Investing in Coal
Jan 2024 - Alex Alejandre

Fundamentally: Where are we in the cycle? Did the commodity supercycle start 2 years ago with 5-7 years to go? Or might things stay the same? Until November, these assets were priced as if a recession were around the corner, now they’re priced as if prices will drop a bit.

Key Factors

On the short term, a mine in China just had an accident, dropping production. India and China are both subsidizing infrastructure and steel, requiring more coal. N.b. For US producers like AMR, foreign prices are much higher than domestic. Medium term, Biden’s recent moves to stop new nat gas projects are a betrayal to the EU, whose gas needs the US promised to cover in sanctions negotiations. This adds a lot of uncertainty to new projects around the world, with higher anticipated gas prices. If gas is higher, all coal is more economical. Bad for the world and environment, good for our wallets if we play it right.

AMR is the most capital disciplined, HCC is half a story of hope (that the cycle continues through 2026 when the new mine starts), but GLNCY (Glencore) is the real opportunity.

AMR

AMR’s RoE is over 50% and their FCF yield is 13%, where ARCH’s is 8%, HCC is about 5%. They use this for a 20% buyback yield. Even with declining coal prices (still high) their profitability is still amazing.

Somehow, they are still cheaper than the others, even with amazing management. This is perhaps because of its prodigious growth so far, which also prevents me from fully investing into it (even though its numbers seem much better than anything else I have now.) The risk is India slowing down. China’s subsidizing their steel industry right now, causing further coal demand, increasing the price for India, whither much of AMR’s product goes. If nothing changes, $800/share makes sense by 2025. While the math makes sense, psychology’s weird. If it’s gone up so fast, couldn’t it drop too? Why hold that risk for only 100% gain, after thousands of % gain? etc. etc. That’s just looking at base numbers. It’s also been included in the SPX600 which sits at 11.5. Why shouldn’t AMR see multiple expansion by 2-4x to be where the rest of the industry is?

AMR mostly sells abroad. ~80% of revenue from ~70% of product: N.b. These quotes are from different years.

81% is from foreign sales and 19% is from the USA. Specifically, in 2022 they sold their coal in 26 countries, with a strong predominance in Asia (53% of revenue, with India accounting for 33% of the total). All of their sales are in USD$, which eliminates currency risk. They own 65% of Dominion Terminal Associates, a coal export terminal in Virginia,

2021, Alpha Metallurgical Resources exported 13.9 million tons of coking coal. This is approximately 69% of the total volume of deliveries.

GLNCY

Glencore bought out the #1 and #9 producers' coal capacity (merging it will take the rest of the year though) while already being a larger producer. (They are also a big player in copper, zinc, cobalt, lead, nickel etc.), preparing to supply the energy transition. (They also make billions in trading (“marketing”).) Tesla wanted to buy 20%, which they rejected to increase coal exposure.

Here’s Glencore’s 288 page 2022 annual report covering more than I can, so I’ll just point out a few key things: Most of my words concern other sources.

  • 22% EBITDA from “marketing” at 8% capex
  • 45% capex into copper, only 21% into coal
  • 42% EBITDA from coal, 24% from copper

Reading between the lines, it seems they expected coal to be a shorter term play and underinvested in future capacity. But now they’re increasing longterm capacity through huge acquisitions.

Publicly, they want to decarbonize. The 2022 report, corporate announcements etc. stress this loudly. After the fact, they began large coal acquisitions, publicly intending to spin them off as a US listed coal company within 2 years. Whether they will actually spin coal out or keep the 40% boost to revenue, is a prickly question.Many believe these statements are intended to quiet ESG concerns. However it could be motivated financially, as conglomerates tend towards lower P/E ratios and more specific tickers let investors concentrate. On the other hand, commodity tend towards lower multiples (until the end of the cycle when they expand and you should get out.)

GLNCY is a complex conglomerate with 65 facilities producing and processing 60+ resources in 35 countries around the world. They are not US listed and few derivatives exist, keeping many institutional investors away due to inability to hedge. Nevertheless, they do not experience exchange risk:

The vast majority of transactions undertaken by the Group’s industrial and marketing activities are denominated in U.S. dollars. However, the Group is exposed to fluctuations in currency exchange rates through its industrial activities, because a large proportion of the operating costs of these assets are denominated in the currency of the country in which each asset is located, including the Australian dollar, the Canadian dollar, the Euro, the Kazakhstani Tenge, the Chilean Peso, the South African Rand, the Argentine Peso,the Colombian Peso and the Peruvian Sol. The Group is also exposed to fluctuations in currency exchange rates through its global office network which are denominated largely in the currency of the country in which each office is located, the largest of such currency exposures being to the Swiss Franc, the pound sterling and the Euro. The Groupis also exposed to fluctuations in currency exchange rates through its marketing activities, although only a small minority of purchase or sale transactions are denominated in currencies other than U.S. dollars.

In respect of commodity purchase and sale transactions denominated in currencies other than U.S. dollars, the Group’s policy is to hedge the specific future commitment through a forward exchange contract.


Disclosure: I hold 5% AMR, 20% GLNCY. I was heavily invested in MTL before the war, which led to delisting.