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Edited Transcript of HNRG earnings conference call or presentation 7-May-19 6:00pm GMT

Q1 2019 Hallador Energy Co Earnings Call

Denver May 15, 2019 (Thomson StreetEvents) -- Edited Transcript of Hallador Energy Co earnings conference call or presentation Tuesday, May 7, 2019 at 6:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brent K. Bilsland

Hallador Energy Company - President, CEO & Chairman

* Lawrence D. Martin

Hallador Energy Company - Executive VP & CFO

* Rebecca Palumbo

Hallador Energy Company - Director - IR

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Conference Call Participants

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* Ethan Park

* Lucas Nathaniel Pipes

B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst

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Presentation

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Operator [1]

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Good day, and welcome to the Hallador Energy First Quarter 2019 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded. I would now like to turn the conference over to Becky Palumbo, Director of Investor Relations. Please go ahead.

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Rebecca Palumbo, Hallador Energy Company - Director - IR [2]

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Thank you, Allison. Thank you, everybody, for taking the time to join us today to discuss our first quarter 2019 results. As a reminder, this event is being webcast live and you will be able to access a replay of this call on our website. We filed our first quarter Form 10-Q yesterday afternoon and it is now posted on our website.

Participating on today's call are Brent Bilsland, our President and CEO; and Larry Martin, our CFO. Larry will begin with a brief financial overview of the quarter, followed by Brent with comments on operations. After management completes their opening remarks, we will open the line up for Q&A.

Our remarks will include forward-looking statements that are subject to certain risks and uncertainties that could cause actual results to differ materially, for example, our estimates of mining costs, future coal sales and regulations relating to the Clean Air Act and other environmental initiatives. We do not undertake to update our forward-looking statements whether as a result of new information, future events or otherwise except as may be required by law.

And with that, I will turn the call over to Larry.

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Lawrence D. Martin, Hallador Energy Company - Executive VP & CFO [3]

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Thank you, Becky, and good afternoon, everybody. Before I get started, I'd like to explain a couple definitions. We define free cash flow as net income plus deferred income taxes, depreciation, depletion and amortization, ARO accretion and stock compensation less maintenance CapEx and the effects of our equity method investments. We define adjusted EBITDA as EBITDA plus stock compensation and ARO accretion less the effects of our equity method investments in Hourglass Sands.

We had, for the first quarter of 2019, we had net income of $7 million, $0.23 a share. This resulted in our free cash flow of $14.7 million. We had adjusted EBITDA of $25.2 million. We paid down debt of $20 million. And we paid dividends of $1.2 million or $0.04 a share.

Our bank debt as of 3/31/19 is now $168.5 million. Our net debt after cash, CDs and marketable securities was $157.2 million. We target our debt for the end of this year to be $150 million to $155 million. And our leverage ratio for our bank covenant on our credit agreement was 2.12x.

Now I'll turn over the call to our CEO, Brent Bilsland.

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [4]

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Thank you, Larry. We had an excellent quarter thanks to the management team and operations teams for executing our game plan perfectly. I think the numbers speak for themselves when comparing Q1 2019 results to Q1 2018 results. Our net income increased by 228%. Our adjusted EBITDA increased by 28%. Our free cash flow was up 37%. And cash provided by operations was up 58%. These results highlight the tremendous value that we believe Hallador represents.

Our cash from operations was $20.8 million in Q1 2019. This translated, as Larry previously mentioned, to $14.7 million of free cash flow in the first quarter. So if we look at our trailing 12 months of free cash flow, it's just under $40 million. And if you look at our market cap last night of $153 million, that equates to a free cash flow yield of 26% trailing 12 months. Or if you wanted to use an enterprise value of $310 million last night, that would be a 13% yield. That -- again, this is trailing 12 months.

If we look forward, here, we just had a quarter of $14.7 million, and if we take out $2.5 million for a onetime event of selling off some oil wells, our forward free cash flow looks something in the neighborhood of $50 million, which put -- would put our free cash flow based on market cap at 33% and on enterprise value at 16%. So I don't know a lot of other companies that are trading at those kind of yields.

When some people say, well, which is more indicative, your trailing 12 months or your first quarter of 2019? Well I'd point out that we are selling 850,000 more tons in 2019 than we did in 2018 or up 12%. And then the other thing to look at is our cost structure last year was elevated in the second half due to bringing on Carlisle. We ran that mine for most of the second half of the year with one unit. In the last couple of weeks of '18, we brought on the second unit. And here, we see in the first quarter our operating cost company-wide had dropped to $29.24 versus roughly $31 in the second half of 2018.

So not only do we have great yield, I think we have great free cash flow visibility because ultimately, we're -- 79% of our sales over -- for 4 years, at an 8 million-ton pace, are contracted. Over that time period, 2019 to 2022, we have 25.3 million tons committed.

So some would say, well, Hallador's trading at a high free cash flow yield due to concerns about a declining market. However, our customer base has been growing. As we've discussed in prior calls, we've nearly doubled the number of power plants we serve, from 9 power plants in 2017 to 17 power plants today, located in 8 different states. This growth in customers has led to our coal sales volume and sales revenue to increase by 25% and 28% respectively when comparing Q1 '19 to Q1 '18.

In addition to our customer growth, we're recently seen the state of Indiana, which represents 72% of our sales, further embrace and defend coal. On April 24, 2019, the Indiana Utility Regulatory Commission, IURC, approved $95 million in additional environmental controls and a coal-fired power plant that we exclusively serve. Additionally, in the same ruling, the IURC rejected the same utility's petition to close 3 coal-fired units in 2023 and replace them with combined-cycle natural gas.

We believe the IURC's decision is a material statement that the testimony regarding the utility's petition proved that existing Indiana coal generation is lower-cost than new natural gas-powered plants in the state of Indiana. Additionally, the decision showed that cost is an important factor of future cases brought before the IURC. Furthermore, out of concern for the trend of increasing electricity rates in Indiana, the legislature created a committee to study the Indiana energy policy that will release their findings by December of 2020.

We are also pleased to see a recent announcement by another one of our largest customers, that they consider their coal plant to be their "workhorse" and that the plant is both profitable and dispatching at 80% of availability. Coal is alive and well in Indiana, and so is Hallador.

So we've established that we have a great free cash flow yield. Our sales position gives us superior future free cash flow visibility. Our customer base is growing, not shrinking. And so what will we do with this stream of future cash flow?

Well, we see opportunities to continue to grow production at Sunrise Coal from 8 million tons annually to something greater. I'll remind everyone that in 2007, we only produced 1 million tons a year. And today, 12 years later, we are at 8.2 million tons projected for 2019.

Additionally, we will continue to work on developing frac sand mine -- a frac sand mine in Colorado. Now I'll admit it's taken longer than I previously anticipated to bring this mine to production, but we are making progress, and conversations are ongoing with customers.

In the meantime, we'll continue to pay down debt. Looking at our balance sheet in the first quarter, we reduced our debt by $20 million, bringing our debt owned -- owed to $168.5 million. This further reduced our leverage ratio to 2.12x, well within our 3.75x covenant. Our liquidity also improved by $8 million in the quarter to a healthy $88 million.

So in conclusion, we strongly believe that Hallador has a great free cash flow yield, superior contract visibility, a growing customer base and plenty of excellent opportunities to redeploy capital.

So with that said, I will open up the lines for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question will come from Lucas Pipes of B. Riley.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [2]

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Congratulations on the very solid performance. Just a few quick questions. When I look at the 10-Q and I look at your commitments for this year and for next, very good job. The 84% for 2020 that are committed, are those all kind of priced at $41? Or are there maybe some collars around that or are committed in unpriced tons? I just wanted to double-check that.

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Lawrence D. Martin, Hallador Energy Company - Executive VP & CFO [3]

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Well, Lucas, for the most part, we have one customer that we have to price here in the next 30 to 60 days. The rest of those tons are all -- the average price for the year is the $40.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [4]

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Got it. And that additional customer, what sort of magnitude should we be thinking about?

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Lawrence D. Martin, Hallador Energy Company - Executive VP & CFO [5]

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It's around 800,000 tons.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [6]

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Okay. Okay. Very helpful. And then of course, we've all seen the weakness in the seaborne market this year. And I wondered, Brent, what do you think of the implications for the Illinois Basin market more broadly. I understand you don't export, but how could this weakness potentially ricochet through the domestic pricing landscape? I would appreciate your thoughts.

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [7]

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Well, certainly, a lot of conversation about concern over the export market pricing as of today. I think most people that are exporting it -- again, we do not export any coal, but there certainly are significant tons in the Illinois Basin that are. Now I would argue that most of those tons come from the state of Illinois and typically don't compete well with our primary markets. Again, 72% of our coal is sold in the state of Indiana. So we certainly can see maybe some pressure on the River prices, but pricing in Indiana typically doesn't see a stronger runup and it doesn't see a stronger rundown. It's more of a -- a little bit more of an isolated market. We did price coal during the quarter and we did not see any weakness, in my mind, in those prices. So it hasn't shown up yet.

We have very little coal that we need to sell. We need to sell 2% for this year, or 200,000 tons, to hit our target. And so -- and then even looking at next year, to hit our current target, we need to sell 1.3 million tons. We see significant opportunities to do that, looking into next year. I think right now we're in the shoulder month. So everyone's focused on gas prices coming down, but -- and buyers really aren't looking to do any buying, I think, as we get into late summer and fall. Those are the traditional buying periods to finish out the summer and get everyone's book in line for 2020. So by and large, we're not overly concerned about it. And I think that kind of comes back to what we keep saying, is we think we have better cash flow visibility than anybody else because we think we have better hedges than most companies and we've been able to add so many customers here as of late, which gives us more opportunities to place those coal -- those tons that we need to place versus in the past. So we're pretty happy.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [8]

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Yes. No, it's a great job you've done, especially on the contracting side. In terms of kind of the outlook for the year and the cadence of the quarters, can you point us to maybe second quarter, third quarter, fourth quarter, things to be aware of just in terms of volume, cost, price perspective? I would appreciate your thoughts.

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [9]

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Well, I think that we've come out and said we're going to ship 8.2 million tons. We were a little ahead of that pace in the first quarter. Cost structure, especially at Carlisle, has been coming down nicely, and I think there's still room for improvement on that. But we don't -- I don't see any -- again, we're pretty much sold for the year. We've got a little work to do probably in that July, August time frame, but buyers are going to wait and see what kind of weather summer brings. So we just don't anticipate making a great deal of sales in the second quarter. That's just not traditionally when that happens. Now certainly, if they call, we're ready, willing and able. So I think it's going to be more of the same for us.

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Operator [10]

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(Operator Instructions) And we have a follow-up from Lucas Pipes of B. Riley.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [11]

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So I just wanted to kind of ask higher level how you -- you commented in your prepared remarks about how the state of Indiana is embracing coal. Good to hear. Where would you put kind of the breakeven of coal with natural gas kind of in your service markets? Obviously, in Indiana, but then also outside of Indiana, as a topic, received a lot of attention a few years back. And I just wanted to circle back on it because obviously, it's still important.

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [12]

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Well, I think that when gas gets oversupplied, it tries to price down to find a market to fill, and the power market is the market that it can fill. In the markets that we have additional transportation to, i.e., Florida, in those markets obviously gas will compete at a higher price with coal than in our backyard, where 72% of our sales are. So gas price is down in the $2.50, $2.60, the strip, basically, $2.60. To me, so far, it really hasn't had a material effect on how much coal will be considered in the state of Indiana. I think at the end of the day, there's just -- we're in the shoulder season, right? Temperatures are mild. There's not a lot to focus on other than the gas injection numbers, so we're seeing gas prices come down. I think everyone's waiting to see what kind of weather event that we have.

Gas up $2 is a problem for coal in Indiana. Coal plants will struggle to dispatch, and you'll see coal back up. Now that being said, we're contracted so our customers are obligated to take those tons through 2022. And quite frankly, I think we've got a few sales out in 2023. We just don't report that far out. But -- so it certainly -- if and when -- if that event would happen, we would certainly be in a position of strength to have discussions with customers about deferrals and that sort of thing. But today, I mean, we've seen, like I said, we just -- there were some significant buying that just happened in the last 25 days. So we got a piece of that, and quite frankly, it's kind of unique-quality coal, so we got a piece of it, but we still are seeing significant buying going on. I don't think that would be happening -- when utility came out and bought a spot purchase of 1.3 million, I think, I don't think that would be happening if people were overly concerned about gas prices. And this was a Southeast buyer, it wasn't even an Indiana buyer.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [13]

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That's very interesting. What do you think of the supply response here? It appears that it's been somewhat elusive over the last 3 years. But I would appreciate your thoughts. Do you see some of your competitors may be closing down some capacity over the coming years? Any mines in particular? If you feel so inclined to share. But I don't know if you want to share specific names or not, but if possible, any mines that might be near the end of their life, where you think that capacity could be rolling off?

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [14]

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Well, I think, in general, I mean, you've seen Peabody last quarter, came out and said that they're going to reduce their Illinois Basin supply, we think that reduction is the state of Indiana. We don't know. We recently won business with a large utility in the state of Indiana -- or excuse me, a large industrial account in Indiana that as part of that process, they agreed to -- well, they didn't agree, but they chose to close their own mine, which is 1.8 million tons coming out of the state of Indiana. That's -- I think that mine has ceased production as of today. If not, it's got a few weeks left. And we see -- I think, in general, our number is about 1/3 of Indiana production. It does not look long for this world, just from the standpoint of it's either operating at negative cash flow or it's got a reserve base that just is going to mine out. Now we certainly don't control what our competitors do, but just from gazing across the fence, it just looks like some of these assets are not long for this world. So we've tried to get ourselves in a position of where we've added more customers, we've brought on more volume. We're very comfortable with our sales position. If we needed to bring on more capacity, we could, but we would want to see a price response, I think, to do that. And when our hedges start to roll off out in 2023, we don't think there's going to be as much production still alive in the state of Indiana just due to age of some of these assets and quite frankly, to the lack of reinvestment by competitors in some of those assets. Now there's certainly some good buys in the state of Indiana. And I think most people know who those players are. But there's certainly, we think, about 1/3 that won't be here in 4 years.

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Lucas Nathaniel Pipes, B. Riley FBR, Inc., Research Division - Senior VP & Equity Analyst [15]

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Very, very interesting. And maybe you can hone in on your comment regarding Peabody. What do you have that they don't have? You obviously are signing up more customers. You've been increasing production. What do you think are some of the main drivers that account for that different direction in the production outlook between you and Peabody in Indiana?

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [16]

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Well, I think Peabody does a fine job. I think they just have a mine that is ending -- reaching the end of their reserve life. That's just -- you can't mine tons that don't exist. From our perspective, we've tried to focus on with our Princeton Loop, making ourselves more flexible from a transportation perspective and allowing customers to, hey, we can deliver you coal by truck, we can deliver you coal by the CSX, we can deliver you coal by the NS railroad. And so that's kind of led to some of the growth in our business. And additionally, a large industrial customer decided they would prefer to buy coal from us and others on long-term contracts versus produce their own coal. And so that's a very large customer for us, it's a long-term contract, and it's a material shift in our business.

So these are the things that are leading towards us gaining new customers and more success. Plus, we have -- we spent a lot of money reinvesting in our assets to keep them low cost. We think that there's other competitors that have not done that as well. There's certainly some that have, but there's certainly some that haven't. If you look at the CapEx spent per ton in the Illinois Basin, compare the public companies, and it will show you who has reinvested in coal and who hasn't, who has sucked the money out to put it into something else. And we've continued to reinvest in our assets, and I think we're having success because of that. And I think we've got a lot of runway in front of us.

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Operator [17]

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(Operator Instructions) Our next question will come from Ethan Park of Extract Capital.

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Ethan Park, [18]

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Congrats on the Q1 number. I have 2 questions for you. First of all, it does seem like you guys are making a fair bit of free cash flow for 2019. So could you give a bit more color on what you guys might be doing -- what you guys might do with the cash flow you'll generate this year? Are you guys thinking about like potentially increasing dividend? Or is your focus still on paying down the debt?

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [19]

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Well, our primary focus has been paying down debt. And a magical number for us is getting under 2x debt to EBITDA, which would -- should happen in a quarter or 2. So that's where we're at. We also are working on the sand project in Colorado, that if we can get a mine open in contract, that potentially will be a significant capital investment that we will need to make late this year, early next year. I mean that's what we're trying to accomplish, but to what size and to how that's being designed, those discussions are ongoing now. So we haven't pulled the trigger on that. We're trying to get in position to do that. But we're not there today. So those are the 2 -- so in the meantime, we're just really trying to delever our balance sheet, so that as opportunities come along, we can take advantage of those opportunities.

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Ethan Park, [20]

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Okay. And I guess the second question is do you guys expect more potential cost savings at the Carlisle Mine? I know that you guys have been ramping up your production in the second unit there. Should we expect -- or I guess do you guys have any kind of expectations on lowering unit cost there even further?

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [21]

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Well, we certainly tell our guys that they need to, and they've done a nice job. A part of that is going to be sales-dependent. If we see more sales for that particular quality of coal, we may add a third unit to that mine. But as we sit here today, that's not currently planned to do. But if a customer were willing to commit to us over a period of time, then we would look to do that, and I think that would further help the cost structure. I mean we've been pretty -- if you look at us over time, as volume goes up, our costs typically come down. We're -- today, we're saying, hey, we've got 8 million tons contracted. We think we're comfortable saying we'll sell another 200,000 in spot solicitations this summer and this fall. But beyond that, that's all we're prepared to commit to today.

And things change quickly. I mean what does a trade deal with China do to the export market? I mean that's a big wildcard out there. And that's a market that just comes and goes so quickly. So I don't get overly concerned that the number's out of the money today. What's it really matter, nobody's buying today. You know what I mean? I mean I see these market indicators and people say -- we get these newsletters that say, well, the market is here based on indications of interest. Well, nothing traded. So if nothing traded, is that really a real market? I -- we just don't put as much weight into that, into what the market is, when we don't see a lot of volume trading.

All we can tell you is we saw a buyer come out, make a large purchase. We were part of that, and pricing really didn't deteriorate. So we felt pricing has not moved materially. So from our perspective, we certainly read a lot of press, but the press has got to write something and right now, the only thing to really talk about is export prices look like they're out of the market and there are a lot of companies out there that are selling a fair amount to the export market. Most of those tons don't flow well to Indiana, so I'm not sure where they're going to go. I spent a lot of time professing about that, but I don't think they come back to Indiana.

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Operator [22]

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Ladies and gentlemen, this will conclude our question-and-answer session. At this time, I'd like to turn the conference back over to Brent Bilsland for any closing remarks.

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Brent K. Bilsland, Hallador Energy Company - President, CEO & Chairman [23]

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Well, I want to thank everyone for joining our call today and all the questions. Again, we're very happy with our business. We had a fantastic quarter, and I think we've got more great quarters in front of us. So with that said, thank you for calling.

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Operator [24]

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The conference is now concluded. We thank you for attending today's presentation. You may all now disconnect your lines.