Alliance Resource Partners LP (ARLP) 2010 Q3 法說會逐字稿

Good day, ladies and gentlemen. And welcome to Alliance Resource Partners LP, Alliance Holdings GP earnings conference call. My name is Carma, and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. (Operator Instructions)

I would like to turn the call over to your host for today, Mr. Brian Cantrell, Senior Vice President and CFO. Please proceed, Mr. Cantrell.

Thank you, Carma. And welcome, everyone. We appreciate your interest in Alliance Resource Partners, which this morning we refer to as "ARLP," and Alliance Holdings GP, which we will refer to as "AHGP." We released our 2010 third quarter earnings earlier this morning and will now discuss these results as well as our outlook for the remainder of 2010. Following our prepared remarks, we will open the call to your questions.

As required, we will start with a few reminders. First, since AHGP's only assets are its ownership interests in ARLP, our comments today will be directed to ARLP's results and outlook unless otherwise noted. In addition, please be aware that some of our remarks may include statements which are not historical in nature and may concern future expectations, plans and objectives of the partnership regarding their future operations. Such comments constitute forward-looking statements made pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995 and are based on the beliefs of the partnerships and those of their respective general partners and management, as well as assumptions made by and information currently available to them.

Although the Alliance partnerships, their general partners and management believe these forward-looking statements to be reasonable at the time made, no assurances can be given that such statements will prove to be correct. Forward-looking statements are subject to a variety of risks, uncertainties and assumptions which are contained in our filings from time to time with the Securities and Exchange Commission and are also reflected in today's press releases from the partnerships.

If one or more of these risks or uncertainties materialize, or if our underlying assumptions prove incorrect, actual results of the partnerships may vary materially from those we anticipated, estimated, projected or expected. In providing our remarks this morning, neither ARLP nor AHGP has any obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise.

And finally, we will also be discussing certain non-GAAP financial measures. Definitions and reconciliations of the differences between these non-GAAP measures and the most directly comparable GAAP financial measures are contained at the end of the ARLP press release which has been posted on our website and furnished to the SEC on Form 8-K.

Now that we're through with the preliminaries, I'll turn the call over to Joe Craft, our President and Chief Executive Officer. Joe?

Thank you, Brian. Good morning, everyone. Thank you for joining us. As announced earlier today, ARLP again delivered exceptional quarterly results. We set new records for sales volumes, average coal sales price and revenues and saw EBITDA climb by 64% and net income more than double from a year ago. As we'll discuss in a moment, this performance keeps ARLP firmly on track to deliver our tenth consecutive year of record results.

Our year-to-date performance, strong contractual position and positive long-term market fundamentals also gave our directors the confidence to again increase distributions this quarter to ARLP unit holders by 2.5% over the prior quarter, to $0.83 per unit, and to AHGP unit holders by 3.6%, to $0.50 per unit. These cash distribution increases represent a 9.2% year-over-year increase for ARLP unit holders and a 13.6% year-over-year increase for AHGP unit holders.

ARLP continued to add new sales commitments during the 2010 quarter. Specifically, negotiations are substantially complete with three separate customers to deliver approximately 4.4 million tons of coal beginning next year and continuing through 2015. With these agreements, ARLP has secured commitments for approximately 90% of our anticipated 2011 production.

Looking beyond 2011, we see a number of factors pointing toward favorable supply-demand dynamics in the domestic steam markets. Hopefully, we will see the US economy beginning to improve over the next two years and beyond. Domestic electricity consumption should trend higher as a result, leading to increased demand for thermal coal. We believe export metallurgical coal demand will remain high. And we are seeing positive signs for increasing export thermal coal opportunities as well.

We expect producers may have difficulty responding to this increased demand due to challenging regulatory burdens likely to persist under the Obama administration. This will continue to impact Central Appalachian production more than the other producing basins.

In summary, we believe the long-term price outlook for coal in our markets remains positive. ARLP also continued to make progress on its growth initiatives during the 2010 quarter. Performance at River View remains above original expectations. And development of our new Tunnel Ridge mine is moving ahead toward its scheduled startup of longwall production in late 2011. With River View now expected to annually produce more than 7 million tons, and anticipated Tunnel Ridge longwall production of approximately 5.7 million tons per year, ARLP is on track to meet our goal of growing production by at least 10% annually for the next couple of years.

We are also pleased to report that ARLP has again been recognized for consistently delivering exceptional returns to our unit holders. In an updated recently released ranking by Standard & Poors, measuring total returns to shareholders over the last ten years, ARLP now ranks 29th out of approximately 10,000 companies, having delivered compounded annual returns of 31.1% to our unit holders during this period. Last year, we thought being 39th was outstanding. Considering our current year results and outlook for significant volume growth, our strong contract portfolio and positive long-term market fundamentals, we are hopeful we can keep moving up in S&P's rankings.

At this time, I'll turn the call back to Brian for a more detailed look at our financial results after which we will be happy to address any questions you may have.

Thanks, Joe. As has been the case in each of the previous quarters this year, financial performance in the third quarter was once again led by record coal sales volumes and price realizations. Coal sales volumes climbed 24.2% over tons sold in the 2009 quarter to 7.7 million tons, primarily on higher sales volumes at River View as well as increased sales from Mettiki into the export market. ARLP continued to benefit in the 2010 quarter from its strong contractual provision as average coal sales prices improved in each of our operating regions to a record $51.68 per ton, a year-over-year increase of $6.10 per ton. Driven by higher sales volume and prices, ARLP posted record revenues of $410.4 million during the 2010 quarter, a jump of 37% compared to the 2009 quarter and $1.2 billion for the first nine months of 2010, an increase of 27.7% over the comparable 2009 period.

On the strength of these top line results in the 2010 quarter, ARLP also delivered significant growth in EBITDA, which increased 64% compared to the 2009 quarter, and net income which more than doubled to $73.2 million. Strong coal sales year to date also contributed to reduced coal inventories as our inventories have fallen by more than 50% since the beginning of the year.

As Joe mentioned earlier, our performance in the 2010 quarter kept ARLP on track to deliver another record year. Comparing results for the first nine months of 2010 to the same period in 2009, we have seen significant increases across the board and posted records for all major performance measures. Our tons produced were up 10.7%. Tons sold increased by 19.6%. Revenues were up, as mentioned earlier, 27.7%. EBITDA increased 42.6%, and net income rose by 55.3%.

As previously discussed, quarterly unit holder distributions have increased at ARLP and at AHGP by 9.2% and 13.6% since the 2009 quarter. While ARLP's 2010 coal production has consistently exceeded prior year levels, mines in each of our operating regions did experience production challenges during the 2010 quarter. In the Illinois basin, production at Pattiki remains restricted. We are currently operating six unit shifts at Pattiki and hope to add two more unit shifts in the fourth quarter of this year, bringing Pattiki back to full capacity by the end of 2010. At our Gibson mine, a roof fall on the main belt line disrupted operations for approximately two weeks resulting in lost production and increased expenses related to repairs. In northern Appalachia, sandstone intrusions impacted productivity at our Mountain View mine during the 2010 quarter compared to the sequential quarter. And in central Appalachia, production continued to be hampered by ever more costly and burdensome regulatory scrutiny.

The impact of these issues contributed to higher segment-adjusted EBITDA expense per ton both year over year and sequentially in all of our operating regions. As we expected, increased production volumes, higher coal sales, sequences related to producing metallurgical quality coal as well as purchases of outside coal for sale into the export market also contributed to higher operating expenses in the 2010 quarter.

Our capital expenditures during the 2010 quarter totaled approximately $58.9 million. And we continue to expect total CapEx for 2010 in the range of $285 million to $325 million, including maintenance capital. Our balance sheet has remained strong through the year, even as we continue to build for the future and deliver strong distribution growth. This strength was evident in the 2010 quarter as ARLP's liquidity improved sequentially to approximately $151 million.

Based on our year-to-date performance and expectations for the balance of 2010, ARLP now anticipates coal production in the range of approximately 29 million to 29.6 million tons and coal sales volumes in the range of approximately 30.2 million to 31 million tons, essentially all of which has been priced and committed. ARLP continues to expect 2010 revenues, excluding transportation revenues, near the upper end of its previously provided range of approximately $1.5 billion to $1.6 billion. In addition, we are maintaining our 2010 estimated ranges for EBITDA and net income of approximately $475 million to $515 million and $305 million to $335 million respectively.

This concludes our prepared comments. We appreciate your continued support and interest in ARLP and AHGP. And now with Carma's assistance, we will open the call to your questions.

(Operator Instructions) And the first question comes from the line of Dave Martin from Deutsche Bank. Please proceed.

Yes, thank you. And good morning.

Good morning, Dave.

Good morning.

I wanted to start with sales commitments. I know at the beginning of the call, you noted you've booked some business with three customers over the next four years. Previously in your press releases, you included some details on committed sales out through 2013. Can you give us updated figures, or should we just assume that those are largely unchanged?

No. We can give you our current status. As we mentioned just a few minutes ago, Dave, we are essentially sold out for 2010.

Sure.

We currently have commitments for both volumes and price of about 31.6 million tons next year. We have commitments in 2012 of about 24.6 million tons. Roughly 2 million of those tons remain open to pricing. And in 2013, we're looking at roughly 23.6 million tons committed, with about 6.2 of those open to pricing.

And the 4.4 million that were mentioned are not included in those numbers because they haven't been actually inked.

But they've not yet been executed. But we've concluded negotiations --

And those would be added. Those would be added to the ones Brian just mentioned.

Okay. And then secondly, I just was hoping to get a few more details on your export business. What were your exports in the third quarter? What are you expecting in the fourth quarter? What's the mix between met and thermal products? And then also on the export business, I'm curious, there was a comment in your press release which I interpreted to mean that your export sales contributed to lower prices quarter over quarter. I wanted to understand that a bit more. And then lastly, I'm just curious as to whether you're seeing any impacts from port issues and/or other logistic issues on your ability to export out of the US.

I think, first off, our exports at this moment in time is all tied to our metallurgical contract that we mentioned previously, which is a million tons per year, with April 1 to March 31. And that shipment is pro rata. And we've been shipping pretty much consistent with the contract.

Okay.

So the next question, the cost or market, I'm not sure what you're reading. Obviously, our price was up in the third quarter. And that was driven in the northern Appalachia. And our met coal is sold in northern Appalachia. If you look at our press release, and our pricing is up. Now, relative to sequential quarters, there's some timing issues there back to the mix between steam and met.

As well as development production out of Tunnel Ridge during the quarter too.

Right. Our sales price is consistent with what we shared with you before on metallurgical. And our costs are higher because of that product.

Okay.

The sales price is still slightly more than $100. And your -- you had one other question on the port capacity?

Yes. Just logistics issues in the US.

We do not -- we have not seen any constraint for our product which is going out of Baltimore.

Okay.

As we look to the future and see the export opportunities, most of those would be out of the Gulf for us as we look to the future of participating in the export steam or thermal markets.

Okay. Thanks for --

We don't anticipate any constraints there, either. Next question?

And the next question comes from the line of Jim Rollyson from Raymond James. Please proceed.

Good morning, Joe and Brian.

Hey, Jim. How are you?

Good. Joe, I guess just circling back to the contract position going forward, can you give a little color on kind of what's in there from a pricing standpoint, maybe relative to what you're looking at averaging in 2010?

Yes. I think our pricing -- we are projecting that our pricing will be higher year over year. We're not quite finished with our budgeting process. But I'd say that right at this moment, we'd be looking at something better than this year but probably no better than 10% above this year on an average sales price basis. So it will be somewhere between our average price for this year and 10% higher.

Consolidated.

Consolidated.

Yes. That's helpful just in making sure we're all on the right page. On the cost side of things, obviously a number of things hit you, and sounds like particularly in the northern and central App this quarter. If you think about this going forward, how many of the issues that drove costs higher this quarter were kind of these sometimes recurring but one-off issues like the roof fall and what have you, versus ongoing things that will carry going forward? Or maybe an easier way is, how do you think costs trend, starting in the fourth quarter relative to the third quarter?

I can take that, Jim. In the Illinois basin, we're looking at costs that are roughly comparable, maybe down a little bit year over -- or quarter over quarter, Q3 to Q4. You don't anticipate falls to shut down one of your most profitable mines for two weeks, but they can happen. But we should be relatively stable in that region, hopefully. In central App, the challenges that we're facing with MSHA are a daily occurrence. The district that those operations happen to be in, the level of scrutiny and the strictness of interpretation on rules and regulations is very different and much more onerous compared to our other operations. We don't expect that to change.

At least you're not based in Richmond.

And northern App, the sandstone intrusions that we saw at Mountain View during the quarter, we have worked our way through. So we would hope that costs will improve somewhat in the fourth quarter. But we are also facing a few longwall move days in the fourth quarter that we didn't experience in the third quarter. And then, of course, just your normal annual cyclical issues around holidays, vacations, et cetera, tend to impact costs in the quarter as well.

Got you.

Overall, sequentially, we should be in the ballpark, potentially, of where we were in the third quarter, plus or minus a little bit either direction.

Understood. And, Joe, as you think about these issues in the East in particular, from a regulatory standpoint -- and obviously, you mentioned we're probably stuck with this situation for another couple of years. How do you think about that impacting production out there? I mean, there's some guys thinking this is probably not going to -- because of the lack of permits, it doesn't really start meaningfully impacting the market till you get into the 2012, '13 kind of timeframe. Do you think that's accurate? Do you think it's sooner? Do you think it's later? Just kind of what's your gut feel?

I think that's accurate. I think that the dust regulations that came out in draft form probably won't take effect till '12. The permitting issues, based on what we are tracking, is more of a 2012 issue. But the continued ventilation issues and other things that they're hitting us with today, that could impact some production sooner than later, where people just throw up their hands and say, "Forget it." But so that could affect some production. But I would say, when you're looking at material tonnage, it would be in the 2012, 2013 timeframe. I think that's probably pretty accurate.

Okay. Great. Thank you, guys.

Thanks, Jim.

And the next question comes from the line of Joel Harvard from Hilliard Lyons. Please proceed.

Thank you. Good morning, everybody.

Hi, Joel.

So my question kind of echoes the previous -- one of the previous, but is more backward looking, actually. The production margin differential from Q2 to Q3, Brian, can you give us a sense of either a dollar or a percent of sales impact that some of these operational challenges exerted? I caught your answer that you're looking for an operating expense environment for Q4 that looks similar. I'm just wondering if you can give us a sense of what part of that may be moderating beyond Q4 as we get some of these, I guess, on-the-ground issues resolved. And then second question would be, have you drawn forward enough CapEx into that forecast for this year that 2011 starts to go down, or is there another bogey to deal with?

Well, let's take the second one first. On CapEx, we've been consistent through the year in terms of what our expected ranges are going to be, and don't obviously see any changes there. Looking into '11, as Joe mentioned, we are still in our planning process, still making (unintelligible) to some degree, but we're continuing -- we'll have continuing construction going on at Tunnel Ridge. A wild card that we're trying to get our arms around in the accounting world, as you're building an operation like that, you do have capitalized development costs, capitalized interest costs that can be meaningful if the plan start date shifts by a month or two months. So we're working through all of those. Can't really give you a precise answer on what CapEx is going to look like as a result. But I don't think that you should anticipate seeing a significant downturn in CapEx. It could be up slightly depending on the timing issues that we just talked about.

And some other projects that we're looking at for -- and we're always looking for ways to improve our operations. So I think if you strictly look at the cash expenditures, they're going to be comparable in '11 as they were in '10.

That's fair.

CapEx.

The other major issue that we're trying to get our arms around is on maintenance capital, continuing evolution, if you will, of regulations under MSHA, how the dust standards, by way of example, are going to impact us. And just how that plays out could have an impact on maintenance capital going forward. So we're --

Joe, does some of that '11 -- 2011 thought process have to do with maybe exploring these export opportunities as well? Is that something y'all have to absorb?

No.

Okay.

No, it doesn't. That would not impact our costs --

Okay.

-- in that regard. We would -- it's not factored into --

Downstream. All right. Thanks for that. And then, Brian, any thoughts on the first part of that long-winded question?

It was a good two-parter. I think probably the best way to look at the margins that you are referring to, we expect to see -- our prices are pretty well locked in and determined. We think those will be reasonably consistent quarter to quarter. And I already talked to what we expect to see on the expense side, reasonably consistent with where we were in the third quarter, when you look at the fourth quarter sequentially. So margins should reflect that. I'm not sure if I can get a whole lot more granular than that at this point, Joel.

Okay. Well, just one followup, then. So the 2 or 3 percentage-point swing in production margin from Q2 to Q3, what I'm really trying to get a sense of is working through the engineering-related issues that y'all discussed, getting into 2011, can you -- are you comfortable that you can carve some of that back for the company?

From a margin standpoint, and moving into next year?

Yes, sir.

Yes. I think you have to recognize we'll have a full-year worth of production at River View. It's a very efficient mine. And we were still in a ramp-up phase this year. As Joe alluded to, we are seeing -- expecting to see improvements in our pricing. We do have the cost pressures that we talked about. But I don't think we are --

Get Pattiki back to full production capacity next year. So that's going to help us.

So I -- the accounting around the construction at Tunnel Ridge, as I mentioned, is a little bit complex. But I don't think we're anticipating -- I think it's safe to say we don't anticipate margin erosion --

Okay.

-- in 2011. But getting precise in terms of growth around that is a little bit difficult until we finish our planning process.

Sure. Well, thanks for that answer, guys. Good luck.

Thanks.

(Operator Instructions) The next question comes from the line of Ron Londe from Wells Fargo. Please proceed.

Thanks. Your million tons of met coal per year that you export, can you give us a feel for how much that is priced through 2011 and how much is priced on a quarterly basis, and what your indications are for pricing for maybe the first quarter of 2011 and the second quarter of 2011 at this point?

Our contract is an annual priced contract. And so -- and it runs from April to March. So we will have the slightly more than a hundred hours at the mine pricing for the first quarter of 2011. And we've had certain discussions about the outlook. We believe that we can maintain our million-ton level for the following year. And we would expect, if markets stay where they are, that that price will be equal to or greater than our price this year.

Okay. From the standpoint of your overall inventories, where do you think you'll be at the end of the year?

We do expect them to trend back down to more normalized levels, which have been in the 250,000 to 350,000-ton range. And we would hope that we'll see them at that level this year as well.

If everything works as planned, it would be right at 250.

250. Okay. And can you give us any feel about how the unusually hot weather conditions in the third quarter benefited the overall operation from the standpoint of reducing inventories or price of coal?

We did see, in our markets, that the demand was higher, basically around 7% in the Midwest and 3% in the East. We haven't really seen a lot of spot activity around that. But I think that, given the amount of contracts that we put to bed last quarter and this quarter, there has been activity for customers looking to fill their book, so to speak, between -- for the 2011, 2015 timeframe. Now, whether that's weather dependent or just normal buying practices on their part, it's probably more the latter than it is the former.

Okay. Thanks. Appreciate it.

Thanks, Ron.

The next question comes from the line of John Tysseland from Citi. Please proceed.

Hi, guys. Good morning.

Morning, John.

Given the rash of NLP simplifications and GP buyouts over the last six months, I suppose, just wanted to get your opinion on these transactions and whether you feel this is something that ARL -- that might make sense for ARLP. And I guess ARLP is in a little bit of a different situation. Even after CapEx and distributions, the partnership will be close to free cash flow positive or neutral in 2011. So the cost-capital argument does not necessarily make sense, but I was still interested in your view.

We have looked at that, as you can imagine, given the fact that everybody else has looked at it as well in our space. I think the issue for us is we've got such strong growth. And you just mentioned cost-to-capital really hasn't been a restraint on our ability to grow, that it's very difficult for -- at market prices that we're trading at, it's hard to get a transaction done because we see so much growth that the premium that would need to be paid is so high for AHGP that it's a challenge to get a deal done at that level. So we're not pursuing a total buyout today. We don't -- we've looked at it, and we've decided we're not going to pursue the total buyout by ARLP of AHGP. It just doesn't seem prudent for AHGP to sell at those prices.

Because of those valuations, a complete buyout at premiums that are -- have been set in precedent transactions is -- would be highly diluted at the LP level. And you mentioned the cost-to-capital. And as you are well aware, John, the wedge capital that is assumed in a lot of those cases, their share of the dilution turns relatively quickly. That just doesn't really apply to us.

That's fair. Does that view change, do you think, if you have a large project that's kind of in front of you, or maybe if an acquisition or something like that materializes in the future? Do you think about it differently in that way?

We do look at our cost-to-capital going forward. As you know, our balance sheet is pretty strong. We've got significant leverage capacity available to us. So when you look at the overall mix of capital for a larger transaction, again, I don't see it as being constraining on our ability to execute. As Joe said, we're not planning on -- we have no intentions of doing a total simplification transaction. Because of our access to all of the markets that are available, we just don't see it as being an issue that would hamper our ability to grow in the future.

And it's hard to see -- to speculate on a transaction that would change our minds in this time period. Three years from now, four years from now, five years from now, who knows what's going to happen, but --

Yes. You can never say never, but it doesn't appear to be a hindrance to us today.

That's great. That's very helpful. Thank you.

And the next question comes from the line of William Adams from SAMCO. Please proceed.

Hey, good morning.

Hi, Bill. How are you?

Good. Can you give us a little more details on the -- I was just trying to figure out your maintenance spending for your (unintelligible) third quarter, maybe for the year. Should we use what was at the second quarter level on a per-ton level or what? And then, I think, Brian, in the past, you talked about getting like $4 a ton. Is -- that would be a good starting point for next year?

As you know, Bill, we'll update that in the first quarter once we finish our planning process. I think for -- until then, I think using the per-ton maintenance CapEx that we've suggested is appropriate is still appropriate. There have been increased regulatory burdens, et cetera, that will likely impact our costs. But until we get through the planning process, it's difficult for me to update that number. So until then, I would stick with the -- I believe it's roughly $4 a ton that we've suggested is appropriate at this time.

The second quarter was like around 360. Is that --

No. The way we look at this is, what would we expect to see maintenance CapEx be in over a five-year period of time. We really don't try to get into the quarterly fluctuations that will occur with maintenance schedules. You may have a higher number of rebuilds in quarter A versus quarter B. So to try to have it swing quarter to quarter, given our long-term outlook on how we view distributions and distribution growth, just seems -- doesn't seem to be a clean way to look at it. So when we give you that number at the beginning of each year, it's our view of what we would hope to see maintenance CapEx be over a longer period of time that takes out those quarterly fluctuations.

So maintenance capital is going to be -- potentially, it's going to be higher than your operating necessities that you might see in our quarterly results, because operating -- as we run our plan day to day, our operating necessities or the actual cash that goes out on these recurring basis for the quarter, as Brian said, our maintenance capital number is looking at a longer time period. What does it take for us to maintain our EBITDA levels? And we update that once a year. And it has been trending up. And your question is, is $4 a good number for first quarter? It probably is, until we get final final. As soon as we get final, we'll tell you. But (unintelligible).

Okay. I guess I was more interested in getting -- calculating a number for the third quarter because it would -- do you have a coverage ratio for the third quarter, of your distribution?

Yes. I think our --

It's 1.75 total.

Okay.

Using a $4 number. It's 220 for the LP.

For the LP.

Okay. And then, Joe, could you just maybe talk about what you're seeing in the marketplace for acquisition opportunities and for the multiples -- how the multiples changed over time. And you've been pretty disciplined in approaching that, but just wanted to get your thoughts.

A lot of the activity has been driven by met coal. So that obviously changes the multiples. And if you look on the steam coal side, there really hasn't been a whole lot of acquisitions. Whether -- there's -- we're focused on our organic growth projects is the best way I can say --

Okay.

-- as I can say that, to answer your question, I don't -- I don't know that I can use a rule of thumb today on what a good M&A target would be because it's so specific to the asset, and there's just not a lot of activity to give you a rule of thumb in the coal business today.

Great. Sounds good.

Thanks, Bill.

And we have no further questions at this time. I would now like to turn the call back over to (unintelligible).

Carma, you cut out a little bit there, but that, I think, completes the Q&A and our prepared comments. I want to thank everybody for their participation this morning and their continued interest in ARLP and AHGP. We look forward to visiting with you again when we can report our 2010 full-year results early in the first quarter of next year. Thank you all very much.

This concludes the presentation for today, ladies and gentlemen. You may now disconnect. Have a wonderful day.