The U.S coal industry slowed down in 2013, bringing pain to producers and investors alike. Despite this slowdown, several coal companies, including CONSOL Energy (NYSE:CNX) and Alliance Resource Partners (NASDAQ:ARLP), were able to increase their sales, while others, such as Peabody Energy (NYSE:BTU), didn't fare as well. Will the coal industry finally heat up in 2014? Will coal companies improve their performance? Let's examine these issues.
According to the Energy Information Administration, coal production declined by 1.5% during 2013. Despite the moderate drop in production during last year, the EIA estimates coal production will increase by 3.6% in 2014. The rise in production is mainly due to an expected increase in consumption and stable inventories. Moreover, the International Energy Agency projects the coal industry to grow, on average, by an annual rate of 2.3% through 2018. These factors suggest that coal companies should show an increase in sales in 2014.
Coal producers' outlook for 2014
During the first nine months of 2013, the coal producer Alliance Resource Partners increased its production by 15% year over year. In 2014, the company expects an increase in production mainly due to a rise in production at its Tunnel Ridge mine; several mines are expected to start producing later this year, including Gibson South mine and White Oak mine.
The current outlook for Peabody's 2013 sales is between 245 and 255 million tons, compared to 2012 sales of 248.5 million tons. During the first three quarters of 2013, the company's revenue fell, mostly due to the sharp drop in coal prices in Australia. For 2014, the potential rally in the U.S coal industry might translate to higher sales in the U.S, which accounts for 57% of Peabody Energy's total revenue.
Despite the expected recovery of the coal industry, some companies are looking to diversify: CONSOL Energy has decided to sell its five West Virginia Longwall coal mines to Murray Energy. As a result, in 2014 the company's coal sales are expected to plummet by 48% year over year.
CONSOL Energy will receive $850 million in cash from the deal, along with $184 million in future payments. This sale will enable CONSOL Energy to increase its focus on its natural gas operations. The company plans to allocate nearly $1.1 billion of its total $1.5 billion capital expenditure budget in 2014 toward natural gas operations; its goal is to increase its natural gas production by 30% during the year. The shift toward natural gas might be ill-timed, as the EIA projects natural gas consumption will decline by 2.2% during 2014. The expected fall in consumption is mainly due to lower demand for natural gas in the power and residential sectors.
The price of coal companies
In order to assess the valuation of the above-mentioned coal companies I've compared their enterprise value-to-EBITDA ratios, along with a few other metrics. The table below summarizes the data of CONSOL Energy, Alliance Resource Partners, Peabody Energy, and the coal industry average.
The EV/EBITDA ratio takes into account the different financial structure of these companies, such as their level of debt. For example, CONSOL Energy's debt-to-equity ratio is 0.83, while Peabody Energy's debt-to-equity ratio is 1.34. This means Peabody Energy's financial risk is higher than CONSOL Energy's.
Alliance Resource Partners' EV/EBITDA ratio is the lowest at 5.16, while Peabody Energy's is the highest at 24.3, even after the company's stock tumbled by more than 23% during 2013. These findings suggest, at face value, that Alliance Resource Partners is well priced compared to its peers. Bear in mind, however, that since Alliance Resource Partners is a limited partnership it also has different taxation rules from a regular company -- I outlined the basics of investing in limited partnerships in a previous Fool article.
Foolish bottom line
The coal industry is expected to recover in 2014, which will benefit leading coal companies. Some coal companies, such as CONSOL Energy, are changing their business toward natural gas and might not benefit as much from a coal rally as other producers, including Alliance Resource Partners and Peabody Energy, will.