Coal Stocks Sink on Liability Worries

The U.S. coal industry is under immense stress given the reduction in domestic demand for coal, competition from cheaper and cleaner natural gas, stricter environmental regulations and strong production from Australian and Indonesian mines.

Per a recent release from the U.S. Energy Information Administration EIA, reduction in domestic consumption and exports will lower U.S coal production by 70 million short tons (MMst) in 2015. The majority of companies in the space have been affected by the softness in demand and the accompanying decline in prices of per ton sold.

As a result of the ongoing downtrend, coal operators like Peabody Energy Corporation BTU, Arch Coal Inc. ACI, Walter Energy WLT and Alpha Natural Resources ANR have been reporting losses in the last four quarters, raising concerns about their financial capabilities to cover up essential costs in case of a bankruptcy. Peabody Energy, Arch Coal and Walter Energy, each holding a Zacks Rank #3 (Hold), have plummeted 67.3%, 78.1%, and 80.4%, respectively, year to date.

More Woes Ahead?

Last month, Alpha Natural Resources, also a Zacks Rank #3 stock, has been informed by the Wyoming Department of Environmental Quality's Land Quality Division ("LQD") that the company no longer qualifies for the self-bonding program in the state. This coal company lost 76.7% year to date and 22% since the May 29 announcement to close at 39 cents on Jun 12.

Meanwhile, the Land Quality Division is reviewing 2014 financial data from Peabody Energy and Arch Coal to see whether they still qualify for the self-bonding program.  

The debt-to-equity ratio of Peabody Energy and Arch Coal is 2.51 and 3.28 respectively, much higher than the industry average of 0.81. The higher debt-to-equity ratio could stretch the financial capabilities of these companies.

Concerns regarding whether these two coal producers will have to pay extra to cover up mine insurance costs have seen shares plunging further on the last trading session. Peabody lost 9% and Arch Coal lost 11.4% to close at $2.53 and 39 cents, respectively, on Jun 12.

What is Self-Bonding?

The "self-bonding" program allows producers of coal to economically insure their clean-up costs in case of a bankruptcy. To become eligible for this self-bonding program, the miners should fulfill certain financial conditions on a regular basis and a have a strong credit rating for bond issuances.

What a Self-Bond Test Failure Means?

The Wyoming regulators are currently verifying the financial flexibility of these two U.S. miners.  In case a coal miner fails to meet the financial criteria, it must buy enough instruments that include corporate surety bonds and Treasury bills, or have enough cash to cover potential reclamation liabilities. A failure would mean an increase in expenses that they can ill afford in this difficult time. In fact, the focus of coal companies has lately been on strict cost control.

Walter Energy, a metallurgical coal producer, is presently trying to avoid bankruptcy and is working with its creditors on restructuring $3.1 billion of debts. This coal producer lost 12.9% on Jun 12 to close at 27 cents. The company might also lag the financial parameters necessary to pass the self-bonding test.

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