Sector Watch: Coal stocks
While much attention is focused on soaring oil, coal has followed a similar trajectory with prices up more than 60% this year, benefiting James River Coal Company (Nasdaq:JRCC) and National Coal Corp. (Nasdaq:NCOC), two small caps poised for triple-digit growth next year as a result of increased production and higher pricing.
James River Coal mines, processes and sells bituminous, steam and industrial-grade coal through its six operating subsidiaries spread across Kentucky and Indiana. At year-end 2007, the company controlled approximately 267.9 million tons of coal reserves. It operates 15 underground mines, 11 surface mines,10 processing plants, and it produced 11.2 million tons of coal last year. Another 880,000 tons were purchased by the company for resale. James River sells most of its production to electric utilities and industrial companies.
Acquisitions and operational improvements are the company’s main strategies for increasing production and profits. Last month, James River signed an agreement to purchase coal reserves and permits from Kentucky-based Cheyenne Resources for $40 million. The deal includes 13.8 million tons of proved and probable reserves. The acquired mines are expected to produce at a 500,000 ton run rate by year-end 2008. During the 2008 first quarter, the company also completed a connecting beltway between two mines that allows coal to be belt driven to a processing plant, eliminating a 23-mile truck haul. In addition, operations ended at a high-cost,underground mine and began at a new lower-cost mine in April. Finally, James River completed shipments under older, low-price contracts in the first quarter, replacing these with contracts priced at $35 per ton higher and averaging $80 to $90 per ton.
Coal price increases are driven by soaring international demand for steel production in China and India and electricity in Europe. Some analysts project U.S. coal supplies will fall short of demand by about 15 million tons this year and 11 million tons next year. Prices for Central Appalachian steam coal used by power plants are forecast to climb to $105 per ton in 2009 from around $65 in 2008, while prices for Central Appalachian metallurgical coal used in steel production are predicted to rise to $190 to $220 per ton from around a current $100 per ton.
James River shipped 2.9 million tons of coal during the 2008 first quarter, which was down slightly from 3 million tons in last year’s first quarter. Coal price increases supported 4% year-over-year revenue growth to $138.2 million in the 2008 first quarter from $130.1 million in the 2007 first quarter. The company’s net loss rose to $16.7 million, or $0.78 per share, in this year’s first quarter from a net loss of $7.3 million, or $0.48 per share, in the same period last year due to production delays caused by bad weather, new regulations and commodity-related price inflation.
While James River hasn’t provided guidance regarding full-year production and revenues, analysts expect this company to produce 76% growth this year and seven-fold revenue growth next year. James River’s share price has risen 250% in the past 12 months; despite this, these shares trade at only a eight times a forward P/E multiple. My $60 price target for James River represents a 45% premium compared with Tuesday’s closing price of $41.24. Over the last 52 weeks, shares have ranged between $3.56 and $62.83.
National Coal Corp. mines, processes and sells high-quality steam coal sourced from locations in Tennessee, Alabama and Kentucky to electric utilities in the Southeastern United States. The company produced approximately 1.35 million tons of coal in 2007 and purchased 421,000 tons of coal for resale. Its active mining complexes include two underground mines, six surface mines, and two highwall mines as well as processing and train-loading facilities. National Coal also holds permits that allow it to open or re-open seven more mines near existing operations. The company’s recoverable coal reserves are estimated at 37.4 million tons.
In March 2008, National Coal sold its Straight Creek mining assets for $11 million and used the sale proceeds to repay a 12% $10 million senior secured term loan. Straight Creek represented around 8.7 million tons of total reserves. The company’s growth strategy going forward focuses on increasing production, improving efficiencies and acquiring new contiguous reserves. In addition to permits to open five new mines and re-open two closed mines, National Coal recently applied for permits to open four additional mines.
During 2007, the company sold approximately 1.76 million tons of coal at prices averaging $52.15 per ton. Most sales were made under long-term contracts with electric utilities. In the 2008 first quarter, tons of coal sold increased 62% year over year to 596,732 from 368,332 and revenues grew 88% year over year to $35.7 million from $19 million. However, National Coal recorded a net loss of $10.7 million, or $0.38 per share, in the 2008 first quarter, versus a net loss of $6.1 million, or $0.35 per share, in the 2007 first quarter because of weather delays, the ending of an agreement with a contract miner that has since been resolved and equipment breakdowns.
National Coal plans to spend $16 million to increase coal production this year and is targeting 2008 production at 2.4 million tons (nearly twice 2007 levels) and a 2010 run rate of 5 million tons. The company has also successfully renegotiated supply agreements with customers at higher selling prices. Analysts think this company can deliver 50% growth this year and 250% growth next year. Despite a 38% share price rise in the past 12 months, National Coal shares currently trade at a modest seven times a forward P/E multiple. My $9 price target for National Coal is 43% above Tuesday’s closing price of $6.30. Shares have ranged between $2.20 and $10.83 over the last 52 weeks.
About the Author
Contributing author Lisa Springer is an equity research analyst with nearly 20 years of investment research experience.
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