Most coal companies absorbing higher diesel costs

Washington (Platts)--22Aug2005

With the price of fuel soaring, coal companies in the recent earnings reports
all mentioned the resulting higher costs of production. However, it seems that
the higher price of coal allows sufficient margins to cover the increased cost
of diesel used for production. 

During Pine Valley Mining Co.'s earnings call Aug 16, CEO Graham Mackenzie
said the company did not have a fuels adjustment clause to cover the increased
cost of mining in its coal contracts. Therefore, the western Canadian
company's margins have shrunk. 

However, faced with the rising costs of diesel and gasoline, he said the
Vancouver-based company would consider adding such a clause in future
contracts. 

In the US, coal producers and sellers seem to be split about whether their
contracts cover rising diesel costs. Oil closed Aug 18 at $63.27/bbl for
September. According to the American Petroleum Institute, the national average
cost for diesel on Aug 15 was $2.567/gallon, a 40% increase over the year-ago
cost of $1.825/gallon. The Aug 15 price was up 16cts over the previous week. 

One eastern coal official said rising diesel charges are not affecting his
company directly because mostly electricity-powered equipment is used in its
mines. 

Another mining company noted its contracts are split. The older contracts do
not contain a fuels adjustment charge, a spokesman said, but the newer
contracts do. 

But in the West, another coal producer's spokesman said his company's
contracts do not include any surcharges or clauses to cover additional diesel
costs, either for equipment or explosives. However, the company's margins have
stayed "pretty steady" as it increased prices for its coal, allowing the
company to absorb the fuels price increases without too much worry. 

Contracts for the past 10-15 years are fixed-cost deals, he noted, but before
then, the long-term deals were "Cadillac contracts," including clauses
allowing for adjusted charges to cover rising fuels costs. 

The master agreement form on the Coal Trading Association web site does not
include a fuels adjustment clause. A CTA spokesman said he believes most coal
producers are absorbing the additional costs for production. He said the issue
has not been raised in the trading community. 

Since most people think of fuel charges as a transportation issue and coal
companies sell their coal FOB rail or barge, the additional cost is not borne
by the seller, he said. 

A spokesman for one large eastern utility said his company's coal supply
contracts do not have fuels adjustment charges now. However, prices for gas,
steel, diesel and other commodities are rising for his company. 

In the past two years, the price of coal has risen 25%; natural gas, 32%; and
purchased power, 26%, he said. From 2004 to 2006, these costs are expected to
add an additional $700-mil. 

To cover those costs, the electricity producer has asked for and received
approval for a 7.5% rate increase to its consumers effective Oct 1. The rate
increase will generate another $524-mil in fiscal year 2006. In its fiscal
2006 budget, the utility approved a 16% increase to cover higher costs for
purchased power and fuels to operate generators. 

The spokesman noted that other utilities in the East are taking similar steps.

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