As natural gas continues to decline in price, more companies are turning to natural gas as a source of energy, and moving away from coal. This is evidenced by Virginia Dominion Power's recent announcement to convert three of its plants from coal to natural gas. Likewise, Sunbury Generation LP announced plans to convert its Sunbury, Pennsylvania power plant.
Additionally, natural gas is known to produce up to 70% lower greenhouse gas than brown coal, and less than 50% of the greenhouse gas emitted from black coal. It is clear that the coal companies are facing increasing challenges. I will look at five coal stocks to see how they are being affected by cheap natural gas, and what impact this has on investment opportunities.
Arch Coal (ACI): The stock started the year off at $15.25, and is now trading around $12. In its most recent earnings report, the company missed both revenue and profit expectations. Mild winter weather was cited as a reason, along with declining natural gas prices. As a result, CEO Steven Leer announced reductions in production for the upcoming year.
At the same time, the company has announced an agreement with Kinder Morgan Energy Partners LP (KMP) to assist KMP with expansion of its coal handling facilities along the Gulf and East Coasts. Assisting KMP with its port expansions will also provide the company additional capacity to grow its own coal exports.
Despite lower earnings and profits, the company still compares favorably with competitors like Alpha Natural Resources, Inc. (ANR). Operating margins of 11.37% for ACI slightly exceed ANR's 8.29%. However, the company had a 3.37% profit margin this past quarter versus a loss recorded by ANR. Year-over-year revenue growth of 97.10% for ANR far exceeded that of 36.90% for ACI. Nevertheless, ANR has no earnings growth compared to a 24.50% year-over-year increase for ACI. Because of concerns over ACI's near-term production levels and profits, avoid the stock until signs of a turnaround are clear.
Patriot Coal (PCX): The stock started the year off just above $9, and currently trades around $6. Patriot Coal continues to cut production, as customers switch to natural gas due to lower prices and stricter environmental rules. A coal plant in West Virginia is being closed; this after closure of another facility that produces coal for making steel. The company is projecting its coal production to drop by at least 2 million tons in 2012 compared to 2011. The company is also being affected by lower worldwide demand, especially from China. Not only is China expecting lower economic growth, but it may be more interested in Asian area coal resources, as Chinese steel companies have been recently investing in Australian coal mines.
Unlike ACI, the company does not seem to be faring as well with production cuts, especially compared to larger competitors like Walter Energy (WLT). Operating and profit margins for PCX were negative in the most recent quarter. This fares poorly compared to operating margins of 22.56%, and profit margins of 13.63% for WLT. Return on assets and equity for the company were also negative, versus return on equity of 25.70% and return on assets of 8.53% for WLT. Avoid the stock as it continues to break down.
CONSOL Energy (CNX): Shares current trade around the $32 mark, after starting the year off at $39. In response to decreased demand, the company just announced it was stopping production at one of its mines in Virginia, and is cutting operating schedules to five days per week. No layoffs are anticipated at this time. This after the company announced last week similar actions at a mine in West Virginia. As previously noted, the major concern appears to be reduced demand from China. With the Chinese government projecting reduced economic growth for 2012, coal prices are expected to remain low and inventories high through the remainder of the year.
While the company has remained profitable, it has not fared quite as well as some smaller competitors like Alliance Resource Partners, L.P. (ARLP). In the short term, year-over-year earnings growth of 87.30% for the company far exceeds the 6.70% growth for ARLP. However, ARLP's current revenue growth rate of 13.40% is better than the 9.20% rate for the company. Operating and profit margins of 22.40% and 16.44% for ARLP also best the 15.71% and 10.56% rates, respectively, for CNX. For now, avoid the stock until some evidence of a turnaround in price is clear, possibly over $38.
Peabody Energy (BTU): Shares have been hovering around $30, after starting the year off at $36. As the largest coal producer in the United States, the company is also concerned with reduced economic growth in China and other emerging markets. Like others, the company is also experiencing lower revenues, due in part to utility customers switching from coal to natural gas. Management has issued earnings guidance going forward that turned out to be much lower than analysts' consensus estimates. Nevertheless, company CEO Gregory Boyce still expects emerging markets like China and Brazil to lead the way in revenue growth, with more developed parts of the world like the U.S. and Europe lagging behind.
Although the company seems to be maintaining profitability during the industry downturn, similar sized competitors such as Cliffs Natural Resources Inc. Co. (CLF) are doing the same, or better. Year-over-year revenue growth for the company of 28.70% exceeds the 16.70% rate for CLF, while year-over-year earnings growth of 5.90% also beats CLF, whose rate of earnings growth actually declined. However, return on equity of 33.67% for CLF easily beats the 19.80% rate for the company. Despite being able to remain profitable in a difficult environment, avoid the stock as it appears to be breaking down yet again even at these lower levels.
Westmoreland Coal (WLB): The stock began the year close to $14, but now trades near $12. The company recently completed the purchase of a mine in Wyoming for $76.5 million in cash plus assumption of liabilities and other obligations. This purchase will be funded in a private placement of notes totaling $125 million. The company believes there are enough coal reserves in this mine to provide up to 20 years of production at current levels. This additional production capacity was added even though revenues for fiscal year 2011 declined compared to fiscal year 2010. Some of the reasons for the revenue decline were beyond the company's control, such as flooding disrupting rail shipments and a much longer hydro electric generation season than normal.
Declining financials in the most recent quarter were also shared by similar size competitors like Headwaters Incorporated (HW). Both companies suffered losses, while the company managed year-over-year revenue growth of 6.70% compared to 1.20% for HW. While both companies had negative profit margins, operating margin of 5.16% for HW slightly beat that of 4.28% for WLB. Both companies finished the quarter with just over $40 million of cash. Since it appears to be trending down once again, avoid the stock until a clear break of the downtrend appears, most likely once it passes $13.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.