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Industry Outlook

What is the first thought that crosses our minds when we think of coal? Do we only relate this fossil fuel with belching black smoke or look upon it as a cheap source of power generation?

We will always have mixed feelings with different groups advocating divergent views. Even with a declining share in the energy generation mix, the truth is coal still holds a prominent place and will do so for the next few decades.

Coal is currently mined in more than 50% of U.S. states. The top five coal-producing states – Wyoming (39% of the total), West Virginia (12%), Kentucky (8%), Illinois (5%) and Pennsylvania (5%) – contribute nearly 79% of the total coal production of the country, per reports from the U.S. Energy Information Administration (EIA).

Unfortunately, all coal producers have been affected by the drastic fall in demand and consequently its prices. Prices of major coal companies have taken a beating, so much so that reverse stock splits could not help Peabody Energy Corp. and Arch Coal from bankruptcy and delisting. But, coal still occupies an important position in the fuel mix for electricity generation and is expected to hold its place for the next few decades.

Coal remains a dominant source of power generation worldwide despite the increasing use of other sources. However, natural gas and renewables are eating away coal’s share at a rapid pace. The new Clean Power Plan, announced in Aug 2015 by the U.S. Environmental Protection Agency (EPA), calls for CO2 reduction of 28% by 2025 and 32% by 2030, from 2005 levels. This plan will certainly ensure the closure of more coal-based power units. They will either be idled or converted to natural gas based units, affecting the long-term prospect of coal stocks.

Coal and its various byproducts also find use in the industrial sector, underlying its manifold advantages. However, unchecked usage of this fossil fuel has raised concerns in all quarters. The primary cause of concern related to coal is global warming caused by the emission of greenhouse gases.

Zacks Industry Rank: Negative Outlook

The dark hour for coal is aptly reflected in our rank for the industry and the individual stocks within it.

The Zacks Industry Rank, which relies on the same estimate revisions methodology that drives the Zacks Rank for stocks, currently puts the coal industry at 162 out of 258 industries in our expanded industry classification. This puts the industry in the lower third of all industries, corresponding to a negative outlook. Most of the coal miners reported in the red in their latest releases, which had an adverse impact on the industry rating.

The way to look at the complete list of 258 industries is that the outlook for the top one-third of the list (Zacks Industry Rank of #85 and lower) is positive, the middle one-third of the list (Zacks Industry Rank of #86 to #169) is neutral while the outlook for the bottom one-third (Zacks Industry Rank #170 and higher) is negative.

Please note that the Zacks Rank for stocks, which is at the core of our Industry Outlook, has an impressive track record going back years, verified by outside auditors, to foretell stock prices, particularly over the short term (1 to 3 months).

Of the 14 coal companies presently in our coverage, a sole stock Westmoreland Coal Co. (WLB - Snapshot Report) has a bullish Zacks Rank #2 (Buy), while 12 have a Zacks Rank #3 (Hold). Alliance Holdings GP, L.P. (AHGP - Snapshot Report) is relegated to a Zacks Rank #5 (Strong Sell).

Earnings Review and Outlook

The coal industry’s overall results in the first quarter of 2016 were weak with the majority of them reporting in the red.

CONSOL Energy (CNX - Analyst Report) and SunCoke Energy delivered positive surprises in the first quarter. Companies like Cloud Peak Energy (CLD - Snapshot Report) , Foresight Energy LP (FELP - Snapshot Report) and Alliance Resource Partners LP (ARLP - Snapshot Report) have, however, come up with negative earnings surprises in the first quarter.

In response to lackluster coal market fundamentals, the companies have resorted to stringent measures to improve their financial performance. Miners have taken initiatives to cut costs while engaging in tactful expenditures to ensure coal-mining safety. High-cost coal mines are being shuttered while operations are moved to low-cost regions.

Miners have taken the extreme decision of selling some coal mines and cutting jobs to lower operating costs. Longwall coal mining techniques are also having a positive impact on production. The marketing teams of coal companies have also been working hard to secure new contracts and renew existing long-term contracts.

If there is a bright spot for these coal mining firms, it is the rising demand for coal from India. Coal production in India falls far short of its domestic requirement as most of its power units are run on this fossil fuel. The country will have to rely on imports to sustain its growth plans.

India needs to import both thermal and metallurgical coal providing ample room for U.S. exporters to vie for. However, the lower-than-expected growth rate in China and the accompanying fall in thermal coal demand are causes of concern for global coal exporters.

For a detailed look at the earnings outlook for the different sectors in our coverage, please check our weekly Earnings Trends report.

Bottom Line

Undoubtedly, coal stocks are bleeding and some presume they’re on their deathbed. Loads of negative factors are bringing coal down – do these companies have the resources to fight back successfully?

Unlike renewables like wind and solar that rely on nature’s whims for the production of energy (wind must blow and sun needs to shine), coal-based power plants provide stability to the performance of the grid. Coal is also far cheaper than other fuel sources. And let’s not forget that it was coal that brought about the Industrial Revolution and the modern day economy as we know it today.

Admittedly, coal has a long list of drawbacks. Even so, coal will still account for nearly 30% of the electricity produced in the U.S. in 2016 – not a bad achievement for an industry that has been under tremendous pressure from cheap natural gas and booming alternative energy sources. And lest we forget, its cost advantage and wide availability in most countries across the world make it a widely accepted source of power generation.