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Executives

Vic Patrick - Vice Chairman, Chief Financial Officer & General Counsel

George Richmond - Chief Executive Officer of Jim Walter Resources

Lisa Honnold - Controller

Mark Tubb - Vice President of Investor Relations

Analysts

Jim Rollyson - Raymond James

Mark Liinamaa - Morgan Stanley

Meredith Bandy - BMO Capital

Dan Mannes - Avondale

Luther Lu - FBR Capital Markets

William Robinson - City Best

Garrett Nelson - Davenport & Company

Phil Gibbs - KeyBanc Capital Market

Mark Caruso - Millennium Partners

Walter Industries Inc. (WLT) Q2 2009 Earnings Call July 23, 2009 10:00 AM ET

Operator

Hello and welcome to the Walter Energy second quarter 2009 results conference call. All participants are in a listen-only mode. (Operator Instructions)

Now I would like to turn the meeting over to Mr. Mark Tubb, Vice President of Investor Relations. Thank you. You may begin.

Mark Tubb

Thank you, Dori. Good morning and thank you for joining us for Walter Energy’s second quarter 2009 earnings conference call. This call is being webcast live on the Internet and a recording of today’s call will be archived on our website for up to 30 days. This morning, management will discuss earnings for the second quarter 2009, as well as our current perspective on the market and our business outlook.

During today’s call, we may refer to forward-looking statements made in yesterdays press release and may make those and other forward-looking statements on today’s call. For more information regarding risks associated with forward-looking statements, please refer to the company’s SEC filings.

Joining me today are Walter Energy’s Vice Chairman, CFO and General Counsel, Vic Patrick; Jim Walter Resources’ CEO, George Richmond; and Walter Energy Controller, Lisa Honnold. Once we have completed our prepared remarks, we will open the call to questions from our dial-in participants.

At this time, I will turn the call over to Vic.

Vic Patrick

Thank you, Mark. Good morning, everyone. I would like to spend a moment on our view on the global steel industry as it relates to our business, before we get into our results for the quarter and our outlook. Global crude-steel production for the first six months of 2009 was down 35% versus the same period last year, excluding China. China was up 1.2% during the period and because they are such a large proportion of the global steel industry, with China global steel production was down 21%.

Recently, our key markets of Europe and South America have also showed signs of improvement with June crude-steel production up 13.5% sequentially in Europe and 2.5% in South America. Companies have started to rebuild their steel inventories in response to inventory declines and production cutbacks. We’re seeing numerous reports of blast furnaces coming back online and hot rolled band world export prices are up nearly 8% in the month of July and 22% from the low.

We’ve seen a dramatic increase in the amount of Australian met coal going into the Chinese and Indian markets. Chinese demand in particular has had a dramatic impact on the metallurgical coal market as reports indicate that China is consuming imported metallurgical coal at a rate that is 10 times last year’s level. This demand has driven spot prices for premium hard coking coal in some cases above the $129 Australian benchmark.

Port congestion issues in Australia are further tightening the marketplace, shrinking the available supply of metallurgical coal. We have seen reports that approximately 80 boats are sitting off the coast of Australia waiting to load met coal with delays expected to extend three to four weeks. As you know, several major metallurgical coal producers have cut production in the past 12 months, further constraining the supply of available coking coal in the short term.

The demand for imported met coal from Asia and the constraints on supply from Australia affect the seaborne market worldwide as the available supply that would otherwise be exported to other parts of the world goes to China and India. Seaborne met coal trades in the global market with regional differences occurring primarily as a result of product quality and shipping costs. In short, for us, after two very slow months in April and May, our order books are back at normal levels and pricing has strengthened as demand for our premium metallurgical hard coking coal has returned.

I will now turn the call over to Lisa to discuss our financial results for the quarters, which, despite the depressed conditions in the global steel market, were very solid. Lisa?

Lisa Honnold

Thank you, Vic and good morning everyone. For the second quarter, Walter Energy reported earnings per diluted share of $0.21 on income from continuing operations of $11.3 million. Operating income was $21.4 million on revenues of $169.1 million with most of it coming from our underground mining segment. Results for the current quarter were lower versus the prior year, primarily on reduced volumes from our metallurgical coal and coke businesses resulting from the worldwide slowdown in steel production.

Although operating income was down significantly versus last year’s second quarter, operating income for the first half of 2009 is actually up 18.5% versus last year. This is the first time results from our financing and homebuilding businesses have been reported as discontinued operations. Second quarter results from the discontinued financing and homebuilding businesses were insignificant.

Our effective tax rate for the first half remained consistent with the prior year at 26%, reflecting the benefit of percentage depletion deductions. Our balance sheet remains in good shape with only $147.2 million in net debt at quarter end. Liquidity also remains strong at $325.9 million, our ending cash balance was $42 million versus $93 million at the end of March.

The decrease in cash is primarily due to a $30 million revolver pay down and cash costs to separate our financing business, including a $16 million cash dividend paid to shareholders. Strong receivable collections in July have increased our cash balance to $66 million currently.

I will now turn the call over to George to discuss our coal mining and metallurgical coke operations.

George Richmond

Thanks, Lisa and good morning. Second quarter metallurgical coal sales of 1.1 million tons were about 100,000 tons more than we expected. We saw demand increasing throughout the quarter and this trend has continued into the beginning of the third quarter. June was a particularly strong month with shipments of 630,000 tons. It is also important to note that, despite the most severe downturn for the steel industry we have ever seen, sales volumes in the first half were down 12% compared to the same period last year.

Met coal pricing averaged $116.15 per short term and included none of our contracted $315 carryover tons. Sales included some coal sold into the spot market, as well as some provisionally priced contract tons. At the end of the second quarter, approximately 1.5 million metric tons of higher priced carryover tons remained, which we expect to ship overtime as the market conditions improve.

Metallurgical coal production totaled 1.3 million tons in the second quarter. At the Mine No. 4, we have reduced production by about 100,000 tons by eliminating some Saturday longwall production. The Mine No. 7 produced 600,000 tons in the second quarter and included a 10 day longwall move. The Southwest "A" panel continues to produce and although the panel does not have optimum mining conditions, it has exceeded our projections.

We ended the quarter with 840,000 tons in inventory, a level at which we are comfortable. As expected, mining costs increased to approximately $70 per ton for the second quarter due to the volume reductions, but also due to a higher ratio of continuous mining to longwall tons of the Mine No. 7. Coal produced from continuous miners is significantly more expensive to produce than longwall coal, which is why we try to achieve an optimal 80/20 split of longwall tons to continuous minor tons.

With the downturn in the market in the first half of the year, we could have reduced the number of continuous mining units to lower production costs in the short term. Instead, we made the decision to operate these units resulting in higher production costs in the current period. However, we will reach the benefits of this decision as the market continues to improve.

Moving to our metallurgical coke operations, Walter Coke has been significantly impacted by the downturn in the domestic steel industry. The business sold 28,000 tons in the current year period compared to 106,000 tons in the second quarter last year. We have reduced production at Walter Coke to about 33% of capacity in response to market demand. However, we continue to be negatively impacted by the fixed cost nature of this business.

Our surface mining operations produced 374,000 tons of steam and industrial coal and sold 277,000 tons of coal. The domestic steam market is significantly oversupplied. In our business, however, we are well contracted and look for an improved second half of 2009. The natural gas business lost approximately $0.5 million in the second quarter primarily as a result of lower gas prices, which were down to an average of $3.45 per Mcf versus $8.99 in the prior year period.

We have dramatically reduced our capital spending to conventional wells in our gas business, a strategy which we will maintain until pricing recovers. As a result of market factors did mentioned, we are cautiously preparing for a rebound. For example, we recently started Saturday production and expect this to continue throughout the third quarter. We have continued to prepare for a return to robust demand by aggressively pursuing development work on our future panels.

While this costs us more on a per ton basis in the short term, we benefit significantly in future periods when demand and pricing are likely to be much stronger. We still plan the start up of our leased expansion longwall in January 2010. This expansion will give us 2.7 million tons of additional annual capacity. Separately, our margin guidance in yesterday’s release reflects an average pricing approximating to the Australian benchmark.

We have not included any of the $315 price carryover tons in our third quarter margins as we have not yet resolved treatment of these contracts. We will have higher costs in inventory entering the third quarter due to lower production volumes and our less than optimal continuous miner to longwall mix in the second quarter. Production costs early in the quarter are higher as well as a scheduled miner’s vacation impacted production costs during the first 10 days of July.

This high cost trench should reverse in the latter half of the quarter with significantly lower costs in inventory at quarter end. Our steam and industrial coal business continues to contribute to cash flow and earnings with 90% of expected production contracted. In addition, we are well positioned with furnace in place and equipment already purchased to ramp up production when market conditions improve.

Walter Coke customers have significantly reduced orders for the balance of 2009 due to high coke inventories on reduced plant operations. The resumption of normal shipping levels cannot be determined at this time, but it is not expected to occur in the third quarter. As a result, we have reduced coke production by approximately 70%.

Moving to the market, the first half of the year reflects the difficult market we were in and we adjusted production volumes accordingly. Our first quarter was relatively normal at 1.8 million tons sold. We did have some deferments, but we were able to sell some spot tons at more than $130 a ton. In the second quarter, preliminary shipments were extremely low as customers grappled with the lot of demand for their products and high inventories.

However, in June, as I have mentioned, we saw a pick up in sales volumes and we are cautiously optimistic a rebound has begun. We have recently started accepting contracts inline or slightly above benchmark pricing. So, let me summarize where we stand today. We have approximately 400,000 metric tons priced in the $135 range. We have approximately 1.5 million metric tons priced at $315. We have priced 200,000 metric tons, which were sold into the spot market, below benchmark pricing.

Finally, we have 1.4 million metric tons of new 2009, 2010 contracts averaging Australian benchmark prices. The remainder is on priced. The $315 coal sales are mostly associated with our South American customers and we have not settled these 2009, 2010 contracts yet. We expect our customers to live up to their commitments with respect to these carryover tons. We will make a separate announcement once a substantial portion of these tons have been settled.

Before I turn the call over to Vic, I would like to congratulate the employees of our Taft Surface Mining operation, which recently completed two full years of accident free performance. Vic?

Vic Patrick

Thanks, George. To summarize, it feels like review the worst of the down-market and the same factors that help us through the bottom of the cycle will continue to benefit us in a strengthening market. Our Blue Creek coal is a premium product, which earns industry leading margins. Our proximity to the port gives us transportation advantages into our key product destinations and makes us the lowest cost U.S. provider of high quality met coal. We have a strong balance sheet.

Our Mine No. 7 need to expansion will give us 2.7 million tons of additional annual capacity. Finally, our actions in advance of the recovery have positioned us to have substantial coal available and when we start running these longwall have significantly lower production costs. These competitive advantages position us to continue delivering shareholder value. Over the longer term, we believe that high quality metallurgical coal will continue to increase in scarcity as the global steel market expands.

Now that we have completed our prepared remarks, we will open the call to questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Jim Rollyson - Raymond James - Raymond James.

Jim Rollyson - Raymond James

George, you talked about the $315 coal and obviously it is not fully resolved, but you are working on it, but any sense of whether or not you might be able or you think you might be able to ship that by the end of next year, do you think maybe between now and then, is that a fair assumption or do you think it could stretch out longer?

George Richmond

Jim, we are obviously in negotiations on then I really too much say that until we finish the negotiations. However, we do expect to be shipping that coal next year. Whether or not it runs over today, I can’t tell you, but we want it as early as we can and obviously the market is starting to give us a little bit more leverage.

Jim Rollyson - Raymond James

Obviously, things seem to be ticking in the right direction and your June shipments show that and your guidance for 3Q shows that are you feeling like, at this point, this trend is going to continue in your direction when you head into the fourth quarter and I guess what I mean by that is do you think fourth quarter volumes will probably hold up compared to 3Q volumes at this point?

George Richmond

We still have nominations and some work to do on scheduling, but I would think that the fourth quarter rolled up from the third quarter regarding shipments.

Jim Rollyson - Raymond James

As you look to next year, you guys made the comment in your press release that you are planning to start the longwall production at the No. 7 East it says early January. So, I presume the outlook for volumes next year is going to be up, but any thoughts right now and I realize it is really early but originally you guys were going to be pushing 9 million, 8.5 million and 9 million tons next year.

I’m guessing the market might not be there for all those tons, but it certainly would seem like it be overall better than what we are looking at this year. Any kind of thoughts, magnitude wise or what next year might look like?

George Richmond

Yes, I think we are starting a longwall. We do feel volumes are going to be up. We will have relatively low inventories of No. 7 going into the first quarter, so we will need to rebuild those, but we will have to finish the final negotiations before we decide whether that longwall is going to run six days a week, five days a week or not at its maximum speed, but we have got some work to do to determine that. We certainly think volumes are going to be up.

Jim Rollyson - Raymond James

Just on the Walter Coke business, obviously, the pricing seems to be holding up well. It is just the volumes that seem to be the problem in the short run. I guess two questions. One, with some of your customers there restarting plants, kind of what do you think the timing is before they need to start buying a bit more coke and secondly, what level of shipments do you need if prices stick around where they are to go back to the positive on the earnings standpoint from that business?

George Richmond

You are right. Our major customer has recently restarted their blast furnace and after having it idle for a while and they are clearly working through inventory levels, so we certainly don’t believe they will take any coke in the third quarter. We can’t say for definite in the fourth quarter, but we are somewhat hopeful and regarding a breakeven level, probably 45,000 plus.

Jim Rollyson - Raymond James

Excellent and thanks and congrats, Vic, on your timely stock purchases late last year, early this year.

Vic Patrick

Well, thank you for noticing, Jim. The $0.42 were, it’s nice to see them in the black.

Operator

Your next question comes from Mark Liinamaa - Morgan Stanley.

Mark Liinamaa - Morgan Stanley

Can you talk about your spot shipments? Is much of that going to the U.S. and are you looking at the U.S. at all as a potential market for you?

George Richmond

We are not selling coal into the U.S. again, it takes away our transportation advantage and the spot shipments, we did not want to in the loll in the second quarter, we did not want to settle contracts at those type of prices. So, to dilute the mine costs and keep the mines operating at least five days a week, we did settle some business in the spot market at about $10 below the benchmark. We have clearly stopped doing that and it was just really a stop gap.

Mark Liinamaa - Morgan Stanley

Just if you could comment a little bit outside your normal markets what is going on in China. Any thoughts about the Australian port congestion and whether you see supply demand patterns adjusting in a way that could open up new markets other than the traditional Europe, Latin America.

George Richmond

We have always liked the markets we are in and I think we still like them. Clearly, the first to move into China or India I am not saying that we couldn’t do that long term, but clearly the more Australia moves into those markets, the less that is available in our markets and we still think we get the benefits of the Chinese economy.

Mark Liinamaa - Morgan Stanley

Can you characterize how much Australian stuff comes into the markets, how much of a market opportunity that is if indeed China is pulling it away from you?

George Richmond

I haven’t got the numbers in front of me, but it is fairly significant. I have no doubt we won’t have enough coal to fill the gaps.

Operator

Your next question comes from Meredith Bandy - BMO Capital.

Meredith Bandy - BMO Capital

So, I just wanted to go back you said that you sold this is as of 6/30, the sales that you gave us, George, the breakdown and then what did you say was sold at around the Australian benchmark? I didn’t quite hear, I’m sorry.

George Richmond

1.4 million metric.

Meredith Bandy - BMO Capital

In the past, you’ve said that every 100,000 thousand tons is like a dollar to ton cost. Would you still say that is the case and if so, I am surprised that we are seeing the margins come down quarter-to-quarter. Is that on the sales price side or is that because of the vacations and continuous miner tons that you mentioned earlier?

George Richmond

The biggest chunk of it, and it is approximately $10 to $12 a ton, is the high priced coal we have in inventory going from the second quarter.

Meredith Bandy - BMO Capital

Okay, and that is because of the continuous miner tons?

George Richmond

Well, it’s because of the reduced production, the higher fixed costs where they are not running Saturday. So, the lower volumes and the higher ratio of continuous miner tons that we operated in the second quarter.

Meredith Bandy - BMO Capital

Previously, this was ages ago now, but the full capacity could be 9 million tons per year and I know we are not there yet and you don’t have a crystal ball, but if everything went well and continued to improve, how long would it take you to get to that full capacity?

George Richmond

I think our spread has traditionally been about 8.7 to 9 and the difference between the 6.2 million we operate today and those higher levels is the starting up of the East expansion longwall. Well, as of September, that longwall is ready.

Now we are going to continue developing so it might take me about a month to put the equipment in, but really once we decide to do it, it is a month and then we start the longwall let them we have that longwall volume, which is that the longwall itself is over 2 million tons and it can do that overnight. It don’t take a ramp up period; it is a matter of a phone call.

Vic Patrick

Which is not to make a market prediction, Meredith. We are going to have to build a business plan and match our longwall production to demand that we would expect next year. So, we are not saying necessarily we will bring all of that capacity on for the full year for next year, but we would have the ability to bring it on and get that done if the market is ready for that.

Operator

Your next question comes from Dan Mannes - Avondale.

Dan Mannes - Avondale

Just briefly, on the surface mining business, you really ramped down the costs there sequentially and it looks like your guidance for the next quarter looks similar. Can you talk about any changes that have occurred in your operations there and then secondly, as it relates to that business, volumes were down a bit. Can you talk a little bit I know you have contracts, but can you talk a little bit about the real demand for coal in the Southeast given weather and reduced coal usage?

George Richmond

Well, they had a good quarter in production, which helps costs and also we have seen some reductions in costs from explosives and diesel and some of the materials they use to produce it, but basically they had a pretty good quarter.

Regarding the volumes, the inventories are relatively high at the power plants all over the Southeast and the power companies out committed we did have some slippage in barges picking up coal to take to plants, but they have committed they will catch those tons up if inventory levels allow them to. We think we will pick some of those tonnage back in the second half.

Dan Mannes - Avondale

It just looks interesting because your operating margins per ton for identical in your surface business and in your met coal business, which seems a little bit add given the strength in one and I guess the perceived weakness in the other.

George Richmond

We will fix that.

Dan Mannes - Avondale

Then if you could just give me a little bit of insight here. On the contract negotiations, you are having customers, or in some cases, you are shipping provisional tons or shipping even spot tons to the same customers that have carryover tons undelivered to them and you are negotiating with. I mean how does that all sort of wrap together?

It seems sort of convoluted that the same customer that sort of owes you $315 for tons that haven’t been taken; you are still shipping tons to, but at a lower rate. I mean does that disadvantage you as you try to get that price back or is that sort of a holding measure by not going term with them to sort of retaining the perceived value of the carryover tons? It seems kind of complicated to be honest.

George Richmond

It is kind of complicated. It is obviously a little quandary we faced. They have inventory, they have had inventory and their sales are down and their selling price of steel is down and a lot of them have been, I won’t say in financial trouble, but their finance we didn’t look too good.

Now we are faced with an issue I mean we have got a fixed cost operation and we want to produce coal. So, in effect, we took the position, okay, we will move the coal and all the time we are talking about how we’re going to resolve these higher priced items. What we have basically deferred some we haven’t tried to force those issues because we needed to move the coal at the same time.

Like I mentioned earlier, as the market improves, obviously the leverage improves as well, but we are discussing with most of them well, I think all of them to some level have committed that they are going to take those tons. It really is a timing issue and how we work it out.

Vic Patrick

I don’t think we are really dealing with the issue very differently from other suppliers, Dan. As you look at the statements other folks have made over the course of time, this issue has been out there. I don’t think we are dealing with this very much differently than other suppliers in the market.

Operator

Your next question comes from Luther Lu - FBR Capital Markets.

Luther Lu - FBR Capital Markets

George, I wonder could you explain a little bit better on the contract tons. For instance, the 400,000 tons at $135, do you expect to ship them for the balance of the year finish shipping them for the balance of the year?

George Richmond

Can’t guarantee that, but I would expect so. That would be my best thought at the moment.

Luther Lu - FBR Capital Markets

For the 200,000 tons of $10 below benchmark tonnage, have you shipped all of them in the second quarter or this is for the rest of the year?

George Richmond

No, most of that will go in the third quarter.

Luther Lu - FBR Capital Markets

For the 1.9 million tons, is this second quarter ‘09 through first quarter 2010 or some other different period?

George Richmond

1.4 million, not 1.9 million and it is really from now, some of it till the end of March and some of it till the end of June. It is a mixture.

Luther Lu - FBR Capital Markets

1.4 million or 1.9 million?

George Richmond

1.4 million.

Luther Lu - FBR Capital Markets

We are hearing that the Brazilians are really going with the stock market are they trying to take advantage of the market weakness and play cute or they just foresee that, as the market strengthens, every producer will also be bringing on new production and therefore there is not going to be a spike in the spot price?

George Richmond

Luther, I would like I mentioned earlier, we are in negotiations with South America and I don’t really want to go there right now, if you don’t mind.

Operator

Your next question comes form William Robinson - City Best.

William Robinson – City Best

I have a couple of questions. One may have been answered, but best I can tell, in Q2, did you guys have a negative cash flow of about $51 million?

Vic Patrick

There is a lot of different factors that sort out in 2Q cash flow. You have got $16 million that went out as a dividend with respect to the financing offering. You have got other expenditures that we had to professional advisers that became due on the closing of the transaction. We paid down the revolver $30 million Lisa is handing me some other numbers.

Lisa Honnold

Well, his number is right. It is $50 million and those are the reasons.

Vic Patrick

As Lisa mentioned, we had a strong delivery month in June, which was not a then the cash did come in after that. The cash position right now is at about $66 million. So, if you take the revolver pay down and take out those one time items associated with the financing, it really was a very good cash flow quarter.

William Robinson – City Best

All right, because there wasn’t cash flow for the period itself; it was just for the six months. So, it was a little bit confusing to look through.

Lisa Honnold

Our quarterly cash flow is not something we typically report on.

William Robinson – City Best

I can understand due to the various tonnage costs that are out there, it is almost like cafeteria style coal, so it is a little understanding on the guidance. On the Q1 report, you guided about tons sold to be about between 0.9 million and 1 million tons and an operating income of between 8 and 11, but it turned out to be 2127 according to this report. So, that seemed to be a wide variance there. It’s a little hard to follows is there any explanation for that?

George Richmond

Try and go through the quarter I guess that was…

Vic Patrick

The short answer is more tons and higher prices.

George Richmond

When we gave the guidance out, we were in April, we actually shipped not much more than 100,000 tons, 100,000 plus tons in April and 300,000 plus tons in May. So, we were clearly concerned about the volume. Well, June came in great and we just slipped a lot more tons into if you take the middle of that 9 to 1, we did 1.1. We are a 100,000 plus tons higher in sales.

William Robinson – City Best

Yes, because up until June, I guess, it was about only 400,000 I guess.

Vic Patrick

That is the loll I referred to in April and May and as we said during the conference call last time in connection with the release that you are quoting, that is the environment we were in. We have good visibility in terms of volumes four, five, six weeks ahead as customers nominate the boats to come in and at that point, we hadn’t had the June nominations yet.

William Robinson – City Best

We just to follow up on the guidance then, so to date, we have got Q1, Q2 obviously, which has come up to $1.57 and with the guidance that you are offering now of about 1.5 million tons at an operating income of about I took a median of about $15 bugs, it comes up to about $22.5 million, $23 million operating income, which pretty much mirrors where this quarter was, so that might be another $0.21.

I am just trying to extrapolate a little bit, which should get us to $1.78 and then the estimates I have been looking at, median for Q4 is about $0.32 a share, so we put that together, we are talking at the end of ‘09 of about $2.10 versus ‘08 of about $3.93. Have you got any response to any of that?

Vic Patrick

You do math really well. I mean we don’t do want to be decide or anything, but we don’t do EPS guidance. There are a lot of ins and outs. We are not out there with fourth quarter guidance. The best we can tell you is what George told you about volumes. Pricing, that’s going to depend on our negotiations that are happening right now. So, we can’t put a price on those tons.

In terms of building up the first half and the third quarter and the second building up the first half, looking forward to the guidance, the expectations that we have around shipping and price for the third quarter, you are at what we said, but in terms of what the fourth quarter looks like and how that all matches up, that’s going to depend on how pricing comes in for the fourth quarter.

In terms of the comparative question you asked, that we were a lot higher last year and a lot lower this year, that is all about the $315 coal that we were delivering really a lot of in the second half and particularly the fourth quarter of 2008 where those tons at those prices are not in what we did in the second quarter and not expected in the third quarter and whether there is any in the fourth quarter will depend on negotiations.

So, that is obviously a big factor in the difference between 2008 and 2009. In fact, the driving factor would be that because ultimately volumes are looking like they are not going to be so substantially different between the two years. They will be down a little bit, but not as dramatically as one might have thought earlier on this year.

William Robinson – City Best

Is there some kind of tell that we can look for as far as your shipment in other words, can we look at CSX loadings out of Blue Creek or anything like that or a ramping up of European steel mills or South American steel mills?

George Richmond

No, I don’t think you can look at CSX because we have a fairly large storage area in mobile, so if you just looked to the rail and we also ship by barge. So, one, you have to look at the rail and the barge and then you don’t know what is going into inventory at mobile. I think some people do get some information on the loadings out of mobile, which I think was a website where some people look at.

William Robinson – City Best

Well, it would be interesting to see this $315 carryover, how that results itself. I guess somebody did bring up the idea that you are going to sell me a lower priced coal for a while, take that and not settle on the $315 for a while.

George Richmond

As Vic pointed out, it is very, very important to all on this call that we understand how important it is. We will not forget about it.

Operator

Your next question comes from Garrett Nelson - Davenport & Company.

Garrett Nelson - Davenport & Company

We were wondering if you could give us a bit of an idea of the expected split by mine of the $60 to $65 per ton production cost guidance for the third quarter?

Vic Patrick

Look 7, is going to be higher and 4, is going to be lower, but I don’t think we want to go into the precise detail on that.

Garrett Nelson - Davenport & Company

Okay. So we should be modeling 7 to be higher and 4 to be lower, okay.

George Richmond

Let me just add that, until we get I mean depends how far you are going out, until you get next year where we crank that longwall up and then they come back to more inline.

Garrett Nelson - Davenport & Company

As far as the 840,000 tons of inventory at the end of the quarter, if possible could you break that out by mine?

George Richmond

One is down about 100,000 tons now. I know that is not the question, it is going in the right direction and I think the majority of it is No. 7 at the end of the quarter, the majority was No. 7 mine is 608 versus 238 at No. 4. However, we do expect the No. 7 to go down dramatically. We have a lot of demand for that over the rest of the year.

Garrett Nelson - Davenport & Company

Finally, you list your average met coal selling price is a little over $116 at short ton at the port in the second quarter, but in the financials you have it about $2.50 lower. I am assuming that difference is due to the merge?

George Richmond

No. Under the underground mining, we actually had about 40,000 tons of steam coal that we purchased and sold into the steam market.

Vic Patrick

It was in the segment, but it wasn’t met coal sales. So, the difference you see between segment price and the met coal price we reported is the result of that mix.

Garrett Nelson - Davenport & Company

So, there was no demurrage during the quarter?

George Richmond

There was some demurrage. I think it was about $1 a ton, and that was mostly in June. As you notice, we had a large shipping month, so we did go through things back to.

Garrett Nelson - Davenport & Company

Okay and should we be assuming any demurrage going forward?

George Richmond

Well, I would like to say I guess two things. One, we still have work to do in speed and loading rates up, but maybe a little bit of it won’t be bad if we have got boats lined up at our prices. I can’t give you an exact number, but I think we’re managing it better than we have in the past, but if the world steel business really does boom and we could get back of the boats and we’ll just have to face that when it comes.

Vic Patrick

I mean compared with Australia, I mean they are facing all kinds of demurrage problems because of the…

George Richmond

$12 bugs a ton, I think.

Vic Patrick

Because of the boats lined up back there, so and that is obviously a sign of the health of the demand for their market.

Operator

Your next question comes from Mark Parr - KeyBanc Capital Market.

Phil Gibbs - KeyBanc Capital Market

This is Phil Gibbs for Mark. I just had a question on the second-half met coal shipments, about how much of that would be directed toward the export markets globally?

George Richmond

All of it, but a small amount that goes to Sloss, but the numbers I quoted were all export numbers.

Phil Gibbs - KeyBanc Capital Market

Okay and typically where is the breakout there from a geography standpoint?

George Richmond

Right now, we have been the second quarter, the majority of it of the largest percentage was into Europe. It is approximately 60% and South America was relatively low with about 17%. Third quarter, we are expecting about 50% into Europe and right now 30% into South America and then the rest elsewhere. However, as I mentioned, we stillgot some negotiations to do into South America and we will see what that finally boils down.

Phil Gibbs - KeyBanc Capital Market

I apologize if somebody already asked a question along these lines, but are you seeing any inquiries from the likes of the Far East players to supply met coal right now? I mean we have heard that there has been some of these guys that are shipping met coal out of Central App, even out of Western Pennsylvania even in some cases trying to get the met coal over there because of the tight supply/demand dynamics in those markets. Have there been more inquiries toward you?

George Richmond

The simple answer is yes.

Phil Gibbs - KeyBanc Capital Market

Lastly here, on a cash cost per ton basis, as you look out the next couple of years and you maintain that roughly 80% longwall, 20% continuous miner mix, where are you looking for costs to settle out on a per ton basis assuming stability in supply costs and energy costs?

George Richmond

We haven’t changed much from our previous projections. When everything is operating at full speed, we expect mine costs to be in the $50 to $55 range and that does include depreciation.

Operator

(Operator Instructions) Your next question comes from Mark Caruso - Millennium Partners.

Mark Caruso - Millennium Partners

One other clarification question since it sounds like everybody has touched on pretty much everything. As far as ‘09 calendar contracting, George, it sounds like and I don’t if I’ve got this right, it seems like you have got 1.1 to 1.2 in calendar ‘09 that is booked or am I not giving enough credit on what would be shipped in 2009 of the 1.4?

George Richmond

Let me try and do it a little bit different. We have approximately 60% of our remaining sales of production that we expect to sell for this year on priced at the moment.

Mark Caruso - Millennium Partners

Leaving out the $315, does the 1.2 shipment in counter and I’m basically just taking the $135, the 400,000 you took and I am taking a percentage of the 1.4 that goes all the way out till Q1 ‘10 and just making a guesstimate. Does that seem like a reasonable number as far as what is actually priced for ‘09?

George Richmond

Again, I think it depends on how we handle the $315, but...

Mark Caruso - Millennium Partners

Independent of the $315, I know you’re working through that and you have provisional tons in between it, but I’m saying in terms of what you basically told us earlier, I am just trying to get a good feel of what you are actually committed, but 60% on priced.

George Richmond

Let me try and do it this way. 400,000 of $135 we expect to take this year, 200,000 spot coal we expect to take this year and I haven’t got the breakdown of the 1.4, whether it is March or June, but if you just want to take half of that as a symbol and that 700,000, so 7, 11, that is about 1.3 million and we are going to mine close to 3 million for the rest of the year.

Operator

Your last question comes from Luther Lu - FBR Capital Markets.

Luther Lu - FBR Capital Markets

When, George, you mentioned that, for the third quarter shipments that some of them are going to Europe and some are going to Brazil and some are going to elsewhere, can you shed some light and give some color on elsewhere?

George Richmond

Well, we send it over to the European area I don’t there are some countries we only have one customer. We try not to talk about customers, but it is not to the East, okay?

Luther Lu - FBR Capital Markets

The industry newsletter did mention that you guys are sending some coal to potentially send some coal to the Indian Harbor. Is there because your buying is very close to Oak Grove, so is it a possibility to have some domestic business?

George Richmond

Well, long term, we don’t think that is in our long term plans. Again, we get a transportation disadvantage there. In any reports you have seen, we do have a customer that has the flexibility to move its coal, what we are selling, to different places. Now I think that is what you mean. We have not been out marketed coal domestically.

Operator

(Operator Instructions)

Mark Tubb

All right, well, if there are no further questions that will conclude our call for this morning. Thanks, everyone.

Operator

And we have no questions at this time. Thank you for joining today’s conference. That does conclude the call. You may disconnect.

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Source: Walter Industries Inc. Q2 2009 Earnings Call Transcript
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