Arch Coal
The struggling U.S. economy, falling prices for competing fuels (crude oil in particular) and waning investor sentiment about the energy sector are the main culprits for Arch Coal’s nearly 80 percent decline since June 19. However, it is hard to ignore the favorable fundamentals for the coal industry.
Supplies remain tight and worldwide demand continues to outpace supply, driven largely by developing economies such as India and China. In fact, worldwide demand is expected to outstrip supply by nearly 35 million tons in 2008, a deficit that may widen next year.
Besides favorable long-term fundamentals, Arch Coal’s incumbent status in the Powder River Basin (PRB) is the major driver for the company’s future.
The PRB contains some of the easiest-to-mine coal in the world, costing Arch Coal 20 percent less than their Central Appalachian peers to mine. In addition, PRB coal contains very little sulfur, which makes their coal even more attractive to utilities trying to meet strict emission standards. PRB’s cost advantage and more desirable product has allowed Arch Coal to gain market share, a trend that should continue as Appalachian coal mining gets more expensive.
While Appalachian mines have hundreds of competitors, the PRB is controlled by five producers, with Arch Coal as the second largest. The barriers to entry in PRB are very high since existing producers have already invested billions of dollars and achieved massive economies of scale.
Arch Coal has sold most of its Central Appalachian properties to focus on the West. In doing so, the company shed much of its legacy liabilities, which includes reclamation liabilities, pensions and future health-care expenses. The divesture also freed Arch from union ties, which should yield cost savings and greater operational flexibility in the long run.
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Peter Lazaroff, Junior Analyst
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