Riding Australia's—and China's—Boom
09/23/2010 12:00 pm EST
Elliott Gue, editor of The Energy Strategist, likes a US coal company that has focused more and more on booming Australia, which in turn supplies China and Asia.
Peabody Energy's (NYSE: BTU) largest markets are the US and Australia, though the latter drives growth; the company’s revenue increased 24%, whereas its Australian sales soared 93 percent.
Five years ago, Peabody was a US-centric business, but management spun off its East Coast operations and completed [several] Australian acquisitions. Given planned mine expansions, the focus will shift even more heavily [to] Australia over the next few years.
Exports, primarily to Asia, drive Australian coal demand, and management sees no signs of flagging demand.
Chinese electricity generation is up 19% in the first six months of 2010 [from] the same period one year ago. Vehicle sales in China are up 48% this year, and steel production is up 22%. Coal exports to India soared 22% in the first half of 2010, and are expected to be up 15% to 20% for the full year, [while] Japanese steel production is up 20% this year—[a sign] of a recovery from the 2007-2009 recession.
Given Asia’s high and growing demand for coal, Peabody plans to expand its Australian production substantially over the next few years. Management expects the firm to produce 27-29 million tons of coal in Australia this year. Peabody produced 12.6 million tons in the first half of 2010; management’s forecast implies significant growth in the final two quarters.
Management has targeted production of 35-40 million tons by 2014. Because Peabody has closed [several] acquisitions in Australia, I wouldn’t be surprised if the company’s output surpasses this goal, assuming demand growth keeps pace.
Peabody’s management has long maintained that the long-term opportunity for the US coal industry resides in the seaborne market. The US does export coal, but the actual tonnage is rather small compared to the size of the country’s reserves. Peabody continues to work on a plan to export some of its production from the West Coast to Asia. Such an operation would be a major growth driver for Peabody.
Industry chatter has also focused on the possibility of exporting coal from the Gulf Coast and around Africa to coal-hungry India. A wider Panama Canal could also offer the opportunity to ship coal to Asia.
Peabody’s outlook for its US operations remains conservative, despite improvements in the market. The company’s efforts to control costs at its US operations are also encouraging and should keep US margins healthy.
Peabody’s outlook backs up my strategy: Focus on firms leveraged to foreign demand, and avoid companies with major exposure to thermal coal production. When it comes to US operators, investors should favor names with heavy exposure to the [Powder River Basin in Montana and Wyoming] and the Illinois Basin, [which also covers some of Indiana and Kentucky]. But don't forget that Asia is the real driver of near-term growth.
Peabody rates a Strong Buy under $52. (It closed above $48 Wednesday—Editor.)