NACCO Industries, Inc.

Thank you. Thank you. Ladies and gentlemen, thank you for standing by, and welcome to the NACO Industries Third Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you'll need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I'd now like to turn the call over to Ms. Christina Kmitko. Please go ahead.

Thank you. Good morning, everyone, and welcome to our 2020 Third Quarter Earnings Call. I am Christina Kometko, and I am responsible for Investor Relations at NACO Industries. Thank you for joining us this morning. I'll be providing a brief overview of our quarterly results and business outlook, and then I will open up the call for your questions. Joining me today are J.C. Butler, President and Chief Executive Officer of both NACO and North American Coal, and Elizabeth Lovman, NACO's Vice President and Controller. Yesterday, we published Our third quarter 2020 results installed our 10Q. Copies of our earnings release and 10Q are available on our website. For anyone who is not able to listen to today's entire call, an archived version of this webcast will be on our website later this afternoon and available for approximately 12 months. Our remarks that follow, including answers to your questions, contain forward-looking statements. These statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements made here today. These risks include, among others, matters that we have described in our earnings release issued last night and in our 10-Q and other filings with the SEC. We disclaim any obligation to update these forward-looking statements, which may not be updated until our next quarterly earnings conference call, if at all. Now let me discuss our 2020 third quarter. I will cover our consolidated results first and then provide the highlights for each segment. On a consolidated basis, our third quarter consolidated operating profit improved 8.5% to $9.4 million, up from $8.7 million in 2019. This improvement was driven by a number of factors, the largest being a reduction in our unallocated employee-related costs. higher earnings at both our coal mining and North American mining segments also contributed to this improvement, that those segments' earnings were more than offset by a significant reduction in the earnings of the minerals management segment. Despite the improvement in our operating profit, our consolidated net income decreased to $8 million or $1.14 per share from $10.3 million or $1.47 per share last year. In the third quarter of 2019, we received an initial $2.7 million settlement award associated with a former India venture. In 2020, we received a final settlement of $1 million. The $1.7 million difference in these award amounts combined with a higher effective income tax rate more than offset the improved operating profit discussed previously. Turning to our segments, the coal mining segments operating profit increased moderately over the prior year driven by improved earnings at Mississippi Lignite Mining Company and lower employee-related costs partially offset by reduced earnings of unconsolidated coal mining operations from lower customer demand and the termination of the Camino Real Fuels contract on July 1, 2020 that we discussed last quarter. At North American Mining, revenues and operating profit improved due to more times delivered and favorable changes in the mix of customer requirements. At our Minerals Management segment, similar to the first half of the year, earnings were down substantially as the prior year benefited from a large number of new gas wells put into commission during 2018 and early 2019. This decrease was expected because of the natural decline wells go through before settling into relatively stable long-term production. Lower commodity prices this year have also contributed to the reduction in the minerals management operating profit. Those are the significant factors affecting the third quarter results. Now let me turn to our outlook. I'll provide some insight on our expectations for the fourth quarter and full year 2020, as well as provide a high-level overview of our current expectations for 2021. While we are providing this first look at 2021, more color will be provided with the fourth quarter and full year 2020 earnings release once we have finalized our 2020 annual operating plan. At our coal mining segment, we expect the fourth quarter 2020 coal deliveries to become comparable to the prior year fourth quarter. Operating profit, on the other hand, is expected to decrease mainly due to an anticipated reduction in results at Mississippi Lignite Mining Company from an expected increase in the cost per ton delivered and a reduction in earnings at the unconsolidated mining operations. For the full year, coal deliveries and operating profit are expected to be lower than 2019, mainly because earnings at our unconsolidated mining operations are expected to decline as a result of the termination of the Camino Real Fuels contract agreement and reduced customer requirements. Changes in power plant dispatch contributed to the reduction in customer requirements. The power plant served by our Sabine Mine has been dispatched at a much lower rate this year than in 2019. During the third quarter, Sabine Mine's customer reduced its ligament coal requirements to be between 1.4 million and 1.7 million tons annually, compared with 2.6 million tons delivered in 2019. Also, on September 30, 2020, our Caddo Creek Resources customer entered into an agreement for the sale of their activated carbon manufacturing business, including the Marshall Mine, which is operated by Caddo Creek. The buyer announced its intent to close the mine, which delivered 200,000 tons in 2019. Caddo Creek has been contracted to perform the mine reclamation. Looking into 2021, we expect coal deliveries to be comparable to 2020 based on current expectations of customer requirements. But despite this, operating profit for this segment is expected to decrease compared with 2020. An expected increase in operating expenses and an anticipated reduction in earnings at the unconsolidated coal mining operations are the primary drivers of this decrease. The lower earnings at the unconsolidated operations are mainly because of a reduction in fee-based earnings at the closed Liberty Mine as our mine reclamation activities have been reduced. At our consolidated mining operations, 2021 results are expected to be comparable between years. An anticipated decrease in earnings at Mississippi Lignite Mining Company due to an increase in the cost per ton of coal delivered in 2021 versus 2020 is expected to be offset by a lower operating loss at Centennial. At our North American mining segment, we expect fourth quarter 2020 limestone deliveries to increase moderately over the fourth quarter of 2019, resulting in an overall modest increase in tons delivered for the full year compared to last year. Fourth quarter operating profit is expected to improve substantially over last year's fourth quarter as a result of favorable changes in the mix of customer requirements. But this improvement is expected to be less significant than what we saw in the first three quarters of this year. As a result, a significant increase is already realized in the first part of the year compared with last year, full year 2020 operating profit is expected to increase significantly over 2019. In 2021, we expect North American mining's operating profit to be comparable to this year with its existing customer contracts. However, we are pursuing a number of growth initiatives that, if successful, would be accretive to future earnings. As I noted previously, Last year's mineral management results included significant royalty income, particularly in the first half of the year, generated by a large number of new gas wells put into commission during 2018 and early in 2019. Given expected lower natural gas prices, fewer expected new wells, lower commodity prices, and the natural production decline that occurs early in the life of a well, we expect fourth quarter and full year 2020 royalty income to be substantially lower than 2019 levels. Given these factors, royalty income from existing assets is also expected to be down substantially in 2021 compared with this year. While you can get the capital expenditure numbers from our 10-Q for the other two segments, let me spend a minute talking about our investment plans for minerals management. We are targeting investments in mineral and royalty interest of approximately $15 million in the fourth quarter of 2020 and approximately $10 million next year. although the timing of the fourth quarter investments could slip into 2021. While we expect these investments to be accretive to earnings, each investment's contribution will be dependent on the timing, size, and stage of mineral development of the reserves acquired. To summarize, overall, we expect both consolidated operating profit and consolidated net income in the fourth quarter of 2020 to decrease significantly compared with the prior year period, Once you exclude the impact of a $2 million unfavorable mine reclamation adjustment taken in last year's fourth quarter. Lower results in our coal mining segment and an increase in income tax expense partially offset by lower unallocated employee related costs are driving this decrease. We also expect a significant decrease in the full year 2020 consolidated operating profit in net income. primarily due to the substantial decrease in operating profit at minerals management in the first nine months of this year and the anticipated reduction in full-year earnings at the coal mining segment. We are forecasting an effective income tax rate in the range of 5 to 7 percent. Finally, we expect 2021 consolidated net income to decrease significantly from this year because of the decrease in the coal mining segment's operating profit and a reduction in earnings at the minerals management segment excluding any benefit from future acquisitions of additional royalty or mineral interest. The full year 2021 effective income tax rate is expected to be negative 5% to negative 7% based on the current forecasted mix of earnings. Moving away from results expectations, let me briefly provide some cash flow information. We ended the third quarter with consolidated cash of $97.6 million and debt of $23.1 million, compared with consolidated cash of $95.5 million and debt of $28.4 million at the end of the second quarter. In addition, at the end of this quarter, we had availability of $138 million under our $150 million revolving credit facility. We believe that a conservative capital structure and liquidity are important given our strategic initiatives to grow and diversify, as well as the changing trends occurring in energy markets. We expect cash flow before financing activities to be significant use of cash due to substantial capital expenditures and payments made in the first half of 2020 related to deferred compensation and other payroll liabilities. However, in 2021, we expect cash flow before financing activities to improve and provide a solid generation of cash versus the use of cash this year. But 2021 is still not expected to reach the level the levels realized in 2019. That concludes my specific outlook remarks. But before I open up the call for questions, let me mention a couple of other items that could affect the company going forward. As we mentioned in our earnings release, we commenced the voluntary retirement program for certain corporate employees in the fourth quarter. We expect the program to be substantially completed by December 31, 2020. But until the program is complete and we understand the level of participation, the amount of savings and related one-time separation costs cannot be determined. Lastly, let me take a minute to discuss the pandemic. It is still very much a part of our daily lives and may become more so as we see cases increasing again in the United States. Our mining operations have not been directly affected by the pandemic to date. The extent to which we are impacted going forward will depend on numerous factors in future developments which are highly uncertain and unpredictable and could cause a significant and rapid deterioration in our results, our supply chain channels, and customer demand. Until proven treatments and vaccines for COVID-19 are available, we will work diligently to limit the exposure of our employees to COVID-19. We would also like to thank our workforce for their commitment to supporting our customers while also working diligently to keep one another safe. Now let me open up the call for your questions.

If you'd like to ask a question at this time, please press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. First question comes from Andrew Kuhn with Focus Compounding.