Walter Energy, Highly Leveraged to Coking Coal...and Debt

Walter Energy is highly leveraged to coking coal prices, but is also highly debt leveraged. While near-term bankruptcy is not a concern, that does not make the stock a buy. The recovery in coking coal markets will be slow and prices may never approach the highs of 2011.

Jun 20, 2014 at 9:13AM

Walter Energy (NASDAQOTH:WLTGQ) was once a high-flying stock. It closed as high as $141/share on April 8, 2011. Fast forward three years, the stock is under $6, down about 95%! Since mid-2011, the benchmark premium hard, low-vol coking coal price has fallen by a staggering 64% from $330 to $120 per metric tonne. This is a complete disaster for Walter, but also for every other coking coal producer on the planet. Other coking coal heavy names that have been slaughtered since 2011 include Arch Coa(NYSE:ACI), down 90%, Alpha Natural Resources (NYSE:ANR), down 95%, and Peabody Energy (NYSE:BTU), down 82%. 

Walter, Arch, Alpha, and Peabody all made debt-financed, top-of-the market acquisitions in 2011. The only significant U.S. producer that did not fall prey to this ill-informed strategy was Cloud Peak (NYSE:CLD). Cloud was smart to stay away from the use of debt and concentrate on cutting costs in its main area of operation, thermal coal in the Powder River Basin of Wyoming. As a result, Cloud Peak's stock has vastly outperformed peers, but is still down from 2011. 

Arch chased the coking coal frenzy by acquiring east coast producer International Coal. International Coal had what appeared to be a promising mid-vol coking coal project that was three years from production. When low-vol coking coal prices were at $330 per tonne, this deal might have looked good at the time. Arch is now burdened with $5 billion of debt, despite a market cap of just $770 million. Alpha fared no better with its acquisition of Massey Energy, also in 2011. Even though Alpha used a considerable amount of equity in the transaction, Alpha today remains saddled with $3.4 billion of debt on a market cap of $900 million. 

Peabody Energy acquired a company in Australia that expanded its non-U.S. and non-thermal coal portfolio. However, that acquisition was not of pure low or mid-vol coking coal, but a coal called "PCI" coal. This specialized coal has not lived up to expectations. Peabody's debt burden is less on a relative basis than Walter's, Arch's, or Alpha's, but it's still a concern. Importantly though, as leveraged as these companies are, the imminent risk of bankruptcy is not particularly high. Each company has received debt covenant waivers and amendments and/or issued longer-term bonds to refinance shorter-term debt. 

Is Walter Energy a buy at $5 a share? 
Walter Energy needs one thing and one thing only. The coking coal price needs to move higher. So far, that is not happening. The quarterly benchmark price is pinned near $120 per tonne. Walter has done a decent job in lowering its costs in the face of these horrendous pricing levels. However, Walter's stock is not a buy unless one thinks that coking coal prices will rebound robustly in 2015. The key question is how much of a rebound is required fpr Walter not just to survive, but to thrive.

I think a low-vol coking coal price of $170-$180 per tonne by mid-2015 would allow Walter's stock to double within one year. To be clear, I'm not predicting that coking coal prices will reach that level anytime soon; it could be years, not quarters, before we see those levels. Most analysts that cover U.S. coal producers expect a long, slow recovery in prices. A price of $150 per tonne by year-end 2014 would be a pretty good outcome, but far from assured. 

What to watch for...
Investors should keep an eye on three things: production, costs, and pricing. There's a chance that Walter could lower per tonne costs by another $5-$10 in coming quarters. This alone will not make or break the company. However, if Walter can continue to lower costs and ramp up production, then the cash flow from operations could better support the debt load, making the overall valuation of Walter attractive again. For the time being, even though the stock is down from $141 to $5, there's no clear catalyst to buy it. 

Do you know this energy tax "loophole"?
You already know record oil and natural gas production is changing the lives of millions of Americans. But what you probably haven't heard is that the IRS is encouraging investors to support our growing energy renaissance, offering you a tax loophole to invest in some of America's greatest energy companies. Take advantage of this profitable opportunity by grabbing your brand-new special report, "The IRS Is Daring You to Make This Investment Now!," and you'll learn about the simple strategy to take advantage of a little-known IRS rule. Don't miss out on advice that could help you cut taxes for decades to come. Click here to learn more.

  

Peter Epstein does not own shares of any of the companies mentioned in this article. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not 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.

1 Key Step to Get Rich

Our mission at The Motley Fool is to help the world invest better. Whether that’s helping people overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we can help.

Feb 1, 2016 at 4:54PM

To be perfectly clear, this is not a get-rich action that my Foolish colleagues and I came up with. But we wouldn't argue with the approach.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich" rated The Motley Fool as the #1 place online to get smarter about investing.

"The Motley Fool aims to build a strong investment community, which it does by providing a variety of resources: the website, books, a newspaper column, a radio [show], and [newsletters]," wrote (the clearly insightful and talented) money reporter Kathleen Elkins. "This site has something for every type of investor, from basic lessons for beginners to investing commentary on mutual funds, stock sectors, and value for the more advanced."

Our mission at The Motley Fool is to help the world invest better, so it's nice to receive that kind of recognition. It lets us know we're doing our job.

Whether that's helping the entirely uninitiated overcome their fear of stocks all the way to offering clear and successful guidance on complicated-sounding options trades, we want to provide our readers with a boost to the next step on their journey to financial independence.

Articles and beyond

As Business Insider wrote, there are a number of resources available from the Fool for investors of all levels and styles.

In addition to the dozens of free articles we publish every day on our website, I want to highlight two must-see spots in your tour of fool.com.

For the beginning investor

Investing can seem like a Big Deal to those who have yet to buy their first stock. Many investment professionals try to infuse the conversation with jargon in order to deter individual investors from tackling it on their own (and to justify their often sky-high fees).

But the individual investor can beat the market. The real secret to investing is that it doesn't take tons of money, endless hours, or super-secret formulas that only experts possess.

That's why we created a best-selling guide that walks investors-to-be through everything they need to know to get started. And because we're so dedicated to our mission, we've made that available for free.

If you're just starting out (or want to help out someone who is), go to www.fool.com/beginners, drop in your email address, and you'll be able to instantly access the quick-read guide ... for free.

For the listener

Whether it's on the stationary exercise bike or during my daily commute, I spend a lot of time going nowhere. But I've found a way to make that time benefit me.

The Motley Fool offers five podcasts that I refer to as "binge-worthy financial information."

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. It's also featured on several dozen radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable ... and I don't say that simply because the hosts all sit within a Nerf-gun shot of my desk. Rule Breaker Investing and Answers contain timeless advice, so you might want to go back to the beginning with those. The other three take their cues from the market, so you'll want to listen to the most recent first. All are available at www.fool.com/podcasts.

But wait, there's more

The book and the podcasts – both free ... both awesome – also come with an ongoing benefit. If you download the book, or if you enter your email address in the magical box at the podcasts page, you'll get ongoing market coverage sent straight to your inbox.

Investor Insights is valuable and enjoyable coverage of everything from macroeconomic events to investing strategies to our analyst's travels around the world to find the next big thing. Also free.

Get the book. Listen to a podcast. Sign up for Investor Insights. I'm not saying that any of those things will make you rich ... but Business Insider seems to think so.


Compare Brokers