It's a tough world for coal companies like Peabody Energy (BTU) and CONSOL Energy (CNX -1.44%). Coal producers across the United States are struggling to maintain consistent profitability. There are several underlying headwinds that are making things difficult for coal companies. The emergence of natural gas is proving to be stiff competition, especially since natural gas was so cheap for most of 2013. In addition, environmental concerns are causing a shift in public perception of coal.
Perhaps the biggest contributor to the challenges faced by Peabody Energy and CONSOL Energy is an unfavorable cost curve. These two companies are struggling to keep costs down, and because of this, their margins are deteriorating. One coal company that has kept strong control over costs is Alliance Resource Partners (ARLP 0.42%), and the results speak for themselves.
Strong management keeps costs under control
In a time when most coal companies are struggling to keep profits afloat, Alliance Resource Partners thrives. Alliance Resource generated record revenue in the fourth quarter. For the full year, revenue grew 8.4% and EBITDA increased by 18%. In 2013, Alliance Resource Partners generated record revenue, coal sales volumes, EBITDA, and net income.
And, since Alliance Resource Partners is structured as a Master Limited Partnership, it's required to pass through the bulk of its cash flow to investors. That means unit holders receive a hefty yield, which stands at nearly 6%. Plus, due to its strong success, the payout has grown over time. Alliance Resource has increased its distribution for 23 consecutive quarters.
Compare this performance to fellow coal producer Peabody Energy. Its EBITDA collapsed by 43% last year due to the effects of poor pricing, which brought down EBITDA by $800 million.
How does Alliance Resource do it?
Naturally, you may be wondering how one coal company can thrive while so many others struggle. One of the major reasons for its strong pricing environment is that Alliance Resource keeps transportation costs down. It operates 11 underground mining complexes, and its mining operations are near major utility generating plants.
This is a shrewd strategy, since strict control of transportation costs allows for Alliance Resource to boost profitability. This only allows for very profitable coal production, which is evident by the fact that almost all of Alliance Resource's future contracts are already booked. Alliance Resource has 87% of its 2014 coal sales volumes already priced and committed. The company expects to post another increase in coal sales and production volumes in 2014, which would result in yet another record performance.
Coal companies like CONSOL have done a decent job increasing coal production, but severe margin erosion is really taking its toll. For example, CONSOL Energy produces 78% of its output from thermal coal, but it's having a very hard time competing on costs. A deeper dive into CONSOL's most recent results bears this out.
CONSOL's average sales prices of coal dropped sharply in the fourth quarter, to $66.85 per ton to $75.84 per ton. That represents a 12% year-over-year decline. At the same time, its average costs increased by nearly 2%. Put it all together, and CONSOL experienced sharp margin contraction across all of its coal products.
Coal companies need to keep costs down
In an environment where sales volumes are difficult to generate, it's critical for coal companies to keep costs down. There's some progress on this front. For example, Peabody generated $340 million in cost savings last year which helped to offset some of the drop in cash flow.
However, Alliance Resource Partners has demonstrated a truly unique ability to aggressively monitor costs, thanks to its regional positioning. Alliance Resource's mines are located near its utility customers, which has kept costs down and boosted profitability. The end result is a truly one-of-a-kind coal company.
High yields aren't just for MLP investors