Thermal Coal

Thermal coal

Norman Mbazima

Norman Mbazima
CEO

$1,230m

OPERATING PROFIT

(2010: $710m)

11%

SHARE OF GROUP OPERATING PROFIT

(2010: 7%)

$1,410m

EBITDA

(2010: $872m)

Group strategy actions

Investing – in world class assets in the most attractive commodities

In South Africa our 6.6 Mtpa Zibulo mine reached commercial operating levels in the fourth quarter of 2011, ahead of schedule, while in Colombia the Cerrejón P500 Phase 1 expansion to increase production by 8 Mtpa (100% basis) has also been given the go-ahead.

Organising – efficiently and effectively

Asset optimisation and supply chain initiatives yielded benefits well above budget, with an 80% increase in procurement from China.

Operating – safely, sustainably and responsibly

In 2011, Thermal Coal experienced two deaths across its operations, though its lost-time injury rate reached a record low. The business also won a Green award for its methane flaring project.

Employing – the best people

Thermal Coal is continuing with its drive to make the workplace a more diverse one. It continues to steadily grow the number of 'historically disadvantaged South Africans' in its management ranks.

Financial highlights

US$ million (unless otherwise stated) 2011 2010
Operating profit 1,230 710
South Africa 775 426
Colombia 482 309
Projects and corporate (27) (25)
EBITDA 1,410 872
Net operating assets 1,886 2,111
Capital expenditure 190 274
Share of Group operating profit 11% 7%
Share of Group net operating assets 4% 5%

BUSINESS OVERVIEW

Thermal Coal operates in South Africa and is a joint partner in Cerrejón, Colombia. In South Africa, Thermal Coal wholly owns and operates nine mines and has a 50% interest in the Mafube colliery and Phola washing plant. Six of the mines collectively supply 22 Mtpa of thermal coal to both export and local markets. New Vaal, New Denmark and Kriel collieries are domestic product operations supplying 30 Mtpa of thermal coal to Eskom, the state-owned power utility. Isibonelo mine produces 5 Mtpa of thermal coal for Sasol Synthetic Fuels, the coal-to-liquids producer, under a 20 year supply contract

Anglo American Inyosi Coal, a broad-based black economic empowerment (BEE) company valued at approximately $1 billion, is 73% held by Anglo American; the remaining 27% is held by Inyosi, a BEE consortium led by the Pamodzi and Lithemba consortia (66%), with the Women's Development Bank and a community trust holding the remaining equity. Anglo American Inyosi Coal, in turn, owns Kriel colliery, the new Zibulo multi- product colliery and the greenfield projects of Elders, New Largo and Heidelberg.

Thermal Coal's South African operations currently route all export thermal coal through the Richards Bay Coal Terminal (RBCT), in which it has a 24.17% shareholding, to customers throughout the Med-Atlantic and Asia-Pacific regions. Within South Africa, 62% of total sales tonnes are made to the Eskom power utility, of which the majority are on long term (i.e. life of mine) cost-plus contracts. A further 8% is sold to Sasol and 2% supplied to industrial sector consumers. The remaining 28% is exported through RBCT.

In South America, Anglo American, BHP Billiton and Xstrata each own a one-third shareholding in Cerrejón, Colombia's largest thermal coal exporter. This opencast operation currently has a 32 Mtpa production capacity (10.7 Mtpa attributable). In 2011, an expansion was approved to increase this capacity to 40 Mtpa (13.3 Mtpa attributable). Cerrejón owns and operates its own rail and deep water port facilities and sells into the export thermal and pulverised coal injection (PCI) coal markets.

INDUSTRY OVERVIEW

Coal is the most abundant source of fossil fuel energy in the world, considerably exceeding known reserves of oil and gas. The bulk of all coal produced worldwide is thermal coal, which is used as a fuel for power generation and other industries, notably the cement sector. In 2011, seaborne thermal coal demand accounted for approximately 790 Mt and was supplied from many countries, with coal producers operating in a highly competitive global marketplace.

Thermal coal usage is driven by the demand for electricity and is influenced by the price of competing fuels, such as oil and gas and, increasingly, the cost of carbon. Global thermal coal demand is also affected by the availability of alternative generating technologies, including gas, nuclear, hydro-electricity and renewables. The market for export thermal coal is further impacted by the varying degrees of privatisation and deregulation in electricity markets, with customers focused on securing the lowest cost fuel supply in order to produce power at a competitive price. This has resulted in a move away from longer term towards shorter term contracts priced against various coal price indices, which has given rise to the development of an increasingly active financial market for hedging and derivative instruments. The extent to which these pricing instruments are used, however, varies from region to region.

STRATEGY AND GROWTH

Thermal Coal is focused on supplying the electricity generation and industrial sectors from large, low cost coal basins, with a global growth strategy that targets participation in the most attractive export markets. We have a diverse, high quality asset portfolio in South Africa and Colombia and aim to continue being a long term, reliable supplier. We also actively participate in the pursuit of cleaner coal solutions for the world's energy needs through the development of new technologies in areas such as clean coal, carbon capture and storage, algal sequestration and methane-drainage flaring.

Thermal Coal is expanding its current position in the export market, while maintaining a significant position in the domestic market in South Africa. We plan to deliver on this ambition through our extensive portfolio of expansion projects, supported by targeted acquisitions.

Anglo American has approved investment into the expansion at Cerrejón Phase 1 to increase the port and logistics chain capacity to reach 40 Mtpa (100% basis). Phase 2 of this expansion project has the potential to increase production to 50 to 60 Mtpa, which may require a river diversion in order to access additional reserves. Thermal Coal is currently completing its feasibility study on New Largo, identified by Eskom as a primary coal supplier to its Kusile power station, now under construction.

In 2010, there was a marked swing from the Med-Atlantic to the Asia-Pacific market, resulting in India boosting its status as a substantial and growing market for South Africa-sourced coal. Close to 70% of South Africa's coal exports were destined for the Asia-Pacific market in 2011. In the longer term, growth in global thermal coal demand is expected to outpace growth in world energy demand. According to BP's 2011 Statistical Review of World Energy, thermal coal's share of the global energy mix rose to 29.6% in 2010, up from 25.6% in 2001 and the highest since 1970.

In October 2010, Anglo American announced that it planned to dispose of its Kleinkopje colliery in Mpumalanga, South Africa. Thermal Coal then conducted a rigorous and competitive disposal process, which took more than 10 months to complete. Despite significant initial interest in the asset, this did not translate into any acceptable offers being received by the closing date of June 2011. As a result, in August 2011, Anglo American announced its decision to terminate the sale process, and established a high-level project team to optimise the configuration of the mine to ensure its continued operation and improve performance.

In addition to developing operations in its existing geographies, Thermal Coal is constantly evaluating potential opportunities in new regions which are well placed to service its growing markets.

FINANCIAL OVERVIEW

Thermal Coal generated an operating profit of $1,230 million, representing a 73% increase on 2010, driven by stronger average export thermal coal prices. This was in part offset by industry-wide cost pressures, primarily in labour, fuel and power.

Markets

Anglo American weighted average achieved FOB price ($/tonne) 2011 2010
RSA export thermal coal 114.27 82.49
RSA domestic thermal coal 21.36 18.42
Colombian export thermal coal 101.01 72.69
Attributable sales volumes ('000 tonnes) 2011 2010
RSA export thermal coal 16,532 16,347
RSA domestic thermal coal 40,136 41,323
Colombian export thermal coal 10,685 10,461

The Asia-Pacific region started the year with severe weather interruptions in Australia and Indonesia, disrupting coal exports and driving Newcastle thermal coal FOB(1) prices to a post-2008 high of $136/t during January and averaging $121/t for the year (2010: $99/t). The earthquake and tsunami which struck Japan in March 2011 damaged the country's Pacific coast coal-fired power plants and transmission infrastructure. Although this event immediately reduced Japan's thermal coal requirements, India and China imported significantly more thermal coal during 2011, some 25% and 15% respectively above 2010 volumes, which increased overall demand in the Asia-Pacific region by approximately 8%. During the final quarter of 2011, the market weakened, as the earlier upsurge in international thermal coal prices and increased exports from Indonesia softened demand. Australian FOB prices subsequently stabilised in December at $110/t.

The Med-Atlantic region was impacted by the political upheaval and ensuing geo-political tensions that affected several North African and Middle Eastern countries, which led to an increase in global energy prices and improved thermal coal's competitiveness compared with gas-powered electricity generation. This was a contributing factor to a forecast 8% increase in thermal coal imports into the Atlantic region during 2011 and added support to South African FOB(2) export prices, which averaged $116/t in the year (2010: $92/t).

A warm start to the northern hemisphere winter, continued economic uncertainty within Europe and increased exports from the US, Colombia and South Africa adversely affected market sentiment during the fourth quarter. This placed pressure on seaborne thermal coal prices, which for South African exports settled at $104/t (FOB) during December.

Operating performance

Attributable production ('000 tonnes) 2011 2010
RSA thermal coal 21,388 21,612
RSA Eskom coal 35,296 36,403
Colombian export thermal coal 10,752 10,060

South Africa

Operating profit from South African operations increased by 82% to $775 million, driven by higher export thermal coal prices, although partly offset by the impact of the stronger rand, particularly in the first half of the year. Costs were impacted by industry- wide increases in labour, power and fuel, as well as additional stock management costs following train derailments during the first quarter. These were compounded by a 20 day extended maintenance stoppage during May and June 2011 on the railway line to RBCT. Export sales volumes were also similarly affected in the first half. However, export sales recovered during the second half of the year as optimised load out efficiencies on the operations complemented improved Transnet Freight Rail performance.

Production for the year decreased by 2% to 57 Mt. Zibulo moved from project to operational phase during the fourth quarter of 2011 as a result of some sections opening ahead of schedule. These gains were offset, however, by heavy rainfall in the first quarter that hampered the opencast operations as well as geological issues at certain underground operations. In addition, production was impacted by industrial action in the third quarter.

Colombia

At Cerrejón, operating profit of $482 million was 56% higher, primarily due to higher thermal coal prices and production offsetting the impact of above inflation cost increases and a strong local currency. Record production was achieved despite the continuation of the rain-related stoppages associated with the La Niña weather phenomenon. Although rain related stoppages were approximately double the forecast, there was an improvement on 2010. This improvement, in combination with mining efficiencies and scheduling, enabled Cerrejón to exceed its theoretical production capacity of 32 Mtpa for the first time, resulting in a 7% increase in production year-on-year.

Projects

The 6.6 Mtpa Zibulo mine in South Africa reached commercial operating levels in the fourth quarter of 2011, ahead of schedule.

Also in South Africa, the New Largo project, currently at feasibility stage, has two main elements: a new opencast mine and a conveyor which will run from an existing coal plant to an Eskom power station. The operation plans to mine domestic thermal coal and Thermal Coal is currently negotiating a coal supply agreement with Eskom for delivery into its Kusile power station. Initial coal from the mine is expected in 2015.

In Colombia, Phase 1 of the Cerrejón P500 expansion project, to increase production by 8 Mtpa, was approved by Cerrejón's three shareholders in the third quarter of 2011. First coal is targeted during the fourth quarter of 2013, with the project expected to achieve full production at the end of 2015. As at the end of 2011, the project was on schedule and on budget.

Outlook

The international seaborne thermal coal market is expected to remain in balance during 2012, as increased supply from the main exporting countries of Australia, Indonesia and Colombia is consumed by the developing Asia-Pacific economies, aided by Japan's recovery from the recent natural disasters. Growth in thermal coal consumption is expected to continue in both China and India, reflecting rising energy demand as their economies grow strongly.

In Europe, demand for thermal coal is expected to be consistent with 2011, with minimal demand growth in line with forecast weak GDP growth in the region.

The Atlantic market is expected to continue to see the impact of strong US thermal coal exports in reaction to the increasing supply of US domestic gas and low US gas prices.

(1) GlobalCoal's NEWC index price.

(2) Argus/McCloskey API4 Index.