Value Plays in Coal

Piyush is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The coal industry took a beating in 2012, due to global concerns including the slowing down US and Chinese economies. However the latest economic data suggests that the coal industry is poised for a pop in 2013. Industrial output of both US and China, were reported better than expected. Additionally India is one of the largest exporters of Coal. Due to environmental exploitation, the Supreme Court of India had banned its mining operations in more than 200 mines. Analysts expect India’s iron ore exports in 2012 to slide to 90-100 million tonnes, down from 200 million tonnes, which is a massive 55% decline.

At the same time, the Indian economy is expected to grow at 5% plus, which will force Indian steel manufacturers to import coal. Additionally, China is ramping up its steel production, which would further strain the coal supply.  In November alone, its coal imports rose by 35% sequentially, and the demand is further expected to increase by 20-40% in 2013. All these facts indicate a rally in coal, and I believe that coal companies stand to benefit but not all companies should be sought after.

James River (NASDAQ: JRCC) seems to be beaten down too much. Yes the company had reported disappointing numbers, but its balance sheet still looks solid. The company has a market cap of $130 million and ended the recent quarter with a massive $172 million in liquidity. Seems like there’s a lot of debt on its books right?

Wrong!  Its debt/equity ratio equates to 160% and ideally its market cap should be $208 million. Attach an error rate of 15%, and the stock is still trading at a 36% discount. Shorters had gone all-in into this one, which was followed by a short squeeze. Shares of James River have risen by 108% over the last 4 months, and I believe there’s still a lot of upside left, especially when the coal industry is expected to recover. Management recently announced that it would be cutting off redundant jobs, just like all its peers, and would be looking to raise the performance-per-employee to meet the shortfall. James River gets a Foolish Buy rating for the risk bearing investor.

Arch Coal (NYSE: ACI) seems to be burdened with liabilities as its debt/equity equates to 145%. Also the company has been reporting losses with a negative net profit margin of 7.6%. The absence of positive triggers and a YTD decline of 48% should discourage investors from entering this one. Alpha Natural Resources (NYSE: ANR) also has been reporting losses with a negative net margin of 40.7%. YTD its shares are down by 54.6% and analysts expect its EPS to further shrink by 63% next year.

Shares of CONSOL Energy (NYSE: CNX) trade at a forward P/E of 27.4x and the management recently cut its 2013 guidance. Its coal inventory shrank by nearly 30%, and the management declined to ramp up production. This means that if coal prices further rise, CNX won’t be able to take advantage. This would strain its cash flows which is certainly not good for a company with debt/equity levels touching 85%.

However Peabody (NYSE: BTU) paints a bright picture. Its management cut its capital expenditures for 2013 by 50%, which would translate into earnings of about $500-$550 million and this announcement alone would return $2.04 to its shareholders. Earlier analysts had expected 2013 EPS to be around $1.20, but now we can safely expect $3.24. According to several analysts, its annual EPS growth for the next 5 years would be 15%, which means that the stock could double in value, in less than 5 years. Peabody gets a Foolish Buy rating for the conservative investor.

PiyushArora has no positions in the stocks mentioned above. The Motley Fool has no positions in the stocks mentioned above. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus