Rhino Resource Partners LP Management Discusses Q2 2013 Results - Earnings Call Transcript

| About: Rhino Resource (RNO)

Rhino Resource Partners LP (NYSE:RNO)

Q2 2013 Earnings Call

August 01, 2013 10:00 am ET

Executives

Scott Morris

David G. Zatezalo - Chief Executive Officer of Rhino GP LLC, President of Rhino GP LLC and Director of Rhino GP LLC

Christopher I. Walton - Chief Operating Officer of Rhino GP LLC and Senior Vice President of Rhino GP LLC

Richard A. Boone - Chief Financial Officer of Rhino GP LLC, Principal Accounting officer of Rhino GP LLC and Senior Vice President of Rhino GP LLC

Analysts

David Feaster

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Second Quarter 2013 Rhino Resource Partners Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Scott Morris, Vice President of Investor Relations. Please go ahead, sir.

Scott Morris

Thank you, Sue, and good morning, everyone. Again, my name is Scott Morris, Vice President of Investor Relations with Rhino Resource Partners.

The earnings release was issued before the market opened this morning and is posted at the partnership's website at www.rhinolp.com. We also have a presentation posted on our website that provides information on our operations and results for the quarter.

Representing the partnership today are Dave Zatezalo, President and Chief Executive Officer; Chris Walton, Senior Vice President and Chief Operating Officer; and Rick Boone, Senior Vice President and Chief Financial Officer. Before I turn the call over to Dave, I'll read the following Safe Harbor statement.

This conference call contains certain forward-looking statements. Forward-looking statements may be identified by words such as expects, intends, anticipates, plans, believes, seeks, estimates, will or words of similar meaning and include, but are not limited to, statements regarding the outlook for the partnership's future business and financial performance. Forward-looking statements are based on management's current expectations and assumptions, which are subject to inherent uncertainties, risk and changes in circumstances that are difficult to predict.

Actual outcomes and results may differ materially due to various factors that are summarized in today's earnings release and are described more fully from time to time in the partnership's filings with the SEC. We refer you to these sources for additional information. Rhino expressly disclaims any obligation to update or revise any of these forward-looking statements, whether because of future events, new information, a change in its views or expectations or otherwise.

This call is the property of Rhino Resource Partners LP. Any distribution, transmission, broadcast or rebroadcast of this call in any form without the expressed written consent of the partnership is prohibited. A replay of this call will be available from today at 12:00 p.m. until Thursday, August 8, 2013, at 11:59 p.m. Eastern Time. To access the replay, call (888) 286-8010 in the U.S. and Canada or (617) 801-6888 internationally, and enter the confirmation code 98508270. The webcast will also be archived on the partnership's website for 1 year.

With that, I'll turn the call over to Dave Zatezalo, President and Chief Executive Officer. Dave?

David G. Zatezalo

Good morning, everyone, and thank you for participating in Rhino Resource Partner's Second Quarter 2013 Earnings Call. Rhino continued to deliver positive cash flow during the quarter, despite the ongoing weakness in both the metallurgical and steam coal markets. Our diversification in oil and gas continues to fundamentally change the complexion of the company, which was evident as cash flow from our Utica Shale joint venture investment delivered about $1.2 million of revenue during the quarter. We expect the cash flow from this investment to grow significantly as more wells are drilled and takeaway capacity continues to be developed in the region.

The $10.5 million we received from the sale of our royalty interest from property owned in the Utica provides us with additional liquidity as we construct the Pennyrile mine, which will add to our stable and predicable cash flow generators. We've kept our inventories at low levels and have managed our costs as we continue to forego business at prices that do not justify bringing capacity back online.

On July 22, we announced the cash distribution of $0.445 per common unit or $1.78 per unit on an annualized basis with no distribution, again, being paid on subordinated units. We are proceeding with the construction of the mine on our Pennyrile property in Western Kentucky, and production remains on target for a mid-2014 startup.

While the initial 800,000-ton contract justifies the opening of the mine, we're encouraged by the potential customers' responses and continue to work on additional sales. We anticipate this project will generate long-term, stable and predictable cash flows similar to our Hopedale and Castle Valley operations once it is in full production.

At our current co-operations, we're focused on safety while controlling operating costs. We completed a company-wide review of operations to identify further areas of cost reduction to realize value from underproductive assets and to ensure that production remains in line with contracted sales. We're seeing limited spot activity and some increases in sales proposal requests as customer inventories continue to normalize. Any significant incremental sales will have to be done prices that will justify adding workforce. Our growth capital outlays remain focused on the Utica Shale where we expect significant returns and on Pennyrile, which we expect to be a long-term cash contributor.

In our oil and gas activities, our Utica Shale investment is showing significant growth, and we expect greater cash flow in the future as drilling continues and gathering and processing infrastructure is added.

During the quarter, 10 additional wells were brought online and 2 additional wells were brought online since the end of Q2, which brings our current number of producing wells to 15. The cash flow from our Utica Shale investment is forecast to provide a significant contribution to the overall cash flow of the partnership, and this is shown in our reaffirmed forward guidance.

I will now turn the call over to Chris Walton, our Senior Vice President and Chief Operating Officer, for his discussion on our mining operations. Chris?

Christopher I. Walton

Thank you, Dave. During the quarter, our Northern Appalachia and Rhino Western operations performed in line with expectations. In the Central App operations, prices for our metallurgical coal were sharply lower compared to our prior year. We continued to focus on our unit costs, which were significantly lower year-over-year, as we've reduced our cost of production, realizing a $1.3 million company-wide reduction in inventory values, which is carried at the lower of cost or market. The benefit will be realized when the coal is sold under the existing contracts. Additionally, we expect higher level of stable cash flow beginning next year once Pennyrile gets into operation.

In Northern Appalachia, unit prices improved and overall costs declined as Hopedale remains fully contracted through 2014, while the volumes declined at Sands Hill. Our Rhino Western operations at Castle Valley experienced higher unit costs as we performed more higher cost advanced mining during this quarter compared to the more lower cost retreat mining performed last year.

Our sales volumes decreased in our Central App operations and our revenues were also lowered by depressed macro prices. However, we continued our efforts to reduce costs as reflected in the year-over-year reduction in unit costs.

As Dave mentioned, development continues on our Pennyrile mine, and production remains on target to begin in mid 2014. We have signed an initial 5-year sales contract with a regional utility customer for 800,000 tons per year, and we continue discussions with additional customers for long-term sales agreements.

In Northern App, our year-over-year coal reserves per ton increased $4.08 to $58.28, while the cost of operations cost per ton rose by $3.62 to $44.25 as we had reduced production levels at Sands Hill and along with the higher roof support costs at Hopedale.

Sales volumes fell by approximately 161,000 tons to 314,000 tons, primarily due to contract expirations at Sands Hill, where we reduced our production to align with committed sales. While Rhino has seen increased sales inquiries, this is not sufficient to justify increasing production.

Our limestone sales in Northern App has continued to be strong during this quarter. In our Western region, year-over-year coal revenues per ton at our Castle Valley operations were basically flat at $40.44, while the cost of operations per ton rose by $5.36 to $32.85, primarily due to the sequence of mining that we discussed earlier.

Sales volume decreased by approximately 17,000 tons to 234,000 tons. We have seen an increase in inquiries for spot sales of coal from Castle Valley, and we've taken advantage of these opportunities in limited cases.

In Central App, year-over-year coal revenues per ton decreased $13.07 to $80.42, while the cost of operations per ton decreased by $5.54 to $70.56. Year-over-year sales volumes decreased by 25,000 tons to 363,000 tons, while year-over-year production volumes increased by 105,000 tons to 436,000 tons.

We continue to keep our inventories at low levels. Our Elk Horn and coal leasing operations continued to generate cash flow, but results were weaker as challenges continue in the Central App coal basin. At our Rhino Eastern joint venture, year-over-year coal revenues per ton decreased from $188.34 to $106.71, while cost of operations per ton rose from $119.99 to $146.92. Year-over-year sales volumes decreased by 20,000 tons to 72,000 tons, while year-over-year production volumes fell by 55,000 tons to 43,000 tons. Again, with the sharp reduction in production, we continue to work diligently to limit our unit costs.

The Eagle 3 mine began development production in the third quarter of 2012. And while Eagle 3 is expected to have a capacity of 490,000 tons per year, activity has been severely curtailed due to the limited contract sales and low spot prices.

In the quarter, we reported our portion of the non-cash inventory value charge of $0.4 million that reflects the current market value of Rhino Eastern's met coal inventory. With that, I will now turn the call over to our CFO and Senior Vice President, Rick Boone, for a review of the financials. Rick?

Richard A. Boone

Thanks, Chris. Good morning, everyone, and thanks for joining in the call today. As Dave mentioned at the beginning of the call, Rhino continued to deliver positive cash flow for the quarter, despite operating in extremely weak market conditions.

Cash provided by operating activities was $18.5 million for the quarter, and we also had inflow of $10.5 million in cash received from the sale of our Utica royalty interest, which we used to lower our debt.

Looking at our results of operations, total revenue for the quarter was $66.8 million and coal revenues totaled $57 million. Both were down from Q2 2012, which can be attributed to the weak market situation. Other revenues for the quarter were $9.2 million compared to $16 million in 2012.

Our Elk Horn royalty revenue was lower in Q2 2013 due to the lessees being challenged in this market. And in Q2 of 2012, Rhino received a $6.9 million lease bonus payment, which helped explain the year-over-year decrease.

Net income for the quarter was $5.9 million compared to $13 million for the second quarter of 2012. While our net income was adversely impacted by weakness in the coal market, other factors negatively affected our results as well.

We realized a $1.3 million company-wide reduction in inventory values, which are carried at the lower cost of market. This inventory charge reduced our net income, along with a $0.4 million cost impact at our Rhino Eastern joint venture that represents our portion of the non-cash value of the inventory at the joint venturer. In addition, net income in Q '12 -- Q2 2012 was positively impacted by the $6.9 million in lease bonus payments I mentioned earlier.

Adjusted EBITDA for the quarter was $18.6 million, which was lower compared to Q2 of 2012 due to the decline in net income. In addition, the $10.5 million gain from selling the Utica future royalty stream positively impacted our second quarter net income and adjusted EBITDA.

Overall, coal revenues per ton decreased 3.5% quarter-over-quarter as we saw a significant decrease in the price of metallurgical coal from our Central Appalachia operations. On a per-ton basis, coal revenues in the second quarter of 2013 were $62.47 compared to $64.74 in the same period of 2012, a decrease of $2.27 per ton.

Cost of operations per ton was $56.65 in the second quarter of 2013 compared to $54 in the second quarter of 2012. The increase in cost of operations per ton was primarily due to increased costs at our Castle Valley mine due to the sequence of mining discussed earlier, along with lower production volumes at Sands Hill and higher roof support costs at our Hopedale Mine.

Rhino had actual maintenance capital expenditures of $2 million for the quarter, while expansion capital expenditures were approximately $9 million, consisting primarily of our continuing investment in the Utica Shale and the initial development of Pennyrile.

We continued to maintain a low debt-to-EBITDA ratio as we finish the quarter at a ratio of 1.99. As we discussed on the prior call at the end of Q1 2013, we took a proactive step to amend our $300 million credit facility, allowing a maximum leverage ratio of 3.75 through March 31, 2015.

In addition, we expanded our joint venture investment basket from $25 million to $40 million. We took this priority [ph] step to amend the credit facility to assure the necessary liquidity to develop the Pennyrile operation. At June 30, 2013, Rhino had total availability of $115.7 million, which included cash of $0.4 million and available credit under our facility of $115.3 million. Rhino's low leverage ratio is driving ample availability under our credit facility, which provides sufficient liquidity to operate the business, fund our capital requirements and pay distributions.

As noted in our earnings release, we are reaffirming our guidance for 2013, which reflects our view that our coal-related segments will remain steady for the remainder of the year and that revenue from our Utica Shale investment will significantly ramp up for the remainder of 2013.

With that, I'm going to turn the call back over to Dave for his closing remarks.

David G. Zatezalo

Thank you, Rick. To summarize, we're excited about the Pennyrile project in Western Kentucky, and the income growth was experienced and expected from our Utica operations. We continue to focus on maximizing our cash flow and managing our debt. Our diversity in the Utica Shale and our focus on efficiently operating our coal business will position Rhino to be an even stronger participant in the market once the coal downturn reverses.

On behalf of the board, management and employees at Rhino Resource Partners, I thank you for your participation today. Operator, please open the call to questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of David Feaster of Raymond James.

David Feaster

Let's start with Rhino Eastern. We saw a rather large loss this quarter. How do you expect that to improve going -- it's really hard to expect it to improve next quarter with weaker net prices. What prices really need to get -- do you need to realize in order to get that back in a positive territory? How long do you continue to operate it before you consider idling it?

David G. Zatezalo

We can do okay at the current market prices, which is, in my view, about $100 to $108. Because of our inventory that we ended up with last year, we purposely throttled that back on volume. As we throttled back on volume, we had a combined effect of lower volume making higher unit costs and inventory which had to be reduced to current market prices, which have fallen dramatically. We have, in the past months or few weeks, ramped up, added another crew to Rhino Eastern. We're in the process now of closing the Eagle 1 mine as it develops and completes its mining, which will focus everything on Eagle 3, or the volumes will go up so that we can lower our unit costs. However, David, in this market, it's questionable to me as to how far you want to take your volume up, given that the market's actually pretty weak. We do have greater sales volumes in the back half of the year. We are going to increase our production there. We have added employees to do that. Q2 is a quarter of working down the inventory. And in doing that, producing less, you don't help your unit costs any . We feel we can be in the money at $105, $108 level, and that's what we expect going forward.

David Feaster

That's good color. On Rhino Western, it sounds like costs were primarily driven up by the Castle Valley issues. Could you talk about where you expect these to trend in the second half of the year should it improve?

David G. Zatezalo

I expect those to go down $5, and Chris, you feel free to chime in here. Unfortunately, we had an incident fatality in Q1. We had to -- we had brought in some very good people to review what we were doing. We spent a lot of time with them. Sure, our workforce went through a lot of hoops trying to redo the mine plan. We changed some -- we changed a lot around at Castle Valley, and we ended up being Q2 entirely on development coal without doing any pillaring. That will start to normalize in Q3 and we'll be, I believe, completely back to normal in Q4. What you're seeing is the difference, really, between being all development coal and being in our usual mix. And so Chris, I'll ask if you if you'd like to add anything to that.

Christopher I. Walton

No, that pretty well covers it. But I do expect things to normalize later in the year.

David G. Zatezalo

Yes, I mean, we redid that mine plan because we obviously had some issues that we felt like we needed to address, and I'm pleased to say that, that is well behind us at this point.

David Feaster

Okay. Well, good. Last question for me, looking at your contracts, you have no coal booked in Central App beyond 2014. Are you worried about being able to find a home for Central App coal, I mean, assuming natural gas prices could remain depressed here? And just -- what's your outlook for your production in the region?

David G. Zatezalo

Well, I'm not going to give any guidance on 2014. We do have a little bit of coal sold there. And we have some carryover tons from '13 to '14 as some of our customers have been slow. I have concerns about Central App going into 2014, as does everybody in Rhino. We have some operations that will -- that are very attractive even in a lower price market and we have some operations that aren't. Should this -- should there not be acceptable pricing on our products, we won't produce them. So I mean, 2014 is really in flux, and I can't give any guidance on 2014. If you can tell me what the coal markets are going to be in 2014, I could quickly work up something, I think. It's -- I have -- I share your concerns about what happens in 2014. I think every operator out there does.

Operator

[Operator Instructions] Your next question comes from the line of Paul Forward of Stifel.

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

That same question on Central App. You were up it looks like from the last quarter to this quarter, you had new commitments of little less than 100,000 tons added to the 2014 within Central App. Was that just all -- was that just tons that had been pushed out of '13 into '14 and kind of added there? Or were there actual -- or did you have actual new customer commitments?

David G. Zatezalo

There were about 30,000 tons that were pushed tons and the remainder was a little bit of business we were able to pick up at an acceptable price, so yes to both. I mean, the business is out there, Paul. It's just not at acceptable prices to us, and so we can't really take it.

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

Yes. Any -- I guess, to extend that a little bit, you talked a little bit about the Elk Horn volumes being down in the quarter, and I know it's -- that the market's fuzzy for 2014. But can you talk about what you would anticipate the lessee volumes as you're looking at it maybe they've -- what they've got committed for next year across Elk Horn? And can you compare 2013 volumes with what you might see for '14? Or is it just too foggy to really have a firm view on what the volume outlook at your lessees will be next year?

David G. Zatezalo

Paul, I mean, the volumes are very difficult to predict, I'll say that. I mean, our volumes -- I feel fortunate at Elk Horn in that our volumes are really down, probably less than 10% year-on-year, which, considering the Central App market, I think is pretty good. If you believe what lessees have planned for next year, it would show that they would be flat to slightly up. I will promise you, I will not forecast it slightly up. However, the lessees we have are generally in pretty good shape. Some of them have had big inventories that they've moved. And I think it's going to be pretty interesting as time goes forward if the market does not change. Central App is, perhaps, a place that maintains a lower position a little bit longer than other parts of the coal industry, I think. So I'm sorry, I can't really predict 2014. I'm not -- I can give you hedge and double talk, but that's all I could really do.

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

Well, all right. Then...

David G. Zatezalo

Well, I'll have to be honest about it.

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

Sure. You talked a little bit in the press release about -- you went through a company-wide review, talked about reducing cost, but also realizing value from unproductive assets. How active do you think the company might be in disposing of assets that you'd think are maybe neither noncore or not productive in this kind of pricing environment? Do you see that the market is, at all, active? Or do you -- would you have opportunities to move properties in this kind of a weak, especially Central App, market environment?

David G. Zatezalo

We do have opportunities. There are some that we are in -- we are planning -- we are in marketing with or planning to market. I think our success in selling those is primarily going to be a function of how people see the forward market. I mean, we are not at a high-debt leverage. We need a little bit of money to continue to develop Pennyrile. We need some money to continue to fund some of our Utica expansion until that goes cash positive. We will not give any of our idled assets away, unless we really need the money, okay? And so we are not aggressively pursuing the sale. Obviously, if there's a reasonable offer, we would do it. But our aggressiveness on it really depends on our need to fund the Pennyrile and to fund the Utica until it becomes cash positive. Currently, the Utica is a few million dollars away from being cash positive and Pennyrile will be at cash drain until it starts up next year, so I -- our own -- my own estimate is that we don't have to get extremely aggressive, but there are certainly several things that are probably a better fit for other people, and we're happy to move those if it's something reasonable. So I don't know that, that does much justice to your question, but it really varies on a case-by-case basis.

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

Sure. You talked about the kind of mid-vol market being in this -- for the premium mid-vol being at $100 to $108 today. I was just wondering if you might talk a little bit about the high-vol markets and where you see those today for the various categories that you've got.

David G. Zatezalo

Well, I think the high-vol, less than 1%, is probably in the low-80s. The high-vol, greater than 1%, is probably in the low-70s or upper-60s. We do have a little bit of that on the met side.

Paul S. Forward - Stifel, Nicolaus & Co., Inc., Research Division

Yes. Okay, that's good. Maybe lastly, I'd like to follow-up on the question of the high uncommitted you've probably got in 2014. Maybe only about a little less than 20% of your capacity in Central App is actually committed and priced. So it does open up the prospect of some significant pullback in overall volumes compared to 2013. I was just wondering if you could talk a little bit about the outlook for overall, just directionally, kind of overall EBITDA next year. If you have to significantly pull back in Central App are the -- will the results from the Utica and then later in the year, Pennyrile, is -- would -- is that going to be enough to offset a potential decline if you have to really throttle back the volumes in Central App? Or is it really more like 2015 when you can see that you might -- that the other businesses might be able to overcome the loss of significant volumes in Central App?

David G. Zatezalo

Well, again, I'm not going to provide guidance on 2014 because here, none of us know what that market's going to be exactly at this point. We have some operations in the Central App that can compete very well at pricing that's out there today, but we don't have a lot of it. So I don't think that Central App goes to 0 or anything like that. I do think that Central App could be fairly negatively impacted. The company itself, Rhino itself is more diversified and more robust. I feel that we will be fine in 2014 because we will be continuing to do well on the Western segment. We'll continue to do well in the Northern App segment. We'll continue to see growth in the Utica Shale plays as we go forward. Next year, I wouldn't expect any major contribution from Pennyrile because we'll just be starting that in the year. We have not modeled this out or forecast it, but when you start it in mid year, when you bring that up, I wouldn't expect it to be a major contributor next year, but I expect it to start up nicely and I'm very pleased that it's on schedule with where we're at. So I think Rhino is robust enough, and we're not dependent entirely on Central App. We certainly value our Central App properties, but several of them are higher costs. And if the market doesn't make sense, we're not going to run them, and I don't think that puts Rhino on its knees. Having said that, I can't provide you numbers on that.

Operator

I would now like to turn the call over to Scott Morris to conclude the call.

Scott Morris

Thank you, Sue. Again, we would like to thank everyone for joining the call today, and we will speak with you again next quarter.

Richard A. Boone

Thanks.

David G. Zatezalo

Thank you.

Operator

Thank you for joining today's conference. This concludes the presentation. You may now disconnect. Thank you for joining, and good day.

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