrepreneurs and established companies alike recognize that Canada is well positioned for an eventual upturn in coal pricing. After setbacks at frontier coal projects in places like Mongolia and Mozambique, Canada’s established regulatory framework, fiscal regime and reliable infrastructure are particularly attractive to investors.
The headline deal of the last several years was U.S.-based Westmoreland’s acquisition of Sherritt’s coal mining operations in April 2014, but a number of smaller deals have also been announced. These include the recent acquisition of Alberta’s Coalspur and Nova Scotia’s Donkin project (featured on Pages 12-15 of this issue) by the U.S.’s Cline Group, and the purchase of Grande Cache Coal Company by UpEnergy Development Group. Resource Capital Funds and Macquarie Bank also recently provided funding for the development of Riversdale Resources’ coal properties in the Crowsnest Pass area of Alberta.
Furthermore, we are tracking more than 25 Canadian coal projects, and though development activities have slowed because of weak market conditions, Canada remains one of the more active jurisdictions around the world for proposed coal projects. In fact, Riversdale has said that the company put its Canadian projects at the top of its development pipeline, above options in Australia and their Alaskan venture, the Chickaloon thermal coal project.
SEEING PAST THE CURRENT GLOOM IN GLOBAL MARKETS
Despite our projections that prices will undergo a tepid recovery in the near term, we retain a bullish long-term view for metallurgical coal prices. Low prices over the next few years will inhibit new capacity development, and this will ultimately lead to a tightening of the market.
Additionally, there remains considerable upside for demand in China and India as they continue to urbanise. We still foresee China dominating growth though early next decade; after 2016, seaborne import demand in China will grow rapidly from 58 Mt in 2014. Beyond that, Chinese demand begins to decline as electricity-based steel production gains market share and blast furnace efficiencies increase. However, as Chinese demand declines, Indian demand keeps global seaborne metallurgical coal demand steady.
India remains the largest source of growth in import demand in the long-term, adding just over 50 Mt of annual demand growth by 2035. We expect Indian met coal imports to overtake Japan in 2025 and reach parity with China by 2035. Whilst business and consumer confidence has increased since the new government took office earlier this year, the recent economic headwinds, plus the almost 40 per cent drop in iron ore production, will take a few years to dissipate. The steel project pipeline is large, but Indian growth will take time to accelerate; we forecast an average annual growth in hot metal production of just under 3 Mtpa for most of the next decade, but more than double that growth rate in the following decade.
Since Canadian metallurgical exports equal roughly one-fifth of Australia’s total, metallurgical coals from Canada provide Asian steel producers with a reliable alternative to Australian production. The importance of supplier diversity was underscored in 2011 when significant floods disrupted shipments from Queensland, forcing many coal buyers to seek new sourcing options. Indeed, many new relationships were established with North Asian buyers keen on the quality and security of supply of Canadian metallurgical coal. We believe that Asian buyers place tremendous value on such relationships.
Globally, seaborne thermal coal markets are swamped with overcapacity. With just modest mine production, rationalisation to date and new mines still entering production, we believe that overcapacity will actually swell in 2015 and rising demand is not expected to absorb the excess until early in the next decade. But renegotiation of the fixed cost elements of contracts and/or more substantial supply rationalisation could balance the market sooner than we are presently forecasting.
Demand has weakened recently in China, due to a plethora of coal-use policy initiatives including import restrictions and policies to address environmental concerns, as well as the slowing of economic growth.
However, in contrast to China, we have lifted our 2015 demand forecast in India on expectations of economy-wide reform that should result in an increase in seaborne imports from 143 Mt in 2014 to more than triple that amount in 2035.
In Europe, we believe that coal will maintain a sizeable competitive advantage over gas
through 2017, keeping import levels steady for the next couple of years.
Of interest to Canadian thermal coal exporters, we expect that coal-fired generation in Japan will increase over the long term as a reaction to offset high power tariffs imposed to accelerate investment in renewable technologies.
Early next decade, we expect stronger Asian demand will absorb the remaining thermal coal overcapacity, stimulate development of new coal supply and trigger price increases to reach levels required to incentivise new projects.
What to look forward to in 2015
While we believe that it’s going to be difficult to see much price appreciation in 2015 for Canada’s metallurgical and thermal coal exports, this year does promise many positive developments for Canada’s coal industry.
Nova Scotia’s Donkin project is off to a strong start on removing groundwater from the mine’s slopes and this dewatering is likely to be finished by this summer. The Cline Group looks on track to close its acquisition of Coalspur Mines Ltd shortly and could begin construction on the Hinton, Alberta coal project this year.
Likewise, we expect regulators to approve the purchase of Grande Cache Coal Company by UpEnergy Development Group and we’re encouraged by the transaction as UpEnergy brings operating experience and financial wherewithal to Grande Cache.
With the falling Canadian dollar and significantly lower diesel prices this year, the recently closed metallurgical coal surface mines in the Peace River Valley are much closer to covering their operating costs and they could potentially reopen. Even with the weakness in global coal markets, we believe that Westshore Terminals in Vancouver will reach a new record for coal shipments of 32 million tonnes in 2015, up from just over 31 million tonnes in 2014.
Finally, we expect stalwart Teck Coal to put in a solid year, likely increasing coal production slightly in the face of tough market conditions.
We’ll be watching to see if more global supply is rationalised this year, particularly from the U.S., and we’re optimistic about India’s demand for both thermal and metallurgical coal imports.
Joe Aldina is Principal Analyst, Americas and Europe, Coal Cost Research, Wood Mackenzie, New York. He is a regular speaker at the Coal Association of Canada’s Annual Meetings.