As news from China continue to disappoint, met coal and copper prices remain under pressure. The latest Purchasing Managers' Index from HSBC and Markit Economics revealed a manufacturing weakness for a fifth month in a row. As both met coal and copper demand greatly depend on economic activity in China, market participants view such news as a danger sign and push prices down. Together, met coal and copper accounted for 74% of Teck Resources' (NYSE:TECK) revenue in 2013, so there's little surprise that Teck Resources' shares are down 19% year to date. Will the pressure continue.
Met coal business remains profitable
While several other met coal miners like Walter Energy (OTC:WLTGQ) and Alpha Natural Resources (OTC:ANRZQ) struggle to make the ends meet, Teck Resources' met coal business is profitable. In comparison with Walter Energy, the key differentiator is cost efficiency. Teck Resources' costs are significantly lower than Walter Energy's costs. This fact helps Teck Resources' met coal segment maintain profitability, while Walter Energy had negative operational cash flow last year.
Teck Resources produces high-quality met coal and enjoys a much higher realization price than Alpha Natural Resources. Alpha Natural Resources' committed and priced contracts for 2014 stand at $94.66 per ton of its met coal, while Teck Resources received $142 per ton of met coal in the fourth quarter of 2013.
The weakness in met coal prices provides a strategic opportunity to the miners whose costs are low. As weaker players are forced to curtail uneconomic production, these miners will be able to gain market share and profit from improved pricing. Teck Resources plans to produce 26 million to 27 million tons of met coal in 2014, while it has the capacity to produce approximately 28 million tons. This means that the company can instantly increase its met coal production, replacing the leaving uneconomic production from less efficient miners.
Copper profits will decrease
Copper prices suffered a significant plunge at the beginning of March and were unable to rebound since then, pressured by the fears of Chinese economy slowdown. Should the prices remain below $3 per pound of copper, they will negatively affect the profitability of Teck's copper segment.
Copper brought $269 million of gross profit in the fourth quarter of 2013. This figure is likely to decrease in the first quarter of 2014, as the average price of copper for the first quarter will be lower than the $3.24 per pound seen in the fourth quarter of 2013.The drop in copper profits is most likely reflected in Teck Resources' share performance, as the company trades at just 13 times its future earnings.
Teck Resources suffers from low met coal and copper prices. However, it is well positioned due to low costs and solid balance sheet. The situation on the met coal front provides long-term opportunities for the company. Current met coal prices are not sustainable over the long term, as too much production is uneconomical, but it will take some time before this production leaves the market. Teck Resources' low costs give the company the ability to wait.
Copper prices are a bigger concern for the company. Should the continuing negative data from China push copper lower, this will be reflected in Teck Resources' share price.