Warrior Met Coal: Historic CapEx Set To Sustain Major Growth Milestones Achieved In 2022

Investment Thesis

Commodity prices fluctuated widely throughout the world last year. As the world economy rebounded from the steep depression at the peak of the COVID-19 pandemic, coking coal, a crucial raw material in steel making, saw a surge in demand despite supply chain concerns limiting availability. As a result of this soaring demand, the prices for the commodity went up, resulting in increased profit margins for the companies producing and selling the product.

This explains the attractive profit margins that Warrior Met Coal, Inc. (NYSE:HCC) reported, which saw enormous growth YoY. Generally, the Company experienced strong growth over the last year with decent cash flows. As a result of the excellent performance, its balance sheet is in an excellent state summarizing the good financial health the Company is enjoying currently.

During Q4 2022, HCC invested a record-breaking $98M in CAPEX and mine expansion to sustain their growth and capitalize on current commodity prices. I am optimistic about this Company and give it a buy rating due to its strong financial position and promising development ideas at a time when prices are attractively high.

Company & Market Overview

HCC is a U.S.-based supplier to the international steel industry that prioritizes sustainability and social responsibility. Its exclusive focus is the extraction of non-thermal met coal, an essential feedstock for the steel industry in Europe, South America, and Asia. Mine No. 4 and Mine No. 7 are two of the Company's underground mines in Alabama, and together they produce and export a lot of quality met coal, also called hard coking coal ["HCC"].

As of the end of 2022, the Company's two operational mines, Mines 4 and 7, held approximately 89.0 million metric tons of recoverable reserves; the undeveloped Blue Creek mine had 68.2 million metric tons of recoverable reserves; and the Company held an additional 39.2 million metric tons of coal resources outside of reserves. Historically, the Company's realized price for its high-quality coal has been at or slightly below the S&P Platts Premium Low Volatility ("LV") Free-On-Board Australian Index (the "S&P Platts Index"). Its HCC, extracted from the Blue Creek coal seam in the Southern Appalachians, has low sulfur, low to medium ash, and LV to MV. Due to these characteristics, its coal is superior to a coking coal in steel production.

Most of their met coal goes to steelmakers. Coke, made from met coal, is essential to steel manufacture. Met coal is exported by China, Australia, the US, Canada, and Russia and utilized domestically. Thus, their coal demand will closely follow global steelmaking circumstances. The steelmaking industry's demand for met coal is affected by several factors, including the industry's cyclical nature, technological advances in the steelmaking process, and the availability of steel replacements such as aluminum, composites, and plastics. A major drop in steel product demand would lower met coal consumption, hurting their industry. If alternate components are utilized in the integrated steel mill process instead of met coal, the demand will decline, which might negatively impact their demand.

Surging Prices

Coking coal prices have risen to a seven-month high, but whether this is due to a strengthening economy or supply concerns in top exporters in Australia is unclear. The price had increased by 70.3% since its low point in 2022, when it was $203.00 a tonne on August 1. This occurred when investors worried that the world economy would enter a recession due to the increase in oil prices caused by Russia's invasion of Ukraine

Since then, there has been a resurgence of hope that the global economy will avoid a severe recession and that China, the world's largest steel manufacturer, will roar back to life in 2023 after abandoning its rigid zero-COVID policy, which had restricted growth. The question is whether or not there is underlying data to support the price increases. In this case, both increasing demand and supply interruptions are at play with coking coal.

As an indicator of supply-side strain in the maritime market, shipments fell precipitously from December's 23.92 million tonnes to January's 18.82 million. Australia's shipments fell to 11.54 million tonnes in January, down from 14.30 million in December; nevertheless, it is worth mentioning that U.S. exports also fell to 582,157 tonnes in January, down from 1.53 million in December.

The Company's Solid Growth

When a company's EPS increases, the share price should follow suit. This suggests that most successful long-term investors view increases in earnings per share as a very good thing. Warrior Met Coal has raised its EPS by a compound annual rate of 28% over the past three years. Investors have a lot to cheer about if this growth rate persists into the foreseeable future.

In addition to revenue growth, EBIT margins can provide valuable insight into the sustainability of a company's expansion. EBIT margins have increased from 25% to 47% in the last 12 months, which is excellent news for Warrior Met Coal's shareholders, and revenues are also trending upwards. Meeting those two criteria is encouraging. Here's a rundown of the Company's year-over-year growth against its peers that, in my opinion, will impress any potential investors.

Looking at these numbers, it's clear that this Company outpaced its competitors and saw rapid expansion. So, I think this is an intelligent move for growth investors.

Sustaining The Growth

After experiencing the above-mentioned prosperous growth, this firm is determined to sustain this prosperous expansion by reinvesting in growth projects. Capital and mining-related expenditures hit a record high of $98 million in the last quarter of the year. The Blue Creek expansion accounted for $27 million of the total $85 million in capital expenditures. Over the final three months of the year, $13 million was spent on mine development. They anticipate that by the end of the year, they will have finished developing Mine 4. Considering the information provided in the firm overview above, the potential in developing this mine 4 becomes apparent.

Good Financial Health

Aside from the above-mentioned growth, this Company's financial health has also been bolstered by its robust balance sheet. To begin with, the Company is highly deleveraged with a debt of $302.58M and an equity of $1.448B; as a result, the Company's debt-to-equity ratio is very healthy at 20.9% over the previous five years, its debt-to-equity ratio has dropped from 83.8% to 20.9%. At its current debt level, the Company's annual financial leverage is 0.209, below one and very healthy.

The Company has a high level of liquidity, as indicated by its current ratio of 7.66X MRQ, which means that existing assets exceed current liabilities by more than 7X. This bodes well, suggesting the corporation can meet its immediate financial commitments. It's also worth noting that the firm has over $838M in cash and equivalents. Because of this, it can quickly raise money to cover its running costs. The firm has a healthy cash balance supported by healthy cash flows, with $841 cash flow from operations and $352.85 in levered free cash flow. These positive cash flows give us confidence that the Company will sustain its cash position and, by extension, its excellent liquidity into the future.

To conclude, on balance sheet is its debt coverage; HCC's operating cash flow covers its debt (278.2%), and its EBIT covers its interest payments on its debt (43.4x coverage). As far as the debt obligation is concerned, this sums up the organization's safety.

Investor Risks

Despite this Company being a good investment, it has a very evident risk: its dividend plan. Its dividend payment has been very irregular, and this should be a concern to a dividend-oriented investor. Further, their dividend reputation isn't good as the Company has only paid dividends for six years since 2012.

Investors in this potentially lucrative stock would be well to keep this in mind, as I see it as a significant risk associated with purchasing shares of the Company.

My Take On HCC Stock

Having seen tremendous growth year over year, HCC is now in a secure financial position. This has provided them the financial leeway to invest in a massive Capital Expenditure program, which will be the key to the Company's long-term success. In addition, the Company's strong financial position, particularly its liquidity, has the potential to strengthen its dividend situation, making it an ideal buy. However, I recommend this Company as a buy because its prospects are attractive.