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Is the Coal Industry's Trump-Induced Revival Short-Lived?

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The coal industry is faced with numerous challenges from domestic and international markets. In the U.S., strong competition from natural gas, stringent regulations and additional impetus to solar and wind power generation through the extension of tax credits are steadily luring away utility operators from the commodity.

Moreover, coal-producing countries like Australia and Indonesia — along with, importantly, a stronger greenback — are making the export market fiercely competitive for U.S. coal players.

Also, in line with the policy laid down by the Paris Agreement, leading energy companies operating in Europe have announced that they will not invest in any new coal fired power plants post 2020. This will certainly dampen the prospects of coal in European countries.

Even without the Clean Power Plan, utilities like NextEra Energy (NEE), Dominion Energy D and Duke Energy Corp. (DUK - Free Report) were already investing hugely to create a green energy generation portfolio and have enhanced their focus on electricity from clean fuel sources.

The Clean Power Plan has been repealed by President Trump. Despite that, new investments are being directed toward natural gas and renewable-based power production due to the clean-burning nature of natural gas and tax credits provided to produce more solar and wind power.

Failing to cope with the continuous fall in demand and declining prices of coal, some coal miners have filed for bankruptcy. In response to the anti-carbon drive, utility operators are shutting down coal-based power plants and directing fresh investments toward constructing natural gas facilities and adding more renewables. U.S. coal production touched its lowest levels in 2016, at 739 million short tons (MMst) since 1978.

Here are some of the severe headwinds that the coal industry is up against:

Natural Gas Substituting Coal: A major substitute for coal in energy generation is natural gas, another fossil fuel. Coal is being dumped in favor of natural gas, which due to extensive exploration and production, and a shale gas boom in onshore United States, is witnessing significantly lower prices than in the past.

Natural gas is an attractive choice for new generating plants because of its relative fuel efficiency, low emissions, quick construction timelines and low capital costs. This trend is encouraging power generating utilities to not only convert their existing plants to gas-fired ones but to build new units.

A recent U.S. Energy Information Administration (“EIA”) release projected that coal production in the United States will drop 3% year over year to 751 million short tons (MMst). The decline is attributable to a 4% drop in domestic consumption of coal and an expected 9% drop in coal exports. Coal production is expected to remain flat in 2019.

The EIA release showed that natural gas contributed 32% to total energy generation in 2017. Its share is expected to go up to 33% in 2018 and further increase 100 basis points to 34% in 2019. On the other hand, the share of coal is expected to drop from 30% in 2017 to 28% in 2019.

In addition to power generation, natural gas is being utilized in new projects in the fertilizer and chemical sectors.

Environmental Legislation: Coal has been losing importance as a fuel source over the last few years, particularly in the United States compared with other sources that are less harmful to the environment. Concerns over the emission of greenhouse gases and global climate change have resulted in the formulation of new legislations and policies which emphasize the use of environment-friendly fuel sources, particularly in the power sector.

This has considerably slowed down the expansion of coal-fired capacity in the power sector, with utility companies now building new natural gas-fired plants and resorting to alternative sources of energy generation like wind, solar and hydro power.

The Trump administration is trying to ease regulations that are hurting the coal industry. Will the United States be able to work in isolation ignoring the emission agreements directed at benefiting everyone? The answer to this question actually holds the key to the coal industry’s prospects.

Duke Energy will invest $11 billion to generate cleaner energy through renewables and natural gas as it moves to a low-carbon future. By retiring coal plants and bringing on more natural gas and renewables, the company has already reduced its carbon emissions by nearly 30% since 2005.

American Electric Power Company AEP, a Zacks Rank #3 (Hold) stock, has announced its plan to add 8 GW of solar and wind power generation capacity in its portfolio by 2030 and lower its emission levels by 60% from 2000 levels by 2030. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Majority of the power plants retired over the last decade in the United States were based on fossil fuels and among them a major chunk used coal to produce electricity. So, the ongoing reduction in usage of coal will hurt its long-term prospects.

Competition from Alternative Energy Sources: Apart from natural gas, the coal industry has been losing a major share of its electric generation demand to renewable sources of energy. Usage of alternate energy is on the rise, with more utility-scale solar projects being commissioned across the country.

The EIA report reveals that consumption of power produced from renewable sources is rising. Per the report, the 2014 to 2017 time period, renewable sources accounted for more than 50% of the total utility scale power plant added in the United States. Out of the 32 GW new plants planned to be added in 2018, nearly 36% will come from renewable sources. The rising popularity of the alternate energy source is undeniable and may hurt the prospects of coal.

Rising Competition: Besides competition from renewables and natural gas, U.S. coal producers are also affected by rising export from Indonesia and Australia. International players enjoy the benefit of low mining and transportation costs, consequently making the coal cheaper than their American peers. Per the EIA release, coal exports – that touched 97.0 million tons in 2017 – will drop to 88.1 million tons in 2018 and further decline to 84.6 million tons in 2019.

Bankers Retreat: Capital-intensive coal projects are gradually losing favor among primary funders like banks and financial institutions. Banks are distancing themselves from coal projects and are rather getting involved in natural gas-based power projects.

To Conclude

Even though President Trump has taken steps to boost the prospects of the coal industry, it will be an uphill task for the new administration to repair the damage already caused. Over the past year, new jobs were added in the coal industry, but questions remain on the sustainability of this revision over the long run.

To overcome difficulties and remain viable, coal producers are idling coal mines, lowering headcount, delaying capital expenditure plans and even resorting to selling mines. Despite these initiatives, coal producers are bracing themselves for an extended down-cycle, as demand for coal might improve marginally in near term but its share in fuel mix is likely to down over the long term.

Billions of dollars have already been invested to produce electricity from clean energy sources and more projects are being lined up for approvals, so at this juncture going backward to dirty coal might not be a smart choice for our planet. Carbon emissions are a serious threat to the future of the planet, according to a vast majority of climate scientists.

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