Arch Coal, Inc. (ARCH) Q1 2020 Earnings Call Transcript

Arch Coal, Inc. (ARCH 0.69%)
Q1 2020 Earnings Call
Apr 23, 2020, 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, good day, and welcome to the Arch Coal first-quarter 2020 earnings conference call. Today's conference is being recorded. I would now like to turn the call over to Deck Slone, senior vice president of strategy. Please go ahead.

Deck Slone -- Senior Vice President of Strategy

Good morning from St. Louis, and thanks for joining us today. While we are conducting this morning's call from Arch's boardroom, I want to assure you that the team is widely spaced and following CDC guidelines closely. Before we begin, let me remind you that certain statements made during this call, including statements relating to our expected future business and financial performance, may be considered forward-looking statements according to the Private Securities Litigation Reform Act.

Forward-looking statements by their nature address matters that are, to different degrees, uncertain. These uncertainties, which are described in more detail in the annual and quarterly reports that we file with the SEC, may cause our actual future results to be materially different than those expressed in our forward-looking statements. We do not undertake to update our forward-looking statements, whether as a result of new information, future events or otherwise, except as may be required by law. I'd also like to remind you that you can find a reconciliation of the non-GAAP financial measures that we plan to discuss this morning at the end of our press release, a copy of which we have posted in the Investors section of our website at archcoal.com.

As you know, John Eaves will be retiring as CEO and transitioning to the executive chair role next week. He plans to say a few words at the start of this morning's call before turning the proceedings over to Paul Lang, our incoming CEO, and the rest of the team. Also participating in this morning's call will be John Drexler, our incoming COO; and Matt Giljum, our incoming CFO. After our formal remarks, we'll be happy to take your questions.

With that, I'll now turn the call over to John Eaves.

John Eaves -- Executive Chairman

Thanks, Deck. Good morning, everyone. I hope you and your families are staying healthy and safe during this unique and challenging time. As you're aware, I'll be transitioning to a new role as Arch's executive chair at the company's annual meeting next week.

I want to take a few minutes here at the outset of this morning's call to say a few words about my time as CEO, to talk about the leadership team and the workforce as a whole and to express my great confidence in Arch's future. Let me start, though, by saying thanks to all of you for your interest, your support, your friendship during my eight years as CEO. I've enjoyed the frequent and close interaction with so many of you over the years and have benefited greatly from our exchanges. I look forward to continuing the relationship into the future.

Second, I want to ensure that the company could not be in better hands. As you know, we've been planning the succession process for several years now. And there's simply no one better equipped than Paul to lead the Arch team forward into the future. He's played a critical role here at Arch for many years and brings tremendous experience and expertise in every aspect of our business.

In addition, he's supported by an outstanding senior officer team, one that's contributed significantly to the company's growth and success over the years and one that's well equipped to carry the team to even greater success in the future. In fact, the entire Arch workforce is world-class, in my opinion, and represents the company's single, most compelling competitive advantage. Finally, I want to say how excited I am about the company's outlook as I transition into this new role with our premier metallurgical franchise, high potential growth prospects, industry-leading safety and environmental stewardship credentials and tremendous human assets, I firmly believe that Arch is positioned for great things. While I'm passing the baton as CEO, I'm excited about the prospects of continuing to work with the board, with Paul and the entire management team in leading the company forward.

In fact, I wouldn't miss it for the world. Again, many thanks for all your great support in the past, and thanks in advance for all your ongoing interest going forward. With that, I'll now turn the call over to Arch's incoming CEO, Paul Lang. Paul?

Paul Lang -- Chief Executive Officer

Thank you, John, and good morning, everyone. We certainly appreciate you taking time this morning given the broader issues we're all facing personally. I too hope that you and your families are navigating through the crisis in as positive a fashion as can be expected. I'd like to start by thanking the entire Arch workforce for the tremendous job they're doing during this challenging time.

As you know, the federal government in each of the states in which we operate have designated resource companies and essential service providers. The Arch team is proud of the role it is playing in keeping the country safe and functioning during this difficult period. At the same time, our people are balancing increasingly complex personal lives even as they deliver on the work front in their everyday exemplary fashion. We applaud them for their resilience, their professionalism and their dedication.

Turning now to our first-quarter results. I'm pleased to report that to date, we're continuing to manage through the current crisis in a successful and effective fashion with a keen focus on the things we can control. Our core coking coal portfolio continues to demonstrate operational excellence. We're making significant progress in the buildout of Leer South, and we've taken steps to further fortify our liquidity.

While our thermal segment struggled in the first quarter due to low natural gas prices and historically weak power markets, we're moving quickly to adjust our cost structure to match the softening thermal demand. In short, we're executing effectively and driving forward on numerous fronts as we adapt to the current market reality. In Q1, our core metallurgical segment delivered another strong cost performance. While John Drexler will provide some additional commentary shortly, I would like to highlight the fact that our average cash cost last quarter was on the low end of the guidance range and solidifies Arch's first quartile cost position, leading the way once again with our Leer mine which underscores the reasons why we're so eager to get its sister mine, Leer South, up and running as soon as possible.

Turning to our legacy thermal operations. Market conditions have come under intense pressure recently in the face of exceptionally low natural gas prices and a rolling shutdown of the U.S. economy that commenced in mid-March. As a result, we reported a negative margin in both of our thermal segments in the first quarter.

Anticipating that those challenges are likely to persist at least through Q2, we're moving quickly to adjust our production plans and cost structure to be prepared for the potential of lower sales for the balance of the year. We're cautiously optimistic that these efforts will deliver improved results in the second half of 2020, recognizing, of course, that the unknown duration of the economic shutdown makes forecasting exceptionally difficult. As we maintain our sharp focus on executing in our existing mines, we're also working to ensure that our plans for long-term value creation and growth remain on track. Most significantly, we're continuing to push forward with the development of the world-class Leer South mine at a rapid pace.

At quarter end, we had expended nearly 45% of the projected capital required for the project, and we're now only five quarters away from the expected longwall start. While it's difficult to predict the market turn and even harder in the current macro environment, we believe that Leer South could be ramping up production into a recovering market. In addition, we've taken steps to align our corporate support structure with our changing operating profile and strategic direction. In late February, we initiated a voluntary separation program that resulted in a 30% reduction in our corporate staff.

Obviously, it's always hard to say goodbye to friends and colleagues, particularly those who have contributed greatly to the organization's success over the years. Given this though, we are pleased to be able to go through this process in a way that worked for both their personal interest and the company's long-term needs. We see this adjustment as appropriate and healthy given our ongoing pivot toward metallurgical markets as well as our progressively smaller thermal footprint. We also continue to pursue our joint venture with Peabody to combine our thermal operations in the Powder River Basin in Colorado.

We remain confident that the business combination will prove beneficial to all stakeholders including our customers, employees and shareholders by creating a long-term, efficient, stable and cost competitive supply platform in an increasingly difficult energy marketplace. The Federal Trade Commission has challenged the proposed joint venture in federal court in St. Louis. We respectfully disagree with the FTC's position and along with Peabody, will be vigorously defending the transaction.

The court has set the date to commence the proceedings in mid-June, and we expect to have a decision by late this summer. Given the process is now in litigation, we will not be able to answer any questions related to proceedings. Finally, we're taking the necessary steps to ensure that we maintain ample liquidity through the full extent of the crisis, however long that may prove to be. We completed a long timed and attractive equipment financing effort in the first quarter.

We trimmed $20 million for our capital spending plans for the year, primarily at our thermal operations, and we just announced the board's decision to temporary suspend our quarterly dividend. Longer term, the board continues the view of sustainable, recurring dividend as an important component to Arch's value proposition. In short, the current environment has served to validate our long-standing commitment of maintaining an exceptionally strong balance sheet, and recent moves have started to bolster that position further. Looking ahead, we expect a challenging market environment through the balance of the year on both the metallurgical and thermal fronts.

After holding up reasonably well for much of the first quarter, steel markets have weakened considerably in the recent weeks. Major steel producers in most regions have announced plans to curtail output and idled less furnace capacity. Those developments are starting to take a toll on global metallurgical markets. While steel markets should improve as the economy stabilizes and then begin to recover, we expect all of this to take some time.

Fortunately, we believe we're well positioned to weather such a period. In summary, we're navigating through the current environment in a precise and careful way. We're working diligently to protect our people, doing our part to limit the spread of the virus and we're executing on every aspect of the business over which we have control. With our low cost assets, fortified balance sheet, solid book of business and skilled workforce, we believe we're well equipped for even a protracted period of market weakness.

At the same time, we plan to be ready to respond to improving market conditions as the global economy stabilizes and ultimately recovers. With that, I'll turn the call over to John Drexler for further thoughts on our operational performance and outlook. John?

John Drexler -- Chief Operating Officer

Thanks, Paul, and good morning, everyone. It's a pleasure to be reporting to you in my new role as incoming chief operating officer, and it's exciting to me personally to be working even more closely with the operations and marketing teams. They are doing an outstanding job in the current environment, and it's an honor to be a small part of that equation. I'd like to start my remarks by addressing our response to the current COVID-19 crisis.

Across our operations, we could not be more proud of our men and women who have embraced the challenge of this pandemic head on. We have instituted policies and procedures across our organization to protect our employees during the outbreak, including staggering shift times to limit the number of people in common areas at any one time, limiting meetings and meeting sizes, continual cleaning and disinfecting of high-touch and high-traffic areas, limiting contractor access to our properties, eliminating business travel and instituting work from home for most of our employees in the corporate office. We plan to keep these policies and procedures in place for as long as necessary and to continually evaluate enhancements. We recognize that the COVID-19 outbreak and reactions to it will also impact both our customers and suppliers.

To date, we have not had any significant issues with critical suppliers, but we continue to communicate with them and closely monitor their situations to ensure that we have access to the goods and services required to maintain our operations. In short, we are doing everything we can to protect our employees, and I commend them for making a difference as we manage through these difficult times. As Paul noted, our core metallurgical franchise continues to perform at a very high level even as our people take every precaution to ensure that we are maintaining the safest and healthiest work environment possible. During the quarter, we shipped 1.5 million tons of metallurgical coal, which was generally in line with expectations considering the typical seasonal closure of the Great Lakes shipping channels.

The team also delivered an impressive cost performance, particularly in light of the many additional precautions related to the virus. The segment's average cash cost was $58.42 per ton which, as Paul noted, positions us well to the left on the U.S. cost curve and arguably $20 to $25 per ton below the median for U.S. coking coal mines.

The Leer mine continue to set the pace for the portfolio with another mid-$40 per ton cash cost performance. Perhaps most importantly, we again demonstrated strong and consistent progress at Leer South. We achieved excellent rates of advance in the development of the first longwall panel, and we remain well on track for the longwall start-up in the third quarter of 2021. It's worth noting that the first longwall panel is more than two miles long, which serves to underscore the highly advantageous nature of the Leer reserve base.

Importantly, the Leer South team is also doing an outstanding job of maintaining tight capital discipline during the development process. As you will recall, we had projected a total price tag of $360 million to $390 million when the project was first announced, and we remain very comfortable with that estimate. We had invested a total of $165 million in the project at quarter end, which, as indicated previously, takes us to roughly 45% of the projected capital spend at the midpoint of the guidance. It's exciting to be approaching the halfway point of the development and more exciting still to be just five quarters or so from the longwall's anticipated start up.

To reiterate, we view Leer South as the industry's premier growth project, and we expect it to be transformational for our metallurgical segment and for the company as a whole. With its start-up, we expect to increase our High-Vol A output to eight million tons annually to enhance our already advantageous position on the U.S. cost curve, to strengthen our coking coal profit margins across a wide range of market conditions and to cement our position as the leading supplier of High-Vol A coal globally. Let me say again, we are making excellent headway, and we remain intensely focused on staying on schedule and on budget.

Before moving on to our other segments, let me comment briefly on our metallurgical sales position. At present, we have a meaningful book of business in place for 2020, with a total of 5.9 million tons committed as of March 31, and we are working closely with customers to ensure those volumes move as planned. As we sit here today, we anticipate shipping the same amount of coking coal in Q2 as we did in Q1. While we are preparing for the possibility of only limited incremental sales for the remainder of the year, we continue to engage constructively with customers and potential customers, including some that have struggled to secure previously contracted tons from other suppliers.

Given the lack of visibility to near-term forward demand as the world manages through the global pandemic, we are suspending sales volume guidance regarding the placement of any incremental tons. Correspondingly, we will no longer provide cost guidance either. Additionally, we are reducing our capex guidance for 2020 by $20 million, predominantly to reflect reductions in the expected capital spend at our thermal operations. Let's turn now to our legacy thermal segments, which experienced lower volume levels in the first quarter in the face of very low natural gas prices and historically weak power markets.

As a result of these difficult market conditions, both the Powder River Basin and Other Thermal segments reported negative cash margins, a situation we are seeking to rectify. As we have demonstrated repeatedly in recent years, we are fully capable over time of adjusting our operating structure and our operating costs to align with lower demand levels. Given the sudden nature of the market decline, we anticipate significant margin compression again in Q2. However, we currently expect our cost control efforts to deliver a stronger performance in the year's second half, recognizing again the difficulties of forecasting in the current environment.

As reported in the guidance table this morning, we have commitments totaling just over 58 million tons in the Powder River Basin and 3.8 million tons in the Other Thermal segment. Again, the goal is to restore both our legacy thermal segments to profitability even if incremental sales proved thin to nonexistent for the balance of the year. In closing, we would be remiss if we didn't take a moment to celebrate several significant successes on the safety front. During the first quarter, a time when concerns about the current health crisis were on the rise, our Beckley, West Elk and Coal Creek mines all operated injury-free.

That's an impressive accomplishment and one we strive to replicate at every one of our mines every quarter. With that, I will now turn the call over to our incoming CFO, Matt Giljum. Matt?

Matt Giljum -- Chief Financial Officer

Thanks, John, and good morning, everyone. Before I begin, let me say that I too am enthusiastic about the opportunity to serve Arch and its shareholders in this new capacity. Like the rest of the team, I believe Arch is exceptionally well positioned for long-term growth and success, and I look forward to playing a part in helping the company realize its great potential and deliver on its promising value proposition in the days ahead. Moving now to the financials.

I will be focusing my remarks on cash flows and liquidity. For the first quarter, cash from operating activities was an outflow of $12 million, which was primarily the result of negative changes in working capital of nearly $35 million. This is somewhat typical for the first quarter as inventories built in advance of the opening of the Great Lakes shipping channels and payables historically are at their lowest point of the year. Capital spending for the quarter totaled $87 million, with $62 million of that related to Leer South.

Both of those amounts are expected to be the highest of the year. Another item to highlight during the quarter was the execution of our four-year $54 million equipment financing, which carries an average interest rate of 6.3%. And we believe our ability to get this done at favorable terms differentiates us from many in our industry and is a reflection of and testament to our strong balance sheet and highly competitive operating profile. As we have discussed, this financing bolsters our liquidity while we manage through the current environment while only modestly increasing leverage on our strong balance sheet.

As we look at the remainder of 2020, while it is clearly a challenging time to try to forecast, we expect to see improved cash flows for the back three quarters of the year. As noted in our release, we will realize approximately $100 million of cash flow benefits over the remainder of the year. This includes the refund of the remainder of our alternative minimum tax credits, benefits from the previously disclosed federal land settlement, additional insurance proceeds and the deferral of social security tax from the CARES Act. From a timing perspective, we expect more than 80% of this benefit to be realized by the end of the third quarter.

Looked at one way, we expect these supplemental cash flows to be nearly equivalent to the capital spending requirements for Leer South over the next two quarters. Additionally, management and the board have taken actions that will benefit cash flows and preserve liquidity. As Paul mentioned, Arch's board has temporarily suspended the recurring quarterly dividend, a savings of more than $7.5 million per quarter. Combined with the reduced capital spending levels, these actions result in more than $40 million of savings for the remainder of 2020.

Lastly, we expect savings of $6 million in our SG&A expense in the back half of the year, offsetting the severance charges from the voluntary separation plan. Beginning in 2021, we expect the annual savings from this program to be in the range of $12 million to $15 million. As a reminder, $18 million of our annual SG&A expense is in the form of noncash stock compensation. Before moving on, I would stress that the actions taken to date are responsive to the market conditions that we see today.

Clearly, these are uncertain times, and we are ready and well equipped to take additional actions to preserve cash should they become necessary. Turning now to our liquidity position. We ended the quarter with $323 million of total liquidity with $234 million of that in cash. While this is below the range we have historically targeted for liquidity, given the cash flow benefits we will realize over the remainder of the year and the other actions we have taken, we believe this is ample liquidity to run the business and continue the development of Leer South.

With that said, we continue to explore opportunities to raise additional modest levels of capital to bolster liquidity and help facilitate the construction of the project. Before taking questions, I'd like to underscore the company's positive long-term outlook when it comes to cash generation. While facing today's challenges, it is easy to lose sight of the fact that we are just over a year away from a significant transformation for Arch. When the Leer South longwall starts up, Arch will meaningfully reduce its metallurgical cost profile and capital spending needs while boosting metallurgical volumes.

In the process, we expect to greatly enhance the cash-generating capabilities of our core metallurgical segment. In the meantime, our already-solid foundation of low-cost operations and strong balance sheet, combined with numerous liquidity management alternatives, will allow us to manage through this uncertain time. With that, we are ready to take questions. Operator, I will turn the call back over to you.

Questions & Answers:

Operator

Thank you. [Operator instructions] And we will take our first question from David Gagliano with BMO Capital Markets.

David Gagliano -- BMO Capital Markets -- Analyst

Great. Thanks for taking my questions. First of all, congratulations, John, on the transition. It's been great working with you in various capacities over the last 20-plus years, and I wish you the best of luck in terms of the next move and on your side.

Just switching over to the questions. I wanted to kind of drill down a bit more on the decision process with regards to the capital allocation and liquidity. Clearly, I think a lot of us that look beyond 2020 see a big shift in cash generation positive, obviously, as we get out to 2021. But at the same time, given everything that's going on right now, all the uncertainty, obviously, we've seen a big collapse in steel production.

And some of the forecasts we're seeing is that still consumption doesn't get back to pre-COVID-19 levels until 2023. Given all the uncertainty and given the liquidity sort of squeezed a bit, why not just pause Leer South for a bit and preserve some of that liquidity, push it out, leave it in the ground until the world needs that met coal a bit more?

Paul Lang -- Chief Executive Officer

David, this is Paul. I'll start first. Look, I think what you're asking is a fair question. Frankly, it's one we talked about regularly.

But what I keep coming back to is this is a unique opportunity for the company. And arguably, it will give Arch 2 of the top three coking coal mines in the United States. Probably, it will also be the top two margin lines in the United States. It's going to lower our cost position, and we're going to be producing a high-quality, high-demand product.

So when you look at the price tag of $360 million to $390 million, look, when you look at that on a comparable of what's been bought and sold in the U.S. or internationally, I have to say it quickly, but it is a bargain. More importantly, if you recall the analysis we did, even at today's current prices, it's about 48-month payback on this project. When you think about it, five quarters from now, which isn't very long, we could be starting the longwall into an improving market.

But as you say, and to be clear, this is not kind of a band to Torpedo, we're going to do this no matter what. Right now, we have the balance sheet and the liquidity to make it happen as we see the market unfolding. But I have to say, if the current black swan event turns into a nuclear winter or whatever analogy you want to use. We're going to have to be flexible in what we do.

We have a very large lever here to pull if liquidity gets tight.

John Drexler -- Chief Operating Officer

So Dave, this is John Drexel. I think the only other color there, and Paul referenced it in the four-year payback opportunity. Even at today's pricing levels, when you look at the expected cost structure at Leer South and even with a very low price for High-Vol A product, our expectation on an annual run rate basis is we would be generating $90 million a year of cash flow, of EBITDA, from that operation. So as Paul indicated, we're clearly evaluating everything.

We have this as a very big lever. But as we sit here today, we think actually, the timing is rather interesting, and we're going to continue to push forward with the opportunity.

Deck Slone -- Senior Vice President of Strategy

David, a final point. It's Deck. I mean the fact is we're halfway there, right? So the fact is that half the capital has been expended. We only have about $200 million still to expend.

So really, that changes the equation as well. To get to those $30-plus margins that John just referenced doesn't require all that much more capital. Granted, these are unusual times. As Paul said, we'll continue to evaluate as we go forward.

But right now, that still feels like the smart way to go and the best value for our shareholders.

David Gagliano -- BMO Capital Markets -- Analyst

OK. I appreciate the additional color. Given the environment, in a situation where things stay the way they are or get worse over the next six months, for example. Is Arch's preference to tap at capital markets to continue to push ahead with Leer South? Or would it be to pause Leer South for a bit to preserve liquidity?

Matt Giljum -- Chief Financial Officer

Dave, this is Matt Giljum. I'd say in terms of tapping any capital markets, as we look at the more traditional high-yield markets and where our loan's trading today, I don't think that is an option that we think is very attractive today. We do think we have access to, I'll call them more alternative areas of capital that we could tap, and we're continuing to explore. And if those things come at a cost that's more reasonable, I think that's our preferred path to continue to look at things like that to raise capital and continue the project.

Paul Lang -- Chief Executive Officer

David, I guess, kind of finishing this up. Look, we've got a very silver view about what's going on. And if the world gets worse, we'll react. And we have other things we can do and we will probably do before we slow Leer South.

But Leer South is out there if we have to.

David Gagliano -- BMO Capital Markets -- Analyst

OK. Just last follow-up. What are those alternatives? Just roughly, like what do you mean when you say alternatives?

Paul Lang -- Chief Executive Officer

Yes. There's continuing reduction of our capex at the thermal operations, and there's a host of variety of things that we can do to cut costs further.

David Gagliano -- BMO Capital Markets -- Analyst

OK. I appreciate that. Thanks. The follow-up was actually meant toward the comment about alternative financing options as well.

What are the odds? That's OK.

Matt Giljum -- Chief Financial Officer

So clearly, with the equipment financing we just completed, we didn't use up the entirety of our equipment. We still have equipment at other locations that could be used in a similar manner and have capacity for that in the agreements that we have. We have other avenues in terms of other markets that we're exploring today that haven't traditionally been ones that the coal industry has been able to utilize. But hopefully, we'll be able to do that as we look at some of the unique spending aspects of Leer South and how those might qualify for other markets.

David Gagliano -- BMO Capital Markets -- Analyst

Thanks very much.

Operator

We will take our next question from Michael Dudas with Vertical Capital Research.

Michael Dudas -- Vertical Capital Research -- Analyst

I echo Dave Gagliano's comments, John, and congrats to Paul and John as well. Two things. First, with regard to COVID and your safety and what you've changed here given the CDC guidelines, etc., how has that changed operations, productivity those impact? These are things that need some help because of what you're doing? Or is that something as you move forward that is kind of being factored into some of your operating thoughts and your plans going forward?

John Drexler -- Chief Operating Officer

Michael, it's John Drexler. I think I've referenced it in some of my prepared remarks. We've taken aggressive actions across our portfolio to be responsive to the CDC guidelines and make sure we're adhering to them in every way possible. Just given all of those actions that we take, I'm very proud of the way that the operations have continued to perform and continue to operate.

When you're staggering start times, when you're reducing the number of people that are coming in and out of the mine at any point in time, there's some impact to productivity. But from our perspective, what we've seen so far and as reflected in the cost performance turned in by the met segment, we're performing as expected. And so very proud of them in the way that they're managing through this and through all of the challenges. But we're seeing minimal impact to the operational performance as a result of COVID-19.

We have had an issue at our West Elk operation. We did have a small group of employees, four on the same crew, test positive. That crew has been idled for an appropriate amount of time away from the operation in quarantine. The four gentlemen that have tested positive are doing well.

So we're hopeful and confident that, that crew will be able to come back here in relatively short order. But that's really the only impact that we've had directly of any positive cases and we've taken appropriate actions there. And even there, the impact operationally is being managed very well by the management team at our West Elk operation.

Paul Lang -- Chief Executive Officer

Michael, the only other color I'd give it is, I think we tried to be aggressive early in this, even in early March, about the precautions we were taking. And I think, clearly, it paid off. Look, the four people at West Elk, obviously, was a great concern. But in the end, we were able to limit it to a very small group.

As John said, I give nothing but applause to our people and the way they've handled this. Frankly, keeping them back is harder than pulling them to be more cautious.

Michael Dudas -- Vertical Capital Research -- Analyst

No, I understand that. That's great news, and good to hear from your end. Secondly, intrigued about your comments, I think, Paul, I think you made it, Paul, it might have been John, regarding inquiries from customers because of concerns about other suppliers. So maybe you can elaborate a little bit more on that.

Certainly, if the market is going to be as hard in the near term as most people believe, maybe is that something that you're prepared to deal with? Is it something that customers are not really focused on right now because they have their other issues? But could that emerge to be something that could actually start to benefit Arch and especially well capitalized mines like yourself as this thing eventually recovers?

John Drexler -- Chief Operating Officer

So Michael, yes. As Paul indicated, as we've said throughout the course of all of our comments, we're taking a very silver view and clearly seeing a very large impact industrywide to the steel producers. So we're very cognizant with that. But we have had inquiries that have come in, and maybe you can share some anecdotal kind of observations as well.

But as this whole COVID-19 issue has played out, as other operators have shut down whether in response to COVID-19 or demand concerns or inventory concerns that they've had, we've had a lot of inbound calls from several of our customers in wanting to know what our status was and concern that were we going to have any type of issues like that. So we took that as a positive sign. We've actually had a few inquiries for volumes as well. And I think it does speak to what you alluded to, that consumers are looking at us as someone that's well capitalized, has a good portfolio of great quality operations, great quality products.

So with all that said, I think, once again, very cognizant. We have had other customers call and want to discuss pushing out some volumes. Right now, all of those discussions are very modest, kind of within weeks or with one month to another and in small volumes to date. And so as we sit here today, our shipment book for Q2 remains robust.

We believe we're going to be able to manage it very well. We've got low inventory levels at our operations at the ports, so we're continuing to need to run the mines in good, healthy levels. So from that perspective, we do feel good about things, especially in the near term here.

Deck Slone -- Senior Vice President of Strategy

So Michael, it's Deck. Just to add to that. Look, we're really quite clear-eyed about the demand side, and we understand the pressures there. But as of last week, we still think that more than 50% of U.S.

coking coal production was shut down. As John said, for a range of reasons, high stockpiles, low commitment levels, perhaps, in some instances, but liquidity concerns. And our view is that while some of that is starting to come back, there's some simply can't operate in this price environment. So with a High-Vol A price today of $123, let's say, a blended price across products of, say, $120, that suggests a netback of maybe $80 to $85 at the mine.

That's what we think the midpoint of sort of costs would be for the average coking coal mine in the U.S. So you've got half the mines in the U.S. today arguably operating in a cash negative position. Commitments or no commitments, they're simply not going to be able to do that for long, given liquidity crunch.

So as a result, we've been called to step into the breach even in this environment, and fulfill obligations that others haven't been able to deliver on. So we certainly are that's a positive offset to, again, what we recognize is a very substantial step down in demand. But we're operating in a manner that allows us to be cash positive. I think our customers certainly understand that we're going to be there.

Those who need to fill in gaps know that we can step up. So that's certainly been advantageous.

Michael Dudas -- Vertical Capital Research -- Analyst

Yes. Low cost and liquidity is a great strategy, guys. Everybody stay healthy.

Operator

We will take our next question from Lucas Pipes with B. Riley FBR.

Lucas Pipes -- B. Riley FBR -- Analyst

Good morning, everyone. Congratulations to the [Inaudible] perspective.

Paul Lang -- Chief Executive Officer

Lucas, maybe if you can speak up or maybe speak in more directly. It's hard to hear you.

Lucas Pipes -- B. Riley FBR -- Analyst

Sorry about that. So good morning and congratulations to the team on your respective new chapters and roles, and they're all very well deserved. I wanted to follow-up on some of the earlier questions regarding kind of capital structure, and kind of what is your optimal capital structure? Is this maybe here a way to get to a higher net debt level? What do you think is the right level for Arch? And then what amount of liquidity are you comfortable with as you kind of navigate this environment and build out yourself?

Matt Giljum -- Chief Financial Officer

Lucas, this is Matt Giljum. In terms of a capital structure, as we look forward and see the Leer South project coming on and the cash flows that we see coming from that clearly, feel like we can support a little bit more debt than what we have had on the balance sheet historically. At the same time, we recognize what the strength of our balance sheet has allowed us to do, both recently and as we continue to explore other avenues for additional financing. So I clearly do not want to take on excessive debt.

But as we looked in and as we've talked over the last several quarters, something in the neighborhood of an additional $100 million to $150 million of debt, some of which we've taken with the equipment financing, makes sense given what we see for cash flows post Leer South. In terms of liquidity, obviously, we're kind of a little bit below here the target liquidity levels that we've set before. We think it's manageable within the parameters we see today. And some of the things that have kind of pinched liquidity here, we don't think are necessarily permanent.

Some of the working capital items I mentioned in my prepared remarks are things that really, we don't expect to see continue throughout the remainder of the year. So as we look at it, liquidity today is something that we feel we can manage very, very well. We don't think we need to try and build it back up immediately. But as we weather through this, we'll see maybe some fluctuations.

But something in the level we're at today is clearly comfortable with how we're running the business.

John Drexler -- Chief Operating Officer

And Lucas, this is John Drexler. Matt absolutely covered that very well. But from the old CFO here talking also, with the leverage that we're taking on by design and I think we've indicated this in the past, once we get to times of healthier cash flows, this debt, whether it's the equipment financing, which has a four-year amortizing by period or a lot of our debt is prepayable. Once that cash flows are healthier, we can be in a position once again, if we choose to strengthen that balance sheet.

We think there's great power in having a strong balance sheet in this industry that can see a lot of volatility into it. It's benefited us and will continue to benefit us, and we expect that we'll continue to benefit from it moving forward also.

Lucas Pipes -- B. Riley FBR -- Analyst

I appreciate that. That's very helpful. And then good job on the cost side and the met coal segment in Q1. And I know you haven't given guidance, but what's a good range for this year? And maybe in terms of just the cadence over the coming quarters, where do you think medical costs could shake out?

John Drexler -- Chief Operating Officer

Yes. So Lucas, we were clearly guiding from $58 to $62 a ton on the last call. We've suspended volume guidance. Obviously, the volume component can have a big impact on what the unit costs are.

However, as we look at the portfolio of the metallurgical assets, we think no matter where we go from a volume level, we're going to be able to continue to manage those costs very aggressively on the lowest end of the cost curve in the industry to allow us to continue to generate cash through the entirety of the market cycle. Since we've suspended guidance, it doesn't mean that there won't be more tons that won't move. We do continue to expect we're going to be able to move more tons. And once again, we believe we can still be within the range of the expectation that we set previously.

So kind of at that level of high $50 a ton, low $60 a ton cash cost, kind of wherever this market cycle continues to play out.

Lucas Pipes -- B. Riley FBR -- Analyst

That's that's very helpful color. Again, congratulations to each one of you and best of luck. Thank you

Operator

We will take our next question from Mark Levin with The Benchmark Company.

Mark Levin -- The Benchmark Company -- Analyst

OK. Great. Congratulations to everyone as well. John, very much enjoyed working with you over the years.

And congratulations to Paul and Matt and wish everyone the best. Just a few questions real quickly. So on the met market itself, maybe you guys can comment on price? I know Deck referenced prices a second ago in the High-Vol A market and just sort of across the U.S. Are you seeing discounts to those prices? Are those prices good prices to use? How is the pricing environment relative to what we're seeing in the indices right now?

Paul Lang -- Chief Executive Officer

Look, I'll start it, and I'll let the others kick in their thoughts, Mark. I think what you're seeing in the market right now is a lot of noise. While I think we believe the index prices are relatively close, we are seeing kind of some odd sales here and there that have pushed the indexes down a little bit. But as you look at our Q2 — our Q1 numbers, if you net back the rails, it's basically in line about where we should have been.

So look, I don't know that, that pressure won't continue in Q2 until some of this settles out. But right now, I think the indexes are close to what we're seeing in the actual physical market.

Deck Slone -- Senior Vice President of Strategy

Mark, I was just going to jump in and say I completely agree with that. I think the markets right now are so roiled, it's hard to say precisely. Obviously, as we know, U.S. East Coast, that's just an assessment, not an index.

Certainly, if you see much pressure from here below the assessed prices, you're going to see a lot of carnage already at these quoted prices. You're looking at loss of the U.S., the U.S. space that simply can't compete and can't produce on a cash positive basis. So as Paul said, while there are interesting trades out there, it's hard to envision much discounting below the current level simply because that just doesn't work for so many of our competitors.

Mark Levin -- The Benchmark Company -- Analyst

Yes. It makes sense. And just given where prices are, has there been any discussions or conversation about, let's say, Mountain Laurel or anything where might be somewhat lower quality coal and, I guess, no longer a longwall operation? Has there been any discussion about maybe idling some tons or just not necessary?

John Drexler -- Chief Operating Officer

So Mark, as we sit here today and as we just reported with the first-quarter call, the portfolio is operating well, right? And every one of the complexes is continuing to perform. At Mountain Laurel, as we've indicated, it's transitioning from the longwall operation as it was to a continuous minor operation. That transition continues. We, over the course of the first quarter, got the fifth unit operating there.

We're working to get them kind of in sequence, creating opportunities for them to be in their most productive environment. So every one of our operations, we look at closely in how they're performing where the market is. As we've always demonstrated in the past, Arch Coal is not afraid of idling operations that aren't performing, that aren't contributing to the portfolio. But as we sit here today, the portfolio is operating, we'll continue to monitor all of the operations and when the market goes.

And we'll keep everyone updated as we continue to manage through this market environment.

Mark Levin -- The Benchmark Company -- Analyst

Yes. That's helpful, John. And then final question, and I know you guys aren't giving any guidance, so I'll try to be respectful of that. But when we're just kind of thinking about Q2, you alluded to coal sales being similar met coal sales, I'm sorry, being similar in Q2 to Q1.

I think you mentioned we should probably expect negative margin environment on PRB and Other Thermal, at least through the second quarter. So I'm just trying to get my hands around like what would be the factors that would cause Q2 EBITDA or earnings to look materially different than Q1? Am I missing anything? Or should it have sort of a similar tenor maybe with just the exception of how met prices roll through?

John Drexler -- Chief Operating Officer

Yes. I think, Mark, I think as we look here today, I think that's essentially the direction we're somewhat setting here is we'll work to see improvement in the thermal operations. Some of that does take a little bit of time. We will benefit from other things that we're seeing roil through the market right now as well, such as diesel pricing.

So some of those will have impacts. We're going to work to improve, but essentially kind of the tenor of what we're indicating here is the first quarter will kind of roll into the second quarter at somewhat similar levels, at least from the base.

Paul Lang -- Chief Executive Officer

Yes, Mark. I think we typically see on the, particularly on the coking coal side, pick up in Q2. Look, as I said earlier, we're just trying to be silver about what we see coming. So I think we're trying to be very careful of what we're saying on the coking coal side.

And you also have to remember the context in Q2 is historically the weakest on the thermal side, so that's kind of the overall background of that discussion.

Mark Levin -- The Benchmark Company -- Analyst

And could volumes actually be like on the thermal side, just kind of thinking, I mean, obviously, we know where gas prices are. We appreciate how much inventory there is on the ground and how difficult it probably is to move incremental tons. But is there any reason why the Q2, I mean, because I look at the PRB Q1 number, obviously, that's a very low number. I mean would that get worse for the seasonal reasons? And then just you expect a much bigger pick up in the second half of the year? Or it will kind of follow the same sort of seasonal pattern and get weaker in Q2?

John Drexler -- Chief Operating Officer

Yes. Mark, I think our expectation is we'll see some form of the seasonal pattern here. It's hard to predict kind of where that goes. It's one of the reasons why we suspended volume guidance.

But we do feel good about the commitment level that we do have at the 58 million tons. We're creating operating plans and scenarios that will be very responsive if that ends up being kind of that level. But that will kind of project forward into very low shipment levels. And once again, there will likely, we think, continue to be some seasonality, so improvement after the Q2 as we roll into the summer months.

Paul Lang -- Chief Executive Officer

I think John talked a little bit about the pushback, very little pushback we've seen on the coking coal side. But the same comments hold true on the thermal side. And that's really for our comments why we think, if we sit here at about 58 million tons sold, it may not be perfect, but that's kind of the ZIP code of what we could be seeing this year.

Mark Levin -- The Benchmark Company -- Analyst

OK. Now, that's helpful. So it sounds like no delays or meaningful deferrals yet, Paul? Is that the inference?

Paul Lang -- Chief Executive Officer

Mark, we are really not seeing any meaningful deferrals, particularly in the Powder River Basin.

Mark Levin -- The Benchmark Company -- Analyst

OK. Great. Well, congratulations to all of your new roles and best of luck and stay safe.

Operator

We will take our next question from Scott Schier with Clarksons.

Scott Schier -- Clarksons Platou Securities, Inc. -- Analyst

Morning, everyone. Following up on Lucas's question on costs. Could you maybe bridge the main factors behind the big decrease we saw quarter-on-quarter? Is that mainly attributable to Leer and the teams? And secondly, what impact, if any, do you expect COVID-19 and the associated precautionary measures you've been taking to have on cost inflation in the second quarter?

John Drexler -- Chief Operating Officer

Yes, Scott. So the big step down in cost from the fourth quarter, as we reported in the fourth quarter, were just some of the difficulties and challenges that we were having at Mountain Laurel as we were continuing to transition from the longwall mine to a continuous minor operation. So we did have some expectation for a meaningful step down. But yes, you are correct.

Leer did get into the new panel. It is beginning to give into that thicker coal. We expect that actually to continue to improve over the remainder of this panel. Not discussed on this call, in the first quarter, Leer actually had a longwall move.

They completed that in great timing very efficiently and effectively. And still, we're able to achieve the cost that we were able to achieve even with the longwall move. So as we move forward, we continue to feel very good about the opportunity to execute from a cost perspective very well and while we have confidence in the met portfolio and what it's doing. From the COVID-19 perspective, I don't think there's anything right now that we can specifically identify as increased expense directly related to the COVID-19 kind of pandemic.

And once again, as I discussed earlier, any impacts on productivity, operating performance to date, we believe, have been somewhat minimal and managed very well at the operational level.

Scott Schier -- Clarksons Platou Securities, Inc. -- Analyst

I appreciate that. That's very helpful. Switching gears a little bit. Can you talk about the dividend suspension and any conditions you think would be necessary that you'd be looking for to warrant over some? And obviously, it's very early and there's a lot of uncertainty, but any color you could provide around that would be great.

Matt Giljum -- Chief Financial Officer

Yes. Scott, this is Matt Giljum. I'll start. I think the key word you had there was the uncertainty.

Obviously, given the outlook and really the difficulty in understanding when things might get back to normal is what drove that decision. Obviously, the dividend when we first set it, we talked quite a bit about how it was something we would envision being able to support through the entirety of the market cycle. And as we look today, we're just in conditions that it's hard to predict. And so really, this is an action that was taken really to make sure we were being very cautious with what could transpire.

And as I look at it, what would be the things we'd want to see before reinstituting that? Really some certainty around demand and volumes. And then depending on where liquidity levels, if there is a need to kind of balance the liquidity versus the capital returns at that point in time, potentially build back some liquidity before doing it. But really, the primary factor is going to be seeing some certainty around demand in our end markets.

Paul Lang -- Chief Executive Officer

Scott, I'll just kind of follow-on with that philosophically. If you stand back and look at our capital return program, I think from my perspective, it's been a great success. We've given almost $1 billion back to the shareholders. We've continued to invest in the company, and we've kept the balance sheet pristine.

So look, I think we've got a good balance here. Clearly, as Matt's pointed out, this is an unusual time or a very unique time for all of us. But clearly, philosophically, we haven't changed anything in what we believe long term.

Deck Slone -- Senior Vice President of Strategy

Scott, it's Deck. I would just add that the fact is that right now, we are focused on building out Leer South, as we've discussed, really building a bigger cash-generating engine here by adding the second big horse to the stable. And so our expectation is longer term, and we believe the board has this strong view that capital returns are going to be an important part of the equation for us. But as we take this pause right now and as we focus on building this bigger engine with Leer South, we think it's prudent.

And again, given all the reasons we know in terms of the current environment, but also this idea of just sort of pulling back on the capital return program at a time when we are making this significant investment on Leer South.

Scott Schier -- Clarksons Platou Securities, Inc. -- Analyst

Very helpful. Thank you for your time and good luck.

Operator

Ladies and gentlemen, at this time, I would like to turn the conference back to Paul Lang for any additional or closing remarks.

Paul Lang -- Chief Executive Officer

I'd like to thank everyone again for your interest in Arch and for taking the time today to participate in our quarterly call. It's truly humbling for me to step into John Eaves' shoes as Arch's new CEO. John has been an amazing and positive force not only within the company but in the industry as a whole. More importantly, he's been a good friend and mentor to me as well as many others in the company.

I'm looking forward to working with John in his new role as executive chairman. I'm also excited about the long-term prospects that Arch offers our investors. We have a talented workforce, unparalleled set of assets and a strong balance sheet. While things are likely to remain challenging in the short term, I feel that we're well positioned and agile enough to weather this storm and thrive in the current crisis seasons.

With that, operator, we'll conclude the call, and I look forward to reporting to the group in late July.

Operator

[Operator signoff]

Duration: 59 minutes

Call participants:

Deck Slone -- Senior Vice President of Strategy

John Eaves -- Executive Chairman

Paul Lang -- Chief Executive Officer

John Drexler -- Chief Operating Officer

Matt Giljum -- Chief Financial Officer

David Gagliano -- BMO Capital Markets -- Analyst

Michael Dudas -- Vertical Capital Research -- Analyst

Lucas Pipes -- B. Riley FBR -- Analyst

Mark Levin -- The Benchmark Company -- Analyst

Scott Schier -- Clarksons Platou Securities, Inc. -- Analyst

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