No Cave-In at Massey Energy From Upper Big Branch Mine Explosion

A methane-gas explosion flashed through Massey Energy's (MEE) Upper Big Branch on April 5, killing 29 coal miners. As federal investigators sift through the ruins, looking to confirm the cause, one certainty is known: the accident will prove more devastating to the mourning families than to the financials of the mine operator.

Massey is the largest coal producer in the Central Appalachian region, with operations in Kentucky, Virginia and West Virginia. In first-quarter 2010, steam coal (used as fuel in electric power utilities) and metallurgical coal shipments (primarily to steel producers) totaled 6.1 million tons and 2.4 million tons, respectively, at average prices of $58.88 and $84.30 per ton, according to the quarterly regulatory filing.

Management said that prior to the accident that it would mine between 37 million and 41 million tons this year. Its current guidance is at the low-end of that estimate. The loss of production from the Upper Big Branch (UBB) mine in West Virginia is expected to interrupt about 1.6 million tons of metallurgical coal during the last three quarters of 2010, or about 20 percent of aggregate metallurgical tonnage. The company doesn't believe it can replace all of the planned UBB production for 2010. President Baxter Phillips told analysts on the first-quarter 2010 earnings call that adding Saturday production at other metallurgical coal operations would offset about 1.3 million tons in UBB lost shipments. Massey didn't carry business interruption insurance for the UBB mine. Although the specific cost structure of this particular mine is unknown, given prior management guidance of an anticipated average sales price of $91 per ton from UBB and an average cash cost of $55 per ton, one could estimate that the lost contribution in EBITDA from the UBB mine for the last three quarters of 2010 is about $56 million.

With UBB down, replacement revenue will likely fall short of $91 per ton, too, as only about 30 percent of the mitigation tonnage is of the (high) similar quality as UBB, said Group Operations VP Mark Clemens on the earnings call. That said, better global business prospects -- and an upswing in demand -- has resulted in the company raising its mixed average sales price per ton from $67 - $70 up to $70.50 - $72 per ton.

Moving forward into 2011, Massey should be able to make up any lost UBB output from its recent acquisition of privately held Cumberland Resources. About 4.8 million tons of the coal producer's yearly output is metallurgical quality coal, and Massey believes it could produce some five-million tons a year of metallurgical quality coal with existing Cumberland assets (without any additional development capital).

Massey has the liquidity to outrun near-term production losses expected from UBB. Subsequent to the April closing of the Cumberland purchase, Massey had cash equivalents of about $580 million (plus $98.6 million available from its credit facility). Massey's total debt of $1.3 billion -- about 42.4 percent of total book capitalization -- is manageable, as the majority of scheduled maturities extend to 2013 and beyond.

Chairman and chief executive Don Blankenship and the board are walking the thin red line, consoling the families of the dead while simultaneously exuding confidence to employees and shareholders alike of the company's bright prospects come tomorrow.

Remarkably, in the worst-case scenario, Blankenship anticipates longer-term liability costs totaling no more than $150 million related to compensatory benefits paid to the families of the 29 fallen miners, costs associated with the rescue and recovery efforts, insurance deductibles, and federal/state fines. Then again, West Virginia is coal country: a review of judicial proceedings involving Massey in recent years, from alleged unfair labor practices to property damage (including environmental litigation), shows an overwhelming propensity of the courts -- all the way up to the West Virginia Supreme Court -- to rule in favor of the company.

The biggest risk to Massey is federal mining investigators or regulatory agencies finding outright negligence on the part of the company -- and consequently expanding closures to other company mines.

The anti-coal activists in the Obama administration are likely drooling at the prospect of using the UBB accident as justification for increasing safety regulations, from more costly ventilation systems to improved underground communications equipment -- all of which will drive up current tonnage costs and squeeze margins.

Nonetheless, in a landscape scarred from mountain top mining, polluted watersheds, and black lung disease, when the dust settles on this latest coal mine disaster, Massey will survive. West Virginia is coal country.