BHP May See Another Sunny Outlook Turn to Ashes

Asked when the company released its 2014 annual results why he didn’t get rid of BHP’s thermal coal mines in Colombia and Australia at the same time, Mackenzie was equally bullish on their future:  The world is “likely to invest more in energy relative to the past than we have in steelmaking,” he said, so the company would retain “some of the very best energy coal mines in the world.”

Six years on, another chief executive is struggling to dispose of those pits after they racked up $214 million of combined losses in annual results reported Tuesday. BHP has already been looking at selling the mines for about a year with no real takers, so new boss Mike Henry is hoping to offer a more tempting product as an incentive — BHP’s 80% stake in two Queensland mines producing higher-value varieties of coking coal used in steelmaking. The company will look to “maximize the value” of the thermal and coking coal mines by selling to another company or via a South32-style de-merger.

That would leave BHP with its larger coking coal 50-50 joint venture with Mitsubishi Corp., BMA. This is a dominant asset producing nearly a third of the best-quality coking coal in the seaborne market. Henry — a former manager of BHP’s coal unit who knows the business well — is confident it will prosper. “We believe that a wholesale shift away from blast furnace steelmaking, which depends on metallurgical coal, is still decades in the future,” the company said.

It’s tough to make predictions, especially about the future — but Henry’s successor may one day come to rue that forecast, too. To see why, consider BHP’s defense of the business. Much rests on the relative young age of blast furnaces in China (10-12 years) and India (18 years).

This is indeed likely to be a decisive factor in how fast the world shifts from conventional primary steel production, which generates about as much carbon emissions per metric ton of steel as you get from burning a ton of coal. Steel made in electric arc furnaces can eliminate as much as 95% of carbon pollution. It also offers more operational flexibility than blast furnaces, which must operate at constant levels for decades at a time, one reason why the U.S. has almost given up on traditional primary steelmaking in recent decades.

The youth of the blast furnace fleet in emerging Asia isn’t nearly as decisive a factor as you might think, though. For one thing, those newer steel mills in China aren’t the ones supporting the seaborne coking coal trade. While about 80% of Australia’s iron ore goes to China, the total for coking coal is barely more than 20%. India, Japan, South Korea and Taiwan together account for about three times that amount, and they’re in quite a different boat. With the exception of India, all have steel mills that are well into middle age.

Japan has been halting blast furnaces at a rapid clip since the coronavirus started to cut into downstream demand from the auto sector and Korean steelmakers are also cutting production. India itself saw a brutal 65% output drop in April from a year earlier. That’s driven hard coking coal prices to a four-year low of $133.26 a ton. At those prices BHP’s coking coal unit is still making margins of around 50%, but factor in the $500 million or so a year that goes to capital expenditure plus interest and tax and that starts to narrow markedly.

Even if blast furnaces can keep going for half a century or more, they require hundreds of millions to be spent on refurbishment every 15 years or so. That provides a regular opportunity to switch to electricity, which mills will take if the economics look right.

With the supply of the scrap used in electric furnaces forecast to increase by about a third between 2017 and 2030, and ongoing pressure to reduce the carbon-intensity of steel (including the possibility of border adjustment taxes on emissions in Europe and the U.S.), don’t be surprised if we see a far faster switch away from blast furnaces than BHP is predicting. Should that happen, Henry’s promise of a bold future for coking coal could prove as mistaken as his predecessors’ backing of its cheaper thermal cousin.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

David Fickling is a Bloomberg Opinion columnist covering commodities, as well as industrial and consumer companies. He has been a reporter for Bloomberg News, Dow Jones, the Wall Street Journal, the Financial Times and the Guardian.

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