November 29, 2012 / 8:36 PM / in 5 years

TEXT-S&P rates Armstrong Energy 'B-'

Overview
     -- U.S.-based coal miner Armstrong Energy Inc. is seeking to raise $200 
million in senior secured notes.
     -- The company plans to use proceeds from the issuance to reduce 
indebtedness, as well as for general corporate purposes and for 
transaction-related fees and expenses.
     -- We are assigning our 'B-' corporate credit rating to Armstrong and our 
'B-' issue-level rating to the company's proposed senior secured notes. The 
recovery rating on the proposed notes is '4'.
     -- The rating outlook is stable, reflecting our view that Armstrong's 
liquidity position and multiyear customer contracts will support credit 
metrics that are in line with the rating, despite weak coal markets and the 
company's relatively high capital expenditure requirements. 

Rating Action
On Nov. 29, 2012, Standard & Poor's Ratings Services assigned its 'B-' 
corporate credit rating to St. Louis, Mo.-based Armstrong Energy Inc. The 
outlook is stable.  

At the same time, we assigned our 'B-' issue-level rating (the same as the 
corporate credit rating) to the company's proposed $200 million senior secured 
notes due 2019. The recovery rating is '4', indicating our expectation of 
average (30%-50%) recovery for bondholders in the event of a payment default. 
The company is offering the notes pursuant to Rule 144a with registration 
rights. 

Rationale
The corporate credit rating takes into account our view of the company's 
business risk profile as "vulnerable" and its financial risk profile as 
"highly leveraged." Armstrong is a pure-play coal producer that generated 
revenues of about $360 million and EBITDA of about $50 million in the 
trailing-12-month period ended Sept. 30, 2012. We based our business risk 
score  on our view of the company's participation in the competitive and 
highly cyclical coal industry. The assessment reflects currently weak industry 
conditions and the challenges of coal mining, which include price volatility, 
weather-related disruptions, and increasingly stringent environmental and 
safety regulations. Although Armstrong enjoys certain logistic and cost 
advantages from having contiguous mines, having all of its mines in 
Centerview, Ky., poses concentration risk, in our view. Specifically, the 
company focuses on one type of coal and relies on a limited number of 
customers for the bulk of its revenues. We consider Armstrong's financial risk 
profile to be highly leveraged based on year-end expectations of around 7.5x 
leverage (adjusted most notably for about $104 million in long term 
obligations), estimated pro forma interest coverage of 1.5x, and adequate 
liquidity.

Our base-case scenario anticipates that Armstrong will generate revenues of 
roughly $420 million and $450 million in 2013 and 2014 respectively. This is 
driven by Armstrong's demonstrated, albeit short, history of growing 
production from 4.7 million tons in 2009 to an estimated 8.4 million tons for 
2012, representing a compound annual growth rate of 22%. However, we expect 
near-term growth to be much more moderate as the company continues to mature. 
We assume flat pricing of roughly $45 per ton in 2013, and we project a 
marginal increase for 2014. We would expect some margin compression as 
production mix slowly shifts from surface to underground mining, which can be 
more expensive to produce. We expect the company to generate EBITDA of 
approximately $50 million and $55 million in 2013 and 2014, respectively.  

Pro forma for the transaction, we expect Armstrong to have total debt 
(including adjustments for retirement and other long term obligations) of $345 
million, leverage of about 7.5x, and interest coverage of about 1.5x. In our 
view, Armstrong runs an asset-intensive business, with property, plant and 
equipment accounting for over 75% of all assets, and the 2013 plan includes 
capital expenditures in the $25 million range. We anticipate the bulk of cash 
flow from operations going towards capital expenditures in 2013.
 
Armstrong is a regional distributor of thermal coal with seven contiguous 
mines in the Illinois Basin. The company was the sixth-largest producer of 
Illinois Basin coal in fiscal 2011, producing approximately 6% of the total 
Illinois Basin coal. Armstrong produced 8.1 million tons of coal in the 12 
months ending Sept. 30, 2012, and controls 326 million tons of proven and 
probable reserves. Production has grown steadily as the company continues to 
focus on its customer base of scrubbed power plants in the Mid-Atlantic, 
Southeastern, and Midwestern states. Although characterized by the high sulfur 
content of Illinois Basin coal, Armstrong's coal has comparatively low levels 
of chlorine, making it less corrosive to electric generation equipment. 
Yorktown Partners LLC, an energy-only private equity fund with approximately 
$3.0 billion in assets under management, owns substantially all of Armstrong's 
outstanding stock and has committed more than $480 million to Armstrong and 
Illinois Basin investments since 2006.

Liquidity
Armstrong's liquidity position is "adequate," in our view. Relevant aspects 
and assumptions in the company's liquidity profile include:
     -- Liquidity sources, which primarily consist of cash on the balance 
sheet and availability under the ABL, will exceed uses (largely capital 
expenditures) by at least 1.2x over the next 12-18 months;
     -- Liquidity sources will continue to exceed uses, even if EBITDA were to 
decline by 15%; and
     -- Compliance with assumed financial maintenance covenants would likely 
survive a 15% drop in EBITDA.

Recovery analysis
The 'B-' rating on the proposed senior secured $200 million notes is based on 
preliminary terms and conditions. The recovery rating on the proposed notes is 
'4', indicating our expectation of average (30%-50%) recovery for bondholders 
in the event of a payment default under our scenario. The company is selling 
the notes pursuant to Rule 144a with registration rights. For the complete 
recovery analysis on Armstrong, see our recovery report to be published on 
RatingsDirect shortly following the release of this report.

Outlook
Our stable rating outlook for Armstrong reflects our view that the company's 
operating performance will support credit metrics that are in line with our 
expectations for the 'B-' corporate credit rating. We anticipate that 
Armstrong's products will produce EBITDA in the range of $45 million to $55 
million annually over the next 12-24 months, with leverage starting at about 
7.5x and unwinding to about 6.5x, and interest coverage rising from 
approximately 1.5x to 1.7x during that time frame. This view assumes flat 
pricing for 2013 at roughly $45, with a marginal increase projected for 2014 
with tons sold increasing at an average rate of just under 7% over the period. 

A higher rating is unlikely in the near term, given our view that leverage 
will likely remain near current levels for some time. This is based on low 
expected cash flow generation, high capital expenditure requirements, and weak 
conditions in the coal industry. However, a higher rating would be contingent 
on decreasing leverage levels below 5x and increasing funds from 
operations-to-debt above 12% as well as any changes that might mitigate some 
of the concentration risks associated with the business.

We could lower the rating if the company is unable to decrease leverage 
levels, or if its liquidity position deteriorates such that we view its 
liquidity to be "less than adequate." This could occur if the company loses a 
major customer, or has some sort of prolonged disruption in its operations. 
This could also happen if the company decided to take any capital expenditure 
or M&A actions that materially decreased net debt levels.

Related Criteria And Research
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
     -- Key Credit Factors: Methodology And Assumptions On Risks In The Mining 
Industry, June 23, 2009
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Ratings List

New Rating; Outlook Assigned

Armstrong Energy Inc.
 Corporate Credit Rating                B-/Stable/--       

New Rating

Armstrong Energy Inc.
 Senior Secured
  US$200 mil sr secd nts due 2019       B-                 
   Recovery Rating                      4                  

Complete ratings information is available to subscribers of RatingsDirect on 
the Global Credit Portal at www.globalcreditportal.com. All ratings affected 
by this rating action can be found on Standard & Poor's public Web site at 
www.standardandpoors.com. Use the Ratings search box located in the left 
column.

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