Peabody (BTU): Energy expert looks to coal

"Peabody Energy (NYSE: BTU) remains a buy in our 'gushers portfolio'." says energy sector expert Elliott Gue.

In his The Energy Strategist, he explains, "Strong demand for coal from India and China is a growth story that will play out in 2010." Here's his review. 

"Peabody reported its third quarter results and share prices have reacted positively. 

"The weakness in US coal markets remains a challenge, but Peabody has taken steps to shore up profitability in the US, cutting back planned production and locking in contracts for 2010 at fixed prices. 

"Peabody now has no unsold volumes of coal for next year: It's 100% sold out under contracts, so the firm has no exposure to any shifts in US coal prices. 

"Because the firm is now producing coal from its lowest-cost US mines, it’s in a position to make money in a weak market while waiting for the inventories to normalize.

"Peabody’s management also expects the US to become an important supplier of coal to strong Asian markets and noted that its mines in the US Powder River Basin could export thermal (power plant) coal to Asia out of West Coast ports. 

"Peabody noted that Indian industrial production figures are up more than 10%, and India and China are two of the only major steel producers in the world to actually increase production this year. 

"Neither country has enough metallurgical coal to meet demand and will need to step up imports. Meanwhile, both India and China continue to build coal-fired power capacity at a breakneck pace. 

"Peabody noted that despite the financial crisis, plans to build new coal-fired facilities in these countries haven’t stalled. 

"India's coal-fired generation is up 7% amid a global recession, and the country believes it could face as much as a 200 million ton per year shortage by 2014. 

"All told, Peabody expects total demand for seaborne coal shipments to grow at an annualized rate of 7% to 8% over the coming years. 

"Peabody is in excellent position satisfy these needs, as it plans to double its Australian production over the next five years and has secured significant port capacity to handle these shipments. 

"In fact, Peabody noted it’s already signing contracts to supply coal at much higher prices than current coal price indices suggest.

"Management also noted that recent acquisitions in Australia suggest that Peabody's Australian operations are worth more than the company’s overall market value. 

"This assumes no value for the trading operation Peabody set up in Singapore, the company’s investments in Mongolia or its massive operations in the US. 

"This makes no fundamental sense in my view; I am raising my buy target on Peabody to reflect the company's bullish call and outlook."