Coal Companies Feel the Heat in a Greening U.S. Economy

In the U.S., coal is presently produced in more than 50% of states. The top five coal-producing states -- Wyoming (39%), West Virginia (12%), Kentucky (8%), Illinois (5%) and Pennsylvania (5%) -- contribute nearly 79% of total coal production of the country, as per reports from the U.S. Energy Information Administration (EIA).

In keeping with the statistics, Wyoming houses two of the largest coal producing companies of the country, namely, Peabody Energy Corp. (BTU - Analyst Report), operating the North Antelope Rochelle Mine and Arch Coal (ACI - Analyst Report) running the Black Thunder Mine.

Coal remains a dominant source of power generation worldwide despite the increasing use of other sources. However, natural gas and renewables are eating away coal’s share at a rapid pace. The use of coal in generating electricity in the U.S. presently hovers in the higher 30% range.

Coal and its various byproducts also find use in the industrial sector, underlying its manifold advantages. However, unchecked usage of this fossil fuel has raised concerns in all quarters. The primary cause of concern related to coal is global warming caused by the emission of greenhouse gases.

A recent release from the EIA estimates that coal production for 2014 totaled 997 million short tons (MMst), up 1% year over year. However, the EIA expects annual production to decline in both 2015 and 2016, totaling 966 MMst and 960 MMst, respectively. The reduction in coal production could be due to the implementation of Mercury and Air Toxics Standards, which will lead to rising retirement of coal-fired power plants in the country.

Zacks Rank

The Zacks Industry Rank, which relies on the same estimate revisions methodology that drives the Zacks Rank for stocks, currently puts the coal industry at 220 out of 258 industries in our expanded industry classification. This puts the industry in the lower third of all industries, corresponding to a negative outlook.

The way to look at the complete list of 258 industries is that the outlook for the top one-third of the list (Zacks Industry Rank of #85 and lower) is positive, the middle one-third of the list (Zacks Industry Rank of #86 to #169) is neutral while the outlook for the bottom one-third (Zacks Industry Rank #170 and higher) is negative.

Please note that the Zacks Rank for stocks, which is at the core of our Industry Outlook, has an impressive track record going back years, verified by outside auditors, to foretell stock prices, particularly over the short term (1 to 3 months).

Of the 19 coal companies in our coverage, Hallador Energy (HNRG - Snapshot Report) sports a Zacks Rank #1 (Strong Buy), two have a Zacks Rank #2 (Buy), while six are relegated to a Zacks Rank #4 (Sell) and three to a Zacks Rank #5 (Strong Sell). The remaining 7 have a Zacks Rank #3 (Hold).

Earnings Review and Outlook

The coal industry’s overall earnings results in the fourth quarter of 2014 were on the softer side with more than 50% of the companies in our coverage posting a negative earnings surprise.

Companies like SunCoke Energy Inc. (SXC - Snapshot Report), Alliance Holdings GP, L.P. (AHGP - Snapshot Report) and Cloud Peak Energy Inc. (CLD - Snapshot Report) have, however, come up with earnings beats this quarter. Disappointments came from the two big operators in the space -- Peabody Energy and Arch Coal -- with both missing earnings estimates. Peabody and Arch Coal are also expected to report in the red in the first quarter of 2015.

In response to lackluster coal market fundamentals, the companies have resorted to stringent measures to improve their financial performance. Miners have taken initiatives to cut cost while engaging in tactful expenditures to ensure coal-mining safety. High-cost coal mines are being shuttered while operations are moved to low-cost regions. Longwall coal mining techniques are also having a positive impact on production.

As things stand, the challenging market conditions are expected to prevail during the best part of 2015. While the majority of coal companies are curtailing capital expenditures, Arch Coal has taken a step further to discontinue the payment of dividends.

A bright spot for these coal operators is rising demand for coal from India. Coal production in India falls far short of its domestic need as most of its power units are run on coal. The country will thus have to rely on imports to sustain its growth plans. India needs to import both thermal and metallurgical coal providing ample room for these U.S. exporters to vie for.

For a detailed look at the earnings outlook for the different sectors in our coverage, please check our weekly Earnings Trends report.

Bottom Line

Coal has a long list of drawbacks. But its advantage lies in its price, which is far cheaper than other sources of fuel. The availability of coal in most countries across the globe makes it a widely accepted source of power generation globally.