Good write up on Yancoal in the AFR after their monster result... Looks to be a good outline of the industry as a whole; unwanted assets bought cheaply now making huge returns, while supply is constrained and demand stable.
Yancoal chiefexecutive Reinhold Schmidt might be an old Glencore man but there is no way heis going to don an Ivan Glasenberg-style cap any time soon.As it turns out,Schmidt is the living paradox of coal mining in Australia. Late on MondayYancoal, the nation's biggest pure-play coal miner, presented a staggering setof 2018 numbers that fully announced the success of its complicated butultimately successful play for the rich coal legacy that Rio Tinto no longerwanted.
Rio got out of coalbecause a growing cohort of the diversified miner's institutional ownership wasexpressing investment-shaping concern about the present and future risks ofcoal mining.Yancoal is acompany that is 95 per cent controlled by 12 shareholders, the biggest of thembeing mainland Chinese state-owned entities. Schmidt's owners were more thanhappy to harvest assets that the Rio board and executive felt were too toxic tosustain.
In 2017 Yancoalpaid $US2.7 billion ($3.8 billion) for Rio's thermal coal business, Coal &Allied. It covered the cost of that deal pretty much exclusively throughraising new equity. It then sold a half share of the best bit of that businessto Glencore for $US1.2 billion and that cash was spent on cleaning up some ofthe minorities in Coal & Allied.Yancoal's 2018numbers, along with current coal pricing trends, would suggest the business ison track for payback thisyear. And for goodmeasure, current pricing would suggest that Yancoal's nearest-term expansionproject, the Moolarben mine, could boast a similarly curt payback period. Just two years ago,as coal began to emerge from its long price crash, a much smaller and moreindebted Yancoal lost $227 million.
In 2018, the first full year of itsownership of the ex-Rio business, Yancoal made a post tax profit of $852million on earnings before interest, tax, depreciation and amortisation thatsurged more than twofold to $2.2 billion.The business paiddown a further $1.5 million in debt through the year, reducing gearing from 47per cent to 36 per cent. And last year's token debut dividend has multipliedinto a $507 million payout, which arrives in the form of standard and specialdividends and represents a payout ratio of 60 per cent of post-tax profit. So Yancoal is goinggangbusters. But success has not bred unfettered success.
The illiquidity ofits register and the growing investor funk about coal has left Yancoal's shareprice trailing its performance by a country kilometre.And, for goodmeasure, Yancoal's most muscular partner in Australian production, Glasenberg'sGlencore, last week confirmed a cap on its future coal production.Meanwhile the likesof Mark Butler, the otherwise pretty sensible federal opposition spokesman forenvironment and resources, has somehow latched on to the idea that there is noneed to open new coal basins.
Like so much elsein the culture and climate wars, there is good and bad in this for Schmidt.There is noquestion that Queensland's Galilee Basin production would temporarily, at best,cannibalise Australia's existing export markets. So, at a commercial level,anti-coal's use of environmental warfare to filibuster Adani's Carmichaelproject sort of works for coal incumbents because it generates scarcity andsupports pricing, particularly at the quality end of the market. But kismet can be abitch.Schmidt iscommitted to squeezing more tonnes from his recently expanded mining fleet andalso to making opportunistic acquisitions of either thermal or metallurgicalcoal mines.In the short tomedium term, Yancoal's expansion plans focus on two big mines in the home ofNSW thermal coal, the Hunter Valley. For all that Yancoal wants to build on anexisting mining footing those expansions will require new state planningapprovals. And earlier this month the state's Land & Environment Courtrejected a proposed new mine near the mining centre of Gloucester because itwas too close to the town and because any and all new coal mines will add tothe global climate challenge.
So, let's dealfirst with Judge Brian Preston's Rocky Hill rejection. Like Whitehaven's PaulFlynn, Schmidt assesses that the decision is such a risk for so much of thestate's economy that it cannot be allowed to stand as precedent."One thing isthat it is not just about mining," Schmidt assessed. "If it is takento its full extent, you can look at airports, high-rise developments, any otherindustrial development, even agriculture. So I think we need to see what isgong to occur. Ultimately it could have a much, much broader impact on theeconomy of NSW than just coal mining. That is our view."And what ofSchmidt's growth story, what's the plan there?Well, Yancoal hastwo organic options it wants to pursue and it will remain opportunistic withina framework of financial discipline when it comes to acquisitions.
The first of thegrowth projects, as mentioned above, is Moolarben. Now, I have to admit, thisis a project that has rather crept up on me. It is a very big coal hub andSchmidt wants it to be bigger yet.Last year itproduced 16.5 million tonnes of coal from open cut and underground operations.The plan is to increase run of mine production from 18mtpa to 25mtpa throughsynchronised rounds of asset optimisation.Schmidt accepts theobservation that Moorlarben is a touchstone of his management's capacity. Theoriginal Moolarben expansion was approved "in the middle of the lastdownturn" on the basis that it would become one of the lowest cost minesin Australia. Schmidt is certain Yancoal has delivered on that promise."This lastyear the results from that mine have been phenomenal and probably this year, ifwe do what we are planning to do, it could be the largest open cut in NSW. Atthis stage it is just below [BHP's] Mount Arthur North. We are very close tobeing a bigger mine than them," he said.The other near-termproject is going underground at the currently approvals-constrained MountThorley-Warkworth (MTW) open cut complex. Rio's failed attempt to securecommunity and government endorsement for the expansion of the footprint of theMTW complex has forced a rethink. The Yancoal plan is to target deeper seamsunder the open cut with a longwall operation that would produce 6mtpa for up to40 years.
Ask Schmidt whatthe grand plan is and he offers only one word: "Discipline!""I recall twoor three years ago when we spoke about growth and where we were going togo," Schmidt said. "Ultimately you need to always squeeze your ownassets. If there is internal organic growth opportunity, for example atMoorlarben, at MTW, you squeeze those. And any external growth opportunity isabout buying at the right time of the commodity cycle and ultimately makingsure that whatever transaction that you do is immediately value accretive. Weare not going to be buying for the sake of buying."But we willlook at coal assets to continue to grow a robust business. There is no ultimatemaximum target. Five years ago when I joined the organisation I didn't knowthat we would end up having doing the Coal & Allied transaction, which hastransformed the business. So there is noGlasenberg cap on Yancoal's future. But, neither is there a target productionnumber out there. Schmidt's aim is to run mines efficiently and commercially,to grow opportunistically with discipline and to continue to invite shareholdersupport by harvesting cash and returning it to his owners.
Schmidt's firm viewis that Yancoal is an undervalued stock. But that is the price of theilliquidity that comes from being almost wholly owned by 12 shareholders. Theonly way to change that is to make Yancoal a business of scale that boastsworld-class operations and supports serious and predictable capital management."Consistencyof behaviour will build shareholder confidence and trust," Schmidtfinished. "And I know we are pursuing an ambitious growth strategy, mainlybrownfields, but this is literally paying dividends. And today's resultsrewrite the whole Yancoal narrative."
TER Price at posting:
61.5¢ Sentiment: Buy Disclosure: Held
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