Thursday, August 7, 2014

Peabody Energy Is Still Mining for a Positive Long-Term Outlook

This article was originally published by TheStreet on July 25, 2014
NEW YORK (TheStreet) -- Peabody Energy (BTU_) released its quarterly results this week, managing to beat analysts' earnings estimate and painting a rosy outlook for the long term. But investors might still want to steer clear of this stock.
This is because Peabody Energy, the world's largest coal producer in the private sector, might continue to struggle as the current weakness in coal prices, currently at six-year lows, is expected to persist throughout the next couple of years. Moreover, the latest move by Obama administration to cut carbon emissions could further exacerbate the already tough business environment. 

Peabody Energy's shares have fallen by 1.1% since the earnings release and 22% for the year to date, currently hovering around $15.
In the previous quarter, Peabody Energy's revenue rose 1.9% year over year to $1.76 billion on the back of 1.5% increase in sales volume. The company swung to a loss of 28 cents a share compared to a profit of 33 cents a share a year earlier but managed to beat analysts' estimate of a loss of 29 cents a share, as per data compiled by Thomson Reuters. The loss was driven by soft pricing in Australia and the absence of a tax-benefit which the company availed last year. Peabody generates nearly 60% of its revenue from the U.S. and 40% from Australian mining operations.
The biggest positive of the earnings release was the performance of the U.S. mining business. Unlike Australia, where Peabody's revenue fell 5%, the company reported 6.2% year-over-year increase in revenue from the U.S. This was due to the increase in shipments and higher realizations in the Western U.S.
The coal stocks, such as Alpha Natural Resources (ANR_), Arch Coal (ACI_) and Peabody rallied on July 16 on the back of strong GDP numbers from China, the world's leading coal consumer. In the second quarter of 2014, China's economy expanded by 7.5% from a year earlier, better than market's expectations of 7.4%.
Meanwhile, Peabody's CEO Gregory Boyce also sees market conditions improving over the long term. Boyce has talked about the expanding U.S coal demand and the increase in coal's global market share for energy consumption to 30% -- the highest level in more than four decades. The growing demand, coupled with the uptake in supply cutbacks, will strengthen seaborne coal market fundamentals by 2015, Boyce predicted.
The ongoing crisis in the industry was caused by two main factors: sluggish demand from China, U.S and Europe and the increasing supply of metallurgical and thermal coal from the U.S, China, Russia, Canada, Australia and Indonesia. Metallurgical coal is used in steel making while thermal coal is used for power generation. Peabody Energy produces both of these kinds of coal.
According to Dean Dalla Valle, the coal chief of the world's leading miner BHP Billiton (BHP_), the demand for coal will increase over the next two decades but the market will continue to struggle from oversupply.
Consequently, despite improvements in demand for coal, the prices will likely remain weak.According to Moody's, the price of coal has bottomed this year to $120 per metric tonne, but the commodity is now heading for a very slow recovery in which its price would climb to just $140 per metric tonne by the end of 2015.
As a result, coal miners could continue to struggle for the next few years. For Peabody Energy, Moody's has said that the company won't become free cash flow neutral or positive until the coal prices increase to around $155 per tonne.
Furthermore, the anti-coal sentiment in the U.S. can make things much more difficult for Peabody Energy's U.S. operations. The U.S Environmental Protection Agency is moving to cut carbon emissions by 30% by 2030 from 2005 levels by targeting coal-based power plant operators.
A large number of these coal-based power plant operators will be closing their facilities causing a15% drop in U.S. coal burning capacity by 2016. These closures are going to hit the demand of coal, putting downward pressure on the commodity's prices.
At the time of publication, the author held no positions in any of the stocks mentioned, although positions may change at any time.
This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.