1 Energy Stock's Turnaround Quarter

With two months to go before Christmas, investors might just be asking for coal. Arch Coal (NYSE: ACI) reported earnings yesterday, and now everyone wants a piece of its black gold. Here's why.

Results recap
Arch coal beat analyst expectations on top-line and bottom-line results. The coal company raked in $1.09 billion in sales and hung on to $257 million of adjusted EBITDA income, or $0.20 per share. 

Compared with the same quarter last year, sales are down 9%, but income shot up 21 %.

President and CEO John Eaves credits Arch's results to "cost control efforts and modestly better domestic thermal markets." Eaves notes that "we saw margins in both of our western regions expand" because of "increased shipment levels, higher price realizations, and strong cost control." 

Analysts expected slowing sales of $1 billion and a net income loss of $0.15 per share. Needless to say, they were surprised.

CLF data by YCharts.

Coal's cold returns
Coal stocks have caused investors to cringe over the past year. While other energy stocks have mostly recovered in the post-recession rebuild, coal has been pushed aside as an "energy of the past," because of both environmental concerns and cost effectiveness.

Not a single stock is in the green for 2012. Arch coal comes in second to last, faring 15% better than Alpha Natural Resources (NYSE: ANR). Alliance Resource Partners (ARLP -2.35%) slumped just 15% overall, with Natural Resource Partners (NRP 0.70%) and Peabody Energy (BTU) not far behind. Cliffs Natural Resources' (CLF 0.64%) stock recently went off a quarterly earnings cliff and is now neck-and-neck with Arch.

The end of the end?
But the doom-and-gloom days could be history for companies like Arch and Peabody, which are expanding margins as coal increases in cost-competitiveness. "We are prudently matching our production levels to market demand, reducing costs, and lowering capital spending," said Paul A. Lang, Arch's executive VP and COO. 

Even as sales prices per ton of coal continue to drop, Arch is cutting back on direct and operating costs to create sustainable margins.

Source: Arch Coal Earnings Report. 

With sales volumes up 19% and consolidated per-ton operating margins up 11% compared with the second quarter, investors saw diamonds where others saw coal. Arch's stock shot up 10% on Friday, no doubt in an attempt by Mr. Market to sniff out the emerging leaders of a coal comeback.

Is coal back?
Coal stocks have suffered mightily in the past few years. To help you decide whether you're a bull or a bear, here's what matters most for this sector.

1. Cost competitiveness. Coal needs to be cheap (or other energy sources need to be expensive) for black gold to sell. Coal's price probably isn't going down anytime soon, because of stricter environmental regulations and increasing world supply, but natural gas prices have jumped nearly 25% since August.

2. China. This country consumed 4 trillion tons of coal in 2011 , four times that of the United States. Recent stimulus announcements could increase demand for metallurgical coal, and any overall boost in China's economy could put thermal back in the thick of things.

3. Regulation. Coal is dirty. It's one of the major greenhouse gas contributors, and extraction methods are never great and sometimes disastrous. If national or international regulation gets tough on coal, rising regulatory costs could make hydro or other alternative energies more competitive with coal.

Foolish bottom line
Analysts were expecting the worst, and they got something a lot better from Arch's quarterly results. The company's earnings show a lean, mean, corporate machine cutting costs and adjusting to Mr. Market's whims.

Creative destructionists are on the hunt for coal's winners and losers, and companies like Arch, Peabody, and Alliance seem to have made the cut. Macroeconomic trends are unlikely to let up their stranglehold on this sector, but the price may just (finally) be right for believers in black gold's future.