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New Hope for India

By David Dittman on November 16, 2011

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The potential takeover price most often quoted for Australian Edge Portfolio Aggressive Holding New Hope Corp Ltd (ASX: NHC, OTC: NHPEF) is AUD5 billion total, or about AUD6 per share.

After popping above AUD6.50 in the initial news that the board would conduct a formal auction New Hope stock has traded in a range from AUD5.80 on the low end to around AUD6.09, the current neighborhood, bouncing when new names are thrown into the rumor mill, coming back when news out of Europe determines market action or when investors realize a deal is nowhere near complete, if one’s ever to be consummated.

We included New Hope among the charter members of the Australian Edge Portfolio because of its underlying strength as a business. Of course you never look the gift horse of a premium takeover offer in the mouth. But we’d be happy to collect its modest though reliably growing dividend, watch the stock price follow the payout higher and build wealth for the long pull.

New Hope operates three open-cut mines in the southeast Queensland, New Acland, Jeebropilly and New Oakleigh. These three mines collectively produce about 5 million metric tons per year of thermal coal. New Hope also owns the Queensland Bulk Handling coal export terminal at the Port of Brisbane, with capacity of 10 million metric tons per year. The company recently completed a AUD243 million deal to acquire Northern Energy Corp Ltd and its thermal, coking and PCI coal mines in Queensland and New South Wales. Exploration is focused in Queensland.

The stock weathered the Great Financial Crisis and aftermath in relatively good shape, selling off sharply when general panics struck the market but recovering lost value and then some continuously over the last half-decade.

The company declared total dividends of AUD0.235 per share for fiscal 2010 (ended Jul. 31, 2010) and AUD0.2525 per share for 2011 (ended Jul. 31, 2011), a 7.4 percent year-over-year increase. During both years the board included a significant “special” dividend to go along with the “final” dividend, which is declared in late September for payment in early November.

The dividend has been remarkably resilient for a commodity-focused company in such volatile times; it’s actually grown 17.9 percent over the past five years.

Since the Australian Edge Portfolio debuted Sept. 26, 2011, New Hope has generated a total return of about 28.9 percent in US dollar terms, driven of course by speculation about the auction process. At the root of this process, however, is one of the strongest fundamental trends in global commerce: rising demand for electricity.

In an Australian Securities Exchange (ASX) filing ahead of the company’s Nov. 17 annual general meeting management the company reported fiscal 2012 first-quarter (end Oct. 31) net profit after tax forecast of AUD51.14 million, up 22.6 percent from AUD41.71 million during the first quarter of fiscal 2010-11. Annualized capacity at the Queensland Bulk Handling facility over the past two months has been 9 million metric tons per year, significantly ahead of the 5.86 five-year running annual average and another sign that the global economy may not be laying down again.

Management forecast coal production over the 2012-to-2013 period to be steady at about 6 metric tons per year. New Hope won’t see meaningful output increases until the Australian government approves the Acland thermal coal expansion and the Colton coking coal mine development, acquired in the Northern Energy deal. It described Australia’s new carbon tax and the proposal for a minerals levy “unhelpful” but reiterated its long-run strategic commitment to acquisition led-growth–ironic, given the current headlines it’s making, but New Hope does boast an exceptionally strong balance sheet, with ample cash on hand and no debt.

The bottom line is New Hope is well positioned to fulfill its ambition to double production over the next five years and “consolidate…as a diversified energy producer.”

However, given recent activity in the Australian coal market, the apparent interest generated by New Hope’s assets as well as the board’s stated intent to sell the company it seems more likely than not that New Hope will go the way of so many coal pure plays in recent years.

Among the companies reported to be willing to pay the AUD5 billion it will take to get New Hope is Aditya Birla Group, the Mumbai, India-based conglomerate that is the parent of AE How They Rate coverage universe member Aditya Birla Minerals Ltd (ASX: ABY, OTC: ABWAF).

The Australian reported Wednesday morning Sydney time that Aditya Birla Group has signed a confidentiality agreement with New Hope that will allow it access to company financial data. The Wall Street Journal affiliate also reported that “as many as 15 different parties have signed confidentiality agreements with the Australian miner.”

The several names mentioned since the auction kicked off, in addition to Aditya Birla Group, include Rio Tinto Ltd (ASX: RIO, NYSE: RIO), Smith & Nephew Plc (London: SN/, NYSE: SNN), Vedanta Resources Plc (London: VED, OTC: VDNRF), Xstrata Plc (London: XTA, OTC: XSRAF, ADR: XSRAY) and Yancoal Australia.

Yancoal Australia is a subsidiary of Chinese coal miner Yanzhou Coal Mining Company Ltd (Hong Kong: 1171, NYSE: YZC). It recently acquired Syntech Resources and its Cameby Downs export thermal coal mine in Queensland for AUD202.5 million and  Wesfarmers Ltd’s (ASX: WES, OTC: ) Premier thermal coal mine in Western Australia for AUD296.8 million.

Aditya Birla Group made overtures to Australia-based Whitehaven Coal Ltd (ASX: WHC, OTC: WHITF) earlier in 2011 but backed away when it became clear the cost would be prohibitive. The group’s persistence on the matter is an indication of New Hope’s and thermal coal’s general relevance. Thermal coal is one of the most important commodities for the global economy. It fires power stations around the world and is still the main source of electricity in Asia.

Aditya’s new attempt at a coal acquisition also shines a new light on India’s particular need for thermal coal. China, justifiably, draws most of the attention when it comes to discussions of resource hunger and the long-term impact on supply and demand for hard and soft commodities. But India, because of the difficulty imposed by environmental regulations and other constraints on developing potential new mines, is becoming ever more dependent on coal imports.

A special government group tasked to fix the logjam has thus far proved unsuccessful, and more than 200 mines with production potential to fuel 130,000 megawatts of generation capacity sit idle. About 55 percent of the country’s current installed capacity is coal-based, and much of the 100,000 megawatts to be added during the 12th Plan period (2012-17) will be coal-based.

According to the Central Electric Authority 11 power plants have only a day’s worth of thermal coal on hand. India has 75 thermal power projects that depend on state-owned Coal India Ltd for fuel supplies; Coal India is responsible for more than 80 percent of the country’s coal production but has been unable to keep pace with rising demand.

Because demand exceeds electricity supply power outages–referred to locally as “power cuts”–plague India on a daily basis, planned and unplanned. All economic forecasts–worst-case, all-time-great, base-case–present scenarios that include a widening of this demand-supply gap. In fact a website that takes advantage of “the crowd” and over-the-Internet real-time mapping technology provides graphic illustration of India’s constant battle to stay powered.

Thermal coal, because of its use in power generation, is one commodity that held up during the recent dramatic selloff that hit oil and others in the complex. Electricity is an essential service; consumers may pull in their horns and refrain from buying a new car or eating out on a regular basis, but they still use electricity.

In India, where, like China, a middle class is rapidly emerging, present electricity generating capacity is about 182,300 megawatts. A.P.J. Abdul Kalam–professor of aerospace engineering, first Chancellor of the Indian Institute of Space Science and Technology Thiruvananthapuram and President of India from 2002 to 2007, in a recent article wrote that he expects capacity will need to rise to 950,000 megawatts over the next 20 years as India’s economy doubles between 2008 and 2016, then doubles again by 2025.

Mr. Abdul-Kalam advocates on behalf of nuclear, but coal will necessarily be part of that equation.

Thermal coal is and will continue to be the fuel of choice for cheap power generation, which makes it more resistant to economic ups and downs than your average commodity. That makes New Hope Corp a solid investment, whether or not one its rumored suitors ponies up the AUD5 billion or more it’ll take to get a deal done.

For up-to-date advice on New Hope and other Australia-based resource-backed dividend-payers consult the current issue of Australian Edge at www.AussieEdge.com.

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