Is It Time for a Reality Check on Coal After CONSOL Earnings?

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CONSOL Energy Inc. (NYSE: CNX) was one of the beneficiaries of the post-election rally. After all, Donald Trump was supportive of coal and for coal to have a place in the energy mix ahead. President Obama was no fan of the coal industry, and Hillary Clinton had pledged to continue to be hard on coal. After taking a look at the CONSOL earnings report, it might be a scenario in which investors take a pause, even if CONSOL is not just a coal story.

CONSOL is divided into two units: Exploration and Production (E&P) and Coal. The E&P division produces pipeline quality natural gas, primarily for gas wholesalers. The Coal division’s segments are mostly in Pennsylvania and Virginia, and it is into mining, preparation and marketing of thermal coal for power generators and metallurgical coal for metal and coke producers.

CONSOL reported that it generated $957 million in free cash flow in 2016. Of that, total free cash flow for the fourth quarter alone was $349 million, if you include $213 million in proceeds from the Marcellus joint venture dissolution.

After adjusting for certain items, CONSOL reported that adjusted income from continuing operations was $0.5 million, or $0.00 per diluted share, in the fourth quarter. Adjusted EBITDA attributable to continuing operations was $205 million for the 2016 fourth quarter, versus $198 million a year earlier.

CONSOL’s news release showed that the company is also committed to fully separating E&P and coal businesses, and its three paths to separation are as follows:

  • Possible sale to third party
  • Spin-off to CNX shareholders
  • Continue to evaluate dropdowns of additional undivided interest

The company further noted that its E&P production and capital guidance remain unchanged from when it met with analysts in December. CONSOL also said that it drilled seven wells in the fourth quarter, all of which were in Monroe County, Ohio, and are continuing to see cost improvements.

CONSOL showed that it recorded a valuation allowance of $167 million related to the alternative minimum tax credits accumulated over time. The company further noted that it has identified multiple opportunities to monetize certain attributes that may not have been realized for several years.

Nicholas J. DeIuliis, president and CEO of CONSOL, said:

During the quarter, CONSOL further executed upon strategic goals with an additional ownership drop into CONE Midstream Partners LP and the dissolution of the Marcellus Shale joint venture. These successful transactions, in part, helped generate approximately $349 million in free cash flow1 during the quarter, while bringing the full year 2016 free cash flow to approximately $957 million. During the quarter, organic free cash flow from continuing operations, along with proceeds from asset sales, helped to pay down our revolving credit facility and increase our liquidity position by over $300 million to $1.73 billion. Our even stronger liquidity position and balance sheet allow us to continue to focus on opportunistically allocating capital to prudently develop our tier one assets, while simultaneously providing us with the flexibility and optionality to divest assets in order to pull value forward.

David M. Khani, chief financial officer of CONSOL, said:

We think there may be a market opportunity to achieve a sale of the coal business on favorable terms or, alternatively, to effect a spin-off as our leverage ratio comes down to a level that allows each business to stand on its own. At the same time, we will continue to evaluate dropdowns of additional undivided interests in the Pennsylvania Mining Complex.

What may need to be kept in mind here is that coal remains more than lightly challenged. While Obama was no friend of the coal industry, Trump was a champion of it. That being said, it seems quite unlikely that coal is about to make a huge comeback that would recapture much of the industry’s losses.

During the election, there were promises made that coal would have its place in the U.S. energy mix. Some coal companies have re-emerged from bankruptcy, and there has even been a recent IPO filing by a new mining company. Coal remains among the cheapest sources of energy, but other sources of energy have become ever more competitive.

Now go back and look at what the American Coal Council said in late 2016. It called the U.S. coal resources larger than those of any other country in the world, but the council also seemed to admit that many of the coal jobs from the past are permanently gone and that a significant loss of coal demand was made permanent due to plant closures. The American Coal Council said after Trump’s victory:

The coal sector has been devastated by lower demand and job loss in recent years due to the mounting impact of regulations pointed squarely at our industry. These regulations have significantly increased the cost of coal for electricity generation and industrial use, made it less competitive against other fuels, and resulted in the closure of a large number of coal plants. Rather than offer environmental benefits, regulatory streamlining, and business planning certainty, regulations have become about costs, administrative burdens, and lost jobs.

Another aspect to consider is what the new White House energy policy states. The White House statement on the new website after Trump’s inauguration said:

The Trump Administration is also committed to clean coal technology, and to reviving America’s coal industry, which has been hurting for too long.

CONSOL shares were last seen trading down 9.6% at $16.54 on Tuesday shortly before noon. Its 52-week range is $6.72 to $22.34. This was a $19 stock last Friday and was briefly at $22 in December, during the peak of the post-election rally.

CONSOL was a $16.97 stock the day of the election, but it jumped to $18.50 the day afterward.

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