It's been dark days for the coal sector lately. China, which accounts for roughly half of all coal demand, has seen its economy slow significantly. The Environmental Protection Agency, through stringent regulations, has basically decreed that no new coal plants be built in the United States.
It's no surprise then that many coal companies, including Walter Industries (WLT +0.00%) and Peabody Energy (BTU +0.00%), have seen their stocks falter in the weak sector climate.
Cloud Peak Energy (CLD +0.00%) is one of the only coal companies making a profit in this environment. Yet unlike Walter Industries and Peabody Energy, the company does not pay a dividend, and according to its 2013 annual report, it has no plans to pay a dividend in the near future. So why doesn't Cloud Peak Energy distribute any of those profits to shareholders?
Low-cost producer planning for the future
Relative to the other U.S. coal miners, Cloud Peak Energy is in great shape. The company has a major competitive advantage in that it operates solely in the Powder River Basin.
Coal in the Powder River Basin is both cheap to produce and low in sulfur, which is attractive for utilities that need to meet environmental regulations. According to the EIA, the spot price for Powder River Basin coal is around one-fourth the price of Illinois Basin coal, and one-fifth the price of Appalachian Basin coal. Powder River Basin coal also has the lowest sulfur content of coal in all the major U.S. basins.
Because of its low production costs, Cloud Peak Energy's profits have stayed in the black. Because the company is cash flow positive, the company is trying to expand selectively. The company's planned expansion is the main reason why Cloud Peak Energy does not pay a dividend.
In 2012, the company paid $300 million in cash for the rights to the Youngs Creek project, an undeveloped greenfield surface mine that will require significant capital expenditures to develop. When completed, the Youngs Creek project should help Cloud Peak Energy increase its probable coal reserves and production volumes.
In 2013, the company also entered into exploration agreement with the Crow Tribe of Indians, who have land adjacent to the Youngs Creek project, to possibly develop their coal reserves as well.
When completed, the two projects should also help Cloud Peak Energy better position itself to export to Asia. Of the the total 89.1 short tons Cloud Peak Energy sold in 2013, only 4.7 short tons were sold to Asia.
Cloud Peak Energy's exports to Asia should increase in the future as the company tries to secure export capacity through various terminals in the Northwest.
The bottom line
Cloud Peak Energy could absolutely pay a dividend. It has the cash flows and the balance sheet to do so. The company chooses not to because it is using this cash to expand selectively without stretching its balance sheet. The careful expansion is a sign of excellent management.
There is no question that the coal industry is suffering right now, but there is still a future for coal. Even though U.S. demand for coal will likely diminish over time, Asian demand will still be relatively strong. Due to its proximity to the Pacific, the Powder River Basin is one of the best geographically placed coal basins to export to the Asian consumers in South Korea, China, and India. Because of that future growth potential, I believe Cloud Peak Energy is a great company and a sound investment.
