Will Coal Companies Recover in 2013?

Shares of leading coal mining companies have tumbled down in the last several months: Shares of   Arch Coal (NYSE: ACI) plummeted by 26.5%. Do these companies have a silver lining? Will they recover from their tumble in the coming months? Lets’ examine the latest developments in the coal industry and try to determine if coal companies are likely to rally in 2013.

Will Production Rise in 2013?

In the first four months of 2013 the total U.S production was only 319 million of short tons. In comparison, during the same time frame in 2012 the total production was 344 million. This represents a 7.2% drop in production (y-o-y). The Energy Information Administrations still estimates the coal production will pick up in the coming months. Based on its current estimate, the U.S production will reach in 2013 a total of 1.026 billion of short tons, which is nearly 1 percent higher than the production in 2012. But the drop in production in the first few months of 2013 was also reflected in the performance of leading coal mining companies: In the first quarter of 2013, Arch Coal sold 34.1 million of tons compared with  36.1 million of tons in Q1 2012 – a 5.5% drop; Cloud Peak Energy (NYSE:CLD) sold in Q1 2013 21.3 million of tons compared with 22.9 million of tons in the same quarter in 2012, which represents a 7% decline (y-o-y). If the EIA will come through with its projections this could mean these companies will see a sharp rise in revenues as the year will progress.

Moreover, despite the drop in production these two companies still project their production will pick up as the year will progress and perhaps even reach the same production levels recorded in 2012: Arch Coal sold in 2012 140.7 million of tons; the company expects to sell in 2013 between 133 and 144 million of tons. Cloud Peak Energy  sold in 2012 nearly 93 million tons. In 2013, it expects to sell between 88 and 92 million of tons.

Prices Are Falling

Another issue that steered away investors from these stocks is the drop in prices in the first quarter of 2013: the average realized price of coal for Cloud Peak Energy declined by 1.6% (y-o-y); the realized price of coal for Arch Coal tumbled down by 15.8%.  Moreover, the cost of production for Cloud Peak Energy increased by 6%. These factors led to the sharp fall in the profitability of these companies in the first quarter of 2013. The operating profitability of Cloud Peak Energy reached in Q1 2013 10.2% compared with 12.6% in Q1 2012. Arch Coal turned an operating loss in the first quarter.

Even if the production will pick up in the coming months, the main concern will be the price of coal that might continue to fall in 2013. Two closely related factors, among many, are likely to affect the price of coal: the price of natural gas and the price of electricity.

Natural Gas and Electricity

The price of natural gas rallied in 2013 from its very low rate it recorded in 2012. The sharp rise in natural gas is likely to steer leading utility companies to use more coal over natural gas once their natural gas stockpiles will deplete. The demand for electricity is another factor that could affect the price of coal. The EIA currently estimates the electricity consumption will rise in 2013 by 1.2% (y-o-y). The rise in consumption for electricity and the shift from natural gas to coal explains why the EIA projects the coal consumption in the U.S will grow in 2013 by 7.3% (y-o-y). If the coal consumption will pick up in the coming months, this will reflect in these coal companies revenues.

Another Alternative for Investing in Coal

For those who wish to invest in a company that is only partly exposed to coal may consider CSX (NYSE: CSX), which is a railroad company. One of the company’s operations is transporting coal. The company is considered the largest coal transporter east of the Mississippi. Unlike the abovementioned companies, CSX has done well both in the stock market and with its financial performance: since the beginning of the year the company’s stock rallied by more than 32% (YTD). The company’s revenues in the first quarter of 2013 remained nearly unchanged but its operating profitability rose to 29.5%. The company also offers a reasonable dividend with a 2.3% annual yield.

The Bottom Line

I still think that coal companies will make a comeback in the coming months, assuming of course the demand for electricity will increase compared to 2012. The high price of natural gas compared to 2012 is likely to keep utility companies slowly shifting back to coal.

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Disclaimer: The author holds no positions in stocks mentioned and does not plan to initiate positions within 120 hours of the posting of this article. This article is to be used for educational, research and informational purposes only and does not constitute investment advice. There are no guarantees, expressed or implied, of future positive returns in regards to the subject matter contained herein. Understand the risks inherent in investing before making the decision to invest or consult an investment professional for more information. Reasonable due diligence has been performed in regards to the information in this article. However, the author expressly disclaims any liability for accidental omissions of information or errors in fact.