Insights for Investors by Investors

Shipping coal, but doing it net-zero. Come again?

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Is this greenwashing, or simply a business trying to ensure that its operations are conducted as responsibly as possible?

Dalrymple Bay Infrastructure Limited (ASX: DBI), which listed in December 2020, is a unique business; it operates a major infrastructure asset – the Dalrymple Bay Coal Terminal on the central Queensland coast – that ships coal for export.

That’s all it does.

Last month, DBI announced that it had secured an electricity sale agreement, with 100% renewable benefits, through buying large-scale generation certificates (LGCs), to take effect from 1 January 2023, for an initial eight-year term.

This was reported in the renewable-energy media as DBI “going to 100% renewable electricity,” but it is important to remember that these renewable consumption figures are not meant to be literal: the company isn’t going to be “100% renewable powered” – it will still be accessing its electricity from the grid.

Instead, DBI will acquire, and will voluntarily surrender, LGCs created by its partner, CleanCo Queensland Limited, a Queensland Government-owned renewable generator and retailer. CleanCo is expected to source those LGCs in the first instance through its arrangement with the Western Downs Green Power Solar Hub, which is expected to be commissioned in late 2022, and subsequently, the MacIntyre Wind Farm, which will be commissioned in 2024.

As Western Downs and the MacIntyre Wind Farm generate power and export it into the grid, CleanCo will create LGCs. The entity that buys, and then surrenders these LGCs to the Clean Energy Regulator – that is, DBI – is the entity that is deemed to be the user of the renewable electricity that is fed into the grid.

There won’t be a renewable energy plant next door to the terminal – DBI will still obtain all of its electricity from the grid to power all the electricity for the conveyers and loaders that transfer coal from trains into holding yards and then onto the ships that are docked – but from 2023, DBI will be able to say that it has the equivalent amount of electricity that it uses from the grid created from renewable sources (that are all feeding their electricity production into the grid) and allocated to it through the LGCs.

It is different to using offsets, but it has the same effect, in that DBI will be able to “account for” all the grid electricity it uses, through the LGCs it buys and surrenders.

In this manner, DBI will meet a crucial plank of its sustainability strategy, in terms of its energy use, in negating the emissions generated by the electricity it uses, and can be in a position where it can say that it is conducting its business sustainably.

That business being the shipping of coal for export.

But don’t rush off to tar-and-feather DBI for this.

As DBI takes great pains to point out, the great bulk of that coal is metallurgical, or coking coal, which is steelmaking coal – and the need for steel is not going away anytime soon.

To a large extent, steelmaking coal demand is underpinned by the fact that the dominant technology for reducing iron to make steel is the blast furnace which processes iron ore and metallurgical coal, and produces most of the world’s steel, even though it is an emissions-intensive method.

Despite growing use of electric arc furnaces (EAFs) in recent years – which use scrap steel, and are lower in emissions – and direct reduction iron (DRI)-fed EAFs, the basic oxygen furnace (BOF), or “blast furnace” process, which uses iron ore and steelmaking coal, remains the dominant steelmaking process. The great bulk of China’s steel production, for example, requires advanced high-strength steel, which cannot be manufactured by EAF.

The production of advanced high-strength lightweight steels used in auto manufacturing, construction and for infrastructure such as wind turbines requires tight control of steel chemistry, which can currently only be achieved with BOF. According to Reserve Bank of Australia (RBA) research, 90% of China’s steel is made using blast furnaces, compared to about 55% in the rest of the world.

There is a lot of talk of using hydrogen and renewable energy to make “green steel” – a lot of that talk emanating from Fortescue Metals Group and its founder, Andrew Forrest.

Fortescue says it is building Australia’s first green steel pilot plant this year and a commercial-scale plant in “the next few years.” But meaningful scale will be decades away.

In the meantime, huge amounts of steelmaking coal will be needed – for many years. And a lot of it will be shipped through the Dalrymple Bay Coal Terminal.

Dalrymple Bay is the world’s largest coking coal export terminal. The terminal ships 82.4 million tonnes a year (mtpa) of coal, 82% of which is steelmaking coal, with 18% thermal (electricity) coal.

It handles 26% of Australia’s metallurgical coal exports, which means 17% of global metallurgical coal exports. The terminal ships coal to 23 countries, with the main markets being Japan, China, Korea, India and Taiwan. The terminal is used by 17 coal mines in the Bowen Basin.

Under the terminal’s current 8X expansion plan (not eight times), potential capacity will grow from the current 84.2 million-tonnes-a-year to 99 million-tonnes-a-year. Then, it is projected that the “9X” stage of the expansion plan will take capacity to 136 million-tonnes-a-year.

Australia’s exports of steelmaking coal are forecast to grow from 180 million tonnes in 2019 to 211 million tonnes in 2025, with Queensland and the Bowen Basin being the largest sources of increased volume. More than 60 million tonnes a year of new metallurgical coal production is expected to come onstream from the central Bowen Basin over the next 19 years, according to commodities research firm AME.

For DBI, the LGCs deal is a step towards its commitment to achieve net zero Scope 1 and Scope 2 emissions at the coal terminal by 2050, with Scope 2 electricity emissions representing around 98% of the terminal’s greenhouse gas emissions each year. (DBI’s Scope 1 emissions, that is, direct emissions from activities undertaken, mainly come from diesel fuel; the terminal’s Scope 2 emissions are indirect emissions due to electricity use.)

“As outlined in our 2021 Sustainability Report, we recognise that while the steel industry is carbon-intensive, it has an important role to play in the transition to a low-carbon economy,” says DBI CEO Anthony Timbrell. “Through our efforts to minimise our energy intensity, we can actively contribute to the decarbonisation of the steel supply chain.”

Of course, for hard-core greens, that is not great news, because even in steel-making, coal is burnt, and creates emissions. DBI’s Scope 3 emissions – the indirect emissions that occur downstream – don’t bear thinking about, because steel mills and coal-fired power stations create a lot of greenhouse gas emissions.

Rather than see DBI become a net-zero-emissions business in terms of its operations, hard-core greens want it out of business altogether – because then, coal would be “dead.”

But in the real world, steel is required (as is 24/7 dispatchable baseload electricity.) In the meantime, DBI will keep on shipping coal. And at the end of the day, that is the investment case for DBI – that it is a high-quality infrastructure asset, in an essential trade. And investors can clip the ticket on the coal shipments.

If your ESG views preclude coal exposure, of course, that will not interest you.

For FY22 (DBI uses the calendar year) the consensus of analysts polled by FN Arena expects a dividend of 18.6 cents from DBI, and 18.7 cents in 2023. At a share price of $2.08, that equates to an unfranked yield of 8.9% this year and 9% in 2023. That is well and truly worth considering for an income-generating portfolio – especially with the consensus of analysts’ target prices for DBI coming in at $2.59. DBI looks a very solid total-return play.

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