Are You Ready for a Coal Rebound?

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

Those who thought that coal was a thing of the past should reconsider their investment thesis. A lot has changed over the last year, and coal gasification is emerging as a clean method of power generation. The shale gas boom in North America has not yet reached the European and Asian countries, and natural gas in the region still costs three to four times more than in North America. As a result, countries including India and China are swiftly moving towards coal gasification. This suggests that coal could rebound, and Peabody Energy (NYSE: BTU) seems poised to rally on it.

Peabody Energy is one of the largest coal producers in the world and sold 248.5 million tons of coal to electricity generation companies in fiscal year 2012. The coal behemoth owns interests in 30 mining operations, out of which 29 are based in the US, and provides coal to 30 countries. Moreover, it has a staggering nine billion tons of proven coal reserves and meets 10% of the annual US coal demand.

Good times ahead?

Despite weak macroeconomic conditions, Peabody was able to report record adjusted EBITDA of $1.84 billion in the US due to improving margins. Its coal production from Australia surged by 30% to record levels, and management aims to keep ramping up coal production. Its revenues per ton in the US rose by 13% while Australian revenues were down by 13%. The management explained that due to rising international coal prices, its margins from Australia are expanding and positive effects will be visible after the first quarter.

Its expenses in Australia rose by 4% but were in line with the company’s expectations. Its high debt levels have been a cause of worry, and to address it the company slashed its annual capital expenditures from $997 million in fiscal year 2012 to $450-$550 million for fiscal year 2013. The company also repaid $416 million of its debt in fiscal year 2012, and ended the fourth quarter with $560 million cash and $2.2 billion in liquidity. For the coming year, the management expects its overall sales to be around 230-250 million tons.

Peabody completed the Millennium and Wilpinjong expansion projects, which contributed to higher coal production. These expansions allow Peabody to sell its non-core coal assets in Australia. These asset sales would not only help it in raising capital but also in reducing the financial drag caused by its Australian operations. But this news comes as no surprise.

BHP Billiton (NYSE: BHP) and Rio Tinto (NYSE: RIO) also have announced asset sales. According to a report on Bloomberg, BHP Billiton had net cash of $200 million in 2010, which has morphed into a net debt of $30.4 billion (as recorded on December 31st). To counter the record debt levels and reinstate financial health, BHP Billiton would be selling up to 10 of its assets. Rio Tinto is also following suit, and its management hinted that it could be selling its diamond assets, without having much impact on its overall earnings. Combined together, BHP Billiton and Rio Tinto are expected to sell nearly $35 billion of their assets.

Wrap up

Coal has been the leading source of power generation but rising environmental concerns have dampened demand. But Asian and European nations are not able to switch to natural gas-fired plants due to the shortage of gas liquefaction facilities in areas with abundant shale gas. As a result, countries like India and China have begun exploring for new coal blocks for their upcoming coal gasification plants. I strongly believe that coal is in for a rebound, and due to all the mentioned reasons, Peabody Energy appears to be a great investment.

Piyush Arora has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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!

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