Narrabri’s Faults Dog Whitehaven Coal

This story features WHITEHAVEN COAL LIMITED. For more info SHARE ANALYSIS: WHC

Whitehaven Coal has been unable to take full advantage of strong coal prices as it encounters further faulting at Narrabri

-Narrabri faults drag production/sales lower
-Similarly difficult June quarter likely
-Yet longer term cash flow projections are intact
 

By Eva Brocklehurst

Problems affecting the coal seams at Narrabri have again reared up for Whitehaven Coal ((WHC)). The company has experienced two weeks of lost production and damage to the longwall that requires a further two weeks of downtime for repairs.

Furthermore, damage to the major port of Newcastle caused by floods has also meant production and sales were weaker than expected in the March quarter. The company has lowered FY21 guidance by -3% to 20.6-21.4mt.

Guidance for Gunnedah and Maules Creek is unchanged while Narrabri production has been downgraded to 4.5-4.9mt. Cost guidance has increased to $73-75/t from $69-72/t. This was not the company's finest quarter, Shaw and Partners asserts. Yet the broker does not believe the issues at Narrabri are irreversible and the negative impact on pricing is not permanent.

Shaw suspects Narrabri will not be performing at its best into year-end while upside is around a year away. Citi also envisages more operating disappointments for Narrabri over the next year, assessing Whitehaven Coal is a deep-value play but not for the fainthearted.

Macquarie increases forecast losses for FY21 to -$62m and remains cautious about the outlook for thermal coal, although acknowledges there is upside to estimates in a spot price scenario.

The broker also points out Whitehaven does not sell a large amount of thermal coal to China and therefore its volumes have been less affected by Chinese import restrictions on Australian coal.

Yet the import restriction has negatively affected the price for 5500 calorie thermal and metallurgical (coking) coal. The issues at Narrabri have meant an increase in low quality coal sales which, in turn, means the discount to benchmark prices has increased to -12% for thermal coal.

Narrabri

A downgrade to production guidance at Narrabri follows a previous downgrade in February. Cost expectations have also increased. Given lower production in the March quarter Whitehaven drew down on inventory in order to boost sales.

The Narrabri longwall has experienced persistent faults since November, damaging equipment, and there is a corresponding impact on Whitehaven's earnings, just as the company should be enjoying a spike in quality coal prices.

Morgans downgrades estimates for FY21 by -30% on a combination of lower revenue and higher costs. Confidence has taken a hit as well and this risks Narrabri's value being discounted until production and costs have stabilised.

Still, the broker considers the stock oversold as the market is inferring zero value for Narrabri, which is an overstatement of the issues. A -20% cut to second half output Narrabri will hit cost guidance by -5% in FY21 and this also includes the need to refurbish key components because of wear and tear.

Hence, the June quarter appears similarly difficult although the company expects improvements in FY22 because of better drilling delineation of seam structures. The broker believes those looking at the fundamentals will discount profitability until at least the technical issues are ironed out.

This also delays the potential for any upside to the dividend. The company will also be unable to fully leverage the spike in prices until the shallow mining in the longwall panel 203 is achieved, in around 18 months.

Both Bell Potter and Citi agree this move should substantially de-risk production. Mining at Narrabri will move to longwall 110 early in FY22, adjacent to the problematic 109 currently being mined. Still, this is a deep and geologically complex position.

On the other hand, Maules Creek is operating to plan and providing some offset, although sales were affected by floods and infrastructure outages that resulted in elevated stockpiles of 1.96mt.

Pricing

Morgans is less concerned about the lag in exposure to higher prices, although it is obvious that the company will now have less tonnage to place in the high-value market. Quarterly saleable coal was 4.2mt. Metallurgical coal accounted for 20% of the production in the quarter and the company reported realised prices of US$96/t. This was 32% above the second quarter.

Goldman Sachs explains thermal coal price realisations were -15% below the average spot price of the quarter because of lags in pricing and higher ash coal from Narrabri. Around 50% of Whitehaven Coal's thermal product is sold on a lagged basis and the broker expects further discounts compared with benchmarks in the June quarter.

Goldman Sachs calculates the company is currently pricing in a long-run thermal coal price of US$60/t at an Australian dollar of US$0.70. This compares with its long-run assumptions of US$67/t for  6000cal coal ex Newcastle and spot prices at around US$90/t.

All up, the broker believes de-gearing and cash flow projections are intact. Whitehaven is targeting $500m in net debt before being on the hunt for greenfield acquisitions. The broker is positive about the outlook for coal markets in 2021 because of improving seaborne demand and constrained supply.

Morgan Stanley agrees conditions should improve from the second half of FY22 and finds the stock compelling in terms of cash flow. Moreover, spot prices imply near-term deleveraging and any prolonged weakness in the share price is considered a buying opportunity.

Among those stockbrokers not monitored daily on the FNArena database Goldman Sachs has a Buy rating with a target of $2.10 while Bell Potter has a $2.25 target and a Buy rating. Shaw and Partners has a Buy rating with a $2.50 target. The database has five Buy ratings and two Hold. The consensus target is $1.94, signalling 33.1% upside to the last share price.

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