Coal find could be too hot

Coal miner White Energy is trading below its net cash worth … but is it too hot to touch?

PORTFOLIO POINT: White Energy is being valued at less than the amount of cash it has in the bank. But cash flow issues are a sticking point.

With coal prices reflecting an ‘on-the-nose’ status, we thought we’d shed some insights into our thinking and reveal that we’ve been scouring the sector in the hope of uncovering a hidden (more accurately dumped) gem. 

You can be the judge of whether we’ve discovered anything interesting.

The amusingly named coal company, White Energy (ASX: WEC) has, in less than two years, seen its market capitalisation decline 90% from well over $1 billion to under $100 million currently.

White Energy differentiates itself from its peers by “taking coal into the future as a cleaner and more efficient fuel”.

The company leads the “global development in an increasingly important part of the energy sector”, as its BCB technology is capable and proven to unlock the value of high moisture, low-grade coal resources to produce an export quality upgraded product.

White Energy’s intention is to take a direct equity interest in some of these “low economic value” mine sites.

The company’s board includes, Travers Duncan and Brian Flannery. The two control 20% of the company, and although they arguably bought in around the peak of the company’s share price, they have had enormous success in the past (reported to have pocketed $500 million each) as owners of Felix Resources – a coal company that was ultimately taken over by ‘Yancoal’.

A canter through the Appendix 5B, Mining Exploration Entity Quarterly Report, reveals a cash balance of $139 million at June 30, 2012. Deduct the $25 million of convertible notes with a $3.22 per share coupon maturing in October 2012, and this would theoretically leave the company with $114 million of net cash as there is no external debt.

Are investors willing to pay $0.30 to acquire WEC shares, when they offer a cash balance of $0.35 per share (on the 323 million shares)?

Or will investors avoid WEC, believing the poor results and negative cash flow will continue, and the cash balance will eventually be eroded to zero perhaps?

Before we look at the factors leading to the 90% decline in the market capitalisation of White Energy, it is worth considering the cash flows over the 10 years to June 2011.

White Energy 10-year cash flows
Aggregate net profit after tax-$84.9m
Aggregate cash flow generated from operations -$89.7m
Aggregate cash flow from investing activities-$180.4m
Aggregate cash flow after investment-$270.1m
Aggregate other financing activities-$10.3m
Estimated funding gap-$280.4m
Equity capital in$344.9m

*Source: Skaffold

In summary, shareholders of WEC have kicked in $345 million of capital in the past decade, and $280 million of this has been spent on operations, investing and financing.

And operationally things got a whole lot worse in the two-month period between the release of the 2011 annual report and the company’s 2011 annual general meeting (November 29) when the company experienced an extraordinary shock with respect to its 51% Indonesian subsidiary PT Kaltim Supacoal (KSC). 

PT Bayan Resources, the 49% owner of KSC, had announced it would stop supplying coal to the joint venture, which it claimed was uneconomic.

A further $44 million of cash flow walked out the door in the year to June 2012. The only saving grace is that management – to its credit – has reacted accordingly, and this figure was “only” $5 million in the June 2012 quarter.

Going back to its results presentation, released in September 2011, WEC announced KSC had successfully stockpiled 15,000 tonnes of “upgraded” coal at Tabang without issues related to moisture re-absorption.

At the same time, considerable progress had been made with respect to engineering modifications at the Tabang plant, which were “95% complete”.

Suddenly, based on higher input coal input prices, Bayan had advised White Energy that the additional costs associated with the upgrading of the Tabang run of mine coal may no longer deliver acceptable economic returns for KSC. Further, Bayan demanded White Energy purchase its 49% equity interest in KSC for around US$45 million.

With the modification work nearly complete and the ongoing coal supply by Bayan to KSC no longer assured, the Tabang plant had effectively become “a stranded asset”. White Energy is now suing PT Bayan Resources in the Singapore High Court. 

In the meantime the company has shifted its focus to South Africa, in the hope of turning big deposits of coking coal “fines” into briquettes for power generation. Given an absence of any reasonable revenue generation to date, the market is skeptical of the White Energy briquetting technology after the collapse of the Kaltim Supercoal joint venture.

White Energy does not meet Montgomery’s quality requirements. If I were attracted by the possibility of buying $0.35 of net cash for $0.30, and was willing to back a management team with some serious runs on the board in the past, I would first want to see a positive quarterly cash flow announcement (Appendix 5B) or two, before considering it.


Roger Montgomery is the founder of Montgomery Investment Management and author of Value.able – How to Value the Best Stocks and Buy Them for Less Than They’re Worth, available exclusively at www.rogermontgomery.com

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