Form 10-Q

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2005

 

or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                      to                     

 

Commission File Number: 001-14901

 

CONSOL Energy Inc.

(Exact name of registrant as specified in its charter)

 

Delaware   51-0337383

(State or other jurisdiction of

incorporation or organization)

  (IRS Employer Identification No.)

 

1800 Washington Road, Pittsburgh, Pennsylvania 15241

(Address of principal executive offices, including zip code)

 

(412) 831-4000

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes x  No ¨

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

 

Yes x  No ¨

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.

 

Class


 

Shares outstanding as of July 26, 2005


Common stock, $0.01 par value

  91,786,664

 



TABLE OF CONTENTS

 

PART I

FINANCIAL INFORMATION

 

         Page

ITEM 1.

 

CONDENSED FINANCIAL STATEMENTS

    
   

Consolidated Statements of Income for the three and six months ended June 30, 2005 and June 30, 2004

   1
   

Consolidated Balance Sheets at June 30, 2005 and December 31, 2004

   2
   

Consolidated Statements of Stockholders’ Equity for the six months ended June 30, 2005

   4
   

Consolidated Statements of Cash Flows for the six months ended June 30, 2005 and June 30, 2004

   5
   

Notes to Consolidated Financial Statements

   6

ITEM 2.

 

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

   31

ITEM 3.

 

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

   66

ITEM 4.

 

CONTROLS AND PROCEDURES

   68
    PART II     
    OTHER INFORMATION     

ITEM 4.

 

SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

   69

ITEM 6.

 

EXHIBITS

   70


PART I

FINANCIAL INFORMATION

 

ITEM 1. CONDENSED FINANCIAL STATEMENTS

 

CONSOL ENERGY INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

(Dollars in thousands, except per share data)

 

     Three Months Ended
June 30,


   Six Months Ended
June 30,


     2005

   2004

   2005

   2004

Sales - Outside

   $ 762,934    $ 623,975    $ 1,525,533    $ 1,214,463

Sales - Related Parties

     614      —        614      —  

Freight - Outside

     31,665      29,768      61,789      61,207

Other Income

     21,936      20,841      46,201      49,769
    

  

  

  

Total Revenue and Other Income

     817,149      674,584      1,634,137      1,325,439

Cost of Goods Sold and Other Operating Charges (exclusive of depreciation, depletion and amortization shown below)

     585,795      482,793      1,136,703      929,331

Freight Expense

     31,665      29,768      61,789      61,207

Selling, General and Administrative Expense

     18,797      17,263      35,186      35,860

Depreciation, Depletion and Amortization

     66,780      61,725      130,159      121,195

Interest Expense

     7,189      8,321      14,113      17,382

Taxes Other Than Income

     56,236      48,488      115,813      96,521
    

  

  

  

Total Costs

     766,462      648,358      1,493,763      1,261,496
    

  

  

  

Earnings Before Income Taxes

     50,687      26,226      140,374      63,943

Income Taxes

     9,613      21      24,088      4,828
    

  

  

  

Earnings Before Cumulative Effect of Change in Accounting Principle

     41,074      26,205      116,286      59,115

Cumulative Effect of Change in Accounting for Workers’ Compensation Liability, net of Income Taxes of $53,080

     —        —        —        83,373
    

  

  

  

Net Income

   $ 41,074    $ 26,205    $ 116,286    $ 142,488
    

  

  

  

Basic Earnings Per Share

   $ 0.45    $ 0.29    $ 1.28    $ 1.58
    

  

  

  

Dilutive Earnings Per Share

   $ 0.44    $ 0.29    $ 1.26    $ 1.57
    

  

  

  

Weighted Average Number of Common Shares Outstanding:

                           

Basic

     91,436,988      90,077,916      91,191,476      90,002,611
    

  

  

  

Dilutive

     92,584,311      90,964,155      92,267,937      90,763,088
    

  

  

  

Dividends Paid Per Share

   $ 0.14    $ 0.14    $ 0.28    $ 0.28
    

  

  

  

 

The accompanying notes are an integral part of these financial statements.

 

1


CONSOL ENERGY INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share data)

 

     (Unaudited)     
     JUNE 30,
2005


   DECEMBER 31,
2004


ASSETS

             

Current Assets:

             

Cash and Cash Equivalents

   $ 4,692    $ 6,422

Accounts and Notes Receivable:

             

Trade

     232,989      111,580

Other Receivables

     38,920      30,251

Inventories

     135,601      121,902

Deferred Income Taxes

     152,022      145,890

Recoverable Income Taxes

     —        14,614

Prepaid Expenses

     44,163      39,510
    

  

Total Current Assets

     608,387      470,169

Property, Plant and Equipment:

             

Property, Plant and Equipment

     6,713,023      6,514,016

Less - Accumulated Depreciation, Depletion and Amortization

     3,438,331      3,331,436
    

  

Total Property, Plant and Equipment - Net

     3,274,692      3,182,580

Other Assets:

             

Deferred Income Taxes

     352,114      355,008

Investment in Affiliates

     70,641      47,684

Other

     118,033      140,170
    

  

Total Other Assets

     540,788      542,862
    

  

TOTAL ASSETS

   $ 4,423,867    $ 4,195,611
    

  

 

The accompanying notes are an integral part of these financial statements.

 

2


CONSOL ENERGY INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share data)

 

     (Unaudited)
JUNE 30,
2005


    DECEMBER 31,
2004


 

LIABILITIES AND STOCKHOLDERS’ EQUITY

                

Current Liabilities:

                

Accounts Payable

   $ 149,635     $ 166,068  

Short-Term Notes Payable

     —         5,060  

Current Portion of Long-Term Debt

     3,924       3,885  

Accrued Income Taxes

     180       —    

Other Accrued Liabilities

     565,341       530,472  
    


 


Total Current Liabilities

     719,080       705,485  

Total Long-Term Debt

     425,686       425,760  

Deferred Credits and Other Liabilities:

                

Postretirement Benefits Other Than Pensions

     1,559,488       1,531,250  

Pneumoconiosis Benefits

     417,058       427,264  

Mine Closing

     357,440       305,152  

Workers’ Compensation

     138,140       140,318  

Deferred Revenue

     38,122       50,208  

Salary Retirement

     70,715       51,957  

Reclamation

     8,922       5,745  

Other

     109,648       83,451  
    


 


Total Deferred Credits and Other Liabilities

     2,699,533       2,595,345  

Stockholders’ Equity:

                

Common Stock, $.01 par value; 500,000,000 Shares Authorized, 91,681,615 Issued and Outstanding at June 30, 2005; 91,267,558 Issued and 90,642,939 Outstanding at December 31, 2004

     916       913  

Preferred Stock, 15,000,000 Shares Authorized; None Issued and Outstanding

     —         —    

Capital in Excess of Par Value

     866,336       846,644  

Retained Earnings (Deficit)

     (186,600 )     (277,406 )

Other Comprehensive Loss

     (92,923 )     (89,193 )

Unearned Compensation on Restricted Stock Units

     (8,161 )     (4,883 )

Common Stock in Treasury, at Cost - 0 Shares at June 30, 2005, 624,619 Shares at December 31, 2004

     —         (7,054 )
    


 


Total Stockholders’ Equity

     579,568       469,021  
    


 


TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

   $ 4,423,867     $ 4,195,611  
    


 


 

The accompanying notes are an integral part of these financial statements.

 

3


CONSOL ENERGY INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(Dollars in thousands, except per share data)

 

    Common
Stock


  Capital in
Excess of
Par Value


  Retained
Earnings
(Deficit)


    Other
Comprehensive
Income (Loss)


    Unearned
Compensation
on Restricted
Stock Units


    Treasury
Stock


    Total
Stockholders’
Equity


 

Balance - December 31, 2004

  $ 913   $ 846,644   $ (277,406 )   $ (89,193 )   $ (4,883 )   $ (7,054 )   $ 469,021  
   

 

 


 


 


 


 


(Unaudited)

                                                   

Net Income

    —       —       116,286       —         —         —         116,286  

Treasury Rate Lock (Net of $26 tax)

    —       —       —         (40 )     —         —         (40 )

Gas Cash Flow Hedge (Net of $2,440 tax)

    —       —       —         (3,690 )     —         —         (3,690 )
   

 

 


 


 


 


 


Comprehensive Income (Loss)

    —       —       116,286       (3,730 )     —         —         112,556  

Dividend Equivalents on Restricted Stock Units (3,338 units)

    —       129     —         —         (129 )     —         —    

Issuance of Restricted Stock Under the Equity Incentive Plan (93,508 shares)

    —       4,211     —         —         (4,211 )     —         —    

Stock Options Exercised (1,038,407 shares)

    3     14,380     —         —         —         7,054       21,437  

Stock-Based Compensation from Accelerated Vesting

    —       735     —         —         —         —         735  

Common Stock Issued (4,946 shares)

    —       225     —         —         —         —         225  

Amortization of Restricted Stock Unit Grants

    —       —       —         —         1,062       —         1,062  

Dividends ($.28 per share)

    —       12     (25,480 )     —         —         —         (25,468 )
   

 

 


 


 


 


 


Balance at June 30, 2005

  $ 916   $ 866,336   $ (186,600 )   $ (92,923 )   $ (8,161 )   $ —       $ 579,568  
   

 

 


 


 


 


 


 

The accompanying notes are an integral part of these financial statements.

 

4


C ONSOL ENERGY INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(Dollars in thousands)

 

     Six Months Ended
June 30,


 
     2005

    2004

 

Operating Activities:

                

Net Income

   $ 116,286     $ 142,488  

Adjustments to Reconcile Net Income to

                

Net Cash Provided by Operating Activities:

                

Cumulative Effect of Change in Accounting Principle, net of tax

     —         (83,373 )

Depreciation, Depletion and Amortization

     130,159       121,195  

Compensation from Restricted Stock Unit Grants

     1,797       286  

Gain on the Sale of Assets

     (10,653 )     (30,336 )

Amortization of Mineral Leases

     3,661       3,501  

Deferred Income Taxes

     (772 )     6,279  

Equity in (Earnings) Losses of Affiliates

     (1,818 )     3,395  

Changes in Operating Assets:

                

Accounts Receivable Securitization

     (110,000 )     17,000  

Accounts and Notes Receivable

     (20,077 )     (6,628 )

Inventories

     (13,757 )     (8,528 )

Prepaid Expenses

     (8,028 )     (33,314 )

Changes in Other Assets

     766       4,856  

Changes in Operating Liabilities:

                

Accounts Payable

     (16,425 )     10,159  

Other Operating Liabilities

     49,895       6,681  

Changes in Other Liabilities

     37,630       35,433  

Other

     (1,216 )     (1,457 )
    


 


       41,162       45,149  
    


 


Net Cash Provided by Operating Activities

     157,448       187,637  
    


 


Investing Activities:

                

Capital Expenditures

     (169,562 )     (204,597 )

Additions to Mineral Leases

     (6,352 )     (3,387 )

Investment in Equity Affiliates

     (6,838 )     (2,611 )

Proceeds from Sales of Assets

     29,471       20,102  
    


 


Net Cash Used in Investing Activities

     (153,281 )     (190,493 )
    


 


Financing Activities:

                

Payments on Miscellaneous Borrowings

     (166 )     (4,338 )

Payments on Revolver

     (1,700 )     (65,000 )

Payments on Long Term Notes

     —         (45,000 )

Dividends Paid

     (25,468 )     (25,174 )

Withdrawal from Restricted Cash

     —         190,000  

Stock Options Exercised

     21,437       5,983  
    


 


Net Cash (Used in) Provided by Financing Activities

     (5,897 )     (56,471 )
    


 


Net (Decrease) Increase in Cash and Cash Equivalents

     (1,730 )     53,615  

Cash and Cash Equivalents at Beginning of Period

     6,422       6,513  
    


 


Cash and Cash Equivalents at End of Period

   $ 4,692     $ 60,128  
    


 


 

The accompanying notes are an integral part of these financial statements.

 

5


CONSOL ENERGY INC. AND SUBSIDIARIES

 

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

 

June 30, 2005

(Dollars in thousands, except per share data)

 

NOTE 1 - BASIS OF PRESENTATION:

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three-month and six-month periods ended June 30, 2005 are not necessarily indicative of the results that may be expected for future periods.

 

The balance sheet at December 31, 2004 has been derived from the audited consolidated financial statements at that date but does not include all the notes required by generally accepted accounting principles for complete financial statements.

 

For further information, refer to the consolidated financial statements and related notes for the year ended December 31, 2004 included in CONSOL Energy’s Form 10-K.

 

Certain reclassifications of 2004 data have been made to conform to the six months ended June 30, 2005 classifications.

 

In the three months ended March 31, 2005, there was a settlement related to the Harmar Environmental Trust (the Trust). The Trust Settlement was due to the court’s decision to terminate a Trust Agreement among CONSOL Energy Inc. (CONSOL Energy) and other parties. The Trust was established in 1988 to provide funding for water treatment related to the now closed Harmar Mine. Other parties funded the trust. CONSOL Energy was responsible for completing water treatment activities, but all costs associated with these activities were funded by the Trust. Any excess funding upon completion of water treatment or a specified date in the future were to be distributed to the parties that originally funded the trust. In the decision, all previously funded, but unused, amounts remaining in the Trust were distributed. CONSOL Energy’s portion of the distributed funds, $15,000, was placed into an escrow account, pending provision of financial assurance supporting CONSOL Energy water treatment obligations. In the quarter ended June 30, 2005, CONSOL Energy has provided the financial assurance for this obligation and the funds have been released from escrow. CONSOL Energy is responsible for the on-going water treatment at this facility. CONSOL Energy recorded the funding and $8,517 for present value of the water treatment liability, resulting in $6,483 of income in the six months ended June 30, 2005.

 

CONSOL Energy restated first quarter 2004 net income by approximately $2,164, or $0.02 per share, to reflect the recognition of favorable effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 as of March 8, 2004 in accordance with

 

6


authoritative accounting implementation guidance. The restatement reduced cost of goods sold by $2,347 and selling, general and administrative expenses by $82. Income tax expense was increased by $265 due to this adjustment.

 

In February 2005, CONSOL Energy’s Buchanan Mine, located near Keen Mountain, Virginia, experienced a cave-in behind the longwall mining machinery and an ignition of methane gas that started a fire. The mine was evacuated safely and was sealed on February 16, 2005 in order to extinguish any fire by cutting off oxygen to the mine’s underground atmosphere. Costs related to the fire of approximately $23,291 and $36,858, net of expected insurance recovery, have been incurred for the three and six months ended June 30, 2005, respectively. Costs to CONSOL Energy are primarily reflected in Cost of Goods Sold and Other Charges and Depreciation, Depletion and Amortization on the consolidated statement of income. Expected insurance recovery for the fire related costs are reflected in Other Receivables. The fire has been extinguished and the mine was restarted on June 16, 2005.

 

In January 2003, Mine 84, near Washington, Pennsylvania experienced a fire along several hundred feet of the conveyor belt servicing the longwall section of the mine. The fire was extinguished approximately two weeks later. Expected insurance recovery for damages of approximately $1,034 and $2,819 were reflected in Other Receivables at June 30, 2005 and December 31, 2004, respectively. CONSOL Energy received $1,785 of this receivable in the three months ended June 30, 2005.

 

Basic earnings per share are computed by dividing net earnings by the weighted average shares outstanding during the reporting period. Diluted earnings per share are computed similarly to basic earnings per share except that the weighted average shares outstanding are increased to include additional shares from the assumed exercise of stock options, if dilutive. The number of additional shares is calculated by assuming that outstanding stock options were exercised and that the proceeds from such exercises were used to acquire shares of common stock at the average market price during the reporting period. There were no options to purchase shares of common stock outstanding for the three or six month periods ended June 30, 2005 that were not included in the computation of diluted earnings per share because the exercise prices of all options were less than the average market price of the common shares. Options to purchase 1,120,553 shares and 1,124,553 shares of common stock were outstanding for the three and six month period ended June 30, 2004, but were not included in the computation of diluted earnings per share because the options’ exercise prices were greater than the average market price of the common shares and, therefore, the effect would be antidilutive.

 

7


The computations for basic and diluted earnings per share from continuing operations are as follows:

 

     For the
Three Months Ended
June 30,


   For the
Six Months Ended
June 30,


     2005

   2004

   2005

   2004

Earnings before cumulative effect of change in accounting

   $ 41,074    $ 26,205    $ 116,286    $ 59,115

Cumulative effect of accounting change

     —        —        —        83,373
    

  

  

  

Net Income

   $ 41,074    $ 26,205    $ 116,286    $ 142,488
    

  

  

  

Average shares of common stock outstanding:

                           

Basic

     91,436,988      90,077,916      91,191,476      90,002,611

Effect of stock options

     1,147,323      886,239      1,076,461      760,477
    

  

  

  

Diluted

     92,584,311      90,964,155      92,267,937      90,763,088
    

  

  

  

Earnings per share:

                           

Basic before cumulative effect

   $ 0.45    $ 0.29    $ 1.28    $ 0.66
    

  

  

  

Basic after cumulative effect

   $ 0.45    $ 0.29    $ 1.28    $ 1.58
    

  

  

  

Diluted before cumulative effect

   $ 0.44    $ 0.29    $ 1.26    $ 0.65
    

  

  

  

Diluted after cumulative effect

   $ 0.44    $ 0.29    $ 1.26    $ 1.57
    

  

  

  

 

NOTE 2 - ACQUISITIONS AND DISPOSITIONS:

 

In June 2005, CONSOL Energy completed a sale/lease-back transaction for its headquarters building and certain surrounding land located in Upper Saint Clair, Pennsylvania. Cash proceeds from the sale were $14,000 and resulted in a pretax gain of $8,365, which has been deferred and will be recognized over the initial lease term of 13 years. The lease agreement includes an option to extend the lease term for two five-year periods. The lease is accounted for as an operating lease. Annual rental payments are $1,176 and are payable in equal quarterly installments of $294. The agreement provides for a possible Consumer Price Index adjustment to the annual rental payments at the beginning of the fourth lease year and every four years thereafter.

 

In March 2005, CONSOL Energy through its subsidiary, CONSOL of West Virginia, LLC, acquired a 49% interest in Southern West Virginia Energy, LLC for a cash payment of $6,200. In addition, CONSOL Energy agreed to assume the perpetual care liability after certain bond release work is completed by Southern West Virginia Energy, LLC. The discounted liability assumed by CONSOL Energy is estimated to be $10,159. Southern West Virginia Energy, LLC through its subsidiary will mine low sulfur bituminous coal. The acquisition has been accounted for under the equity method of accounting. The transaction is still under review in relation to Financial Accounting Standards Board Interpretation No. 46, “Consolidation of Variable Interest Entities”. A final determination will be made in the quarter ended September 30, 2005

 

8


after all agreements are finalized and analyzed. If it is determined that this entity should be consolidated, the impact on the 2005 first and second quarter financial statements would have been immaterial.

 

In February 2004, CONSOL Energy sold the stock in its wholly owned subsidiary CNX Australia Pty Limited to certain affiliates of AMCI, Inc. for $27,500 ($11,000 of cash and $16,500 of Notes Receivable), the assumption of $21,190 of debt, and associated interest rate swaps and foreign currency hedges. CNX Australia Pty Limited, through its wholly owned subsidiary CONSOL Energy Australia Pty Limited, owned a 50% interest in the Glennies Creek Mine in New South Wales, Australia with its joint venture partner Maitland Main Collieries Pty Limited, an affiliate of AMCI, Inc. The sale resulted in a pre-tax gain of $14,374.

 

9


NOTE 3 – STOCK-BASED COMPENSATION:

 

CONSOL Energy has implemented the disclosure-only provisions of Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation Transition and Disclosure-an Amendment of SFAS No. 123” (SFAS No. 148). CONSOL Energy continues to measure compensation expense for its stock-based compensation plans using the intrinsic value based method of accounting prescribed by Accounting Principles Board Opinion (APB) No. 25, “Accounting for Stock Issued to Employees,” as amended. No stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of the grant. The following table illustrates the effect on net income and earnings per share if CONSOL Energy had applied the fair value recognition provisions of SFAS No. 123 and 148, to stock-based employee compensation:

 

     Three Months Ended
June 30,


    Six Months Ended
June 30,


 
     2005

    2004

    2005

    2004

 

Net income as reported

   $ 41,074     $ 26,205     $ 116,286     $ 142,488  

Add: Stock-based compensation due to change in vesting period

     —         —         735       —    

Add: Stock-based compensation expense for restricted stock units

     622       286       1,062       286  

Deduct: Total stock-based employee compensation expense determined under Black-Scholes option pricing model and stock-based compensation expense for restricted stock units

     (2,190 )     (1,467 )     (4,466 )     (2,407 )
    


 


 


 


Pro forma net income

   $ 39,506     $ 25,024     $ 113,617     $ 140,367  
    


 


 


 


Earnings per share:

                                

Basic - as reported

   $ 0.45     $ 0.29     $ 1.28     $ 1.58  
    


 


 


 


Basic - pro forma

   $ 0.43     $ 0.28     $ 1.25     $ 1.56  
    


 


 


 


Diluted - as reported

   $ 0.44     $ 0.29     $ 1.26     $ 1.57  
    


 


 


 


Diluted - pro forma

   $ 0.43     $ 0.28     $ 1.23     $ 1.55  
    


 


 


 


 

The pro forma adjustments in the current period are not necessarily indicative of future period pro forma adjustments as the assumptions used to determine fair value can vary significantly and the number of future shares to be issued under these plans is unknown.

 

10


NOTE 4 – COMPONENTS OF PENSION AND OTHER POSTRETIREMENT BENEFIT PLANS NET PERIODIC BENEFIT COSTS:

 

Components of net periodic costs (benefits) for the three and six months ended June 30 are as follows:

 

     Pension Benefits

    Other Benefits

 
     Three Months Ended
June 30,


    Six Months Ended
June 30,


    Three Months Ended
June 30,


   Six Months Ended
June 30,


 
     2005

    2004

    2005

    2004

    2005

   2004

   2005

   2004

 

Service cost

   $ 5,539     $ 5,166     $ 11,078     $ 10,333     $ 3,175    $ 2,978    $ 6,351    $ 6,175  

Interest cost

     7,255       7,054       14,510       14,108       34,854      31,383      69,709      65,845  

Expected return on plan assets

     (5,114 )     (4,016 )     (10,228 )     (8,033 )     —        —        —        —    

Amortization costs

     4,905       6,024       9,810       12,048       9,759      6,542      19,519      16,820  

Curtailment gain

     —         —         —         —         —        —        —        (3,454 )
    


 


 


 


 

  

  

  


Net periodic benefit cost

   $ 12,585     $ 14,228     $ 25,170     $ 28,456     $ 47,788    $ 40,903    $ 95,579    $ 85,386  
    


 


 


 


 

  

  

  


 

CONSOL Energy previously disclosed in the notes to its audited consolidated financial statements for the year ended December 31, 2004, that it expected to contribute $66,133 to its pension plan in 2005. For the three and six months ended June 30, 2005, $16 and $277 of contributions have been made, respectively. CONSOL Energy presently anticipates contributing an additional $70,856 to fund its pension plan in 2005 for a total of $71,133.

 

CONSOL Energy restated first quarter 2004 net periodic benefit cost for its postretirement benefit plans by $2,520 to reflect the recognition of favorable effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003, as of March 8, 2004, in accordance with authoritative accounting implementation guidance.

 

As previously disclosed in the notes to its audited consolidated financial statements for the year ended December 31, 2004, CONSOL Energy does not expect to contribute to the other post employment benefit plan in 2005. We intend to pay benefit claims as they become due. For the three and six months ended June 30, 2005, $30,849 and $63,111 of other post employment benefits have been paid, respectively.

 

11


NOTE 5 – COMPONENTS OF COAL WORKERS’ PNEUMOCONIOSIS (CWP) AND WORKERS’ COMPENSATION NET PERIODIC BENEFIT COSTS AND CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING FOR WORKERS’ COMPENSATION:

 

Components of net periodic costs (benefits) for the three and six months ended June 30 are as follows:

 

     CWP

    Workers’ Compensation

     Three Months Ended
June 30,


   

Six Months Ended

June 30,


    Three Months Ended
June 30,


   Six Months Ended
June 30,


     2005

    2004

    2005

    2004

    2005

    2004

   2005

    2004

Service cost

   $ 948     $ 1,068     $ 1,897     $ 2,137     $ 7,162     $ 11,446    $ 14,324     $ 22,892

Interest cost

     2,991       3,120       5,982       6,240       2,146       2,068      4,218       4,135

Amortization of actuarial gain

     (5,652 )     (5,642 )     (11,305 )     (11,285 )     (803 )     —        (1,744 )     —  

Legal and administrative costs

     675       675       1,350       1,350       968       609      1,937       1,217
    


 


 


 


 


 

  


 

Net periodic (benefit)cost

   $ (1,038 )   $ (779 )   $ (2,076 )   $ (1,558 )   $ 9,473     $ 14,123    $ 18,735     $ 28,244
    


 


 


 


 


 

  


 

 

As previously disclosed in the notes to its audited consolidated financial statements for the year ended December 31, 2004, CONSOL Energy does not expect to contribute to the CWP plan in 2005. We intend to pay benefit claims as they become due. For the three and six months ended June 30, 2005, $3,953 and $8,179 of CWP benefits have been paid, respectively.

 

As previously disclosed in the notes to its audited consolidated financial statements for the year ended December 31, 2004, CONSOL Energy does not expect to contribute to the workers’ compensation plan in 2005. We intend to pay benefit claims as they become due. For the three and six months ended June 30, 2005, $13,897 and $28,849 of workers’ compensation benefits, state administrative fees and surety bond premiums have been paid, respectively.

 

CONSOL Energy also has expensed $4,598 and $10,505 related to workers’ compensation for the three and six months ended June 30, 2005, respectively, for various state administrative fees and surety bond premiums. The state administrative fees are paid to various states for the right to self-insure workers’ compensation claims.

 

Effective January 1, 2004, CONSOL Energy changed its method of accounting for workers’ compensation. Under the new method, we recorded our liability on a discounted basis, which has been actuarially determined using various assumptions, including discount rate and future cost trends. CONSOL Energy believes this change was preferable since it aligns the accounting with our other long-term employee benefit obligations, which are recorded on a discounted basis. Additionally, it provides a better comparison with our industry peers, the majority of which record the workers’ compensation liability on a discounted basis.

 

As a result of the change, as of January 1, 2004, CONSOL Energy reduced its workers’ compensation liability by $136,453 and reduced its related deferred tax asset by $53,080. The

 

12


cumulative effect adjustment recognized upon adoption was a gain of $83,373, net of a tax cost of approximately $53,080, and accordingly is reflected as a cumulative effect adjustment from a change in accounting. This cumulative effect adjustment is not included in the amounts for 2004 in the table above.

 

NOTE 6 - INCOME TAXES:

 

The following is a reconciliation, stated in dollars and as a percentage of pretax income, of the U. S. statutory federal income tax rate to CONSOL Energy’s effective tax rate:

 

     For the Six Months Ended
June 30,


 
     2005

    2004

 
     Amount

    Percent

    Amount

    Percent

 

Statutory U.S. federal income tax rate

   $ 49,131     35.0 %   $ 22,380     35.0 %

Excess tax depletion

     (23,169 )   (16.5 )     (11,915 )   (18.6 )

Effect from sale of foreign companies

     —       —         (5,396 )   (8.4 )

Effect of Medicare Prescription Drug, Improvement and Modernization Act of 2003

     (4,215 )   (3.0 )     (2,590 )   (4.0 )

Net Effect of state tax

     2,855     2.0       3,232     5.1  

Net Effect of foreign tax

     18     0.0       (1,411 )   (2.2 )

Other

     (532 )   (0.4 )     528     0.7  
    


 

 


 

Income Tax Expense / Effective Rate

   $ 24,088     17.2 %   $ 4,828     7.6 %
    


 

 


 

 

The effective tax rate for the six-month period ended June 30, 2005 was calculated using the annual effective rate projection on recurring earnings. The effective tax rate for the six month period ended June 30, 2004 was calculated using the combination of an annual effective rate projection on recurring earnings and a discrete tax calculation for the impact of the sale of our wholly owned subsidiary CNX Australia Pty Limited.

 

13


NOTE 7 - INVENTORIES:

 

Inventory components consist of the following:

 

     June 30,
2005


   December 31,
2004


Coal

   $ 49,487    $ 42,962

Merchandise for resale

     20,018      20,585

Supplies

     66,096      58,355
    

  

Total Inventories

   $ 135,601    $ 121,902
    

  

 

NOTE 8 – ACCOUNTS RECEIVABLE SECURITIZATION

 

In April 2003, CONSOL Energy and certain of its U.S. subsidiaries entered into a trade accounts receivable facility with financial institutions for the sale on a continuous basis of eligible trade accounts receivable. CONSOL Energy formed CNX Funding Corporation, a wholly owned, special purpose, bankruptcy-remote subsidiary for the sole purpose of buying and selling eligible trade receivables generated by certain subsidiaries of CONSOL Energy. Under the receivables facility, CONSOL Energy and certain subsidiaries, irrevocably and without recourse, sell all of their eligible trade accounts receivable to financial institutions and their affiliates, while maintaining a subordinated interest in a portion of the pool of trade receivables. CONSOL Energy will continue to service the sold trade receivables for the financial institutions for a fee based upon market rates for similar services.

 

The receivables facility allows CONSOL Energy to receive, on a revolving basis, up to $125,000. The cost of funds is consistent with commercial paper rates, plus a charge for administrative services paid to the financial institutions. Costs associated with the receivables facility totaled $1,022 and $2,114 for the three and six months ended June 30, 2005, respectively. Costs associated with the receivables facility totaled $721 and $1,239 for the three and six months ended June 30, 2004, respectively. These costs have been recorded as financing fees, which are included in Cost of Goods Sold and Other Operating Charges in the consolidated statements of income. No servicing asset or liability has been recorded. The receivables facility expires in 2006.

 

At June 30, 2005 and December 31, 2004, eligible accounts receivable totaled approximately $124,300 and $141,100, respectively. The subordinated retained interest at June 30, 2005 and December 31, 2004 was approximately $109,300 and $16,100, respectively. Accounts receivable totaling $15,000 and $125,000 were removed from the consolidated balance sheet at June 30, 2005 and December 31, 2004, respectively. CONSOL Energy’s $110,000 reduction in the accounts receivable securitization program for the six months ended June 30, 2005 is reflected in cash flows from operating activities in the consolidated statement of cash flows. The $17,000 of proceeds, net of reductions, from the accounts receivable securitization program for the six months ended June 30, 2004 is also reflected in operating activities in the consolidated statement of cash flows.

 

The key economic assumptions used to measure the retained interest at the date of securitization for all such sales completed in 2005 were a discount rate of 3.59% and an estimated life for eligible accounts receivables of 32 days. At June 30, 2005, an increase in the discount rate or

 

14


estimated life of 10% and 20% would have reduced the fair value of the retained interest by $53 and $94, respectively. These sensitivities are hypothetical and should be used with caution. As the figures indicate, changes in fair value based on a 10% variation in assumption to the change in fair value may not be linear. Also, in this example, the effect of a variation in a particular assumption on the fair value of the subordinated retained interest is calculated without changing any other assumption. Changes in any one factor may result in changes in others.

 

NOTE 9 – PROPERTY, PLANT AND EQUIPMENT:

 

The components of property, plant and equipment are as follows:

 

     JUNE 30,
2005


   DECEMBER 31,
2004


Plant & equipment

   $ 3,746,992    $ 3,583,138

Coal properties and surface lands

     1,058,445      1,045,370

Airshafts

     736,107      704,088

Mine development

     378,703      394,872

Leased Coal Lands

     441,966      439,998

Advance Mining Royalties

     350,810      346,550
    

  

Total Gross

     6,713,023      6,514,016

Less: Accumulated depreciation, depletion and amortization

     3,438,331      3,331,436
    

  

Total net property, plant and equipment

   $ 3,274,692    $ 3,182,580
    

  

 

NOTE 10 - DEBT:

 

On April 1, 2005, CONSOL Energy amended the existing credit facility to increase the borrowing capacity, reduce cost and extend the term. The amended facility features a five-year, $750,000 revolving credit facility, replacing the previous $600,000 credit facility, which included the Tranche B credit-linked deposit facility of $200,000. The amended facility is collateralized by nearly all of the assets of CONSOL Energy. Collateral is shared equally and ratably with the holders of CONSOL Energy’s 7.875% bonds that mature in 2012 and CONSOL Energy’s subsidiary’s 8.25% medium-term notes maturing in 2007. Fees and interest rate spreads are based on a ratio of financial covenant debt to twelve month trailing earnings before interest, taxes, depreciation, depletion and amortization (EBITDA), measured quarterly. Covenants in the amended facility limit our ability to dispose of assets, make investments, purchase or redeem CONSOL Energy common stock and merge with another corporation. The amended facility includes a leverage ratio covenant of not more than 3.25 to 1.00, measured quarterly. The leverage ratio was 0.86 to 1.00 at June 30, 2005. The facility also includes an interest coverage ratio of no less than 4.50 to 1.00, measured quarterly. The interest coverage ratio was 17.70 to 1.00 at June 30, 2005. There are no covenants in the amended facility restricting the level of annual capital expenditures.

 

15


NOTE 11 - COMMITMENTS AND CONTINGENCIES:

 

CONSOL Energy has various purchase commitments for materials, supplies and items of permanent investment incidental to the ordinary conduct of business. Such commitments are not at prices in excess of current market values.

 

One of our subsidiaries, Fairmont Supply Company, which distributes industrial supplies, currently is named as a defendant in approximately 26,200 asbestos claims in state courts in Pennsylvania, Ohio, West Virginia, Maryland, New Jersey, Michigan and Mississippi. Because a very small percentage of products manufactured by third parties and supplied by Fairmont in the past may have contained asbestos and many of the pending claims are part of mass complaints filed by hundreds of plaintiffs against a hundred or more defendants, it has been difficult for Fairmont to determine how many of the cases actually involve valid claims or plaintiffs who were actually exposed to asbestos-containing products supplied by Fairmont. In addition, while Fairmont may be entitled to indemnity or contribution in certain jurisdictions from manufacturers of identified products, the availability of such indemnity or contribution is unclear at this time and, in recent years, some of the manufacturers named as defendants in these actions have sought protection from these claims under bankruptcy laws. Fairmont has no insurance coverage with respect to these asbestos cases. To date, payments by Fairmont with respect to asbestos cases have not been material. However, there cannot be any assurance that payments in the future with respect to pending or future asbestos cases will not be material to the financial position, results of operations or cash flows of CONSOL Energy.

 

CONSOL Energy is subject to various lawsuits and claims with respect to such matters as personal injury, wrongful death, damage to property, exposure to hazardous substances, governmental regulations including environmental remediation, employment and contract disputes, and other claims and actions arising out of the normal course of business. CONSOL Energy was notified in November 2004 by the United States Environmental Protection Agency (EPA) that it is a potentially responsible party (PRP) under Superfund legislation with respect to the Ward Transformer site in Wake County, North Carolina. The EPA has also identified other PRPs. No agreement on an allocation of costs between the PRPs has been reached to date. The estimated total remediation cost for all responsible parties, based on preliminary information, is approximately $7,000 with CONSOL Energy’s portion estimated to be 40%-45% of total. Accordingly, a $3,000 liability is included in other accrued liabilities, of which $1,500 was recorded in the three months and six months ended June 30, 2005. CONSOL Energy has made no payments to date related to the remediation of this site.

 

In the opinion of management, the ultimate liabilities resulting from such pending lawsuits and claims will not materially affect the financial position, results of operations or cash flows of CONSOL Energy.

 

On October 21, 2003, a complaint was filed in the United States District Court for the Western District of Pennsylvania on behalf of Seth Moorhead against CONSOL Energy, J. Brett Harvey and William J. Lyons. The complaint alleges, among other things, that the defendants violated Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated under the Exchange Act and that during the period between January 24, 2002, and July 18, 2002, the defendants issued false and misleading statements to the public that failed to disclose or misrepresented the following, among other things that: (a) CONSOL utilized an aggressive approach regarding its

 

16


spot market sales by reserving 20% of its production to that market, and that by increasing its exposure to the spot market, CONSOL Energy was subjecting itself to increased risk and uncertainty as the price and demand for coal could be volatile; (b) CONSOL Energy was experiencing difficulty selling the production that it had allocated to the spot market, and, nonetheless, CONSOL Energy maintained its production levels which caused its coal inventory to increase; (c) CONSOL Energy’s increasing coal inventory was causing its expenses to rise dramatically, thereby weakening the Company’s financial condition; and (d) based on the foregoing, defendants’ positive statements regarding CONSOL Energy’s earnings and prospects were lacking in a reasonable basis at all times and therefore were materially false and misleading. The complaint asks the court to (1) award unspecified damages to plaintiff and (2) award plaintiff reasonable costs and expenses incurred in connection with this action, including counsel fees and expert fees. CONSOL Energy management believes these claims are without merit and, accordingly, has not accrued any liability associated with these claims.

 

At June 30, 2005, CONSOL Energy and certain of its subsidiaries have provided the following financial guarantees. CONSOL Energy management believes that these guarantees will expire without being funded, and therefore the commitments will not have a material adverse effect on financial condition.

 

     Total
Amounts
Committed


  

Less Than

1 Year


   1-3 Years

   3-5 Years

   Beyond
5 Years


Letters of Credit:

                                  

Employee-Related

   $ 288,995    $ 288,995    $ —      $ —      $ —  

Environmental

     32,202      32,202      —        —        —  

Other

     15,014      15,014      —        —        —  
    

  

  

  

  

Total Letters of Credit

   $ 336,211    $ 336,211    $ —      $ —      $ —  
    

  

  

  

  

Surety Bonds:

                                  

Employee-Related

   $ 251,078    $ 240,278    $ 10,800    $ —      $ —  

Environmental

     260,890      245,195      15,652      10      33

Other

     9,529      9,165      364      —        —  
    

  

  

  

  

Total Surety Bonds

   $ 521,497    $ 494,638    $ 26,816    $ 10    $ 33
    

  

  

  

  

Guarantees:

                                  

Coal

   $ 211,890    $ 64,441    $ 130,532    $ 9,987    $ 6,930

Gas

     162,000      132,000      22,100      2,100      5,800

Other

     88,078      21,825      43,396      20,642      2,215
    

  

  

  

  

Total Guarantees

   $ 461,968    $ 218,266    $ 196,028    $ 32,729    $ 14,945
    

  

  

  

  

Total Commitments

   $ 1,319,676    $ 1,049,115    $ 222,844    $ 32,739    $ 14,978
    

  

  

  

  

 

Employee-related letters of credit and surety bonds have primarily been extended to support the United Mine Workers’ of America’s 1992 Benefit Plan and various state workers’ compensation self-insurance programs. Environmental letters of credit and surety bonds have primarily been extended to support various performance bonds related to reclamation and other environmental issues. Other letters of credit and surety bonds have been extended to support insurance policies, legal matters and various other items necessary in the normal course of business.

 

CONSOL Energy and certain of its subsidiaries have also provided guarantees for the delivery of specific quantities of coal and gas to various customers. These guarantees are several or joint and several. Other guarantees have also been provided to promise the full and timely payments to lessors of mining equipment and to support various other items necessary in the normal course of business.

 

17


NOTE 12- FAIR VALUE OF FINANCIAL INSTRUMENTS:

 

The following methods and assumptions were used to estimate the fair values of financial instruments:

 

Cash and cash equivalents: The carrying amount reported in the balance sheets for cash and cash equivalents approximates its fair value due to the short maturity of these instruments.

 

Short-term notes payable: The carrying amount reported in the balance sheets for short-term notes payable approximates its fair value due to the short-term maturity of these instruments.

 

Current and Long-term debt: The fair values of long-term debt are estimated using discounted cash flow analyses, based on CONSOL Energy’s current incremental borrowing rates for similar types of borrowing arrangements.

 

The carrying amounts and fair values of financial instruments, excluding derivative financial instruments disclosed in Item 3 – Quantitative and Qualitative Disclosure About Market Risk, are as follows:

 

     June 30, 2005

    December 31, 2004

 
     Carrying
Amount


    Fair Value

    Carrying
Amount


    Fair Value

 

Cash and cash equivalents

   $ 4,692     $ 4,692     $ 6,422     $ 6,422  

Short-term notes payable

   $ —       $ —       $ (5,060 )   $ (5,060 )

Long-term debt

   $ (429,610 )   $ (453,863 )   $ (429,645 )   $ (466,072 )

 

NOTE 13- SEGMENT INFORMATION:

 

CONSOL Energy has two principal business units: Coal and Gas. The principal activities of the Coal unit are mining, preparation and marketing of steam coal, sold primarily to power generators, and metallurgical coal, sold to metal and coke producers. The Coal unit includes four reportable segments. These reportable segments are Northern Appalachian, Central Appalachian, Metallurgical and Other Coal. Each of these reportable segments includes a number of operating segments (mines). For the three and six months ended June 30, 2005, the Northern Appalachian aggregated segment includes the following mines: Shoemaker, Blacksville #2, Robinson Run, McElroy, Loveridge, Bailey, Enlow Fork, Mine 84 and Mahoning Valley. For the three and six months ended June 30, 2005, Central Appalachian aggregated segment includes the following mines: Jones Fork, Mill Creek and Wiley-Mill Creek. For the three and six months ended June 30, 2005, the Metallurgical aggregated segment includes the following mines: Buchanan, Amonate, Miles Branch and V.P. #8. The Other Coal segment

 

18


includes our purchased coal activities, idled mine cost, coal segment business units not meeting aggregation criteria, as well as various other activities assigned to the coal segment but not allocated to each individual mine. The principal activity of the Gas unit is to produce pipeline quality methane gas for sale primarily to gas wholesalers. CONSOL Energy’s All Other classification is made up of the Company’s terminal services, river and dock services, industrial supply services and other business activities, including rentals of buildings and flight operations. The 2004 segment information was reclassified to conform to the 2005 presentation. Royalty income, miscellaneous revenues and Buchanan Generation assets previously reported within Coal and All Other segments are now included in the gas segment. Additionally, the segment information presented has been restated to reflect the restated earnings before income taxes for the three months ended March 31, 2004 due to the favorable effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 as of March 8, 2004, in accordance with authoritative accounting implementation guidance.

 

Industry segment results for the three months ended June 30, 2005:

 

     Northern
Appalachian


   Central
Appalachian


   Metallurgical

   Other Coal

    Total Coal

   Gas

   All Other

    Corporate
Adjustments &
Eliminations


    Consolidated

 

Sales—outside

   $ 471,818    $ 57,756    $ 51,382    $ 42,179     $ 623,135    $ 109,243    $ 30,556     $ —       $ 762,934  

Sales—related parties

     —        —        —        614       614      —        —         —         614  

Freight—outside

     —        —        —        31,665       31,665      —        —         —         31,665  

Intersegment transfers

     —        —        —        —         —        114      28,482       (28,596 )     —    
    

  

  

  


 

  

  


 


 


Total Sales and Freight

   $ 471,818    $ 57,756    $ 51,382    $ 74,458     $ 655,414    $ 109,357    $ 59,038     $ (28,596 )   $ 795,213  
    

  

  

  


 

  

  


 


 


Earnings (Loss) Before Income Taxes

   $ 63,729    $ 2,213    $ 7,218    $ (27,818 )   $ 45,342    $ 28,130    $ (1,234 )   $ (21,551 )   $ 50,687 (A)
    

  

  

  


 

  

  


 


 


Segment asset

                                $ 2,974,398    $ 766,635    $ 170,728     $ 512,106     $ 4,423,867 (B)
                                 

  

  


 


 


Depreciation, depletion and amortization

                                $ 55,265    $ 8,112    $ 3,403     $ —       $ 66,780  
                                 

  

  


 


 


Capital Expenditures

                                $ 89,118    $ 22,547    $ 1,028     $ —       $ 112,693  
                                 

  

  


 


 



(A) Includes equity in earnings (losses) of unconsolidated affiliates of $(1,207), $399 and $640 for Coal, Gas and All Other, respectively.

 

(B) Includes investments in unconsolidated equity affiliates of $17,264, $50,003 and $3,374 for Other Coal, Gas and All Other, respectively. Also, included in the Coal segment is $26,006 of receivables related to the Export Sales Excise Tax resolution.

 

19


Industry segment results for the three months ended June 30, 2004:

 

     Northern
Appalachian


   Central
Appalachian


   Metallurgical

   Other Coal

    Total Coal

   Gas

   All Other

    Corporate
Adjustments &
Eliminations


    Consolidated

 

Sales—outside

   $ 370,037    $ 57,588    $ 66,494    $ 19,725     $ 513,844    $ 83,716    $ 26,415     $ —       $ 623,975  

Freight—outside

     —        —        —        29,745       29,745      —        23       —         29,768  

Intersegment transfers

     —        —        —        —         —        868      24,302       (25,170 )     —    
    

  

  

  


 

  

  


 


 


Total Sales and Freight

   $ 370,037    $ 57,588    $ 66,494    $ 49,470     $ 543,589    $ 84,584    $ 50,740     $ (25,170 )   $ 653,743  
    

  

  

  


 

  

  


 


 


Earnings (Loss) Before Income Taxes

   $ 27,023    $ 1,304    $ 6,352    $ (20,711 )   $ 13,968    $ 33,222    $ (3,858 )   $ (17,106 )   $ 26,226 (C)
    

  

  

  


 

  

  


 


 


Segment asset

                                $ 2,754,490    $ 697,979    $ 185,494     $ 558,790     $ 4,196,753 (D)
                                 

  

  


 


 


Depreciation, depletion and amortization

                                $ 50,221    $ 8,161    $ 3,343     $ —       $ 61,725  
                                 

  

  


 


 


Capital Expenditures

                                $ 80,175    $ 19,723    $ 387     $ —       $ 100,285  
                                 

  

  


 


 



(C) Includes equity in earnings (losses) of unconsolidated affiliates of $(399) for Gas.

 

(D) Includes investments in unconsolidated equity affiliates of $46,294 and $620 for Gas and All Other, respectively. Also, included in the Coal segment is $26,006 of receivables related to the Export Sales Excise Tax resolution.

 

Industry segment results for the six months ended June 30, 2005:

 

     Northern
Appalachian


   Central
Appalachian


    Metallurgical

   Other
Coal


    Total Coal

   Gas

   All Other

    Corporate
Adjustments &
Eliminations


    Consolidated

 

Sales—outside

   $ 928,210    $ 113,449     $ 122,492    $ 89,496     $ 1,253,647    $ 212,564    $ 59,322     $ —       $ 1,525,533  

Sales—related parties

     —        —         —        614       614      —        —         —         614  

Freight—outside

     —        —         —        61,789       61,789      —        —         —         61,789  

Intersegment transfers

     —        —         —        —         —        626      55,734       (56,360 )     —    
    

  


 

  


 

  

  


 


 


Total Sales and Freight

   $ 928,210    $ 113,449     $ 122,492    $ 151,899     $ 1,316,050    $ 213,190    $ 115,056     $ (56,360 )   $ 1,587,936  
    

  


 

  


 

  

  


 


 


Earnings (Loss) Before Income Taxes

   $ 154,438    $ (3,783 )   $ 32,644    $ (68,010 )   $ 115,289    $ 71,122    $ (5,787 )   $ (40,250 )   $ 140,374 (E)
    

  


 

  


 

  

  


 


 


Segment asset

                                 $ 2,974,398    $ 766,635    $ 170,728     $ 512,106     $ 4,423,867 (F)
                                  

  

  


 


 


Depreciation, depletion and amortization

                                 $ 106,151    $ 17,216    $ 6,792     $ —       $ 130,159  
                                  

  

  


 


 


Capital Expenditures

                                 $ 134,145    $ 33,314    $ 2,103     $ —       $ 169,562  
                                  

  

  


 


 



(E) Includes equity in earnings (losses) of unconsolidated affiliates of $(1,207), $219 and $2,806 for Coal, Gas and All Other, respectively.

 

(F) Includes investments in unconsolidated equity affiliates of $17,264, $50,003 and $3,374 for Other Coal, Gas and All Other, respectively. Also, included in the Coal segment is $26,006 of receivables related to the Export Sales Excise Tax resolution.

 

20


Industry segment results for the six months ended June 30, 2004:

 

     Northern
Appalachian


   Central
Appalachian


   Metallurgical

   Other Coal

    Total Coal

   Gas

   All Other

   Corporate
Adjustments &
Eliminations


    Consolidated

 

Sales—outside

   $ 731,119    $ 112,625    $ 122,612    $ 45,219     $ 1,011,575    $ 153,647    $ 49,241    $ —       $ 1,214,463  

Freight—outside

     —        —        —        61,043       61,043      —        164      —         61,207  

Intersegment transfers

     —        —        —        —         —        1,784      49,484      (51,268 )     —    
    

  

  

  


 

  

  

  


 


Total Sales and Freight

   $ 731,119    $ 112,625    $ 122,612    $ 106,262     $ 1,072,618    $ 155,431    $ 98,889    $ (51,268 )   $ 1,275,670  
    

  

  

  


 

  

  

  


 


Earnings (Loss) Before Income Taxes

   $ 72,610    $ 1,846    $ 1,845    $ (53,990 )   $ 22,311    $ 69,423    $ 4,819    $ (32,610 )   $ 63,943 (G)
    

  

  

  


 

  

  

  


 


Segment asset

                                $ 2,754,490    $ 697,979    $ 185,494    $ 558,790     $ 4,196,753 (H)
                                 

  

  

  


 


Depreciation, depletion and amortization

                                $ 98,704    $ 15,801    $ 6,690    $ —       $ 121,195  
                                 

  

  

  


 


Capital Expenditures

                                $ 168,080    $ 35,304    $ 1,213    $ —       $ 204,597  
                                 

  

  

  


 



(G) Includes equity in earnings (losses) of unconsolidated affiliates of $(2,733), $(795) and $133 for Coal, Gas and All Other, respectively.

 

(H) Includes investments in unconsolidated equity affiliates of $46,294 and $620 for Other Coal, Gas and All Other, respectively. Also, included in the Coal segment is $26,006 of receivables related to the Export Sales Excise Tax resolution.

 

Reconciliation of Segment Information to Consolidated Amounts:

 

Earnings (Loss) Before Income Taxes:

 

     For the Three Months
Ended June 30,


    For the Six Months
Ended June 30,


 
     2005

    2004

    2005

    2004

 

Segment earnings (loss) before income taxes for total reportable business segments

   $ 73,472     $ 47,190     $ 186,411     $ 91,734  

Segment earnings (loss) before income taxes for all other businesses

     (1,234 )     (3,858 )     (5,787 )     4,819  

Incentive compensation

     (8,515 )     (6,769 )     (14,776 )     (15,347 )

Compensation from restricted stock unit grants

     (622 )     —         (1,797 )     —    

Other post employee benefit curtailment gain

     —         —         —         3,454  

Interest income (expense), net and other non-operating activity

     (12,414 )     (10,337 )     (23,677 )     (20,717 )
    


 


 


 


Earnings (Loss) Before Income Taxes

   $ 50,687     $ 26,226     $ 140,374     $ 63,943  
    


 


 


 


 

21


Total Assets:

 

     June 30,

     2005

   2004

Segment assets for total reportable business segments

   $ 3,741,033    $ 3,452,469

Segment assets for all other businesses

     170,728      185,494

Items excluded from segment assets:

             

Cash and other investments

     5,433      60,665

Restricted cash

     —        918

Deferred tax assets

     504,136      481,514

Recoverable income taxes

     —        12,566

Intangible asset - overfunded pension plan

     248      468

Bond issuance costs

     2,289      2,659
    

  

Total Consolidated Assets

   $ 4,423,867    $ 4,196,753
    

  

 

NOTE 14 - GUARANTOR SUBSIDIARIES FINANCIAL INFORMATION:

 

The payment obligations under the $250,000 7.875 percent Notes due 2012 issued by CONSOL Energy in 2002 are fully and unconditionally guaranteed by several subsidiaries of CONSOL Energy. In accordance with positions established by the Securities and Exchange Commission, the following financial information sets forth separate financial information with respect to the parent, the guarantor subsidiaries and the non-guarantor subsidiaries. The principal elimination entries eliminate investments in subsidiaries and certain intercompany balances and transactions. CONSOL Energy, the parent, and a guarantor subsidiary manage several assets and liabilities of all of their subsidiaries. For example, these include deferred tax assets, cash and other post-employment liabilities. These assets and liabilities are reflected as parent company or guarantor company amounts for purposes of this presentation.

 

22


Income statement three months ended June 30, 2005:

 

     Parent

    Guarantors

    Non-Guarantors

    Elimination

    Consolidated

Sales - Outside

   $ —       $ 740,735     $ 22,199     $ —       $ 762,934

Sales - Related Party

     —         614       —         —         614

Freight - Outside

     —         31,665       —         —         31,665

Other Income (including equity earnings)

     55,248       11,954       6,266       (51,532 )     21,936
    


 


 


 


 

Total Revenue and Other Income

     55,248       784,968       28,465       (51,532 )     817,149

Cost of Goods Sold and Other Operating Charges

     13,437       555,552       53,076       (36,270 )     585,795

Intercompany Activity

     (63 )     (10,964 )     (25,801 )     36,828       —  

Freight Expense

     —         31,665       —         —         31,665

Selling, General and Administrative Expense

     —         18,540       257       —         18,797

Depreciation, Depletion and Amortization

     1,652       64,864       266       (2 )     66,780

Interest Expense

     4,936       2,252       1       —         7,189

Taxes Other Than Income

     757       55,047       432       —         56,236
    


 


 


 


 

Total Costs

     20,719       716,956       28,231       556       766,462
    


 


 


 


 

Earnings (Loss) Before Income Taxes

     34,529       68,012       234       (52,088 )     50,687

Income Tax Expense (Benefit)

     (6,545 )     16,076       82       —         9,613
    


 


 


 


 

Net Income (Loss)

   $ 41,074     $ 51,936     $ 152     $ (52,088 )   $ 41,074
    


 


 


 


 

 

23


Balance sheet at June 30, 2005:

 

     Parent

   Guarantors

    Non-
Guarantors


   Elimination

    Consolidated

Assets:

                                    

Current Assets:

                                    

Cash and Cash Equivalents

   $ 154    $ 320     $ 4,218    $ —       $ 4,692

Accounts and Notes Receivable:

                                    

Trade

     —        297       232,692      —         232,989

Other

     6,546      30,207       2,167      —         38,920

Inventories

     66      115,194       20,341      —         135,601

Deferred Income Taxes

     152,022      —         —        —         152,022

Recoverable Income Taxes

     —        —         —        —         —  

Prepaid Expenses

     12,247      31,457       459      —         44,163
    

  


 

  


 

Total Current Assets

     171,035      177,475       259,877      —         608,387

Property, Plant and Equipment:

                                    

Property, Plant and Equipment

     78,162      6,611,576       23,285      —         6,713,023

Less-Accumulated Depreciation, Depletion and Amortization

     39,289      3,380,652       18,390      —         3,438,331
    

  


 

  


 

Property, Plant and Equipment - Net

     38,873      3,230,924       4,895      —         3,274,692

Other Assets:

                                    

Deferred Income Taxes

     352,114      —         —        —         352,114

Investment in Affiliates

     1,705,137      55,376       —        (1,689,872 )     70,641

Other

     25,640      92,377       16      —         118,033
    

  


 

  


 

Total Other Assets

     2,082,891      147,753       16      (1,689,872 )     540,788
    

  


 

  


 

Total Assets

   $ 2,292,799    $ 3,556,152     $ 264,788    $ (1,689,872 )   $ 4,423,867
    

  


 

  


 

Liabilities and Stockholders’ Equity:

                                    

Current Liabilities:

                                    

Accounts Payable

   $ 131,969    $ 5,933     $ 11,733    $ —       $ 149,635

Accounts Payable (Recoverable)- Related Parties

     1,104,461      (1,337,371 )     232,910      —         —  

Current Portion of Long-Term Debt

     —        3,924       —        —         3,924

Accrued Income Taxes

     180      —         —        —         180

Other Accrued Liabilities

     120,559      438,883       5,899      —         565,341
    

  


 

  


 

Total Current Liabilities

     1,357,169      (888,631 )     250,542      —         719,080

Long-Term Debt:

     248,623      177,063       —        —         425,686

Deferred Credits and Other Liabilities:

                                    

Postretirement Benefits Other Than Pensions

     —        1,559,488       —        —         1,559,488

Pneumoconiosis Benefits

     —        417,058       —        —         417,058

Mine Closing

     —        357,440       —        —         357,440

Workers’ Compensation

     48      138,092              —         138,140

Deferred Revenue

     —        38,122       —        —         38,122

Salary Retirement

     70,715      —         —        —         70,715

Reclamation

     —        8,922       —        —         8,922

Other

     36,676      72,972       —        —         109,648
    

  


 

  


 

Total Deferred Credits and Other Liabilities

     107,439      2,592,094       —        —         2,699,533

Stockholders’ Equity

     579,568      1,675,626       14,246      (1,689,872 )     579,568
    

  


 

  


 

Total Liabilities and Stockholders’ Equity

   $ 2,292,799    $ 3,556,152     $ 264,788    $ (1,689,872 )   $ 4,423,867
    

  


 

  


 

 

24


Income Statement Three Months Ended June 30, 2004:

 

     Parent

    Guarantors

    Non-
Guarantors


    Elimination

    Consolidated

Sales - Outside

   $ —       $ 603,843     $ 20,132     $ —       $ 623,975

Freight - Outside

     —         29,745       23       —         29,768

Other Income (including equity earnings)

     38,262       14,773       4,745       (36,939 )     20,841
    


 


 


 


 

Total Revenue and Other Income

     38,262       648,361       24,900       (36,939 )     674,584

Cost of Goods Sold and Other Operating Charges

     10,521       460,598       45,339       (33,665 )     482,793

Intercompany Activity

     (307 )     (12,034 )     (21,671 )     34,012       —  

Freight Expense

     —         29,745       23       —         29,768

Selling, General and Administrative Expense

     —         16,705       558       —         17,263

Depreciation, Depletion and Amortization

     1,535       59,934       256       —         61,725

Interest Expense

     6,391       1,930       —         —         8,321

Taxes Other Than Income

     867       47,246       375       —         48,488
    


 


 


 


 

Total Costs

     19,007       604,124       24,880       347       648,358
    


 


 


 


 

Earnings (Loss) Before Income Taxes

     19,255       44,237       20       (37,286 )     26,226

Income Tax Expense (Benefit)

     (6,950 )     6,964       7       —         21
    


 


 


 


 

Net Income (Loss)

   $ 26,205     $ 37,273     $ 13     $ (37,286 )   $ 26,205
    


 


 


 


 

 

25


Balance Sheet December 31, 2004:

 

     Parent

   Guarantors

    Non-
Guarantors


    Elimination

    Consolidated

Assets:

                                     

Current Assets:

                                     

Cash and Cash Equivalents

   $ 1,692    $ 348     $ 4,382     $ —       $ 6,422

Accounts and Notes Receivable:

                                     

Trade

     —        700       110,880       —         111,580

Other

     3,826      22,758       3,667       —         30,251

Inventories

     146      99,202       22,554       —         121,902

Deferred Income Taxes

     145,890      —         —         —         145,890

Recoverable Income Taxes

     14,614      —         —         —         14,614

Prepaid Expenses

     6,963      32,099       448       —         39,510
    

  


 


 


 

Total Current Assets

     173,131      155,107       141,931       —         470,169

Property, Plant and Equipment:

                                     

Property, Plant and Equipment

     100,437      6,390,476       23,103       —         6,514,016

Less-Accumulated Depreciation, Depletion and Amortization

     53,164      3,260,151       18,121       —         3,331,436
    

  


 


 


 

Property, Plant and Equipment - Net

     47,273      3,130,325       4,982       —         3,182,580

Other Assets:

                                     

Deferred Income Taxes

     355,008      —         —         —         355,008

Investment in Affiliates

     1,589,362      31,533       —         (1,573,211 )     47,684

Other

     23,742      116,400       28       —         140,170
    

  


 


 


 

Total Other Assets

     1,968,112      147,933       28       (1,573,211 )     542,862
    

  


 


 


 

Total Assets

   $ 2,188,516    $ 3,433,365     $ 146,941     $ (1,573,211 )   $ 4,195,611
    

  


 


 


 

Liabilities and Stockholders’ Equity:

                                     

Current Liabilities:

                                     

Accounts Payable

   $ 100,045    $ 48,971     $ 17,052     $ —       $ 166,068

Accounts Payable (Recoverable)-Related Parties

     1,182,740      (1,286,846 )     104,106       —         —  

Short-Term Notes Payable

     1,700      3,360       —         —         5,060

Current Portion of Long-Term Debt

     —        3,885       —         —         3,885

Other Accrued Liabilities

     103,202      421,272       5,998       —         530,472
    

  


 


 


 

Total Current Liabilities

     1,387,687      (809,358 )     127,156       —         705,485

Long-Term Debt:

     248,520      177,240       —         —         425,760

Deferred Credits and Other Liabilities:

                                     

Postretirement Benefits Other Than Pensions

     —        1,531,250       —         —         1,531,250

Pneumoconiosis Benefits

     —        427,264       —         —         427,264

Mine Closing

     —        305,152       —         —         305,152

Workers’ Compensation

     51      140,271       (4 )     —         140,318

Deferred Revenue

     —        50,208       —         —         50,208

Salary Retirement

     51,943      14       —         —         51,957

Reclamation

     —        5,745       —         —         5,745

Other

     31,294      51,576       581       —         83,451
    

  


 


 


 

Total Deferred Credits and Other Liabilities

     83,288      2,511,480       577       —         2,595,345

Stockholders’ Equity

     469,021      1,554,003       19,208       (1,573,211 )     469,021
    

  


 


 


 

Total Liabilities and Stockholders’ Equity

   $ 2,188,516    $ 3,433,365     $ 146,941     $ (1,573,211 )   $ 4,195,611
    

  


 


 


 

 

26


Income Statement for the Six Months Ended June 30, 2005:

 

     Parent

    Guarantors

    Non-
Guarantors


    Elimination

    Consolidated

Sales - Outside

   $ —       $ 1,479,872     $ 45,661     $ —       $ 1,525,533

Sales - Related Party

     —         614       —         —         614

Freight - Outside

     —         61,789       —         —         61,789

Other Income (including equity earnings)

     142,081       29,109       12,513       (137,502 )     46,201
    


 


 


 


 

Total Revenue and Other Income

     142,081       1,571,384       58,174       (137,502 )     1,634,137

Cost of Goods Sold and Other Operating Charges

     23,882       1,079,171       105,563       (71,913 )     1,136,703

Intercompany Activity

     (1,178 )     (27,111 )     (51,165 )     79,454       —  

Freight Expense

     —         61,789       —         —         61,789

Selling, General and Administrative Expense

     —         34,701       485       —         35,186

Depreciation, Depletion and Amortization

     3,174       128,321       521       (1,857 )     130,159

Interest Expense

     10,355       3,757       1       —         14,113

Taxes Other Than Income

     2,420       112,482       911       —         115,813
    


 


 


 


 

Total Costs

     38,653       1,393,110       56,316       5,684       1,493,763
    


 


 


 


 

Earnings (Loss) Before Income Taxes

     103,428       178,274       1,858       (143,186 )     140,374

Income Tax Expense (Benefit)

     (12,858 )     36,296       650       —         24,088
    


 


 


 


 

Net Income (Loss)

   $ 116,286     $ 141,978     $ 1,208     $ (143,186 )   $ 116,286
    


 


 


 


 

 

Cash Flow for the Six Months Ended June 30, 2005:

 

     Parent

    Guarantors

    Non-
Guarantors


    Elimination

   Consolidated

 

Net Cash (Used in) Provided by Operating Activities

   $ (11,466 )   $ 169,078     $ (164 )   $ —      $ 157,448  
    


 


 


 

  


Cash Flows from Investing Activities:

                                       

Capital Expenditures

   $ (2,783 )   $ (166,779 )   $ —       $ —      $ (169,562 )

Investment in Equity Affiliates

     (273 )     (6,565 )     —         —        (6,838 )

Other Investing Activities

     18,715       4,404       —         —        23,119  
    


 


 


 

  


Net Cash Provided by (Used in) Investing Activities

   $ 15,659     $ (168,940 )   $ —       $ —      $ (153,281 )
    


 


 


 

  


Cash Flows from Financing Activities:

                                       

Payments on Short-Term Debt

   $ (1,700 )   $ —       $ —       $ —      $ (1,700 )

Dividends Paid

     (25,468 )     —         —         —        (25,468 )

Other Financing Activities

     21,437       (166 )     —         —        21,271  
    


 


 


 

  


Net Cash (Used in) Financing Activities

   $ (5,731 )   $ (166 )   $ —       $ —      $ (5,897 )
    


 


 


 

  


 

27


Income Statement for the Six Months Ended June 30, 2004:

 

     Parent

    Guarantors

    Non-
Guarantors


    Elimination

    Consolidated

Sales - Outside

   $ —       $ 1,174,761     $ 39,702     $ —       $ 1,214,463

Freight - Outside

     —         61,043       164       —         61,207

Other Income (including equity earnings)

     171,369       26,529       6,808       (154,937 )     49,769
    


 


 


 


 

Total Revenue and Other Income

     171,369       1,262,333       46,674       (154,937 )     1,325,439

Cost of Goods Sold and Other Operating Charges

     18,401       888,053       89,544       (66,667 )     929,331

Intercompany Activity

     (315 )     (27,981 )     (44,425 )     72,721       —  

Freight Expense

     —         61,043       164       —         61,207

Selling, General and Administrative Expense

     —         35,023       837       —         35,860

Depreciation, Depletion and Amortization

     3,106       119,428       515       (1,854 )     121,195

Interest Expense

     13,087       4,213       82       —         17,382

Taxes Other Than Income

     1,883       93,868       770       —         96,521
    


 


 


 


 

Total Costs

     36,162       1,173,647       47,487       4,200       1,261,496
    


 


 


 


 

Earnings (Loss) Before Income Taxes

     135,207       88,686       (813 )     (159,137 )     63,943

Income Tax Expense (Benefit)

     (7,281 )     12,394       (285 )     —         4,828
    


 


 


 


 

Earnings (Loss) before Cumulative Effect of Change in Accounting Principle

     142,488       76,292       (528 )     (159,137 )     59,115

Cumulative Effect of Changes in Accounting for Workers’ Compensation Liability, net of Income Taxes of $53,080

     —         83,373       —         —         83,373
    


 


 


 


 

Net Income (Loss)

   $ 142,488     $ 159,665     $ (528 )   $ (159,137 )   $ 142,488
    


 


 


 


 

 

Cash Flow for the Six Months Ended June 30, 2004:

 

     Parent

    Guarantors

    Non-
Guarantors


    Elimination

   Consolidated

 

Net Cash (Used in) Provided by Operating Activities

   $ (61,115 )   $ 243,911     $ 4,841     $ —      $ 187,637  
    


 


 


 

  


Cash Flows from Investing Activities:

                                       

Capital Expenditures

   $ (4,695 )   $ (199,902 )   $ —       $ —      $ (204,597 )

Investment in Equity Affiliates

     —         (496 )     (2,115 )     —        (2,611 )

Other Investing Activities

     11,000       5,715       —         —        16,715  
    


 


 


 

  


Net Cash Provided by (Used in) Investing Activities

   $ 6,305     $ (194,683 )   $ (2,115 )   $ —      $ (190,493 )
    


 


 


 

  


Cash Flows from Financing Activities:

                                       

Payments on Short-Term Debt

   $ (65,000 )   $ —       $ —       $ —      $ (65,000 )

Payments on Long-Term Notes

     —         (45,000 )     —         —        (45,000 )

Dividends Paid

     (25,174 )     —         —         —        (25,174 )

Withdrawal from Restricted Cash

     190,000       —         —         —        190,000  

Other Financing Activities

     5,983       (4,338 )     —         —        1,645  
    


 


 


 

  


Net Cash Provided by (Used in) Financing Activities

   $ 105,809     $ (49,338 )   $ —       $ —      $ 56,471  
    


 


 


 

  


 

28


NOTE 15 – RECENT ACCOUNTING PRONOUNCEMENTS:

 

In June 2005, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 154, Accounting Changes and Error Corrections – a replacement of APB Opinion No. 20 and FASB Statement No. 3. This Statement provides guidance on the accounting for and reporting of accounting changes and error corrections. It establishes, unless impracticable, retrospective application as the required method for reporting a change in accounting principle in the absence of explicit transition requirements specific to the newly adopted accounting principle. This Statement also provides guidance for determining whether retrospective application of a change in accounting principle is impracticable and for reporting a change when retrospective application is impracticable. The correction of an error in previously issued financial statements is not an accounting change. However, the reporting of an error correction involves adjustments to previously issued financial statements similar to those generally applicable to reporting an accounting change retrospectively. Therefore, the reporting of a correction of an error by restating previously issued financial statements is also addressed by this Statement. This Statement shall be effective for accounting changes and correction of errors made in fiscal years beginning after December 15, 2005. We do not expect this guidance to have a significant impact on CONSOL Energy.

 

In April 2005, the FASB issued FSP No. FAS 19-1 “Accounting for Suspended Well Costs” (FSP 19-1). This position concluded that exploratory well costs should continue to be capitalized beyond twelve months when the well has found a sufficient quantity of reserves to justify its completion as a producing well, and the enterprise is making sufficient progress assessing the reserves and the economic and operating viability of the project. This guidance requires management to exercise more judgment than was previously required and also requires additional disclosure. Management does not believe this statement of position will have a significant effect on the financial statements.

 

In March 2005, the Financial Accounting Standards Board (FASB) issued FASB Interpretation (FIN) 47, Accounting for Conditional Asset Retirement Obligations, an interpretation of FASB Statement No. 143. This interpretation clarifies that the term, conditional asset retirement obligation, as used in FASB Statement No. 143, refers to a legal obligation to perform an asset retirement activity in which the timing and/or method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement activity is unconditional even though uncertainty exists about the timing and/or method of settlement. Thus, the timing and/or method of settlement may be conditional on a future event. Accordingly, an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. The fair value of a liability for the conditional asset retirement obligation should be recognized when incurred, generally upon acquisition, construction, or development and/or through the normal operation of the asset. Uncertainty about the timing and/or method of settlement of a conditional asset retirement obligation should be factored into the measurement of the liability when sufficient information exists. SFAS No. 143 acknowledges that, in some cases, sufficient information may not be available to reasonably estimate the fair value of an asset retirement obligation. We do not expect this guidance to have a significant impact on CONSOL Energy.

 

On December 15, 2004, the FASB released its final revised standard entitled FASB Statement No. 123R, “Share-Based Payment” (SFAS No. 123R). This Statement requires that all public entities

 

29


measure the cost of equity-based service awards based on the grant-date fair value. That cost will be recognized over the period during which an employee is required to provide service in exchange for the award or the requisite service period, which usually is the vesting period. Compensation cost is not recognized for equity instruments for which employees do not render the requisite service. In addition, the SEC Staff issued Staff Accounting Bulletin (SAB) 107 on SFAS No. 123R in March 2005. The SAB was issued to assist preparers by simplifying some of the implementation challenges of SFAS No. 123R while enhancing information that investors receive. This SAB provides guidance related to, among other relevant items, share-based payment transactions with non-employees, valuation methods, the classification of compensation expense, non-GAAP financial measures, first-time adoptions of SFAS No. 123R in an interim period, capitalization of compensation cost related to share-based payment arrangements, the accounting for income tax effects, the modification of employee share options prior to adoption of SFAS No. 123R, and disclosures in Management’s Discussion and Analysis subsequent to adoption of SFAS No. 123R. SFAS No. 123R is to be effective for public companies as of the beginning of the first annual reporting period that begins after June 15, 2005. CONSOL Energy is currently evaluating the impact of unvested stock options outstanding and plans to adopt the provisions of this statement January 1, 2006.

 

In November 2004, the FASB issued SFAS No. 151, “Inventory Costs: An Amendment of ARB 43, Chapter 4” (SFAS No. 151). This statement amends the guidance in ARB No. 43 Chapter 4, “Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). Paragraph 5 of ARB No. 43, Chapter 4, previously stated that “under some circumstances, items such as idle facility expense, excessive spoilage, double freight, and re-handling costs may be so abnormal as to require treatment as current period charges.” SFAS No. 151 requires that those items be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal.” In addition, this Statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The provisions of this Statement are effective for inventory costs incurred during fiscal years beginning after June 15, 2005. We do not expect this guidance to have a significant impact on CONSOL Energy.

 

In October 2004, the FASB ratified Emerging Issues Task Force (EITF) Issue No. 04-10, “Applying Paragraph 19 of FASB Statement No. 131, ‘Disclosure about Segments of an Enterprise and Related Information,’ in Determining Whether to Aggregate Operating Segments That Do Not Meet the Quantitative Thresholds” (EITF 04-10). FASB Statement No. 131 requires that a public business enterprise report financial and descriptive information about its reportable operating segments. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. EITF 04-10 clarifies how an enterprise should evaluate the aggregation criteria in paragraph 17 of FAS No. 131 when determining whether operating segments that do not meet the quantitative thresholds may be aggregated in accordance with paragraph 19 of FAS No. 131. In addition, the FASB Task Force has requested that the FASB staff propose a FASB Staff Position (FSP) to provide guidance in determining whether two or more operating segments have similar economic characteristics. The Task Force has agreed that since the two issues are interrelated, the effective date of EITF 04-10 should coincide with the future undetermined effective date of the anticipated FSP. We are currently evaluating the positions addressed in EITF 04-10, and foresee no significant changes in the reporting practices currently used to report segment information.

 

NOTE 16–SUBSEQUENT EVENTS:

 

In July 2005, CONSOL Energy announced that it had created CNX Gas Corporation (CNX Gas), a wholly owned subsidiary of CONSOL Energy, to conduct its gas exploration and production activities. CONSOL Energy contributed substantially all of the assets of its gas business, including all of CONSOL Energy’s rights to coalbed methane associated with 4.5 billion tons of coal reserves owned or controlled by CONSOL Energy as well as all of CONSOL Energy’s rights to conventional gas. CONSOL Energy entered into various agreements with CNX Gas that will define various operating and service relationships between the two companies.

 

Subsequently, CNX Gas, entered into an agreement to sell approximately 24.3 million shares in a private transaction and granted a 30 day option to purchase an additional 3.6 million shares. The shares are being sold to qualified institutional and accredited investors in a private transaction exempt form registration under Rule 144A, Regulation S and Regulation D. The shares have not been registered under the Securities Act of 1933 and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. Following the close of the transaction, CNX Gas expects to receive approximately $365,400 in net proceeds (approximately $420,200 if the option is exercised) that it will use to pay a special dividend to CONSOL Energy. CONSOL Energy intends to use the proceeds of the special dividend to accelerate efficiency projects in its coal segment and to make acquisitions. In addition, CONSOL Energy has agreed to pay approximately $6,000 in expenses related to this transaction.

 

Following the close of the transaction, CONSOL Energy will hold approximately 122.9 million shares, or approximately 83.5 percent (81.5 percent if the option is exercised), of the then outstanding shares of CNX Gas’ common stock (before issuance of any shares under CNX Gas’ 2.5 million share equity incentive plan).

 

30


ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF RESULTS OF FINANCIAL CONDITION AND OPERATIONS

 

General

 

CONSOL Energy had net income of $41 million for the three months ended June 30, 2005 compared to $26 million for the three months ended June 30, 2004. Net income for the 2005 period was improved primarily due to increased average sales prices for coal. This increase was offset, in part, by costs related to the Buchanan fire and higher cost per units sold for both coal and gas. Higher coal unit costs were primarily due to increased expenses related to supplies, labor, contractor mining fees and other post employment benefits. Higher gas unit costs were primarily due to increased well maintenance expenses, enhanced stimulation on existing frac wells (wells drilled into the coal seam) expenses and firm transportation expenses. Increased revenues were offset by costs related to the Buchanan Mine fire. Net income in the 2005 period included additional income tax expense due primarily to higher pre-tax earnings.

 

Total coal sales for the three months ended June 30, 2005 were 17.4 million tons, of which 17.0 million tons were produced by CONSOL Energy operations or sold from inventory of company-produced coal. This compares with total coal sales of 17.3 million tons for the three months ended June 30, 2004, of which 16.7 million tons were produced by CONSOL Energy operations or sold from inventory of company-produced coal. Overall, production of 16.5 million tons remained consistent in the period-to-period comparison. McElroy Mine production increased 0.9 million tons related to running two longwall mining units in the 2005 period compared to running one longwall mining unit in the 2004 period. Production also increased due to the reactivation of Emery Mine, which was idled in the 2004 period and the opening of the Miller Creek complex in October 2004. These increases in production were offset by a 0.9 million tons reduction at Buchanan Mine in the 2005 period. Buchanan Mine experienced a fire that developed in the mine after a large rock fall behind its longwall mining section on February 14, 2005. The mine was temporarily sealed in order to extinguish the fire. Coal production resumed on June 16, 2005. As of June 30, 2005, total costs related to extinguishment efforts at the Buchanan Mine were approximately $36.9 million, net of expected insurance recovery. However, we also expect to file a claim for a business interruption insurance recovery at some point, none of which has been recorded at June 30, 2005. Total insurance recoveries for the Buchanan fire are limited to $75 million. Production decreases in the period-to-period comparison were also due to Enlow Fork Mine experiencing more challenging mining conditions in the 2005 period.

 

Our gas production was also impacted by the Buchanan Mine fire. Gross gas production of 2.2 billion cubic feet for the three months ended June 30, 2005 and 3.6 billion cubic feet for the six months ended June 30, 2005 is estimated to have been impaired due to the shutdown of the Buchanan longwall. Before the mine fire, approximately 20% of CONSOL Energy’s total gas production was associated with mining activity at the Buchanan Mine. These Buchanan impacts are in addition to an estimated 3 billion cubic feet curtailment for the year ended December 31, 2005, previously disclosed, related to congestion on the interstate pipeline that transports our Virginia gas that we expect could reduce gas production. Of the 3 billion cubic feet projected curtailment for the year, 0.9 billion cubic feet has already been curtailed in the six months ended June 30, 2005.

 

Sales volumes of coalbed methane gas, including a percentage of the sales of equity affiliates equal to our interest in these affiliates, decreased 5.1% to 12.9 billion cubic feet in the three months ended June 30, 2005 period compared with 13.6 billion cubic feet in the three months

 

31


ended June 30, 2004 period. The decrease in sales volumes is primarily due to the loss in production from the Buchanan Mine fire and pipeline curtailments, offset, in part, by an increase in production as a result of additional wells coming on line from the ongoing drilling program and results of the enhanced stimulation of existing frac wells (wells drilled into the coal seam). Our average sales price for coalbed methane gas, including sales of equity affiliates increased 0.8% to $5.02 per thousand cubic feet in the 2005 period compared with $4.98 per thousand cubic feet in the 2004 period.

 

CONSOL Energy restated first quarter 2004 net income by approximately $2.2 million to reflect the recognition of favorable effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 as of March 8, 2004 in accordance with authoritative accounting implementation guidance.

 

In April 2005, CONSOL Energy completed a $750 million Senior Secured Loan Agreement to replace an existing facility of $600 million. The new agreement is a five-year revolving credit facility.

 

In May 2005, CONSOL Energy announced that it planned to expand the Enlow Fork Mine in southwestern Pennsylvania. The expansion project, which is subject to final approval by the CONSOL Energy Board of Directors, is expected to add approximately seven million tons of additional capacity and be running by 2010.

 

In July 2005, CONSOL Energy announced that it had created CNX Gas Corporation, a wholly owned subsidiary of CONSOL Energy, to conduct its gas exploration and production activities. CONSOL Energy contributed substantially all of the assets of its gas business, including all of CONSOL Energy’s rights to coalbed methane associated with 4.5 billion tons of coal reserves owned or controlled by CONSOL Energy as well as all of CONSOL Energy’s rights to conventional gas. CONSOL Energy entered into various agreements with CNX Gas that will define various operating and service relationships between the two companies.

 

In conjunction with the creation of the new company, several CONSOL Energy executives will resign their positions with CONSOL Energy to become employees of the new company. They include: Ronald Smith, Executive Vice-President; Nicholas DeIuliis, Senior Vice President; and Gary Bench, Vice President. In addition, a separate Board of Directors has been created to govern CNX Gas. CONSOL Energy Director Phillip Baxter will resign from the Board to become Chairman of the Board of CNX Gas. In addition, CONSOL Energy Board of Director members J. Brett Harvey, James Altmeyer, Sr., and Raj Gupta will serve on both boards.

 

Subsequently, CNX Gas, entered into an agreement to sell approximately 24.3 million shares in a private transaction and granted a 30 day option to purchase an additional 3.6 million shares. The shares are being sold to qualified institutional and accredited investors in a private transaction exempt from registration under Rule 144A, Regulation S and Regulation D. The shares have not been registered under the Securities Act of 1933 and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. Following the close of the transaction, CNX Gas expects to receive approximately $365.4 million in net proceeds (approximately $420.2 million if the option is exercised) that it will use to pay a special dividend to CONSOL Energy. CONSOL Energy intends to use the proceeds of the special dividend to accelerate efficiency projects in its coal segment and to make acquisitions. In addition, CONSOL Energy has agreed to pay approximately $6.0 million in expenses related to this transaction.

 

Following the close of the transaction, CONSOL Energy will hold approximately 122.9 million shares, or approximately 83.5 percent (81.5 percent if the option is exercised), of the then outstanding shares of CNX Gas common stock (before issuance of any shares under CNX Gas’ 2.5 million share equity incentive plan). At the price paid in the transaction, CONSOL Energy’s shares of CNX Gas would be valued at approximately $1.966 billion.

 

In July 2005, Standard & Poor’s Rating Services affirmed its “BB-” (12th lowest out of 22 rating categories) corporate credit and its other ratings on CONSOL Energy and upgraded the outlook from stable to positive. Standard & Poor’s defines an obligation rated “BB” as less vulnerable to nonpayment than other speculative issues. However, the rating indicates that an obligor faces major ongoing uncertainties or exposure to adverse business, financial, or economic conditions, which could lead to the obligor’s inadequate capacity to meet its financial commitment on the obligation.

 

32


Results of Operations

 

Three Months Ended June 30, 2005 Compared with Three Months Ended June 30, 2004

 

Net Income

 

Net income changed primarily due to the following items (table in millions):

 

     2005
Period


   2004
Period


   Dollar
Variance


    Percentage
Change


 

Coal Sales-Produced and Purchased

   $ 623    $ 514    $ 109     21.2 %

Produced Gas Sales

     64      67      (3 )   (4.5 )%

Purchased Gas Sales

     45      16      29     181.3 %

Other Sales and Other Income

     85      78      7     9.0 %
    

  

  


     

Total Revenue and Other Income

     817      675      142     21.0 %

Coal Cost of Goods Sold—Produced and Purchased

     426      386      40     10.4 %

Produced Gas Cost of Goods Sold

     27      24      3     12.5 %

Purchased Gas Cost of Goods Sold

     46      16      30     187.5 %

Other Cost of Goods Sold

     87      57      30     52.6 %
    

  

  


     

Total Cost of Goods Sold

     586      483      103     21.3 %

Other

     180      166      14     8.4 %
    

  

  


     

Total Costs

     766      649      117     18.0 %
    

  

  


     

Earnings Before Income Taxes

     51      26      25     96.2 %

Income Tax Expense

     10      —        10     100.0 %
    

  

  


     

Net Income

   $ 41    $ 26    $ 15     57.7 %
    

  

  


     

 

Net income for the 2005 period was improved primarily due to increased average sales prices for coal. This increase was offset, in part, by costs related to the Buchanan Mine fire and higher cost per units sold for both coal and gas. Higher coal unit costs were primarily due to increased expenses related to supplies, labor, contractor mining fees and other post employment benefits. Higher gas unit costs were primarily due to increased well maintenance expense, enhanced stimulation on existing frac wells (wells drilled into the coal seam) expenses and firm transportation expenses. Net income in the 2005 period included additional income tax expense due primarily to higher pre-tax earnings.

 

33


Revenue

 

Revenue and other income increased due to the following items:

 

     2005
Period


   2004
Period


   Dollar
Variance


    Percentage
Change


 

Sales

                            

Produced Coal (including related party)

   $ 606    $ 498    $ 108     21.7 %

Purchased Coal

     17      16      1     6.3 %

Produced Gas

     64      67      (3 )   (4.5 )%

Purchased Gas

     45      16      29     181.3 %

Industrial Supplies

     22      20      2     10.0 %

Other

     10      7      3     42.9 %
    

  

  


     

Total Sales

     764      624      140     22.4 %

Freight Revenue

     32      30      2     6.7 %

Other Income

     21      21      —       —   %
    

  

  


     

Total Revenue and Other Income

   $ 817    $ 675    $ 142     21.0 %
    

  

  


     

 

The increase in company produced coal sales revenue, including related party, during the 2005 period was due mainly to the increase in average sales price per ton.

 

    

2005

Period


  

2004

Period


   Variance

  

Percentage

Change


 

Produced Tons Sold (in millions)

     17.0      16.7      0.3    1.8 %

Average Sales Price Per Ton

   $ 35.66    $ 29.72    $ 5.94    20.0 %

 

The increase in average sales price primarily reflects stronger prices negotiated in 2004 and early 2005 resulting from an overall improvement in prices in the eastern coal market for domestic and foreign power generators and steel producers. The increase was also attributable to pricing premiums due to improved quality on coal shipments. Sales tons in the 2005 period increased slightly over the 2004 period. Overall production of 16.5 million tons remained consistent in the period-to-period comparison. McElroy Mine production increased 0.9 million tons related to running two longwall mining units in the 2005 period compared to running one longwall mining unit in the 2004 period. Production also increased due to the reactivation of Emery Mine, which was idled in the 2004 period and the opening of the Miller Creek complex in October 2004. These increases in production were offset by a 0.9 million tons reduction at Buchanan Mine in the 2005 period. Buchanan Mine experienced a fire that developed in the mine after a large rock fall behind its longwall mining section on February 14, 2005. The mine was temporarily sealed in order to extinguish the fire. Coal production resumed on June 16, 2005. Production decreases in the period-to-period comparison were also due to Enlow Fork Mine experiencing more challenging mining conditions in the 2005 period.

 

34


The increase in company-purchased coal sales revenue was due to an increase in average sales price per ton of purchased coal.

 

    

2005

Period


  

2004

Period


   Variance

   

Percentage

Change


 

Purchased Tons Sold (in millions)

     0.3      0.5      (0.2 )   (40.0 )%

Average Sales Price Per Ton

   $ 49.62    $ 30.84    $ 18.78     60.9 %

 

The increased average sales price is primarily due to sales of purchased coal tons being sold in higher priced export and metallurgical markets. Increased revenue from higher average sales prices were offset, in part, by lower sales volumes of purchased coal in the 2005 period compared to the 2004 period.

 

The decrease in produced gas sales revenue was primarily due to decreased volumes sold in the 2005 period compared to the 2004 period, offset, in part, by an increase in average sales price per unit sold.

 

    

2005

Period


  

2004

Period


   Variance

   

Percentage

Change


 

Produced Gas Sales Volumes (in billion gross cubic feet)

     12.8      13.6      (0.8 )   (5.9 )%

Average Sales Price Per thousand cubic feet (including effects of derivative transactions)

   $ 5.00    $ 4.97    $ 0.03     0.6 %

 

Lower sales volumes in the 2005 period were primarily related to the Buchanan Mine fire and curtailments on CONSOL Energy shipment capacity on the Columbia interstate pipeline. The Buchanan Mine fire developed after a large rock fall behind its longwall mining section on February 14, 2005. The mine was temporarily sealed in order to extinguish the fire. Gas production associated with mining activity was reduced because of the idling of the mine and because of the temporary shutdown of certain active gob gas wells. Our gas production was impaired by approximately 2.2 Bcf (gross) for the three months ended June 30, 2005 because of the shutdown of Buchanan Mine. Gas production gradually began to resume in May 2005, when mine fans began to ventilate the mine and mine rescue teams entered the mine to begin a thorough investigation of the working areas of the mine. As a result of increased demand for pipeline use on the Columbia interstate pipeline, CONSOL Energy shipments of gas were curtailed in the 2005 period. This curtailment resulted in a 0.9 billion cubic feet reduction. These reductions in sales volumes were offset, in part, by the results of wells coming on line from the on-going drilling program and the results of the enhanced stimulation of existing frac wells (wells drilled into the coal seam). CONSOL Energy enters into various physical gas supply transactions with both gas marketers and end users for terms varying in length from a single day to greater than a year. CONSOL Energy has also entered into various gas swap transactions that qualify as financial cash flow hedges. These gas swap transactions exist parallel to the underlying physical transactions. In the 2005 period, these financial cash flow hedges represented 19% of

 

35


our produced gas sales volumes at an average price of $4.88 per thousand cubic feet. These financial cash flow hedges currently are expected to represent 18% of our estimated total 2005 produced sales volumes at an average price of $5.48 per thousand cubic feet. CONSOL Energy sold 58% of our produced gas sales volumes in the 2005 period under fixed price contracts at an average price of $4.54 per thousand cubic feet.

 

Due to the potential curtailment on portions of the shipment capacity allocated to CONSOL Energy, as a result of increased demand for capacity on the Columbia interstate pipeline, CONSOL Energy purchased firm transportation capacity on the pipeline during 2005. This arrangement is expected to offset a portion of the expected impact from periodic curtailments. As of June 30, 2005, the purchased firm transportation capacity on the pipeline for the third quarter represents approximately 72% of our projected production for the same period. In April 2005 due to routine maintenance and construction activities, CONSOL Energy was given notice by Columbia regarding reductions in allowable gas flows. Interruptible gas was completely shut in and our contractual flows were reduced by 60%. These reductions resulted in a second quarter impact of approximately $6.8 million of reduced revenues. Although scheduled reductions have been lifted, CONSOL Energy anticipates that the pipeline constraints will be an on-going issue for the foreseeable future requiring the procurement of firm capacity.

 

In addition, in order to satisfy obligations to certain customers, we purchased gas from and sold gas to other gas suppliers, which increased our revenues and our costs. Sales of purchased gas volumes have primarily increased due to CONSOL Energy purchasing firm transportation on a regular basis throughout the 2005 period that required us to purchase from and sell to other gas suppliers. CONSOL Energy began to enter into this type of transaction in May of 2004.

 

    

2005

Period


  

2004

Period


   Variance

  

Percentage

Change


 

Purchased Gas Sales Volumes (in billion gross cubic feet)

     6.4      2.4      4.0    166.7 %

Average Sales Price Per thousand cubic feet (including effects of derivative transactions)

   $ 7.03    $ 6.73    $ 0.30    4.5 %

 

The $2 million increase in revenues from the sale of industrial supplies was primarily due to increased sales volumes.

 

The $3 million increase in other sales was primarily attributable to revenues from river barge towing. Under the Jones Act Bowater exemption, because CONSOL Energy was more than 25% owned by a foreign company, it was prohibited from providing river barge towing to third parties. CONSOL Energy began third party river barge towing shortly after RWE AG divested its ownership interest in the 2004 period.

 

Freight revenue, outside and related party, is based on weight of coal shipped, negotiated freight rates and method of transportation (i.e., rail, barge, truck, etc.) used for the customers to which CONSOL Energy contractually provides transportation services. Freight revenue is the amount billed to customers for transportation costs incurred.

 

36


Other income consists of interest income, gain or loss on the disposition of assets, equity in earnings of affiliates, service income, royalty income, rental income and miscellaneous income. Other income remained consistent in the period-to-period comparison.

 

    

2005

Period


  

2004

Period


  

Dollar

Variance


  

Percentage

Change


 

Gain on sale of assets

   $ 9    $ 9    $ —      —   %

Other miscellaneous

     12      12      —      —   %
    

  

  

      

Total other income

   $ 21    $ 21    $ —      —   %
    

  

  

      

 

Costs

 

    

2005

Period


  

2004

Period


  

Dollar

Variance


  

Percentage

Change


 

Cost of Goods Sold and Other Charges

                           

Produced Coal

   $ 407    $ 370    $ 37    10.0 %

Purchased Coal

     19      16      3    18.8 %

Produced Gas

     27      24      3    12.5 %

Purchased Gas

     46      16      30    187.5 %

Industrial Supplies

     24      23      1    4.3 %

Closed and Idle Mines

     20      20      —      —   %

Other

     43      14      29    207.1 %
    

  

  

      

Total Cost of Goods Sold

   $ 586    $ 483    $ 103    21.3 %
    

  

  

      

 

Increased cost of goods sold and other charges for company-produced coal was due mainly to a 8.3% increase in cost per ton of produced coal sold and a 1.8% increase in sales volumes.

 

    

2005

Period


  

2004

Period


   Variance

  

Percentage

Change


 

Produced Tons Sold (in millions)

     17.0      16.7