What 2015 Holds For Alpha Natural Resources

The year gone by has been a fairly tough one for Alpha Natural Resources (NYSE:ANR). The company faced poor market conditions for both metallurgical and thermal coal, which impacted the company’s profitability and liquidity. With little scope for topline growth, the company largely concentrated on rationalizing operating costs in order to boost its profitability. In addition, the company sold off some of its coal assets, partly to boost its liquidity position. With the company expected to face similar challenges in 2015, its strategy is unlikely to change significantly. In this article, we will take a look at the challenges facing Alpha Natural Resources and the company’s likely response to the same.

Coal Prices

Metallurgical coal is a major input in steelmaking. Thus, demand for metallurgical coal by the steel industry plays a major role in determining its prices. The prices for Alpha Natural’s coal sales are benchmarked to international metallurgical coal prices. International metallurgical coal prices are largely determined by Chinese demand, since China is the largest consumer of metallurgical coal in the world. Demand for the commodity by the Chinese steel making industry has been weak, adding to subdued demand from other major consumers such as Japan and the EU. Chinese steel demand growth is expected to slow to 2.7% in 2015, down from 6.1% and 3% in 2013 and 2014 respectively. ^[1] Weak Chinese demand for steel has translated into weak demand for metallurgical coal.Weak demand coupled with an oversupply situation due to expansion in production by major mining companies, has resulted in plummeting coal prices. ^[2] The benchmark Australian metallurgical coal price stands at around $119 per ton, around a third of its 2011 peak level of $330 per ton. ^[3] This negatively impacted price realizations for Alpha Natural’s metallurgical coal business. Realized prices for Alpha Natural’s metallurgical coal mining business stood at $86.14 per ton in the first nine months of 2014, as compared to $99.70 per ton in the corresponding period in 2013. ^[4] Given the prevailing weak demand and oversupply situation, Alpha Natural will face a weak demand and pricing environment for metallurgical coal in 2015 as well.

Thermal coal prices have also weakened due to an oversupply situation. This is primarily due to the expansion of coal supply by major mining companies, despite weak demand conditions. ^[5] Demand for the commodity has weakened as a result of weakening demand from China, the world’s largest consumer of thermal coal. As a result of the country’s anti-pollution drive, coal’s share of new generation capacity has dropped to 40% over the past 12 months, from 75% between 2010 and 2012. ^[6] Realized prices for Alpha Natural’s Eastern Steam Coal business,which produces thermal coal, stood at $58.32 per ton in the first nine months of 2014, as compared to $62.51 per ton in the corresponding period of 2013. ^[4] Given the prevailing weak demand and oversupply situation, Alpha Natural will face a weak demand and pricing environment for thermal coal in 2015 as well.

Cost Reduction

As a result of a weak pricing environment in 2014, Alpha Natural Resources focused on reducing its operating costs in order to boost its profitability. The company’s cost reduction measures resulted in lower labor-related benefits and expenses and lower maintenance costs. Alpha Natural Resources lowered its cost of coal sales around 11% from $45.86 per ton in the first nine months of 2013 to $40.87 per ton in the first nine months of 2014. ^[4]

Given that pricing for both metallurgical and thermal coal is expected to remain weak in 2015, the company will have to focus on further rationalizing its operating costs. The company management hinted at a continuation of its efforts to reduce operating costs and improve operational efficiency in 2015 during its Q3 earnings conference call. ^[7]

Capex Reduction and Asset Sales

Plummeting coal prices have adversely affected the company’s operating cash flows. The company reported a cash outflow of $253 million from its operations in the first nine months of 2014, as compared to an inflow of $178 million in the corresponding period of 2013. ^[4] In response to a deteriorating liquidity position and poor market conditions, the company lowered its capital expenditure in the first nine months of 2014 by 21% year-over-year. ^[4] The company’s capital expenditure is expected to rise in 2015 due to expenses pertaining to regulatory and environmental compliance and expenditure for rebuilding underground mining equipment. ^[7] However, given that weak market conditions are expected to persist in the near term, the company will be looking for ways to limit the increase in capital expenditure.

The company sold off the assets of its subsidiary, AMFIRE Mining Company, for $86 million in December. ^[8] If market conditions remain subdued or deteriorate further, Alpha Natural Resources may be forced to divest more of its mining assets in order to boost its liquidity. However, it may not receive the best valuations for its assets under current market conditions.

All in all, the company’s strategic direction in 2015 is likely to be a continuation of the steps taken by it in 2014 — cost reduction and a focus on boosting its liquidity position. Given that a significant improvement in market conditions for coal is unlikely in the near term, 2015 may be another tough year for the company.

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1. Short Range Outlook for Apparent Steel Use 2013-2015, World Steel Association [↩]
2. Coking coal price crashes through $100, Mining.com [↩]
3. Metallurgical Coal at 6-Year Low as Chinese Demand Slows, Bloomberg [↩]
4. Alpha Natural Resources’ Q3 2014 10-Q, SEC [↩] [↩] [↩] [↩] [↩]
5. Australian coal industry caught in ‘perfect storm’, Financial Times [↩]
6. Thermal coal falls victim to China’s energy policy, Financial Times [↩]
7. Alpha Natural Resources’ Q3 2014 Earnings Conference Call Transcript, Seeking Alpha [↩] [↩]
8. Alpha Natural Resources Announces Completed Sale of Amfire Mining Assets to Rosebud Mining, Alpha Natural Resources News Release [↩]