anr3q10q.htm
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
(Mark One)
     
þ
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2008
OR
     
o
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                                                             to                                                              
Commission File No. 1-32423
ALPHA NATURAL RESOURCES, INC.
(Exact name of registrant as specified in its charter)
     
Delaware
 
02-0733940
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification Number)
     
One Alpha Place, P.O. Box 2345, Abingdon, VA
 
24212
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code:
 (276) 619-4410
     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. þ Yes ¨ No

     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

þ Large accelerated filer      o Accelerated filer      ¨ Non-accelerated filer

     Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
¨ Yes þ  No

     Number of shares of the registrant’s Common Stock, $0.01 par value, outstanding as of October 31, 2008 – 70,495,814


 


 
TABLE OF CONTENTS
         
   
Page
   
PART I
       
         
       
 
2
   
 
3
   
 
4
   
 
6
   
 
18
   
 
32
   
 
33
   
         
PART II
       
         
 
34
   
 
34
   
 
34
   
Signature  
35
   
 



 
 
- 1 -




Item 1. Financial Statements
                         
 
Condensed Consolidated Statements of Income (Unaudited)
 
(In thousands, except share and per share amounts)
 
                         
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
                         
Revenues:
                       
Coal revenues
  $ 622,960     $ 440,866     $ 1,700,515     $ 1,208,228  
Freight and handling revenues
    75,709       58,384       220,896       143,183  
Other revenues
    16,317       10,137       38,878       23,915  
Total revenues
    714,986       509,387       1,960,289       1,375,326  
Costs and expenses:
                               
Cost of coal sales (exclusive of items shown separately below)
    467,185       365,366       1,291,820       1,000,568  
Gain on sale of coal reserves
    (11,446 )     -       (11,446 )     -  
(Increase) decrease in fair value of derivative instruments, net
    34,294       (1,413 )     11,094       (2,252 )
Freight and handling costs
    75,709       58,384       220,896       143,183  
Cost of other revenues
    11,779       7,132       28,679       16,189  
Depreciation, depletion and amortization
    41,946       43,924       130,759       117,567  
Selling, general and administrative expenses
                               
(exclusive of depreciation and amortization shown separately above)
    20,936       14,436       56,962       41,597  
Total costs and expenses
    640,403       487,829       1,728,764       1,316,852  
                                 
Income from operations
    74,583       21,558       231,525       58,474  
Other income (expense):
                               
Interest expense
    (6,995 )     (10,171 )     (33,594 )     (30,214 )
Interest income
    2,725       249       5,702       1,343  
Loss on early extinguishment of debt
    (33 )     -       (14,702 )     -  
Miscellaneous income, net
    481       281       483       835  
Total other income (expense), net
    (3,822 )     (9,641 )     (42,111 )     (28,036 )
Income from continuing operations before income taxes
    70,761       11,917       189,414       30,438  
Income tax expense
    (5,895 )     (2,484 )     (22,930 )     (6,875 )
Income from continuing operations
    64,866       9,433       166,484       23,563  
                                 
Discontinued operations (Note 16)
                               
Loss from discontinued operations
    (4,916 )     (673 )     (8,273 )     (2,053 )
Minority interest on the loss from discontinued operations
    289       68       490       155  
Gain on sale of discontinued operations
    13,635       -       13,635       -  
Income tax (expense) benefit
    (4,011 )     121       (2,606 )     380  
Income (loss) from discontinued operations
    4,997       (484 )     3,246       (1,518 )
Net income
  $ 69,863     $ 8,949     $ 169,730     $ 22,045  
                                 
Basic earnings per share:
                               
Income from continuing operations
  $ 0.93     $ 0.15     $ 2.44     $ 0.36  
Income (loss) from discontinued operations
    0.07       (0.01 )     0.05       (0.02 )
Net income
  $ 1.00     $ 0.14     $ 2.49     $ 0.34  
                                 
Diluted earnings per share:
                               
Income from continuing operations
  $ 0.90     $ 0.15     $ 2.38     $ 0.36  
Income (loss) from discontinued operations
    0.07       (0.01 )     0.05       (0.02 )
Net income
  $ 0.97     $ 0.14     $ 2.43     $ 0.34  
                                 
See accompanying notes to condensed consolidated financial statements.
                         
                                 


- 2 -

 

             
 
Condensed Consolidated  Balance Sheets (Unaudited)
 
(In thousands, except share and per share amounts)
 
             
   
September 30,
   
December 31,
 
   
2008
   
2007
 
Assets
           
Current assets:
           
Cash and cash equivalents
  $ 560,134     $ 54,365  
Trade accounts receivable, net
    231,007       183,969  
Notes and other receivables
    15,349       11,141  
   Inventories
    83,822       70,780  
Deferred income taxes
    22,525       -  
Prepaid expenses and other current assets
    63,089       59,954  
Total current assets
    975,926       380,209  
Property, plant, and equipment, net
    587,631       640,258  
Goodwill
    20,547       20,547  
Other intangibles, net
    4,394       9,376  
Deferred income taxes
    77,100       97,130  
Other assets
    59,715       63,394  
Total assets
  $ 1,725,313     $ 1,210,914  
Liabilities and Stockholders' Equity
               
Current liabilities:
               
Current portion of long-term debt
  $ 284     $ 2,579  
  Note payable
    -       18,883  
Trade accounts payable
    129,399       95,749  
Deferred income taxes
    -       9,753  
Accrued expenses and other current liabilities
    147,637       96,098  
Total current liabilities
    277,320       223,062  
                 
Long-term debt, net of current portion
    520,625       425,451  
Workers’ compensation benefit obligations
    9,416       9,055  
Postretirement medical benefit obligations
    58,663       53,811  
Asset retirement obligation
    85,353       83,020  
Deferred gains on sale of property interests
    2,581       3,176  
Other liabilities
    32,621       30,930  
Total liabilities
    986,579       828,505  
                 
Minority Interest
    -       1,573  
Commitments and contingencies
               
Stockholders' equity:
               
Preferred stock - par value $0.01, 10,000,000 shares
               
authorized, none issued
    -       -  
Common stock - par value $0.01, 100,000,000 shares
               
authorized, 70,495,814 and 65,769,303 shares issued and outstanding
               
at September 30, 2008 and December 31, 2007, respectively
    705       658  
Additional paid-in capital
    413,477       227,336  
Accumulated other comprehensive loss
    (20,310 )     (22,290 )
Retained earnings
    344,862       175,132  
Total stockholders' equity
    738,734       380,836  
Total liabilities and stockholders' equity
  $ 1,725,313     $ 1,210,914  
                 
See accompanying notes to condensed consolidated financial statements.
               
                 


- 3 -



             
 
Condensed Consolidated Statements of Cash Flows (Unaudited)
 
(In thousands)
 
             
             
   
Nine Months Ended
 
   
September 30,
 
   
2008
   
2007
 
             
Operating activities:
           
Net income
  $ 169,730     $ 22,045  
Adjustments to reconcile net income
               
to net cash provided by operating
               
activities:
               
Depreciation, depletion and amortization
    131,366       117,570  
Loss on early extinguishment of debt
    14,702       -  
Amortization of debt issuance costs
    11,464       1,725  
Accretion of asset retirement obligation
    5,553       4,960  
Share-based compensation
    15,873       6,747  
Amortization of deferred gains on sales
               
of property interests
    (595 )     (707 )
Gain on sale of discontinued operations
    (13,635 )     -  
Gain on sale of fixed assets and investments
    (2,171 )     (2,200 )
Gain on sale of coal reserves
    (11,446 )     -  
Minority interest
    (490 )     (155 )
Change in fair value of derivative instruments
    11,094       (2,252 )
Deferred income tax benefit
    (13,501 )     (2,211 )
Other
    21       1,462  
Changes in operating assets and liabilities:
               
Trade accounts receivable
    (47,659 )     (23,562 )
Notes and other receivables
    (6,242 )     (1,429 )
Inventories
    (13,265 )     9,605  
Prepaid expenses and other current
               
assets
    22,353       18,376  
Other assets
    1,332       (15,787 )
Trade accounts payable
    39,998       16,974  
Accrued expenses and other current
               
liabilities
    19,535       4,641  
Workers’ compensation benefits
    428       2,262  
Postretirement medical benefits
    6,627       6,274  
Asset retirement obligation
    (3,891 )     (4,915 )
Other liabilities
    (1,378 )     3,829  
Net cash provided by
               
   operating activities
  $ 335,803     $ 163,252  
                 



- 4 -

 

             
ALPHA NATURAL RESOURCES, INC. AND SUBSIDIARIES
 
Condensed Consolidated Statements of Cash Flows (Unaudited) - (Continued)
 
(In thousands)
 
             
             
   
Nine Months Ended
 
   
September 30,
 
   
2008
   
2007
 
             
Investing activities:
           
Capital expenditures
  $ (113,632 )   $ (101,491 )
Proceeds from disposition of property, plant,
               
and equipment
    16,241       3,734  
Investment in and advances to investee
    (164 )     (403 )
Proceeds from sale of investment in coal terminal
    1,500       -  
Proceeds from sale of discontinued operations
    45,000       -  
Investment in Dominion Terminal Facility
    (2,824 )     -  
Purchase of acquired companies
    -       (43,908 )
Deferred acquisition cost
    (259 )     (612 )
Net cash used in investing activities
  $ (54,138 )   $ (142,680 )
                 
Financing activities:
               
Repayments of note payable
    (18,883 )     (20,941 )
Proceeds from issuance of convertible debt
    287,500       -  
Repayments on long-term debt
    (193,921 )     (15,382 )
Proceeds from issuance of long-term debt
    -       21,400  
Proceeds from issuance of common stock, net
    164,666       -  
Debt issuance costs
    (10,861 )     -  
Premium payment on early extinguishment of debt
    (10,736 )     -  
Decrease in bank overdraft
    (160 )     (23,232 )
Tax benefit from share-based compensation
    3,143       -  
Proceeds from exercise of stock options
    3,356       594  
Net cash provided by (used in)
               
   financing activities
  $ 224,104     $ (37,561 )
Net increase (decrease) in cash
               
   and cash equivalents
  $ 505,769     $ (16,989 )
Cash and cash equivalents at beginning of period
  $ 54,365     $ 33,256  
Cash and cash equivalents at end of period
  $ 560,134     $ 16,267  
                 
See accompanying notes to condensed consolidated financial statements.
         
                 



ALPHA NATURAL RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
September 30, 2008
 (In thousands, except percentages and share data)

(1) Business and Basis of Presentation

Organization and Business

Alpha Natural Resources, Inc. and its consolidated subsidiaries (the “Company”) are primarily engaged in the business of extracting, processing and marketing coal from deep and surface mines, located in the Central and Northern Appalachian regions of the United States, for sale to utility and steel companies in the United States and in international markets.

Basis of Presentation
 
The accompanying interim condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial reporting. Accounting measurements at interim dates inherently rely on estimates more than at year-end; however, in the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Significant items subject to such estimates and assumptions include inventories; mineral reserves; allowance for non-recoupable advanced mining royalties; asset retirement obligations; employee benefit liabilities; future cash flows associated with assets; useful lives for depreciation, depletion, and amortization; workers’ compensation and black lung claims; postretirement benefits other than pensions; income taxes; revenue recognized using the percentage of completion method; and fair value of financial instruments.  Due to the subjective nature of these estimates, actual results could differ from those estimates.  Results of operations for the nine months ended September 30, 2008 are not necessarily indicative of the results to be expected for the year ending December 31, 2008. These financial statements should be read in conjunction with the audited financial statements and related notes as of and for the year ended December 31, 2007 included in the Company's Annual Report on Form 10-K, and Quarterly Report on Form 10-Q for the quarters ended March 31, 2008 and June 30, 2008, filed with the Securities and Exchange Commission.

Reclassifications

Prior period coal revenues and cost of coal sales have been adjusted to exclude changes in the fair value of coal and diesel fuel derivative contracts to conform to the current year presentation.  In addition, prior period trade accounts payable and accrued expenses and other current liabilities have been reclassified to reflect the current year presentation.  These reclassification adjustments had no effect on previously reported income from operations, net income, current liabilities, or total liabilities.

On September 26, 2008, the Company sold its interests in Gallatin Materials, LLC (“Gallatin”), a lime manufacturing business, to an unrelated third party.   The results of operations for the current and prior periods have been reported as discontinued operations (See Footnote 16). 


(2)  New Accounting Pronouncements

In May 2008, the Financial Accounting Standards Boards ("FASB") affirmed the consensus of FASB Staff Position ("FSP") Accounting Principle Board (“APB”) 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement) (“FSP APB 14-1”), which applies to all convertible debt instruments that have a ‘‘net settlement feature,” which means that such convertible debt instruments, by their terms, may be settled either wholly or partially in cash upon conversion. FSP APB 14-1 requires issuers of convertible debt instruments that may be settled wholly or partially in cash upon conversion to separately account for the liability and equity components in a manner reflective of the issuers’ nonconvertible debt borrowing rate. FSP APB 14-1 is effective for financial statements issued for fiscal years beginning after December 15, 2008 and interim periods within those fiscal years.  Early adoption is not permitted and retroactive application to all periods presented is required.  The Company is currently assessing the impact of adopting FSP APB 14-1 on its consolidated financial statements.

In April 2008, the FASB issued FSP No. FAS 142-3, Determination of the Useful Life of Intangible Assets, (“FSP FAS 142-3”). FSP FAS 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142, Goodwill and Other Intangible Assets. This FSP is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. The guidance contained in this FSP for determining the useful life of a recognized intangible asset is applied prospectively to intangible assets acquired after the effective date. Additional disclosures required in this FSP are applied prospectively to all intangible assets recognized as of, and subsequent to, the effective date.  The Company does not expect the adoption of this guidance to have a material effect on its consolidated financial statements.


- 6 -


 
In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities (“SFAS 161”), which amends SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities (“SFAS 133”).  SFAS 161 is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. The new standard also improves transparency about the location and amounts of derivative instruments in an entity’s financial statements; how derivative instruments and related hedged items are accounted for under SFAS 133; and how derivative instruments and related hedged items affect its financial position, financial performance, and cash flows. It is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The Company is currently assessing the impact of adopting SFAS 161 on its consolidated financial statements.

In December 2007, the FASB issued  SFAS 141(R), Business Combinations (“SFAS 141(R)”), and SFAS No. 160, Accounting and Reporting of Noncontrolling Interest in Consolidated Financial Statements, an amendment of ARB No. 51 (“SFAS 160”).   SFAS 141(R) and SFAS 160 will significantly change the accounting for and reporting of business combination transactions and noncontrolling (minority) interests in consolidated financial statements. SFAS 141(R) retains the fundamental requirements in SFAS 141 while providing additional definitions, such as the definition of the acquirer in a purchase and improvements in the application of how the acquisition method is applied. SFAS 160 will change the accounting and reporting for minority interests, which will be recharacterized as noncontrolling interests, and classified as a component of equity. These Statements become simultaneously effective January 1, 2009. Early adoption is not permitted. The Company is currently evaluating the impact this guidance will have on its consolidated financial statements.


(3) Earnings Per Share

Basic earnings per share are computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share are computed using the treasury method by dividing net income by the weighted average number of shares of common stock and dilutive common stock equivalents outstanding during the period. Common stock equivalents include the number of shares issuable upon exercise of outstanding options less the number of shares that could have been purchased with the proceeds from the exercise of the options based on the average price of common stock during the period and the number of shares of common stock from the dilutive effect of the 2.375% convertible senior notes due 2015.  The convertible senior notes due 2015 become dilutive for earnings per share calculations when the average price for the quarter exceeds the conversion price of $54.66. The shares that would be issued to settle the conversion spread are included in the diluted earnings per share calculation when the conversion option is in the money and amounted to 1,878,735 and 979,484 shares for the third quarter and year to date dilutive earnings per share calculations, respectively.  Restricted shares which have not vested at the end of the reporting period are excluded from the calculation of basic earnings per share.

The computations of basic and diluted net income per share are set forth below:
                                 
   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
   
2008
   
2007
   
2008
   
2007
 
Numerator:
                               
   Income from continuing operations
 
$
            64,866
   
$
               9,433
   
$
           166,484
   
$
             23,563
 
   Income (loss) from discontinued operations
   
              4,997
     
                (484
   
               3,246
     
             (1,518
   Net income
 
$
            69,863
   
$
               8,949
   
$
           169,730
   
$
             22,045
 
                                 
Denominator:
                               
   Weighted average shares — basic
   
     69,578,244
     
      64,602,414
     
      68,071,618
     
      64,590,052
 
   Dilutive effect of stock equivalents
   
       2,655,325
     
           393,111
     
        1,792,108
     
           286,975
 
   Weighted average shares — diluted
   
     72,233,569
     
      64,995,525
     
      69,863,726
     
      64,877,027
 
                                 
Basic earnings per share:
                               
   Income from continuing operations
 
$
                0.93
   
$
                 0.15
   
$
                 2.44
   
$
                 0.36
 
   Income (loss) from discontinued operations
   
                0.07
     
               (0.01
)    
                 0.05
     
               (0.02
   Net income per basic share
 
$
                1.00
   
$
                 0.14
   
$
                 2.49
   
$
                 0.34
 
                                 
Diluted earnings per share:
                               
   Income from continuing operations
 
$
                0.90
   
$
                 0.15
   
$
                 2.38
   
$
                 0.36
 
   Income (loss) from discontinued operations
   
                0.07
     
               (0.01
   
                 0.05
     
               (0.02
   Net income per diluted share
 
$
                0.97
   
$
                 0.14
   
$
                 2.43
   
$
                 0.34
 
                                 
                                 

- 7 -


 
(4) Inventories
   
Inventories consisted of the following:
                 
   
September 30,
   
December 31,
 
   
2008
   
2007
 
Raw coal
 
$
              8,276
   
 $
            8,754
 
Saleable coal
   
            60,369
     
          48,928
 
Equipment for resale
   
              1,388
     
            1,688
 
Materials and supplies
   
            13,789
     
          11,410
 
        Total inventories
 
$
            83,822
   
 $
          70,780
 
                 

(5) Income Taxes

The income tax provision from continuing operations and discontinued operations for the three and nine months ended September 30, 2008 are as follows:
                 
   
Three Months Ended
 
 
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2008
   
2008
 
Continuing operations
 
$
                            5,895
   
 $
                            22,930
 
Discontinued operations
   
                            4,011
     
                              2,606
 
   
$
                            9,906
   
 $
                            25,536
 
                 

A reconciliation of the statutory federal income tax expense at 35% to actual income tax expense on income from continuing operations is as follows:
                                 
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
Federal statutory income tax expense
 
$
       24,767
   
 $
         4,148
   
 $
       66,295
   
 $
       10,600
 
Increases (reductions) in taxes due to:
                               
Nondeductible stock-based compensation
   
                 -
     
                 -
     
                 -
     
            194
 
Percentage depletion allowance
   
        (7,020
   
        (4,476
   
      (14,917
   
        (8,283
State taxes, net of federal tax impact
   
         1,819
     
             (22
   
         5,305
     
            292
 
Change in valuation allowance
   
      (13,047
   
         2,623
     
      (32,467
   
         3,765
 
Domestic production activities deduction
   
           (700
   
              24
     
        (1,964
   
               (4
Change in state rates
   
                 -
     
                 -
     
            247
     
                 -
 
Other, net
   
                76
     
            187
     
            431
     
            311
 
                                 
Income tax expense
 
$
         5,895
   
 $
         2,484
   
 $
       22,930
   
 $
         6,875
 
                                 
 
At September 30, 2008, the Company has concluded that it is more likely than not that deferred tax assets, net of valuation allowances, currently recorded will be realized. The amount of the valuation allowance takes into consideration the Alternative Minimum Tax ("AMT") system as required by SFAS No. 109, Accounting for Income Taxes (“SFAS 109”). The Company monitors the valuation allowance each quarter and makes adjustments to the allowance as appropriate.  In the second quarter, due to revised projections of taxable income, the Company changed its judgment with respect to the realizability of deferred tax assets.  The Company concluded that it was no longer a perpetual AMT taxpayer, and that the valuation allowance related to its perpetual AMT position should be released.  In accordance with FAS 109, the amount of valuation allowance related to its AMT position that existed at the beginning of the year, and that will be realized in future years, was recognized as a discrete item in the second quarter.  The amount of valuation allowance related to deferred tax assets that would be realized through current year operations was recognized through the calculation of the annual effective tax rate.  In the third quarter, the Company revised its estimate of the amount of the valuation allowance that would be realized in future years, and therefore recognized an additional tax benefit as a discrete item in the third quarter.


- 8 -

 

(6) Long-Term Debt
 
Long-term debt consisted of the following:
                 
   
September 30,
   
December 31,
 
   
2008
   
2007
 
Term loan
 
$
          233,125
   
$
233,125
 
2.375% convertible senior notes due 2015
   
          287,500
     
                   -
 
10% senior notes due 2012
   
                     -
     
175,000
 
Capital lease obligations
   
                 284
     
705
 
Gallatin loan facility
   
                     -
     
18,500
 
Other
   
                     -
     
700
 
      Total long-term debt
   
          520,909
     
428,030
 
   Less current portion
   
                 284
     
2,579
 
      Long-term debt, net of current portion
 
$
          520,625
   
$
425,451
 
                 

On October 26, 2005, Alpha Natural Resources, LLC (“ANR LLC”), entered into a senior secured credit facility with a group of lending institutions led by Citicorp North America, Inc., as administrative agent (the “Credit Agreement”). The Credit Agreement originally consisted of a $250,000 term loan facility and a $275,000 revolving credit facility. The revolving credit facility includes borrowing capacity available for letters of credit.

In March 2008, the Company and its subsidiary, ANR LLC, entered into two amendments to the Credit Agreement.  One of these amendments increased the amount available under the revolving credit portion of the facility from $275,000 to $375,000. The other amendment, among other things, removed Alpha Natural Resources, Inc. from the application of most of the restrictive covenants and added exceptions to certain other covenants relating to payment of dividends and distributions.

On April 7, 2008, the Company completed a public offering of $287,500 aggregate principal amount of 2.375% convertible senior notes due 2015.  The notes bear interest at a rate of 2.375% per annum, payable semi-annually in arrears on April 15 and October 15 of each year, beginning on October 15, 2008. The Notes will mature on April 15, 2015, unless previously repurchased by the Company or converted.  The Company used the net proceeds from this offering and concurrent offering of common stock, in part, to repurchase $175,000 aggregate principal amount of the 10% senior notes due 2012, co-issued by ANR LLC and Alpha Natural Resources Capital Corp, resulting in a $14,702 loss on early extinguishment of debt.  The notes are convertible in certain circumstances and in specified periods (as described in the Supplemental Indenture) at an initial conversion rate of 18.2962 shares of common stock per $1,000 principal amount of notes, subject to adjustment upon the occurrence of certain events set forth in the Indenture. Upon conversion of notes, holders will receive cash up to the principal amount of the notes to be converted, and any excess conversion value will be delivered in cash, shares of common stock or a combination thereof, at the Company's election.
 
Since the Company retired its $175,000 10% senior notes and the 2.375% convertible senior notes due 2015 issued by the Company are not guaranteed by the Company’s subsidiaries, separate financial information with respect to the Company and its subsidiaries is no longer required.

On July 1, 2008, the $287,500 aggregate principal amount of 2.375% convertible senior notes due 2015 became convertible at the option of the holders and remained convertible through September 30, 2008, the last trading day of the current fiscal quarter.  The notes were convertible because the Company’s common stock exceeded the conversion threshold price of $71.06 per share (130% of the applicable conversion price of $54.66 per share) for at least twenty trading days within the thirty consecutive trading days ending June 30, 2008.  As a result of the notes becoming convertible in the second quarter of 2008, the Company was required to fully amortize the deferred debt issuance costs in the amount of $8,904 incurred with the issuance of the notes.  In addition at June 30, 2008, the Company reclassified from long-term to short-term the $287,500 aggregate principal amount of 2.375% convertible senior notes due 2015 that became convertible.  As of September 30, 2008, no holders had converted their notes.  On October 1, 2008, the Notes were no longer convertible since the Company’s common stock did not exceed the conversion threshold price of $71.06 per share (130% of the applicable conversion price of $54.66 per share) for at least twenty trading days within the thirty consecutive trading days ending September 30, 2008.  As a result, at September 30, 2008, the Company classified the $287,500 aggregate principal amount of 2.375% convertible senior notes due 2015 as long term.
 
On October 17, 2008, the Company’s $287,500 aggregate principal amount of 2.375% convertible senior notes due 2015 became convertible at the option of the holders.  The notes became convertible because the Company’s previously announced merger between the Company and Cliffs Natural Resources Inc. (“Cliffs”) (formerly Cleveland-Cliffs Inc.) may be consummated as early as 30 business days (i.e., potentially as early as December 2, 2008) if the merger were to be approved at the respective special meetings of the shareholders of the two companies (which are now scheduled to take place on November 21, 2008) and all other conditions to the closing of the merger were to be satisfied or waived.

The Credit Agreement places restrictions on the ability of ANR LLC and its subsidiaries to make distributions or loans to the Company. The net assets of ANR LLC are restricted, except for allowable distributions for the payment of income taxes, administrative expenses, payments on qualified debt, and, in certain circumstances, dividends or repurchases of common stock of the Company.

All of the Company borrowings under the Credit Agreement are at a variable rate, so the Company is exposed to the effect of rising interest rates. As of September 30, 2008, the Company has a $233,125 term loan outstanding with a variable interest rate based upon the 3-month London Interbank Offered Rate (“LIBOR”) (3.81% at September 30, 2008) plus the applicable margin (1.75% at September 30, 2008). To reduce the Company's exposure to rising interest rates, effective May 22, 2006, the Company entered into a pay-fixed, receive variable interest rate swap on the notional amount of $233,125 for a period of approximately six and one-half years. In effect, this swap converted the variable interest rates based on LIBOR to a fixed interest rate of 5.59% plus the applicable margin defined in the debt agreement for the remainder of our term loan. The Company accounts for the interest rate swap as a cash flow hedge and changes in fair value of the swap are recorded to other comprehensive income (loss). The critical terms of the swap and the underlying debt instrument that it hedges coincide, resulting in no hedge ineffectiveness being recognized in the income statement during the quarter ended September 30, 2008.  The fair value of the swap at September 30, 2008 was $14,199 which was recorded in other liabilities in the condensed consolidated balance sheet and the offsetting unrealized loss of $10,883, net of tax benefit, was recorded in accumulated other comprehensive loss. As interest expense is accrued on the debt obligation, amounts in accumulated other comprehensive loss related to the derivative hedging instrument are reclassified into earnings to obtain a net cost on the debt obligation of 5.59% plus the applicable margin.

 

(7) Asset Retirement Obligation
 
At September 30, 2008 and December 31, 2007, the Company has recorded asset retirement obligation accruals for mine reclamation and closure costs totaling $93,667 and $91,199, respectively. The portion of the costs expected to be incurred within a year in the amounts of $8,314 and $8,179 at September 30, 2008 and December 31, 2007, respectively, are included in accrued expenses and other current liabilities. These regulatory obligations are secured by surety bonds in the amount of $149,174 at September 30, 2008 and $142,471 at December 31, 2007. Changes in the reclamation obligation were as follows:
 
         
Total asset retirement obligation at December 31, 2007
 
$
       91,199
 
    Accretion for the period
   
         5,553
 
    Expenditures for the period
   
        (3,891
    Sites added during the period
   
         1,577
 
    Sites disposed during the period
   
           (618
    Revisions in estimated cash flows
   
           (153
Total asset retirement obligation at September 30, 2008
 
$
       93,667
 
         


(8) Share-Based Compensation Awards

Share-based compensation expense measured in accordance with SFAS 123(R), Accounting for Stock-Based Compensation, ("SFAS 123(R)"), totaled $1,298 and $2,683 for the three months ended September 30, 2008 and 2007, respectively.  Share-based compensation expense measured in accordance with SFAS 123(R) totaled $15,873 and $6,747 for the nine months ended September 30, 2008 and 2007, respectively.  Share-based compensation expense for the nine months ended September 30, 2008 includes a $4,463 charge relating to stock grants to employees on May 1, 2008.
 
As of September 30, 2008 and 2007, approximately 48% and 60%, respectively, of share-based compensation expense is reported as selling, general and administrative expenses, included in the Corporate and Eliminations category for segment reporting purposes (Note 14), and approximately 52% and 40%, respectively, is reported as a component of cost of sales, included in the Coal Operations and All Other segment for segment reporting purposes (Note 14).  As of September 30, 2008 and 2007, approximately ($46) and $127, respectively, of share-based compensation costs was capitalized as a component of inventories. Under SFAS 123(R), the Company is required to report the benefits of income tax deductions that exceed recognized compensation as cash flow from financing activities. The excess tax benefits during the three months ended September 30, 2008 and 2007 were $1,353 and $0, respectively, and $3,143 and $0 for the nine months ended September 30, 2008 and 2007, respectively.
 
Stock Options

Stock option activity for the nine months ended September 30, 2008 is summarized in the following table:
             
           
Weighted-
     
Weighted-
 
Average
     
Average
 
Remaining
 
Number of
 
Exercise
 
Contract
 
Shares
 
Price
 
Life (Years)
Outstanding at December 31, 2007
     744,692
 
$
         17.51
   
     Exercised
    (194,785
 
         17.23
   
     Forfeited/Expired
      (11,857
 
         14.84
   
Outstanding at September 30, 2008
     538,050
   
         17.68
 
           6.34
Exercisable at September 30, 2008
     138,213
 
$
         20.15
 
           6.46
             

The aggregate intrinsic value of options outstanding at September 30, 2008 was $18,159 and the aggregate intrinsic value of exercisable options was $4,323. The total intrinsic value of options exercised during the three months ended September 30, 2008 and 2007 was $852 and $130, respectively, and for the nine months ended September 30, 2008 and 2007 was $6,425 and $200, respectively.  Cash received from the exercise of stock options during the three months ended September 30, 2008 and 2007 was $228 and $473, respectively, and $3,356 and $594 during the nine months ended September 30, 2008 and 2007, respectively. As of September 30, 2008, $1,901 of unrecognized compensation cost related to stock options is expected to be recognized as expense over a weighted-average period of 1.28 years. The weighted-average grant date fair value of options outstanding at September 30, 2008 and 2007 was $7.37 and $7.53, respectively.

- 10 -

 
Restricted Stock Awards

Non-vested share award activity for the nine months ended September 30, 2008 is summarized in the following table:
           
     
Weighted-
 
     
Average
 
 
Number of
 
Grant Date
 
 
Shares
 
Fair Value
 
Non-vested shares outstanding at December 31, 2007
     880,232
 
$
         15.93
 
      Granted
     406,225
   
         34.01
 
      Vested
    (314,689
 
         26.88
 
      Forfeited/Expired
      (15,656
 
         19.47
 
Non-vested shares outstanding at September 30, 2008
     956,112
 
$
         19.33
 
           

On May 1, 2008, the Company granted 25 shares of stock to all employees, except executive officers, at a grant date value of $48.59 per share subject to a ninety-day holding period before the shares could be sold. The fair value of non-vested restricted share awards is based on the closing stock price on the date of grant, and, for purposes of expense recognition, the total number of awards expected to vest is adjusted for estimated forfeitures. As of September 30, 2008, there was $9,370 of unamortized compensation cost related to non-vested shares, which is expected to be recognized as expense over a weighted-average period of 1.83 years.
 
Performance Share Awards
 
2008 Granted Awards
 
The Company granted 165,045 performance share awards for the nine months ended September 30, 2008.  Recipients of these awards can receive shares of the Company's common stock at the end of a performance period which ends on December 31, 2010, based on the Company's actual performance against pre-established operating income goals, strategic goals, and total shareholder return goals. In order to receive the shares, the recipient must also be employed by the Company on the vesting date. The performance share awards represent the number of shares of common stock to be awarded based on the achievement of targeted performance and may range from 0 percent to 150 percent of the targeted amount. The grant date fair value of the awards related to operating income targets is based on the closing price of the Company's common stock on the New York Stock Exchange on the grant date of the award and is being amortized over the performance period. The awards related to strategic goals do not meet the criteria for grant date pursuant to SFAS No. 123(R), Share-based Payments (as amended) (“SFAS 123”). The fair value of the awards related to total shareholder return targets is based upon a Monte Carlo simulation and is being amortized over the performance period. For executive officers of the Company to receive these performance share awards, the Company must achieve a pre-determined EBITDA level during the performance period in addition to the criteria set for all other employees participating in the plan.  The Company reassesses at each reporting date whether achievement of each of the performance conditions is probable, as well as estimated forfeitures, and adjusts the accruals of compensation expense as appropriate. At September 30, 2008, the Company assessed the operating income and total shareholder return targets as probable of achievement. As of September 30, 2008, there was $2,317 of unamortized compensation cost related to the performance share awards for 2008.  This unamortized compensation cost is expected to be recognized over the remaining periods up to December 31, 2010.

- 11 -


 
(9) Derivative Financial Instruments
 
Derivative financial instruments are accounted for in accordance with SFAS 133, Accounting for Derivative Instruments and Hedging Activities ("SFAS 133"), which requires all derivative financial instruments to be reported on the balance sheet at fair value. Changes in fair value are recognized either in earnings or equity, depending on whether the transaction qualifies for hedge accounting and if so, the nature of the underlying exposure being hedged and how effective the derivatives are at offsetting price movements in the underlying exposure.

The Company accounts for certain forward purchase and forward sale coal contracts that do not qualify under the “normal purchase and normal sale” exception of SFAS 133 as derivatives and records these contracts as assets or liabilities at fair value. Changes in fair value of these coal derivative contracts have been recorded as an (increase) decrease in fair value of certain derivative instruments, net, and included as a component of costs and expenses in the consolidated statements of income.  At September 30, 2008, the Company had unrealized gains (losses) on open purchase and open sales contracts of $34,015 and ($29,071), respectively. The unrealized gains of $34,015 in open purchases are recorded in prepaid expenses and other current assets.   The unrealized losses on open sales contracts are recorded in accrued expenses and other current liabilities and other liabilities in the amount of $25,800 and $3,271, respectively.

The Company has utilized interest rate swap agreements to modify the interest characteristics of a portion of the Company's outstanding debt. The swap agreements essentially convert variable-rate debt to fixed-rate debt and have been designated as cash flow hedges.  Changes in the fair value of interest rate swaps designated as hedging instruments of the variability of cash flows associated with floating rate and long-term debt obligations are reported in accumulated other comprehensive loss.  These amounts are subsequently reclassified into interest expense in the same period in which the related floating rate debt obligation affects earnings.

The Company is also exposed to the risk of fluctuations in cash flows related to its purchase of diesel fuel. The Company has entered into diesel fuel swap agreements and diesel put options to reduce the volatility in the price of diesel fuel for its operations. The diesel fuel swap agreements and put options are not designated as hedges for accounting purposes and therefore the changes in fair value of these diesel fuel derivative instrument contracts have been recorded as an (increase) decrease in fair value of certain derivative instruments, net, and included as a component of costs and expenses in the consolidated statements of income.  These diesel fuel swaps and put options use the NYMEX New York Harbor No. 2 Heating Oil (“No. 2 heating oil”) futures contracts as the underlying commodity reference price. Any unrealized loss is recorded in other current liabilities and other liabilities and any unrealized gain is recorded in other current assets and other assets.
 
As of September 30, 2008, approximately 4,908 gallons or 75% of the Company's budgeted 2008 remaining diesel fuel usage has been capped with the swap agreements in which the Company has agreed to pay a fixed price and receive a floating price per gallon of No. 2 heating oil.  The fixed prices for the notional quantity of 4,908 gallons range from $2.39 to $3.93 per gallon for the last three months of 2008.  In addition, as of September 30, 2008, the Company has in place swap agreements with respect to 22,700 gallons, at fixed prices ranging from $2.74 to $4.10 per gallon, which mature in 2009 to 2011.  At September 30, 2008, the fair value of these diesel fuel swap agreements is a net liability of $7,108, which is recorded in prepaid expenses and other current assets in the amount of $1,226, other assets in the amount of $574, accrued expenses and other current liabilities in the amount of $4947, and in other liabilities in the amount of $3,961. 

The Company has also employed an options strategy – both purchasing and selling put options – to protect cash flows in the event diesel prices decline. As of September 30, 2008, the Company had purchased put options for 2,813 gallons at strike prices ranging from $2.25 to $3.25 per gallon for the last three months of 2008, and 2,646 gallons for the first six months of 2009 at a strike price of $3.50 per gallon. In the event that No. 2 heating oil prices decline below the strike price, the Company can exercise the put options and sell the 5,459 gallons at the strike price, therefore reducing the negative impact of any of the swap agreements that have settlement prices above market. As of September 30, 2008, the Company had sold put options for 2,646 gallons for the first six months of 2009 at a strike price of $3.00 per gallon. This was part of a put spread strategy that effectively provided protection for market prices between $3.00 and $3.50. In the event that No.2 heating oil prices decline below the $3.00 strike price, then the sold put options will offset the purchased put options with no net benefit or cost.  At September 30, 2008, the fair value of all diesel fuel put options is a net asset of $1,440 of which $2,515 is recorded in prepaid expenses and other current assets and $1,075 is recorded in accrued expenses and other current liabilities.

- 12 -

 
 
(10) Fair Value Measurements

The Company adopted SFAS No. 157, Fair Value Measurements (“SFAS 157”) on January 1, 2008. This statement defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. Additionally, on January 1, 2008, the Company elected the partial adoption of SFAS 157 under the provisions of  FSP FAS 157-2, which amends SFAS 157 to allow an entity to delay the application of this statement until January 1, 2009 for certain non-financial assets and liabilities. The adoption of SFAS 157 did not have a material impact on our consolidated financial statements.

The Company adopted SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities-Including an Amendment of FASB Statement No. 115 (“SFAS 159”), on January 1, 2008. This standard permits entities to choose to measure many financial instruments and certain other items at fair value. The adoption of SFAS 159 did not impact our consolidated financial statements, as the Company elected not to measure any additional financial assets or liabilities at fair value other than those which were recorded at fair value prior to adoption.

SFAS 157 clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants.  As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset and liability.  As a basis for considering such assumptions, SFAS 157 establishes a fair value hierarchy that prioritizes the inputs used to measure fair value.  The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurements).  The three levels of the fair value hierarchy defined by SFAS 157 are as follows:

 
Level 1 - Quoted prices in active markets for identical assets or liabilities;
 
Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and
 
Level 3 - Unobservable inputs in which there is little or no market data which require the reporting entity to develop its own assumptions.


The following table sets forth by level within the fair value hierarchy the company's financial assets that were accounted for at fair value on a recurring basis as of September 30, 2008.  As required by SFAS 157, financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.  The Company's assessment of the significance of a particular input to the fair value measurement requires judgment, and may affect the valuation of fair value assets and liabilities and their placement within the fair value hierarchy levels.
                               
 
As of September 30, 2008
 
             
Fair Value Measurements Using:
 
               
Quoted
   
Significant
       
               
Prices in
   
Other
   
Significant
 
               
Active
   
Observable
   
Unobservable
 
 
Carrying
 
Total Fair
   
Markets
   
Inputs
   
Inputs
 
 
Amount
 
Value
   
(Level 1)
   
(Level 2)
   
(Level 3)
 
 
(In thousands)
                       
Financial Assets (Liabilities):
                             
    Forward coal sales
  $ (29,071 )   $ (29,071 )   $ -     $ (29,071 )   $ -  
    Forward coal purchases
  $ 34,015     $ 34,015     $ -     $ 34,015     $ -  
    Diesel fuel derivatives
  $ (5,668 )   $ (5,668 )   $ -     $ (5,668 )   $ -  
    Interest rate swaps
  $ (14,199 )   $ (14,199 )   $ -     $ (14,199 )   $ -  
                                         
 
The following methods and assumptions were used to estimate the fair values of the assets and liabilities in the tables above. 

Level 2 Fair Value Measurements
 
Forward Coal Purchases and Sales — The fair value of the forward coal purchases and sales contracts were estimated using discounted cash flow calculations based upon forward commodity price curves.  The curves were obtained from independent pricing services reflecting broker market quotes.
 
Diesel Fuel Derivatives — Since the Company’s diesel fuel derivative instruments are not traded on a market exchange, the fair values are determined using valuation models which include assumptions about commodity prices based on those observed in the underlying markets.

Interest Rate Swaps — The fair value of the interest rate swaps were estimated using discounted cash flow calculations based upon forward interest-rate yield curves.  The curves were obtained from independent pricing services reflecting broker market quotes.

- 13 -


 
(11) Postretirement Benefits Other Than Pensions

The following table details the components of the net periodic benefit cost for the Company’s retiree medical plan (the “Plan”):
                                 
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
Service cost
 
$
            696
   
$
            835
   
$
         2,082
   
$
         2,331
 
Interest cost
   
            819
     
            763
     
         2,565
     
         2,289
 
Amortization of prior service cost
   
            545
     
            583
     
         1,775
     
         1,750
 
    Net periodic benefit cost
 
$
         2,060
   
$
         2,181
   
$
         6,422
   
$
         6,370
 
                                 
 
The Company provides current and certain retired employees and their dependents postretirement medical benefits by accruing the costs of such benefits over the service lives of employees.  Premiums are paid by the Company based on years of service, with the difference contributed by the employee, if any.  Employer contributions for postretirement medical benefits paid for the three months ended September 30, 2008 and 2007 were $95 and $30, respectively, and for the nine months ended September 30, 2008 and 2007 were $177 and $95, respectively. Employee contributions are insignificant and the Plan is unfunded.
 
Two of the Company’s subsidiaries are required to make contributions to the 1974 UMWA Pension Plan and Trust and/or the 1993 UMWA Benefit Plan.  The contributions made to these plans for the three months ended September 30, 2008 and 2007 were $551 and $345, respectively, and for the nine months ended September 30, 2008 and 2007 were $1,714 and $1,080, respectively.
 
 
(12) Comprehensive Income

 Total comprehensive income is as follows for the three months and nine months ended September 30, 2008:
             
   
Three Months Ended September 30, 2008
     
Nine Months Ended September 30, 2008
 
Net Income
  $ 69,863     $ 169,730  
Change in fair value of cash flow hedge, net of tax effect of ($289) and $540, for the three months and nine months, respectively
    (457 )     851  
Change in SFAS 158 adjustment related to postretirement medical, net of tax effect of $211 and $687, for the three months and nine months, respectively
    334       1,088  
Change in SFAS 158 adjustment related to black lung obligations, net of tax effect of $9 and $26, for the three months and nine months, respectively
    13       41  
    Total comprehensive income
  $ 69,753     $ 171,710  
                 

The following table summarizes the components of accumulated other comprehensive loss at September 30, 2008:
         
Fair value of cash flow hedge, net of tax effect of $3,316
 
$
       10,883
 
SFAS 158 adjustment related to postretirement medical obligations, net of tax effect of $2,566
   
         8,816
 
SFAS 158 adjustment related to black lung obligations, net of tax effect of $188
   
            611
 
    Total accumulated other comprehensive loss
 
$
       20,310
 
 
       

- 14 -


 
(13) Commitments and Contingencies

(a) Guarantees and Financial Instruments with Off-balance Sheet Risk

 In the normal course of business, the Company is a party to certain guarantees and financial instruments with off-balance sheet risk, such as bank letters of credit and performance or surety bonds. No liabilities related to these arrangements are reflected in the Company's condensed consolidated balance sheets. Management does not expect any material losses to result from these guarantees or off-balance sheet financial instruments. The amount of bank letters of credit, excluding letters of credit issued under our Credit Agreement, outstanding as of September 30, 2008 was $85,175. The amount of surety bonds outstanding at September 30, 2008 related to the Company's reclamation obligations is presented in Note 7 to the condensed consolidated financial statements. The Company has provided guarantees for equipment financing obtained by certain of its contract mining operators totaling approximately $424 as of September 30, 2008. The estimated fair value of these guarantees is not significant.

(b) Discontinued Operations

On September 26, 2008, as part of the sale of the Company's interest in Gallatin to an unrelated third party, an escrow balance of $4,500 was established to indemnify and guarantee the buyer against breaches of representations and warranties in the sale agreement and contingencies that may have existed at closing and materialize within one year from the sale date.  The Company recorded a liability of $650 as the fair value of this guarantee.
 
(c) Litigation

The Company is a party to a number of legal proceedings incident to our normal business activities. While we cannot predict the outcome of these proceedings, we do not believe that any liability arising from these matters individually or in the aggregate should have a material impact upon our consolidated cash flows, results of operations or financial condition.
 
Nicewonder Litigation

In December 2004, prior to our Nicewonder Acquisition in October 2005, the Affiliated Construction Trades Foundation brought an action against the West Virginia Department of Transportation, Division of Highways (“WVDOH”) and Nicewonder Contracting, Inc. ("NCI"), which became our wholly-owned indirect subsidiary after the Nicewonder Acquisition, in the United States District Court in the Southern District of West Virginia. The plaintiff sought a declaration that the contract between NCI and the State of West Virginia related to NCI's road construction project was illegal as a violation of applicable West Virginia and federal competitive bidding and prevailing wage laws. The plaintiff also sought an injunction prohibiting performance of the contract but has not sought monetary damages. 

On September 5, 2007, the Court ruled that WVDOH and the Federal Highway Administration (which is now a party to the suit) could not, under the circumstances of this case, enter into a contract not requiring the contractor to pay the prevailing wages as required by the Davis-Bacon Act. Although the Court has not yet decided what remedy it will impose, the Company expects a ruling before the end of the first quarter of 2009.  The Company anticipates that the most likely remedy is a directive that the contract be renegotiated for such payment. If that renegotiation occurs, WVDOH has committed to agree, and NCI has a contractual right to insist, that additional costs resulting from the order will be reimbursed by WVDOH and as such neither NCI nor the Company believe, at this time, that they have any monetary expense from this ruling. As of September 30, 2008, the Company had a $7,550 long-term receivable for the recovery of these costs from WVDOH and a $7,550 long-term liability for the obligations under the ruling.

 
(14) Segment Information

The Company extracts, processes and markets steam and metallurgical coal from surface and deep mines for sale to electric utilities, steel and coke producers, and industrial customers. The Company operates only in the United States with mines in the Central Appalachian and Northern Appalachian regions. The Company has one reportable segment: Coal Operations, which as of September 30, 2008, consisted of 35 underground mines and 27 surface mines located in Central Appalachia and Northern Appalachia. Coal Operations also includes the Company's coal sales function, which markets the Company's Appalachian coal to domestic and international customers. The All Other category includes the Company's equipment sales and repair operations, as well as other ancillary business activities, including terminal services, coal and environmental analysis services, and leasing of mineral rights. In addition, the All Other category includes the operations of the Company's road construction businesses. The Corporate and Eliminations category includes general corporate overhead and the elimination of intercompany transactions. The revenue elimination amount represents inter-segment revenues. The Company evaluates the performance of its segment based on EBITDA from continuing operations which the Company defines as income from continuing operations plus interest expense, income tax expense, and depreciation, depletion and amortization, less interest income.

Operating segment results and capital expenditures for the three months ended September 30, 2008 and segment assets as of September 30, 2008 were as follows:
                                 
                   
Corporate
         
   
Coal
   
All
   
and
         
   
Operations
   
Other
   
Eliminations
   
Consolidated
 
Revenues
 
$
                    701,304
   
$
                 24,562
   
$
                      (10,880
 
$
                    714,986
 
Depreciation, depletion, and amortization
   
                      39,669
     
                   1,874
     
                             403
     
                      41,946
 
EBITDA from continuing operations
   
                    121,895
     
                 16,051
     
                      (20,969
   
                    116,977
 
Capital expenditures
   
                      37,950
     
                      846
     
                             629
     
                      39,425
 
Total assets
   
                 1,653,331
     
               139,137
     
                      (67,155
   
                 1,725,313
 
                                 
 
- 15 -


Operating segment results and capital expenditures for the nine months ended September 30, 2008 and segment assets as of September 30, 2008 were as follows:
                                 
                   
Corporate
         
   
Coal
   
All
   
and
         
   
Operations
   
Other
   
Eliminations
   
Consolidated
 
Revenues
 
$
                 1,928,532
   
$
                 69,610
   
$
                      (37,853
 
$
                 1,960,289
 
Depreciation, depletion, and amortization
   
                    124,972
     
                   4,567
     
                          1,220
     
                    130,759
 
EBITDA from continuing operations
   
                    395,376
     
                 24,732
     
                      (72,043
   
                    348,065
 
Capital expenditures
   
                    107,928
     
                   1,330
     
                          1,618
     
                    110,876
 
Total assets
   
                 1,653,331
     
               139,137
     
                      (67,155
   
                 1,725,313
 
                                 

Operating segment results and capital expenditures for the three months ended September 30, 2007 and segment assets as of September 30, 2007 were as follows:
                         
               
Corporate
       
   
Coal
   
All
   
and
       
   
Operations
   
Other
   
Eliminations
   
Consolidated
 
Revenues
  $ 500,857     $ 17,581     $ (9,051 )   $ 509,387  
Depreciation, depletion, and amortization
    41,863       1,646       415       43,924  
EBITDA from continuing operations
    75,914       4,286       (14,437 )     65,763  
Capital expenditures
    20,908       17       72       20,997  
Total assets
    1,305,155       120,133       (253,737 )     1,171,551  
                                 

Operating segment results and capital expenditures for the nine months ended September 30, 2007 and segment assets as of September 30, 2007 were as follows:
                                 
                   
Corporate
         
   
Coal
   
All
   
and
         
   
Operations
   
Other
   
Eliminations
   
Consolidated
 
Revenues
 
$
          1,354,822
   
$
           48,785
   
$
              (28,281
 
$
          1,375,326
 
Depreciation, depletion, and amortization
   
             112,047
     
             4,571
     
                     949
     
             117,567
 
EBITDA from continuing operations
   
             208,723
     
             9,757
     
              (41,604
   
             176,876
 
Capital expenditures
   
               83,077
     
                821
     
                  1,126
     
               85,024
 
Total assets
   
          1,305,155
     
         120,133
     
            (253,737
   
          1,171,551
 
                                 

Reconciliation of EBITDA from continuing operations to income from continuing operations:
                                 
   
Three Months Ended
   
Nine Months Ended
 
   
September 30,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
EBITDA from continuing operations
 
$
     116,977
   
$
       65,763
   
$
     348,065
   
$
     176,876
 
Interest expense
   
        (6,995
   
      (10,171
   
      (33,594
   
      (30,214
Interest income
   
         2,725
     
            249
     
         5,702
     
         1,343
 
Income tax expense
   
        (5,895
   
        (2,484
   
      (22,930
   
        (6,875
Depreciation, depletion and amortization
   
      (41,946
   
      (43,924
   
    (130,759
   
    (117,567
Income from continuing operations
 
$
       64,866
   
$
         9,433
   
$
     166,484
   
$
       23,563
 
                                 
 
The Company markets produced, processed, and purchased coal to customers in the United States and in international markets. Export revenues totaled $371,310 and $1,008,301 or approximately 53% and 52% of total coal and freight revenues for each of the three months and nine months ended September 30, 2008, respectively. Export revenues totaled $207,743 and $507,612 or approximately 42% and 38% of total coal and freight revenues, respectively, for each of the three months and nine months ended September 30, 2007.
 

- 16 -


(15) Cliffs Natural Resources Inc. Merger

On July 15, 2008, the Company entered into a definitive merger agreement pursuant to which, and subject to the terms and conditions thereof, Cliffs would acquire all outstanding shares of the Company in a stock and cash transaction.  Under the terms of the agreement, for each share of the Company’s common stock, Company stockholders would receive 0.95 Cliffs' common shares and $22.23 in cash.

The transaction is subject to shareholder approval (voting now set for November 21, 2008) as well as the satisfaction of customary closing conditions and regulatory approvals. On August 22, 2008, the Federal Trade Commission granted early termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act of 1976.  Provided that the shareholders’ approvals are obtained and all other closing conditions are satisfied or waived, the transaction is expected to close as soon as practicable after November 21, 2008.  The agreement contains customary break up fees if the transaction does not close.
 
On November 3, 2008, the Company filed an action in the Delaware Court of Chancery to obtain an order to require Cliffs to hold its shareholders meeting to approve the pending merger with the Company, as scheduled, at 11:00 am on November 21, 2008.  This is the time and date for the special meetings of the shareholders of both companies specified in the joint proxy statement/prospectus for the merger mailed by the companies to their shareholders on October 23, 2008.
  
 
(16) Discontinued Operations

Gallatin Materials, LLC

On September 26, 2008, the Company completed the sale of its interest in Gallatin, a lime manufacturing business, to an unrelated third party for cash in the amount of $45,000.  The proceeds were used in part to repay the Gallatin loan facility outstanding with NedBank Limited in the amount of $18,227.  An escrow balance of $4,500 was established and the Company has agreed to indemnify and guarantee the buyer against breaches of representations and warranties in the sale agreement and contingencies that may have existed at closing and materialize within one year from the date of the sale.    The Company recorded a gain on the sale of $13,635 in the third quarter.  The results of operations for the current and prior periods have been reported as discontinued operations.  Previously, the results of operations were reported in the All Other segment of our business.

The following table reflects the activities for the discontinued operations for the three months and nine months ended September 26, 2008 and September 30, 2007:
                         
   
Three Months Ended
   
Nine Months Ended
 
   
September 26,
   
September 30,
   
September 26,
   
September 30,
 
   
2008
   
2007
   
2008
   
2007
 
                         
Total revenues
  $ 3,040     $ -     $ 6,863     $ -  
Costs and expenses
    (6,565 )     (759 )     (13,206 )     (2,160 )
Gain on sale of discontinued operations
    13,635       -       13,635       -  
Income (loss) from operations
    10,110       (759 )     7,292       (2,160 )
Other income (expense)
    (1,391 )     86       (1,930 )     107  
Income tax (expense) benefit
    (4,011 )     121       (2,606 )     380  
Minority interest in loss from operations
    289       68       490       155  
Income (loss) from discontinued operations
  $ 4,997     $ (484 )   $ 3,246     $ (1,518 )
                                 
 
The assets and liabilities of the discontinued operations as of September 26, 2008 and December 31, 2007 are shown below:
             
   
September 26,
   
December 31,
 
   
2008
   
2007
 
Current assets
  $ 1,066     $ 7,307  
Property, plant, and equipment, net
    27,102       23,914  
Other assets
    2,772       3,731  
Total assets
  $ 30,940     $ 34,952  
                 
Current liabilities
  $ 5,431     $ 5,280  
Noncurrent liabilities
    24,429       20,668  
Other liabilities
    465       553  
Total liabilities
  $ 30,325     $ 26,501