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Alpha Natural Resources (NYSE:ANR)

Q1 2012 Earnings Call

May 03, 2012 10:00 am ET

Executives

Todd Allen - Vice President of Investor Relations

Kevin S. Crutchfield - Chief Executive Officer, Director and Member of Safety, Health, Environmental & Sustainability Committee

Frank J. Wood - Chief Financial Officer, Principal Accounting Officer, Executive Vice President and Chairman of Safety, Health, Environmental & Sustainability Committee

Paul H. Vining - President

Analysts

Kuni M. Chen - CRT Capital Group LLC, Research Division

Michael S. Dudas - Sterne Agee & Leach Inc., Research Division

Shneur Z. Gershuni - UBS Investment Bank, Research Division

James M. Rollyson - Raymond James & Associates, Inc., Research Division

Timna Tanners - BofA Merrill Lynch, Research Division

Brian D. Gamble - Simmons & Company International, Research Division

Justine Fisher - Goldman Sachs Group Inc., Research Division

John D. Bridges - JP Morgan Chase & Co, Research Division

Mitesh Thakkar - FBR Capital Markets & Co., Research Division

Michael Goldenberg - Luminus Management, LLC

Andre Benjamin - Goldman Sachs Group Inc., Research Division

David Lipschitz - Credit Agricole Securities (NYSE:USA) Inc., Research Division

Operator

Greetings, and welcome to the Alpha Natural Resources First Quarter 2012 Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Todd Allen, Vice President of Investor Relations for Alpha Natural Resources. Thank you, Mr. Allen. You may begin.

Todd Allen

Thank you, Jackie. Thank you for participating in today's Alpha Natural Resources First Quarter 2012 Earnings Conference Call. Joining me on the call today are Kevin Crutchfield, Alpha Natural Resources' CEO, who will summarize our first quarter results and provide a brief market outlook; Frank Wood, our CFO, who will comment on Alpha's financial results and updated guidance; and Paul Vining, Alpha's President and Chief Commercial Officer, who will be available to address operational and marketing questions following these prepared remarks.

Please let me remind you that various remarks we make on this call concerning future expectations for the company constitute forward-looking statements under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements are made on the basis of management's views and assumptions regarding future events and business performance as of the time the statements are made. Actual results may differ materially from those expressed or implied, and information concerning factors that could cause actual results to differ materially from those in the forward-looking statements are contained in our filings with the United States Securities and Exchange Commission, including our annual report on Form 10-K and subsequently filed Form 10-Qs.

This call is being recorded and will be available for replay for a period of 2 weeks. The call can also be heard live on the Internet, and both a replay and a downloadable podcast of the event will be archived on our website at alphanr.com for a period of 3 months.

With that, I'll turn it over to Kevin.

Kevin S. Crutchfield

Thanks, Todd, and good morning, everyone. While the overall market remains challenging, which I'll address in just a moment, we're encouraged by the progress we've made on several integration fronts namely safety, employee turnover and synergies.

During the first quarter, Alpha again improved its reportable incident rate sequentially. The incident rate fell by 17% compared to the fourth quarter for both the overall company and for our legacy Massey operations.

Elevated MSHA enforcement actions also declined sequentially by 11%, following a 45% sequential decline last quarter. Several of our operations, including the Hatfield Energy mine, Rock Springs Camp Branch No. 1 mine, White Flame No. 10, the Edwight surface mine, Ewing Fork No. 1 and the Green Valley processing plant all received 2011 Mountaineer Guardian awards during the first quarter. In addition, the last remaining legacy Massey mine on MSHA's potential pattern of violation list was removed in April. We're proud of these improvements and the collective commitment to Running Right demonstrated by office workforce, but we also believe there's always room to improve.

We suffered the loss of one of our miners during the first quarter in an incident that serves to remind us all that when it comes to safety of our miners, we cannot and will not be satisfied with anything short of 0 incidents. And we remain committed to continuous improvement with regard to safety.

As we approach the 1-year anniversary of the Massey transaction, the success of our integration work is palpable. We're nearing a state of completion in terms of achieving a unified workforce with strong levels of employee engagement and a shared commitment to Running Right. Turnover has stabilized in the mid-single digits for both legacy Massey and the entire organization.

A stable and engaged workforce is already driving manifest improvements in safety and productivity, and early signs of these improvements are beginning to be seen in our cost performance. As of the end of the first quarter, synergies were on pace for annualized run rate greater than $150 million, and we remain on track to achieve or exceed our previously stated synergy target of $220 million to $260 million annually by mid-2013.

Turning to our first quarter results. Alpha reported adjusted EBITDA of $210.5 million, down from $263 million in the preceding quarter. Our first quarter performance was impacted by the same headwinds that have affected the entire industry in the U.S. The demand for thermal coal has been diminished by the relative absence of winter weather in much of the United States and the related phenomenon of near-record-low gas prices, which has spurred coal-to-gas switching among utilities, including, for the first time in a significant way, utilities that burn Powder River Basin coal.

We could devote a lot of time to talking about issues in the domestic steam market, but the long and short of it is this: utility inventories have risen rapidly and now exceed 200 million tons, near record high levels, and coal-fired generation has recently fallen below 40% of U.S. electricity generation.

The change in the steam coal market occurred abruptly, considering that inventories entering the fall of 2011 were in the 150 million ton range, and utilities were still in the market buying coal for 2012 deliveries. Given where we stand today, our best guess is that U.S. steam coal production will be reduced by at least 100 million tons in order to balance supply and demand.

Assuming this to be the case, announced cutbacks so far are roughly halfway there, suggesting that further cutbacks are likely to occur. In fact, in a worst-case view of the situation, one could annualize reduced first quarter coal production of 14 million tons, first quarter growth in utility inventories of about 22 million tons and a year-over-year increase in steam coal exports of approximately 3 million tons and come up with a number approaching 160 million tons in total.

Of course, this would be too dire a forecast due to the impacts of abnormal weather during the first quarter, but it does provide you a sense for the magnitude of the falloff in first quarter domestic demand. So depending on producer actions, weather and economic activity, the process of working inventories down to more normal levels is likely to last well into 2013.

The metallurgical coal market has also experienced some relative weakness, particularly for lower quality coals on the export market, but the market environment for met coal is decidedly more positive than the environment for domestic steam coal. Until very recently, the combination of recovering production levels in Australia, declining steel production in Europe due to the ongoing debt crisis and slowing economic growth in China has led to steadily decreasing benchmark prices and widening discounts for lower quality coking coals.

However, the market for benchmark quality coals in Asia appears to have stabilized due to renewed growth in Chinese steel production and labor and weather-related supply disruptions in Australia. In fact, Chinese production was on an annualized pace of 740 million metric tons of steel production in early April, while globally, the pace of crude steel production was nearing 1.6 billion tons through March, and worldwide steel production has been clipping along at an 80-plus percent capacity utilization.

While the news in Asia is encouraging, pricing for lower quality coals and blended products in the Atlantic Basin continued to trade at a fairly wide discount to the benchmark. Today's met coal demand is a mixed bag, based on both the geography and quality. But longer term, we continue to believe that the supply of high-quality met coal is likely to remain constrained, and the met market has the ability to improve more rapidly than the domestic steam coal market, potentially as soon as the back half of 2012.

Just as we did in the sharp market downturn in late 2008 and early 2009, Alpha has moved quickly to adjust our production and shipments in order to match perceived demand, control cost, minimize CapEx and maximize our free cash flow generation.

On February 3, we announced a 4 million ton reduction in our 2012 Eastern shipments, including 2.5 million tons of steam coal and 1.5 million tons of lower quality coking coal. It's now clear that additional adjustments will be necessary. We're evaluating how best to trim our portfolio in order to maximize free cash flow with minimal dislocation, and we expect to undertake additional production adjustments in the near future. And we'll continue to access -- assess expected demand for 2013 as we progress through the year.

In the revised guidance we issued today, Alpha has reduced our 2012 expected shipments by an additional 7.5 million tons compared to prior guidance. And if you go back to the guidance we issued after closing the Massey acquisition when we announced our second quarter 2011 results, we produced the midpoint of our expected 2012 shipments by 18 million tons.

In addition to these actions, we're exploring all possible avenues to preserve margin and move our coals. In 2012, we expect to roughly double our direct thermal exports to approximately 4 million tons, and we estimate that a total of 10 million tons of our thermal coal production will ultimately find their way onto the export market when you include the third-party transactions.

In fact, we've recently succeeded in shipping thermal coals to destinations as far away as India and China. In this market, Alpha's financial strength, with approximately $700 million in cash, cash equivalents and marketable securities and $1.8 billion of total liquidity, as well as our position as the leading U.S. producer of metallurgical coal and our ample export terminal capacity, have never been more critical to our long-term success. We'll continue to demonstrate operational agility as we follow our three-pronged strategy: we'll protect and enhance our metallurgical coal business, we'll take the necessary actions in order to create a sustainable and profitable thermal coal portfolio and we'll thoughtfully and expeditiously address the operations that do not align well with these long-range objectives.

Looking past the current state of market headwinds, Alpha is well positioned to capitalize on the growing global appetite for metallurgical coal and expect a growing markets for seaborne coal -- seaborne thermal coals when market conditions inevitably improve.

With that, I'll now turn the call over to Frank for a discussion of our financial results and our guidance for the current year. Frank?

Frank J. Wood

Thank you, Kevin, and good morning, everyone. Coal revenues during the first quarter of 2012 were $1.6 billion versus $1 billion in the prior year and $1.8 billion in the fourth quarter of 2011. Compared to the first quarter of 2011, the year-over-year increase was primarily due to the inclusion of Massey operations in the first quarter of 2012, while the sequential decrease was primarily due to decreased shipments volumes across all categories, particularly our metallurgical shipments, which declined by approximately 400,000 tons, as well as lower per ton realizations on metallurgical coal.

During the first quarter, Alpha shipped 28.1 million tons of coal, including 4.9 million tons of metallurgical coal, 11.5 million tons of Eastern steam coal and 11.8 million tons of PRB coal. This compares to 31.1 million tons shipped in the prior quarter, including 5.3 million tons of met, 11.9 million tons of Eastern steam and 13.9 million tons of Powder River Basin coal.

Average realizations for metallurgical coal were $145.51 per ton in the first quarter compared to $141.76 in the first quarter of 2011 and $156.48 in the prior quarter. Eastern steam coal realizations were $67.48 compared to $66.89 last year and $66.93 in the prior quarter.

Realizations in the PRB were $12.95, up from $11.91 in the year-ago period and $11.96 in the fourth quarter of 2011. Total cost expenses were $2 billion in the first quarter compared to $1.1 billion last year and approximately $2.1 billion in the fourth quarter of 2011, excluding the non-cash goodwill impairment charge that was recorded in the fourth quarter.

The first quarter cost of coal sales was $1.4 billion versus $735 million last year, and $1.6 billion in the fourth quarter. The first quarter cost of coal sales included pretax UBB charges of $14 million, pretax expense associated with idled mines of $4 million, pretax merger-related expenses of $3 million and a loss due to weather damage to property of $2 million. Excluding these items, Alpha's first quarter adjusted cost of coal sales in the East was $76 per ton compared to $71.30 in the year-ago quarter and $78.50 in the fourth quarter.

The year-over-year increase in adjusted Eastern cost of coal sales per ton during the first quarter primarily reflects a combination of mix shift with proportionately more high-cost underground metallurgical coal production and more Central Appalachia thermal coal production following the Massey acquisition, and the low-cost Pennsylvania longwalls contributed a smaller percentage of overall Eastern production, as well as increases to input costs and regulatory impacts.

The sequential decrease is primarily due to reduced metallurgical coal shipments, lower variable cost as met realizations decreased, lower purchase coal volumes, the idling of relatively high-cost thermal coal operations and strong performance out of our Pennsylvania longwalls, which produced 2.9 million tons, increasing the proportion of our lowest cost thermal coal production in the East, all of which was -- all of which more than offset the lower cost or market adjustment, which added $0.93 per ton to our Eastern cost, as well as the impact of fixed cost being spread across fewer tons.

The adjusted cost of coal sales in the Powder River Basin during the first quarter was $10.96 per ton compared to $9.66 in the year-ago period and $9.44 in the fourth quarter of 2011. The year-over-year increase was driven by higher expenses from mining inputs, equipment repairs, variable cost tied to sales revenues and fixed cost being spread across fewer tons. The sequential increase was primarily volume-driven.

During the first quarter, Alpha's adjusted weighted average coal margin was 16% compared to 27% in the year-ago period and 17% in the prior quarter. Compared to the fourth quarter, the reduced average coal margin mainly reflects lower metallurgical coal shipment volumes and lower metallurgical price realizations.

Alpha reported a first quarter 2012 net loss of $29.1 million or $0.13 per diluted share compared with net income of $50 million or $0.41 per diluted share in the first quarter of 2011. Excluding a number of items detailed in our press release, Alpha's first quarter 2012 adjusted net loss was $58.2 million or $0.27 per diluted share.

Adjusted EBITDA, which excludes merger-related expenses, UBB expenses, associated -- expenses associated with idled mines, the weather-related property loss and the change in fair value and settlement of derivative instruments was $210.5 million compared to $215 million for Alpha stand-alone last year.

Capital expenditures during the first quarter were approximately $126 million, of which approximately $9 million represented payment for items received late last year compared with $57 million for Alpha stand-alone in the first quarter last year.

With respect to 2012 guidance, we now expect to ship between 100 million to 116 million tons in 2012, including between 20 million and 24 million tons of Eastern met coal, between 38 million and 44 million tons of Eastern steam and between 42 million and 48 million tons of Powder River Basin coal. As of April 20, we had 78% of the midpoint of anticipated met coal shipments committed and priced at an average per ton realization of $146.31.

It is worth noting that all committed and unpriced met tons are subject to market pricing. And therefore, on unpriced tons, we anticipate prices well below this committed and priced average realization.

Also, as of April 20, we had 99% of the midpoint of our Eastern steam coal shipment guidance committed and priced at an average per ton realization of $66.78. And we had 100% of the midpoint of our PRB shipments committed and priced at an average per ton realization of $12.83.

We currently expect Alpha's cost of coal sales to range between $75 and $79 per ton in the East, for the midpoint of $77, at the upper end of the previous guidance range of $72 to $77 per ton. The increase reflects the impact of reduced shipment volumes, as well as a relatively larger percentage of metallurgical coal shipments in the overall mix -- in the overall shipment mix in the East.

Guidance for cost of coal sales in the West is unchanged at $10.50 to $11.50 per ton. We are reducing our expected selling, general and administrative expenses to a range of $2 -- $210 million to $230 million for 2012, and we are adjusting our guidance for DD&A to a range of $1.1 billion to $1.2 billion.

And guidance for interest expense remains unchanged at $175 million to $185 million. We are once again reducing our 2012 capital expenditure guidance range by $100 million to a new range of $450 million to $650 million.

Alpha's available liquidity has been maintained at approximately $1.8 billion including cash, cash equivalents and marketable securities of approximately $700 million, in addition to approximately $1.1 billion available under the company's various secured credit facilities. In light of current market conditions, Alpha remains focused on free cash flow generation and strives to maintain liquidity and flexibility in the near term.

Our near-term focus on liquidity and flexibility will enable Alpha to navigate the current market headwinds and position the company to capitalize on more favorable business conditions as they emerge. As Alpha has always done in the past, we continue to focus on maximizing free cash flow and maximizing shareholder return over the long term.

Operator, we will now open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question is coming from Kuni Chen of CRT Capital Group.

Kuni M. Chen - CRT Capital Group LLC, Research Division

I guess, as far as the additional production cuts that have yet to be announced, it looks like it could be on the order of 3 million or 4 million tons. Maybe you could give us a range as far as what you're contemplating there? And then as far as your cost guidance, is that baked into the revised range of $75 to $79? Or is there an upward bias to that depending on the magnitude of additional cuts?

Kevin S. Crutchfield

Kuni, the costs are baked in and are indicative of what we think the cost structure is going to be post reductions that we're going to make. And in terms of the reductions, we're working through that now. We'd expect those to occur in the near term to better wind up our sales portfolio with perceived demand and what we're seeing out in the marketplace. We continue to work through that process because it's a sensitive process, and you want to make the right decisions. But we're working through that as we speak and keep the market updated on that as we progress.

Kuni M. Chen - CRT Capital Group LLC, Research Division

Okay. And then just a quick follow-up on the met coal side, as far as what is unpriced and spot tons right now for the year, can you give us some color on what type of coals that involves?

Kevin S. Crutchfield

Yes, just a quick shot, and then I'll Paul fill in. But as we've talked about for our normal portfolio, it's kind of 2/3 or maybe 70% more oriented towards the higher quality coals, the high-vol As, the mid-vol blends and low vols and whatnot, and with the balance met being made up of lower quality high-vol Bs and PCIs. And I'd say, out of the balance to be sold, there's a slight bias towards the lesser qualities, as Frank discussed in his prepared remarks. But not a huge bias. So we still have some good quality coal to sell. But nonetheless, to the extent when we reduced the met guidance, we obviously cut off the lower end. It's not that we don't think we can sell it, it's just a question of does it makes sense to do it in this marketplace, and especially with the dynamics kind of teeing up to potentially improve in the back half of the year, we'll just save some dry powder.

Operator

Our next question is coming from Michael Dudas of Sterne Agee.

Michael S. Dudas - Sterne Agee & Leach Inc., Research Division

Kevin, following up on the comments on met coal. So the lower quality coals will be more of a supply restriction or a demand impact to help the discount narrow as we move into the back half of the year into 2013? And do you think enough of that supply restriction on the low-vol -- low-quality coals has been occurring in the U.S. and elsewhere?

Kevin S. Crutchfield

Well, with the rapid meltdown on the thermal side, I mean, there has obviously been a clear push to try to move as much stuff as you can offshore, both thermal and lower grade metallurgical coals. But as we've said before, I mean, one of the things that happens for us to be able to do that better than we think anybody out there is our ability to blend with our existing products. So if anybody can do it, we can. But we do think that it's as much as a supply thing right now as anything. But given what we see happening in Asia and potentially some of the dynamics that are going on in Australia with their labor unrest and upward pressures on cost structures, you could see the Atlantic and Pacific basins begin to hook back up again and correlate with one another. They're trading independent of one another right now. But hopefully, in time, with some improving economic conditions, we might see those begin to correlate once again.

Michael S. Dudas - Sterne Agee & Leach Inc., Research Division

And regarding your capital expenditure range for 2012, could you remind us, net of LBA payments and safety investment, what would be a normalized or maintenance level of CapEx? And is there much growth expectations in the CapEx budget for 2012 and as you look into 2013, in your portfolio of projects?

Kevin S. Crutchfield

I'll let Frank handle that one.

Frank J. Wood

Yes, to address the growth piece first, Mike, in the 2012 estimates, there's approximately $60 million of capital that we've reserved for -- I think it's 3 or 4 metallurgical growth projects at various stages of development. So that number really has not changed as we moved forward. What we've primarily been working on is the whole area of capital optimization following the merger. And also, as we continue to adjust our footprint, obviously we've found opportunities to save and defer capital. So I would say, basically, besides that $60 million of growth capital and about $65 million of LBA payments, which is the last year of double payments for us this year, everything else that we have in the estimates is sustaining capital.

Michael S. Dudas - Sterne Agee & Leach Inc., Research Division

And the ranges can be adjusted as you get more sustainable on your thermal production and output -- expectations, I assume?

Frank J. Wood

Yes. We fully anticipate that we're going to be able to continue to fine tune the ranges as we make adjustments.

Operator

Our next question is coming from Shneur Gershuni of UBS.

Shneur Z. Gershuni - UBS Investment Bank, Research Division

Just want to follow up on Mike's first question with respect to the met coal market. I was wondering if we can sort of focus on the hard coking coal or the higher quality side of the market. One of your fellow producer and exporters this morning sort of made some comments about how customer conversations have actually changed in the last couple of weeks, requests for some more boats and so forth. Are you guys starting to see some of that activity, as well as the -- has the tone changed? Is that what's giving you the confidence for the back half improvement statements?

Paul H. Vining

Yes, Shneur. This is Paul Vining. I'd probably have to back over [ph] whatever source you're referring to. We've seen several pieces of evidence here in the last few weeks. We've concluded some spot low-vol sales. Small tons but nonetheless, at the benchmark price in the Europe here recently. That is a data point that we feel is pretty strong. We're getting request, particularly from Asia, from some of our customers, for advancement of shipments. And that's usually the precursor to some additional sales and then -- I don't want to say a groundswell, but at least a shifting in the momentum relative to pricing. So I mean, from a volume standpoint, things are running hard. If you take a look at the volume, for instance, we shipped in April on met and annualized it, it would exceed our guidance that we gave today. Clearly, it's a lot stronger than the average monthly shipments that we were showing in the first quarter. So we do see some evidence of things really picking up.

Shneur Z. Gershuni - UBS Investment Bank, Research Division

Great. And a quick follow-up question. I was wondering, maybe Frank can expand on this, but I was wondering if you could talk about liquidity for a little bit. You don't have a lot of maturities coming up and so forth, sizable cash balance. Can you remind us where you sit on the authorized buyback and if that's something that's part of the capital allocation decisions in the next 3 to 6 months?

Frank J. Wood

Yes. With regard to the authorized buyback from last August, I believe it was, we still have $500 million remaining that's authorized through the end of 2014. In terms of near-term plans, we've been fairly cautious, and I think we'll continue to be for the near term, maybe the next 3 months, with our cash allocation as we continue to see things evolve and continue to make changes within our business. But obviously, longer term, we retain that share repurchase authorization and would certainly plan to use it at the appropriate time.

Shneur Z. Gershuni - UBS Investment Bank, Research Division

Is there anything that you're looking for, particular, like, you have this annualized rate for April right now that looks really good. If that continued in May and June, would that be some of the things that we should look towards as to how you would change your cautious tone on share buyback allocations?

Frank J. Wood

It would certainly be one significant factor, yes.

Operator

Our next question is coming from Jim Rollyson of Raymond James.

James M. Rollyson - Raymond James & Associates, Inc., Research Division

Kevin, a lot of guys have talked in the last few weeks about deferrals on the thermal side. No surprise, given the weather and all. Curious just kind of how -- if you paint your landscape when you reduced your volume expectations, it kind of implies you're getting some deferrals. But kind of curious what you're seeing and hearing with customers in terms of pushing volumes into next year and how you try to achieve maximum economic value of contracts and kind of just how you see that? And do you think 2Q is going to be probably the lowest seasonal quarter for volumes on the thermal side?

Kevin S. Crutchfield

Let me just hit it at a high level, and Paul is really close to this, and let him address it. But I mean, the #1 goal for us is to retain the economic value. We clearly need to work with our customers because we're in a very dynamic environment, and it continues to evolve, frankly. And I think it will continue to evolve, probably over at least the next couple of quarters before we could get some real sense of visibility. But the name of the game for us has been working with our customers, but also retaining the economic value associated with those contracts. And I think Paul can give you some more color around exactly what we're seeing in terms of pushback deferrals, discussions, that sort of thing.

Paul H. Vining

Yes, we've got -- to date, we've got requests for deferrals that range anywhere from about 6 million to 9 million tons, some of which we've resolved. The resolution of them kind of vary. We're rolling tons into next year for additional consideration and a higher price. We've agreed to roll some tons over a 2-year period with certain people. We've actually swapped out products, a large utility that was -- for instance, Long and Central App didn't need it. We just swapped in PRB and Northern App coal. So it's sort of a blend and a mixture of requests and customers, and what we're trying to do is work with them as they get more visibility around their burns and their stockpile situations sort out. We've taken a fairly, what I'd say is a disciplined stand relative to the contracts and the value, and some customers have been fairly cooperative. And others are struggling, and we're trying to find solutions that work for both of us.

James M. Rollyson - Raymond James & Associates, Inc., Research Division

Kevin, on the synergy side, if I remember, you had kind of broken down the expected synergies into buckets. And one of those was sales-related benefits, blending, et cetera, et cetera. You would seem, in a soft market, like we've been in during the first quarter and kind of today, that some of those opportunities are a little bit more challenging to come by than they would be in a better market, yet you're still making really good progress. I think you were at $150 million annualized kind of run rate now. Just curious, does this imply that if you were in a better market, sustainably, that you'd be tracking ahead of what you were expecting?

Kevin S. Crutchfield

Yes. I mean, I think that'd be exactly the case. I mean, we were -- we try to be conservative and realistic when we talked about these. And it was one of the situations where -- and I think we talked about this a little bit on the last call, was the more we looked, the more opportunities we found. And to your point, the sales and marketing-related logistics, blendings, value creation types of opportunities, while the actions are still there, the effects are a little bit muted in this marketplace. So if you free up a met ton that you didn't have before, the value you get out of it in this marketplace is different than it would have been in the first quarter of last year. That's the bad news. The good news is that we've continued to probe in some other areas, particularly sourcing and maintenance, and believe there's a much bigger bucket there than we had originally talked about, which has allowed us to be comfortable with our original number of $220 million to $260 million. And we still feel very good about that. It's been a tremendous amount of progress made so far. As we talked about on the last call, our initial strategy was stability and getting the workforce aligned with the way we're going to run the company through 70,000 hours of Running Right training and that sort of thing. I believe we've begun to see the manifestation of those efforts through greatly improved safety performance, violations per inspector day, unwarrantable failures, those kinds of things out of MSHA, which we would have expected. But we still feel very good about the synergies overall and where we're positioned. And I think had we been in the kind of marketplace that we were over 1 year ago when we signed the deal, we could be talking about bumping those numbers up. But unfortunately, we're not in that marketplace, but we still feel good about the synergies overall.

James M. Rollyson - Raymond James & Associates, Inc., Research Division

Great. And Frank, curious on the depreciation guidance that went up suddenly, given the fact that volumes are coming down and CapEx is going down. Just kind of what's going on there?

Frank J. Wood

Yes, Jim. It's really just an adjustment to what we had previously put in there. I mean, we do see a little -- we do see depreciation in the first quarter running a little bit higher than what we had previously guided to. We know there's some things coming up that are probably going to mitigate it a bit in that sum of the 1-year assets for Massey. We'll stop having to be depreciated here after May. But when we take all the factors in consideration, we thought that was a better range than what we had previously provided.

Operator

Our next question is coming from Timna Tanners of Bank of America.

Timna Tanners - BofA Merrill Lynch, Research Division

I wanted to, if I could, drill down a little bit more on your discussion of cost quarter-over-quarter. And you did mention that some of that was because of an improved mix. But could you give us a sense going forward about how to think about cost? How much of that is inflation? How much of that can you try to offset? What kind of measures are you doing to contain cost? And how much of that might have been mix, just generally?

Frank J. Wood

A significant part of it was mix. And when I say mix, what I'm referring to is the influence of the low-cost longwalls in the overall numbers, as well as the influence of brokered call, which is typically at an average cost above the average flow of the other Eastern operations. Both of those moved in a favorable direction this quarter compared to the fourth quarter, as compared to some prior quarters where they had actually moved in the opposite direction. When you look at other things, there was some inflation in the quarter, but I would say it was pretty muted and it was primarily on diesel fuel as opposed to any other single item. Everything else was pretty well muted. And the diesel fuel influence was fairly much offset by a combination of some synergy realization as well as reduced royalties and severance taxes because of realizations. So I don't think, going forward, that inflation is going to be a major concern, because I think we're kind of offsetting it with other influences. Mix is -- mix will continue to throw those numbers around. And particularly, as volumes evolve over the year, spreading fixed cost over lower volumes will also have some influence. And we've built that into the cost guidance, as we said at one -- I think, in response to one of the earlier questions.

Timna Tanners - BofA Merrill Lynch, Research Division

And then on the discussion of your lower CapEx, can you just tell us what type of things you cut and if we might see that going forward? Sorry if I missed that.

Frank J. Wood

It's really a variety of things. But generally, it's focused on the sustaining area and generally, type of equipment replacements, equipment rebuilds, that sort of thing. We've been able to optimize and really economize on those by moving equipment around as the footprint changes. And continuing just to adjust and fine tune those plans. That's most -- that's where the majority of it is.

Operator

Our next question is coming from Brian Gamble of Simmons & Company.

Brian D. Gamble - Simmons & Company International, Research Division

A couple of clarifying ones. The 6 million to 9 million tons, Paul, that you mentioned as deferral, was that an Eastern number? Or is that synonymous with your full number if you guys have anything out West?

Paul H. Vining

No, that's across the company as a whole.

Brian D. Gamble - Simmons & Company International, Research Division

And can you split that up then based on the basins?

Paul H. Vining

No. To be honest with you, Brian, I'm not going to. I've got concerns if I break it down, I've got customers who'll say, "Gee, I need to ask for more." It's something we'd rather leave just a little more generic.

Kevin S. Crutchfield

But an interesting point, Brian, if you look at the joint line statistics, last year, 350 million tons went across the joint line. If you annualize April year-to-date to this year, you'd come up with 325 million tons. There's a 25 million ton reduction there; if you annualized April, it'd be 270 million tons, which would be 80 million tons different. So that gives you some sense of the effect of cheap natural gas and mild winter weather, just in the last couple of months in terms of the run rate across the joint line.

Brian D. Gamble - Simmons & Company International, Research Division

Kevin, what are your customers that are utilizing PRB coal telling you from a breakeven standpoint? Are they switching to 300? Are they switching below 300? What kind of anecdotal stuff could you give us?

Paul H. Vining

The toggle switch appears to be between 250 and 300.

Kevin S. Crutchfield

Yes.

Brian D. Gamble - Simmons & Company International, Research Division

Great. And then as a -- kind of as a follow-on on the met side, keeping guidance the same, then the 2 million tons in April, that's obviously a great data point. Maybe you could speak to how strong you think the back half could be, given what we've seen over the last few weeks? And how long you could keep that open position open before meeting to price at it, as pricing theoretically strengthens?

Paul H. Vining

Well, there's 2 pieces. I mean, the committed but unpriced by and large is quarterly pricing. So they're committed tons from our international export market that will price at the same time. The folks in the Far East are pricing the benchmark. So there'll be ongoing discussions that will track the market. The spot tons, we've got some time, and we're not in a hurry. We're managing the business sort of tightly, and we don't see any downside at this point. We see upsides. So I'd say it's back half of the year for those tons and pretty optimistic. Volume is not the issue. The question is what sort of trend rate we see on the price.

Kevin S. Crutchfield

And the other data point there, Brian, to watch too, is what's going on in Australia. I think this one's going to take a little longer to play out. But when you look at where their dollar is, the labor unrest that's there now, the balloting process that's ongoing, the extraordinary pressures around labor in Australia in general, both lack of availability, as well as inflationary pressures on the cost of labor and, specifically, the -- what appears to be an absolute blowout in terms of project capital development costs, I think you could really see a change in dynamic in Australia play out over the next few quarters as that manifest itself. So that's one, I think, to keep a very close eye on.

Operator

Our next question is coming from Justine Fisher of Goldman Sachs.

Justine Fisher - Goldman Sachs Group Inc., Research Division

The first question is just about how the rationalization of U.S. coal production may play out in your view. Because you said earlier that you think more production cuts need to take place. Obviously, Alpha is going to participate in that. My question is whether or not you think more will come from smaller producers or larger produces. And my gut was that it would come from small producers because obviously, fixed costs are very high, less financial stability. But on the other hand, there are reclamation costs with those companies shutting down mines, and they could face bankruptcy. So they may be less disciplined, and it sounds like the bigger companies are the ones that have taken more production cuts thus far. Do you envision the bigger coal companies in the U.S. actually having to take more production down? And what happens to your economies of scale if that's the case?

Kevin S. Crutchfield

Well, I honestly don't know the answer to that question. I mean, my gut would say that it's probably going to be pro-rata. I mean, I think we -- you look at the public companies, I'm not sure how many tons out of the total billion or so the public companies represent. But I would surmise that they're roughly pro-rata. But a part of this feels cyclical. But a part of this does feel structural as well. And clearly, I mean, Central App is the basin with the most exposure for us. That's obviously a challenge, but it's one we're dealing with because we think there are export options here for us, both in the near term and the long term. I think we shipped, I don't know, 900,000 tons or something out of the country in the first quarter on the thermal business. And we shipped about that same amount in April by itself. Now what you're seeing is the market response across the API 2, given the flow of coal. And that wind is getting ready to shutoff if it hasn't already. But my sense, Justine, is it's going to be generally pro-rata. I think some of the smaller guys will be hit harder than others. But like you say, a lot of those folks actually signed these indemnity agreements and put their personal balance sheets up against them. So they're going to have a real vested interest in long-term survival. So as we've seen in the past, it's hard to kill a coal company. But I think you'll see some shakeout through this move.

Justine Fisher - Goldman Sachs Group Inc., Research Division

And then the second question is just on reserves in Appalachia. Would you -- I know one of your competitors has said that it may look to sell some reserves, and I'm -- the first part of the question is would you guys be willing to do the same thing, given that you acquired a decent amount of reserves from Massey? And then second of all, just based on what you're hearing in the market, do think there are buyers for reserves in Appalachia generally, either domestic, private equity or foreign?

Kevin S. Crutchfield

Part of our strategy, as we've outlined before, is a 3-pronged strategy, which is protect and preserve the met franchise and, out of the rest of the portfolio, create a long-term durable and lasting thermal franchise that can be competitive both here and internationally. And then assets that don't fit that profile are non-strategic, it's not that they're bad assets, they're just not -- we're just going to declare non-strategic us. So the question becomes then, what do you do with them and when? I wouldn't want to be in the marketplace right now with thermal assets. But I think what we'll -- we'll take our time and work through this process diligently and thoughtfully. But longer term, we do need to figure out what we're going to do with that, whether it's an outright sale, disposition, joint venture, whatever. We're still working our way through that. And admittedly, we knew we were going to have to do this. We just thought we had a little longer period of time to work through it. But given the market dynamics, it's moved up forward by 1 year 2. But we're working our way through it.

Operator

Our next question is coming from Kalpesh Patel of JPMorgan Chase.

John D. Bridges - JP Morgan Chase & Co, Research Division

John Bridges. I just wanted to dig a bit deeper -- thanks for all the color and the numbers. And I'm trying to figure out how long these $55, $57 prices are going to hang around? Because obviously, at the moment, they're just noise. But the longer they hang around, then the more downward pressure we're going to see next year on contracts, I suspect. So I just wonder where you thought that coal was coming from? And how long do you think it's going to hang around?

Paul H. Vining

Yes, this is Paul Vining. I think the biggest element right now sort of feeding the -- if you were referring to the OTC prices for capital, is distressed coal that some of the utilities are arbiting and selling out of their portfolio. I mean, the dynamic kind of goes like this: customer calls us, they want to defer 500,000 tons. We say, "No thanks, you need to take the coal." Discussion ensues, trader comes along, buys the coal from them, puts it on some existing business they have overseas where they've taken a short, and they dispatch gas and everybody comes out ahead. So you're going to see that work through here this year. It's not obviously based off of fundamental costs and return on investments. And the excess contracted positions out there in the utility side really got to work their way through the system. And that's the same thing happening in the PRB. I mean, the PRB right now is showing, whatever it is, $6 or $8 or $9 spot prices. And there isn't a producer out there, I don't think, that has a strong enough cost structure to support that kind of price on any long period of time. So it's just a matter of the overhang being washed out of the system.

John D. Bridges - JP Morgan Chase & Co, Research Division

Right. But on that basis, given your cuts, then we should, assuming we don't get a crazy summer, be back into balance quite quickly. But you made that very interesting comment just now to another caller on a lot of the private players having their personal balance sheets tied into this market. So those guys might be producing coal on some sort of marginal accounting basis for some period of time, as long as it generates a little bit of cash flow.

Paul H. Vining

Yes, I think this industry has some experience at running on marginal cash from prior periods. And I'll answer it this way: if you're a private independent operator with one 3-million-ton complex and it's a toggle switch, you're in business, you're out of business; it's a little different from a large producer like Alpha that has multiple complexes and synergistic benefits of moving equipment, shutting operations down. So there's a period of time that those parties can certainly hang in there. But eventually, there's going to have to be a day of reckoning. I'd take a look at the 13, if we look at the 13 strip, it's basically the mid-upper 60s. I's kind of reflective of the view forward by the markets that there's a pretty healthy contango market there.

Operator

Our next question is coming from Mitesh Thakkar of FBR.

Mitesh Thakkar - FBR Capital Markets & Co., Research Division

Yes. So my first question is for Paul. Paul, can you give us some color around what kind of met coal prices are you seeing for your better quality coal and for your little bit lower weight coal currently?

Paul H. Vining

Well, that's kind of a loaded question. I mean, it's -- we've sold coal spot here recently at the benchmark. We've entered into some quarterly pricing that -- for our higher quality coals on export that's at a slight discount for the benchmark. And we've sold some marginal high-volume PCI coals that are certainly sub $50, $60 discounts to the benchmark. So it's all over the board.

Mitesh Thakkar - FBR Capital Markets & Co., Research Division

Okay. And just when you look at the amount of steam coal and met coal mines being idled, how much do you think -- just for your operations, how many tons do you think are kind of hot idled, which you can start back once you see stable demand, say, 30, 60 days lead time kind of -- kind of lead time? And how many million tons do you think is going to take longer or may be permanently idled?

Kevin S. Crutchfield

We always like to think of the actions that are being taken as fairly elastic. And by some measures, they probably are. But I would say that actions being taken in the West are far more elastic than actions being taken in the East. It's one thing to temporarily idle a deep mine, keep it ventilated and keep it pumped. It's another thing to make a decision to shut a service mine and begin reclaiming it. And you're seeing some of both. And I think what we've seen in Central Appalachia specifically over the last decade is it has demonstrated some ability to be elastic, but it's pretty marginal. For every 10 tons that go away, you can get 3 or 4 or 5 of them back. But it's been a steady, steady decline in Central Appalachia as we're approaching that point where we've become -- going to become asymptotic to some point on the axis. So I don't know if that gives you any color. I know you're probably looking for more specifics than that, but that's the best I can tell you. Some of it, you can bring right back in 30, 60 days like you say. But I'd say, 20, 30. Maybe 1/3 of what we're seeing is permanent disruption.

Mitesh Thakkar - FBR Capital Markets & Co., Research Division

But you don't see that permanent idling for -- on the met side, though, right? Is that a fair statement?

Kevin S. Crutchfield

Yes, yes. Generally speaking, yes.

Frank J. Wood

We're not taking met deep mines and shutting the fan off, turning the pumps off, pulling the drives, the equipment and the belts and then sealing it.

Operator

Our next question is coming from Michael Goldenberg of Luminous Management.

Michael Goldenberg - Luminus Management, LLC

I still want understand better when you price your coal into the seaborne markets, which times you have to price at discounts and which times you get FOB that's equal to the seaborne grade level that you're selling. Is it primarily a geography thing where, if you're selling to Europe, you're going to get FOB similar to Australia, but if you're selling further east, then you take a discount? Or is that a wrong way to think about it?

Frank J. Wood

No, that's probably a good way to think about it. You've obviously got a freight differential that we're fighting when we're competing against the Australian coals. And in a weak market, you typically have to eat all or most of that freight spread. In a strong market, say, for instance, 1 year ago, we didn't have to eat any of that freight spread. So it's a -- it is geographically driven. It's also quality driven. But you're right.

Michael Goldenberg - Luminus Management, LLC

So if I understand correctly, if you were going to sell the identical ton out of East Coast or Queensland, if you are selling to Europe, it would be -- you would get the same price as in Queensland. But if you're selling to Asia, including India and China primarily, then I have to start from a pricing point at CIF and then work my way backwards. But in Europe, I can just equate 2 equal-grade FOB Australia?

Frank J. Wood

No. No. It depends on the quality.

Michael Goldenberg - Luminus Management, LLC

Equal quality, whatever the equal quality in Australia would be.

Frank J. Wood

Yes. I mean, it's like the spot cargo -- the spot tons I mentioned earlier in the call that we sold. Low-vol coal we sold at benchmark into Europe in the last 2 or 3 weeks. And we hit the price point of whatever it was. $210.

Operator

Our next question is coming from Andre Benjamin of Goldman Sachs.

Andre Benjamin - Goldman Sachs Group Inc., Research Division

A few questions here. First, I was wondering how much of a delta would you say there is between your highest cost and lowest cost operation in Central Appalachia? Specifically talking thermal here, understanding a lot of the movement in the cost guidance is a change of the -- a function of the mix change. I want to specifically focus on the thermal business. By reducing volumes, are you expecting the average cost of production to actually come down? Are you just offsetting rising cost pressures and hoping to just keep it flat?

Kevin S. Crutchfield

Wow. Let me take a shot at the last part, and then, Frank, you can handle the first part. When you go through a portfolio rationalization, you just take your thermal portfolio and look at what you rationalize. In general, you will be reducing your cost structure. You have a fixed -- a higher fixed cost absorption issue to deal with from an overhead perspective, but then when you begin to recombine that with the overall portfolio, now your thermal side is, on a relative basis, smaller than it once was, which causes your cost structure to rise a little bit, given the met side of the portfolio. So I'm not sure exactly where you're coming from there, but the rationalization process is typically a -- it's product-by-product. But also, you do it on the basis of cost and potential margin that could be generated in the future. So when you go through a rationalization process around thermal assets, you typically will reduce your cost structure, which we think will overcome the inflationary pressures and, on a net basis, result in the cost -- reduce the cost structure. Is that helpful? Is that what you were looking for?

Andre Benjamin - Goldman Sachs Group Inc., Research Division

Yes, I guess. In very simple numbers, if you were to say, theoretically, your costs were $65 a ton or $60, any number, and you cut 10% of the production, does the cost come down from that level? Does it come down to $55 for what's left? Or is it more flat? Or the other stuff is still seeing upward pressure, so you're not really going to see that big of a cut in the per ton cost?

Kevin S. Crutchfield

On the thermal? On the results of the thermal portfolio?

Andre Benjamin - Goldman Sachs Group Inc., Research Division

Just on the thermal side, nothing to do with them there.

Kevin S. Crutchfield

Yes, yes. You'll see a downward bias. I mean, I'm not going to comment on the exact numbers you threw out. Yes. But you'll see a downward bias.

Andre Benjamin - Goldman Sachs Group Inc., Research Division

Similarly, on the NAP side, I wanted a little bit more on how your mines are running. I think some of the MSHA data looked like it was off. I know you said it was improving. Do you expect that to continue to improve throughout the year, both on the volume and the cost side? Or is the first quarter a good, I guess, run rate for what we should expect going forward?

Kevin S. Crutchfield

Well, the -- Cumberland has been running really, really well. But what we're going to run into in the Northern App, just like everywhere else we're dealing with, are pressures in terms of customers taking coal. And it seems like it admirably always works that way. When you don't need the coal [ph], you're kind of covered up with it. But we've got some longwall moves coming up as well, so I would not assume the first quarter as a ratable, annual type of number. I think we're probably in the 10 million to 11 million ton range in Northern App for the walls for the year, is kind of where we're thinking.

Operator

Our last question is coming from David Lipschitz of CLSA.

David Lipschitz - Credit Agricole Securities (USA) Inc., Research Division

A quick question on -- you had $2 on your LCM adjustments. Is that because it's mark-to-market or mark-to-contract? And if it is mark-to-market, if prices do rally back, would then you get a cost benefit next year or the year after?

Kevin S. Crutchfield

Yes. I mean, it's a good question. It's effectively a kind of a -- the way we define market for when we make those adjustments, so effectively a mix of contract and also potential open sales. So it's not really one or the other. But nevertheless, the -- over time, the costs have generally moved up. The market prices as measured have generally moved down. So we had the adjustment in the first quarter that was more sizable than what we have typically seen. One of the things about accounting adjustments of that type is you typically will not -- if you just took a specific ton, you typically will not revalue it up until such time as you sell it. Now given that we have a lot of things kind of mixed together, there probably will be some potential upward adjustment. But I wouldn't think it would just write itself back up. That not generally the way it works.

Operator

Thank you. At this time, I'd like to hand the floor back over to management for any closing remarks.

Kevin S. Crutchfield

Thanks, everybody, for joining today. We appreciate your interest and appreciate you working through us through these challenging economic times. But I would just like to reassure everyone that we do have a strong financial position, a strong balance sheet, and we're watching that very closely. We have a plan on how we're going to work through this. The integration continues to go well. And we look forward to keeping you updated as we progress through the year. Thanks for your interest in Alpha Natural Resources. Everybody, have a great day.

Operator

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you all for your participation.

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