Description

Whitehaven Coal                                                                          

Share Price : A$8.84 (US$6.10)

Market Cap : A$7.97bn (US$5505m)

Enterprise Value : A$6.44bn (US$4170m)

EV/Ebitda (forward to June 2023) : 1.1

P/E (forward to June 2023) 2.2

Summary

Whitehaven is the world’s premier pure play listed miner of high-quality thermal coal. The company is trading at a remarkable forward EV/EBITDA to June of just 2.4 times and forward P/E of 2.2. This is noteworthy, as roughly 6 months of pricing is already known if one takes the lagged pricing formula into account. Using the forward curve for Newcastle Coal, we derive an NPV10 to 2028 of A$15.05bn (US$10384m), or roughly double the current EV. This makes Whitehaven an attractive target for private equity bidders.

With the Ukrainian war persisting, we see Newcastle coal continuing to shadow EU and UK gas prices. On a pure energy content basis, Newcastle should arguably trade at a price of say 80% of its energy content (UK NBP x 240). Using today’s spot prices of £1.62 per therm, that would equate to $378 per tonne compared to today’s actual Newcastle price of $385.

Introduction

Whitehaven controls 4 coal mines in New South Wales, 170km north of Sydney (See map below).  Maules Creek is 70% owned, Narrabri 77.5% owned and all the other mines and projects are wholly owned.

Source : Company filings

The mines produced 14.2mt of equity saleable production in the year to June 2022, earning A$3.06bn in Ebitda and A$1.95bn in Profits after tax. (See graph below).

Maules Creek Opencast (WHC 75%, J Power 10%, Itochu 15%)

Maules Creek is Whitehaven’s flagship mine, producing 9.4mt in the year to June. The remaining Life of Mine extends beyond 2050, but the mining license will require renewal in 2034. The mine was opened in 2015 and achieved 11.2mtpa of RoM in F2022. This fell short of the approved production level of 13mtpa, due to the wet in-pit conditions caused by the second successive year of La Nina rains. Whitehaven has applied for an increase in the mining license to 16mtpa, which is likely to be approved in the next 18 months.

The coal in this part of the Gunnedah Basin is of a very high quality that lends itself to being washed to take optimal advantage of market pricing for thermal versus coking coal. The current sustained premium for thermal coal over coking coal is an unusual event that was last seen during the Oil Crisis of the 1970’s.  At the moment the mine produces almost exclusively low ash thermal coal, with a small proportion of metallurgical coal sold to Japanese steel mill customers of long standing. In-pit dumping commenced in 2020, which improved mining flexibility and was followed by converting part of the haulage fleet to autonomous trucks.

Maules Creek had a difficult start to the first half of the new financial year, due to the severe rains and flooding in the Gunnedah Basin. This has necessitated flying personnel in and out of the mine and contracting trucks to move extra coal out of the pits during dry spells. Despite these headwinds, management initially maintained RoM tonnage guidance, but in November announced a reduction in guidance to 10.3mt – 11.0mt and an increase in unit cost guidance of 6%.

.(Source : Company filings)

Our analysis of the reported wash yields for the quarter to September, suggests that management kept back a material quantity of raw coal from the 2022 financial year to serve as a buffer for exactly such an eventuality. Time will tell how big this buffer is, but applying the difference between cost and net realisable value means that every ton of carryover represents ~A$400 of operating profit. This is a common feature on all the group’s mines, with the exception of Narrabri.

Narrabri Underground (WHC 77.5%, J Power 7.5%, Kores 2.5%, Daewoo 5.0%, Guangdong Y 7.5%)

Narrabri Underground is experiencing a bit of a renaissance, while its open cast neighbours in NSW are drenched. The mine extended its strong June quarterly performance of F2022 into the September quarter of the current financial year. According to the CEO, Paul Flynn, the mine also made an excellent start to the December quarter.

After the challenges of F2021 and early F2022, marked by longwall problems and the failure of hydraulic props, Narrabri regained its footing in 2022 and completed a swift step-around of a geological discontinuity in July. The longwall is planned to switch back to the shallower part of the ore body in F2024, where the production will increase and costs decline. We therefore expect Narrabri to even exceed today’s increased RoM guidance of 5.6 – 6.0mt for F23 (F22 : 4.8mt), and to recapture its historic run rate of ~7mt in F2024. There are also small cut and flit panels in the shallow part of the mine that should make a useful contribution, subject to sourcing adequate manpower.

Source : Company filings

Narrabri has an Ore Reserve life to 2031 based on its current mining license. The company is far advanced in its license application to mine the contiguous Narrabri 3 block south of the main road. The southern block will extend the mine life to 2044, but unfortunately Narrabri 3 is included in the list of 18 energy projects being reviewed by the Labour Government.

Gunnedah Opencast Division (WHC : 100%)

The Gunnedah division consists of the Tarrawonga mine, with an expected mine life of 9-10 years, and the Werris Creek mine that is due to shut down in 2 years’ time. This business unit used to include the now defunct Rocglen and Sunnyside mines, that closed in 2019.

Source : Company filings

The guidance for F2023 is for RoM production to decline from 4.0mt in F2022 to 3.1mt – 3.4mt this year. As with Maules Creek, these 2 opencast mines also had a wet start to the new book year. Compared to Maules, they had even more raw coal sourced from hidden stockpiles, judging from the theoretical wash yield of 144% for the quarter.  Due to the flooding at Gunnedah town in October, production is likely to be weighted towards the second half. This is reminiscent of F2022, when they also suffered from heavy La Nina rains.

Vickery Project (WHC : 100%) : a big boost to equity coal sales

The wholly owned Vickery project (“Vickery Extension Project”) is a major asset for the group, as it will produce 8 – 10mtpa of very high quality coal once it reaches steady state production. The mine has an Ore Reserve life of over 20 years and was originally planned to enter production in mid-2021, but planning permissions and legal challenges from environmental groups delayed the project by more than 2 years.

Map showing the Vickery Project in red outline

The accompanying map shows Vickery just 15km south of Whitehaven’s Tarrawonga mine. It also shows Whitehaven’s defunct Rocglen mine to the east and Idemitsu’s Boggabri mine nestled between Maules Creek to the northwest and Tarrawonga to the south. (See discussion on Idemitsu below)

Vickery will now commence production in late 2023. Whitehaven previously adopted a JV model to reduce the capital requirements of building their new mines, but this time they’re going to retain full ownership and rather develop Vickery in a gradual fashion. The mine will start off at 1mtpa and rail the raw coal to the group’s existing Gunnedah wash plant, utilizing the spare capacity left by the closure of Rocglen. This arrangement will shorten the timeline to production, reduce initial capex and lower Gunnedah’s washing cost per ton. 

Winchester South (WHC : 100%)

The Winchester South project hosts 215mt of Marketable Ore Reserves that can be mined by open pit, of which 60% is semi-hard coking coal and the balance export thermal coal. The project was acquired from Rio Tinto and the Scentre Group in 2018 for AS$262.5m in cash. Winchester is situated 30km south east of Moranbah in the Bowen Basin, which is renowned for its coking coal.

The following map shows Winchester South relative to some of its well known peers.

Source : Winchester South Coal Resources and Reserves 2020

However, the project has several drawbacks such as:

• High product strip ratio of 9.1 bcm/t
• High ash content of 32.8%, which reduces the wash yield
• Variable coal seam sub-crop height that sterilizes blocks of coal
• Fairly hefty Capex outlay, estimated at A$1bn in 2018
• Punitive royalty structure, recently promulgated by the Queensland Government
• Moderate quality coking coal

While Winchester may be a doubtful starter as a pure coking coal mine, the geology lends itself ideally to position the mine for the production of a mix of predominantly high quality thermal coal and a lesser proportion of metallurgical coal. This is exactly the strategy that Whitehaven has implemented to great effect at its mines in New South Wales. The Bowen Basin benefits from excellent power, rail and port infrastructure, as well as a skilled (if militant) local workforce.

Winchester therefore has the potential to produce almost 10mtpa of Newcastle quality export production, that would currently fetch more than A$5bn a year. In the event that coking coal resumes its premium over thermal, the mine would be able to switch back to a 60/40 coking/thermal product mix. Our assessment of the Ore Reserve is that only the 2 main pits will be mined, implying a mine life of 12-15 years, rather than management’s forecast of 20+ years. This conservative view is also more closely aligned with Rio Tinto’s original estimates, rather than the rosy assessment by Xenith Consultants that informs Whitehaven’s forecast.

As to timing, the project continues to suffer from permitting delays and legal challenges by environmental groups and the farming lobby. As mentioned under the Political section below, Winchester was recently included in a list of 18 energy projects that the Labour Government wants to review from a global warming perspective. Our view is that Winchester will eventually be permitted, though it may require a change of federal government back to the Liberal led Coalition. We attach only a nominal value to this project.

Potential acquisition of Idemitsu’s Boggabri mine

Idemitsu of Japan owns 80% of the Boggabri thermal/PCI coal mine that is contiguous to Whitehaven’s Maules Creek mine to the northwest and Whitehaven’s Tarrawonga mine to the southeast. The mine produces 7mt p.a. of an identical quality to the two Whitehaven mines. Idemitsu put its Ensham coking coal mine in Queensland up for sale in June last year via KPMG, which raises the likelihood that it might also consider selling Boggabri to Whitehaven.

Whitehaven’s relationship with Idemitsu dates back to the time when Idemitsu owned 30% of the Tarrawonga mine. Idemitsu sold their stake to Whitehaven in 2018, making it a wholly owned subsidiary.

The purchase of Boggabri would enable the three mines to merge into a single mega mine, delivering significant cost savings, logistical gains from Boggabri’s rail loop and wash plant and flexibility to deal with flood water. The merger would also strengthen Whitehaven’s proposal to mine the biodiversity corridor between the Maules Creek and Boggabri mines. (See blue and pink hatched zones in the map below).    

Whitehaven estimates that their half of the corridor hosts 40mt of saleable coal. So it would make a lot of sense to mine this pillar area as a single operation to extract the ~80mt of top quality, shallow coal.

The map shows the satellite image of Maules Creek’s open pit in the top left, with Boggabri’s pit outline just discernable from the centre to the bottom right.

Balance Sheet risk

Whitehaven sold 43.4% of its coal to just 3 customers in F2022. (F2021 : 40.5%). The outstanding receivables at year end amounted to A$601m, of which less than 0.4% were past 30 days. Customers are not required to provide collateral for outstanding amounts.

The group’s provisions for mine rehabilitation and biodiversity obligations amount to just A$259m  (F2021 : A$222m).  This appears to reflect the concurrent rehabilitation modus whereby pits operate on a roll-over basis. The amounts appear somewhat low relative to the footprint of the company, but it’s unlikely that there could be material risks on this front, given the tight regulatory framework and the obsessive monitoring by environmental interest groups.

Conclusion

Whitehaven is a blue chip, pure play investment thanks to its extra high quality thermal coal, and the flexibility to switch the wash plants to 60% metallurgical when markets change. The Australian Dollar cost base also provides a valuable cushion in times of commodity price weakness, as is the proximity to the premium markets in Asia. Whitehaven’s weak share price discounts an avalanche of bad news and could therefore rally sharply, should current market conditions persist.

SWOT Analysis

Strengths

Largest producer of high CV coal in Australia after Glencore

Widening premium for quality coal

Ability to switch wash plant output between thermal and metallurgical coal

First Quartile on the global Seaborne Coal Cost Curve

Long Ore Reserve Life

Strong pipeline of growth projects

Security of tenure

Robust and competitively priced rail and port infrastructure

Ungeared Balance Sheet

Weaknesses

Werris Creek Mine will close in 2024

La Nina rains likely to depress Q2 results

Opportunities

Attractive take-over target with no single shareholder above 6%

Create a “super mine” with Idemitsu’s Boggabri mine

Acquisition of JV partner stakes at a discount to implied market value

Excellent building block for private equity coal play

Threats

Imposition of windfall taxes at Federal level

Imposition of higher royalties in NSW, following Queensland example

Refusal of Narrabri 3, Winchester South and Maules Creek 16mtpa expansion

More stringent rules on fugitive methane emissions from coal mines

La Nina rains persist for longer than currently forecast (costs and marketing delays)

Catalyst

Production update for December quarter on January 21

Higher dividend policy, after the abolition of off-market buybacks

Final Permit Approvals for Narrabri 3