Can Peabody & Arch Coal JV Counter Drop In Coal Demand?

Peabody Energy Corporation (NYSE:BTU) and Arch Coal Inc. (NYSE:ARCH) have decided to form a joint venture by merging some of their most-productive coal mines in Powder River Basin and Colorado. The decision comes at a time when coal continues to lose its popularity as an energy source in the United States. Despite the new administration’s pro-coal stance, increasing usage of clean natural gas and renewable sources is alarming for the U.S. coal mine operators.

The joint venture, which will be owned 66.5% by Peabody Energy and 33.5% by Arch Coal, will require regulatory approval.

Rationale Behind JV

Amid increasing concerns about emissions and greenhouse gas, we could notice a clear shift in energy choice among utility operators. At present, natural gas and renewable energy are being preferred over coal for energy needs.

Availability of cheap shale gas in the United States, technological advancement and incentives on usage of renewable energy continue to push back coal as a source of energy. The latest report from U.S. Energy Information Administration (“EIA”) forecasts 2019 coal consumption in the United States to fall to 602 million short tons (MMst), reflecting a 12.3% decline from the 2018 levels and coal consumption to further drop to 567 MMst in 2020.

EIA forecasts that the share of electricity generation from coal in the United States to average 24% in 2019 and 23% in 2020, down from 27% in 2018.

Given the persistent drop in domestic consumption, U.S. Coal producers were looking forward to coal exports, which were aiding U.S. Coal miners to gain some lost ground. However, the latest projection from EIA indicates that coal exports from the United States will drop to 101.9 MMst in 2019 or 11.8% from 115.6 MMst in 2018. U.S. coal exports are expected to drop further to 94.8 MMst in 2020.

Can This JV Deliver?

The U.S. Coal industry is currently going through a very difficult phase, so this joint venture of the top two operators in the U.S. Coal industry, could be the way forward for the troubled coal companies. This JV is expected to unlock a pre-tax synergy of $820 million and average joint venture synergies are projected to be nearly $120 million per year over the initial 10 years. The aim of the JV is to combine best productive assets of both the companies and reduce costs beyond the capacity of a single company to achieve.

This joint venture has the potential to deliver desired results as the decline in cost of operation will make it more competitive in comparison to natural gas and renewable sources of energy. High-quality coal production from the mines controlled by Peabody and Arch Coal will also help to increase thermal coal export volumes to Asian countries.

Coal reserves across the globe are currently estimated to be 1.1 trillion tons and this fossil fuel can last nearly 150 years at the current rates of production. Since coal reserves will last much more than oil and natural gas reserves, initiatives are being taken across the globe to utilize coal more efficiently, keeping a check on emission levels.

The best part of the JV is that these high-quality coal companies will no longer compete with each other for orders but will work jointly and share profits.

Zacks Rank

Peabody Energy and Arch Coal currently have a Zacks Rank #3 (Hold) each. Better-ranked stocks from the same industry worth considering are Natural Resource Partners LP (NYSE:NRP) and Warrior Met Coal Inc. (NYSE:HCC) both have a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Natural Resource Partners and Warrior Met Coal returned higher than its industry in the past 12 months.

Price Performance

Natural Resource Partners reported average positive earnings surprise of 11.01% in last four quarters. Its Zacks Consensus Estimate for 2019 moved up 19.3% to $5.75 per share in the last 60 days.

Warrior Met Coal reported average positive earnings surprise of 5.05% in the last four quarters. Its Zacks Consensus Estimate for 2019 moved up 12.9% to $6.23 per share in last 60 days.

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