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Peabody, Arch form 'extraordinary JV'

A planned joint venture between US coal majors Peabody Energy and Arch Coal will combine five coal mines in Wyoming and Colorado into a single operation capable of producing more than 60% of the Powder River Basin’s thermal coal output.
Peabody, Arch form 'extraordinary JV' Peabody, Arch form 'extraordinary JV' Peabody, Arch form 'extraordinary JV' Peabody, Arch form 'extraordinary JV' Peabody, Arch form 'extraordinary JV'

Peabody Energy and Arch Coal will combine five coal mines in Wyoming and Colorado into a single operation

Henry Lazenby in Vancouver

Under terms of the JV, Peabody's North Antelope Rochelle mine (NARM) and Arch's Black Thunder mine will be consolidated in what Peabody called "an extraordinary joint venture." Underpinning the combination, Peabody has the lowest-cost position among major PRB producers and Arch has some of the highest-quality coal in the basin.

The deal also consolidates the companies' western coal mining operations in an ailing thermal coal market.

According to the US Energy Information Administration (EIA), cheap shale gas, renewable energy and flat consumption have cut coal use in the country. According to agency data, US power plants have cut coal consumption by about 40% over the past decade, with a 19% drop expected in 2019 alone.

Aside from combining the neighbouring NARM and Black Thunder mines in Wyoming, Peabody's Rawhide and Caballo mines will be part of the JV, as well as Arch's Coal Creek mine. In Colorado, the consolidation extends to Peabody's Twentymile and Arch's West Elk mines.

Overall, the mines produced about 206 million tons of coal in 2018 and the JV would give them access to about 3.4 billion tons of reserves.

It gives Peabody 66.5% ownership and 33.5% for Arch, with Peabody the operator.

Peabody CEO Glenn Kellow said the JV was expected to generate an estimated US$820 million in synergistic net value for the companies. The JV synergies are projected to average about $120 million per year over initial 10 years, with net present value of the deal pegged at about $820 million.

"The Peabody/Arch JV is an extraordinary example of industrial logic targeted to strengthen the competitive position of our products and create significant value for multiple stakeholders in a low-cost combination with exceptional physical synergies," Kellow said.

Arch CEO John Eaves added the transaction had the potential to enhance the value of its top-tier coal assets.

The PRB is known to have lower calorific content than competing Appalachia coal and the product is a tough sell in the current market environment. This is evidenced by Cloud Peak Energy, which has a stable of several higher-cost PRB mines, and its current Chapter 11 reorganisation process; something from which both Peabody and Arch (twice) have only emerged themselves within the past several years.

Perhaps as a cautionary tale to other coal operators, Arch is leading the way in showing that less is more. It has abandoned the expansion vigour early this decade, which landed many of the coal majors in Chapter 11 trouble, in favour of a smaller, more profitable business.

Leaner, meaner

Since it emerged from its latest Chapter 11 proceedings, Arch has bought back almost one-third of its stock in the past few years, generating healthy returns that are at odds with an industry broadly deemed to be in terminal decline.

Peabody's Kellow said the creation of the JV was a clear demonstration of the company's US thermal strategy to optimise its lowest-cost, highest-margin operations in a low-capital fashion to maximise cash generation.

"The transaction fully aligns with our stated investment filters, further enhances our financial strength and enables continued commitment to our shareholder return programme, in which we are committed to returning an amount greater than our free cash flows to shareholders in 2019."

The companies said on a conference call there was no specified timeline to get antitrust approvals, but it could take "some months," Eaves said.

Moody's Investors Service's lead US coal analyst, Benjamin Nelson, said forming the JV was credit positive. However, he cautioned demand for coal from the region would remain under pressure as utilities continued to move toward natural gas and renewable energy.

New York-based Jefferies said the combined assets would have about 200Mt/y capacity, accounting for about one-third of all US thermal coal production.

"Our models indicate that, when accounting for synergies ... the expected NPV of $820 million should result in plus-13% for Arch's net present value per share and plus-12% for Peabody's NPV/share. This also allows both companies to focus more acutely on their respective met coal portfolios," said Jefferies analyst Christopher LaFemina.

He added the move would further consolidate the US thermal market and make the assets more economic in the long run.

"This is not about pricing benefits. It is about survival in the shrinking US thermal coal market. We expect this JV to be completed and we reiterate our buy ratings on Arch and Peabody following this announcement."

The blockbuster JV between the St Louis, Missouri-based companies helped push both companies' New York-quoted shares higher on Wednesday.

Peabody shares closed 3.78% or 85c higher on Thursday at $23.32, which capitalises it at $2.5 billion. Arch shares were up 4.44% or $4.01 at market close to $94.41, giving it a market value of $1.59 billion.