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CNX > SEC Filings for CNX > Form 10-Q on 7-May-2013All Recent SEC Filings

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Form 10-Q for CONSOL ENERGY INC


7-May-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

General
For most of the first quarter, warmer than normal temperatures kept downward pressure on thermal and natural gas prices. Domestic electric generation increased 3% during the first quarter versus the same period in 2012. Although global economic uncertainties persisted, disciplined production from coal, flat natural gas production growth, and favorable late winter weather helped reduce inventories and raise prices.

First quarter coal consumption was aided by below average temperatures in March. As natural gas prices rose towards $4.00/MMbtu, electric generation continued to switch back to traditional coal-fired generators. Early government estimates show that coal-fired generation produced 40% of U. S. power during the first quarter compared with 36% during the same period in 2012. Comparatively, the percentage dropped from 40% in fourth quarter 2011 to 36% in first quarter of 2012. The 2013 first quarter percentage is consistent with the percentage in fourth quarter 2012. Utility stockpiles declined throughout the quarter versus 2012 periods. A late winter cold snap, a rise in natural gas prices, and domestic coal production cuts contributed to continued stabilization of coal prices.

In the longer term, the outlook for domestic thermal coal continues to face regulatory challenges. With the upcoming 2015 deadline for the U.S. Environmental Protection Agency's Mercury and Air Toxics Standards (MATS) rule, utilities are retiring smaller and less efficient coal-fired units.

Internationally, U.S. exports are expected to slightly decline in 2013 after a record year in 2012. However, early government data suggests that first quarter exports are up slightly over the year ago period. Longer-term fundamentals for U.S. thermal coal exports remain favorable as subsidized mining in Europe is phased out, nuclear growth plans are curtailed, and coal continues to maintain a cost advantage over other more expensive oil-linked fuels.

Also during the first quarter, metallurgical coal benchmark prices remained below the comparable 2012 period. The U.S. first quarter international benchmark price for premium metallurgical coal settled 3% lower than the U.S. fourth quarter settlement, before recovering 4% for the U.S. second quarter settlement. The low price environment is indicative of the continued oversupplied position of the global metallurgical coal market.

Global steel production has remained under pressure as a result of limited demand growth and steel mill overcapacity. The Amonate Complex has remained idled since September 2012 in response to weak market conditions and low price realization.

CONSOL Energy's coal sales outlook is as follows:

                                              Q2 2013              2013             2014           2015
Estimated Coal Sales (millions of tons)     13.25 - 13.75       55.5 - 57.5           62.6           63.9
   Est. Low-Vol Met Sales                        0.9 -1.0           4.0-4.2            5.3            5.3
    Tonnage: Firm                                     0.6               2.3            N/A            N/A
    Avg. Price: Sold (Firm)               $        108.58     $      107.17            N/A            N/A
   Est. High-Vol Met Sales                           0.5+              1.7+            4.8            6.4
    Tonnage: Firm                                     0.3               1.2            0.2            0.2
    Avg. Price: Sold (Firm)               $         62.97     $       65.74     $    75.53     $    74.74
   Est. Thermal Sales                               12.1+             49.8+           51.9           51.5
    Tonnage: Firm                                    11.8              49.4           25.5           14.5
    Avg. Price: Sold (Firm)               $         57.99     $        58.8     $    59.94     $    61.12

Note: While most of the data in the table are single point estimates, the inherent uncertainty of markets and mining operations means that investors should consider a reasonable range around these estimates. N/A means not available or not forecast. CONSOL has chosen not to forecast prices for open tonnage due to ongoing customer negotiations. In the thermal sales category, the open tonnage includes two items: sold, but unpriced tons and collared tons. Collared tons in 2014 are 7.0 million tons, with a ceiling of $55.90 per ton and a floor of $46.32 per ton. Collared tons in 2015 are 8.7 million tons, with a ceiling of $57.43 per ton and a floor of $44.86 per ton. Calendar years 2013, 2014 and 2015 include 0.1, 0.6, and 0.7 million tons, respectively, from Amonate. The Amonate tons are not included in the category breakdowns.


CONSOL Energy expects its net gas production to be between 170 - 180 Bcf for the year. Second quarter gas production, net to CONSOL Energy, is expected to be approximately 38 - 40 Bcf.

Several significant transactions occurred in the three months ended March 31, 2013. These transactions include the following:

CNX Gas Company completed negotiations with the Allegheny County Airport Authority, which operates the Pittsburgh International Airport and the Allegheny County Airport, for the lease of the oil and gas rights on approximately 9.3 thousand acres. A majority of these contiguous acres are in the liquids area of the Marcellus Shale play. CNX Gas Company paid $46.3 million as an up-front bonus payment at closing. Approximately 7.6% percent of the bonus payment was placed into escrow while negotiations continue for a portion of the acres associated with the Allegheny County Airport and other acres that have potentially defective title. CNX Gas Company must spud a well by February 21, 2015 and proceed with due diligence to complete the well or the lease terminates and CNX Gas forgoes the bonus. Our joint venture partner, Noble Energy, has indicated that it intends to acquire 50% of the acreage and accordingly, incur 50% of the associated costs.

Pension settlement accounting required the acceleration of previously unrecognized actuarial losses due to lump sum payments from the Company's salary retirement pension plan exceeding the annual projected service and interest costs of the plan. The pension settlement resulted in $27.1 million pre-tax expense adjustment. Many of the lump sum payments in the three months ended March 31, 2013 were paid to employees who elected to retire under the 2012 Voluntary Severance Incentive program. Also, pension settlement required the pension plan to be remeasured using updated assumptions at March 31, 2013. The updated assumptions include resetting the discount rate used in the actuarial calculation. See Note 3- Components of Pension and Other Postretirement Benefit (OPEB) Plans Net Periodic Benefit Costs, in the Notes to the Unaudited Consolidated Financial Statements included in this Form 10-Q for additional details of the updated assumptions.

In the three months ended March 31, 2013, an agreement in principle was reached for resolution of the class actions brought by shareholders of CNX Gas challenging the tender offer by CONSOL Energy to acquire all the shares of CNX Gas common stock that CONSOL Energy did not already own for $38.25 per share in May 2010 in principle. The total settlement provides for a payment to the plaintiffs of $42.73 million, of which the company expects to pay $20.20 million. This settlement is subject to court approval and to the execution of final agreements with the parties. See Note 11 - Commitments and Contingencies, in the Notes to the Unaudited Consolidated Financial Statements included in this Form 10-Q for additional details.

On March 12, 2013, smoke was detected exiting the Orndoff shaft at CONSOL Energy's Blacksville No. 2 Mine near Wayne in Greene County, PA. All day shift underground employees were safely evacuated and no one sustained injuries. The location of the fire was identified and containment and extinguishment procedures were followed. The fire was successfully extinguished. It is unknown when mine operations will resume. This event resulted in pre-tax expense adjustment of $15.2 million in the quarter ended March 31, 2013.

A review of certain titles in the company's Marcellus Shale acreage, continued throughout the three months ended March 31, 2013. As part of the title defect process the company is working through with its joint venture partner, Noble Energy, CONSOL Energy conceded title defects on acreage which had a book value to CONSOL Energy of $6.3 million.

CONSOL Energy continues to manage several significant matters that may affect our business and impact our financial results in the future including the following:

Challenges in the overall environment in which we operate create increased risks that we must continuously monitor and manage. These risks include increased scrutiny of existing safety regulations and the development of new safety regulations and additional environmental restrictions.

Federal and state environmental regulators are reviewing our operations more closely and are more strictly interpreting and enforcing existing environmental laws and regulations, resulting in increased costs and delays.

Federal and state regulators have proposed regulations which, if adopted, would adversely impact our business. These proposed regulations could require significant changes in the manner in which we operate and/or would increase the cost of our operations. For example, the Department of Interior, Office of Surface Mining Reclamation and Enforcement (OSM) is currently preparing an environmental impact statement relating to OSM's consideration of five alternatives for amending its coal mining stream protection rules. All of the alternatives, except the no action alternative, could make it more costly to mine our coal and/or could eliminate the ability to mine some of our coal. OSM has indicated that it will not issue a draft rule or a draft environmental impact statement until sometime in 2014. Other examples are the Mercury and Air Toxic Standards (MATS) (remanded by the court and reproposed by the EPA in November 2012) and the Utility Maximum Achievable Control Technology (Utility MACTS) rules issued by the


EPA. These new regulations set mercury and air toxic standards for new and existing coal and oil fired electric utility steam generating units and include more stringent new source performance standards (NSPS) for particulate matter (PM), SO2 and NOx. EPA reconsidered the UMACT rules and recently finalized revised new source performance standards for coal based power plants which raised some emission limits. The standards remain stringent and costly for compliance. On April 18, 2012, the EPA published new final New Source Performance Standards for gas wells and related facilities. These rules apply to wells that were hydraulically fractured after August 23, 2011 and require the implementation by January 1, 2015 of technologies that capture the gas that is currently vented or flared during completion (hydrofracturing) of a well. Low pressure wells, including coalbed methane wells, are excluded from these new standards.
In April 2012, the EPA published its proposed New Source Performance Standards (NSPS) for carbon dioxide emissions from coal powered electric generating units. The proposed rules will apply to new power plants and to existing plants that make major modifications. If the rules are adopted as proposed, the only new coal fired power plants that will be able to meet the proposed emission limits will be coal fired plants with carbon dioxide capture and storage (CCS). Commercial scale CCS is not likely to be available in the near future, and if available, it may make coal fired electric generation units uneconomical compared to new gas fired electric generation units. Thus, if finalized the proposed rules could seriously threaten the construction of new coal fired electric generating units. EPA did not meet an April 13, 2013 deadline to publish final rules and, according to EPA, no specific timetable is set to publish the final rules.

CONSOL Energy surface coal mining operations in West Virginia are subject to several citizen suits and several citizen groups' Notices of Intent to Sue relating to alleged violations of water discharge permits from the coal mining operations. In each of these matters, CONSOL Energy investigates the complaints, if necessary develops and implements compliance plans, and defends the citizen suits as appropriate.

In late June 2012, CONSOL Energy received informal notification from the Pennsylvania Department of Environmental Protection of the Department's intent pursuant to a Technical Guidance Document entitled "Surface Water Protection-Underground Bituminous Coal Mining" to require a change in the mine plan of a pending application for a permit for expansion of the Company's Bailey longwall mine. If ultimately required, this change in mine plan could have a material effect on CONSOL Energy's forecasted production for 2015. Although CONSOL Energy does not agree that a modification of its mining plan is necessary to comply with applicable regulatory performance standards, CONSOL Energy is currently reviewing the notification and any modifications that would be required if CONSOL Energy is compelled to modify its application.

Under our joint venture agreements with Noble Energy and Hess, each of them has the right to perform due diligence on the title to the oil and gas interests which we conveyed to them and to assert that title to the acreage is defective. If they establish any title defects which are not resolved in favor of CONSOL Energy or if the subject acreage is reassigned to us at our request, then subject to certain deductibles, Noble's and Hess's respective aggregate carried cost obligation under the joint venture agreements will be reduced by the value the parties previously allocated to the affected acreage in the transaction. If a significant percentage of the oil and gas interests we contributed have title defects, the carried costs could be materially reduced and our aggregate share of the drilling and completion costs for wells in these joint ventures could materially increase. See Note 8 - Property, Plant and Equipment in the Notes to the Unaudited Consolidated Financial Statements included in this Form 10-Q for additional details.

Additional pension settlement charges are reasonably possible to occur throughout the remainder of 2013. When lump sum payments from the pension plan exceed the service and interest expense, pension settlement accounting requires unamortized actuarial gains and losses related to the lump sum payouts be amortized immediately. The threshold for pension settlement has been reached as of March 31, 2013 and the corresponding charge has been recognized as discussed above. Additional pension settlement charges throughout the remainder of 2013 could be material to the financial results of CONSOL Energy.

CONSOL Energy continues to explore potential sales of assets.


Results of Operations
Three Months Ended March 31, 2013 Compared with Three Months Ended March 31, 2012

Net Income Attributable to CONSOL Energy Shareholders CONSOL Energy reported a net loss attributable to CONSOL Energy shareholders of $2 million, or $0.01 per diluted share, for the three months ended March 31, 2013. Net income attributable to CONSOL Energy shareholders was $97 million, or $0.42 per diluted share, for the three months ended March 31, 2012. The coal division includes thermal coal, high volatile metallurgical coal, low volatile metallurgical coal and other coal. The total coal division contributed $93 million of earnings before income tax for the three months ended March 31, 2013 compared to $163 million for the three months ended March 31, 2012. The total coal division sold 15.2 million tons of coal produced from CONSOL Energy mines for the three months ended March 31, 2013 and March 31, 2012. The average sales price and total costs per ton for all active coal operations were as follows:

                                           For the Three Months Ended March 31,
                                                                                Percent
                                          2013            2012      Variance     Change
Average Sales Price per ton sold   $    63.56           $ 69.06    $  (5.50 )    (8.0 )%
Average Cost of Goods Sold per ton      50.69             54.60       (3.91 )    (7.2 )%
Margin per ton sold                $    12.87           $ 14.46    $  (1.59 )   (11.0 )%

The lower average sales price per ton sold reflects a decrease in the global metallurgical coal markets. The coal division priced 2.8 million tons on the export market at an average sales price of $72.33 for the three months ended March 31, 2013 compared to 2.6 million tons at an average price of $92.52 per ton for the three months ended March 31, 2012. All other tons were sold on the domestic market.

Changes in the average cost of goods sold per ton were primarily related to the following items:

Direct operating costs improved primarily as the result of several cost saving initiatives at the Buchanan Mine, such as, slowing the pace of major maintenance projects, right sizing the workforce to fit the recently implemented five-day work schedule, and opening the Horne Mountain portal which allowed employees to enter the mine much closer to the longwall face.

The idle longwalls at the Blacksville Mine and the Buchanan Mine during March 2012 resulted in an decrease in unit costs of approximately $1.89 in the period-to-period comparison. The 2012 unit costs were higher as the 2012 fixed costs were allocated over fewer tons.

Average direct service costs to operations were improved due to reduced subsidence expense related to the timing and nature of properties undermined in the period-to-period comparison.

Average operating supplies and maintenance costs per ton sold decreased due to reduced equipment maintenance, timing of major equipment overhaul costs, reduced fuels and lubricants and use of pumpable cribs for roof support.

The Fola Mining Complex was idled in August 2012 which resulted in lower direct operating costs per ton produced in the period-to-period comparison. The mine, which was idled for market reasons, was a higher cost mining operation which when removed reduced the overall average direct operating costs per ton produced by $0.55 per ton.

The total gas division includes CBM, Shallow Oil and Gas, Marcellus and other gas. The total gas division contributed $1 million of loss before income tax for the three months ended March 31, 2013 compared to $12 million of income before income tax for the three months ended March 31, 2012. Total gas production was 39.2 billion cubic feet for the three months ended March 31, 2013 compared to 37.7 billion cubic feet for the three months ended March 31, 2012. Total gas production increased primarily as a result of the Marcellus on-going drilling program.
The average sales price and total costs for all active gas operations were as follows:


                                               For the Three Months Ended March 31,
                                                                                 Percent
                                            2013         2012       Variance     Change
Average Sales Price per thousand cubic
feet sold                                    4.30         4.26         0.04       0.9%
Average Costs per thousand cubic feet
sold                                         3.53         3.37         0.16       4.7%
Margin per thousand cubic feet sold          0.77         0.89        (0.12 )    (13.5)%

Total gas division outside sales revenues were $168 million for the three months ended March 31, 2013 compared to $161 million for the three months ended March 31, 2012. The increase was primarily due to the 4.0% increase in volumes sold, along with 0.9% increase in average price per thousand cubic feet sold. The increase in average sales price is the result of the increase in general market prices and sales of natural gas liquids, partially offset by various gas swap transactions that occurred throughout both periods. The gas swap transactions qualify as financial cash flow hedges that exist parallel to the underlying physical transactions. These financial hedges represented approximately 16.7 billion cubic feet of our produced gas sales volumes for the three months ended March 31, 2013 at an average price of $4.79 per thousand cubic feet. These financial hedges represented 18.3 billion cubic feet of our produced gas sales volumes for the three months ended March 31, 2012 at an average price of $5.44 per thousand cubic feet.

Changes in the average cost per thousand cubic feet of gas sold were primarily related to the following items:
Gathering costs increased in the period-to-period comparison due to higher firm transportation costs and increased processing fees associated with natural gas liquids.

Higher units-of-production depreciation, depletion and amortization rates for producing properties.

These were offset, in part by higher volumes in the period-to-period comparison due to the on-going Marcellus drilling program. Fixed costs are allocated over increased volumes, resulting in lower unit costs.

The other segment includes industrial supplies activity, terminal, river and dock service activity, income taxes and other business activities not assigned to the coal or gas segment.
General and administrative costs are allocated between divisions (Coal, Gas, Other) based primarily on percentage of total revenue and percentage of total projected capital expenditures. General and administrative costs are excluded from the coal and gas unit costs above. Total general and administrative costs were made up of the following items:

                                                    For the three months Ended March 31,
                                                                                           Percent
                                              2013            2012           Variance       Change
Employee wages and related expenses       $        13     $        17     $        (4 )    (23.5 )%
Consulting and professional services                8               6               2       33.3  %
Advertising and promotion                           2               2               -          -  %
Contributions                                       2               2               -          -  %
Miscellaneous                                       7               8              (1 )    (12.5 )%
Total Company General and Administrative
Expenses                                  $        32     $        35     $        (3 )     (8.6 )%

Total Company General and Administrative Expenses changed due to the following:

Employee wages and related expenses decreased $4 million primarily attributable to fewer employees as a result of the 2012 Voluntary Severance Incentive Plan and lower salary OPEB expenses in the period-to-period comparison. The lower OPEB expenses relate to changes in the discount rates and other assumptions, and a modification to the benefit plan for certain salaried employees.

Consulting and professional services increased $2 million in the period-to-period comparison due to various legal proceedings and consulting projects, none of which are individually significant.

Advertising and promotion and contributions remained consistent in the period-to-period comparison.

Miscellaneous general and administrative expenses decreased slightly in the period-to-period comparison due to various transactions, none of which were individually material.

Total Company long-term liabilities, such as OPEB, the salary retirement plan, workers' compensation and long-term disability are actuarially calculated for the Company as a whole. The expenses are then allocated to operational units based on active employee counts or active salary dollars. Total CONSOL Energy expense related to our actuarial liabilities was $90


million for the three months ended March 31, 2013 compared to $69 million for the three months ended March 31, 2012. The increase of $21 million for total CONSOL Energy expense was primarily due to required pension settlement accounting of $27 million related to lump sum distributions made for the 2013 plan year exceeding the total of the service cost and interest cost for the 2013 plan year. The pension settlement was not allocated to individual operating segments and is therefore not included in unit costs presented for coal or gas. This was offset, in part, due to a modification to the benefit plan for salaried employees and a decrease in the discount rate assumptions used to calculate expense for benefit plans at the measurement date, which is December 31. See Note 3-Components of Pension and Other Postretirement Benefit Plans Net Periodic Benefit Costs and Note 4-Components of Coal Workers' Pneumoconiosis (CWP) and Workers' Compensation Net Periodic Benefit Costs in the Notes to the Unaudited Consolidated Financial Statements for additional detail of the total Company expense decrease.

TOTAL COAL SEGMENT ANALYSIS for the three months ended March 31, 2013 compared to the three months ended March 31, 2012:
The coal segment contributed $93 million of earnings before income tax in the three months ended March 31, 2013 compared to $163 million in the three months ended March 31, 2012. Variances by the individual coal segments are discussed below.

                                   For the Three Months Ended                              Difference to Three Months Ended
                                         March 31, 2013                                             March 31, 2012
                                   High        Low                                              High       Low
                                    Vol        Vol                                              Vol        Vol
                     Thermal        Met        Met       Other       Total       Thermal        Met        Met       Other      Total
                       Coal        Coal        Coal       Coal       Coal         Coal          Coal       Coal       Coal       Coal
Sales:
Produced Coal       $    761     $    59     $  147     $    -     $   967     $    (51 )     $   (2 )   $  (26 )   $   (4 )   $  (83 )
Purchased Coal             -           -          -          5           5            -            -          -          -          -
Total Outside Sales      761          59        147          5         972          (51 )         (2 )      (26 )       (4 )      (83 )
Freight Revenue            -           -          -         14          14            -            -          -        (35 )      (35 )
Other Income               -           -          -         14          14            -            -          -        (18 )      (18 )
Total Revenue and
Other Income             761          59        147         33       1,000          (51 )         (2 )      (26 )      (57 )     (136 )
Costs and Expenses:
Beginning inventory
costs                     58           -         21          -          79          (32 )          -          5          -        (27 )
Total direct
operating costs          391          31         48         45         515          (43 )          1        (12 )       14        (40 )
Total
royalty/production
taxes                     53           -          7          -          60           (3 )         (3 )       (2 )       (1 )       (9 )
Total direct
. . .
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