Alpha Natural Resources Will Have To Solve More Than Simply Liquidity Issues In The Long Term

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Alpha Natural Resources

As a result of lower natural gas prices, stricter enforcement of environmental regulations and weak economic conditions in important global markets, the coal industry has been experiencing a downturn. Both the thermal and met coal markets remain weak. As a result, Alpha Natural Resources (NYSE:ANR), the leading met coal exporter in the U.S., has been taking measures to address balance sheet and liquidity concerns. The company has been trying to reduce operational costs and capital expenditures in order to improve its cash position. Additionally, ANR has been amending its credit facility to make itself more flexible financially. However, these measures will only help the company survive the downtrend in the coal industry in the short term; to ensure long term profitability, the company will need to address some concerns in the weak coal market.

Thermal Coal

In international markets, reduced demand for coal from China and an oversupply of coal from Indonesia and Australia based companies have resulted in low thermal coal prices. American companies, like Alpha Natural Resources, can not compete at these low prices. Domestically, the situation is expected to improve. The domestic demand for thermal coal depends primarily on weather and the prices of natural gas. If the prices of natural gas is high, many buyers of fuel sources tend to raise the demand for coal. For example, it becomes profitable for railroad companies to carry out their transportation operations from the Powder River Basin and the Illinois Basis when the price of natural gas is above $4 per Million British Thermal Units(MBtu). However, it is only profitable to switch from North Appalachia and South Appalachia when the price of natural gas rises above $6-$7/Mbtu. Additionally, the demand for thermal coal has been affected by pile ups in the railway sector, which has been overwhelmed by the increased demand for the transportation of oil. [1] However, the thermal coal market is expected to improve in the coming quarters, as rail issues are resolved and the prices of natural gas rise. The net result is likely to be an increase in demand for coal-fired electricity. The U.S. Energy Administration Information(EIA) predicted that the contribution of coal-fired electricity to the total electricity production in the U.S. to rise from 39% in 2013 to 40.1% in 2014. [2] All these trends bode well for the coal market.

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Metallurgical Coal

The met coal market is expected to remain weak in the near term as it is suffering from oversupply and weak demand. Chinese coal imports have dropped by nearly a sixth so far this year, thereby adversely affecting met coal prices. [3] In addition, the weakening of the Australian dollar forced Australian coal producers to keep supply high in order to maintain competitiveness, even as prices are low and supply is high.

ANR’s met coal division faces some other challenges as well in the near term. While the firm produces higher quality met coal than what is available in China and some emerging markets, it still trails some other manufacturers such as Canada’s Teck Resources and Australia’s BHP, which are well positioned in the premium hard coking coal market. ANR’s variety is largely composed of “hi-volatility B” coal, which is more volatile than premium hard coking coal and produces a lower quantity of coke.  ANR and other American producers face a disadvantage on the cost front as well, compared to Australian producers. Things could get worse as some Australian companies like BHP have recently brought new mines online and are expected to ramp up their exports further, increasing supply in the seaborne coal market.

According to the world steel association, global steel demand is projected to grow by around 3.1% in 2014, down from around 3.6% growth seen in 2013, and then further expand to around 3.3% in 2015. [4] While Chinese steel consumption is expected to grow by around 3% this year, it may not help overall met coal demand much since China has also been boosting its met coal production. [4] India, which was ANR’s largest export market last year, could see met coal demand grow further since steel production in the country is expected to grow by around 3.3% in 2014 and by around 4.5% in 2015, on the back of  structural reform which will support infrastructure investment. [4] Europe, one of the key markets for Alpha’s metallurgical coal, is expected to increase its steel demand by around 3.1% this year. [5]

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Notes:
  1. Surge in Rail Shipments of Oil Sidetracks Other Industries, Wall Street Journal, March 2014 []
  2. Short Term Natural Gas Outlook, EIA, October 2014 []
  3. Metallurgical Coal at 6-Year Low as Chinese Demand Slows, Bloomberg, September 2014 []
  4. worldsteel Short Range Outlook 2014-2015, World Steel Association, April 2014 [] [] []
  5. worldsteel Short Range Outlook 2014-2015, World Steel Association, April 2014 []