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RNO > SEC Filings for RNO > Form 10-Q on 9-Nov-2012All Recent SEC Filings

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Form 10-Q for RHINO RESOURCE PARTNERS LP


9-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Unless the context clearly indicates otherwise, references in this report to "we," "our," "us" or similar terms refer to Rhino Resource Partners LP and its subsidiaries. References to our "general partner" refer to Rhino GP LLC, the general partner of Rhino Resource Partners LP. The following discussion of the historical financial condition and results of operations should be read in conjunction with the historical audited consolidated financial statements and accompanying notes of our Annual Report on Form 10-K for the year ended December 31, 2011 and the section "Management's Discussion and Analysis of Financial Condition and Results of Operations" for the year ended December 31, 2011 included in this Annual Report on Form 10-K.

In addition, this discussion includes forward-looking statements that are subject to risks and uncertainties that may result in actual results differing from statements we make. See the section "Cautionary Note Regarding Forward- Looking Statements". In addition, factors that could cause actual results to differ include those risks and uncertainties discussed in Part I, Item 1A. "Risk Factors" also included in our Annual Report on Form 10-K for the year ended December 31, 2011.

Overview

We are a growth oriented Delaware limited partnership formed to control and operate coal properties and invest in other natural resource assets. We produce, process and sell high quality coal of various steam and metallurgical grades. We market our steam coal primarily to electric utility companies as fuel for their steam powered generators. Customers for our metallurgical coal are primarily steel and coke producers who use our coal to produce coke, which is used as a raw material in the steel manufacturing process. In addition to operating coal properties, we manage and lease coal properties and collect royalties from those management and leasing activities. In addition to our coal operations, we have invested in oil and gas mineral rights that began to generate royalty revenues in early 2012.

We have a geographically diverse asset base with coal reserves located in Central Appalachia, Northern Appalachia, the Illinois Basin and the Western Bituminous region. As of December 31, 2011, we controlled an estimated 437.0 million tons of proven and probable coal reserves, consisting of an estimated 415.6 million tons of steam coal and an estimated 21.4 million tons of metallurgical coal. In addition, as of December 31, 2011, we controlled an estimated 417.1 million tons of non-reserve coal deposits. As of December 31, 2011, Rhino Eastern LLC, a joint venture in which we have a 51% membership interest and for which we serve as manager, controlled an estimated 43.4 million tons of proven and probable coal reserves at the Rhino Eastern mining complex located in Central Appalachia, consisting entirely of premium mid-vol and low-vol metallurgical coal, and an estimated 17.9 million tons of non-reserve coal deposits.


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Our principal business strategy is to safely, efficiently and profitably produce, sell and lease both steam and metallurgical coal from our diverse asset base in order to maintain and, over time, increase our quarterly cash distributions. In addition, we intend to expand our operations through strategic acquisitions, including the acquisition of stable, cash generating natural resource assets. We believe that such assets would allow us to grow our cash available for distribution and enhance stability of our cash flow.

During June 2012, we idled a majority of our operations at our Central Appalachia locations in eastern Kentucky and West Virginia to decrease our inventory. The idling of these operations was taken in response to inventory levels that had grown as we experienced continuing weakness in the coal markers that saw customers delaying a portion of their contracted shipments. We resumed operations at a majority of our Central Appalachia locations on July 9, 2012. Our operations at our two surface mines and one underground mine in Ohio as well as our underground mine in Utah continued to operate during the second and third quarters of 2012. In addition, our joint venture continued to operate two underground mines in West Virginia. In addition, we have one underground mine in Colorado that has been temporarily idled. The number of mines that we operate may vary from time to time depending on a number of factors, including the demand for and price of coal, depletion of economically recoverable reserves and availability of experienced labor.

For the three and nine months ended September 30, 2012, we generated revenues of approximately $93.6 million and approximately $265.5 million, respectively, and net income of approximately $8.9 million and approximately $30.8 million, respectively. Excluding results from the joint venture, for the three and nine months ended September 30, 2012, we produced and sold approximately 1.3 million tons and approximately 3.5 million tons of coal, respectively. For the three and nine months ended September 30, 2012, approximately 89% and 90% of tons sold, respectively, were sold pursuant to supply contracts. Additionally, the joint venture produced and sold approximately 0.1 million tons and 0.3 million tons, respectively, of premium mid-vol metallurgical coal for the three and nine months ended September 30, 2012.

Recent Developments

Patriot Coal Corporation Bankruptcy

We have a 51% equity interest in the Rhino Eastern joint venture, with Patriot Coal Corporation ("Patriot") owning the remaining membership interest. On July 9, 2012, Patriot filed for Chapter 11 bankruptcy protection. While the long term impact of the Patriot bankruptcy filing on the Rhino Eastern joint venture remains uncertain at this point, normal operations have continued at the joint venture and thus far the bankruptcy filing has not had a material negative effect on Rhino Eastern.

Joint Venture and Other Investments

In March 2012, we made an initial investment of approximately $0.1 million in a new joint venture, Timber Wolf, with affiliates of Wexford Capital. Timber Wolf was formed to construct and operate a condensate river terminal that will provide barge trans-loading services for parties conducting activities in the Utica Shale region of eastern Ohio. The initial investment was our proportionate minority ownership share to purchase land for the construction site of the


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condensate river terminal. Timber Wolf had no operating activities during the nine months ended September 30, 2012.

In addition, during the second quarter of 2012 we formed a services company to provide drill pad construction services in the Utica Shale for drilling operators. This services company completed the construction of two drill pads during the third quarter of 2012.

Coal Acquisitions

Acquisition of Coal Property

In May 2012, we completed the purchase of certain rights to coal leases and surface property located in Daviess and McLean counties in western Kentucky for approximately $1.5 million. In addition, we could potentially be required to pay an additional $3.0 million related to this acquisition if certain conditions are met. Of that amount, $2.0 million was recorded in our unaudited condensed consolidated statements of financial position as of June 30, 2012 in Property, plant and equipment and Accrued expenses related to this acquisition since this additional amount related to the purchase of these assets was probable and estimable. The remaining $1.0 million in potential payments has not been recorded because the conditions requiring payment of this amount are currently not probable.

During the three months ended September 30, 2012, we paid $1.6 million of the $2.0 million that was accrued related to the acquisition since the conditions requiring payment had been met. The remaining accrued balance of $0.4 million is recorded in our unaudited condensed consolidated statements of financial position as of September 30, 2012 since the conditions remained probable and estimable.

The coal leases and property are estimated to contain approximately 30 million tons of non-reserve coal deposits that are contiguous to the Green River. The property is undeveloped, but fully permitted, and provides us with access to Illinois Basin coal that is adjacent to a navigable waterway, which could be exported to non-U.S. customers.

In August 2011, we purchased non-reserve coal deposits at our Sands Hill operation for approximately $2.5 million, which is estimated to include approximately 2.5 million tons.

In June 2011, we acquired approximately 32,600 acres and associated surface rights in Randolph and Upshur Counties, West Virginia for approximately $7.5 million. These development stage properties are not permitted and contain no infrastructure. We plan to fully explore these properties and intend to prove up additional mineable underground metallurgical coal reserves for future mining.

Acquisition of The Elk Horn Coal Company, LLC

In June 2011, we completed the acquisition of 100% of the ownership interests in Elk Horn for approximately $119.7 million in cash consideration. Elk Horn is primarily a coal leasing company located in eastern Kentucky that provides us with royalty revenues. The Elk Horn acquisition was funded with borrowings available under our credit facility, which were subsequently repaid with proceeds from an offering of our common units.


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Oil and Gas Investments

During the year ended 2011, we completed the acquisition of certain oil and gas mineral rights in the Cana Woodford region of western Oklahoma for a total purchase price of approximately $8.1 million. We began to receive royalty revenues from these mineral rights in early 2012.

We and an affiliate of Wexford Capital have participated with Gulfport Energy ("Gulfport"), a publicly traded company, to acquire interests in a portfolio of oil and gas leases in the Utica Shale. As of March 13, 2012, an affiliate of Wexford Capital owned approximately 9.5% of the common stock of Gulfport. During the year ended December 31, 2011, we completed the acquisitions of interests in a portfolio of leases in the Utica Shale region of eastern Ohio for a total purchase price of approximately $19.9 million. Gulfport is actively drilling in the Utica acreage and during the third quarter, Gulfport released results from three test wells that had been drilled on our acreage, which we believe are very positive due to the amount of hydrocarbon liquids contained in these wells.

Our initial position in the Utica Shale consisted of a 10.8% interest in approximately 80,000 acres. During the third quarter of 2012, the board of directors of our general partner approved and we completed an exchange of our initial 10.8% position for a pro rata interest in 125,000 acres under lease by Gulfport and an affiliate of Wexford Capital. Also during the third quarter of 2012, our position was adjusted to a 5% net interest in the 125,000 acres, or approximately 6,250 net acres. In addition, per the joint operating agreement completed between us, Gulfport and an affiliate of Wexford Capital, we have funded our proportionate share of drilling costs to Gulfport for wells being drilled on our acreage. For the three and nine months ended September 30, 2012, we funded approximately $3.2 million of drilling costs that are included in Oil and gas properties in our unaudited condensed consolidated statements of financial position as of September 30, 2012. No revenues have been recognized by us on our Utica Shale investment for the three and nine months ended September 30, 2012.

In March 2012, we completed an out-lease agreement with a third party for an estimated 1,500 acres we own in the Utica Shale region of Harrison County Ohio. The lease agreement is for an initial five year term with an optional three year renewal period and conveys rights to the lessee to perform drilling and operating activities for producing oil, natural gas or other hydrocarbons. As part of the lease agreement, the third party agreed to pay us the sum of $6,000 per acre as a lease bonus, of which $0.5 million was paid at the signing of the lease agreement. An additional $6.9 million was paid in the second quarter of 2012 totaling approximately $7.4 million of lease bonus payments for approximately 1,232 acres. We are working to resolve title issues on approximately 250 remaining acres to be included in the lease. In addition, the lease agreement stipulates that the third party shall pay us a 20% royalty based upon the gross proceeds received from the sale of oil and/or natural gas recovered from the leased property.

Sale of Triad Operations

In August 2012, we sold the operations and tangible assets of our roof bolt manufacturing company, Triad Roof Support Systems, LLC ("Triad"), to a third party for $0.5 million of cash consideration. As part of the sale, we retained the rights to certain intellectual property and


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entered into an exclusive license and option to purchase agreement for this intellectual property with the same third party for potential additional cash consideration. We have not recorded any portion of this additional consideration since this amount is contingent upon the third party determining the viability of the related intellectual property to their specifications. In connection with this sale, we recorded an approximate $0.2 million gain that is recorded on the (Gain) loss on sale/acquisition of assets-net line of our unaudited condensed consolidated statements of operations and comprehensive income.

Sale of Mining Assets

In February 2012, the Partnership sold certain non-core mining assets located in Pike County, Kentucky to a third party for approximately $0.6 million. The transaction also extinguished certain liabilities related to the assets sold. In relation to the sale of these assets and extinguishment of liabilities, we recorded a gain of approximately $0.9 million, which was higher than the sales amount due to the extinguishment of the liabilities.

In August 2011, we sold and assigned certain non-core mining assets and related liabilities located in the Phelps, Kentucky area of our Tug River mining complex for approximately $20 million. The mining assets included leasehold interests and permits to surface and mineral interests that included steam coal reserves and non-reserve coal deposits. Additionally, the sales agreement includes the potential for additional payments of approximately $8.75 million dependent upon the future issuance of certain permits and the commencement of mining activities by the purchaser. These contingent payments are being accounted for as gain contingencies and will be recognized in the future when and if the contingencies are resolved. The transaction also transferred certain liabilities related to the assets sold. Since we had limited mining operations on the assets that were sold, we believe the sale of these assets have not had a negative impact on our future financial results. In relation to the sale of these assets and transfer of liabilities, we recorded a gain of approximately $2.4 million.

Follow-on Offering

On July 18, 2011, we completed a public offering of 2,875,000 common units, representing limited partner interests in us, at a price of $24.50 per common unit. Of the common units issued, 375,000 units were issued in connection with the exercise of the underwriters' option to purchase additional units. Net proceeds from the offering were approximately $66.4 million, after deducting underwriting discounts and offering expenses of approximately $4.1 million. We used the net proceeds from this offering, and a related capital contribution by our general partner of approximately $1.4 million, to repay approximately $67.8 million of outstanding indebtedness under our credit facility.

Credit Facility

On July 29, 2011, we executed an amended and restated senior secured credit facility with PNC Bank, N.A., as administrative agent, and a group of lenders, which are parties thereto. The maximum availability under the amended and restated credit facility is $300.0 million, with a one-time option to increase the availability by an amount not to exceed $50.0 million.


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Proposed Carbon Emission Rules

On March 27, 2012, the Environmental Protection Agency ("EPA") proposed New Source Performance Standards ("NSPS") for carbon dioxide emissions from new and modified electric power. The proposed NSPS, if promulgated along the lines proposed, would pose significant challenges for the construction of new coal-fired power plants and could result in a decrease in U.S. demand for steam coal.

Factors That Impact Our Business

Our results of operations in the near term could be impacted by a number of factors, including (1) adverse weather conditions and natural disasters,
(2) poor mining conditions resulting from geological conditions or the effects of prior mining, (3) equipment problems at mining locations, (4) the availability of transportation for coal shipments or (5) the availability and costs of key supplies and commodities such as steel, diesel fuel and explosives.

On a long-term basis, our results of operations could be impacted by, among other factors, (1) changes in governmental regulation, (2) the availability and prices of competing electricity-generation fuels, (3) our ability to secure or acquire high-quality coal reserves and (4) our ability to find buyers for coal under favorable supply contracts.

Most often our coal is sold through supply contracts and we anticipate that we will continue to do so. As of September 30, 2012, we had commitments under sales contracts to deliver annually scheduled base quantities of approximately 1.1 million, approximately 3.6 million, approximately 2.4 million, approximately 0.8 million and approximately 0.3 million tons of coal to 18 customers in 2012, 12 customers in 2013, 7 customers in 2014, 3 customers in 2015 and 1 customer in 2016, respectively. Some of the contracts have sales price adjustment provisions, subject to certain limitations and adjustments, based on a variety of factors and indices.

We received a notice from one of our major customers in early April 2012 announcing it would be delaying some of its contracted steam coal shipments from our Central Appalachia and Northern Appalachia operations for an undefined period of time due to an over-supply of coal at its locations. This customer resumed purchasing regularly scheduled contracted tons during June and purchased regularly scheduled contracted tons during the third quarter of 2012. We continue to work with this customer to deliver contracted shipments that were delayed earlier in 2012.

Results of Operations

Segment Information

We conduct business through four reportable business segments: Central Appalachia, Northern Appalachia, Eastern Met and Rhino Western. Additionally, we have an Other category that includes our ancillary businesses. Our Central Appalachia segment consists of three mining complexes: Tug River, Rob Fork and Deane, which are located in eastern Kentucky and southern West Virginia. Additionally, our Central Appalachia segment includes the Elk Horn operations. Our Northern Appalachia segment consists of the Hopedale mining complex, the Sands Hill


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mining complex, the Leesville field and the Springdale field. The Hopedale mining complex, located in northern Ohio, included one underground mine and one preparation plant and loadout facility as of September 30, 2012. Our Sands Hill mining complex, located in southern Ohio, included two surface mines, a preparation plant and a river terminal as of September 30, 2012. Our Rhino Western segment includes our two underground mines in the Western Bituminous region that consist of our McClane Canyon mine in Colorado that has been temporarily idled since the end of 2010, and remained idle at September 30, 2012, and our Castle Valley mining complex in Utah that began production in January 2011. The Eastern Met segment includes our 51% equity interest in the results of operations of the Rhino Eastern joint venture, which owns the Rhino Eastern mining complex, located in West Virginia, and for which we serve as manager. As of September 30, 2012, this complex was comprised of two underground mines and a preparation plant and loadout facility (owned by our joint venture partner). Our Other category includes our ancillary businesses that consist of limestone operations and various businesses that provide support services such as reclamation, maintenance and transportation, the cost of which is reflected in our cost of operations, and our investments in oil and gas mineral rights. Our Other category included our Triad roof bolt manufacturing operations during 2011 and the portion of 2012 until this operation was sold on August 31, 2012.

Evaluating Our Results of Operations

Our management uses a variety of financial measurements to analyze our performance, including (1) Adjusted EBITDA, (2) coal revenues per ton and
(3) cost of operations per ton.

Adjusted EBITDA. The discussion of our results of operations below includes references to, and analysis of, our segments' Adjusted EBITDA results. Adjusted EBITDA represents net income before deducting interest expense, income taxes and depreciation, depletion and amortization, including our proportionate share of these expense items from our Rhino Eastern LLC joint venture, while also excluding certain non-recurring items. Adjusted EBITDA is used by management primarily as a measure of our segments' operating performance. Adjusted EBITDA should not be considered an alternative to net income, income from operations, cash flows from operating activities or any other measure of financial performance or liquidity presented in accordance with GAAP. Because not all companies calculate Adjusted EBITDA identically, our calculation may not be comparable to similarly titled measures of other companies. Please read "-Reconciliation of Adjusted EBITDA to Net Income by Segment" for reconciliations of Adjusted EBITDA to net income by segment for each of the periods indicated.

Coal Revenues Per Ton. Coal revenues per ton represents coal revenues divided by tons of coal sold. Coal revenues per ton is a key indicator of our effectiveness in obtaining favorable prices for our product.

Cost of Operations Per Ton. Cost of operations per ton sold represents the cost of operations (exclusive of depreciation, depletion and amortization) divided by tons of coal sold. Management uses this measurement as a key indicator of the efficiency of operations.


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Summary



The following table sets forth certain information regarding our revenues,
operating expenses, other income and expenses, and operational data for the
three and nine months ended September 30, 2012 and 2011:



                                              Three months ended         Nine months ended
                                                September 30,              September 30,
                                              2012          2011          2012         2011
                                                             (in millions)
Statement of Operations Data:
Total revenues                             $     93.6    $     93.6    $    265.5    $  266.2
Costs and expenses:
Cost of operations (exclusive of
depreciation, depletion and
amortization shown separately below)             69.4          69.0         186.7       197.5
Freight and handling costs                        1.5           1.3           4.6         3.3
Depreciation, depletion and
amortization                                     10.0           9.2          30.9        26.5
Selling, general and administrative
(exclusive of depreciation, depletion
and amortization shown separately
above)                                            4.7           6.4          15.1        15.4
(Gain) on sale of assets                         (1.2 )        (2.7 )        (2.2 )      (2.8 )
Income from operations                            9.2          10.4          30.4        26.3
Interest and other income (expense):
Interest expense                                 (2.1 )        (1.9 )        (5.9 )      (4.2 )
Interest income                                     -             -           0.1         0.1
Equity in net income (loss) of
unconsolidated affiliate                          1.8           1.3           6.2         3.2
Total interest and other income
(expense)                                        (0.3 )        (0.6 )         0.4        (0.9 )
Net income                                 $      8.9    $      9.8    $     30.8    $   25.4

Other Financial Data
Adjusted EBITDA                            $     21.3    $     21.3    $     68.6    $   57.4

Three Months Ended September 30, 2012 Compared to Three Months Ended September 30, 2011

Summary. For the three months ended September 30, 2012, our total revenues were relatively flat period to period at $93.6 million as increased sales period to period in our Rhino Western operations were offset by decreases in sales in our Central Appalachia and Northern Appalachia operations. We sold 1.3 million tons of coal for the three months ended September 30, 2012, which is a 4.4% increase compared to the tons of coal sold for the three months ended September 30, 2011. This increase in tons sold compared to the prior year was primarily the result of increased sales from our Castle Valley mine as this operation was producing at a lower capacity in 2011 as it was being brought up to full production compared to being operated at normal capacity in the third quarter of 2012. The increased tons sold and coal revenue from


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Castle Valley year to year were partially offset by continued weak demand in the met and steam coal markets that resulted in lower coal revenues and tons sold for our Central Appalachia and Northern Appalachia segments for the three months ended September 30, 2012 compared to the same period in 2011. We believe the weak demand in the steam coal markets was primarily driven by an unseasonably mild winter along with an over-supply of low priced natural gas, both of which resulted in an increase of coal inventory supplies at electric utilities and fewer tons of steam coal being utilized in electricity generation. We believe the weak demand in the met coal markets was primarily driven by a decrease in world-wide steel production due to economic weakness in China and Europe.

Net income decreased slightly while Adjusted EBITDA was flat for the three months ended September 30, 2012 compared to the three months ended September 30, 2011. Net income was approximately $8.9 million for the three months ended September 30, 2012 compared to approximately $9.8 million for the three months ended September 30, 2011. Net income was positively impacted period to period due to $1.8 million of income from our Rhino Eastern joint venture for the three . . .

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