Natural Gas Gains at Coal’s Expense

In 2003, 68 percent of the US electricity produced came from coal or natural gas. By 2012, that total was still 68 percent, but the mix between coal and natural gas had shifted. Coal had slipped from 50.8 percent of the overall electricity mix in 2003 to 37.4 percent in 2012, while natural gas moved from 16.7 percent to 30.3 percent.

Coal’s loss was almost exactly natural gas’s gain.

But note that coal gained a bit of market share back in 2013 as natural gas prices began to rise. Higher natural gas prices this year will likely swing the pendulum a bit more in coal’s direction (although the long-term trend for coal consumption in the US will still probably be down).

Global Coal Consumption Continues to Rise

That brings me to the topic of today’s article: Despite its decline in popularity in the US, we still consume a lot of coal. Coal is forecast to continue to be the top source of US electricity until about 2035, at which point it will be overtaken by natural gas according to projections by the US Energy Information Administration (EIA).

Global coal consumption has grown strongly over the past decade. In fact, while many developed countries have cut back on coal, developing countries pushed global consumption to record levels in 2012. Global coal consumption has increased by 16.6 percent over the past five years, with most of the increase coming from Asia Pacific.

Coal in the US

Here in the US we have the world’s largest coal reserves. The US has 28 percent of the world’s coal reserves, enough to satisfy 257 years of US consumption at the current pace. As domestic coal consumption has declined, US coal exports are on the rise, reaching record levels in 2012. US coal producers are seeking to further expand coal export capacity from the Pacific Northwest to tap into Asia’s growing consumption.

The EIA projects continued growth in US coal exports, which will help ease the pain of declining domestic consumption. However, environmentalists are seeking to prevent more US coal from being exported, citing its high greenhouse gas emissions. Besides the challenge on the environmental front, Southeast Asia is also a very competitive market given the proximity of major coal exporters Australia and Indonesia. Australia is the world’s top coal exporter, with nearly 90 percent of its exports destined for Japan, China or South Korea.

The Coal MLPs

The fortunes of US coal companies have declined along with US demand for coal. Major coal producers like Peabody Energy (NYSE: BTU) and Arch Coal (NYSE: ACI) have seen large declines in their market caps. But what about coal-oriented MLPs? How have they fared, and might an investor find value in that sector?

The National Association of Publicly Traded Partnerships (NAPTP) lists five MLPs in the category “Natural Resources – Coal,” although two of the five are Alliance Holdings (NYSE: AHGP) and its operating affiliate, Alliance Resource Partners (NYSE: ARLP). The other three are Natural Resource Partners (NYSE: NRP), Rhino Resource Partners (NYSE: RNO), and Oxford Resource Partners (NYSE: OXF).

Alliance Holdings and Alliance Resources have proven to be the healthiest of the group in recent years, with both managing to increase their distribution in each quarter last year. RNO held its distribution constant at $0.445/unit for each quarter last year, but NRP had to cut its quarterly distribution from $0.55 per unit to $0.35 per unit.

The annual return for each of the coal MLPs is reflected in the 2013 distribution trends. The two Alliances grew their distribution, and each showed a solid gain for the year. RNO held its distribution constant, and suffered a small loss in 2013. NRP shaved its distribution by more than a third, and saw its unit price decline by nearly that much.

At the bottom of the pile was Oxford Resource Partners, which had had to suspend cash distributions in early 2013 in response to continued weakness in the coal markets. OXF ended up as the worst performing MLP of 2013.

Conclusions

Some of the coal MLPs are still searching for a bottom, and some may not survive unless market conditions soon improve. The sector is often overlooked by MLP investors, but the challenging market conditions have created some potential values. While coal’s days as a growth industry are probably over in the US, the coal industry isn’t dead yet, nor will it be any time soon. Those who believe otherwise may be willing to sell you their coal MLP units at what will ultimately prove to be quite a bargain.  

(Follow Robert Rapier on Twitter, LinkedIn, or Facebook.)

Portfolio Update

EnLink Won’t Stink  

Subscribers who followed us into Crosstex Energy (NYSE: XTXI) in December saw a quick 17 percent return as the general partner of gas gatherer Crosstex Energy Partners (NYSE: XTEX) prepared for its merger with the midstream spinoff of longtime Crosstex client Devon Energy (NYSE: DVN.)

 That combination was completed Friday following approvals by Crosstex shareholders and unitholders. XTEX is now EnLink (NYSE: ENLK), uniting Crosstex assets with Devon’s midstream interests, In turn, XTXI shareholders received a share of new general partner EnLink (NYSE: ENLC) in a one-for-one exchange, along with a one-time cash payment of approximately $2.05 per share.

ENLK and ENLC will each own 50 percent of the operating affiliate’s assets, though ENLC will also enjoy generous incentive distribution rights and should as a result deliver faster growth. The company, headed by Crosstex chief Barry E. Davis, has forecast dividends of 80 cents a share this year, representing a 63 percent increase from XTXI’s payout in 2013.

The midstream operation ENLC will oversee now boasts 7,300 miles of gathering and transportation pipelines, 12 gas processing plants and six fractionators along with logistics assets. It also has a presence in such key shale basins as the Eagle Ford, the Permian and the Marcellus, as well as a built-in growth platform as sponsor Devon expands its crude output.

Furthermore, low financial leverage should permit accretive acquisitions and cost-efficient investment in organic growth. Buy ENLC below $37.

— Igor Greenwald

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