Peabody Energy Isn't out of the Woods Yet

Peabody Energy (NYSE: BTU  ) disappointed on the earnings front in the first quarter. That's set the tone for the second quarter, which is likely to see continued weakness. However, the big question to ask isn't, "Is the coal market in a trough?" We know it is. The question to ask is: "Is the coal market ready to turn yet?"

The bad is the good
It wasn't too long ago that the U.S. coal market was the big negative in the coal industry. And it wasn't any different at coal mining giant Peabody Energy. While the prevailing anti-coal sentiment hasn't changed all that much, the other big boogeyman, natural gas prices have. So much so, in fact, that coal from the Powder River Basin and the Illinois Basin are price competitive again.

That's important, because these two regions are the main focus on the thermal side of the business at Peabody Energy. And with natural gas prices roughly double their 2011 lows, coal is again the main source of electric generation in the United States. For example, in April Peabody noted that coal powered 43% of the country versus 31% at this time two years ago. Natural gas went from a 31% share to a 23% share.

Henry Hub Natural Gas Spot Price Chart

Henry Hub Natural Gas Spot Price data by YCharts

So far, a lot of that coal use has come from utility stockpiles, but that can only last so long before utilities have to rebuild their inventory or risk running out of this still vital fuel. That's the good news and one thing you should be paying attention to during Peabody Energy's first quarter conference call. But, sadly, it isn't the only news to watch for.

Good news is bad news
The exact opposite trend, however, has taken place in the metallurgical coal market. Prices in this sector have collapsed over the past few years taking results at Peabody Energy down with them, not to mention met focused miners like Walter Energy (NYSE: WLT  ) . Peabody Energy's operations are split between thermal and met coal, so it has an offset. Walter Energy gets around 95% of its coal revenues from the met market—it has virtually nothing to soften the blow.

How bad is it? Last quarter, Peabody Energy watched the gross margin per ton in its Australian segment collapse from $12.15 in 2013 to a meager $0.22. The company's met operations are in this segment. Walter Energy, meanwhile, saw the sales price of its met coal drop nearly 17% year over year in the first quarter. Those numbers are even worse when you go back to 2012 or 2011.

And, sadly, this dynamic isn't likely to change because the met coal market is still oversupplied. That's the issue that's going to keep earnings weak at both Peabody Energy and Walter Energy for, most likely, the rest of this year.

BTU Chart

BTU data by YCharts

It's all relative
The reason for this at Walter Energy is pretty obvious, as met coal goes so goes Walter Energy's business. However, for Peabody Energy an improving domestic thermal coal market would seem like a big bright spot. It is, but margins in the thermal coal market are relatively thin compared to margins in the met market—or at least that's the normal way things operated before the recent met coal price collapse.

Since met margins are weak right now, Peabody Energy and Walter Energy will be mired in weak financial results until pricing gets back to normal on the met front. And that's the update you really want to hear about during Peabody Energy's second quarter conference call.

Pay attention to supply and demand statistics, since that's going to be more important for the future than current met prices. Of course you'll want to hear continued good news on the domestic thermal front, but that won't be enough to turn things around at Peabody Energy or any of the miners with notable met coal operations.

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.


Read/Post Comments (1) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 21, 2014, at 4:28 PM, Paulson545 wrote:

    Lets face facts. Investors have been averaging down all year in coal stocks only to see their money wasting away. You can't fight the president and the EPA. Coal fired power plants are closing or switching to NGas. At some point even China will start to switch away from coal because of the dangerous levels of air pollution. NGas is the clean energy fuel of the future, a recent IPO - Rice Energy ( rice ) has had nothing but upgrades with the most recent upgrade placing a $51.00 price target on it. So you can put your money into the "dead zone" stocks and hope for a miracle or the put your money in the momentum stocks of the future....jmho

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 3036428, ~/Articles/ArticleHandler.aspx, 11/24/2014 10:40:48 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Apple's next smart device (warning, it may shock you

Apple recently recruited a secret-development "dream team" to guarantee its newest smart device was kept hidden from the public for as long as possible. But the secret is out. In fact, ABI Research predicts 485 million of this type of device will be sold per year. But one small company makes Apple's gadget possible. And its stock price has nearly unlimited room to run for early-in-the-know investors. To be one of them, and see Apple's newest smart gizmo, just click here!


Advertisement