Heard Off the Street: Alpha taking a hit on several fronts

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When Alpha Natural Resources chairman Kevin Crutchfield almost two years ago announced the Bristol, Va., coal producer would pay $7.1 billion to acquire industry bete noire Massey Energy, he characterized the purchase as a "truly transformational deal."

It certainly has been that, but, at least for the time being, not in the way Mr. Crutchfield envisioned.

Since the January 2011 announcement, shares of the nation's third-largest coal producer [ticker: ANR] have fallen 88 percent, outdistancing its rivals in what's been a race to the bottom for coal stocks. Alpha's shares closed Friday at $7.21, giving the company the dubious distinction of being the worst-performing stock in the S&P 500 this year.

Buyer's indigestion is only one of the problems Alpha faces. The coal industry has been battered not only by the usual ups and downs of the economy, but also by more enduring trends. They include low natural gas prices; lackluster economies in the United States, China and elsewhere; an unseasonably warm winter; and tougher environmental regulations.

"It's not just cyclicality. There's secular change taking place here," said Wayne Atwell, managing director of Global Hunter Securities in New Orleans.

Last week, Alpha announced it would reduce annual costs by $150 million and cut production by 16 million tons. That is in addition to reductions of 11.5 million tons it made earlier this year. Rivals -- including Peabody Energy [BTU], Consol Energy [CNX] and Arch Coal [ACI] -- have taken similar measures to more closely align supply with demand.

Mr. Atwell estimates another 30 or 40 million tons of capacity -- as much or more coal than Alpha has taken off the market this year -- must be idled in order to restore equilibrium.

The biggest short-term problem for the industry is the glut of cheap natural gas that has prompted electric utilities to dump coal. Tighter environmental regulations and the retirement of aging power plants are also contributing to the shift.

Coal accounted for 42 percent of the electric power generated last year, down from 49 percent in 2010, according to the U.S. Energy Information Administration. The agency's long-term forecast anticipates coal producers will lose even more market share in the years ahead, losses that could be mitigated if natural gas prices rebound. Natural gas will fuel 60 percent of new generating capacity brought on-line by 2035 versus 7 percent for coal, the agency predicted.

Pittsburgh investment fund manager Jeff Mindlin is shunning coal stocks for the time being.

"I don't expect the coal market to recover for about another eight months or a year," he said.

Prices for thermal coal, used to generate power, and metallurgical coal, used to produce coke used in steelmaking, have fallen steadily. Brean Murray Carret analyst Lucas Pipes said prices for export-market met coal will average $170 per ton in the fourth quarter, down nearly 25 percent from the previous quarter. Slumping demand from steel makers in China and Europe are to blame.

In a note to investors Friday, Mr. Pipes' forecast met coal prices will remain depressed because of "an underlying structural overcapacity issue ... that has yet to be addressed."

Alpha's purchase of Massey, completed in June 2011, compounds Alpha's troubles. Mr. Mindlin said integrating the Richmond, Va., coal producer has been a significant distraction.

When the purchase was announced, Massey faced government civil and criminal investigations of the April 2010 explosion at its Upper Big Branch mine in West Virginia that killed 29. The company also faced lawsuits from the victims and their families, lawsuits over its safety and environmental practices at other mines, and shareholder lawsuits over the way former chairman and CEO Don Blankenship ran Massey.

In December, Alpha settled with federal regulators by agreeing to pay a record $209 million fine in connection with the Upper Big Branch disaster. Mr. Mindlin said the litigation has added to the cost of an expensive acquisition.

"They could have bought this for way less than they paid," Mr. Mindlin said. "Their stock has deservedly gone down, and I don't think the pounding it has taken is disproportionate or overdone."

Mr. Atwell noted that Alpha was not the only acquirer in the industry. Two weeks after the Massey-Alpha deal was completed, Arch paid $3.4 billion for International Coal Group.

"By and large, the fundamentals have deteriorated since these acquisitions," Mr. Atwell said.

Alpha's most recent austerity measures include eliminating 1,200 of its 13,000-employee workforce and idling eight mines, including four that came with the Massey purchase. The other four include one in Jefferson County.

Alpha's plan is to eliminate high-cost thermal coal capacity and target export markets for met coal, hoping to serve new steel mills being built in Asia, South America and elsewhere. Last week, Mr. Crutchfield cited forecasts that demand for export met coal will increase by more than 100 million tons by the end of the decade.

Out $50 a share since the Massey deal was proclaimed, it's hard for Alpha shareholders to see that far out on the horizon.


Len Boselovic: lboselovic@post-gazette.com or 412-263-1941.


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