A Safe 11.5% Yielder
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Natural Resource Partners, (NYSE: NRP) reported 2nd quarter earnings on August 6th. As of noon August 7th the units were trading at $20 for a yield of 11%. NRP is a Master Limited Partnership, that derives its revenues from leasing mineral resources like coal, aggregates and prospective oil & gas. NRP owns 2.3 billion tons of coal reserves, as well as infrastructure such as rail load outs and coal washing plants. The infrastructure assets also generate revenues for the Company.
NRP is not really a coal company because it doesn't mine any coal at all. In the second quarter, 30.6% of NRP's total revenues came from non-coal reserve leasing sources, and in the six months ended June 30, 2012 that figure was 32.7%. Non-coal reserve leasing revenue sources include royalties from leasing aggregates and oil & gas properties, processing fees, transportation fees and property taxes. Without the burden of operations and with minimal corporate overhead, NRP reported an EBITDA margin of 87.5% in 2011.
Again, since the Company does not mine or produce any mineral resources, it's not exposed to production cost inflation, reclamation, unions or legacy liabilities. This has allowed NRP to mitigate the severe coal market downturn by focusing on leasing coking coal reserves in Appalachia and thermal coal reserves in the low-cost and still growing Illinois basin. In the past six months, coking coal was 33% of production and 45% of coal royalty revenues. Importantly, Nick Carter, President and COO told me that 70%-75% of the Company's attributable coking coal production is expected to come from the best quality low-to-mid vol categories, making this tonnage more defensive in a downturn. This is a crucial observation as NRP controls a substantial 700 million tons of coking coal reserves.
Over the last several years, NRP has invested more than $500 million into the Illinois basin. This investment is now paying off. Despite a decline in royalties from thermal coal assets in central Appalachia, overall attributable coal production is forecast to be up this year. A major lessee in the basin is a private company named Foresight Energy, owned by the Cline Group. Given Foresight's industry-low costs and strong margins, the attributable production growth from NRP's Illinois basin segment should be safe.
At 6/30/12, NRP had total liquidity of $349 million, including cash of $122 million and $227 million available on a $300 million credit facility maturing in 2016. This liquidity can be used to support distributions and/or to make acquisitions of mineral bearing properties. This liquidity is the #1 reason why NRP's 11% distribution yield is safe going forward, the Company has 2-3 years of excess cash to make up for shortfalls in cash flow to support the current distribution rate.
NRP owns 51% of a joint venture with International Paper, (NYSE: IP). This is a valuable asset that has not fully come into play. NRP and IP control ~8.8 million acres of prospective mineral resources in the JV. NRP is receiving a minimum annual preferential distribution of $4.25 million. This JV distribution is sure to grow as just 1% of the JV acres have been leased so far.
Another avenue for growth comes from NRP's aggregates business. In recent months, Homebuilder and Building Materials stocks have done quite well. If the housing market is rebounding, as is suggested by those stocks, NRP's 380 million tons of aggregates reserves will generate considerably more revenue over time. While it's difficult to imagine the Company raising its distribution anytime soon, I expect next year we will see modest distribution growth.
Why is NRP yielding 11% if its distribution is truly safe? Three reasons. First, despite what NRP management says about their excess cash cushion to maintain the current distribution rate, investors fear a cut. Second, coal market fundamentals are so poor, that some investors have lost faith in all coal companies. Third, peer coal MLP Alliance Resource Partners, (NASDAQ: ARLP) is having a tremendous year as a coal producer, overshadowing NRP's performance. ARLP is an Illinois basin and Northern Appalachia focused coal producer that has low costs, excellent relationships with its customers and a rapidly growing distribution.
As coal market fundamentals stablize, and if a modest housing recovery is at hand, then even without distribution growth NRP units are very attractive. A year from now when there's better visibility in NRP's forward earnings, I think it's very likely that NRP units will be yielding 8.5% to 9.0%, implying a unit price of about $24.5 to $26.0. The total return under this scenario would be about 30% to 37%. That would be a great outcome for a unit yielding 11% at the start.
MockingJay2011 owns shares of Alpha Natural Resources, Alliance Resource Partners, L.P., and Natural Resource Partners LP. The Motley Fool has no positions in the stocks mentioned above. Motley Fool newsletter services recommend Alliance Resource Partners, L.P.. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.