Growth in Produced Coal Margins Pose Upside to Massey’s Stock Value
About 84% of Massey’s (NYSE:MEE) stock price can be attributed to its produced coal business, based on our estimates. Massey competes with Peabody Energy (NYSE:BTU) and Consol Energy (NYSE:CNX) in the coal industry. It is also facing increasing competition from renewable energy players, both government and private, resulting from rising awareness and demand for clean energy.
As a substantial portion of our value estimate for Massey is generated by its produced coal business, profit margins from this segment are critical to the company’s profit growth. Massey’s EBITDA margin from its produced coal business increased from around 13% in 2006 to 22% in 2008, as increasing global demand for coal resulted in higher profit margins for coal producers. However, as a result of the global economic downturn, demand for coal fell in 2009, reducing profit margins.
As the economic environment improves and demand picks up, we anticipate that Massey’s EBITDA margin on produced coal will increase to around 18% by the end of our forecast period. However, Trefis community members project a higher margin of 22%, implying 12% upside to our price estimate for MEE stock.
Our $55.08 price estimate stands just below market price, so the scenario implied by the community forecasts suggests notable upside to Massey’s stock value.
Controlling Costs Through Economy Of Scale…
The size and nature of Massey’s operations enables it to optimize costs through economies of scale. Between 2005 and 2009, cost per ton for produced coal (industrial, metallurgical and utility) increased at an annual growth rate of 10%, while the revenue per ton increased at an annual growth rate of 11%. As the price of coal is expected to increase in the future, we expect Massey’s revenue per ton to grow at a faster rate than the cost per ton for produced coal.
… But Competition from Renewable Energy Firms Mounting
The increasing focus on climate change is expected to increase legislation favoring firms producing renewable sources of energy. For example, the U.S. enacted the Energy Policy Act of 1992, which introduced the Production Tax Credit (PTC) to independent power producers. Further regulations would result in Massey facing increasing competition from government subsidized renewable energy firms.
Efforts are being made to minimize greenhouse gas emissions, resulting in increasing demand for high quality, low-sulfur coal for both industrial and metallurgical users. This type of coal has higher production costs and, therefore, generates lower margins.
Trefis Community Forecast
The Trefis community predicts Massey’s produced coal EBITDA margin will increase from under 17% in 2010 to 22% by the end of our forecast period, compared to the baseline Trefis estimate of an increase to 18% during the same period. As our base $55.08 price estimate for Massey stock is in line with market price, the community forecasts imply a notable 12% upside to our base estimate.
Drag the trend line in the chart above to see how various produced coal EBITDA margins could affect Massey’s stock value.
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