may yet retain its independence

September 15, 2009

Caledon Resources Awaits A Formal Bid, But May Yet Retain Its Independence As Coal Markets Improve.

By Charles Wyatt / www.minesite.com

At the beginning of August, Aim and ASX listed Caledon Resources noted in an official announcement the speculation in the Indian press that the Indian conglomerate the Essar Group was on the point of making a bid for the company. This was not the first that had been heard of such a possibility, as in the June quarterly that had been released a couple of weeks earlier Mark Trevan, the managing director, revealed that RBC Capital Markets had been engaged to find out if anybody was interested in acquiring the company or its assets.

Essar is certainly a company that could take such an acquisition in its stride, as its operations are spread across 15 countries and its balanced portfolio covers steel, energy, power, construction, shipping ports and logistics, and communications. It is a private company, founded by two brothers back in 1969, and it has big ambitions, as it sees itself as a powerhouse behind the rise of modern India.

Investors seemed to like the idea of Caledon being taken over, as the shares rose from just over 50p to nearly 70p on the announcement. However, they’ve since settled back to 60p as boredom subsequently set in over lack of news. And, speaking from Caledon’s Brisbane office, Mark Trevan remains deliberately reticent. “There is not a lot we can say until a bid materialises. Only then will we be able to say if we like what we see”, he says. He agrees that the outlook for coking coal in the last six months has improved somewhat more than might have been expected, so Essar, if it does come up with a bid, is not going to find him rolling over on his back.

After all, there’s not much Mark doesn’t know about coal. Before he joined Caledon in September 2006 he spent 25 years in working for Rio Tinto’s coal operations, both on the mining and on the sales side. In 1997 he became general manager, marketing, for the Queensland coal subsidiary, and subsequently became responsible for the marketing of Rio Tinto’s Coal and Allied subsidiary, and its Indonesian Kaltim Prima operations.

Actually, Mark is in a strange position at the moment, but he passes it off with good humour. At the beginning of this year he had to cut back on capacity at the Cook mine and reduce the workforce in order to preserve cash. Now he is planning to put his foot on the accelerator again before the end of the year, but cannot relay anything of importance to shareholders as long as potential bidders are still carrying out its due diligence. One can almost feel the presence of a man from RBC at his elbow monitoring our conversation. Even the question as to whether Essar is the only potential bidder has to be blocked at the crease, so for further insight, delving into the latest interim results, for the period to the end of June, seems a worthwhile exercise.

First, however, a potted history of the company. Caledon listed via a reverse back in 2003 under Stephen Dattels, and its plan then was to act as a consolidator of projects in China. A couple of years later, after George Salamis had taken the helm, it changed tack under pressure from potential Chinese partners attracted by the fact that it had money and an Aim listing.

The new plan was to seek to acquire companies outside China. The targets were small companies with big projects, preferably in base metals. In June 2006, however, George came up with the acquisition from Xstrata of the mothballed Cook coal mine in Queensland, and life started anew for Caledon as a producer of high margin coking coal. Cash flow was expected within six months, and George had plans to increase production to 1.5 million tonnes per year within two years. Back then, Cook, which lies in the prolific Bowen Basin and boasts such illustrious neighbours as Rio Tinto, Anglo American and BHP Billiton, had measured and indicated JORC resources of 126 million tonnes. So, mine life was not a problem.

The reserves were derived from two seams accessible via existing and active underground workings. Preliminary due diligence conducted by Caledon, using SRK Engineering as an external consultant, confirmed that at least 40 million tonnes of premium coking coal could be mined, equivalent to 20 years of mine life at an ultimate mining target rate of two million tonnes per year. This took no account of the possibility of increasing the resources by exploration. Cook also came with an off-take and marketing agreement from Xstrata which would last for an initial two years with an option to renew these arrangements on a best efforts basis thereafter. Everything looked rosy, and that same year Caledon also acquired the nearby Minyango exploration concessions with a view to building its future on coal.

Then came 2008 and everything changed. The price of coking coal fell heavily, and Mark Trevan had to react quickly. He did so, bringing the company through relatively unscathed, and with A$28.8 million still in the bank come the end of June 2009. Now, the outlook is much more encouraging, as demand from China and India has replaced demand lost from more traditional Asian and European markets. Mark is still playing a cautious hand, as he is trying to increase production without going back to previous levels of labour and equipment usage, in order to maintain lowest possible costs. He is also moving to a more balanced mix of primary development, and lower-cost extraction from developed resources. The fruit of all this should be seen during the last quarter of this year. Further growth is expected next year.

In these circumstances Essar, or whoever the bidder is, if there is one, will have to think about paying a whole lot more than when RBC started the bidding process. This is a company whose resolve has been strengthened during the difficult times, and it has the management to get it back on track quite quickly. In addition the Minyango concept study proved positive, so Caledon is now moving it on to the next phase of evaluation.

Caledon shareholders know they are onto a good thing, and will not sell out easily. But on the other side of the equation, Essar is under pressure, as the Indian Government, as part of its Electricity India power programme, has informed any company seeking to build a coal fired power station that it should have a controlling interest in a mine so that supply is assured. Only then will a grant become available. Something will have to happen soon as the company cannot be left in limbo for much longer, but there is still a good chance that Caledon will retain its independence.