Get In On Arch Coal's Bond Yielding 9%

Jul. 3.12 | About: Arch Coal (ACIIQ)

Arch Coal (ACI) has had a difficult time like many other coal stocks as prices for the commodity continue to fall. Arch Coal has seen its stock fall off a cliff as investors are unsure when the price of coal will recover.

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Since it's become difficult to determine when or if coal will rebound, the equities may be risky if losses continue to mount. While Arch Coal is doing better than most of its peers, the company is still expected to lose .45 cents per share this year. The nice trend with Arch Coal is that losses are supposed to be smaller by the end of 2013. Analysts are expecting a 10 cent loss. When investing in bonds, investors need to make sure that the company will be able to cover the interest payments on its debt.

While the stock may be a poor play for investors, Arch Coal's 2016 8.75% bonds may be a better investment. The bonds are trading under par at $96. So the yield on cost is around 9%. The nice thing about the 2016 bonds is that there is no major bond maturing before them. Arch Coal should be able to make interest payments until 2016. I also don't see Arch Coal having any problems refinancing their debt in the future. The bond's CUSIP is 039380AB6.

At 8.75% interest on a $600 million, the interest expense annually is $52.5 million for the 2016 bonds. While Arch Coal is unprofitable right now, it's lowering expenses enough to the point, the company can meet debt payments. Arch currently has a plan to cut production of coal by 3 million tons. This will save the company $30 - $40 million annually. While I don't see the stock rising on spending cuts, the important thing for bondholders is that the FCF should be enough to cover the interest expense.

Investors may be shaky about the coal industry right now, but the bonds are a great investment. The Arch Coal bonds allow investors to grab some great yield while being senior to common shareholders.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.