Economic downturn impacts heavily on Solid Energy

13 March 2009

Economic downturn impacts heavily on Solid Energy

Energy producer, Solid Energy has released its half-year report for the six months ending 31 December 2008. As a major New Zealand exporter the company is being hit heavily by the global economic downturn and the sudden, substantial drop in international coal prices. The company is currently managing major uncertainties and rapid changes in its international market demand, including both prices and volumes. It is implementing actions that are under ongoing review in response to latest developments. The following is an edited version of the report’s commentary by Chairman, John Palmer, and Chief Executive Officer, Dr Don Elder.

“Despite the strongest export market conditions in Solid Energy’s history creating record coal prices throughout most of 2008, the rate and depth of the economic downturn pulled the company back to a very disappointing result for the six months ended 31 December 2008. Revenue and profits were both ahead of plan through to October, but in November customers began to defer export shipments and seek substantial price reductions, and every planned December shipment was deferred.

“Although revenue for the half year more than doubled to a record $516 million (2007: $223 million), December reduced profits substantially. With an uncertain and volatile outlook for both our export and New Zealand markets, we made impairment adjustments of $37.4 million, reducing the final net profit after tax for the half year to $78.4 million (2007: $2.8 million loss), still a record but far below our earlier projections. The company will pay a $25.5 million dividend in March to its shareholder, the New Zealand Government.

"We expect this downward trend to continue through 2009 and into 2010. Steel makers worldwide have cut production by up to 30%. Current export coal spot prices are down by more than 50% and contract export prices are likely to follow. We anticipate a similar pattern in the New Zealand market as customers adjust their businesses to the uncertain economic outlook.”

Impairments: “The rapid devaluation of the New Zealand dollar against the US dollar has created significant mark to market losses on our forward foreign exchange contracts, even though we remained within normal treasury policy for foreign exchange hedging through the period. With decreasing sales volumes and prices, we also had surplus foreign exchange contracts at the end of the period, and booked $19 million for losses expected in closing out these contracts.

“We have reviewed our biodiesel business considering the significant decline in diesel prices and changes in legislation, resulting in an impairment of $6.1 million. Weak near-term gas prices and lower gas flow rates than previously assumed have led to us writing down our investment in coal seam gas by $6.3 million. In 2007 we acquired New Vale Opencast Mine in Southland. Due to a combination of mining costs higher than expected and market growth slower than planned, we have written down its value by $6 million.”

Production: “Coal sales volumes in the period remained in line with the previous year at 2.11 million tonnes (mt) (2007: 2.07 mt). Exports increased slightly to 980,000 tonnes (2007: 840,000 tonnes). Sales from our 51% share of Spring Creek Mining Company, a joint venture with Cargill, were 90,000 tonnes (2007: 20,000 tonnes). New Zealand sales decreased to 1.04 mt (2007: 1.21 mt), primarily due to reduced sales to Genesis Energy for Huntly Power Station.

“Biomass business, Nature’s Flame, sold 4,900 tonnes of wood pellets in the half year (2007: 4,100 tonnes) restricted by feedstock shortages due to very weak timber markets. We restructured the business early in the half year, selling the retail division to focus on wood pellet production. Biodiesel New Zealand production was below plan at 360,000 litres (2007: 270,000 litres) as we upgraded and carried out health and safety improvements at our existing plant in Christchurch. This plant is increasing capacity to 4 million litres per annum, allowing more time to consider the best timing, size and location of a larger expansion, considering economic conditions, and the lessons from our first year of oilseed rape harvest at sites throughout the South Island. During the half year we successfully trialled generation of electricity from our coal seam gas site in the Waikato and sold 1.5 gigawatt hours into the national grid.”

Outlook: “The short-term outlook is highly uncertain and volatile. Reduced export demand and prices will significantly reduce revenues and profits in the near term. In the past year we have incurred major operating expenses and capital expenditure to secure future production for our customers and to meet our environmental, health and safety and other key objectives. We are already committed to a number of important capital projects that will create a significant draw on our balance sheet over the next two years during which our operating cash flows will be much weaker than anticipated and our debt position will increase significantly.

“We have completed a full review of all our expenses, operations and projects looking out three to five years under a range of economic downturn scenarios. As a result we have re-prioritised all our projects. Our first objective is to maintain a strong balance sheet that gives us flexibility to respond to a range of downturn outcomes. We are reducing production at some locations, minimising operating costs and general expenses across the board, and reducing capital spend by slowing and deferring projects in a range of areas.

“However, we currently retain confidence in our long-term expansion and diversification strategy, which is driven in particular by expected continued growth in China and India. We have confirmed and in some cases are accelerating projects that will deliver improved health and safety performance, or increase near-term production, productivity and operating cashflows, and after that, projects that are on a critical path for significant medium to longer-term value creation. Over the next year to 18 months this will include several significant capital projects, infrastructure improvements and health and safety upgrades. These projects include the new coal processing plant at Stockton, the new wood pellet processing plant in Taupo and the north extension of Huntly East Underground Mine.

“Our export revenues will not benefit from the significant fall in the New Zealand dollar this financial year, and only partially benefit in the 2010 year, due to our forward foreign exchange cover. Falling export prices and deferral of shipments are compounding this. Higher debt levels and the resulting significant increase in funding costs will have a marginal effect this year, but a greater impact next year. We are fortunate to have entered this downturn with a relatively strong balance sheet.

“Our exceptional financial performance in the first five months of this period, which had already fallen back by the half year, has boosted our position going into the downturn, but in the current economic climate will not be sustained for the full year, nor into the 2009/10 year.”

Unaudited results for six months ended 31 December 2008

Six months to 31 December 2008/Six months to 31 December 2007

Sales turnover/$516.5 million/$223.2 million
Earnings before interest and tax/$118.5 million/$0.5 million
Profit/(loss) after tax/$78.4 million/-$2.8 million
Dividend paid (for 2008 year)/$34.4 million/-
Return on shareholder’s funds (annualised)/47.5%/-1.7%
Return on average assets (annualised)/25.4%/-1.0%
Tonnes of coal sold - total/2.11 million/2.07 million
•/Exports/0.98 million/0.84 million
•/Spring Creek Mining Company (51%)/0.09 million/0.02 million
•/New Zealand /1.04 million/1.21 million
Pellets sold/4,900 tonnes/4,100 tonnes
Biodiesel sold/360,000 litres/270,000 litres
Coal seam gas produced/35 terajoules/-

ENDS

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