Coalcorp saga a lesson for miners in Colombia

Greetings investors!

The past 18 months have been a heck of a ride for Coalcorp Mining Inc. (TSX:CCJ), and especially for its shareholders. Last summer the stock more than doubled, gave up virtually all of those gains by November, and doubled again in identical fashion by December before falling back, yet again.

It's currently flatlining at $0.17 Cdn per share after posting a multi year high of $5 and change.

So what went wrong?

Coalcorp owns the La Francia open pit coal mine in northeastern Colombia. Or did, rather. They want to sell the whole shebang to a subsidiary of Goldman Sachs for US$151 million, which would effectively put them out of the coal mining business.To do that, the company is busy fighting an injunction by a group of former directors who are alleging slander and other nasty things.

This story is kind of like the soap operas you see on Colombian television – 'Pasion de las Gavilanes', or 'Cafe', or 'El Cartel de los Sapos', to name a few. They're all about blood and malfeasance and vengeance and betrayal and pay back, which pretty well sums up any kind of business venture that I've seen unfold in Colombia over the past 10 years when it involved a foreign company trying to take a profit out of the country.

Coalcorp's original plan was to built a transportation network linking the coalfields in the northeast with ports on the Caribbean coast, and that initially attracted me to the company. Colombia is notorious for its port capacity problems, and being able to get more coal reliably to the port was the keystone of the company's growth plan and future profitability.

In hindsight, it may have been unwise for a bunch of vanilla Canadian guys to go there with the publicly stated objective of pumping millions into the local infrastructure, and blithely hope that investors and regulatory agencies would take notice, while the FARC and trade unions and other local swains wouldn't.

Because I think they did notice. The vested interests in Colombia, the real stakeholders, are all but invisible to the North American eye. You don't see them, but your domestic suppliers do, and probably quite frequently. It wasn't that long ago – three years in fact – that I read in the local media about some wise guys who crept into a reload center in the southeast and blew up 30 oil trucks, ostensibly to discourage domestic companies from serving offshore oil companies. But I suspect the company's real sin was the failure to keep up protection payments. Events like that never make the North American newspapers. They aren't intended to. The FARC may be a little outdated politically, but they're quite astute when it comes to business.

So it's not actually surprising to me that Coalcorp had some US$49 million at the beginning of the year and was pinching pennies to square the interest on its 12% convertible notes by the end. I'm guessing the company has been looted by local interests over the past few years, which would include all the usual suspects – local government, unions, port authorities – and probably a few we can only guess at.

It was apparent that things were seriously awry by the third quarter of last year, when low priced coal contracts, a rail strike, and problems with the mining contractor resulted in negative cash flow from operations, and a net loss of $0.11 per share for the quarter. The earlier quarter – the 2nd of '09 – had been no picnic either! Labour costs rose 85% (wow!) resulting in a net 36% increase in mine overhead. Also, mine royalties to the government increased by $2 per tonne.

Last summer the company tried to raise some money by selling 40% of the Caypa mine, another coal property it owns, for US$25 million to a company called Xira. The money was supposed to arrive in tranches, followed by a US$1 per tonne sales commission on subsequent production. Coalcorp dutifully transferred its 40% ownership on an initial payment of $1 million, but then the deal fell apart when it noted an 'extraordinary third party transaction' with an offshore anonymous Panamanian entity (ding, ding!). Coalcorp complained and Xira responded by withholding the subsequent payments and refusing to pay the commission.

Boy, how to lose a deal in 90 seconds! By February, the sale was reportedly on again, when the company announced an initial US$7 million payment had been made as part of a settlement agreement, whatever that involves, it's not described in detail, plus 'certain other payments and deliveries required to be made on future dates'. Huh..?

Meanwhile, or just prior to all this, the company was announcing its goal for 2010 was a return to positive operating cash flow. But that's hard to do without a mine. In January, the company was proposing the sale of La Francia as an alternative to bankrupcy.

I'm not sure what the status of their former capex plans are, the rail/port expansion etc. They've already sold their assets at the port of Cartegena after running into permitting issues, and have only temporarily resolved their port access problem through a rail discharge agreement with a third party.

As for the rest? The money that went into purchasing an 8.43% interest in the Fenoco railroad? Or the even larger percentage of the new port development at Santa Marta? I don't think we'll ever know that story without a lot of forensic accounting. However, I'll be interested to note who – or what – eventually ends up with those assets.

Coalcorp shares now trade at roughly half their book value, or $0.17 per share on 173 million shares issued and outstanding.

Careful out there.