Operating Review | Coal

A strong operational performance in 2007 boosted production volumes by 8% over pro forma 2006 results. The main contributors to increased volumes were record production from the South African and Colombian operations, additional coking coal production from the new Wollombi pit at Newlands and significant productivity gains at Oaky Creek. The acquisition of the remaining 50% of ATC/ATCOM from Total Coal South Africa (TCSA) and the remaining 50% of Narama also contributed to the result. Sales volumes over the same period improved by 6% despite the impact of infrastructure bottlenecks in Australia, contributing $50 million to EBIT in 2007.

Stronger realised export thermal prices in both the Pacific and Atlantic markets, partly offset by lower average coking coal prices, contributed $114 million to EBIT. The impact of the stronger Australian dollar against the US dollar more than offset the beneficial impact of higher prices, trimming operating profits by over $200 million compared to the previous year.

Ongoing constraints to the Australian coal chain at both major ports hindered sales growth and resulted in record levels of demurrage expenses, negatively impacting EBIT by $112 million in 2007, up by $58 million over 2006 levels. Xstrata Coal continues to take a leading role in working with state governments and the industry to improve the existing vessel queue management systems and achieve a sustainable long-term solution.

After stripping out the impact of coal mining sector inflation, CPI, demurrage and other one-off items, real unit cost savings of $77 million year on year were achieved, primarily from improved productivity at the South African operations and the Australian coking coal business.

Increased depreciation and amortisation charges of $90 million are due predominantly to the commencement of amortisation of the Richards Bay Coal Terminal export entitlement right in South Africa, combined with additional depreciation associated with the ATC/ATCOM and Narama acquisitions.

Overall, Xstrata Coal EBIT declined by 26% to $690 million, reflecting the impact of mining sector and CPI inflation, demurrage costs and amortisation compounded by the strength of the Australian dollar, which outweighed the higher received prices and volumes.

Annual Report 2007: Coal EBIT Variances

EBIT Variances	$m
EBIT 31.12.06 (pro forma)	937
Sales price*	114
Volumes	50
Unit cost – real	77
Unit cost – CPI inflation	(99)
Unit cost – mining inflation	(34)
Unit cost – foreign exchange	(202)
Foreign currency hedging	35
Demurrage	(58)
Other income and expenses	(33)
Depreciation and amortisation (excluding foreign exchange)	(90)
Acquisition	(7)
EBIT 31.12.07 (statutory)	690
*Net of commodity price linked costs

Australian thermal coal

Saleable production from the Australian thermal coal operations increased by 1% to 41.4 million tonnes, with growth from the Rolleston mine in Queensland more than offsetting the planned reduction in thermal coal volumes from the Newlands-Collinsville-Abbot Point (NCA) complex. Despite increased production, sales volumes were restricted due to reduced export volumes through the Hunter Valley coal chain which fell by 3% to 40.5 million tonnes.

Operating costs in 2007 were negatively impacted by $82 million in demurrage expenses, $41 million higher than in 2006. This was compounded by the cost impact of lost production in June due to severe weather conditions in the Hunter Valley and geological issues at Newlands Northern Underground. After adjusting for demurrage and other one-off costs, real local unit costs remained flat year-on-year due predominantly to increased production from the low cost Rolleston mine and ramp up of production from the new Ulan longwall.

Average received export thermal coal prices increased by 10% on the prior year to $51 per tonne and largely offset the impact of reduced sales volumes and increased cost pressures. The largest impact on EBIT came from the appreciation of the Australian dollar, which has strengthened by 11% over the prior year, leading EBIT from the Australian thermal coal operations to decline by 36% to $277 million.

Australian coking coal

Coking coal production increased by 21% to 6.8 million tonnes over the prior year, resulting from the commencement of production from the Newlands Wollombi pit and productivity improvements at Oaky Creek following the installation of the new longwall and more favourable geological conditions. Higher production was achieved despite the planned closure of the Oaky Creek open cut operation.

Sales volumes increased by 11% to 6 million tonnes, predominantly from the NCA complex as new coking production came on stream from Wollombi. Further growth was constrained by a lack of port and rail capacity for Oaky Creek exports through Dalrymple Bay. The acquisition of Tahmoor in October contributed 257,000 tonnes of hard coking coal.

After excluding the impact of demurrage, real local unit costs decreased by 9% against the prior year due to productivity gains at Oaky North resulting from new longwall equipment, and new lower cost production from Wollombi.

Constraints at the Dalrymple Bay coal terminal failed to dissipate throughout the year, with the queue at year end extending to 45 vessels, and demurrage costs impacting EBIT by $27 million, $14 million higher than in the previous year.

Despite improvements to both real unit costs and volumes, EBIT from Australian coking operations declined by 43% due to ongoing inflation, demurrage, a 12% decrease in average coking prices at $98 per tonne, reflecting the lower 2007 Japanese financial year benchmark, and the strength of the Australian dollar.

Annual Report 2007: Coal Summary Production Data

Summary Production Data   (million tonnes)	Statutory Year ended 31.12.07	Pro forma* Year ended 31.12.06
Total consolidated production	82.8	76.5
Total thermal coal	69.6	65.6
Coking Australia	6.8	5.6
Semi-soft Australia	6.4	5.3

Annual Report 2007: Coal Sales Data

Sales Data   (million tonnes)	Statutory Year ended 31.12.07	Pro forma Year ended 31.12.06
Consolidated Australian sales total	46.5	47.3
Coking export	6.0	5.4
Semi-soft coking export	6.4	5.3
Thermal export	26.6	29.0
Domestic	7.5	7.6
Consolidated South African sales total	24.9	20.3
Thermal export	13.7	13.2
Thermal domestic	11.2	7.1
Consolidated Americas sales total	9.9	9.2
Attributable Australian sales total	43.9	44.4
Coking export	6.0	5.4
Semi-soft coking export	5.8	4.9
Thermal export	24.7	26.8
Domestic	7.4	7.3
Attributable South African sales total	20.1	17.4
Thermal export	11.0	11.2
Thermal domestic	9.1	6.2
Average received export FOB coal price ($/tonne)
Coking Australia	98.1	111.2
Semi-soft coking Australia	62.5	68.0
Thermal Australia	51.2	46.4
Thermal South Africa	51.7	45.8
Thermal Americas	52.3	49.3

South Africa

Production from the South African operations increased by 20% over the prior year to 24.7 million tonnes, due predominantly to the acquisition of the remaining 50% of ATC/ATCOM and commencement of production from 5-Seam open cut operations. Export sales volumes increased by 4% to 13.7 million tonnes in line with port entitlement, while domestic sales volumes increased by 58% to 11.2 million tonnes, buoyed by local demand for power station coal as well as an additional 1.8 million tonnes sold free on rail to TCSA each year (ending in 2009) under the ATC/ATCOM acquisition agreement.

After excluding the impact of coal mining sector inflation, real unit costs improved by 7% year on year. Real cost savings were achieved through the introduction of lower cost production at Goedgevonden and 5 Seam open cut and a continued focus on efficiencies, with Xstrata Coal underground coal mining productivities now setting the benchmark for the South African industry.

In the Atlantic market, export thermal prices of $52 per tonne were achieved from South Africa, a 13% increase over the prior year. Stronger prices, together with increased volumes and real unit cost savings more than offset the impact of coal mining sector inflation and higher non-cash costs resulting from amortisation of the RBCT export entitlement and the ATC/ATCOM transaction. As a result, EBIT rose by 11% over the previous year to $109 million.

Americas

Xstrata Coal’s share of production from Cerrejón increased by 4% over the prior year on an attributable basis to 9.9 million tonnes, resulting from improved productivities following the delivery of new fleet equipment as part of the expansion to 32 million tonnes per annum. Sales volumes increased by 8% to 9.9 million tonnes over the same period, despite the loss of three weeks of loading capacity due to critical ship loader repairs. Average received export prices rose by 6% compared to 2006 to $52 per tonne.

Unit cost performance also improved in the second half in line with improved productivity. After excluding the impact of coal mining sector inflation, appreciation of the Colombian peso and $3 million in demurrage, Cerrejón reduced real unit costs by 3% over the prior year.

Overall the Americas contributed $161 million to EBIT in 2007, a 5% increase on the previous year. This increase is predominantly attributable to increased volumes and higher prices which offset the impact of inflationary pressures and the strength of the Colombian peso.

Annual Report 2007: Coal Financial and Operating Data

Financial and Operating Data   $m	Statutory Year ended 31.12.07	Pro forma** Year ended 31.12.06
Revenue: operations†	3,965	3,626
Coking Australia	587	598
Thermal Australia	1,996	1,887
Thermal South Africa	864	688
Thermal Americas	518	453
Revenue: other	236	131
Thermal Australia	180	105
Thermal South Africa	56	26
Total revenue	4,201	3,757
Coking Australia	587	598
Thermal Australia	2,176	1,992
Thermal South Africa	920	714
Thermal Americas	518	453
EBITDA	1,194	1,320
Coking Australia	214	300
Thermal Australia	508	622
Thermal South Africa	235	175
Thermal Americas	237	223
Depreciation and amortisation	(504)	(383)
Coking Australia	(71)	(50)
Thermal Australia	(231)	(186)
Thermal South Africa	(126)	(77)
Thermal Americas	(76)	(70)
EBIT	690	937
Coking Australia	143	250
Thermal Australia	277	436
Thermal South Africa	109	98
Thermal Americas	161	153
Capital employed	8,557	6,709
Australia	5,269	3,497
South Africa	1,481	1,438
Americas	1,807	1,774
Share of Group EBIT	7.8%	11.5%
Australia	4.8%	8.4%
South Africa	1.2%	1.2%
Americas	1.8%	1.9%
Return on capital employed*	9.2%	14.2%
Australia	10.0%	20.5%
South Africa	7.6%	6.6%
Americas	8.9%	8.6%
Capital expenditure	807	530
Australia	489	307
South Africa	231	159
Americas	87	64
Sustaining	460	235
Expansionary	347	295
*ROCE % based on average exchange rates for the year **Pro forma including Cerrejón acquisition from 01.01.06 †Includes purchased coal for blending with mine production

Developments

Australia

The acceleration of Xstrata Coal’s project portfolio was underpinned by capital expenditure of $489 million in 2007. Key items of expenditure included:

• Continued progress on the new Blakefield South mine, a completely new underground longwall operation that will replace production from the Beltana mine from 2010
• Expenditure on the Mount Owen expansion involving a new, third washery module to allow the Glendell reserves to be developed
• Replacement of the longwall at Oaky North, with just six months between order and on-site delivery, avoiding disruption
• Incremental expansions of the Liddell and Mount Owen complexes, including a washery upgrade and a new, third washery module respectively. These initiatives will substantially increase output by up to 5 million tonnes per annum.

Xstrata Coal purchased its joint venture partner Iluka Resources’ 50% interest in the Narama thermal coal mine, located in the Hunter Valley of New South Wales for approximately $58 million in August. The transaction enabled Xstrata Coal to create value from the further consolidation of its interests in the Hunter Valley. Narama produce approximately 2.5 million tonnes of domestic thermal coal per annum.

In August the shareholders of Cumnock Coal Limited approved a proposal to reduce Cumnock’s share capital whereby it became a wholly-owned subsidiary of Xstrata Coal for a total consideration of $19 million. On 21 December the Group sold a 10% joint venture stake in Cumnock Coal for $7 million.

In October, Xstrata Coal purchased the Anvil Hill Project from Centennial for $468 million. Anvil Hill is located in the Upper Hunter Valley with the mine plan envisaging production of up to 10.5 million tonnes (ROM) of both domestic and export grade thermal coal. This project adds significantly to Xstrata Coal’s New South Wales thermal coal portfolio and will be developed in full accordance with Xstrata’s industry-leading operational and sustainable development standards.

In October, Xstrata Coal acquired 86% of Austral Coal and obtained control. By 21 December, Xstrata completed the acquisition of the remaining shares. The total cost of these purchases was $542 million. Austral owns and operates Tahmoor, an underground longwall hard coking coal operation in the southern coalfields of New South Wales, with targeted annual saleable annual production of 2.3 million tonnes. Tahmoor exports its coal via Port Kembla, near Wollongong, which is currently one of the few unconstrained ports in Australia.

In December, Xstrata Coal announced an unconditional takeover offer for Resource Pacific Holdings Limited (Resource Pacific) together with a co-operation agreement with Marubeni Corporation, Resource Pacific’s largest shareholder, which, combined with the shares it had purchased on market, resulted in Xstrata Coal holding a relevant interest of 15.56% in Resource Pacific shares. Following the acquisition of over 94% of the issued shares, Xstrata Coal commenced the compulsory acquisition of the remaining share capital on 4 March.

Pre-feasibility studies for the Wandoan project are continuing. The coal resource identified comprises over 1 billion tonnes of export quality coal in the Surat Basin.

South Africa

Capital expenditure at the South African coal operations totalled $231 million and was primarily related to the development of the Goedgevonden open cut coal mine, a joint venture with ARM Coal. This major, large-scale greenfield project was announced in July 2007 and at full capacity will produce 3.1 million tonnes per annum of export thermal coal, 3.6 million tonnes per annum for the domestic thermal markets with an expected mine life of in excess of 30 years. The mine is located in the Witbank coalfield, in the Mpumalanga province.

The new mine has progressed well and is one of the first major new coal operations to have been awarded new order mining rights, together with 3.2 million tonnes per annum of export entitlement through RBCT. The scoping design for the coal preparation plant has also been completed.

Americas

At Cerrejón Coal in Colombia, the expansion to 32 million tonnes per annum continued to progress. Due to delays in equipment deliveries, a production rate of 32 million tonnes per annum is now anticipated by mid 2008, with a full year at this rate expected by 2009. The pre-feasibility study for the next expansion to annual capacity of over 40 million tonnes by 2011 is expected to be completed by the second quarter of 2008.

Pre-feasibility studies continued at the Donkin project in Nova Scotia, Canada during the year. Further resource drilling is commencing in January 2008 and the pre-feasibility studies are expected to be completed in the final quarter of 2008.