Commodities 2022: Two Russian steel majors to exit coal business

2022 will see two major Russian steelmakers accountable for 32% of the country's steel output – Severstal and Evraz – break their previously cherished integration into raw materials. Both are going to divest – one through sale, the other via spin-off – their coal assets – Vorkutaugol and Raspadskaya.

The two companies provided 30.9 million mt or 34.5% of Russia's coking coal output in 2020. Next year, when their respective deals/demergers are finalized, Severstal's 80% and Evraz's 230% self-sufficiencies in met coal will be nullified.

Severstal reckons its spending on coal should stay more or less the same.

"Over the past three years, we invested $230 million in Vorkutaugol. The asset is profitable, but its maintenance is expensive," said the head of IR at Severstal Vladimir Zaluzhsky. "We will buy [higher] priced coal, but on the other hand will no longer incur capex and opex that come with the ownership."

The decision to sell Vorkutaugol was made long ago; Evraz's intention to exit coal – announced in early 2021 – was not what triggered it, said Zaluzhsky.

Somewhat different incentives might drive Severstal and Evraz: while both are keen to push up their ESG scores, Severstal has also been facing coal mining costs twice as high as those of some of its peers, an industry source said, adding that the Vorkutaugol sale was sealed at an opportune moment with regards to the cost-price spread timed with a sharp spike in coal prices.

If in 2012-2016, it was 55% more expensive to make washed coal at Vorkutaugol than at the mines of Evraz, in 2017-2020 the gap became twice as wide. In H1 2021, Vorkutaugol's washed coal production cost totaled $79/mt, versus Evraz's $36/mt and Mechel's $32/mt, the companies' reports show. This and the age of Vorkutaugol came into play in the sale price negotiations.

"Vorkutaugol will run out of reserves around 2036. At the end of its life, the owner will have to meet a few social commitments given Vorkuta town's formation around this one enterprise," the head of PR at Severstal, Anastasia Mishanina, said of the $200 million secured for Vorkutaugol – less than the subsidiary's two EBITDAs averaging $109 million/year over the last five years.

"Vorkutaugol is an arduous business done in very rough conditions [55 people were killed by blasts in two of its mines in 2013 and 2016] and with above-average costs, but it is gainful at today's coal price [on Dec. 6 assessed by Platts at $339/mt FOB Australia], and will stay so, even if the market normalizes to $200-$250/mt," said Boris Krasnozhenov, head of research at Alfa Bank.

Effect on CO2 neutral

The moves are not expected to make dramatic decreases in the companies' carbon footprints, as they will continue using the same coal quantities, although they will no longer burn fuels to heat the enterprises or account for methane emission intrinsic to underground mining. The elimination of these GHG contributors will enable some CO2 cuts, said Sergey Nedelin at Metals and Mining Intelligence.

Where the carbon border adjustment mechanism [starting in the mid-2020s] is concerned, the sale of Vorkutaugol and the spin-off of Raspadskaya might be relevant if the regulation targets direct emissions from the production process and disregards indirect and upstream emissions.

"They may be rid of their mines, but Russian steelmakers will remain reliant on coal for a while. The country's blast furnace park is too young to talk about its closure," said Nedelin, adding that Severstal is about to modernize its most powerful blast furnace, and last year Evraz fully rebuilt blast furnace No. 6 at its Nizhny Tagil mill.

Over the next 10 years, the surest way to reduce carbon footprints will be through modulating coke consumption at existing furnaces by using higher quality inputs, which can help cut back coke use by 30-50 kg per tonne of molten iron, down from 420 kg/mt currently, he believes.

ESG benefits unlocked

Improvements in the companies' ratings – rather than their carbon footprints – is a more probable outcome of writing off coal. Severstal will get a chance to even up ESG scores with NLMK [which has no captive coal] awarded by chief ESG performance appraisers, Sustainalytics and MSCI, according to Krasnozhenov.

Sustainalytics has upgraded NLMK's ESG risk rating to 28.1 (with 20-30 range being medium) placing it among top five of the 140 steel companies analyzed by Sustainalytics. Severstal and Evraz score 30.7 and 32.6, respectively, with the 30-40 range described as high risk.

NLMK scores better in MSCI's ESG ratings too. The company is assigned BBB (average among the 31 rated steel companies), and so is Evraz, while Severstal – with a B rating – is placed among the laggards.

"For convenience, investors and ratings agencies measure steelmakers by Scope 1&2 emissions separately from Scope 3, which puts companies integrated in coal at a disadvantage as their Scope 1&2 appear inflated. Upon the completion of the Vorkutaugol sale, our position in ESG ratings should improve," said Zaluzhsky.

Vorkutaugol accounts for 14% of Severstal's emissions; its sale will clear Scope 1&2 of 3.5 million mt of CO2/year, although the steel company will continue buying the same amount of Vorkuta coal.

The two majors' transitions from coal could set a trend, but other steelmakers may not necessarily latch on to it. Mechel with its reputation for being more of a coal producer, and MMK with its below 50% coal self-sufficiency, may keep hold of their mines regardless, said Krasnozhenov.