Railing Against Coal

 | Aug 04, 2014 | 5:00 PM EDT  | Comments
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Stock quotes in this article:

brk.a

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unp

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btu

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arlp

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xel

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nu

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wr

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gxp

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ede

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The economy is smoking. You can see it in the nation's railroad systems. Apparently, Berkshire Hathaway's (BRK.A/BRK.B) Burlington Northern Santa Fe and Union Pacific (UNP) have so much business that their deliveries are falling behind. While that may be good news for the economy and the rails, it is not good news for coal companies and coal utilities.

Across the nation, utilities cannot get access to steam coal. The bottleneck is not with the mines. Suppliers such as Peabody Energy (BTU) and Alliance Resource Partners (ARLP) would love to sell more coal to utility companies such as Xcel Energy (XEL) and Northeast Utilities (NU). The problem appears to be the nation's rails.

Peabody's second-quarter earnings call sheds some light on the problem. The company claimed that poor rail performance cut coal shipments from the Powder River Basin by 15 million tons in 2014's first half. According to USA Today, this cut in rail deliveries comes as U.S. demand for coal increases. It is up 6% in the first four months of this year compared with a year ago.

A lot of it has to do with the improving economy and the weather. According to Bloomberg, railroad service across the nation suffered after a surge in cargo as a consequence of the aftereffects of the harsh winter weather. The combination created a freight knot that is still being untangled. Burlington Northern Santa Fe was affected most, bearing the brunt of a bumper grain crop and an exponential growth of crude oil from the Canadian and Bakken oil fields. Union Pacific's loads rose 8.2%, while Burlington Northern Santa Fe gained 4.9%.

Incredibly, increased demand and the rails' entanglement are causing utilities to look elsewhere to fuel hungry coal-fired power plants. USA Today quotes the National Mining Association as saying that despite the long distances involved, it often costs less to ship coal from a foreign port to a U.S. port than to move it by rail within the U.S. Specifically, "U.S. power plants on or near Eastern or Gulf ports can access coal much more cheaply from these traditional offshore exporting countries than they can from the U.S. interior."

This would explain why Northeast Utilities' New Hampshire unit bought coal from Russia through Riga, Latvia. According to Bloomberg, Russia is the world's third-largest exporter of coal. It plans to boost shipments 3.9%, to 106 million metric tons, for 2014.

Columbia and Indonesia are also fueling U.S. power plants. With access to unconstrained rail, however, interior utilities are struggling to build inventories for this winter's demand.

Xcel Energy and regional non-profit utilities seem particularly vulnerable. According to the La Crosse Tribune, Xcel Energy is calling on federal regulators for help. In a July 23 letter to the federal Surface Transportation Board, Xcel said Burlington Northern Santa Fe has fallen behind on coal deliveries to its 2,500-megawatt Sherco plant. This is a huge plant. It generates nearly a quarter of the electricity that Xcel delivers in a five-state upper Midwest region. It is such a concern that Xcel warns the board that the rail backlog could "impact the reliability of our electric grid."

According to the National Rural Electric Cooperative Association, electric utilities in Arkansas, Kansas and North Dakota have reported similar problems. Since Kansas and North Dakota's utilities are fully regulated and have coupled rates (i.e., revenue tied to the sale of energy), the lack of coal could affect revenue and earnings for their utilities. This includes Westar Energy (WR), Great Plains Energy (GXP), Empire District Electric (EDE) and MDU Resources (MDU).

While Xcel is raising alarms, rail bottlenecks are more of an aggravation than they are a crisis. The Midwest is currently flooded with surplus power-generating capacity. In fact, coal delivery challenges could help other utilities, such as Exelon's (EXC) underutilized nuclear fleet. Investors need to be aware of the issue and monitor their utility investments.

In addition, the national scene needs perspective. The U.S. remains a net exporter of coal. The amount of coal imported is small compared to the amount exported. According to the Energy Information Administration, in the first quarter the U.S. exported 27.7 million tons to about 50 separate countries. The largest buyers were Netherlands, U.K. and South Korea. During the same time, the U.S. imported 2.4 million tons from about 15 countries. The largest supplier was Columbia.

The important message is the coal problem is not as bad for the nation as first reported. For some utilities, it may not be as good as last reported.

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