ACCOUNTANCY IN THE NORTH: No longer the pits

Will the British coal industry confound its critics and dig itself out of a hole? During the past few months murmurings from analysts and industry watchers suggest that the future for mining may not be as black as the stuff it digs out of the ground.

If they are right, the greatest beneficiary could be RJB Mining which took over most of the English assets of British Coal in 1994. The company, headed by the controversial Richard Budge, paid off the #815m debt it acquired for the acquisition in double-quick time.

Budge has also wrought something of an upheaval in the culture in the tradition-bound mining industry. Nearly all RJB employees (98%) hold shares or share options. Wizened miners, members of Arthur Scargill’s red guard as recently as the 1980s, now consult the Pink ‘un to keep in touch with the value of their capitalist investments.

Budge was recently heard to say that the Financial Times has replaced girlie magazines as the reading matter of choice among miners during snap breaks down the pits.

Gerald Mousley, director general of the Confederation of UK Coal Producers, confirms the change in miners’ culture. ‘They don’t want the industry to go down the pan so they’re pulling their weight. Once, half the shift would go down the pit and play cards – that doesn’t happen now.’

It is all a far cry from the 1980s when Margaret Thatcher closed pits up and down the country. Then came a bitter privatisation and a slump in the tonnage of coal burnt by electricity-generating companies – the ‘gencos’ – down from 60 million tonnes in 1996 to an estimated 42 million tonnes by the year 2000. It looked as if the end was nigh, and that Britain’s once mighty producers of fossil fuel could end up as fossils themselves.

That the industry has managed to halt the spiralling decline is an achievement in itself. But is its present position any more than a staging post on the road to oblivion?

Much depends on the future of RJB which is by far the biggest player in the business. Of the 62.8 million tonnes of coal used in Britain last year, RJB contributed 37.1 million tonnes, according to Dresdner Kleinwort Benson Research.

The company faces a trio of formidable challenges – renegotiating contracts accounting for 80% of its business with the gencos by 1998, falling prices and government determination to cut greenhouse gases caused by burning fossil fuels. Any one could sink the company, let alone all three.

Analysts take opposite views

Yet expert opinion on RJB’s prospects is not all gloomy. In April, Kleinwort Benson Securities reported that the shares at 430p were undervalued. Its unequivocal advice: buy.

Andrew Hollins, analyst at Kleinwort Benson, points out that the company is undergoing a cost-reduction exercise, introducing multiskilling and repositioning itself so that it can reduce overheads further and sustain profits as contracts are renegotiated.

Hollins suggests that market fears about RJB’s problems are overplayed.

He says the market has not fully grasped the opportunity for further efficiencies.

Indeed, he expects the company’s unit costs to fall 13% in real terms by 1999. Taking the central path between a best and worst case, he thinks that shares could rise to 590p.

But other industry analysts are not so sure. ‘The proportion of electricity generated at coal-fired power stations will continue to fall,’ says one.

‘Not as dramatically as in the early 1990s, but continuing.’

Could RJB shares rise? ‘To a certain extent it is a case of wait and see. They might pull a rabbit out of the hat because the gencos might panic as they come close to renegotiating power contracts and realise they need coal-fired capacity.

‘But my view is that RJB’s price is right or it’s expensive. It’s right if they pull a rabbit out of the hat and it’s expensive if they don’t.

Their prospects of finding the rabbit are pretty slim,’ argues Hollins.

Yet Richard Budge is no stranger to pulling off unlikely tricks. He bought the bulk of the English coal industry for #800m in 1994, not long after his family construction business AF Budge collapsed with debts of #96m.

Coopers & Lybrand investigated the conduct of Budge and other AF Budge directors and filed a D2 report to the Department of Trade & Industry.

It focused on two loans totalling #470,000 which ‘did not comply with’ or were ‘in contravention of’ the Companies Act. While that controversy has largely faded into the mists of time, it is a reminder that Budge is not afraid to stand firm when he has to face the music.

Doing things its own way

In fact, standing firm has been the making of RJB so far. Budge’s management team has tackled the problem of chronic low productivity in coal mining by a vigorous programme of capital investment and multiskilling the miners.

Much of this is mere catching up with the rest of the industry worldwide.

For example, in the deep-mined pits RJB has shifted from ‘advanced’ to ‘retreat long-wall’ mining. Using the former, the old British Coal would sink a shaft, dig a roadway, then start to mine the coal moving forward into the seam.

RJB does it the other way round. It runs two parallel tunnels underground up to a mile apart and links them with a horizontal tunnel. It then mines the coal from the back towards the shaft.

This method requires more up-front investment but it is cheaper to actually dig the coal. This is because it is easier to transport the ore to the surface and there are fewer problems shoring up the roof behind as the seam retreats from the back of the mine.

The company has upgraded the power supply in most mines so that it can use more powerful cutting gear – increasing coal-cutting from 750 tons to 1,500 tons an hour – and faster conveyors to bring it to the surface.

RJB has also introduced ways of shoring up and supporting the roofs of tunnels and drifts – inclined tunnels that bring the coal to the surface.

Investing in its people

Gordon McPhie, RJB’s FD, says the company is working to make ‘continuous improvements in productivity and reduce the unit cost of coal’.

The capital expenditure programme is only part of the story.

McPhie points out that coal mining is a ‘people-driven business’. The unions are a shadow of their former selves. Yet, for all that, RJB does seem to have worked constructively to promote a better atmosphere in the industry. Seven per cent of the company’s equity is held by staff as shares or share options.

RJB trains about 2,000 people yearly in a programme that focuses on multiskilling.

It is a practical way to break down the demarcations that were traditionally applied rigidly both below and above ground. The full benefits of this are still to flow through into the financial results.

But already McPhie boasts that the company is producing roughly the same volume of coal as when RJB acquired British Coal’s mines, with about 2,000 fewer miners.

Not all the changes are at the coalface. Management has had a shake-up.

There is now a structure flat enough to delight a consultant, with just one layer between a colliery manager and the director of mining. Traditional coalboard bureaucracy has been swept away: information is more accessible and managers enjoy contact with the board and are empowered to take decisions.

It is all straight out of a management guru’s textbook. But because it was possible to take some big steps easily, it will be tougher to improve productivity in the future, although McPhie is confident there will be further gains.

Yet all this will not be much use if nobody wants to buy the coal. Much hinges on RJB renewing its coal contracts with the main power generators and at the right price.

The background to this is that, as a sweetener, RJB received coal-supply contracts at guaranteed prices above world rates when it took over the British Coal assets. Now those contracts are coming up for renewal and, in fact, running out faster than expected as the power generators burn the contracted tonnage more quickly than planned.

McPhie says he ‘hopes’ that most of these contracts will be renewed, which is somewhat less than a ringing declaration of confidence. There are signs that some business is slipping away to smaller coal providers.

PowerGen, the second biggest coal user, signed a contract in April with Midlands Mining for 4.5 million tonnes a year; it was previously supplied by RJB.

Venturing into mergers

The critical issue is price. You can bet Richard Budge’s earnings (#656,912 in 1996, since you ask) to a lump of coal that it will not be at the generous #1.50 per gigajoule of the original contracts.

Kleinwort Benson Securities suggests that future prices may slide from #1.428 per gigajoule in 1996 to #1.221 in real terms by 1999. That represents a 15% cut in prices over four years. It should be within RJB’s capacity, providing that the company can continue to improve productivity.

Much hangs on whether RJB can get its scheme for a clean-coal technology power station off the ground. The plan is to build a 400MW station next to Kellingley colliery in West Yorkshire. It would be part of a joint venture with Texaco, which runs a clean coal power station at Tampa, Florida.

Such a scheme would win plaudits from environmental campaigners keen to see Britain meet its target to reduce greenhouse gases. But it depends on state subsidy.

McPhie reckons the cost of generating clean-coal electricity could be about 3p per KW compared to 2.3p in a new gas-fired power station. The company wants the government to make up the difference.

At the moment, there are no signs that the new ministers are willing to oblige, even though Labour is traditionally sympathetic towards miners.

But with the prospect of a further sharp slide in production – and attendant headlines about miners on the dole – if clean-coal technology does not make headway Labour may be cornered into paying up.

Kellingley would be a talisman of hope for RJB. It would make a statement that coal can be an environmentally friendly and reasonably cost-effective fuel well into the 21st century. Significantly, as RJB would take an equity stake in the power station, it would mark a move into vertical integration for the company.

Certainly, if it wants to make its mark in the next century, the company must look beyond the confines of a conventional coal-mining operation.

Says Paul Dolan, partner at Deloitte & Touche: ‘If you win fewer contracts on tighter margins you should be concerned.’

Fortunately, RJB does have a window of opportunity. Clean-coal technology will have a major call on the company’s spare cash, says Dolan. But it may be that it will need to look at overseas acquisition – it has already paid #72m for a 43% stake in Australia’s CIM Resources coal-mining company – or at further opportunities for vertical integration.

The cult film Brassed Off starred the Grimethorpe Colliery Band (sponsored by RJB) and appropriately tells a tale of hope triumping over adversity.

But Grimethorpe says it all – it has a band but no colliery: the pit closed in 1993.

If Budge doesn’t complete RJB’s turnround in time to meet the mounting challenges ahead, there may be further closures and cuts, and he could find himself a lot more than brassed off.

OTHER MAIN PLAYERS

Celtic Energy is the UK’s second largest coal producer. It was formed in 1995 through a buy-out by the management of British Coal Opencast Scottish Coal is owned by a consortium including the collapsed Coal Investments. The 1995 buyout cost #50m

Midlands Mining was created in August 1996 through a #17.5m buy-out of two collieries from the receivers of Coal Investments, whose former production director Jim Sorbie heads the team

Hatfield Coal Company was formed in 1994 in a buy-out led by the colliery managementwhich reopened the SouthYorkshire pit

Tower Colliery is a co-operative of 268 miners who bought the mine in 1995 for #10m. It made a record profit last year of #4.3m.