Walter Energy's (WLT) CEO Walt Scheller on Q2 2014 Results - Earnings Call Transcript

Jul.31.14 | About: Walter Energy, (WLT)

Walter Energy, Inc. (NYSE:WLT)

Q2 2014 Earnings Conference Call

July 31, 2014 10:00 AM ET

Executives

Mark Tubb - Former VP of IR & Strategic Planning

Walt Scheller - CEO

Bill Harvey - CFO and EVP

Mike Madden - CCO and SVP

Analyst

Caleb Dorfman - Simmons & Company

Brandon Blossman - Tudor, Pickering, Holt & Company

Kuni Chen - UBS

Curt Woodworth - Nomura

Jeff Cramer - Morgan Stanley

Lucas Pipes - Brean Capital

Brian Yu - Citi Timna Tanners - Bank of America

Justine Fisher - Goldman Sachs

Michael Dudas - Sterne Agee

Mitesh Thakkar - FBR Capital Markets

Amer Tiwana - CRT Capital

Sam Dubinsky - Wells Fargo

Operator

Welcome to Walter Energy's Second Quarter 2014 Earnings Conference Call. All participants are in a listen-only mode. (Operator Instructions). I would now like to turn the meeting over to Mr. Mark Tubb, Vice President of Investor Relations. Sir, you may begin.

Mark Tubb

Thank you, Jenassa. Good morning everyone, and thank you for joining us today. This morning's call is being webcast and a recording will be archived and available on our Web site for up to 30 days.

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

Joining me on today's call are Walter Energy's CEO, Walt Scheller and CFO, Bill Harvey. We'll also have other members of management available for Q&A. At this time, I'll turn the call over to Walt.

Walt Scheller

Thanks, Mark. Good morning everyone and thank you for joining us. I'll start out today by saying that I am pleased with our execution in the second quarter despite the ongoing challenges we face in the global markets. Our discussion today will center around four major points.

First, safety is always our top priority and our performance reflects this focus. Second, our operations performed well in the quarter despite encountering difficult mining conditions. Whilst performance was good, we expect to maintain this trend.

Next, met coal sales volumes increased and we reduced the inventory.

And finally, we took additional actions recently to further improve our financial flexibility.

Talking about these in a little more detail, we continued our favorable performance in trends and safety. While we made good progress implementing new safety initiatives and moving in the right direction, we won’t be satisfied until we achieve zero accidents throughout the company.

Second quarter met coal production totaled 2.4 million tons. Production was down compared to last year in large part due to idling Wolverine in April. Combined met coal production at mines four and seven was 1.8 million tons compared with 1.9 million tons last year and in the first quarter of this year.

Although we encountered some adverse mining conditions in the quarter, I am pleased with our overall performance and four and seven are running as expected.

Met coal production in Canada was 500,000 tons, down from 900,000 tons last year and 1.1 million tons in the first quarter with the decline due to idling of our Canadian operations. Met coal cost performance was solid with overall production cost per ton 7% lower than last year’s second quarter. Cost performance in our Canadian mines is 19% better than the last year and essentially flat with Q1 despite the lower production volumes.

Met coal sales totaled 2.7 million tons in the quarter, up 11% versus last year. Strong sales out of Alabama drove the increase with low vol sales up 35% and mid vol sales increasing 19%. We also reduced met coal inventory by 400,000 tons.

Along with good execution, lowering production cost, our CapEx and SG&A spending was in line with our targets. Our coke and gas businesses also operated well in the second quarter. Our second quarter performance illustrates our focus on operating safely and efficiently and our controlling and reducing costs. We also improved our financial position and liquidity which Bill will cover along with our second quarter financial results.

Bill Harvey

Thanks, Walt. In the second quarter, we reported a net loss of 151 million or loss of $2.33 per share which includes restructuring and asset impairments of 29 million net of tax. From an operations perspective, the year-over-year decline was primarily driven by 24% or $36 per metric ton lower average met coal sales price.

For the quarter, adjusted EBITDA was 11.6 million which excludes restructuring of asset impairments, a gain on extinguishment of debt, a charge related to a take or pay contract and foreign exchange adjustments. This compares with adjusted EBITDA of 36.7 million in the second quarter of 2013 and 26.2 million in the first quarter.

Second quarter revenues were 378 million, down 36 million compared to the first quarter with the average met coal sales priced $12 per ton lower and sales volume higher by some 100,000 tons. As Walt noted, cost performance in the second quarter continued to be strong. Average met coal cash cost of sales per ton improved 18% compared to last year’s second quarter and 8% compared to the first quarter of this year.

Average cash cost of production was slightly higher than the first quarter, driven by mining conditions that reduced production at mine seven by some 75,000 tons. We continue to expect strong production and cost performance. Our coke and gas businesses are performing well with a contribution to EBITDA of 11 million and improvement from the first quarter of 3 million.

SG&A was 90 million in the quarter, down 30% from last year, driven by our cost reduction program. We have taken actions to lower our run rate to approximately 70 million per year by the end of 2014. Depreciation and depletion was 70 million in the quarter, given the mine idlings and reduced production, we now expect depreciation and depletion to run about 260 million annually.

Interest expense for the quarter totaled 73 million with the increase over last year reflecting the recent financings that boosted liquidity and raised the average interest rate on our debt. Prospectively, given our recent financing our cash interest expense is expect to be roughly 285 million. As well in the quarter we recorded a net gain of 11.4 million reflecting the extinguishment of debt.

We recorded a tax benefit during the quarter of 9 million. The tax rate was negatively impacted since we have recorded a full valuation allowance against deferred tax assets in our U.S. operations. We incurred a severance charge of 8.3 million in the quarter of which 7.1 related to the idling of the Canadian operations. We also recorded a 6.4 million charge related to a transportation take or pay contract in Canada and then asset impairment of 23 million to write down the Blue Creek Coal Terminal assets.

Our continuing operating cost in Canada related to the idle operations were 4.5 million of operating expense and 6.1 million of depreciation. We took a charge of 15 million for lower cost or market adjustments against quarter-ending inventory at our Brule and Wolverine mines. Cash flows used operations in the first half of the year totaled 39 million compared to 24 million in 2013 while capital spending was 44 million compare to 80 million in 2013. For the second quarter, capital spending was 31 million. For the full year 2014, we expect capital spending of 120 million.

Turning to working capital, accounts receivable declined 24 million from the first quarter with 14 million related to a reclassification of an income tax receivable. Accrued expenses declined by 23 million primarily due to the timing of interest payments. Roughly 90% of our interest payments are paid in the second and fourth quarters. As previously disclosed at the end of the first quarter, we issued 550 million in debt with the majority of the proceeds used to repay our Term Loan A. This refinancing both extended our debt maturities and improved our liquidity. As well as part of the financing, we amended our term debt to remove financial covenants and to allow the Company to replace all or part of the revolving credit facility.

In early July, we issued 320 million of senior secured notes. We retained the proceeds of cash and reduced our revolving credit facility from 340 million to 77 million, increase in our liquidity. The remaining revolving credit facility is used to support letters of credit issuance.

On a pro forma basis, the Company’s liquidity at June 30th was 646 million comprised of 612 million of cash and 34 million of unused capacity under the revolving credit facility. We believe we’ve taken the necessary steps to manage our liquidity and position ourselves to reduce financial risk prospectively.

I will now turn it back to Walt.

Walt Scheller

Thank, Bill. Looking ahead to the remainder of the year, we are on track to produce between 9 million and 10 million tons of met coal. Met coal sales are expected to total between 9.5 million and 10.5 million tons, down about 1 million tons from our previous expectations, primarily because our principal coal transportation provider at the Brule mine in Canada ceased operations in June. Some of the volumes we had planned to deliver this year will be moved into next year. This is a timing issue and should have little impact on earnings.

We ended the quarter with roughly 2.2 million tons in inventory down about 400,000 tons from the end of Q1. Inventory Canada was about 1.5 million ton including of a 1.1 million tons of low-vol PCI coal. At mines 4 and 7, we ended the quarter with about 650,000 tons in inventory, down 200,000 tons from the first quarter. We still expect strong cost performance in our Alabama mines for the full year. The combined cost of sales is expected to be around $100 per metric ton in line with previous expectations.

Turning to the market much of what we’ve described last quarter, overall good demand from metallurgical coal and many variables moving in the right direction including good steel production growth, a growing list of met coal, production cuts and a stronger Australia currency. On the other hand met coal prices remain weak, reflecting a persistent excess supply of product in the global markets. Steel production remains steady in the second quarter. Global production grew at about 2.5% over last year, which should translate to increased demand from met coal overtime.

In Europe, steel production grew 4% in the first half of 2014. Current economic indicators show improvement and there is optimism in the construction and industrial sectors. Germany continues to be the driving force behind the current improvements in Europe, accounting for roughly 25% of Europe's steel output. Although there is some risk we expect met coal demand in Europe to show meaningful growth for the full year.

In Brazil following strong first quarter, steel production fell in the second quarter and now shows a year-to-date decline of 1.5%. Reports are projecting higher demand for steel flat products in the second half of 2014 due to low stock piles. This includes domestic productions driven by automotive demand as well as exports primarily ship building.

Argentina is up 12% year-to-date and is expected to maintain solid production levels in 2014. Steel production in Korea is up 9% year-to-date with the increase mainly driven by the start of the third blast furnace by one of the Korean producers.

Japan is also doing well, however production growth slowed in the second quarter. Steel production growth in China improved in the second quarter, showing year-to-date increase of 3% compared to just under 2.5% to the first quarter. Met coal imports in to China are important driver in met coal pricing. While imports through June are down compared to last year, second quarter imports equaled last year for the same period. If China maintains level of monthly imports reported for the second quarter, they could finish the year importing between 65 million and 70 million tons, a much stronger level than the current sentiment in the market would indicate and the second highest met coal import year on record.

With respect to the current oversupply of met coal in the global market, around 20 million tons in annualized production cuts have been announced. It could still be several quarters before we see all these tons are actually out in the market. We also believe we will see more cuts unless we see pricing improvement. In wrapping-up today’s call, we are operating our businesses safely and efficiently and our mines are running well. We have taken significant cost out of the business and we are finding additional ways to reduce cost further. Met coal sales are going well and we are reducing inventory levels and we are taking actions to further strengthen our financial position and our liquidity is sound. We are positioning our company in the best manner possible to take advantage of the market recovery when that occurs.

This concludes our prepared remarks and we will now open the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Caleb Dorfman.

Caleb Dorfman - Simmons & Company

Bill, I was hoping that you could help walk us through the company’s cash burn profile because I know that there has been a lot of changes with cutting the SG&A into new debt issuance, so may be put a little bit of a sensitivity around the inventory drawdowns coming from Canada and how that sits into the mix, what type of benchmark price do you think you would need to actually get to free cash flow breakeven?

Bill Harvey

Sure, I think we look at a couple of things, first I think you have to look at it as we moved away from term debt into notes. Our interest expense is much more -- is really focused as I have said in my remarks on the second and fourth quarter for instance the third quarter interest expense is 18 million, just to put in perspective how much that fluctuates. So, looking at any given quarter, doesn’t give you a lot of information. I think on the SG&A front, as you are know we are expecting and are going to move that down $10 million on an annual basis. On inventory in Canada, on the last call I mentioned we expected to be able to receive cash of about a 125 million from inventory, not just Canada by the way that’s Canada and some excess inventory that was in the U.S.

We basically at this point did do make some progress more in the U.S. and Canada but we still have about a 110 million to draw down, 105 million to 110 million that’s the range, some of what we drew down in the quarter was in June and so some of that ended up in a receivable rather than cash to us. But at a high level, we have about a 110 million, we will generate from cash. Some of what, we have expected to get the whole 25 by year end I think given the backdrop of slower inventory pull down in coal mine, given as we are transitioning to other modes to coal down the Falling Creek connector road. I think we now expect it may roll into the first quarter of next year but we are pretty comfortable it can be done by then.

As for the price, I think what we are doing is focusing on what we can control. I think we think the current price is unsustainable for the industry for any extended period. That being said, I'll like to point out the actions we have taken in the last few quarters have improved liquidity, reduced financial risk and increased financial flexibility.

And as I said on last call, we will pull further levers when we believe it’s appropriate. I think the date that matters with respect to runway if that’s what you are pointing to, is the first material debt maturity now versus even three to four months ago it used to be in 2015, now it’s April 2018 and again we will take the necessary actions to put ourselves in a position to refinance the debt at that time. So, we are focused on all the controllables, I don’t want to get into what price we will take.

I think if you take look at the numbers for this quarter, take out an LCM of inventory et cetera, you can see that there is a significant cash generation of the Alabama mines even at this price, not enough at this point to cover CapEx and interest expense but we're making a lot of progress.

Caleb Dorfman - Simmons & Company

That’s helpful and then I guess Walt, you mentioned that not all the production cuts have really been implemented yet, if we have a situation where the met price does stay softer another couple of quarters. Are there any additional steps that you could take operationally on SG&A side or on the balance sheet to sort of preserve the liquidity situation?

Walt Scheller

Well, I think from an operational standpoint we’re pushing our mine 4 and 7 to find ways to further reduce the cost and increase our productivity. I think that at this point it’s all about controlling the things that’s we can’t control which means squeezing the cost down where we’re idle as far as we can and just maximizing the places where we do have positive margins.

Caleb Dorfman - Simmons & Company

That’s helpful and one final one. What is the timeframe for finding a new hauling provider in Canada, that you're actually able to drive those Canadian inventories down a bit quicker?

Walt Scheller

Well, I think first a couple of things, we are currently -- we are not down to where we’re not shipping coal from the Brule Mine down to the willow plant. We are running at maybe a little less in the third of our normal capacity and we’re still moving coal. We’re just not moving as much as we would like to be moving. And we’re working with a couple of different options to figure out what’s the best and most affordable way to move the remainder of those tons down the Falling Creek Connector Road in a timely manner.

Operator

As a note, please limit yourself to one question and one follow-up. Our next question comes from Brandon Blossman from Tudor, Pickering, Holt & Company.

Brandon Blossman - Tudor, Pickering, Holt & Company

Is there a refinement on the outlook for take or pays out of Canada? And is there any more detail available on what I assume is a one-time charge on the take or pay in the quarter, Q2?

Bill Harvey

That charge in the quarter was as a result of the idling. It was specific to the event not related to the quarter itself, but we do expect we’ll take another over the balance of the year $3 million accrual over the last six months of the year given our production forecast. That’s being said, we have invoked a force majeure and we do believe we have good grounds. We are not going to discuss that but we do believe that we have good grounds for that. And we do have some ways to mitigate. Our maximum exposure mitigate in other manners operationally, our maximum exposure, let say for next year as we ship no tons will be 24 million and our job is to mitigate that as much as possible to what I just discussed.

Brandon Blossman - Tudor, Pickering, Holt & Company

Okay, great. Thank you. That's good color. And then any update on potential non-core asset sales?

Bill Harvey

We still have -- we still are working and we believe imminently will be closing the sale of the Blue Creek terminal assets, you might remember that was announced sale for $25 million. That sale does include the renewed throughput arrangement, so it’s not simply an asset sale of throughput arrangement, it's based on our current throughput arrangement and will put the Company in a good position to prospectively be able to have throughput for the foreseeable future on very good terms. As I mentioned on the last call, the timing of any asset sales is dependent on the recovery in met markets and there is no liquidity concerns in our company at this point. We think we have adequate liquidity and we’re not going fire sale assets. We remain committed to the 250 million target, but at this point, I really don’t have anything further to add.

Operator

Our next question comes from Kuni Chen from UBS.

Kuni Chen - UBS

I guess just trying to drill down into the cash flows a little bit. If you look at the negative 74 million cash from ops in the second quarter, could you just talk about some of the moving parts here in the second half relative to these numbers, is it just inventory coming that drives the improvement from there or are there factors we should be thinking about?

Bill Harvey

Well, I think you have to -- because I mentioned the interest expense is in effect what you see in 90% of first half’s interest expense in one quarter, so the interest expense is very lumpy. The inventory drawdown, we got 10 million sold out of the cash while the inventory drawdown in the second quarter. Third thing to remember, we did idle 2 mines in the quarter and if you look at the cost profile of doing that and you can see it in our production cost for both Brule and for Wolverine.

The production costs were higher, in effect what we’re doing is paying severance which is a onetime item, but we also have higher costs and those costs are being paid before we receive the receipts from the sale of the inventory.

So that this quarter had a lot of noise in it, that doesn’t mean we like having cash outflows of 74 million, but I think you should look at it more in a six-month basis and I think you should focus on the fact that there were quite a few moving parts in the quarter. I think if you look at the Alabama operations with how they’re running in the production and what we can control, we think we’re doing a good job of managing cash.

Kuni Chen - UBS

Okay that’s very helpful. I appreciate that. Just as a quick follow-up. Just on long wall moves, can you just remind us kind of the timing -- I think mine seven has one in the third quarter, one in the fourth quarter; mine four has one in the fourth quarter, so does that imply kind of fourth quarter as the high point for the year as far as costs go?

Walt Scheller

Yes, you’re correct. The moves are two in the fourth quarter, one in the third quarter and last year we had two moves in the fourth quarter and I think it was actually still a pretty successful quarter from a cost standpoint.

Operator

Our next question comes from Curt Woodworth from Nomura. You may begin.

Curt Woodworth - Nomura

Good morning. Walt, kind of a follow-up there on, it seems like if you look at performance of mine number 7, costs are probably better than maybe what people have been thinking at the start of the year and mine number 4 maybe slightly higher. Do you think that you can keep number 7 in the mid-80s even with some of those long wall moves and also getting back to number 4. I think you talked about previously getting that closer to a $100 per ton cash cost, is that still good target going forward?

Bill Harvey

I think I am going to stick by what I have said the last several quarters which is together they are going to average about a $100 a ton but we do expect with a couple of moves, we expect mine seven can well be a little higher and we expect mine four to come down a little lower but for the year we expect about a $100 a ton.

Curt Woodworth - Nomura

Okay and then on the mid wall market, it seemed like your ASPs were fairly close to the low wall yet in the plats market I think they are showing almost a $18 per ton discount on mid wall right now. So, can you talk to what you are seeing in terms of spreads right now between those two products and are you seeing any change in customer buying behavior in terms of maybe more preference for some of the lower quality specs given where spreads have gone?

Bill Harvey

Mike Madden is in here with us, so I will ask Mike if he'll address that.

Mike Madden

Yes Curt, actually we had some carryover on the mid wall and what we started to do as well is we are doing some blends. We are doing a combination of 4 and 7 on some blends going to some customers.

Operator

Our next question comes from Jeff Cramer from Morgan Stanley.

Jeff Cramer - Morgan Stanley

Just a follow-up on that last question, can you just talk about the discounts that you have compared to what you saw in during the second quarter two benchmark and for mid wall and how that’s trending here in the third quarter, do you see any improvements there?

Mike Madden

Jeff, this is Mike, we are pretty much looking at a repeat of numbers for Q3 as compared to Q2.

Jeff Cramer - Morgan Stanley

Okay and just on the take or pay cost at the port, how long did those last for, is there two years remaining on that, is there five years? Obviously, force majeure can help mitigate some of that but just what is the tenure of that?

Mike Madden

The tenure of that is till 2020.

Operator

Our next question comes from Lucas Pipes from Brean Capital. You may begin.

Lucas Pipes - Brean Capital

Bill, I think you mentioned further levers earlier and I know you received a few follow-ups on that but I wondered if this could maybe also include some equity for debt swaps as you had done earlier this year?

Bill Harvey

I think as we mentioned on the last call, if you remember that we do believe our equity is undervalued right now but at the same point we are not ruling anything out but it’s not really part of it, that debt equity swaps have never been -- it’s not a program by any means, it’s simply -- if a debt holder phones us, we will listen and we will see if it makes sense. We do like the fact it lowers interest expense marginally and it’s good but there is a cost to it, the equity component. So we are not ruling anything out but you shouldn’t expect any big program.

Lucas Pipes - Brean Capital

Thank you and then maybe to go back to the Canadian inventory situation. Could you maybe just update us on where you stand in kind of few negotiations with the new service provider there, just because if I remember correctly from the last release, July 8th or so that that service provider got into a little bit of financial trouble and I was just curious on how quickly you think you are really going to be resolving that issue now?

Bill Harvey

Well again we are still moving about one-third of the tons that we were moving and we are looking at -- we are discussing the potential of few other service providers coming in to replace the one that is no longer operating.

Lucas Pipes - Brean Capital

You have a sense on how quickly those negotiations will be completed?

Bill Harvey

I would imagine that we will start to see our transportation pick back up to more reasonable levels before the end of the third quarter.

Operator

Our next question comes from Brian Yu from Citi.

Brian Yu - Citi

First, just on the CapEx, and your year-to-date expense relatively low 144 versus the 120 full year guidance. Are there any notable items that’s driving back half spend especially with Canada coming back down?

Bill Harvey

No, the spend has just been what’s been absolutely necessary for the continued operation of our coal mines and our coke plant but there is no, it shouldn’t be lumpy.

Unidentified Analyst

Okay, so but there is something that’s driving a larger back half spend, any detail you could provide on that?

Bill Harvey

Timing of shafts that’s probably part of that, deliveries, things of that nature.

Brian Yu - Citi

Okay and then second one, this I guess a little bit maybe more thematic is, we have been hearing about U.S. coal producers maybe negotiating earlier with some of the domestic steel producers and I am just wondering I know you guys focus on the export markets but is there any kind of opportunity from a net back standpoint to maybe redirect those tons into the domestic markets? Does it even make sense?

Mike Madden

Brian, this is Mike. We did place some Blue Creek tons into the domestic market this year. This is the first time we’ve done that. We looked at that as a hedge on the pricing. You gave us 12 months pricing. It is a market that we will look at again next year. As far as early -- I think there's only been one steel mill that came out looking for bids just about a month ago, but I don’t think there has been any conclusion on those bids otherwise I haven’t seen any one at this point come in looking for bids.

Operator

Our next question comes from Timna Tanners from Bank of America. You may begin.

Timna Tanners - Bank of America

You've made progress on cost cutting especially on the overhead side, so just wondering of prices were to stay low, if you could detail a little bit further what other measures you might be able to take?

Bill Harvey

Well I think a lot of what we will continue to look at is just where is every dollar spent. I don’t think there is any silver bullets or any big chunk left to be cut. I think it’s just really focusing on everyplace we spend money and how do we minimize those expenditures.

Timna Tanners - Bank of America

Okay and then my other question is really, if you could talk us through understanding of the language on the net operating loss carry forwards, I was kind of surprised by that I didn’t fully understand what the implications are for the future? Again I could just read it off your release, but I was just hoping to understand a little bit better, if that’s a change and what drove that thing?

Bill Harvey

And you’re referring to the note and the reconciliation of EBITDA?

Timna Tanners - Bank of America

No, you mentioned that you no longer gain the benefit of net operating loss carry-forwards on you taxes, I am just trying to understand if that’s new and what drives that and how to understand it?

Bill Harvey

Okay, no, Timna, I misunderstood your question, I apologize. That’s not the net operating loss, that’s strictly from an accounting point of view. Any net operating loss true net operating loss that as you think from a cash point of view, we will be able to use against in the future and we’re not losing any of that. That’s simply a matter that -- we’re taking a valuation allowance because of the difference between deferred tax liability and deferred tax asset. We are not rolling the deferred tax assets. So from an accounting point of view only, we take a valuation allowance and so you have a very-very low tax rate, as you noticed for the balance of the year that rate would probably be 18% to 20%. But again that’s strictly accounting, it has nothing to do with the actual cash.

Timna Tanners - Bank of America

So for modeling purposes on taxes and what would you suggest?

Bill Harvey

I’d suggest using for taxes from a cash point of view assume that over the near term, we will pay no cash taxes and when we generate income we’ll be able to use any NOLs that we generate right now and apply them against income.

Operator

Our next question comes from Justine Fisher from Goldman Sachs. You may begin.

Justine Fisher - Goldman Sachs

My first question is on cost in Canada, it looks as though you finally got them down to the range of the $125 that was your target, so is this just a reflection of what it actually did cost to mine those tons and could we assume that if and when the Canadian production does come back on line, if met coal prices get to a level that makes you comfortable that the cost of those mines would stay around the 125 tons, which is the target that you’ve now hit?

Walt Scheller

When we look at our cost of production and the problem is, we have -- the lower cost of market adjustments that go into our cost of sales each quarter. But when we truly look at our cost of production, our Wolverine mine in Q4 and Q1 was operating at about $86 a ton and you’d add about $30 onto that to get them up to the port in the vessel.

And our Brazion operation, which is Brule, was operating in the 170s for the last three quarters. So both of those mines are now at a point where they are relatively -- we're not happy with because we're not operating actually but their cost levels have come down to where we thought they could be. I think on startup we would expect them to be able to operate in those same ranges. So I guess the short answer is yes, we think that is sustainable.

Bill Harvey

And I think, Walt, meant 70, it's not one, so there was -- you said it’s 170, but it’s 70, that if you look at the stat sheet the low-vol PCI for Canada was $73 for production cost which is right where we want it to be.

Justine Fisher - Goldman Sachs

Okay and then my second question relates to the overall cost of the idling in Canada, so previously you guys have guided to about, I think it was 5 million a quarter, 20 million a year of idling cost. And so for 2015 I know you mentioned in response to Jeff’s question that you had a 24 million potential annual cost for the take or pay contracts with respect to the port which I know you are going to try and mitigate. The question is, so is the total cost related to Canada idling , the 20 million that relates to, I don’t know, your operation on the ground and then plus a potential 24 for the port issue or is that port cost included in the total cost of idling that you have given out before?

Walt Scheller

What I gave out before was I said that the idling cost and this was separate and distinct from the port because the discussion at that point what will be the cost in Canada and I pointed to $5 million to $10 million per quarter and we trended and we expect it to be at the low end. While we did come in at 4.5 million in the quarter and those are the costs associated with idling, you would think of them as continuing cost and we believe we can get those lower. So, that is separate and distinct from the port cost which I did, in the last call we did mention the port cost separately and said if you included the port cost it could be as high as 10 million a quarter, that sort of as high as it can be and our job is to get it lower.

Justine Fisher - Goldman Sachs

Okay, so total idling cost would be 20 to 20 million, depending on how low you can get in that range?

Walt Scheller

It depends on how low we can get in that range. I think you will find and we'll disclose its quarter-by-quarter, our idling costs in Canada. We are already 5 million in the quarter and frankly that was in the transition quarter and on the port side as again I mentioned we have a force majeure. We think we have good grounds there as well. We have some other ways to mitigate that. So, we just have to do it.

Operator

Our next question comes from Michael Dudas from Sterne Agee. You may begin.

Michael Dudas - Sterne Agee

Good morning gentlemen. Walt, how are you finding the productivity per employee, tons move per man hour at the mines in Alabama and long walls aside do you anticipate those maintaining these at levels or can there be some improvement that you can see going into your budget year for ‘15?

Walt Scheller

I think the productivity levels for mine 4 mine 7 are pretty reasonable for the size of the operations. And my belief is that while we always expect continuous improvement, so therefore we'll expect improved productivity out of our operations. I don’t think you are going to see any significant improvements there. You will see incremental improvements.

Michael Dudas - Sterne Agee

Thanks, Walt. My follow-up maybe for Mike, as you look over your many years in the business, are customers acting differently in this cycle versus others? And is there an element of anticipation of an opportunity to pick up coal at these type of prices because they are moving higher or are they just going to wait for the pricing signal to mark and everybody is going to jump on it at the same time?

Mike Madden

Well obviously, this cycle different in that we transitioned into quarterly pricing, before that we had annual, so there wasn’t as much stock activity in the market at that time. The tendency right now is build the bars are looking at both the combination of spot and contract. And I haven’t seen any, I would say probably in Q2, the level of demand picked up somewhat. I think the perception of buyers at that time was that the bottom was the bottom and that this quarter would have produced an increase, so that’s what drove that in Q2.

Michael Dudas - Sterne Agee

Early indications or they feel the same in Q3?

Mike Madden

I haven’t seen that. We do see certain types of coal seem to be of little more demand particularly the mid wall right now. We did hear of a sale in Australia this week of 118, so that’s up $2, so it seems as though mid wall right and it seems to be a bit tighter.

Operator

Our next question comes from Mitesh Thakkar from FBR Capital Markets.

Mitesh Thakkar - FBR Capital Markets

My first question is on the income statement there was a miscellaneous income, historically it has been a larger number and it’s almost non-existent this quarter. If I remember correctly it was natural gas derivatives, is that the case and what drove that decline, if you can elaborate on that?

Walt Scheller

It was in the past natural gas derivatives, we have very little of that at this point as well it’s FX related and so it’s very small just because of the nature of things. We do disclose -- we do take FX out of the EBITDA calculation but the only FX we’re taking out of EBITDA calculation is balance sheet, so it’s related to the statuary taxes on your balance sheet in Canada for instants and it comes through so but this what you’re looking at is income and it’s really related to income generated items that just wound down.

Mitesh Thakkar - FBR Capital Markets

Okay, great. And I don’t know if you already address this but you mentioned that the inventory from Brule could go into first quarter and so at any point do you feel like that there could any inventory charge coming outside of just the decline in the met prices and if you can elaborate around the timing, is that like any requirement that if you can get it out within this timeframe, you might have to take a charge or something like that?

Walt Scheller

No, there is no -- because of PCI, the risk of a deterioration is very-very slight so we don’t have a risk there. The only risk we have is that in the calculation of inventory and as we take an LCM, as we factor in the cost required to complete, so they ship it haul it, and to process it. We have a small exposure there, but it’s relatively small. We use our best estimates. We did take an LCM this quarter and the main reason for that there was only and I mentioned that in my remarks, it was only about 5 million related to price and that was simply the difference between carryover pricing plus spot and next quarter price and this quarter’s pricing. The balance was just due to, in effect, the idling. As we idled if you noticed our production costs were a little higher relative to the benchmark. Benchmark price of PCI and so we took an LCM there, but since we’re not producing anything in the third quarter you should see very little impact.

Mitesh Thakkar - FBR Capital Markets

And there is no carryover impact from the first quarter because second, third quarter benchmark is flat. But for the first quarter, is there any carryover ton?

Walt Scheller

Not at a different price. So it’s relatively minor and the risk is minor.

Operator

Our next question comes from Amer Tiwana from CRT Capital. You may begin.

Amer Tiwana - CRT Capital

My first question is, just taking a step back and looking at the market, you’ve seen a number of production cuts so far, do you expect that in the near term we'll see a lot more given where prices, how much more do we need for the market to sort of rebalance? And just a follow-up on that is in terms of the inventory overhang that is sort of plaguing the market, what’s your best guess at this point in time as you see the market as to how long it will take for that to normalize?

Walt Scheller

Well this is Walt. As I said, there has been about 20 million tons announced in terms of what’s been implemented, I think a large amount of that may have been implemented, but they are now they are working just as we are, the inventories both at the mine and then those inventories have to work the way clear through the customer. And that’s going to take some time to estimate how quickly that will happen is very-very difficult. I have seen estimates as early as we’ll start to really see the impact of that in the fourth quarter. I’ve seen folks say that they believe that will be early next year, but it’s really very hard to tell.

In terms of additional tons coming out of the market, I think we see some incremental tons just coming out here and there. I don’t anticipate any more large chunks of coal coming out of the market, but I do think -- I am not sure that we’re not balanced once the inventory with 20 million announced, once that reaches down to that level and there is 20 million really out of the market, I'm not sure we're already balanced at that point given the growth in demand year-on-year which if 2.5% or 3%, if all that’s coming from blast furnaces that’s an additional 20 million to 30 million tons of coal being demanded. So given the projects that are coming online and the announced cuts, I think we might be pretty close to balance once it all works its way through.

Operator

Our final question comes from Sam Dubinsky from Wells Fargo. You may begin.

Sam Dubinsky - Wells Fargo

Great, thanks for taking my question as I have got two quick ones. Number one, how do you think about currency movements and how that impacts buying patterns of customers, especially given strength in the dollar recently?

Bill Harvey

I think we tend to focus a little more on currency movements as it relates to the relative cost structures in the industry. The Australian dollar is the key one really and so how the U.S. dollar does against Australian dollar in some way sets the marginal producer. I am not sure if Mike has a view on the relative on how it affects the currency around the world with our customers, which are primarily our customers are primarily European and the big chunk of them.

Mike Madden

I think Bill is correct. It’s all back to the cost structure. Everything is being traded in dollars. So it’s just determining what kind of a discount sale Australia or Canada could provide based on the exchange at that time.

Sam Dubinsky - Wells Fargo

Okay and then as a follow-up, I know you said you don’t want to fire sale assets but have there been potential buyers that have been proactively reaching out to you? I mean do you think there is like an appetite from either strategics or private equity to make a bet on coal reserves if the price is right or would you have to actually go through a formal bidding process if you were interested?

Bill Harvey

Well again I am not going to -- there always is a price that assets can be sold, it’s just a question of whether it’s a good deal or bad deal and we are not in a -- we're in a position where we are going to fire sale assets but especially in some areas right now there are people reaching out for marginal type of assets right now but I don’t want to comment any more than that.

Walt Scheller

Thank you. That concludes our call this morning. Thank you again for joining us today. We appreciate your interest in Walter Energy.

Operator

This concludes today’s call. You may all disconnect your lines.

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