ALLIANCE RESOURCE PARTNERS LP - Quarter Report: 2014 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

         Washington, D.C. 20549         

 

FORM 10-Q

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2014

 

OR

 

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from _____________to_____________

 

 Commission File No.:  0-26823 

 

 

ALLIANCE RESOURCE PARTNERS, L.P.

(Exact name of registrant as specified in its charter)

 

 

1717 South Boulder Avenue, Suite 400, Tulsa, Oklahoma 74119

(Address of principal executive offices and zip code)

 

(918) 295-7600

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X] Yes   [   ] No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  [X ] Yes   [   ] No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.  (check one)

 

Large Accelerated Filer [X]	Accelerated Filer [   ]	Non-Accelerated Filer [   ]	Smaller Reporting Company [   ]
		(Do not check if smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

[   ] Yes   [X] No

 

As of August 8, 2014, 74,060,634 common units are outstanding.

 

Table of Contents

 

TABLE OF CONTENTS

 

PART I
FINANCIAL INFORMATION
			Page
ITEM 1.	Financial Statements (Unaudited)
	ALLIANCE RESOURCE PARTNERS, L.P. AND SUBSIDIARIES
	Condensed Consolidated Balance Sheets as of June 30, 2014 and December 31, 2013		1
	Condensed Consolidated Statements of Income for the three and six months ended June 30, 2014 and 2013		2
	Condensed Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2014 and 2013		3
	Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and 2013		4
	Notes to Condensed Consolidated Financial Statements		5
ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		17
ITEM 3.	Quantitative and Qualitative Disclosures about Market Risk		33
ITEM 4.	Controls and Procedures		34
	Forward-Looking Statements		35
PART II
OTHER INFORMATION
ITEM 1.	Legal Proceedings		37
ITEM 1A.	Risk Factors		37
ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds		37
ITEM 3.	Defaults Upon Senior Securities		37
ITEM 4.	Mine Safety Disclosures		37
ITEM 5.	Other Information		37
ITEM 6.	Exhibits		38

 

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PART I

 

FINANCIAL INFORMATION

 

ITEM 1.  FINANCIAL STATEMENTS

 

ALLIANCE RESOURCE PARTNERS, L.P. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except unit data)

(Unaudited)

 

		June 30,			December 31,
ASSETS		2014			2013
CURRENT ASSETS:
Cash and cash equivalents		$	19,435		$	93,654
Trade receivables		174,753			153,662
Other receivables		1,104			776
Due from affiliates		3,134			1,964
Inventories		54,491			44,214
Advance royalties		11,072			11,454
Prepaid expenses and other assets		5,544			16,186
Total current assets		269,533			321,910
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment, at cost		2,703,121			2,645,872
Less accumulated depreciation, depletion and amortization		(1,067,836)			(1,031,493)
Total property, plant and equipment, net		1,635,285			1,614,379
OTHER ASSETS:
Advance royalties		19,021			18,813
Due from affiliate		11,361			11,560
Equity investments in affiliates		176,506			130,410
Other long-term assets		24,287			24,826
Total other assets		231,175			185,609
TOTAL ASSETS		$	2,135,993		$	2,121,898
LIABILITIES AND PARTNERS’ CAPITAL
CURRENT LIABILITIES:
Accounts payable		$	89,871		$	79,371
Due to affiliates		161			290
Accrued taxes other than income taxes		23,318			19,061
Accrued payroll and related expenses		43,307			47,105
Accrued interest		906			996
Workers’ compensation and pneumoconiosis benefits		9,287			9,065
Current capital lease obligations		1,306			1,288
Other current liabilities		13,622			18,625
Current maturities, long-term debt		248,000			36,750
Total current liabilities		429,778			212,551
LONG-TERM LIABILITIES:
Long-term debt, excluding current maturities		533,750			831,250
Pneumoconiosis benefits		50,924			48,455
Accrued pension benefit		16,933			18,182
Workers’ compensation		53,334			54,949
Asset retirement obligations		76,404			80,807
Long-term capital lease obligations		16,383			17,135
Other liabilities		6,326			7,332
Total long-term liabilities		754,054			1,058,110
Total liabilities		1,183,832			1,270,661
COMMITMENTS AND CONTINGENCIES
PARTNERS’ CAPITAL:
Limited Partners - Common Unitholders 74,060,634 and 73,926,108 units outstanding, respectively		1,225,554			1,128,519
General Partners’ deficit		(263,535)			(267,563)
Accumulated other comprehensive loss		(9,858)			(9,719)
Total Partners’ Capital		952,161			851,237
TOTAL LIABILITIES AND PARTNERS’ CAPITAL		$	2,135,993		$	2,121,898

 

See notes to condensed consolidated financial statements.

 

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ALLIANCE RESOURCE PARTNERS, L.P. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except unit and per unit data)

(Unaudited)

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2014			2013			2014			2013
SALES AND OPERATING REVENUES:
Coal sales		$	575,191		$	541,574		$	1,100,736		$	1,076,083
Transportation revenues		5,810			4,971			11,815			11,905
Other sales and operating revenues		17,561			7,026			28,049			13,638
Total revenues		598,562			553,571			1,140,600			1,101,626
EXPENSES:
Operating expenses (excluding depreciation, depletion and amortization)		352,893			347,437			675,135			696,012
Transportation expenses		5,810			4,971			11,815			11,905
Outside coal purchases		2			790			4			1,392
General and administrative		19,771			16,597			37,206			31,843
Depreciation, depletion and amortization		67,052			68,207			133,893			132,589
Total operating expenses		445,528			438,002			858,053			873,741
INCOME FROM OPERATIONS		153,034			115,569			282,547			227,885
Interest expense (net of interest capitalized for the three and six months ended June 30, 2014 and 2013 of $61, $2,873, $833 and $5,404, respectively)		(8,748)			(6,218)			(16,811)			(12,836)
Interest income		417			178			806			312
Equity in loss of affiliates, net		(7,373)			(5,699)			(13,614)			(9,566)
Other income		323			353			629			627
INCOME BEFORE INCOME TAXES		137,653			104,183			253,557			206,422
INCOME TAX EXPENSE (BENEFIT)		-			109			-			(589)
NET INCOME		$	137,653		$	104,074		$	253,557		$	207,011
GENERAL PARTNERS’ INTEREST IN NET INCOME		$	34,781		$	30,592		$	68,149		$	60,362
LIMITED PARTNERS’ INTEREST IN NET INCOME		$	102,872		$	73,482		$	185,408		$	146,649
BASIC AND DILUTED NET INCOME PER LIMITED PARTNER UNIT (Note 7)		$	1.37		$	0.98		$	2.47		$	1.96
DISTRIBUTIONS PAID PER LIMITED PARTNER UNIT		$	0.61125		$	0.565		$	1.21		$	1.11875
WEIGHTED AVERAGE NUMBER OF UNITS OUTSTANDING – BASIC AND DILUTED		74,060,634			73,926,108			74,027,932			73,882,298

 

See notes to condensed consolidated financial statements.

 

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ALLIANCE RESOURCE PARTNERS, L.P. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)

(Unaudited)

 

 

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2014			2013			2014			2013
NET INCOME		$	137,653		$	104,074		$	253,557		$	207,011
OTHER COMPREHENSIVE (LOSS)/INCOME:
Defined benefit pension plan:
Amortization of actuarial loss (1)		162			559			387			1,118
Total defined benefit pension plan adjustments		162			559			387			1,118
Pneumoconiosis benefits:
Amortization of actuarial (gain)/loss (1)		(263)			167			(526)			335
Total pneumoconiosis benefits adjustments		(263)			167			(526)			335
OTHER COMPREHENSIVE (LOSS)/INCOME		(101)			726			(139)			1,453
TOTAL COMPREHENSIVE INCOME		$	137,552		$	104,800		$	253,418		$	208,464

 

(1)          Amortization of actuarial (gain)/loss is included in the computation of net periodic benefit cost (see Notes 8 and 10 for additional details).

 

See notes to condensed consolidated financial statements.

 

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ALLIANCE RESOURCE PARTNERS, L.P. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

 

		Six Months Ended June 30,
		2014			2013
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES		$	379,389		$	373,823
CASH FLOWS FROM INVESTING ACTIVITIES:
Property, plant and equipment:
Capital expenditures		(154,578)			(163,030)
Changes in accounts payable and accrued liabilities		2,608			(4,055)
Proceeds from sale of property, plant and equipment		19			9
Proceeds from insurance settlement for property, plant and equipment		4,512			-
Purchases of equity investments in affiliate		(60,000)			(47,500)
Payments to affiliate for acquisition and development of coal reserves		(1,401)			(18,860)
Advances/loans to affiliate		-			(2,531)
Net cash used in investing activities		(208,840)			(235,967)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payments under term loan		(6,250)			-
Borrowings under revolving credit facilities		142,800			77,000
Payments under revolving credit facilities		(222,800)			(90,000)
Payments on capital lease obligations		(734)			(584)
Net settlement of employee withholding taxes on vesting of Long-Term Incentive Plan		(2,991)			(3,015)
Cash contributions by General Partners		111			114
Distributions paid to Partners		(154,904)			(140,860)
Net cash used in financing activities		(244,768)			(157,345)
NET CHANGE IN CASH AND CASH EQUIVALENTS		(74,219)			(19,489)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD		93,654			28,283
CASH AND CASH EQUIVALENTS AT END OF PERIOD		$	19,435		$	8,794
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest		$	17,184		$	17,660
NON-CASH INVESTING AND FINANCING ACTIVITY:
Accounts payable for purchase of property, plant and equipment		$	20,532		$	16,917
Market value of common units issued under Long-Term Incentive and Directors Deferred Compensation Plans before minimum statutory tax withholding requirements		$	8,417		$	8,583
Disposition of property, plant and equipment:
Net change in assets		$	846		$	-
Book value of liabilities transferred		(5,246)			-
Gain recognized		$	(4,400)		$	-

 

See notes to condensed consolidated financial statements.

 

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ALLIANCE RESOURCE PARTNERS, L.P. AND SUBSIDIARIES

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1.         ORGANIZATION AND PRESENTATION

 

Significant Relationships Referenced in Notes to Condensed Consolidated Financial Statements

 

·	References to “we,” “us,” “our” or “ARLP Partnership” mean the business and operations of Alliance Resource Partners, L.P., the parent company, as well as its consolidated subsidiaries.
·	References to “ARLP” mean Alliance Resource Partners, L.P., individually as the parent company, and not on a consolidated basis.
·	References to “MGP” mean Alliance Resource Management GP, LLC, the managing general partner of Alliance Resource Partners, L.P, also referred to as our managing general partner.
·	References to “SGP” mean Alliance Resource GP, LLC, the special general partner of Alliance Resource Partners, L.P., also referred to as our special general partner.
·	References to “Intermediate Partnership” mean Alliance Resource Operating Partners, L.P., the intermediate partnership of Alliance Resource Partners, L.P., also referred to as our intermediate partnership.
·	References to “Alliance Coal” mean Alliance Coal, LLC, the holding company for the operations of Alliance Resource Operating Partners, L.P., also referred to as our operating subsidiary.
·	References to “AHGP” mean Alliance Holdings GP, L.P., individually as the parent company, and not on a consolidated basis.
·	References to “AGP” mean Alliance GP, LLC, the general partner of Alliance Holdings GP, L.P.

 

Organization

 

ARLP is a Delaware limited partnership listed on the NASDAQ Global Select Market under the ticker symbol “ARLP.”  ARLP was formed in May 1999 to acquire, upon completion of ARLP’s initial public offering on August 19, 1999, certain coal production and marketing assets of Alliance Resource Holdings, Inc., a Delaware corporation (“ARH”), consisting of substantially all of ARH’s operating subsidiaries, but excluding ARH.  ARH is owned by Joseph W. Craft III, the President and Chief Executive Officer and a Director of our managing general partner, and Kathleen S. Craft.  SGP, a Delaware limited liability company, is owned by ARH and holds a 0.01% general partner interest in each of ARLP and the Intermediate Partnership.

 

We are managed by our managing general partner, MGP, a Delaware limited liability company, which holds a 0.99% and a 1.0001% managing general partner interest in ARLP and the Intermediate Partnership, respectively, and a 0.001% managing member interest in Alliance Coal.  AHGP is a Delaware limited partnership that was formed to become the owner and controlling member of MGP.  AHGP completed its initial public offering on May 15, 2006.  AHGP owns directly and indirectly 100% of the members’ interest of MGP, the incentive distribution rights (“IDR”) in ARLP and 31,088,338 common units of ARLP.

 

Basis of Presentation

 

The accompanying condensed consolidated financial statements include the accounts and operations of the ARLP Partnership and present our financial position as of June 30, 2014 and December 31, 2013, and the results of our operations and comprehensive income for the three and six months ended June 30, 2014 and 2013 and the cash flows for the six months ended June 30, 2014 and 2013.  All of our intercompany transactions and accounts have been eliminated.

 

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These condensed consolidated financial statements and notes are unaudited. However, in the opinion of management, these financial statements reflect all adjustments (which include only normal recurring adjustments) necessary for a fair presentation of the results for the periods presented.  Results for interim periods are not necessarily indicative of results for a full year.

 

These condensed consolidated financial statements and notes are prepared pursuant to the rules and regulations of the Securities and Exchange Commission for interim reporting and should be read in conjunction with the consolidated financial statements and notes included in our Annual Report on Form 10-K for the year ended December 31, 2013.

 

On June 16, 2014, we completed a two-for-one split of our common units, whereby holders of record as of May 30, 2014 received a one unit distribution on each unit outstanding on that date.  The unit split resulted in the issuance of 37,030,317 common units.  All references to the number of units and per unit net income and distribution amounts included in this report have been adjusted to give effect for this unit split for all periods presented.  Also, ARLP’s partnership agreement was amended effective June 16, 2014, to reduce the target thresholds for the incentive distribution rights per unit by half.

 

Use of Estimates

 

The preparation of the ARLP Partnership’s condensed consolidated financial statements in conformity with generally accepted accounting principles of the United States (“U.S.”) requires management to make estimates and assumptions that affect the reported amounts and disclosures in our condensed consolidated financial statements.  Actual results could differ from those estimates.

 

2.         NEW ACCOUNTING STANDARDS

 

New Accounting Standards Issued and Not Yet Adopted

 

In April 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-08, Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity (“ASU 2014-08”).  ASU 2014-08 changes the requirements for reporting discontinued operations in Accounting Standards Codification 205, Presentation of Financial Statements, by updating the criteria for determining which disposals can be presented as discontinued operations and requires new disclosures of both discontinued operations and certain other disposals that do not meet the definition of discontinued operations.  ASU 2014-08 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2014.  We do not anticipate the adoption of ASU 2014-08 on January 1, 2015 will have a material impact on our consolidated financial statements.

 

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”).  ASU 2014-09 is a new revenue recognition standard that provides a five-step analysis of transactions to determine when and how revenue is recognized.  The core principle of the new standard is an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services.  ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016 and shall be applied retrospectively to each period presented or as a cumulative-effect adjustment as of the date of adoption.  Early adoption is not permitted.  We are currently evaluating the effect of adopting ASU 2014-09 on January 1, 2017.

 

3.         CONTINGENCIES

 

Various lawsuits, claims and regulatory proceedings incidental to our business are pending against the ARLP Partnership.  We record an accrual for a potential loss related to these matters when, in management’s opinion, such loss is probable and reasonably estimable.  Based on known facts and circumstances, we believe the ultimate outcome of these outstanding lawsuits, claims and regulatory

 

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proceedings will not have a material adverse effect on our financial condition, results of operations or liquidity.  However, if the results of these matters were different from management’s current opinion and in amounts greater than our accruals, then they could have a material adverse effect.

 

4.         FAIR VALUE MEASUREMENTS

 

We apply the provisions of FASB ASC 820, Fair Value Measurement, which, among other things, defines fair value, requires disclosures about assets and liabilities carried at fair value and establishes a hierarchal disclosure framework based upon the quality of inputs used to measure fair value.

 

Valuation techniques are based upon observable and unobservable inputs.  Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect our own market assumptions.  These two types of inputs create the following fair value hierarchy:

 

·                  Level 1 – Quoted prices for identical instruments in active markets.

·               Level 2 – Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model derived valuations whose inputs are observable or whose significant value drivers are observable.

·                  Level 3 – Instruments whose significant value drivers are unobservable.

 

The carrying amounts for cash equivalents, accounts receivable, accounts payable, due from affiliates and due to affiliates approximate fair value because of the short maturity of those instruments.  At June 30, 2014 and December 31, 2013, the estimated fair value of our long-term debt, including current maturities, was approximately $793.8 million and $884.8 million, respectively, based on interest rates that we believe are currently available to us for issuance of debt with similar terms and remaining maturities (Note 5). The fair value of debt, which is based upon interest rates for similar instruments in active markets, is classified as a Level 2 measurement under the fair value hierarchy.

 

5.         LONG-TERM DEBT

 

Long-term debt consists of the following (in thousands):

 

		June 30, 2014			December 31, 2013
Revolving Credit facility		$	170,000		$	250,000
Senior notes		18,000			18,000
Series A senior notes		205,000			205,000
Series B senior notes		145,000			145,000
Term loan		243,750			250,000
		781,750			868,000
Less current maturities		(248,000)			(36,750)
Total long-term debt		$	533,750		$	831,250

 

Our Intermediate Partnership has $18.0 million in senior notes (“Senior Notes”), $205.0 million in Series A and $145.0 million in Series B senior notes (collectively, the “2008 Senior Notes”), a $700.0 million revolving credit facility (“Revolving Credit Facility”) and a $243.8 million term loan (“Term Loan”) (collectively, with the Senior Notes, the 2008 Senior Notes and the Revolving Credit Facility, the “ARLP Debt Arrangements”), which are guaranteed by all of the material direct and indirect subsidiaries of our Intermediate Partnership.  At June 30, 2014, current maturities include Senior Notes, due in August 2014, Series A Senior notes, due in June 2015, and a portion of the Term Loan.  The ARLP Debt Arrangements contain various covenants affecting our Intermediate Partnership and its subsidiaries restricting, among other things, the amount of distributions by our Intermediate Partnership, incurrence of

 

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additional indebtedness and liens, sale of assets, investments, mergers and consolidations and transactions with affiliates, in each case subject to various exceptions.  The ARLP Debt Arrangements also require the Intermediate Partnership to remain in control of a certain amount of mineable coal reserves relative to its annual production.  In addition, the ARLP Debt Arrangements require our Intermediate Partnership to maintain (a) debt to cash flow ratio of not more than 3.0 to 1.0 and (b) cash flow to interest expense ratio of not less than 3.0 to 1.0, in each case, during the four most recently ended fiscal quarters.  The debt to cash flow ratio and cash flow to interest expense ratio were 1.05 to 1.0 and 21.5 to 1.0, respectively, for the trailing twelve months ended June 30, 2014.  We were in compliance with the covenants of the ARLP Debt Arrangements as of June 30, 2014.

 

At June 30, 2014, we had borrowings of $170.0 million and $5.4 million of letters of credit outstanding with $524.6 million available for borrowing under the Revolving Credit Facility.  We utilize the Revolving Credit Facility, as appropriate, for working capital requirements, capital expenditures and investments in affiliates, scheduled debt payments and distribution payments.  We incur an annual commitment fee of 0.25% on the undrawn portion of the Revolving Credit Facility.

 

6.                                    WHITE OAK TRANSACTIONS

 

On September 22, 2011 (the “Transaction Date”), we entered into a series of transactions with White Oak Resources LLC (“White Oak”) and related entities to support development of a longwall mining operation currently under construction.  The transactions feature several components, including an equity investment in White Oak (represented by “Series A Units” containing certain distribution and liquidation preferences), the acquisition and lease-back of certain coal reserves and surface rights and a construction loan.  Our initial investment funding to White Oak at the Transaction Date, consummated utilizing existing cash on hand, was $69.5 million and we have funded White Oak $278.1 million between the Transaction Date and June 30, 2014.  We expect to fund a total of approximately $395.5 million to $425.5 million from the Transaction Date through December 31, 2015, which includes the funding made to White Oak through June 30, 2014 discussed above.  We expect to fund these additional commitments utilizing existing cash balances, future cash flows from operations, borrowings under credit facilities and cash provided from the issuance of debt or equity.  On the Transaction Date, we also entered into a coal handling and services agreement, pursuant to which we constructed and are operating a preparation plant and other surface facilities.  The following information discusses each component of these transactions in further detail.

 

Hamilton County, Illinois Reserve Acquisition

 

On the Transaction Date, Alliance WOR Properties, LLC (“WOR Properties”) acquired from White Oak the rights to approximately 204.9 million tons of proven and probable high-sulfur coal reserves, of which 105.2 million tons are currently being developed for future mining by White Oak, and certain surface properties and rights in Hamilton County, Illinois (the “Reserve Acquisition”), which is adjacent to White County, Illinois, where our White County Coal, LLC’s Pattiki mine is located.  The asset purchase price of $33.8 million cash paid at closing was allocated to owned and leased coal rights.  Between the Transaction Date and December 31, 2012, WOR Properties provided $51.6 million to White Oak for development of the acquired coal reserves, fulfilling its initial commitment for further development funding.  During the twelve months ended December 31, 2013, WOR Properties acquired from White Oak, for $25.3 million cash paid at various closings, an additional 90.1 million tons of reserves.  During the six months ended June 30, 2014, WOR Properties acquired from White Oak, for $1.4 million cash paid at closing, an additional 5.1 million tons of reserves.  Of the additional tons acquired in 2013 and the six months ended June 30, 2014, 48.5 million tons are currently being developed for future mining by White Oak.  At June 30, 2014, WOR Properties had provided $112.1 million to acquire a total of 300.1 million tons of coal reserves and fund the development of the acquired reserves.  WOR Properties has a remaining commitment of $27.9 million for additional coal reserve acquisitions and development funding.

 

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Equity Investment – Series A Units

 

Concurrent with the Reserve Acquisition, our subsidiary, Alliance WOR Processing, LLC (“WOR Processing”), made an initial equity investment of $35.7 million in White Oak to purchase Series A Units representing ownership in White Oak.  WOR Processing purchased $129.3 million of additional Series A Units between the Transaction Date and December 31, 2013, and fulfilled WOR Processing’s minimum equity investment commitment of $150.0 million.  During the six months ended June 30, 2014, WOR Processing purchased $60.0 million of additional Series A Units, bringing our total investment in Series A Units to $225.0 million at June 30, 2014.

 

WOR Processing’s ownership and member’s voting interest in White Oak at June 30, 2014 were 35.0% based upon currently outstanding voting units.  The remainder of the equity ownership in White Oak, represented by Series A and B Units, is held by other investors and members of White Oak management.

 

We continually review all rights provided to WOR Processing and us by various agreements with White Oak and continue to conclude all such rights are protective or participating in nature and do not provide WOR Processing or us the ability to unilaterally direct any of the primary activities of White Oak that most significantly impact its economic performance.  As such, we recognize WOR Processing’s interest in White Oak as an equity investment in affiliate in our consolidated balance sheets.  As of June 30, 2014, WOR Processing had invested $225.0 million in Series A Units of White Oak equity, which represents our current maximum exposure to loss as a result of our equity investment in White Oak exclusive of capitalized interest.  White Oak has made no distributions to us.

 

We record WOR Processing’s equity in earnings or losses of affiliates under the hypothetical liquidation at book value method of accounting due to the preferences to which WOR Processing is entitled on distributions.  For the three and six months ended June 30, 2014 and 2013, we were allocated losses of $7.5 million, $5.9 million, $13.8 million and $10.1 million, respectively.

 

Services Agreement

 

Simultaneous with the closing of the Reserve Acquisition, WOR Processing entered into a Coal Handling and Preparation Agreement with White Oak pursuant to which WOR Processing committed to construct and operate a coal preparation plant and related facilities and a rail loop and loadout facility to service the White Oak longwall Mine No. 1.  For the three and six months ended June 30, 2014, WOR Processing earned throughput fees of $3.8 million and $7.4 million, respectively, from White Oak for processing and loading coal through the facilities.  Throughput fees earned from White Oak are included in the other sales and operating revenues line item within our condensed consolidated statements of income.

 

In addition, the Intermediate Partnership agreed to loan $10.5 million to White Oak for the construction of various assets on the surface property, including but not limited to, a bathhouse, office and warehouse (“Construction Loan”).  The Construction Loan has a term of 20 years, with repayment scheduled to begin in 2015.  White Oak had borrowed the entire amount available under the Construction Loan as of June 30, 2014.

 

7.         NET INCOME PER LIMITED PARTNER UNIT

 

We apply the provisions of FASB ASC 260, Earnings Per Share, which requires the two-class method in calculating basic and diluted earnings per unit (“EPU”).  Net income is allocated to the general partners and limited partners in accordance with their respective partnership percentages, after giving effect to any special income or expense allocations, including incentive distributions to our managing general partner, the holder of the IDR pursuant to our partnership agreement, which are declared and paid following the end of each quarter. Under the quarterly IDR provisions of our partnership agreement, our

 

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managing general partner is entitled to receive 15% of the amount we distribute in excess of $0.1375 per unit, 25% of the amount we distribute in excess of $0.15625 per unit, and 50% of the amount we distribute in excess of $0.1875 per unit.  Our partnership agreement contractually limits our distributions to available cash; therefore, undistributed earnings of the ARLP Partnership are not allocated to the IDR holder.  In addition, outstanding awards under our Long-Term Incentive Plan (“LTIP”) and phantom units in notional accounts under our Supplemental Executive Retirement Plan (“SERP”) and the MGP Amended and Restated Deferred Compensation Plan for Directors (“Deferred Compensation Plan”) include rights to nonforfeitable distributions or distribution equivalents and are therefore considered participating securities.  As such, we allocate undistributed and distributed earnings to these outstanding awards in our calculation of EPU.  The following is a reconciliation of net income used for calculating basic earnings per unit and the weighted average units used in computing EPU for the three and six months ended June 30, 2014 and 2013 (in thousands, except per unit data):

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2014			2013			2014			2013
Net income		$	137,653		$	104,074		$	253,557		$	207,011
Adjustments:
Managing general partner’s priority distributions		(32,682)			(29,092)			(64,366)			(57,369)
General partners’ 2% equity ownership		(2,099)			(1,500)			(3,783)			(2,993)
Limited partners’ interest in net income		102,872			73,482			185,408			146,649
Less:
Distributions to participating securities		(729)			(583)			(1,437)			(1,152)
Undistributed earnings attributable to participating securities		(886)			(415)			(1,440)			(847)
Net income available to limited partners		$	101,257		$	72,484		$	182,531		$	144,650
Weighted average limited partner units outstanding – basic and diluted		74,061			73,926			74,028			73,882
Basic and diluted net income per limited partner unit (1)		$	1.37		$	0.98		$	2.47		$	1.96

 

(1)          Diluted EPU gives effect to all dilutive potential common units outstanding during the period using the treasury stock method. Diluted EPU excludes all dilutive potential units calculated under the treasury stock method if their effect is anti-dilutive.  For the three and six months ended June 30, 2014 and 2013, LTIP, SERP and Deferred Compensation Plan units of 755,210, 690,304, 748,446 and 634,334 respectively, were considered anti-dilutive under the treasury stock method.

 

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8.                                    WORKERS’ COMPENSATION AND PNEUMOCONIOSIS

 

The changes in the workers’ compensation liability (including current and long-term liability balances) for each of the periods presented were as follows (in thousands):

 

		Three Months Ended June 30,								Six Months Ended June 30,
		2014				2013				2014				2013
Beginning balance		$	62,989			$	78,755			$	62,909			$	77,046
Accruals increase		5,281				3,982				7,464				7,947
Payments		(2,778		)		(2,727		)		(5,527		)		(5,603		)
Interest accretion		647				620				1,293				1,240
Valuation gain (1)		(4,624		)		-				(4,624		)		-
Ending balance		$	61,515			$	80,630			$	61,515			$	80,630

 

(1)      Our liability for the estimated present value of current workers’ compensation benefits is based on our actuarial estimates. Our actuarial calculations are based on a blend of actuarial projection methods and numerous assumptions including claim development patterns, mortality, medical costs and interest rates. We conducted a mid-year review of our actuarial assumptions which resulted in a valuation gain in 2014 primarily attributable to favorable changes in claims development, offset partially by a decrease in the discount rate used to calculate the estimated present value of future obligations from 4.11% at December 31, 2013 to 3.67% at June 30, 2014.

 

Certain of our mine operating entities are liable under state statutes and the Federal Coal Mine Health and Safety Act of 1969, as amended, to pay pneumoconiosis, or black lung, benefits to eligible employees and former employees and their dependents. Components of the net periodic benefit cost for each of the periods presented are as follows (in thousands):

 

		Three Months Ended June 30,								Six Months Ended June 30,
		2014				2013				2014				2013
Service cost		$	857			$	951			$	1,714			$	1,905
Interest cost		565				564				1,131				1,127
Amortization of net (gain)/loss (1)		(263		)		167				(526		)		335
Net periodic benefit cost		$	1,159			$	1,682			$	2,319			$	3,367

 

(1)      Amortization of net (gain)/loss is included in the operating expenses line item within our condensed consolidated statements of income.

 

9.                                    COMPENSATION PLANS

 

Long-Term Incentive Plan

 

We have the LTIP for certain employees and officers of our managing general partner and its affiliates who perform services for us. The LTIP awards are grants of non-vested “phantom” or notional units, which upon satisfaction of vesting requirements, entitle the LTIP participant to receive ARLP common units. Annual grant levels and vesting provisions for designated participants are recommended by our President and Chief Executive Officer, subject to review and approval of the compensation committee of the MGP board of directors (the “Compensation Committee”). On January 22, 2014, the Compensation Committee determined that the vesting requirements for the 2011 grants of 202,742

 

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restricted units (which is net of 14,090 forfeitures) had been satisfied as of January 1, 2014. As a result of this vesting, on February 14, 2014, we issued 128,610 unrestricted common units to the LTIP participants. The remaining units were settled in cash to satisfy the individual statutory minimum tax obligations of the LTIP participants. On January 22, 2014, the Compensation Committee authorized additional grants of up to 370,410 restricted units, of which 350,890 were granted during the six months ended June 30, 2014 and will vest on January 1, 2017, subject to satisfaction of certain financial tests. The fair value of these 2014 grants is equal to the intrinsic value at the date of grant, which was $40.58 per unit. LTIP expense was $2.5 million and $1.9 million for the three months ended June 30, 2014 and 2013, respectively, and $4.6 million and $3.6 million for the six months ended June 30, 2014 and 2013, respectively. After consideration of the January 1, 2014 vesting and subsequent issuance of 128,610 common units, approximately 3.9 million units remain available under the LTIP for issuance in the future, assuming all grants issued in 2012, 2013 and 2014 currently outstanding are settled with common units, without reduction for tax withholding, and no future forfeitures occur.

 

As of June 30, 2014, there was $17.4 million in total unrecognized compensation expense related to the non-vested LTIP grants that are expected to vest. That expense is expected to be recognized over a weighted-average period of 1.7 years. As of June 30, 2014, the intrinsic value of the non-vested LTIP grants was $39.3 million. As of June 30, 2014, the total obligation associated with the LTIP was $12.7 million and is included in the partners’ capital-limited partners line item in our condensed consolidated balance sheets.

 

As provided under the distribution equivalent rights provisions of the LTIP, all non-vested grants include contingent rights to receive quarterly cash distributions in an amount equal to the cash distributions we make to unitholders during the vesting period.

 

SERP and Directors Deferred Compensation Plan

 

We utilize the SERP to provide deferred compensation benefits for certain officers and key employees. All allocations made to participants under the SERP are made in the form of “phantom” ARLP units. The SERP is administered by the Compensation Committee.

 

Our directors participate in the Deferred Compensation Plan. Pursuant to the Deferred Compensation Plan, for amounts deferred either automatically or at the election of the director, a notional account is established and credited with notional common units of ARLP, described in the Deferred Compensation Plan as “phantom” units.

 

For both the SERP and Deferred Compensation Plan, when quarterly cash distributions are made with respect to ARLP common units, an amount equal to such quarterly distribution is credited to each participant’s notional account as additional phantom units. All grants of phantom units under the SERP and Deferred Compensation Plan vest immediately.

 

For the six months ended June 30, 2014 and 2013, SERP and Deferred Compensation Plan participant notional account balances were credited with a total of 10,806 and 14,848 phantom units, respectively, and the fair value of these phantom units was $42.93 per unit and $32.97 per unit, respectively, on a weighted-average basis. Total SERP and Deferred Compensation Plan expense was approximately $0.3 million for each of the three months ended June 30, 2014 and 2013, and $0.6 million for each of the six months ended June 30, 2014 and 2013.

 

As of June 30, 2014, there were 352,210 total phantom units outstanding under the SERP and Deferred Compensation Plan and the total intrinsic value of the SERP and Deferred Compensation Plan phantom units was $16.4 million. As of June 30, 2014, the total obligation associated with the SERP and Deferred Compensation Plan was $11.8 million and is included in the partners’ capital-limited partners line item in our condensed consolidated balance sheets. On February 14, 2014, we issued 5,916 ARLP common units to directors under the Deferred Compensation Plan.

 

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10.                            COMPONENTS OF PENSION PLAN NET PERIODIC BENEFIT COSTS

 

Eligible employees at certain of our mining operations participate in a defined benefit plan (the “Pension Plan”) that we sponsor. The benefit formula for the Pension Plan is a fixed dollar unit based on years of service.

 

Components of the net periodic benefit cost for each of the periods presented are as follows (in thousands):

 

		Three Months Ended June 30,								Six Months Ended June 30,
		2014				2013				2014				2013
Service cost		$	544			$	674			$	1,087			$	1,434
Interest cost		1,018				929				2,037				1,781
Expected return on plan assets		(1,337		)		(931		)		(2,738		)		(2,164		)
Amortization of net loss (1)		162				559				387				1,118
Net periodic benefit cost		$	387			$	1,231			$	773			$	2,169

 

(1)          Amortization of net loss is included in the operating expenses line item within our condensed consolidated statements of income.

 

We previously disclosed in our financial statements for the year ended December 31, 2013 that we expected to contribute $3.6 million to the Pension Plan in 2014. During the six months ended June 30, 2014, we made contribution payments of $0.8 million to the Pension Plan for the 2013 plan year and $0.8 million for the 2014 plan year. On July 15, 2014, we made a contribution payment of $0.8 million for the 2014 plan year. We expect to make additional contributions of $0.3 million for the 2013 plan year and $0.9 million for the 2014 plan year for the remainder of 2014 and, therefore, will contribute approximately $3.6 million to the Pension Plan in 2014.

 

11.                            SEGMENT INFORMATION

 

We operate in the eastern U.S. as a producer and marketer of coal to major utilities and industrial users. We aggregate multiple operating segments into four reportable segments: the Illinois Basin, Appalachia, White Oak and Other and Corporate. The first two reportable segments correspond to major coal producing regions in the eastern U.S. Similar economic characteristics for our operating segments within each of these two reportable segments generally include coal quality, geology, coal marketing opportunities, mining and transportation methods and regulatory issues. The White Oak reportable segment includes our activities associated with the White Oak longwall Mine No. 1 development project more fully described below.

 

The Illinois Basin reportable segment is comprised of multiple operating segments, including Webster County Coal, LLC’s Dotiki mining complex, Gibson County Coal, LLC’s mining complex, which includes the Gibson North mine and Gibson South mine, Hopkins County Coal, LLC’s Elk Creek mining complex, White County Coal, LLC’s Pattiki mining complex, Warrior Coal, LLC’s mining complex, Sebree Mining, LLC’s mining complex, which includes the Onton mine, and River View Coal, LLC’s mining complex. The development of the Gibson South mine continues and includes incidental production which began in April 2014.

 

The Appalachian reportable segment is comprised of multiple operating segments, including the Mettiki mining complex, the Tunnel Ridge, LLC mining complex, the MC Mining, LLC mining complex and the Penn Ridge Coal, LLC (“Penn Ridge”) property. The Mettiki mining complex includes Mettiki Coal (WV), LLC’s Mountain View mine, Mettiki Coal, LLC’s preparation plant and a small third-party mining operation which has been idled since July 2013. We are in the process of permitting the Penn Ridge property for future mine development.

 

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The White Oak reportable segment is comprised of two operating segments, WOR Processing and WOR Properties. WOR Processing includes both the surface operations at White Oak and the equity investment in White Oak. WOR Properties owns coal reserves acquired from White Oak under lease-back arrangements (Note 6).

 

The Other and Corporate segment includes marketing and administrative expenses, Alliance Service, Inc. (“ASI”) and its subsidiary, Matrix Design Group, LLC (“Matrix Design”), Alliance Design Group, LLC (“Alliance Design”) (collectively, Matrix Design and Alliance Design are referred to as the “Matrix Group”), ASI’s ownership of aircraft, the Mt. Vernon Transfer Terminal, LLC (“Mt. Vernon”) dock activities, coal brokerage activity, our equity investment in Mid-America Carbonates, LLC, certain activities of Alliance Resource Properties and the Pontiki Coal, LLC mining complex (“Pontiki”), which ceased operations in November 2013 and sold most of its assets in May 2014.

 

As a result of the cessation of operations at Pontiki in November 2013, we evaluated the ongoing management of our mining operations and coal sales efforts to ensure that resources were appropriately allocated to maximize our overall results. Based on this evaluation, we have realigned the management of our operating and marketing teams and changed our reportable segment presentation to reflect this realignment. Due to the change in our reportable segment presentation in 2014, certain reclassifications of 2013 segment information have been made to conform to the 2014 presentation. These reclassifications include changes to the Appalachian segment and Other and Corporate segment.

 

Reportable segment results as of and for the three and six months ended June 30, 2014 and 2013 are presented below.

 

		Illinois Basin				Appalachia				White Oak				Other and Corporate				Elimination (1)				Consolidated
		(in thousands)
Reportable segment results for the three months ended June 30, 2014 were as follows:
Total revenues (2)		$	424,523			$	164,096			$	4,170			$	8,188			$	(2,415	)		$	598,562
Segment Adjusted EBITDA Expense (3)		255,942				93,917				1,625				3,503				(2,415		)		352,572
Segment Adjusted EBITDA (4)(5)		165,859				67,089				(4,915		)		4,774				-				232,807
Capital expenditures (7)		62,166				18,541				220				4,188				-				85,115
Reportable segment results for the three months ended June 30, 2013 were as follows:
Total revenues (2)		$	400,386			$	133,585			$	-			$	24,522			$	(4,922	)		$	553,571
Segment Adjusted EBITDA Expense (3)		233,703				96,553				427				22,113				(4,922		)		347,874
Segment Adjusted EBITDA (4)(5)		164,623				34,120				(6,295		)		2,579				-				195,027
Capital expenditures (7)		52,995				31,864				11,917				2,744				-				99,520
Reportable segment results as of and for the six months ended June 30, 2014 were as follows:
Total revenues (2)		$	821,025			$	301,280			$	7,868			$	15,930			$	(5,503	)		$	1,140,600
Segment Adjusted EBITDA Expense (3)		485,533				179,490				3,016				11,974				(5,503		)		674,510
Segment Adjusted EBITDA (4)(5)		329,508				115,959				(8,912		)		4,106				-				440,661
Total assets (6)		1,102,550				608,714				365,380				60,898				(1,549		)		2,135,993
Capital expenditures (7)		117,875				28,669				2,179				7,256				-				155,979
Reportable segment results as of and for the six months ended June 30, 2013 were as follows:
Total revenues (2)		$	805,209			$	255,944			$	-			$	51,029			$	(10,556	)		$	1,101,626
Segment Adjusted EBITDA Expense (3)		467,848				192,478				528				46,479				(10,556		)		696,777
Segment Adjusted EBITDA (4)(5)		331,844				57,077				(10,587		)		5,044				-				383,378
Total assets (6)		1,056,953				603,005				298,716				62,325				(936		)		2,020,063
Capital expenditures (7)		105,026				44,419				28,870				3,575				-				181,890

 

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