Fitch Downgrades Arch Coal's Sr. Secured Credit Facilities to 'B-/RR2', 2nd Lien Notes to 'C/RR6'
Fitch Ratings has taken the following rating actions on Arch Coal, Inc.
(Arch Coal; NYSE: ACI):
--Issuer Default Rating (IDR) affirmed at 'C';
revolving credit facility downgraded to 'B-/RR2' from 'B/RR1';
secured term loan downgraded to 'B-/RR2'from 'B/RR1';
secured notes downgraded to 'C/RR6' from 'B-/RR2';
unsecured notes affirmed at 'C/RR6' from 'C/RR5'.
Roughly $5.4 billion in principal amount of debt and commitments are
affected by this action.
The downgrade follows Fitch's assessment of lower recovery values for
coal assets in light of recent transactions and prospects for prolonged
Fitch downgraded Arch Coal's IDR on July 6, 2015 to 'C' following
announcements of exchange offers which Fitch considers Distressed Debt
Exchanges (DDE) in accordance with Fitch's DDE criteria.
The offers have been extended four times most recently through Oct. 26,
2015. On July 28, 2015, term loan lenders delivered a letter to the term
loan administrative agent (the Agent) directing the Agent to refrain
from executing documentation relating to the Exchange Offers. On Sept.
16, 2015, a holder of senior unsecured debt filed suit in state court in
Manhattan, seeking a declaration that the exchange is permissible
without consent and an order barring the term loan lenders from blocking
the restructuring. There has been no judgement on the matter as yet.
Procedurally, if the exchanges are executed as proposed, Fitch would
lower the IDR on Arch to 'RD', reflecting the DDE Subsequently, assuming
no change to current assumptions, Fitch expects to upgrade the IDR on
Arch to at most 'CCC'.
Fitch believes Arch's current capital structure is unsustainable and
that restructuring is necessary. Failure to execute a restructuring
outside of court would likely result in bankruptcy.
KEY RATING DRIVERS
UPDATED RECOVERY ANALYSIS
Fitch's analysis is based on a going concern enterprise value of nearly
$2.5 billion (down from $3.2 billion) derived from a $400 million EBITDA
(down from $537 million) and a 5.5x multiple (down from 6x). Under this
valuation, and the current capital structure, the first-lien senior
secured debt including full utilization of the $250 million revolver,
has superior recovery given default, but the second lien and unsecured
debt have poor recovery prospects. Under these assumptions, should the
exchanges occur as currently structured, the recovery for the first lien
creditors would drop from 89% to 83%.
As outlined below in Key Assumptions, Fitch is assuming a fairly slow
recovery even though the coal price slide began in earnest in 2012. As
such, Fitch does not anticipate earnings to reach our $400 million
EBITDA case through 2017. At an EBITDA assumption of $330 million, under
the current capital structure, the senior secured debt has a superior
recovery at 73%. Under the $330 million EBITDA assumption, should the
exchanges occur as currently structured, the recovery for the first lien
creditors would drop from 73% to 68%.
A substantial portion of domestic coal production is in restructuring.
Alpha Natural Resources, Inc., Walter Energy, Inc., James River Coal
Company, and Patriot Coal Corporation, together, accounted for about 13%
of U.S. coal production in 2013 and Arch accounted for an additional
13%. Recently, coal assets have changed hands at very distressed values
comprising little or no cash given the need to invest in capital and
fund reclamation expenditures as well as legacy pension and other
In contrast to other restructuring companies, Arch benefits from
relatively low exposure to employee legacy liabilities and, as of Dec.
31, 2015, only six of its 5,000 employees belong to a union.
Self-bonding of $458.5 million, $177.7 million surety bonds, and $3.5
million in secured letters of credit support reclamation obligations as
of Dec. 31, 2014. These would need to be assumed or replaced in the
event of asset sales or an acquisition.
--Production, costs, and capital expenditures within guidance range for
--Coal prices bottom out in 2015 with scant recovery
--No asset sales proceeds are assumed.
DOMESTIC WEAKNESS/GLOBAL OVERSUPPLY
Steam coal demand in the U.S. is currently suffering from heavy
competition from very low natural gas prices; supply has been
disciplined, but stocks are on the high side and prices are soft. Lack
of new coal-fired power plant builds and shuttering obsolete plants is
expected to result in a 10%-15% decline in coal production over the
medium term. The U.S. steel industry is currently suffering from import
competition which weighs on domestic metallurgical (met) coal
Globally, both met and steam coal markets are in excess supply and
prices are weak. Coal producers have been running for cash with a focus
on reducing costs which has delayed price recovery. In particular, Fitch
believes the hard coking coal bench mark price could average about
$105/tonne (t) and the Newcastle steam coal benchmark could be below
$60/t over the next 12 months versus current prices of $89/t and
$67.80/t respectively. U.S. exports, which peaked at 125 million tons in
2011, are challenged by rail transport to port and the strong U.S.
dollar. Fitch expects U.S. exports to drop back into the 50 million ton
range over the medium term.
Arch Coal benefits from large, well-diversified operations and good
control of low-cost production. Globally, Arch is the sixth largest coal
producer based on volumes. The company sold 134 million tons of coal in
2014. As of June 30, 2015, roughly 97% of expected 2015 steam coal
production volumes are committed and priced. Assuming no change in sales
volume for 2016, about 47% of steam tons are committed and priced. The
company has the third largest coal reserve position in the U.S. at 5.1
Negative: Future developments that may,
individually or collectively, lead to negative rating action include:
to pay debt service within grace periods and or bankruptcy filing would
result in a downgrade of the IDR to 'D'; the senior secured revolving
credit and term loans downgraded to 'CCC-'.
-- Completion of the
DDE would result in the IDR being downgraded to 'RD'.
Positive: Future developments that may lead to a positive rating action
--Re-rating of the resulting capital structure following successful
completion of the DDE. Fitch expects the IDR to be at best 'CCC' and the
junior first lien, second lien, and senior unsecured 'CC'.
LIQUIDITY AND DEBT STRUCTURE
At June 30, 2015, cash on hand was $440 million, short-term investments
were $250 million, and $123 million was available under the company's
credit facilities. The $200 million accounts receivable facility has a
stated maturity in December 2017. The $250 million revolving credit
facility matures in June 2016. Revolver covenants include a maximum net
senior secured leverage ratio of 5:1 from June 30, 2015 with step-downs
thereafter and a minimum liquidity of $550 million through Dec. 30,
2015. Fitch expects cash and short-term investments to provide
sufficient liquidity through 2017.
Fitch estimates the following near-term payments:
quarterly term-loan principal and interest due on Sept. 30, 2015 and
Dec. 31, 2015;
--$18 million semi-annual coupon on the $500 million
7.25% notes due on Oct. 1, 2015;
--$89.7 million aggregate
semi-annual coupons on the $1 billion 7% notes, the $375 million 9.875%
notes and the $1 billion 7.25% notes due on Dec. 15, 2015;
million semi-annual coupon on the $350 million 8% notes due on Jan. 1,
FREE CASH FLOW BURN
Cash burn is expected to continue absent substantial recovery in met
coal prices. Under the current capital structure, guidance for cash
interest expense is $360 million to $370 million and for capital
expenditure, $130 million to $140 million for 2015. Fitch expects cash
burn of at least $200 million per year through 2017.
Arch's actions to preserve liquidity since 2012 coupled with three years
of losses have resulted in a debt/capital ratio at 77%. The exchanges
could improve debt/capitalization below 70% and improve interest
coverage although Fitch expects this to remain below 1x for 2015.
Estimated current scheduled maturities of debt are $34.4 million in
2015, $29.9 million in 2016, $30.1 million in 2017, $1.9 billion in
2018, $1.7 billion in 2019 and $1.5 billion thereafter. The bulk of the
2018 maturity consists of the senior secured term loan due 2018. Of the
amounts due in 2019, the $1 billion 7% senior unsecured notes and the
$375 million 9.875% senior unsecured notes are subject to an exchange
offer. The $1 billion 7.25% senior notes due 2021 are subject to the
same offer. The $500 million 7.25% senior unsecured notes due 2020 are
subject to another offer.
Additional information is available on www.fitchratings.com.
Corporate Rating Methodology - Including
Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)
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