Energy companies have been among the late but successful leaders of the market’s bull run. Let’s check in with one of the coal companies that is out in front of the parade: Oklahoma-based producer Alliance Resource Partners (NASDASQ: ARLP), which is up about +50% so far in 2010.
Headquartered in Tulsa, the company’s $2.3-billion market cap places to in the top 10% of companies in the industrial minerals industry. Sales have been strong during 2010 with revenue of $1.2 billion for the first nine months, an increase of 27.7% over the same 2009 period.
While the company’s 5.2% dividend is impressive, the consistent track record of dividend growth is even more appealing. A recent Standard & Poor’s ranking that measures total returns to shareholders over the last 10 years placed ARLP twenty-ninth out of 10,000 companies, having delivered compounded annual returns of 31.1% to their shareholders during that time.
Alliance specializes in the production and marketing of high-energy coal to utilities and industrial users in the United States. It operates nine mines in Illinois, Indiana, Kentucky, Maryland, and West Virginia, and is the fifth largest coal producer in the Eastern part of the country.
Coal is easily one of the most important materials found on earth, providing the largest share of world electricity generation at around 50%. Beyond the common use for electricity and heat, you may be surprised to learn that coal is also used in everyday items such as pencils, shampoo, nylon and polyester. Plastic, aspirin, and most cosmetic products use refined elements of coal as well. Much of the United States would stop dead if were not for the hard carbon stuff.
The company’s growth has been largely a result of acquiring a series of smaller mining companies and their mines and it plans to stay on that path. The balance sheet reveals $20 million in cash and a current ratio of 1.18, showing ARLP has the resources to take advantage of takeover and expansion opportunities.
As a result of the economic downturn in 2008 and 2009, energy demand dropped significantly, sending coal prices lower. Yet due to long-term contracts, Alliance’s business was largely unaffected. Now, as the Energy Information Agency has predicted coal production to improve 1.8% in 2011, Alliance looks poised to profit from higher demand and higher prices. Furthermore, the EIA estimates that the world coal consumption will rebound, returning to its pre-recession levels by 2013.
Chief exec Joseph Craft III has been central to the company’s growth, holding his job since 1999. He has set the company apart from many competitors with his environmentally responsible practices. In 2009 the firm sold 91.8% of its coal to electric utilities, of which 88.6% was sold to utility plants with pollution control devices that eliminate all sulfur dioxide emissions. Environmentalists have actually singled our ARLP as being unusually proactive in developing more sustainable practices.
Craft revealed in last quarter’s earnings call that the firm has added several new sales commitments for the coming year, putting 90% of its anticipated 2011 production under contract. It is common in the coal industry to secure long-term supply agreements with customers. This leads to greater predictability of sales and is beneficial to both parties.
One additional source of competitive advantage is ARLP’s favorable mine locations. Customers like utilities usually pay for shipping to their plants and factories. Having operations near many of its clients has been a selling point for repeat business. Moving costs are greatly reduced for customers and ARLP has multiple transportation options for these customers to use.
Analysts expect ARLP to earn $7.07 per share over the next year, suggesting the stock is trading at 9.1x forward earnings. Seeing that Alliance’s 5-year average is 12.6x and industry average is closer to 20x, this valuation is low. Figure a P/E of 11x is likely to come about over the next year. Under these assumptions, my model forecasts a $78 price target for 2011, or 21% higher. Add the 5.5% dividend, and you’re in business. Keep holding.
Research assistant: Landon Gorman