2023-09-25 08:07:46 ET
Summary
- China and India are expanding their capacity of coal-fired power stations, leading to an increase in global coal production.
- Glencore, one of the world's largest coal producers, relies heavily on coal for its revenue, with coal production accounting for more than half of its core profit in 2022.
- The potential for increased demand for coal during European winters, coupled with the proposed merger of Glencore and Teck Resources, could have a positive impact on Glencore's financials.
Preamble
Perhaps you've heard the news; we're all going to die unless we stop burning fossil fuels. Without a doubt, western leaders have got the memo, although, leaders of other countries appear not to be tuned in to western news outlets, and so, are oblivious to our impending demise.
It seems that whenever the topic of coal-fired power stations or pollution is raised, invariably we are informed that China is building capacity at the rate of 2 new units a week. Indeed, a recent report concluded that; "the country quadrupled the amount of new coal power approvals in 2022 compared to 2021". But China is not alone in expanding capacity. India is also significantly adding to their fleet of coal-fired power stations. In fact, many countries are increasing their capacity of energy derived from coal.
Reading a report by Global Energy Monitor , we can glean the following key finding: "Globally, the operating coal fleet grew by 19.5 GW, or less than 1%, in 2022. More than half (59%) of the 45.5 GW of newly commissioned capacity was in China, with 14 countries in total adding new coal power."
Even Europe, a bastion of support for reducing fossil fuel consumption and tackling climate change, has increased capacity. Take for instance Germany ; "More than a third (36.3%) of the electricity fed into the German power grids between July and September(2022) came from coal-fired power plants, compared with 31.9 percent in the third quarter of 2021." Whilst it is true that some coal fired power stations are being retired, others are being built . In fact, coal still accounts for about 20% of total electricity production in the EU.
Given the above, it would be an easy matter to surmise that the demand for coal will rise in the near term. And indeed, far from demand for coal dropping, it is forecast to increase by some commentators. On top of that, if I may quote Ned Stark, Lord of Winterfell; "winter is coming."
As the temperatures in Europe and North America drop in the coming months, demand for energy will certainly rise. And given that coal is currently a cheap option, it is highly likely that the powers that be will authorise additional purchases of the black stuff in order to keep a lid on inflationary pressures. Inevitably, as demand rises, so the price of coal will rise in tandem. Who better to take advantage of this situation than Glencore?
Glencore
In short, Glencore plc (GLCNF) is a leading global diversified natural resources company. It produces and markets more than 60 commodities, including metals, minerals, crude oil, oil products, coal, and agricultural products. Glencore has a global presence, with operations in over 35 countries. However, the primary focus of this article, is, as you may guess, the company's coal operations.
Glencore is one of the world's largest coal producers and exporters. The company operates a number of coal mines in Australia, Colombia, South Africa, and Mozambique. For instance, in Australia, the company operates a number of open-cut and underground coal mines in New South Wales and Queensland. In Colombia, the Cerrejón mine is one of the largest open-cut coal mines in the world.
Glencore is one of the world's largest coal producers and exporters. The company operates a number of coal mines in Australia, Colombia, South Africa, and Mozambique. For instance, in Australia, the company operates a number of open-cut and underground coal mines in New South Wales and Queensland. In Colombia, the Cerrejón mine is one of the largest open-cut coal mines in the world.
The company produces both thermal coal and metallurgical coal. Thermal coal is used to generate electricity, while metallurgical coal is used to make steel. Glencore's coal is sold to customers all over the world, including Asia, Europe, and North America.
Glencore does not publicly disclose the exact percentage of its revenue from coal. However, it is clear that coal is a major source of revenue for the company. According to a Bloomberg article , "Glencore's core profit rose 60% to a record $34.1 billion in 2022, of which more than half - $17.9 billion - came from coal production." Although it is less clear in the H1 report exactly how much revenue is derived from coal, it is pretty clear that it accounts for a significant portion of EBITDA, as the following quote from Gary Nagle, Glencore's Chief Financial Officer described in the last earnings conference call ; "industrial dropped from $9.5 billion to $4.7 billion, really a function of lower prices, particularly in coal, which dropped $4.4 billion." Nagle's statement reflects the fact that Glencore's industrial division, which includes coal, was the hardest hit in the first half of 2023.
The drop in coal prices may be, in part, because global coal production has been increasing, as reported by The Energy Institute . To quote; "Global coal production increased by over 7% compared to 2021, reaching a record; China, India, and Indonesia accounted for over 95% of the increase in global production."
Coal price action
From the price action for Newcastle Coal, it's an easy matter to understand the reason for bumper profits in 2022. The futures price rose from around $150 to $440, or thereabouts, in September 2022. As we sit here in September 2023, the price is again hovering just a tad above $150. It's my contention that as winter approaches, the price of coal will again rise from the ashes, so to speak, and add to Glencore's profits.
Futures price for Newcastle Cola (Screen shot of authors Trading View)
Geopolitical
Whenever consideration is given to the price of fossil fuels, serious thought needs to be given to the geopolitical circumstances of the day. Back in May 2022 , the European Union announced plans, to all that had ears to hear, that the block wanted to decouple from Russian energy sources by 2030. It would appear that Russia decided to bring this date forward by banning the sale of diesel and gas to the EU countries; "temporarily". Given that around 20% of Europe's energy is derived from burning gas, any uptick in the price of gas resulting from a reduced supply will make coal look even more attractive from a cost perspective.
Increase in winter demand for coal
The potential for increased coal demand during European winters hinges on a complex interplay of several critical factors:
Of course, the severity and duration of the winter weather will play a decisive role.
Next, the availability of alternative energy resources such as natural gas and renewable energy sources greatly influences the coal market. As mentioned earlier, there may well be a reduction in supply from Russia. In addition, if the wind doesn't blow in Germany, then there will be a heightened reliance on coal for electricity generation to meet demands.
Finally, there is also an economic aspect to the demand for coal. When coal prices are low, it becomes a more cost-effective option for electricity generation, potentially increasing its utilization.
Proposed Teck Resources merger
Glencore has proposed an " all share merger between Glencore and Teck Resources and a simultaneous demerger of the combined coal and carbon intensive businesses." Whilst the full impact of the merger is beyond the scope of this article, in my view, the newly demerged coal company would be, as the management have assured, highly cash-generative. As I see it, this is particularly plausible given the continued demand for coal.
Financials
As you may note from the graphic taken from their H1 presentation , the numbers are not pretty from a growth perspective, but Glencore remains resilient in the face of ever-changing market tides.
Graphic of Glencore H1 results
Adjusted EBITDA, the metric that measures profitability, plunged from $18.9 billion in the previous year to $9.4 billion; a pretty nasty 50% drop. This was primarily due to lower commodity prices across the board, with coal leading the charge.
Glencore's production wasn't a total disaster, however copper, zinc, coal and nickel output fell
Glencore's marketing business faced its own obstacles, with adjusted EBITDA dropping 52% due again to commodity prices.
In terms of forecast, Glencore expects 2023's adjusted EBIT to fall somewhere between $3.5 billion to $4.0 billion. While it's lower than 2022's $6.1 billion, it's still in positive territory.
On a more positive note, share distributions and buybacks were up 139%, good news for income seekers.
Risk factors
There are a host of risk factors when investing in miners; Glencore included. Obviously, there are risks associated with the volatility of commodity prices. Then there are operational concerns. Glencore operates in a number of countries with high levels of political and economic instability, as well as environmental risks. Some of these risks I have previously covered in my articles on Barrick and Newmont .
Summary
While the price of coal has fallen in recent months, there are factors that could lead to a reversal in this trend. Given Glencore's high exposure to coal production, an increase in coal prices would have a positive impact on the company's bottom line. However, investors should be aware of the risks associated with investing in Glencore, such as the volatility of commodity prices and operational risks.
For further details see:
Glencore: Coal To Power Profits