Deepwater, Coal and India

Alpha Metallurgical Resources ($AMR), Warrior Met Coal ($HCC), Noble ($NE), Tidewater ($TDW), Valaris ($VAL) and Edelweiss Financial Services.

I had written a different introduction for this article earlier, but after receiving the below criticism for announcing this article in advance, I now have the perfect opening:

This isn’t about following others: it’s about humbly exploring their perspectives with the hope of learning something new. Stay curious, not arrogant in your convictions. Yes, you can already find three of my own ideas on my profile (here, here and here), but today, since I’m curious, I want to do my own due diligence on the stocks bought by Monish Pabrai.

Pabrai’s fund performance (-22% YTD) has been pretty bad. But as I also pointed out in my post on Europe, focusing on past performance alone is a rather myopic way to approach investing. You have to go beyond the numbers and really look at the businesses behind them.

Rather than focusing on just one investing idea, I’ll share a few, all concisely packed into one place, I know you appreciate that. I’ll take a look at the broader environment and talk about the companies themselves to give more context.

Let’s find the culprits of this performance and see if they represent good value:

Noble ($NE), Tidewater ($TDW) and Valaris ($VAL).

The fact that energy demand will continue to rise is a safe assumption to make.

Consider that the global population will keep growing, with around 70 percent of that growth coming from low-income and lower-middle-income countries, especially in Sub-Saharan Africa and South Asia. This isn’t just about numbers. These countries will not only add more people, but both the existing and emerging populations will push to improve their standard of living. As more people move into the middle class, energy demand will rise sharply: better housing, more appliances and increased mobility.

The real question is where this energy will come from. I think it’s wishful thinking to assume nuclear and renewables can both keep up with growing demand and fully replace fossil fuels.

I was in Geneva last November attending an outlook on markets for 2025, given by an economist from a well-known bank to us intermediaries. After his presentation, I waited in line to have a chat with him. First, you should know that basically 99% of the attendees went straight to the buffet, only 1% tried to engage in a discussion with him. That says a lot about the market players. Anyway, I asked him about coal, specifically thermal. He responded by saying that coal is “super polluting” and that he was using solar panels, adding that most of the population is moving in that direction. I didn’t try to argue, but I walked away feeling very happy, knowing he improvised the answer. It felt like an extrapolation of his own “Western” lifestyle and worldview, applied broadly to the entire world, something many people tend to do.

This relates to oil as well:

As investors, we must recognize that electrification is an accelerating trend. The shift from a fuel-based economy to a mineral-based one will drive unprecedented demand for critical minerals and I won’t try to litigate that. However, we also need to acknowledge that throughout history, other sources of energy have not been fully displaced. Every energy transition has been an addition rather than a replacement. In fact, in 2023, global coal consumption reached between 4.5 and 4.7 billion tonnes of coal equivalent, roughly three times the level seen in the 1960s, according to data from the International Energy Agency (IEA) and the BP Statistical Review of World Energy.

This is exactly why so many past forecasts have proven wrong:

This graph is from 2020. Interestingly, it was also noted and supported at the time by an equity portfolio manager with over 20 years of experience. It’s a good example of how easy it can be to fall into wishful thinking, especially when you compare it to how consumption actually played out by source:

In the specific case of oil, as pointed out by Goehring & Rozencwajg the IEA has a history of underestimating global oil demand. Over the past 14 years, including the pandemic-impacted 2020, the IEA has been overly pessimistic in 12 of them. Excluding 2020, the IEA revised its demand estimates upward by an average of 800,000 barrels per day annually. To put this in perspective, the magnitude of this error alone would rank as the 21st largest oil-consuming country globally:

Noble (NE), Tidewater (TDW), and Valaris (VAL) represent one type of play on the above thesis.

In case you are not familiar these offshore companies own drilling rigs, which are leased to operators at fixed daily rates. When demand rises, utilization goes up, daily rates increase, and contracts tend to get longer. The depletion of onshore oil reserves, driven by high decline rates and shrinking recoverable volumes will likely push exploration and production toward offshore fields. Technological advancements are making it increasingly cost-effective to tap into large offshore reserves, bringing breakeven levels down to very competitive ranges.

The market pessimism is still recovering from the early 2010s when offshore drillers expanded capacity by taking on large amounts of debt. This strategy led to an oversupply of floater and jackup rigs just as oil prices crashed in 2014. As a result, day rates plummeted and many companies went bankrupt in the years that followed. But this is actually the first attractive aspect of the setup. The bankruptcies wiped out much of the debt, improving the balance sheets of the companies. Additionally, consolidation within the industry has taken place, which should support higher day rates going forward.

The key point is that if dayrates rise, the supply of floaters remains exceptionally tight. Bringing a newbuild online would take at least four years, resulting in a significant lag before any additional capacity enters the market. In the meantime, these companies will print out cash.

There are currently no new offshore drilling vessels in the global order book. It’s also highly unlikely that anyone will order another seventh-generation rig, especially as the industry shifts toward eighth-generation technology and existing rigs are trading at a fraction of their replacement cost. A state-of-the-art eighth-generation rig would cost more than $1.2 billion. To justify such a capital-intensive investment and achieve an unlevered return in the mid-teens, you would need dayrates above $1 million per day. Additionally, you would need a long-term contract as debt financing options for such projects are extremely limited.

Day rates are still solid, it's true they've ticked down a bit recently, with leading-edge floater rates around $470K, down from about $500K a few quarters back. But we also have to recognize that these companies' stocks have gone basically nowhere over the past three years, even as day rates have improved significantly:

Perhaps this is exactly what insiders are starting to notice. Noble, Tidewater, and Valaris have all seen some insider buying lately, along with position increases from a few notable investors.

And then you read this:

New contracts with total contract value of between $2.2 to $2.7 billion include the Noble Voyager and a second Noble V-class 7th generation drillship, each awarded 4-year contracts with Shell in the US Gulf. The two contracts, scheduled to commence in mid 2026 and Q4 2027, each include a base dayrate value of $606 million. Furthermore, there is the potential to earn performance incentive compensation of up to a maximum of 20% of the base value. The performance incentive is not guaranteed and is contingent upon achieving specific performance targets. - Drilling Contractor 15.05.25

Shell just committed to a four-year contract. For context, Noble’s average contract length is around 1.5 years. So why would Shell lock in for that long? Doesn’t it suggest they expect day rates to rise and are trying to secure favorable terms while they still can?

So now, which one to choose: Noble, Tidewater, or Valaris? All three stand to benefit from higher dayrates, but the more bullish you are, the less contracted you want them to be since lower contract coverage means more torque following rising rates. However, my preference would go for Noble.

They control nearly 30% of the top-tier seventh-generation drillship market, which gives them a strong position. They also pay an attractive 8% dividend, making the wait easier to handle. But perhaps most importantly, even if it cannot be easily quantified, the Møller family holds a 19% stake. Personally, I would feel confident thinking I am “partnering” with these people.

Alpha Metallurgical Resources ($AMR) and Warrior Met Coal ($HCC).

There are two main types of coal: thermal and metallurgical. Within each, quality varies, but the distinction is critical: thermal coal is primarily used for power generation, while metallurgical coal is essential for steelmaking. You cannot produce primary steel without metallurgical coal. It's a core input in blast furnaces (BOFs), which are long-term assets with lifespans of 40 to 60 years. While there are electric alternatives, such as electric arc furnaces (EAFs), these are mainly suited for recycling scrap steel. And while recycling is important, you cannot recycle your way to growth.

China and India are the largest consumers of steel, followed by Japan and South Korea. India’s economic trajectory points to significant infrastructure and manufacturing expansion. This means its demand for primary steel, and therefore metallurgical coal, is only set to grow. And once again, by definition, you cannot recycle your way to growth. China’s EAF steelmaking has been developing rather slowly over the past few decades. Why did that happen in China? Because during its rapid growth phase, scrap supply was naturally limited. The same dynamic applies to India today. While recycling capacity may exist, the reality is that India is still in the midst of its growth trajectory so the availability of scrap will remain restricted, just as it was for China. So, no, electric arc furnaces will not boom in India.

But now, let’s just trust the below statement in regards to the superiority of EAF:

EAFs offer several advantages over traditional blast furnaces, including flexibility in production, efficiency, and lower greenhouse gas emissions. They can use 100% steel scrap or green hydrogen-based sponge iron, making them environmentally friendly.

Even if this is true, which I doubt, it doesn’t change the reality that there are more blast furnaces planned to come online as shown in this graph from the Global Energy monitor:

And then I read this, from Caitlin Swalec, program director for heavy industry at GEM:

“The progress is promising for a green steel transition. Never before has this much lower-emissions steelmaking been in the pipeline. At the same time, the buildout of coal-based capacity is concerning. What the industry needs now is to make these clean development plans a reality, while backing away from coal-based developments.”

What I read from this is the following: “Hey guys, why do you keep adding blast furnaces? Switch to electric furnaces.” I'm not trying to oppose the green transition, don’t get me wrong, I’m just assessing the reality.

Even though electric arc furnaces are expected to make up a larger share of global steel production, that doesn’t necessarily mean blast furnace capacity will decline in absolute terms. In fact, if all currently planned projects and retirements go ahead in the next years, the global steelmaking fleet is projected to add approximately 171 million tonnes per annum of new BOF capacity, alongside 310 mtpa of EAF capacity and 80 mtpa from other or unspecified technologies. I don’t see any displacement here; rather, I see an addition of both types.

The current coal equities are quite depressed due to low coal prices, and most companies are operating at a loss.

AMR is no exception, they’re currently underwater. The last earnings update was disappointing on the costs side; however, we must acknowledge that AMR has no debt, unlike many of its peers. Additionally, they’ve increased their credit facility. This is key, as their strong balance sheet gives them the flexibility to wait out the downturn. How long will that take? It’s impossible to predict. However, based on their current cash burn rate, they should be able to sustain operations comfortably for, say, at least two years. When coal prices eventually normalize these guys will have significant potential for gains given their volumes and you have also to factor in that the current share count is much lower than it was at previous highs.

HCC is at the other end of the spectrum, mining higher-quality coal with different, more cost-effective methods. This places them among the lowest-cost producers, one of the best advantages to have during a market downturn:

As a result, they aren’t reporting the same losses as AMR. It follows that when coal prices normalize, HCC won’t benefit from the same momentum that AMR will.

Blue Creek (the one on the left) is the current project under development, requiring an additional US$300 million out of about US$1 billion. Once the project is operational (Q2 2026) capital expenditure needs will decrease significantly, enabling about 20% free cash flow yield (depending on coal prices of course) that could be directed toward substantial share buybacks (!).

Overall, metcoal isn’t going away anytime soon. With the wishful thinking about its rapid decline and the restrictions institutional investors are subject to, retail investors have the opportunity to scoop up debt-free coal equities that will generate quite some cash with a normalization of prices.

Edelweiss Financial Services.

This is a holding company comprising seven independent businesses, a diversified financial services group that includes the “EAAA” segment, the largest private credit and real assets manager in India.

Management plans to unbundle the group and unlock value for shareholders by spinning off four of the businesses over the next 4–5 years, at a pace of roughly one per year. Long story short, the current market cap likely understates the company’s true value. EAAA alone is worth as much as, or even more than, Edelweiss’s entire market cap and then you have the rest for free.

Edelweiss announced plans to sell a minority stake in this EAAA alternative asset management arm and later list it on the stock market through an IPO distributing the new shares directly to its existing shareholders. They’ve done this once before, in 2023, when they spun off their wealth management business, Nuvama (formerly Edelweiss Wealth Management). At the time, the market mispriced the dividend-in-specie, leading to shareholders getting Nuvama shares for free and Edelweiss stock jumping nearly 80% in a day. The difference is that EAAA is a potentially much more valuable business which could make this upcoming spin-off even more impactful for shareholders.

Given the scale of major global players, I estimate the EAAA segment could reasonably be valued at 15% of their total AUM.

This is a conservative estimate. While EAAA may lack the brand strength and fee advantages of global players, it has grown its AUM 2.5x over the past four years: a level of growth that arguably deserves a premium, not a discount. Based on that, I value the EAAA business at ₹8,205 crore, while the entire conglomerate trades at just ₹8,384 crore. In other words, by applying a modest 15% AUM multiple, you're essentially getting the rest of the group for free, and even that multiple is conservative.

So, what comprises the remainder that you're effectively getting for free, is it any good?

With the same method used for the EAAA business (with different peers), the other segments alone should be worth at least ₹12,000 crore. That puts Edelweiss’s total value around ₹20,000 crore, over 2.5x its current market cap. And even then, I believe these estimates are still on the conservative side.

All lines of business are growing rapidly. Looking at the bigger picture, India became a $1 trillion economy in 2008, and GDP has doubled roughly every 7 to 8 years since. By 2023, it had climbed to fifth place in global rankings and is expected to reach $10 trillion within the next decade, becoming the third-largest economy in the world. The mutual fund industry alone has grown from ₹10 trillion in 2014 to ₹60 trillion today. With that kind of momentum, there is plenty of growth ahead for all the businesses inside this conglomerate.

My problem with indian companies, shaped by past experiences, is that the people behind often get rich, but shareholders don’t. So I’m a bit reluctant to wade into these things. That said, I understand why Pabrai put 21% of NAV here, he’s Indian and likely knows the people behind these businesses well.

Conclusion

I find that marrying the coal and deepwater theses at the same time requires some courage, but I can’t say I don’t like Pabrai’s holdings.

As always, I will be happy to be proved wrong in the comments and as always, go beyond performance!

The next EU investment pick is already in the pipeline, see you soon.

Sincerely,

The Boredom Baron

Disclaimer:

The content of this article reflects my personal views and is provided for informational and educational purposes only. It does not constitute investment advice, financial advice, or a recommendation to buy or sell any securities or financial instruments.

While I strive for accuracy, the information presented may contain errors or omissions, or be based on sources believed to be reliable but not independently verified. I make no representations or warranties as to the completeness, accuracy, or timeliness of any information presented.

This article is not intended to provide, and should not be relied upon for, investment, legal, tax, or accounting advice. The securities and strategies discussed may not be suitable for all investors. Past performance is not indicative of future results. All investments involve risk, including the potential loss of principal.

I may hold, or have held, positions in the securities mentioned. I do not receive compensation for writing this article, nor do I intend to influence the price or trading volume of any security discussed. All opinions are subject to change without notice.

This content is written strictly in a personal capacity and does not reflect the views of any employer, organization, or associated entity. Readers are strongly encouraged to conduct their own independent research and to consult with a licensed financial advisor before making any investment decisions.