NACCO Industries Q1 2024 Earnings Call Transcript

Quartr
Provided by Quartr
May 2, 2024

There are 7 speakers on the call.

Operator

Welcome to

Speaker 1

the NACCO Industry First Quarter's 2024 Earnings Conference Call. Our host for today is Christina Kmetko, Investor Relations. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session. I would now like to turn the call over to your host, Christina Kmetko.

Speaker 1

You may begin.

Speaker 2

Good morning, everyone, and welcome to our Q1 2024 earnings call. Thank you for joining us this morning. I'm Christina Kmetko. I'm responsible for Investor Relations at Nantco. Joining me today are J.

Speaker 2

C. Butler, President and Chief Executive Officer and Elizabeth Loveman, Senior Vice President and Controller. Yesterday, we published our 2024 Q1 results and filed our 10 Q. This information is available on our website. Today's call is also being webcast.

Speaker 2

The webcast will be on our website later this afternoon and available for approximately 12 months. Our remarks that follow, including answers to your questions, contain forward looking statements. These statements are subject to several risks and uncertainties that could cause actual results to differ materially from those expressed in the forward looking statements made here today. These risks include, among others, matters that we've described in our earnings release, 10 Q and other SEC filings. We may not update these forward looking statements until our next quarterly earnings conference call.

Speaker 2

We'll also be discussing non GAAP information that we believe is useful in evaluating the company's operating performance. Reconciliations for these non GAAP measures can be found in our earnings release and on our website. With the formalities out of the way, I'll turn the call over to J. C. For some opening remarks.

Speaker 2

J. C? C.

Speaker 3

Durrant:] Thank you, Christine. Good morning, everyone. I'm glad to be on the call this morning since we have a lot of good news to report. I mentioned during our year end call that I am optimistic about our 2024 outlook as we move past a tough 2023. We expected unfavorable 2023 comparisons would turn favorable in 2024, so I'm pleased to report that our Q1 operating results were in line with those expectations.

Speaker 3

Our consolidated operating profit increased 162% over the prior year, driven by significantly improved earnings at our Minerals Management and North American Mining segments. Christy will go into more detail about our Q1 earnings and provide an overview of our outlook in a minute. But first, let me give you an update on our operations. I'll start with some positive operational news about our coal mining segment. I'm pleased to report the repairs to the damaged boiler at the Red Hills power plant are expected to be completed during the second half of twenty twenty four.

Speaker 3

As you can see from our financials, the coal mining segment's revenues decreased primarily due to fewer coal deliveries as a result of this issue. While the Red Hills power plant is still only operating on one boiler, it is helpful to have greater visibility on our customers' timeline for resolution. As we've discussed for several quarters, Mississippi Lignite Mining Company's Red Hills Mine completed the move to a new mine area in 2023. This move sets us up nicely for the future and we expect production costs at MLMC to decline significantly in 2024, 2023 levels. These costs however expected to remain above historical levels through 2024 until the boiler issue at the power plant is resolved, Deliveries return to normal and a pit extension is completed later this year.

Speaker 3

Before I move to our other segments, I want to comment on the Environmental Protection Agency's recent announcement of new rules for coal fired power plants. On April 25, the EPA issued a pre publication version of the final rules for mercury air toxics standards and greenhouse gas emissions, which require compliance as early as 2027 and 2,030. These rules are ultimately enforced as drafted that will be applicable to the power plants that we serve. While we are still in the process of analyzing these new rules, I'd like to note that similar previous efforts by the EPA were met with extensive litigation and we're anticipating a similar response to these rules. As you can imagine, this is a very high priority for us.

Speaker 3

It's worth noting that the United States is experiencing strong overall growth in the demand for electricity. MLMC supplies coal to the Red Hills power plant, which supplies electricity to TVA. TVA just announced in their 10 Q filing earlier this week that they experienced an all time record high peak power demand during Q1. These EPA rules go into effect as written. It's hard to see how the country adequately replaces the energy generated by these power plants.

Speaker 3

Shifting to our other segments, I mentioned earlier that our Minerals Management and North American Mining segments generated improved operating results in the Q1. At Minerals Management, the higher first quarter income was the result of higher production volumes and included earnings from the large acquisition of mineral interest that closed in December. The Catapult Minerals Partners team, which oversees this segment, has done a great job of growing and diversifying our mineral our portfolio of mineral interests over the last few years. We now own a larger portfolio of mineral interests. We are more diversified in terms of operations, geographic footprint and stages of mineral development ranging from producing wells to undeveloped mineral interest.

Speaker 3

Catapult team is again targeting mineral interest of up to $20,000,000 in 2024. Our North American Mining segment also delivered strong year over year earnings improvement. North American Mining's operating profit improved 184 percent and segment adjusted EBITDA increased 70% compared with 2023. I'm proud of the significant progress the North American Mining team has made on operational and strategic projects that contributed to the improved 2024 Q1 results. Our sawtooth mining operation is the exclusive miner for the Thacker Pass Lithium project owned by Lithium Americas Corporation.

Speaker 3

Sawtooth Mining is contributing moderate income to North American Mining segment during the current construction phase of that contract and is expected to continue to do so until we enter the production phase, which is expected to occur in the 2027, 2028 timeframe. More information about this project is available on the Lithium Americas website. North American Mining team continues to evaluate and pursue new business opportunities, including diversification into additional minerals as we did in 20 23 with a new contract to mine phosphate for a customer in Florida. Overall, I believe we're making meaningful progress towards building this segment into a very successful business platform. Finally, moving to our mitigation resources of North America business.

Speaker 3

This team continues to advance existing mitigation projects and build on the substantial foundation it has established over the past several years. Mitigation Resources added a new project in the Q1 by acquiring an attractive piece of land near a high growth area in Central Florida. We anticipate that mitigation resources will further expand its business model in 2024 with a focus on generating a modest operating profit in 2025 and achieving sustainable profitability in future years. Overall, I continue to be very optimistic about our outlook in 2024 and beyond. I have a lot of confidence in our team, and I'm pleased with the way all of these businesses continue to advance their strategies, including efforts to protect our coal mining business.

Speaker 3

With that, I'll turn the call back over to Kristie to cover our results for the quarter and our outlook in more detail. Kristie?

Speaker 2

Thank you, J. C. Let me begin with high level comments about our consolidated Q1 financial results. Then I'll provide some detail on our individual segments. We reported consolidated income before taxes of $5,600,000 compared with $4,400,000 last year, a 28% increase.

Speaker 2

A shift in our mix of earnings led to an effective income tax rate of 18% this quarter versus a negative rate of 30% in Q1 2020 3, which resulted in a $2,300,000 year over year increase in income tax expense. Due to the higher income tax expense, our Q1 2024 consolidated net income decreased to $4,600,000 or 0 point 6 $1 per share compared with $5,700,000 or 0 $0.76 per share last year. We generated EBITDA of $11,200,000 This was modestly higher than the prior year EBITDA of 10.8 $1,000,000 The operating profit and EBITDA growth was primarily due to significant improvements in earnings at our Minerals Management and North American Mining segments. Minerals Management generated operating profit of $7,900,000 and segment adjusted EBITDA of $8,900,000 and over 30% increase in both metrics compared with the prior year quarter. The improved earnings were due to higher production volumes, including contributions from a large acquisition of mineral interest near the end of last year.

Speaker 2

At North America Mining, operating profit of 2,400,000 dollars and EBITDA of $4,600,000 increased significantly compared with last year. The first quarter improvements were primarily due to favorable pricing and delivery mix. Improved margins at the limestone quarries as a result of recent contract amendments also contributed to North America Mining's favorable results. The improvement in operating profit at both Minerals Management and North America Mining were partly offset by lower coal mining results. Our coal mining segment reported an operating loss of $417,000 and generated segment adjusted EBITDA of $1,800,000 This compares to operating profit of $313,000 and segment adjusted EBITDA of $4,600,000 in 2023.

Speaker 2

JC noted that the coal mining segment's revenues decreased primarily due to the boiler issue at Mississippi Lignite Mining Company. However, the revenue decrease was offset by a reduction in cost of sales resulting in comparable quarter over quarter results. Lower earnings at our unconsolidated operations, primarily due to reduced customer requirements at Gatou, contributed to the decrease in the coal mining segment's results. Looking forward at our coal mining segment, we expect strong 2024 operating profit compared with a significant 2023 loss, which included a $60,800,000 impairment charge. Higher segment adjusted EBITDA, which excludes the impairment charge is also projected.

Speaker 2

These anticipated increases are primarily due to an improvement in the results of Mississippi Lignite Mining Company and higher earnings at Falkirk and Coteau in the second half of twenty twenty four. While MLMC is expected to incur a loss in 2024, largely attributable to reduced coal deliveries while the power plant is operating with only 1 boiler, the loss is projected to be significantly less than 2023, excluding the impairment charge. This is primarily because production costs are expected to decrease compared with last year. In addition, the effect of the impairment charge taken last year will result in lower depreciation and amortization expense and contribute to lower production costs in 2024 and beyond. The projected increase in full year 2024 earnings at the unconsolidated mining operations is driven primarily by an expectation for increased customer requirements at Cattell and Falkirk as well as a higher per ton management fee at Falkirk beginning in June 2024 when temporary price concessions end.

Speaker 2

Turning to North American Mining, we expect substantial quarterly growth in operating profit and segment adjusted EBITDA in each remaining 2024 quarter leading to significantly improved full year results over 2023. Improvements at existing operations as well as contributions from new and modified contracts will all contribute to the improvement in results. Finally, at Minerals Management, we expect 2024 operating profit and segment adjusted EBITDA to decrease moderately compared with prior year, excluding the 2023 impairment charge. The forecasted reduction in profitability is primarily driven by current market expectations for natural gas and oil prices as well as development and production assumptions on currently owned reserves. Overall, at a consolidated level, we expect to generate net income in 2024 compared with the substantial 2023 net loss.

Speaker 2

Adjusted EBITDA, which excludes any impact from the prior year impairment, is also projected to increase significantly over 2023. These improvements are mainly due to increased profitability at the Coal Mining segment. Growth in North America Mining is also expected to contribute to the higher 2024 net income. Before I turn the call over to questions, let me close with some information about our balance sheet and cash flow. We ended the quarter with consolidated cash of approximately $62,000,000 and debt of $50,000,000 We had availability of $100,000,000 under our revolving credit facility.

Speaker 2

During the Q1, we repurchased approximately 128,000 shares for $4,300,000 under an existing share repurchase program. In 2024, we expect cash flow before financing activities to be a moderate use of cash. We will now turn to any questions you may have.

Speaker 1

And we will take our first question from Douglas Weiss with DSW Investments. Douglas, your line is open.

Speaker 4

Hi, good morning.

Operator

Good morning. Good morning.

Speaker 4

A question on the mining business. Once you've started a project, how much is the ongoing capital expense on those projects on an annual basis?

Speaker 3

Are you talking about a coal mine or are you talking about a North American mining project?

Speaker 4

North American Mining.

Speaker 3

Yes. It entirely depends on the project. In some instances, we own the equipment and will maintain that equipment over the life of the contract and that's all included in the fee structure that we receive. In other instances, the customer is responsible for funding those things. So it's really very contract specific.

Speaker 3

I guess I would add that most of the operations that we do inside North American Mining, I'll just use an example, right? We might acquire a drag line that will operate at a quarry or a phosphate mine or somewhere else for somebody. And the upfront capital is the most significant piece typically of that project. Over time, you're going to have repairs to the drag line. You're going to have planned outages where you need to do periodic upgrades and improvements.

Speaker 3

But for the most part, I think you could think of the North American mining project of having a majority of its CapEx upfront, although there will be some over time.

Speaker 4

Okay. So to the extent you're not bringing on new projects, is it fair to say that a fairly high proportion of the EBITDA in that division will convert to cash flow? It just sounds like yes.

Speaker 3

I think that's a safe assumption. As opposed to I mean I'll compare that to a manufacturing business where you're constantly replacing things on your manufacturing line. This is the the mining business is typically not like that. But you will go through, as we saw in our Red Hills mine, you go through periods of time when you do have to reinvest, but it's generally EBITDA is true EBITDA. You can think of it as cash flow.

Speaker 4

Okay. And would you be able to say what sort of returns you're looking on looking for on that sort of upfront investment in terms of you get a new project and you buy you spend $20,000,000 or whatever on the drag line, what sort of EBITDA do you hope to earn on that in the years that follow?

Speaker 3

Well, I mean, I think given the fact that these are multiyear projects with investment upfront, I'd point you to like an IRR calculation and I'm we target things that are in the mid high teens in general.

Speaker 4

Okay, great. And when you guide to quarterly growth for that business, do you mean sequential growth like the Q2 will be better than the Q1 and what?

Speaker 3

Generally, yes.

Speaker 4

Yes. Okay.

Speaker 3

But like any business, you can't draw a straight line to all those points and have it look like a nice neat graph.

Speaker 5

Right. Sure.

Speaker 4

Sure. I guess moving on to your royalty businesses. On the you give disclosures in the K on your reserves, but I found with other royalty businesses those reserves aren't really that communicative in terms of the real reserve life of those assets. And I wondered if you could just speak generally about what you think the sort of economic life is particularly for your gas assets, I guess Appalachia would be the largest one.

Speaker 3

Yes. The Appalachia assets are legacy assets. I mean we've acquired those over decades decades. I wouldn't be surprised if some of those have been acquired in the early part of the 1900s as we are establishing our underground coal mining business in that part of the country. It's where the company started.

Speaker 3

From a gas standpoint, the wells so let's just go through history, right? We acquired these we acquired the natural gas reserves as part of acquiring all minerals historically. In many instances, we mined the coal or somebody else ended up mining the coal. We sold the surface at some point if that was owned. And we've owned these natural gas assets for a very, very long time.

Speaker 3

You get sort of, I guess, probably 10 years at most ago. And fracking became kind of the prevalent horizontal fracking became kind of the prevalent way of producing the minerals in Appalachia. And then pipelines came in sort of in the 2017, 2018 timeframe, which is when we said this thing is about to get supersized. So we made a conscious decision to let's go hire people that are experts in this area and develop our Catapult Minerals Partners business. So they oversee those assets.

Speaker 3

As those have been I mean, a lot of that's been developed, but there's a lot of wells yet to be developed. If you look at the typical decline curve on a well, and it varies, but on average, these things can last for decades. They have a large any kind of horizontal fracking well has large production upfront and it tails off pretty quickly, but then it can run for a very, very long time. It can run for decades. In fact, I mean, I know there are royalty companies out there that focus on just buying the tails of wells from people.

Speaker 3

So you take the natural gas assets in Appalachia and you translate that to what we're buying elsewhere. And we're targeting a broad portfolio of mineral interest, meaning when we buy a package, it typically has got producing wells, it's got wells that have been drilled but not completed, so they're not producing. It's got wells that have been permitted, but nobody's taken any action on the permits. And there are undeveloped reserves. So one of the things I love about this business is a majority of the value we're paying for these assets is focused on the producing wells because that's what a lot of people are paying for.

Speaker 3

A lot of people are interested in what's the cash flows, I'm going to get out of this right away. And we of course look at that and we appreciate that. But we're also acquiring a lot of reserve interests that are going to start be developed and produced in years to come. So I see this business as accumulating more and more and more of that, which just provides a much stronger and longer runway for profitability to come out of this part of the business. It's kind of a wide ranging answer.

Speaker 3

Does that answer your does that address your question? Yes, I

Speaker 4

think so. As you look at opportunities to acquire, are you seeing better value on the oil side or on the gas side?

Speaker 3

It varies. It really in many instances, it gets to specific dynamics around the transaction like really why is somebody selling. If somebody had a fund for the last 20 years and they're closing out the fund and they need to sell? Has somebody been getting their funding from a private equity firm and that goes away and so they need to raise some capital by selling some wells. I mean what's their motivation?

Speaker 3

That's really probably the greatest driver of swings in value from my experience. Okay. I mean, do prices affect the value of mineral interest? They do on the margin, but it doesn't swing as much as you would think it might based on monthly, quarterly changes in oil and gas prices.

Speaker 4

Right. Okay. Makes sense. On MLMC, once you finish the you're all done with the move in locations and so on, what's a good normalized cost of goods sold there?

Speaker 3

We don't disclose that. And your point about we're moved and we're done. We're moved we're almost done. You'll note in our disclosures that we talk about a pit extension. So we went over, we established the new pit.

Speaker 3

We're operating over there. It's going very well. We're very pleased with the way that's playing out. We did part of the plan, we knew when we got there, we were going to make the initial pit longer. As you can imagine, right, a longer pit is going to be a more efficient way to mine.

Speaker 3

It's like anything, right? It's larger scale. You make it a bigger pit. So we're still extending that pit this year. It will be done later this year, at which point the costs will really drop to where they think they should be, which is much more in line with historical levels.

Speaker 3

And we're getting a double punch right now because we're self inflicted wound. It's the smart thing to do to extend the length of this pit, which adds to our costs. The other thing you've got is the power plant, which is operating on 1 of the 2 boilers. So our production is only at about half what it would normally be, which puts it's not efficient, makes it a higher cost operation. So I think we're headed back to historical levels that we feel quite good about, which is to get a couple more quarters behind us.

Speaker 4

Right. Okay. And then just touching on North American Mining again, you had a really nice step up in your EBITDA margin this quarter. Is that sustainable or are those margins going to move around quarter to quarter?

Speaker 3

Well, everybody's margins move around quarter to quarter. So with that qualifier, I think there have been some fundamental shifts in the business, some of which are strategic in nature, tactical in nature. We've been working on some things over the last few years. You've seen in prior quarters, we've disclosed that even last year, we put a pause on new business development while we were straightening out some operational matters. We feel good about where those are.

Speaker 3

One of the other things we've done is sign up some new contracts. We're always tweaking our contract structure because these contracts will run for a bunch of years. We're always tweaking the contract structure to think about how do we best serve our customers, while thinking about our own the economics of our business. And I think you've got a combination of some new contracts, some amended contracts as well as some operational and strategic improvements we've put in place that are paying dividends. And I think that we are headed towards a stronger performance in that business going forward because of those things.

Speaker 3

Is it going to be consistent every single quarter? Probably not, but I feel good about where we're headed.

Speaker 4

Okay, makes sense. And just, you have an unconsolidated income line in that division. Is that can you say what that is? Which asset that or what mine that is?

Operator

It's just some smaller historical mines that are locations that we account for as a variable interest entity and so under the equity method.

Speaker 4

Okay. And then let me know if there's anyone in queue because I don't want to stop anyone else from asking questions.

Speaker 3

You have great questions. We're more than happy to ask. I appreciate your interest. We're happy to answer your question.

Speaker 4

Okay, great. Well, thank you. So on the coal segment, I'm curious using the Sabine Mine as sort of a case study, where you received several years after several years of payments after the mine closed.

Speaker 5

Could you just talk

Speaker 4

a little bit about how good the economics are of those sort of closure payments relative to the prior operating earnings of the mines?

Speaker 3

So I'll speak generally, right? Generally during production in our management fee contracts, which in the coal mining segment are Coteau, Falkirk, Coyote Creek and Sabine. So generally during production that's when you're doing a lot of work. You've got a lot of people, a lot going on. So the fee is higher.

Speaker 3

In the initial years, the 1st few years after you go into final mine reclamation, there's still a lot of work to be done. There's a lot of dirt moving going on. There's a lot of regulatory things that we're dealing with, a lot of land issues. I shouldn't call them issues. It's really just land matters related to wrapping up the mine.

Speaker 3

And so the fee is still pretty robust, although generally not what it was during production. And then after a few years, we'll go into a period that is the tail end of final mine reclamation, which is really more the dirt work is done. It's monitoring water. It's looking for erosion. It's making sure that the things that were planted are growing as they should.

Speaker 3

So the fee steps down generally in the later years of a contract. Now every contract is different with respect to how that works and what we're responsible for and what the customer is responsible for. But in each instance, the customer still continues to pay 100% of the costs. And this is really just related to the fee that we receive. But that's it's a kind of a step down structure as the amount of work that's required decreases.

Speaker 4

Okay. And then I guess just a couple quickly on your new projects. So on the remediation business, how big a business do you think that could be looking out 3 to 5 years?

Speaker 3

Well, I mean, we've not said how big we think it can be. We haven't disclosed that. I will tell you that the business which we started 5, 6 years ago is on a much faster growth trajectory than we anticipated when we started it. We've been very pleased with our ability to leverage sort of the North American Coal environmental reputation as a way to propel that business into having a lot of credibility even though it was essentially a startup. Number of the people that are in that business came from our coal mining operations and it's really been helpful as we've got going.

Speaker 3

We've also got a great relationship with the Army Corps of Engineers in the areas where we operate, which has been helpful to us. So I guess I'd add to the fact that the mitigation part of the business is growing faster than we thought it would. We've branched out now to also start doing abandoned mine land reclamation. You saw our disclosures that we are the preferred provider of abandoned mine land services in the state of Texas, which is a big deal. And we've been doing some other remediation projects as well that are neither mitigation banks nor abandoned mine land reclamation.

Speaker 3

So we're seeing growth opportunities in a number of areas kind of organically grown. And it's on a great growth trajectory. The question we always kick around is at what point does this thing become a segment? And I don't know. It's I would say hopefully sooner or later.

Speaker 3

I think the people in the business would say they hope later rather than sooner because it's you get a lot more attention when you're in a segment. But it's this is a business that's growing very nicely, very rapidly. And the disclosure we put out is we think they're going to be profitable at an operating profit level in 2025 and it will be sustainable future years. One of the reasons is because, particularly on the mitigation banking side, you acquire a piece of property and then you take you acquire a piece of property and then it takes a year or so to get your mitigation banking instrument with the Army Corps of Engineers and then you sell the credits over an extended period of time, it can be 10 years. So the initial years of this business on the mitigation banking side was planting a lot of seeds by initiating projects.

Speaker 3

We're now getting into the period we're going to start seeing very attractive income from the credit sales out of those banks. Now not a direct answer to your question, but I hope that was helpful.

Speaker 4

Yes, yes, that's great. And then I think last question, just on the you gave some additional detail on the K on your solar project. Can you talk a little bit about how large an investment you're contemplating there? And do you continue to think it's going to be a very high ROI?

Speaker 3

Yes. I mean the returns are pretty attractive on the projects as we're viewing them. I think our approach is primarily, although not entirely, but our approach is primarily that we're going to serve as developers. We have knowledge that I think is somewhat unique with respect to properties that would be attractive for solar farms, including reclaimed mine land, whether that's ours or others. A lot of people are scared off that stuff.

Speaker 3

We understand what the risk and opportunities are with respect to those properties. And so our investments are really going to be in the development phase, which is acquiring the land or securing the land through a lease or other means. And then working on interconnect studies and finding EPC contractors and getting the whole thing put together into a package. I think it's very possible that we will end up right as the thing is ready to go. It's all got a nice box with a bow on it.

Speaker 3

You sell it to somebody who is in the business of owning and operating these things over the long term, including constructing them. Do we keep an ownership interest in some way in those? We could. It could be an ownership interest in the solar farm itself. It could be we retain the land and collect a lease payment.

Speaker 3

I mean there's a whole bunch of ways we could think about this. I do know when you get into big solar farms, the capital can be very, very substantial. And given our desire to protect the daylights out of our balance sheet, we're not going to bite off something that's bigger than we're comfortable dealing with.

Speaker 4

Right. That makes a lot of sense. Okay. Well, actually one last quick one is just on the boiler. I think in your filing, you said second half, you think it will be repaired.

Speaker 4

Do you have a pretty good visibility? Or are you just kind of watching along with everyone else?

Speaker 3

Well, I mean, we're next door, right? The mine is next door to the power plant. So we have great relationship with the folks over at the power plant. Because of the nature of the operation, 100% of their fuel comes from our mine. They're our only customer.

Speaker 3

So it makes it very important to have a close transparent relationship. So our folks on the scene stay in close touch with the people over at the power plant. And I think everybody feels good about the progress that's being made. It's really our customers' project. So I don't want to say that much about it because it's their disclosure not ours.

Speaker 3

But it's progressing nicely and we feel good about them. I think they feel good about it.

Speaker 4

Great. Okay. Well, thanks again for all the answers and talk to you next quarter.

Speaker 3

Yes. Once again, we appreciate your interest.

Speaker 2

Thanks, Des.

Speaker 4

Thanks.

Speaker 1

And your next question comes from Nachi Tamsi with Sison. Your line is open.

Speaker 5

Hey, great quarter. Thanks.

Speaker 3

Yes, thank you. Good

Speaker 5

morning. Picking up where that last question left off, just a few questions on Mississippi. Can you provide an update on the financial health of your customer over there? Have they emerged from whatever restructuring they were in? What's the strength of their balance sheet?

Speaker 3

From what I understand from Southern's disclosures that's all been settled. Right. What you're talking about is the restructuring with the bondholders.

Speaker 5

Right. Correct?

Speaker 3

Correct. Yes. And that's been resolved. I think Southern disclosed that a couple of quarters ago, maybe 3 quarters, 4 quarters ago.

Speaker 5

Yes. I mean, what I've seen in Southern's disclosures is that they're not putting any additional capital into it. And there was certainly no cash reserve in the business prior to restructuring. So what I'm trying to understand is, how strong is your counterparty in its ability to maintain a position of buying the amount of lignite you guys want them and project them to buy for the next several years?

Speaker 3

Well, I think the ultimate I mean, I think the real question is does TVA need the electrons. And if you look at TVA's latest Q, which was just recently filed, they've had record demand for electrons, because that ultimately is how this plays out. And TVA has tremendous need. We see that through the operation of the power plant. And ultimately if TVA needs the electrons, they're going to buy them from the plant and that means that the plant needs coal in order to fuel the plant.

Speaker 3

So

Speaker 5

Sure. Well someone's going to have to put in capital, right? I mean, are you saying that TVA might actually put in capital for repairs or for ongoing CapEx?

Speaker 3

I mean I'm not privy to the details, but my understanding is there's a provision in the waterfall with respect to the mechanics of the bonds that provides for capital that's needed for maintenance and repairs.

Speaker 5

Yes. Yes, gold bonds, right. I'm trying to understand whatever the new bond structure is, which I am not privy

Speaker 3

to.

Speaker 5

I'm trying to understand.

Speaker 3

We don't have we're not privy to the terms of that agreement.

Speaker 5

Okay. All right. Thanks. And then I appreciate your comments at the beginning about the mercury standard. My understanding from some of the technical documents that EPA put out and as you stated, it's pre publication, is that EPA was actually projecting a relatively low additional OpEx requirement at Red Hills was under $1,000,000 a year.

Speaker 5

Your comments suggested actually short of judicial relief of some sort, a pretty pessimistic outlook on compliance across the board, just trying to square those 2. And is the truth somewhere in the middle or how should I think about that?

Speaker 3

I think the whole thing is subject to massive litigation. I think it's I mean, 1, the rules aren't final yet. And 2, I think this is going to be litigated just like prior EPA rules have been litigated. There's an interesting piece in the journal yesterday about or at least I read it online last night, I assume it was a yesterday article about the challenges that the rules face.

Speaker 5

There's no question of litigation. I agree with you. But the mercury standards that are in effect for non lignite coal fired power plants are in fact. I mean, they have survived. That was a decade ago.

Speaker 3

Correct.

Speaker 5

So I guess what I'm trying to understand is what is tons of uncertainty, of course, on how the courts will look at this and future administrations, of course, might look at this very differently as well. But ballpark order of magnitude. Like is it tens of 1,000,000,000, ballpark order of magnitude? Like is it tens of 1,000, tens of 1,000,000 somewhere in between?

Speaker 3

I think it would be inappropriate for me to publicly speculate on information that I don't know.

Speaker 4

Sure.

Speaker 3

I mean, it's their power plant. I'm not we don't operate any power plants. I'm not privy to that kind of information.

Speaker 5

Sure. Makes sense. Last question. So there was the $60,000,000 impairment charge in the last quarter. Can you help me understand thinking of the Mississippi business and this the core asset, which is this long term sales agreement, how much of the book value of that asset went away with that $60,000,000 impairment charge?

Speaker 5

Does that question make sense? Like how is the asset half the size that I used to think it was? Is it 90% of the size that I used to think it was? I

Speaker 3

don't know. Liz and I are looking at each other trying to think about that.

Operator

So I think you could see the coal supply agreement. Are you talking about the intangible related to the coal supply agreement?

Speaker 3

Are you talking about all the assets?

Speaker 5

I'm talking about the enterprise value of the Mississippi business basically. How much smaller is it than it was in Q3?

Speaker 3

I think we've never disclosed the asset value related to a specific.

Operator

In our risk factor in the 10 ks previously, we set our assets at risk were around $130,000,000 Okay. And we took

Speaker 5

$5,000,000 Okay. That's really helpful. Thank you. And so when you were determining the this is going back a quarter, I'm sorry, but when you were looking into financials and deciding how much to write off, was it primarily the relatively short term decrease in sales that factored into that overall 60.8 $1,000,000 figure or was it also additional thinking around the life of that agreement?

Speaker 3

Well, the trigger was the December, I think it was 15th issue at the power plant. And as we're sitting there at year end, you have this big event at the plant, which nobody at that moment in time can assess exactly the extent of the damage or what it's going to take to repair it. It of course calls into question what are going to what will our near term deliveries be. They pretty quickly figured out that they could operate the plant they believed on one boiler. We know they can, but they didn't see any reason any other reasons related to this incident to prevent that.

Speaker 3

So as we looked at the situation where we could have an extended period of time where there's reduced deliveries to the plant, given the fact that a mining operation is largely a fixed cost operation that affects our economics pretty significantly as we're seeing. Yes. So it's really that trigger with respect to the near term when you think about NPV of an asset. It's near term dollars count more than far out in the future dollars. And then of course you had to go through all the GAAP required exercise to figure out your impairment.

Speaker 3

But it was the short term effect of that that really triggered this assessment.

Speaker 5

Okay. That makes sense. And I think last question, how should I think about the Match rule with respect to your other unconsolidated operations? Is there a different way I should think about that compared to the Mississippi situation?

Speaker 3

I mean, if you I mean, Matt's rule doesn't apply to our mines. It applies to our customers' power plants. And those are all lignite powered power plants. So each of them, of course, have their own technologies with respect to their boilers and their environmental controls. And I think each of them will be assessing these independently.

Speaker 5

Okay. Appreciate your time with me this morning.

Speaker 3

Yes. Thanks for your questions.

Speaker 1

And your next question comes from Jon Huber with Sabre Capital. John, your line is open.

Speaker 6

Yes. Thanks for the thoughtful replies. This has been a great call. A lot of good education and I appreciate the history on the some of the minerals management history there was quite interesting. My question is on that business.

Speaker 6

I follow a few of the royalty companies and I think the market for the minerals has been quite it's been quite competitive over the last few years. And I'm just wondering if you guys share that view. And if so, I'm wondering what kind of what advantage you guys have, like what kind of networks do you have? What advantage do you think gives you guys the ability to earn the returns that you're generating, which according to what I'm looking at, I'm looking at like $68,000,000 of investment capital over the last few years. And I think you did around $19,000,000 of profit.

Speaker 6

So that looks like a pretty good return. So I'm just kind of wondering what your how you guys are viewing your advantage in what I think is a pretty competitive market right now?

Speaker 3

Yes. So let's go back to the history. And look, I would love to say that we're earning that kind of return on the investment of $6,000,000 to $8,000,000 But I went through the history lesson of where we got the Appalachian Minerals, which are the biggest income producers for us. And our cost basis in those things is like 0 because they were acquired eons ago. So there's a bunch of that Appalachian stuff that has no meaningful asset on the balance sheet.

Speaker 3

So if when we look internally at our numbers, our returns right now are astronomical. We believe over time as we make investments that we think this business is going to be ultimately as we get more and more and more new money invested, we think we're going to earn high teens. I'd like to think low 20s, but high teens

Speaker 6

on our investments.

Speaker 3

And it's this interesting point we're investing in a business that's got extraordinarily high returns and it's going to blend down to something in the high teens, as you've noted. The but what's our advantage? I think our big advantage, one is, I think we have assembled a great team of people that are very thoughtful about their analysis. And one of the things that makes them a great fit for us is they take a very long term view of investing in the space, which is partly how they're wired. It's 100% how we're wired.

Speaker 3

If you've spent time looking at the company, We are perfectly happy to take decades long views of investments. So when we acquire minerals, we can we're perfectly happy to acquire minerals that won't be developed for 10 or 15 years, because we're building that base that's going to deliver dividends way out into the future. And you don't have to pay a lot for those, but we're willing to look at those packages. I think a number of the competitors, certainly not all, but a number of the other people that play in this space are either doing so with money that's coming out of private equity firms or they're borrowing money or they're operating a yield co, which means they've got to constantly be feeding the yield co model, which means their primary interest is in producing wells. And that's what they want to buy and that's what they bid up.

Speaker 3

You start diluting that with things that aren't going to get developed for 2 years, 5 years, 10 years, 15 years, they're less interested in that. So it's less frothy in that part of the market, at least generally speaking. And in every kind of market there's exceptions to the rule. But generally that's kind of what we see and it's the long term view that we think gives us an advantage.

Speaker 6

Interesting. Helpful. Yes, very helpful. What I noticed you have a few in the some undeveloped acreage in the Williston Basin. How much do you think I don't know if you guys have a way to break this down, but of the $68,000,000 that you've spent since 2020, what how much of that is undeveloped or how much of that is sort of untapped potential for future production?

Speaker 3

I don't know. I will give you a very honest answer and say, I don't know.

Speaker 6

Okay. Liz is

Speaker 3

flipping in the K, right? Yes.

Operator

I mean, we have provided some of that data in our 10 ks. So I don't know if you'd look through that, but that would provide you some additional information.

Speaker 3

Where is that, Liz?

Operator

Yes. I guess

Speaker 3

you start

Operator

on Page 46 of the 10 ks.

Speaker 3

Submitted.

Speaker 6

What, yes, I see that there's I see the amount of acreage. I was just trying to get a sense for how much, maybe if you had a view of what I'm really trying to do holistically is get a sense for from a strategic level, how are you guys thinking about the capital that you're investing in this? So you've touched on, you gave me a nice background. That was super helpful. You mentioned I think you mentioned like high teens returns.

Speaker 6

Obviously, you have this sort of legacy assets, these legacy assets that have been part of the company for decades decades. But what how are you when you look at a project, are you I mean, I'm sure you're coming up with some sort of IRR calculation, but I'm trying to get a sense for how you compare that to perhaps other uses of capital within the business, including perhaps buying your own stock back, which you've done some of. So just wanted to get a sense for what types of return hurdle rates you're looking at for this minerals business?

Speaker 3

So when we look at investments in this business, you're right. I mean, we're looking at IRR kind of metrics as well as other metrics, but IRR is certainly a piece of it. And all of IRR's cousins like NPV and ROTCE calculations, things like that. When we're looking at projects, I mean, we're looking at the projects as standalone projects. We're thinking about them in the context of what does it cost to add this to the portfolio and there's an overhead component certainly.

Speaker 3

But when we look at stuff, we're trying to buy things that we think are going to deliver IRRs in the high teens, understanding that the undeveloped anything that's not producing or discounting what its value might be in the future, because you just don't know. We've got high confidence that it's going to get developed, but we don't know exactly when and we certainly don't know what prevailing oil and gas prices will be at the time. So we attribute we're shooting for high teens based on what we have a reasonable sense of achieving. And the other stuff is over and above. It can outperform.

Speaker 3

It can underperform too. But we think by buying lots of highly diversified packages of mineral interests, we're getting a lot of exposure to a lot of acres and a lot of basins and we're getting oilier. We used to be very gas heavy. And that's creating the right dynamic that we're looking for. And I will tell you over time, a lot of the Appalachian natural gas has been developed.

Speaker 3

And so we're going to be way out on the decline curve eventually. And so it won't be as meaningful to the portfolio at that point.

Speaker 6

So it sounds like is it is what you're saying is it sounds like you may be interested more in acquiring oil assets than gas. I know a lot of the legacy stuff, the Appalachia, a lot of the stuff in the Gulf Coast is more gas related, but some of the Permian and Rockies is more oily. Is that kind of where you'd like to go?

Speaker 3

Yes. I mean, if you go back to 2018, all of our eggs were in Appalachian Natural Gas, right? That's what we had. And so if you think about diversify, we want to be in other basins, we want to have more oil, we want to have more operators. We want to we think it's we like the asset.

Speaker 3

We like the space. We like this asset category a lot. And so we want to diversify that position into other things in the United States.

Speaker 6

Yes, that's great. The Canabo team, this $20,000,000 I had a question on maybe I don't know what you can share with us like how they're incentivized. But what happens if you can't find assets that meet your hurdle rate? Is it something where, hey, if we don't get to the $20,000,000 that's okay or?

Speaker 3

Without getting into the nitty gritty details of our incentive plans, we take a one team approach to incentive. Everybody that participates in incentive plans all operate so that we're all incentivized to help each other, make it a team sport. Watch sports you're going to always know that wins. So if they invest that's great. If they don't invest that's okay too because everybody

Speaker 2

We

Speaker 3

I think if you carve people off into individual groups, they're going to start people by their very nature, it's true of me, it's true of everybody, right? Everybody will start just focusing on what they're interested in and that's not how you build a company for the next 100 years.

Speaker 6

No. Well said. That's exactly I would completely agree and it's that's music to my ears. So it's you don't want to have I've seen too many situations where you have incentive structures where, hey, we're going to allocate up to $20,000,000 and that typically means we're going to allocate $20,000,000 come hell or high water. And that's not necessarily the best use of capital if there's some other source of returns that you can generate elsewhere within the business.

Speaker 6

So that's great. I had a quick question on and thank you for that. Again, that's really helpful on the minerals. On the CapEx in North American Mining, I was reading the filings this morning, so I may have missed this or misunderstood this, but I believe that the $23,000,000 of CapEx that you spent at the Nevada project is reimbursed by the mine owner. Is that correct?

Speaker 3

Yes. From a cash standpoint, we'll be reimbursed over 5 years. From a GAAP standpoint, it goes

Operator

So revenues recognized over the useful life of the asset.

Speaker 3

The gap in cash, right? Right.

Speaker 6

Okay. So you get paid back over 5 years in cash. And then of that $33,000,000 that I think you've guided to in that business, is that is there what percentage of that is reimbursable, if any?

Speaker 3

It's a

Operator

small amount. The majority of that is

Speaker 5

for the

Operator

remaining North American Mining business, not for sawtooth. Right.

Speaker 5

Got you. Okay.

Speaker 3

And I'm sorry to say this, but Christy is telling me that we've got like 1 minute left on this call before we get cut off. You're the first 3rd caller we've ever had. So we're super excited about the call today.

Speaker 6

No problem. No, my questions are answered. Yes, I appreciate the thoughtful replies. And yeah, that's I can follow-up later with a couple other quick questions. But, no, great call.

Speaker 6

I appreciate the answers.

Speaker 3

Great. Thank you.

Speaker 1

Well, thank you so much everyone. At this time, I'll turn it back over to Christina Kmetko for closing remarks.

Speaker 2

Okay. Well, with that, we will conclude our very robust Q and A session. As J. C. Said, that was very informative for everybody.

Speaker 2

Before we conclude, I would like to provide a few reminders. A replay of the call will be available later this morning. We'll also post a transcript on the website when it becomes available. And if you do have any follow-up questions, please reach out to me. My phone number is on the release.

Speaker 2

So I hope everyone has a great day and I'll turn it back over to Bailey to conclude the call.

Speaker 1

This concludes today's conference call. A replay of the conference will be available for 7 days ending May 9, 2024. To access the replay, please dial 1-eight hundred-six forty five-seven thousand nine hundred and sixty four or 1-seven fifty seven 849-6722, then enter the playback ID 9435 followed by the pound key. Thank you for attending.

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Earnings Conference Call
NACCO Industries Q1 2024
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