Good day, ladies and gentlemen and welcome to the NACCO Industries, Inc., 2015 first-quarter earnings conference call. [Operator Instructions] As a reminder, this call is being recorded. I would now like to turn the call over to Christina Kmetko. You may begin.

Thank you. Good morning, everyone, and welcome to our 2015 second-quarter earnings call. I am Christina Kmetko, and I am responsible for investor relations at NACCO Industries. I will be providing a brief overview of our quarterly results and business outlook, and then I will open up the call for your questions. Joining me on today's call are Alfred Rankin, Chairman, President, and Chief Executive Officer; J.C. Butler, the Senior Vice President Finance, Treasurer, and Chief Administrative Officer of NACCO as well as the President and Chief Executive Officer of North American Coal; and Elizabeth Loveman, NAACO's Vice President and Controller. Earlier this morning we published our second-quarter 2015 results and filed our 10-Q for the three and six months ended June 30, 2015. Also, copies of our earnings release and 10-Q are available on our website at NACCO.com. For anyone who is not able to listen to listen to today's entire call, an archived version of this webcast will be on our website later this [technical difficulty] disclaim any obligation to update these forward-looking statements, which may not be updated until our next [technical difficulty]. The non-GAAP reconciliations of these amounts are included in our 2015 second-quarter earnings release available on our website. Now let's discuss the quarter. Of most significance is our news that management recommended and the Board of Directors approved permanently discontinuing operations at North American Coal's Centennial Natural Resources mining operations in Alabama by the end of 2015. This Board action is the culmination of our ongoing monitoring and evaluation of the Centennial business, as we have discussed at length in previous quarters. With this closure we are substantially insulating North American Coal from exposure to fluctuations in market prices of coal. While this action did not result in any charges during the second quarter,…

[Operator Instructions]. Our first question comes from Michael Axon of Moab. Your line is open.

I'm trying to get an idea of what your consolidated line operations are going to look like without Centennial, and I just wanted to confirm a few things. Looks like your production ex- Centennial is around 3 million tons per year and that that's all, or essentially all, from Mississippi Lignite. Is that correct?

I'm sorry. Could you say that again? What was your question?

I'm trying to confirm that your consolidated coal production, not including Centennial, is around 3 million tons.

You're talking about the consolidated mines?

Correct.

Not the total Company as a consolidated entity?

Right. The consolidated operations -- yes, the consolidated mines. I'm trying to confirm that's around 3 million tons per year and that that's essentially all Mississippi Lignite.

That's correct.

Okay. You mentioned that there's a fixed-price contract. Can you talk about the terms of that? The length; if there are any minimum volumes; and given where your costs are, what types of margins per ton you're getting on that contract.

Let's be clear. It's a fixed price with escalators.

Okay.

So the objective is to -- it's a different structure from our other mines, but the objective over time is that inflation is compensated through escalators rather than being a cost-plus contract as many of our others are. So I think that it's not a free-market contract in any sense of the word. It's basically a mine-mouth coal operation supplying the power plant that is on top of that coal mining reserve operation. So I think you really want to think about it in those terms, and that's the overview comment I would have.

Got it. So, given the fixed cost with escalators -- fixed prices with escalators and where your costs are, what kind of margins per ton does that equate to, just generally?

We don't put information at that level into our public disclosures.

Okay. How long is the contract for, and are there any minimum volumes?

There are no minimum volumes, although you should -- as Al mentioned, it is a mine-mouth operation. So 100% of the coal out of that coal mine supplies 100% of the fuel for that power plant.

So that's the important point, is that power plant can only operate with our fuel.

Got it. Okay. So what is the risk for that power plant? Any risk to their requirements either from a slowdown in the plant production or any regulatory risk to that plant, etc.?

The biggest risk is the one that we have had for many years. It's the ups and downs of demand from TVA ultimately. If power demand goes down, if the weather is different from normal patterns you use more or less power; and that plant can have higher or lower demand. Secondly, there's a risk of outages. I think our point of view is that the current owners of that power plant have really taken some actions that are going to significantly improve the uptime of the power plant and therefore the demand for our coal. So we feel pretty good about that and about the prospects for the near term. I think the biggest open issue is what happens under the EPA regulations that have been announced. That's very unclear at this point. We'll be looking to determine as best we can the implications. But in any event nothing really happens to that plant under any circumstances that we can see at the moment prior to 2022. So our expectation and our hope is that, because of the nature of that plant that it will continue to be required in Mississippi as a key component of the grid network in Mississippi. But we're going to have to look at the regulations and the state is going to have to ultimately develop some kind of plan. But in the meantime there's going to be an enormous amount of litigation over that, over those EPA regulations, and we'll just have to see. But for the next significant period of time it's going to be simply a matter of supplying the requirements of that power plant, and we believe that the uptime of that plant is going to be better than it has historically been. But there's always a risk, to your point, of unplanned outages of one kind or another. But that goes with every power plant we have.

Got it. Okay. Then moving over to the unconsolidated mines, it looks like your earnings are around $50 million per year. I think your production is around 26 million tons per year. You talk about a target of increasing your earnings from $45 million by about 50% by 2017, so that would imply $65 million to $70 million of earnings. Can you break out how much of that improvement is going to be an increase of number of tons, versus an increase in your margin per ton due to escalators?

I would encourage you to think differently about the question. We have several new mines that are coming on stream increasingly, J.C., over the next two years or -- two to three years?

Two to three years.

And the largest portion of that comes from the contracts that underpin those mining operations. Those are all cost-plus mining operations. Really the margin per ton is not the right -- it's not the metric for thinking about it. It's really the number of tons and the basic profit structure per ton in those mines. You've got kind of a result for each individual mine. But the point really is that the largest impact comes from the new mines coming on stream. Then secondly, the escalators that are applied to the existing mines --

To all of them, all contracts.

All of the contracts will over time increase the earnings from those mines as well. And those two factors account for the entire rationale for laying out the objective of increasing our profits from the unconsolidated mines. So that's the way I would encourage you to think about it, is to look at the individual new mines that are coming on-stream, the timing of those. Those are what are going to determine the profitability and our ability to reach that objective.

Yes, and I would just add some clarity on the timing. The five new mines have all come online or will come online between 2012 and 2017. Some of those have already come online since 2012, but all five of those come online.

And some of them have a pattern of not achieving their full utilization of the power plant that they're serving or the operation they're serving right away.

Right. There's a ramp-up.

The volume builds, there's a ramp-up over time. That is particularly true at the Mississippi mine where there's an extended process of coming up to full volume as all different aspects of that very complex new power plant in Mississippi come online.

It's the Liberty mine in Mississippi.

Liberty.

Got it. My recollections of the length of those contracts is very long, like 25 years in some cases. Is that the life of the mine? Or do these contracts expire before the expected life of the mine terminates?

All of these mines were built -- all of the mines that fuel power plants were all built in relationship to the mine. The mine plans are developed and the contracts are developed so that the two operate the same way. The life of the power plant is generally believed to be the life of the coal mine as well.

But it is frequently true that there are more reserves and that the power plant runs longer.

Got it. Similar to your mine in Mississippi, I assume there aren't any minimum volumes. But essentially the plant is going to need to get all the coal from your mines; is that right?

That's correct.

Okay. Then what's the risk there of the -- those plants either slowing down or competing with alternative fuels, or any environmental changes in regulation that might threaten those power plants? If you can just talk about that qualitatively.

I would say the new Clean Power Plan that came out on Monday; I think there's a lot of uncertainty about how that plan would work. It's changed -- at least from what I'm understanding on very early reads of a very complex rule -- there's some pretty significant changes from the draft plan that was circulated a year ago. People are still trying to assess what that means on a state-by-state basis. It's at this point just too early to tell.

Okay. Of the power plants that you supply, are they in your estimation more or less threatened by what may happen on the regulatory front?

I'd say that the coal-fired power plants that we supply coal to for the most part are -- and this is information that's widely available in the industry if you dig into power plant data -- these are baseload power plants. Historically the United States economy has worked off of power that is dispatched based on cost; and you dispatch the lowest cost first and you work your way up. Coal-fired baseload power generation, like nuclear power generation, is amongst the lowest-cost, large-scale power generation units you can have. Hydro of course is also cheap. Everything else is more expensive and gets dispatched later. So for the most part these are baseload power plants that are dispatched based on cost, and they run all the time. They are good, solid, sound plants that our customers have invested in significantly over the last several decades, including very recently.

Yes. I would just emphasize that last point that in the broad structure of coal-fired power plants that are out there operating today, ours are generally very efficient, are newer than many.

And larger than many.

And larger than many. So they're very important to the grid and several of them or at least a couple of them are placed in areas where it's very important in terms of maintaining power availability just from a locational point of view. So in the general scheme of things we think our power plants are rather well positioned. I mean our customers' power plants are rather well positioned. And as J.C. said, their fuel really has to be the coal that the power plant is sitting on. There is no alternative fuel to fire those plants unless they were to undertake massive investments, which they have no intention of doing.

What would be the most likely alternative source of power that could displace your customers' power usage? Is it hydro? Is it something else?

Well, hydro only exists where there is both the water availability and the geology that provides enough gravity in order to do that. As we all know the EPA also and other government agencies don't like dams, so hydro I think is questionable. Technologically today I've certainly never heard anyone say that there's any sort of solar or wind technology that can come close to replacing coal-fired generation in the United States. The amount of geography that would be required for that with current technology is just staggering. There's no way that could happen. So then you really get to natural gas units and nuclear units. As we all know, nuclear units are practically impossible to get permitted today. It literally costs billions of dollars to get one of those just permitted, let alone built, and can take up to 10 years. So then you really get to natural gas, which in the preliminary EPA Clean Power Plan it appeared that it was a shift from coal to natural gas. Again, reading mostly newspapers, the early read on the most recent plan is that the EPA doesn't want there to be any increase in gas. So you look at this and say: I honestly don't know how they think power is going to be provided in the United States if we're going to shut down coal and not add a lot of gas. It just doesn't make sense to me. But the courts are going to sort that out.

There's going to be a huge amount of analysis that is done, a lot of assessment of options. The states are meant to be coming together with a plan. But if you look at the things that are being said politically at the moment, they tend to be that these new power sources aren't going to cost more than the existing power sources. And we find that very, very difficult to believe and think it's just not likely to be true. And number two that these regulations will force new technology to emerge which can substitute for coal and natural gas. So they're making big bets that nuclear will be more attractive in the future then it is; they're making big bets that solar and wind and battery development for storage of energy are going to change dramatically. But experience is these don't happen in the kinds of time frames that this regulation seems to be pointing to. So I think one of the biggest debates will be over the time frame for implementation of these rules. For example, if you look to the natural end of life of our power plants, and these plants run through their natural life and then they're replaced by something else, you can imagine that by 2035 or 2040 or 2050 that there will be some new technologies available that can be helpful. But by 2022, this is really hard to envision. So you would like some more specificity. We would like more specificity. And I don't think either of us are going to get it for the time being at this point.

But just to summarize, I would say as we look across the horizon of this un-yet-digested new rule and how that's actually going to shake out, I feel very good about the fact that we have these mines that we have which produce very low-cost fuel for our customers, who operate very well-maintained, very efficient, very sophisticated coal-fired power plants. I think we are as well positioned as anybody can be given where we are.

Got it. No, I appreciate all that. How do your customer power plants compare to other coal plants on an emissions standpoint? Do they tend to be on the cleaner side, or the less clean side? How do you characterize that?

This gets to what we were saying about our customers who have generally been investing in their plants. Each power plant is owned by a customer; in some cases we have a customer that owns multiple power plants. But they've been investing in these plants and from a SOx, NOx, particulate matter, etc., etc., its outstanding overall. I would add that the new Kemper County facility that's being built by Mississippi Power, a subsidiary of Southern Company, which our new Liberty mine is going to provide the coal to, is -- we keep calling it a coal-fired power plant. It actually is a gigantic coal refinery, coal gasification facility that produces synthetic natural gas. And in the process they create all sorts of byproducts that are sold for other uses, including CO2; they capture 65% of the CO2 that's sold for oil recovery. And then it produces a syngas that's used to produce electricity. That power plant has an outstanding CO2 footprint because of this new technology. Of course it cost $6.2 billion and it's not done yet. The other thing I would tell you is we -- at our Freedom Mine, Coteau Properties' Freedom Mine in North Dakota, one of our customers there is the Dakota Gas plant, which was built in the 1970s as a diversification away from foreign fuels. That facility uses coal that we provide to produce synthetic natural gas; they also produce a want of byproducts that are sold. Those are the only two -- I believe -- the only two large-scale gasification facilities in the country today. I think maybe they're going to build another one, but I don't remember the specifics right now. But those are a part of our mix as well that goes beyond just power generation.

Then moving over to your royalty income, it's running $7 million or $8 million a year and it sounds like you expect further declines. Is there a floor on this, or could those royalties eventually go away? How should I think about that?

Royalty is essentially completely out of our control. These are mineral reserves, whether it's coal, oil, or gas, that we own but we don't actively operate or extract. So it's completely up to others who might be mining that coal, or have paid us an upfront fee to secure a lease. And they either have drilled a well or they may drill a well in the future, and they may or may not decide to extract oil or gas, depending on what the market prices are and the local infrastructure that's available to them. So the royalty side of our business is virtually impossible for us to predict because it's out of our hands.

Got it. But low oil and gas prices you would expect, I assume, would continue to put pressure on that, on those royalties?

It doesn't help it.

Right, right.

I would say too that there have been some sources of royalties that have been very substantial that have been tending to wind down. So we'll continue to see income from royalty, but I don't think it's going to be the dimensions of past years. And that's probably the best way of saying that.

That's a fair statement.

Okay. How should I think about a maintenance CapEx number for your consolidated mines?

The consolidated mines essentially are Mississippi Lignite Mining Company, right, is the largest piece of that. A coal mine has significant fixed costs, and much of what your CapEx spending is on are things that are very expensive and they have very long lives. You'll spend several million dollars on a truck, and you'll spend multiples of that on a fleet of trucks, or a large shovel, or something like that. So the concept of maintenance CapEx isn't something that really exists in this industry, because it is so lumpy. You'll spend a bunch of money; and then you won't have to spend much money for several years. And then you'll have an asset retirement. You'll need to replace a piece of equipment. Eventually it wears out and you can't repair it any longer.

I think it's important to remember that the way the contract is structured for Mississippi Lignite Mining Company it assumes that there will be capital replacement periodically. Otherwise you would have fully depreciated assets in the business; and a fixed-cost escalation-type contract, you'd have rising profits just because you weren't putting capital back into it. That's not the right way to think about that mine. It operates at whatever the demand is, and over time you're going to maintain the same kind of cost structure as a result of that. So these are replacement expenditures for equipment, and they're designed to simply keep the mine operating.

I would just add to that that you have seen over the course of the last few quarters we have drastically reduced our expected capital spending level for the year. Because of the way our financials work you know that most of that is related to Mississippi Lignite Mining Company. As it says in our 10-K, that contract runs to 2032. With the EPA rattling around with their Clean Power Plan, this year we are undertaking -- it is still underway -- a significant relook at our mine plans, our long-term mine plans for that operation. And we are looking at new innovative and creative ways to either spend less on capital overall or defer capital expenditures if we can, by rethinking the way we're going to mine the reserves that are available in that location.

Let me give you an example in that case. Any coal mine of that type moves periodically from one pit area to another pit area. That can be an expensive proposition. So we're trying to design things in a way which will cause us to defer capital expenditures until we have a lot more clarity over what the implications of the EPA regulations are really going to be. So eventually we will be in a position of having to make the kinds of expenditures over the long term to go through the date that J.C. mentioned, 2035.

2032.

2032. But there are different ways to do that, different sequences of ways to do that. And that's what we're working on, in order to try to ensure that we have the best view of what's going to happen with the regulations.

So if I look at how much your depreciation is for the consolidated mines, is that likely to be higher than your average CapEx over the longer term? Or might that be a pretty good estimate of what you think you have to spend?

I just think you can't -- because of the lumpiness --

I don't think you can think about it that way.

Because of the lumpiness that J.C. described, it's very difficult to think about it that way.

Yes. No, I was trying to think of like an average over a period of years; but okay.

I think we've given you everything we can.

Got it. Once Centennial is shut down, how much is that going to improve your gross margins for your consolidated mines? Any order of magnitude you can give me on that?

We don't talk about margins with respect to mines.

We have given you some numbers on Centennial and the profitability of Centennial, and I think you can work backwards from those.

Okay; got it. SG&A is running around $30 million. And maybe this is sort of the same question, but SG&A is running around $30 million for the consolidated mines. How much do you think that that can go down once Centennial is removed? Or do you think that will stay about the same?

I think that those costs tend to be related to our mines overall and not to any specific mine. The specific mine costs are associated with the individual mines. Let me make sure we get to some other questions here. You can always come back and ask some more, if need be.

[Operator Instructions] I'm showing no further questions at this time. I'd like to turn the call back over to Christina Kmetko for any closing remarks.

Thank you for joining us today. We appreciate your interest; and if you do have any additional questions you may contact me at 440-229-5130. Thank you.