The new year is likely to bring an IPO for coke and power producer SunCoke Energy Partners LP, which is being spun off from SunCoke Energy Inc. (NYSE: SXC) and will control coke plants at Haverhill and Middletown in Ohio.
Parent SunCoke Energy Inc. is the largest independent producer of coke in the Americas, as measured by tons of coke produced each year. It has designed, developed and built, and owns and operates, five cokemaking facilities in the U.S., including Haverhill and Middletown, and designed and operates one cokemaking facility in Brazil. Upon the closing of this public offering, the parent will convey to the new company an interest in the entities that own the Haverhill and Middletown facilities, which will result in it owning a 65% interest in each of these entities.
The parent’s other coke plants, like the Jewell plant in Virginia and Granite City plant in Illinois, plus metallurgical coal mining operations mostly in Virginia, will remain with the parent. Those coal mining operations sold approximately 1.4 million tons of met coal in 2011.
Parent SunCoke Energy Inc. became a publicly-traded company in 2011, and completed its two-step separation from oil refiner Sunoco Inc. in 2012.
Involved in this deal is the Haverhill Coke Co. LLC facility located in Franklin Furnace, Ohio, and the Middletown Coke Co. LLC facility located in Middletown, Ohio, next to an AK Steel plant where the product coke is sold.
Said a Dec. 11 Form S-1/A prospectus from the IPO company: “The Haverhill and Middletown facilities have a combined 300 cokemaking ovens with an aggregate capacity of approximately 1.7 million tons per year and an average age of four years. We currently operate at full capacity and expect to sell an aggregate of approximately 1.7 million tons of coke per year to two primary customers: AK Steel Corporation, or AK Steel, and ArcelorMittal USA, Inc., or ArcelorMittal. All of our coke sales are made pursuant to long-term take-or-pay agreements. These coke sales agreements have an average remaining term of approximately 13 years and contain pass-through provisions for costs we incur in the cokemaking process, including coal procurement costs, subject to meeting contractual coal-to-coke yields, operating and maintenance expenses, costs related to the transportation of coke to our customers, taxes (other than income taxes) and costs associated with changes in regulation.”
Besides coke, company also sells byproduct steam and electricity
The first of two phases of the Haverhill facility, or Haverhill 1, includes a process steam plant which uses hot flue gas from the cokemaking process to produce low-pressure steam. That steam is sold to a third-party. The Middletown facility and the second phase of the Haverhill facility, or Haverhill 2, include cogeneration plants that use the hot flue gas created by the cokemaking process to generate electricity. The electricity is either sold into the regional power market or to AK Steel under energy sales agreements.
Parent SunCoke Energy Inc. has agreed to grant the new company certain preferential rights to growth projects and acquisition opportunities in the United States and Canada. If the parent chooses to divest any of its existing cokemaking facilities or to purchase other existing cokemaking facilities, the IPO company also has a right of first offer for those facilities. “We believe there is an opportunity to continue to develop new cokemaking facilities as a result of aging existing cokemaking capacity, tightening environmental standards and the continued reliance on imported coke in the United States and Canada,” the company said. “Our sponsor is currently seeking permits for a new facility with 660,000 tons of cokemaking capacity in Kentucky, and we will have the option to acquire our sponsor’s interest in this facility if it is constructed.”
The Middletown facility commenced operations in the fourth quarter of 2011 and did not operate at full capacity until the end of the first quarter of 2012. The IPO company’s coke sales volumes for the twelve months ending Dec. 31, 2013, are projected to be about 1,740,000 tons as compared to approximately 1,678,000 tons for the twelve months ended Sept, 30, 2012. Middletown is expected to operate at full capacity for the entire forecast period, producing an additional 86,000 tons as compared to the twelve months ended Sept. 30, 2012, and an additional 532,000 tons as compared to the twelve months ended Dec. 31, 2011.
Coal procurement costs per ton, which are passed through to customers, are projected to be lower during the twelve months ending Dec. 31, 2013, as a result of decreased market prices for coal since the first quarter of 2012. Under the coke sales agreements, coal costs are a pass-through component of the coke price, provided that the company realizes its targeted coal-to-coke yields. When the company achieves these targeted yields, coal prices (and changes in coal prices) are not a significant determining factor of profitability, although revenue and cost of sales are affected in approximately equal amounts, thereby changing the cost of sales as a percentage of revenue.
For example, during the twelve months ended Sept. 30, 2012, the company’s average coke selling price was around $391 per ton and the cost of sales was about $336 per ton. For the forecast period, the company expects its average coke selling price to decrease by about $40 per ton to around $351 per ton while cost of sales is expected to decrease by about $47 per ton to around $289 per ton, both impacts being driven by a decrease in coal procurement costs per ton.
Coke is a principal raw material in the blast furnace steelmaking process. It is generally produced by heating met coals in a refractory oven to approximately 2,000 degrees Fahrenheit, which releases certain volatile components from the coal, transforming the coal into coke.
New company hopes to participate in new coke capacity markets
According to CRU, a leading publisher of industry market research, coke demand in the U.S. and Canada was an estimated 19.5 million tons in 2011. Approximately 90% of demand, or 17.5 million tons, was for blast furnace steelmaking operations and the remaining 10% was for foundry and other non-steelmaking operations. CRU expects blast furnace steelmaking coke demand in the U.S. and Canada to grow by 2 million tons, or 11% by 2016 driven by a recovery in steel demand over the same time period.
“Our core business model is predicated on providing steelmakers an alternative to investing capital in their own captive coke production facilities,” the company noted. “We direct our marketing efforts principally towards steelmaking customers that require coke for use in their blast furnaces. According to CRU, there is approximately 14.4 million tons of captive cokemaking capacity in the United States and Canada. The average age of capacity at these captive facilities is 36 years, with 24% of capacity coming from facilities over 40 years old. As these cokemaking facilities continue to age, they will require replacement, providing us with investment opportunities. In addition, we believe that we may have opportunities to acquire steelmakers’ captive facilities as well as merchant coke producers’ facilities.”
The Haverhill 1 facility began coke production in 2005 and consists of 100 ovens and a heat recovery system that produces process steam. The Haverhill 2 facility began coke production in July 2008 and consists of an additional 100 ovens and a cogeneration facility for the production of electricity. In total, the Haverhill cokemaking facility has a cokemaking capacity of 1.1 million tons per year.
Haverhill 1 includes a process steam plant that generates low-pressure steam from the flue gas produced during the cokemaking process which is sold to an affiliate of Goradia Capital LLC that owns and operates an adjacent chemical manufacturing complex. Haverhill 2 includes a cogen plant that uses the hot flue gas produced during the cokemaking process to generate electricity. The cogen generates approximately 45 MW per hour on average and is interconnected to the regional transmission system in the PJM region.
The company procures substantially all of the met coal requirements for Haverhill from third-party suppliers under one- to two-year agreements. It sells substantially all of the coke under long-term agreements to two customers, which are two of the largest blast furnace steelmakers in North America. Approximately 550,000 tons of coke per year is sold to ArcelorMittal under a contract that expires in December 2020 and around 550,000 tons of coke per year is sold to AK Steel. Under their respective coke sales agreements, both ArcelorMittal and AK Steel (through a representative on a coal committee) participate in the selection of the coal blends for the Haverhill coke operations. Coal is blended and delivered to the facilities under long-term agreements with a major railroad.
All of the coke from Haverhill 2 is sold to AK Steel. Subject to certain limited termination rights, the coke sales agreement with AK Steel expires on Jan. 1, 2022, and automatically renews for two successive five-year renewal periods unless either party provides at least one year prior notice to terminate the agreement at the end of the respective term or renewal term.
SunCoke is required to produce and deliver, and AK Steel is required to purchase, on a take-or-pay basis, approximately 550,000 tons of coke per year. The coke sales agreement may be terminated by AK Steel at any time on or after Jan. 1, 2014, upon two years prior written notice if AK Steel: permanently shuts down iron production operations at its steel plant works in Ashland, Ky.; and has not acquired or begun construction of a new blast furnace in the U.S. to replace, in whole or in part, the Ashland plant’s iron production capacity. If such termination occurs at any time prior to Jan. 1, 2018, AK Steel will be required to pay a significant termination fee.
The Middletown facility commenced operations in October 2011 and has a cokemaking capacity of about 550,000 tons per year. The cogen generates approximately 45 MW per hour on average. The Middletown cogen is interconnected in the PJM regional transmission operator area.
All of the Middletown coke is sold to AK Steel under a long-term agreement. Under this agreement, AK Steel (through a representative on a coal committee) participates in the selection of the coal blends. Purchased coal is delivered by multiple rail or barge operators under short-term agreements to a coal terminal and blending facility owned by a major terminal operator. The individual coals are then blended by the terminal owner and delivered to Middletown by a major rail carrier using dedicated rail cars. Both the coal handling and blending services and coal blend transportation services are provided under long-term agreements that coincide with the coke sales agreement. In addition, the coal handling and blending agreement and the coal blend transportation agreement contain minimum volume commitments at levels slightly below the annual capacity of the Middletown facility and, if not met, require SunCoke to pay deficit charges.
The coke contract with AK Steel for Middletown expires in 2032, and automatically renews for two successive five-year renewal periods unless either party provides at least one year prior notice to terminate the agreement at the end of the respective term or renewal term. AK Steel is required to purchase, on a take-or-pay basis, all of the coke SunCoke produces at the Middletown facility. It is required to produce and deliver a minimum of about 550,000 ton of coke per year to AK Steel. If SunCoke is unable to meet its supply obligations under the Middletown coke sales agreement, it is obligated to use commercially reasonable efforts to procure coke that meets the coke quality standards or pay AK Steel for damages related to their procurement of replacement supplies.
Haverhill, Middletown energy contracts tied to coke sales deals
SunCoke has an energy sales agreement with AK Steel that expires on Jan. 1, 2022, and automatically renews for two successive five-year periods unless either party provides at least one year prior notice to terminate the agreement at the end of the respective term or renewal term. The term of the energy sales agreement runs concurrently with the Haverhill coke sales agreement, including any renewals. The energy sales agreement is subject to automatic termination upon the termination of the related Haverhill coke sales agreement.
Under the Haverhill energy sales agreement, 50% of the electricity generated by the cogen associated with Haverhill 2 is sold to AK Steel, on an output basis at a fixed price. The balance of the electricity generated by the facility is sold by SunCoke into the PJM market. On June 1, 2012, SunCoke entered into a supplemental energy sales agreement under which AK Steel was granted the annual option to purchase the remaining 50% of energy generated by the Haverhill 2 cogen at a price based on published CME Group future prices. The supplemental energy agreement expires on the earlier of the date on which the related coke sales agreement terminates, or Dec. 31, 2015.
Under the energy sales agreement, Haverhill is not obligated to produce or deliver any set quantity of electrical energy and is not subject to any early termination penalty. Haverhill is responsible for delivering the energy to an interconnection point between the cogen adjacent to the cokemaking facility and the PJM transmission grid. Once Haverhill delivers the energy to the interconnection point, AK Steel is then responsible for making arrangements for transmitting the energy from the point of delivery.
The Middletown cogen sells to AK Steel under an energy sales agreement that expires in 2032, and automatically renews for two successive five-year renewal periods unless either party provides at least one year prior notice to terminate the agreement at the end of the respective term or renewal term. The energy sales agreement is subject to automatic termination upon the termination of the Middletown coke sales deal. Under the Middletown energy sales agreement, all of the electricity generated by the Middletown facility is sold to AK Steel, on an output basis, at a fixed price subject to certain adjustments. The cogen is expected to generate about 45 MW of electricity per hour on average. Under the agreement, Middletown is not obligated to produce or deliver any set quantity of electrical energy and is not subject to any early termination penalty.
Middletown is responsible for delivering the energy to an interconnection point between the cogen and the PJM interstate transmission grid. Once Middletown delivers the energy to the interconnection point, AK Steel is then responsible for making arrangements for transmitting the energy from the point of delivery.