Polish mining industry on the edge

If you believe a more appropriate subject for this week’s posting would be the decision of the Swiss National Bank to effectively float the CHF, I advise you revisit this post, especially in the light of some politicians’ proposals to help out over half a million mortgage borrowers (and also currency speculators who have shorted the CHF) thumped by skyrocketing Swiss currency.

If not, I suggest we go back in time by 30 years, to bring back backdrop of miners’ strike in the UK in 1984 – 1985 which led to closures of several unprofitable mines. The atmosphere in the UK those days was in some aspects similar to what is happening in the Polish mining industry. Some commentators have attempted to equate Polish prime minister, Mrs Kopacz, to Mrs Thatcher, a comparison for many out of place. Needless to say, just as British mining industry was in deep need of turnaround, the Polish one also calls for it, while the treatment it receives might be named overhaul at best.

The current situation has deep historical roots. Back in PRL the mining industry, one of focal points of heavily industrialised socialist economy, was pampered. Miners, the pride and joy of comrades were granted numerous privileges then. Mines were developed regardless of economic legitimacy, actually in the same manner as all companies in the socialist economy were managed. In the wake of the shift into free-market economy rules of the game have changed, but not for everyone. Most mines have remained a stronghold of the PRL. In late 1990s one programme of winding down unprofitable mines was launched. Later on no comprehensive strategy for the Polish mining has been pursued. In the meantime, miners excelled at defending their fulsome privileges (at the expense of Polish taxpayers), thus decreasing competitiveness of Polish mines. Fluctuating coal prices for some time allowed the government to sweep the problem under the carpet. Coal market slumped severely in 2009, but quickly bottomed up and mines had enough capital and cash reserves to ride out the short crisis. Coal prices rebounded in early 2010 and despite well-blown-out costs Polish mines remained profitable until late 2012. Since mid-2012 coal prices gradually declined and according to market forecasts, are unlikely to substantially recover in the foreseeable future…

To examine the distress of Polish mining industry, let’s have a glance at some facts:

1. Mining is a commodity business, thus above-average volatile and exposed to price fluctuations. Each mine, with quite rigid costs (little flexibility on technological and human resources sides) is a price-taker. It means when good times roll in, a mine swims in cash, but faced with a downturn, it can go under quickly. A prudent financial manager should run a company in such way that effects of price movements are smoothed out.

2. Environmental policies, including those imposed by the EU, hit the coal industry. Preferences for low-CO2 emission energy sources bring down global demand for coal.

3. Despite EU regulations, Polish energy sector is doomed to use coal and key fossil fuel, given scarcity and prices of other resources. Therefore, power and heating plants will remain the key off-takers of Polish coal mines.

4. Mining is one of most heavily unionised industries in Poland. Trade unions in some of the mines have sprawled into pathological size. Their power must not be under-appreciated, since they are capable of bringing most of the mines into standstill. Their bargaining power in negotiations is amazing, given track record of consecutive governments of giving in and subsequently maintaining status quo in the industry.

One could reasonably ask why some mines are profitable, some not and why mining companies are profitable and others incur sizeable losses. All companies in the industry are affected by falling coal prices, but for some market environment means much lower profits, for others barely breaking even and for the worst, threat of going bust. I have taken the trouble to unravel the puzzle of why some companies fare much better than others, found several factors, but no comprehensive answer. Just to name a few reasons for varying incomes between companies:

1. poor corporate governance in state-owned companies; this includes incompetent, too quickly turning over management, lack of clear-cut strategy, strategic decisions made on the basis of political influences rather than business analyses,

2. different technology-related cost of coal extraction (in some mines drilling and extracting is much more costly than in others) and different calorie-count of extracted coal which impinges on its price – for this reason the same number of people may produce fewer tonnes of coal of worse energetic quality,

3. low work efficiency and overmanning, both underground as well as in overground administration,

4. one-side linkage between profitability of mines and remuneration of miners. Personnel costs account for about 50% of mines’ operating expenses, therefore the item has crucial impact on break-even point for mining companies. While miners demanded to quickly privatise profits of companies when coal prices were running high (bonuses, profit-sharing schemes), when market went down, they reach out for the state aid and refuse to give up on their privileges,

5. miners’ privileges which appear excessive in comparison to what other workers enjoy. Most hard-working people in this country of course do not have to work underground in heavy conditions, but also do not enjoy guaranteed 13th and 14th pay and several allowances and fringe benefits.

The current slump on coal market has forced the government to take steps to bail out the ailing industry. The restructuring programme is much belated and therefore has to be implemented in haste. A long-sighted manager (a rarity in the public sector) would gently launch such programmes when coal prices were high and industry was capable of absorbing restructuring costs from cash surpluses. For obvious reasons, such move would have been inconvenient for everyone… It must be underlined, the originally proposed restructuring programme treated the distressed industry really mildly.

After several attempts to defer insolvency of 100% state-owned Kompania Weglowa, the biggest mining company in Poland, running 14 mines and employing almost 50,000 people, the government was driven up against the wall. Either they had throw a lifeboat to it, or let it go under, with all consequences. The determination of the government to avert the bankruptcy of KW served as water to the mill of protesting miners… The insolvency of Kompania Węglowa would actually benefit nobody. In the scenario of mine liquidation the Polish energy sector would lose the biggest supplier, more than 100,000 people would be affected by redundancies. Economic consequences would include lower proceeds for the government from personal income taxes and social security contributions and higher social security spending. It could actually benefit predator investors who would buy single mines after asset-stripping and turn them around (maybe not the worst scenario)…

In some media reports I read some 70% of Poles support miners fighting to save their jobs and blame the government for collapse of mining industry. In contrast, when I look at comments under articles on the issue in the Internet, I notice growing anger and discontent towards privileges miners enjoy, blackmailing methods they resort to and meekness of the government. No wonder ordinary people feel disgruntled. If their employer had to be downsized, they could not count on generous severance packages. Most of them would get what they must be paid (salary for their notice period plus severance pay in the equivalent of one or two monthly salaries) and could not dream of two-year salary. Most of them would not boast about above-average earnings and for most of them, bankruptcy of their employer would be their, not government’s problem… In the market economy if your employer goes bust or downsizes and you are laid off, you have to go it alone! It seems miners are totally detached from the market economy. For them it does not matter whether anyone wants to buy the coal they extract, regardless of what invisible hand of free market shows, their jobs must be saved… Who is going to pay for it is beyond their interest.

Here comes the question about the dissimilarity between Poland today and Great Britain in mid 1980s. Mrs Thatcher had social support for her crackdown on unprofitable mines. But does Mrs Kopacz have support of Poles for closure of loss-making mines?

Yesterday the government and representatives of trade unions nailed down an agreement on mining recovery. The government succumbed to trade unionists and amended some of the provisions of restructuring plan:

1. there would be significant reshuffles in the ownership structure: merges, purchases, buyout, all designed to inject the cash to mines from wherever cash surpluses can be found,

2. instead of 4,000 job cuts, no one will be made redundant, however some salary cuts will have to be accepted,

3. severance packages for those employees who will voluntarily come forward to quit have been raised.

If somebody’s impression is that the government has just buggered it up, well… some things sound better left unsaid.

During a long discussion on how to turn around the Polish mines one modest proposal stood out. It was mentioned by former prime minister, Mr Marcinkiewicz, who put forward to hand over the unprofitable mines to trade unions and let them take charge of the business. Representatives of the trade unions quickly agreed to accept such gift, provided on top of mines they receive 3.2 billion PLN the government intends to spend on restructuring of the taken over mines! Some things sound better left unsaid…

Time will tell whether government’s turnaround strategy for the Polish mining proves successful. For the time being even the weather seems to be against the industry. For more than a week temperatures have not dropped below zero and a few times nudged to +10C.