QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2012
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 001-32331
ALPHA NATURAL RESOURCES, INC.
(Exact name of registrant as specified in its charter)
Delaware
42-1638663
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
One Alpha Place, P.O. Box 16429, Bristol, Virginia
24209
(Address of principal executive offices)
(Zip Code)
Registrant's telephone number, including area code:
(276) 619-4410
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. x Yes ¨ No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Sec.232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes ¨ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
x Large accelerated filer
o Accelerated filer
o Non-accelerated filer
o Smaller reporting company
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). ¨ Yes x No
Number of shares of the registrant's Common Stock, $0.01 par value, outstanding as of October 31, 2012 - 220,498,797
Condensed Consolidated Statements of Comprehensive Income (Loss) (Unaudited)
(Amounts in thousands)
Three Months Ended September 30,
Nine Months Ended September 30,
2012
2011
2012
2011
Net income (loss)
$
(46,146
)
$
62,604
$
(2,309,568
)
$
62,384
Other comprehensive income (loss), net of tax:
Adjustments to and amortization of employee benefit costs, net of income tax of $(40,203) and $46,349, and $(30,028) and $52,490 for the three and nine months ended September 30, 2012 and 2011, respectively
52,136
(77,017
)
35,127
(87,153
)
Change in fair value of cash flow hedges, net of income tax of $(7,672) and $11,019, and $(3,292) and $7,970 for the three and nine months ended September 30, 2012 and 2011, respectively
12,824
(18,310
)
5,486
(13,278
)
Unrealized gains (losses) on available-for-sale marketable securities:
Unrealized holding gains (losses) arising during the period, net of income tax of $(231) and $31, and $(196) and $(45) for the three and nine months ended September 30, 2012 and 2011, respectively
386
(52
)
329
74
Less: reclassification adjustment for (gains) losses included in net income (loss), net of tax of $196 and $(2), and $199 and $(3) for the three and nine months ended September 30, 2012 and 2011, respectively
(327
)
2
(334
)
5
Total other comprehensive income (loss), net of tax
65,019
(95,377
)
40,608
(100,352
)
Total comprehensive income (loss)
$
18,873
$
(32,773
)
$
(2,268,960
)
$
(37,968
)
See accompanying Notes to Condensed Consolidated Financial Statements.
(Amounts in thousands, except share and per share data)
September 30, 2012
December 31, 2011
(Unaudited)
Assets
Current assets:
Cash and cash equivalents
$
342,204
$
585,882
Trade accounts receivable, net
455,238
641,975
Inventories, net
457,195
492,022
Prepaid expenses and other current assets
777,898
828,196
Total current assets
2,032,535
2,548,075
Property, equipment and mine development costs (net of accumulated depreciation and amortization of $1,752,754 and $1,355,937, respectively)
2,316,640
2,812,069
Owned and leased mineral rights and land (net of accumulated depletion of $839,833 and $633,207, respectively)
7,442,438
8,284,328
Goodwill, net
755,859
2,281,191
Other acquired intangibles (net of accumulated amortization of $630,518 and $551,584, respectively)
254,315
347,889
Other non-current assets
303,344
320,493
Total assets
$
13,105,131
$
16,594,045
Liabilities and Stockholders' Equity
Current liabilities:
Current portion of long-term debt
$
80,605
$
46,029
Trade accounts payable
301,266
504,059
Accrued expenses and other current liabilities
924,913
1,359,160
Total current liabilities
1,306,784
1,909,248
Long-term debt
2,912,528
2,922,052
Pension and postretirement medical benefit obligations
1,188,680
1,214,724
Asset retirement obligations
899,157
743,613
Deferred income taxes
961,001
1,507,923
Other non-current liabilities
739,211
921,441
Total liabilities
8,007,361
9,219,001
Commitments and Contingencies (Note 16)
Stockholders' Equity
Preferred stock - par value $0.01, 10.0 million shares authorized, none issued
—
—
Common stock - par value $0.01, 400.0 million shares authorized, 232.1 million issued and 220.5 million outstanding at September 30, 2012 and 231.0 million issued and 219.8 million outstanding at December 31, 2011
2,321
2,310
Additional paid-in capital
8,072,172
8,073,512
Accumulated other comprehensive income (loss)
(161,222
)
(201,830
)
Treasury stock, at cost: 11.6 million and 11.2 million shares at September 30, 2012 and December 31, 2011, respectively
(269,780
)
(262,795
)
Accumulated deficit
(2,545,721
)
(236,153
)
Total stockholders' equity
5,097,770
7,375,044
Total liabilities and stockholders' equity
$
13,105,131
$
16,594,045
See accompanying Notes to Condensed Consolidated Financial Statements.
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
(1)
Business and Basis of Presentation
Business
Alpha Natural Resources, Inc. and its consolidated subsidiaries (the “Company” and “Alpha”) are primarily engaged in the business of extracting, processing and marketing steam and metallurgical coal from surface and deep mines, and mainly sell to electric utilities, steel and coke producers, and industrial customers. The Company, through its subsidiaries, is also involved in marketing coal produced by others to supplement its own production and, through blending, provides its customers with coal qualities differing from those available from its own production.
Basis of Presentation
The accompanying interim condensed consolidated financial statements of the Company are unaudited and prepared in accordance with the rules and regulations of the United States Securities and Exchange Commission (“SEC”) for Form 10-Q. Such rules and regulations allow the omission of certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America as long as the financial statements are not misleading. In the opinion of management, these interim condensed consolidated financial statements reflect all normal and recurring adjustments necessary for a fair presentation of the results for the periods presented. Results of operations for the three and nine months ended September 30, 2012 are not necessarily indicative of the results to be expected for the year ending December 31, 2012. These interim condensed consolidated financial statements should be read in conjunction with the consolidated financial statements of the Company included in its Annual Report on Form 10-K for the year ended December 31, 2011, filed February 29, 2012.
The Company's condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of the Company's condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Significant items subject to such estimates and assumptions include inventories; mineral reserves; allowance for non-recoupable advanced mining royalties; asset impairments; environmental and reclamation obligations; acquisition accounting; pensions, postemployment, postretirement medical and other employee benefit obligations; useful lives for depreciation, depletion, and amortization; reserves for workers' compensation and black lung claims; current and deferred income taxes; reserves for contingencies and litigation and fair value of financial instruments. Estimates are based on facts and circumstances believed to be reasonable at the time; however, actual results could differ from those estimates.
(2)
Acquisition
On June 1, 2011, the Company completed its acquisition (the "Massey Acquisition") of 100% of the outstanding common stock of Massey Energy Company ("Massey"), a coal producer with operations located primarily in Virginia, West Virginia, and Kentucky.
The total purchase price has been allocated to the net tangible and intangible assets of Massey as follows:
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
Provisional as of December 31, 2011
Adjustments
Final
Inventories
$
414,310
$
—
$
414,310
Other current assets
998,034
61,949
1,059,983
Property, equipment and mine development costs
1,705,531
(8,885
)
1,696,646
Owned and leased mineral rights and land
6,445,688
399
6,446,087
Goodwill
2,613,442
87,646
2,701,088
Other intangible assets
365,379
(5,889
)
359,490
Other non-current assets
90,788
2
90,790
Total assets
12,633,172
135,222
12,768,394
Total current liabilities
1,128,922
145,412
1,274,334
Long-term debt, including current portion
1,397,405
—
1,397,405
Pension and post-retirement medical benefits, including current portion
294,657
—
294,657
Asset retirement obligation, including current portion
610,506
18,330
628,836
Deferred income taxes, including current portion
1,303,415
(23,145
)
1,280,270
Below-market contract obligations
707,969
(5,375
)
702,594
Other liabilities, including current portion of black lung and workers' compensation
365,866
—
365,866
Total liabilities
5,808,740
135,222
5,943,962
Equity component of convertible notes
110,375
—
110,375
Net tangible and intangible assets acquired
$
6,714,057
$
—
$
6,714,057
The Company finalized the purchase price allocation as of May 31, 2012.
Goodwill has been allocated to Eastern Coal Operations. The goodwill recognized is generally attributable to intangible assets that do not qualify for separate recognition such as the Massey workforce, synergies expected to be realized through administrative, sales and operating cost savings and capital expenditure efficiencies and annual revenue synergies expected to be achieved from the integration of the Massey assets into the Company's existing operations.
Prior to the finalization of the purchase price allocation, the Company recorded adjustments to the provisional opening balance sheet and certain immaterial corrections as shown in the above table. Adjustments were made primarily to reflect corrections to asset retirement obligations, updated estimates of certain tax liabilities, updated estimates of certain property values, updated estimates of below market contract liabilities, updated estimates for litigation related matters and related insurance recoveries, other miscellaneous adjustments and the deferred tax impact of all adjustments made.
As previously disclosed, the Company adjusted depreciation, depletion and amortization, amortization of acquired intangibles, net, cost of coal sales, other expenses, other revenues and goodwill impairment and restated its consolidated balance sheet as of December 31, 2011 and its consolidated results of operations for the three months ended June 30, 2011, September 30, 2011, December 31, 2011, and March 31, 2012 for the changes to the provisional opening balance sheet of Massey and for certain other immaterial corrections and reclassifying adjustments. As a result, the Company recorded additional goodwill impairment of $57,012, increased its net loss before income taxes by $50,131, and increased its net loss by $53,152 for the year ended December 31, 2011 and decreased its net loss by $351 for the three months ended March 31, 2012.
The following unaudited pro forma information has been prepared for illustrative purposes only and assumes the Massey Acquisition occurred on January 1, 2011. The unaudited pro forma results have been prepared based on estimates and
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
assumptions which the Company believes are reasonable, however, they are not necessarily indicative of the consolidated results of operations had the Massey Acquisition occurred on January 1, 2011, or of future results of operations.
Nine Months Ended September 30, 2011
Total revenues:
As reported
$
5,037,529
Pro forma
$
6,571,944
Net income (loss):
As reported
$
62,384
Pro forma
$
(41,719
)
Income (loss) per common share-basic:
As reported
$
0.37
Pro forma
$
(0.18
)
Income (loss) per common share-diluted:
As reported
$
0.37
Pro forma
$
(0.18
)
(3) Asset Impairment and Restructuring
U.S. GAAP requires that a long-lived asset group that is held and used should be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the long-lived asset group might not be recoverable. As previously disclosed, as a result of announcements made during 2012 regarding plans to curtail certain coal mining operations, the Company determined that indicators of impairment with respect to certain of its long-lived assets or asset groups exist. The Company's asset groups generally consist of the assets and applicable liabilities of one or more mines and preparation plants and associated coal reserves for which cash flows are largely independent of cash flows of other mines, preparation plants and associated reserves.
The Company determined that the undiscounted cash flows were less than the carrying value for certain asset groups. The Company estimated the fair value of these asset groups using a discounted cash flow analysis utilizing market-place participant assumptions. The carrying values of the asset groups exceeded their fair value and accordingly, the Company recorded asset impairment charges during the second quarter of 2012 of $990,923, of which $985,346 was recorded for asset groups in our Eastern Coal Operations segment and $5,577 was recorded for an asset group in the Company's Other segment. The asset impairment charges reduced the carrying values of mineral reserves $714,580, property, plant and equipment $271,827, and other acquired intangibles $4,516. The asset impairments established a new cost basis on which future depreciation, depletion and amortization will be based.
In connection with the plans to curtail mining operations and the associated company actions, the Company also recorded severance expenses of $7,495 and $22,931, professional fees and other expenses of $5,462 and $7,493, and reserved $719 and $7,263 for advanced royalties and deposits which may not be recoverable for the three and nine months ended September 30, 2012, respectively.
(4) Goodwill, Net
In connection with the testing of certain of our long-lived assets for impairment (see Note 3), the Company also performed a goodwill impairment test as of June 1, 2012 and recorded a goodwill impairment charge in the second quarter of $1,525,332 to reduce the carrying value of goodwill to its implied fair value for nine reporting units in its Eastern Coal Operations segment
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
and one reporting unit in its Western Coal Operations segment.
The valuation methodology utilized to estimate the fair value of the reporting units was based on both a market and income approach and is within the range of fair values yielded under each approach. The income approach was based on a discounted cash flow methodology in which expected future net cash flows were discounted to present value, using an appropriate after-tax weighted average cost of capital. The market approach was based on a guideline company and similar transaction approach. Under the guideline company approach, certain operating metrics from a selected group of publicly traded guideline companies that have similar operations to the Company's reporting units were used to estimate the fair value of the reporting units. Under the similar transaction approach, recent merger and acquisition transactions for companies that have similar operations to the Company's reporting units were used to estimate the fair value of the Company's reporting units.
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
(5) Earnings Per Share
The number of shares used to calculate basic earnings per common share is based on the weighted average number of the Company's outstanding common shares during the respective periods. The number of shares used to calculate diluted earnings per common share is based on the number of common shares used to calculate basic earnings per share plus the dilutive effect of stock options and other stock-based instruments held by the Company's employees and directors during each period, the Company's outstanding 2.375% convertible senior notes due 2015 (the “2.375% Convertible Notes”), and the outstanding 3.25% convertible senior notes due 2015 issued by Alpha Appalachia Holdings, Inc. (formerly Massey) (the “3.25% Convertible Notes”). As of September 30, 2012 and September 30, 2011, the 2.375% Convertible Notes and the 3.25% Convertible Notes were not convertible. The 2.375% Convertible Notes and 3.25% Convertible Notes become dilutive for earnings per common share calculations in certain circumstances. The shares that would be issued to settle the conversion spread are included in the diluted earnings per share calculation when the conversion option is in the money and amounted to 68,548 shares for the nine months ended September 30, 2011. In periods of net loss, the number of shares used to calculate diluted earnings per share is the same as basic earnings per share.
The following table provides a reconciliation of the weighted average shares outstanding used in the basic and diluted earnings per share computations for the periods presented:
Three Months Ended September 30,
Nine Months Ended September 30,
2012
2011
2012
2011
Weighted average shares - basic
220,417,448
224,394,487
220,167,198
166,931,448
Dilutive impact of stock options and restricted stock plans
—
1,887,498
—
1,833,014
Dilutive impact of the 2.375% Convertible Notes
—
—
—
68,548
Weighted average shares - diluted
220,417,448
226,281,985
220,167,198
168,833,010
(6) Inventories, net
Inventories, net consisted of the following:
September 30, 2012
December 31, 2011
Raw coal
$
72,372
$
52,215
Saleable coal
275,757
340,672
Materials, supplies and other, net
109,066
99,135
Total inventories, net
$
457,195
$
492,022
(7) Marketable Securities
Short-term marketable securities, included in prepaid expenses and other current assets, consisted of the following:
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
September 30, 2012
December 31, 2011
Plant and mining equipment
$
3,592,290
$
3,641,522
Mine development
293,912
272,629
Coalbed methane equipment
16,024
15,210
Office equipment and software
64,766
56,547
Vehicles and other
6,605
6,605
Construction in progress
95,797
175,493
Total property, equipment and mine development costs
4,069,394
4,168,006
Less accumulated depreciation and amortization
1,752,754
1,355,937
Total property, equipment and mine development costs, net
$
2,316,640
$
2,812,069
For discussion regarding asset impairment charges recorded during the second quarter of 2012, see Note 3.
(9) Long-Term Debt
Long-term debt consisted of the following:
September 30, 2012
December 31, 2011
6.00% senior notes due 2019
$
800,000
$
800,000
6.25% senior notes due 2021
700,000
700,000
Term loan due 2016
555,000
585,000
3.25% convertible senior notes due 2015
658,673
658,673
2.375% convertible senior notes due 2015
287,500
287,500
Other
61,478
23,554
Debt discount, net
(69,518
)
(86,646
)
Total long-term debt
2,993,133
2,968,081
Less current portion
80,605
46,029
Long-term debt, net of current portion
$
2,912,528
$
2,922,052
Credit Agreement Amendment
On June 26, 2012, the Company entered into an amendment (the “Credit Agreement Amendment”) to the Third Amended and Restated Credit Agreement, dated as of May 19, 2011, by and among the Company, the lenders party thereto, the issuing banks party thereto, Citicorp North America, Inc. as administrative and collateral agent and Citigroup Global Markets Inc. and Morgan Stanley Senior Funding, Inc. as joint lead arrangers and joint book managers (the “Credit Agreement”). The Credit Agreement Amendment, among other things:
1) replaces the maximum net leverage ratio covenant with a maximum net secured leverage ratio covenant through the end of 2014, increases the maximum net leverage ratio covenant for the first and second quarters of 2015, and decreases the minimum interest coverage ratio covenant from the fourth quarter of 2012 through the end of 2013;
2) adds a minimum liquidity covenant of $500,000 through the end of 2014;
3) increases the applicable margin for borrowings under the Credit Agreement if the Company’s consolidated net leverage ratio is greater than 3.75 to 1.00 for the preceding fiscal quarter;
4) modifies the requirements for incremental term loan or revolving credit facilities in excess of $500,000; and
5) provides additional real property collateral to secure obligations under the Credit Agreement and certain hedging and cash management obligations with lenders and affiliates of lenders.
On June 26, 2012, ANR Receivables Funding, LLC (“ANR Receivables”) and Alpha Natural Resources, LLC (“ANR LLC”), each of which are subsidiaries of the Company, entered into an amendment (the “A/R Facility Amendment”) to the Second Amended and Restated Receivables Purchase Agreement, dated as of October 19, 2011, by and among ANR Receivables, ANR LLC, certain financial institutions from time to time parties thereto as conduit purchasers, committed purchasers, purchaser agents and LC Participants (as defined therein) and PNC Bank, National Association, as administrator and LC Bank (as defined therein). The A/R Facility Amendment, among other things, replaces the maximum net leverage ratio termination event with a termination event based on a maximum net secured leverage ratio through the end of 2014 and increases the maximum net leverage ratio termination event for the first and second quarters of 2015.
Other Debt
In September 2011, the Company entered into a federal coal lease, which contains an estimated 130,200 tons of proven and probable coal reserves in the Powder River Basin. The lease bid was $143,415, payable in five equal annual installments of $28,683. The first installment was paid in September 2011. In August 2012, the Company entered into an agreement with a third party to exchange this federal coal lease for a federal coal lease from a third party, which contains an estimated 222,000 tons of proven and probable coal reserves in the Powder River Basin adjacent to the Company's existing mining operations. As a result of the exchange, the Company paid $17,392 at closing and recorded a note payable, which had a present value of $14,091 as of September 30, 2012, of which $3,946 is recorded as current portion of long-term debt and $10,145 is recorded as long-term debt in the Company's Condensed Consolidated Balance Sheet as of September 30, 2012. The note is payable in four annual installments of $3,946 due each November through 2015.
The Company has entered into capital leases for equipment during the nine months ended September 30, 2012. The Company's liabilities for capital leases as of September 30, 2012 totaled $45,093.
See Note 19 regarding subsequent events related to long-term debt.
(10) Asset Retirement Obligations
As of September 30, 2012 and December 31, 2011, the Company had recorded asset retirement obligation accruals for mine reclamation and closure costs totaling $987,635 and $934,606 respectively. Changes in the asset retirement obligations for the nine months ended September 30, 2012 were as follows:
Total asset retirement obligations at December 31, 2011
$
934,606
Accretion for the period
49,127
Sites added during the period
2,154
Revisions in estimated cash flows
39,359
Expenditures for the period
(37,611
)
Total asset retirement obligations at September 30, 2012
$
987,635
Less current portion
88,478
Long-term portion
$
899,157
(11) Fair Value of Financial Instruments and Fair Value Measurements
The estimated fair values of financial instruments are determined based on relevant market information. These estimates involve uncertainty and cannot be determined with precision. The following methods and assumptions are used to estimate the fair value of each class of financial instruments.
The carrying amounts for cash and cash equivalents, trade accounts receivable, net, prepaid expenses and other current assets, trade accounts payable, and accrued expenses and other current liabilities approximate fair value due to the short maturity of these instruments.
The Company's long-term debt is comprised of the 6.00% senior notes due 2019 and the 6.25% senior notes due 2021 (collectively, the "Senior Notes"), 2.375% Convertible Senior Notes, 3.25% Convertible Senior Notes, and Term Loan due
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
2016. The following tables set forth by level, within the fair value hierarchy, the Company's long-term debt at fair value as of September 30, 2012 and December 31, 2011, respectively.
September 30, 2012
Carrying
Amount
Total Fair
Value
Quoted Prices
in Active
Markets
(Level 1)
Significant
Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
6.00% senior notes due 2019
$
800,000
$
674,000
$
674,000
$
—
$
—
6.25% senior notes due 2021
700,000
583,625
583,625
—
—
Term loan due 2016(1)
554,443
551,553
—
551,553
—
3.25% convertible senior notes due 2015(2)
631,534
608,751
608,751
—
—
2.375% convertible senior notes due 2015(3)
245,678
247,624
247,624
—
—
Total long-term debt
$
2,931,655
$
2,665,553
$
2,114,000
$
551,553
$
—
December 31, 2011
Carrying
Amount
Total Fair
Value
Quoted Prices
in Active
Markets
(Level 1)
Significant
Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
6.00% senior notes due 2019
$
800,000
$
780,000
$
780,000
$
—
$
—
6.25% senior notes due 2021
700,000
682,500
682,500
—
—
Term loan due 2016(1)
584,330
584,989
—
584,989
—
3.25% convertible senior notes due 2015(2)
624,946
596,955
596,955
—
—
2.375% convertible senior notes due 2015(3)
235,251
276,596
276,596
—
—
Total long-term debt
$
2,944,527
$
2,921,040
$
2,336,051
$
584,989
$
—
(1)
Net of debt discount of $557 and $670 as of September 30, 2012 and December 31, 2011, respectively.
(2)
Net of debt discount of $27,139 and $33,727 as of September 30, 2012 and December 31, 2011, respectively.
(3)
Net of debt discount of $41,822 and $52,249 as of September 30, 2012 and December 31, 2011, respectively.
The following tables set forth by level, within the fair value hierarchy, the Company's financial and non-financial assets and liabilities that were accounted for at fair value on a recurring and non-recurring basis as of September 30, 2012 and December 31, 2011, respectively. Financial and non-financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company's assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the determination of fair value for assets and liabilities and their placement within the fair value hierarchy levels.
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
September 30, 2012
Total Fair
Value
Quoted Prices
in Active
Markets
(Level 1)
Significant
Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Financial assets (liabilities):
U.S. treasury and agency securities
$
84,362
$
84,362
$
—
$
—
Mutual funds held in rabbi trust
$
8,246
$
8,246
$
—
$
—
Corporate debt securities
$
123,594
$
—
$
123,594
$
—
Forward coal sales
$
32,670
$
—
$
32,670
$
—
Forward coal purchases
$
(8,065
)
$
—
$
(8,065
)
$
—
Commodity swaps
$
11,976
$
—
$
11,976
$
—
Commodity options
$
90
$
—
$
90
$
—
Interest rate swaps
$
(1,465
)
$
—
$
(1,465
)
$
—
December 31, 2011
Total Fair
Value
Quoted Prices
in Active
Markets
(Level 1)
Significant
Other
Observable
Inputs
(Level 2)
Significant
Unobservable
Inputs
(Level 3)
Financial assets (liabilities):
U.S. treasury and agency securities
$
38,965
$
38,965
$
—
$
—
Mutual funds held in rabbi trust
$
4,129
$
4,129
$
—
$
—
Corporate debt securities
$
61,866
$
—
$
61,866
$
—
Forward coal sales
$
27,254
$
—
$
27,254
$
—
Forward coal purchases
$
(15,456
)
$
—
$
(15,456
)
$
—
Commodity swaps
$
3,222
$
—
$
3,222
$
—
Commodity options
$
95
$
—
$
95
$
—
Interest rate swaps
$
(10,097
)
$
—
$
(10,097
)
$
—
The following methods and assumptions were used to estimate the fair values of the assets and liabilities in the tables above.
Level 1 Fair Value Measurements
U.S. Treasury and Agency Securities and Mutual Funds Held in Rabbi Trust - The fair value of marketable securities is based on observable market data.
Senior Notes, 2.375% Convertible Notes and 3.25% Convertible Notes - The fair value is based on observable market data.
Level 2 Fair Value Measurements
Corporate Debt Securities - The fair values of the Company's corporate debt securities are obtained from a third-party pricing service provider. The fair values provided by the pricing service provider are estimated using pricing models, where the inputs to those models are based on observable market inputs including credit spreads and broker-dealer quotes, among other inputs. The Company classifies the prices obtained from the pricing services within Level 2 of the fair value hierarchy because the underlying inputs are directly observable from active markets. However, the pricing models used do entail a certain amount of subjectivity and therefore differing judgments in how the underlying inputs are modeled could result in different estimates of fair value.
Forward Coal Purchases and Sales - The fair values of the forward coal purchase and sale contracts were estimated using
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
discounted cash flow calculations based upon actual contract prices and forward commodity price curves. The curves were obtained from independent pricing services reflecting broker market quotes. The fair values are adjusted for counter-party risk, when applicable.
Commodity Swaps - The fair values of commodity swaps are estimated using valuation models which include assumptions about commodity prices based on those observed in the underlying markets. The fair values are adjusted for counter-party risk, when applicable.
Commodity Options - The fair values of the commodity options were estimated using an option pricing model that incorporates historical volatility of the underlying commodity, the strike price, notional amount, current market price and risk free interest rate. The fair values are adjusted for counter-party risk, when applicable.
Interest Rate Swaps - The fair values of the interest rate swaps were estimated using discounted cash flow calculations based upon forward interest-rate yield curves. The curves were obtained from independent pricing services reflecting broker market quotes. The fair values are adjusted for counter-party risk, when applicable.
Term Loan due 2016 - The fair value of the Term Loan due 2016 is estimated based on market rates of interest offered for debt of similar maturities.
(12) Derivative Financial Instruments
Forward Contracts
The Company manages price risk for coal sales and purchases through the use of coal supply agreements. The Company evaluates each of its coal sales and coal purchase forward contracts to determine whether they meet the definition of a derivative and if so, whether they qualify for the normal purchase normal sale (“NPNS”) exception. The majority of the Company's forward contracts do not qualify as derivatives. For those contracts that do meet the definition of a derivative, certain contracts also qualify for the NPNS exception based on management's intent and ability to physically deliver or take physical delivery of the coal. Contracts that meet the definition of a derivative and do not qualify for the NPNS exception are accounted for at fair value and, accordingly, the Company includes the unrealized gains and losses in current period earnings or losses.
Swap Agreements
Commodity Swaps
The Company uses diesel fuel and explosives in its production process and incurs significant expenses for the purchase of these commodities. Diesel fuel and explosives expenses represented approximately 7% of cost of coal sales for the nine months ended September 30, 2012. The Company is subject to the risk of price volatility for these commodities and as a part of its risk management strategy, the Company enters into swap agreements with financial institutions to mitigate the risk of price volatility for both diesel fuel and explosives. The terms of the swap agreements allow the Company to pay a fixed price and receive a floating price, which provides a fixed price per unit for the volume of purchases being hedged. As of September 30, 2012, the Company had swap agreements outstanding to hedge the variable cash flows related to 79% and 58% of anticipated diesel fuel usage for the remaining three months of 2012 and calendar year 2013, respectively. The average fixed price per swap for diesel fuel hedges is $2.99 per gallon and $3.01 per gallon for the remaining three months of 2012 and calendar year 2013, respectively. As of September 30, 2012, the Company had swap agreements outstanding to hedge the variable cash flows related to approximately 36% of anticipated explosives usage in the Powder River Basin for the remaining three months of 2012. All cash flows associated with derivative instruments are classified as operating cash flows in the Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2012 and 2011.
The Company sells coalbed methane. The revenues derived from the sale of coalbed methane are subject to volatility based on the changes in natural gas prices. In order to reduce that risk, the Company enters into “pay variable, receive fixed” natural gas swaps for a portion of its anticipated gas production in order to fix the selling price for a portion of its production. The natural gas swaps have been designated as qualifying cash flow hedges. As of September 30, 2012, the Company had swap agreements outstanding to hedge the variable cash flows related to approximately 81% and 76% of anticipated natural gas production for the remaining three months of 2012 and for calendar year 2013, respectively.
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
Interest Rate Swap
The Company has variable rate debt outstanding and is subject to interest rate risk based on volatility in underlying interest rates. The interest rate swap is not designated as a qualifying cash flow hedge and, therefore, changes in fair value are recorded in current period earnings and losses.
The following tables present the fair values and location of the Company's derivative instruments within the Condensed Consolidated Balance Sheets:
Asset Derivatives
Derivatives designated as
cash flow hedging instruments
September 30, 2012
December 31, 2011
Commodity swaps (1)
$
15,549
$
16,532
Commodity options (1)
107
112
$
15,656
$
16,644
Derivatives not designated as
cash flow hedging instruments
September 30, 2012
December 31, 2011
Forward coal sales (2)
$
32,670
$
27,254
Commodity swaps (3)
57
—
Total
$
32,727
$
27,254
Total asset derivatives
$
48,383
$
43,898
(1)
As of September 30, 2012, $10,102 is recorded in prepaid expenses and other current assets and $5,554 is recorded in other non-current assets in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $14,436 is recorded in prepaid expenses and other current assets and $2,208 is recorded in other non-current assets in the Condensed Consolidated Balance Sheets.
(2)
As of September 30, 2012, $30,048 is recorded in prepaid expenses and other current assets and $2,622 is recorded in other non-current assets in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $20,891 is recorded in prepaid expenses and other current assets and $6,363 is recorded in other non-current assets in the Condensed Consolidated Balance Sheets.
(3)
As of September 30, 2012, $57 is recorded in prepaid expenses and other current assets in the Condensed Consolidated Balance Sheets.
Liability Derivatives
Derivatives designated as
cash flow hedging instruments
September 30, 2012
December 31, 2011
Commodity swaps (1)
$
3,625
$
12,874
Derivatives not designated as
cash flow hedging instruments
September 30, 2012
December 31, 2011
Forward coal purchases (2)
$
8,065
$
15,456
Commodity swaps (3)
5
436
Commodity options-coal (4)
17
17
Interest rate swaps (5)
1,465
10,097
Total
$
9,552
$
26,006
Total liability derivatives
$
13,177
$
38,880
(1)
As of September 30, 2012, $1,984 is recorded in accrued expenses and other current liabilities and $1,641 is recorded in
NOTES to CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited, amounts in thousands except share and per share data)
other non-current liabilities in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $6,222 is recorded in accrued expenses and other current liabilities and $6,652 is recorded in other non-current liabilities in the Condensed Consolidated Balance Sheets.
(2)
As September 30, 2012, $8,065 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $15,456 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets.
(3)
As of September 30, 2012, $5 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $436 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets.
(4)
As of September 30, 2012, $17 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $3 is recorded in accrued expenses and other current liabilities and $14 in other non-current liabilities in the Condensed Consolidated Balance Sheets.
(5)
As of September 30, 2012, $1,465 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets. As of December 31, 2011, $10,097 is recorded in accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets.
The following tables present the gains and losses from derivative instruments for the nine months ended September 30, 2012 and 2011 and their location within the Condensed Consolidated Financial Statements:
Derivatives designated as
cash flow hedging instruments
Gain (loss) reclassified
from accumulated other
comprehensive income (loss) to earnings
Gain (loss) recorded
in accumulated other
comprehensive income (loss)
2012
2011
2012
2011
Commodity swaps (1) (2) (3)
$
9,190
$
11,519
$
14,715
$
(1,759
)
Commodity options (1) (2)
—
—
(39
)
—
$
9,190
$
11,519
$
14,676
$
(1,759
)
(1)
Amounts are recorded as a component of cost of coal sales in the Condensed Consolidated Statements of Operations.
