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Saturday, July 18, 2015

Alpha Natural Resources: How To Make Nearly $2 Billion In Liquidity Disappear

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July 18:


  • Alpha Natural Resources is reportedly seeking DIP financing. I had previously thought a 2015 filing was unlikely.
  • However, Alpha may end 2015 with under $500 million in liquidity due to potential covenant issues, lower realized coal prices and spending money to buy out its JV partner.
  • If it doesn't want to sell its Rice Energy stake, then the amount of available liquidity is lowered. The self-bonding issue may threaten liquidity as well.
  • Although Alpha does retain the capacity to continue operations into 2016 without filing, the rate of cash burn plus committing to 2016 tonnage at low prices may prompt the filing.
  • Its Appalachian mine gross margins may turn negative in 2016.
There have been reports that Alpha Natural Resources (NYSE:ANR) is in talks to receive DIP financing to see it through a potential bankruptcy filing in August. I had previously believed that Alpha Natural Resources wouldn't file until 2016 at the earliest even with weaker metallurgical coal prices, so it is worth looking at what may have changed with Alpha's situation.
It is not a foregone conclusion that Alpha will file for bankruptcy soon. However, it appears that Alpha is certainly considering it as a serious possibility.
From reviewing Alpha's financial situation again, it appears that Alpha still should have enough liquidity to operate into 2016, but with metallurgical prices falling lower and Appalachian thermal coal prices also falling, perhaps management has given up hope on avoiding a Chapter 11 filing. Certainly some of its actions (paying cash to buy out its natural gas joint venture partner and not selling its Rice Energy stake as far as I know) appear to be that of a company that isn't intending to try everything to avoid bankruptcy.
Alpha started 2015 with approximately $2.2 billion in liquidity, but is on track to possibly end 2015 with less than $500 million in liquidity depending on what happens with its credit facility.

2015 Gross Margins

It appears that Alpha's 2015 coal gross margins are likely to be significantly reduced by the fall in Appalachian thermal coal prices and the fall in metallurgical coal prices. Alpha had 87% of its Eastern Steam coal priced and committed in April at $54.81 per ton, along with 75% of its metallurgical coal at $78.67 per ton. However, with 2015 prices for Appalachian thermal coal falling to the low to mid-40s and Alpha's metallurgical coal perhaps only fetching $60 per ton in the current market environment, realized prices could be quite a bit lower for 2015. This would reduce Alpha's coal gross margins to $86 million during 2015. That assumes that Alpha reaches the midpoint of cost guidance as well, which may be questionable given Q1 Eastern production costs and Alpha's comments on Q2 Eastern production costs.
Tons (Million) Revenue Per Ton Cost Per Ton Gross Margin ($ Million)
Powder River Basin 38 $11.40 $10.50 $34
Eastern Steam 21 $53.50
Eastern Metallurgical 15.5 $74.50
Total Eastern 36.5 $62.42 $61.00 $52
Total $86

2015 Cash Usage

Alpha Natural Resources indicated that capital expenditures would be approximately $225 million (at midpoint of guidance), along with $105 million in SG&A. Cash interest is expected to reach approximately $250 million now after the borrowings under the credit facility. The convertible note retirements take up another $154 million, while the repurchase of unsecured notes used another $117 million. Alpha's purchase of the 50% natural gas joint venture stake from its partner accounted for another $126 million. This results in an estimated cash burn of $891 million during 2015, reducing the year-end total for cash and marketable securities down to $382 million. This doesn't include the borrowings from the credit facility as I'm assuming it would need to be repaid if the covenant is violated (see below).
$ Million
Gross Margin $86
Less: Repurchase of Unsecured Notes $117
Less: Convertible Note Retirements $154
Less: Purchase of Natural Gas Interests $126
Less: Cash Interest $250
Less: Capital Expenditures $225
Less: SG&A $105
Total -$891

Threat To Borrowing Capacity

Alpha Natural Resources' Fifth Amended and Restated Credit Agreement provided for approximately $760 million in available liquidity at the end of Q1 2015. There is also a covenant that restricts the maximum total senior secured debt less unrestricted cash (up to $700 million in unrestricted cash counts towards this calculation) to Adjusted EBITDA ratio to 2.5x. That wasn't a problem before due to Alpha's large amount of unrestricted cash, which maxed out the $700 million limit for the calculation. However, with close to $100 million in interest payments due in Q2 combined with the $45 million in convertible notes that matured in Q2, Alpha's unrestricted cash position (cash plus short-term investments) possibly dipped below $700 million by the end of Q2.
Adjusted EBITDA for the trailing 12 months likely fell below $100 million after Q2 2015 results. Despite this, Alpha would still be in compliance with the senior secured debt covenant since the total senior secured debt would be barely over $700 million at the end of Q2.
The August convertible note maturities plus the purchase of the natural gas joint venture interest would likely have reduced Alpha's unrestricted cash position to $400 million to $450 million at the end of Q3 though, resulting in a covenant violation and potentially threatening the $760 million in liquidity under that facility. I believe that's potentially why the natural gas joint venture purchase occurred just after the end of Q2. Doing that purchase within Q2 may have resulted in a covenant violation with the Q2 unrestricted cash and Adjusted EBITDA calculations. Instead, Alpha appears to have concluded the transaction on July 1 and retained the ability to access its credit facility for funds in Q3.
Depending on what happens with Alpha's credit facility, its year-end liquidity could be reduced to under $500 million.

The 2016 View

Having nearly $500 million in liquidity and $400 million in cash and marketable securities doesn't sound like a completely terrible position. However, I'm thinking that Alpha might have already priced enough coal for 2016 at low prices that it expects to burn a very large amount of money next year barring a major recovery in metallurgical coal prices.
Alpha mentioned that it had around 9 million tons of Eastern thermal coal priced at $52.50 per ton for 2016 and around 20 million tons of PRB coal priced at $11.85 per ton. This likely would lead to PRB pricing realizations similar to 2015, which would result in $53 million in PRB coal gross margin if costs fell to $10 per ton. However, due to the decline in Eastern coal prices, Alpha may only end up realizing $50 per ton for its thermal coal and $65 per ton for its metallurgical coal in a relatively good scenario. This would result in Eastern coal gross margins of negative $60 million even if Alpha could cut costs to $58 per ton, which is the low end of its 2015 guidance. With negative $7 million in coal gross margins, Alpha would likely end up burning around $550 million in 2016 in that scenario or $300 million even without any interest payments. With that level of cash burn even without interest payments, the reasons for potentially seeking a DIP loan become clearer.
If 2016 coal prices increase by around 15% from current levels, Alpha may still end up with cash burn of $350 million to $400 million in 2016 since it has priced a decent amount of its production at low prices.


I previously believed that Alpha should be able to operate into 2016 without filing for bankruptcy even with the deterioration in the metallurgical coal market. It does appear that Alpha still has sufficient cash and marketable securities to operate into mid-2016. However, it also appears that the market deterioration may have dimmed the company's 2016 outlook enough so that it believes that a filing is inevitable and is consequently not making moves that would shore up its cash position in the short term. Perhaps the potential consequences of the self-bonding issue have pushed the company in the direction of a potential filing as well. Certainly spending $126 million to buy out its joint venture partner (and likely triggering a covenant violation next quarter) is not a move that a company focused on minimizing cash burn would do.
I still have a small position in ANR that I've kept with the intent of seeing it through to either bankruptcy or a recovery in metallurgical coal prices. Due to its exposure to Appalachian coal prices, it appears that bankruptcy may be coming sooner than I previously believed likely.
Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.


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