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Moody's: US coal sector remains negative on ESG, earnings concerns

Declining earnings and intensifying pressure from investors screening their portfolios for environmental, social and governance factors are weighing on the coal sector's negative outlook, Moody's Investors Service wrote Jan. 22.

U.S. coal producers will see a significant deterioration in earnings and cash flow generation as coal export volumes continue to fall in 2020, the report concluded. Further, more pressure from ESG-minded investors is likely to complicate the sector's access to capital and drive a more conservative financial approach.

"We expect that EBITDA will fall by about one-third across our rated portfolio of U.S.-based coal companies, including some met coal-driven producers that could fall more significantly," said Benjamin Nelson, senior credit officer and lead U.S. coal industry analyst for Moody's.

Investors moving away from the coal sector will likely increase financing costs, particularly bond markets. BlackRock Inc., the world's largest asset manager and top investor in U.S. coal companies such as Peabody Energy Corp. and Arch Coal Inc., recently announced it would be ridding its actively managed portfolios of companies deriving more than 25% of revenues from thermal coal.

Lower-rated U.S. coal producers are the most susceptible to the effects of the decline and will have limited ability to repay their debt as their credit situation tightens, Moody's said.

Moody's dropped its outlook on the coal industry from stable to negative in August 2019. Nelson said that in early 2020, there is no clear catalyst for improvement after a sharp fall in prices in 2019.

Major seaborne indexes for thermal coal prices saw significant declines in 2019, a year that was one of most tumultuous for the industry since the broad restructuring wave of 2015-2016, B. Riley FBR Lucas Pipes wrote in a Jan. 21 note. While the outlook for coal demand in Asia is brighter for producers, in many other parts of the world, coal use is rapidly declining.

"In our opinion, the outlook for seaborne thermal coal continues to be challenging as the industry faces significant environmental opposition, as well as increased competition from natural gas and [liquiefied natural gas]," Pipes wrote. "We believe these challenges will be most significant in the European market as coal-fired power plants rapidly close due to high carbon prices and governmental pressure to meet Paris Agreement emissions targets."

On the other hand, investors looking to the commodity sector "should take advantage of the attractive free-cash-flow profile of metals and mining companies," Pipes said. While thermal coal may be unlikely to experience many tailwinds in 2020, Pipes named metallurgical coal as among the organization's preferred commodity plays.