Is Coal on the Verge of a Comeback?

After years of headwinds, the coal industry may finally catch a break now that natural gas prices have risen sharply.

Mar 25, 2014 at 9:38AM

Coal has been under intense pressure for the past several years, from a variety of sources. Increasing public scrutiny about the environmental and public health effects of coal mining and rising political intolerance of building new coal-fired plants have dealt a severe blow to the coal industry. And, relatively low natural gas prices over the last two years resulted in increased demand for natural gas that prompted some utility customers to switch from coal to natural gas.

But just before you write off coal as dead and buried, it sees a comeback may be taking place. Coal miners are once again seeing some moderation in demand, primarily due to the rally in natural gas prices in just the past few months. And, after several quarters of horrible earnings reports, some publicly traded coal companies actually see a light at the end of the tunnel.

Coal needs any good news it can get its hands on
A rise in demand for coal couldn't come at a better time. Major coal producers across the board have taken it on the chin over the past year. Peabody Energy (NYSE:BTU) saw its earnings before interest, taxes, depreciation, and amortization (EBITDA) collapse by almost half last year. Poor pricing was a major contributor behind Peabody's EBITDA getting slashed by $800 million in 2013. Peabody struggled to keep costs down, like a lot of other coal producers last year, which also contributed to its falling margins.

Likewise, CONSOL Energy (NYSE:CNX) was able to keep production relatively steady last year, but rising costs took a severe bite out of its bottom line. Its average costs rose 2% last year, and when you combine that with the fact that its average realized sales price fell by 12% to $75 per ton, it's no surprise CONSOL wasn't able to keep profits up.

Look underneath the surface for signs of coal's recovery
In recent months, earnings reports out of coal producers themselves only confirmed what we already knew, that 2013 was a very bad year for coal companies. But, in the reports coming out of end users of coal, there are some leading indicators that may signal a turnaround in the months ahead.

From this perspective, it's not all bad news for coal. Some industrial users are showing signs that coal demand might finally stabilize. Rail freight operator Union Pacific (NYSE:UNP) reported just a 1% dip in coal freight revenue in the fourth quarter, and actually grew its coal revenue by 2% in the previous quarter.

And, even utilities are back to growing their coal usage.Utility giant Southern Company (NYSE:SO) produced 42% of its energy from gas last year, along with 38% from coal. This actually represented a boost in coal usage from the previous year. Southern Company generated 45% of its energy from gas and 36% from coal in 2012.

Why coal companies may soon see glimmers of hope
After years of punishing industry headwinds that included increasing government scrutiny of coal-burning plants and relatively low natural gas prices, coal could soon have the wind at its back. The extremely harsh winter the United States just went through has reminded utilities of the value of their coal fleets. That, in addition, to a sudden and sharp rally in natural gas prices, makes coal look surprisingly attractive for industrial end-users.

Where coal goes from here and whether its comeback is for real is uncertain, but the coal companies that kept production steady throughout the downturn may soon be rewarded for their efforts. If natural gas prices continue to rally, utilities remain incentivized to keep returning to coal to a greater extent.

Coal is by no means thriving. It's true that an abundant supply of cheap natural gas prompted utilities to switch from coal to natural gas last year. And, continued building of coal-fired power plants seems unlikely, with rising political scrutiny of coal. At the same time, the reality is that coal is very much a part of U.S. power generation. Predictions of coal's demise seem to be greatly exaggerated.

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