From the April 2007 issue of Research Magazine • Subscribe!

April 1, 2007

Warming Up

Some analysts predict that supply and demand changes in 2007 could work in favor of the coal sector,

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Mark L. Reichman

A.G. Edwards

Mark.Reichman@AGEdwards.com

314-955-6557

Area of Coverage: Coal

Outlook: We view 2007 as a transition year to a potentially more balanced supply/demand picture and expect the coal sector's outlook to improve modestly. An expected decline in 2007 coal production in concert with higher demand for coal could result in a tighter supply/demand balance by year-end that would be supportive of coal prices.

We believe the long-term outlook for the coal sector is supported by the following factors: growth in demand for base-load sources of electricity; new coal-fired power plants under construction; coal's cost advantage relative to other fuel sources such as natural gas; alternative uses of coal such as coal gasification; and the fact that focus on clean coal technologies spurs greater usage.

The North American Electric Reliability Council recently warned that investment in incremental base load electric generating capacity is sorely needed to keep up with the expected growth in long-term power demand. Therefore, anticipated demand will be satisfied by increased utilization of existing power plants and the addition of new capacity. While we would not expect them all to get built, the Department of Energy's National Energy Technology Laboratory has identified 159 new and proposed coal-fired plants that could add up to 96 gigawatts of capacity by 2020.

Buy-rated: Alliance Holdings GP L.P. (AHGP), Natural Resource Partners L.P. (NRP), Penn Virginia GP Holdings L.P. (PVG) and Penn Virginia Resource Partners, L.P. (PVR) .

Why the upgrade of Natural Resource Partners? NRP issued 2007 guidance that was generally favorable in our opinion and included recent acquisitions. As a result we have increased our 2007 and 2008 DCF per unit estimates to $4.66 and $5.22 from $4.21 and $4.44, respectively. We have raised our estimated five-year distribution CAGR to 12 percent from 10 percent and increased our 2007 and 2008 distribution per unit estimates to $3.74 and $4.16 from $3.72 and $4.04, respectively.

NRP announced a year-over-year 15.3 percent increase in its fourth quarter 2006 quarterly distribution per unit to $0.88, or $3.52 on an annualized basis. We view NRP as an appropriate investment for diversifying an income portfolio.

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David Khani

Friedman, Billings & Ramsey

703-469-1179

dkhani@fbr.com

Area of Coverage: Coal

Outlook: In our last monthly report, we estimated that there would be almost 60 million tons of production cuts from August 2006 through December 2007. However, yet another record-breaking warm winter is putting the heat on coal companies to further reduce uncontracted production. We expect another 10 million tons, or MTs of volume cuts, mainly from the Power River Basin.

Outperforms: Arch Coal, Inc. (ACI); Consol Energy Inc. (CNX); Foundation Coal Holdings, Inc. (FCL); and Natural Resource Partners (NRP).

Why is Natural Resource Partners rated Outperform? NRP reported fourth quarter '06 EPU/EBITDA of $0.76 and $35.2 million vs. consensus of $0.73/$34 million and our estimate of $0.70/$34 million. The variance for the quarter is based on lower revenue estimates partially offset by higher DD&A and SG&A estimates. We are reducing our 2007 EPU to $2.85 from $3.29 reflecting higher DD&A.

However, we note that NRP's 2007 distributable cash flow is expected to grow at a healthy 30 percent from $129 million in 2006 to $166 million in 2007. We expect dividends to increase every quarter for the next two years to reach a $4.50 per unit annualized rate by 4Q08. We reiterate our Outperform rating but trim our price target to $76 from $80 target price, representing a 7.10 percent yield on our new 2007 distributable cash flow.

Despite the weak macro environment in the fourth quarter, NRP realized a $0.30/ton increase in average coal royalty rates, again confirming the benefits of diversification and large-producer quality. The company is expected to grow production about 15 percent to 25 percent to 59.5-65 MTs and 30 percent for distributable cash flow of $160 million-$180 million, reflecting its strong acquisition track record.

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