This is the third year in a row that I have had David Austin's Colonial Coal International Corp as a KRO Favorite based on the expectation that it will receive a buyout offer in the $5-$10 range based on its 100% owned Huguenot and Flatbed projects in northeastern British Columbia. Colonial Coal took these projects through the PEA stage of feasibility demonstration in 2018 and 2019 using 1.30:1 CAD-USD exchange rate and metallurgical coal base case prices of USD $172/t and $164.80/t for Huguenot and Flatbed respectively. At a 7.5% discount rate that generated an after-tax net present value of CAD $1,516 million for Huguenot and CAD $898 million for Flatbed. During 2023 Teck averaged USD $297/t for its metallurgical coal production, nearly double Colonial Coal's base case price. The cost assumptions of the PEAs will need to be updated to reflect the post-covid inflation, so if one trades off the higher cost with the higher price of metallurgical coal it is reasonable to take the combined PEA NPV of CAD $2.4 billion seriously, which, based on 194 million shares fully diluted, translates into $12.44 per share. Contemplating a buyout in the $5-$10 range is thus a reasonable speculation.
Since completing the PEAs Colonial Coal's chairman and CEO David Austin has been shopping the company around for a buyout by a steelmaker in need of security of supply. Coal is a dirty word these days and most people do not understand the difference between metallurgical and thermal coal, causing some metallurgical coal producers such as Teck to prefer calling it "steel-making coal" so as not to get tarnished by the anti-fossil fuel brush. Metallurgical coal is used in making steel from iron, and this process does generate carbon dioxide emissions just as does the burning of thermal coal to generate energy. In fact steelmaking contributes about 7%-8% of global CO2 emissions. There are alternative ways to make steel, but they are substantially more expensive and the world is not ready for higher steel costs, especially Global South nations such as India and Global East nations such as China. Steelmakers in jurisdictions where it matters deal with their CO2 emissions by purchasing carbon offsets.
There are, however, energy alternatives to thermal coal which have zero carbon dioxide emissions and are non-polluting such as renewables and nuclear. Even worse for thermal coal is the fact that natural gas which is non-polluting not only generates less carbon dioxide per energy unit than thermal coal, but in places like North America is cheaper than coal. Unfortunately there are countries like China and Indonesia which have abundant coal and little interest in the cost of mitigating CO2 emissions and other pollutants generated by burning coal (in steel-making whatever other elements are present in metallurgical coal either end up in the steel or the slag). The global nickel market is now under pressure because Indonesia is happy to burn dirty coal as its source of energy for extracting nickel from its laterite ore.
Even though there is a distinction between metallurgical and thermal coal, companies such as Teck which produce both base metals and metallurgical coal are penalized by investors who want their portfolio to exclude exposure to fossil fuels that generate carbon dioxide. In February 2023 Teck proposed to split itself into two companies, Teck Metals Corp which would hold all the base metal operations, and Elk Valley Resources Ltd which would hold its Canadaian metallurgical coal operations. In April 2023 Teck disclosed that it had received and rejected an unsolicited paper bid from Glencore which valued Teck at USD $22.5 billion. Glencore's plan was to combine Teck's metallurgical coal division with its own thermal coal division (26 mines) and split that off into a separate company so that Teck shareholders would end up with shares of Glencore holding the base metal and oil operations and shares of the coal spinout.
In December 2022 Glencore's effort to permit the Sukunka metallurgical coal project in northeastern BC was definitively rejected, which raised hopes that in 2023 Glencore might consider a bid for Colonial Coal's projects which do not have similar caribou habitat and First Nations issues. That hope faded when Glencore decided to go after a much bigger prize. A week after Teck's initial rejection Glencore came back with a revised bid that allowed Teck shareholders to opt for cash instead of stock in the coal spinout, which Teck management also rejected as undervaluing the company. Unfortunately for management a few weeks later its own shareholders rejected the proposal to split Teck into separate base metal and coal companies. In November 2023 Teck agreed to sell its coal division to Glencore for USD $6.9 billion. That transaction is expected to close in Q3 of 2024 if it receives regulatory approval.
Colonial Coal has traded in a $2.00-$2.50 range so far this year on daily volume ranging 50,000 to 150,000 shares but has not issued any meaningful press releases since December 2022 when the stock was being trashed in the wake of the negative Sukunka decision which the market interpreted as a thumbs down for all future metallurgical coal mines in northeastern British Columbia. I discussed the fallout from the Sukunka denial in KW Episode January 26, 2023. On Friday April 26 the stock jumped $0.52 to $2.69 on 459,300 shares, the biggest move and volume in more than a year. This prompted some KRO members who follow Colonial Coal to speculate in my Slack forum if somebody was front-running an imminent buyout offer.
Unlike the base and precious metals sector where a producer cannot offer too big a premium for a resource junior with an advanced project, which is a problem for many juniors trapped in this endless bear market lacking the sort of institutional audience which has the firepower to lift a stock into the desired buyout range, potential bidders for strategic assets involving less conventional metals and minerals do not have this problem. Is Colonial Coal any closer to a buyout?
Today's move was not caused by traders front-running inside information but rather by informal news that Citi Bank has agreed to become Colonial Coal's advisor with regard to a potential buyout. Citi Bank is the sort of entity that advises Glencore scale companies, not Canadian listed resource juniors. This does not mean a buyout is imminent, but it does mean that the expressions of interest David Austin has been receiving from tire kickers during the past few years may have become serious. Indian steelmakers have been a source of potential interest, but things like Trudeau's spat with Modi about Sikh assassinations chilled that potential last year. But now that Glencore's acquisition of Teck's metallurgical coal assets is plodding through regulatory approval, it may have dawned on potential bidders that Glencore itself might seek to expand its metallurgical coal production capacity in Teck's backyard. There could be a new sense of urgency to move sooner than later. |
