Coal Miner Bets on Steel Mills to Boost Profit: Corporate India

Coal India Ltd., the world’s biggest producer of the fuel, will raise output of the metallurgical variety to boost earnings after discounted sales to power utilities led to its first profit drop in at least five quarters.

The state-owned company plans to start work on four new mines that will annually produce about 12 million tons, a third of which will be the coal used in steelmaking, Ashoke Sarkar, technical director at unit Bharat Coking Coal Ltd., said in an interview. The new lines will fetch about 30 billion rupees ($485 million) a year at current prices of coking coal when full production starts in three years, he said.

Metallurgical coal sells for three times the price of the thermal type and a jump in production may help revive growth at the company, which is struggling with frequent unrest among workers demanding wage increases and government directives to increase supply to power plants at subsidized rates.

“Coking coal is an important part of our portfolio, and it is important to raise its production to help our steel companies,” Sarkar said. “All the four mines will need underground mining, which will help us limit the damage to the environment and tap the resources buried deeper.”

Indian steelmakers including Tata Steel Ltd., the nation’s biggest, and Steel Authority of India Ltd. also stand to gain as better supply may help them cut their dependence on imports of the blast furnace fuel.

Not Suitable

The mines are expected to start production in a year and reach full capacity in three years, Sarkar said. Kolkata-based Coal India expects a 12 percent internal rate of return on its investment in the mines, he said.

The miner produced 43.7 million tons of coking coal in the year ended March 31, about 9.7 percent of its total output.

The four new mines are located in the eastern state of Jharkhand. Their development will be outsourced, Sarkar said.

A large part of Coal India’s lower-grade coking coal gets supplied to power stations, as it isn’t suitable for use in steel mills. The company is setting up new washeries to refine such coal to make it more usable by steel producers, Sarkar said. Unit Bharat Coking itself will install 6 new washeries with a capacity of 18 million tons a year, he said.

“Considering that coking coal is a scarce commodity in India and is in high demand, it brings incremental value to Coal India’s business,” said Deven Choksey, managing director at K.R. Choksey Shares & Securities Pvt. in Mumbai, which has a “buy” rating on the stock. “I estimate the company can make 2.5 billion rupees in net earnings when these four mines gain maturity.”

Burning Mines

Indian steelmakers rely on imports to meet their requirement of metallurgical coal, even as the nation’s richest deposit of the fuel is wasted away in uncontrolled underground fires in the fields of Jharia in the eastern state of Jharkhand. State-owned Steel Authority, Coal India’s biggest customer, imports 70 percent of its needs, mostly from Australia.

Dependence on imports often exposes the mills to price fluctuations caused by bad weather or infrastructure constraints and losses on foreign currency loans taken for these purchases.

The makers of the alloy, backed by India’s federal steel ministry, have been lobbying to get access to the burning Jharia mine, saying their intervention and investments could save the resources.

Sales Growth

Some analysts say they will look for actual output data before they start factoring the new coking coal into their Coal India earnings estimates.

“We would like to see some actual production to start coming out of the mines before basing our investment thesis on coking coal,” said Asyraf Salman, an investment analyst at London-based Somerset Capital Management, which owns shares of Coal India.

Sales at Coal India will grow 6 percent to 723.8 billion rupees in the year ending March 31, 2014, according to the median of 51 analyst estimates compiled by Bloomberg, the slowest pace in five years. Profit in the three months ended June 30 fell 17 percent to 37.3 billion rupees.

Coal India shares rose as much as 0.6 percent to 293.75 rupees in Mumbai and traded at to 292.50 rupees as of 10:01 a.m. The stock has lost 18 percent in value this year, compared with an 8 percent advance in the benchmark S&P BSE Sensitive Index.

The government, which owns 90 percent of the company, is preparing for a 5 percent stake sale, from which it aims to raise as much as 100 billion rupees amid opposition from labor unions that have threatened to go on strike.

Bonus, Wages

Workers won a pay raise for five years starting July 2011 and Coal India agreed to a 19 percent increase in bonus payments this year to win support for the share sale.

The miner is selling thermal coal at below-market rates to utilities with 78,000 megawatts of capacity after Prime Minister Manmohan Singh forced it to sign supply contracts to help increase electricity generation and boost growth. The company faces monetary penalties for failing to meet the obligations.

That, along with rising costs of fuel used to run machines and wages, is causing concern the miner’s profitability may decline further.

“Adding more coking coal is good for Coal India as it gives the company a free market,” said Giriraj Daga, an analyst at Mumbai-based Nirmal Bang Equities Pvt., who has a “hold” rating on the stock. “It’s a difficult territory though and the company must keep costs in check.”

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