After another weak earnings report, it appears that Arch Coal (NYSE:ACI) may never regain momentum. The coal miner can't seem to catch a break with domestic thermal coal demand improving, but the high dollar metallurgical coal market plunging to new lows.
Arch Coal remains one of the largest domestic coal producers with a target of selling at least 130 million tons during 2014. Unfortunately, a rebound in one segment is being met by a loss in another segment. The company is suffering substantial losses, bringing up doubts of whether a strong enough rebound will occur.
One would expect Alpha Natural Resources (NYSE:ANR) and Walter Energy (NASDAQOTH:WLTGQ) to see the biggest downside risk from the ongoing weakness in metallurgical coal. The news isn't pressuring the stocks to the downside, suggesting the market expected further metallurgical weakness.
The good news is that thermal coal demand is leading to a turnaround in that segment. Arch Coal saw a sequential improvement in both the cash margin and operating margin of the Powder River Basin segment. Moreover, the company has priced the majority of remaining 2014 sales at higher prices per ton of around $13, compared to only $12.73 in the first quarter. The company suggests that costs per ton will drop during the year partially due to higher volumes.
Arch Coal sees an increase in domestic consumption for power generation by at least 25 million tons in 2014 versus 2013 levels. It even suggests that U.S. utility coal stockpiles could be below 110 million tons by summer's end, or nearly 30% below the 10-year average. Ironically, lower prices are leading to lower inventories when a rational market should want to load up on the cheap prices.
The bad news is that the metallurgical coal market keeps getting worse. The company plans to cut 2014 production by 1 million tons. The challenging metallurgical coal market sent the Appalachia operating margin down to a loss of $13.10 per ton, up from a loss of only $10.82 per ton in the previous quarter. The pricing environment was so weak that the average price from Appalachia coal plunged nearly $7 per ton over last year. The company was able to reduce costs, but nowhere near enough to match the sales price decline.
Due to the ongoing weakness in the metallurgical coal market, Arch Coal is now guiding to shipping between 6.3 million and 7.3 million ton for 2014. Currently, 5 million tons are committed at $83.50 per ton.
The problem for miners like Arch Coal and Alpha Natural Resources is that improved thermal demand of 1 million tons only adds around $13 million to revenues while a decline in met coal reduces revenue by at least $83.5 million at current prices.
Walter Energy is virtually 100% focused on metallurgical coal, so the miner will continue to suffer from the weakness in that market. Alpha Natural Resources made the move to buy Massey Energy at the top of the coal market in order to become a global leader in the met coal market. Unfortunately, that move hasn't worked out very well at all. During the fourth quarter, Alpha still obtained over $400 million of quarterly revenue from met coal even after a substantial decline in volumes shipped and price realizations. At the time of the report in Feb., the coal miner had roughly 56% of the 2014 met coal production priced at a solid $95 per ton. Unfortunately, this only suggests the company could see further impacts with the pricing continuing to decline.
The bottom line is that Arch Coal lost a smashing $126.5 million for the first quarter and saw adjusted EBITDA crash to only $27.6 million. The company has losses nearing 20% of the $736 million in revenue generated during the quarter. Investors bullish on the long-term have to now start questioning the value of these coal stocks with the substantial short-term losses. With a market value of less than $1 billion, it would appear that some value must exist with shares of Arch Coal despite the current turbulence in the coal sector. Remember, that the domestic natural gas producers and oil service firms faced a similar situation heading into the winter and now a lot of the weakest stocks trade at multi-year highs. A sector can turn around quickly despite what appears to be never-ending weakness.
Mark Holder and Stone Fox Capital clients own shares in Alpha Natural Resrouces. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.