NACCO INDUSTRIES, INC. Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are based upon management's current expectations and are subject to various uncertainties and changes in circumstances. Important factors that could cause actual results to differ materially from those described in these forward-looking statements are set forth below under the heading "Forward-Looking Statements." Management's Discussion and Analysis of Financial Condition and Results of Operations includeNACCO Industries , Inc.® ("NACCO") and its wholly owned subsidiaries (collectively, the "Company"). NACCO brings natural resources to life by delivering aggregates, minerals, reliable fuels and environmental solutions through its robust portfolio of NACCO Natural Resources businesses. The Company operates under three business segments: Coal Mining, North American Mining ("NAMining") and Minerals Management. The Coal Mining segment operates surface coal mines for power generation companies. The NAMining segment is a trusted mining partner for producers of aggregates, activated carbon, lithium and other industrial minerals. The Minerals Management segment, which includes theCatapult Mineral Partners ("Catapult") business, acquires and promotes the development of mineral interests. Mitigation Resources of North America® ("Mitigation Resources") provides stream and wetland mitigation solutions. The Company has items not directly attributable to a reportable segment that are not included as part of the measurement of segment operating profit, which primarily includes administrative costs related to public company reporting requirements at the parent company and the financial results ofMitigation Resources andBellaire Corporation ("Bellaire"). Bellaire manages the Company's long-term liabilities related to formerEastern U.S. underground mining activities.
All financial statement line items below operating profit (other income, including interest expense and interest income, the provision for income taxes and net income) are presented and discussed within this Form 10-Q on a consolidated basis.
The Company's operating segments are further described below:
Coal Mining Segment
The Coal Mining segment, operating as The North American Coal Corporation®
("NACoal"), operates surface coal mines under long-term contracts with power
generation companies pursuant to a service-based business model. Coal is surface
mined in North Dakota , Texas and Mississippi . Each mine is fully integrated with
its customer's operations.
During the three months ended
Sabine operates theSabine Mine inTexas . All production from Sabine is delivered toSouthwestern Electric Power Company's ("SWEPCO")Henry W. Pirkey Plant (the "Pirkey Plant"). SWEPCO is an American Electric Power ("AEP") company. As a result of the early retirement of the Pirkey Plant, Sabine ceased deliveries inMarch 2023 and final reclamation began onApril 1, 2023 . Funding for mine reclamation is the responsibility of SWEPCO, and Sabine will receive compensation for providing mine reclamation services. MLMC is the exclusive supplier of lignite to the Red Hills Power Plant inAckerman, Mississippi .Choctaw Generation Limited Partnership ("CGLP") leases the Red Hills Power Plant from a Southern Company subsidiary pursuant to a leveraged lease arrangement. CGLP's ability to make required payments to the Southern Company subsidiary is dependent on the operational performance of the Red Hills Power Plant. During 2022, Southern Company disclosed that it provided notice to the lessee, CGLP, to terminate the related operating and maintenance agreement effectiveJune 30, 2023 . Subsequently, CGLP failed to make the semi-annual lease payment due inDecember 2022 and as a result, the Southern Company subsidiary was unable to make its corresponding payment to the debtholders. The parties to the lease have entered into a forbearance agreement which suspends the related contractual rights of the parties while they continue restructuring negotiations, which could result in rescission of the termination notice. The ultimate outcome of this matter cannot be determined at this time but could have a material impact on the Company's financial statements if the operating and maintenance agreement is terminated. At all operating coal mines other than MLMC, the Company is paid a management fee per ton of coal or heating unit (MMBtu) delivered. Each contract specifies the indices and mechanics by which fees change over time, generally in line with broad measures ofU.S. inflation. The customers are responsible for funding all mine operating costs, including final mine 16
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reclamation, and directly or indirectly provide all of the capital required to
build and operate the mine. This contract structure eliminates exposure to spot
coal market price fluctuations while providing income and cash flow with minimal
capital investment. Other than at Coyote Creek, debt financing provided by or
supported by the customers is without recourse to NACCO and NACoal. See Note 6
for further discussion of Coyote Creek's guarantees.
All operating coal mines other than MLMC meet the definition of a variable
interest entity ("VIE"). In each case, NACCO is not the primary beneficiary of
the VIE as it does not exercise financial control; therefore, NACCO does not
consolidate the results of these operations within its financial statements.
Instead, these contracts are accounted for as equity method investments. The
income before income taxes associated with these VIEs is reported as Earnings of
unconsolidated operations on the Unaudited Condensed Consolidated Statements of
Operations and the Company's investment is reported on the line Investments in
unconsolidated subsidiaries in the Unaudited Condensed Consolidated Balance
Sheets. The mines that meet the definition of a VIE are referred to collectively
as the "Unconsolidated Subsidiaries." For tax purposes, the Unconsolidated
Subsidiaries are included within the NACCO consolidated U.S. tax return;
therefore, the Income tax (benefit) provision line on the Unaudited Condensed
Consolidated Statements of Operations includes income taxes related to these
entities. See Note 6 for further information on the Unconsolidated Subsidiaries.
The Company performs contemporaneous reclamation activities at each mine in the
normal course of operations. Under all of the Unconsolidated Subsidiaries'
contracts, the customer has the obligation to fund final mine reclamation
activities. Under certain contracts, the Unconsolidated Subsidiary holds the
mine permit and is therefore responsible for final mine reclamation activities.
To the extent the Unconsolidated Subsidiary performs such final reclamation, it
is compensated for providing those services in addition to receiving
reimbursement from customers for costs incurred.
The MLMC contract is the only operating coal contract in which the Company is
responsible for all operating costs, capital requirements and final mine
reclamation; therefore, MLMC is consolidated within NACCO's financial
statements. MLMC sells coal to its customer at a contractually agreed-upon price
which adjusts monthly, primarily based on changes in the level of established
indices which reflect general U.S. inflation rates. Profitability at MLMC is
affected by customer demand for coal and changes in the indices that determine
sales price and actual costs incurred. As diesel fuel is heavily weighted among
the indices used to determine the coal sales price, fluctuations in diesel fuel
prices can result in significant fluctuations in earnings at MLMC.
See page 18 for information on the Resource Conservation and Recovery Act.
NAMining Segment The NAMining segment provides value-added contract mining and other services for producers of industrial minerals. The segment is a platform for the Company's growth and diversification of mining activities outside of the thermal coal industry. NAMining provides contract mining services for independently owned mines and quarries, creating value for its customers by performing the mining aspects of its customers' operations. This allows customers to focus on their areas of expertise: materials handling and processing, product sales and distribution. As ofMarch 31, 2023 , NAMining operates mines inFlorida ,Texas ,Arkansas ,Indiana ,Virginia andNebraska and will serve as exclusive contract miner for theThacker Pass lithium project in northernNevada .
Certain of the entities within the NAMining segment are VIEs and are accounted for under the equity method as Unconsolidated Subsidiaries. See Note 6 for further discussion.
Minerals Management Segment The Minerals Management segment derives income primarily by leasing its royalty and mineral interests to third-party exploration and production companies, and, to a lesser extent, other mining companies, granting them the rights to explore, develop, mine, produce, market and sell gas, oil, and coal in exchange for royalty payments based on the lessees' sales of those minerals.
The Minerals Management segment owns royalty interests, mineral interests, non-participating royalty interests and overriding royalty interests.
•Royalty Interest. Royalty interests generally result when the owner of a
mineral interest leases the underlying minerals to an exploration and production
company pursuant to an oil and gas lease. Typically, the resulting royalty
interest is a cost-free percentage of production revenues for minerals extracted
from the acreage. A holder of royalty interests is generally not responsible for
capital expenditures or lease operating expenses, but royalty interests may be
calculated net of post-production expenses, and typically has no environmental
liability. Royalty interests leased to producers expire upon the expiration of
the oil and gas lease and revert to the mineral owner.
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•Mineral Interest. Mineral interests are perpetual rights of the owner to
explore, develop, exploit, mine and/or produce any or all of the minerals lying
below the surface of the property. The holder of a mineral interest has the
right to lease the minerals to an exploration and production company. Upon the
execution of an oil and gas lease, the lessee (the exploration and production
company) becomes the working interest owner and the lessor (the mineral interest
owner) has a royalty interest.
•Non-Participating Royalty Interest ("NPRIs"). NPRI is an interest in oil and
gas production which is created from the mineral estate. The NPRI is
expense-free, bearing no operational costs of production. The term
"non-participating" indicates that the interest owner does not share in the
bonus, rentals from a lease, nor the right to participate in the execution of
oil and gas leases. The NPRI owner does, however, typically receive royalty
payments.
•Overriding Royalty Interest ("ORRIs"). ORRIs are created by carving out the
right to receive royalties from a working interest. Like royalty interests,
ORRIs do not confer an obligation to make capital expenditures or pay for lease
operating expenses and have limited environmental liability; however, ORRIs may
be calculated net of post-production expenses, depending on how the ORRI is
structured. ORRIs that are carved out of working interests are linked to the
same underlying oil and gas lease that created the working interest, and
therefore, such ORRIs are typically subject to expiration upon the expiration or
termination of the oil and gas lease.
The Company may own more than one type of mineral and royalty interest in the
same tract of land. For example, where the Company owns an ORRI in a lease on
the same tract of land in which it owns a mineral interest, the ORRI in that
tract will relate to the same gross acres as the mineral interest in that tract.
The Minerals Management segment will benefit from the continued development of
its mineral properties without the need for investment of additional capital
once mineral and royalty interests have been acquired. The Minerals Management
segment does not currently have any material investments under which it would be
required to bear the cost of exploration, production or development.
The Company also manages legacy royalty and mineral interests located in Ohio
(Utica and Marcellus shale natural gas), Louisiana (Haynesville shale and Cotton
Valley formation natural gas), Texas (Cotton Valley and Austin Chalk formation
natural gas), Mississippi (coal), Pennsylvania (coal, coalbed methane and
Marcellus shale natural gas), Alabama (coal, coalbed methane and natural gas)
and North Dakota (coal, oil and natural gas). The majority of the Company's
legacy reserves were acquired as part of its historical coal mining operations.
RESOURCE CONSERVATION AND RECOVERY ACT ("RCRA")
The RCRA affects coal mining operations by establishing requirements for the treatment, storage and disposal of wastes, including hazardous wastes. Coal mine wastes, such as overburden and coal cleaning wastes, currently are exempted from hazardous waste management. In 2014, theU.S. Environmental Protection Agency (the "EPA ") finalized a rule specifying management standards for coal combustion residuals or coal ash ("CCRs") as a non-hazardous waste. In 2018, theEPA finalized revisions to the 2014 regulations in response to litigation of the 2014 rule. One revision allows a state director (in a state with an approved CCR permit program) or theEPA (whereEPA is the permitting authority) to suspend groundwater monitoring requirements if there is evidence that there is no potential for migration of hazardous constituents to the uppermost aquifer during the active life of the unit and post closure care. The second revision allows issuance of technical certifications in lieu of a professional engineer. In addition, theEPA revised the groundwater protection standards and extended the deadline for some facilities that must close CCR units. In 2020, theEPA finalized additional changes to the CCR rule that classified all clay-lined surface impoundments that receive CCR as unlined, which triggered a pond closure date ofApril 2021 for impoundments that failed the aquifer location restriction. TheEPA also established alternative deadlines to cease receipt of waste to include new site-specific alternatives due to lack of capacity with a deadline to initiate closure no later thanOctober 15, 2023 and a new site-specific alternative due to permanent cessation of coal-fired boilers with two deadlines to complete closure: (a) no later thanOctober 17, 2023 for surface impoundments 40 acres or smaller; and (b)October 17, 2028 for surface impoundments larger than 40 acres. Additionally, the CCR Part B Final Rule allowed facilities to demonstrate that there is no reasonable probability of adverse effects to human health and the environment at non-conforming units. These new rules may raise the cost for CCR disposal at coal-fired power plants, making them less competitive, and/or result in early closure which could have an adverse impact on demand for coal and ultimately result in the early closure of the mines servicing these plants, including closure of the Company's mines. 18
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In compliance with the regulations, the owner of theCoal Creek Station power plant, Falkirk's customer, submitted a Part B application to theEPA in 2020 asserting a unit complied with the CCR rules. In the first quarter of 2023, theEPA proposed to deny the owner's application. The owner and other parties have submitted additional information and comments supporting the owner's position and, as ofMay 2, 2023 , theEPA has not taken further action. IfEPA ultimately denies the owner's application, a new liner may need to be installed or new waste management processes and/or units may need to be constructed. Accordingly, it is possible that a denial by theEPA could require a temporary unit shut down. Any temporary unit shut down could result in a temporary suspension of operations atCoal Creek Station . Falkirk is the sole supplier of lignite toCoal Creek Station . Any suspension of operations atCoal Creek Station would eliminate the need for lignite coal during the suspension period. Any such suspension of operations atCoal Creek Station or any of the power plants supplied by the Company's mines could have a material adverse effect on the Company's business, financial condition and results of operations. TheEPA rule exempts CCRs beneficially used at mine sites and reserves any regulation thereof to theOffice of Surface Mining Reclamation and Enforcement ("OSMRE"). The OSMRE suspended all rulemaking actions on CCRs, but could re-initiate them in the future. The outcome of these rulemakings, and any subsequent actions by theEPA and OSMRE, could impact those Company operations that beneficially use CCRs. If the Company were unable to beneficially use CCRs, its revenues for handling CCRs from its customers may decrease and its costs may increase due to the purchase of alternative materials for beneficial uses.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Refer to the discussion of the Company's Critical Accounting Policies and Estimates as disclosed on pages 52 through 54 in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2022 . The Company's Critical Accounting Policies and Estimates have not materially changed sinceDecember 31, 2022 . 19
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CONSOLIDATED FINANCIAL SUMMARY
The results of operations for NACCO were as follows for the three months endedMarch 31 : THREE MONTHS 2023 2022 Revenues: Coal Mining$ 20,653 $ 20,962 NAMining 20,633 21,404 Minerals Management 8,285 12,754 Unallocated Items 1,191 192 Eliminations (621) (289)
Total revenue $ 50,141 $55,023
Operating profit (loss):
Coal Mining $ 313 $ 7,352
NAMining 830 1,271
Minerals Management 6,044 11,628
Unallocated Items (5,353) (5,439)
Eliminations (20) 132
Total operating profit 1,814
14,944
Interest expense 545 513
Interest income (1,155) (145)
Closed mine obligations 409 380
Gain on equity securities (628) (518)
Other, net (1,725) (230)
Other (income) expense, net (2,554) -
Income before income tax (benefit) provision 4,368 14,944
Income tax (benefit) provision (1,324) 2,362
Net income $ 5,692 $12,582
Effective income tax rate (30.3) % 15.8 %
The components of the change in revenues and operating profit are discussed below in "Segment Results."
First Quarter of 2023 Compared with First Quarter of 2022
Other (income) expense, net
Interest income increased
Gain on equity securities represents changes in the market price of invested assets reported at fair value. The change in the first three months of 2023 compared with the 2022 period was due to fluctuations in the market prices of the exchange-traded equity securities. See Note 5 to the Unaudited Condensed Consolidated Financial Statements for further discussion of equity securities. OnDecember 1, 2022 , the Company transferred its ownership interest inMidwest AgEnergy, LLC ("MAG") toHLCP Ethanol Holdco, LLC ("HLCP"). The Company received a payment of$1.2 million in the first quarter of 2023 in connection with a post-closing purchase price adjustment, which is included on the line "Other, net" within the accompanying Unaudited Consolidated Statements of Operations. See Note 1 to the Unaudited Condensed Consolidated Financial Statement for further discussion of MAG. 20
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Income Taxes
The Company evaluates and updates its estimated annual effective income tax rate on a quarterly basis based on current and forecasted operating results and tax laws. Consequently, based upon the mix and timing of actual earnings compared to projections of earnings between entities that benefit from percentage depletion and those that do not, the effective tax rate may vary quarterly. The benefit of percentage depletion is not directly related to the amount of consolidated pre-tax income recorded in a period. Accordingly, as a result of the significant reduction in 2023 forecasted income before income tax compared with 2022, the proportional effect of the benefit from percentage depletion on the effective income tax rate results in a negative forecasted effective tax rate for 2023. Changes in the estimated annual effective tax rate result in a cumulative adjustment.
LIQUIDITY AND CAPITAL RESOURCES OF NACCO
Cash Flows
The following tables detail NACCO's changes in cash flow for the three months endedMarch 31 : 2023 2022 Change Operating activities:
Net cash provided by (used for) operating activities
Investing activities: Expenditures for property, plant and equipment and acquisition of mineral interests
(7,879) (4,649) (3,230)
Other 1,415 120 1,295
Net cash used for investing activities (6,464) (4,529) (1,935)
Cash flow before financing activities $ (210) The$7.3 million change in net cash provided by (used for) operating activities was primarily due to a net favorable change in working capital, partially offset by a decrease in net income. 2023 2022 Change Financing activities: Net borrowings to long-term debt and revolving credit agreement$ 656 $ 2,659 $ (2,003) Cash dividends paid (1,557) (1,445) (112)
Net cash (used for) provided by financing activities
The change in net cash (used for) provided by financing activities was primarily due to fewer borrowings under the Company's revolving line of credit during the first three months of 2023 compared with the first three months of 2022.
Financing Activities
Financing arrangements are obtained and maintained at the NACoal level. NACoal has a secured revolving line of credit of up to$150.0 million (the "NACoal Facility") that expires inNovember 2025 . There were no borrowings outstanding under the NACoal Facility atMarch 31, 2023 . AtMarch 31, 2023 , the excess availability under the NACoal Facility was$117.0 million , which reflects a reduction for outstanding letters of credit of$33.0 million . NACCO has not guaranteed any borrowings of NACoal. The borrowing agreements at NACoal allow for the payment to NACCO of dividends and advances under certain circumstances. Dividends (to the extent permitted by NACoal's borrowing agreement) and management fees are the primary sources of cash for NACCO and enable the Company to pay dividends to stockholders. The NACoal Facility has performance-based pricing, which sets interest rates based upon NACoal achieving various levels of debt to EBITDA ratios, as defined in the NACoal Facility. Borrowings bear interest at a floating rate plus a margin based on the level of debt to EBITDA ratio achieved. The applicable margins, effectiveMarch 31, 2023 , for base rate and LIBOR loans were 1.23% and 2.23%, respectively. The NACoal Facility has a commitment fee which is based upon achieving various levels of debt to EBITDA ratios. The commitment fee was 0.34% on the unused commitment atMarch 31, 2023 . 21
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The NACoal Facility contains restrictive covenants, which require, among other things, NACoal to maintain a maximum net debt to EBITDA ratio of 2.75 to 1.00 and an interest coverage ratio of not less than 4.00 to 1.00. The NACoal Facility provides the ability to make loans, dividends and advances to NACCO, with some restrictions based on maintaining a maximum debt to EBITDA ratio of 1.50 to 1.00, or if greater than 1.50 to 1.00, a Fixed Charge Coverage Ratio of 1.10 to 1.00, in conjunction with maintaining unused availability thresholds of borrowing capacity, as defined in the NACoal Facility, of$15.0 million . AtMarch 31, 2023 , NACoal was in compliance with all financial covenants in the NACoal Facility. The obligations under the NACoal Facility are guaranteed by certain of NACoal's direct and indirect, existing and future domestic subsidiaries, and is secured by certain assets of NACoal and the guarantors, subject to customary exceptions and limitations. The Company believes funds available from cash on hand, the NACoal Facility and operating cash flows will provide sufficient liquidity to meet its operating needs and commitments arising during the next twelve months and until the expiration of the NACoal Facility inNovember 2025 .
Expenditures for property, plant and equipment and mineral interests
Expenditures for property, plant and equipment and mineral interests were$7.9 million during the first three months of 2023. Planned expenditures for the remainder of 2023 are expected to be approximately$32 million in the NAMining segment,$21 million in the Minerals Management segment,$10 million in the Coal Mining segment and$1 million at Mitigation Resources. In the NAMining segment, 2023 capital expenditures are primarily related to the acquisition of equipment to be used at theThacker Pass lithium project. Sawtooth is the contract miner for theThacker Pass project. Under the terms of the contract mining agreement, the customer will reimburse Sawtooth for these capital expenditures over a five-year period from the equipment acquisition date.
Expenditures are expected to be funded from internally generated funds and/or bank borrowings.
Capital Structure
NACCO's consolidated capital structure is presented below:
MARCH 31 DECEMBER 31
2023 2022 Change
Cash and cash equivalents $ 109,637 $ 110,748 $ (1,111)
Other net tangible assets 336,347 329,045 7,302
Intangible assets, net 27,328 28,055 (727)
Net assets 473,312 467,848 5,464
Total debt (20,377) (19,668) (709)
Bellaire closed mine obligations (21,249) (21,214) (35)
Total equity $ 431,686 $ 426,966 $ 4,720
Debt to total capitalization 5% 4% 1%
The increase in other net tangible assets at March 31, 2023 compared with
December 31, 2022 was mainly the result of an increase in Prepaid insurance due
to timing and a decrease in Accrued payroll for payments made during the first
quarter of 2023 under the Company's incentive compensation plans. These
increases were partially offset by a decrease in Trade accounts receivable due
to lower revenue in the first quarter of 2023 compared with the fourth quarter
of 2022.
Contractual Obligations, Contingent Liabilities and Commitments
SinceDecember 31, 2022 , there have been no significant changes in the total amount of NACCO's contractual obligations, contingent liabilities or commercial commitments, or the timing of cash flows in accordance with those obligations as reported on page 58 in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2022 . See Note 6 to the Unaudited Condensed Consolidated Financial Statements for a discussion of certain guarantees related to Coyote Creek. 22
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SEGMENT RESULTS
COAL MINING SEGMENT
FINANCIAL REVIEW
Tons of coal delivered by the Coal Mining segment were as follows for the three
months ended March 31 :
THREE MONTHS
2023 2022
Unconsolidated operations 6,192 6,317
Consolidated operations 711 732
Total tons delivered 6,903 7,049
The results of operations for the Coal Mining segment were as follows for the
three months ended
THREE MONTHS
2023 2022
Revenues $ 20,653 $ 20,962
Cost of sales 25,878 18,850
Gross (loss) profit (5,225) 2,112
Earnings of unconsolidated operations(a) 12,466 13,326
Selling, general and administrative expenses 6,437 7,239
Amortization of intangible assets 727 847
Gain on sale of assets (236) -
Operating profit $ 313 $ 7,352
(a) See Note 6 to the Unaudited Condensed Consolidated Financial Statements for
a discussion of the Company's unconsolidated subsidiaries, including summarized
financial information.
Revenues in the first quarter of 2023 were comparable to the first quarter of 2022.
The following table identifies the components of change in operating profit for the first quarter of 2023 compared with the first quarter of 2022:
Operating Profit
2022 $ 7,352
Increase (decrease) from:
Gross profit, excluding inventory impairment charge (4,913)
Inventory impairment charge (2,424)
Earnings of unconsolidated operations (860)
Selling, general and administrative expenses 802
Gain on sale of assets 236
Amortization of intangibles 120
2023 $ 313
Operating profit decreased $7.0 million in the first quarter of 2023 compared
with the first quarter of 2022 due to a decrease in gross profit and a decrease
in the earnings of unconsolidated operations, partially offset by lower selling,
general and administrative expenses.
The decrease in gross profit was primarily due to an increase in the cost per
ton delivered at MLMC as well as a $2.4 million inventory impairment charge. All
production costs are capitalized into inventory at MLMC. The increase in cost
per ton delivered at MLMC is due to costs associated with establishing
operations in a new mine area and a reduction in the number of tons severed. The
reduction in severed tons was due to adverse mining conditions caused by the
amount of rain during the first quarter of 2023, as well as operational
inefficiencies related to final mining activities at the existing mine area.
Fewer tons
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severed caused a decrease in tons held in inventory since more tons were sold than produced during the first quarter of 2023, which resulted in an increase in the cost per ton and an inventory impairment charge to write down coal inventory to its net realizable value. The decrease in earnings of unconsolidated operations was primarily due to a reduction in the per ton management fee at Falkirk effectiveMay 2022 throughMay 2024 to support the transition of the Coal Creek Station Power Plant to Rainbow Energy. This decrease in earnings of unconsolidated operations was partly offset by improved results at Coteau and at Sabine.
The decrease in selling, general and administrative expenses was primarily due to lower professional service expenses.
NORTH AMERICAN MINING ("NAMining") SEGMENT
FINANCIAL REVIEW
Tons delivered by the NAMining segment were as follows for the three months endedMarch 31 : THREE MONTHS 2023 2022 Total tons delivered 14,829 13,962 The results of operations for the NAMining segment were as follows for the three months endedMarch 31 : THREE MONTHS 2023 2022 Total revenues$ 20,633 $ 21,404
Reimbursable costs 12,092 12,016
Revenues excluding reimbursable costs $ 8,541 $ 9,388
Total revenues $ 20,633 $ 21,404
Cost of sales 19,241 19,650
Gross profit 1,392 1,754Earnings of unconsolidated operations(a) 1,358 1,266
Selling, general and administrative expenses 1,920 1,754
Gain on sale of assets - (5)
Operating profit $ 830 $ 1,271
(a) See Note 6 to the Unaudited Condensed Consolidated Financial Statements for
a discussion of the Company's unconsolidated subsidiaries, including summarized
financial information.
Total revenues decreased 3.6% in the first quarter of 2023 compared with the
first quarter of 2022 primarily due to a reduction in revenue as final mine
reclamation activities at Caddo Creek were substantially completed in 2022. This
decrease was partially offset by a modest increase in customer requirements.
The following table identifies the components of change in operating profit for the first quarter of 2023 compared with the first quarter of 2022:
Operating Profit
2022 $ 1,271
Increase (decrease) from:
Gross profit (362)
Selling, general and administrative expenses (166)
Gain on sale of assets (5)
Earnings of unconsolidated operations 92
2023 $ 830
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Operating profit decreased$0.4 million in the first quarter of 2023 compared with the first quarter of 2022 primarily due to a decrease in gross profit and an increase in selling, general and administrative expenses. The decrease in gross profit was due to a reduction in earnings atCaddo Creek as final mine reclamation activities were substantially completed in 2022, partially offset by higher earnings at the consolidated quarries. The increase in selling, general and administrative expenses was mainly due to higher costs at Sawtooth Mining for theThacker Pass lithium project.
MINERALS MANAGEMENT SEGMENT
FINANCIAL REVIEW
The results of operations for the Minerals Management segment were as follows
for the three months ended
THREE MONTHS
2023 2022
Revenues $ 8,285 $ 12,754
Cost of sales 1,052 748
Gross profit 7,233 12,006
Selling, general and administrative expenses 1,189 509
Gain on sale of assets - (131)
Operating profit $ 6,044 $ 11,628
During the first quarter of 2023, the oil and natural gas industry experienced a
decline in commodity prices compared with the first quarter of 2022. Oil and
natural gas prices have been historically volatile and may continue to be
volatile in the future. The table below demonstrates such volatility with the
average price as reported by the United States Energy Information Administration
for the three months ended March 31 :
THREE MONTHS
2023 2022
West Texas Intermediate Average Crude Oil Price
Henry Hub Average Natural Gas Price $ 2.65 $ 4.66
Revenues and operating profit decreased significantly in the first quarter of 2023 compared with the first quarter of 2022, primarily due to substantially lower natural gas and oil prices and a reduction in volumes as existing wells followed their natural production decline. In addition, the first quarter of 2022 included$2.1 million of settlement income. An increase in selling, general and administrative expenses, mainly due to higher employee-related costs, also contributed to the decrease in operating profit.
UNALLOCATED ITEMS AND ELIMINATIONS
FINANCIAL REVIEW
Unallocated Items and Eliminations were as follows for the three months endedMarch 31 : THREE MONTHS 2023 2022 Operating loss$ (5,373) $ (5,307)
The operating loss in the the first quarter of 2023 was comparable to the first quarter of 2022.
Coal Mining Outlook
In 2023, the Company expects coal deliveries to decrease moderately from 2022
levels. The owner of the power plant served by the
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Coal Mining operating profit and Segment Adjusted EBITDA for the 2023 full year are expected to decrease significantly year-over-year, including and excluding the$14.0 million termination payment received from Falkirk's former customer,Great River Energy , in 2022. The decline is primarily the result of an expected significant reduction in earnings at the consolidated operations and an anticipated moderate decrease in earnings of unconsolidated operations. Results at the consolidated mining operations are projected to decrease significantly in 2023 versus 2022. The decrease is mainly due to an expected substantial decline in earnings at MLMC from increased costs associated with establishing operations in a new mine area, as well as higher depreciation expense related to recent capital expenditures to develop this new mine area. The anticipated ongoing inefficiencies of this project are expected to continue through the third quarter of 2023, and then moderate in the fourth quarter of 2023 and into 2024. MLMC does not anticipate opening additional mine areas through the remaining contract term. As a result, mine development capital expenditures should moderate from 2024 through 2032. While increased depreciation from capital expenditures related to the new mine area will affect future results, the Company anticipates MLMC should contribute favorably to Segment Adjusted EBITDA in future years. In 2023, capital expenditures are expected to be approximately$12 million , primarily for mine development and equipment replacement. The anticipated lower earnings at the unconsolidated coal mining operations is expected to be driven primarily by temporary price concessions at Falkirk throughMay 2024 . This will result in a reduction in the per ton management fee for 12 months in 2023 compared with eight months in 2022. The early retirement of the Pirkey power plant and commencement of final reclamation of theSabine Mine started onApril 1, 2023 will also contribute to the reduction in earnings. Sabine will receive compensation for providing final mine reclamation services, but at a lower rate than during active mining. Funding for Sabine's mine reclamation is the responsibility of the customer. The Company's contract structure at each of its coal mining operations eliminates exposure to spot coal market price fluctuations. However, fluctuations in natural gas prices and the availability of renewable power generation, particularly wind, can contribute to changes in power plant dispatch and customer demand for coal. Changes to customer power plant dispatch would affect the Company's outlook for 2023, as well as over the longer term.
NAMining Outlook
Despite an expected continuation of improved results at the aggregates operations for the remaining quarters of 2023, operating profit at NAMining is expected to decrease moderately in full-year 2023 compared with 2022. The decrease is due to the substantial completion of income-generating mine reclamation activities atCaddo Creek in mid-2022. Segment Adjusted EBITDA is expected to improve over 2022 because of a significant increase in depreciation expense. The increased depreciation expense is driven by elevated historical capital expenditures to support NAMining's growth initiatives. A number of initiatives are underway or in the planning stages that are expected to support improved future financial results at NAMining's mining operations. Until profit improves at existing operations, NAMining has narrowed its business development efforts.
In 2023, NAMining capital expenditures are expected to be approximately
Minerals Management Outlook
The Minerals Management segment derives income from royalty-based leases under
which lessees make payments to the Company based on their sale of natural gas,
oil, natural gas liquids and coal, extracted primarily by third parties.
Changing prices of natural gas and oil have a significant impact on Minerals
Management's operating profit.
In 2023, operating profit and Segment Adjusted EBITDA are expected to decrease
significantly compared with 2022. This decrease is primarily driven by current
market expectations for natural gas and oil prices, an anticipated reduction in
volumes as existing wells follow their natural production decline and modest
expectations for development of new wells by third-party exploration and
production companies.
Based on market expectations, the Company's forecast assumes oil and gas market
prices will continue to moderate in 2023 to levels in line with 2021 averages;
however, commodity prices are inherently volatile. An increase in natural gas
and oil prices above current expectations could result in improvements to the
2023 forecast.
As an owner of royalty and mineral interests, the Company's access to
information concerning activity and operations with respect to its interests is
limited. The Company's expectations are based on the best information currently
available and could
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vary positively or negatively as a result of adjustments made by operators, additional leasing and development and/or changes to commodity prices. Development of additional wells on existing interests in excess of current expectations could be accretive to future results.
In 2023, the Minerals Management expects capital expenditures of approximately$21 million , which includes up to$20 million of additional investments in mineral and royalty interests. Future investments are expected to be accretive, but each investment's contribution to near-term earnings is dependent on the details of that investment, including the size and type of interests acquired and the stage and timing of mineral development.
Consolidated Outlook
Management continues to view the long-term business outlook for NACCO positively, despite an expected significant decrease in 2023 consolidated net income versus 2022 in part because 2022 included$30.9 million of pre-tax contract settlement income. Excluding the contract termination settlement income recognized in the 2022 second quarter, net income in the first half of 2023 is still expected to be significantly lower than the first half of 2022. The decrease is primarily driven by an expected significant reduction in earnings at the Minerals Management and Coal Mining segments. At Minerals Management, the decrease in the first half of 2023 is primarily driven by an expected significant reduction in commodity prices from historically high price levels in the first half of 2022. At the Coal Mining segment, increased costs associated with establishing operations in a new mine area as well as an anticipated reduction in inventory levels during the first half of 2023 will result in a higher cost per ton that will reduce earnings at MLMC. In addition, a reduction in earnings from the unconsolidated mines, primarily Falkirk, is expected to contribute to the decrease. These reductions are expected to be partially offset by lower income tax expense. The Company expects a negative effective income tax rate between 30% and 35% in 2023. Mitigation Resources of North America® continued to build on the substantial foundation established over the past several years and ended the 2023 first quarter with eight mitigation banks and four permittee-responsible mitigation projects located inTennessee ,Mississippi ,Alabama andTexas . Mitigation Resources was recently named a designated provider of abandoned mine land restoration by theState of Texas . It plans to provide ecological restoration services for abandoned surface mines as well as pursue additional environmental restoration projects during 2023. In 2023, the Company expects capital expenditures of approximately$72 million , which includes up to$20 million of investments at Minerals Management. Future investments at Minerals Management are expected to continue to align with the Company's strategy and objectives to establish a blended portfolio of mineral and royalty interests. As a result of the forecasted capital expenditures and anticipated substantial decrease in net income, cash flow before financing activities in 2023 is expected to be positive but decline significantly from 2022.
Long-term Growth and Diversification Outlook
The Company is pursuing growth and diversification by strategically leveraging its core mining and natural resources management skills to build a strong portfolio of affiliated businesses. Management continues to be optimistic about the long-term outlook. In the Minerals Management segment, as well as in the Company's Mitigation Resources business, opportunities for growth remain strong. Acquisitions of additional mineral interests, an improvement in the 2024 outlook for the Company's largest Coal Mining segment customers and securing contracts for Mitigation Resources and new NAMining projects could be accretive to the Company's outlook. The Minerals Management segment continues to pursue acquisitions of mineral and royalty interests inthe United States . The Minerals Management segment expects to benefit from the continued development of its mineral properties without additional capital investment, as development costs are borne entirely by third-party exploration and development companies who lease the minerals. This business model can deliver higher average operating margins over the life of a reserve than traditional oil and gas companies that bear the cost of exploration, production and/or development. Catapult, the Company's business unit focused on managing and expanding the Company's portfolio of oil and gas mineral and royalty interests, has developed a strong network to source and secure new acquisitions. The goal is to construct a high-quality diversified portfolio of oil and gas mineral and royalty interests inthe United States that delivers near-term cash flow yields and long-term projected growth. The Company believes this business will provide unlevered after-tax returns on invested capital in the mid-teens as this business model matures. The Company remains committed to expanding the NAMining business while improving profitability. NAMining intends to be a substantial contributor to operating profit over time. The pace of achieving that objective will be dependent on the execution and successful implementation of profit improvement initiatives in the aggregates operations, and the mix and scale of new projects. The Sawtooth Mining lithium project is expected to contribute more significantly when production commences at 27
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Sawtooth Mining has a mining services agreement to serve as the exclusive contract miner for theThacker Pass lithium project in northernNevada , owned byLithium Nevada Corp. , a subsidiary of Lithium Americas Corp. (TSX: LAC) (NYSE: LAC). Lithium Americas owns the lithium reserves atThacker Pass . OnMarch 2, 2023 , Lithium Americas announced that construction has commenced. Phase 1 production is projected to begin in the second half of 2026. Sawtooth Mining plans to begin acquiring equipment for this project in 2023. Under the terms of the contract mining agreement, Lithium Americas will reimburse Sawtooth for these capital expenditures over a five-year period from the equipment acquisition date. Sawtooth will be reimbursed for all costs of mine construction plus a construction fee. The Company expects to recognize moderate income in 2024 and 2025 prior to commencement of production in 2026. Once production commences, Sawtooth will receive a management fee per metric ton of lithium delivered. At maturity, this contract is expected to deliver fee income similar to a mid-sized management fee coal mine. Mitigation Resources continues to expand its business, which creates and sells stream and wetland mitigation credits and provides services to those engaged in permittee-responsible mitigation as well as provides other environmental restoration services. This business offers an opportunity for growth and diversification in an industry where the Company has substantial knowledge and expertise and a strong reputation. Mitigation Resources is making strong progress toward its goal of becoming a top ten provider of stream and wetland mitigation services in the southeasternUnited States . The Company believes that Mitigation Resources can provide solid rates of return as this business matures. The Company also continues to pursue activities which can strengthen the resiliency of its existing coal mining operations. The Company remains focused on managing coal production costs and maximizing efficiencies and operating capacity at mine locations to help customers with management fee contracts be more competitive. These activities benefit both customers and the Company's Coal Mining segment, as fuel cost is a significant driver for power plant dispatch. Increased power plant dispatch results in increased demand for coal by the Coal Mining segment's customers. Fluctuating natural gas prices and availability of renewable energy sources, such as wind and solar, could affect the amount of electricity dispatched from coal-fired power plants. While the Company realizes the coal mining industry faces political and regulatory challenges and demand for coal is projected to decline over the longer-term, the Company believes coal will be an essential part of the energy mix inthe United States for the foreseeable future. Subsequent to 2023, the Coal Mining segment expects increased profitability compared with 2023 expectations due in part to improvements at Falkirk and MLMC. At Falkirk, the temporary price concessions end inJune 2024 . At MLMC, the move to a new mine area will be completed during 2023, and as a result, cost per ton delivered in 2024 is expected to moderate. In addition, certain costs incurred at MLMC in 2023 will be passed through to the customer and included in revenues in 2024. The Company continues to look for ways to create additional value by utilizing its core mining competencies which include reclamation and permitting. One such way the Company may be able to utilize these skills is through development of utility-scale solar projects on reclaimed mining properties. Reclaimed mining properties offer large tracts of land that could be well-suited for solar and other energy-related projects. These projects could be developed by the Company itself or through joint ventures that include partners with expertise in energy development projects. During the first quarter of 2023, the Company acquired 100% of the membership interests in theMarshall Mine , whereCaddo Creek had been performing mine reclamation work. The Company is considering development of a utility-scale solar project at this location. The Company is committed to maintaining a conservative capital structure as it continues to grow and diversify, while avoiding unnecessary risk. Strategic diversification will generate cash that can be re-invested to strengthen and expand the businesses. The Company also continues to maintain the highest levels of customer service and operational excellence with an unwavering focus on safety and environmental stewardship.
FORWARD-LOOKING STATEMENTS
The statements contained in this Form 10-Q that are not historical facts are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements are made subject to certain risks and uncertainties, which could cause actual results to differ materially from those presented. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The Company undertakes no obligation to publicly revise these forward-looking statements to reflect events or circumstances that arise after the date hereof. Among the factors that could cause plans, actions and results to differ materially from current expectations are, without limitation: (1) changes to or termination of customer or other third-party contracts, or a customer or other third party default under a contract, (2) any customer's premature facility closure, (3) a significant reduction in purchases by the Company's customers, including as a result of changes in coal consumption patterns ofU.S. electric power 28
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generators, or changes in the power industry that would affect demand for the Company's coal and other mineral reserves, (4) changes in the prices of hydrocarbons, particularly diesel fuel, natural gas, natural gas liquids and oil, (5) failure or delays by the Company's lessees in achieving expected production of natural gas and other hydrocarbons; the availability and cost of transportation and processing services in the areas where the Company's oil and gas reserves are located; federal and state legislative and regulatory initiatives relating to hydraulic fracturing; and the ability of lessees to obtain capital or financing needed for well-development operations and leasing and development of oil and gas reserves on federal lands, (6) failure to obtain adequate insurance coverages at reasonable rates, (7) supply chain disruptions, including price increases and shortages of parts and materials, (8) changes in tax laws or regulatory requirements, including the elimination of, or reduction in, the percentage depletion tax deduction, changes in mining or power plant emission regulations and health, safety or environmental legislation, (9) the ability of the Company to access credit in the current economic environment, or obtain financing at reasonable rates, or at all, and to maintain surety bonds for mine reclamation as a result of current market sentiment for fossil fuels, (10) impairment charges, (11) the effects of investors' and other stakeholders' increasing attention to environmental, social and governance matters, (12) changes in costs related to geological and geotechnical conditions, repairs and maintenance, new equipment and replacement parts, fuel or other similar items, (13) regulatory actions, changes in mining permit requirements or delays in obtaining mining permits that could affect deliveries to customers, (14) weather conditions, extended power plant outages, liquidity events or other events that would change the level of customers' coal or aggregates requirements, (15) weather or equipment problems that could affect deliveries to customers, (16) changes in the costs to reclaim mining areas, (17) costs to pursue and develop new mining, mitigation, oil and gas and solar development opportunities and other value-added service opportunities, (18) delays or reductions in coal or aggregates deliveries, (19) the ability to successfully evaluate investments and achieve intended financial results in new business and growth initiatives, (20) disruptions from natural or human causes, including severe weather, accidents, fires, earthquakes and terrorist acts, any of which could result in suspension of operations or harm to people or the environment, and (21) the ability to attract, retain, and replace workforce and administrative employees.
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