Coal is the most burdensome form of energy for the environment. This has led most countries to make efforts to transition from coal to natural gas and renewable energy sources.
As a result, some investors have considered coal stocks dead from a long-term perspective. However, this is far from true. Consumption of coal remains robust in emerging countries.
In addition, since the Russian invasion of Ukraine, the price of coal has skyrocketed from $155 in early 2022 to an all-time high of $400. The War in Ukraine has proved that the transition from coal to clean energy sources is much harder than initially expected.
Let's discuss the prospects of three coal stocks that are thriving right now and thus offering solid dividend payouts.
Mining for a Safe Dividend
NACCO Industries (NC) is a holding company for The North American Coal Corporation, which was incorporated in 1913. The company supplies coal from surface mines to power generation companies.
NACCO is the largest lignite coal producer in the U.S., with annual production of 35 million tons, and ranks among the top 10 of all coal producers. The company operates in the states of North Dakota, Texas, Mississippi, Louisiana and on the Navajo Nation in New Mexico.
The company has exhibited a volatile performance record due to the high cyclicality of the price of coal. Between 2012 and 2019, the company grew its earnings per share by only 1.7% per year on average, with wide fluctuations.
NACCO has greatly benefited from the ongoing war in Ukraine and the resultant sanctions of the U.S. and Europe on Russia. Before the sanctions, Russia was providing 10% of global oil production and about one-third of natural gas consumed in Europe. Due to the sanctions, the prices of oil and gas surged to multi-year highs and thus many countries resorted to coal in order to reduce their budget deficits. As a result, the price of coal rallied from $155 in early 2022 to an all-time high of $400.
The company could not hope for a more favorable business environment. To be sure, the coal producer is on track to grow its earnings per share by about 35% in 2022, from $6.70 in 2021 to an all-time high of at least $9.00 in 2022.
However, given the cyclical nature of coal prices, it is prudent to expect the tailwind from the aforementioned sanctions to attenuate in the upcoming years. Moreover, due to the ongoing global energy crisis, there is an unprecedented number of renewable energy projects under development right now. When all these projects come online, in 2-5 years, they will probably take their toll on the price of coal.
On the other hand, the market has already priced a significant decline in future earnings in NACCO. The stock is currently trading at a 10-year low price-to-earnings ratio of only 4.2. It is also remarkable that the stock is offering a nearly 10-year high dividend yield of 2.3% thanks to its cheap valuation.
NACCO has an admirable dividend growth record for a company in a declining industry, with 37 consecutive years of dividend growth. Also, given the extremely low payout ratio of 9% of the stock, the dividend is likely to keep growing for several more years. Nevertheless, the stock is suitable only for the investors who are comfortable with the high cyclicality of this business and the secular decline of coal consumption.
Excessive Profits and Cheap Valuation
Alliance Resource Partners (ARLP) is the first publicly traded Master Limited Partnership (MLP) and the second-largest coal producer in the eastern U.S. Apart from its primary operations of producing and marketing coal to major domestic and international utility users, the company also owns both mineral and royalty interests in premier oil & gas regions, such as the Permian, Anadarko and Williston Basins.
Due to the coordinated efforts of most countries to phase out coal, Alliance Resource Partners has exhibited a markedly poor and volatile performance record. Thanks to the rally of coal prices, however, the company is on track to post nine-year high earnings per share of about $4.00 in 2022, but still that's still much lower than the EPS of $6.12 achieved in 2012.
On the bright side, the sanctions of western countries on Russia are not likely to loosen anytime soon. In addition, Alliance Resource Partners is one of the few remaining coal producers and hence it is ideally positioned to benefit from a tight coal market.
It is also remarkable that the stock is trading at a price-to-earnings ratio of only 5.2. However, investors should be aware that this stock has traded at such low earnings multiples whenever it has enjoyed excessive profits. The cheap valuation results from concerns that the efforts of most countries to eliminate the use of coal will take its toll on Alliance Resource Partners at some point in the future. While this transition has proved much harder than initially anticipated, it is a significant risk factor, which should not be underestimated.
Thanks to its excessive profits and its cheap valuation, Alliance Resource Partners is currently offering an exceptionally high dividend yield of 9.8%. Given the decent payout ratio of 50% and the rock-solid balance sheet of the company, its dividend seems to be safe for the foreseeable future. Still, Alliance Resource Partners has cut its dividend several times over the last decade and hence investors should not view its dividend as safe, especially given the high cyclicality of the coal industry.
Down Under and Shareholder Friendly
BHP Group (BHP) is headquartered in Melbourne, Australia, and traces its roots back to 1851 and a tin mine on a small island in Indonesia, called Billiton. Today, the company is an exploration and production giant in the metals and mining industry, with a market capitalization of $157 billion.
BHP explores, produces and processes iron ore, metallurgical coal and copper. The company has a diversified production portfolio. In fiscal 2021, BHP generated approximately 53% of its EBITDA from iron ore, 21% from copper and 26% from coal.
Just like most other commodity producers, BHP has exhibited a choppy performance record due to the high cyclicality of commodity prices. In the downcycle of commodity prices in 2014-2016, BHP incurred a 75% plunge in its earnings per share in 2015 and reported material losses in 2016.
However, the business landscape has greatly improved in recent years. The company enjoyed 10-year high EPS of $7.75 in 2021, primarily thanks to excessive prices of iron ore, which resulted from supply disruptions. Iron ore prices have corrected 50% off their peak in May 2021 due to an increasing supply and fears of a global recession, but they remain above historical average levels. As a result, BHP is poised to post strong EPS of about $5.10 this year.
BHP offered a record annual dividend of $6.50 in 2021. At the current stock price, this dividend corresponds to an 11.3% yield, which is exceptionally high. However, investors should be aware that BHP pays a different dividend every six months, depending on its actual earnings. Therefore, the company is likely to offer a lower dividend in 2023. In addition, investors should never forget the high sensitivity of BHP to the price of iron ore. Nevertheless, BHP has repeatedly proved its shareholder-friendly character and thus it is likely to continue paying a great portion of its earnings to its shareholders in the form of dividends.
Moreover, management should be praised for maintaining a rock-solid balance sheet. Thanks to its financial strength, BHP has been able to endure the downturns of its business and emerge stronger in the subsequent recoveries. Overall, BHP is a well-managed, shareholder-friendly company, which is inevitably sensitive to the cycles of commodity prices.
Final Thoughts
Among the above three coal stocks, NACCO Industries is offering the lowest dividend yield but its dividend is the safest. The company has grown its dividend for 37 consecutive years and is likely to continue raising it for many more years.
Alliance Resource Partners and BHP are offering much higher yields but they are likely to reduce their dividends in 2023 due to less favorable commodity prices. Nevertheless, they both have rock-solid balance sheets and thus they are likely to keep rewarding their shareholders with generous dividends for the foreseeable future.
