China

Room for 180mn tonnes of capacity cut during 2019-2020

In May-19, CCTEG Coal Industry Planning Institute published the Mid-term 13-Five-Year Plan Evaluation and Outlook for Coal Industry, stating that 810mn tonnes of capacity were phased out during 2016-2018. There is still room for 180mn tonnes of capacity curtailment during 2019-2020.  Total coal production will reach 3.7bn tonnes out of 4.5bn to 4.7bn tonnes of domestic capacity by 2020 with an utilisation rate of 75%. The overcapacity issue will be resolved amidst increasing market consolidation. The number of coal mines will decline to 5,000, and 82% will be the large mines (more than 120mn tonnes of annual production).

Indonesia

Indonesia and China coal associations collaborate in the coal mining sector

In May-19, the Indonesian Coal Mining Association and China National Coal Association signed a memorandum of understanding (MOU) to cooperate in the development of the coal mining sector. Both parties will build a framework of cooperation in coal mining and utilisation, development of environmental technology and personnel exchanges. The MOU also provides certainty on China coal import policy on Indonesian coal.

The authority rejects calls for DMO reduction

In May-19, the Indonesian government rejected calls from miners for a reduction of in Domestic Market Obligation (DMO), which demands that the local producers supply 25% of the output to the domestic market. Companies that fail to meet the DMO need to purchase quota from other producers who deliver more than 25% of supply. Miners can only purchase DMO quota from others from July onwards.

Ongoing clampdown on capacity and market consolidation support coal prices

The supply-side reform to phase out 800mn tonnes of coal capacity is completed two years in advance. However, the authority signals it intends to tighten further the domestic supply growth. The large-sized producers will continue to increase the market share in terms of output. With the encouragement of mid-to-long term coal purchase agreement between coal and power enterprises, China will rein in coal prices more efficiently. The policies concentrate on capping the upside of prices. The MOU could provide relief over concerns in the reduction on Indonesian coal demand given that the restriction on coal import (mainly on Australian coal) that remains at the moment. On average, China imports 120mn to 130mn tonnes of Indonesian coal annually.

Indonesian government policies are more volume-driven

Indonesia is expected to grow the domestic consumption of coal by 20mn tonnes to 135mn tonnes in 2019. The unchanged DMO is in line with the ambitious infrastructure expansion plan with a budget of more than US$400bn. The government foresee growth in the domestic demand for coal. However, the authorities will not take care of the downside of coal price. Producers have to ramp up the output despite the thin margins to maintain or improve profitability. This will hurt the miners with smaller reserves and more dependence on the export market.

Coal counters monthly updates

Golden Energy and Resources (Target px: S$0.24 /ACCUMULATE)

• Production volume on-track to meet FY19 target of 25mn tonnes
• Cash profit slight above US$10/tonne in 1Q19
• Coal price headwinds dim the outlook

Geo Energy Resources (Target px: S$0.15/ NEUTRAL)

• On-track to meet the FY19 production target of 8mn tonnes
• First gross loss since 1Q16, due to the fall in ASPs while cash costs remained stubbornly high
• Likely to raise debt to acquire coal assets or to redeem the Senior Notes by the end of the year if no cash deployment

Investment action

The ramp-up of production is expected to be moderate for both of the coal counters this year. Expected average coal price (4,200 GAR: US$ 39.5/tonne) in 2019 will be 10% lower than that in 2018. Meanwhile, the cash cost will also decline due to the normalisation of stripping ratio. The thinner margin will offset the growth of production. Therefore, the profitability will be flat in 2019. We downgrade our recommendation to HOLD on the sector.

Source: Phillip Capital Research - 3 Jun 2019