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Leigh Baldwin & Co.

112 Albany Street, Cazenovia, NY 13035 | Phone: (315) 655-2964 Toll Free: 1-800-659-8044

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Stock of the Week

Arch Coal

March 18th 2011 Arch Coal
NYSE Symbol: ACI
Industry: Coal
Price as of 3/18: $34.47

The Japanese earthquake and proceeding tsunami and nuclear reactor meltdown has exacerbated the markets correction wiping out the years returns in just two weeks. As bad as the problems are in Japan, the sell off is providing a buying opportunity. The rebound in the markets Thursday show which stocks will rebound first. An easy example is Apple trading up 2.5%. The best performing sector through this crisis has been commodities outside the nuclear related stocks. The fertilizers, copper, and iron ore plays were all sharply higher on Thursday. However, the coal plays have been a stand out even while the averages moved lower due to the use of coal to make not only electricity, but also steel. Two things Japan will desperately need in the coming months. This week we'll feature Arch Coal. Environmentally speaking, coal is the worse way to generate electricity, however, its' one of the cheapest and most abundant resources on our planet. The Chinese have an insatiable demand for coal and with the recent concerns regarding nuclear power, coal could at least in the short term become the fuel of choice to generate electricity. Arch Coal and the other coal names have performed well in the last year like most commodities, however the stock remains cheap even as demand is expected to only improve in the coming year.

The second-biggest US coal producer earned $47.8 million, or 29 cents per share in the fourth quarter. That's up from $1.5 million, or a penny per share, in the same quarter a year ago. Excluding special items, earnings would have totaled 33 cents per share, up from 11 cents last year, but less than the 42 cent consensus. Higher sales volume pushed revenue up 15 percent to $835.4 million from $725.5 million, edging above analysts' average forecast of $831.9 million. The company sees further stockpile reductions at U.S. power generators by year-end and increased U.S. coal consumption due to an improving economy as well as the startup of 14 new coal-based power plants in the 2010-2011 timeframe. Arch Coal also believes tight global metallurgical coal markets and growing seaborne thermal demand should help increase U.S. coal exports in 2011, further cutting the supply available to domestic power plants. However, the company's earnings forecast for 2011 was not up to expectations. Excluding items, Arch expects a full-year profit of $2 to $2.50 per share. Analysts were looking for $2.76 per share, on average. Arch expects total sales volumes to be in the range of 155 million to 160 million tons for 2011, down from 161.3 million in 2010.The company noted that the idling of the longwall at its Mountain Laurel location will impact first-quarter results, but it expects to make up some portion of the delayed production as the year progresses. Looking past the first quarter the coal environment should improve dramatically as management sees a coal supercycle with Arch Coal holding a lot of coal that has not yet been priced through 2012. On the conference call, Arch Coal focused on the back half of the year and at this point there is no reason to believe the unsold coal can't be priced higher. Arch Coal thinks earnings should also benefit from higher prices for its steel-making coal. The events in Japan should only improve the demand for steel making coal.

The fundamentals seem to be improving dramatically for Arch Coal yet the stock remains attractively priced. Currently Arch Coal is trading for 13.7 times earnings, but just 8.8 times next years' earnings which are expected to grow 54%. The stock sales for 1.8 times sales even though sales are growing at 14% year over year. Arch Coal also trades for 2.5 times book value. The stock also provides a modesty dividend yield of 1.2%, but won't go ex-dividend until May. The analyst community loves the coal space. Arch Coal recently received an upgrade from the firm Howard Weil as their top pick with a price target of $43. The firm Dahlman Rose likes Arch Coal looking for substantially higher pricing in the second quarter due to weather issues in Australia and a higher long-term price based on improving demand. This was obviously before the Japanese quake. Dahlman Rose price target for Arch Coal is $44 a share. The firm Argus upgraded Arch Coal with a target price of $42 based on improving coal industry fundamentals. Coal is not our best environmental friend, but with the alternative being a nuclear meltdown, coal will remain in demand for a long time.