On Tuesday, November 14th 2023, Teck Resources Limited (TSX: TECK.A | TSX: TECK.B | NYSE: TECK) announced plans to sell its core metallurgical coal business to Swiss commodities trading giant Glencore PLC (LSE: GLEN | OTC: GLCNF) and two Asian steelmakers, in a US$8.9-billion transaction that requires federal approval.
In response to the announcement, the Deputy Prime Minister, Chrystia Freeland, said that Vancouver-based Teck Resources’ agreement to sell its coal business to a consortium led by Glencore, will be closely scrutinized by the Federal Government. Ottawa will review the now-friendly deal between Glencore and Teck, as to whether it is of net benefit to Canada and whether it passes a national security test. The Federal Government has the power to reject the transaction based on either factor.
Of course, such Government reviews should come as no surprise to Canadians who have witnessed a historical hollowing out of the Canadian Mining Sector by foreign acquisitors, consolidators, and exiters. For decades, “net benefits” and “national security tests” were not sector issues greatly considered beyond the primacy of shareholder economics.
This latest agreement follows Glencore’s original proposal earlier this year to buy the entire company, including Teck’s copper and zinc mines. Teck repeatedly rejected Glencore’s advances and appeared initially to have found an ally in Ms. Freeland, who expressed reservations about Glencore’s takeover overtures, saying “We need companies like Teck here in Canada”.
In efforts to explain the Government’s role with respect to the revised “coal only” deal, Ms. Freeland told reporters … “This is a serious transaction. We are going to follow our regulatory processes carefully. The key issues that we will take into account are Canadian jobs, a Canadian headquarters, environmental concerns, and the rights of Indigenous People.”
If approved, the deal will divide Teck, Canada’s largest diversified mining company, in two, with the B.C. coal operations going to Glencore and its partners Nippon Steel of Japan and POSCO Steel of South Korea. The remaining mining assets, primarily critical minerals led by copper and zinc, will remain with Teck. The deal will also complete the strategic sale process for Teck’s carbon-based extraction interests, following the finalization of the sale of its 21.3% stake in the Fort Hills oilsands mine at the beginning of 2023.
Teck has expressed confidence in obtaining government approval for the announced Glencore deal, but Teck has indicated it doesn’t expect the transaction to close until the third quarter of next year. The long timeline is to accommodate the lengthy period Ottawa is expected to spend reviewing the takeover. Teck’s CEO, Jonathan Price, says the deal is good for his company and good for Canada, as Glencore is promising to maintain jobs, invest billions in capital expenditures, and increase spending on research and development for the metallurgic coal assets.
The net benefit test will focus on the economic impact of the deal, and Glencore has indicated that it will maintain employment levels at the B.C. coal operations and is committed to spending more than $2-billion on capital expenditures, and at least $150-million on research and development over three years. Gary Nagle, CEO of Glencore, has indicated that he’s optimistic about securing Government approval based on the stewardship of Glencore’s legacy operations in Canada and what it plans to do with Teck’s coal assets going forward.
Indeed, the legacy of Glencore’s existing Canadian operations originated from its 2013 acquisition of fellow Swiss miner Xstrata PLC, which had bought former Canadian mining giant Falconbridge Ltd. in 2006. Glencore’s Canadian assets of mines, smelters and refineries currently employ the majority of its 9,000 employees and contractors in Canada.
Although Ottawa in the past has rejected some foreign takeovers of Canadian mining companies on net benefit grounds, including BHP Group’s (ASX: BHP | NYSE: BHP) attempted takeover of Potash Corp. of Saskatchewan in 2010, we view this transaction as providing an economic net benefit to Canada.
The primary benefit to Teck will come through an immediate cash infusion to direct to its robust portfolio of near-term copper development projects focused in the Americas. In addition, the sale will avoid a significant capital expenditure program required to bring the critical Fording River Extension (FRX) into production. Economically mineable metallurgical coal from Teck’s existing Fording River Operations will begin to decline in the mid-2020s and FRX will allow operations to transition seamlessly from the current mining areas without interruption. Pre-development work is scheduled to commence in 2024 and will begin whether the deal goes through or not.
It is consistent with Teck’s stated strategy to focus on critical minerals, that the disposition of its coal business is a near-term opportunity for Teck to realize the capital necessary to fund the near-term development of a pipeline of large copper projects in the Americas. Teck’s website outlines its portfolio of near-term development projects which will enable the company to become “a true Canadian critical minerals champion”. The projects are located in Mexico, Chile, Peru, the U.S. and Canada, and all projects have large, established partners including Agnico Eagle Mines Limited (NYSE: AEM | TSX: AEM), Sumitomo Metal Mining, Mitsubishi, Glencore and Newmont Corporation (NYSE: NEM | TSX: NGT | ASX: NEM | PNGX: NEM). Galore Creek is described as Canada’s largest copper development project in partnership with Newmont, with an initial permit submission targeted by year end 2023.
Whilst this writer is bullish on Teck’s long-term strategy, and is optimistic about the government’s approval for the sale of the company’s coal operations, we believe a degree of caution would be prudent since we recognize the adage that there can invariably be “Many a slip twixt the cup and the lip”.
Eugene Ellman, a former executive director of the Canadian Social Investment Organization (now the Responsible Investment Association), also recognizes that there may be an elephant in the room, as he examines the possibility that Glencore might be forced to phase out the coal operations it is buying from Teck! Ellman points out that even if the federal government does approve the sale to Glencore, the assets exist in a regulatory environment that is increasingly hostile to coal.
However, one should note that not all coal is made the same! Whilst thermal coal is still widely used for electrical power generation, it can be displaced by many other energy sources from renewables, to nuclear, and even hydrogen. However, there are no alternatives to metallurgical coal in the manufacture of steel. Steel plants around the world, including those located in Canada, have been built where iron ore and coal might be most economically brought together to supply global steel markets.
Glencore is a global colossus in both thermal and metallurgical coal mining and trading, and operates over 20 complexes across Australia, South America and South Africa. Glencore obviously wishes to expand its reach into traditional steel making markets through Teck’s customers in China, India and other Pacific countries. In 2022, Teck sold 22 million tonnes of coal to its Asian customers, and it should come as no surprise that Nippon Steel of Japan and POSCO Steel of South Korea also have interests in Teck’s coal operations! We believe that the Fording River Extension (FRX) will be able to produce more than enough coal to supply its current export levels for the next twenty years.
Teck has benefited from a major expansion in Asian steel making in the past 20 years, as many countries added blast furnaces, contributing to a flood of cheap steel on to world markets, including Canada. These imports come as the Canadian government has backed decarbonization efforts by their own steel industry, primarily at ArcelorMittal Dofasco in Hamilton, and Algoma Steel in Sault Ste. Marie, Ontario.
Canada now finds itself in the awkward position of putting up billions in public and private dollars for these decarbonization efforts at the same time it is selling millions of tonnes of steel-making coal to producers in competitor countries. However, we do not view this as Canada’s problem to fix, since one could argue that whatever Canada wishes to accomplish with respect to the reduction of “green-house emissions” for its oil and gas industry at home, it would not be able to dictate to its U.S. customers how they should manage the massive imports of our oil sands production once it ends up in the U.S. Gulf Coast refineries!
Ellman addresses the elephant in the room dilemma in terms of climate change, which he identifies as a fundamental problem for Glencore. As the federal government conducts its review of the takeover in the coming months, Ellman suggests it will be important for Glencore to move beyond aspirational targets to real plans, even if those plans involve a phase-out of its Elk Valley operations. We do not subscribe to this appraisal, however, and believe that the production and export of metallurgical coal will continue for at least the life of the FRX mine.
Unfortunately for Ellman, and perhaps for the world, all we have now in relation to climate change initiatives are aspirational targets put forward by theorists and most of which are non-binding between nations. Amongst the participants most recently engaged in the COP27 annual meeting held in Egypt, Canada is promoting reduction targets of 40-45 % by 2030, and a “roadmap” towards net-zero emissions by 2050!
The respective timelines of 7 years and 27 years into the future are being debated, and most of the world is not even represented at the table! Who remembers Greta Thunberg, the environmental activist who addressed the 2018 United Nations Climate Change Conference and derided the world’s indifference, through her “How Dare You” speech.
Perhaps Gary Nagle, CEO of Glencore, has a more realistic understanding of the transaction parameters of this particular deal when he commented … “When people become more aware of what we currently do, and historically have done in Canada, and when one looks at the suite of commitments that we’re making, we’re confident and hopeful that the government will look at it favourably”.
The second criteria that Glencore might face is one of national security, which was brought forward by the Canadian Government in 2021, and included a statement that the impact of any deal on Canada’s critical minerals supply chain would be considered as part of any national security review. Ward Elcock, a former director of the Canadian Security Intelligence Service, has commented that he would not expect much pushback from the government on the Glencore deal on national security grounds, in large part because coal is not classified as a critical mineral. “I can’t see a national security issue really for the government to get involved,” he said.
Last, but certainly not least should the sale go through, Glencore will inherit a water contamination problem with respect to an international inquiry into cross-border selenium pollution from the Elk Valley operations. Selenium, commonly associated with coal deposits, is toxic to fish and has been a long-running source of conflict between Canada and the U.S. government. For more than a decade, the Ktunaxa Nation has pushed Canada and the U.S. to refer the transborder contamination to the International Joint Commission. The Ktunaxa Nation’s territories span parts of British Columbia, Montana and Idaho. In March 2023, Prime Minister Justin Trudeau and U.S. President Joe Biden said they intended to reach an agreement in principle to address the pollution issues by this summer. That deadline has come and gone without further announcement!
Company spokesman Chris Stannell said Teck has installed $1.4 billion worth of water treatment at the mine and is structuring new activity to minimize the amount of runoff. It says it’s capturing at least 95 per cent of selenium from current operations, and has quadrupled its water treatment capacity since 2020 with plans to double it again by 2027. He also pointed out that selenium concentrations in the Elk River have stabilized and are reducing downstream, and that further significant reductions of selenium are expected as additional facilities come online.
On the “National Security” considerations, Glencore might also be scrutinized for its poor record with respect to bribery and market manipulation charges, having plead guilty in 2022 to a decade-long scheme to make and conceal corrupt payments and bribes across multiple countries. Glencore responded by saying that it “has taken significant action over the last several years towards implementing a world-class ethics and compliance program”.
Spokesperson, Charles Watenphul continued, stating that “Glencore is a different company today and is committed to creating value for all stakeholders by operating transparently under a well-defined set of values, with openness and integrity at the forefront”.
Although this may sound like a “boiler plate” corporate response, we believe it reflects Glencore’s serious intentions to expand discussions with respect to the Ktunaxa Nation’s pollution dispute resolution. He added that “Glencore will ensure the Elk Valley mines comply with any reclamation security requirements should the deal go through”.
Market response to Teck’s proposed sale has been volatile and somewhat negative, as investors weigh the potential benefits and pitfalls from the proposed transaction. Investors have to decide whether the disposition of a significant cash flow stream from its current coal operations can be offset by the future cash flow streams from near-term development prospects for critical minerals and especially copper.
In addition, we have outlined some concerns around potential Government involvement with respect to economic net benefit criteria and national security issues, as well as the environmental pollution dispute which involves the Ktunaxa Nation. In Teck’s favour, however, we believe that Glencore’s purchase is seen by the Government as helping Teck transition to a pure-play critical minerals champion in Canada, which is something the Government appears to support.
If the Elk Valley takeover fails to close, Glencore has agreed to pay Teck a US$400-million break fee under certain circumstances. The fee is equal to approximately 4% of the value of the total transaction, which Glencore has indicated is standard for takeovers of this magnitude.
In summary, the stock (TECK-B.TO) has traded in a fairly wide range, from a high of about CDN$65 in mid April to a low of CDN$49 in November 2023. From an investor’s perspective, we believe the promise of future cash flows set against the more immediate loss of current ones increases risk and supports another old adage that “a bird in the hand is worth two in the bush”.