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Wednesday, July 29, 2015

Peabody Energy - Thoughts About Bankruptcy And The Hedging Program

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July 29:

Summary

  • Bankruptcy fears have put enormous pressure on Peabody's shares.
  • The hedging program has been a nightmare in 2015.
  • I present my views on these topics.
In my view, Peabody Energy's (NYSE: BTU) second-quarter report was not bad at all. The stock market agreed with this stance on the day of the earnings release, and Peabody's shares gained 14% in one day. There's little to celebrate, of course, as Peabody's shares are down 84% year-to-date. Just like many others, I awaited the company's earnings call to hear Peabody' thoughts on its own future.
In my view, the only question that is on investor's minds right now is whether Peabody plans to file for bankruptcy. Such fears brought the company's stock to the $1 level. Walter Energy has already filed for bankruptcy protection. Alpha Natural Resources is on the verge of doing the same. I read comments to my articles, and a considerable number of people argue that Peabody Energy should file for bankruptcy as soon as possible in order to gain competitive advantage. In this light, it's important to watch both the company's actions and words to try and anticipate its plans.
I am not naive. No manager in the world will tell you that he spends his nights dreaming about bankruptcy. However, I think that it is possible to access chances of bankruptcy based on the managements' action and the company's financial position. Here is what Peabody's CEO had to say during the quarterly earnings call: "Make no mistake, Peabody is committed to work through these highly demanding conditions". The company's CFO mirrored his view when speaking about whether the company will be able to repay $1.5 billion of debt in 2018: "2018 maturity is about three years away, so we feel like we have plenty of runway to deal with that as the date approaches". I've been reading Walter Energy's conference calls for several years, and I can't remember that the management stated something similar. Indeed, I've just re-read Walter Energy's fourth-quarter earnings call - it was total ignorance from the company's management. The fact that Peabody's management tries to address the market's worries and discuss them is a good sign. Burying one's head in the sand has never been a good strategy. In my view, Peabody's actions, including the change of CFO, the sale of assets, the reduction of spending and production cuts confirm that the company is willing to continue as a going concern.
Now let's talk about Peabody's hedging program, which has been a source of more than $200 million loss in 2015. In fact, the unfortunate hedging program could have been a major driver for the change of CFO. The new CFO stated that hedging losses were related to currency, and that the majority of the remaining hedge losses would roll off over the next two years. The currency is, of course, the Australian dollar, which has substantially weakened against the U.S. dollar this year. I've notice a comment here on SA that now was the time to hedge while the Australian dollar was low. I would like to argue that a resource company with mines in Australia should not hedge the Australian dollar exposure at all. Australia is a resource-rich country. When commodity prices go up, the Australian dollar goes up as well. Does it increase costs for Peabody? Yes. Does it hurt the bottom line? No! Peabody produces coal, and the times when Australian dollar appreciates are typically the times when coal prices appreciate as well. In this light, hedging is speculation for Peabody.
All in all, I think that Peabody Energy will continue to fight for survival without filing for bankruptcy protection. In this light, Peabody's shares present a speculative opportunity after they have been almost destroyed by the market.

Source: http://seekingalpha.com/article/3371815-peabody-energy-thoughts-about-bankruptcy-and-the-hedging-program

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