Investment Alert: Buy ARCH Under $135/share; Sell $185
Disclaimer: Investment Alerts have a medium to long-term time horizon. These do not constitute financial advice and you should contact a financial advisor before deciding whether it is appropriate for your individual circumstances.
Climate change proponents have their sights set on any company sullying the environment so betting on a coal company seems to be a risky proposition. But every once in a while, the financials are so compelling that even a company bucking the thematic trend-du-jour warrants a further look.
- Arch Resources is a company that operates seven active mines and sells coal predominantly to utilities, industrial companies, and steel producers.
- Management’s decision to buy back 5% of its shares indicates that they believe value can be unlocked at current prices.
- Analysts have an intrinsic value per share of $193 on ARCH.
A Clue From Management
If you’re not familiar with Arch, it’s a St Louis, Missouri headquartered company that operates seven active mines and sells coal predominantly to utilities, industrial companies, and steel producers.
What struck us about Arch at first was management’s decision to buy back 5% of its shares. This was an interesting decision on the back of a generally declining share price over the past year.
Arch share price had fallen from around $180 per share to closer to $130 per share at the time of the announcement in January. Interestingly, the price of coal made a round trip during the same period from $177/T to $450/T and back to where it started. The decision by the top brass to reduce share count is a sign that those in the known believe value can be unlocked at current prices.
We decided to investigate whether they have their finger on the pulse, and we believe they are indeed spot on.
Arch Has Lots of Upside
After running a discounted cash flow forecast analysis, we arrived at fair value of $192 per share, suggesting as much as 46.4% upside from present levels.
Supporting the thesis is an astonishing return on invested capital of 67.9% and a free cash flow yield of 42.1%. With an abundance of cash flows and an ability to turn cash into profits, Arch Resources is a compelling play for value investors.
Analysts seem to agree. The consensus among five analysts is an intrinsic value per share of $193, just a dollar higher than our own estimate.
As we looked further into the financial statements, what stands out is eye-popping revenue growth of 50.5% in 2021 and a further 67.7% in 2022 to $3.7 billion. Operating income grew from $399.9 million in 2021 to $1.1 billion in 2022 on the back of those revenues climbing.
And it’s not like the balance sheet is particularly concerning either. Long-term debt sits at $116 million versus $236 million in cash. That’s all indicative of a company that is headed in the right direction and we believe the reward to risk proposition now favors the long-term buyer. Bottom line, Arch may not be sitting in the sweet spot of thematic climate investments now but its financial books paint a glossy picture.