Will Diversification Pay off for CONSOL Energy?
Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
CONSOL Energy (NYSE: CNX) offers investors a diversified mix of production and sales of two different types of energy plus some innovative transport and marketing solutions to maximize the revenues. The company produces both coal and natural gas. Investors must decide if this diversified company has better investment potential than energy companies producing a single type of energy product.
CONSOL Energy is both a coal mining company and a natural gas drilling and production company. The corporate plan of action is to generate relatively stable sales and profits from the coal operations and growth through natural gas production. In 2011, the company generated 74% of total revenue from coal sales. The average price received per ton of coal was a company record. Natural gas production for the year was 153 billion cubic feet, a 20% increase from 2010.
CONSOL has a unique marketing structure for its coal production. Thermal coal accounts for 84% of production. This coal is of lower value and used for the production of electric power by U.S. utility companies. The remaining 16% of production is met coal, used in the production of iron and steel. CONSOL exports almost 100% of the met coal it produces. To facilitate the export sales, the company owns a port facility in Baltimore, MD. The port has the capacity to load 14 million tons of coal per year. CONSOL also owns a fleet 620 barges and 22 towboats. The river fleet moves thermal coal to the company's customers, putting more of the selling price per ton of coal in the CONSOL's pockets. In 2011, the company generated $231 million in freight revenue.
Natural gas operations include the production of methane coal gas plus shale gas drilling operations in the Marcellus shale in Pennsylvania and the Utica shale in Ohio. CONSOL has partnered with Noble Energy (NYSE: NBL) to develop the Marcellus holdings and with the Hess Corporation (NYSE: HES) in Ohio. The company has active drilling programs to bring new reserves online. This is important because it shows how CONSOL is proactive in developing new resources for growth. The company recognizes the need to be actively involved in the development of these two key areas, which increases production. Natural gas production in the fourth quarter of 2011 was 15 percent higher than for the same quarter of 2010. From the company financial reports, the methane coal gas is listed on the reserves but there are no revenues credited to methane sales. Another competitor in the coal industry, Peabody Energy (NYSE: BTU) recently announced opening a new office in Indonesia, expanding the company's reach as the largest supplier of sea transported thermal coal. This move will help Peabody develop new business in Indonesia, and help with sourcing. This shows how Peabody is making moves to expand globally and put pressure on its competitors, and why it is critically important for CONSOL to remain active in developing resources.
The strengths of CONSOL Energy are large amounts of low cost, proven reserves and active exploration to increase those reserves. Coal sales are nicely profitable with a 25% profit margin on the low cost, high volume thermal coal and 50% to 60% profit margins on met coal, depending on the quality of the coal. The big challenge in the energy markets – to which CONSOL is definitely exposed – is the ongoing low market prices for natural gas. For the fourth quarter of 2011, the company realized an average price of $4.87 for gas. Of this amount the net profit margin was 82 cents per mcf. The margin was 7 cents lower than in the fourth quarter of 2010. For 2012, the company has hedged only half of the expected production at a price of $5.25 per mcf. CONSOL faces the problem of almost every natural gas production company. How to turn a profit at the current low prices for gas?
At $35 per share, CONSOL is trading just $5 above the 52-week low and $20 below the 52-week high. The share price has been on a declining, although volatile, path since March 2011. The stock market appears to be basing its value of the stock on the natural gas operations. Earnings per share for the final three quarters of 2011 were 76 cents, 72 cents and 70 cents, respectively. The consensus estimate for the 2012 first quarter is 68 cents per share. Profits have definitely been moving in the wrong direction. To counter lower expected energy prices, CONSOL has reduced its expected capital spending to $1.5 billion, down from the previous $1.7 billion. With net income of $632 million reported in 2011, $200 million less in spending will help boost the bottom line results.
Forecasting earnings for energy productions companies is a very inexact science. Analysts must predict energy prices for future quarter and years – a nearly impossible task. The different earnings estimates from the Wall Street analysts for 2012 range from $1.95 to $3.70 per share for CONSOL Energy. An investor who believes energy prices – specifically natural gas prices – will increase in 2012 or further out can pick up some attractive assets represented by the shares of CONSOL Energy. Continued low natural gas prices could make this stock a better value in the future.
The Motley Fool has no positions in the stocks mentioned above. StockCroc1 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.