Floods Hit Key Coal Area

Severe flooding in Australia has interrupted coal production, pushing up prices and threatening to constrain worldwide steel output and lead to higher steel prices in some parts of the world.

Torrential rains in the northeastern state of Queensland, the world's biggest exporter of seaborne coal, have idled dozens of mines and shut rail lines and roads needed to transport coal. The floods have already cost coal companies an estimated $1 billion from lost production, according to the Queensland Resources Council.

In recent weeks, Queensland-based Macarthur Coal Ltd., St. Louis-based Peabody Energy Corp., and the world's biggest miners, Rio Tinto, BHP Billiton and Brazil's Vale have declared force majeure, which frees them from contract liability for not shipping coal due to extraordinary circumstances.  

Roughly 98 million tons of annual steelmaking-coal capacity, equal to 73% of such coal exported from Queensland, is under force majeure, according to Curt Woodworth, an analyst with Macquarie Capital in New York. That is about 37% of the annual, global seaborne supply of coal used by steelmakers.

Prices for steelmaking coal have already shot up 10% on the spot market to about $250 a metric ton, say analysts. "If the infrastructure issues continue, clearly prices are going to continue to head upward," said Jeremy Sussman, an analyst with Brean Murray, Carret & Co.

The impact of the production halts is greatest in China and the rest of Asia, which depends heavily on coal from Australia to make steel and feed electric utilities. Also affected will be buyers around the world who rely on Asian steel.

Integrated steelmakers, who produce steel by melting raw materials such as iron ore and coal, have already been hit by rising iron-ore prices. With relatively weak demand, those steel producers may not be able to raise their prices to offset higher raw-materials costs. Steelmakers such as U.S.-based Nucor Corp. that melt recycled steel, rather than coal and iron ore, won't be impacted.

"The beneficiaries of these trends – besides the coal companies – will likely be the global and domestic steel electric-arc furnace producers, where there is zero exposure to higher coal prices," said Michelle Applebaum, a steel analyst with researcher MAR Inc.

Some steelmakers, such as U.S. Steel Corp., are likely to benefit indirectly because they rely on North American coal. ArcelorMittal, the world's largest steelmaker, doesn't source much of its coal from Australia and is likely to not feel much of a ripple effect on its steel costs, at least in the short term.

The hit to supply is boosting prices for top grades of steelmaking coal, called hard coking coal, which fetched $225 a metric ton prior to the floods. Prices are expected to reach $300 a metric ton in the next few weeks when the next quarterly contracts are settled.

The higher prices and scarcer supply of coal could cause steelmakers to cut back on production, which in turn could lift prices for steel imports, analysts said. As of Tuesday, some floodwaters had begun to recede in areas of Queensland, but companies had yet to lift their force majeure declarations.

The supply disruption in Australia is also expected to help push up prices for thermal coal, a type used by utilities, even though Australia supplies only about 3% of the world's thermal coal.

In recent weeks, unseasonably cold temperatures throughout Europe and elsewhere have driven up demand for coal used to make electricity.

Coal industry experts said it will be difficult for Australian miners to make up production lost to the floods, because infrastructure capacity is already so tight even in normal times that there is no surge capacity to make up lost tons.