The recent rebound in natural gas prices depicted by Henry Hub natural gas prices has given investors some ‘food for investment.’ Moreover, Goldman Sachs has also revised its future estimate of Henry Hub gas from $4/MMBtu to $4.5/MMBtu. This has sent bullish signals in the coal market. Higher gas prices would definitely mean some shift back to coal from natural gas as a source of power. Let’s see how this will have a variety of effect on different coal stocks:
Peabody Energy Corporation (NYSE:BTU)
Peabody Energy Corporation (NYSE:BTU)’s international expansion has helped the stock to fight with high coal-to-natural gas substitution at home (in the US). However, now this very fact means that the company may not benefit from a reviving US coal market. Moreover, low demand for met coal and sluggish growth in the international coal market do not bode well for the company. Moreover, the pricey Macarthur transaction also remains a near-term overhang for the company (as the market believes that the company overpaid for Macarthur Coal).
However, despite all that, the company is still viewed favorably at the Street given its medium-to-long run organic growth prospects. Moreover, many investors have bet on the fact that international market for coal might improve in another six months or so. Peabody Energy Corporation (NYSE:BTU)’s large reserve base is another fact that has been appreciated by the market.
The upside case of $49 assumes an 8x forward multiple applied to a projected normalized EBITDA of $2.4 billion. This higher EBITDA value results from assuming an average LT Hard Coking Coal price of $200/tonne vs base case of $180/tonne.
The downside case of $21 assumes a 6.2x forward multiple applied to a projected normalized EBITDA of $1.8 billion. This lower EBITDA value results from assuming an average LT Hard Coking Coal price of $160/tonne.
Cloud Peak Energy Inc. (NYSE:CLD)
Cloud Peak Energy Inc. (NYSE:CLD) has been heavily punished for its high exposure to the US coal market. However, this time around, a rebound in gas prices mean that the stock is definitely poised to rally higher. It screens favorably on two key themes:
(1) As a pureplay Powder River Basin (PRB) producer, it has low costs; and
(2) it has a strong balance sheet.
Though few company-specific catalysts are seen, the eventual development of a West Coast port to export PRB coal to Asia (a number of permits to develop facilities have been filed and are being reviewed by regulators) would be a significant positive development that does not appear reflected in the stock at present.
However, again, this stock faces the same dilemma as Peabody Energy Corporation (NYSE:BTU). Only a limited upside is present due to the improving US coal market as many believe that secular decline of coal demand will remain there in the US. Also, the rebound in gas prices might not be sustainable given the high levels of gas production.
The upside case of $21 assumes a 5x multiple applied to a projected 2015 EBITDA of $350 million. This EBITDA value results from assuming a 2015 PRB coal price of $15/t vs. our base case of $13.5/t.
The downside case of $13 assumes a 6.5x multiple applied to a projected 2013 EBITDA of $195 million. This EBITDA value is a function of assuming a 2015 PRB price of $12.50/t.