Peabody Energy Corporation (BTU): New Analyst Report from Zacks Equity Research - Zacks Equity Research Report


Peabody Energy incurred a much wider-than-expected loss in the fourth quarter of 2014. As expected, the company reported loss in the final quarter, like the first three quarters of 2014. This premier coal company has been affected by the supply glut in the global market. Results of the company were negatively impacted by lower sales volume and realized prices. Peabody is trying to strengthen its operations further in Australia and entered into a joint venture with Glencore Coal Pty Limited to develop mines in Hunter Valley, Australia. Peabody projects that nearly 225 gigawatts of new coal-fueled generation will be built over the next three years on a global scale, creating demand for 500 million tons of coal. This might open up a new export window for Peabody's thermal coal. Hence, we have retained our Neutral recommendation on the stock.


St. Louis, MS based Peabody Energy Corporation is the world's largest private sector coal mining company, owning majority interests in 27 mines in the U.S. and Australia and a 50% equity interest in the Middlemount Mine in Australia. As of Dec 31, 2013, Peabody had proven and probable coal reserves of 8.3 billion tons, of which 7.3 billion tons were in the U.S. and the rest in Australia.

Peabody conducts its business through four principal operating segments: Western U.S. Mining, Midwestern U.S. Mining, Australian Mining and Trading & Brokerage. The principal business of the Western U.S. Mining segment is surface mining and sale of low sulfur, low British thermal unit (Btu), bituminous and sub-bituminous coal to electric utilities. Western coal requires higher transportation costs due to longer shipping distances, though several railroads have announced multi-million dollar capital programs to bring improved transportation to the area. The Midwestern U.S. Mining segment extracts bituminous coal deposits primarily from underground mines in the Illinois Basin that produce high-sulfur, high-Btu coal. Australian Mining operations are characterized by both surface and underground extraction processes, mining primarily low-sulfur and high-Btu thermal and metallurgical coal that is mainly sold to an international customer base. The Trading & Brokerage segment engages in brokerage operations for and on behalf of other coal producers and the trading of coal, freight and freight-related contracts.

Peabody's fifth segment, Corporate and Other, includes mining and export/transportation joint ventures, energy-related commercial activities, as well as the management of vast coal reserve and real estate holdings.

In 2013, mining operations accounted for about 98% of the company's revenues. Peabody's Western U.S. Mining operations form the lion's share of its reserve base and yearly sales (63% of 2013 sales). The Australian Mining segment is the most profitable division of the company due to its favorable geological characteristics and proximity to high demand regions. In 2013, Peabody sold 251.7 million tons of coal, with total revenue coming in at $7.01 billion.

Source: Company


Peabody Energy has a competitive advantage due to its Australian platform, which offers greater access to emerging Asian economies such as China and India. In addition, Japan and South Korea import a substantial volume of Peabody's coal. Australia, by virtue of its location, is uniquely positioned to service Asian coal demand. Aiming to capture the growing coal demand in the Asian markets, Peabody further expanded its footprint in Australia through the acquisition of the Macarthur coal mines. This acquisition enhanced Peabody's presence in the highest-growth coal markets in the Pacific basin with quality metallurgical coal from the acquired mines. Leveraging these assets, the company is aiming for higher shipments from Australia and targets metallurgical coal sales of 16 to 17 million tons and seaborne thermal coal sales of 12 to 13 million tons in 2014. Total Australian coal sales are expected to range from 36 million to 38 million tons in 2014.

The International Energy Agency (IEA) predicts that coal will continue to have the largest share in the global power generation mix despite falling to 33% in 2035 from 41% in 2011. China and India are expected to account for 75% of the rise in demand for coal in the 2011 - 2035 time periods. Japan is also importing a large volume of thermal coal to compensate for the loss in power production from nuclear sources.

In spite of coal's many detractors, a U.S. Energy Information Administration (EIA) report indicates that U.S. coal production will increase by an average of 0.3% per year from 20.6 quadrillion Btu in 2012 to 22.6 quadrillion Btu in 2040. While U.S coal exports, which totaled 3.2 quadrillion Btu in 2012, will remain flattish until 2020, it will finally increase to 3.8 quadrillion Btu in 2040. Also, the World Steel Association predicts global steel usage to increase 2% year over year to 1,562 metric ton (Mt) in 2014 and by another 2% in 2015 to reach 1,594 Mt. Peabody Energy producing both these varieties of coal will benefit from any improvement in the global coal markets.

In the U.S., Peabody Energy has a large production and reserve position in the two fastest growing coal markets: the Powder River Basin (PRB) and Illinois Basin. It also has leading positions in Colorado and the southwest United States. Going forward, Peabody expects to benefit from its PRB and Illinois Basin assets, which are safe, low-cost regions. Typically, around 93% of the coal generated in the U.S. is used for power generation. Peabody with its presence in these two coal markets is set to benefit from any recovery in U.S. coal demand.

Rigorous cost containment efforts and capital discipline are helping the company to tide over the supply glut in the majority of global coal markets. Financial discipline allowed the company to exit the third quarter 2014 with $466.5 million of cash in hand. Free cash flow in the reported quarter was $127 million. Since the company is reducing its capital expenditure given the softness in the coal market, it could further boost its free cash flow going forward.

Peabody's growing presence in Indonesia and Mongolia will allow it to cater to the increasing demand in the Asia-Pacific region. The company believes that thermal coal demand in the developing Asian countries is likely to go up in the near future due to more coal-based power units coming online. Mongolia is touted to have one of the best untapped coal resources in the world, which will benefit from Peabody's coal mining expertise. In addition, Peabody Energy's agreement with China's Shenhua Group to create Sino-Pacific Coal Trading Corporation Pte. Ltd. will open up new markets for Peabody. The company will most likely leverage its existing platform in these regions to cater to most of Shenhua Group's demand.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

This article appears in: Investing , Stocks

Referenced Stocks: PRB , EIA , BTU

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