Is Arch Coal a Dangerous Investment?

With shares of Arch Coal Inc. (NYSE:ACI) trading at around $5.14, is ACI an OUTPERFORM, WAIT AND SEE or STAY AWAY? Let’s analyze the stock with the relevant sections of our CHEAT SHEET investing framework:

C = Catalyst for the Stock’s Movement

Was it over for Arch Coal when the market sank in 2000? No! Was it over when the financial crisis sent Arch Coal into a nosedive in late 2008? No! Is it over with Arch Coal trading at just above $5 per share? No! The stock has always made a comeback – no matter how gloomy the situation. The point here is that history tends to repeat itself. However, there are still several concerns, which include:

  • Weak sales volume
  • Increase in operating expenses
  • Weak domestic market
  • Rise of natural gas
  • Regulatory pressures
  • Unimpressive Q4 results

The wildcards here are China and India. Coal is cheap, and China and India like cheap. With such enormous populations, the demand for coal from these two countries has the potential to be enormous. However, China states that it would like to move toward cleaner energy to curb pollution. We’ll see how long that lasts. Clean energy isn’t exactly cheap.

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There’s also an interesting phenomenon taking place with Arch Coal. In most cases, when insiders consistently purchase shares, that stock eventually moves higher. In this case, insiders have been wrong on several occasions. Insiders have been buying shares for years, but the stock has continued to drift lower. Perhaps these insiders will still be correct over the long haul, but the stock would have to move quite a bit for those losses to be recouped.

Arch Coal was rated an OUTPERFORM here last month. The stock moved higher for a while before coming back down yesterday. However, the past means nothing. What is the future likely to hold? We’ll get to that in the Conclusion section. For now, the chart below will compare fundamentals for Arch Coal, Alpha Natural Resources (NYSE:ANR), and Peabody Energy Corp. (NYSE:BTU). Arch Coal has a market cap of $1.09 billion, Alpha Natural Resources has a market cap of $1.73 billion, and Peabody Energy has a market cap of $5.54 billion.

ACI

ANR

BTU

Trailing   P/E

N/A

N/A

N/A

Forward   P/E

N/A

N/A

11.28

Profit   Margin

-16.74%

-34.94%

-7.25%

ROE

-21.22%

-39.49%

-9.01%

Operating   Cash Flow

 $332.80 Million

$518.42 Million

$1.52 Billion

Dividend   Yield

2.20%

N/A

1.60%

Short   Position

14.50%

14.70%

4.30%

 

Let’s take a look at some more important numbers prior to forming an opinion on this stock.

E = Equity to Debt Ratio Is Weak

The debt-to-equity ratio for Arch Coal is significantly weaker than the industry average of 0.70. It’s also weaker than the debt-to-equity ratios for Alpha Natural Resources and Peabody Energy.

Debt-To-Equity

Cash

Long-Term Debt

ACI

1.79

$1.02 Billion

$5.12 Billion

ANR

0.68

$1.04 Billion

$3.39 Billion

BTU

1.27

$536.60 Million

$6.25 Billion

 

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T = Technicals Are Weak

Arch Coal has performed poorly over the past three years. It should be noted that this is an industry trend, not a company-specific trend. The past month has been stronger for Arch Coal, but it has been far from a standout performance.

1 Month

Year-To-Date

1 Year

3 Year

ACI

4.90%

-29.39%

-51.08%

-76.65%

ANR

1.95%

-19.61%

-48.25%

-84.79%

BTU

-0.10%

-22.54%

-28.09%

-53.99%

 

At $5.14, Arch Coal is trading below all its averages.

50-Day   SMA

5.98

100-Day   SMA

6.58

200-Day   SMA

6.67

 

E = Earnings Have Been Weakening                

Annual revenue has remained relatively steady, which is a good sign. However, earnings have weakened over the past two years.

2008

2009

2010

2011

2012

Revenue   ($)in   billions

2.98

2.58

3.19

4.29

4.16

Diluted   EPS ($)

2.45

0.28

0.97

0.74

-3.24

 

When we look at the last quarter on a year-over-year basis, we see declines in revenue and earnings.

12/2011

3/2012

6/2012

9/2012

12/2012

Revenue   ($)in   billions

1.23

1.04

1.06

1.09

968.23M

Diluted   EPS ($)

0.32

0.01

-2.05

0.22

-1.42

 

Now let’s take a look at the next page for the Trends and Conclusion. Is this stock an OUTPERFORM, a WAIT AND SEE, or a STAY AWAY?

T = Trends Do Not Support the Industry

Due to an uncertain global economy and a weak domestic market, trends do not support the industry. On the other hand, there is strong growth potential internationally.

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Conclusion

Arch Coal is a bargain if the economy continues heading in the right direction. If this ends up being yet another bubble, then Arch Coal’s stock price could be cut in half when that bubble pops. Arch Coal is likely to survive over the long haul, which makes it a decent speculative play, but it’s doubtful that the Cyprus situation and its effects on the European market are over. It’s possible that the situation will be contained, but if it’s not, then the global economy will suffer, which would be bad news for coal. Nobody knows how it will play out. Therefore, Arch Coal is a WAIT AND SEE.

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