South32’s Dendrobium decision highlights increasing investor pressure on metallurgical coal projects

South32 has abandoned its plan to extend development of its Dendrobium metallurgical coal mine in NSW as it eyes an investment shift towards “metals critical to a low carbon future.”

The company stated that “expected returns from the ~$US700 million up-front capital expenditure estimate are not sufficient to support an investment relative to alternatives.”

This demonstrates the increasing difficulty in getting metallurgical coal projects off the ground.

Thermal coal isn’t the only coal type being shunned by investors

Thermal coal isn’t the only coal type being shunned by investors. Metallurgical coal is also now feeling the pinch and such projects need to offer very attractive returns in order for them to be worthwhile takin heat from investors on climate concerns.

South32’s decision also helps explain why Tata Steel’s managing director spent time in Australia recently discussing his concerns about a lack of investment in metallurgical coal mines.

Investors increasingly concerned about metallurgical coal

South32 has been warning about investors views on metallurgical coal for some time.

In 2021, the company elected not to proceed with the Eagle Downs metallurgical coal project in Queensland. South32 CEO Graham Kerr stated, “The reality is the world’s view on met coal has actually changed” whilst highlighting that the forecast returns on the project were not attractive enough to offset the criticism it would receive for starting a new coal mine.

Kerr also said that investor concerns about metallurgical coal “have got louder quicker than I would have expected” and of investor meetings “I would say in 80 per cent of our meetings people ask questions about met coal.”

South32 is now attempting to find a buyer for its stake in the Eagle Downs project – which it owns along with Chinese steelmaking giant Baowu - but has so far failed to elicit any acceptable bids.

The Dendrobium decision closely follows BHP’s announcement that it is pausing investment in metallurgical coal projects in Queensland following the state government’s decision to change royalty rates. However, this can be seen as part of a coordinated attack on the state government’s decision by the coal industry, including from the likes of the Queensland Resources Council and Whitehaven Coal.

Steel technology transition could happen faster than expected

The likes of BHP and Tata Steel insist that lower-emissions steel technology such as hydrogen-based direct reduced iron (DRI) are decades away. As such, they state that metallurgical coal will be needed into the long term despite investors increasing reluctance to back it.

BHP believes that the majority of steel will still be made on coal-consuming blast furnaces in 2050. The company highlights that there isn’t enough high-grade iron ore in the world to support a switch from blast furnaces to DRI, a view that conveniently backs it metallurgical coal mines.

However, BHP’s 2021 annual report highlighted that “as governments, institutions, companies and society increasingly focus on addressing climate change, the potential for a non-linear transition and the subsequent impact on opportunities and risk increases.”

Technology developments are already underway that increase the chance of a “non-linear transition

Technology developments are already underway that increase the chance of a “non-linear transition.”

A few weeks ago, IEEFA published a report outlining how new steel technology developments will help get around the high-grade iron ore supply issue by allowing DRI processes to use more plentiful blast furnace-grade iron ore.

Thyssenkrupp is planning a new steelmaking route that adds a submerged arc furnace (SAF) melting stage after DRI production. The company’s plan is to replace four blast furnaces with new DRI-SAF technologies by 2045, with the first two to be replaced in 2025 and 2030 respectively. The proposed technology configuration will allow Thyssenkrupp to use blast furnace-grade iron ore pellet in its DRI processes.

Global steel giant ArcelorMittal is looking at a similar technology route that could allow wider and faster uptake of DRI processes that don’t use metallurgical coal.

BlueScope is also investigating a DRI plus melter steelmaking route to allow the use of lower-grade ores. In October 2021, the company announced an MoU with Rio Tinto to investigate technology that would allow the use of Rio’s blast furnace-grade Pilbara iron ore in DRI processes.

Rio exited the metallurgical coal sector in 2018.

BlueScope’s project is not as advanced as Thyssenkrupp’s which may announce a final investment decision on its blast furnace replacement before the end of this year in order to hit its first 2025 target.

For now, BlueScope’s focus remains on relining an existing blast furnace. The company publicly backed the proposed Dendrobium expansion, stating that the project was “critical” to the survival of its Port Kembla steelworks.

Dendrobium will still be able to supply coal until 2028 - perhaps slightly longer. But BlueScope warned that it may have to spend A$150 million on new coal berths at Port Kembla and incur additional logistics costs of A$50-$100 million/year if coal from Dendrobium and other nearby mines in the Southern Coalfield was no longer available.

In the longer term, steelmakers like BlueScope are likely to see significantly higher coal costs if investors continue to shy away from mine investment.

Higher coal costs will only bring forward the date at which alternative steelmaking technologies like hydrogen-based DRI become cost-competitive.

South32 believes the replacement of met coal with hydrogen is two decades away. However, the chances of a faster-than-expected steel technology transition away from coal are increasing.