ALLIANCE RESOURCE PARTNERS LP - Quarter Report: 2015 June (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

 

xQUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2015

 

OR

 

oTRANSITION 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 7, 2015, 74,188,784 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, 2015 and December 31, 2014		1
	Condensed Consolidated Statements of Income for the three and six months ended June 30, 2015 and 2014		2
	Condensed Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2015 and 2014		3
	Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2015 and 2014		4
	Notes to Condensed Consolidated Financial Statements		5
ITEM 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		23
ITEM 3.	Quantitative and Qualitative Disclosures about Market Risk		41
ITEM 4.	Controls and Procedures		42
	Forward-Looking Statements		43

 

PART II

OTHER INFORMATION

 

ITEM 1.	Legal Proceedings	45
ITEM 1A.	Risk Factors	45
ITEM 2.	Unregistered Sales of Equity Securities and Use of Proceeds	45
ITEM 3.	Defaults Upon Senior Securities	46
ITEM 4.	Mine Safety Disclosures	46
ITEM 5.	Other Information	46
ITEM 6.	Exhibits	47

 

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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		2015			2014
CURRENT ASSETS:
Cash and cash equivalents		$	43,279		$	24,601
Trade receivables		191,505			184,187
Other receivables		635			1,025
Due from affiliates		23,235			7,221
Inventories		88,272			83,155
Advance royalties		9,440			9,416
Prepaid expenses and other assets		21,774			31,283
Total current assets		378,140			340,888
PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment, at cost		2,927,115			2,815,620
Less accumulated depreciation, depletion and amortization		(1,270,593)			(1,150,414)
Total property, plant and equipment, net		1,656,522			1,665,206
OTHER ASSETS:
Advance royalties		24,901			15,895
Due from affiliate		11,166			11,047
Equity investments in affiliates		221,768			224,611
Other long-term assets		37,432			27,412
Total other assets		295,267			278,965
TOTAL ASSETS		$	2,329,929		$	2,285,059
LIABILITIES AND PARTNERS’ CAPITAL
CURRENT LIABILITIES:
Accounts payable		$	72,552		$	85,843
Due to affiliates		381			370
Accrued taxes other than income taxes		23,097			19,426
Accrued payroll and related expenses		38,207			57,656
Accrued interest		317			318
Workers’ compensation and pneumoconiosis benefits		8,873			8,868
Current capital lease obligations		1,316			1,305
Other current liabilities		15,437			17,109
Current maturities, long-term debt		68,750			230,000
Total current liabilities		228,930			420,895
LONG-TERM LIABILITIES:
Long-term debt, excluding current maturities		788,000			591,250
Pneumoconiosis benefits		57,235			55,278
Accrued pension benefit		39,377			40,105
Workers’ compensation		47,906			49,797
Asset retirement obligations		94,605			91,085
Long-term capital lease obligations		14,946			15,624
Other liabilities		7,173			5,978
Total long-term liabilities		1,049,242			849,117
Total liabilities		1,278,172			1,270,012
COMMITMENTS AND CONTINGENCIES
PARTNERS’ CAPITAL:
Alliance Resource Partners, L.P. (“ARLP”) Partners’ Capital:
Limited Partners - Common Unitholders 74,188,784 and 74,060,634 units outstanding, respectively		1,342,072			1,310,517
General Partners’ deficit		(257,512)			(260,088)
Accumulated other comprehensive loss		(34,395)			(35,847)
Total ARLP Partners’ Capital		1,050,165			1,014,582
Noncontrolling interest		1,592			465
Total Partners’ Capital		1,051,757			1,015,047
TOTAL LIABILITIES AND PARTNERS’ CAPITAL		$	2,329,929		$	2,285,059

 

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,
		2015			2014			2015			2014
SALES AND OPERATING REVENUES:
Coal sales		$	567,288		$	575,191		$	1,085,027		$	1,100,736
Transportation revenues		7,780			5,810			14,928			11,815
Other sales and operating revenues		29,652			17,561			65,181			28,049
Total revenues		604,720			598,562			1,165,136			1,140,600
EXPENSES:
Operating expenses (excluding depreciation, depletion and amortization)		375,065			352,893			709,427			675,135
Transportation expenses		7,780			5,810			14,928			11,815
Outside coal purchases		2			2			324			4
General and administrative		17,542			19,771			34,388			37,206
Depreciation, depletion and amortization		79,801			67,052			158,069			133,893
Total operating expenses		480,190			445,528			917,136			858,053
INCOME FROM OPERATIONS		124,530			153,034			248,000			282,547
Interest expense (net of interest capitalized for the three and six months ended June 30, 2015 and 2014 of $154, $61, $366 and $833, respectively)		(8,306)			(8,748)			(16,274)			(16,811)
Interest income		605			417			1,136			806
Equity in loss of affiliates, net		(22,142)			(7,373)			(31,828)			(13,614)
Other income		177			323			295			629
INCOME BEFORE INCOME TAXES		94,864			137,653			201,329			253,557
INCOME TAX EXPENSE		7			-			5			-
NET INCOME		94,857			137,653			201,324			253,557
LESS: NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTEREST		7			-			20			-
NET INCOME ATTRIBUTABLE TO ALLIANCE RESOURCE PARTNERS, L.P. (“NET INCOME OF ARLP”)		$	94,864		$	137,653		$	201,344		$	253,557
GENERAL PARTNERS’ INTEREST IN NET INCOME OF ARLP		$	37,541		$	34,781		$	74,424		$	68,149
LIMITED PARTNERS’ INTEREST IN NET INCOME OF ARLP		$	57,323		$	102,872		$	126,920		$	185,408
BASIC AND DILUTED NET INCOME OF ARLP PER LIMITED PARTNER UNIT (Note 10)		$	0.76		$	1.37		$	1.68		$	2.47
DISTRIBUTIONS PAID PER LIMITED PARTNER UNIT		$	0.6625		$	0.61125		$	1.3125		$	1.21
WEIGHTED AVERAGE NUMBER OF UNITS OUTSTANDING – BASIC AND DILUTED		74,188,784			74,060,634			74,159,756			74,027,932

 

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,
		2015			2014			2015			2014
NET INCOME		$	94,857		$	137,653		$	201,324		$	253,557
OTHER COMPREHENSIVE INCOME/(LOSS):
Defined benefit pension plan:
Amortization of net actuarial loss (1)		835			162			1,677			387
Total defined benefit pension plan adjustments		835			162			1,677			387
Pneumoconiosis benefits:
Amortization of net actuarial gain (1)		(112)			(263)			(225)			(526)
Total pneumoconiosis benefits adjustments		(112)			(263)			(225)			(526)
OTHER COMPREHENSIVE INCOME/(LOSS)		723			(101)			1,452			(139)
COMPREHENSIVE INCOME		95,580			137,552			202,776			253,418
Less: Comprehensive loss attributable to noncontrolling interest		7			-			20			-
COMPREHENSIVE INCOME ATTRIBUTABLE TO ARLP		$	95,587		$	137,552		$	202,796		$	253,418

 

(1)          Amortization of net actuarial (gain)/loss is included in the computation of net periodic benefit cost (see Notes 11 and 13 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,
		2015			2014
CASH FLOWS PROVIDED BY OPERATING ACTIVITIES		$	338,880		$	379,389
CASH FLOWS FROM INVESTING ACTIVITIES:
Property, plant and equipment:
Capital expenditures		(107,758)			(154,578)
Changes in accounts payable and accrued liabilities		(5,797)			2,608
Proceeds from sale of property, plant and equipment		243			19
Proceeds from insurance settlement for property, plant and equipment		-			4,512
Purchases of equity investments in affiliates		(30,757)			(60,000)
Payments for acquisitions of businesses, net of cash acquired (Note 4)		(28,078)			-
Payments to affiliate for acquisition and development of coal reserves		-			(1,401)
Advances/loans to affiliate		(7,300)			-
Other		1,807			-
Net cash used in investing activities		(177,640)			(208,840)
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment on term loan		(12,500)			(6,250)
Borrowings under revolving credit facilities		363,000			142,800
Payments under revolving credit facilities		(110,000)			(222,800)
Payment on long-term debt		(205,000)			-
Payments on capital lease obligations		(667)			(734)
Contribution to consolidated company from affiliate noncontrolling interest		1,147			-
Net settlement of employee withholding taxes on vesting of Long-Term Incentive Plan		(2,719)			(2,991)
Cash contributions by General Partners		95			111
Distributions paid to Partners		(170,597)			(154,904)
Other		(5,321)			-
Net cash used in financing activities		(142,562)			(244,768)
NET CHANGE IN CASH AND CASH EQUIVALENTS		18,678			(74,219)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD		24,601			93,654
CASH AND CASH EQUIVALENTS AT END OF PERIOD		$	43,279		$	19,435
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest		$	15,972		$	17,184
NON-CASH INVESTING AND FINANCING ACTIVITY:
Accounts payable for purchase of property, plant and equipment		$	9,857		$	20,532
Market value of common units issued under Long-Term Incentive and Directors Deferred Compensation Plans before minimum statutory tax withholding requirements		$	7,389		$	8,417
Acquisition of businesses:
Fair value of assets assumed		$	39,843		$	-
Cash paid		(28,078)			-
Fair value of liabilities assumed		$	11,765		$	-
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 substantial majority of the operations of Alliance Resource Operating Partners, L.P., also referred to as our primary 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, 2015 and December 31, 2014, the results of our operations and comprehensive income for the three and six months ended June 30, 2015 and 2014 and the cash flows for the six months ended June 30, 2015 and 2014.  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, 2014.

 

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 of ARLP 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 by half the target thresholds for the incentive distribution rights per unit.

 

Use of Estimates

 

The preparation of the ARLP Partnership’s condensed consolidated financial statements in conformity with generally accepted accounting principles (“GAAP”) 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 Standard Issued and 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 was effective for fiscal years, and interim periods within those years, beginning after December 15, 2014.  The adoption of ASU 2014-08 did not have a material impact on our condensed consolidated financial statements.

 

New Accounting Standards Issued and Not Yet Adopted

 

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 currently not permitted.  In April 2015, the FASB issued a Proposed Accounting Standards Update that would defer the effective date of ASU 2014-09 by one year.  We are currently evaluating the effect of adopting ASU 2014-09.

 

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In August 2014, the FASB issued ASU 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (“ASU 2014-15”).  ASU 2014-15 provides guidance on management’s responsibility in evaluating whether there is substantial doubt about an entity’s ability to continue as a going concern and to provide related footnote disclosures.  ASU 2014-15 is effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter with early adoption permitted.  We do not anticipate the adoption of ASU 2014-15 will have a material impact on our consolidated financial statements.

 

In February 2015, the FASB issued ASU 2015-02, Consolidation (“ASU 2015-02”).  ASU 2015-02 changes the requirements and analysis required when determining the reporting entity’s need to consolidate an entity, including modifying the evaluation of limited partnership variable interest status, presumption that a general partner should consolidate a limited partnership and the consolidation criterion applied by a reporting entity involved with variable interest entities.  ASU 2015-02 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2015 and shall be applied retrospectively to each period presented.  Early adoption is permitted.  We are currently evaluating the effect of adopting ASU 2015-02.

 

In April 2015, the FASB issued ASU 2015-03, Interest – Imputation of Interest (“ASU 2015-03”).  ASU 2015-03 changes the classification and presentation of debt issuance costs by requiring debt issuance costs to be reported as a direct deduction from the face amount of the debt liability rather than an asset.  Amortization of the costs is reported as interest expense.  The amendment does not affect the current guidance on the recognition and measurement of debt issuance costs.  ASU 2015-03 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2015 and shall be applied retrospectively to each period presented.  We do not anticipate the adoption of ASU 2015-03 will have a material impact on our consolidated financial statements.

 

In April 2015, the FASB issued ASU 2015-06, Effects on Historical Earnings per Unit of Master Limited Partnership Dropdown Transactions (“ASU 2015-06”).  ASU 2015-06 specifies that for purposes of calculating historical earnings per unit under the two-class method, the earnings of a transferred business before the date of a dropdown transaction should be allocated entirely to the general partner.  Earnings per unit of the limited partners would not change as a result of the dropdown transaction.  ASU 2015-06 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2015 and shall be applied retrospectively to each period presented.  Early adoption is permitted.  We are currently evaluating the effect of adopting ASU 2015-06.

 

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 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.                                    ACQUISITIONS

 

Patriot Coal Corporation

 

On December 31, 2014 (the “Initial Closing Date”), we entered into asset purchase agreements with Patriot Coal Corporation (“Patriot”) regarding certain assets relating to two of Patriot’s western Kentucky mining operations, including certain coal sales agreements, unassigned coal reserves and underground mining equipment and infrastructure.  Both of the mining operations – the former Dodge Hill and Highland mining operations – were closed by Patriot in late 2014 prior to entering into these agreements.  Also on December 31, 2014, Patriot affiliates entered into agreements to sell other assets from Highland to a third party.  Additional details of the transactions are discussed below.

 

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On the Initial Closing Date, our subsidiary, Alliance Coal acquired the rights to certain coal supply agreements from an affiliate of Patriot for approximately $21.0 million.  Of the $21.0 million purchase price, $9.3 million was paid into escrow subject to obtaining certain consents.  In February 2015, $7.5 million of the escrowed amount was released to Patriot for a consent received and $1.8 million was returned to Alliance Coal as a result of a consent not received, reducing our purchase price to $19.2 million.  The acquired agreements provide for delivery of a total of approximately 5.1 million tons of coal from 2015 through 2017.

 

On February 3, 2015 (the “Acquisition Date”), Alliance Coal and Alliance Resource Properties acquired from Patriot an estimated 84.1 million tons of proven and probable high-sulfur coal reserves in western Kentucky (substantially all of which was leased by Patriot), and substantially all of Dodge Hill’s assets related to its former coal mining operation in western Kentucky, which principally included underground mining equipment and an estimated 43.2 million tons of non-reserve coal deposits (substantially all of which was leased by Dodge Hill). In addition, we assumed Dodge Hill’s reclamation liabilities totaling $2.3 million.  Also on the Acquisition Date, the Intermediate Partnership’s newly formed subsidiaries, UC Mining, LLC and UC Processing, LLC, acquired certain underground mining equipment and spare parts inventory from Patriot’s former Highland mining operation.

 

The mining and reserve assets acquired from Patriot described above are located in Union and Henderson Counties, Kentucky.  The mining equipment, spare parts and underground infrastructure that we acquired from Patriot has been and is continuing to be dispersed to our existing operations in the Illinois Basin region in accordance with their highest and best use.  Our purchase price of $19.2 million and $20.5 million paid on the Initial Closing Date and the Acquisition Date, respectively, described above was financed using existing cash on hand.  In addition, our purchase price was increased by $8.3 million, comprising $2.1 million cash paid prior to the Acquisition Date related to the transaction and an agreement to pay approximately $6.2 million additional consideration as discussed below.  As we have no intentions of operating the former Dodge Hill mining complex as a business and only acquired certain assets of Highland, we believe unaudited pro forma information of revenue and earnings is not meaningful as it relates to the acquisition of Patriot assets described above and furthermore not materially different than revenue and earnings as presented in our condensed consolidated statements of income.  The primary ongoing benefit derived from the transaction relates to the coal supply agreements acquired, which would have permitted the sale of 0.8 million tons and 1.6 million tons at average pricing of $46.67 per ton sold during the three and six months ended June 30, 2014, respectively, based on the contract price and sales volumes, if we had owned the contracts during that period.

 

In conjunction with our acquisitions on the Acquisition Date, WKY CoalPlay, LLC (“WKY CoalPlay”), a related party, acquired approximately 39.1 million tons of proven and probable high-sulfur owned coal reserves located in Henderson and Union Counties, Kentucky from Central States Coal Reserves of Kentucky, LLC (“Central States”), a subsidiary of Patriot, for $25.0 million and in turn leased those reserves to us.  In February 2015, we paid $2.1 million to WKY CoalPlay for the initial annual minimum royalty payment (Note 9).

 

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The following table summarizes the estimated consideration transferred from us to Patriot and the preliminary fair value allocation of assets acquired and liabilities assumed as valued at the Acquisition Date, incorporating fair value adjustments made subsequent to the Acquisition Date (in thousands):

 

		Preliminary as of March 31, 2015		Adjustments		Preliminary as of June 30, 2015
Estimated consideration transferred		$         47,514				$         47,998
Recognized amounts of net tangible and intangible assets acquired and liabilities assumed:
Inventories		3,255		-		3,255
Property, plant and equipment, including mineral rights and leased equipment		26,995		3,409		30,404
Customer contracts, net		19,193		-		19,193
Other assets		326		162		488
Asset retirement obligation		(2,255)		-		(2,255)
Other liabilities		-		(3,087)		(3,087)
Net tangible and intangible assets acquired		$         47,514				$         47,998

 

Included in estimated consideration transferred above is an agreement to pay an additional $6.2 million related to the acquisition, of which $5.3 million was paid as of June 30, 2015.  Additionally, a fair value adjustment of $3.1 million to increase liabilities and property, plant and equipment was recorded to reflect the impact of operating leases assumed in the acquisition.  Other adjustments to the preliminary fair values resulted from additional information obtained about facts in existence on February 3, 2015.

 

Intangible assets related to coal supply agreements, represented as “Customer contracts, net” in the table above are reflected in the “Prepaid expenses and other assets” and “Other long-term assets” line items in our condensed consolidated balance sheets.  For the six months ended June 30, 2015, amortization expense for the acquired coal supply agreements of $6.1 million has been recognized based on the weighted-average term of the contracts on a per unit basis.  We are currently in the process of evaluating the fair values of the assets acquired and liabilities assumed from Patriot.  As a result, the purchase price allocations above are preliminary, pending completion of our final evaluation of all assets acquired and liabilities assumed.

 

MAC

 

In March 2006, White County Coal, and Alexander J. House entered into a limited liability company agreement to form Mid-America Carbonates, LLC (“MAC”).  MAC was formed to engage in the development and operation of a rock dust mill and to manufacture and sell rock dust.  White County Coal initially invested $1.0 million in exchange for a 50.0% equity interest in MAC. Our equity investment in MAC was $1.6 million at December 31, 2014.  Effective on January 1, 2015, we purchased the remaining 50.0% equity interest in MAC from Mr. House for $5.5 million cash paid at closing.  In conjunction with the acquisition, we recorded $4.2 million of goodwill to our Other and Corporate segment (Note 14) that is included in “Other long-term assets” on our condensed consolidated balance sheets.  We will assess our goodwill for impairment at least annually as of November 30.

 

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5.                                    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, 2015 and December 31, 2014, the estimated fair value of our long-term debt, including current maturities, was approximately $865.5 million and $833.4 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 6). 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.

 

6.                                    LONG-TERM DEBT

 

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

 

		June 30, 2015			December 31, 2014
Revolving Credit facility		$	393,000		$	140,000
Series A senior notes		-			205,000
Series B senior notes		145,000			145,000
Term loan		218,750			231,250
Securitization facility		100,000			100,000
		856,750			821,250
Less current maturities		(68,750)			(230,000)
Total long-term debt		$	788,000		$	591,250

 

Our Intermediate Partnership has $145.0 million in Series B senior notes (“Series B Senior Notes”), a $700.0 million revolving credit facility (“Revolving Credit Facility”) and a $218.8 million term loan (“Term Loan” and collectively, with the Series B 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.  Our Intermediate Partnership also has a $100.0 million accounts receivable securitization facility (“Securitization Facility”).  At June 30, 2015, current maturities include a portion of the Term Loan.  On June 26, 2015 the outstanding balance of the Series A senior notes totaling $205.0 million was paid.  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 additional indebtedness and liens, sale of assets, investments, mergers and consolidations and transactions with affiliates, in each case subject to various

 

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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 1.09 to 1.0 and 23.9 to 1.0, respectively, for the trailing twelve months ended June 30, 2015.  We were in compliance with the covenants of the ARLP Debt Arrangements as of June 30, 2015.

 

At June 30, 2015, we had borrowings of $393.0 million and $5.4 million of letters of credit outstanding with $301.6 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.

 

On December 5, 2014, certain direct and indirect wholly owned subsidiaries of our Intermediate Partnership entered into the Securitization Facility providing additional liquidity and funding.  Under the Securitization Facility, certain subsidiaries sell trade receivables on an ongoing basis to our Intermediate Partnership, which then sells the trade receivables to AROP Funding, LLC (“AROP Funding”), a wholly owned bankruptcy-remote special purpose subsidiary of our Intermediate Partnership, which in turn borrows on a revolving basis up to $100.0 million secured by the trade receivables.  After the sale, Alliance Coal, as servicer of the assets, collects the receivables on behalf of AROP Funding.  The Securitization Facility bears interest based on a Eurodollar Rate.  The Securitization Facility has an initial term of 364 days; however, we have the contractual ability and the intent to extend the term for an additional 364 days.  At June 30, 2015, we had $100.0 million outstanding under the Securitization Facility.  Debt issuance costs were immaterial for this transaction.

 

7.                                    NONCONTROLLING INTEREST

 

On November 10, 2014 (the “Cavalier Formation Date”), our wholly owned subsidiary, Alliance Minerals, LLC (“Alliance Minerals”), and Bluegrass Minerals Management, LLC (“Bluegrass Minerals”) entered into a limited liability company agreement (the “Cavalier Agreement”) to form Cavalier Minerals JV, LLC (“Cavalier Minerals”).  Cavalier Minerals was formed to indirectly acquire oil and gas mineral interests through its noncontrolling ownership interest in AllDale Minerals L.P. (“AllDale Minerals”).  Alliance Minerals and Bluegrass Minerals committed funding of $48.0 million and $2.0 million, respectively, to Cavalier Minerals.  Alliance Minerals’ contributions through December 31, 2014 to Cavalier Minerals totaled $11.5 million.  During the three and six months ended June 30, 2015, Alliance Minerals contributed $11.2 million and $19.2 million, respectively, bringing our total investment in Cavalier Minerals to $30.7 million at June 30, 2015.  We had a remaining commitment to Cavalier Minerals of $17.3 million at June 30, 2015, which we expect to fund over the next year.  On July 1, 2015, we funded an additional $8.4 million of this commitment.  We expect to fund the remaining commitment utilizing existing cash balances, future cash flows from operations, borrowings under credit and securitization facilities and cash provided from the issuance of debt or equity.  Bluegrass Minerals, which is owned and controlled by an officer of ARH and is Cavalier Minerals’ managing member, contributed $1.6 million as of June 30, 2015 and has a remaining commitment of $0.4 million.  Cavalier Minerals has committed to provide funding of $49.0 million to AllDale Minerals.  Cavalier Minerals has and will continue to provide funding to AllDale Minerals using contributions from Alliance Minerals and Bluegrass Minerals (Note 8).  Cavalier Minerals also reimburses Bluegrass Minerals for certain insignificant general and administrative costs incurred on behalf of Cavalier Minerals.

 

In accordance with the Cavalier Agreement, Bluegrass Minerals is entitled to receive an incentive distribution from Cavalier Minerals equal to 25.0% of all distributions (including in liquidation) after return of members’ capital reduced by certain distributions received by Bluegrass Minerals or its owner from AllDale Minerals Management, LLC (“AllDale Minerals Management”) (Note 8).  Alliance Minerals’ ownership interest in Cavalier Minerals at June 30, 2015 was 96.0%.  The remainder of the

 

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equity ownership is held by Bluegrass Minerals.  As of June 30, 2015, Cavalier Minerals had not made any distributions to its owners.  We have consolidated Cavalier Minerals’ financial results in accordance with FASB ASC 810, Consolidation.  Based on the guidance in FASB ASC 810, we concluded that Cavalier Minerals is a variable interest entity (“VIE”) and we are the primary beneficiary because our consent is required for significant activities of Cavalier Minerals and due to Bluegrass Minerals’ relationship to us as described above.  Bluegrass Minerals equity ownership of Cavalier Minerals is accounted for as noncontrolling ownership interest in our condensed consolidated balance sheets.  In addition, earnings attributable to Bluegrass Minerals are recognized as noncontrolling ownership interest in our condensed consolidated statements of income.

 

8.                                    EQUITY INVESTMENTS

 

White Oak

 

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.  The initial longwall system commenced operation in late October 2014.  The transactions with White Oak initiated on the Transaction Date (“Initial Agreements”) featured 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 funded White Oak with an additional $330.8 million between the Transaction Date and June 30, 2015 under the Initial Agreements.  At June 30, 2015, our only remaining funding commitment to White Oak under the Initial Agreements was $25.2 million of our $140.0 million commitment for reserve acquisition and leaseback transactions.  Regarding funding of any additional commitments, see Note 15.  On the Transaction Date, we also entered into a coal handling and preparation 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 have been developed for 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 years ended December 31, 2013 and 2014, WOR Properties acquired from White Oak, for $29.4 million cash paid at various closings, an additional 104.7 million tons of reserves.  Of the additional tons acquired in 2014 and 2013, 53.4 million tons have been developed for mining by White Oak.  No reserve purchases from White Oak were made during the six months ended June 30, 2015.  At June 30, 2015, WOR Properties had provided $114.8 million to acquire a total of 309.6 million tons of coal reserves and fund the development of the acquired reserves.  WOR Properties had a remaining commitment of $25.2 million for additional coal reserve acquisitions.  Regarding funding of any additional commitments, see Note 15.

 

In conjunction with the Reserve Acquisition and the additional reserve acquisitions discussed above, WOR Properties entered into leases with White Oak, which provide White Oak the rights to develop and mine the acquired reserves.  The leases require, in consideration of the lease-back of the coal reserves and the funding of development of those coal reserves, White Oak to pay WOR Properties earned royalties and, during the period beginning January 1, 2015 and ending December 31, 2034, fully

 

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recoupable minimum royalty totaling $2.1 million per month.  The lease terms are through December 31, 2034, subject to certain renewal options for White Oak.  During the three and six months ended June 30, 2015, we received $4.2 million and $8.3 million, respectively, in minimum royalty payments from White Oak, against which earned royalties are credited.  Unearned minimum royalty payments from White Oak of $0.2 million and $2.0 million are reflected in the “Other current liabilities” and “Other liabilities” line items, respectively, in our condensed consolidated balance sheets.  During the three and six months ended June 30, 2015, we recorded $5.7 million and $10.1 million, respectively, of earned royalties from White Oak in the “Other sales and operating revenues” line item in our condensed consolidated statements of income.

 

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 $229.0 million of additional Series A Units between the Transaction Date and December 31, 2014.  During the six months ended June 30, 2015, WOR Processing purchased $10.3 million of additional Series A Units, reaching WOR Processing’s maximum equity investment commitment of $275.0 million in Series A Units.  Additional equity investments in Series A Units of $10.3 million were made by another White Oak owner during the six months ended June 30, 2015, bringing the total purchases of Series A Units not acquired by WOR Processing as of June 30, 2015 to $50.0 million.

 

WOR Processing’s ownership and member’s voting interest in White Oak at June 30, 2015 were 40.0% based upon outstanding voting units.  The remainder of the equity ownership in White Oak, represented by Series A and Series B Units (“Remaining Equity”), was held by other investors and members of White Oak management.  See Note 15 regarding WOR Processing acquiring the Remaining Equity on July 31, 2015.

 

We continually review all rights provided to WOR Processing and us by various agreements with White Oak and concluded as of June 30, 2015 that all such rights were protective or participating in nature and did 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 recognized WOR Processing’s interest in White Oak as an equity investment in affiliate in our condensed consolidated balance sheets.  As of June 30, 2015, WOR Processing had invested $275.0 million in Series A Units of White Oak equity, which represented our maximum exposure to loss as a result of our equity investment in White Oak exclusive of capitalized interest.  White Oak has made no equity distributions to us.

 

We record WOR Processing’s equity in income or losses of affiliates under the hypothetical liquidation at book value (“HLBV”) method of accounting due to the preferences to which WOR Processing is entitled with respect to distributions.  For the three and six months ended June 30, 2015 and 2014, we were allocated losses of $22.0 million, $7.5 million, $31.4 million and $13.8 million, respectively, due primarily to losses incurred by White Oak.  Allocated losses from White Oak for the six months ended June 30, 2015 were reduced by, and are reflected net of, $2.6 million due to the impact of purchases of Series A Units during the period by another White Oak owner.  There were no additional Series A Unit purchases during the three months ended June 30, 2015.  Series A Unit purchases impact the future preferred distributions allocable to each owner and the ongoing allocation of income and losses for GAAP purposes under the HLBV method.

 

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

 

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service the White Oak longwall Mine No. 1.  WOR Processing earned fees of $13.1 million, $4.1 million, $27.0 million and $7.8 million for the three and six months ended June 30, 2015 and 2014, respectively, from White Oak for surface facility services.  Surface facility 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 loaned $10.5 million to White Oak for the construction of various assets on the surface property, including a bathhouse, office and warehouse (“Construction Loan”).  The Construction Loan has a term of 20 years.  White Oak began making repayments in January 2015 and made $0.4 million and $0.9 million in principal and interest payments during the three and six months ended June 30, 2015, respectively.

 

April 2015 Agreements

 

On April 20, 2015, we entered into various agreements with White Oak to purchase processed coal (“Coal Purchase Agreement”) from the White Oak Mine No. 1 and assist in certain marketing and transportation needs. We paid White Oak approximately $15.0 million for processed coal to be delivered between January 1, 2016 and June 30, 2017, of which $7.0 million and $8.0 million are reflected in the “Prepaid expenses and other assets” and “Other long-term assets” line items, respectively, in our condensed consolidated balance sheets and included in “Cash flows provided by operating activities” in our condensed consolidated statements of cash flow.  We also agreed to be White Oak’s exclusive representative for marketing White Oak coal in the export markets and to procure certain transportation related services for export shipments (“Export Agreements”).  Beginning in June 2015, White Oak is required to pay monthly minimums to us of $0.2 million for the export transportation services which are recoupable against a handling fee of $4.50 per ton shipped up to 125,000 tons per month for the transportation procurement. There were no shipments related to the Export Agreements for the three and six months ended June 30, 2015.  Minimum payments under the Export Agreements have been deferred in conjunction with additional funding discussed below.  Future activity related to the Coal Purchase Agreement and Export Agreements will be eliminated due to the consolidation of White Oak (see Note 15).

 

Additional Funding

 

On May 29, 2015 (“Additional Funding Date”), we agreed to loan White Oak $7.3 million (“Additional Funding Loan”) in connection with entering into a letter of intent regarding our acquisition of the Remaining Equity (see Note 15).  White Oak borrowed the entire amount available under the Additional Funding Loan in June 2015, which is reflected in the “Due from affiliates” line item in our condensed consolidated balance sheets and described as “Advances/loans to affiliate” in our condensed consolidated statements of cash flow.  The loan was terminated on July 31, 2015 in conjunction with our acquisition of the Remaining Equity (see Note 15).  On the Additional Funding Date, we also agreed to temporarily defer all payments owed to us by White Oak under the Export Agreements, coal leases, Construction Loan and Coal Handling and Preparation Agreement, which total $0.2 million, $2.2 million, $0.2 million and $10.2 million, respectively, as of June 30, 2015.  The deferred amounts are reflected in the “Due from affiliates” line item in our condensed consolidated balance sheets.  Payments for July 2015 under these agreements have also been deferred.

 

AllDale Minerals

 

On the Cavalier Formation Date, Cavalier Minerals (Note 7) contributed $7.4 million in return for a limited partner interest in AllDale Minerals, an entity created to purchase oil and gas mineral interests in various geographic locations within producing basins in the continental U.S.  Between the Cavalier Formation Date and December 31, 2014, Cavalier Minerals’ contributed $4.2 million to AllDale Minerals.  During the three and six months ended June 30, 2015, Cavalier Minerals contributed $11.9 million and $20.5 million, respectively, bringing the total investment in AllDale Minerals to $32.1 million at June 30, 2015.  Cavalier Minerals had a remaining commitment to AllDale Minerals of $16.9 million at

 

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June 30, 2015, which it expects to fund over the next year.  On July 1, 2015, Cavalier Minerals funded an additional $8.4 million of this commitment.  We continually review all rights provided to Cavalier Minerals and us by various agreements and continue to conclude all such rights do not provide Cavalier Minerals or us the ability to unilaterally direct any of the activities of AllDale Minerals that most significantly impact its economic performance.  As such, we account for Cavalier Minerals’ ownership interest in the income or loss of AllDale Minerals as equity income or loss in our condensed consolidated statements of income.  We record equity income or loss based on AllDale Minerals’ distribution structure.  Cavalier Minerals’ limited partner interest in AllDale Minerals was 71.7% at June 30, 2015.  The remainder of the equity ownership is held by other limited partners and AllDale Minerals Management.  For the three and six months ended June 30, 2015, we have been allocated losses of $0.2 million and $0.5 million, respectively, from AllDale Minerals.

 

9.                                    WKY COALPLAY

 

On November 17, 2014, SGP Land, LLC (“SGP Land”), a wholly-owned subsidiary of SGP, and two limited liability companies owned by irrevocable trusts established by our President and Chief Executive Officer (“Craft Companies”) entered into a limited liability company agreement to form WKY CoalPlay.  WKY CoalPlay was formed, in part, to purchase and lease coal reserves.  WKY CoalPlay is managed by an entity controlled by an officer of ARH who is also a director of ARH II, the indirect parent of SGP, an employee of SGP Land and a trustee of the irrevocable trusts owning the Craft Companies.

 

In February 2015, WKY CoalPlay acquired approximately 39.1 million tons of proven and probable high-sulfur owned coal reserves located in Henderson and Union Counties, Kentucky from Central States for $25.0 million and in turn leased those reserves to us.  The lease has an initial term of 20 years and provides for earned royalty payments to WKY CoalPlay of 4.0% of the coal sales price and annual minimum royalty payments of $2.1 million.  All annual minimum royalty payments are recoupable against earned royalty payments.  An option was also granted to us to acquire the leased reserves at any time during a three-year period beginning in February 2018 for a purchase price that would provide WKY CoalPlay a 7.0% internal rate of return on its investment in these reserves taking into account payments previously made under the lease.  We paid WKY CoalPlay $2.1 million in February 2015 for the initial annual minimum royalty payment.  As of June 30, 2015, we had $10.8 million of advanced royalties with WKY CoalPlay, which is reflected in the long-term “Advance royalties” line item in our condensed consolidated balance sheets.

 

Based on the guidance in FASB ASC 810, we concluded that WKY CoalPlay is a VIE because exercise of the option noted above (as well as two other options granted to us by WKY CoalPlay in December 2014) is not within the control of the equity holders and, if it occurs, could potentially limit the expected residual return to the owners of WKY CoalPlay.  We do not have any economic or governance rights related to WKY CoalPlay and our options that provide us with a variable interest in WKY CoalPlay’s reserve assets do not give us any rights that constitute power to direct the primary activities that most significantly impact WKY CoalPlay’s economic performance.  SGP Land has the sole ability to replace the manager of WKY CoalPlay at its discretion and therefore has power to direct the activities of WKY CoalPlay.  Consequently, we concluded that SGP Land is the primary beneficiary of WKY CoalPlay.

 

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10.                            NET INCOME OF ARLP 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 of ARLP 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 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 of ARLP 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, 2015 and 2014 (in thousands, except per unit data):

 

		Three Months Ended June 30,						Six Months Ended June 30,
		2015			2014			2015			2014
Net income of ARLP		$	94,864		$	137,653		$	201,344		$	253,557
Adjustments:
Managing general partner’s priority distributions		(36,371)			(32,682)			(71,834)			(64,366)
General partners’ 2% equity ownership		(1,170)			(2,099)			(2,590)			(3,783)
Limited partners’ interest in net income of ARLP		57,323			102,872			126,920			185,408
Less:
Distributions to participating securities		(873)			(729)			(1,722)			(1,437)
Undistributed earnings attributable to participating securities		(112)			(886)			(449)			(1,440)
Net income of ARLP available to limited partners		$	56,338		$	101,257		$	124,749		$	182,531
Weighted average limited partner units outstanding – basic and diluted		74,189			74,061			74,160			74,028
Basic and diluted net income of ARLP per limited partner unit (1)		$	0.76		$	1.37		$	1.68		$	2.47

 

(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, 2015 and 2014, the combined total of LTIP, SERP and Deferred Compensation Plan units of 660,400, 755,210, 753,177 and 748,446, respectively, were considered anti-dilutive under the treasury stock method.

 

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11.                            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,
		2015				2014				2015				2014
Beginning balance		$	58,198			$	62,989			$	57,557			$	62,909
Accruals increase		3,500				5,281				6,167				7,464
Payments		(2,100		)		(2,778		)		(4,614		)		(5,527		)
Interest accretion		489				647				977				1,293
Valuation gain (1)		(4,416		)		(4,624		)		(4,416		)		(4,624		)
Ending balance		$	55,671			$	61,515			$	55,671			$	61,515

 

(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 2015 primarily attributable to favorable changes in claims development and an increase in the discount rate used to calculate the estimated present value of future obligations from 3.41% at December 31, 2014 to 3.71% at June 30, 2015.  Our mid-year 2014 actuarial review also resulted in a valuation gain primarily attributable to favorable changes in claims development, offset partially by a decrease in the utilized discount rate 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,
		2015				2014				2015				2014
Service cost		$	732			$	857			$	1,464			$	1,714
Interest cost		523				565				1,047				1,131
Amortization of net actuarial gain (1)		(112		)		(263		)		(225		)		(526		)
Net periodic benefit cost		$	1,143			$	1,159			$	2,286			$	2,319

 

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

 

12.                            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 26, 2015, the

 

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Compensation Committee determined that the vesting requirements for the 2012 grants of 202,778 restricted units (which is net of 11,450 forfeitures) had been satisfied as of January 1, 2015.  As a result of this vesting, on February 11, 2015, we issued 128,150 unrestricted common units to the LTIP participants. The remaining units were settled in cash to satisfy the tax withholding obligations for the LTIP participants.  On January 26, 2015, the Compensation Committee authorized additional grants of up to 314,019 restricted units, of which 303,165 were granted during the six months ended June 30, 2015 and will vest on January 1, 2018, subject to satisfaction of certain financial tests.  The fair value of these 2015 grants is equal to the intrinsic value at the date of grant, which was $37.18 per unit.  LTIP expense was $2.9 million and $2.5 million for the three months ended June 30, 2015 and 2014, respectively, and $5.5 million and $4.6 million for the six months ended June 30, 2015 and 2014, respectively.  After consideration of the January 1, 2015 vesting and subsequent issuance of 128,150 common units, approximately 3.7 million units remain available under the LTIP for issuance in the future, assuming all grants issued in 2013, 2014 and 2015 currently outstanding are settled with common units, without reduction for tax withholding, and no future forfeitures occur.

 

As of June 30, 2015, there was $17.9 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 1.5 years.  As of June 30, 2015, the intrinsic value of the non-vested LTIP grants was $23.5 million.  As of June 30, 2015, the total obligation associated with the LTIP was $15.6 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, 2015 and 2014, SERP and Deferred Compensation Plan participant notional account balances were credited with a total of 14,020 and 10,806 phantom units, respectively, and the fair value of these phantom units was $34.58 per unit and $42.93 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, 2015 and 2014, and $0.6 million for each of the six months ended June 30, 2015 and 2014.

 

As of June 30, 2015, there were 383,001 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 $9.6 million.  As of June 30, 2015, the total obligation associated with the SERP and Deferred Compensation Plan was $13.0 million and is included in the partners’ capital-limited partners line item in our condensed consolidated balance sheets.

 

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13.                            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,
		2015				2014				2015				2014
Service cost		$	619			$	544			$	1,237			$	1,087
Interest cost		1,074				1,018				2,148				2,037
Expected return on plan assets		(1,394		)		(1,337		)		(2,795		)		(2,738		)
Amortization of net loss (1)		835				162				1,677				387
Net periodic benefit cost		$	1,134			$	387			$	2,267			$	773

 

(1)          Amortization of net actuarial 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, 2014 that we expected to contribute $3.1 million to the Pension Plan in 2015.  During the six months ended June 30, 2015, we made a contribution payment of $0.6 million to the Pension Plan for the 2014 plan year and $0.7 million for the 2015 plan year.  On July 15, 2015, we made a contribution payment of $0.7 million for the 2015 plan year.

 

14.                            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 Mine No. 1, which commenced initial longwall operation in late October 2014.

 

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 mine and the Fies property, 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.  In April 2014, production began at the Gibson South mine.  The Elk Creek mine is currently expected to cease production in early 2016.

 

The Appalachia 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 and Mettiki Coal, LLC’s preparation plant.  We are in the process of permitting the Penn Ridge property for future mine development.

 

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 8).  On July 31, 2015, WOR Processing acquired all of the Remaining Equity in White Oak (Note 15).  We anticipate realignment of our segment presentation in future filings to include White Oak with the Illinois Basin reportable segment.

 

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