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Coal company outlook ‘crushed’ by fundamentals, COVID-19: Moody’s

Coal company earnings will fall by 50% in 2020 as a result of a combination of underlying weak fundamentals and the effects the COVID-19 economic slowdown, according to a new report from Moody’s Investors Service.

In addition to a 50% reduction in coal company earnings before interest, taxes, depreciation and amortization (EBITDA) Moody’s analysts see a 25% drop in thermal coal production in 2020.

“We expect a sharp and sustained slowdown in economic activity will result in lower economic growth, reduced demand for electricity, and reduced demand for steel,” Moody’s said in the May 31 report.

The negative view on coal is compounded by the outlook for other sectors of the coal industry that in the past have offset weakness in thermal coal used to produce electricity.

Export metallurgical coal prices have fallen as the macroeconomic slowdown has curtailed demand for met coal, a key ingredient in steelmaking, Moody’s said. “Met coal consumption will continue to contract as most steel producers idled blast furnaces in early 2020 in response to the coronavirus outbreak and decreased capacity utilization amid curtailed industrial activity,” they wrote in the report.

Meanwhile, the US export market, which was fairly strong in 2017 and 2018, weakened considerably in 2019 and has fallen further in 2020, Moody’s warned. The majority of met coal is exported.

Moody’s expects export coal pricing and volumes will remain under pressure, falling below Energy Information Administration estimates and moving toward the 50 million ton mark in 2020. Several factors will “inevitably narrow margins for coal producers,” Moody’s said. Falling coal prices, for instance, could overtake the delivery costs of exporting to markets such as China and India, making exports less profitable, if not unprofitable, Moody’s said.

For domestic thermal coal used in power production, demand will fall significantly in 2020 and continue to fall in the 2020s, the Moody’s analysts wrote. “Coal consumption will be crushed in 2020 with the industry taking much of the hit from the drop in electricity demand following outbreaks of Coronavirus,” they said.

Coal demand from US power generation is down by roughly half since 2008, as coal-fired power plants are shut down and replaced by gas-fired and renewable energy, the report noted, adding that in 2019 the output from US coal-fired power plants fell to its lowest point since 1976 and the sector has cut coal consumption by more than half since the late 2000s.

The Moody’s analysts said they “do not share the commonly-referenced” Energy Information Administration forecast for a significant rebound in US coal consumption in 2021.

The EIA expects that coal production will fall to 523 million tons in 2020 from 690 million tons in 2019, a roughly 24% decline. “We expect that coal production will fall by more than 25% to less than 500 million tons in 2020, as the power generation end market deteriorates especially with industrial demand down substantially in the key US Southern and Midwestern coal consuming regions,” Moody’s said. “Coal-fired utilities will bear the brunt of declining demand for electricity, accelerating the early retirement of some coal-fired generation capacity.”

Meanwhile, Moody’s expects prices for natural gas to remain low through the early 2020s. Additional shutdowns of coal-fired power plants and persistently low natural gas prices will undercut the EIA's expectations for a rebound to 550 million tons in 2021, Moody’s argued.

In addition, lenders’ increasing environmental, societal and governance concerns will make it more difficult for coal producers to shore up liquidity, Moody’s said. Coal producers have taken steps to strengthen liquidity but have not completed loan or bond deals in recent months. Moody’s already rates all US coal producers well below investment grade and most have experienced downgrades in the first few months of 2020.

And while coal producers’ liquidity remains “fairly solid,” it was eroding before the coronavirus outbreaks, Moody’s said, noting that the ratings agency downgraded more than half of all Speculative Grade Liquidity (SGL) ratings during the first quarter.

Some coal producers have been able to secure financing, but “we have seen no unsecured or secured bond deals in the US coal industry in the past months,” Moody’s said. In addition, most bank loans and bonds for rated coal producers are trading well below par today, and financial institutions have been tightening commitments related to new or existing exposure to the coal industry. Access to capital will be even more difficult for unrated coal producers, which are often financially weaker than the rated producers, and will bear the brunt of capacity reduction in the coming months, Moody’s said.

“Capacity reductions will eventually help tighten the supply/ demand balance of the coal industry, and create opportunities for stronger companies to increase market share at the expense of weaker ones,” the report said.

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