ARCH - Nordstern Capital - Arch Resources: Not Everything Is Rosy

• Not everything is rosy in coal investor land - Arch Resources struggles with persistent rail and shipping issues.
• A recession might temporarily decrease demand, but we believe it will bounce back.
• For ARCH, we expect higher sales volumes, higher sales prices, and record income in the quarter ahead.

The following segment was excerpted from this fund letter .

Arch Resources Inc ( ARCH - stock price: + 9% in 2Q 2022)

“It's atypical for a company with our cash-generating capabilities to have such modest cash requirements” - Paul Lang, CEO Arch Resources Inc.

This statement sounds like it came from a mature capital-light software giant. However, those are the words of the CEO of an American coal mine operator trading at 2-times free cashflow with a 25% forward dividend yield and a massive share buyback program.

Not everything is rosy in coal investor land. ARCH struggles with persistent rail and shipping issues. In the first quarter ARCH only sold about 16% of the met coal tonnage that management expects to sell throughout 2022. The company received only 60% of the required train capacity. Management cited inadequate rail service as the single biggest challenge. However, ARCH delivered record quarterly net income regardless.

The rail service has improved. June was better than May, which was better than April, which was better than March. Nonetheless, rail service is still inadequate, labor is still hard to find, and the ports are still clogged, and vessels delayed. However, coal sales volumes will be higher than in the first quarter.

Met coal prices deteriorated significantly over the last few months. Recession expectations project lower future steel demand. On the other hand, Europe’s energy crisis resulted in record prices for thermal coal. ARCH’s overall coal sales price realization in the second quarter should be higher than in the first quarter.

ARCH is a low-cost producer of an essential commodity in an industry with severe supply constraints. The ‘moat’ is structural, more supply won’t come. To the contrary, a ban on Russian coal is scheduled to go into effect August 10. A recession might temporarily decrease demand, but we believe it will bounce back: from large developing nations, from infrastructure upgrades in the US, from energy shortages everywhere.

Even in the near-term coal demand might soon be on fire again: China consumes more than half of the world’s coal and will likely overcome its covid issues at some point. China is expected to diverge from the course taken by western central banks by opting for economic stimulus rather than tightening. In addition, Germany is about to switch off its last three nuclear power plants this year and shift electricity production to coal.

Meanwhile, for ARCH we expect higher sales volumes, higher sales prices, and record income in the quarter ahead.

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

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