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Clean Coal Cranks Up

On a day when the major averages are taking a downward turn, clean fuel company KFX (AMEX: KFX  ) soared almost 11% on news that it has completed the first two production runs at its K-Fuel plant in Gillette, Wyo.

K-Fuel is described by KFX as the "unleaded gasoline" equivalent for the coal-fired industry. The company takes low-grade coal, removes 80% of the moisture, increases the Btu (heat content) per pound by 30% to 40%, and reduces the mercury content (the stuff that is credited with fouling water around the world) by 70%. Sulfur dioxide and nitrogen oxides will also be reduced by 30%.

KFX is betting that it's cheaper to remove pollutants from coal before combustion and better to optimize low-grade coal (and its lower price) for higher-price uses, such as electricity generation and industrial coal-fired boilers. It also offers its customers something a mining operator cannot -- a coal that's more uniform in its specifications. That should allow customers like electric utilities to fine-tune their operations to get optimum performance from the feedstock.

Investors have liked the story and have placed a $1.2 billion market capitalization on the stock -- even though the company, before now, has not generated a dime from the commercial production of K-Fuel. But even before the first plant went into production, coal giant Arch Coal (NYSE: ACI  ) and KFX announced a deal in which KFX will construct and operate an 8-million-ton facility at Arch's Coal Creek Mine in Wyoming.

With the first commercial plant finally running, KFX is in the spotlight to produce the benefits it has been claiming. A clean-coal tax credit of $5.35 a ton will help, as should strong coal prices.

The biggest competition will probably come from pollution-control equipment companies such as McDermott (NYSE: MDR  ) . For now, customers will stay with technology their industries are already familiar with.

Investors expecting big results will have to wait. The three analysts following the company see 2006 revenue of no more than $30 million and a loss of $0.30 a share (up from $0.25 this year).

For now, the stock appears to be more than fully priced. The company needs to run the production facility and prove it can operate at capacity without major downtime. More importantly, the company needs to show the economics of its current plant. When those costs become evident, the stock will adjust to those long-term prospects.

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Fool contributor W.D. Crotty does not own any shares in the companies mentioned. Clickhereto see The Motley Fool's disclosure policy.

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