Alpha Metallurgical Resources, Inc.
- After the West Virginia Environmental Protection Agency alleged fraud for hiding $100m of liabilities, and then later observing the resignation of its CEO and dismissal of four executives in 2019, an auditor change, a material weakness disclosure, and an implementation of a clawback policy for acts of fraud, Spruce Point conducted a forensic review of Alpha Metallurgical Resources (NYSE: AMR), formerly known as Contura Energy. AMR was formed from the assets of Alpha Natural Resources (ANR), a coal industry roll-up that filed for bankruptcy in 2015. Our review finds staggering evidence of misstated production, revenues and expenses, up to $690m of “hidden” debt obligations, overstated cash and recent cash shortfalls, inflated inventories, and shrinking economic reserves. In short, despite recent strength in coal markets driving its share price to all-time highs, we believe AMR is masking significant financial stress in its core mining operations and has used aggressive tax refunds to drive cash flow. However, we believe the easiest tailwinds are behind AMR and expect coal price appreciation to moderate and fall, which will expose high cost and levered operators like AMR. We have little faith in AMR’s financial reporting, and even observe it shares the same audit partner who oversaw EBIX, Inc. (Nasdaq: EBIX), a Company whose stock plummeted 50% after the auditor resigned and raised concerns about transactions in India. Warning: AMR’s largest export market is India. We see 40% – 60% downside or $60.58 – $90.87 per share.
- Spruce Point has conducted a detailed mine-by-mine analysis using U.S. Mine Safety Health production data and finds evidence of production overstatement by approximately 400,000 – 500,000 tons of coal in 2020 and 2021. If production is in fact overstated, then inventory could also be overstated. Overstatement of inventories is a hallmark of margin and profitability overstatement.
- The “export” story is central to AMR’s investment case, but U.S. coal is generally less desirable to foreign purchasers because of the transportations costs. AMR says that Brazil is a critical market with export revenue exceeding 10% of total revenue. Therefore, we estimate that Brazil accounted for $226 and $142 million of export revenue (inclusive of freight) in 2021 and 2020, respectively. Spruce Point has sourced Brazil import records amounting to 626k and 866k metric tons shipped in 2020 and 2021. Using published reference prices, we estimate AMR’s revenues from coal sold to Brazil were closer to $95 to $99 million, materially below reported figures.
- When Contura merged with ANR, it was a closely associated party transaction given that many of Contura’s executives came from ANR. Spruce Point observes that AMR made numerous reporting changes to how it classifies freight and handling revenues and costs. At first, it allocated all the costs to the Trading & Logistics segment. Then, it allocated costs among its various regional production segments. AMR’s freight and handling reporting per ton is suspiciously higher than all of its U.S. reporting coal peers. Contura’s old Trading & Logistics business was buying a substantial amount of coal from ANR. We find evidence of negative revenue in Q4 2018. We also show that 2017 segment revenues were quietly changed between Contura / ANR from $478 to $566 million. In the intercompany eliminations AMR shows $572.5 million of purchased coal which is more than the costs for the entire segment which was $543.2 million. Furthermore, merger proxy shows the intercompany business to have revenues matching costs, yet Contura claimed the segment produced $89 million of EBITDA.
- When AMR merged with ANR in 2018, we find a mysterious coal inventory step-up valuation by $38m or 44%. Given that ANR’s coal inventories were turning over every 22 days and coal prices didn’t move during the valuation period, we find this revaluation highly unusual. In ANR’s prior large acquisitions of Foundation Coal and Massey Energy, it made just a $1m increase to coal inventories on total acquired coal inventory value of $356m. This leads us to believe that coal inventory write-ups are rare. AMR amortized the inflated inventory step-up and claimed that actual mining cash costs were lower. Later in 2019, AMR disclosed a material weakness tied to process level controls over the valuation of coal inventory and elements of the procurement process were ineffective.
- The CFO has a poor track record with share repurchases. The last repurchase conducted in Sept 2017 was well-timed ahead of the prior industry correction and stock crash, but allowed named executive officers (NEOs) to cash out. Of the 309k shares repurchased in 2017, NEOs sold 244k. Through Q1 2022, of the 223k shares repurchased by AMR, at least 90k have been from employees. AMR boasts that it is nearly debt-free, and uses Company funds so it can sell its stock, but ignores substantial legacy liabilities to employees afflicted with black lung and obligations to the environment.
- We believe AMR’s NEOs have been selling stock even more aggressively and in a non-transparent way not in compliance with SEC guidelines for Form 4 reporting. After FY 2021 earnings results, and a $150m repurchase program was announced, management sold 56% of its total stock holdings. However, between March 10th and the filing of the Proxy Statement on March 30, 2022, we estimate insiders sold $24 million of stock in the $117 range (approximately 20% below the current price) without filing timely Form 4s to notify investors. Furthermore, this heavy insider selling came after Russia invaded Ukraine. In addition, a large block of warrants issued in 2016 were exercised in Q1 2022 after a long period of no exercise activity.
- AMR trades at an unjust premium for what we believe are lower quality coal operations and assets. We believe it should trade at a discount to incorporate our concerns around accounting, financial reporting, and financial strains being observed with “hidden” liabilities. We believe investors also underappreciate customer risk in the AMR story. We believe China, a recent large customer, will dramatically expand imports from Mongolia. India, a 29% customer in Q1’22 has not been growing coal prices YTD. Coal prices are projected to decline as more supply comes to market and the Ukraine War shortage premium subsidies. With the FED intent on fighting inflation, we believe an underweight position in a subpar coal operator such as AMR is warranted. We estimate 40% – 60% downside risk to $60.58 -$90.87 per share.