2005
Central Appalachia: mining to the beat of a different drummer
By
Jerry Eyster
Coal Age,
March 2005
Mining in Central Appalachia has always been a bit different from mining in other coal supply regions. The terrain and geology of Central Appalachia generally keep mining operations smaller than elsewhere. While large longwall operations came to dominate production in Northern Appalachia and large dragline operations dominate the Powder River Basin (PRB), neither of these technologies hold sway in Central Appalachia. With changes in mountaintop removal regulations, surface mining equipment in Central Appalachia has been scaled back in size. Reserve blocks in Central Appalachia generally are not big enough, thick enough and sufficiently consistent for longwall development.
Nevertheless, this region of eastern Kentucky, southern West Virginia, Virginia, and parts of Tennessee is the second largest regional producer of coal after the PRB producing 228 million tons in 2004, according to Platts COALdat preliminary data. This is down significantly from 272 million tons in 1995, 287 million tons in 1997, and 263 million tons in 2000. While output is down, spot prices for coal from Central Appalachia have been at record high levels for more than a year. Production in Central Appalachia decreased by 3 million tons in 2004 from 2003 or by more than 1% despite high prices. Are Central Appalachian producers now focusing on short-term profitability rather than on long-term growth?
Central Appalachia has been the source of some of the highest quality coals produced. Metallurgical coal from Central Appalachia has been shipped to consumers throughout the world. Stoker coal from this region has fired industrial boilers throughout the eastern United States. Central Appalachian compliance and low sulfur steam coals have helped electric power generators reduce their emissions of SO2 in response to passage of the Clean Air Act. Compliance coal from the Coalburg and Pond Creek seams have helped lower the cost of the Acid Rain program passed by Congress in 1990.
Central Appalachian steam coal is consumed by electric power generators throughout the eastern U.S., but currently is below its peak level of 181 million tons in 2001 and 2002. SERC (the south eastern U.S.) is the dominant user of Central Appalachian steam coal, accounting for more than onehalf of shipments and consistently consumed between 83 million tons and 92 million tons since 1998. ECAR (Michigan/Ohio/ Kentucky area) is the second largest consumer, but this region has seen its consumption decline by 12 million tons or 18% in the last seven years, from around 67 million tons to just below 55 million tons. Central Appalachian coal use has been rising by a few million tons in the MAAC (Mid-Atlantic) region since 1998.
The graph of spot coal prices has received considerable attention with the spikes in coal prices in late 2000 and early 2001 and then again beginning in late 2003. After hovering between $20/ton to $30/ton throughout the 1990s, Central Appalachian spot steam coal prices for a 1% sulfur product reached nearly $50/ton FOB mine during the first spike in 2001 and more than $60/ton during the second spike in 2004. Other coals also have more than doubled in price from their historical levels. However, spot volumes tend to be low with most tonnage sold under long-term agreements. The average delivered prices for coal from the Illinois Basin, the Central Rockies, and the PRB increased by 13% or less since the first quarter of 2000 (See Figure 1). During the same period, the delivered price of Central Appalachian coals increased by 34%. Some of this increase related to increased rail transportation costs as the CSX and NS railroads have achieved higher rail rates to customers along the Atlantic Coast.
Unlike in other coal producing regions, both spot and contract prices have been rising in Central Appalachia. One of the reasons that contract prices have risen is that bankruptcy courts have allowed coal producers to reject low priced supply agreements. A significant portion of Central Appalachian’s productive capacity has been restructured through a series of messy and contentious bankruptcy proceedings or through out of court settlements to escape those proceedings during the last five years. These companies generally no longer have unprofitable long-term supply agreements but have pricing reflecting current market conditions as a result of the restructuring process and the ability to get out from under their legacy contracts. This led many coal users to experience significant increases in their delivered coal costs. The changes in average delivered coal prices to selected generating companies that are highly dependent upon Central Appalachian coal are shown in the Figure below.
This rise in Central Appalachian coal prices is one of the primary causes of the region’s decline in shipments to electric power generators, as buyers shift to lower cost sources of coal. A major source of the Central Appalachian price increases has been the deterioration of mining conditions and rising labor, supply and equipment costs. Labor productivity has continued to decline since the first spot price spike in 2000/2001. Preparation plant yields reportedly have also declined as coal producers attempt to achieve higher productivity by mining rock to maintain better height mines. This additional rock are removed in the preparation process leading to lower yields.
The relationship between coal production and employment in Central Appalachia is shown in Figure 3. The hiring of additional miners is critical to increasing production from Central Appalachia. After the rise in spot coal prices in late 2000 and early 2001, the Central Appalachian coal industry hired substantial numbers of new miners. Surface production rose but underground production declined, even with the additional miners. After the decline in spot prices, the number of coal miners in Central Appalachia declined at both surface and deep mines.
It now appears that Central Appalachian surface mines may have turned the corner and been able to recruit enough new miners to increase production. However, underground employment continues to decline, as does production, despite record high price levels. It will be difficult for Central Appalachian producers to turn this situation around given the reluctance of prospective workers to go into coal mining in a region with deteriorating market prospects.
Coal-fired generators are looking for alternative sources of supply to lessen their dependence upon Central Appalachia and the higher prices coming out of this region. Generators in other regions have not witnessed the increase in delivered coal prices that the companies dependent upon Central Appalachia have experienced. High Central Appalachian coal prices will lead to a smaller market for Central Appalachian producers. ECAR will continue its shift away from Central Appalachia as it switches to the high sulfur coals of the Illinois Basin and Northern Appalachia or to the low sulfur PRB coals.
Central Appalachian producers may find that smaller is better and focus on profitability over growth. While Central Appalachian coal production may decline, the profitability of the remaining producers may remain strong. A limited labor supply, low quality reserves, permitting problems and bonding requirements have increased the difficulty of developing new mines in Central Appalachia. These barriers to entry may have increased sufficiently that even high prices may not attract new entrants into this declining market. The result may be that the established Central Appalachian producers will yet again generate earnings by marching to the tune of a different drummer.
Jerry M. Eyster is a managing consultant with PA Consulting’s Global Energy Practice in Washington, D.C. He has 30 years of experience analyzing coal markets and the impacts of environmental regulations on the coal and electric power industry. He can be reached at jerry.eyster@paconsulting.com or by phone at (202) 442-2543.
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