Find Your Buried Treasure in the Miner Left Behind

The New Year has kicked into gear with a powerful rally in commodity stocks to reclaim some of the ground that was lost during a difficult 2011 for investors in the space. But the king of coal itself has seen its stock continue to fall behind even as the company's growth outlook grows ever stronger.

I refer, of course, to Peabody Energy (NYS: BTU) , whose stock has deteriorated by more than 40% over the past 12 months (far further than the corresponding 24% retreat by the sector-tracking Market Vectors Coal ETF (NYS: KOL) ). Have a look at the following chart before we delve into our discussion:


Peabody Energy Corporation Stock Chart by YCharts

The above chart illustrates the shocking extent to which Peabody Energy's shares have underperformed the remainder of the commodity complex over the past year. Coal stocks have been a particular weak spot overall, as evidenced by the 24% decline in the Market Vectors Coal ETF (shown in purple). I agree with my colleague David Lee Smith that diversified commodity giant BHP Billiton (NYS: BHP) is very attractively priced for investors here, but I perceive even greater upside potential in the severely impaired shares of Peabody Energy after the excessive decline depicted above.

Peering into Peabody's 2011 results released this week, we find what CEO Gregory Boyce described as the "best year in Peabody's history" standing in glaring contrast to that trailing price performance. It was in response to that apparent market disconnect, in fact, that I offered Peabody Energy as my top pick in the energy patch for 2012. Let's take a look at the numbers.

Peabody generated nearly $8 billion in revenue from 250 million tons of consolidated coal production, and rode some robust margins to full-year adjusted earnings per share of $4.17. Very strong pricing for Australian thermal and metallurgical coals yielded a 28% surge in revenue from Australian production despite flat production volume year-over-year. Looking ahead, Peabody expects that valuable Australian production to surge 35% to 48% during 2012 to reach at least 33 million tons! Although investments will be made in the recently acquired assets from Macarthur Coal that will make 2012 a somewhat less profitable year, the company continues to expect the transformative acquisition to prove accretive by 2013. In fact, as Peabody continues to assess its recently acquired assets, the company is finding that "the resource base is better, the team more highly motivated, and the project opportunities more robust than anticipated."

More importantly, the long-term outlook for global seaborne coal demand has not deteriorated the way last year's collapse in coal-stock valuations might lead one to presume. Peabody projects further global growth in export coal demand of 10% or more during 2012, bringing worldwide seaborne volumes to more than 1.1 billion tons. The World Steel Association projects a 5% increase in global steel production this year, requiring an additional 50 million tons of incremental met-coal demand. That new incremental demand is equivalent to more than five times Peabody's entire met-coal output from Australia in 2011, and Peabody is no minor miner!

The outlook for U.S. coal demand remains weak, however, with utilities continuing to switch to cheaper natural gas for electricity generation, but Peabody's dominant position in the Powder River Basin (PRB) places the company at the core of the most attractive domestic coal field. Consider Alpha Natural Resources' (NYS: ANR) admission last quarter which proposed that environmental legislation could yield "decreased reliance on Central Appalachian thermal coals on the margin, and a shift toward gas-fired generation and increased utilization of lower sulfur coals from other basins, including the PRB."

I feel strongly that the market has left behind a buried treasure with the substantial decline in Peabody Energy's shares, and believe that Foolish investors with a long-term outlook will find enduring value from these levels. Accordingly, I have designated Peabody Energy as a top pick with my Motley Fool CAPS portfolio, and I invite my fellow Fools to follow suit.

At the time thisarticle was published Fool contributorChristopher Barkercan be foundblogging activelyand acting Foolishly within the CAPS community under the usernameTMFSinchiruna. Hetweets. He owns shares of Alpha Natural Resources and Peabody Energy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has adisclosure policy.

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