Take-or-pay puts coal at risk: analyst

It’s estimated four million tonnes of Australian coal is at risk of closure, and another 32 million tonnes will be produced at negative margins in 2013, a Wood Mackenzie report has found.

The report found lower commodity prices, increased operating costs and ‘take-or-pay’ contracts are to blame.

But Australia's coal production has continued to grow, despite lower coal prices in 2013.

Take-or-pay contracts are fixed cost contracts that result in most producers paying for capacity regardless of tonnes shipped, resulting in miners pushing on with production instead of shutting down or scaling back.

"There have only been two mine closures so far in 2013 compared to seven in 2012,” Viktor Tanevski, coal cost analyst at Wood Mackenzie said.

“Despite the low coal price environment and current margin squeeze, take-or-pay contracts are incentivising coal producers to increase rather than reduce production, even if additional production is generating negative cash margins.

“This is because the fixed cost of infrastructure capacity makes the cost of shutting down even more expensive than the cost of maintaining production."

He estimates that just over 1 per cent or four million tonnes of Australia’s coal exports in 2013 is at risk of closure at a hard coking coal (HCC) price of US$171/t and thermal coal price of US$92/t.

“This is not a significant volume of output; however the amount at risk increases significantly under a lower price scenario,” he said.

The report states that if average prices fall to US$122/t for HCC and US$77/t for thermal coal in 2013, then the amount of coal at risk of closure jumps to 45 million tonnes or 13 per cent of Australia's coal exports in 2013.

At that price, a total of 204 million tonnes of production will be suffering negative margins.

"Our expectation is that there will not be a significant dent in Australia's production this year. However, if prices do fall below expectations, the risk of closure for mines producing at negative margins will increase, reducing output," Tanevski said.

To keep up to date with Australian Mining, subscribe to our free email newsletters delivered straight to your inbox. Click here.