James River Coal's Coup Is Not Bullish for Rest of the Industry

by: NakedValue
James River Coal Company (JRCC) announced an agreement to purchase International Resource Partners LP and Logan & Kanawha Coal Company and their affiliated companies for $475 million in cash. The deal appears to be a major coup for James River Coal. The company has doubled its size and expanded global reach for an acquisition price of less than the acquisition's 2010 sales. This is a major accomplishment considering the richness (price/sales of 1.75+ on met coal sales and ~0.8 to 1.0 on thermal coal sales) with which public coal operators are currently being priced.
Some of the deal highlights include:
  • New workforce is non-union
  • Strong global sales network, 24 customers in 8 countries
  • Minimal met coal contract exposure in 2012 and beyond (good if you are bullish of coal prices, bad if you are bearish).
  • Synergies present margin expansion opportunities.
The coal stocks rose in sympathy, but this is a company specific news story. It is not bullish for the industry at large. If anything, coal bulls should wonder why a smart money fund like Magnetar is reducing its exposure to coal at these prices.
Based on the current market multiples on coal producers, a very rough back of the envelope estimation using a price/sales of 2.0 on met coal sales and price/sales of 0.80 on thermal coal sales implies that International Resource Partners LP and Logan & Kanawha Coal Company could have demanded a public market value of around $780 million (this doesn't include any buyout premium). Based on James Coal's 27 million shares outstanding, this could imply $10 per share in value just by closing this deal. Shares are currently up around $3 per share.

Investors should consider buying James River Coal Company on weakness and shorting other coal names as hedges. Market Vectors Coal ETF (NYSEARCA:KOL) is a coal industry exchange traded fund.

Coal producers have risen sharply since the March 2009 stock market lows. Many well respected investors like Wilbur Ross and Fairfax Financial (both reduced their positions in International Coal Group by half) have trimmed their coal positions. Investors should also be aware that a failure to close the acqusition will be a negative for the stock.

The deal is expected to close well before the "Drop Dead Date" of September 1, 2011.
Company Press Release

Disclosure: I am long ICO.

Additional disclosure: I will accumulate shares of JRCC on weakness, and hedge against coal exposure.