Arch Resources Inc (ARCH) 2012 Q3 法說會逐字稿

Good day everyone and welcome to this Arch Coal, Incorporated third quarter 2012 earnings release conference call. Today's conference is being recorded. At this time, I would like to turn the call over to Jennifer Beatty, Vice President of Investor Relations. Please go ahead, ma'am.

Good morning from St. Louis. Thank you for joining us today.

Before we begin, let me remind you that certain statements made during this call, including statements relating to our expected future business and financial performance, may be considered forward-looking statements within the Private Securities Litigation Reform Act. Forward-looking statements by their nature address matters that are to different degrees uncertain. These uncertainties which are described in more detail in the annual and quarterly reports that we file with the Securities and Exchange Commission may cause our actual future results to be materially different than those expressed in our forward-looking statements.

We do not undertake to update our forward-looking statements whether as a result of new information, future events, or otherwise, except as may be required by law. I would also like to remind you that can find a reconciliation of the non-GAAP financial measures that we plan to use this morning at the end of our press release, a copy of which we have posted at the Investor Section of our website, archcoal.com. On the call this morning we have John Eaves, Arch's President and CEO, Paul Lang, Arch's Executive Vice President and COO, and John Drexler, Senior Vice President and CFO.

John, Paul, and John will begin the call with some brief formal remarks and thereafter we will be happy to take your questions.

Thanks, Jennifer, and good morning.

I'd like to talk briefly about safety. At Arch we take pride in our Company culture that puts safety first. We have consistently led the US coal industry with our strong safety record. And our performance thus far in 2012 has put us on pace to deliver yet another strong year on safety. While we're proud of this record we also remain sharply focused on continuous improvement because one injury is too many. On July 31, we were reminded of this fact when an employee, Greg Byers, was fatally injured at our Beckley mine. Our thoughts and prayers are with his family, friends, and coworkers.

Turning now to our results, Arch generated $257 million of EBITDA, and recorded $0.20 in adjusted earnings per share in the third quarter. These results demonstrate that we're controlling the variables that we can control in this market. In fact, our success in containing cost has allowed us to reduce our 2012 cash cost guidance for each of our three core operating regions, the PRB, Western Bit, and Appalachia.

Our results also indicate a modest uptick in domestic thermal coal demand. Shipment levels rose, pricing per ton increased, and cash costs declined in our Western operating regions in the third quarter, helping to increase profitability in those regions. In Appalachia, our results reflect continued weakness in metallurgical markets. We shipped 45% of that region's volume as met in the third quarter, up from only 33% this time last year with pricing decline due to weak trends in Europe and Asia.

Overall we're successfully managing through a tough market environment. We've been here before and we focus on, one, prudently managing our sales and production levels, two, containing costs and capital spend, and three, preserving and enhancing our financial flexibility. Longer term, we remain bullish on coal market fundamentals. That is why we continue to pursue opportunities that will help us grow, expand our global reach, and capitalize on markets as they recover.

On a positive trend, we are seeing a slight improvement in the domestic thermal demand. While far from normal, we are encouraged by the pickup in activity in the PRB. No doubt the positive momentum has been driven by favorable summer weather. Cooling degree days were up this year versus 2011 and were up versus the five year average. Higher natural gas prices in the shoulder season have helped, as well.

The coming winter could provide further support for thermal markets. Last year heating degree days were nearly 25% below normal, which dramatically impacted coal and gas demand. If we had a more seasonable temperatures this winter, we could be discussing a sizable stepdown in coal stockpiles and a meaningful gas to coal switching on our next call. However, we remain cautious of this situation playing out in the near term and are taking steps to manage through a potentially challenging 2013. Longer term, we do see upside in the domestic coal markets.

Clearly, the industry will be impacted by coal plant closures stemming from aggressive EPA regulations. We estimate that 45 gigawatts of coal generating capacity could be retired by 2018. But these at-risk plants are the smallest and least efficient in the coal fleet and are already running at very low levels. Those at-risk plants likely will consume just 40 million tons of coal l in 2012, down from 75 million tons consumed in 2010. Thus, any incremental negative impact from these potential coal plant retirements is likely to be modest. More importantly, the lost consumption could be offset by increasing utilization at the remaining 280 gigawatts of installed coal-fueled capacity.

Collectively the remaining coal plants are running below a 60% utilization rate today. As US power load grows it's reasonable to assume that the underutilized coal units could pick up that incremental burn lost from the retired plants. We also believe that the increased manufacturing activity could be a driver of our Business in the years ahead.

The advent of shale gas could attract an industrial base back to the US and that could benefit coal, first with the steel required to build the factories and second, with the power required to run them. If coal plant capacity rates rebound to levels achieved in 2010 of 72%, US coal demand has the potential to grow by as much as 100 million to 150 million tons in future years from a 2012 base.

On the international front we continue to move forward with building out a significant export franchise that we believe will allow us to unlock incremental value for our coals over time and create value for Arch shareholders. We have shipped 10 million tons for export year-to-date and expect to send 12 million tons out of the country for 2012. More than half our exports are moving to Europe with 20% reaching Asia, and the balance moving into the Americas. We're shipping coal off the East Coast via our space at DTA, as well as through ports in Virginia and Maryland.

In the Gulf, we're midstreaming and loading vessels on the Mississippi river and railing coal to Houston before sending it offshore. In the west, we're shipping through California and Canada, and continue to take steps forward in developing more capacity off the West Coast. We're also moving forward with the permitting process at MBT facility in Washington state. In addition, we're exploring other options to access the Asia-Pacific market and are developing relationships with Asian customers, having signed several long-term deals for PRB coal with power generators in Korea.

Lastly, we believe met markets are in the process of bottoming out. After recent cuts in Australia, the US and elsewhere, we believe the global met markets are oversupplied by just 10 million to 15 million metric tonnes today. Benchmark prices have fallen below the cost for many producers and further supply cuts are under way. Arch is taking steps to rationalize its high cost and lower quality met supply even as we build out our stronger and even more cost competitive met coal production. In the third quarter, we shipped 2.1 million tons of met coal at net back prices of $105 per ton.

To date, we have 7.3 million tons committed in the met markets for 2012 with only 200,000 tons left to place this year. During the quarter, we sold 500,000 tons of met coal in the low $80s but had 300,000 tons of high quality coal at high prices fall out of the mix. We are working with our customer to preserve that value in future years. In summary, we're bouncing off the bottom in the thermal market and bouncing along the bottom in the met markets. At this time we expect 2013 to be a bridge year to a much brighter future. With that I will now turn the call over to Paul Lang, Arch's COO for a discussion of our regional operating performance and capital plan update. Paul?

Thanks, John.

On the operations front, all of our operations turned in a solid performance for the third quarter and achieved good cost controls. Overall, cash cost per ton declined 10% versus the second quarter, and more importantly, they declined 7% versus the third quarter of last year when volumes were 6% higher. In the PRB, our sales price increased and our cash costs declined from an already solid second quarter performance. Shipments rebounded as we saw modest improvement the underlying demand over the last three months. During the third quarter, we redeployed one drag line at Black Thunder while two drag lines remained idled.

We also temporarily idled on drag line at Coal Creek during the month of September and restarted the machine on October 17. For the full year, we have lowered our 2012 cash cost guidance expectations in the PRB by $0.35 to a range of $11 to $11.30 per ton based on cost containment efforts and higher shipment levels. At this time we expect our costs to increase in Q4 relative to Q3 due to the timing of repair and maintenance expense, as well as potentially slower trading cycles out of the Basin during the fourth quarter.

In Appalachia, our third quarter sales price fell modestly due to lower realizations on metallurgical shipments. Overall volumes in the region declined in line with Arch's previously announced mine closures. In addition, we took steps to idle lower quality, higher cost metallurgical mines. Our third quarter cash cost per ton was up slightly versus the second quarter but included the impact of idled operations. If the idle operations were excluded, our cash cost would have been $1.35 per ton lower.

In subsequent quarters, we expect the impact of idle operations to trend down towards a more steady state of $5 million annually. For full year 2012, we have lowered our cash cost guidance expectations for Appalachia another $0.50 to a range of $68 to $71 per ton. This guidance range includes the impact of the idled thermal and metallurgical mines announced throughout the year. As you know, our goal is to realign our asset portfolio in Appalachia, in favor of higher margin coking coal assets while maintaining lower cost thermal mines like Coal-Mac which could possibly serve either the domestic or export market.

I'm pleased to report that we're making good progress with the development of the low cost, high quality Leer Mine. Continuous miner units are operating well and the preparation plant at the mine is now running. Leer Mine also hit a major milestone this week when we loaded our first train which traveled to DTA, bound for Europe. We anticipate that the Leer longwall will start up in the third quarter of 2013.

In Western Bit, our sales price increased and our cost per ton declined, raising our operating margin over 70% versus the second quarter. We had strong contributions from Sufco and West Elk which helped offset the loss of production during the planned longwall move at Skyline. The longwall at Skyline is expected to restart operation this weekend. For full year 2012, we've lowered our cash cost guidance by $1.25 per ton with a new range of $23 to $25.50 per ton for the region. In the fourth quarter, we will have two longwall moves, one at Sufco and one at West Elk which will lower our production and impact our costs in the region.

Turning now to our capital plan. As you know, we previously cut $50 million from our 2012 guidance. We also continue to assess the market conditions when evaluating our long-term capital allocation strategy. As always, we take a disciplined approach to spending capital and we will continue to support those projects where the potential returns are the most attractive. In light of our reduced footprint in Appalachia and the ability to redeploy idled equipment in other active operations, we believe we can reduce our 2013 capital spend to around $350 million, which is $70 million below our reduced 2012 level.

Our 2013 capital plan is focused on three main items, the completion of the Leer mine; the second, South Hilight LBA payment; and normal maintenance capital for the operations. Our ability to cut capital as well as reduce cost is helping us preserve our liquidity as we manage through this tough market environment. Lastly, I want to touch on our forward sales commitment we made in the third quarter. For 2012, we continue to place small incremental volumes into the export market. We also see opportunities to place our remaining high-vol B volumes in the fourth quarter and have recently concluded deals in the $80 netback range. For 2013, we have selectively committed volumes and are now 75% committed in the thermal market based on current run rates.

During October, we continued to place thermal volumes for delivery in 2013, as well as the outer years which will take some of our volume risk off the table and allow us to participate in new markets. In addition, since we're running our remaining thermal operations at reduced levels in Appalachia, this leaves us with less overall exposure to the domestic market. We will continue to evaluate our opportunity to send our low-cost Appalachian thermal coal for export.

In summary, we will continue to prudently manage our production and sales growth portfolio as we continue to control our costs and capital spend in this environment. I'll now turn the call over to John Drexler, Arch's CFO, to update our consolidated financial results and our liquidity position. John?

Thank you, Paul.

Despite the challenges we are currently seeing in the market, we remain focused on preserving and enhancing our liquidity. We have accomplished that task in the third quarter by remaining diligent in managing both operating costs and capital spending throughout the Company. In total, we generated more than $260 million of operating cash flow in the third quarter, driven by solid operating earnings and positive working capital trends.

Capital spending for the quarter was $102 million, with more than half of that amount related to the development of the Leer Mine. We generated free cash flow of $160 million in the quarter and elected to invest some of our excess cash in highly liquid securities to enhance our returns.

With cash and investments of $650 million along with $350 million of additional liquidity under the revolver and other programs, Arch's total available liquidity increased to over $1 billion at the end of September. Looking ahead we expect the benefit from working capital to moderate in the fourth quarter. We are currently forecasting that we'll end the year with approximately $600 million of cash and investments on the balance sheet. As a reminder, we have no meaningful debt maturities until 2016.

Turning to our results for the third quarter. I wanted to provide some additional explanation on a few items. First, our third quarter results include an $80 million reversal of a legal contingency, or $54 million when adjusted for taxes and accrued interest expense. In the quarter we received a ruling on the appeal of the verdict in the Allegheny case. Clearly, we are limited in what we can say but we have adjusted our accrual to bring it in line with the latest ruling.

Second, I wanted to add some clarification on the accounting for our trading and risk management activities. In the third quarter, we reported a pre-tax loss of $6 million for coal derivative and trading activities. Offsetting this loss was cash income primarily related to the expiration of in-the-money positions which is reported under other operating income. As you will remember, we had mark-to-market gains of $32 million during the second quarter, primarily associated with API-2 swaps we entered into in late 2011 and early 2012 for a portion of our expected export volumes. As the API-2 index dropped in value, the value of the swaps increased.

As these derivative positions expire, the cash is received and the accumulated mark-to-market is reclassified to other operating income. This cash receipt accounts for roughly half of the other operating income in the third quarter. Without material movement in the API-2 market, we would expect to have a similar amount of positions expire in the fourth quarter. We view the ongoing activity of our trading organization as an integral part of our business used to optimize earning opportunities and we would expect ongoing contributions from our trading group moving forward.

Lastly I'd like to review our updated guidance. As you can see, we continue to manage our costs effectively and have reduced our cash cost guidance in all three of our core operating regions. We now expect thermal sales volumes in the range of 129 to 135 million tons with met sales of approximately 7.5 million tons; cash costs in the range of $11 to $11.30 per ton in the Powder RIver Basin; cash costs between $23 and $25.50 per ton in the Western Bituminous Region; cash costs of $68 to $71 per ton in Appalachia; and cash costs of $34 to $36 per ton in the Illinois Basin; DD&A now in the range of $500 million to $525 million; SG&A in the range of $125 million to $135 million; interest expense between $300 million and $310 million; and capital expenditures of $410 million to $430 million.

Given our current outlook and the impact of percentage depletion, we continue to expect a tax benefit in the range of 40% to 60% during the fourth quarter. In summary, we delivered strong operating cash flow in the third quarter and boosted our liquidity meaningfully. With that, we are ready to take questions.

Operator, I will turn the call back over to you.

(Operator Instructions)

Mitesh Thakkar, FBR.

First of all, congratulations on the quarter and excellent cost control.

Thank you.

My first question is just on the PRB markets in general. Obviously, you did a good job on the PRB side this quarter and also priced some coal for 2013, if my math is correct, at around $12 and 10 million tons. When you look at the strip you priced at probably at the higher end. Can you give us some color around that and how should we think about this delta?

Your math is correct. It was around 9.5 million tons at a little over $12. And the marketing team did a great job in being very selective. We were pleased with the opportunities that we've seen during the quarter. We've seen a little bit more cautious outlook for 2013 as we moved out of the quarter. We continue to be encouraged by the natural gas price levels that we're seeing and feel like the PRB coal in particular will do well against natural gas pricing at this level.

The concern at least in the near term would be the inventories. I think given the draw down that we saw this summer, typically you have a 20 million-ton draw from May to August. We saw closer to a 25 million-ton draw. We've been in the shoulder season here for a few months. If we get a normalized winter we think we could see those inventories come down pretty quickly and we think PRB would be the first to respond. We're assuming right now inventories by the end of the year in that 180 million ton level. Assuming again normal winter weather, we would expect to see the PRB market improve.

Great. And just on the met side, when you look at various mine idling, how should we think about your total met coal productive capacity and if you can give some color around the mix, that would be great.

We guided to a midpoint of 7.5 million this year. We feel good about that guidance. As Paul indicated, we've got 200,000 tons. We've got a price for the balance of the year. We feel good about that. Most of that would be the high-vol B; we're seeing the low $80s type price for that product right now. We're really in the budgeting/planning stage right now for 2013. I wouldn't want to indicate a volume right now until we get through that process. We would plan to update you in our January call. Our marketing guys are currently in discussions with our domestic customers and really wouldn't want to say much more about that at this time.

Is it fair to assume that the 1 million-ton capacity which you said idled is something which is not going to be considered next year or it's too preliminary?

Well, I think it goes into our planning process. We closed three coal mines. We closed the Bismarck, the Carlos, and the Imperial. That was higher cost, lower quality met coal that we took out of the mix. As we sit here right today, I wouldn't see that production coming back but we do have that flexibility. Again, we'll update you on that in late January.

Great. Thank you very much, gentlemen, and good luck.

Thank you.

Shneur Gershuni, UBS.

First question, I was just wondering if we can talk about CapEx as we think about 2013 and 2014. I was wondering if you can -- I realize you may not be completely prepared to discuss it in detail but I was wondering if you can remind us what the CapEx that's left for Leer and then where you believe your maintenance CapEx would be on a normalized run rate.

I think in 2013, just broad buckets right now, we're looking at about $100 million for Leer next year, about $60 million for the LBA payment, and the balance in main maintenance CapEx.

What's your current run rate for maintenance CapEx for this year?

I guess it's about $170 million to $180 million.

Okay. Great. Second question is more financial oriented. If I remember correctly, the covenants associated with your facility really don't apply unless you actually draw on the facility. In the unforeseen circumstance that you would need to draw, would this legal settlement actually count in the EBITDA as part of the back test against it?

This is John Drexler, and the legal settlement, the EBITDA generated from that is included in our calculation determination for the minimum EBITDA requirement which is what I think you are referring to. As we sit here today with the cost control that we've had in place and the performance during the third quarter we've seen our liquidity grow. We're currently very comfortable with that. As you indicated we have no drawings on our revolver, $650 million-plus in cash. So we feel good about the liquidity and ability to support the Company's ongoing operations. We'll carefully look at where markets continue to evolve but we're comfortable with where we sit today.

But the covenants don't even apply if you're not drawing. Correct?

If you are not drawn on the revolver -- the financial maintenance covenants only apply to the revolver. If we're not drawn on the revolver, then there's no application. That's correct.

Okay, perfect. One last question. Paul mentioned some maintenance CapEx in Q4 and so forth. But you've achieved some serious cost improvements in 2Q. You got some volume back, helped you on fixed operating leverage in Q3 here. As we think about next year, do you expect that you would be able to maintain some of the benefits that you've achieved over the last two quarters?

This is Paul. I think we had the same basic question last quarter. I think I responded then, I felt pretty comfortable about what the guys have achieved on the team. The two unknowns out there always are diesel and explosives. Beyond that, we feel very good with what we've achieved.

Okay. Great. Thank you very much.

Michael Dudas, Sterne Agee.

John, in your prepared remarks you talked a bit about the global met market and your expectation of an oversupply of 10 million to 15 million tons. Could you elaborate, do you think it's more -- is what we're seeing out of Australia on the cost structure maybe going to allow more cutback there and on the other side of the hemisphere, on the US side, we've seen some announcements, probably expect to see more to come. Do you have a sense of where we are on the pushback on the lower quality coals or even some of the higher quality coals that might be set up for production in 2013 and out of the US?

Michael, you've been reading the same announcements we have about the cutbacks. There's been a number of them here in the US. I think you'll probably see some more of those. We just announced the one with the three coal mines which was effectively about 1 million tons. I do think the cost pressures in Australia are going to continue to impair some of their production growth over the years. You've got a lot of production right now around the globe at $170 benchmark that really is out of the money from a cost standpoint. I think you've got to continue to rationalize that.

As you've heard me say, we're very proud of our Leer project. We think the cost structure at that complex can be competitive, not only in the US but around the globe and it's going to be a unique project. We'll have to see where the demand goes. Certainly the uncertainty we're seeing in Europe right now, the slowdown in China, we're seeing, we think over time though, steel production is going to continue to grow at a pretty rapid pace. Even with the slowdown in China, you're growing it on a much higher base.

We're encouraged moving forward. We're assuming '13 is going to be somewhat of a challenging year. That's why we've made some of the decisions we have. But when you think about our met portfolio, and the cost structure that we have, we can generate pretty positive cash margins even in difficult markets.

I appreciate that. My follow-up, John or Paul, would be looking out at the Powder River Basin, what do you think will turn more on the pricing? We've seen volumes pick up and expectations pick up. Do we need to see the inventory levels below what you anticipate with a normal winter or is it more $4 gas that's going to get the utilities who burn that coal more willing to start to lock in for 2014 and beyond at better than the strip prices that we're seeing?

Michael, this is John again. We are seeing good natural gas prices. We feel like we can be very competitive with the current prices at $3.50, the forward strip in '13 is closer to $4. We feel good about that. We think it's really an inventory issue right now. I think as we move through the winter with normalized weather you could see a pretty good draw on those inventories and I think you're going to see PRB volumes and price respond.

Across the board, so you think volumes as we exit 2012 for the Basin will be trending higher than, say, what we exited in 2011 -- is it safe to say we'll still be below where we exited a year ago? Is there going to be, in your anticipation, a ramp up to meet that demand rather quickly.

Again, I think it depends on the weather. Right now what we're seeing is a little bit of caution on our customers' standpoint. I think they're waiting to see what kind of weather they have. They've been burned in the past with some of their inventories. We're pleased with what we sold during the third quarter for 2013. We continue to have some activity. But there is some caution out there. And I think a t lot of that's driven by the inventory levels that they see right now.

Duly noted. Thank you, John.

Thanks, Michael.

Brandon Blossman, Tudor, Pickering, Holt and Company.

Let's see. How about Western Bit, nice uptick quarter-over-quarter, just on an absolute level, pretty nice sales volume. Can you break out what that looked like as far as domestic demand versus export demand and maybe some color around what you're thinking about export demand given where sea born prices are, thermal prices are for '13 and beyond?

If you noticed by the chart, we did sell some coal for 2012 at pretty good prices. Most of that was domestic with some of our current customers that we've been working with. I think as we look out, we're going to continue to focus on our domestic customers which we have good relationships and agreements in place and we hope to build on those. They'll really see the real growth for Western Bit over time being in the international markets. We set ourself up pretty good from a port infrastructure standpoint, whether we're bringing coal to the St. Louis area and taking it to the Gulf or railing the coal directly to Houston.

The demand that we've seen in the international markets has been very encouraging. Don't like the prices right now but we think given what we see moving out that, that will continue to improve and create opportunities for our Utah and our Colorado coals. If you look at our cost structure out there, we've got tremendous cost in that region and think we can compete very well in US and international markets.

Brandon, to give you a little -- this is Paul. To give you a little color we don't go down to the regional levels or the granularity you asked but kind of as a snapshot, about 65% of our exports were met and about 35% were thermal. And if you break that down, about 50% went to Europe, about 30% to the Americas, and about 20% to Asia.

And Paul, are you willing to share directionally what the breakout on the thermal side was, Western Bit versus central App?

We're not going to break it down to that level, Brandon.

I guess regardless, it's a nice upside option there, nice product. Okay. And then just back to the PRB fourth quarter, looks like total committed tons imply a pretty good fourth quarter run rate for PRB. At least recent railcar loadings look light on a year-over-year comparison basis. How do you guys reconcile those two data points?

I guess, that's why in my comments I was a little cautious on the fourth quarter. We're off to a little bit of a slow start this month and I guess in my years out there I rarely saw us make up volume in November, December. That's why I think we're a little more cautious about fourth quarter PRB.

Thanks. That's helpful, Paul. Thanks, guys.

Thank you.

Jim Rollyson, Raymond James.

John, back on the met subject for a minute. Obviously a tough market right now and as you think about negotiations with your domestic steel guys since you're dealing with annual calendar contracts, how do you think -- I don't need absolutes -- but how do you think about pricing as far as negotiations with those guys given that you're unfortunately doing those negotiations right at probably the bottom of the market. Do you think they're looking to get that bottom of the market pricing or do you think they're willing to maybe split the middle with you a little bit as you go into next year?

Jim, as we talk to our domestic customers it kind of goes in two phases. The first phase is volume and the second phase would be price. I would tell you, we're really in the early stages of the price. When we think about the relationships that we've created with our domestic customers, they go back a long way. We've worked hard on that. And we've always looked at our business with our domestic customers as a win-win. We'll see where this goes.

We're pleased with our volumes and our pricing this year. When we got those done, the market deteriorated and the international markets and I assume that as we go through those discussions now, we'll see some of that value be expected to give back for 2013. But right now, we're having meaningful conversations on volume and really hadn't gotten too heavily into price yet. I'm a little hesitant to talk much more about that. But we do value those domestic relationships that we have and look forward to continuing to build on those.

That's helpful. We'll look for an update next quarter, a little more intel. And for a follow-up, just broader topic on the export side, you guys have obviously had a pretty good export year and you're pretty bullish on the longer term outlook for exports. But, curious what you're thinking high-level for the industry on exports next year relative to the record levels we're doing this year, just given where prices are internationally for both thermal and met. Any early indications?

We continue to be bullish on the international markets. We're forecasting around 125 million tons of exports this year and fairly flat into 2013. Some guys are talking about declines but we, with the demand that we see in the Atlantic markets, in the Asian markets, our internal forecast right now are kind of flat year-over-year.

That would certainly be bullish. Thanks, John.

Thank you.

David Gagliano, Barclays.

I wanted to ask a couple of follow-ups. On the $12 price in the PRB for 2013, just want to make sure -- is that all new business or is there any deferral's or anything like that in the mix?

That was pretty much new business. Obviously, Dave, the majority of that was 8800. Yes, that was mostly new business.

Okay. Thanks. And then on the -- I have one follow-up. I'm going to ask a two-part follow-up. On the PRB I was wondering if you could give us a reminder what your annual capacity is out there and then -- that's part A. And then part B, unit costs in the PRB obviously optically a good number. I actually would have thought with a 27% sequential increase in volumes that your unit costs would have come down more than 0.8%. I'm wondering, is there more room to go on the unit cost side on the down side or is there something that's keeping it pretty sticky. Those are my two follow-ups.

On the cost side, I think, as I said, I think the guys did a pretty good job. Obviously, we're trying to weigh the production and the cost as we go through the year and clearly with the capacity, the idle capacity we have, we have quite a bit of room. I think we've stated in the past, we have about 140 million tons of stripping capacity and even more of that capable of load-out capacity. So as the volumes come back to a more normalized level, I still feel pretty good about the cost outlook and think the mine is very competitive with its peers.

Thanks. That's helpful. I will turn it over to somebody else. Thanks.

Holly Stewart, Howard Weil.

John, one for you. You mentioned you signed several deals with power generators in Korea. Can you give us some details? Are these new customers, existing customers? Margins, kind of compared to US?

Holly, we're a little reluctant to talk about any details, any terms or conditions, other than to say they were Korea utility companies that we have sold short-term coal before. We've established a long-term relationship with them. We feel privileged to be able to have that opportunity and really a little hesitant to say much more about it than that at this point.

Okay. So existing customers though, but from the past.

Yes, short-term customers that we have never had long-term agreements in place with.

And this is for '13?

Yes.

And then I guess my follow-up would be for Paul. How should we think about cap volumes here going forward, maybe versus 3Q levels. For '13 would using maybe less than a 10 million-ton rate be a good starting point?

I think John talked about this a little bit, Holly. We're still trying to look at our 2013. We've cut our volumes and we brought ourselves in line with what we think the market is and we'll continue to operate that way in the future.

Okay. Perfect. Thanks, guys.

Thanks, Holly.

Chris Haberlin, Davenport.

I think you mentioned in your prepared remarks that you lost 300,000 tons of high quality met coal in the quarter. Can you just expand on those comments and was that domestic or export business and what was the situation there?

Yes, it was one customer, Chris, here in the US that we had 300,000 come back to us. We're working with that particular customer on preserving that value in future years and as we stand here today feel reasonably confident we'll be able to do that.

And was that related to price or the customer just didn't need the coal? Can you expand on the reason why they pushed back on that volume?

It was the inability to take the coal at this time. It really was not price driven.

It was an issue they had.

Okay. On your outlook for inventories to potentially fall below 180 million tons by the end of the year, can you just give us a little bit more color on how you're getting there? Given strong thermal volumes across the industry in Q3, and guidance suggests that, that probably carries over into Q4, I'm just trying to reconcile really how you're getting that low given that the latest EIA data's in the 185 range and looks like it's coming down in the mid-170s at the end of August.

Yes. I mean, I think it's driven by a couple things. One, it was a strong draw this summer. I think that 25 million-ton draw we saw from May to August, pretty good draw as we move into the winter season. I think given where gas prices are, you should see utilities pulling their inventories pretty well. And we assumed in our analysis that we would have normal winter weather and that's kind of how we're coming to that 180 million tons.

Okay. And then just last question. Can you give us your view on the competitive dynamics in the PRB. You had -- one of your competitors indicated that they were reigning in production and obviously prices have been low although you all did achieve some decent pricing for next year. What are you seeing out there and to what extent do you see that the market might be over supplied and that might be keeping a lid on prices today.

Well, as I said earlier, we're in the budgeting planning process for 2013 and I think we'll be able to update you more in our January call. We're pleased with what we were able to sell during the third quarter for 2013 and continue to be selective on a case by case basis in terms of opportunities. I would say that we cut back earlier in the year, and as Paul indicated, we brought one of those drag lines back but we still have two idle. Based on what we see with natural gas prices we think PRB does very well. I think a lot of the driver will be what happens with winter weather as we move into the winter season and what kind of draw do we have on those inventories.

Okay. Thanks very much for the color and congratulations on a great quarter.

Thank you.

Lucas Pipes, Brean Capital.

Congratulations on a good quarter. If met coal demand stays weak, would it make sense for you to sell some of your low cost crossover met coal back into the thermal coal market and if it does, do you believe that would trigger additional cuts of high cost thermal coal production?

We always evaluate our market opportunities on a case by case basis. I think, Lucas, as we look at our portfolio in the east and particularly met as well as steam, we've got a cost structure that allows us to do pretty well even in tough markets. So I just think it depends on the opportunities at the time and we'll make the right business decision. But right now, as I see 2013, we're cautious but at least early discussions indicate that demand will be there. There might be some price pressures and we'll just have to make our decisions accordingly.

That's helpful. And then just on your Appalachian thermal coal business, I know it's not one of your major profit centers, but could you just give us a high level overview of what you expect for that going forward?

We really have very little exposure, Lucas, on cap thermal market. The exposure we do have is generally our Coal-Mac operation which is probably one of the lower cost operations in the region. I feel very good from that perspective about our position on thermal coal in the east.

In terms of 2013 demand coming back to the market, do you have any sort of idea, ballpark, how many million tons could come back?

I don't think we're ready to weigh in on that.

Appreciate your comments. Thank you.

Thank you.

David [Kavetski], Jefferies.

Great quarter. Couple questions here. First, can you describe a little bit more in detail what the legal contingency was? And the second question relates to the other income -- we got a little bit of color as relates to some swaps you had in the second quarter coming to the third quarter. Just give a bit more detail around what is in that other income.

David, this is John Drexler. Related to the legal accrual reduction, as I indicated in my prepared remarks there was a favorable court ruling related to a case that was originally associated with International Coal Group that we had an accrual established at the time of the acquisition. As a result of that favorable court ruling, we have reduced that accrual and so that's what you see coming through in this quarter. That ruling occurred during the quarter. What you see coming through other operating income is during the second quarter we recognized mark-to-market gains on API-2 positions that we had put in place in late 2011, early 2012, in anticipation of our export shipments into international markets. Those positions gained in value as a result in a drop in the API-2 price, a lot of that occurring through the second quarter. Those didn't have hedge accounting treatment. We couldn't get that from an accounting perspective, but essentially they're an economic hedge in anticipation of those shipments.

That P&L came through in the second quarter. As those positions come to fruition and expire they become cash. And so as they expire, in the accounting that we have, those reverse out of the derivative line item and then they come back down through other operating income. Over half of what you see in the other operating income line is associated with the monetization of those positions. We would expect that to continue into the fourth quarter if API-2 positions don't move materially from where they're at right now as several additional of the API-2 positions come to fruition.

So the second half of the other income was what? And also, back to the legal contingency, you said it has been reduced by basically $79.5 million. What is left? And then if I can, I have a couple other questions relating to the Leer Mine, specifically when the growth CapEx stops. And it seems like you're at about $50 million a quarter, is that is a good run rate to use and again when does that taper off and go towards maintenance.

We lost you completely on that question there. It was blank for a little bit. If you don't mind --

No problem. I wanted to ask a little bit more in depth had about those first two questions. The legal contingency -- you said it had been reduced, basically reduced by the $80 million. How much is left. That's number one. Number two, on other income, you mentioned that half of it was related to this mark-to-market situation. What's the other half? And then number three, if you could discuss a little bit more about Leer. I understand that's doing about $50 million a quarter in terms of growth CapEx. When does that taper off and go towards maintenance?

On the legal contingency I think the disclosure we have in our security filing kind of goes through the overall position that we have, so I really can't say a whole lot more related to the Allegheny case. In relation to other operating income, another large component flowing through there, about a quarter of it is our Night Hawk, our equity investment that we have 49% ownership in the entity in Illinois. So that represents about a quarter of it. And the rest is just kind of ongoing miscellaneous items that we see rolling over from quarter to quarter through there as well.

Okay.

Richard Garchitorena, Credit Suisse.

So couple quick questions. First, just on the three idled mines in central App, can you give us some color in terms of how much higher they may have been relative to the other mines in the east and when you also factor in the ramp-up of the Leer Mine, how should we think about cash costs in the east next year versus 2012?

Obviously, Richard, the three mines we idled were on the upper end of our cost spectrum which is why they were shut down. As far as 2013, I think it's a little bit premature really to get into those numbers.

Okay.

I think we've said, Richard, on the Leer project that we don't expect any negative impact on our overall Appalachian cost when we bring the Leer Mine on. Certainly implying that's going to be a very cost competitive mine as we move forward.

Okay. Great. And my follow-up, I believe in your prepared remarks you stated you had about 75% of thermal price for 2013. I was just curious, heading into the back half of this year where would you like to be on a percentage basis as you look at the portfolio and basically make a decision between leaving the tons in the ground or trying to price them in a market that may be weakening.

I don't think we have any magic percentage. We feel pretty good about our 75%. Again, as I've said a few times, a lot of the opportunities are going to be driven by what we see in terms of the weather this winter, particularly for some of our PRB customers. But we've continued to have activity even after the close of the quarter and would expect that to continue and we'll make a decision on a case by case basis whether it makes good business sense for Arch Coal.

Okay. Thank you.

Thank you.

Operator Instructions

Curt Woodworth, Nomura.

In terms of the ASP this quarter, $105, and you talked about booking high-vol B in the low $80s, or I think you said $80 a ton. Given the fallout of some of the higher quality business, maybe just a mix change from the idling or the closing of three mines, what would you estimate to be your blended spot ASP in met today?

Curt, if I heard your question correct, I think if you look at our shipments this year we're about 30% or 35% high-vol A and about 65% or 70% high-vol or PCI.

So where would you peg high-vol A right now for you guys?

Given the fact that we're in discussions with a lot of our customers here in the US, I would be a little bit hesitant to say anything relative to pricing. I think, obviously there's a spread between high-vol A and high-vol B. As we bring the volume on with the Leer project we expect to capture that premium in the marketplace and given our low cost at that operation, we are expecting enhanced margins as we move out over the next couple of years. We're moving from, say, a 70 percentage from high-vol B and PCI today, 30% high-vol A low-vol to more of a 45% to 50% range as we get the Leer project up to full production.

Okay. Just quickly, what percent of your met production is export?

Year-to-date, we've done about 60% of our met production gone to export.

Great. Thanks a lot, guys.

Thank you.

Dave Lipschitz, CLSA.

In terms of with all the blast furnaces down in Europe, are you having any more inquiries from the Europeans in terms of your met tons and things like that or is it still pretty slow?

We haven't really started our discussions very heavily for our international customers in Europe yet but the marketing guys were just over there a few weeks ago and actually we're somewhat cautiously encouraged by at least the demand opportunities they're seeing over there. We're quite a ways away from settling anything for next year but right now we feel okay about at least the demand volumes that we're seeing.

Okay. Thanks.

Thank you.

Andre Benjamin, Goldman Sachs.

You have a lot of cash on the balance sheet and nothing drawn on the revolver. You're also still guiding to some pretty healthy growth rates for met coal for the next couple years, I think it's around 15 million tons by 2015. It doesn't seem like you're going to spend that much further on growth next year based on what you laid out. I was wondering if you could help give us a little color on how you're thinking about balancing paying down debt versus growth over the cycle, say over the next three four years and give us a sense on what you think the appropriate level of leverage is and spending is for the next couple years.

Andre, John Drexler here. As we look forward with some uncertainty in some of the markets as we talked about here, we think liquidity right now is a place that we want to be very prudent and enhance that liquidity so we do have that cash on the balance sheet. We'll carefully watch the markets as they continue to evolve. As you've indicated, our belief here intermediate, long-term is we still feel very good about where things ultimately are going to go. As we've stated previously, as this market does turn, our focus will be on deleveraging the balance sheet. We're at higher levels of leverage than we would normally like but we need to be very prudent with what we see right now as we move forward. So that's kind of where we stand as we look forward over the next several years.

Is there a target that we should think about you guys trying to get to over the next couple years and when would you have to maybe start spending on some of the other growth projects to still hit those targets?

I think we've said this before as well. Long term, I think if you look back historically we've always been in that mid-40% debt-to-cap as being a comfortable place for us in the capital structure. Clearly above that right now. Long term over the long market cycle here, multiple years, I think that's an area where we would like to be around in that area longer term.

And we do have a number of growth options; it's just going to be driven by market opportunities.

Thank you.

Wayne Atwell, GHS.

Congratulations on a great cost profile.

Thanks, Wayne.

Maybe it's a little early to talk about this, but I wondered what your thoughts were in terms of how much your export volume could grow over the next few years. I realize you may have some trouble getting specific, but are we looking at 20 million or 30 million tons or where do you think it could be three, four, five years out.

As you know, we've been pretty proactive in going out and getting port infrastructure in place, whether it's East Coast, Gulf, West Coast. We think that's going to serve us well as we see the demand growth in the global markets. As we indicated, we've exported about 10 million tons year-to-date and would expect to do about 12 million this year. That's up from 7 million tons last year, and really five years ago, probably a couple million tons. He we have grown that pretty significantly as a Company over the last five years and would expect that to continue. I've said publicly in some of my speeches that we would hope over the next five to eight years that we would be 30-plus million tons in the international market. Obviously, that's going to be driven by the opportunities we see in that market versus here in the US. But given all the new coal fired generation that we see being built around the world, we think that's a very achievable volume.

Thank you. I would assume India's going to have to bring in a lot of coal to grow their power capacity, so I would imagine that's a pretty attractive market.

Well, India's going to grow pretty significantly. We still haven't given up on China; we think that growth is going to be strong. We think imports this year are going to be in the neighborhood of 220 million 225 million tons. Everybody talks about China and how it slowed down but the imports are still strong. We've developed a nice market in Korea. We think there's going to be opportunities in Japan and Taiwan. And then as we've watched the coal flow changes over the last couple years around the world, more South African coal, more Russian coal's going into the Asian market as well as Colombian coals. We think it creates a real opportunity for the US coals in the Atlantic market.

Thank you.

Thank you.

Paul Forward, Stifel Nicolaus.

We've seen coal markets have gotten a little less dire here, at least the outlook on valuations in the sector with natural gas coming off the lows of where it was six months ago. I was wondering, and John, I think you talked about de-leveraging as a goal. I was wondering if you've done any revisiting of the idea of divestiture of some operations that might not be quite considered core to Arch's future or is it still too much of a buyer's market for Arch to really be considering any divestitures?

Paul, it's John Eaves. You've heard me say before -- we've always been buyers and sellers of assets and we'll continue to do that. We have an ongoing process within the organization where we're always looking at our portfolio, seeing what makes strategic sense, what doesn't. I would agree with you in this environment, it might be tough, but we're not going to buy or sell assets. We think what we have has value and we want to get that value. If somebody's not going to give us that, we'll retain them. But I would tell you that it's always something that we continue to look at and we'll make the appropriate business decision.

Okay. Thanks.

Thank you.

Justine Fisher, Goldman Sachs.

I just have one question about the CapEx budget and what you guys are doing on the maintenance side to get it so low. If I look back to Arch's historical CapEx levels, even in 2009 and 2010, full year CapEx was I think $320 million or something like that, and that was before you bought ICG and that was excluding the $100 million that you're expecting for 2013 for the Leer Mine. So I'm just wondering what you guys are doing to get the maintenance numbers so low such that Arch plus ICG plus Leer is the same level that it was in 2009 and 2010.

Justine, this is Paul. I think if you recall from our last quarter conference call, one of the huge benefits we've had from idling a lot of the early mines in the east is we freed up a lot of fairly new equipment we acquired from ICG. And we had estimated that was going to be in roughly the $35 million value range. I think I've been very pleasantly surprised where that's come out. That's where you're seeing a lot of it next year.

Just as a follow-up, do you think that, that level is -- it seems to be somewhat of a bare bones level as far as the maintenance goes. Do you think that's sustainable in future years?

I think over time it normalizes, but for '13 I feel very comfortable.

Great. Thanks very much.

Lance Ettus, Tuohy Brothers.

Congratulations on the quarter. Just wanted to know -- it seems like you made the right decision by producing a little more PRB because the incremental costs were lower than the price you're getting, but I still don't think that's probably economic long-term given what you pay for the coal leases and given what you've gotten for PRB in the past. So it also seems like you have -- you don't have maturities till 2016 so it seems like you've set yourself up to weather the storm here. Just wondering if there's any reason, anything that would stop you from maybe even cutting back on production, taking that hit in the short run like you did last quarter for, any more extended period of time in the future, if you don't see PRB prices up towards that let's say $13 level.

Yes, I think we continue to evaluate the market and want to be market driven and we're going to make good business decisions and as I indicated earlier, we're in the stages of our planning and budgeting process and should be able to update you much more in January. But we're pleased with what we were able to sell during the third quarter for 2013. We've had further activity and I think a lot of it will just depend on what we see in terms of opportunities. Certainly pleased with where we see natural gas levels today as well as 2013 and would expect with normal weather conditions to see those inventories start coming down and creating more opportunities for PRB. At this time -- I'm sorry, go ahead.

Thank you.

Thank you. At this time this does conclude our question-and-answer session. I'd like to turn the call back over to John Eaves for any additional or closing remarks.

Yes. First of all I'd like to thank all the Arch employees for their focus during the third quarter on safety, environmental performance, and cost control. We think we've positioned the Company very well for the future. We're planning for more of a cautious 2013 but we do think with our cost structure, our ability to manage our capital, that we are well positioned for the next market upturn. We look forward to updating you on our next call in January. So thank you for your interest in Arch Coal.

And that does conclude our conference for today. Thank you for your participation. You may now disconnect