(EDGAR Online via COMTEX) -- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis provides a narrative of our results of operations and financial condition for the three and six months ended June 30, 2020 and 2019. The following discussion and analysis should be read in conjunction with our Condensed Consolidated Financial Statements and related notes included elsewhere in this Quarterly Report on Form 10-Q and our Consolidated Financial Statements and related notes and risk factors contained in our Annual Report on Form 10-K for the year ended December 31, 2019. COVID-19 Pandemic
In the first quarter of 2020, the COVID-19 virus was declared a pandemic by the World Health Organization. The COVID-19 pandemic has had negative impacts on our business, results of operations, financial condition and cash flows. A continued period of reduced demand for our products could have significant adverse consequences. The full extent of the impact of the COVID-19 pandemic on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak, its impact on our customers and suppliers and the range of governmental and community reactions to the pandemic, which are still uncertain and cannot be fully predicted at this time.
Our current view of the impacts of COVID-19 to our customers and suppliers is discussed below in the Market Overview section. Additionally, refer to Note 1 for further discussion of the COVID-19 pandemic impacts to our business and Note 8 for discussion of certain strategic actions with respect to two of our thermal coal mining complexes in an effort to strengthen our financial performance.
All of our coal mining operations have been classified as essential in the states in which we operate. Health and safety is a core value of our company and is the foundation for how we manage every aspect of our business and we have therefore implemented policies, procedures and prevention measures to protect our employees during the COVID-19 pandemic. These policies, procedures and prevention measures include, but are not limited to, employee communications on COVID-19 monitoring and precautionary measures, enhanced cleaning and sterilization practices, limiting contractor access to our properties, limiting business travel, implementing social distancing measures by staggering shift times, limiting in-person meetings and meeting sizes, and remote work arrangements. We will continue to evaluate these policies, procedures and precautionary measures for further enhancements as necessary.
The metallurgical coal market continued to exhibit weakness through the second quarter of 2020, primarily driven by the impacts of the COVID-19 pandemic. The global price deterioration accelerated in late March 2020 with metallurgical coal prices declining. Atlantic High-Vol A indices averaged nearly $111 per metric ton in June, down from $124 per metric ton in April. After temporarily stabilizing in late June and early July, the Atlantic High-Vol A index declined further to $109 per metric ton as domestic steelmakers continued operating at reduced levels while international markets have experienced modest growth. In the seaborne market, European steel production is slowly improving as COVID-19 lockdowns are being lifted. However, we are also entering the typically slow summer season for steel shipments. We also expect India to start showing a modest rebound from their COVID-19 lockdowns.
On the supply side, Australian production has remained fairly steady, while the U.S. domestic producers have idled mines and operated on reduced schedules due to weak demand. Global manufacturing and industrial production experienced significant, rapid reduction resulting in a material demand shock to steel and metallurgical coal demand. According to the World Steel Association ("WSA"), June crude steel production declined seven percent globally with Europe declining nearly 25% and the U.S. declining approximately 35% due to the COVID-19 lockdowns. In their June Short Range Outlook, WSA forecasts global steel demand to decline 6.4% in 2020, returning to 3.8% growth in 2021 with EU and NAFTA regions driving that growth. We remain focused on being nimble in meeting the uncertain demand and will adjust our production profile as needed.
Our second quarter 2020 results were impacted by our steel customers' slowdowns and shutdowns and our utility customers' lower power demand and high coal inventory levels, attributable in part to the concern around the global economic impact of the COVID-19 pandemic. On April 3, 2020, we announced temporary operational changes with the majority of our operations idled for a period of approximately 30 days in response to these market conditions. As of May 4, 2020, all Company sites were back to nearly normal staffing levels and operating capacity with additional precautions in place to help reduce the risk of exposure to COVID-19. We continue to evaluate market conditions amid the continuing uncertainty and reduced demand for coal and have adjusted our operations accordingly.
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Throughout the second quarter of 2020, we received force majeure notices, operation curtailment notices, notices exercising reduced volume options, and volume deferral requests from some of our metallurgical and thermal coal customers who asserted, for the most part, government shutdown orders and/or the effects of the COVID-19 pandemic generally. Several of these customers have subsequently delivered force majeure lift or cessation notices. In many cases where shipments were missed, we expect that the shipments will be made up upon cessation of the alleged force majeure condition. We are beginning to see slowly improving demand for steel in our markets, which we believe will lead to improved demand for metallurgical coal. We expect the next few months will remain challenging, however, as steel mills work off coke inventories and spot sales opportunities are limited and subject to heavy competition. It appears that metallurgical coal markets may not improve until late 2020 or early 2021. On the thermal coal side, many utility customers are experiencing average or better summer cooling demand, which should help to reduce inventory overhang. Due to the uncertainty around the timing of economic stabilization and recovery, however, our ability to estimate the extent or timing of future metallurgical or thermal customer coal demand is limited.
We have not experienced any significant supply chain disruptions due to the COVID-19 pandemic. As a result of the overall decline in coal production, we have observed an inventory increase of certain mining supplies across the coal market, resulting in some market share competition among vendors. We will continue to monitor these developments closely.
We are a large-scale provider of met and thermal coal to a global customer base, operating high-quality, cost-competitive coal mines across two major U.S. coal basins (CAPP and NAPP). As of June 30, 2020, our operations consisted of twenty-six active mines and ten coal preparation and load-out facilities, with approximately 4,020 employees. We produce, process, and sell met coal and thermal coal from operations located in Virginia, West Virginia and Pennsylvania. We also sell coal produced by others, some of which is processed and/or blended with coal produced from our mines prior to resale, with the remainder purchased for resale. As of December 31, 2019, we had 1.3 billion tons of reserves, including 861.0 million tons of proven reserves and 469.9 million tons of probable reserves.
For the three months ended June 30, 2020 and 2019, sales of met coal were 3.3 million tons and 3.4 million tons, respectively, and accounted for approximately 64.0% and 53.1%, respectively, of our coal sales volume. Sales of thermal coal were 1.8 million tons and 3.0 million tons, respectively, and accounted for approximately 36.0% and 46.9%, respectively, of our coal sales volume. For the six months ended June 30, 2020 and 2019, sales of met coal were 6.6 million tons and 6.5 million tons, respectively, and accounted for approximately 62.0% and 52.8%, respectively, of our coal sales volume. Sales of thermal coal were 4.0 million tons and 5.8 million tons, respectively, and accounted for approximately 38.0% and 47.2%, respectively, of our coal sales volume.
Our sales of met coal were made primarily to steel companies in the northeastern and midwestern regions of the United States and in several countries in Europe, Asia and the Americas. Our sales of thermal coal were made primarily to large utilities and industrial customers throughout the United States. For the three months ended June 30, 2020 and 2019 approximately 61.4% and 55.5%, respectively, of our total coal revenues were derived from coal sales made to customers outside the United States. For the six months ended June 30, 2020 and 2019 approximately 57.9% and 56.0%, respectively, of our total coal revenues were derived from coal sales made to customers outside the United States.
As of June 30, 2020, we have three reportable segments: CAPP - Met, CAPP - Thermal, and NAPP. To conform to the current period reportable segment presentation, the prior periods have been restated to reflect the change in reportable segments. Refer to Note 18 for additional disclosures on reportable segments including export coal revenue information.
Refer to Note 8 for disclosure information regarding strategic actions impacting certain mines during the three months ended June 30, 2020.
Refer to Note 2 for disclosure information on discontinued operations related to the sale of assets in our former PRB operations.
Factors Affecting Our Results of Operations Sales Agreements 42 -------------------------------------------------------------------------------- Table of Contents We manage our commodity price risk for coal sales through the use of coal supply agreements. As of July 22, 2020, we have sales commitments as follows: 2020 Tons % Priced Average Realized Price per Ton CAPP - Met 12.2 million 80 % $87.56 CAPP - Thermal 3.7 million 98 % $55.53 NAPP 6.2 million 98 % $41.29
Due to the significant uncertainty in the worldwide coal markets due to COVID-19, there is risk of reduction in future shipments due to deferrals and utilization of force majeure clauses in customer contracts.
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Results of Operations
Our results of operations for the three and six months ended June 30, 2020 and 2019 are discussed in these "Results of Operations" presented below.
Three Months Ended June 30, 2020 Compared to the Three Months Ended June 30, 2019
Revenues The following table summarizes information about our revenues during the three months ended June 30, 2020 and 2019: Three Months Ended June 30, Increase (Decrease) (In thousands, except for per ton data) 2020 2019 $ or Tons % Coal revenues $ 410,614 $ 653,828 $ (243,214) (37.2) % Other revenues 1,224 2,378 (1,154) (48.5) % Total revenues $ 411,838 $ 656,206 $ (244,368) (37.2) % Tons sold 5,147 6,365 (1,218) (19.1) %
Coal revenues. Coal revenues decreased $243.2 million, or 37.2%, for the three months ended June 30, 2020 compared to the prior year period. The decrease was primarily due to lower coal sales realization within our CAPP - Met operations, as a result of a weaker pricing environment and the impacts of the COVID-19 pandemic, relative to the prior year period. Refer to the Coal Operations section below for further detail on coal revenues for the three months ended June 30, 2020 compared to the prior year period.
Cost and Expenses The following table summarizes information about our costs and expenses during the three months ended June 30, 2020 and 2019: Three Months Ended June 30, Increase (Decrease) (In thousands) 2020 2019 $ % Cost of coal sales (exclusive of items shown separately below) $ 383,279 $ 496,746 $ (113,467) (22.8) % Depreciation, depletion and amortization 49,262 62,814 (13,552) (21.6) % Accretion on asset retirement obligations 7,304 6,847 457 6.7 % Amortization of acquired intangibles, net 2,096 (343) 2,439 711.1 % Asset impairment and restructuring 184,173 5,826 178,347 3,061.2 % Selling, general and administrative expenses (exclusive of depreciation, depletion and amortization shown separately above) 12,028 14,783 (2,755) (18.6) % Merger-related costs - 156 (156) (100.0) % Total other operating (income) loss: Mark-to-market adjustment for acquisition-related obligations (2,052) 1,014 (3,066) (302.4) % Other (income) expense (124) 1,414 (1,538) (108.8) % Total costs and expenses $ 635,966 $ 589,257 $ 46,709 7.9 %
Cost of coal sales. Cost of coal sales decreased $113.5 million, or 22.8%, for the three months ended June 30, 2020 compared to the prior year period. The decrease was primarily driven by a decrease in tons sold in the current period relative to the prior year period and decreased costs of purchased coal, supplies and maintenance expense, and salaries and wages expense, partially offset by inventory change during the current period as we continue to improve our cost management to achieve operational efficiencies.
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Depreciation, depletion and amortization. Depreciation, depletion and amortization decreased $13.6 million, or 21.6%, for the three months ended June 30, 2020 compared to the prior year period. The decrease in depreciation, depletion and amortization primarily related to a decrease in depreciation of machinery and equipment primarily due to asset disposals and asset impairments during the current period.
Accretion on asset retirement obligations. Accretion on asset retirement obligations increased $0.5 million, or 6.7%, for the three months ended June 30, 2020 compared to the prior year period. This increase was primarily driven by an increase in our credit-adjusted risk-free rate relative to the prior period.
Amortization of acquired intangibles, net. Amortization of acquired intangibles, net increased $2.4 million, or 711.1%, for the three months ended June 30, 2020 compared to the prior year period. The increase was primarily driven by the lower current period amortization related to below-market acquired intangibles.
Asset impairment and restructuring. Asset impairment and restructuring increased $178.3 million for the three months ended June 30, 2020 compared to the prior year period. Asset impairment and restructuring for the three months ended June 30, 2020 is comprised of long-lived asset impairments of $161.7 million recorded within CAPP - Thermal, NAPP and All Other and restructuring expense of $22.4 million recorded within CAPP - Thermal, NAPP and All Other as a result of continued weakening coal prices and strategic actions with respect to two thermal coal mining complexes. We recorded asset impairment of $5.8 million during the three months ended June 30, 2019 primarily related to the write-off of prepaid purchased coal from Blackjewel due to Blackjewel's Chapter 11 bankruptcy filing on July 1, 2019. Refer to Note 8 for further information.
Selling, general and administrative. Selling, general and administrative expenses decreased $2.8 million, or 18.6%, for the three months ended June 30, 2020 compared to the prior year period. This decrease in expense was primarily related to decreases of $2.0 million in incentive pay, $1.4 million in wages and benefits expense, and $0.5 million in professional fees, partially offset by increases of $2.2 million in stock compensation expense and $0.5 million in severance expense.
Merger-related costs. Merger-related costs were $0.2 million for the three months ended June 30, 2019. The costs related primarily to professional fees, severance pay and incentive pay incurred related to the Merger Agreement entered into with the Alpha Companies.
Other (income) expense. Other income increased $1.5 million, or 108.8%, for the three months ended June 30, 2020 compared to the prior year period, primarily due to a decreased loss on sale of assets in the current period.
Other Income (Expense) The following table summarizes information about our other income (expense) during the three months ended June 30, 2020 and 2019: Three Months Ended June 30, Increase (Decrease) (In thousands) 2020 2019 $ % Other income (expense): Interest expense $ (18,814) $ (16,077) $ (2,737) (17.0) % Interest income 5,533 1,885 3,648 193.5 % Loss on modification and extinguishment of debt - (26,459) 26,459 100.0 % Equity loss in affiliates (1,047) (2,475) 1,428 57.7 % Miscellaneous loss, net 188 (523) 711 135.9 % Total other expense, net $ (14,140) $ (43,649) $ 29,509 67.6 %
Interest expense. Interest expense increased $2.7 million, or 17.0%, for the three months ended June 30, 2020 compared to the prior year period, primarily due to an increase in debt outstanding and higher interest rates related to the debt facilities in place during the current period. Refer to Note 10 for additional information.
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Loss on modification and extinguishment of debt. During the three months ended June 30, 2019, we recorded a loss on modification of debt of $0.3 million, primarily related to modification fees paid under the refinance, and a loss on extinguishment of debt of $26.2 million, primarily related to the write-off of outstanding debt discounts and unamortized debt issuance costs under the Amended and Restated Credit Agreement dated November 9, 2018. Refer to Note 10 for additional information.
Income Tax (Expense) Benefit
The following table summarizes information about our income tax benefit during the three months ended June 30, 2020 and 2019:
Income taxes. Income tax expense of $33.2 thousand was recorded for the three months ended June 30, 2020 on a loss from continuing operations before income taxes of $238.3 million. The effective tax rate differs from the federal statutory rate of 21% primarily due to the increase in the valuation allowance.
Income tax benefit of $1.0 million was recorded for the three months ended June 30, 2019 on income from continuing operations before income taxes of $23.3 million. The effective tax rate differs from the federal statutory rate of 21% primarily due to the permanent impact of percentage depletion and stock-based compensation deductions and the reduction in the valuation allowance. Refer to Note 14 for additional information.
We extract, process and market met and thermal coal from surface and deep mines for sale to steel and coke producers, industrial customers, and electric utilities. The Company conducts mining operations only in the United States with mines in Central and Northern Appalachia.
Our CAPP - Met operations consist of high-quality met coal mines, such as Deep Mine 41, which predominantly produce low-ash met coal, including High-Vol. A, High-Vol. B, Mid-Vol., and Low-Vol., which are shipped to domestic and international coke and steel producers. While the CAPP - Met operations produce predominantly met coal, they also produce some amounts of thermal coal as a byproduct of mining. CAPP - Met operations consist of four active mines and two preparation plants in Virginia, eighteen active mines and five preparation plants in West Virginia, as well as expenses associated with certain idled/closed mines.
Aug 07, 2020
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