This week, we revisit a diversified natural resource company with interests in oil, natural gas, coal and industrial minerals. Natural Resource Partners (NRP) recently reported on its Q4 and full year 2015 results. Here are some highlights from its latest report.
Natural Resource Partners recently wowed Wall Street with an impressive earnings surprise that exceeded analysts estimates by over 2x.
The company actually increased revenues in 2015 by 22%, thanks to its addition of non-coal related revenue streams.
In spite of the challenging commodities markets in 2015, NRP exceeded expectations for Distributable Cash Flow (DCF), which decreased only 5% from 2014 levels.
NRP held adjusted EBITDA for 2015 essentially level compared to 2014 even as coal prices dropped almost 30% from its highs in 2015, and oil dropped 35%.
Adjusted EBITDA / interest expense yields coverage of 3.1x, with adjusted EBITDA for 2015 at $292.1 million and interest expense for the year at $93.8 million.
NRP’s October 2018 bonds, couponed at 9.125% are currently selling at a significant discount, most likely from the market’s wariness of coal and oil. However, this presents an outstanding opportunity for investors as these bonds are currently yielding about 30%. While many might think power generation via coal is on its way out, over one-third of domestic power is still produced by coal. And with the recent stay granted by the U.S. Supreme Court on the enforcement of the EPA’s recent Clean Power Plan, coal looks to continue to play a significant role in this country for the foreseeable future. These bonds represent an excellent opportunity to increase portfolio return and we have marked them for additional weighting to our FX1 and FX2 portfolios.
Since our last review of NRP, the company recently reported on its Q4 and full year 2015 results. Although 2015 presented a challenging environment for coal, oil and natural gas, NRP reported adjusted EBITDA for 2015 of $292.1 million, which was essentially flat when compared to 2014’s adjusted EBITDA of $294.6 million. In addition, Distributable Cash Flow (DCF) for 2015 came in in at $197.0 million, which exceeded expectations and was down only 5% compared to 2014. Most impressively, NRP reported earnings per share of $2.34 (excluding impairments), which was $1.33 above Wall Street’s estimates of $1.01 per share. This is remarkable, especially given the continuing challenging environment of not only coal, but oil and natural gas as well.
NRP has also continued to make progress on its goals set forth in April 2015, one of which is to reduce debt / deleverage. In February of this year, the company gained $47.5 million from asset sales which it intends to use to reduce debt. NRP has also stated that it intends to sell additional assets in order to continue reducing its debt.
Finally, a new regulation passed in August 2015 by the United States Environmental Protection Agency (EPA) called the Clean Power Plan was aimed to reduce emissions from coal-fired power plants by 30% from 2005 levels by 2030. In February 2016, the U.S. Supreme Court issued a stay in the enforcement of the Clean Power Plan in light of the challenges to the plan issued by 29 states along with dozens of corporations and industry groups. The case will most likely return to the supreme court, but not before the challenges are considered by the U.S. Court of Appeals for the District of Columbia Circuit. The case is scheduled to begin on June 2, but a final ruling could take months. Even though NRP is not directly exposed to the fluctuations in coal pricing, a regulation such as this definitely has the potential to affect its bottom line. The final fate of this legislation is unclear at this point, but the stay definitely favors NRP.
About the Issuer
Natural Resource Partners LP is a master limited partnership headquartered in Houston Texas. NRP is a diversified natural resource company that owns interests in oil and gas, coal, aggregates and industrial minerals across the United States. A large percentage of NRP’s revenues are generated from royalties and other passive income. NRP is not an active coal producer. Instead, they lease the land they own to operators who then mine and produce the coal to be sold at market. Thus, they do not bear the risk of bringing the coal to market. Last year, coal was responsible for generating nearly a third of the electricity in the U.S., so it is still a commodity in demand. In addition to the land and mineral rights, NRP owns a 49% equity investment in Ciner Wyoming LLC, a trona / soda ash operation, owns working interests in oil and gas properties and as of October 2014, owns VantaCore, a construction aggregate business, making NRP one of the top 25 aggregates producers in the United States.
NRP and Land Leases
Natural Resource Partners does not operate any coal mines. It owns land that it leases to experienced operators under long-term leases (generally five to ten years). Lessees have the option to extend the lease. Leases may include the right to renegotiate rents and royalties for the extended term. Under the standard lease, lessees calculate royalty payments due to NRP and report tons of minerals removed as well as sales prices for extracted minerals. In addition to the royalty payments, lessees are often subject to pre-established minimum monthly, quarterly or annual payments. NRP is entitled to these minimum payments, even if no mining activity occurred during the period. These minimums are usually credited against future royalties earned as minerals are produced. Because NRP does not operate the coal mines, it does not bear ordinary operating costs. These costs are the responsibility of the operator.
Outlook for Coal
Many believe that electricity generation from coal is rapidly losing ground to natural gas in this country. While the amount of domestic electricity generated from natural gas has definitely seen increases in the past few years, it still is not as dominant as many believe. Last year, there were a rash of closings among some of the smaller coal-fired plants, but the remaining larger plants that remain will actually use more coal than they did last year because they will be running around the clock. Because of this, the estimated amount of domestic coal usage this year will be about the same as last year, 773 million tons, according the the U.S. Energy Information Administration (EIA). Coal will account for 34% of power consumption in 2016, little changed from 2015, compared with 31% for natural gas according to EIA forecasts. Finally, due to the recent wave of retiring smaller coal-fired plants, EIA predicts that demand for coal should remain stable for the next few years.
NRP’s recently reported results for both Q4 and 2015 are impressive in light of the challenging commodities environment of the the last 12 to 18 months. The company wrote down a large impairment charge in 2015 of $668 million as NRP’s assets have been negatively impacted by the continued deterioration of coal markets and significant decline in oil prices. This resulted in a loss for the year of $559.5 million. However, when evaluating the company’s adjusted EBITDA in 2014 and 2015, it was essentially flat (as discussed earlier).
Revenues for NRP actually increased 22% in 2015 from 2014 levels, growing from $399.7 million to $488.8 million. This increase was largely due to a full-year’s revenue from the company’s VantaCore business which was acquired in Q4 2014. This acquisition has proved to be accretive to NRP, and now provides 28% of total revenues.
NRP continues to have solid interest coverage. When considering adjusted EBITDA / interest expense, coverage is at 3.11x, with adjusted EBITDA for 2015 at $292.1 million and interest expense for the year at $93.8 million. In terms of liquidity NRP had $64.8 million available as of 12/31/2015, consisting of $51.8 million in cash and $13.0 million available under its revolving credit facility.
The default risk is NRP’s ability to perform. Prices for coal, oil and natural gas have all declined over the past 12 to 18 months, with perhaps oil being the most recognized decline of these commodities. And although NRP isn’t directly responsible for mining or drilling for these commodities, it does receive income as a direct benefit from its lessees’ sales of coal, oil and gas. In spite of this adverse environment, NRP effectively managed its business in 2015, increasing its overall revenues and keeping its adjusted EBITDA essentially constant.
Currently, NRP’s goal is to reduce the amount of debt it carries. As of 12/31/2015, the company had $1.3 billion in long-term debt. NRP has indicated that it intends to sell additional assets in order to continue decreasing its debt, however recent trends in the coal sector (which still provide half of NRP’s revenues) might affect the company’s prospects to sell its coal-related properties. The continued decline in the coal sector has translated to several producers filing for bankruptcy over the past two years, at least one of which is a lessee of NRP (Alpha Natural Resources). Also, the slowdown of growth in China coupled with a strong U.S. dollar continue to pressure coal demand and prices. In response to the challenges faced by the domestic coal industry, Moody’s recently revised NRP’s ratings on these notes to Caa2 from B3. While coal demand will most likely remain stable in the U.S. for the next several years, consolidation of producers is extremely likely.
These relatively short 30-month bonds, currently yielding about 30%, have similar duration and yield to other bond issues reviewed on Bond-Yields.com, such as the 32% Gran Colombia Gold and 33.8% Catalyst Paper bonds.
Summary and Conclusion
National Resource Partners masterfully navigated the declining markets in coal, oil and natural gas in 2015. The company increased Its revenues, thanks to its focus on diversification, and also held adjusted EBITDA level. It handily beat analysts’ estimates for earnings per share in its latest reported quarter by over 2x. The company’s continued focus on debt repayment via asset sales should continue to improve its balance sheet. The discounted price on these 2½ year bonds, with a corresponding 30% yield, most likely reflects the market’s wariness of coal (and to a lesser extent, oil), but we feel NRP has and continues to successfully negotiate a difficult commodities market. For investors, these bonds represent an excellent opportunity to increase portfolio yield and we have marked them for additional weighting in both our Fixed-Income1.com and Fixed-Income2.com global high yield income portfolios.
Issuer: Natural Resource Partners LP
Ratings: Caa2 / B
Yield to Maturity: ~29.42%
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Disclosure: Durig Capital and certain clients may have positions in Natural Resource Partner’s 2018 bonds.
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