New Hope Corp: Australia’s Thermal Coal King Announces Auction

Under the “New Policies Scenario” forecast by the International Energy Agency (IEA) in its 2010 World Energy Outlook (WEO) coal-fired electricity generation will grow to about 11,000 terrawatt hours from a current level of about 8,000 by 2035. Coal-fired power plants currently provide about 41 percent of global electricity. By 2030 that share is expected to grow to about 44 percent.

According to the IEA, a drop in coal-fired generation among Organization for Economic Cooperation and Development (OECD) countries will be more than made up for significant increases in the developing world, led by China and India.

Electric power consumption in China increased 12.2 percent during the first seven months of 2011 over the comparable 2010 period. That new demand was satisfied in part via 41 gigawatts of new generating capacity added this year, 27.7 gigawatts of which was coal-fired. For every obsolete coal-fired plant that China dismantled over the past three years, two new coal-fired plants have been built.

The US Energy Information Administration (EIA), in its International Energy Outlook 2011, predicted China will build 1,020 gigawatts of generating capacity by 2035, of which almost half–48 percent–will be coal-fired. In the Middle Kingdom 600 gigawatts of new capacity already exceeds the current coal capacity of the US, the European Union and Japan.

In India power generation will rise 72 percent between 2008 and 2035, much of it coal-fired. Coal currently accounts for more than 60 percent of India’s energy use. Regulatory hurdles prevent full-scale production of the country’s ample domestic reserves, so India must import supplies to keep a blackout-plagued system running.

India imported about 100 million tons of coal in 2010-11, of which about 70 percent was the thermal variety used in electric power generation. The overall figure is forecast to jump to 114 million tons in 2011-12, as the country struggles to close a peak-hour power deficit of nearly 14 percent.

It’s against this backdrop that Australian Edge Portfolio Aggressive Holding New Hope Corp Ltd (ASX: NHC, OTC: NHPEF) announced last week that its board of directors would formalize a process that until then had consisted only of “a number of preliminary and incomplete proposals from third parties” about buying the company.

New Hope: The Thermal Advantage

New Hope operates three open-cut mines in Queensland–New Acland, Jeebropilly and New Oakleigh–that produce about 5million metric tons a year of thermal coal. It also owns 100 percent of the Queensland Bulk Handling (QBH) coal export terminal at the Port of Brisbane, which has a capacity of 10 million metric tons per year.

Approximately 65 percent of New Hope’s coal sales are exported to customers in a number of countries in the Asia-Pacific area, with the remaining 35 percent being sold domestically for electricity production and to a wide variety of general industry processors and manufacturers. New Hope exports its coal through QBH.

Although a burgeoning development pipeline includes metallurgical coal projects, New Hope’s bread and butter is thermal coal, the variety used to produce electricity. And growth in the production of electricity is one of the surest trends on the planet.

The stock closed at AUD5.12 on its home exchange the morning Australian Edge launched in the US, Sept. 27. In our preview issue we noted that New Hope, then with a market cap of AUD4.2 billion and valued at 1.79 times book, had to be considered a “potential acquisition.” New Hope’s Oct. 5 announcement sparked a big rally in the company’s share price, as the Australian Securities Exchange (ASX) listing jumped to an all-time high of AUD6.21 by Monday’s close.

According to the company statement, “selected parties will be invited to submit proposals to the Board for its consideration. The process is expected to take several months and may or may not result in a proposal being made or recommended by the Board.”

During its Sept. 20 annual earnings announcement New Hope revealed it will pay a final dividend of AUD0.05 and a special dividend of AUD0.15 per share on Nov. 8 to shareholders of record as of Oct. 24. The stock will trade ex-dividend beginning Oct. 18.

Management reported a AUD503.1 million net profit for fiscal 2011 (ended Jul. 31), but the net profit number was inflated by asset sales. Underlying profit–what the company earned from ongoing operations–fell by 20 percent to AUD146.9 million because of disruptions caused by flooding in Queensland. Output was hurt much less than forecast, however, and raw coal production at New Acland reached a quarterly record. Coal sales were up 9 percent year over year, 105 percent above the flood-marred previous quarter.

The company also has more than AUD1.5 billion in cash and comparable securities on its balance sheet. It has no debt whatsoever.

Now a combination of factors–including concerns over the long-term security of coal supply among major consumers, the value proposition of producing coal in Australia for export and stock prices brought low by panic–have made New Hope a ripe target.

Rumors about New Hope are now mashing up with rumors about Xstrata Plc (London: XTA, OTC: XSRAF), a diversified miner that itself is the potential target in other speculation concerning raw materials giant Glencore International Plc (London: GLEN, OTC: GLCNF). Also mentioned as potential New Hope acquirers are Rio Tinto Ltd (ASX: RIO, NYSE: RIO) and Peabody Energy Corp (NYSE: BTU).

Yancoal Australia, a subsidiary of China-based coal miner Yanzhou Coal Mining Company Ltd (Hong Kong: 1171, NYSE: YZC) bought Syntech Resources, which owned the Cameby Downs  thermal coal mine in Queensland, for AUD202.5 million in August and Wesfarmers Ltd’s (ASX: WES, OTC: WFAFF) Premier thermal coal mine in Western Australia for AUD296.8 million in September. Cameby Downs is near New Hope’s New Acland mine in the Surat Basin.

New Hope draws a four-two-two buy-hold-sell line from the analysts who cover it. Since the bounce two analysts have issued downgrades–Paterson Securities from “hold” to “sell” by Paterson Securities and from “buy” to “neutral” by Citi–reflect the stock’s nearly 20 percent rise over the past week.

Our primary reasons for recommending stocks and including them in the Australian Edge Conservative Holdings are based on their ability to build wealth over the long term. New Hope, a charter member of the AE Portfolio Aggressive Holdings, was attractive from a fundamental standpoint, but it has always been upfront about its willingness to sell to anyone willing to pay a good price, as Managing Director Robert Neale told Dow Jones in mid-September.

It looks like we’re about to find out if there’s a suitor willing to pay such a price. We’ll have more on New Hope and other Australia-based coal producers in the October Australian Edge, which will be published this Friday, Oct. 14.

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