Friday's Top Upgrades (and Downgrades)

Clarifications on coal, courtesy of Goldman Sachs.

Jun 6, 2014 at 4:54PM

This series, brought to you by Yahoo! Finance, looks at which upgrades and downgrades make sense and which ones investors should act on. Today, we'll be taking a particularly close look at America's coal industry, where Goldman Sachs has just upgraded shares of Consol Energy (NYSE:CNX) -- but reiterated sell ratings on both Walter Energy (NASDAQOTH:WLTGQ) and Alpha Natural Resources (NYSE:ANR).

Let's find out why, beginning with Walter.

Walter Energy -- still a sell?
Getting an analyst to publicly adopt a sell rating on a company that might -- absent a negative note -- hand it some lucrative stock and bond underwriting work is like pulling proverbial teeth. Sometimes, the valuation may require it. But few banks go out of their way to advertise the fact that they're not thrilled with a company's valuation. So it's interesting to see Goldman Sachs today not just sticking with its existing "sell" rating on Walter Energy, but actually going out of its way to remind investors about it.

In a note today on why it's upgrading shares of rival Consol Energy (about which, more in a moment), Goldman pointed out that it's not optimistic about the prospects for "met" coal producers like Walter. Metallurgical coal is used by steelmakers to smelt steel, and this is Walter's business.

It's not a particularly good business, however. Unprofitable and burning cash for the past two years, Walter Energy has reduced its rate of cash burn this past year, but still ran through about $105 million worth of negative free cash flow over the past 12 months, according to S&P Capital IQ data. The company still has more than $400 million in cash on its balance sheet, and is not at risk of going bankrupt anytime soon at its present rate of cash burn. But with long-term debt of $2.9 billion, and pension obligations pushing $600 million, the stock's balance sheet  hardly looks healthy.

According to, Goldman Sachs says it tends to "favor companies with stronger balance sheets." That's not Walter. Hence the sell rating.

And Alpha Natural Resources is, too
The story with Walter peer Alpha Natural Resources is both better and worse. With more of a thermal coal business (used to generate electricity for energy utilities) to bolster its met coal operations, Alpha's "profit" margin is slightly less bad than Walter's, at "only" negative 22.4%. And Alpha only began burning cash last year.

But its free cash flow is still negative -- negative $221 million for the past 12 months. And Alpha hasn't earned a full-year profit since 2010, and reported GAAP losses in excess of $1 billion for the past 12 months.

Viewed from Goldman's perspective of focusing on the balance sheet, Alpha Natural boasts stronger cash reserves -- more than $900 million in cash and equivalents. However, it also carries more debt -- $3.4 billion in long-term debt, and nearly $1 billion in pension obligations. The fact that the company recently began reporting negative operating cash flow -- before even subtracting capital expenditures to reach a negative free cash flow numbers -- suggests the company won't be in a position to begin paying down this debt from cash production any time soon.

So once again, a sell rating here seems appropriate.

Hope burns eternal
But what about Consol Energy? What makes it different from its coal-producing peers, and what explains Goldman's decision to upgrade it to "buy" today?

After all, like Walter Energy, Consol hasn't generated a penny's worth of positive free cash flow in two years, and burned through $871 million in negative free cash flow over the past 12 months. Like Alpha Natural Resources, Consol also has exposure to the met coal market that Goldman looks askance at. SO what's to like?

There are a few things, I suppose. For example, Consol gets less than 20% of its revenues from the met coal market, and makes the bulk of its money from selling thermal coal. It's also got exposure to natural gas production to further diversify its business.

From a GAAP perspective, Consol is the only one of these three coal companies to have consistently reported positive net income over the past five years. Indeed, its reported profit over the past 12 months was the best number Consol has reported -- ever. If the company can begin producing free cash flow numbers similar to what it's reporting on the bottom line of its income statement, then maybe Consol will be able to begin paying down its $3.1 billion debt load ($4.1 billion if you count pension obligations).

Still and all, if Goldman is going to stick with its statement that balance sheet strength is paramount, then the fact that it prefers Consol Energy over its rivals just doesn't make sense. Consol carries nearly as much debt and Alpha Natural, and more debt than Walter. Given this fact, I just can't see the stock as attractive -- especially since, for the time being at least, Consol is not generating free cash flow at all.

Unless and until one of these coal miners figures out how to turn a cash profit from its business, I just can't dig the idea of investing in any of 'em.

Rich Smith has no position in any stocks mentioned, and neither does The Motley Fool.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

Click here to learn about this incredible technology before Buffett stops being scared and starts buying!

David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

©1995-2014 The Motley Fool. All rights reserved. | Privacy/Legal Information