Stubbornly low coal prices have led to an inevitable industry shakeout as weaker miners falter. But that doesn't mean every coal company is in dire straits. In fact, Alliance Resource Partners and Westmoreland Coal are likely to buck the trend. Here's why.
The headwindsThere are two major headwinds facing coal today: low thermal coal prices and low metallurgical coal prices. Met coal is used in the production of steel, and coal miners ramped up production of this variety of coal to meet demand from China. Only Chinese growth has cooled off, and supply has swamped demand. Low prices are the inevitable result.
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If this were the only issue facing coal miners, it wouldn't be so bad. But there have been big changes taking place in the thermal coal market, too. This type of coal is used to generate electricity, and it's where Alliance Resource Partners and Westmoreland Coal are focused.
Indeed, low natural gas prices and a push to reduce greenhouse-gas emissions have left thermal coal on the outs. According to the U.S. Energy Information Administration, or EIA, natural gas surpassed coal in the U.S. power sector for the first time in April, when gas accounted for 31% (green line in chart) of domestic power production and coal 30% (brown line). Thus, too much coal and too little demand and ... low prices. This trend and the one in met are what's pushing miners to the brink.
Image Source: US Energy Information Administration
There to supply itBut 30% is still a lot coal. And even with currently proposed environmental regulations, the EIA projects the number to fall to only 26% by 2040. Without much exposure to metallurgical coal, this is the only major headwind facing Alliance and Westmoreland -- and they look capable of surviving it.
Alliance Resource Partners has remained profitable throughout coal's decline. In fact, the limited partnership has increased its distribution every year for the past decade. It's done so by increasing production of still in-demand coal from the Illinois Basin, where its business is focused. So far, increased production has more than offset lower prices. That said, the company lowered guidance in the first quarter because of the weak coal market. But it's still making plenty of money, and there doesn't appear to be any risk of financial distress.
Moreover, Alliance is using the downturn to expand. For example, it recently bought assets from bankrupt Patriot Coal and took full control of a coal operation in which it was previously only a partial owner. In other words, it's not only surviving the downturn, but it's also using it to get better by picking at the bones of weaker players.
Coal mining has changed a lot over the years. Source: Peabody Energy,, via Wikimedia Commons.
A happy parentWestmoreland Coal is a bit different from other coal miners. It owns coal mines that are mostly next to power plants. This proximity leads to low coal prices for customers and long-term contracts for Westmoreland -- averaging about 10 years recently. And as a show of strength, it recently reaffirmed its 2015 guidance, suggesting the downturn isn't taking the same toll on it as it is on some competitors.
But Westmoreland Coal, which has been free cash flow-positivein all but one year over the past decade despite red ink on the bottom line, is still looking to grow via acquisition. And that's why it bought Oxford Resource Partners last year and renamed it Westmoreland Resource Partners (NYSE: WMLP), so it could sell assets to the LP to raise cash. Since Westmoreland Coal controls the LP, receives distributions from it, and is in line for incentive payments for increasing the distribution over time, it still gets to benefit from the coal mines it sells to its subsidiary.
The pair have already inked one deal, called a drop-down, that will help push results and distributions higher at Westmoreland Partners. And just days later, the parent announced an acquisition of a new mine. The model, then, is already in play and benefiting both companies.
Not all coal miners are alikeWhen market sectors hit the skids, investors often paint all participants with the same brush. But usually there are at least a few companies that aren't as bad off as everyone believes. In coal it looks like Alliance Resource Partners and Westmoreland Coal will not only survive, but also thrive. If you have a contrarian bent, take a deep dive on these two.
The article These 2 Coal Companies Will Survive Even As Competitors Go Bankrupt originally appeared on Fool.com.
Reuben Brewer has a position in Westmoreland Partners. The Motley Fool recommends Alliance Resource Partners. 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.
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