Peabody Energy Corp (BTU) 2005 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Peabody Energy Quarterly Earnings Conference Call. For today's call, all the lines will be in a listen-only mode. However, there will be an opportunity for your questions and instructions will be given at that time. [OPERATOR INSTRUCTIONS] As a reminder, today's call is being recorded.

I would now like to turn the call over to the Vice President, Public and Investor Relations, Mr. Vic Svec. Please go ahead, sir.

Well thank you, John, and good morning, everyone. Thanks for taking part in the Conference Call for BTU. We posted record results in 2005 and we're looking at even better performance ahead.

This morning Executive Vice President and Chief Financial Officer Rick Navarre will review our results and our outlook, and President and Chief Executive Officer Greg Boyce will discuss the markets as well as our growth initiatives.

I would note that all references to per share data this morning are on a pre-split basis. Forward-looking comments should be considered along with the risk factors that we note at the end of our release and the MB&A section of our 10-K. We also refer you to peabodyenergy.com for additional information.

And I'll now turn the call over to Rick.

Thanks, Vic, and good morning, everyone, and welcome to Peabody's year-end earnings review.

2005 has been another outstanding, record-setting year for Peabody, and 2006 is expected to be even stronger. Let me recap some of 2005's highlights.

We set new marks for industry sales while achieving record safety performance. For the fifth consecutive year Peabody established record revenues in EBITDA. Our operating cash flows exceeded $700 million, and net income increased to 423 million.

We began a number of important capital projects to meet growing customer demand. Peabody was named among Forbes' listing of America's best managed Companies. And our shareholders were rewarded with Peabody's highest single-year return. And we are confident these trends will continue in 2006 and beyond.

Now let's discuss the financial results in more detail, beginning with our income statement.

Our revenues grew $1 billion to 4.6 billion for the year. Peabody's operations ran at higher levels to deliver record volumes, driven by growing customer demand and higher prices in all our regions.

2005 EBITDA increased 56% to $870 million. Operating profit totaled 518 million and earnings-per-share of $3.15 was 128% higher than last year's number.

Turning to the supplemental data, you'll note that 2005 revenues and volumes grew in all operating regions. Eastern U.S. and Australian revenues per ton were driven in part by higher prices for metallurgical coal, and our western U.S. revenues per ton benefited from higher prices in Colorado and in our Powder River Basin market.

Switching to operating costs per ton, increases in eastern costs reflect higher royalty payments, increased steel and contractor costs, and the early transition work at our high-margin Harris mine. Western costs were also impacted by revenue-driven royalty payments, fuel expense, transportation delays in the Powder River Basin, and the wind-down of the Black Mesa mine.

I would like to stop and rewind the tape for a minute. As you may recall, during last year's January conference call, we predicted we could limit cost increases to 5 to 6% despite industry-wide cost pressures driven by higher commodity costs, among a number of other issues. In fact, absent increased revenue-based taxes and royalties, we were able to contain our average U.S. cost per ton to 5%, in line with our earlier estimates, and our cost would have been much lower had the railroads been able to ship all the tons our Western mines were able to produce.

Once again, the value of our operating portfolio's diversity allowed us to dilute the impact of geology issues, external cost pressures, and the transportation-driven volume shortages.

We also attacked costs with consumption teams, process improvement efforts, and greater use of technology at our mines. And our hedging program effectively offset more than half of the $60 million of higher fuel costs we experienced during 2005.

Our operations performed very well this year, with eight mines setting new volume records, and our three Powder River operations were the most productive mines in the United States.

At the same time, our safety rate improved 33% from last year's best-ever performance, and nearly 50% since 2002. Our intense focus on safety resulted in zero incidents at several mines, making our results 45% better than the industry average. It is our long-standing approach that safe operations are more productive operations. And safety also helps us attract and retain employees in a market where experienced labor is scarce. Our overall goal remains zero accidents at all of our operations.

Peabody's margins increased in all operating segments, boosting operating profit per ton by almost 100% and operating cash flows nearly 150%, to a sizable $703 million. And we put our cash to good use to initiate a number of growth projects contained within our 2005 capital spending. You'll recall, we are investing more than 75 -- invested in more than 75 million tons of new or expanded capacity between now and 2010. Our 2006 capital of 450 to $525 million will also be geared toward many of these projects.

Some of the key 2006 projects include the expansion of load-out and production capabilities at our Powder River operations to serve increasing customer demand; the development of new mines in the Southwest and the mid-western operations to serve expanding markets; and investments to develop the new Black Stallion metallurgical coal mine in Appalachia, which will ultimately ramp up to 4 million tons per year.

I'll now turn to the balance sheet. You'll see our financial position has never been stronger. Our cash balance stands at over $500 million and our net debt to net capital ratio is at a record low of 29%. We enjoy tremendous financial flexibility and very, very strong liquidity.

I would note that beginning this year, we'll have a lower inventory balance due to a new FAS-B accounting change affecting the mining industry, which will eliminate the capitalization of advanced stripping work-in-process inventory at our surface operations.

Our strong performance in the equity markets allowed us to split our shares for the second time in a year, and our outstanding cash flow profile enables us raise Peabody's dividend for the second time in less than a year, while still committing capital to fuel high return growth projects.

You will also note, in your release we have attached the SEC Regulation G schedules, which provides you with our estimates of other components effecting net income, including taxes. And you will note that we will continue to benefit from tax net operating loss assets in 2006, which will minimize both cash and book tax costs as we go forward.

I would now like to focus on our very strong outlook. As we turn to our sales contracting position, I'll begin with the Powder River Basin, where prices have tripled since last year. Given much of that increase occurred in the latter half of 2005, the benefits of agreements reached since that time will only marginally impact the 2006 results, but will be much more notable in our results in 2007 and beyond.

Current SO2 allowance prices increased the premium that we receive for ultra-low sulfur PRB coal products, such as our North Antelope Rochelle mine, to as much as $4 per ton.

We have signed multi-year agreements at prices higher than the published indices in the Powder River, Colorado, and in the midwest -- all regions where we are the number one producer.

The met coal markets are also showing signs of another very strong year, and especially for high-quality met products. We have already signed U.S. met business at prices higher than last year's strong levels, and we look forward to completing the pricing season for the international markets that is currently underway.

Looking ahead, improved productivity, volume, and higher prices are expected to more than offset $75 million of higher fuel and explosives costs and increase non-cash expenses for retiree healthcare.

Our first quarter results will be lower than subsequent quarters because of reduced production related to down time to install new longwall systems that we previously discussed with you in Colorado and Queensland and the transition to a new section of metallurgical reserves in West Virginia.

The key take-aways today are expanding production and its significantly higher pricing are all leading to a very positive outlook for 2006 and beyond. We are targeting another record year, with EBITDA of up to $1.15 billion, and earnings per share ranging from $3.75 to $4.85, as much as a 50%-plus increase over 2005 levels. Results will be sensitive to rail performance met coal production, as usual, and as well as the final met coal price settlements.

In summary, we had a very good 2005. We expect 2006 to be much higher results, with even stronger performance in 2007 and beyond. We look forward to updating you as the year progresses. And at this time, I would now like to turn the call over to our CEO, Greg Boyce. Greg?

Thanks Rick. Good morning everyone. Thank you for joining us.

Rick has reviewed our excellent year. The Peabody team turned in a record performance in the areas of safety, financial results, shareholder value, and environmental success. I would like to offer my perspective on the energy markets, their favorable effects on coal, and Peabody's unique position to grow and create value. Simply put, I believe that Peabody is entering a long period of sustained growth and cash flow generation.

The current global markets for coal remain very strong. Coal is meeting growing steel demand and fueling power plants that are running at ever-higher capacity levels. Supplies are tight and transportation systems are strained. Customer inventories in the U.S. are at historic lows. Prices have increased dramatically in all of our largest markets. Yet even these coal prices have not kept pace with the rising price of oil and natural gas. This creates strong momentum for coal values to continue to rise to narrow that gap.

That's the picture today. Now I would like to look beyond these near-term factors to discuss what I believe is a [see] change that is taking place among the world's major energy producers and users.

The global energy landscape reflects emerging appreciation for companies rich in BTUs, like Peabody. Consider several events in recent weeks regarding oil and gas. We have China and India combining to secure energy assets around the world. We have Russia temporarily halting natural gas to eastern Europe. And we have Iran threatening to withhold oil to satisfy their nuclear ambitions. The U.S. Energy Information Agency raising their long-term oil price outlook from $33 to $54 per barrel. They have also lowered their forecast with LNG, ultimately coming into the U.S.

World energy demand faces strong growth as developing economies mature and increase their per capita energy use. Consider China, which recently restated restated historic GDP growth upward to 10%. China uses approximately 1/10 the electricity per capita as the U.S., and only 1% of our per capita passenger vehicle ownership. Yet even at these low levels, their recent economic growth and energy demand have forever changed the international and U.S. energy markets.

A similar outlook exists in India, and unless these nations reverse their growth trends, which I believe is highly unlikely, the huge global demand for energy and coal will continue.

Our view of global steel markets is also based on obvious trends. Developing countries trying to meet the needs of expanding cities and middle classes have embarked on a era of new infrastructure development. Here in the U.S., we also need significant new construction to rebuild the Gulf Coast, for new highways, bridges, power plants, transmission lines. All of this suggests a lot of steel and strong growth in metallurgical coal demand to make that steel.

Coal's long-term prospects, therefore, are outstanding. In the United States, 129 new coal-fueled power plants have been announced, representing more than 250 million tons of new annual coal use. Around the world, 435 gigawatts of new coal-fueled plants are planned, representing 1.5 billion tons of new annual coal use.

The world's largest power equipment producers now project that equipment for coal-fueled generating facilities will make up 40% of their global demand over the next ten years, with natural gas generating equipment just 25 to 30%. That's a major reversal of recent periods, when gas facilities accounted for 60 to 70% of similar equipment purchases.

Activity is also very high regarding BTU conversion projects, particularly to turn coal into natural gas and transportation fuels. We believe that pipeline quality natural gas from coal is competitive and long-term costs as low as $6 per million BTU, while coal-to-liquids technology can be deployed at the equivalent of 35 to $40 per barrel.

In it's most recent report, the EIA increased its forecast for coal demand to fuel generation and for the very first time, now forecasts new coal demand to supply BTU conversion plants. EIA now projects that U.S. coal use will grow by nearly 700 million tons to 1.8 billion tons by the year 2030, including nearly 200 million tons for coal-to-liquid refineries.

For BTU -- for Peabody, BTU conversion represents enormous value creation potential, as we seek to close the valuation gap between coal, oil, and natural gas.

Let me offer an example. Recent transactions have valued natural gas reserves at $2.50 to $3 per thousand cubic feet. Peabody has the equivalent of 243 trillion cubic feet of natural gas potential in our coal reserves. Yet we are valued at just $0.05 per thousand cubic feet. That's just 2% of the value of some natural gas companies. Now, clearly there are differences in how energy companies are valued, but it is one of my goals as CEO to continue to narrow that gap and increase Peabody's value for the benefit of our shareholders.

Now, against that strong global energy outlook, the world's largest coal company is performing very well. I outlined four key focus areas when I was named CEO last March, and I'm pleased to report, we're making significant progress across all fronts.

Number one is executing the basics: safe, productive, low-cost operations provide Peabody the foundation to grow and create value. Rick has already reported on our record 2005 performance in these areas. I would add that I expect continuing improvement in both safety and productivity.

Number two is capitalizing organic growth opportunities. We have the best resource base in the industry, and you will continue to see Peabody invest in operations to serve growing markets. Recognizing the enormous potential in the Powder River Basin, we purchased 1 billion tons of reserves before the market prices tripled for this ultra-low sulfur coal. And we announced the development of the School Creek, the largest new coal mine in the past ten years. And we are seeing unprecedented demand for School Creek's premium product.

Now, our track record of being able to construct, deliver, and develop on these organic growth initiatives is unmatched. In fact, Peabody has developed new and expanded capacity that represents more than 70% of U.S. coal industry growth over the past five years. We have the right teams and quality reserves to meet these targets. And more importantly, we have the sales commitments to support the growth.

Number three is expanding in the global markets. The U.S., China, and India represent 90% of the growth in the world's coal industry. Peabody sells coal to customers in 13 countries on five continents. We have also opened a office in Beijing. This past year increased our import activities for South American coal into the U.S., and are preparing to enter the European trading markets.

Number four is participating in new generation of BTU conversion markets. We're making significant progress with the Prairie State Energy campus. We are evaluating a large coal-to-natural-gas plant in Illinois. We're supporting projects with an industrial gasification company that we own a share in. And we continue to receive interest from technology providers, large potential customers, and developers for coal-to-liquid projects using our coal. And we are one of the major energy companies advancing FutureGen, which is planned to be the world's first zero-emissions generating plant that captures and sequesters carbon dioxide and produces hydrogen.

In short, coal-to-liquids and coal-to-gas applications will significantly expand the future markets for coal.

That's a brief overview of the industry and Peabody. I would like to personally thank the Peabody team for their outstanding performance in 2005. We look forward to another record year in all fronts. We will be focussed on our safety and productivity programs, on our many growth initiatives, and our ability to unlock far greater value from the BTUs in our coal reserves. We thank you for your continued support of Peabody and at this time we would be happy to take your questions.

[OPERATOR INSTRUCTIONS] Our first question is from Dave Gagliano with CSFB. Please go ahead.

Hi. I didn't expect to be first actually. But I'm still ready.

I just have a question. I want to clarify one thing. You indicated in the press release your 2008 volumes uncommitted -- they're unpriced, I think is the way it's worded, it's a fairly substantial number and I was wondering, first of all, if you could give me a breakout between regions -- PRB, central Apps, or some indication as to how much is unpriced. That's the first part of the question.

Dave, first of all, welcome and we appreciate you agreeing to go first. Dave, we historically, as you know, we do not break out by region, our unsold position for competitive reasons. I guess I would merely say that that position is fairly consistent with our production base.

Okay, that actually helps quite a bit.

And then the second thing, I just wanted to make sure I heard Rick correctly. In terms of the volumes that you have committed for 2007, 2008, did I hear you correctly that you said you continue to commit above the current spot prices?

That's correct, Dave, yes. We've been signing -- we signed contracts in the fourth quarter. And I think we've mentioned this in the past, on a number of calls when we've been quizzed about how we -- when we're contracting, are we taking discounts to the market? And in fact, because of the premium products that we offer, because of the reliability that we provide, and because of the volume that we're selling, generally we are achieving a premium to what's the spot price that you read in the trade mags.

And the reason is simple: it's because of that extra volume and a lot of those spot prices are based upon one train at a time type of a sale. So yes, we are getting premiums.

Great. And then, just the last part of the question, which is, when do you think you will start to tie up the significant volumes that you have available in '07 and '08, and has it been your initiative to hold off on tying those volumes up? Or has it been more the utilities?

I would say, Dave, that it was -- we'll begin to start out with the continuous process of layering in improved pricing, as we always do. I think the reason we have more open than you might imagine in '07 and '08 is because the prices didn't move and we had fully expected the prices to go up, so we weren't really ready to commit to prices in early '05 for '06, '07, '08 delivery at those type of long-term prices that were out there in early '05. Because we knew the dynamics and the fundamentals of the market were very, very strong and it was just a matter of time, not if. So that's why we've waited and now we're starting to secure those contracts.

Great. Thanks very much.

Our next question is from Michael Dudas with Bear, Stearns. Please go ahead.

Good morning, gentlemen.

Good morning, Michael.

My first question is regarding Australia. Could you discuss a little bit about maybe 2006 upside to cost performance, given the difficulties you've had, and a little bit update of where you stand on installing a new Longwall, how that is going to impact volumes and productivity throughout '06 and some of the resulted port rail, other issues that might be impacting -- that impacted '05 that may or may not impact '06 and beyond.

Okay, sure. Mike, it's Rick. As you look at Australia, we expect to be putting in the improved Longwall system in January. It will take us a bit of time to do that and that was always part of our plan. We've had that capital, obviously, committed for a long period of time. And it should be arriving and we'll be installing it in January and part of February to get that in place.

As far as productivity goes, as you know, last year we didn't meet our goals of productivity in Australia because of the Longwall, simply because we didn't think it was up to snuff, and that's why we've improved that particular system. I would expect that on an annual capacity basis we would hope that we would be able to get a additional 700,000 tons out of this equipment compared to what we got last year because we didn't really achieve our productivity goals last year in Australia. So, and that's all -- as you know, very, very high-margin business.

As it relates to total cost per ton, clearly, we missed our target last year by 700,000 out of that mine. You can imagine what that did to our cost structure on a 3 million-ton type of -- 2.5 to 3 million-ton operation.

And then, we also, because of that unpredictability, to add on to it, we experienced an overall $40 million demerge charge last year in Australia. So we hope to cut that down substantially this year.

And could you read anything into your discussions on met coal and your contracts in the U.S. for '06 and translate that into what might be going on overseas in Australia, with the Japanese smelters?

Well, what we hear from our people on the ground and from what we're hearing from the early settlement talks are pretty positive and in line with our expectations that prices are going to settle near to maybe slightly down from last year's level. When I say slightly, maybe 5 to $10 on an international basis. Our U.S. commitments are probably as high or higher than last year's levels, but we're hearing about 5 to $10 down, on average for the international settlements. Which is not a bad outcome.

Michael it's Greg. The other thing I would add to that is, remember, for our North Goonyella-type coal, North Goonyella produces the absolute premium met coal product anywhere in Australia. So any numbers that ultimately get settled out of the Japanese negotiations, North Goonyella has been and will continue to receive the top end of those ranges.

Thank you. My second question would be, relative to the Powder River, can you review a little bit about your views, Greg, on how much the industry missed out because of the rail issues in total in '05? You did address some on the issue in your press release about what you expect from the rails and what the demand is in '06. How is that going to get balanced out and how difficult will it be to even meet those maybe reduced targets, going forward in '06, given your expectations of productivity and maybe some of the other PRB players, as well.

Yes. Sure. If you look at 2005, we estimate probably about 25 million or so tons that were not moved out of the Powder River Basin. The impact to us was a little over a third of that. And going forward, the growth, if you assume the growth of around a pent-up demand, about 15%, 60 million tons, you know, the railroads are indicating that they think they're comfortable moving about half of that. Obviously, they're going to try and move as much if not all of it, but are comfortable saying that they see their way to half of that.

Now, in terms of our production plants, we were -- have been in the process of upgrading our loading facilities, improving our productivity and expanding our capacity in the Powder River Basin. Our view of the other producers is they have not fully implemented any plans that they may have. So in terms of this year's production, we, like we did last year, assume that we will get a large share of that increased demand, both based on the fact of our contracted position as well as we are in the position to move that coal.

And finally, I would add that absent a software glitch for a couple of days earlier this month, the railroad performance has been very strong to start the year out, in the Powder River Basin.

So you think you'll get the majority of share of that 30 million tons that the railroads hope they can move out of the southern PRB? Is that what you're implying?

Well, I'm saying that we're going to get more than -- if you assume that we're around a third, we're assuming we're going to get half of that.

Terrific. Thanks for your time, gentlemen.

That's consistent with what we did last year.

Terrific. Thanks, gentlemen.

We'll next go to Paul Forward with Stifel Nicolaus. Please go ahead. Paul Forward, your line is open. Please go ahead.

Yes. Good morning. Greg, in your comments on coal-to-gas technologies, you seem to move the cost up a little bit, to $6 per million BTU, and I think that had been 5 to 6 previously. I was just wondering, as you begin to develop that plant with ArcLight in Illinois, are you finding cost inflation relative to previous expectations that may drive up the breakeven price?

I think what you're seeing in that increase, Paul, is exactly what we're seeing everywhere else in terms of capital construction in this country, whether it's a power plant, an oil refinery, a highway, and that is steel costs are higher, labor for construction is increasing. And so all that really is is just a reflection of updating of cost estimates to build the facility. And I think we're getting more comfortable that those will be the right kinds of numbers to be using for planning purposes going forward.

And is there a time at which you can fairly comfortably say you think that will be online and actually generating cash?

Well, any plant of the sizes that we're talking about are likely to be a four year horizon at the earliest by the time we complete the engineering, do all of the permitting, and then go through a multi-year construction project, you're looking at 4 years-plus, to put in service.

And no way to reduce that time, given the fact that gas prices, at least up until a month ago, were extremely high?

Well, for the very large projects like the one with ArcLight in Illinois, it will be difficult to do that. Remember, we're also involved in the smaller gasification modules with a company called EPIC, and those gasification plants are much smaller in size, can be permitted in a very short period of time, probably could be up and running within a 18 month to 2 year period of time. And so we're also focusing on that part of the marketplace for industrial gas users.

If you look at the EIA forecast, they had close to 190, 200 million tons tons of these coal conversion volumes. Their time frame was out to 2030. We think that's a bit longer than it will take to bring those in, but it does take a bit of time for these very large-scale facilities such as the synthetic natural gas or the coal-to-liquid refineries.

Okay. Appreciate it.

Our next question's from Daniel Roling of Merrill Lynch. Please go ahead.

Good morning, gentlemen. Rick, could you quantify the impact on the new accounting rule, the stripping? What would have the expense been in '05 and what might it be in '06?

Sure. Well, Dan, it didn't have an impact on '05. We haven't implemented the change yet. As we go forward into '06 it really doesn't have a P&L impact, per se, or a cash impact. It just introduces a bit of volatility into the numbers. And let me explain why. We have a advanced stripping balance of about $245 million, which we'll obviously remove from the balance sheet in '06.

And the reason it creates a bit more volatility is it eliminates the matching concept, if you will, because at the end of a quarter if our operations, because of weather delays or transportation delays, are moved into stripping and we uncover coal, we'll be required to expense that amount and we'll sell the coal in the next quarter without any associated costs, or vice versa.

So one quarter -- it's going to get a bit lumpy quarter by quarter. On the longer term basis it doesn't really have any impact on the overall expense of the Company.

Okay.

So just really not matching, it's moved away from fair value in your your balance sheet, because obviously, as you know and I know, that -- and you've been out to our Powder River Basin operation -- when you've got an uncovered pit, that's a lot more valuable than one that's not uncovered.

Right. And the 245, is that sort of what you have in there, quarter to quarter?

That's what we have in total inventory today on our balance sheet. So it's not a quarter to quarter issue, no. And assuming you had the same production levels and the same stripping ratios, the number would stay fairly constant. The balance increased this year some $60 million because we increased our production in the surface areas in the PRB as well as in Australia, fairly significantly, and we had a bit higher ratio. So we did have a creep-up in the capitalization of that number in '05.

Okay. And then the increase in the selling price of the coal in Australia quarter-to-quarter was larger than we were expecting, especially since the contracts should normally go into effect April 1st. Can you help me understand why it jumped so much in the quarter?

Part of that is carry-over tons, Dan. As you might recall, when we took over the operations they were behind on some tons and so we went into April, starting the new contract year in April of '05, but we still had some carry-over tons on other contracts that carried -- long into -- some of them, as in this case, all the way into September and October.

Okay. Are all of those carry-over tons out of the system now?

Yes.

And so, including -- so you're current on '05, so in -- April 1, '06, we'll be current with April '06 pricing?

That's our guess.

Thank you.

Next we go to Pearce Hammond with Simmons and Company. Please go ahead.

Good morning.

Good morning, Pearce.

Due to the high cost of SO2 credits right now, we understand it's very difficult to move certain coals due to discounting. For example, like an extra half percent sulfur could equal almost $20 a ton. Is this impacting any of your operations right now, and if so, by how much?

We would probably be on the flip side of that, actually. We've got such a large portfolio of very low sulfur coals that are demand requests and the premiums that we're receiving are quite a bit higher because of those high sulfur levels -- sulfur credit prices.

Is this affecting any operations in the east at all? Any of the production plans?

No it's not.

And then on Australia, what percentage of the tons that are hard coking coal and then semisoft steam coal coming out of Australia, out of the about 8 million tons?

Let me give you an exact percentage here --

Yes, I would say that the vast majority of it is the hard coking coal. All of North Goonyella's production is hard coking coal. Burton is substantially all hard coking coal, although it does produce a thermal split. And then out of our Wilkie Creek operation, which is only 1.5 million or so tons a year, that's all thermal coal.

Okay. And then your PRB realizations for the fourth quarter, what would you say those were? You give the western number but what would you say your PRB realizations were?

I appreciate the question, but that's not a break-out number that we traditionally have given, for competitive reasons.

Okay. Thank you very much.

Thank you.

Next we go to Jim Rollyson with Raymond James. Please go ahead.

Good morning, everyone.

Good morning.

Two quick questions for you. One on PRB pricing again. One of the comments you made in the press release was putting prices up on new contracts in excess of 130%, which obviously implies pretty strong pricing and I guess fits with the comment you made earlier about getting premiums to the current spot price. I'm presuming that that is not including the 3 to $4 a ton of sulfur premiums; is that correct?

That would be including all of the premiums.

Okay. That's an all-in loaded number.

That's an all-in loaded number. And it would be compared to our average 2005 pricing.

Right.

Which also had a premium, obviously, but not as high.

Sure, sure. Great. And secondly, can we talk about the tax rate assumptions kind of going forward? Well, this quarter, first of all, you guys wound up with a tax benefit. Is that something -- what drove that, first of all?

If you've followed us for a while you will recall that our tax rates are aided by the carry-forward of net operating losses that we have. Essentially assets that allows us to offset cash tax payments. And the way we have handled and addressed those is that we will have small -- for next year, for 2007, similar to 2006 and similar to 2005, we will have small cash expense -- tax expense, not cash -- expense in the first three quarters and in the fourth quarter, as we finish our budgeting process, we look forward at our projected profitability and are able to release valuation reserves against those assets, essentially --

It's your makeup quarter.

Essentially -- yes, when we look forward and see significant profitability, it gives us much more confidence that we can realize those tax assets. And in that case, the rules would then allow us to remove the reserve against those assets.

Got it. And then for '06, you look -- the guidance number on your disclosures here have an almost tiny, insignificant number. Is that going to be the same, where you probably have some small, booked tax expense for the first three quarters and the delta gets made up in the fourth quarter?

Exactly. So if you look at the total guidance and then look at the average guidance you see by quarter, you will see 7 to $8 million per quarter of book expense and then seeing that reverse in the fourth quarter.

Got it. Thank you very much.

Our next question is from Wayne Atwell with Morgan Stanley. Please go ahead.

Thank you. Would you contemplate going into Montana with the development of a property? Obviously, PRB economics have improved materially and you've been sort of in the forefront of anticipating economics. Is Montana of interest to you?

I would say that Montana is always of interest. We used to have very large operations in Montana. We still hold reserves in Montana. And so it's an area that we continue to look at, you know, how we would develop, the timing of any development, and then the infrastructure, whether it would be coal shipped by rail, whether it would be potentially a liquefaction or a gasification facility. So yes, Montana is very high on our radar screen.

Is the rail capability sufficient right now to development a 20 to 30 million-ton property out there ?

Yes. The main rail system out of Montana has that capacity. The question is, obviously, exactly where the operation would be developed and then any rail spurs to get to the facility. But the core infrastructure up there could handle that kind of volume.

And is that likely something we're going to read about in the next one to two years? For Peabody?

Suffice it to say, it's on our radar screen. We continue to look at it. Timing is very difficult to judge at this time.

Okay. Thank you.

You have a question from John Bridges with J.P. Morgan. Go ahead.

Good morning Greg, Rick.

Good morning John.

I was just wondering, that stripping answer, in other companies the stripping balance has had to be pushed through the income statement. Where are you putting that?

Well, U.S. GAAP requires -- previously required you to capitalize stripping costs, essentially the matching principal. You'd strip and uncover the coal and then as we sold the coal we would offset -- remove the inventory balance to the cost side. So essentially it's just a matching concept with the inventory.

The change is -- frankly, a little bit -- it doesn't make a lot of sense. It eliminates the matching principal. But it was kind of one of these one-size-fits-all type of approaches, where they were trying to make some adjustments to the hard rock area and they carried those over to the coal sector.

So as we going go forward they're just basically going to show up in cost of sales as incurred. So all mining costs, including in-advance stripping and uncovering of coal that isn't yet sold will just go through cost of sales as completed basis. Today it rolls through on cost of sales as the coal is sold.

Okay. And the balance that's in there now?

245 million.

And if the SEC rules don't allow you to have that anymore, where do you put it?

That will not go through expense. That will be written off to equity as part of the accounting change.

Oh, okay.

So you won't see a $245 million expense at all.

Yes, I was just trying to figure out where it was going to.

I'm sorry. That's what the question is. No, you will not see an expense at all. It will get pushed into an opening balance of equity, net of tax, at about 150 million.

Okay. Okay. And then, this new Longwall at Goonyella; what does the new one do that the old one didn't do?

Well, the -- if you look at our old Longwall that had been in existence at North Goonyella for a number of years, it was our view that it was undersized in terms of the capacity of the shields to hold the geologic weight at North Goonyella: Number One.

Number Two: the size of the conveyer on the face and all of the chains that drives a conveyer and the horsepower of motors connected to the conveyer were all undersized, given the volume of material that that Longwall was producing.

So, our new Longwall equipment has much larger, stronger shields at both the head and the tailgates, we've got almost 40% more horse power, a much larger conveyer system, and larger chainage drives to be able to support that underground operation. And we're confident, with all the engineering work that we've done, that all of those changes will allow North Goonyella to run much more reliably than it's run in the past.

Because one of the problems was geology down there, wasn't it?

Absolutely. The geology, it's always going to be a geologically challenged operation. It's just the nature of all operations that are underground in Australia, in that part of Australia. But, with the right equipment, and as long as you can keep operating and have the capacity to move forward on a steady basis, the geology should not be a concern.

So would it be fair to say this thing is going to allow you to move faster when you're in good geology?

It will allow us to move faster in all geologies, particularly in good geologies.

Oh, okay. You said something about trading in Europe. Could you elaborate on that?

Yes. We're in the process of putting together a team and we'll begin trading coal products into and around the European coal market. As most of you know, the European traded markets are really the largest volume coal traded markets around, and it's a marketplace that we want to be in, both to be able to move our physical coals at times, our products that we receive out of South America, as well as begin to expand and develop a trade book for other coals from other regions.

Would Europe be a focus of a new mining operation one day, in line with the big vision for mining in several different countries?

No, I wouldn't say that we've got that in any very near term. We're focusing on all the other regions that we have on our plate right now.

Okay. Thanks a lot.

Next we go to Ian Synnott with Natexis. Please go ahead.

You've answered a lot of my questions, but one quick one would be, in the post-scrubber environment, so getting out past, say, 2008 to 2010, are you starting to see kind of more interest from your customers in contracting Illinois Basin shipments and getting volume secured there? We're definitely hearing a lot of that from the northern Appalachian region.

Yes. Two things on that question. First, we see the post-scrubber world to be slightly later than an '08 to 10. We're starting to see, while there is a number of scrubbers being installed, again, when you look at the ability to get engineering firms, capital purchased and constructed, we think that probably that time frame is going to be a bit longer.

But to answer your question about coal demand, we are seeing increased demand from all of our regions. Illinois we have always projected to be a beneficiary of a more fully scrubbed utility sector, and we are talking with a number of utilities about long-term Illinois Basin coal contracts.

Great. Thank you. And, how much of that, too, is going to be kind of predicated on new plants getting built. I mean, there is a tremendous amount of proposed plants but very few that have actually broken ground at this point.

Well, we think there is a sufficient demand, just with the conversions and the new scrubbers on existing facilities, as well as -- and component and demand for all the future growth.

Great. Thank you.

Our next question is from Justine Fisher with Goldman Sachs. Please go ahead.

Hi. My first question is just about the met coal sales in the U.S. You noted that the contract -- that the prices that you were contracting it out were at or higher than last year. How much of your U.S. met coal is contracted?

I'd say the majority of it is contracted. It's mostly on a calendar year basis, so we have most of the U.S. met coal contracted at this time, which would be roughly 4 [million] tons of product.

And then my second question is just about imports. It was interesting for me to read in your press release that you said if PRB coal didn't get sold this year it would be more because of rail delays than because of an absence of demand. Given that there is still high demand for some these low-sulfur coals, do you see a risk of higher imports from places like Indonesia or Columbia or Venezuela, particularly in light of where the cape sized freight rates are right now?

We have seen some increase in imports, but you have to recognize that the import -- the ports themselves in this country, to actually import and bring in coal, have a limited amount of capacity. And so they're suffering the same constraints, if you will, that the transportation system out of the PRB is experiencing. We think the freight situation out of the PRB will resolve itself much sooner than any significant port capacity is added for import coals into the U.S.

You cited the IEA's forecast -- or, the EIA's forecast for coal demand. Do you think that it's possible that transportation delays of some sort, either in the east or in the west, start to cut into that forecast demand growth? I guess that's sort of theoretical versus what the actual transportation situation is on the ground.

Yes. My own view is over the long-term the transportation infrastructure will grow and develop to be able to move that volume of coal. It's what is happened if you look at over the last, say, 30 years. Now, that doesn't mean year to year or two years on there aren't -- tightness in transportation. But over the long haul they have continued to invest and all of the major railroads are having significant capital campaigns to invest in volume expansion to anticipate and meet that growth.

Great. Thanks so much.

Our next question is from with Fadi Shadid with FBR. Please go ahead.

Good morning, gentlemen.

Good morning.

Could you comment on maybe the labor situation in the different areas you operate, including Australia? It's becoming increasingly recognized that labor is probably the second threat to the energy business after commodity prices. Could you talk about maybe turnover rates in the different areas you operate in?

Sure. First on our turnover rates, we actually have an extremely low turnover rate. Our issue is really attrition due to -- going forward over the next five years, the demographics of our work force. I think you recall during the course of last year we mentioned on a number of occasions our Work force of the Future program, we've opened up a training facility in West Virginia, we're in the process of opening up one in the Midwest and one in the Powder Powder River Basin, where we'll -- actually a combination of classroom training and actual classroom mine site settings, be training new employees to the mining industry to supply our operations going forward.

So, we were very cognizant of the issue of the demographics and the work force issues early on and have committed the resources and built the facilities and staffed them with the educators to make sure that we do have an adequate supply of employees that are well trained, with a particular emphasis on the safety aspects of our business, to put into our operations.

How about Australia? Is Australia -- is it comparable to like central [inaudible] or is it a lot better?

Australia is -- obviously, it's a smaller country in terms of population and their labor market is tight, but mining is a huge component of their economic system down there and we're seeing, if you will, a resurgence and interest in new employees in the mining industry in Australia. In fact, even in their mining schools in Australia, there is -- to a point now where they're almost full at the seams, in terms of new engineering talent going through their mining programs.

So, labor will remain tight everywhere. Number one, we believe we're the employer of choice for a number of reasons, and particularly because of our safety performance. We have a very low attrition rate and we're really focussed on developing and training new employees to manage the turnover as a result of the demographics and retirements over the next five-year horizon.

Thank you.

We have a question from Mark Liinamaa with Morgan Stanley. Please go ahead.

I would like to make sure I understand your earnings guidance as far as how sulfur is treated. Sulfur premiums. Is there an explicit assumption or is that something that is hedged forward or locked in in some other way within your contracts?

Well, Mark, it's a combination. As we put together our guidance, we're looking at the market for sulfur allowances. At today's prices, you're seeing sulfur allowances at roughly the 15 to $1,600 level. Of course, we think that that level is -- and as we look forward at all of the things that are causing that are going to be here for quite some time. So we're forecasting numbers in the 12 to $1,500, just as a -- maybe a little bit lower number, just to be cautious in our guidance. But what we try to do is lock that number in as we've been our sales contracts.

So we either sell the coal with the sulfur premium embedded in the price or we sell it as a 0.8 and take back sulfur credits or index the particular contract to the sulfur credit. So in one way or another, we capture that excess value.

Thanks. And with the way things have been developing, the fundamentals seem to be hanging in there quite nicely, has any of that changed your thoughts on your role in central Appalachia? Or is it still something that you would prefer growth opportunities in other regions altogether?

I think long-term the reserve position in central App is an area where the geologic conditions will continue to get more difficult. The good quality reserves are pretty much mined out and we're focusing our attentions in what we believe are the much stronger growth markets of the Powder River Basin, Colorado and the Illinois Basin.

Great. And then finally, and I apologize if this was asked, but the 15 to 25 million ton growth in production this year -- could you reconcile that, region by region for me?

Well, Mark, just to kind of give you maybe the high level reconciliation without getting into too much detail. We probably expect to roughly have 15 million to 18 million tons come out of the PRB, split between the mines out in the Powder River Basin. We have some additional growth going on in Colorado. As we talked about, we're putting in the new Longwall system in Colorado. That's going to allow us to grow ultimately to 12 million tons. We'll have a couple million tons of growth in the Midwest. And that will pretty much take care of most of that growth. And we're also expanding a bit in our Wilkie Creek operation in Australia.

So it's smaller amounts, but some moving parts in really all regions, really, when you look at it. And just to clarify a comment from earlier, related to metallurgical coal, we expect in our metallurgical production this year to be 12 to 14 million tons, and I think the question was how much of that is priced, and obviously on the Australian side we don't have it all priced because of the contracts. In the U.S., with 6 to 7 million tons to price in total, I said 4 million tons and that's what I meant was priced is probably 4, 4 or 5 million tons in the U.S. market right now.

Just one more quick one. Are you seeing any change in demand partners for 8400 BTU coal? Is there any chance of that being a growth opportunity? Are you seeing change there?

Oh, absolutely. We're seeing significantly stronger demand for the 8400s. Any coal that is available out of the Powder River Basin right now is highly sought after. And so we've seen the same kind of demand, pull, and increasing in our 85 to 8400 product coals, as we have in the premium products.

And that demand is in -- from utilities that are further away than the traditional markets for that product?

Yes, it is.

As you know, Mark, last year we sold a significantly higher amount out of our -- the lower PRB BTU qualities than we did the year before. We expect to do the same this year. What we're seeing are customers that are concerned about transportation and trying to make sure that they have multiple options and not having just one coal coming from just the 8800 region. So some of the larger customers are balancing their demand.

Thanks very much.

You have a question from with Sunil Jagwani with Citadel. Please go ahead.

Hi guys, good morning. Just wanted to hone down on the central Appalachian region to see if you can talk about the cost trends there as they stand today. I'm at least a little bit concerned about what the impact would be on recruiting, given all these mining accidents. And I know you've talked about labor being okay for you guys, but just if you aggregate all the cost in the central App region, how does that look these days?

Well, I think if you look at, for instance, start with the cost equation, you know we've said for a number of years that given the geologic conditions in Appalachia and that that cost structure was going to be going up, the coal seams are getting thinner, the underground mining conditions are getting more difficult. The amount of roof support that needs to go in, the lack of large Longwall-able reserves is shrinking, and the cost of steel has gone up significantly, and of course that's the major -- one of the major cost impacts for roof support. So all that said, we had anticipated and it has occurred that the cost structure has increased.

Also, for us, we do get a large volume of tonnage from contract operations. Their costs have gone up and as you would expect, we share in those cost increases as their costs increase.

I think in terms of the people issues, I would once again come back to our safety performance and our safety philosophy within Peabody. We're not satisfied every day we come to work unless we can have a day where we have zero accidents. We had four operations out of all of our operations last year that went an entire year without a accident.

And we spend a significant amount on our mine rescue teams, on training and safety practices underground, and what we're finding is we've had some employees that have left in the past, maybe chasing a short-term signing bonus or what they thought was some other differential, and they wind up coming back to Peabody and the number one reason is because they understand and believe our absolute commitment to safety. So we find that we are actually having the ability to recruit and retain employees at a very high rate.

Right. And if -- perhaps you could quantify this just a little bit in terms of percentages, like -- or a per ton basis, what you would expect in '06 and '07. Is it 5% inflation? 10 or 15 or higher, in that region, in particular?

Looking at it overall, I would say that our -- once again, we'll be challenged with higher steel costs and roof support costs in that region, and across our whole portfolio we'll continue to see escalation in higher fuel costs because of the absence of the strong benefits of the fuel hedge and higher explosives costs. So, on average, in the total portfolio, I would probably like to just keep it at that level. Once again, we'll do everything we can to keep it at 5% or less -- [inaudible] issues.

Okay. And then just a point of clarification on the contracts versus spot pricing, I just want to clarify that when you guys talk about long-term contracts being priced at a premium too, spot pricing, that is indeed the case, even without the sulfur premium included.

That's correct.

That is correct.

And is that still in the 30% ballpark? I know it's not going to be in the 30% ballpark, but --

Well, the 130% number that we are talking about is the 130% premium over our realizations from '05, which also had a sulfur premium embedded, because they were the higher quality products.

Okay. But -- so excluding the sulfur premium, if you talked about the contracts, can you give a ballpark figure in terms of how much above -- are those prices above spot?

I think you can understand why we would be reluctant to do that. Suffice it to say, we do get a premium.

And I guess I would just kind of wrap up the discussion about the cost structure in the East and some of those other issues to just say, there is a reason why we're the number one producer in the Powder River Basin, the Illinois Basin, and out in the Colorado region. That's because we recognized that that was the long-term trend in central App and moved very early to secure our positions in those lower cost, more highly productive regions of the country.

Thank you very much.

We have a question from Mike Clark with Satellite Asset Management. Please go ahead.

Greg, when you look out over the next 12 to 18 months, how many coal-to-liquid projects are you contemplating? How many more announcements may we see?

Suffice it to say, we're having discussions on a number of different projects. It's very difficult to tell how many of those will mature into full-scale projects that we would make announcements. So I think we would just leave it at that. A lot of activity in this space, a lot of interest. A bit early to determine numbers as to how many of those will move forward.

Rick, when you look at '06, you have some 200-plus odd million of priced produced coal. Can you give us a range of how much in revenues that's going to generate?

It's a complex situation, and without giving away pricing, if you will, on the particular products, I think you have to really just look at each region and look at the pricing. But I think the bottom line is that --

Not by region, for the Company as a whole.

No, I understand that. It's a number we traditionally haven't given out and I guess I would like to just kind of keep it at what we have given out in the past with respect to the percentage increase in EBITDA, as high as into the 30-plus percent range. And you can kind of back your way up the income statement to get to the revenue number.

Fair enough. Thank you.

We'll next go to the line of Sanil Daptardar with Bramwell Capital. Please go ahead.

You mentioned on the met coal side that you see about 5 to $10 per ton decrease in the prices from last year. What kind of dynamics are you seeing despite the strong steel markets and the international market, coal pricing market. Are you seeing more supply coming online somewhere? Or --

I think it's just a function of the dynamics within the Japanese and Australian marketplace. If you will recall, last year met coal pricing went up an unprecedented amount, all the way up to that benchmark, our reference price of around $125 a ton. You know, what we're really expecting here is a settlement in essentially that broad range, and what it really reflects is the market dynamics are every bit as strong today as they were a year ago, otherwise we would be seeing different price changes than we're actually hearing.

And I would remind everybody, we've seen the same kinds of press clippings that other folks have. Let's wait and see what the final announcements are from all of the parties. We still have a ways to go before any negotiations are concluded.

Okay. One more. On your -- if you look at 2007 and beyond, it was suggested that there might be a significant impact on the P&L because of higher pricing of coal in 2005. What percentage of your sales in 2007 and beyond may come from coal priced at 2005 levels?

We're entering 2006 with roughly 90 million tons to be priced in 2007. So if you back into that, you're a little bit in excess of 120 million tons of coal that's already priced at '05, but reminding you, that's not all PRB coal. It's a combination of Appalachian coal at high prices, it's a combination of metallurgical coal that's receiving high prices, it's a combination of coal that was secured under long-term contract in the Midwest and the Southwest. So there is a number of different regions at play here, not just the PRB.

Okay. Thanks.

Thank you.

Our next question is from Justin Bergner with Gabelli and Company. Please go ahead.

Hi. Good morning.

Good morning.

Many of my questions have been answered, but I did have two kind of follow-up questions. The first is, when you talk about the 130% increase in the Powder River Basin for new contract versus the average realization in 2005, are you talking about the average realization of 2005 across your entire PRB portfolio, or just the set of contracts that are coming off and need to be repriced going forward?

It's the average realization as a benchmark for our North Antelope Rochelle product that we realized in 2005 for all of our contracts.

Okay.

It's the average sales price we realized in 2005. So it's a blend of contracts, of course.

Okay. Thanks for that clarification.

The other question I had is, in regards to Illinois Basin coal, in kind of the post-scrubber world that you eluded to earlier in the call, how do you see Illinois Basin coal measuring up with higher sulfur coal in the northern Appalachia region? How do your customers view the differences between one region of coal and the other region of coal?

Well, we see the Illinois Basin being very strong in that future marketplace for a number of reasons. Most importantly is the transportation network to get the Illinois Basin coal to market. It can go by rail, it can go by truck in a lot of cases, and it can go by river. And that river can take it all the way to the southern tier of the U.S. So to a large degree, it's got much more favorable transportation dynamics than the northern Appalachia coals.

And from a mining standpoint and a cost standpoint, the CapEx that it requires per ton of additional installed capacity, we think is lower than what we're seeing out of some of the others competitors that are putting in capacity in norther Appalachia.

Okay. That's very helpful. Thank you.

Our final question is a follow-up from Daniel Roling. Please go ahead.

Thank you. Would you give us a update please on the Thoroughbred plant and where you stand on that?

Sure can, Dan. Maybe start with Prairie State for a minute. As everybody knows, we had received our permits for Prairie State, our power plant in Illinois. Those have been appealed. Right now we're going through that appeal process with the Environmental Appeals Board and awaiting that decision.

And the case of Thoroughbred, which is in Kentucky, again, had received the permits, they were appealed, those appeals had gone through or are going through the State process. The process in Kentucky is less defined in terms of time frames and procedures than in Illinois, so it's been taking a bit longer.

But in both cases, we're still looking for favorable decisions coming out of those appeal processes when they do wind up.

Any guess on when?

I would have been wrong a number of times in the past, so I probably ought to leave it -- I'd say -- with -- our belief is that the Prairie State appeals process will be resolved on a timely basis this year. We hope that's the case with Thoroughbred, but feel a bit more confident with Prairie State process.

So basically a year for the final appeal? Or is this final or is there another one after this?

The case of Prairie State would be basically the final appeal process.

Okay. And then, if I may, just a quick question: as we were talking about imports of coal earlier and you talked about the infrastructure to bring coal in being an issue. I believe you're an owner in DTA, and DTA is building a import loading facility. What's the capital on that and the timing?

It's a number of years, Dan, and I couldn't give you the exact capital on that project, but I think it's a 2 to 3 year project at a minimum. And the capital is still up in the air, as everything is when you're starting to put the permitting process together and looking at the cost of steel. I think the numbers are moving around quite a bit.

Okay. Thank you, gentlemen.

And to the presentors, any closing comments?

Well, we want to thank you all very much for your interest in Peabody. As we've said, we're anticipating yet another record year in 2006. Not only a strong year, but given that we've got three of our largest Longwall operations going through transformations and new equipment and upgrades in the first quarter, a strong first quarter for all of the remainder of the Peabody operations and business. So given what we've accomplished in terms of our sales going forward, as we said earlier, it looks to be a very strong year and a number of years to follow. So thank you all very much.

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