A combination of weak coal markets, increased federal regulation of the coal mining business and lingering labor union obligations led Patriot Coal on May 12 back into Chapter 11 bankruptcy protection, following its emergence from Chapter 11 around the end of 2013.
Raymond E. Dombrowski Jr., the Chief Restructuring Officer for the company, outlined what happened to the company in a first-day filing at the U.S. Bankruptcy Court for the Eastern District of Virginia.
Patriot’s principal business is the mining and preparation of thermal coal, sold primarily to electricity generators, and metallurgical coal, sold primarily to steel and coke producers. Patriot Coal and its subsidiaries in bankruptcy control approximately 1.4 billion tons of proven and probable coal reserves —including owned and leased assets in the Central Appalachia basin (in West Virginia and Ohio) and Illinois Basin (in western Kentucky and Illinois). Their operations consist of eight active mining complexes in West Virginia. Patriot employs approximately 2,870 individuals on a full-time basis, of which approximately 900 are unionized and represented by the United Mine Workers of America (UMWA) union.
Patriot previously filed for relief under the U.S. Bankruptcy Code in July 2012. In December 2013, the U.S. Bankruptcy Court for the Eastern District of Missouri confirmed their plan of reorganization, and the Debtors emerged having deleveraged their balance sheet and reduced expenses, including certain expenses associated with their legacy liabilities. Dombrowski said the linchpins of their prior chapter 11 plan were a global settlement among the Debtors, the UMWA, and two third parties that had contribued operations to the company—Peabody Energy and Arch Coal—and a commitment by a consortium of Patriot’s financial creditors, led by certain funds and accounts managed and/or advised by Knighthead Capital Management LLC (collectively called the “Ad Hoc Group”), to backstop two rights offerings that funded the plan.
In the 2012-13 Restructuring, the Debtors reduced wages and benefits for their non-union employees and retirees, negotiated new collective bargaining agreements with the UMWA, and transitioned their retiree healthcare obligations under preexisting collective bargaining agreements to a voluntary employees’ beneficiary association trust (the “UMWA VEBA”). However, substantial portions of the Debtors’ legacy liabilities remained in place. Notably, the Debtors’ obligations to contribute to the multi-employer pension fund under the UMWA 1974 Pension Plan (the “1974 Pension Plan”) and to make payments pursuant to certain federal statutes applicable to the coal industry (the Coal Act and the Black Lung Act) were unaffected by the previous chapter 11 cases. “The Debtors’ capital structure upon emergence from the 2012-13 Restructuring remains in place today,” Dombrowski noted.
Coal prices just didn’t meet expectations
Dombrowski added: “Patriot’s feasibility upon emergence from the 2012-13 Restructuring was predicated on assumptions about coal prices that ultimately did not to materialize,” he added. “Notwithstanding the consummation of its prior chapter 11 cases, Patriot, like other coal industry leaders, has faced—and continues to face—strong headwinds as a result of the continued decline in domestic and foreign demand for coal, burdensome environmental regulations, and unsustainable further legacy and other non-operating liabilities. In addition, operational issues relating to a longwall move and a mine collapse at one of the Debtors’ mining complexes, Federal, caused Patriot to suffer significant cash shortfalls from its projections.”
Federal No. 2 is a longwall-equipped mine working the Pittsburgh coal seam in northern West Virginia, and is the company’s only operating mine in Northern Appalachia. The rest of its operating mines are in southern West Virginia, in Central Appalachia. U.S. Mine Safety and Health Administration data shows that Federal No. 2, located in Monongalia County, produced 864,420 tons in the first quarter of this year, and 2.9 million tons in all of 2014 and 3.4 million tons in all of 2013.
“In response to continued challenges following the 2012-13 Restructuring, Patriot’s management and advisers pursued certain strategic M&A and sale transactions, but these efforts did not yield a transformative transaction,” Dombrowski added. “Accordingly, Patriot was forced to take actions to reduce further their cost structure by idling and reducing activity at certain mining complexes to match expected sales volumes and market demand. In addition, on December 31, 2014, Patriot entered into asset purchase agreements with Alliance Resources Partners, L.P. (‘Alliance’), pursuant to which Patriot agreed to transfer to Alliance all assets associated with its Dodge Hill mining complex and certain undeveloped coal reserves in Western Kentucky. Patriot also entered into asset purchase agreements with Prairie Mining Company, LLC and Prairie Dock Company, LLC for the sale to these companies of permits and associated property rights for Patriot’s Highland mining complex [in Western Kentucky]. Patriot expects these sales will conclude in the first half of 2015 and provide approximately $46 million in revenue.
“In addition to these asset purchase agreements, on December 31, 2014, Patriot sold its rights to certain coal supply agreements to affiliates of Alliance, realizing a gain of approximately $9.1 million.
“Over the past several months, due to continued weakened demand for coal, Patriot’s management has had to address increasingly severe pressures on its financial condition. In the first quarter of 2015, it became apparent that Patriot would have difficulty obtaining an unqualified audit opinion by March 31, 2015, which would have been an event of default under its secured debt instruments. And unless cured 30 days thereafter, this default would have accelerated (and cross-accelerated) Patriot’s approximately $791 million secured capital structure. Additionally, Patriot was in jeopardy of not satisfying certain financial covenants. Accordingly, Patriot and its advisers negotiated and obtained on March 31, 2015 requisite amendments from their lenders that provided further time to explore options to secure additional liquidity and/or effectuate a going-concern sale and/or restructuring transaction (the ‘March 31 Amendments’).”
Federal No. 2 longwall mine a feature of sale talks
“Also over the past several months, Patriot engaged in multiple efforts to sell assets. First, Patriot had extensive negotiations with purchasers interested in one of their underground mining complexes known as Federal. These discussions led to significant indications of interest for a sale of Federal. As part of the March 31 Amendments, however, Patriot and its lenders agreed to postpone this transaction until it could be confirmed whether a sale outside of a chapter 11 case would obtain the greatest possible value for the asset. As described further below, the Debtors intend to resume as soon as practicable postpetition the marketing process for Federal.
“Second, also over the past several months, Patriot had extensive negotiations regarding the purchase of certain reserves at its Huff Creek mine. These discussions led to an agreement in principle for a transaction slated to close by April 30, 2015. As part of the March 31 Amendments, it was agreed that Patriot could retain 50% of the Huff Creek asset sale proceeds for general corporate purposes, and the other 50% would be used to cash collateralize its letters of credit. In the last week of April, however, a series of complications arose that precluded consummation of this transaction, and Patriot’s consequent inability to utilize these expected sale proceeds was a further material strain on liquidity.
“Finally, and perhaps most significantly, in recent weeks Patriot has been engaged in extensive negotiations with a strategic party interested in effectuating a transaction acquiring essentially all of Patriot’s operating assets (excluding Federal) and many of its reserves (including Huff Creek). Discussions with this potential acquirer are in a highly advanced stage, with the parties having exchanged a series of proposals and counterproposals, and progress is underway towards drafting a term sheet and related documentation.
“The Debtors intend to continue these negotiations in earnest postpetition and, as soon as practicable, hope to file with the Court a motion to approve bidding procedures for one or more transactions, possibly accompanying a motion to approve one or more stalking horse bidders, to sell assets pursuant to section 363 or under a chapter 11 plan. Throughout this marketing process, the Debtors also will continue their ongoing analysis of whether a standalone plan of reorganization or some combination of section 363 sales and a plan will maximize value for stakeholders.
“Importantly, the aforementioned strategic party does not have employees represented by the UMWA or any union, and thus far has expressed an unwillingness to enter into a transaction that would involve assuming various legal liabilities related to, among other things, the Debtors’ collective bargaining agreements with the UMWA (the ‘CBAs’). The Debtors will explore all possible transactional solutions that do not involve having to reject the CBAs—and, most critically, these explorations will include active, direct, and comprehensive negotiations with the UMWA that seek a consensual outcome for all affected parties. If such consensual resolution is not achievable, however, the Debtors may not be able to avoid commencing, as they did during the 2012-13 Restructuring (and described below), proceedings under sections 1113 and 1114 of the Bankruptcy Code.”
Company sold 22.4 million tons of coal last year
“In 2014, the Debtors sold approximately 22.4 million tons of coal, of which approximately 68% was sold to domestic and global electricity generators and industrial customers and approximately 32% was sold to domestic and global steel and coke producers. Export sales were approximately 44% of the Debtors’ total volume in 2014,” Dombrowski wrote. “The Debtors ship coal to electricity generators, industrial users, steel mills, and independent coke producers, as well as brokers that ultimately sell the coal to these same types of customers. The coal is shipped via various company-owned and third-party loading facilities, multiple rail and river transportation routes and ocean-going vessels.
“The Debtors employ approximately 2,840 individuals on a full-time basis, of which approximately 900 are represented by the UMWA through collective bargaining agreements. These employees include miners, engineers, truck drivers, mechanics, electricians, administrative support staff, managers, directors, and executives. The Debtors provide to their employees health and welfare benefit plans, including medical, prescription drug, dental, and vision plans, and health savings accounts. Certain of the Debtors are required to contribute to the 1974 Pension Plan, a multi-employer plan that provides defined benefits to a majority of the hourly coal production workers represented by the UMWA. The expense related to 1974 Pension Plan was $20.8 million in 2012, $20.6 million in 2013, and $16.8 million in 2014.
“The Debtors also contribute to plans established for certain retirees who retired before October 1, 1994 under the Coal Industry Retiree Health Benefits Act of 1992, 26 U.S.C. § 9701 et seq. (the ‘Coal Act’). As discussed further below, Peabody has posted credit support with respect to certain of these obligations in the form of letters of credit. Like other coal companies, the Debtors also incur costs and make award payments in accordance with the Federal Mine Safety and Health Act of 1977, 30 U.S.C. §§ 901–45 (the ‘Black Lung Benefits Act’).
“Because the Debtors sell substantial quantities of coal products to domestic and international electricity generators and steel producers, the Debtors’ business and results of operations are linked closely to global demand for coal-fueled electricity and steel production. Since the 2012-13 Restructuring, thermal and metallurgical coal markets and pricing have become increasingly challenged with oversupply conditions.
“Coal’s share of the U.S. energy market and prices for thermal and metallurgical coal have both declined markedly. The lethargic economic environment, lack of growth in energy demand generally, and a number of scheduled coal-fired plant retirements have precipitated this decline. As of December 31, 2014, natural gas pricing was 46% lower compared with a year ago and stood at $2.95/MBtu, a price at which it is difficult for any coal basin to compete. Additionally, the demand and price for metallurgical coal are dependent on the strength of the global economy and, in particular, on steel production in countries such as China and India, as well as Europe, Brazil and the United States. The global metallurgical coal market continues to suffer from oversupply in addition to reduced demand from China, further depressing the price of coal.”