METALLURGICAL COAL
Trading Record Production Rates for Lower Costs
November 2015
In the boom years of high metallurgical coal prices, the prevailing producer mantra was to ‘produce at any cost’. As coal prices fell from 2012, this motto evolved into ‘produce as much as we can to offset fixed costs’. As prices remain weak in 2015, perhaps the new motto of this downturn will be ‘produce only the lowest-cost coal’. Prioritising higher yields and lower strip ratios over record production will help to lower costs while bringing the market back to equilibrium.

We have already seen this attitude begin to take hold in the Chinese steel industry. As steel prices fell, output of blast furnaces increased to amortise fixed costs. This worked for a time, but eventually prices fell so low that another solution was needed. Recently, blast furnaces in China have been altering their fuel mix, using more SSCC over PCI and premium HCC so as to produce steel at a lower cost and lower production rate.

As has been seen over the past few years, global metallurgical producers have been increasing production to amortise fixed costs as coal prices fall. After three years of declining prices, producers are approaching the lowest costs achievable utilising this practice. With the need for costs to continue falling as prices further recede in the second half of 2015, innovative companies must find new ways to reduce costs. Transferring the attitude of China’s steel industry to the metallurgical coal industry, the same outcomes can be achieved by focusing on improving the yield as well as decreasing the strip ratio for open-cut mines. Every major metallurgical coal-producing country has significant room to move on at least one of these criteria.

In Australia, Mongolia, Mozambique and Russia, average processing costs are approximately one-tenth the mining cost. As such, any rise in processing costs as a result of increasing the yield is more than offset by a fall in the unit mining costs that will be achieved. As was reported in our previous feature article on foreign exchange (FX) gains for metallurgical coal producers, processing costs are denominated in the local currency and so are exposed to FX gains for most producer countries aside from the United States and Indonesia (as metallurgical coal in Indonesia is not processed). This is because the bulk costs at most coal handling and processing plants (CHPPs) are electricity (most likely from a grid or an on-site power station) and manpower. As such, improving the yield and strip ratio can potentially have a triple benefit to the producer—a lower unit mining cost, a proportionally smaller rise in processing costs and a net FX gain on any increased processing cost.


Global Metallurgical Mining Parameters by Country in 2015

Of the major global metallurgical producers, Mozambique has the lowest weighted average yield, at just below 55%. With Vale’s 22Mtpa Moatize mine expected to dramatically ramp up production in the next year, some production may be forfeited to improve the mine’s yield which is currently forecast to be approximately 59%. Indonesia has the highest strip ratio of the major producers, as lower mining costs in the country enable mines to extract coal from multiple thin seams. BHP has recently opened its first metallurgical mine in Indonesia, the 1Mtpa Haju pit of its IndoMet joint venture with PT Adaro. The mine extracts coal from the Lampunut deposit of the Upper Kutai basin, which consists of multiple seams ranging in thickness from 0.5–2.5m. Future expansion of metallurgical mining in this region is probable and, if prices remain low, profitable mine plans may be produced that extract only the shallower seams, reducing the strip ratio, until prices recover.

Global Average Metallurgical Coal Yield and Strip Ratio, 2006–2014  Queensland Average Metallurgical Coal Yield and Strip Ratios, 2006–2014

The yields and strip ratios of Queensland mines, which account for around half of the global seaborne coking coal supply, have trended with coking coal prices over the past decade. When coal prices were high in 2012, the average yield fell below 74% and the average strip ratio exceeded 9:1. 2014 data shows that this trend has reversed, with the average strip ratio falling to 8.6:1. AME expects this trend to continue over the short term as prices remain low, which will likely move producers away from record production numbers. Queensland take-or-pay contracts have hindered companies from cutting production over the past few years due to the long-term, fixed-volume nature of these agreements. However, as the downturn continues, some of these contracts have already been renegotiated, with others currently being reviewed. It is expected that some of these new ‘performance contracts’ allow for flexible mine production without penalty, often by extending the length of the contract until the volume has been transported.

Global and Queensland Average Yield and Strip Ratio

Globally, strip ratios have trended upwards since 2006, reaching 5.3:1 in 2012, before falling slightly to 5.2:1 in 2014. While it is difficult to quantify how much of a fall in the global average strip ratio is attributable to altered mine plans, AME expects this factor to become more predominant as many higher-cost/higher-strip ratio mines have been idled or closed over the past three years, requiring further improvements to come from mine plan changes. The global average yield closely follows the Queensland average as Queensland currently accounts for more than half of the world’s seaborne production. The global average has steadily improved since 2006 as higher-yield production from emerging producers in Mongolia and Indonesia is added to the market.

AME expects to see a change in direction from major producers globally towards lower strip ratio, higher yielding coal at the expense of record production. Mine plans are not set in stone and AME expects to see more plans altered as companies seek to maintain market share whilst lowering their position on the cost curve.