Whitehaven Coal: Purchase of BHP and Mitsubishi’s Metallurgical Coal Mines a Good Deal

No-moat Whitehaven Coal WHC has agreed to buy the Daunia and Blackwater metallurgical coal mines from BHP and Mitsubishi for at least USD 3.2 billion (AUD 5 billion), one third of which is vendor-financed. Up to USD 900 million (AUD 1.4 billion) additional funding is payable if metallurgical coal prices stay elevated for three years after the closure of the deal, likely in the June 2024 quarter. BHP will retain exposure to the profit and cash flow from these mines until the deal closes.

We think the purchase is a good deal for Whitehaven shareholders. While BHP conducted an auction, Whitehaven has taken advantage of BHP’s emphasis on selling to a reputable operator rather than maximizing sale proceeds and has secured a reasonable price. We like that Whitehaven won’t issue any equity to help pay for the mines and think the USD 900 million (AUD 1.4 billion) of debt Whitehaven is taking on is manageable. But near-term dividends are likely to be more modest and share repurchases are likely off the table for now until debt associated with the purchase is repaid, likely in fiscal 2027. Assuming a 35% payout ratio, midway between the updated target payout ratio of between 20% and 50% of earnings from its existing mines, we now forecast fiscal 2024 fully franked dividends of AUD 0.34 per share, down from AUD 0.47. This gives a forward yield of about 4.5% at current prices. Yet, we think this drawback is more than offset by value added from the deal. The portfolio will be balanced between thermal coal and metallurgical coal volumes with an average of 15-16 million metric tons of metallurgical coal from fiscal 2025-28, similar to our forecast for thermal coal production.

We raise our fair value estimate for no-moat Whitehaven Coal to AUD 10.00 per share, up from AUD 9.50. While the shares have risen 11% since the deal was announced, they trade around 25% below our increased fair value estimate. We think this is likely due to many investors’ reluctance to invest in coal firms.