Wednesday, November 20, 2019

Geo Energy - Continuation of Perceived Weakness in The Near Future

Geo Energy is one of the top leading coal producers which has presence all across Indonesia.

What the company does is actively to seek new acquisitions to grow and increase the number of existing coal reserves they have while controlling the production of their coals during periods where coal prices are weak.

Recent M&A is very accretive

Their recent announcement for the acquisitions of PT Titan Global Energy is a testament that they are expanding the geographical lead presence in different parts of Indonesia by looking for cheap M&A where they can both did accretive acquisitions and at the same time average down their coal reserve. The current M&A set up is that accretive such that their average costs for the newly takeover coal reserves are down to only USD0.57 / tonne, which is a significant discount to the latest battered ASP of USD33 / tonnes.

Having said that, there seems to be minor delays in completing the acquisition due to some regulatory which they have to sort out.

Financial Performance FY2019

Their results this year has not been as stellar as the previous year.

In fact, it is struggling so much that they are making losses after losses and in the 3rd Quarter, net loss ballooned to over $11m in one quarter alone.

This was mainly due to weak coal prices based on the ICI index which dipped to US$33/tonnes in the 3rd quarter, which is down from US$37.5/tonnes in Q2 and US$41.5 in Q3FY2018.

The only saving grace was that their production costs tend to typically falls around the US$30/tonnes mark, so from a cash profit between ASP and Production costs, they are at least still profitable and are churning out operating profits from the business.

Still, with fixed and non-operating costs to be factored in, the company will have to sell at a much higher margins in order to cover their other costs.

Offtake Arrangement

One particular thing I like about Geo's business model is that they tend to do an offtake arrangement with trading companies or their JVs before they mined their coal supply.

It is an arrangement where contracts and agreements are signed, prepayments are received, then they will start arrangement on how much mining supply is required. The mining activities is sub-conded to PT BUMA.

Their recent successful offtake arrangement deals with Macquarie on their TBR means they have a prepayments and more financing facility available on hands to tap on, in exchange for an equity plus warrant swap.

Company declared good dividends during good times

Management declared an interim of 1 cents and a final of 0.4 cents in FY2019, which translates to a total of 1.4 cents or close to $20m from a cashflow point of view.

This was during the good times when coal prices are doing well and margins are higher.

With this year the company moving into losses, the interim was suspended and you begin to wonder if the dividends last year was a one-off incident.

While the company has a cash balance in their book of around $184m, and another $20m or so in their other liquid restricted assets, they do have close to $290m in their liabilities due to the MTN issued, which they have to pay $6m per quarter in coupon interests. Annualizing these interests costs, the company would have to pay $24m in a year, which translates into 800,000 tonnes of coal that they have to sell just to break-even (if we assume the production costs of US$30 / tonnes.

The question is then directed into how accretives are those acquisitions that they keep doing by using MTN to finance.

Can we predict the financial performance of Geo?

Coal, being a commodity, is impacted by many variables which is probably difficult to predict given it's a worldwide used commodity.

The recent regulations surrounding China's regulatory control over imports of low grade coals have impacted them quite a bit as their coals are typically thermal 4200 low calorific which is meant for electricity usage.

The higher grades of the coking coal, which is typically used to make steel and nickel, are much more expensive to produce, and are more commonly in demand for electricity vehicles or to make infrastructure.

The recent heavy rainfall in Kalimantan is also affecting the production supply of coals which makes things more volatile in nature.

Geo's performance is very heavily correlated to the coal price index, and it's a lagging indicator that we can see every time coal prices move in one direction, Geo's performance (and share price) would follow suit the next quarter.

With this in mind, it is probably not the right time to buy the company yet as the management has guided for the next 2 quarters to remain subdued for coal prices.

Thanks for reading.

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