Markets

Surging Demand Fires Up Arch Coal's Profits

By David Phillips

Updated on: July 29, 2008 / 8:19 PM EDT / MoneyWatch

The Company: St. Louis-based Arch Coal, one of the largest U.S. low-sulfur coal producers that fuels about six percent of all U.S. electrical generation
The Filing: Form 8-K filed on July 25 with the SEC
The Finding: In the first half of 2008, Arch's net income nearly tripled to $194.1 million compared with the first half of 2007. The company's latest operating performance offers more evidence of tight supply conditions and strong demand for coal globally.

The Upshot: Chairman and CEO Steven F. Leer told analysts that physical coal markets remain strong and that he expects the global coal-supply deficit to reach nearly 35 million metric tons this year, driven by the expanding economies in China, India, Brazil and Russia, as well as the rest of the Pacific Rim.

Arch estimates that U.S. generators held 51 days of supply in coal stockpiles at the end of June, and management expects total stockpile levels to decline as the year progresses.

According to the U.S. Department of Energy's Energy Information Administration, 258 gigawatts of new generating capacity will be needed to meet a 40 percent increase in expected consumption by 2030.

The EIA projects that coal's market share will grow from 50 percent to 57 percent by 2030, as new coal-fired power plants and coal-to-liquid plants are brought online.

In the United States, approximately 17.5 gigawatts of new coal-fueled electric generating capacity are now under construction or have recently commenced operation, representing an increase of one gigawatt since the first quarter.

Although these plants will be phased in during the next four years, approximately 75 percent of the more than 62 million tons of incremental annual coal demand will be needed by 2010.

Another 7.3 gigawatts are estimated to be in advanced stages of development, representing more than 20 million additional tons of incremental annual coal demand, to be phased in by 2013.

Over the next five years, new coal-fueled plant build-outs around the world, particularly in Asia, will further expand the demand for coal. An additional 1.1 billion tons of coal will be needed by 2012, essentially requiring the replication of the U.S. coal industry during the next five years, according to Arch management.

Average weekly coal commodity spot prices continue to set new records, with Central Appalachian steam coal and Illinois Basin steam coal closing at $140 per short ton and $71 per short ton for the week ending July 25. And, Powder River Basin steam coal, selling at $12.50 per short ton, is near prices not seen since January 2006.

Among fossil fuels, a compelling reference point for coal consumption remains cost per British Thermal Unit (Btu). Natural gas pricing for January 2009 delivery is currently trading approximately $10 per million Btu and crude oil is at approximately $21 per million Btu, compared to Powder River Basin thermal coal, which is approximately $1 per million Btu.

The Question: The last of consumer electric utility rate freezes and reductions are to be phased out by 2011. Although many electric utilities enter into long-term, fixed contracts for fuel at set prices, how soon before the higher cost of steam coal shows up in customer electric bills?