Significant Progress At The Leer South Mine
ST. LOUIS, MO - Arch Resources, Inc. President And CEO Paul A. Lang, said ”The Arch team executed at a high level in the second quarter, quickly adjusting to rapidly changing market conditions while taking extensive steps to protect the safety and health of their communities, their co-workers and themselves," said Paul A. Lang, Arch's chief executive officer and president. We believe that, with our top-tier metallurgical assets, the company is well-equipped to manage through the current period of global economic disruption, and equally well-positioned to capitalize on the metallurgical market recovery as it takes shape. During the quarter, our coking coal franchise maintained its strong operational momentum, achieving highly competitive unit costs despite lower-than-anticipated volume levels associated with customer deferrals. At the same time, we continued to make excellent progress on the build-out of the world-class Leer South mine, where we are laying the foundation for future value creation and growth. We view our ability to drive forward with this transformational project – even in the current macro environment – as a powerful differentiator in the marketplace."
Arch has implemented rigorous social distancing and hygiene-focused protocols and policies across the organization to reduce virus-related risks to its employees. While the pandemic has pressured commodity markets and precipitated indirect issues for the organization, including customer deferrals, Arch has incurred relatively modest direct impacts on its employee base so far.
John T. Drexler, COO, said, “Our transformational growth project at Leer South remains on time and on budget. By maintaining our forward progress during this period of economic uncertainty and supply rationalization, we believe we are greatly increasing the likelihood that we will be able to ramp the mine's initial longwall production into a strengthening coking coal market environment."
Longwall production at Leer South is expected to commence in the third quarter of 2021. When fully operational, the mine is expected to produce up to four million tons of High-Vol A coking coal annually for sale into global metallurgical markets, and to operate in tandem with Arch's flagship Leer mine for the next 20 years or more.
Arch expended approximately $46 million on Leer South's development during the second quarter, and reaffirmed that it expects to invest a total of $360 million to $390 million in total on the mine's buildout. At June 30, 2020, the company had expended a total of $211 million on the project, which is roughly 56 percent of the total projected spend at the mid-point of guidance.
After a very challenging first half, global steel markets appear to be shifting slowly into recovery mode. While steel prices remain under pressure, steel producers have recently moved to restart select, previously idled blast furnaces, and mill utilization rates are inching up as well, with the average capacity factor at U.S. steel mills approaching 59 percent this past week. Automotive plants – which constitute a core market for high-quality, primary steel – have resumed operations in Europe and North America, and Chinese automotive output was up in May on a year-over-year basis. In fact, the Chinese steel industry, which is the source of more than half the world's steel output, now appears to be in expansion mode, with 2020 steel production on course to exceed 2019 levels, according to the World Steel Association.
Meanwhile, coking coal markets remain at depressed levels. The assessed price of premium High-Vol A coking coal – Arch's principal product – is now trading at $109 per metric ton, $4 above its recent low-water mark. While global demand remains muted, sales inquiries appear to be picking up in specific regions. Chinese seaborne coking coal imports, for instance – excluding land-based Mongolian shipments – are up nearly 70 percent year-to-date.
On the supply side, high-cost production is being rationalized at a fairly brisk pace, particularly in North America, although more cuts will be needed to balance the market. U.S. coking coal production was down an estimated 15 percent in the first quarter of 2020 when compared to the second quarter of 2019, just before coking coal prices started to retrace appreciably. Moreover, Australia is struggling to maintain last year's production levels in the face of weak pricing, operating disruptions at certain mines, and limited capital investment in recent years, and Canadian producers are guiding to significantly lower 2020 production as well.
Thermal markets remain intensely challenging. Arch expects U.S. thermal demand to decline by more than 130 million tons in 2020, following a nearly 100-million-ton decline in 2019. Exacerbating the situation, U.S. power plants hold an estimated four months of inventory in stockpiles at present – likely an all-time high. Arch expects the downward trend in U.S. thermal demand to continue as incremental combined cycle gas and subsidized renewable capacity comes online, and as coal plant retirements continue. At the same time, both Atlantic and Pacific basin export markets remain closed to virtually all U.S. output given current demand and pricing levels. As discussed, Arch is taking aggressive actions across the organization to drive down costs and enhance the competitiveness of its thermal coal in the marketplace.
Arch remains sharply focused on cash preservation, and has taken steps to reduce overhead and labor costs significantly and to further trim its 2020 maintenance capital budget, which at the midpoint now stands at $60 million – down 33 percent from the company's initial 2020 guidance mid-point of $90 million issued in February.
In the second half of the year, Arch also expects cash generation to benefit from an incremental $30 to $35 million in additional receipts associated with the land settlement as well as ongoing payroll tax deferrals. In addition, Arch expects to receive proceeds from the recently completed tax-exempt bond offering in the back half of 2020 of approximately $15 million, reflecting additional qualified capital investments scheduled for completion in the third and fourth quarters.
While Arch's two thermal segments reported negative cash margins for the quarter, the company moved quickly to adjust its thermal segment cost structures to reflect reduced volume levels. During the second quarter, Arch conducted voluntary separation programs (VSPs) at each of its thermal operations, resulting in the elimination of approximately 200 positions, and bringing the number of corporate and thermal subsidiary positions eliminated to date during 2020 to more than 250. This streamlining process is expected to result in annual cost savings of more than $40 million. The company took a one-time, $7.4 million charge in the second quarter – in addition to the $5.8 million charge it took in the first quarter – related to the VSPs. All told, Arch has now reduced its combined corporate and thermal workforce by approximately 560 positions – or roughly 25 percent – over the course of the past 12 months, via VSPs and normal attrition.
"We view these adjustments as absolutely necessary given the intense competitive pressure from low-priced natural gas and subsidized renewables," Drexler said. "At the same time, we are pleased that we have been able to rightsize staffing levels and streamline the organization in a manner that serves both the company's needs and the personal interests of our employees."
With our low-cost metallurgical assets, skilled workforce, high-quality product slate, solid book of coking coal business and best-in-class metallurgical growth project, we believe Arch is poised to excel as the global economy recovers and the world returns to expansion mode," Lang concluded. Moving forward, we plan to continue our sharp focus on driving operational excellence across our mining portfolio; protecting our strong financial footing; maintaining our staunch commitment to industry-leading safety practices and environmental stewardship; and forging ahead with Leer South, which we believe will set the stage for greater cash generation and value creation in the future."