Geo Energy: Update after China’s crackdown on coal part 2

I have underestimated the Chinese government. They have been a lot more successful in bringing down coal prices than I expected. In my previous post of Geo Energy on 28 Oct 2021, ICI4 futures were around USD 70 per ton for 2022. They are now at around USD 45 per ton for 2022.

However, the Chinese government is unlikely to push prices down too much as they will have another problem if the Chinese coal mines go bust. In fact, Reuters reported that the Chinese government told miners and power plants that prices should not fall too much too fast, and that prices should remain at a “reasonable” level. In essence, they are determined to ensure prices are in a range for miners and power plants to both be profitable, rather than one party reaping a windfall and the other making terrible losses. This is understandable. It has to be this way in the long term. My guess is that the Chinese government will eventually force it back to a more historically normal range of around USD 35-45 per ton.

So the days of supernormal coal prices are probably over. Geo Energy has at least rode the wave well, making insane profits in 2021. More importantly, management has not squandered the windfall. They have wisely used the flood of cash to clear off all its debts, give out dividends, and set aside a warchest for potential profitable investments in renewable energy.

A much stronger balance sheet

While the operating environment might soon go back to business as usual as it was before COVID, Geo Energy is not coming back the way it used to be. Geo Energy is now a different, much stronger self. In just a couple of years, it has paid off all its expensive 8% interest bonds and no longer has any interest expenses to pay for. It is now debt free and cash rich.

Cash as at 9 Nov 2021 has taken into account the dividend to be disbursed at end of Nov 2021

Geo now trades at $0.30 per share after going ex-dividend. My view is that the market hasn’t given enough recognition to this improved financial position. This is roughly what you get for investing in Geo Energy at $0.30 per share. Looks quite good to me.

Based on assumed 11.5m ton annual production and cash profit per ton in past quarters

A potential privatization candidate?

This is of course just speculation, but there is a possibility of privatization since the Chairman Charles Antonny Melati seems quite optimistic about future prospects. The three bosses of Geo Energy (Charles Antonny Melati, Huang She Thong, and Dhamma Surya) collectively control about 42% of the group. They have received about $24m of dividends for the first 9 months of 2021 alone. With the high level of cash in bank, no outstanding loans, and still robust cashflow projections, these bosses could well be tempted to privatize Geo if the share price goes lower.

Other notes

This section is just to document some thoughts and information, in case they be useful in the future.

Fossil fuels are here to stay

Green energy will increase substantially, but will only complement rather than replace fossil fuels energy. This is because unlike coal/oil/ gas that can be burned on demand, green energy is produced when the weather conditions are favourable, and have to be stored in batteries or used immediately. Currently, fossil fuels are the primary energy source of grids. All the green energy is used and the power plants react by burning more/ less fossil fuels to make up the difference.

If green energy is to become the primary (or only) source of energy, then a crazy amount of batteries are key to ensure a stable supply. Just take the winter season for example. Solar panels will produce less energy, yet demand will spike up due to heating needs. Is there enough nickel/ cobalt/ lithium/ tin to make that many batteries? Can the supply chains and factories make that many batteries? The demand of batteries for EVs are already causing these minerals to spike in prices. We are a long way from having enough batteries to power the whole of Beijing, let alone China or the world. Because of the storage problem, green energy will not replace, but be complementary to fossil fuels for decades to come.

So I am quite doubtful about these big promises over net zero. It is quite impossible to achieve. These politicians talking big at the climate conference are just making promises for others to fulfil decades later. Almost all of them will not be in power (or even still be alive) by then! A lot of talk about what their country will achieve 30 years later. But not much details about what they are going to do now and in the next few years! For the sake of future generations, my view is that we should be focusing a lot more on carbon capture technologies than we currently are now.

China and India will stick with coal for decades

Among fossil fuels used to power electricity grids, you will notice a trend. Middle east uses mainly oil because they have a lot of oil. USA and EU uses mainly gas because they have a lot of gas. China and India use mainly coal because they got a lot more coal than oil/ gas. Countries do this not just because it is cheaper to use domestic resources, but also for national security so that they wont be too dependent on other countries. China’ s produces most of the coal it consumes, but produces only 13% of the oil it consumes.

With coal being the key source for power grids in China and India, we can expect coal demand to continue increasing in the next few years. One thing is that these are big countries with fast growing economies and hence demand for energy. The other thing is that China and India are pushing hard for EV sales. Already, more than 40% of electric vehicles in the world are sold in China. When drivers in China and India switch from diesel vehicles to electric vehicles, they are effectively switching from oil to coal to power their cars, because the country’ s power grids use mainly coal.

China is likely to continue importing coal

All along, China has had enough coal production capacity to do away with imports. But the problem with China coal is that, while plentiful, they are of low quality. For the same amount of energy, China’ s coal has a lot of sulphur and ash content. These are the things that cause smog, especially sulphur which causes a lot of eye and lung irritation (you cant see or smell carbon dioxide. Smog is ash and other impurities). So what Chinese power plants have done is to mix their domestic coal with imported coal which has less impurities so that the overall pollution is less. Geo’ s coal from their main SDJ and TBR mines are considered high quality with low sulphur and ash content. This type of coal will remain in demand unless China suddenly decides to live with a terrible smog.

Open pit vs underground mining

There are generally 2 types of mines – open pit and underground. Geo Energy’s mines are open pit mines. In China, open pit coal mines are commonly found in Inner Mongolia, whereas Shaanxi’s mines are mostly underground.

Open pit mines are those which are basically a giant hole in the ground. It is open to the sun and rain, and you can have 10 excavators driving around the mine. Open pit mines can be scaled up easily. If you want to mine more, you can always send in more equipment and workers easily. This is not the same for underground mines, which are the kind if mines that requires you to go through a tunnel (like the one in Snow White and the Seven Dwarves). Underground mines are used to mine stuff that are very deep beneath the earth. In order to increase production in an underground mine, you need to first create more space to fit in more equipment and workers. That requires a lot of additional drilling and infrastructure.

Open pit mines are also relatively safer than underground mines. Whenever you hear of miners being trapped, it is always because of underground mines. Landslides, earthquakes, and flooding can easily disrupt underground mining operations and even lead to deaths of miners.

The key drawback of open pit mines though, is that they require a lot more initial capital outlay – to remove the trees, rocks and soil before you get to the coal/ ore. These things that are on top of the coal or ore you want is called overburden. And the many millions spent of removing the overburden will be capitalised as an asset called “deferred stripping costs”. This will be amortised throughout the mine life as a non-cash cost.