Peabody Energy Corporation (BTU), Kinder Morgan Energy Partners LP(KMP): Natural Gas Will Never Knock Out Coal

Fans of Muhammad Ali should have an appreciation for the coal story. Much like the Rumble in the Jungle, where an older Ali faced a younger opponent in George Foreman, the coal industry has found itself up against a younger, cleaner opponent in natural gas. And despite the overwhelming odds in favor of the young upstart, coal, like Ali, is poised to come out of this fight as the reigning champion.

Let’s look at the scorecards and see why coal will take this fight in the long run.

Peabody Energy Corporation (NYSE:BTU)

The greatest in the world …

To look only at the U.S. and determine the prospects of coal would be very misleading. While low domestic gas prices have dragged the price of coal down with them, the same can’t be said overseas, for two distinct reasons:

Natural gas requires a much more robust infrastructure to be competitive, normally consisting of large pipeline networks and sophisticated liquefaction and regasification terminals, where coal can much more easily use existing roads, rail lines, and ports.

In several countries outside North America, natural gas prices are indexed to oil on a BTU equivalency. That has given North America a distinct advantage in selling natural gas, but it also enables coal to compete on the international stage much better than here.

Looking at the global market for coal, it appears there are no signs that natural gas will be able to take the title from coal. An International Energy Agency report back in January estimates that coal will pass oil as the most used energy source by 2017. In fact, the report projects that the U.S. will be the only country that will see its coal use decline between now and 2017. Just like almost every story in the energy space, the major drivers of demand will be China and India. Analysts project that the two countries’ total coal consumption for electricity generation will be almost double that of all member nations of the Organization for Economic Cooperation and Development, combined. Furthermore, coking coal for steel production should see a substantial gain as well. Total steel demand between now and 2020 is expected to double in India and continue to grow steadily in China.

With so much demand headed overseas, several coal companies in the U.S. will need to boost their export capacity. Peabody Energy Corporation (NYSE:BTU) has a deal in place with Kinder Morgan Energy Partners LP (NYSE:KMP) to use its export terminal in the Gulf of Mexico and on the East Coast. This agreement will increase Peabody Energy Corporation (NYSE:BTU)’s export capacity in the Gulf region to a range of 5 million to 7 million tons per year. Also, as one of the leading exporters of U.S. coal, Alpha Natural Resources, Inc. (NYSE:ANR) has the export capacity for about 25 million tons per year, which provides it plenty of room to run, considering the company exported only 14 million tons in 2011.

… just not in the United States
Despite the exploding global demand, the IEA does recognize that the U.S. may just represent a round that coal can’t win. Based on its projections, total coal consumption in the U.S. will decline by 14% by 2017. So despite the massive growth worldwide, shrinking domestic demand will force American coal companies to compete with overseas players and could potentially squeeze out some of the higher-cost regions such as the Appalachian Basin. Another reason this region will be on notice is that the sulfur content in Appalachain coal is 50% to 275% greater than coal from the Western Basins. As environmental regulations tighten on sulfur dioxide emissions, these types of coal will fall out of favor for domestic electricity generation. This should be a word of warning for Appalachian strong companies such as Arch Coal Inc (NYSE:ACI) , which has about one-third of its total reserves in the Appalachian region.