A spate of coal defaults has resulted from unsustainabley high debt leverage from past acquisitions amid an environment of weak coal pricing, it said.
“The low pricing and defaults were driven by over-supply of steam coal and metallurgical coal, burdensome regulations, and competition from low priced natural gas for electric generation business,” it said.
“Three major producers, Patriot Coal, Alpha Natural Resources, and Walter Energy as well as some smaller mining bond issuers including Xinergy and Winsway Enterprises Holdings defaulted earlier this year.”
If both Arch and Peabody file for bankruptcy, Fitch's coal industry trailing 12-month (TTM) bond default rate jumps to 55% from 28% while propelling the broader M&M sector TTM rate to 21% from 10%, narrowly edging the prior high set in 2002.
The TTM M&M leveraged loan default rate would also climb to 25% from 11% should these two defaults materialize.
The large volume of M&M sector defaults, persistence of challenging coal markets, and lack of strategic buyers for coal properties will weigh on reorganization enterprise valuations or asset sales prices in the bankruptcy cases.
Fitch believes low values combined with overleveraged pre-petition balance sheets will result in low or zero recovery rates for holders of unsecured M&M debt in the reorganizations.
The poor recovery expectations are consistent with the low trading prices on distressed loans and bonds in the sector.
Arch Coal initially extended an offer for an unsecured for secured debt exchange on July 2, 2015, which Fitch would deem a selective default and classify distressed exchange if it eventually proceeds.
Peabody Energy's outlook is marginally less dire given its lack of near term maturities and sufficient liquidity to sustain operations for the time being, but there is substantial credit risk, according to Fitch.
“Fitch forecasts leverage to exceed 9x through 2016 and downgraded the issuer to 'CCC' in July 2015 to reflect our view that liquidity could become constrained in the absence of higher metallurgical coal prices,” it said.
