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Peabody Energy (NYSE:BTU)

Q2 2011 Earnings Call

July 19, 2011 11:00 am ET

Executives

Vic Svec - Senior Vice President of Investor Relations & Corporate Communications

Richard Navarre - President and Chief Commercial Officer

Michael Crews - Chief Financial Officer and Executive Vice President

Gregory Boyce - Chairman, Chief Executive Officer and Chairman of Executive Committee

Analysts

Wes Sconce - Morgan Stanley

Mitesh Thakkar - FBR Capital Markets & Co.

Brandon Blossman - Tudor, Pickering, Holt & Co. Securities, Inc.

David Martin - Deutsche Bank AG

James Rollyson - Raymond James & Associates, Inc.

Andre Benjamin - Goldman Sachs Group Inc.

Shneur Gershuni - UBS Investment Bank

Brian Gamble - Simmons & Company International

Unknown Analyst -

Paul Forward - Stifel, Nicolaus & Co., Inc.

Meredith Bandy - BMO Capital Markets Canada

Jeremy Sussman - Brean Murray, Carret & Co., LLC

Mark Levin - BB&T Capital Markets

Operator

Ladies and gentlemen, thank you for standing by, and welcome to Peabody Energy's Second Quarter Earnings Conference Call. [Operator Instructions] And also as a reminder, today's teleconference is being recorded. At this time, I will turn the conference call over to your host with Peabody Energy, Mr. Vic Svec. Please go ahead, sir.

Vic Svec

Well, thank you, Tony, and good morning, everyone. Thanks very much for taking part in the conference call for BTU. With us today are Chairman and CEO, Greg Boyce; our Executive Vice President and Chief Financial Officer, Mike Crews; and President and Chief Commercial Officer, Rick Navarre.

We do have some forward-looking statements and they should be considered along with the risk factors that we note at the end of our release, as well as the MD&A section of our filed documents. We also refer you to peabodyenergy.com for additional information. And I'll now turn the call over to Mike.

Michael Crews

Thanks, Vic, and good morning, everyone. Once again, Peabody turned in a quarter with significant increases in all key income statement measures. Revenues, EBITDA, operating profit, income, EPS are all up sharply over the prior year. This performance comes in the face of a number of external issues in the first half, so we are targeting even greater results in the last 6 months of 2011 and have a clear path toward the best year in our history.

Let's review our second quarter beginning with the income statement.

Peabody set a new mark for revenues, exceeding $2 billion in the quarter. Revenues increased 21% and were higher across the board: U.S. Mining, Australian Mining and Trading and Brokerage, even with mining sales volume on par with last year. EBITDA increased 32% to $580 million, which includes a $25 million provision or $0.06 per share related to the pending resolution of outstanding litigation.

Australia led the way, with a 69% increase in EBITDA. Our Australia operations contributed more than 60% of Peabody's mining EBITDA in the second quarter. Higher EBITDA led to a 41% rise in operating profit to $458 million, and net income increased 36% to $292 million.

Excluding the non-cash remeasurement of income taxes, our adjusted income was $308 million, with $1.11 in adjusted diluted EPS. That's a 61% increase over the same quarter last year. Our effective tax rate was 25% for the quarter excluding the effects of income tax remeasurement, and we are targeting the mid-20% range for the full year.

I'll now discuss some additional detail within the supplemental income statement. In Australia, our volumes rose 8% over the prior year, while revenue per ton climbed 38% to more than $128 per ton on increased realizations for both metallurgical and thermal coal. We sold 2.3 million tons of met coal in the second quarter at an average price of $246 per short ton, a 50% increase over the prior year. We also shipped 3 million tons of seaborne thermal coal at a realized average of $97 per short ton, up 16% over last year.

We had roughly $37 million in EBITDA impacts related to the Australia weather effects on the coal chain, most of which resulted from co-shipper vessels, those that wait on multiple producers to load before shipping. Regarding Australia's cost increase for the quarter, while we're largely hedged on currency, the Australian dollar rose 26% over the same period last year. Also, with higher coal prices come increased royalties. These 2 factors combined to increase our Australian cost $9 per ton.

Costs were also impacted by the beginning of a longwall move in Queensland, as well as normal cost escalations. We were expecting "full year per ton" cost in the upper 60s with costs rising somewhat on higher exchange rates, while also benefiting in the fourth quarter from our Wilpinjong expansion. Finally, Australia margins rose to nearly $55 per ton, representing a robust 43% EBITDA margin.

Turning to the U.S., volumes were constrained in the quarter, first by heavy rains in the Midwest and then by flooding across the Missouri River Valley that hampered Western shipments, lowering EBITDA by $36 million. We were down nearly 4 million tons from our PRB and Illinois Basin expectations. Higher revenues per ton in the Midwest helped to drive a 23% margin per ton expansion. In the West, costs were impacted by the reduced PRB shipments and the geology challenge at Twentymile we discussed last quarter. Through advanced engineering and execution, we were able to quickly resume longwall operations and limit the impact to $34 million.

Both Trading and Brokerage and Resource Management had solid quarters, posting a combined $74 million in EBITDA. Trading benefited from higher margins on a greater mix of export volumes. The combined benefit of all segments resulted in a 45% increase in operating profit per ton to $7.88.

We generated $395 million in cash flow from operations, a 35% increase over the prior year. We have $1.25 billion in cash, short-term investments, and a combined $2.7 million in liquidity. And with the retirement of $218 million of bonds in April, our total debt-to-cap ratio has declined to 32%. We continue to target capital spending for 2011 at $900 million to $950 million. We are also in an excellent position to implement our new growth initiatives, which Greg will address in a moment.

I'd like to close with a review of our outlook. For the third quarter, we are looking for continued higher results and target EBITDA of $575 million to $675 million and adjusted diluted EPS of $1.05 to $1.25 per share.

Our third quarter is likely to be impacted as U.S. railroads recover from the flooding, as well as ongoing co-shipper risks in Australia. For the year, we are raising our adjusted diluted EPS targets to $4.20 to $4.60, with EBITDA targets now ranging from $2.3 billion to $2.5 billion. I would also refer you to our Reg G schedule in the release regarding our target ranges for DD&A and other line items.

With that look at the quarter and our new targets, I'll now turn the call over to Greg.

Gregory Boyce

Thanks, Mike, and good morning, everyone. You have seen us start 2011 better than any year ever, and we're targeting our second half EBITDA that could rise another 30% to 50%. Peabody also continues to add to a global platform that is the best in the business.

I'll review the market fundamentals and then discuss significant activity on the global growth initiatives that I believe will further differentiate Peabody as the world's premiere coal company. What strikes us about the global markets is how much our underlying thesis is proven from quarter to quarter and how events change, but the outlook stays the same.

The world remains in the early stages of a long period of major demand growth, and so-called onetime events in the industry that constrain supply now occur each quarter. Global coal demand remains robust. World steel production is up 8% year-to-date. Globally, the world will use an additional 70 million to 80 million tons of metallurgical coal this year. Electricity generation is rising rapidly in developing countries, and coal is backfilling for nuclear power in Europe.

China remains a cornerstone of growth. First-half GDP grew 9.6%, electricity generation increased 14%, and steel output was up 10%. Last quarter, there was concern over an easing of China imports, yet imports have now risen for 4 straight months, and we believe we're on a pace for a stronger second half.

India is now the world's fastest-growing importer. Their thermal coal imports were up 45% year-to-date. Europe is increasing thermal coal imports as Germany closes its nuclear plants and coal displaces high-priced gas. And escalating demand growth continues to strain global supplies to the point where any external events take on magnified importance. Labor stoppages, rains, permitting challenges and transportation issues are common. Strong near-term fundamentals have kept international pricing near record levels for both met and thermal products, with recent settlements coming in higher than most expected.

Longer term, the world could need more than 500 million tons of additional met coal per year by 2020, and some 700 gigawatts of new coalfield electricity generation is expected to be online by 2020, requiring well over 2 billion tons of additional thermal coal. Just consider this: China's 12th 5-year plan targets $100 billion in investments in generation, transmission and subway construction activities by 2015.

Now in the United States, light economic growth and industrial output translate into weak demand overall, but there are encouraging signs. Powder River Basin and Illinois Basin use is rising to serve new plants and existing plants that are switching from Appalachian coal. We are seeing new Illinois Basin customers from New York to Florida, and export demand continues to rise for all coal products. We are increasing our PRB shipments this year from the Gulf and West Coast, and we recently sold Illinois Basin coal to India.

On a supply-side, Mike noted that flooding is affecting the river markets, as well as Western rail shipments coming east. This has led to significantly above-average stockpile draws recently. With a tight supply-demand fixture and favorable long-term market outlook, Peabody is in the midst of the largest global growth program in the company's history. Our approach is to continue to expand our platform in the regions that serve the fastest-growing markets through organic growth, joint ventures and acquisitions.

And you have seen this plan demonstrated by progress on multiple fronts in recent days. Last week, we initiated a takeover proposal for Macarthur Coal through a joint venture with ArcelorMittal. We like Macarthur's asset base and leading low vol PCI position, and we believe our operating, commercial and project-management skills will be a good fit for Macarthur's active mines and growth potential.

In addition to M&A, Peabody remains active in organic growth as we expand the current Australian platform to 35 million to 40 million tons by the 2014/2015 time frame. The first expansion project will be completed in the fourth quarter this year at our Wilpinjong Mine, and we have additional increases in Australian production slated over each of the next several years.

Also in Australia we agreed to buy the remaining 5% of the Burton Mine, giving us additional access to met coal sales. In Mongolia, Peabody was selected by the government as part of the consortium to develop the western bloc of Tavan Tolgoi, along with a Russian railway group and China's Shenhua. We would be an equity partner in the project and are working on finalizing the structure in commercial terms, which then require government and parliament approval.

This process began with more than 20 companies, so we view this selection as confirmation of our rising global presence and high mining standards. In China, we announced that we're pursuing development of a "$50 million ton per year" surface mine in partnership with the Xinjiang Uyghur provincial government. Xinjiang produced 100 million tons of coal last year, yet is expected to reach 1 billion tons per year over time. That's equivalent to nearly the entire U.S. production base. The government is very supportive and has committed to accelerate the allocation of coal resources for the project.

In the U.S., we were named last week as the winning bidder on a $220-million-ton reserve block in the Powder River Basin. The PRB remains a cornerstone of Peabody's production base. We feel this quality coal will be increasingly valuable as that backfills into U.S. markets, while the 8800 product is increasingly exported to Asia. We also believe that low-sulfur coals will be increasingly valuable given the most recently proposed EPA regulations.

And finally, we're expanding commercial discussions with Asian customers for the proposed Gateway Pacific terminal, where we have a "24 million ton per year" throughput agreement. We continue to be encouraged by the widespread support for the project.

So taken together, Peabody's growth initiatives will allow us to achieve our Asia 100 vision. They also represent the new shape of our company, one that has been building since we began our international focus in 2004. We've opened offices and trading centers, put in place dedicated teams on multiple continents, developed deep financial reserves and capacity, and have conducted exhaustive analyses of markets, geologies and companies.

We are now taking these international activities to the logical next step, even as we continue to deliver the results that earn us the right to grow. So that's a review of our results, the markets and our growth projects. At this time, Mike, Rick and I would be pleased to take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question in queue will come from Jeremy Sussman with Brean Murray.

Jeremy Sussman - Brean Murray, Carret & Co., LLC

You've got a lot of good moving parts going on right now. Can you maybe give us a sense of timing and maybe initial economics of things such as Tavan Tolgoi, in terms of maybe CapEx needs, production, and then the same -- for as much as you could give us would hold true, same question for your large, Chinese, surface project?

Richard Navarre

Jeremy, this is Rick Navarre. It's a bit premature for us to get into too much detail on those projects, but I think as we're looking at them now as they begin to develop, you're talking about a development horizon that would probably take us 24 to 36 months and then begin to -- start to build the mine out, and then you're probably on both of those fronts in a 3- to 5-year window before you see coal coming out. And then -- so that's at the highest level. I think on -- in the CapEx, it's a bit early as we continue to work through how the partnership's going to work in Mongolia. We have a number of partners as you know with China, with the Russian railroad and as well as the government of Mongolia, but we're fairly confident that at a "50 million ton a year" level, the CapEx will come in at a number that's consistent with what we would see in a normal surface mine that we would be building.

Gregory Boyce

Yes, Jeremy, I guess I would just add, oftentimes we see some large numbers around the Tavan Tolgoi development. The vision of the Mongolian -- government of Mongolia is to develop the mine, extensively develop a rail network in Mongolia, add coal-conversion projects, power-generation projects, industrial parks. So you start adding up all those multiple components of their vision for full development and the numbers can get high, but for the mining component itself, that's going to be something that's going to be within the range of international standards on a per ton of development.

Jeremy Sussman - Brean Murray, Carret & Co., LLC

Okay, no, that's -- I appreciate that. And then just as a quick follow-up, regarding Macarthur, can you give us a sense of what a potential partnership with ArcelorMittal could mean for you, not just on Macarthur but generally speaking with everything you've got going on in Australia?

Richard Navarre

Well, I think that Arcelor obviously being the largest steel producer in the world and obviously there's a shortage of coking coal around the globe, and I think it's just a natural fit between Peabody as we expand our position in coking coal as they continue to try to lock in security of supply. We have a number of other organic projects that we're working on. We have a number of other opportunities around the globe. I think it's just a good fit for us to work together. As it relates to Macarthur, they're are already a 16% shareholder. It bolsters our opportunity -- our chances, very significantly, of being very successful on this bid. We only need to get 50% of the shareholders to take control of Macarthur, and we start with 16%, meaning we really have to get another 34%, which is about 60% of the free float that's available. So it's a strong partnership for us.

Operator

Our next question in queue, that will come from the line of Shneur Gershuni with UBS.

Shneur Gershuni - UBS Investment Bank

Jeremy actually covered a lot of the questions that I had, but I did want to ask about -- there's been a proposal for carbon tax in Australia and so forth, a lot of talk on how it's going to impact different companies. I was wondering if you guys have done any analysis yet as to what the potential impact could be on Peabody's operations?

Gregory Boyce

Well, I guess at the end of the day, until the carbon tax is actually finalized and passed, there's a lot of different variations of impacts that you can do. The preliminary numbers would indicate that surface operations have much less impact than some of the deep, gassy, underground mines. The government is talking about assistance in transition packages for the deep, gassy mines, which is in the process of being finalized. So those will be mitigated over a period of time, so at the end of the day, as we look at the carbon tax, we have factored that into our activities in Australia. One of the main points that we look at is, to the extent that those carbon taxes increase costs, then the best way to offset those is to consolidate and provide synergies -- or extract synergies. That's part of the main initiatives relative to the Macarthur transaction. And as we continue to expand our brownfield expansions in Australia, it allows us to also extract lower costs because of increased volumes. At the end of the day, we as a company and the coal association are very strongly opposed to the carbon tax. We don't think it's the right policy framework to move forward with. But in terms of specific numbers, it's too early to really come out with any modeled impacts on a specific basis.

Shneur Gershuni - UBS Investment Bank

That make sense. And one follow-up, if I may. I was wondering if you can give us some commentary just about pricing in general for metallurgical coal for the upcoming quarter, as well as PRB. And with -- specific to metallurgical coal, there's been a lot of weather impacts in Australia for the -- in the last couple of years, as we all know. Are our buyers looking to pre-buy or try and get ahead of the rainy season? And could that be a source of strength in the upcoming settlement? And then secondly, if you can talk about the PRB as well, too. It's kind of been weak recovering a little bit. And kind of how you see the market in 2012, 2013.

Richard Navarre

Sure. So let me start with the met market, Shneur, on this. And basically, on the met side, we've seen it set the 2 highest prices in history in the last 2 quarters, with the $330 and $315 settlement. Obviously some of that's driven by the fragile supply and demand. We think that, that goes forward. Some of that's because of the weather in Australia. We haven't seen customers necessarily try to get ahead of that. I mean, most of it's been based on quarterly pricing, but I think they were very -- it was an easier settlement than most thought in the last quarter at $315 because there is truly a shortage, and I think most people underestimated the time it was going to take for Australia to recover because of the flooding. And frankly, we're still recovering. We're not -- we're seeing a lot of other producers that are still not delivering the coal, which is causing shipment delays and other issues. So I think we still see a strong number coming up in the next quarter, and really, over time, we still continue to believe there's a structural shortage of metallurgical coal that's going to drive a strong pricing and high margins in that piece of the business for a long time to come. As we look at the Powder River Basin, what we've seen -- some of the fundamentals. Obviously, we've seen flooding. That has begun to bring down the inventories of the PRB burners. We think probably by the end of the summer that they'll probably be at the lowest point for stockpiles that they've been in 3 years. As a result of that, we've seen the forward pricing on PRB move up substantially. You look out about 2014, 2013, you're seeing numbers as high as almost $18 per ton. So you see strong contangos. You see a strong movement up as these stockpiles are coming down, and that doesn't even factor in what we think will be the next move in PRB, which is the fact that if these new EPA rules go forward and they go into effect January of 2012, which they're supposed to go into effect, they're to require significant rebalancing of burn towards low-sulfur coal to meet the standards. And having ultra-low-sulfur coal, PRB 0.5 type coal is going to be very strong. And we'll see a return to the premiums that you used to see several years ago for the differences between some of the PRB products. So we think that the prices today are probably even understated because of the value that they'll have going forward, so we feel very strongly about PRB pricing moving forward.

Gregory Boyce

It's one of the reasons why you see us have the kind of open position we have for '12 and significant open position '13 and '14, is because of the factors that Rick talked about.

Richard Navarre

Yes, those are higher than where we would have been last year at this time.

Operator

And our next question in queue, that will come from the line of Jim Rollyson with Raymond James.

James Rollyson - Raymond James & Associates, Inc.

Maybe a little shorter-term question than you like to go with sometimes, Greg, but on the guidance just for this year, based on what you did first half, based on 3Q, obviously you're implying a pretty strong 4Q. I just kind of wanted to maybe rehash for a second the -- kind of the drivers of the big step-up implied in 4Q. It seems to me you've got the volume recovery continuing from -- post-flooding, you've got the impact of the Wilpinjong growth project, and obviously the impact that those have on costs. It seems like recovery in the U.S. volumes, just the transportation and weather issues kind of go by the way and then the impact they have on cost. What else, just in your thoughts, are driving the upside in 4Q relative to the rest of the year as we progress?

Gregory Boyce

Sure, okay. Well, I appreciate the question because I think it's -- we need to provide a bit of clarity. Let's -- if you look at the difference between the third quarter and the fourth quarter, in the third quarter, as we've established our guidance, the things that we took into consideration is we've got 2 longwall moves in the third quarter. We've got a longwall move we've started at North Goonyella, which will go into the pits. It's going through the third quarter now. And then we will be -- have a longwall move in our Metropolitan Mine. Now these are our 2 big met coal mines in Australia. So those will be completed in the third quarter. Those operations will be up and running in the fourth quarter, so obviously there's a difference in volumes and revenue streams between the 2 quarters, just between those 2 operations alone. We also have our Wilpinjong expansion coming online in the fourth quarter, so that will boost our volumes out of New South Wales into the thermal market. Most of those -- most of that expansion will be heavily weighted towards additional export coal. And in addition, we expect additional volumes in the fourth quarter out of our Millennium project versus what we are going to get in the third quarter. We anticipate getting all the final regulatory approvals late this quarter so that we can begin ramping that project up in the fourth quarter. So I'll -- net-net, those are some of the major differences between the Australian platform between the 2 quarters. Then you move to the U.S. We anticipate residual impacts in the Powder River Basin during the third quarter because of the railroad issues. Both the UP and the BN still have significant parts of their system that are not fully operational. A lot of rerouting that's going on which is causing delays in the entire Western rail system, so that everybody is below where they would anticipate being at this point in time, and we expect that's probably going to continue in variable form through August and in some cases maybe into September. And that should be pretty well cleaned up and fourth quarter back to normal. In addition for us, Twentymile is just now starting to reach its full strides. We expect it to continue to perform at higher levels through this quarter, and then fourth quarter get back to its very high productivity levels as we get into different geologic zones in that panel. So you start adding those differences up and you can see why we have third quarter estimates where they're at, but a much significantly improved fourth quarter.

James Rollyson - Raymond James & Associates, Inc.

That's very, very helpful. And then just as a follow-up, kind of looking ahead to next year and thinking about Australia, your cost outlook for this year is kind of now in the upper 60s. I think you started in the mid-60s but with everything moving, that's where it is. As you go forward into '12, it seems like you're going to have some of the continued growth initiatives, volume impact, which helps out your cost. Hopefully, we will be absent the flooding next year as far as the impact that, that's had on your cost this year. Notwithstanding currency guesstimates, but kind of what are you thinking for a normalized cost basis on a per ton for Australia as you head into '12 relative to '11?

Michael Crews

Yes, this is Mike. As you think about 2011 and the multiple moving parts that we've had, and we did have the weather issues in the first half that are impacting cost. We've also seen even with our hedged position FX rates move up, so they've been stubbornly high here at about 107 right now. So we're going to have to work through the budget process and really figure out where we come out in '12 in terms of the mix of tons. You're correct that as the volumes come up, that puts downward pressure on our overall cost. Some of that will be mitigated by what we expect to be higher -- or even if it keeps with stable exchange rates with our hedged positions. As they're a bit lower, as you move further out beyond the 6- to 12-month period, that'll have an upward impact on pricing. And as always, the high-class problem of higher sales prices equal higher royalty impacts.

James Rollyson - Raymond James & Associates, Inc.

So a little too early yet?

Gregory Boyce

A little too early yet, but I mean, we would indicate that obviously cost pressures in Australia are larger than they are, say, here in the U.S. platform. Given the nature of the mining industry and the extent of all the activities going on in Australia, the inflation rates overall in Australia are higher than they are here. So as Mike indicated, we've got drivers that will reduce cost, and we anticipate drivers that will increase cost. What the net-net effect of that is, is probably a bit too early to tell, but we'll just see where it comes out.

Operator

And our next question in queue, that will come from the line of Andre Benjamin with Goldman Sachs.

Andre Benjamin - Goldman Sachs Group Inc.

Couple of questions. The first, could we get a little more detail on specifically Peabody's Queensland operations? I know last quarter you said you were virtually back up and running. I wanted to see if that -- you guys completed that and all your mines are back up to normal. And then, could you also look across the industry and maybe give expectations for say a run rate, third quarter versus fourth quarter, and how you're thinking about capacity going into next year?

Gregory Boyce

Sure. I think in terms of any residual weather-related impacts, I mean our operations in Australia are up and running. Volumes have recovered, and we expect those into -- as some of our development projects come online as we talk about, higher volumes in the fourth quarter than in the third. In terms of the infrastructure system in Australia, because other producers are still having issues, it really hasn't been tested. The rail system, the projects that they had are moving along and the ports have had capacity, certainly out of Queensland. So overall, we're expecting to get, at least from our platform, closer to normalized levels. The biggest risk that we face is what we call co-shipper risk in Australia, where, particularly in the met coal side of the business, these vessels that get loaded have, in some cases, 2 or 3 different producers loaded into the vessel. To the extent that other producers are still struggling, that can delay the timing of those vessels. But that's probably the biggest risk that we have right now.

Richard Navarre

Yes. And I think the rails, as Greg mentioned, are not -- they're probably running at 60% to 70% in some parts of the network, and if you look at the expectations for Q3, Q4, in total, I guess we're still looking at a number we think that -- lost production for 2011 is probably around 35 million tons.

Andre Benjamin - Goldman Sachs Group Inc.

That's helpful. And then I guess as we think about M&A as you work through the potential bid for Macarthur, I'm just wondering if you could discuss your appetite for doing any additional transaction beyond the ventures you've already announced and that bid. And if there's any target level of leverage or willingness to use your balance sheet that we should think about as we try to assess the future size of any opportunities. And I guess the last piece would be any preference from that versus thermal or any geography.

Richard Navarre

Well, I think, obviously, we continue to look for the ideal properties that make sense, and we look at a number of things throughout the year that are not always for sale at the right time or when we want them, and things, when they come for sale, we have to take a look at them. There are still assets that we're interested in, and we continue to look at that fit our portfolio nicely. The timing is always subject to a number of issues as it relates to the financial side. I'll turn it over to Mike, let him give you a little bit of color on how we look at it from a financing perspective.

Michael Crews

Yes. So from a financing perspective, and you look back in history a bit when we did the Excel acquisition, we previously indicated we had -- we were comfortable with a targeted debt-to-cap range -- that's one of our primary metrics that we look at -- of 40% to 60%. We flexed up to about 56% when we did that deal. And we said we were comfortable with that because we had development-stage properties, we were going to bring those online, we were going to grow our way out of that leverage. That is in fact what has happened. We've continued to build up cash. I mentioned we had $1.25 billion in cash, which would be our first starting point for currency. We have good access to our existing credit lines. We've been very successful as a crossover credit, and we know we have good access to the capital markets, leaning firstly towards leverage. There is equity out there as a possibility down the road. That would really have to relate as to what the mix was on the number of projects we have and when they fall at one point in time. We have good operating cash flow. When we've talked about our CapEx ranges just for the existing portfolio of $900 million and $950 million, we anticipate funding that out of cash flow, along with existing potential smaller bolt-on acquisitions like this Burton acquisition. And then beyond that, we'll look at a good prudent mix of financing and feel that we can carry these off. These larger projects are multi-stage. They're going to require cash over a longer period of time, and we have the ability to prioritize that and manage through it over the next 2 to 3 years.

Gregory Boyce

Yes, as you look at -- as we look at all of the opportunities that are out there, as Rick said, you cannot always plan the timing of when they become available. But suffice it to say, as we look at balancing M&A activity with project-development activity, you can be assured we're going to pay close attention to the financial structure and the capital structure of the business. To the extent that there's more M&A out there, we're bringing in earnings as we do those M&A transactions. That grows the business and adds value. And as Mike indicated, we'll be prudent between the capital structure and the equity structure, all intended to grow the business over time.

Andre Benjamin - Goldman Sachs Group Inc.

Any product or geography preference?

Gregory Boyce

Well, we've always indicated -- obviously, we feel very strongly about the seaborne markets, both met coal and thermal coal, and so to the extent that we have a high preference for those areas and those products that can access the seaborne markets, and then with both the China and the Mongolia activities, those operations that are in close proximity to the fastest and largest coal market in the world, which is the China market.

Operator

And our next question in queue, that will come from the line of Meredith Bandy with BMO Capital Markets.

Meredith Bandy - BMO Capital Markets Canada

So I guess, just sticking with Australia for a second, I was wondering if you could review for us which unions you guys have in your Australian operations and when maybe you have some more contracts coming up.

Gregory Boyce

Well, the main union that we have with our Australian operations is the CFMEU, which is the main union representing virtually all of the coal mines in Australia, 1 or 2 exceptions, and the labor contracts kind of continue to roll over at varying times. I think our next major contract renewal is -- it's next year, I believe, at North Goonyella.

Meredith Bandy - BMO Capital Markets Canada

Okay. And then is there any -- I don't know what the -- sort of the legal ramifications are in Australia. Is there any possibility of the CFMEU at your unions being able to sort of strike in sympathy with the BMA?

Gregory Boyce

No. The strike actions have to be specific within the context of the company and the operations that they're dealing with, so to the extent that BMA has got issues with negotiating contracts, those are issues that they need to deal with. We've got good contracts and good relationships with the unions at our operations, so we don't anticipate any issue there at all.

Meredith Bandy - BMO Capital Markets Canada

And have you already started negotiating for the 2012 at North Goonyella?

Gregory Boyce

No, it's a bit early for that.

Operator

And our next question in queue, that will come from Brandon Blossman with Tudor, Pickering.

Brandon Blossman - Tudor, Pickering, Holt & Co. Securities, Inc.

Let's see. It's probably just a couple follow-up questions. One, Australian met, 2 points there. Just quality spread on pricing, it looks like your realizations are a little bit lower quarter-over-quarter versus benchmark. Are you seeing any increasing spread in the market there? And then also just on the production side, so you say co-shipping is your biggest issue for Australian met. Does that mean that your production is essentially back up online in full and you're increasing inventories waiting for vessels essentially?

Richard Navarre

Well, to hit the first part of the question, I mean, this particular settlement we've seen a little bit of a spread between the lower-quality coals than the high-quality coking coals. I think in the last settlement, it was about -- up to 80% to 82% correlation. Now it's down in the 70s. So there's been a little bit of a spread on the lower-quality coals, obviously leading to the higher price on the high-quality coking coal. So we've seen a little bit of movement there, nothing too significant. As it relates to the co-shipper issue, as Greg said earlier, our mines are up and operating. We've got coal available, but it gets difficult at times. They won't come pick your coal up if you don't have the other coal available for the ship. So the rail may not even come pick up your coal if the other party doesn't have their coal available. So it's a balancing act and we try to -- we work as hard as we can at it every quarter to try to make sure we get our shipments out, something I think we do pretty well. But it is an issue when others -- or when you rely on others to get their production up the line.

Brandon Blossman - Tudor, Pickering, Holt & Co. Securities, Inc.

Great, that's helpful. And then kind of at the other end of the spectrum, PRB, and this is a general question or a broad question, but can we infer any change in strategy around PRB? So we had an LBA that you guys won that you didn't nominate, fairly unusual, obviously. There's obviously a nice line of sight on exports, but also a good chance that low-sulfur coal's going to be more prized. And I think you alluded to the general, more bullish view on PRB pricing. Does that all tie together as a -- perhaps a change in strategy on PRB, or just a more bullish outlook on the value of those tons?

Gregory Boyce

Well, I'm not sure that that would indicate any change in strategy. I mean, the PRB has been the cornerstone of our production platform for a number of years, and we've been active in PRB lease sales over a long period of time. As we look at the PRB, you're correct. We see the long-term export potential, particularly with the developments at the Gateway Pacific terminal and the increasing environmental rules in the U.S. as to once again provide potential uplift for PRB in terms of volumes and margins. So as we look at, how do you continue to sustain the level of production? I mean, when you're producing 140 million to 150 million tons a year of PRB coal, you have to continue to replace that reserve base. So it isn't any surprise -- shouldn't be any surprise that for any lease sale out there, we're going to actively look at those reserves, look at their proximity to our operations, how they could be integrated into our operations in order to not only provide longevity, but also the potential to expand as the economy here in this country recovers and exports become a much bigger component of PRB in the longer term.

Operator

And our next question in queue, that will come from the line of Paul Forward with Stifel, Nicolaus.

Paul Forward - Stifel, Nicolaus & Co., Inc.

I just want to follow up on that PRB question. A couple of things. I guess, one, is there -- with this rise that we've seen in the forward outlook for pricing, has that changed your outlook on the timing of School Creek? And can you remind us again how big of a project School Creek is? And maybe as a follow-up to that, Caballo. You made a big commitment to Caballo in 2006. That was a "33 million ton per year" mine. Last year it was about 23.5 million. Can we expect that Caballo will go back to those peak levels or even potentially beyond that, given the right market?

Gregory Boyce

Yes, I think, Paul, for both of those operations, given the market demand and level of demand in the marketplace, we have capacity. Caballo used to ride around that "33 million, 34 million ton a year" level, so the infrastructure at site could support that. Now we'd have to go and replace a lot of mining equipment, which we have moved away from Caballo over the last number of years as it went down to that 24-million-ton rate. So in order to replace that mining equipment, you're probably looking at a buildup of 12 or 18 months if the market demand was there. And in the case of School Creek, that operation, when it shut down and its previous life, was running at around 25 million tons a year. The infrastructure there, we think, could be upgraded and get that operation up into the mid-30-million range. So as you look at both of those, we think that provides us the ability to grow with the market, to grow to meet these export commitments that we're looking at making as that Gateway Terminal comes online, and then meet the increased demand in the U.S. as these environmental regulations continue to kick in over the next 2- to 5-year period of time.

Paul Forward - Stifel, Nicolaus & Co., Inc.

Okay, thanks. And just -- there were some CapEx questions earlier. Just wanted to clarify, if you've got an outlook -- forgetting about the Mongolia and China projects, forgetting about Macarthur, you've got $900 million to $950 million of CapEx this year. As you look at 2012, 2013, you've got a lot of projects in the works. Where can we anticipate approximately the direction of your capital spending is going to go, just in Peabody-only projects, for the next couple of years?

Gregory Boyce

Well, in Peabody-only projects, I mean, because of the Australian build out, probably not going to be a lot of change over the next couple of years. We've got expenditures that we have to continue to make at Burton for that widening and extension. We're going to have expenditures at the Millennium Mine once we receive the approvals at the end of this year, begin to expand that operation. Wilpinjong will be essentially behind us. Metropolitan will still have some additional capital over the next couple of years to get that expansion fully where it needs to be. And then ultimately, and a couple of years out, we'll start to see capital kick in for that Denham-North Goonyella lower-seam combination expansion at North Goonyella. So I don't have the exact profile in front of me, but I would say that for the Peabody-only, probably not going to see much change.

Operator

[Operator Instructions] And our next question in queue will come from Mitesh Thakkar with FBR Capital Markets.

Mitesh Thakkar - FBR Capital Markets & Co.

I know we heard a little bit earlier on the process on Macarthur, but can you give us some sort of -- what kind of timeline you are looking at. And I know you are doing the due-diligence process, but do you have, like, a preliminary sense of what kind of scenarios we should expect from the operational and the administrative point?

Michael Crews

Let me cover that. I think, from a time line standpoint, you're right. We're in the process of performing diligence, and we would hope to complete that sometime in the next 1.5 weeks. We started site visits this week and we've moved on from there. Then we'll move onto the next phase of this and there's lots of other -- there's lots of wildcards that can happen in the process but we'll have to get regulatory approval from FIRB, which we think is going to be pretty perfunctory, not a big issue. But there's also the normal approvals that we have to get from the EU and other countries. So it depends on how long those takes. They could take up to 8 to 12 weeks, probably, to get all the regulatory approvals completed. So a bit of an unknown there, but we'll keep you posted as we know more about that. As it relates to synergies, obviously we've taken a hard look at this in the last 2 years, and I think it's a number that we feel comfortable that Peabody, with the platform that we have in Australia and the proximity of locations, that there're going to be synergies -- equipment synergies and purchasing synergies and other issues. We're trying to grow the business. So from the standpoint of, are we looking at rationalization of the sites? The answer is "no" in general because we have to grow the business. So I think with that, I'd probably just leave it at that on the synergy side for this discussion.

Mitesh Thakkar - FBR Capital Markets & Co.

Okay. And just one follow-up on -- there is chatter about impact of mineral-resource tax expansion in China. Does that impact your Chinese project? And how -- does it change the way you think about it any?

Gregory Boyce

No, we factor all of that into the activities that we've got going on in China. I mean, their impasse and costs for their natural-resource development are pretty nominal. They're just starting to try and bring those in line to what we see elsewhere in the world, so all of that's been factored into our analysis.

Operator

And our next question in queue will come from the line of Richard Torino [ph] with Crédit Suisse [ph].

Unknown Analyst -

Great. Most of my questions have been answered, but just a couple of quick ones here. Looks like you priced about 24 million tons in '12 and '13. Just wondering if that was primarily PRB. And is it safe to assume forward-curve prices are an indication where those would have been priced at?

Richard Navarre

I'd say just probably more than 1/2 of it's going to be PRB. I'd also tell you that about 80% of those tons that we priced were reopener tons, so they weren't necessarily new business. They were tons that were subject to contracts that were already in existence that had a reopener provision to come -- that had to be reopened at market, and clearly we always -- we tell you that, obviously the curve is a good indication. The forward curve, not necessarily the prime [ph] market is not a very good indication where prices are. So and we always try to sell above that, because we're selling premium product and the premium service.

Unknown Analyst -

Great. And on Twentymile, the cost that you say this quarter, do you think a lot of that is going to be recurring given they were geologic in nature? Or is -- will some of that go away over time, you think?

Gregory Boyce

Yes. We expect Twentymile's cost will return to what would have been normal levels now that we've worked through the geologic issues. The geology challenges we had are not ahead of us and we don't anticipate repeating those.

Unknown Analyst -

Great, thank you. And last question. On the export terminal, do you have any update on timing or anything? Or is that still through the permitting process at this point?

Richard Navarre

We're still in the midst of the permitting process and right now, we're still sticking to -- if everything would move along smoothly, we'd be at essentially a 3.5 year timeline between permitting and building the port, but obviously there's a lot of -- a lot of things can happen to change that, but nothing's changed it yet.

Operator

Our next question in queue will come from Mark Levin with BB&T.

Mark Levin - BB&T Capital Markets

Most of my questions have been answered, but I'll ask it this way. In terms of Q3 and even full year guidance, what factors would lead you toward the upper end of the range or even exceeding that number? And as my follow-up, what net price would be embedded in the full year, Q4 guidance expectation?

Gregory Boyce

Well, I'll answer the last part of your question first by saying we won't -- we're not going to provide what our embedded price is. The first part of your question is -- I think the biggest driver is going to be volumes. Both volumes in the U.S., how quickly the rail transportation system recovers, will be an indicator. And then in Australia, as we've talked a lot about co-shipper, the ability to continue to ramp up our baseload volumes out of Australia and then also to try and take advantage of and move all of the additional export tons that we're going to have coming on in the fourth quarter. So I think probably the biggest driver will be volume-related for us.

Operator

And our next question in queue, that will come from Dave Martin with Deutsche Bank.

David Martin - Deutsche Bank AG

First, just wanted to start with a quick one on 3Q. I know in your press release you mentioned that your average hard-coking-coal prices in Australia are essentially near many quotes and trade reports at $315. I'm curious on your PCI shipments or lower-quality shipments also, would they be close to the 230 range essentially also?

Gregory Boyce

I think you're can assume that the spread that you've seen out there is going to be something that we're going to experience as well between hard-coking-coal reference price and semi-soft coals that we sell.

David Martin - Deutsche Bank AG

Okay, that's fair. And then secondly, I just wanted to get an additional assessment from you, possibly, on China. I know you mentioned that imports have been trending up in recent months, but in total, import levels have been fairly anemic this year. Particularly interested in your assessment of growing production rates in the country and logistic capabilities in the country, because there have been some reports that do suggest the logistics issues aren't quite as bad today as what maybe they were a year or 2 ago.

Gregory Boyce

Yes, well, I guess, first of all, I would say that I'm not sure. I know I wouldn't agree with the use of an "anemic" term. When you look at the last 4 months of Chinese imports, they are as strong as they were at the end of last year, and we anticipate they'll continue to strengthen through the back half of this year. China is still talking about having rolling blackouts over the next several months because of a lack of coal, and continue to import coal. The first couple of months in the year, in terms of the import, was really an issue about pricing of electricity in China and the availability of coal because of issues out of Australia and Indonesia in terms of shipping locations. So I would tell you that our view is that it's going to be a strong back half. It's going to continue to be strong, and China's going to continue to grow their imports as part of their coal-sourcing strategies over the future time period. So at the end of the day, we feel very strongly about what's happening there. The infrastructure issues in China, let's just take it for a minute and talk about the project that we just signed this past week in Xinjiang province. We're talking about a "50 million ton a year" operation of thermal coal, and it's a bit of a domino effect. All of that coal is going to go to the central provinces, and the central provinces will then be able to ship a bit more to the coast. That will help a little bit to balance the demand that's growing in China for electricity across the southern provinces. But rail lines have to be built. Power lines for moving coal by wire have to be built. So the infrastructure issues in China, the demand for energy in China are just -- are Herculean tasks to try and meet, so we don't see where that's going to be solved overnight. In fact, that's part of their -- the issues. Lastly, just coming back to the imports for a minute, the VAT tax that they've had on imports is something to watch, because they are doing everything they can to incentivize additional imports to keep from having the kind of power outages that we're seeing.

Operator

And our next question in queue will come from the line of Brian Gamble with Simmons & Company.

Brian Gamble - Simmons & Company International

I was hoping you could relate the quality of Macarthur's PCI coal to your PCI coal. And, Greg, earlier did you say that your current bid from Macarthur fully in -- was fully impactful of all the carbon stuff that's out there right now, and that's not consequential at all?

Gregory Boyce

Yes, the answer to the second part of your question is we have incorporated forward views of carbon pricing, as well as the MRRT in terms of where we're at with Macarthur. So our due diligence that we're doing now is on the operating and business context, not the impacts of those on the platform.

Gregory Boyce

They're PCI-quality coal. Their low-vol PCI is the premium product for low-vol PCI in the marketplace. It is actually -- it is the benchmark product. The Coppabella brand is the benchmark of at least low-vol PCI product.

Brian Gamble - Simmons & Company International

Okay, so it's slightly better than what you guys consider your PCI. Is that right?

Richard Navarre

Generally speaking, yes.

Brian Gamble - Simmons & Company International

Okay. And then, Greg, earlier you brought up the volumes as the biggest impact to Q3 and Q4. You still have a pretty wide range, the 245 to 265 of total sales. Your first half volumes seem to point you to the lower end of that. Could you walk us through a scenario that gets you to the upper part of that band?

Gregory Boyce

Well, if you look at our volumes in the U.S. and double that, we're on a ratable basis right now. If you look at where we are year-to-date in Australia, it does suggest stronger second half volumes, which is what we're targeting right now to get to that 28 to 30 range, which is -- which you would expect given the rain impacts, particularly in the first quarter, that had hit us.

Operator

And we do have time for one more question and that will come from the line of Wes Sconce with Morgan Stanley.

Wes Sconce - Morgan Stanley

Just a quick question for Mike. You previously suggested that EBITDA from your U.S. operations would be flat to up 5% or so this year. Has that changed with the weather-related shipment issues?

Michael Crews

When you look at some of the issues, both with the weather and the geologic issues in Colorado, I mean, we're still expecting some stronger performance in the second half. We gave a range of up to 5% as a positive relative to last year and we still think that we're comfortable with that range.

Wes Sconce - Morgan Stanley

Thanks. And just the last one, you've maintained a relatively conservative balance sheet for some time. Is achieving an investment-grade rating a goal for Peabody in the near term?

Michael Crews

It's interesting and I walked a bit through the history over the past 5 years, and when you look at our metrics, there's many of those metrics that map to an investment-grade rating. There are pros and cons in terms of access to certain areas of the market, potentially a little bit lower borrowing rates on the debt side only. Yes, to couple that with the fact that we view ourselves as a crossover credit, so we have great access to the markets. We think they're on very favorable terms. Part of the reason we had that debt retirement in April was to get rid of the last set of high-yield covenants that we had, so some of this is positioning, and as we've mentioned, we're comfortable with prudent but additional leverage in the portfolio to allow us to effect these major growth initiatives that we're looking to take on over the next several years.

Operator

And with that I will now turn the conference back to Mr. Boyce.

Gregory Boyce

Well, thank you very much, and I want to thank everybody for participating in the call. I guess just my -- kind of my closing reflections here. What you've seen over the last couple of weeks in terms of our announcements with Macarthur, our leasing in the PRB, the Mongolian announcements on TT, our project in China -- these are a culmination of multi-years here of developing the horsepower and the -- and positioning ourselves to be able to take advantage of what are the best opportunities across the globe to expand our platform.

And it is really striking that we've got all of these coming at the same time. It's a testament to the work of Peabody employees. You can't thank them enough for the time and the efforts that they've put in. But it really lays the foundation for a level of growth, over the next period of time, which is significant, and we look forward to continuing to bring you up-to-date on how each one of these unfolds because each one of them by themselves are significant growth drivers. You put them all together and the platform has got the potential to grow significantly. So with that, we look forward to updating you next quarter.

Operator

Thank you. And ladies and gentlemen, this conference call will be available for replay after 12:30 p.m. Central Time today through August 19, 2011 at midnight. You may access the AT&T teleconference replay system at any time by dialing (800) 475-6701 and entering the access code of 206725. International participants may dial (320) 365-3844. That does conclude your conference call for today. We do thank you for your participation and for using AT&T's Executive Teleconference. You may now disconnect.

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