Rhino Resource Partners - Expiring Coal Contracts Are A Concern

| About: Rhino Resource (RNO)

Summary

Rhino Resource Partners has reduced its credit facility debt to around $43.6 million and has relatively low cash interest costs of $3 million per year.

However, a prolonged period of sub-$3 natural gas has threatened to idle many of its mines once the current coal contracts expire at the end of 2016 and 2017.

Rhino needs to continue reducing costs and hope for a strong cooling and heating season to boost natural gas prices.

That will determine whether Rhino will be able to secure replacement coal contracts at high enough prices to profitably operate its mines.

Rhino Resource Partners (NYSE:RNO)(OTCQB:RHNO)is in a relatively decent financial position for a coal company. It has reduced its credit facility debt down to only $43.6 million at the end of Q1 2016, down from approximately $55 million in Q1 2015. It has no other substantial long-term debt and interest costs are relatively low at $3 million per year. That being said, the prolonged period of sub-$3 natural gas (the last month to average above $3 was December 2014) with a more recent stretch of sub-$2 natural gas has still served to put Rhino in a precarious position. It only has 1.9 million tons of coal contracts for 2017 and 0.3 million tons of coal contracts for 2018, compared to 2015 production of 3.4 million tons. Current coal prices may not be enough to continue operating its Appalachian mines beyond its current contracts, while it needs to continue to reduce costs at its Illinois Basin Pennyrile mine.

Progress At Pennyrile

Rhino is finally getting the cost of production at its Illinois Basin Pennyrile mine down to more acceptable levels. The cost of production in Q1 2016 was $40.16 per ton, down over $8 per ton from the previous quarterly low. With Rhino receiving $47 per ton for its Illinois Basin coal in Q1 2016 and $49 per ton for its 2017 contracts, it is starting to make a decent amount of money with those production costs. However, Alliance Resource Partners indicated on its Q4 2015 call that it was signing contracts for Illinois Basin coal in the low-$40s per ton. This means Rhino needs to get Pennyrile production costs down to the $32 per ton mark that it was originally targeting.

Additional Mines At Risk Of Idling

Rhino has a number of remaining mines that are at risk of being idled. The Hopedale mining complex in Northern Appalachia had long-term sales contracts that expired at the end of 2015. It was still operating in 2016 due to the carryover of contracted 2015 tons into 2016. However, due to $2 natural gas, Rhino has not been able to enter into new contracts for Hopedale coal at profitable prices. Thus, after the carryover tonnage has been fulfilled, Hopedale is at risk of being idled.

Rhino's other operating Northern Appalachia mine is Sands Hill. This mining complex has contracted coal sales until the end of 2016, but has decided to cease surface coal mining at the end of 2016 (and won't attempt to develop the underground coal reserves) due to market conditions. Sands Hill is still expected to produce limestone in 2017 though.

Rhino's Central Appalachian mines were idled in Q4 2015, but some of its Central Appalachian mines were restarted in Q1 2016 to fulfil customer contracts that were secured for 2016. The production levels for Rhino's Central Appalachian mines depend heavily on future market conditions though. Poor market conditions will likely result in some to all of those mines being idled again.

That leaves the Rhino Western operations at Castle Valley and the Illinois Basin operations at Pennyrile. Castle Valley is fully contracted through 2016 and has around 30% of its production committed in 2017. Western Bituminous coal prices have held up reasonably well, so Castle Valley may continue to operate in 2017 and beyond. Current prices appear to be a few dollars per ton higher than Castle Valley's production costs.

Pennyrile is fully contracted through 2017 so far. A positive outlook beyond 2017 probably requires coal prices to rebound at least modestly and/or production cost to go down toward the $32 per ton mark that Rhino initially targeted.

Financial Status

Rhino has managed to gain some breathing room with its credit agreement extension to July 2017 (with the potential to extend it to December 2017 if the revolving credit commitments are reduced to $55 million). When combined with Royal Energy Resources' investment in the company, it appears that Rhino should be able to endure until next year. Rhino's future in late 2017 and beyond though is dependent on coal prices and its ability to reduce costs at Pennyrile and elsewhere. Rhino's business is not sustainable in the long run with current coal prices and costs.

Conclusion

Rhino has managed to survive where many other coal companies have gone bankrupt due to its relatively small debt load and interest costs, combined with some long-term coal contracts. However, it is now faced with most of its contracts expiring at the end of 2016 and at the end of 2017. Renewing contracts at current prices would probably make the majority of Rhino's mines unprofitable, with the apparent exceptions of Castle Valley and Pennyrile. For Pennyrile to be more than marginally profitable though requires production costs to continue falling towards Rhino's original target.

Rhino likely faces a make or break summer cooling and winter heating season with regards to natural gas. Sub $3 natural gas continuing into Spring 2017 probably means that Rhino won't receive high enough contract prices for its coal to avoid idling the majority of its mines. That scenario probably puts the banks or Royal Energy Resources in control of Rhino's fate. Natural gas at $4+ probably means coal prices will be in decent shape for Rhino to lock in profitable contracts and potentially give it an upside of multiple times its current price.

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