Arch Coal has $1.2 billion liquidity, will delever when market improves

By Paul Deckelman

New York, July 30 - Arch Coal Inc. ended the 2013 second quarter with $1.2 billion of liquidity, most of it in cash, and anticipates strengthening its balance sheet even further when a pending asset sale closes, probably sometime in the current quarter.

The St. Louis-based producer of thermal and metallurgical coal - used, respectively, in fueling power plants and in the production of steel and other primary metal products - has repeatedly asserted that it places a high priority on deleveraging its balance sheet, which currently shows over $5 billion of long-term debt.

However, Arch executives told analysts on the company's Tuesday conference call following the release of its latest financial results that despite its big current cash bulge, any major deleveraging moves would have to wait until the coal markets - currently in a nascent recovery mode for thermal coal but still soft and stagnant for metallurgical coal - improve further.

No immediate debt moves

"We want to make sure that we've got liquidity in place to get through this tough period," John W. Eaves, Arch's president and chief executive officer, told an analyst during the question-and-answer portion of the call that followed his own formal presentation and those of Paul A. Lang, Arch's executive vice president and chief operating officer, and John T. Drexler, its senior vice president and chief financial officer.

"We can't tell you if it's six months, 12 months or 18 months," he added, "but what we can tell you is Arch will be around once we get through it."

Eaves said that he could not "put a hard number" on the kind of improvement in any of its markets for the company to get to the point where it would start delevering the balance sheet "significantly."

However, given the modest gains that coal prices and demand have made in recent months, starting to come back from the lows to which they had fallen during the recession and in its immediate aftermath, the CEO predicted that "it wouldn't take huge increases" in either the market for metallurgical coal or in the market for coal from Montana's Powder River Basin, where much of the thermal coal used to run power plants in the United States or exported to Asia for power-plant use there is produced, "for us to start generating significant EBITDA and delevering our balance sheet."

In compliance with covenants

CFO Drexler said that the company finished the second quarter ended June 30 with almost $900 million of cash and short-term investments and with about $1.2 billion of total liquidity, which also includes borrowing availability under the company's accounts receivable securitization facility and its revolving credit line. The latter was undrawn at quarter's end.

He noted that the revolver was "the only component of our liquidity and debt structure exposed to financial maintenance covenants," should the company choose to draw upon it any time before the end of 2015. It has a minimum liquidity requirement of $450 million and a senior secured leverage ratio, calculated net of cash and investments.

"Based upon our current expectations, we remain comfortably in compliance with both of those covenants," Drexler said.

Holding onto Utah cash

The CFO also noted that Arch stands to gain a sizable windfall when its recently announced agreement to sell its Canyon Fuel Co. LLC coal mining operations in Utah to Bowie Resources LLC for $435 million in cash closes sometime this quarter. Arch will record a gain of $120 million on the sale, which will be included in the company's EBITDA for the calculation of its financial maintenance covenants.

Drexler said that after receipt of the gross proceeds from the Canyon sale, Arch will have $1.3 billion of cash and $1.6 billion of overall liquidity available on a pro forma basis.

He said that once the transaction is complete, "our immediate view is to prudently maintain that liquidity in the form of cash. However, as markets improve, we will have additional flexibility with which to delever the balance sheet. We have many avenues to choose from and will do so opportunistically, ensuring that we make the best long-term decision for our stakeholders."

During the Q-and-A, Drexler elaborated that "as we look at the overall fundamentals on the thermal side of the business, we see things all heading in the right direction, [but] with all of that said, we're also sitting here today with a less-than-hot summer," thus limiting overall nationwide demand for electricity to run air conditioners, which in turn impacts demand for the fuel that Arch supplies to coal-fired power plants. At the same time, with the market for metallurgical coal still soft "and wanting to see some recovery there, we just think it's prudent right now to leave the liquidity, the cash, on the balance sheet."

A $5 billion debt load

When asked for specifics on which kind of debt the company might first look to take out when it does decide the time is right to deleverage, Drexler replied that there are "a variety of ways to do that. We'll look at all avenues. Clearly our next largest maturity coming due are the 2016 notes in the back half of the year for those notes, so they are one that we are focused on. At the same time, we also have prepayable bank debt as well, so we'll look at all avenues and proactively attack that in future years as we see markets improve."

According to the company's most recent 10-Q filing with the Securities and Exchange Commission, released in mid-May, at the end of the first quarter on March 31, the company's balance sheet showed $591.5 million of 8¾% notes due August 2016. Other outstanding junk bonds included $1 billion of 7% notes due 2019, $360.6 million of 9 7/8% notes due 2019, $500 million of 7¼% notes due 2020 and $1 billion of 7¼% notes due 2021.

The capital structure also included $1.62 billion of term-loan debt coming due in 2018.

During the second quarter, net interest expense on its debt was $94.7 million, up from $78.7 million in the year-ago period, reflecting the rise in long-term debt to the $5 billion level from about $4.46 billion a year earlier. Late in 2012, the company tapped both the bond and the bank debt market, selling an upsized $375 million issue of the 9 7/8% notes in mid-November while concurrently entering into a $250 million incremental covenant-light senior secured term loan, with the proceeds from those financings going toward general corporate purposes.

Results soften vs. year ago

Arch ended the second quarter with a net loss of $72.2 million, or 34 cents per diluted share. Excluding non-cash accretion of acquired coal supply agreements and asset impairment costs, Arch's second quarter 2013 adjusted net loss was $60.5 million, or 29 cents per diluted share, widening out from its year-ago adjusted red ink of $22.1 million, or 10 cents per diluted share.

Adjusted EBITDA fell to $110.5 million in the second quarter from $180.9 million a year ago, but it improved sequentially from $83.6 million during the first quarter.

Revenues fell to $766 million from $965 million a year ago, which the company said reflected the continued sagging in the metallurgical coal market. Revenues also declined sequentially from $825.5 million in the first quarter.

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