Coal Stocks Continue Fighting Difficult Battle

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Coal is presently produced in more than 50% of the U.S. states. The top five coal-producing states -- Wyoming (39% of the total), West Virginia (12%), Kentucky (8%), Illinois (5%) and Pennsylvania (5%) -- contribute nearly 79% of the total coal production of the country, per reports from the U.S. Energy Information Administration (EIA).

In keeping with the statistics, Wyoming is home to two of the largest coal producing companies of the country: Peabody Energy Corp. ( BTU ), operating the North Antelope Rochelle Mine, and Arch Coal ( ACI ), running the Black Thunder Mine.

Unfortunately, all coal producers have been affected by the drastic fall in demand and consequently coal prices, which has taken a toll on their earnings performance. Peabody Energy and Arch Coal incurred losses in the last four quarters. Consequently, stock prices of both these leading coal companies have been hit hard, so much so that they had to resort to a reverse stock split to increase the price of their shares and maintain listing on the NYSE.

Coal remains a dominant source of power generation worldwide despite the increasing use of other sources. However, natural gas and renewables are eating away coal's share at a rapid pace. The new Clean Power Plan, announced in Aug 2015 by the U.S. Environmental Protection Agency (EPA) calls for CO2 reduction of 28% by 2025 and 32% by 2030, from 2005 levels. This plan will certainly see more coal-based power units going out of the production process. They will either be idled or converted to natural gas based units, affecting the long-term prospect of coal stocks.

Coal and its various byproducts also find use in the industrial sector, underlying its manifold advantages. However, unchecked usage of this fossil fuel has raised concerns in all quarters. The primary cause of concern related to coal is global warming caused by the emission of greenhouse gases.

Zacks Industry Rank: Negative Outlook

The Zacks Industry Rank, which relies on the same estimate revisions methodology that drives the Zacks Rank for stocks, currently puts the coal industry at 172 out of 258 industries in our expanded industry classification. This puts the industry in the lower third of all industries, corresponding to a negative outlook.

The way to look at the complete list of 258 industries is that the outlook for the top one-third of the list (Zacks Industry Rank of #85 and lower) is positive, the middle one-third of the list (Zacks Industry Rank of #86 to #169) is neutral while the outlook for the bottom one-third (Zacks Industry Rank #170 and higher) is negative.

Please note that the Zacks Rank for stocks, which is at the core of our Industry Outlook, has an impressive track record going back years, verified by outside auditors, to foretell stock prices, particularly over the short term (1 to 3 months).

Of the 21 coal companies presently in our coverage, only one Cloud Peak Energy Inc. ( CLD ) has a Zacks Rank #2 (Buy), 17 have a Zacks Rank #3 (Hold), and 2 are relegated to a Zacks Rank #4 (Sell) while one firm Alliance Holdings GP, L.P. ( AHGP ) has a Zacks Rank #5 (Strong Sell).

Earnings Review and Outlook

The coal industry's overall earnings results in the third quarter of 2015 were on the softer side with the majority of them reporting in the red and nearly 70% of the companies in our coverage posting a negative earnings surprise.

Companies like CNX Coal Resources LP ( CNXC ), Natural Resource Partners LP ( NRP ) and Cloud Peak Energy Inc. have, however, come up with earnings beats in the third quarter. Disappointing results came from CONSOL Energy and Suncoke Energy, with both missing estimates by a very wide margin.

Peabody Energy and Arch Coal, the two big operators, reported in the red in the third quarter and are also expected to do no better in the final quarter of 2015.

In response to lackluster coal market fundamentals, the companies have resorted to stringent measures to improve their financial performance. Miners have taken initiatives to cut costs while engaging in tactful expenditures to ensure coal-mining safety. High-cost coal mines are being shuttered while operations are moved to low-cost regions.

Miners have taken the extreme decision of selling some coal mines and cutting jobs to lower operating costs. Longwall coal mining techniques are also having a positive impact on production.

As things stand, these challenging market conditions are expected to prevail in 2015 and conditions are expected to deteriorate further in 2016. While the majority of coal companies are curtailing capital expenditures, Arch Coal and Peabody Energy have taken a step further to discontinue the payment of dividends.

If there is a bright spot for these coal operators, it is the rising demand for coal from India. Coal production in India falls far short of its domestic requirement as most of its power units are run on this fossil fuel. The country will thus have to rely on imports to sustain its growth plans.

India needs to import both thermal and metallurgical coal providing ample room for these U.S. exporters to vie for. However, the lower-than-expected growth rate in China and the accompanying fall in thermal coal demand are causes of concern for global coal exporters.

For a detailed look at the earnings outlook for the different sectors in our coverage, please check our weekly Earnings Trends report.

Bottom Line

Unlike renewables like wind and solar that rely on nature's whims for the production of energy (the wind must blow and the sun needs to shine), coal-based power plants provide stability to the performance of the grid. Coal is also far cheaper than other fuel sources. And let's not forget that it was coal that brought about the Industrial Revolution and the modern day economy that we know today.

Admittedly, coal has a long list of drawbacks; even then coal will still account for nearly 35% of the electricity produced in the U.S. in 2015 - not a bad achievement for an industry that has been under tremendous pressure from cheap natural gas and booming alternate energy sources. And lest we forget, its cost advantage and wide availability in most countries across the world make it a widely accepted source of power generation.

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NATURAL RSRC LP (NRP): Free Stock Analysis Report

CNX COAL RESRCS (CNXC): Free Stock Analysis Report

CLOUD PEAK EGY (CLD): Free Stock Analysis Report

PEABODY ENERGY (BTU): Free Stock Analysis Report

ALLIANCE HLDGS (AHGP): Free Stock Analysis Report

ARCH COAL INC (ACI): Free Stock Analysis Report

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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 Nasdaq, Inc.

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

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