Fitch downgrades Arch Coal as company re-works finances

Fitch Ratings said May 2 that it has downgraded the Issuer Default Rating (IDR) and senior unsecured notes to ‘B+’ from ‘BB-‘ for Arch Coal (NYSE: ACI), a top U.S. coal producer that has lately been reworking its finances to cover a sharp drop this year in coal production and demand.

In addition, Fitch assigns a ‘BB/RR1’ rating to the prospective $1 billion, five year, term loan. The Rating Outlook is Stable. Arch Coal announced commitments for a new $1bn term loan and plans to reduce its revolver to $1bn from $2bn. The proceeds of the loan will reduce borrowings under the revolver ($425m as of March 31) and to repay $450m worth of Arch Western notes due July 1, 2013.

The term loan will not have financial maintenance covenants. The revolver covenants will be amended with total leverage suspended over the next two years in favor of a new minimum EBITDA covenant.

“Arch Coal benefits from large, well diversified operations and good control of low-cost production,” Fitch noted. “The credit ratings also reflect oversupply in the domestic steam coal market which is expected to result in substantially lower earnings through at least 2013. Weak earnings and high debt levels post the acquisition of International Coal Group in 2011 will result in high leverage metrics over the period offset by strong liquidity.”

At March 31, 2012, pro forma liquidity remains solid, Fitch added, with cash on hand estimated at $200m and $1bn of availability estimated under the company’s credit facilities. The $250m accounts receivable facility matures Dec. 11, 2012, and is renewable annually. The $2bn (falling at transaction close to $1bn) revolving credit facility matures in June 2016.

Fitch said it expects Arch Coal to manage within the amended covenants. The Stable Outlook reflects Fitch’s expectation that Arch Coal will be free cash flow negative over the next 24 months but has sufficient liquidity to manage through the downturn. Fitch said it would consider a negative rating action if liquidity deteriorates more than anticipated. Fitch would consider a positive rating action if debt levels are materially reduced.

Arch, responding to slack U.S. thermal coal markets, is matching production targets to current demand by cutting its annual volumes by 25 million tons for 2012. It now expects thermal sales volumes this year in the range of 128 million to 134 million tons with met coal sales between 8 million and 8.5 million tons.

In its May 1 first-quarter earnings statement, Arch said its financial moves include:

  • Reducing the dividend from $0.11 per share to $0.03 per share. The common stock dividend will be payable June 15 to shareholders of record on June 1.
  • Securing a commitment for a $1bn term loan without financial maintenance covenants and with a maturity of not less than five years. The proceeds from the loan will be used to repurchase or redeem Arch Western Finance notes due in June 2013, reduce outstanding revolver borrowings and provide additional liquidity for ongoing business needs.
  • Obtaining consent from Arch’s lenders to amend the company’s senior secured revolving credit facility to allow for the new term loan and to reduce its borrowing capacity to $1bn in exchange for relief from certain financial covenants over the next two years.

“The new financing package underwritten by our consortium of banks demonstrates their confidence in our company, our strategy and our long-term prospects,” said John Drexler, Arch’s Senior Vice President and CFO. “With this package, and in conjunction with other elements of our strategic plan, we have enhanced our liquidity, simplified our capital structure, and extended our debt maturities. This arrangement also sets minimum performance targets that both parties believe are achievable under current market conditions – and allows us to continue pursuing our long-term growth objectives.”