Macquarie doubts Glencore cuts will last

MACQUARIE Wealth Management has expressed doubts about Glencore implementing its recently announced plans to cut 15 million tonnes per annum of Australian coal production in 2015.

Blair Price

“With production costs having fallen markedly over the past eight months and Glencore well positioned on the cost curve, this wouldn’t seem to be a purely economics-driven move,” Macquarie said.

“More likely is that the company is improving its negotiating position heading into Japanese Fiscal Year (JFY) contract talks – a key earnings driver.”

The broker said Glencore could get the upper hand in contract talks with Japanese utilities, based on supplying coal in line with the Japanese financial year that starts on April 1.

“The JFY contract is estimated to back around 60mtpa of Japanese imports, the majority of which from Australia and by derivation, a significant proportion from Glencore,” Macquarie said.

“For this reason we are somewhat sceptical that the full magnitude of cuts will be enacted for a sustained period of time and believe there is a possibility that these tonnes return to market once the JFY contract is settled. The lack of detail given on the volume cut plays into these thoughts.”

While Glencore is not providing “site-by-site specifics” as it starts a process of consultation with employees, Macquarie also questioned the 15Mtpa figure on other grounds.

“Our Glencore analyst, Jeff Largey, writes that this cut will be entirely thermal coal and that the impact on consolidated thermal coal production is likely to be a fall of around 10Mt from 60Mt produced last year (of which 54.6Mt was for export),” the broker said.

“Whether this is because it will take time to implement the cuts and hence the realised impact of a 15Mtpa cut is just 10Mt in 2015, or whether the company is benchmarking the 15mt cut to its previous thermal production guidance of 65Mt this year, remains unclear.”

While the broker is not convinced that Glencore operations need to be cutting production, it did view that coal markets could do with supply cuts of a 15Mt magnitude.

This was especially the case as January trade data showed that China’s standing as the “thermal could market’s buyer of last resort is disappearing following a series of protectionist measures implemented over the past 6 months”.

Even when factoring in a 15Mtpa cut from Glencore, Macquarie has forecasted China to import 39Mtpa less coal in 2015 with this to equate into a 10Mt annual fall in global seaborne exports.

“The general conclusion is that there is no other importer capable of absorbing such a large volume of material and that prices should fall to low enough levels for supply cuts to occur,” it concluded.

In the meantime Macquarie said the only safe bet in thermal coal was that the Newcastle spot price remained elevated until the JFY was settled.

“After that, there is a fair amount of uncertainty as to whether and to what extent these Glencore cuts are sustained,” Macquarie said.

“Without them, we see little to keep the Newcastle spot market at current currently elevated levels – particularly if Chinese import volumes remain as weak as they are currently.”

While Glencore is estimated to have produced 67Mt of coal in terms of equity share from its Australian mining portfolio in 2014, Macquarie said Glencore’s total managed production was more than 94Mt when including the output attributed to other joint venture parties.