Elevated coking coal prices to crimp margins of steel producers
The burgeoning dependence of domestic steel producers on imported coking coal will exert pressure on their margins. While steel prices are softening, coking coal price movements have been diametrically opposite. Coking coal is the single largest cost ingredient for a blast furnace steel operator, contributing 40-50 percent of the running costs. Margins of top Indian steel makers like Tata Steel and JSW Steel have remained ceaselessly exposed to the volatility in international coking coal prices since the second half of calendar 2016. The inflated coking coal prices in seaborne trade have nibbled at the margins of steel producers.
The overt dependence on coking coal imports due to deficient reserves at home has not abated worries for the steel manufacturers. Currently, India satiates 85 per cent of its coking coal demand by imports and as per an industry estimate, the country is poised to be the largest importer of the key steel making ingredient by 2022 as the demand for it is seen ascending to 67 million tonnes, up from 56 million tonnes now.
Global Prices and Margins: Steel Vs Coking Coal
After a turbulent phase of calendar 2015 and 2016, the global steel industry treaded on the path to recovery in calendar 2017. The recovery was largely backed by supply discipline measures announced by China that saw shutdown of 150 million tonnes of vintage steel capacity and closure of another 170 million tonnes induction furnace capacities operating illegally in China. After two back-to-back years in elevated steel contributions, production has reverted to the median in calendar 2019. The downtrend in steel production was led by sagging production at Chinese steel mills since June 2018. In a contrarian trend, prices of seaborne hard premium hard coking coal steadily rose between August and December 2018. Prices of coking coal somewhat weakened in January 2019 but bounced back with alacrity in February and March, touching $216 per tonne, 27 percent higher than the long period average of $170 per tonne. While steel contributions have retreated to the long-term sustainable levels in the current calendar year, seaborne coking coal prices remain at elevated levels, leading to healthy cash accruals for miners.
With coking coal prices holding their ground despite a significant correction in steel prices, the miners seemed to have wrested the advantage. At prevailing prices, some large global coking coal miners are achieving earnings before interest, tax, depreciation and amortization (EBITDAs) ranging from $70-100 per tonne of coal sold which comes close to the EBITDA levels achieved by some large integrated global steel players like Posco ($98 per tonne of steel sold) and ArcelorMittal ($107 a tonne of steel sold). Supported by the high profit levels of miners, which results in attractive payback periods for new mine development projects, capital spending in expansion projects is expected to be incentivised.
China meets around 90 per cent of its coking coal requirement from domestic mines, and the balance 10 per cent is imported, either from the seaborne market (largely from Australia) or from land (from Mongolia). In this context, it can be observed that in the last four years, barring calendar year (CY) 2017, Chinese coking coal imports from the seaborne market remained largely stagnant at around 35-37 mt annually) while the bulk of the increase in imports was through the land route from Mongolia (13 mt in CY2015 increasing to 28 mt in CY2018). In CY2018, despite Chinese crude steel production through the blast furnace-basic oxygen furnace route increasing by 36 mt year-on-year (YoY), coking coal imports by Chinese mills declined sequentially from 70 mt in CY2017 to 65 mt in CY2018. This suggests an improvement in domestic coal supplies in China, which makes us believe that seaborne coking coal imports by Chinese mills are unlikely to increase significantly in CY2019, more so in the context of an expected deceleration in Chinese steel production growth in CY2019 (as predicted by World Steel Association) as well as the growing use of electric arc furnaces in steel production using scrap.
How India’s steel makers are warming up to the coking coal volatility
A comforting bout of relief for the domestic steel producer is the anticipated rise in seaborne supplies of coking coal. Australian coking coal exports increased from 173 mt in CY2017 to an estimated 178 mt in CY20184. This trend of rising exports from Australia is likely to continue in CY2019 as well. Barring the US coking coal supplies are expected to step up from other major exporting nations like Indonesia, Mozambique, South Africa, and Canada to also increase in the current year. CY 2019 is expected to see incremental supplies of nine mt of coking coal over the last year. The enhanced supplies are likely to moderate prices though market volatility can’t be predicted with accuracy.
To stave off volatility in coking coal prices, JSW Steel is diversifying its sourcing basket instead of remaining overly dependent on Australia. “As regards to coking coal prices, India continues to be dependent on coking coal imports. The overall demand-supply scenario with regard to coking coal is not much imbalanced. I do not think there will be a problem with regard to overall coking coal supplies required by JSW Steel. We have also taken a lot of proactive measures in terms of diversifying the sources of importing coking coal and so our dependency on Australia has been reduced substantially. We also import from Canada and and other countries. That will give some stability as regards to overall import of coking coal for JSW Steel even at an enhanced capacity of steel production”, says Seshagiri Rao, joint managing director & group chief financial officer at JSW Steel.
Indian steel makers are tapping into emerging energy mix technologies to allay fears on volatility of coking coal. Neelachal Ispat Nigam Ltd (NINL), a public sector steel maker co-promoter by trading company MMTC Ltd and two Odisha government controlled entities hopes to save around Rs 200 crore on its annual production cost by deploying Coal Dust Injection (CDI) technology at the blast furnace of its Kalinganagar plant. NINL, known to be the country’s biggest producer cum exporter of pig iron, runs a 1.1 million tonne per annum (mtpa) steel unit at Duburi within the Kalinganagar Industrial Complex, touted as Odisha’s steel hub. “Adoption of CDI technology will help us replace 150 kilograms (kg) of coking coal per tonne of hot metal production. The process will be 30 per cent cheaper than use of coking coal. It will also cut our dependence on coking coal whose prices are volatile and supplies are concentrated in a handful of players, mostly from Australia and Canada”, says S S Mohanty, vice chairman & managing director at NINL. The CDI technology will result in improvement of techno-economic parameters and enhance hot metal productivity at the blast furnace. CDI facilitates consumption of cheaper coal in blast furnace replacing the expensive coke thereby cutting down of cost. The facility will augment the efficiency and raw material optimization by facilitating direct consumption of coal and reducing coke rate. At NINL, CDI of blast furnace will have design capacity of injection up to 150 kg per tonne of hot metal.
Due to the extreme volatility in international metallurgical coal prices, especially in Australia, given the added uncertainty of weather-related disruptions, Indian mills have adopted multiple strategies. Domestic steelmakers are experimenting with a higher share of semi-hard coking coal and a corresponding lower share of costlier hard coking coal in making coke. The country has seen coal blends of 55 per cent hard coking coal and 45 per cent semi-hard coking coal being used by many domestic steelmakers. Additionally, mills are increasingly investing in upgrading their furnaces to allow the use of pulverised coal injection (PCI), which is a much cheaper alternative to coke and which can partly replace coke in the blast furnace. Moreover, Indian mills are diversifying their coal sourcing, as reflected in the increasing share of coking coal sourced from across the Atlantic (share of the US and Canada increasing from 6% in FY2016 to 15 per cent in April-December of FY2019), and a corresponding lower share from Australia (declining from 88 per cent in FY2016 to 73 per cent in April-December FY2019). A more long-term trend, which we observe both in India and other large steel-producing nations, is that blast furnaces are increasingly getting larger, which comes with the benefit of lower fuel rate and better efficiency norms.