Being reasonable about coal

Ian Page – 2021.07.30

I have been reading a techno economic analysis of the various IEA and IRENA projections of the future of coal under various scenarios. Basically, a lot of it is going to turn into stranded assets and this will have major implications on jobs, towns, countries, and trade routes.  I don’t want to go into the details, which are quite complicated, however I did want to think about the situation from the point of view of the 3 horizons and climate change.

Front point of view of climate change, the sooner we get rid of all coal the better.  From the point of view of 3H, we need to transfer income and resources from coal to renewables but that means that coal needs to be profitable during the transition.  US statistics show that more people are employed in wind and solar already than coal but perhaps salaries are not as high? From the point of view of pension funds, which generally are not under the control of pensioners, we want a profitable exit from coal, which would normally mean that someone actually wants to buy the coal assets. If no one wants to buy them the pension fund value decreases. If someone buys them it doesn't solve the climate problem. From the point of view of coal exporting countries, they need to replace the loss of foreign currency and often foreign investment. Coal importing countries want to replace the coal use with a cheaper and preferably external currently light alternative.  All these perspectives generate a lot of confusion over what to do.

However, there are two ways to think about it. Normally we all approach life with a sort of economic evaluation of spending priorities. This is the normal basis of the numerous Techno Economic analyses that result in a relatively slow transition. However, we have an alternative mode of behavior - If we hear a meteorological office forecast a red warning of floods in a few days’ time, we don’t think about a techno economic analysis but how we can spend money to save our home. I think that is why technoeconomic analysis often underestimates the rate of change in rapidly changing and quite unpredictable circumstances.

So, starting with the second way of thinking the way forward seems to be …

1. No new coal mines

Given the life of a coal mine as decades, it is most probable that within a decade the demand for coal will be dropping and with it the potential sale price of the coal. It is most likely to be closed well before it returns its investment. Thus, it doesn't make commercial sense for a mining company to open a new mine. It will probably have a higher cost of production anyway and so will be the first up against the wall when the revolution comes.

Here the financial interests of pension funds investors and the mine owners seem to be aligned. Coal exporting countries might have a political desire to subsidize new coal production to create jobs, or support a steel industry, which needs to be resisted.

2. No mine extensions

Many mines have additional resources nearby which would reuse many existing assets. It’s a relatively cheap way of extending the life of the mine complex, however as in 1 above expenditure would need to be paid off very rapidly to avoid stranded assets and losses. There is obviously a continuum of investments here. An investment that is repaid in 12 months and then gives 7 years of profits is tempting but not what we need to achieve the climate goal.

3. Eliminate any significant investment or large machine repairs in existing mines

I have read that few mines actually reach the lifetime that the original investment projections were based on. This is because at some point late in life some very expensive bit of machinery breaks or an open cast mine collapses or one of a large number of other terminal events occurs. There’s not enough life left to make sorting it out worthwhile so the mine closes.

This all has a very interesting effect. If a mining company follows this non-investment policy, instead of its usual resource replacement policy, its profits go up until the resource runs out when the company closes. This maximizes return to shareholders of the existing assets, and results in no additional calls on loans or shareholder funds, which would be expensive anyway since investors generally are not stupid. (I may be wrong there based on the stupidity level of Wall Street investing over 600 billion dollars in shale with zero return!) It also achieves climate goals cost effectively and provides the profits to transfer to H3.

There is an issue with remediation. Mines usually make a real mess which can lead many years later to tailings dam collapse or aquifer poisoning. Any plan to deal with this usually assumes that the mine is active and profitable in perpetuity (an easy if wrong assumption for management who won't be there then to make). This will also be a demand on the investment funds we need to transfer to H3 so there will be things that can be done as the mine is being run down to reduce the drag on the transition.

It's only a guess but this approach would achieve quite a rapid and predictable drop in coal mining and resulting emissions, an increase in coal prices to make the remaining mines more profitable, and to encourage the transition of coal users to renewable resources, while also maximizing the return to shareholders.

Obviously, we would prefer to close all the mines today but that would reduce the income available to invest in renewables, and it’s not going to happen anyway.

It's also better than mining companies selling mines like hot potatoes to suckers who no doubt would buy with borrowed money and be under pressure to find financially creative ways to keep their investors happy and loans funded. This is the shale oil scenario with banks and investors locked in, unable to exit as this would reveal the zero or negative value of the loans. This could keep mines open for a decade or more unnecessarily.

There is probably additional policy action to get rid of the existing mines and threatened policy action to make investing more in coal mines that have a potentially long life look increasingly risky.

This "maximize return by not investing any more in replacement" strategy works for oil, gas and nuclear too with perhaps different timescales.