There are some broad similarities between thermal coal miners Foresight Energy LP (FELP +0.00%) and Alliance Resource Partners, L.P. (ARLP 1.31%). But the differences couldn't be more stark, which is why most, if not all, investors should choose Alliance if they are looking to venture into the still-troubled coal sector.
Facing the music
Coal is has been losing the battle against cheap (and cleaner burning) natural gas for years. At the same time, alternative energy sources like solar and wind have been gaining prominence. It is too late for coal to gain back the share it has lost in the U.S. electric grid. The future, meanwhile, looks equally troubling; the U.S. Energy Information Administration (EIA) expects coal to continue to lose share over the next 20 years.
Image source: Getty Images.
That's the first similarity between Foresight and Alliance: They are predominantly thermal coal producers facing a difficult coal market. Both, however, happen to focus on mining Illinois Basin coal, which is located in the interior region. This region has held up relatively well compared to other domestic coal regions, with the EIA expecting it to increase its share of the thermal coal market from 20% to 26% between 2016 and 2040.
Despite the tough coal market, Alliance and Foresight are relatively well-positioned geographically. The partnerships differ drastically from here.
How Alliance and Foresight differ
At the end of the second quarter, Foresight's long-term debt stood at roughly 60% of its capital structure. That's actually a huge improvement driven by a debt restructuring completed in late 2016. Before the restructuring, long-term debt made up more than 100% of the capital structure because losses and write-offs led to negative partner equity. But even after that financial engineering, Foresight is still a heavily indebted partnership.
FELP Dividend Per Share (Quarterly) data by YCharts.
Now add to that debt picture the fact that Foresight has lost money in each of the last seven quarters. And that it eliminated its distribution in late 2015. To be fair, a quarterly distribution was reinstated in August at $0.065 a share, which doesn't yet appear on this chart, but that's a fraction of the $0.38 it was at its peak. Foresight's outlook is getting better, but it remains a highly leveraged miner in an industry facing a tough future.
Alliance is in a totally different position. Long-term debt makes up about 30% of the capital structure (roughly half the level of Foresight). It didn't have to resort to a financial restructuring, and it has remained profitable every year throughout the coal industry's darkest days, losing money in just one of the last 10 quarters.
FELP Financial Debt to EBITDA (TTM) data by YCharts.
That said, Alliance did trim its distribution, cutting it 35% in mid-2016. However, at the time, management made clear that the distribution reduction wasn't about financial weakness -- it was about assuaging the concerns of capital markets. Essentially, the partnership cut the distribution to ensure it could continue to tap the capital markets. The proof of that statement is the fact that Alliance covered its distribution by an incredible 2 times in 2016 (1.2 is considered good coverage in the partnership space).
Like Foresight, Alliance has again begun to increase its distribution. Even after a 14% hike, however, Alliance expects to have robust distribution coverage of around 1.7 times in 2017. That means there's still a large margin of safety and, perhaps, room for more hikes.
A clear winner in coal
Truthfully, after a steep price decline, there's probably more upside recovery potential at Foresight Energy as it works itself out of a deep financial hole. However, Alliance is currently yielding over 10% and is in far better financial shape (Foresight's yield, for reference, is around 6%). Since both partnerships are generally facing the same industry headwinds, why take the risk of a turnaround at a highly leveraged coal miner when you get a 10% yield from what is likely the best-positioned player in the coal industry? Alliance is the clear winner out of this pair of Illinois Basin coal miners.
