Adding up the numbers

[miningmx.com] – THE rail and ports operator has budgeted R36bn until 2020 for investment in coal export capacity to 97 million tonnes per year (mtpa). It wants to increase capacity from the Waterberg coalfields in the Limpopo province, and upgrade the line to the Richards Bay Coal Terminal (RBCT) some 950km away in KwaZulu-Natal province.

South Africa, which has significant coal resources in Mpumalanga and the Limpopo’s Waterberg, missed out on the global coal boom in which demand for seaborne ore grew by 470 million tons (mt) from 2000, driven mainly by China and India.

Despite demand increasing by around 7% a year, South Africa’s exports have remained flat, rarely exceeding 70mtpa due to rail capacity constraints, a challenge Transnet is trying to address as part of its R307.5bn capital investment programme.

RBCT, which is owned by mining companies including Glencore and Anglo American, has a design capacity of 91mtpa and wants to expand this to 110mtpa. However, current rail capacity on the line is only estimated at around 72mtpa.

Transnet’s railings of 70.8mt last year was a new record, thanks in part to an investment of R1.3bn, and reflected an increase of 3% on 2012’s 68.5mt.

The plan is to expand capacity on the Richards Bay line to 81mtpa by the end of 2018, and eventually to 97mtpa. Getting to 81mtpa will require upgrades to the power supply and running lines, as well as new wagons and locomotives.

“There is a real possibility that Transnet will get to 81mtpa over the next five years, but for that to go ahead, there must be coal available.

“Transnet won’t build the capacity ahead of output increases by miners, and miners are waiting to see Transnet increasing capacity,’ said James Oberholzer, analyst at Macquarie Research in a report earlier this year.

The second phase, which is currently the subject of a feasibility study, provides the real headache.

BEE BALANCE SHEETS

It will require doubling the Overvaal tunnel near Ermelo and re-routing up to 15mt of general freight from the coal line via a new railway line through Swaziland.

The 146km line from Lothair, located between Ermelo and Mbabane, to Sidvokodvo near Manzini in Swaziland will cost an estimated R17bn and will require funding and collaboration from both South Africa and Swaziland.

A technical feasibility study on the line will be completed in November and the line is expected to be operational by mid-2017, Bloomberg News reported in May.

We have become increasingly more optimistic on TFR’s ability to deliver on its plans given the performance on the export coal line

Port expansion plans will depend on Transnet’s railway decisions, with Johannesburg-listed shipping and logistics firm, Grindrod, looking at growing capacity at its Navitrade terminal in Richards Bay to 20mtpa from 6mt currently, mainly focusing on coal.

Transnet is threatening to build its own terminal next to RBCT to provide more access to black economic empowerment (BEE) miners. Proponents of the RBCT expansion to 110mtpa say it will be by far the cheapest option of the three.

The big challenge for BEE miners is not export access – RBCT for example already offers 4mtpa through its Quattro scheme to about 21 small miners – but rather the size of their balance sheets, said Oberholzer.

“Coal is a bulk commodity; it is all about economies of scale. Logistics is a significant portion of the business, so you want sizeable operations. Probably the biggest challenge for BEE miners is that they don’t have the balance sheets to take on large-scale projects,’ he said.

Concerns remain about Transnet’s ability to avoid cost overruns and delays on large-scale capital projects, which would have an impact on the competitiveness of its rail tariffs, said one mining industry source who spoke on condition of anonymity.

Its multi-product fuel pipeline from Durban to Gauteng is three years behind schedule and will cost at least R23.4bn, up from the original budget of R12.7bn. “If I was a betting man, I wouldn’t put money on Transnet delivering on time or within budget, particularly not on major expansion projects,’ he said.

Xavier Prevost, senior analyst at XMP Consulting, said Transnet has the ability to deliver on its plans. “The challenge is whether the economics will make sense, particularly for coal from the Waterberg, where logistics costs will be much higher than from Mpumalanga. At current coal prices, the business case for delivering from the Waterberg to Richards Bay will be a challenge,’ he said.

Logistics costs from the Waterberg are estimated at R311 per tonne, compared with R140/t from Witbank, according to Macquarie Research.

While the Waterberg offers significant coal resources, it has remained largely undeveloped due to logistical constraints, geological challenges and water shortages. Exxaro Resources is currently the sole producer in the area, providing coal to Eskom and the export market.

LOGISTICS, LOGISTICS

Sydney- and Johannesburg- listed coal development firm, Resource Generation (ResGen) has started construction work on its mine – Boikarabelo – in the area, and has secured an export allocation through Durban port, although at higher cost per ton than RBCT.

Current capacity on the line from Lephalale in the Waterberg to Pyramid South, near Ermelo, is roughly 5mtpa. From Pyramid South, trains can be directed to Eskom’s power stations on the Highveld, Maputo, Richards Bay or Durban. Coal exports currently constitute roughly 1mtpa, while the line also delivers coal and iron ore domestically, mainly to the steel-making facilities of ArcelorMittal South Africa.

Transnet is planning to upgrade the route to 23mtpa by 2018/19 in the first phase at a cost of R5bn, which would require electricity upgrades and increasing axle loads. A feasibility study is also underway to investigate expanding capacity further to 35mtpa.

However, this may be problematic due to extensive clay formations.

Another option is to build a new heavy-haul line from Thabazimbi to Ermelo via Hammanskraal, which would require a minimum demand from the Waterberg of 30mtpa and cost at least R35bn, according to Macquarie Research.

“Stage one on both the export line and Waterberg plans are progressing well. However, the longer-dated plans are more complex, and it is more up in the air whether Transnet will go ahead with it. It is a little more complicated than just adding rolling stock,’ Oberholzer said. Transnet said it would comment after the release of its annual financial statements in June.

Fitch Ratings, which upgraded Transnet’s credit rating in October, said that while Transnet’s capital expansion plans carry “considerable execution risk’, the company has the ability to scale back its planned capital expenditure if required, for example in the case of weaker demand expectations.

Transnet plans to fund a third of its R307.5bn programme from external sources, including domestic and international bond markets, and the remainder through cash generated from operations.

“The expectation is that Transnet’s operations will remain strong, despite a possible weakening in commodity export markets,’ Fitch said. Most of its coal revenue is derived from long-term contracts that are subject to take-or-pay clauses. It also benefits from a zero dividend policy, while government backs around 4% of its debt.

While Transnet’s current plans make provision for the migration of an estimated 40mtpa of Eskom coal from road to rail, which would lead to significant transport cost savings for Eskom, the utility’s future plans for coal-fired power will also play a key role in Transnet’s expansion plans.

Eskom currently buys nearly half of all locally produced coal, according to data from the Chamber of Mines, and any future growth in production will be significantly influenced by Eskom’s demand for additional supplies and the price it is willing to pay.

A decision by coal miners to expand production will therefore depend on whether government opts to include more coal-fired power stations beyond Medupi and Kusile and Eskom’s ability to fund new stations, while regulatory issues and proposed carbon taxes will also influence investment.

“The investment appetite for coal is affected by a lack of clarity around government’s plans for the sector,’ said Prevost. “In my view, the problem is not the economics of coal as a commodity as much the legislative uncertainty.’

It is expected that coal will be declared a strategic mineral under the amended Mineral and Petroleum Development Act (MPRDA), which is currently awaiting President Jacob Zuma’s approval.

This would have an impact on the prices coal miners are able to sell a portion of coal to domestic buyers, and what portion of output may be exported.

“It is very important for the economics to make sense that mining companies have the ability to sell coal at the best possible price,’ Prevost said.

It would be more beneficial for Eskom’s future supply if investment into the sector was encouraged, he said.

The investment appetite for coal is affected by a lack of clarity around government’s plans for the sector

For investors, the key questions are whether Transnet can put the requisite new infrastructure in place to facilitate new supplies to Eskom and increase exports, and at what cost, said Macquarie.

“We have become increasingly more optimistic on TFR’s ability to deliver on its plans given the performance on the export coal line and the expansion work on the Waterberg line. We fundamentally see the opportunity for increased coal output from the Waterberg and increased exports,’ Oberholzer said in the report.

“Whether or not new coal-fired generating capacity is built, however, is a tougher call. There are many more moving parts including GDP growth, energy intensity assumptions, Eskom’s ability to fund new builds, learning rates of nuclear and renewable energy and government policy with respect to emissions.’

Using the South African Coal Road Map as a guide, they predict late decommissioning of old power stations beyond 2030, and that new generating power will mainly be coal-fired, as it makes more economic sense.

Local power stations’ demand for coal is expected to increase from around 125mtpa currently to 150mtpa by 2020, mainly due to Medupi and Kusile, and 211mtpa by 2040. Exports from the Waterberg are forecast to reach a maximum of 13mpta, mainly from Exxaro, Macquarie said.