Further exploring the capital intensity of Alliance Resources

In the last post of my Alliance series I demonstrated on key operating metrics that Alliance Resource Partners was not just a bad coal mining operation - it was a flat-out terrible operation.

It had raised its capital intensity 350 percent, substantially reduced the grade of the coal it exported and reduced labor productivity over 20 percent. And it had become more bureaucratic at the same time.

Moreover the maintenance capital expenditure per ton produced has risen from 43c to over $8. These seem to be fairly brittle machines - put a ton of coal through the chute and you have induced $8 of repair obligations on the kit. Like wow - imagine all the people running around repairing stuff.

This is - to put it mildly - surprising. It is surprising because Alliance Resource Partners is the highest valued coal mining operation in America with the best performing stock. There is at this company a very large disconnect between operational performance and financial performance.

To be fair though - rising capital intensity is a problem across the industry (it is just more intense at Alliance). Peabody is the biggest coal mining company - and a good comparable.

In 2000 Peabody had $5.2 billion of property, plant, equipment and mine development with which they produced roughly 190 million tons. That was roughly $27 of PP&E per ton. (Many of Peabody's tons are lower-quality Powder River Basin tons.)

By 2000 Peabody had 15.4 billion in gross PP&E was 225 million tons. The capital required per ton was now $68.4. The capital intensity had gone up 2.5 times. Clearly this is an industry trend - albeit a worse trend at Alliance than at Peabody.

Employee numbers had moved from 7200 to 8200. Tons per employee thus moved from 26,400 to 27,400 - a slight improvement in labor productivity.

Peabody does not separately identify maintenance capital expenditure - but suffice to note that Peabody's total capital expenditures per ton are well below Alliance's maintenance capital expenditures per ton. Peabody's equipment is clearly less fragile...

The same trends are everywhere I look. The industry has substantial increases in capital intensity - but not as intense as Alliance Resources, but marginal improvements in labor productivity. It is on the labor productivity metric that Alliance stands out most intensely. Alliance has declining labor productivity.

However just how startling Alliance is is better demonstrated when you look only at the plant and equipment part of property plant and equipment.

You see, most of the PP&E at Peabody is land and coal interests - just the right to mine. This is the breakup:

Peabody - $million - 2012
Property, plant, equipment and mine development
Land and coal interests	10947.7
Buildings and improvements	1321.3
Machinery and equipment	3162.2
Less: accumulated depreciation, depletion and amortization	-3629.5
Property, plant, equipment and mine development, net	11801.7

Peabody is only using roughly $4.5 billion gross in buildings, improvements machinery and equipment. And it produces 225 million tons annually.

Alliance Resource partners $million
Mining equipment and processing facilities	1435
Land and mineral rights	304
Buildings, office equipment and improvements	208
Construction in progress	130
Mine development costs	285
Property, plant and equipment, at cost	2362
Less accumulated depreciation, depletion and amortization	−832
Total property, plant and equipment, net	1530

Alliance it seems uses over $1.6 billion (gross) in mining improvements, processing facilities and building improvements to produce about 35 million tons of coal annually.

To put it mildly - Alliance Energy uses a lot of machines both relative to competition and relative to its size and relative to its history.

This thing keeps installing machines and its labor productivity keeps falling.

Very strange. Doubly strange because the profitability measures at Alliance are so outstanding.





John