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  Coal is dead -- just like oil was

BENJ GALLANDER and BEN STADELMANN

Saturday, October 14, 2000

When the price of oil nose-dived many analysts predicted continued low prices, but we were skeptical. We concluded the price of this commodity was cheap, and a rebound was in store that would be reflected in the value of stocks in this sector. Coal appears ready to mimic the oil scenario.

Our first coal bet was made around Christmas, 1997, when the Luscar Income Fund was purchased at $7.90. Westshore Terminals was bought a month later at $7.55.

When prices for metallurgical and thermal coal continued to drop from their highs of $53.30 (U.S.) a tonne and $40.30 respectively in 1996, to about $39 and $28.75 today, the financial stability of both of these organizations teetered. This caused Luscar to eliminate its dividend, leaving us with a black lump instead of a shiny new wagon.

Luscar is the biggest coal producer in Canada, with 11 mines in production and a market share of more than 50 percent. The firm has a huge debt load, largely piled on by their purchase of another big coal player, Manalta Coal. This buy put additional pressure on the unit price, causing it to sink lower, at which point our position in the company was nearly quadr upled at $1.01 (Canadian). The stock dropped yet further, bottoming at 65 cents. For the first six months of this year, income rang in at about $5.5 million, down almost two-thirds from last year. This was merely sufficient to cover operating expenses and interest obligations. Nothing was left for unitholders.

While Luscar is a producer, Westshore Terminals is higher in the coal food chain. It operates a storage and loading facility in British Columbia that is the largest of its kind on the West Coast of North America. Revenue is based on the throughput at the terminal, so when volumes decline, revenue decrease, leaving less money to be distributed to unitholders. This did no t disturb us unduly in February, 1999, when we increased our position 150 per cent at $5.60. Unfortunately, as with Luscar, the timing of our reinvestment was off, and the units hit a nadir of $2.85.

Our confidence remains undeterred. As Westshore president Kirk Henderson said to us, "Asia is recovering, the coal price has stabilized, our te rminal is in excellent shape, and labour relations have improved." The deal Westshore is seeking with the Vancouver Port Authority to lower rent, with the savings being passed onto producers, would be a further boost.

Averaging down on a stock is a strategy that many market pundits eschew. Essentially it means placing another bet on a stock that has already prove n you wrong. From our perspective, if we buy a company and the stock price continues south, it may represent an opportunity to buy the firm at a better bargain -- if the fundamentals of the organization remain in order. The primary danger of this technique is that one can fall in love with a company, gamble too much on its future success, and end up with nothing if the outfit bellies up.

Coal is not a clean fuel and is a contributor to the greenhouse effect. Still it's unlikely to go the way of the dinosaurs. It provides 35 percent of the world's electricity, and 24 percent of the primary energy. Many de veloping countries see this fuel as one of the keys to improve their standard of living. Demand has been growing with the boom in the global economy. Plus, the increase of oil and gas prices means that some corporations are starting to look for an alternative to lower their energy costs. Old standby coal will fill the ticket in some cases.

After chaffing at bottoms, Luscar has rebounded to about $1.50 and Westshore to $4. We can easily see Luscar quadrupling from this level and re-establishing a healthy dividend to boot. Westshore also has a realistic possibility of a double in the next few years. In the meantime, the dividend of better than 10 percent will keep us satiated.

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