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Filed Pursuant to Rule 424(b)(3)
File No. 333-59037
PROSPECTUS
LODESTAR HOLDINGS, INC.
EXCHANGE OFFER FOR
11 1/2% SENIOR NOTES DUE 2005
GUARANTEED BY: LODESTAR ENERGY, INC.
EASTERN RESOURCES, INC.
INDUSTRIAL FUELS MINERALS COMPANY
INVESTMENT IN THE EXCHANGE NOTES BEING OFFERED INVOLVES CERTAIN RISKS. SEE
"RISK
FACTORS" BEGINNING ON PAGE 12.
TERMS OF THE EXCHANGE OFFER
/ / The Exchange Offer expires at 5:00 p.m., New York City time, on December
10, 1998 (20 business days after commencement of the Exchange Offer but
in no event later than December 24, 1998), unless extended.
/ / The Exchange Offer is not subject to any conditions other than that the
exchange notes be freely tradeable and that the interests of holders of
outstanding notes not be materially adversely affected by consummation
of the Exchange Offer.
/ / All outstanding notes that are validly tendered and not validly
withdrawn will be exchanged.
/ / Tenders of outstanding notes may be withdrawn at any time prior to the
expiration of the Exchange Offer.
/ / The exchange of outstanding notes for exchange notes will not be a
taxable event for federal income tax purposes.
/ / We will not receive any proceeds from the Exchange Offer.
/ / The terms of the exchange notes are substantially identical to the
outstanding notes, except that the exchange notes will be freely
tradeable.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ADEQUACY OR ACCURACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
THE DATE OF THIS PROSPECTUS IS NOVEMBER 12, 1998.
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FORWARD LOOKING STATEMENTS
Certain statements in this Prospectus under the captions "Prospectus
Summary," "Risk Factors," "Use of Proceeds," "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and "Business" and
elsewhere constitute "forward-looking statements." Such forward-looking
statements involve known and unknown risks, uncertainties and other important
factors that could cause the actual results, performance or achievements of the
Company to differ materially from any future results, performance or
achievements expressed or implied by such forward-looking statements. Such
risks, uncertainties and other important factors include, among others: general
economic and business conditions; industry trends, including coal pricing;
competition; the loss of any significant customers or long-term contracts;
outcome of litigation; and other factors referenced in this Prospectus. See
"Risk Factors." These forward-looking statements speak only as of the date of
this Prospectus. The Company expressly disclaims any obligation or undertaking
to disseminate any updates or revisions to any forward-looking statement
contained herein to reflect any change in the Company's expectations with regard
thereto or any change in events, conditions or circumstances on which any such
statement is based.
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PROSPECTUS SUMMARY
THE FOLLOWING SUMMARY HIGHLIGHTS SELECTED INFORMATION FROM THIS PROSPECTUS.
YOU ARE URGED TO READ THIS PROSPECTUS IN ITS ENTIRETY BEFORE INVESTING IN THE
EXCHANGE NOTES. PRIOR TO MARCH 15, 1997, OUR PREDECESSOR COMPANY HAD A FISCAL
YEAR ENDED DECEMBER 31; AS OF MARCH 15, 1997, WE ESTABLISHED A FISCAL YEAR
ENDING OCTOBER 31. REFERENCES TO THE TERM "TON" MEAN A SHORT TON, OR 2,000
POUNDS.
THE COMPANY
Lodestar Holdings, Inc., through our wholly-owned subsidiary Lodestar
Energy, Inc., engages in the mining and marketing of bituminous coal used
principally for the generation of electricity, as well as for other industrial
applications. For the twelve months ended July 31, 1998, we had coal shipments
of 10.8 million tons, resulting in coal sales and related revenue of $272.8
million.
We focus on selected niche coal markets in the Eastern, South Central and
Great Lakes regions of the United States. Through our diverse portfolio of seven
deep and five surface coal mines located in Eastern and Western Kentucky, we are
among the largest coal producers in Kentucky, the third largest coal producing
state. We believe that we are a low cost producer offering our customers
flexibility in order quantities and transportation methods, including barge,
rail or truck. In addition, we process the vast majority of our coal through our
washing and blending facilities to meet customers' combustion and environmental
specifications, such as energy (as measured by British thermal units ("Btus")),
ash and sulfur content. We believe that our niche market strategy, together with
our operating flexibility, permits us to meet customer demand for quality
products and services at competitive prices, resulting in long-term contracts
with our customers.
For the twelve months ended July 31, 1998, approximately 67% of our coal
sales and related revenue were derived from long-term contracts which had
remaining terms exceeding one year. As of July 31, 1998, we had long-term
contracts, including long-term contracts with the Tennessee Valley Authority and
certain affiliates of U.S. Generating Company, with a weighted average term of
approximately 7.7 years. We believe that the facilities to which we supply coal
generally are well positioned to compete in a deregulated environment for
electricity generation.
Our niche market strategy targets customers whose needs are compatible with
the particular coal qualities we produce. We supply mid to high sulfur coal
(above 1.8% sulfur) from our Western Kentucky operations to customers, such as
electricity generation facilities, that can economically use such coal by
employing sulfur-reduction techniques, including scrubbers and coal blending, in
addition to utilizing emissions allowance credits. We also supply low sulfur
coal (less than 1.0% sulfur) from our Eastern Kentucky operations to customers
that require such coal to meet environmental discharge requirements.
We believe that the proximity of our reserves and facilities to customers
that can economically use our coal provides us a competitive advantage. In
addition, we use our preparation and loadout facilities in Eastern and Western
Kentucky to wash and blend coal to satisfy customer needs for Btu, ash and
sulfur content. Moreover, we provide our customers transportation flexibility by
offering delivery by barge, rail or truck. For example, Lodestar's barge loading
facility at Caseyville, Kentucky is located farther south on the Ohio River than
any comparable facility. As a result, the Caseyville barge loading facility
provides us a cost advantage in delivering coal to customers in the Southern
United States over competitors that must load and ship from facilities located
farther north. We believe that our production and transportation flexibility
enables us to satisfy customer requirements, while maintaining efficient and low
cost operations.
We control the mineral rights through lease or ownership at eleven of our
mines, which for the twelve months ended July 31, 1998, accounted for more than
90% of our coal production. In addition, we operate one mine where mineral
rights are controlled by a third party, and we purchase most of the coal
produced from such mine. In excess of 90% of the coal produced at our mines is
produced by our
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employees, and the balance is mined by independent contractors. Two of our
wholly-owned subsidiaries, Eastern Resources, Inc. and Industrial Fuels Minerals
Company, are not operating companies; however, they hold certain
non-transferable lease rights. We believe that the selective use of independent
contractors lowers our costs and increases our operating flexibility to vary
production in response to market conditions. In the future, we will seek to
increase our coal purchases from third parties to maximize the utilization of
our washing and blending facilities and thus improve operating margins.
For the twelve months ended July 31, 1998, electrical power utilities and
independent power producers accounted for approximately 59% and 19%,
respectively, of our coal sales and related revenue. The balance of our coal
sales and related revenue was attributable to brokers and industrial customers.
Accordingly, we believe that we are well positioned to benefit from favorable
trends in the electricity generation industry. From 1973 to 1996, coal
consumption experienced a compound annual growth rate of 2.6%, and in 1997,
consumption reached approximately 1.03 billion tons. This growth in coal
consumption is directly related to the growth in electricity consumption in the
United States. Electricity generation in 1997 accounted for approximately 90% of
the coal consumed in the United States.
In 1997, coal-fired facilities generated approximately 57% of the
electricity consumed in the United States, a 1.4% increase from 1996. The
balance was generated by nuclear, hydroelectric and gas-fired facilities,
representing approximately 20%, 11% and 9%, respectively, of electricity
consumption. Coal is one of the least expensive and most abundant domestic
resources for the production of electricity. Accordingly, notwithstanding the
alternative fuel sources, management believes that coal will continue to be a
major raw material for electricity generation in the United States for the
foreseeable future.
We further believe that we will benefit from increasing deregulation among
electricity producers. Since 1935, domestic electricity utilities have operated
in a regulated environment, with prices and return on investment determined by
state utility and power commissions. In April 1996, the Federal Energy
Regulatory Commission issued orders establishing rules providing for open access
to electricity transmission systems, which are designed to initiate consumer
choice in electricity purchasing and encourage competition in the generation of
electricity. We believe that this trend toward deregulation will likely (i)
increase the desirability of coal as a raw material for electricity generation
due to its relative low cost and (ii) favor coal producers, such as ourselves,
that have diverse reserves in addition to cost and transportation advantages.
The principal executive offices of Lodestar Holdings, Inc. are located at 30
Rockefeller Plaza, Suite 4225, New York, New York, 10112, telephone number:
(212) 541-6000, and the principal executive offices of Lodestar Energy, Inc.,
Eastern Resources, Inc. and Industrial Fuels Minerals Company are located at 333
West Vine Street, Suite 1700, Lexington, Kentucky 40507, telephone number: (606)
255-4006.
CONTROLLING STOCKHOLDER
Our company is a wholly-owned subsidiary of The Renco Group, Inc. ("Renco"),
which is 97.9% owned by Mr. Ira Leon Rennert, our Chairman and the Chairman and
Chief Executive Officer of Renco, through trusts established by him for himself
and members of his family. As a result of such ownership, Mr. Rennert controls
Lodestar Holdings, Inc. and its subsidiaries.
THE ACQUISITION
Lodestar Holdings, Inc. (formerly named Rencoal, Inc.) purchased all of the
outstanding shares of capital stock of Costain Coal Inc. from Costain America
Inc., effective March 14, 1997. After the acquisition, Costain Coal Inc. was
renamed Lodestar Energy, Inc.
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OFFERING OF OUTSTANDING NOTES
On May 15, 1998, we sold and issued the 11 1/2% Senior Notes due 2005,
Series A. We used the net proceeds of the offering of outstanding notes to:
- repay existing indebtedness;
- purchase certain equipment financed pursuant to both operating and capital
leases;
- buyout certain deferred payment obligations;
- pay a dividend to Renco;
- make certain contractual payments to certain executives;
- pay related fees and expenses; and
- reduce accounts payable and accrued expenses.
Any remaining net proceeds were used for general corporate purposes.
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THE EXCHANGE OFFER
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REGISTRATION RIGHTS.......... You are entitled to exchange your notes for freely tradeable
exchange notes with substantially identical terms. The
Exchange Offer is intended to satisfy your exchange rights.
After the Exchange Offer is complete, you will no longer be
entitled to any exchange or registration rights with respect
to your notes. Accordingly, if you do not exchange your
notes, you will not be able to reoffer, resell or otherwise
dispose of your notes unless you comply with the
registration and prospectus delivery requirements of the
Securities Act of 1933, as amended (the "Securities Act"),
or there is an exemption available.
THE EXCHANGE OFFER........... We are offering to exchange $1,000 principal amount of our
11 1/2% Senior Notes due 2005, Series B, which have been
registered under the Securities Act, for $1,000 principal
amount of our outstanding 11 1/2% Senior Notes due 2005,
Series A, which were issued in a private offering in May
1998. As of the date of this Prospectus, there are $150.0
million of notes outstanding. We will issue exchange notes
promptly after the expiration of the Exchange Offer.
RESALES...................... We believe that the exchange notes issued in the Exchange
Offer may be offered for resale, resold or otherwise
transferred by you without compliance with the registration
and prospectus delivery requirements of the Securities Act
provided that:
- you are acquiring the exchange notes in the ordinary
course of your business;
- you are not participating, do not intend to participate
and have no arrangement or understanding with any person to
participate, in a distribution of the exchange notes; and
- you are not an "affiliate" of ours.
If you do not meet the above criteria you will have to
comply with the registration and prospectus delivery
requirements of the Securities Act in connection with any
reoffer, resale or other disposition of your exchange notes.
Each broker or dealer that receives exchange notes for its
own account in exchange for outstanding notes that were
acquired as a result of market-making or other trading
activities must acknowledge that it will deliver this
Prospectus in connection with any sale of exchange notes.
EXPIRATION DATE.............. 5:00 p.m., New York City time, on December 10, 1998 (20
business days after commencement of the Exchange Offer but
in no event later than December 24, 1998) unless we extend
the expiration date.
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ACCRUED INTEREST ON THE
EXCHANGE NOTES AND OLD
NOTES...................... The exchange notes will bear interest from May 15, 1998. If
your outstanding notes are accepted for exchange, then you
will waive interest on such outstanding notes accrued to the
date the exchange notes are issued.
CONDITIONS TO THE EXCHANGE
OFFER...................... The Exchange Offer is not subject to any condition other
than that the exchange notes be freely tradeable and that
the interests of holders of outstanding notes not be
materially adversely affected by consummation of the
Exchange Offer. See "The Exchange Offer-- Conditions."
PROCEDURES FOR TENDERING OLD
NOTES...................... If you wish to tender outstanding notes, you must complete,
sign and date the Letter of Transmittal, or a facsimile of
it, in accordance with its instructions and transmit the
Letter of Transmittal, together with your notes to be
exchanged and any other required documentation, and State
Street Bank and Trust Company, who is the exchange agent,
must receive such documentation at the address set forth in
the Letter of Transmittal by 5:00 p.m. New York City time,
on the expiration date. See "The Exchange Offer--Procedures
for Tendering." By executing the Letter of Transmittal, you
will represent to us that you are acquiring the exchange
notes in the ordinary course of your business, that you are
not participating, do not intend to participate and have no
arrangement or understanding with any person to participate,
in the distribution of exchange notes, and that you are not
an "affiliate" of ours. See "The Exchange Offer--Procedures
for Tendering."
SPECIAL PROCEDURES FOR
BENEFICIAL HOLDERS......... If you are the beneficial holder of notes that are
registered in the name of your broker, dealer, commercial
bank, trust company or other nominee, and you wish to tender
in the Exchange Offer, you should contact the person in
whose name your notes are registered promptly and instruct
such person to tender on your behalf. See "The Exchange
Offer--Procedures for Tendering."
GUARANTEED DELIVERY
PROCEDURES................. If you wish to tender your notes and you cannot deliver your
notes, the Letter of Transmittal or any other required
documents to the exchange agent before the expiration date,
you may tender your notes according to the guaranteed
delivery procedures set forth in "The Exchange
Offer--Guaranteed Delivery Procedures."
WITHDRAWAL RIGHTS............ Tenders may be withdrawn at any time before 5:00 p.m., New
York City time, on the expiration date.
ACCEPTANCE OF OLD NOTES AND
DELIVERY OF EXCHANGE
NOTES...................... Subject to certain conditions, we will accept for exchange
any and all outstanding notes which are properly tendered in
the Exchange Offer before 5:00 p.m., New York City time, on
the expiration date. The exchange notes will be delivered
promptly after the expiration date. See "The Exchange
Offer--Terms of the Exchange Offer."
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MATERIAL FEDERAL INCOME TAX
CONSIDERATIONS............. The exchange of outstanding notes for exchange notes will
not be a taxable event for federal income tax purposes. You
will not recognize any taxable gain or loss as a result of
such exchange, and you will have the same tax basis and
holding period in the exchange notes as you had in the
outstanding notes immediately before the exchange. See
"Material Federal Income Tax Considerations."
EXCHANGE AGENT............... State Street Bank and Trust Company is serving as exchange
agent in connection with the Exchange Offer. The mailing
address of the exchange agent is State Street Bank and Trust
Company, Two International Place, 4th Floor, Boston,
Massachusetts 02110, Attention: Claire Young--Corporate
Trust Department. Deliveries by hand or overnight courier
should be addressed to State Street Bank and Trust Company,
61 Broadway, 15th Floor, New York, New York 10016,
Attention: Corporate Trust Department. For information about
the Exchange Offer, call the exchange agent at telephone
number: (860) 244-1846 or facsimile number: (860) 244-1881.
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SUMMARY OF TERMS OF EXCHANGE NOTES
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GUARANTORS................... All of our significant wholly-owned subsidiaries: Lodestar
Energy, Inc., Eastern Resources, Inc. and Industrial Fuels
Minerals Company.
MATURITY DATE................ May 15, 2005.
INTEREST PAYMENT DATES....... May 15 and November 15, commencing November 15, 1998.
OPTIONAL REDEMPTION.......... The exchange notes will be redeemable at our option, in
whole or in part, at any time on or after May 15, 2002, at
the redemption prices set forth under "Description of the
Senior Notes," together with accrued and unpaid interest, if
any, to the date of redemption. In addition, on or prior to
May 15, 2001, notes having a principal amount of up to $52.5
million may be redeemed at a price equal to 111.5% of their
principal amount plus accrued interest to the redemption
date with the proceeds of one or more offerings of our
capital stock (other than to any subsidiary, provided that
at least $97.5 million principal amount of notes remains
outstanding). See "Description of the Senior Notes--Optional
Redemption."
CHANGE OF CONTROL............ Upon a change of control of Lodestar Holdings, Inc. or
Renco, we are required to purchase your exchange notes at a
price of 101% of their principal amount plus accrued
interest to the repurchase date. See "Description of the
Senior Notes--Certain Covenants--Change of Control."
ASSET SALE PROCEEDS.......... We are required in certain instances to offer to purchase
your exchange notes at a redemption price of 100% of their
principal amount plus accrued interest to the repurchase
date with the net cash proceeds of certain sales or other
dispositions of assets. See "Description of the Senior
Notes--Certain Covenants--Limitation on Sale of Assets."
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RANKING...................... The exchange notes and the guarantees will be general
unsecured obligations of Lodestar Holdings, Inc. and the
guarantors, respectively, and will rank:
-senior in right of payment to all of their existing and
future subordinated indebtedness;
-equally in right of payment with all of their other
existing and future senior indebtedness; and
-effectively junior to our new $120.0 million senior credit
facility and our obligations to the surety of various
performance bonds (related primarily to reclamation and
workers' compensation) with respect to the assets securing
such obligations.
The new senior credit facility is secured by a first
priority security interest in substantially all of our
property and other assets. As of October 25, 1998, we had no
borrowings (unused commitments of $90.0 million) and
approximately $15.2 million in letters of credit outstanding
under our new senior credit facility.
CERTAIN COVENANTS............ The indenture governing the notes contains certain covenants
for your benefit which, among other things and subject to
certain exceptions, restrict our ability to:
- incur indebtedness;
- create liens;
- make certain payments or investments;
- impose payment restrictions on our subsidiaries;
- enter into transactions with affiliates;
- sell assets;
- consolidate, merge or transfer all or substantially all of
our assets;
- change our business; and
- allow our subsidiaries to issue preferred stock.
USE OF PROCEEDS.............. We will not receive any proceeds from the Exchange Offer.
See "Use of Proceeds." We have agreed to bear the expenses
of the Exchange Offer. No underwriter is being used in
connection with the Exchange Offer. For a description of the
use of proceeds of the offering of outstanding notes, see
"--The Company--Offering of Outstanding Notes."
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RISK FACTORS
You should carefully consider all of the information set forth in this
Prospectus and, in particular, should evaluate the specific factors set forth
under "Risk Factors" for risks involved with an investment in the Exchange
Notes.
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SUMMARY HISTORICAL CONSOLIDATED FINANCIAL DATA
The following table sets forth summary historical consolidated financial
data of Lodestar Holdings, Inc. and our subsidiaries and our predecessor company
at the dates and for the periods indicated. The summary data presented below
under the captions "Statement of Operations Data" and "Other Data" for each of
the fiscal years in the two-year period ended December 31, 1996, for the period
January 1, 1997 to March 14, 1997 and for the period March 15, 1997 to October
31, 1997 are derived from the consolidated financial statements of our
predecessor company and us, as applicable, which have been audited by KPMG Peat
Marwick LLP, independent certified public accountants. The summary data
presented below under the captions "Statement of Operations Data" and "Other
Data" for the period November 1, 1996 to December 31, 1996, for the period March
15, 1997 to July 31, 1997 and for the nine months ended July 31, 1998 and
"Balance Sheet Data" as of July 31, 1998 are unaudited but, in the opinion of
management, include all adjustments (consisting of normal recurring accruals)
necessary for a fair presentation of the financial and operating data for such
periods. Data as of and for the nine months ended July 31, 1998 do not purport
to be indicative of results to be expected for the full year.
It is important that you read the summary historical consolidated financial
data presented below along with "Selected Consolidated Financial Data,"
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," and our and our predecessor company's consolidated financial
statements and the related notes included elsewhere in this Prospectus.
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<CAPTION>
PREDECESSOR COMPANY(1) LODESTAR HOLDINGS, INC.
<S> <C> <C> <C> <C> <C> <C> <C>
----------------------------------------------------------------------------
<CAPTION>
PERIOD PERIOD PERIOD PERIOD NINE
FISCAL YEAR ENDED NOVEMBER 1, JANUARY 1, MARCH 15, MARCH 15, MONTHS
DECEMBER 31, 1996 TO 1997 TO 1997 TO 1997 TO ENDED
-------------------- DECEMBER 31, MARCH 14, OCTOBER 31, JULY 31, JULY 31,
1995 1996 1996 1997 1997 1997 1998
(UNAUDITED) (UNAUDITED) (UNAUDITED)
(DOLLARS AND TONS IN THOUSANDS, EXCEPT PER TON DATA)
<S> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Coal sales and related revenue...... $ 308,370 $ 255,386 $ 36,910 $ 46,486 $ 173,881 $ 100,778 $ 199,657
Operating income (loss)............. 10,002 (38,867) (5,069) (5,129) 2,066 (625) (24)
Interest expense, net............... 4,436 2,801 550 809 6,004 3,727 8,633
Net income (loss)................... 5,995 (41,668) (5,619) (5,938) (3,938) (4,352) (2,085)
OTHER DATA:
EBIOTDA(2).......................... $ 40,834 $ (16,153) $ (1,775) $ (380) $ 16,342 $ 7,941 $ 19,973
Net cash provided by (used in)
operating activities.............. (6,291) 12,972 1,306 (1,738) (14,994) (18,769) (10,137)
Net cash provided by (used in)
investing activities.............. 59,571 (10,400) (1,515) (1,149) (26,349) (3,409) (31,031)
Net cash provided by (used in)
financing activities.............. (53,309) (12,064) 3,658 (1,575) 44,398 21,058 52,326
Capital expenditures................ 5,785 10,705 1,820 1,149 3,771 3,409 31,313
Depreciation, depletion and
amortization...................... 30,832 22,714 3,294 4,749 14,276 8,566 19,997
OTHER OPERATING DATA:
Tons of coal shipped................ 11,811 10,569 1,561 1,910 6,855 3,979 7,903
Tons of coal produced per manhour
(underground)(3)(4)............... 4.4 4.4 4.9
Cubic yards moved per manhour
(surface)(3)(4)................... 92.3 107.9 109.2
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AS OF JULY 31, 1998
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(UNAUDITED)
(DOLLARS IN
THOUSANDS)
BALANCE SHEET DATA:
Cash........................................................................................ $ 14,213
Working capital............................................................................. 9,431
Property, plant and equipment, net.......................................................... 99,053
Total assets................................................................................ 224,349
Total debt (including current portion)...................................................... 150,000
Stockholder's deficit....................................................................... (28,840)
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(1) Lodestar Energy, Inc. was acquired by Lodestar Holdings, Inc. as of March
14, 1997.
(2) "EBIOTDA" represents earnings before net interest expense, other income
(expense), extraordinary items, income taxes and depreciation, depletion and
amortization. The trends of EBIOTDA generally follow the trends of operating
income. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" for a discussion of the recent trends of operating
income. Information regarding EBIOTDA is presented because management
believes that certain investors use EBIOTDA as one measure of an issuer's
ability to service its debt. EBIOTDA should not be considered an alternative
to, or more meaningful than, operating income, net income or cash flow as
defined by generally accepted accounting principles or as an indicator of an
issuer's operating performance. Furthermore, caution should be used in
comparing EBIOTDA to similarly titled measures of other companies as the
definitions of these measures may vary.
(3) Data regarding manhours is available only on a calendar year basis.
Accordingly, data for shorter periods is not presented, and the data
presented as the period March 15, 1997 to October 31, 1997, represents data
for calendar 1997.
(4) Excludes divested and idled operations.
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RISK FACTORS
YOU SHOULD CAREFULLY CONSIDER THE RISK FACTORS SET FORTH BELOW AS WELL AS
THE OTHER INFORMATION SET FORTH IN THIS PROSPECTUS.
SUBSTANTIAL INDEBTEDNESS; STRUCTURAL SUBORDINATION
We have substantial indebtedness and debt service requirements. As of
October 25, 1998, we had outstanding consolidated long-term debt of
approximately $150.0 million (consisting solely of the outstanding notes and
exclusive of unused commitments of $90.0 million and approximately $15.2 million
of outstanding letters of credit, in each case, under our new senior credit
facility). As of September 30, 1998, we had a stockholder's deficit of
approximately $34.0 million.
Our level of indebtedness will have several important effects on our future
operations, including the following:
- a significant portion of our cash flow from operations will be dedicated
to the payment of interest on our indebtedness and will not be available
for other purposes;
- the financial covenants and other restrictions contained in our new senior
credit facility require us to meet certain financial tests and limit our
ability to borrow additional funds or to dispose of assets; and
- our ability to obtain additional financing in the future for working
capital, capital expenditures, acquisitions, general corporate purposes or
other purposes may be impaired.
In addition, our ability to meet our debt service obligations and to reduce our
total debt is dependent upon our future performance, which will be subject to
economic, financial, political, competitive and other factors, including the
demand for electricity and the market prices for coal, many of which are beyond
our control. Moreover, our inability to meet the financial covenants contained
in the new senior credit facility or other indebtedness could result in an
acceleration of amounts due thereunder.
Our right and the right of our creditors, including you as a holder of the
exchange notes, to participate in certain of our assets if we were liquidated or
reorganized is subject to the prior claims of secured creditors, including the
lenders under the new senior credit facility. Our obligations under the new
senior credit facility are secured by substantially all of our property and
other assets. As a holder of exchange notes you will be effectively subordinated
to the claims of the lenders under the new senior credit facility to the extent
of the assets securing such obligations and to any of our future secured
indebtedness and other secured obligations.
HOLDING COMPANY STRUCTURE
We are a holding company with no significant assets other than the capital
stock of Lodestar Energy, Inc. ("Lodestar"). We have no operations or assets
from which we will be able to repay the exchange notes. Accordingly, our cash
flow and, consequently, our ability to repay the notes at maturity or otherwise,
will be primarily dependent upon the results of operations of Lodestar and the
payment of funds by Lodestar in the form of loans, dividends or otherwise.
Lodestar is, and any of our future subsidiaries may be, parties to agreements
which contain limitations on the ability of such subsidiaries to pay dividends
or make loans or advances to us, and the indenture governing the notes may not
prohibit such agreements. In addition, the new senior credit facility imposes
restrictions on Lodestar's ability to pay dividends or make other distributions.
RESTRICTIONS IMPOSED BY TERMS OF INDEBTEDNESS
The terms and conditions of the new senior credit facility and the indenture
governing the notes impose restrictions that affect, among other things, our
ability to incur debt, pay dividends, make acquisitions, create liens, make
capital expenditures and make certain investments.
Our ability to comply with these provisions can be affected by events beyond
our control. The breach of any of these covenants could result in a default
under our indebtedness, including the new
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senior credit facility and the indenture governing the notes. In the event of
any such default, depending on the actions taken by the lenders under the new
senior credit facility, we may be unable to make any payments of principal or
interest on the exchange notes for a period of time. In addition, the lenders
under the new senior credit facility could elect to declare all amounts
borrowed, together with accrued and unpaid interest, to be due and payable. If
we were unable to repay such amounts, the lenders under the new senior credit
facility could proceed against certain collateral. If the indebtedness under the
new senior credit facility were to be accelerated, our assets may not be
sufficient to repay in full such indebtedness and our other indebtedness,
including the exchange notes. See "Description of New Senior Credit Facility"
and "Description of the Senior Notes."
CERTAIN CREDITORS' RIGHTS
The offering of outstanding notes and the application of the net proceeds
therefrom and the obligation of any guarantor under its guarantee may be subject
to review under relevant federal and state fraudulent conveyance laws if a
bankruptcy, reorganization or rehabilitation case or a lawsuit (including in
circumstances where bankruptcy is not involved) were commenced by or on behalf
of our unpaid creditors at some future date. These laws vary among the various
jurisdictions. In general, under these laws, if a court were to find that, at
the time an obligation (such as the outstanding notes or the guarantees) was
incurred, either (a) such obligation was incurred with the intent of hindering,
delaying or defrauding creditors or (b) the entity incurring the obligation
received less than reasonably equivalent or fair value consideration in exchange
for the incurrence of such obligation and (i) was insolvent or was rendered
insolvent by reason thereof, (ii) was engaged in a business or transaction for
which its remaining assets constituted unreasonably small capital, (iii)
intended to incur, or believed, or reasonably should have believed, that it
would incur, debts beyond its ability to pay such debts as they matured (as all
of the foregoing terms are defined in or interpreted under the fraudulent
conveyance statutes) or (iv) such entity was a defendant in an action for money
damages, or had a judgment for money damages docketed against it (if, in either
case, after final judgment, the judgment is unsatisfied) (each of clauses
(i)-(iv) above, a "Fraudulent Conveyance"), such court could impose legal and
equitable remedies, including (x) subordination of the obligation to presently
existing and future indebtedness of the entity, (y) avoidance of the issuance of
the obligation and the liens, and direction of the repayment of any amounts paid
from the proceeds thereof to a fund for the benefit of the entity's creditors or
(z) taking of other action detrimental to the holders of notes.
The measures of insolvency for purposes of determining whether a Fraudulent
Conveyance occurred vary depending upon the laws of the relevant jurisdiction
and upon the valuation assumptions and methodology applied by the court.
Generally, however, a company or guarantor would be considered insolvent for
purposes of the foregoing, if the sum of the debts of the company or guarantor,
including contingent unliquidated and unmatured liabilities, is greater than all
of the property of the company or guarantor at a fair valuation, or the present
fair saleable value of the assets of the company or guarantor is less than the
amount that would be required to pay the probable liability on its existing
debts as they become absolute and matured.
We believe that at the time of, or as a result of, the issuance of the
outstanding notes and the use of proceeds from such issuance, each of the
guarantors and us (a) was not insolvent or rendered insolvent under the
standards set forth above, (b) was not engaged in a business or transactions for
which our remaining assets constitute unreasonably small capital, (c) did not
intend to incur, and does not believe that we did incur debts beyond our ability
to pay such debts as they mature and (d) had sufficient assets to satisfy any
probable money judgment against us or the guarantors in any pending actions.
Consequently, we believe that even if one or more elements of the offering of
outstanding notes were deemed to involve the incurrence of an obligation for
less than reasonably equivalent or fair value, a Fraudulent Conveyance did not
occur. Our beliefs with regard to our solvency and Lodestar's solvency are based
in part on Lodestar's operating history and management's analysis of internal
cash flow projections and estimated values of assets and liabilities of Lodestar
at the time of the offering of
13
<PAGE>
outstanding notes. However, a court passing on these issues may not adopt the
same methodology or assumptions, or arrive at the same conclusions we did.
RELIANCE ON MAJOR CONTRACTS; CUSTOMER CONCENTRATION
A substantial portion of Lodestar's coal is sold pursuant to long-term coal
supply contracts with a limited number of customers which are significant to the
stability and profitability of Lodestar's operations. For the twelve months
ended July 31, 1998, approximately 67% of Lodestar's coal sales and related
revenue were derived from long-term contracts. As of such date, Lodestar's
long-term contracts had a weighted average term of approximately 7.7 years, and
since 1992, sales pursuant to long-term contracts generated approximately 80% of
Lodestar's coal sales and related revenue. Five long-term contracts with three
customers accounted for approximately 55% of coal sales and related revenue for
the twelve months ended July 31, 1998. Lodestar's long-term contracts with the
Tennessee Valley Authority accounted for, and are expected to account for,
approximately 27% and 26% of coal sales and related revenue for the twelve
months ended July 31, 1998 and for fiscal 1998, respectively. In addition,
Lodestar's long-term contracts with U.S. Generating Company accounted for
approximately 18% of Lodestar's coal sales and related revenue for the twelve
months ended July 31, 1998 and are expected to account for approximately 18% of
coal sales and related revenue in fiscal 1998. One of U.S. Generating Company's
facilities is currently involved in litigation with its principal customer and
the unfavorable resolution of such litigation could have a material adverse
effect on such facility, which, if it resulted in the facility being unable to
fulfill its obligations under its long-term contract with Lodestar, could in
turn have a material adverse effect on our business, financial condition and
results of operations. Big Rivers Electric Corporation, which accounted for
approximately 9% of coal sales and related revenue for the twelve months ended
July 31, 1998, has been operating under bankruptcy court protection pursuant to
Chapter 11 of the United States Bankruptcy Code. Any new ownership or management
resulting from the reorganization may not elect to continue its relationship
with us subsequent to the expiration of the current contract in June 2001. The
annual tonnage under that contract, which was 1,277,000 tons for the twelve
months ended June 30, 1998, was reduced effective July 1, 1998. The ongoing
annual commitment will be either 375,000 or 750,000 tons through the expiration
of the contract, dependent on the outcome of current negotiations. Because of
uncertainties regarding the ongoing volume of this contract, as well as certain
litigation in which Lodestar is involved, Lodestar suspended operations at the
Smith Surface mine in mid-June. See "Business--Legal Proceedings." The loss of
these or other long-term contracts, or the curtailment of purchases by such
customers, could have a material adverse effect on our financial condition and
results of operations. See "Business-- Long-Term Coal Supply Contracts" and
"--Other Services."
PRICE ADJUSTMENT PROVISIONS
Certain of Lodestar's long-term coal supply contracts are subject to price
adjustment provisions which permit an increase or decrease at specified times in
the contract price to reflect changes in certain price or other economic
indices, taxes and other charges. Four of Lodestar's nine long-term coal supply
contracts, currently representing approximately 65% of tons supplied under all
long-term contracts, contain price reopener provisions, which provide for the
contract price to be adjusted upward or downward at specified times on the basis
of market factors. Price adjustment, price reopener and other provisions
contained in such contracts may increase the impact of short-term coal price
volatility. Moreover, failure of the parties to agree on a price pursuant to
such price adjustment and reopener provisions could result in modification or
termination of any of these contracts and could have a material adverse effect
on the financial condition and results of operation of Lodestar. Four of
Lodestar's nine long-term coal supply contracts, currently representing
approximately 29% of tons supplied under all long-term contracts, contain
"requirements" provisions, whereby the power plant customer orders only the
amount of coal needed to meet its electricity demand. Many contracts include
force majeure provisions, which allow the suspension of performance by Lodestar
or the customer during certain events. If force majeure provisions are triggered
or tonnage quantities required by power plant
14
<PAGE>
customers decrease, operating profit margins realized by Lodestar could
decrease, which could have a material adverse effect on our financial condition
and results of operations. See "Business--Long-Term Coal Supply Contracts."
OPERATING RISKS; CONCENTRATION OF COAL PRODUCTION
The business of mining is generally subject to a number of risks and
hazards, including environmental hazards, industrial accidents, labor disputes,
encountering unusual or unexpected geologic formations, cave-ins, rockbursts,
variations in coal seam thickness, variation in the amount of rock and soil
overlying the coal deposit, variations in rock and other natural materials,
disruption of transportation services, flooding and periodic interruptions due
to inclement or hazardous weather conditions. Such risks could result in damage
to, or destruction of, mineral properties or producing facilities, personal
injury, environmental damage, delays in mining, monetary losses and possible
legal liability. During 1994 and 1996, our predecessor company experienced a
number of geological and other problems which materially adversely affected its
EBIOTDA. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations." Our operations could likewise be adversely affected in
the future by conditions beyond our control. Although we maintain insurance
within ranges of coverage consistent with industry practice, such insurance may
not be available at economically feasible premiums in the future, and it may not
cover all the hazards to which we are subject.
The coal shipped from the Baker mine, the largest coal mine in Kentucky, was
approximately 4.3 million tons, or approximately 39%, of Lodestar's total
shipments for the twelve months ended July 31, 1998. If the Baker mine were to
experience a significant operating risk or hazard, including those set forth
above, production at the Baker mine could be significantly curtailed or
suspended. Any significant curtailment or suspension of production from the
Baker mine could have a material adverse effect on our financial condition and
results of operations.
TRANSPORTATION
The United States coal industry depends on barge, rail and truck
transportation owned and operated by third parties to deliver shipments of coal
to customers. Overall, 45%, 39% and 16% of Lodestar's total coal shipments for
the twelve months ended July 31, 1998 traveled by barge, rail and truck,
respectively. CSX Transportation, Inc. and Norfolk Southern Corporation are
presently negotiating the acquisition of Conrail Inc. which could adversely
affect Lodestar's rail rates and access to markets. Disruption of these
transportation services could temporarily impair Lodestar's ability to supply
coal to its customers and thus adversely affect our financial condition and
results of operations. Transportation costs are a significant component of the
total cost of supplying coal to customers and can affect significantly a coal
producer's competitive position and profitability. Increases in Lodestar's
transportation costs, or change in such costs relative to transportation costs
incurred by providers of competing coal or of other fuels, could have a material
adverse effect on our financial condition and results of operations. See
"Business--Coal Transportation."
RECLAMATION AND CLOSURE LIABILITIES
The federal Surface Mining Control and Reclamation Act of 1977 and similar
state statutes require that mine property be restored in accordance with
specified standards and an approved reclamation plan. Reclamation costs include
amounts spent to reclaim the pit and support acreage at surface mines and to
seal portals at deep mines. Other such costs common to both types of mining
include the costs of reclaiming refuse and slurry ponds. The permitting agency
requires that performance bonds be posted in amounts sufficient to guarantee the
performance of such reclamation work. As of July 31, 1998, Lodestar had
approximately $42.5 million of reclamation performance bonds outstanding. The
cost of final reclamation of active mining areas is accrued over the life of the
respective mines based on the units-of-production method. This methodology
requires various estimates and assumptions principally associated with costs and
production levels. As of July 31, 1998, the reclamation liability recorded by
Lodestar was approximately $17.9 million. Of the total reclamation liability,
$9.0 million is
15
<PAGE>
associated with permits issued for previous mining of property in the area which
includes the Smith Underground and Smith Surface mines. The calculation of the
recorded liability assumes the continuity of the Smith mining operations. Should
there be a long-term cessation of mining at the Smith mining operations,
alternative reclamation plans would have to be evaluated, which could result in
an adverse adjustment to the recorded liability. See "Business--Legal
Proceedings." Lodestar reevaluates its reclamation liability annually based on
its current mining plans and most recent cost and production estimates.
Liability adjustments are recorded to cost of revenues. For the twelve months
ended July 31, 1998, the reclamation provision included in cost of revenues was
$1.0 million. Although management believes it is making adequate provisions for
all reclamation and other costs associated with mine closures, our financial
condition and results of operations could be adversely affected if such accruals
were later determined to be insufficient.
UNIONIZATION OF WORKFORCE
In August 1997, the United Mineworkers of America (the "UMWA") was certified
by the National Labor Relations Board as the bargaining representative for
certain employees located in Western Kentucky, constituting approximately 47% of
Lodestar's total employees. Lodestar has entered into a collective bargaining
agreement with the UMWA which either party may terminate on or after May 13,
2000. We do not believe that this agreement will have a material impact on our
financial condition or results of operations. However, negotiations of future
collective bargaining agreements could result in production interruptions, and
the possible impact of future collective bargaining agreements, or the
negotiation thereof, on our financial condition and results of operations is
uncertain. Although the remainder of Lodestar's workforce remains nonunion, they
could unionize in the future. Furthermore, work stoppages could occur in the
future in connection with labor negotiations or otherwise.
RELIANCE ON ESTIMATES OF RECOVERABLE RESERVES
There are numerous uncertainties inherent in estimating quantities of
recoverable reserves, including many factors beyond our control. The reserve
data set forth in this Prospectus represents engineering estimates of Lodestar's
reserves as of January 31, 1998 prepared by Marshall Miller & Associates, an
independent engineering firm. Estimates of economically recoverable coal
reserves and future net cash flows necessarily depend upon a number of variable
factors and assumptions, such as geological and mining conditions (which may not
be fully identified by available exploration data and/or differ from experience
in current operations), historical production from the area compared with
production from other producing areas, the assumed effects of regulations by
governmental agencies and assumptions concerning future coal prices, future
operating costs, severance and excise taxes, development costs and reclamation
costs, all of which may in fact vary considerably from actual results. For these
reasons, estimates of the economically recoverable quantities attributable to
any particular group of properties, classifications of such reserves based on
risk of recovery and estimates of future net cash flows expected from such
reserves prepared by different engineers or by the same engineers at different
times may vary substantially. Actual coal tonnage recovered from identified
reserve areas or properties, and revenues and expenditures with respect to
Lodestar's reserves may vary from estimates, and such variances may be material.
These estimates may not be an accurate reflection of Lodestar's actual reserves.
See "Business--Coal Reserves." Most of Lodestar's mining operations are
conducted on properties owned or leased by Lodestar. The loss of any lease could
adversely affect Lodestar's ability to develop the applicable reserves. Because
title to most of Lodestar's leased properties and mineral rights is not
thoroughly verified until a permit is being obtained to mine the property,
Lodestar's right to mine certain of its reserves may be adversely affected if
defects in title or boundaries exist. In addition, Lodestar may not be able to
successfully negotiate new leases or mining contracts for properties containing
additional reserves or maintain its leasehold interest in properties on which
mining operations are not commenced during the term of the lease.
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<PAGE>
REPLACEMENT OF RESERVES
Lodestar's future success depends upon its ability to find, develop or
acquire additional coal reserves that are recoverable. The recoverable reserves
of Lodestar decline as reserves are depleted. Over 50% of Lodestar's current
coal production is from mines that, based on current reserve estimates and
current production levels, will be depleted within seven years. Lodestar can
replace these reserves by successful exploration or development activities or
acquiring properties containing recoverable reserves, or both. In order to
increase reserves and production, Lodestar must continue its development and
exploration or undertake other replacement activities. Lodestar's current
strategy includes increasing its reserve base through acquisitions of producing
properties and by continuing to develop its existing properties. However,
Lodestar's planned development and exploration projects and acquisition
activities may not result in significant additional reserves, and Lodestar may
not have continuing success developing additional mines. For a discussion of
Lodestar's reserves, see "Business--Coal Reserves" and "--Development and
Exploration."
ENVIRONMENTAL MATTERS; GOVERNMENT REGULATION OF MINING INDUSTRY
Lodestar is subject to numerous federal, state and local environmental laws
and regulations governing, among other things, air emissions, waste water
discharge, solid and hazardous waste storage and treatment and disposal and
remediation of releases of hazardous materials. See "Government
Regulation--Environmental Matters."
The mining operations of Lodestar are subject to inspection and regulation
by the Mine Safety and Health Administration of the Department of Labor ("MSHA")
under provisions of the Federal Mine Safety and Health Act of 1977. All other
operations of Lodestar are subject to inspection and regulation by the
Occupational Safety and Health Administration of the Department of Labor
("OSHA") under the provisions of the Occupational Safety and Health Act of 1970.
It is our policy to comply with the directives and regulations of MSHA and OSHA.
In addition, we take such necessary actions as, in our judgment, are required to
provide for the safety and health of our employees. We believe that we are
substantially in compliance with the regulations promulgated by MSHA and OSHA.
However, compliance with new, more stringent MSHA and/or OSHA directives could
have a material adverse effect on our results of operations, financial condition
and liquidity. See "Government Regulation-- Health and Safety."
The Department of Labor is considering revised regulations that would alter
the claims process for coal miners and would make claims for black lung benefits
easier to file and establish, which could result in a higher incidence of black
lung claims against Lodestar. See "Government Regulation-- Health and Safety."
The cost of complying with federal, state and local environmental laws and
regulations, as well as the cost of any personal injury and property or other
damage claims, could have a material adverse affect on our financial condition
and results of operations. See "Government Regulation--Environmental Matters."
EFFECT OF CLEAN AIR ACT
The federal Clean Air Act, as amended, among other things, places limits on
sulfur dioxide emissions from electric power generation plants and requires
major sources of nitrogen oxides to install control technology. The effect of
the Clean Air Act on our operations is uncertain at this time. We believe that
compliance with the sulfur emission limits will likely exert a downward pressure
on the price of high sulfur coal. The extent to which this price decrease will
adversely affect us will depend on a number of factors, including our ability to
secure long-term contracts for our high sulfur coal. In addition, the federal
Environmental Protection Agency is expected to regulate fine particulate matter
and to implement stricter ozone standards by 2003. Any adverse effect of the
Clean Air Act on the demand for mid and high sulfur coal could have a material
adverse effect on the results of operations, financial condition and liquidity
of Lodestar.
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<PAGE>
COAL PRICE FLUCTUATIONS
Our results of operations are highly dependent upon the prices received for
our coal. Although 67% of our coal sales and related revenue for the twelve
months ended July 31, 1998 were made pursuant to long-term contracts, the
balance of sales were made in the spot market, or pursuant to contracts based on
spot market prices and not pursuant to long-term contracts. Certain of our long-
term coal supply contracts are subject to price adjustment provisions, which
provide for increases or decreases in price determined by specific conditions
set forth in the contracts, and price reopener provisions, which provide for
renegotiation of price terms. Accordingly, the prices we receive for a portion
of our coal production are dependent upon numerous factors beyond our control.
These factors include the level of consumer demand for electricity, governmental
regulations and taxes, the price and availability of alternative energy sources,
weather and the overall economic environment. Any significant decline in prices
for coal could have a material adverse effect on our financial condition and
results of operation and quantities of reserves recoverable on an economic
basis. Should the industry experience significant price declines from current
levels or other adverse market conditions, we may not be able to generate
sufficient cash flow from operations to meet our obligations and make planned
capital expenditures. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources."
COMPETITION
The United States coal industry is highly competitive, with numerous
producers in all coal producing regions. We compete with other large producers
and hundreds of small producers in the United States and abroad. Many of our
customers are also customers of our competitors. Continued demand for our coal
and the prices that we will be able to obtain will depend primarily on coal
consumption patterns of the domestic electric utility industry, which in turn
are affected by the demand for electricity, coal transportation costs,
environmental and other governmental regulations and orders, technological
developments and the availability and price of competing coal and alternative
fuel supply sources such as oil, natural gas, nuclear energy and hydroelectric
energy. See "Government Regulation--Environmental Matters" and
"Business--Competition." In addition, during the mid-1970's and early 1980's, a
growing coal market and increased demand attracted new investors to the coal
industry and spurred the development of new mines and added production capacity
throughout the industry. Although demand for coal has grown over the recent
past, the industry has since been faced with overcapacity, which in turn has
increased competition and lowered prevailing coal prices. Moreover, because of
greater competition among electricity producers and increased pressure from
customers and regulators to lower electricity prices, public utilities are
lowering fuel costs by buying higher percentages of spot coal through a
competitive bidding process and by only buying the amount of coal necessary to
meet their requirements. Overcapacity or increased competition in the future
could have a material adverse effect on our financial condition and results of
operations.
POTENTIAL INABILITY TO FUND A CHANGE OF CONTROL OFFER
Upon the occurrence of a change of control of Lodestar Holdings, Inc. or
Renco, we are required to offer to purchase your exchange notes at a purchase
price equal to 101% of their principal amount plus accrued and unpaid interest
to the date of purchase. We may not have sufficient funds available at the time
of any change of control to make any required repurchases of notes tendered, and
restrictions in the new senior credit facility may not allow us to make such
required repurchases. Notwithstanding these provisions, we could enter into
certain transactions, including certain recapitalizations, that would not
constitute a change of control but would increase the amount of debt outstanding
at such time. See "Description of the Senior Notes--Certain Covenants--Change of
Control."
PREDECESSOR COMPANY RISK
Pursuant to the stock purchase agreement under which we acquired the capital
stock of Costain Coal Inc., the seller, Costain America Inc., retained certain
assets and liabilities that were excluded
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<PAGE>
from the acquisition, including, among others, certain litigation matters and
all liabilities relating to prior operations outside of Kentucky and West
Virginia (including business conducted in Alabama, Colorado, Illinois, Indiana,
Louisiana, Michigan, Ohio and Wisconsin). Because the acquisition was structured
as a purchase of capital stock of Costain Coal Inc., Costain America Inc.
retained responsibility for these matters pursuant to an indemnification
agreement which was guaranteed by the seller's parent, Costain Group PLC. At the
time of the acquisition, the aggregate indemnification obligations were
estimated to be in excess of $15.0 million payable over a period of years.
Costain America Inc. may not itself have assets sufficient to satisfy these
indemnification obligations, and we are not able to assess the financial
strength or long-term viability of Costain Group PLC, which has recently
completed a financial restructuring. Accordingly, we may not be able to obtain
the benefit of this indemnification, if necessary. See "Business--Legal
Proceedings."
CONTROL BY RENCO
Lodestar Holdings, Inc. is a wholly-owned subsidiary of Renco, which is
97.9% owned by Mr. Ira Leon Rennert, the Chairman and Chief Executive Officer of
Renco, through trusts established by him for himself and members of his family.
As a result of Renco's ownership of all of our capital stock, Mr. Rennert is,
and will continue to be, able to direct and control our policies, including
mergers, sales of assets and similar transactions.
ABSENCE OF A PUBLIC MARKET
The exchange notes will be new securities for which there is currently no
public market. We do not intend to list the exchange notes on any national
securities exchange or quotation system. Donaldson, Lufkin and Jenrette
Securities Corporation and BT Alex. Brown Incorporated, the initial purchasers
in the offering of outstanding notes, have advised us that they currently intend
to make a market in the exchange notes, but they are not obligated to do so and,
if commenced, may discontinue such market making at any time. Accordingly, no
market may develop for the exchange notes, and if a market does develop, it may
have limited or no liquidity. As outstanding notes are tendered and accepted in
the Exchange Offer, the aggregate principal amount of outstanding notes will
decrease, which will decrease their liquidity.
CONSEQUENCES OF FAILURE TO EXCHANGE
If you do not exchange your notes for exchange notes, you will continue to
be subject to the restrictions on transfer of your notes set forth in their
legend because the outstanding notes were issued pursuant to an exemption from,
or in a transaction not subject to, the registration requirements of the
Securities Act. In general, outstanding notes may not be offered or sold, unless
registered under the Securities Act, except pursuant to an exemption from, or in
a transaction not subject to, the Securities Act and applicable state securities
laws. We currently do not anticipate registering the outstanding notes under the
Securities Act.
USE OF PROCEEDS
We will not receive any proceeds from the Exchange Offer. In consideration
for issuing the exchange notes, we will receive in exchange outstanding notes of
like principal amount, the terms of which are identical in all material respects
to the exchange notes. The outstanding notes surrendered in exchange for
exchange notes will be retired and canceled and cannot be reissued. Accordingly,
issuance of the exchange notes will not result in any increase in our
indebtedness. We have agreed to bear the expenses of the Exchange Offer. No
underwriter is being used in connection with the Exchange Offer.
For a description of the use of proceeds of the offering of outstanding
notes, see "Prospectus Summary--The Company--Offering of Outstanding Notes."
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<PAGE>
CAPITALIZATION
The following table sets forth the unaudited consolidated capitalization of
Lodestar Holdings, Inc. and our subsidiaries as of July 31, 1998. It is
important that you read the table below along with "Selected Consolidated
Financial Data," "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and our consolidated financial statements and the
related notes included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
AS OF JULY 31,
1998
-----------------
<S> <C>
(DOLLARS IN
THOUSANDS)
Long-term debt, including current portion:
New senior credit facility(1)................................................................ --
11 1/2% Senior Notes due 2005, Series A...................................................... $ 150,000
--------
Total long-term debt, including current portion.......................................... 150,000
--------
Stockholder's equity (deficit):
Common stock, $1.00 par value. Authorized, issued and outstanding 1,000 shares............... 1
Additional paid-in capital................................................................... 5,000
Accumulated deficit.......................................................................... (33,841)
--------
Total stockholder's deficit.............................................................. (28,840)
--------
Total capitalization........................................................................... $ 121,160
--------
--------
</TABLE>
- ------------------------
(1) Represents our $90.0 million revolving credit facility which was undrawn,
and a $30.0 million letter of credit facility, of which approximately $22.0
million in letters of credit was outstanding, as of July 31, 1998. The new
senior credit facility will expire in May 2001. See "Description of New
Senior Credit Facility."
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<PAGE>
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL DATA
The following unaudited pro forma consolidated financial data have been
prepared to give effect to:
- the purchase by Lodestar Holdings, Inc. of all the outstanding shares of
capital stock of Costain Coal Inc. from Costain America Inc., effective
March 14, 1997 (the "Acquisition"); and
- the offering of outstanding notes and the use of the proceeds from that
offering on May 15, 1998 to (i) repay all existing indebtedness, (ii)
purchase certain equipment financed pursuant to both operating and capital
leases, (iii) buyout certain deferred payment obligations, (iv) pay a
dividend to Renco, (v) make certain contractual payments to certain
executives and (vi) pay related fees and expenses and reduce accounts
payable and accrued expenses and for general corporate purposes (such
offering and use of proceeds, the "Transactions").
The unaudited pro forma consolidated statement of operations for the nine
months ended July 31, 1998, gives effect to the Transactions as if they had
occurred on November 1, 1997 and the unaudited pro forma consolidated statement
of operations for the ten months ended October 31, 1997 gives effect to the
Acquisition and the Transactions as if they had occurred on January 1, 1997.
The pro forma adjustments are based upon available information and certain
assumptions that we believe are reasonable under the circumstances. Pro forma
adjustments are applied to account for the Acquisition under the purchase method
of accounting. Under the purchase method of accounting, the total purchase price
was allocated to our assets and liabilities based on their relative fair values.
It is important that you read the unaudited pro forma consolidated financial
information along with "Selected Consolidated Financial Data," "Management's
Discussion and Analysis of Financial Condition and Results of Operations," and
our and our predecessor company's consolidated financial statements and the
related notes included elsewhere in this Prospectus. The unaudited pro forma
consolidated financial data do not purport to be indicative of the results which
would have actually been attained had the Acquisition and the Transactions been
consummated on the dates indicated or of the results which may be expected to
occur in the future.
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<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
NINE MONTHS ENDED JULY 31, 1998
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
ADJUSTMENTS
FOR THE
HISTORICAL TRANSACTIONS PRO FORMA
<S> <C> <C> <C>
Coal sales and related revenue..................................... $ 199,657 -- $ 199,657
---------- ------------ -------------
Operating costs:
Cost of revenues................................................. 168,014 $ (5,462)(1) 162,552
Depreciation, depletion and amortization......................... 19,997 3,204(2) 23,201
General and administrative(3).................................... 11,670 -- 11,670
---------- ------------ -------------
199,681 (2,258) 197,423
---------- ------------ -------------
Operating income (loss).......................................... (24) 2,258 2,234
Interest expense, net.............................................. 8,633 9,344(4) 13,312
488(5)
(5,153)(6)
---------- ------------ -------------
Loss before income taxes and extraordinary items................... $ (8,657) $ (2,421) $ (11,078)
---------- ------------ -------------
---------- ------------ -------------
OTHER DATA
EBIOTDA(7)......................................................... $ 19,973 $ 5,462 $ 25,435
Ratio of earnings to fixed charges(8).............................. --
</TABLE>
22
<PAGE>
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
NINE MONTHS ENDED JULY 31, 1998
(1) Reflects the elimination of amounts expensed pursuant to operating leases.
These amounts are eliminated due to the buyout of all operating leases.
(2) Reflects additional depreciation associated with the purchase of certain
equipment previously financed pursuant to leases. Depreciable lives assigned
were based on an assessment of the equipment involved, resulting in a
weighted average useful life of 4.5 years.
(3) Includes $2.8 million of contractual payments to certain employees of
Lodestar which were non-recurring charges directly attributable to the
Transactions.
(4) Reflects interest on the outstanding notes.
(5) Reflects amortization of debt issuance costs associated with the outstanding
notes and the new senior credit facility.
(6) Reflects the elimination of historical interest expense associated with
indebtedness repaid with the proceeds of the offering of the outstanding
notes. Also reflects the elimination of imputed interest on deferred payment
obligations which were bought out at a discount from book value of
approximately $8.0 million.
(7) EBIOTDA represents earnings before net interest expense, other income
(expense), extraordinary items, income taxes and depreciation, depletion and
amortization. The trends of EBIOTDA generally follow the trends of operating
income. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" for a discussion of the recent trends of operating
income. Information regarding EBIOTDA is presented because management
believes that certain investors use EBIOTDA as one measure of an issuer's
ability to service its debt. EBIOTDA should not be considered an alternative
to, or more meaningful than, operating income, net income or cash flow as
defined by generally accepted accounting principles or as an indicator of an
issuer's operating performance. Furthermore, caution should be used in
comparing EBIOTDA to similarly titled measures of other companies as the
definitions of these measures may vary.
(8) Fixed charges consist of interest expense, capitalized interest,
amortization of deferred financing costs and the portion of rental expense
that is representative of interest expense. Earnings consist of income
before taxes and extraordinary items plus fixed charges less capitalized
interest. Earnings were insufficient to cover fixed charges by $11.1 million
during the period.
23
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
TEN MONTHS ENDED OCTOBER 31, 1997
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
HISTORICAL
------------------------
<S> <C> <C> <C> <C> <C>
PREDECESSOR THE
COMPANY COMPANY
<CAPTION>
JANUARY 1, MARCH 15,
1997 TO 1997 TO ADJUSTMENTS ADJUSTMENTS
MARCH 14, OCTOBER 31, FOR THE FOR THE
1997 1997 ACQUISITION TRANSACTIONS PROFORMA(1)
<S> <C> <C> <C> <C> <C>
Coal sales and related revenue............. $ 46,486 $ 173,881 -- -- $ 220,367
----------- ----------- ----------- ------------ ------------
Operating costs:
Cost of revenues......................... 44,676 150,716 -- $ (9,104)(4) 186,288
Depreciation, depletion and
amortization........................... 4,749 14,276 $ (1,370)(2) 5,340(5) 23,750
755(3)
General and administrative............... 2,190 6,823 -- -- 9,013
----------- ----------- ----------- ------------ ------------
51,615 171,815 (615) (3,764) 219,051
----------- ----------- ----------- ------------ ------------
Operating income (loss).................. (5,129) 2,066 615 3,764 1,316
Interest expense, net...................... 809 6,004 -- 14,375(6) 15,125
750(7)
(6,813)(8)
----------- ----------- ----------- ------------ ------------
Income (loss) before income taxes and
nonrecurring charges and credits......... $ (5,938) $ (3,938) $ 615 $ (4,548) $ (13,809)
----------- ----------- ----------- ------------ ------------
----------- ----------- ----------- ------------ ------------
OTHER DATA:
EBIOTDA(9)................................. $ (380) $ 16,342 -- $ 9,104 $ 25,066
Ratio of earnings to fixed charges(10)..... --
</TABLE>
24
<PAGE>
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
TEN MONTHS ENDED OCTOBER 31, 1997
(1) The "Unaudited Pro Forma Consolidated Statement of Operations" is presented
before consideration of the following nonrecurring charges or credits
directly attributable to the Transactions: the buyout of certain deferred
payment obligations at a discount from book value of approximately $8.0
million; making of contractual payments to certain employees of Lodestar of
approximately $2.8 million; the write-off of certain capitalized costs
associated with the indebtedness repaid with the proceeds of the offering of
outstanding notes; and the net tax effect of these nonrecurring charges and
credits.
(2) Reflects reduced depreciation due to write-down of fixed assets to fair
value for the period January 1, 1997 to March 14, 1997 related to purchase
accounting for the Acquisition. In connection with purchase accounting for
the Acquisition, fixed assets were written down to fair value, which was
estimated to be $22.0 million less than the previously recorded value.
Accordingly, based on the remaining useful lives of the applicable assets,
depreciation will be reduced by approximately $6.6 million in the first
twelve months after the Acquisition.
(3) Reflects amortization of coal supply contracts and goodwill for the period
January 1, 1997 to March 14, 1997 related to purchase accounting for the
Acquisition. Coal supply and ash disposal contracts acquired as part of the
Acquisition were valued at $46.8 million, representing the present value of
expected profits from sales under these contracts in excess of those that
would be earned if sales were made at then prevailing market prices. These
contracts are being amortized using the straight-line method over the lives
of the applicable contracts, which expire at various dates through 2025.
Goodwill of $7.6 million represents the excess of purchase price over the
fair value of net assets acquired. It is amortized on a straight-line basis
over the expected period to be benefitted of 15 years.
(4) Reflects the elimination of amounts expensed pursuant to operating leases.
These amounts are eliminated due to the assumed buyout of all operating
leases.
(5) Reflects additional depreciation associated with the purchase of certain
equipment previously financed pursuant to leases. Depreciable lives assigned
were based on an assessment of the equipment involved, resulting in a
weighted average useful life of 4.5 years.
(6) Reflects interest on the outstanding notes.
(7) Reflects amortization of debt issuance costs associated with the outstanding
notes and the new senior credit facility.
(8) Reflects the elimination of historical interest expense associated with
indebtedness repaid with the proceeds of the offering of outstanding notes.
Also reflects the elimination of imputed interest on deferred payment
obligations which were bought out at a discount from book value of
approximately $8.0 million.
(9) EBIOTDA represents earnings before net interest expense, other income
(expense), extraordinary items, income taxes and depreciation, depletion and
amortization. The trends of EBIOTDA generally follow the trends of operating
income. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" for a discussion of the recent trends of operating
income. Information regarding EBIOTDA is presented because management
believes that certain investors use EBIOTDA as one measure of an issuer's
ability to service its debt. EBIOTDA should not be considered an alternative
to, or more meaningful than, operating income, net income or cash flow as
defined by generally accepted accounting principles or as an indicator of an
issuer's operating performance. Furthermore, caution should be used in
comparing EBIOTDA to similarly titled measures of other companies as the
definitions of these measures may vary.
(10) Fixed charges consist of interest expense, capitalized interest,
amortization of deferred financing costs and the portion of rental expense
that is representative of interest expense. Earnings consist of income
before taxes and extraordinary items plus fixed charges less capitalized
interest. Earnings were insufficient to cover fixed charges by $13.8 million
during the period.
25
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The following table sets forth selected historical consolidated financial
data of Lodestar Holdings, Inc. and our subsidiaries and our predecessor company
at the dates and for the periods indicated. The selected data presented below
under the captions "Statement of Operations Data" and "Financial Ratios and
Other Data" for each of the fiscal years in the four-year period ended December
31, 1996, for the period January 1, 1997 to March 14, 1997 and for the period
March 15, 1997 to October 31, 1997, and "Balance Sheet Data" as of December 31,
1993, 1994, 1995 and 1996 and October 31, 1997, are derived from the
consolidated financial statements of our predecessor company and us, as
applicable, which consolidated financial statements have been audited by KPMG
Peat Marwick LLP, independent certified public accountants. The selected data
presented below under the captions "Statement of Operations Data" and "Financial
Ratios and Other Data" for the period November 1, 1996 to December 31, 1996, for
the period March 15, 1997 to July 31, 1997 and for the nine months ended July
31, 1998 and "Balance Sheet Data" as of July 31, 1997 and 1998 are unaudited
but, in the opinion of management, include all adjustments (consisting of normal
recurring accruals) necessary for a fair presentation of the financial and
operating data for such periods. Data as of and for the nine months ended July
31, 1998 do not purport to be indicative of results to be expected for the full
year. It is important that you read the selected historical consolidated
financial data presented below along with "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and our and our predecessor
company's consolidated financial statements and the related notes included
elsewhere in this Prospectus.
<TABLE>
<CAPTION>
PREDECESSOR COMPANY(1)
PERIOD PERIOD
NOVEMBER 1, JANUARY 1,
FISCAL YEAR ENDED DECEMBER 31, 1996 TO 1997 TO
--------------------------------------- DECEMBER 31, MARCH 14,
1993 1994(2) 1995(3) 1996(4) 1996 1997
(UNAUDITED)
(DOLLARS AND TONS IN THOUSANDS, EXCEPT PER TON DATA)
<S> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Coal sales and related revenue..... $418,295 $ 389,996 $308,370 $255,386 $36,910 $ 46,486
Cost of revenues................... 337,012 360,635 255,859 257,269 36,378 44,676
Depreciation, depletion and
amortization..................... 49,267 46,641 30,832 22,714 3,294 4,749
General and administrative......... 18,418 19,601 11,677 14,270 2,307 2,190
-------- --------- -------- -------- ------------ ------------
Operating income (loss)............ 13,598 (36,881) 10,002 (38,867) (5,069) (5,129)
Interest expense, net.............. 2,387 4,428 4,436 2,801 550 809
Other income (expense), net........ (6,171) (204,347) 3,708 -- -- --
-------- --------- -------- -------- ------------ ------------
Income (loss) before income taxes
and extraordinary items.......... 5,040 (245,656) 9,274 (41,668) (5,619) (5,938)
Income taxes....................... 1,786 1,414 3,279 -- -- --
Extraordinary items................ -- -- -- -- -- --
-------- --------- -------- -------- ------------ ------------
Net income (loss).................. $ 3,254 $(247,070) $ 5,995 $(41,668) $(5,619) $ (5,938)
-------- --------- -------- -------- ------------ ------------
-------- --------- -------- -------- ------------ ------------
FINANCIAL RATIOS AND OTHER DATA:
EBIOTDA(5)......................... $ 62,865 $ 9,760 $ 40,834 $(16,153) $(1,775) $ (380)
Net cash provided by (used in)
operating activities............. 65,307 25,219 (6,291) 12,972 1,306 (1,738)
Net cash provided by (used in)
investing activities............. (36,437) (28,048) 59,571 (10,400) (1,515) (1,149)
Net cash provided by (used in)
financing activities............. (28,663) 13,350 (53,309) (12,064) 3,658 (1,575)
Capital expenditures............... 37,761 50,162 5,785 10,705 1,820 1,149
Ratio of earnings to fixed
charges(6)....................... 3.1x -- 3.1x -- -- --
OTHER OPERATING DATA:
Tons of coal shipped............... 16,692 15,705 11,811 10,569 1,561 1,910
Tons of coal produced per manhour
(underground) (7)(8)............. 3.5 2.9 4.4 4.4
Cubic yards moved per manhour
(surface)(7)(8).................. 83.7 81.6 92.3 107.9
<CAPTION>
LODESTAR HOLDINGS, INC.
PERIOD PERIOD NINE
MARCH 15, MARCH 15, MONTHS
1997 TO 1997 TO ENDED
OCTOBER 31, JULY 31, JULY 31,
1997 1997 1998
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Coal sales and related revenue..... $173,881 $100,778 $199,657
Cost of revenues................... 150,716 89,600 168,014
Depreciation, depletion and
amortization..................... 14,276 8,566 19,997
General and administrative......... 6,823 3,237 11,670
----------- ----------- -----------
Operating income (loss)............ 2,066 (625) (24)
Interest expense, net.............. 6,004 3,727 8,633
Other income (expense), net........ -- -- --
----------- ----------- -----------
Income (loss) before income taxes
and extraordinary items.......... (3,938) (4,352) (8,657)
Income taxes....................... -- -- --
Extraordinary items................ -- -- 6,572
----------- ----------- -----------
Net income (loss).................. $ (3,938) $ (4,352) $ (2,085)
----------- ----------- -----------
----------- ----------- -----------
FINANCIAL RATIOS AND OTHER DATA:
EBIOTDA(5)......................... $ 16,342 $ 7,941 $ 19,973
Net cash provided by (used in)
operating activities............. (14,994) (18,769) (10,137)
Net cash provided by (used in)
investing activities............. (26,349) (3,409) (31,031)
Net cash provided by (used in)
financing activities............. 44,398 21,058 52,326
Capital expenditures............... 3,771 3,409 31,313
Ratio of earnings to fixed
charges(6)....................... -- -- --
OTHER OPERATING DATA:
Tons of coal shipped............... 6,855 3,979 7,903
Tons of coal produced per manhour
(underground) (7)(8)............. 4.9
Cubic yards moved per manhour
(surface)(7)(8).................. 109.2
</TABLE>
26
<PAGE>
<TABLE>
<CAPTION>
PREDECESSOR COMPANY(1) LODESTAR HOLDINGS, INC.
AS OF DECEMBER 31, AS OF AS OF AS OF
------------------------------------------ JULY 31, OCTOBER 31, JULY 31,
1993 1994 1995 1996 1997 1997 1998
--------- --------- --------- --------- ----------- ----------- -----------
(UNAUDITED) (UNAUDITED)
(DOLLARS IN THOUSANDS) (DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash............................................. $ 7,314 $ 17,835 $ 17,806 $ 8,314 $ 2,732 $ 3,055 $ 14,213
Working capital (deficit)........................ 7,515 (13,687) (2,115) (33,251) (32,054) (31,424) 9,431
Property, plant and equipment, net............... 284,710 211,211 131,073 116,094 89,194 84,541 99,053
Total assets..................................... 460,253 302,033 233,386 208,358 203,167 200,448 224,349
Total debt (including current portion)........... 26,359 63,119 28,077 22,793 60,654 63,556 150,000
Stockholder's equity (deficit)................... 314,224 69,992 75,700 33,666 650 1,063 (28,840)
</TABLE>
- ------------------------
(1) Lodestar Energy, Inc. was acquired by Lodestar Holdings, Inc. as of March
14, 1997.
(2) Cost of revenues in 1994 was negatively affected by certain events. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Certain Events." In addition, in 1994, $204.3 million in other
expenses were recognized, of which $200.8 million represented a provision to
adjust the valuation of certain assets and liabilities resulting from our
predecessor company's reassessment of anticipated business activity in the
coal industry.
(3) Other income (expense) during 1995 represents the net effect of a $44.0
million gain recorded in connection with disposing of our predecessor
company's Louisiana operations, a $39.6 million loss to adjust the value of
our predecessor company to an expected sales price, and a $.7 million
minority interest in earnings of the Louisiana operations. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
(4) Results for fiscal 1996 were negatively affected by certain noncash charges
made in connection with an evaluation of our predecessor company's accrued
reserves and its legal expenses associated with selling the business. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Certain Events."
(5) EBIOTDA represents earnings before net interest expense, other income
(expense), extraordinary items, income taxes and depreciation, depletion and
amortization. The trends of EBIOTDA generally follow the trends of operating
income. See "Management's Dicussion and Analysis of Financial Condition and
Results of Operations" for a discussion of the recent trends of operating
income. Information regarding EBIOTDA is presented because management
believes that certain investors use EBIOTDA as one measure of an issuer's
ability to service its debt. EBIOTDA should not be considered an alternative
to, or more meaningful than, operating income, net income or cash flow as
defined by generally accepted accounting principles or as an indicator of an
issuer's operating performance. Furthermore, caution should be used in
comparing EBIOTDA to similarly titled measures of other companies as the
definitions of these measures may vary.
(6) Fixed charges consist of interest expense, capitalized interest,
amortization of deferred financing costs and the portion of rental expense
that is representative of interest expense. Earnings consist of income
before taxes and extraordinary items plus fixed charges less capitalized
interest. Earnings were insufficient to cover fixed charges by $245.7
million, $41.7 million, $5.6 million, $5.9 million, $3.9 million, $4.4
million and $8.7 million for the fiscal years ended December 31, 1994 and
1996, the period from November 1, 1996 to December 31, 1996, the period
January 1, 1997 to March 14, 1997, the period March 15, 1997 to October 31,
1997, the period March 15, 1997 to July 31, 1997 and the nine months ended
July 31, 1998, respectively.
(7) Data regarding manhours is available only on a calendar year basis.
Accordingly, data for shorter periods is not presented, and the data
presented as the period March 15, 1997 to October 31, 1997, represents data
for calendar 1997.
(8) Excludes divested and idled operations.
27
<PAGE>
THE EXCHANGE OFFER
TERMS OF THE EXCHANGE OFFER
GENERAL
In connection with the sale of our 11 1/2% Senior Notes due 2005, Series A
(the "Old Notes") to Donaldson, Lufkin and Jenrette Securities Corporation and
BT Alex. Brown Incorporated (collectively, the "Initial Purchasers") pursuant to
the Purchase Agreement, dated May 12, 1998, among Lodestar Holdings, Inc. (the
"Company"), and Lodestar, Eastern Resources, Inc. ("Eastern Resources") and
Industrial Fuels Minerals Company ("Industrial Fuels") (collectively, the
"Guarantors") and the Initial Purchasers, the holders of the Old Notes became
entitled to the benefits of the Registration Rights Agreement, dated as of May
15, 1998 (the "Registration Rights Agreement") by and among the Company, the
Guarantors and the Initial Purchasers.
Under the Registration Rights Agreement, the Company became obligated to (a)
file a registration statement in connection with a registered exchange offer
within 60 days after May 15, 1998, the date the Old Notes were issued (the
"Issue Date"), and (b) cause the registration statement relating to such
registered exchange offer to become effective within 180 days after the Issue
Date. The Exchange Offer being made hereby, if consummated within the required
time periods, will satisfy the Company's obligations under the Registration
Rights Agreement. The Company understands that there are approximately 18
beneficial owners of such Old Notes. This Prospectus, together with the Letter
of Transmittal, is being sent to all such beneficial holders known to the
Company.
Upon the terms and subject to the conditions set forth in this Prospectus
and in the accompanying Letter of Transmittal, the Company will accept all Old
Notes properly tendered and not withdrawn prior to 5:00 p.m., New York City
time, on the Expiration Date (as defined). The Company will issue $1,000
principal amount of Exchange Notes in exchange for each $1,000 principal amount
of outstanding Old Notes accepted in the Exchange Offer. Holders may tender some
or all of their Old Notes pursuant to the Exchange Offer.
Based on an interpretation by the staff of the Securities and Exchange
Commission (the "Commission") set forth in Morgan Stanley & Co. Incorporated,
SEC No-Action Letter (available June 5, 1991) (the "Morgan Stanley Letter"),
Exxon Capital Holdings Corporation, SEC No-Action Letter (available May 13,
1988) (the "Exxon Capital Letter") and similar letters, the Company believes
that the 11 1/2% Senior Notes due 2005, Series B (the "Exchange Notes") issued
pursuant to the Exchange Offer in exchange for Old Notes may be offered for
resale, resold and otherwise transferred by any person who received such
Exchange Notes, whether or not such person is the holder (other than any such
holder or other person which is (i) a broker-dealer that receives Exchange Notes
for its own account in exchange for Old Notes, where such Old Notes were
acquired by such broker-dealer as a result of market-making or other trading
activities, or (ii) an "affiliate" of the Company within the meaning of Rule 405
under the Securities Act) without compliance with the registration and
prospectus delivery provisions of the Securities Act, PROVIDED that such
Exchange Notes are acquired in the ordinary course of such holder's or other
person's business, neither such holder nor such other person is engaged in or
intends to engage in any distribution of the Exchange Notes and such holders or
other persons have no arrangement or understanding with any person to
participate in the distribution of such Exchange Notes.
If any person were to be participating in the Exchange Offer for the
purposes of participating in a distribution of the Exchange Notes in a manner
not permitted by the Commission's interpretation, such person (a) could not rely
upon the Morgan Stanley Letter, the Exxon Capital Letter or similar letters and
(b) must comply with the registration and prospectus delivery requirements of
the Securities Act in connection with a secondary resale transaction.
Each broker-dealer that receives Exchange Notes for its own account in
exchange for Old Notes, where such Old Notes were acquired by such broker-dealer
as a result of market-making or other
28
<PAGE>
trading activities, must acknowledge that it will deliver a prospectus in
connection with any resale of such Exchange Notes. The Letter of Transmittal
states that by so acknowledging and by delivering a prospectus, a broker-dealer
will not be deemed to admit that it is an "underwriter" within the meaning of
the Securities Act. This Prospectus, as it may be amended or supplemented from
time to time, may be used by a broker-dealer in connection with resales of
Exchange Notes received in exchange for Old Notes where such Old Notes were
acquired by such broker-dealer as result of market-making activities or other
trading activities. The Company has agreed that, for a period of 180 days after
consummation of the Exchange Offer, it will make this Prospectus, as it may be
amended or supplemented from time to time, available to any broker-dealer for
use in connection with any such resale. See "Plan of Distribution."
The Company will not receive any proceeds from the Exchange Offer. See "Use
of Proceeds." The Company has agreed to bear the expenses of the Exchange Offer
pursuant to the Registration Rights Agreement. No underwriter is being used in
connection with the Exchange Offer.
The Company shall be deemed to have accepted validly tendered Old Notes
when, as and if the Company has given oral or written notice thereof to State
Street Bank and Trust Company, as exchange agent (the "Exchange Agent"). The
Exchange Agent will act as agent for the tendering holders of Old Notes for the
purposes of receiving the Exchange Notes from the Company and delivering
Exchange Notes to such holders.
If any tendered Old Notes are not accepted for exchange because of an
invalid tender or the occurrence of certain conditions set forth herein under
"--Conditions" without waiver by the Company, certificates for any such
unaccepted Old Notes will be returned, without expense, to the tendering holder
thereof as promptly as practicable after the Expiration Date.
Holders of Old Notes who tender in the Exchange Offer will not be required
to pay brokerage commissions or fees or, subject to the instructions in the
Letter of Transmittal, transfer taxes with respect to the exchange of Old Notes
pursuant to the Exchange Offer. The Company will pay all charges and expenses,
other than certain applicable taxes in connection with the Exchange Offer. See
"--Fees and Expenses."
In the event the Exchange Offer is consummated, the Company will not be
required to register the Old Notes. In such event, holders of Old Notes seeking
liquidity in their investment would have to rely on exemptions to registration
requirements under the securities laws, including the Securities Act. See "Risk
Factors--Consequences of Failure to Exchange."
EXPIRATION DATE; EXTENSIONS; AMENDMENT
The term "Expiration Date" shall mean the expiration date set forth on the
cover page of this Prospectus, unless the Company, in its sole discretion,
extends the Exchange Offer, in which case the term "Expiration Date" shall mean
the latest date to which the Exchange Offer is extended.
In order to extend the Expiration Date, the Company will notify the Exchange
Agent of any extension by oral or written notice and will issue a public
announcement thereof, each prior to 9:00 a.m., New York City time, on the next
business day after the previously scheduled Expiration Date. Such announcement
may state that the Company is extending the Exchange Offer for a specified
period of time.
The Company reserves the right (a) to delay accepting any Old Notes, to
extend the Exchange Offer or to terminate the Exchange Offer and not accept Old
Notes not previously accepted if any of the conditions set forth herein under
"--Conditions" shall have occurred and shall not have been waived by the Company
(if permitted to be waived by the Company), by giving oral or written notice of
such delay, extension or termination to the Exchange Agent, or (b) to amend the
terms of the Exchange Offer in any manner deemed by it to be advantageous to the
holders of the Old Notes. Any
29
<PAGE>
such delay in acceptance, extension, termination or amendment will be followed
as promptly as practicable by oral or written notice thereof. If the Exchange
Offer is amended in a manner determined by the Company to constitute a material
change, the Company will promptly disclose such amendment in a manner reasonably
calculated to inform the holders of the Old Notes of such amendment, and the
Company may extend the Exchange Offer for a period of up to ten business days,
depending upon the significance of the amendment and the manner of disclosure to
holders of the Old Notes, if the Exchange Offer would otherwise expire during
such extension period.
Without limiting the manner in which the Company may choose to make public
announcement of any extension, amendment or termination of the Exchange Offer,
the Company shall have no obligation to publish, advertise, or otherwise
communicate any such public announcement, other than by making a timely release
to the Dow Jones News Service.
INTEREST ON THE EXCHANGE NOTES
The Exchange Notes will bear interest from May 15, 1998, payable
semiannually on May 15 and November 15 of each year, commencing November 15,
1998, at the rate of 11 1/2% per annum. Holders of Old Notes whose Old Notes are
accepted for exchange will be deemed to have waived the right to receive any
payment in respect of interest on the Old Notes accrued up until the date of the
issuance of the Exchange Notes.
PROCEDURES FOR TENDERING
To tender in the Exchange Offer, a holder must complete, sign and date the
Letter of Transmittal, or a facsimile thereof, have the signatures thereon
guaranteed if required by instruction 3 of the Letter of Transmittal, and mail
or otherwise deliver such Letter of Transmittal or such facsimile, together with
the Old Notes and any other required documents. To be validly tendered, such
documents must reach the Exchange Agent on or before 5:00 p.m., New York City
time, on the Expiration Date.
The tender by a holder of Old Notes will constitute an agreement between
such holder and the Company in accordance with the terms and subject to the
conditions set forth herein and in the Letter of Transmittal.
Delivery of all documents must be made to the Exchange Agent at its address
set forth below. Holders may also request their respective brokers, dealers,
commercial banks, trust companies or other nominees to effect such tender for
such holders.
The method of delivery of Old Notes and the Letter of Transmittal and all
other required documents to the Exchange Agent is at the election and risk of
the holders. Instead of delivery by mail, it is recommended that holders use an
overnight or hand delivery service. In all cases, sufficient time should be
allowed to assure timely delivery to the Exchange Agent on or before 5:00 p.m.
New York City time, on the Expiration Date. No Letter of Transmittal or Old
Notes should be sent to the Company or the Guarantors.
Only a holder of Old Notes may tender such Old Notes in the Exchange Offer.
The term "holder" with respect to the Exchange Offer means any person in whose
name Old Notes are registered on the books of the Company or any other person
who has obtained a properly completed bond power from the registered holder.
Any beneficial holder whose Old Notes are registered in the name of his
broker, dealer, commercial bank, trust company or other nominee and who wishes
to tender should contact such registered holder promptly and instruct such
registered holder to tender on his behalf. If such beneficial holder wishes to
tender on his own behalf, such registered holder must, prior to completing and
executing the Letter of Transmittal and delivering his Old Notes, either make
appropriate arrangements to register
30
<PAGE>
ownership of the Old Notes in such holder's name or obtain a properly completed
bond power from the registered holder. The transfer of record ownership may take
considerable time.
Signatures on a Letter of Transmittal or a notice of withdrawal, as the case
may be, must be guaranteed by a member firm of a registered national securities
exchange or of the National Association of Securities Dealers, Inc. or a
commercial bank or trust company having an office or correspondent in the United
States (an "Eligible Institution") unless the Old Notes tendered pursuant
thereto are tendered (a) by a registered holder who has not completed the box
entitled "Special Issuance Instructions" or "Special Delivery Instructions" on
the Letter of Transmittal or (b) for the account of an Eligible Institution. In
the event that signatures on a Letter of Transmittal or a notice of withdrawal,
as the case may be, are required to be guaranteed, such guarantee must be by an
Eligible Institution.
If the Letter of Transmittal is signed by a person other than the registered
holder of any Old Notes listed therein, such Old Notes must be endorsed or
accompanied by appropriate bond powers and a proxy which authorizes such person
to tender the Old Notes on behalf of the registered holder, in each case signed
as the name of the registered holder or holders appears on the Old Notes.
If the Letter of Transmittal or any Old Notes or bond powers are signed by
trustees, executors, administrators, guardians, attorneys-in-fact, officers of
corporations or others acting in a fiduciary or representative capacity, such
persons should so indicate when signing, and unless waived by the Company,
evidence satisfactory to the Company of their authority so to act must be
submitted with the Letter of Transmittal.
All questions as to the validity, form, eligibility (including time of
receipt), and withdrawal of the tendered Old Notes will be determined by the
Company in its sole discretion, which determination will be final and binding.
The Company reserves the absolute right to reject any and all Old Notes not
properly tendered or any Old Notes the Company's acceptance of which would, in
the opinion of counsel for the Company, be unlawful. The Company also reserves
the right to waive any irregularities or conditions of tender as to particular
Old Notes. The Company's interpretation of the terms and conditions of the
Exchange Offer (including the instructions in the Letter of Transmittal) will be
final and binding on all parties. Unless waived, any defects or irregularities
in connection with tenders of Old Notes must be cured within such time as the
Company shall determine. None of the Company, the Guarantors, the Exchange Agent
or any other person shall be under any duty to give notification of defects or
irregularities with respect to tenders of Old Notes, nor shall any of them incur
any liability for failure to give such notification. Tenders of Old Notes will
not be deemed to have been made until such irregularities have been cured or
waived. Any Old Notes received by the Exchange Agent that are not properly
tendered and as to which the defects or irregularities have not been cured or
waived will be returned without cost to such holder by the Exchange Agent to the
tendering holders of Old Notes, unless otherwise provided in the Letter of
Transmittal, as soon as practicable following the Expiration Date.
In addition, the Company reserves the right in its sole discretion to (a)
purchase or make offers for any Old Notes that remain outstanding subsequent to
the Expiration Date or, as set forth under "--Conditions," to terminate the
Exchange Offer in accordance with the terms of the Registration Rights Agreement
and (b) to the extent permitted by applicable law, purchase Old Notes in the
open market, in privately negotiated transactions or otherwise. The terms of any
such purchases or offers will differ from the terms of the Exchange Offer.
By tendering, each holder will represent to the Company that, among other
things, (a) the Exchange Notes acquired pursuant to the Exchange Offer are being
obtained in the ordinary course of business of such holder or other person, (b)
neither such holder nor such other person is engaged in or intends to engage in
a distribution of the Exchange Notes (c) neither such holder or other person has
any arrangement or understanding with any person to participate in the
distribution of such Exchange Notes, and (d) such holder or other person is not
an "affiliate," as defined under Rule 405 of the
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<PAGE>
Securities Act, of the Company or, if such holder or other person is such an
affiliate, will comply with the registration and prospectus delivery
requirements of the Securities Act to the extent applicable.
Each broker-dealer that receives Exchange Notes for its own account in
exchange for Old Notes, where such Old Notes were acquired by such broker-dealer
as a result of market-making or other trading activities, must acknowledge that
it will deliver a prospectus in connection with any resale of such Exchange
Notes. The Letter of Transmittal states that by so acknowledging and by
delivering a prospectus, a broker-dealer will not be deemed to admit that it is
an "underwriter" within the meaning of the Securities Act. This Prospectus, as
it may be amended or supplemented from time to time, may be used by a
broker-dealer in connection with resales of Exchange Notes received in exchange
for Old Notes where such Old Notes were acquired by such broker-dealer as result
of market-making activities or other trading activities. The Company has agreed
that, for a period of 180 days after consummation of the Exchange Offer, it will
make this Prospectus, as it may be amended or supplemented from time to time,
available to any broker-dealer for use in connection with any such resale. See
"Plan of Distribution."
The Company will not receive any proceeds from the Exchange Offer. See "Use
of Proceeds." The Company has agreed to bear the expenses of the Exchange Offer
pursuant to the Registration Rights Agreement. No underwriter is being used in
connection with the Exchange Offer.
The Old Notes were issued on May 15, 1998, and there is no public market for
them at present. To the extent Old Notes are tendered and accepted in the
Exchange Offer, the principal amount of outstanding Old Notes will decrease with
a resulting decrease in the liquidity in the market therefor. Following the
consummation of the Exchange Offer, holders of Old Notes will continue to be
subject to certain restrictions on transfer. Accordingly, the liquidity of the
market for the Old Notes could be adversely affected.
GUARANTEED DELIVERY PROCEDURES
Holders who wish to tender their Old Notes and (a) whose Old Notes are not
immediately available or (b) who cannot deliver their Old Notes, the Letter of
Transmittal or any other required documents to the Exchange Agent prior to the
Expiration Date, may effect a tender if: (i) the tender is made through an
Eligible Institution; (ii) prior to the Expiration Date, the Exchange Agent
receives from such Eligible Institution a properly completed and duly executed
Notice of Guaranteed Delivery (by facsimile transmission, mail or hand delivery)
setting forth the name and address of the holder of the Old Notes, the
certificate number or numbers of such Old Notes and the principal amount of Old
Notes tendered, stating that the tender is being made thereby, and guaranteeing
that, within three business days after the Expiration Date, the Letter of
Transmittal (or facsimile thereof) together with the certificate(s) representing
the Old Notes to be tendered in proper form for transfer and any other documents
required by the Letter of Transmittal will be deposited by the Eligible
Institution with the Exchange Agent; and (iii) such properly completed and
executed Letter of Transmittal (or facsimile thereof) together with the
certificate(s) representing all tendered Old Notes in proper form for transfer
and all other documents required by the Letter of Transmittal are received by
the Exchange Agent within three business days after the Expiration Date.
WITHDRAWAL OF TENDERS
Except as otherwise provided herein, tenders of Old Notes may be withdrawn
at any time prior to 5:00 p.m., New York City time, on the Expiration Date,
unless previously accepted for exchange.
To withdraw a tender of Old Notes in the Exchange Offer, a written or
facsimile transmission notice of withdrawal must be received by the Exchange
Agent at its address set forth herein prior to 5:00 p.m., New York City time, on
the Expiration Date. Any such notice of withdrawal must (a) specify the name of
the person having deposited the Old Notes to be withdrawn (the "Depositor"), (b)
identify
32
<PAGE>
the Old Notes to be withdrawn (including the certificate number or numbers and
principal amount of such Old Notes), (c) be signed by the Depositor in the same
manner as the original signature on the Letter of Transmittal by which such Old
Notes were tendered (including any required signature guarantees) or be
accompanied by documents of transfer sufficient to have the Trustee with respect
to the Old Notes register the transfer of such Old Notes into the name of the
Depositor withdrawing the tender and (d) specify the name in which any such Old
Notes are to be registered, if different from that of the Depositor. All
questions as to the validity, form and eligibility (including time of receipt)
of such withdrawal notices will be determined by the Company, whose
determination shall be final and binding on all parties. Any Old Notes so
withdrawn will be deemed not to have been validly tendered for purposes of the
Exchange Offer and no Exchange Notes will be issued with respect thereto unless
the Old Notes so withdrawn are validly retendered. Any Old Notes which have been
tendered but which are not accepted for exchange will be returned to the holder
thereof without cost to such holder as soon as practicable after withdrawal,
rejection of tender or termination of the Exchange Offer. Properly withdrawn Old
Notes may be retendered by following one of the procedures described above under
"-- Procedures for Tendering" at any time prior to the Expiration Date.
CONDITIONS
Notwithstanding any other term of the Exchange Offer, the Company will not
be required to accept for exchange, or exchange Exchange Notes for, any Old
Notes not theretofore accepted for exchange, and may terminate or amend the
Exchange Offer as provided herein before the acceptance of such Old Notes, if
the Company or the holders of at least a majority in principal amount of Old
Notes reasonably determine in good faith that any of the following conditions
exist: (a) the Exchange Notes to be received by such holders of Old Notes in the
Exchange Offer, upon receipt, will not be tradable by each such holder (other
than a holder which is an affiliate of the Company at any time on or prior to
the consummation of the Exchange Offer) without restriction under the Securities
Act and the Exchange Act and without material restrictions under the blue sky or
securities laws of substantially all of the states of the United States, (b) the
interests of the holders of the Old Notes, taken as a whole, would be materially
adversely affected by the consummation of the Exchange Offer or (c) after
conferring with counsel, the Commission is unlikely to permit the making of the
Exchange Offer on or before November 11, 1998.
Pursuant to the Registration Rights Agreement, if an Exchange Offer shall
not be consummated prior to the Exchange Offer Termination Date (as defined),
the Company will be obligated to cause to be filed with the Commission a shelf
registration statement with respect to the Old Notes (the "Shelf Registration
Statement") as promptly as practicable after the Exchange Offer Termination Date
and thereafter use its best efforts to have the Shelf Registration Statement
declared effective.
"Exchange Offer Termination Date" means the date on which the earliest of
any of the following events occurs: (a) applicable interpretations of the staff
of the Commission do not permit the Company to effect the Exchange Offer or (b)
any holder of Notes notifies the Company within 20 business days following the
consummation of the Exchange Offer that (i) such holder is not eligible to
participate in the Exchange Offer, (ii) such holder participated in the Exchange
Offer and did not receive freely transferable Exchange Notes in exchange for
tendered Old Notes or (iii) such holder is a broker-dealer and holds Old Notes
acquired directly from the Company or one of its affiliates.
If any of the conditions described above exist, the Company will refuse to
accept any Old Notes and will return all tendered Old Notes to exchanging
holders of the Old Notes.
EXCHANGE AGENT
State Street Bank and Trust Company has been appointed as Exchange Agent for
the Exchange Offer. Questions and requests for assistance and requests for
additional copies of this Prospectus or of
33
<PAGE>
the Letter of Transmittal and deliveries of completed Letters of Transmittal
with tendered Old Notes should be directed to the Exchange Agent addressed as
follows:
<TABLE>
<S> <C>
BY MAIL BY HAND/OVERNIGHT DELIVERY
State Street Bank and Trust Company State Street Bank and Trust Company
Two International Place, 4th Floor 61 Broadway, 15th Floor
Boston, Massachusetts 02110 New York, New York 10006
Attention: Claire Young--Corporate Trust Attention: Corporate Trust Department
Department
</TABLE>
The Company will indemnify the Exchange Agent and its agents for any loss,
liability or expense incurred by them, including reasonable costs and expenses
of their defense, except for any such loss, liability or expense caused by
negligence or bad faith.
FEES AND EXPENSES
The expenses of soliciting tenders pursuant to the Exchange Offer will be
borne by the Company. The principal solicitation for tenders pursuant to the
Exchange Offer is being made by mail. Additional solicitations may be made by
officers and regular employees of the Company and its affiliates in person, by
telephone or facsimile.
The Company will not make any payments to brokers, dealers, or other persons
soliciting acceptances of the Exchange Offer. The Company, however, will pay the
Exchange Agent reasonable and customary fees for its services and will reimburse
the Exchange Agent for its reasonable out-of-pocket expenses in connection
therewith. The Company may also pay brokerage houses and other custodians,
nominees and fiduciaries the reasonable out-of-pocket expenses incurred by them
in forwarding copies of this Prospectus, Letters of Transmittal and related
documents to the beneficial owners of the Old Notes, and in handling or
forwarding tenders for exchange.
The expenses to be incurred in connection with the Exchange Offer, including
fees and expenses of the Exchange Agent and Trustee and accounting and legal
fees and expenses, will be paid by the Company, and are estimated in the
aggregate to be approximately $250,000.
The Company will pay all transfer taxes, if any, applicable to the exchange
of Old Notes pursuant to the Exchange Offer. If, however, certificates
representing Exchange Notes (or Old Notes for principal amounts not tendered or
accepted for exchange) are to be delivered to, or are to be registered or issued
in the name of, any person other than the registered holder of the Old Notes
tendered, or if tendered Old Notes are registered in the name of any person
other than the person signing the Letter of Transmittal, or if a transfer tax is
imposed for any reason other than the exchange of Old Notes pursuant to the
Exchange Offer, then the amount of any such transfer taxes (whether imposed on
the registered holder or any other persons) will be payable by the tendering
holder. If satisfactory evidence of payment of such taxes or exemption therefrom
is not submitted with the Letter of Transmittal, the amount of such transfer
taxes will be billed directly to such tendering holder.
ACCOUNTING TREATMENT
The Company will not recognize any gain or loss for accounting purposes upon
the consummation of the Exchange Offer. The expense of the Exchange Offer will
be amortized by the Company over the term of the Exchange Notes under generally
accepted accounting principles.
34
<PAGE>
MATERIAL FEDERAL INCOME TAX CONSIDERATIONS OF THE EXCHANGE OFFER
This summary is based on interpretations of the Internal Revenue Code of
1986, as amended, regulations issued thereunder, and rulings and decisions
currently in effect (or in some cases proposed) as of the date of this
Prospectus, all of which are subject to change. Any such change may be applied
retroactively and may adversely affect the U.S. federal income tax consequences
described herein. This summary addresses only holders that beneficially own
Exchange Notes as capital assets and not as part of a "straddle" or a
"conversion transaction" for federal income tax purposes, or as part of some
other integrated investment. The summary does not discuss all of the tax
consequences that may be relevant to particular investors or to investors
subject to special treatment under the federal income tax laws (such as life
insurance companies, retirement plans, regulated investment companies,
securities dealers, or investors whose functional currency is not the U.S.
dollar). No ruling from the Internal Revenue Service will be sought with respect
to the Exchange Notes, and the Internal Revenue Service could take a contrary
view with respect to the matters described below. Accordingly, holders of Old
Notes are urged to consult their tax advisors with respect to the U.S. federal,
state, local and foreign tax consequences of the Exchange Offer.
The exchange of Old Notes for Exchange Notes in the Exchange Offer will not
be a taxable exchange for U.S. federal income tax purposes. A holder will not
recognize any taxable gain or loss as a result of such exchange and will have
the same tax basis and holding period in the Exchange Notes as it had in the Old
Notes immediately before the exchange. See "Material Federal Income Tax
Considerations."
35
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company, through its wholly-owned subsidiary Lodestar, is engaged in the
mining and marketing of bituminous coal used principally for the generation of
electricity, as well as for other industrial applications. Lodestar operates a
diverse portfolio of seven deep and five surface coal mines located in Eastern
and Western Kentucky and is among the largest coal producing companies in
Kentucky, the third largest coal producing state. Lodestar focuses on select
niche coal markets in the Eastern, South Central and Great Lakes regions of the
United States. Lodestar offers flexibility in its coal qualities, as required by
varied and changing customer demands, through its diverse portfolio of mines and
mining methods, its blending capabilities and its transportation alternatives.
Lodestar believes its niche market strategy and flexible operations enable it to
meet customer demand for quality products and services at competitive prices,
resulting in long-term supply contracts. In excess of 87% of Lodestar's fiscal
1999 production is committed under purchase orders and contracts and
approximately 67% of such production is committed under long-term contracts that
had a weighted average term of approximately 7.7 years as of July 31, 1998.
Presently, Lodestar controls the mineral rights through lease or ownership
at eleven mines and operates a twelfth mine at which mineral rights are
controlled by a third party, four of which are in Western Kentucky (three
underground and one surface) and eight in Eastern Kentucky (four underground and
four surface). Lodestar also owns and operates an ash disposal facility in
Eastern Kentucky.
Lodestar's Western Kentucky coal product is mid to high sulfur and competes
primarily in the regional utility market. Targeted customers can effectively
burn high sulfur coal by utilizing "scrubbers" that remove sulfur dioxide from
plant emissions or by utilizing the emissions allowance market. Alternatively,
customers can blend such coals with low Btu, low sulfur coals from the Western
United States. Lodestar's Eastern Kentucky coal product, as compared to its
Western Kentucky coal product, is generally higher in Btu content and lower in
sulfur content, which provides for a broader market.
The Company was formed in August 1996 to acquire all of the capital stock of
Costain Coal Inc. (prior to such acquisition, the "Predecessor Company") from
Costain America Inc (the "Predecessor's Parent"). The Acquisition included
substantially all of the Predecessor Company's mining interests in Kentucky and
West Virginia. The Acquisition, which was effective March 14, 1997, has been
accounted for using the purchase method of accounting. After the Acquisition,
Costain Coal Inc. was renamed Lodestar Energy, Inc.
CERTAIN EVENTS
Since 1994, the Predecessor's Parent had been divesting its operations and
assets in an attempt to exit the U.S. market. Accordingly, the Predecessor
Company undertook a process of selling operations or liquidating certain assets
based on the geographic location of such assets. In particular, the Predecessor
Company's operations in Ohio, which shipped approximately 325,000 tons of coal,
generating approximately $13.2 million of coal sales and related revenue in
1994, were closed after its coal supply agreement relating to those operations
was sold in December 1994. In March 1995, the Predecessor Company sold its
Louisiana operations, which produced approximately 2.7 million tons of lignite
coal, generating approximately $46.8 million of coal sales and related revenue
in 1994. In December 1995, the Alabama operations, which shipped approximately
820,000 tons of coal, generating approximately $30.8 million of coal sales and
related revenue in 1995, were sold.
In the first quarter of fiscal 1998, Lodestar idled its West Virginia
operations, which shipped approximately 357,000 tons of coal, generating
approximately $9.6 million of coal sales and related
36
<PAGE>
revenue for the twelve months ended July 31, 1998. Lodestar is currently
performing required reclamation activities. The estimated cost of all
reclamation and mine closing activities is included as a liability in the July
31, 1998 balance sheet. With the idling of the West Virginia operations, all of
Lodestar's operating assets are located in Kentucky.
During 1994, the Predecessor Company experienced a series of events which
materially adversely affected its results of operations. Specifically, due to
geologic anomalies and roof problems in its Wheatcroft mine (Western Kentucky),
as well as equipment trouble with the two operating longwall miners, the
Predecessor Company had lower production and yields, which adversely affected
results of operations. At the Baker mine (Western Kentucky), management revised
the long-term mine plan from continuous mining to longwall mining. As a result,
the Predecessor Company experienced development costs and lost production due to
the mine plan modifications necessary to complete the changeover, resulting in
increased cost of revenues. In an effort to generate cash, the Predecessor
Company elected to sell a short-line railroad it owned in Western Kentucky (the
"Short-Line Railroad"), which resulted in an $8.1 million charge to cost of
revenues. In addition, $2.2 million in provisions were made to account for
ongoing employee costs associated with personnel terminations and to increase
outstanding litigation reserves.
During 1996, the Predecessor Company was negatively affected by production
difficulties in Western Kentucky which increased cost of revenues. In addition,
certain accounting reserves were established or increased as follows: (i) a $5.3
million reserve was established as an estimate of the excess of present value of
minimum payment commitments over the applicable services provided in conjunction
with a noncancellable transportation contract; this reserve was necessitated by
a change in sales mix which occurred in 1996; (ii) a $2.4 million reserve was
established as an estimate of the excess of cash costs over revenue to be
generated under the Big Rivers contract until the 1998 price reopener; (iii) the
reserve for accrued reclamation was increased by $6.0 million primarily due to
the Company's failure to secure a Western Kentucky ash disposal contract in 1996
where such failure resulted in the probability of a $6.0 million increase in the
cost of fill material for required reclamation work; (iv) the reserve for
accrued workers' compensation liability was increased by $4.0 million as a
result of an increase in projected claims incurred but not reported based on an
updated actuarial study performed as of December 31, 1996; and (v) a $3.5
million increase in reserves for abandoned properties was established in Eastern
Kentucky primarily due to 1996 mining plan revisions which resulted in the
unlikelihood that certain capitalized costs associated with advanced royalty
payments and mine development would be recouped in the normal course of
business. The Predecessor Company also incurred legal expenses of approximately
$2.0 million in connection with the sales process.
37
<PAGE>
PRODUCTION AND REVENUE SOURCES
As of January 31, 1998, Lodestar had approximately 198.6 million recoverable
tons of demonstrated reserves based upon estimates prepared by Marshall Miller &
Associates. Most of Lodestar's demonstrated reserves are leased from third
parties pursuant to long-term lease and royalty agreements with terms ranging
from five to 30 years. The following table summarizes the tons shipped by region
for the periods presented:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED TEN MONTHS ENDED NINE MONTHS ENDED
DECEMBER 31, OCTOBER 31, JULY 31,
-------------------- -------------------- --------------------
<S> <C> <C> <C> <C> <C> <C>
REGION 1995 1996 1996 1997 1997 1998
<CAPTION>
(TONS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Eastern Kentucky.................................................. 3,304 4,129 3,463 3,403 2,879 3,076
Western Kentucky.................................................. 6,171 5,479 4,729 4,771 3,996 4,560
West Virginia..................................................... 724 803 690 574 529 199
Brokered.......................................................... 235 158 124 17 46 68
Louisiana......................................................... 533 -- -- -- -- --
Alabama........................................................... 820 -- -- -- -- --
Ohio.............................................................. 24 -- -- -- -- --
--------- --------- --------- --------- --------- ---------
Total......................................................... 11,811 10,569 9,006 8,765 7,450 7,903
--------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- ---------
</TABLE>
Lodestar's principal source of revenues are from the sale of coal pursuant
to long-term contracts, or through coal sales on the spot market. In addition,
Lodestar derives additional revenue from ancillary services related to its coal
operations, including ash disposal.
The principal components of Lodestar's expenses are costs relating to the
production and transportation of coal. These costs include labor expenses,
royalty and lease payments, payments for fuel, materials and supplies and
equipment repairs, production taxes and fees, reclamation expenditures, and
trucking costs. Other costs include depreciation, depletion and amortization
expense, general and administrative expense, as well as interest expense.
With respect to royalty and lease payments, Lodestar pays lessors royalties
for the right to mine coal either as a fixed amount per ton or as a percentage
of the sales price. Such royalty payments are reflected in the Company's cost of
revenues. In addition, many leases also require the payment to the lessor of a
lease bonus or minimum royalty, payable upon execution of the lease or in
periodic installments. In most cases, the minimum royalty payments are applied
to reduce future production royalties as set forth in the lease. The Company, in
accordance with generally accepted accounting principles, capitalizes the
minimum royalty or lease bonuses and amortizes such amount on a
unit-of-production basis.
FACTORS AFFECTING PROFITABILITY
The market conditions for Lodestar's Eastern Kentucky operations can be
extremely different from the market conditions for Lodestar's Western Kentucky
because the two mining regions contain dissimilar coal products which attract
different customers. For the twelve months ended July 31, 1998, more than 80% of
Lodestar's Eastern Kentucky coal was produced from surface mines. Conversely,
more than 90% of Lodestar's Western Kentucky coal was produced from underground
mines in the same period.
The primary variable factors which affect Lodestar's profitability in
Eastern Kentucky are: (i) market conditions; (ii) productivity; (iii) the ratio
of yards of overburden moved to tons of coal produced (the "strip ratio"); and
(iv) the heat and sulfur content of the coal produced (the "coal quality").
38
<PAGE>
The primary variable factors which affect Lodestar's profitability in
Western Kentucky are: (i) market conditions; (ii) productivity; (iii) the ratio
of coal available for sale to material extracted, or saleable yield; and (iv)
the coal quality.
RESULTS OF OPERATIONS
The following table sets forth statement of operations data for the
Predecessor Company and the Company for the periods presented. The combined
operations and other data for the ten months ended October 31, 1997 combine the
results of operations of the Predecessor Company for the period January 1, 1997
to March 14, 1997 and of the Company for the period March 15, 1997 to October
31, 1997. The combined operations and other data for the nine months ended July
31, 1997 combine the results of operations of the Predecessor Company for the
periods November 1, 1996 to December 31, 1996 and January 1, 1997 to March 14,
1997 and the Company for the period March 15, 1997 to July 31, 1997. The
combined operations and other data for the ten months ended October 31, 1997 and
for the nine months ended July 31, 1997 do not purport to represent what the
Company's consolidated results of operations would have been if the Acquisition
had actually occurred on January 1, 1997 and November 1, 1997, respectively. Due
to the purchase accounting adjustments applied to the Company's accounts as of
March 15, 1997, the results of the Predecessor Company for the ten months ended
October 31, 1996 and the combined results of the Predecessor Company and the
Company for the ten months ended October 31, 1997 are not comparable beyond
EBIOTDA. Similarly, the combined results of the Predecessor Company and the
Company for the nine months ended July 31, 1997 and the results of the Company
for the nine months ended July 31, 1998 are not comparable beyond EBIOTDA.
<TABLE>
<CAPTION>
THE
THE PREDECESSOR COMPANY COMPANY
<S> <C> <C> <C> <C> <C> <C>
<CAPTION>
COMBINED COMBINED
TEN TEN NINE NINE
FISCAL YEAR ENDED MONTHS MONTHS MONTHS MONTHS
DECEMBER 31, ENDED ENDED ENDED ENDED
---------------------- OCTOBER 31, OCTOBER 31, JULY 31, JULY 31,
1995 1996 1996 1997 1997 1998
<S> <C> <C> <C> <C> <C> <C>
<CAPTION>
(DOLLARS AND TONS IN THOUSANDS, EXCEPT PER TON DATA)
<S> <C> <C> <C> <C> <C> <C>
OPERATIONS AND OTHER DATA:
Coal sales and related revenue............. $ 308,370 $ 255,386 $ 218,476 $ 220,367 $ 184,174 $ 199,657
Cost of revenues........................... 255,859 257,269 220,891 195,392 170,654 168,014
---------- ---------- ----------- ----------- ----------- -----------
Gross profit (loss)........................ 52,511 (1,883) (2,415) 24,975 13,520 31,643
General and administrative................. 11,677 14,270 11,963 9,013 7,734 11,670
---------- ---------- ----------- ----------- ----------- -----------
EBIOTDA(1)................................. $ 40,834 $ (16,153) $ (14,378) $ 15,962 $ 5,786 $ 19,973
---------- ---------- ----------- ----------- ----------- -----------
---------- ---------- ----------- ----------- ----------- -----------
OTHER OPERATING DATA:
Tons of coal shipped....................... 11,811 10,569 9,006 8,765 7,450 7,903
Coal sales and related revenue per ton
shipped.................................. $ 26.11 $ 24.16 $ 24.26 $ 25.14 $ 24.72 $ 25.26
Cost of revenues per ton shipped........... 21.66 24.34 24.53 22.29 22.91 21.26
</TABLE>
- ------------------------
(1) EBIOTDA represents earnings before net interest expense, other income
(expense), extraordinary items, income taxes and depreciation, depletion and
amortization. The trends of EBIOTDA generally follow the trends of operating
income. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" for a discussion of the recent trends of operating
income. Information regarding EBIOTDA is presented because management
believes that certain investors use EBIOTDA as one measure of an issuer's
ability to service its debt. EBIOTDA should not be considered an alternative
to, or more meaningful than, operating income, net income or cash flow as
defined by generally accepted accounting principles or as an indicator of an
issuer's operating performance. Furthermore, caution should be used in
comparing EBIOTDA to similarly titled measures of other companies as the
definitions of these measures may vary.
39
<PAGE>
NINE MONTHS ENDED JULY 31, 1998 COMPARED TO NINE MONTHS ENDED JULY 31, 1997
COAL SALES AND RELATED REVENUE for the nine months ended July 31, 1998 (the
"1998 Period") were $199.7 million, an increase of $15.5 million or 8.4%
compared to the nine months ended July 31, 1997 (the "1997 Period"). This
increase was the result of a 6.1% increase in tons shipped combined with a $.54
per ton net increase in coal sales and related revenue. The sales volume
increase is attributable to 564,000 tons of increased sales in Western Kentucky.
Additional tons were available for sale in Western Kentucky because of the
increased productivity at the Baker mine and the resumption of mining activities
at the Wheatcroft mine. The net increase in coal sales and related revenue of
$.54 per ton combines the net effect of a $1.24 per ton increase in coal related
revenue from ancillary services, with a $.70 per ton decrease in coal revenue
per ton. The increase in ancillary services, which represented 8.0% and 3.3% of
coal sales and related revenues for the 1998 and 1997 Periods, respectively, is
primarily due to the revenue generated from contract mining the Shop Branch mine
in Eastern Kentucky. The decrease in coal revenue per ton is primarily
attributable to the higher percentage of Western Kentucky coal sales.
COST OF REVENUES were $168.0 million in the 1998 Period as compared to
$170.7 million in the 1997 Period. The 1.6% decrease in cost of revenues
together with the 6.1% increase in tons shipped resulted in cost of revenues per
ton shipped decreasing from $22.91 in the 1997 Period to $21.26 in the 1998
Period. The primary reason for the cost per ton improvement has been the
improved productivity and resultant lower costs per ton at the Baker mine in
Western Kentucky. In addition, a significant reduction in cost of revenues
resulted from the elimination of $2.7 million of equipment lease expense
subsequent to the buyout of those obligations in the 1998 Period. These
reductions were partially offset by the additional costs associated with the
significant increase in coal related revenue.
GENERAL AND ADMINISTRATIVE costs increased to $11.7 million in the 1998
Period from $7.7 million in the 1997 Period. The increase of 50.9% in the 1998
Period is due to a combination of factors including: (i) the waiver of the Renco
management fee for the period March 15, 1997 to July 31, 1997; (ii) increased
banking charges, particularly in conjunction with the credit facility which was
not in place for most of the 1997 Period; (iii) staffing of permanent personnel
in both the accounting and sales and marketing areas during the 1998 Period; and
(iv) the payment of $2.8 million to certain executives in connection with the
Transactions in the 1998 Period. The variance between the 1997 Period and the
1998 Period would have been greater if not for charges of $.8 million to write
off certain uncollectible receivables during the 1997 Period.
EBIOTDA for the 1998 Period was $20.0 million as compared to $5.8 million
for the 1997 Period. The $14.2 million improvement was the result of factors as
previously described in this section.
DEPRECIATION, DEPLETION AND AMORTIZATION was $20.0 million for the 1998
Period and $16.6 million for the 1997 Period. Factors affecting depreciation,
depletion and amortization during the 1998 Period were (i) depreciation
associated with the purchase of certain equipment financed pursuant to leases
prior to May 15, 1998; (ii) amortization of coal supply and ash disposal
contracts acquired as part of the Acquisition; and (iii) reduced depreciation
due to write-down of fixed assets to fair value related to purchase accounting
for the Acquisition.
INTEREST EXPENSE was $8.6 million for the 1998 Period and $5.1 million for
the 1997 Period. The increase during the 1998 Period is a result of the
inclusion of the full impact of interest on debt associated with the Acquisition
and the increased level of debt resulting from the issuance of the Old Notes.
EXTRAORDINARY INCOME of $6.6 million was recorded during the 1998 Period.
The income was the net effect of the $8.0 million credit associated with the
buyout of certain deferred payment obligations and the $1.4 million charge
associated with the write-off of certain capitalized costs associated with
indebtedness repaid with the proceeds of the offering of the Old Notes.
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NET LOSS of $2.1 million was incurred during the 1998 Period. A net loss of
$15.9 million was incurred during the 1997 Period. Certain factors contributing
to the losses during the 1998 and 1997 Periods have been described above.
Additionally, during the 1998 Period, Lodestar's operating margins have been
adversely impacted by: (i) operating losses at the Smith Underground mine in
Western Kentucky, which has experienced poor geologic conditions during much of
the period; (ii) operating losses at the Shop Branch mine in Eastern Kentucky
which encountered much higher than anticipated strip ratios; (iii) poor average
coal quality from Eastern Kentucky surface mining operations which depressed the
average selling price of its Eastern Kentucky coals; and (iv) depreciation of
temporarily idled equipment, particularly the equipment which previously had
been deployed at the West Virginia surface mining operation.
TEN MONTHS ENDED OCTOBER 31, 1997 COMPARED TO TEN MONTHS ENDED OCTOBER 31,
1996
COAL SALES AND RELATED REVENUE for the ten months ended October 31, 1997
(the "1997 Interim Period") increased to $220.4 million as compared to $218.5
million for the ten months ended October 31, 1996 (the "1996 Interim Period"),
an increase of 0.9%. Coal sales and related revenue per ton shipped increased
from $24.26 to $25.14 on tons shipped that were slightly lower than during the
1996 Interim Period. The increase in coal sales and related revenue was
attributable to minor pricing improvements and significant increases in coal
related revenue including ash disposal income, revenue from contract coal
stripping and coal processing for third parties. Coal related revenues increased
to 3.3% of total coal sales and related revenue for the 1997 Interim Period
compared to 1.0% for the 1996 Interim Period. The increased coal sales and
related revenue was achieved despite a decline of $2.9 million in West Virginia
revenues as operations were being idled, and a decline of $3.5 million in
brokered sales.
COST OF REVENUES decreased to $195.4 million for the 1997 Interim Period
from $220.9 million for the 1996 Interim Period, a 11.5% decrease as compared to
a 2.7% decrease in tons shipped. The primary cause of the decrease was certain
noncash charges totaling $18.8 million affecting the 1996 Interim Period
including (i) a $5.3 million provision due to the expected failure to meet
minimum shipping obligations over the term of a transportation contract; (ii) a
$2.4 million provision due to expected losses under the Big Rivers Electric
Corporation contract; (iii) $6.0 million increase in reclamation reserves; (iv)
$4.0 million increase in workers' compensation reserve; and (v) approximately
$3.5 million charge related to abandoned property, as discussed under "--Certain
Events." Excluding the aforementioned adjustments, costs decreased from $22.44
per ton shipped during the 1996 Interim Period to $22.29 per ton shipped in the
1997 Interim Period, a decrease of 0.7%. Costs were lowered in Western Kentucky
by a cost-restructuring program reducing employee benefits, which was
implemented late in 1996. Eastern Kentucky costs remained relatively constant
between the 1996 and 1997 Interim Periods.
GENERAL AND ADMINISTRATIVE costs decreased to $9.0 million in the 1997
Interim Period from $12.0 million in the 1996 Interim Period, representing a
decrease of 24.7%. The majority of this decline was attributable to decreased
legal costs of $1.7 million in the 1997 Interim Period. Other factors positively
affecting the 1997 Interim Period were reduced taxes other than income taxes,
services provided by Renco at no charge which were previously provided by
consultants, and reduced administrative expenses at the operating locations. The
aforementioned factors more than offset the greater benefit received in the 1996
Interim Period from the allocation of certain expenses to a company affiliated
with the Predecessor Company.
EBIOTDA for the 1997 Interim Period was $16.0 million. This was a $30.4
million improvement from EBIOTDA of $(14.4) million for the 1996 Interim Period
due to the factors discussed above.
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DEPRECIATION, DEPLETION AND AMORTIZATION was $19.0 million for the 1997
Interim Period and $19.4 million for the 1996 Interim Period. The depreciation,
depletion and amortization for the 1997 Interim Period was affected by the
accounting for the Acquisition.
INTEREST EXPENSE was $6.8 million for the 1997 Interim Period and $2.3
million for the 1996 Interim Period. Interest expense in the 1997 Interim Period
included interest on debt associated with the Acquisition.
NET LOSS of $9.9 million was incurred in the 1997 Interim Period. A net loss
of $36.0 was incurred in the 1996 Interim Period. Certain factors contributing
to the losses during the 1997 and 1996 Interim
Periods have been described above.
FISCAL YEAR ENDED DECEMBER 31, 1996 COMPARED TO FISCAL YEAR ENDED DECEMBER
31, 1995
COAL SALES AND RELATED REVENUE for fiscal 1996 were $255.4 million as
compared to $308.4 million for fiscal 1995. This represented a decrease of 17.2%
between the periods. Of this decline, $9.3 million was due to the sale of the
Louisiana operations in March 1995 and $30.8 million was due to the sale of the
Alabama operations in December 1995. Western Kentucky coal sales and related
revenue also decreased by $27.3 million. Western Kentucky production decreased
0.7 million tons primarily attributable to the closure of the Wheatcroft
underground mine, partially offset by increased tons shipped from the Smith
operations which completed the transition from surface to underground
production. In addition, coal sales and related revenue per ton shipped in
Western Kentucky decreased by $1.92 per ton shipped primarily due to the
expiration or liquidation of higher priced contracts. The decline in Western
Kentucky coal sales and related revenue was partially offset by an approximate
$21.1 million increase in Eastern Kentucky coal sales and related revenue. This
was primarily due to a 0.8 million ton increase in shipments as a result of
increased production related to additional leased equipment.
COST OF REVENUES increased to $257.3 million in fiscal 1996 from $255.9
million in fiscal 1995, an increase of 0.6%. Cost of revenues increased from
$21.66 to $24.34 per ton shipped primarily as a result of: (i) $7.7 million
provision for expected future losses on sales and transportation contracts; (ii)
$6.0 million increase in reclamation reserves; (iii) $4.0 million increase in
workers' compensation reserve; and (iv) approximately $3.5 million charge
related to abandoned property. In addition, costs in Western Kentucky were
negatively impacted in fiscal 1996 as compared to fiscal 1995 because of adverse
geologic conditions. Excluding the aforementioned factors, Eastern and Western
Kentucky costs per ton were reasonably consistent between periods.
DEPRECIATION, DEPLETION AND AMORTIZATION decreased to $22.7 million in
fiscal 1996 from $30.8 million in fiscal 1995, a reduction of $8.1 million.
Approximately $3.2 million of this decrease was due to the disposition of the
Louisiana and Alabama operations. The remainder was primarily due to the
reduction in depreciation related to a $31.2 million write-down of impaired
assets on December 31, 1995.
GENERAL AND ADMINISTRATIVE COSTS increased to $14.3 million in fiscal 1996
from $11.7 million in fiscal 1995, an increase of 22.2%. These increased costs
were primarily due to an increase in legal fees of $2.3 million related to the
sales process undertaken by the Predecessor Company.
OPERATING INCOME (LOSS) decreased from $10.0 million in fiscal 1995 to a
loss of $38.9 million in fiscal 1996. The substantial reduction was the
combination of a decrease in coal sales and related revenue and a significant
increase in cost of revenues and an increase in general and administrative
costs.
INTEREST EXPENSE, NET decreased from $4.4 million in fiscal 1995 to $2.8
million in fiscal 1996. Of this decrease, $1.1 million was the result of an
improved borrowing position. In addition, interest related to the Louisiana
operations was eliminated, and interest on capitalized leases declined slightly
between periods.
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OTHER INCOME (EXPENSE), NET was $3.7 million of income in fiscal 1995. In
fiscal 1995, the Predecessor Company recorded a $44.0 million gain by disposing
of its Louisiana operations. Substantially offsetting this gain, a $39.6 million
loss was incurred, adjusting the value of the Predecessor Company to an expected
sales price. Of the total loss of $39.6 million, $31.2 million related to the
write-down of fixed assets. Also included as $.7 million of expense was the
minority interest in the earnings of the Louisiana operations.
INCOME TAXES of $3.3 million were generated in fiscal 1995 as compared to no
tax liability in fiscal 1996. The fiscal 1995 income taxes were the result of
the gain on the sale of the Louisiana operations.
NET INCOME (LOSS) was $6.0 million in fiscal 1995 as compared to a $41.7
million loss in fiscal 1996. The reduced net income was the result of the
factors as described above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements arise from working capital
requirements, capital investments, interest payment obligations and implementing
its business strategy to grow through strategic acquisitions. The Company's
primary available sources of liquidity are cash provided by operating activities
and existing cash balances. The Company also has available Lodestar's new $120
million senior credit facility (the "New Senior Credit Facility") that provides
for advances by the lender to a maximum of $90.0 million, based on specific
percentages of eligible receivables and inventories, and for letters of credit
of up to $30.0 million. As of July 31, 1998, the New Senior Credit Facility was
undrawn, and $22.0 million of letters of credit were outstanding. See
"Description of New Senior Credit Facility."
Cash provided (used) by the Company's operating activities was $(16.7)
million, $11.7 million, $13.0 million and $(6.3) million during the 1997 and
1996 Interim Periods, and fiscal 1996 and 1995, respectively. Cash used by
operating activities in the 1997 Interim Period was negatively affected by the
poor cash position of the Predecessor Company prior to the Acquisition. Between
the date of the Acquisition and October 31, 1997, $27.1 million in cash was used
to finance changes in operating accounts. The fiscal 1996 cash provided by
operating activities resulted from a $21.0 million deterioration of working
capital.
Capital expenditures were $4.9 million, $8.9 million, $10.7 million and $5.8
million during the 1997 and 1996 Interim Periods and fiscal 1996 and 1995,
respectively. Management expects to spend approximately $10.0 million to $15.0
million annually for capital expenditures, of which approximately $8.0 million
is required annually to maintain its current level of operations. In fiscal
1998, capital expenditures are estimated to be approximately $8.0 million
(excluding the $27.5 million which was capitalized in conjunction with the
buyout of leases). As of July 31, 1998, the Company had capital expenditure
commitments of approximately $2.9 million.
The Company has significant indebtedness outstanding. See "Risk
Factors--Substantial Indebtedness; Structural Subordination." Management
believes that cash flow from operations at Lodestar, in addition to availability
under the New Senior Credit Facility, will be sufficient to provide for the
Company's liquidity needs for the foreseeable future. In addition, management
believes that such cash availability will be sufficient to finance projects that
will allow the implementation of its business strategy to grow through strategic
acquisitions. In general, it is expected that such projects would be financed
with specifically targeted available funds and would meet management's criteria
for cash self-sufficiency.
The indenture governing the Senior Notes and the New Senior Credit Facility
contain numerous covenants and prohibitions that impose limitations on the
liquidity of the Company and Lodestar, including requirements that the Company
and Lodestar satisfy certain financial ratios and limitations on the incurrence
of additional indebtedness. See "Risk Factors--Restrictions Imposed by Terms of
Indebtedness," "Description of New Senior Credit Facility" and "Description of
the Senior Notes--
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Certain Covenants." The ability of the Company and Lodestar to meet their
respective debt service requirements and to comply with such covenants will be
dependent upon future operating performance and financial results which will be
subject to financial, economic, political, competitive and other factors
affecting the Company and Lodestar, many of which are beyond their control.
INFLATION AND SEASONALITY
In general, the Company's cost of revenues and general and administrative
costs are affected by inflation, which could affect the Company in future
periods. Management believes, however, that such effects have not been material
to the Company and the Predecessor Company during the past three years. The
Company believes that its business is somewhat seasonal due to seasonal weather
conditions that affect the demand for electricity, as well as the ability to
transport coal. Generally, the Company produces and sells more coal during the
summer and fall months because of more favorable weather conditions and the
ability to ship to its customers on the Great Lakes, which is prohibited during
the winter and early spring months. These trends, however, are subject to
fluctuation depending on weather and market conditions.
RECLAMATION AND ENVIRONMENTAL MATTERS
The Company has incurred and will continue to incur capital and operating
expenditures for matters relating to reclamation. Cash expenses associated with
reclamation were approximately $1.2 million and $.9 million for the 1997 and
1996 Interim Periods, respectively. The Company estimates its cash expenditures
for reclamation will be approximately $2.5 million in fiscal 1998. See "Risk
Factors-- Reclamation and Closure Liabilities." The Company has minimal expenses
related to environmental control and monitoring. See "Government
Regulation--Environmental Matters."
As part of its reclamation activities in the ordinary course of its
business, Lodestar had obtained approximately $42.5 million of performance bonds
as of July 31, 1998. Lodestar's contingent obligations to the surety of these
performance bonds and other performance bonds are supported by $17.8 million in
outstanding letters of credit as of July 31, 1998. See "Risk
Factors--Reclamation and Closure Liabilities."
Environmental laws and regulations have changed rapidly in recent years, and
the Company may become subject to more stringent environmental laws and
regulations in the future. Compliance with more stringent environmental laws and
regulations could have a material adverse effect on the Company's consolidated
financial position, results of operations and liquidity. See "Risk
Factors--Environmental Matters; Government Regulation of Mining Industry" and
"Government Regulation--Environmental Matters."
YEAR 2000 BUSINESS MATTERS
The Company has a thorough plan to achieve year 2000 compliance with respect
to its business systems, including systems and user testing scheduled to
commence in the last quarter of 1998. The Company does not currently expect year
2000 issues related to its business systems to cause any significant disruption
in operations. The Company has initiated a program to assess its process control
environment for year 2000 compliance, and it intends to make any necessary
modifications to prevent disruption to its operations. The Company relies on
systems maintained by third parties; accordingly, the Company also is developing
a contingency plan, which is expected to be completed by the end of calendar
1998. Such plan is designed to minimize the risk of third party noncompliance.
The Company believes that its total costs to achieve year 2000 compliance will
not exceed $250,000.
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EFFECT OF RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income," and SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information." SFAS No. 130 defines comprehensive income
as the change in equity (net assets) of a business enterprise during a period
from transactions and other events and circumstances from non-owner sources.
This Statement requires comprehensive income to be reported in a financial
statement that is displayed with the same prominence as other financial
statements. This Statement is effective for fiscal years beginning after
December 15, 1997. The Company does not expect the implementation of this
Statement to have a material effect on its consolidated financial statements.
SFAS No. 131 changes the way public companies report information about
segments of their business in their annual financial statements and requires
them to report selected segment information in their quarterly report to
stockholders. This Statement requires that companies disclose segment data based
on how management makes decisions about allocating resources to segments and
measuring their performance. This Statement is effective for fiscal years
beginning after December 15, 1997. The Company does not expect the
implementation of this Statement to have a material effect on its consolidated
financial statements.
In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures
about Pensions and Other Postretirement Benefits." SFAS No. 132 revises
employers' disclosures about pension and other postretirement benefit plans. It
does not change the measurement or recognition of those plans. This Statement is
effective for fiscal years beginning after December 15, 1997. The Company does
not expect the implementation of this Statement to have a material effect on its
consolidated financial statements.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. The
Statement requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. The accounting for changes in the fair value of a derivative is
dependent upon the intended use of the derivative. The Statement is effective
for all fiscal quarters of fiscal years beginning after June 15, 1999. The
Company does not expect implementation of this Statement to have a material
effect on its consolidated financial statements.
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INDUSTRY
GENERAL
According to data compiled by the United States Department of Energy's
Energy Information Administration, United States coal production totaled 1.09
billion tons in 1997, a 2.3% increase from the 1.06 billion tons produced in
1996 and a record high. The increase in 1997 coal production levels was driven
by a substantial decline in nuclear-powered generation and moderate growth in
electricity demand. Total United States coal consumption reached 1.03 billion
tons in 1997, a 2.2% increase from 1996, however, exports declined by 7.7% to
83.5 million tons. Approximately 90% of the coal consumed in the United States
is used for the generation of electricity, and coal continues to be the
principal energy source for United States utilities, with its share of total
electricity generation rising from approximately 56% in 1996 to approximately
57% in 1997, compared to approximately 20% from nuclear, approximately 11% from
hydroelectric and approximately 9% from gas-fired facilities in 1997. In the
last three years, coal prices under long-term contracts have generally remained
steady; however, spot market coal prices have experienced greater fluctuation
due to seasonal variations in supply and demand caused by weather. Despite the
increased consumption and the many inefficient mines that have closed in the
last ten years, coal mining companies with improving productivity have filled
the increasing demand without price increases. Increased competition in the
generation of electricity is forcing utility buyers to purchase coal more
selectively. This heightened fiscal responsibility has led to lower stockpiles,
increased spot market activity and shorter contract terms, which may create
greater price volatility than has been experienced in the past.
Productivity gains and environmental legislation have worked together to
exert pressures on the fundamental structure of the coal industry. According to
statistics compiled by the EIA, the number of operating mines has declined by
approximately 53% from 1988 through 1997, even though production during that
same time has increased at an annual rate of 1.5%, or a total for the period of
approximately 13%. During this period, work practice and technological
improvements have allowed overall production per miner per hour to increase at
an annual rate of 6.1%, or 6% for 1997 alone, whereas industry employment
declined at annual rate of 5.5%. These productivity gains and the resulting
excess productive capacity in most segments of the industry have contributed to
the stability of coal prices in recent years at levels lower than in the 1970's
and early 1980's. Clean air concerns and legislation have increased consumption
of low-sulfur products mined in Appalachia and the western United States.
Although recently there has been some consolidation of coal producers in the
United States, the ten largest coal producers in 1997 accounted for
approximately 53% of total domestic coal production, and no company held a
domestic market share of more than 14% in 1997.
COAL TYPES
In general, steam coal is classified by Btu content and sulfur content. In
ascending order of heat values, the four basic types of coal are lignite,
subbituminous, bituminous and anthracite.
LIGNITE COAL is a brownish-black coal with a Btu content that generally
ranges from 6,500 to 8,300 Btus per pound. Major lignite operations are located
in Texas, North Dakota, Montana and Louisiana. Lignite coal is used almost
exclusively in power plants located adjacent to such mines because any
transportation costs, coupled with the mining costs, would exceed the price a
customer would pay for such low-Btu coal.
SUBBITUMINOUS COAL is a black coal with a Btu content that ranges from
approximately 7,900 to 9,500 Btus per pound. Most subbituminous reserves are
located in Montana, Wyoming, Colorado, New Mexico, Washington and Alaska.
Subbituminous coal is used almost exclusively by electric utilities and some
industrial consumers.
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BITUMINOUS COAL is a "soft" black coal with a Btu content that ranges from
10,500 to 14,000 Btus per pound. This coal is located primarily in Appalachia
(including Kentucky), the Midwest, Colorado and Utah, and is the type most
commonly used for electric power generation in the United States. Bituminous
coal is used for utility and industrial steam purposes, and as a feedstock for
coke, which is used in steel production. All of Lodestar's reserves are
bituminous coal.
ANTHRACITE COAL is a "hard" coal with a Btu content that can be as high as
15,000 Btus per pound. Anthracite deposits are located primarily in the
Appalachian region of Pennsylvania, and are used primarily for industrial and
home heating purposes.
COAL QUALITIES
The primary factors considered in determining the value and marketability of
coal are the Btu content, the sulfur content and the percentage of ash (small
particles of inert material) and moisture. The Btu content provides the basis
for satisfying the heating requirements of boilers. Coal having a lower Btu
content frequently must be blended with coal having a higher Btu content to
allow the consumer to utilize the coal efficiently in its operations.
Due to the restrictive environmental regulations regarding sulfur dioxide
emissions, coal is commonly described with reference to its sulfur content. Coal
that emits no more than 1.6 pounds of sulfur dioxide/MMBtu when burned is called
low-sulfur coal. Coal that emits no more than 1.2 pounds of sulfur dioxide/MMBtu
is called compliance coal. Compliance coal exceeds the current requirements of
Phase I of the Clean Air Act and meets the prospective requirements of Phase II
of that legislation. Since compliance coal exceeds the Phase I requirements,
consumers using such coal can either earn sulfur emission credits, which can be
sold to other coal consumers, or blend the coal with higher sulfur coal to lower
the overall sulfur emissions without having to install expensive
sulfur-reduction technology (E.G., scrubbers).
The percentage of ash affects the heating value of coal, as well as the
amount of combustion by-products. Specifically, the higher the percentage of
ash, the lower the heating value of the coal and the higher the amount of
combustion by-products. Electric utilities typically require coal with an ash
content ranging from 6% to 15%, depending on individual power plant
specifications.
The percentage of moisture is important because the higher the moisture, the
lower the heating value of the coal. Also, if the percentage of moisture is too
high, customers may experience handling problems with the coal.
COAL REGIONS
The majority of United States coal production is generated from six regions:
Central Appalachia, Southern Appalachia, Northern Appalachia, Illinois Basin,
Rocky Mountain and Powder River Basin. With the exception of the coal from the
Northern Appalachia region, which generally serves only the Northeastern United
States market, coal from each region competes in a national market. The
geographic areas that comprise the six regions and characteristics of the coal
in those regions are as follows:
CENTRAL APPALACHIA consists of Southern West Virginia, Eastern Kentucky and
Virginia. The coal in this region is generally quite low in sulfur (0.7% to 1.5%
sulfur) and high in Btu content (12,000 to 13,500 Btus per pound of coal). The
majority of this coal complies with Phase I of the Clean Air Act. Central
Appalachia sources provide most of the United States' overseas export coal.
According to industry sources, this region has considerable excess production
capacity.
Lodestar has 43.7 million recoverable tons of demonstrated reserves in
Eastern Kentucky, representing 22% of its total demonstrated reserves.
Substantially all of Lodestar's coal in Eastern Kentucky complies with Phase I
of the Clean Air Act. However, Lodestar's coal in this region typically emits
1.5
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pounds of sulfur dioxide/MMBtu, which is slightly higher than compliance coal
under Phase II of the Clean Air Act. Notwithstanding the foregoing, Lodestar
believes the sulfur content of its coal in this region will not affect the
marketability thereof.
SOUTHERN APPALACHIA consists of Southeastern Kentucky, Tennessee and
Alabama. Coal from this region also has a low sulfur content (0.7% to 1.5%
sulfur), which is generally acceptable for Phase I of the Clean Air Act, and a
high Btu content (12,000 to 13,000 Btus per pound of coal). While productivity
is impaired by the region's thin seams, readily accessible waterways and
proximity to Southern utility plants help to reduce delivery costs of coal from
this region to utility customers.
NORTHERN APPALACHIA consists of Northern West Virginia, Pennsylvania and
Ohio. The Btu content of this coal is generally high (12,000 to 13,000 Btus per
pound of coal), with the exception of coal from Ohio. However, the sulfur
content in this coal (1.5% to 2.5% sulfur) generally does not meet the Phase I
standards of the Clean Air Act.
THE ILLINOIS BASIN consists of Western Kentucky, Illinois and Indiana. Coal
from this region generally has a Btu content of 10,000 to 12,500 Btus per pound
of coal and a sulfur content of 1.8% to 3.5% sulfur. Although there are
exceptions, generally no Illinois Basin coal satisfies the Phase I or Phase II
standards of the Clean Air Act. Therefore, Illinois Basin coal is primarily
blended with low-sulfur coal or burned in plants equipped with scrubbers.
Customers also can bank and trade sulfur dioxide emissions allowances as part of
an overall environmental compliance plan.
Lodestar has 154.9 million recoverable tons of demonstrated reserves in the
Illinois Basin, representing 78% of its total demonstrated reserves. Lodestar's
reserves in this region have relatively high Btu content for the region
(generally 12,500 Btus on a fully washed basis). Although such coal does not
satisfy Phase I or II of the Clean Air Act, Lodestar believes it is well
positioned to market its coal due to its relatively high Btu content, which
makes it attractive for blending with lower sulfur, lower Btu coal. In addition,
the proximity of such reserves to customers that can utilize high sulfur coal
results in lower transportation costs, thereby enhancing such coal's economic
value to the customer.
THE ROCKY MOUNTAIN region consists of Utah and Colorado. The coal in this
region is low in sulfur content (0.4% to 0.5%) and has a moderately high Btu
content (10,500 to 12,000 Btus per pound of coal). This coal complies with Phase
I and Phase II of the Clean Air Act, and, according to industry sources,
production capacity in this region has increased.
THE POWDER RIVER BASIN consists mainly of Wyoming and parts of Montana. This
coal is very low in sulfur content (0.25% to 0.65%), but also is low in Btu
content (8,000 to 8,800 Btus per pound of coal) and very high in moisture
content (20% to 35%). All of this coal complies with Phase I and Phase II of the
Clean Air Act, but most utilities cannot burn it without derating their plants,
unless it is blended with higher Btu coal. According to industry sources, this
region has considerable excess production capacity.
MINING METHODS
Coal is mined using either surface or underground methods. The method
utilized depends upon several factors, including the proximity of the target
coal seam to the earth's surface and the geology of the surrounding area.
Surface techniques generally are employed when a coal seam is within 200 feet of
the earth's surface, and underground techniques are used for deeper seams. In
1997, surface mining accounted for approximately 61% of total U.S. coal
production, and underground mining accounted for the balance. Surface mining
generally is less expensive and has a higher recovery percentage than
underground mining. Surface mining typically results in the recovery of 80% to
90%, and underground mining in the recovery of 50% to 60%, of the total coal
from a particular deposit. The following summarizes various mining methods.
48
<PAGE>
UNDERGROUND (DEEP) MINING
LONGWALL MINING is a deep mining method that uses hydraulic jacks, varying
from five to twelve feet in height, to support the roof of the mine while a
large shearing machine extracts the coal. A chain line then moves the coal to a
deep mine belt system for delivery to the surface. Longwall mining equipment
generally cuts blocks of coal, referred to as longwall panels, that have a width
of approximately 650 to 1,000 feet and a length ranging from approximately 7,000
to 18,000 feet. Longwall panels can contain more than 2.0 million tons of coal.
Longwall mining is a low-cost, high-output method of deep mining that results in
the highest coal recovery percentage for underground mining. In addition,
longwall mining is a much faster method of mining coal than room and pillar
mining. After a longwall panel is cut, the longwall mining equipment must be
disassembled and moved to the next panel location, a process which generally
takes one to two weeks. Lodestar presently utilizes a longwall mining system at
its Baker mine in Western Kentucky.
ROOM AND PILLAR MINING is a method of deep mining which uses
remote-controlled continuous miners that cut out a block of coal (the length of
each cut ranging from fifteen to 34 feet), cutting 20-foot wide passages as high
as the coal seam. Roof bolting machines are utilized to secure the immediate
strata above the coal, and pillars (50 to 100 feet squared) are left to provide
overall roof support. In some instances, it is possible to also remove the
pillars of coal, retreating from the back of the mine toward the mouth, allowing
the rock roof to fall in the mined out areas. Room and pillar mining using
continuous mining machines is the most common method of deep mining. Lodestar
and its contractors utilize the room and pillar method at its Smith Underground,
Wheatcroft, Miller Creek and the three Eastern Kentucky contract mines.
SURFACE MINING
MOUNTAINTOP REMOVAL MINING involves the removal of the top of a hill down to
the coal seam, using large earth-moving machines, such as dozers and hydraulic
shovels, leaving a level plateau in place of the hilltop. A more complete
recovery of the coal is accomplished through this method as compared to contour
mining. However, its feasibility depends on the amount of rock and soil
overlying a coal deposit (the "overburden") in relation to the coal to be
removed. The site then is backfilled with the overburden and otherwise restored
to its approximate original contour, and vegetation is replaced. The site is
often returned to higher value uses as the land will now be improved and more
suitable for development and use. The majority of Lodestar's Eastern Kentucky
mining consists of mountaintop removal mining.
CONTOUR MINING is conducted on coal seams where mountaintop removal is not
economical because of the amount of overburden on the coal seam. Mining proceeds
laterally around a hillside, using equipment such as dozers and hydraulic
shovels, at essentially the same elevation following the coal seam. The contour
cut in a coal seam provides a flat surface that can be used to facilitate
highwall mining. Once the coal has been removed, the overburden is replaced,
leaving the mined property with approximately the same contour as before mining.
This is a common surface mining method on the steeper slopes of the Appalachian
bituminous coal fields. Lodestar practices contour mining in Eastern Kentucky
when other mining methods are not economically feasible.
HIGHWALL AND AUGER MINING is a method of mining whereby a system bores into
the face of a coal seam, usually left accessible from contour mining, which has
ceased to be economically viable because of excessive overburden. Highwall
mining can be accomplished by a variety of methods, including relatively simple
auger mining where a corkscrew-like machine, or auger, bores into the side of a
hill and extracts coal by "twisting" it out or by combinations of other mining
equipment, including the use of modified continuous miners. Lodestar is engaged
in some highwall mining in its Eastern Kentucky operations using the continuous
and auger methods.
49
<PAGE>
OPEN PIT MINING is essentially a large-scale earth moving operation, whereby
the overburden is excavated by using equipment, such as dozers, hydraulic
shovels and draglines. The exposed coal is then fractured by blasting and loaded
onto haul trucks or overland conveyors for transportation to processing and
loading facilities. The site then is backfilled with the overburden and
otherwise restored to its approximate original contour, and vegetation is
replaced. One of Lodestar's contractors practices open pit surface mining at the
Smith Surface mine in Western Kentucky.
COAL PREPARATION
Depending on coal quality and customer requirements, it is sometimes
possible to ship raw coal directly from the mine to the customer. Generally, raw
coal from surface mines can be shipped in this manner. If raw coal is not
shipped directly to the customer, it is processed in a preparation plant or
blended and shipped to a customer from a loadout facility. Most coal mined by
deep mining methods and some coal mined by surface mining methods must be
processed in a preparation plant. The preparation plant crushes coal, washes it
in a liquid solution, separates it into higher and lower grades and removes
non-coal materials. This process upgrades the quality and heating value of the
coal by removing or reducing sulfur, rock, clay and other ash-producing
materials but entails significant expense and results in some loss of coal. Coal
blending or mixing of various sulfur types is often performed at a preparation
plant or loading facility to meet the specific combustion and environmental
needs of customers. Approximately two-thirds of Lodestar's saleable coal has
been processed through its various preparation facilities, and the vast majority
of the balance is blended and shipped from one of Lodestar's loadout facilities.
CUSTOMERS
Over the last ten years, coal consumption in the United States has generally
experienced steady annual growth, reaching a record level of 1.03 billion tons
in 1997. This steady growth in coal consumption is attributable to similar
growth in the demand for electricity over the same period, as the electric
utility industry accounts for approximately 90% of domestic coal consumption in
1997. In 1997, coal-fired utilities generated approximately 57% of the nation's
electricity, followed by nuclear (approximately 20%), hydroelectric
(approximately 11%) and gas-fired (approximately 9%) utilities. According to
industry sources, over the next several years, electricity usage is expected to
increase at an average annual rate of 1.4%. Since 1980, coal-fired utilities
have generated a majority of all electricity generated in the United States.
Electricity can be generated less expensively using coal rather than gas,
oil or geothermal energy. The delivered cost of coal for utilities averaged
$1.27/MMBtu in 1997 compared to $2.76/MMBtu for gas and $2.88/MMBtu for oil.
Although nuclear and hydro energy are less expensive than coal on an operating
cost basis, no new nuclear plant permits have been issued since 1978, and many
existing plants are near the end of their useful life. In addition, hydro
electricity is limited by the availability of adequate water resources and
environmental considerations. Moreover, an insignificant incremental amount of
geothermally-produced electricity is currently viable in the United States.
Because coal is one of the least expensive and most abundant resources for
the production of electricity, and imports of coal historically have not
exceeded 1% of domestic coal consumption, domestically produced coal is expected
to continue to play a significant role in the production of electricity in the
future. Lodestar believes that it is well positioned to benefit from favorable
trends in the coal and electric utility industries because approximately 56% of
Lodestar's 1997 shipments were to electric utilities.
50
<PAGE>
The following table (derived from publications of the Energy Information
Administration) presents five-year domestic coal production by region, and
consumption by sector:
<TABLE>
<CAPTION>
FIVE YEAR COAL PRODUCTION AND CONSUMPTION
-----------------------------------------------------
<S> <C> <C> <C> <C> <C>
1992 1993 1994 1995 1996
<CAPTION>
(TONS IN MILLIONS)
<S> <C> <C> <C> <C> <C>
PRODUCTION BY REGION
Appalachia........................................................ 456.6 409.7 445.4 434.9 445.1
Illinois Basin/Midwest............................................ 195.7 167.2 179.9 168.5 172.2
Western........................................................... 345.3 368.5 408.3 429.6 439.5
--------- --------- --------- --------- ---------
Total........................................................... 997.6 945.5 1,033.6 1,033.0 1,056.8
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
CONSUMPTION BY SECTOR
Utilities......................................................... 779.9 813.5 817.3 829.0 873.7
Other Industrial Plants........................................... 74.0 74.9 75.2 72.8 70.6
Coke Plants....................................................... 32.4 31.3 31.7 33.0 31.7
Independent Power Producers....................................... 14.8 17.8 20.9 21.2 24.0
Residential/Commercial Users...................................... 6.2 6.2 6.0 5.8 5.8
--------- --------- --------- --------- ---------
Total........................................................... 907.3 943.7 951.1 961.8 1,005.8
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
UTILITY DEREGULATION
Since 1935, domestic electric utilities have operated in a regulated
environment, with prices and return on investment being determined by state
utility and power commissions. In April 1996, the Federal Energy Regulatory
Commission established rules providing for open access to electricity
transmission systems, thereby initiating consumer choice in electricity
purchasing and encouraging competition in the generation of electricity. It is
anticipated that the FERC rules will create a national market for the sale of
wholesale electricity where competition will primarily focus on price. Within
the electric utility industry, the low-cost producers of electricity should
benefit most due to the increased focus on price. Competition will likely
benefit the coal industry generally because coal is a relatively low-cost source
of electricity generation. Within the coal industry, companies with customers
that are low-cost producers are likely to see the greatest increase in coal
demand. Lodestar's primary customers are low-cost electricity producers, located
in Kentucky, Tennessee, Florida, Michigan and Ohio.
CLEAN AIR ACT
The Clean Air Act has had, and will continue to have, a significant effect
on the domestic coal industry. Phase I of the Clean Air Act, which became
effective in 1995, regulates the level of sulfur dioxide emissions from power
plants and targets the highest sulfur dioxide emitters. Phase II, which is
scheduled to be implemented in 2000, will extend the restrictions of the Clean
Air Act to most remaining power plants. The Clean Air Act does not define
allowable emission levels on a per plant basis, but instead allocates emission
allowances to the affected plants and allows the emission allowances to be
traded so that market participants can fashion more efficient and flexible
compliance strategies. The emission allowance allocations for Phase I were based
on 2.5 pounds of sulfur dioxide/MMBtu, and Phase II allocations will be based on
1.2 pounds of sulfur dioxide/MMBtu. See "Risk Factors--Environmental Matters;
Government Regulation of Mining Industry" and "Government
Regulation--Environmental Matters."
51
<PAGE>
BUSINESS
OVERVIEW
The Company, through its wholly-owned subsidiary Lodestar, is engaged in the
mining and marketing of bituminous coal used principally for the generation of
electricity, as well as for other industrial applications. For the twelve months
ended July 31, 1998, the Company had coal shipments of 10.8 million tons,
resulting in coal sales and related revenue of $272.8 million.
Lodestar focuses on selected niche coal markets in the Eastern, South
Central and Great Lakes regions of the United States. Through its diverse
portfolio of seven deep and five surface coal mines located in Eastern and
Western Kentucky, Lodestar is among the largest coal producers in Kentucky, the
third largest coal producing state. Lodestar believes that it is a low cost
producer offering its customers flexibility in order quantities and
transportation methods, including barge, rail or truck. In addition, Lodestar
processes the vast majority of its coal through its washing and blending
facilities to meet customers' combustion and environmental specifications, such
as energy (as measured by Btus), ash and sulfur content. Lodestar believes that
its niche market strategy, together with its operating flexibility, permits it
to meet customer demand for quality products and services at competitive prices,
resulting in long-term contracts with its customers.
For the twelve months ended July 31, 1998, approximately 67% of Lodestar's
coal sales and related revenue were derived from long-term contracts. As of July
31, 1998, Lodestar had long-term contracts, including long-term contracts with
the Tennessee Valley Authority (the "TVA") and certain affiliates of U.S.
Generating Company ("U.S. Gen"), with a weighted average term of approximately
7.7 years. Lodestar believes that the facilities to which it supplies coal
generally are well positioned to compete in a deregulated environment for
electricity generation.
Lodestar's niche market strategy targets customers whose needs are
compatible with the particular coal qualities it produces. Lodestar supplies mid
to high sulfur coal (above 1.8% sulfur) from its Western Kentucky operations to
customers, such as electricity generation facilities, that can economically use
such coal by employing sulfur-reduction techniques, including scrubbers and coal
blending, in addition to utilizing emissions allowance credits. Lodestar also
supplies low sulfur coal (less than 1.0% sulfur) from its Eastern Kentucky
operations to customers that require such coal to meet environmental discharge
requirements.
Lodestar believes that the proximity of its reserves and facilities to
customers that can economically use its coal provides it a competitive
advantage. In addition, Lodestar uses its preparation and loadout facilities in
Eastern and Western Kentucky to wash and blend coal to satisfy customer needs
for Btu, ash and sulfur content. Moreover, Lodestar provides its customers
transportation flexibility by offering delivery by barge, rail or truck. For
example, Lodestar's barge loading facility at Caseyville, Kentucky (the
"Caseyville Dock") is located farther south on the Ohio River than any
comparable facility. As a result, the Caseyville Dock provides Lodestar a cost
advantage in delivering coal to customers in the Southern United States over
competitors that must load and ship from facilities located farther north.
Lodestar believes that its production and transportation flexibility enables it
to satisfy customer requirements, while maintaining efficient and low cost
operations.
Lodestar controls the mineral rights through lease or ownership at eleven of
its mines, which for the twelve months ended July 31, 1998, accounted for more
than 90% of its coal production. In addition, Lodestar operates one mine at
which mineral rights are controlled by a third party and purchases most of the
coal produced from such mine. In excess of 90% of the coal produced at
Lodestar's mines is produced by Lodestar employees, and the balance is mined by
independent contractors. Two of Lodestar's wholly-owned subsidiaries, Eastern
Resources and Industrial Fuels, are not operating companies; however, they hold
certain non-transferable lease rights. Lodestar believes that the selective use
of independent contractors lowers its costs and increases its operating
flexibility to vary production in response to market conditions. In the future,
Lodestar will seek to increase its coal
52
<PAGE>
purchases from third parties to maximize the utilization of its washing and
blending facilities and thus improve operating margins.
For the twelve months ended July 31, 1998, electrical power utilities and
independent power producers ("IPPs") accounted for approximately 59% and 19%,
respectively, of Lodestar's coal sales and related revenue. The balance of
Lodestar's coal sales and related revenue was attributable to brokers and
industrial customers. Accordingly, Lodestar believes that it is well positioned
to benefit from favorable trends in the electricity generation industry. From
1973 to 1996, coal consumption experienced a compound annual growth rate of
2.6%, and in 1997, consumption reached approximately 1.03 billion tons. This
growth in coal consumption is directly related to the growth in electricity
consumption in the United States. Electricity generation in 1997 accounted for
approximately 90% of the coal consumed in the United States.
In 1997, coal-fired facilities generated approximately 57% of the
electricity consumed in the United States, and the balance was generated by
nuclear, hydroelectric and gas-fired facilities, representing approximately 20%,
11% and 9%, respectively, of electricity consumption. Coal is one of the least
expensive and most abundant domestic resources for the production of
electricity. Accordingly, notwithstanding the alternative fuel sources,
management believes that coal will continue to be a major raw material for
electricity generation in the United States for the foreseeable future.
Lodestar further believes that it will benefit from increasing deregulation
among electricity producers. Since 1935, domestic electricity utilities have
operated in a regulated environment, with prices and return on investment
determined by state utility and power commissions. In April 1996, the Federal
Energy Regulatory Commission issued orders establishing rules providing for open
access to electricity transmission systems, which are designed to initiate
consumer choice in electricity purchasing and encourage competition in the
generation of electricity. Lodestar believes that this trend toward deregulation
will likely (i) increase the desirability of coal as a raw material for
electricity generation due to its relative low cost and (ii) favor coal
producers, such as Lodestar, that have diverse reserves in addition to cost and
transportation advantages.
COMPETITIVE STRENGTHS
The Company believes its competitive strengths include the following:
PORTFOLIO OF LONG-TERM CONTRACTS
Lodestar has secured long-term coal supply contracts with a weighted average
term of approximately 7.7 years as of July 31, 1998. Lodestar's long-term
contracts have accounted for approximately 80% of its coal sales and related
revenue since 1992. Lodestar believes its strong performance history with major
customers, attributable to, among other things, its low cost structure and
customer service, will strengthen existing relationships, as well as facilitate
the development of new relationships, which will result in additional long-term
contracts.
HIGHLY EFFICIENT OPERATIONS
Lodestar has been successful in increasing productivity at both its Eastern
and Western Kentucky operations. Since 1993, Lodestar's deep mine operations
have improved production from 3.5 tons to 4.9 tons per manhour for the year
ended December 31, 1997. Over the same period, Lodestar's surface mine
operations in Kentucky have improved productivity from 83.7 cubic yards moved to
109.2 cubic yards moved per manhour. Lodestar has achieved such improvements by
developing and instituting more efficient mining techniques, altering its mine
plans and incorporating new mining technologies, such as the high efficiency,
high production longwall mining equipment used in Western Kentucky. Lodestar
also has invested in state-of-the-art surface mining equipment, such as the
Komatsu 575 dozer, the largest dozer in the world, and the DeMag 285S 25-cubic
yard hydraulic shovel, which is used on mountaintop surface mines, to further
improve its operating efficiencies.
53
<PAGE>
FLEXIBLE OPERATIONS
Lodestar's coal reserves, along with its extensive processing infrastructure
and transportation capabilities, enable it to maintain a high degree of
operating flexibility to meet its customers' specific requirements. In
particular, Lodestar's washing and blending capabilities permit Lodestar to
provide coal with a specific Btu, sulfur and ash content. In addition,
Lodestar's diverse transportation capabilities enable it to provide delivery of
coal by barge, rail or truck in a timely manner. In response to varying market
conditions, Lodestar also has the ability, to a certain extent, to revise its
mine production. By maintaining such operating and production flexibility,
management believes that Lodestar is able to respond to changing market
conditions, as well as to meet its customers' needs.
DIVERSE PORTFOLIO OF RESERVES
Lodestar owns or operates twelve mines, four in Western Kentucky (three
underground and one surface) and eight in Eastern Kentucky (four underground and
four surface) with a total demonstrated reserve base of approximately 198.6
million recoverable tons as of January 31, 1998. As of such date, 22%, or
approximately 43.7 million recoverable tons, of its demonstrated reserves was
low sulfur coal and 78%, or 154.9 million recoverable tons, was mid to high
sulfur coal. Lodestar's demonstrated reserve life index (total demonstrated
reserves divided by production for the twelve months ended January 31, 1998) was
approximately eighteen years as of January 31, 1998. All of Lodestar's reserves
are of a quality suitable for use in the generation of electricity throughout
its market area. See "Risk Factors--Reliance on Estimates of Recoverable
Reserves" and "--Replacement of Reserves."
HIGH BARRIERS TO ENTRY
Management believes that the capital costs and environmental requirements
associated with constructing facilities comparable to those of Lodestar result
in high barriers to entry for prospective entrants. Management further believes
that its combination of mining, processing and transportation facilities
provides it significant operating flexibility that would be difficult for a
potential entrant to duplicate. In addition, management believes that the cost
and time commitment required to achieve commercial production for any new mining
or processing operation, including regulatory approvals, would be prohibitively
expensive, further heightening the barriers to entry.
EXPERIENCED MANAGEMENT
Lodestar's senior management team has an average of approximately nineteen
years of experience in coal or related industries. Lodestar believes this
experience enables it to identify and respond to important trends in the coal
industry.
BUSINESS STRATEGY
The Company's business strategy is to improve its operations and financial
performance by focusing on the following principal elements:
MAINTAIN OPERATIONAL FLEXIBILITY
Lodestar strives to maintain a high level of operational flexibility to
respond to customer requirements, as well as other market opportunities. With
its mining facilities in Eastern and Western Kentucky, Lodestar operates in two
distinct coal supply regions. In that regard, Lodestar has flexibility in
developing its mining and production plans in terms of volume and type of coal
to take advantage of prevailing market conditions and enhance its position with
customers. With its multiple mines and coal washing and blending capabilities,
Lodestar also is able to minimize the production costs associated with the
particular quality of coal produced. With respect to transportation, Lodestar
has available multiple options, including facilities and equipment controlled by
Lodestar, designed to provide effective coal transportation and delivery at
competitive costs.
54
<PAGE>
IMPROVE OPERATING EFFICIENCIES AND CAPACITY UTILIZATION
Lodestar is committed to continuous improvement through focused capital
investment and the implementation of non-capital cost reduction programs
throughout its operations. Since 1993, Lodestar has completed approximately
$140.6 million of capital investments designed to, among other things, increase
capacity utilization, enhance productivity and lower production costs.
Management expects to spend approximately $10.0 million to $15.0 million
annually for capital expenditures, of which approximately $8.0 million is
required annually to maintain its current level of operations. Recent
non-capital cost reduction programs include: implementing seven-day, 24-hour
work schedules on certain capital intensive operations; renegotiating mineral
lease agreements; and restructuring surety programs to reduce collateral
requirements and applicable costs.
EXPAND NICHE MARKETS
By expanding the use of its extensive preparation and transportation
facilities, Lodestar will seek to enter new markets which generate higher
operating margins. Given its proximity to end users of coal, Lodestar seeks to
leverage its infrastructure to expand into niche markets for industrial
corporations, as well as to expand its relationships with IPPs. In addition,
Lodestar intends to expand its coal trading activities and recommence its
brokering operations which will permit Lodestar to optimize the use of its
facilities.
BUILD AND MAINTAIN STRONG RELATIONSHIPS WITH STRATEGIC CUSTOMERS
Through its ongoing customer service initiatives, Lodestar strives to build
and maintain strong relationships with its customers. Lodestar's sales,
transportation and production professionals work closely with customers to be
responsive to their needs, such as small order quantities, specialized sizing,
technical assistance, and flexible and reliable deliveries. As evidence of its
customer commitment, Lodestar has served the TVA for over twenty years and was
the recipient of the TVA's supplier of the year award in 1996.
ACHIEVE OPERATING IMPROVEMENTS FROM THE OLD NOTES OFFERING
Lodestar used a portion of the net proceeds of offering of the Old Notes to:
(i) purchase certain equipment previously financed pursuant to both operating
and capital leases, most of which were entered into by the Predecessor Company;
(ii) buy out certain deferred payment obligations entered into by the
Predecessor Company; and (iii) make payments to normalize accounts payable which
had been extended prior to the Acquisition. As a result of undertaking the
foregoing, Lodestar would have increased its EBIOTDA by approximately $5.5
million on a pro forma basis for the nine months ended July 31, 1998, thereby
improving its operating cash flow and financial flexibility.
GROW THROUGH STRATEGIC ACQUISITIONS
To capitalize on the trend toward asset rationalization by coal mining
companies, Lodestar plans to pursue the acquisition of coal companies and
reserves that complement its existing operations or provide strategic expansion
opportunities. Based upon the breadth of Lodestar's operating capabilities in
Eastern and Western Kentucky, Lodestar believes opportunities exist to
consolidate coal reserves within its primary geographic areas. In addition,
Lodestar will consider the acquisition of mines outside its geographic areas
that are compatible with its niche marketing strategy. Although the Company has
discussions from time to time with respect to potential acquisitions of reserves
and/or coal companies, it currently has no commitments or other such
arrangements.
COAL RESERVES
As of January 31, 1998, Lodestar had an estimated demonstrated reserve base
of approximately 198.6 million recoverable tons, with approximately 22% low
sulfur coal and the remaining 78% medium to high sulfur coal. Approximately 92%
of these demonstrated reserves are classified as deep and 8% as surface minable.
55
<PAGE>
Reserve estimates were prepared by engineers and geologists at Marshall
Miller & Associates, as of January 31, 1998. Reserve estimates will change from
time to time in reflection of mining activities, analysis of new engineering and
geological data, acquisition or divestment of reserve holdings, modification of
mining plans or mining methods and other factors. The following table summarizes
Lodestar's coal reserves as of January 31, 1998:
<TABLE>
<CAPTION>
DEMONSTRATED RESERVES
------------------------------------
LOCATION MEASURED(1) INDICATED(2) TOTAL
<S> <C> <C> <C>
(RECOVERABLE TONS IN THOUSANDS)
WESTERN KENTUCKY
Baker+..................................................................... 22,039 9,754 31,793
Wheatcroft+................................................................ 51,109 57,051 108,160
Smith Underground+......................................................... 9,010 3,883 12,893
Smith Surface++............................................................ 2,089 -- 2,089
------------ ----------- ---------
Total Western Kentucky................................................. 84,247 70,688 154,935
EASTERN KENTUCKY
Ivy Creek++................................................................ 1,519 22 1,541
Spradlin Branch++.......................................................... 1,228 180 1,408
Spurlock Fork++............................................................ 508 10 518
Miller Creek+.............................................................. 8,108 1,308 9,416
Other Underground.......................................................... 16,665 3,850 20,515
Other Surface.............................................................. 8,102 2,162 10,264
------------ ----------- ---------
Total Eastern Kentucky................................................. 36,130 7,532 43,662
Total Underground.......................................................... 106,930 75,846 182,776
Total Surface.............................................................. 13,447 2,374 15,821
------------ ----------- ---------
Total.................................................................. 120,377 78,220 198,597
------------ ----------- ---------
------------ ----------- ---------
</TABLE>
- ------------------------
+ Underground
++ Surface
(1) Reserve estimates in this category have the highest degree of geologic
assurance. Measured coal lies within 0.25 mile of a valid point of
measurement or point of observation (such as previously mined areas)
supporting such measurements. The sites for thickness measurement are so
closely spaced, and the geologic character is so well defined, that the
average thickness, areal extent, size, shape and depth of coal beds are well
established.
(2) Reserve estimates in this category have a moderate degree of geologic
assurance. There are no sample and measurement sites in areas of indicated
coal. However, a single measurement can be used to classify coal lying
beyond measured as indicated. Indicated coal lies more than 0.25 mile, but
less than 0.75 mile, from a point of thickness measurement. Further
exploration is necessary to place indicated coal into the measured category.
Lodestar leases most of its total demonstrated reserves from third parties.
Lodestar's reserve leases generally have terms of between five and 30 years,
although they typically allow Lodestar the right to renew the lease for a stated
period or to maintain the lease in force until the exhaustion of coal reserves.
These leases provide for royalties to be paid to the lessor either as a fixed
amount per ton or as a percentage of the sales prices. Certain leases may also
require payment of a lease bonus or minimum royalties, payable either at the
time of the execution of the lease or in periodic installments. In most cases,
the minimum royalty payments are applied to reduce future production royalties.
Consistent with industry practices, Lodestar conducts limited investigation
of title to third party coal properties prior to Lodestar's leasing of such
properties. The title of the lessors or grantors and
56
<PAGE>
the boundaries of Lodestar's leased properties are not fully verified until such
time as Lodestar prepares to mine such reserves.
MINING OPERATIONS
COAL PRODUCTION
Lodestar currently conducts mining operations at seven deep mines and five
surface mines in Kentucky.
[LOGO]
Approximately 65% of Lodestar's production originates from its seven deep
mines and the remaining production originates from its five surface mines. For
certain of its mines, Lodestar utilized the services of contract miners,
representing less than 10% of Lodestar's production for the twelve months ended
July 31, 1998. Contract miners provide Lodestar the flexibility to alter mining
plans and lower operating costs, particularly at Lodestar's smaller operations,
in response to market conditions. The following table presents, for each of
Lodestar's currently operating mines, the production volume for the five-year
period ended December 31, 1997:
<TABLE>
<CAPTION>
TWELVE MONTHS ENDED DECEMBER 31,
-----------------------------------------------------
LOCATION 1993 1994 1995 1996 1997
(TONS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
WESTERN KENTUCKY
Baker+................................................................. 3,222 2,722 4,275 3,986 4,142
Wheatcroft+............................................................ 3,867 3,120 1,141 -- 146
Smith Underground+..................................................... -- 76 662 989 987
Smith Surface++........................................................ 1,221 1,052 147 357 594
EASTERN KENTUCKY
Ivy Creek++............................................................ -- -- 94 769 1,037
Spradlin Branch++...................................................... -- 146 618 751 493
Spurlock Fork++........................................................ -- -- 68 565 543
Shop Branch++.......................................................... -- -- -- -- 491
Miller Creek+.......................................................... 398 521 666 694 752
Three Eastern Kentucky Contract Mines+................................. -- -- -- 33 145
--------- --------- --------- --------- ---------
Total.............................................................. 8,708 7,637 7,671 8,144 9,330
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
- ------------------------
+ Underground
++ Surface
57
<PAGE>
The mines in Western Kentucky, which produce mid to high sulfur coal, are
advantageously located near Lodestar's barge loading facility at the Caseyville
Dock, the southernmost dock on the Ohio River. See "--Coal Transportation." The
Eastern Kentucky mines, located within Central Appalachia, produce coal
typically low in sulfur content. Approximately 63% of Lodestar's production
originates from its Western Kentucky mines and the remaining production
originates from its Eastern Kentucky mines.
Lodestar's underground mines in Western Kentucky have substantial
demonstrated reserves, whereas its surface mines in Eastern Kentucky typically
have demonstrated reserves sufficient for two to four years of production.
However, Lodestar continually pursues development of new mines to replace the
production from a completed operation. In this manner, Lodestar's overall
production from its Eastern Kentucky surface mining operations has remained
relatively constant. Summarized below are descriptions of the mines Lodestar
currently operates.
BAKER MINE. Lodestar produced approximately 4.1 million tons of coal in
1997 from the Baker mine, the largest coal mine in Kentucky. For the twelve
months ended July 31, 1998, Lodestar sold 71% of the Baker mine production to
the TVA. Lodestar has operated this mine utilizing the longwall method of
underground mining, a highly efficient production technique since February 1995.
The longwall is supported by two continuous miner units. Coal from the Baker
mine averages 2.22% sulfur, 9.35% ash, 12,438 Btus per pound and 7% moisture on
a fully-washed basis. Lodestar controls approximately 31.8 million recoverable
tons of demonstrated reserves associated with the Baker mine.
Lodestar owns and operates a computer-controlled, 1,050-tons per hour,
modern preparation plant (the "Pyro Preparation Plant") located in close
proximity to the Baker mine. Coal from the Baker mine is transported to the Pyro
Preparation Plant by rail. This facility, which is capable of loading or
unloading a 9,000-ton unit train in four hours, has a storage capacity of
200,000 tons for raw coal and 359,000 tons for saleable coal. From this
facility, Lodestar has access to both the Paducah & Louisville Railway, Inc. and
the CSX Transportation, Inc. ("CSX") rail line, as well as to the Caseyville
Dock.
Lodestar's modern laboratory located at the Pyro Preparation Plant tests the
quality of coal to facilitate the precise blending of the coals from any
combination of the Baker, Wheatcroft and Smith mines. This facility, which is
operated by a third party, provides Lodestar the flexibility to offer various
coal qualities to meet specific contractual quality requirements.
As of October 31, 1997, the total cost of Lodestar's plant and equipment
associated with the Baker mine, not including the Pyro Preparation Plant, was
approximately $17.2 million, with a net book value of approximately $13.7
million. The total cost of Lodestar's Pyro Preparation Plant was approximately
$3.7 million, with a net book value of $3.4 million as of October 31, 1997.
WHEATCROFT MINE. The Wheatcroft mine produced 146,000 tons in 1997 of which
approximately 38% was sold to a coal brokerage firm for export for the twelve
months ended July 31, 1998. Prior to July 1995, Lodestar operated this mine
utilizing a longwall mining system. In July 1995, Lodestar suspended production
from this mine until July 1997 due to termination of a long-term coal supply
agreement and adverse geologic conditions. Since July 1997, a contract mining
company has provided the labor, equipment, supplies and other materials needed
to mine the Wheatcroft coal. Lodestar pays the contract mining company a fixed
price per ton for its mining services. Lodestar incurred capital costs of $.6
million during the reopening of the mine, with a remaining book value of $.5
million as of October 31, 1997.
The coal from the Wheatcroft mine averages 3.08% sulfur, 9.35% ash, 12,563
Btus per pound and 7% moisture on a fully washed basis. Lodestar controls
approximately 108.2 million recoverable tons of demonstrated reserves associated
with the Wheatcroft mine.
The Pyro Preparation Plant, which is in close proximity to the Wheatcroft
mine, provides Lodestar significant marketing flexibility for coal from the
Wheatcroft mine. The Pyro Preparation Plant's capabilities as discussed above
permit Lodestar to provide coal of specific qualities to meet customer needs.
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<PAGE>
SMITH UNDERGROUND. Lodestar produced 987,000 tons of coal from its Smith
Underground mine in 1997. For the twelve months ended July 31, 1998, Lodestar
sold approximately 70% of the Smith Underground mine production to Big Rivers
Electric Corporation ("Big Rivers"). The Smith Underground mine began production
in late 1994, and presently utilizes two continuous miners. The coal from the
Smith Underground mine averages 3.23% sulfur, 9.99% ash, 11,854 Btus per pound
and 9% moisture on a fully washed basis. Lodestar controls approximately 12.9
million recoverable tons of demonstrated reserves at the Smith Underground mine.
The raw coal produced from the Smith Underground mine is transported by
overland belt to an on-site, computer controlled, 550-tons per hour, modern
preparation plant (the "Smith Preparation Plant") where the coal is washed,
blended or both. The Smith Preparation Plant has rail and truck loading
capabilities, as well as access to the Caseyville Dock.
Beginning in mid-June 1998, production temporarily was suspended at the
Smith Underground mine due to an abnormal build up of coal inventory, primarily
as a result of a reduction in shipments to Big Rivers. See "--Long-Term Coal
Supply Contracts" and "Risk Factors--Reclamation and Closure Liabilities."
Lodestar resumed production from the mine in July 1998.
The total cost of Lodestar's plant and equipment associated with the Smith
Underground mine, not including the Smith Preparation Plant, was approximately
$2.0 million as of October 31, 1997, and the net book value was approximately
$1.6 million as of such date. The total cost of Lodestar's plant and equipment
associated with the Smith Preparation Plant was approximately $1.7 million as of
October 31, 1997, and its net book value was approximately $1.5 million as of
such date.
SMITH SURFACE. The Smith Surface mine produced approximately 594,000 tons
of coal in 1997. For the twelve months ended July 31, 1998, Lodestar sold
approximately 78% of the Smith Surface mine production to Big Rivers. Since
October 1995, a contract mining company has operated this mine by the open pit
method of surface mining, utilizing a large dragline. As a result, Lodestar does
not maintain any plant and equipment associated with the Smith Surface mine.
The coal from the Smith Surface mine averages 4.04% sulfur, 9.48% ash,
12,135 Btus per pound and 8% moisture on a fully washed basis. This coal is
hauled by truck to the Smith Preparation Plant, where it is processed and loaded
for delivery to the customer. Lodestar controls approximately 2.1 million
recoverable tons of demonstrated reserves associated with the Smith Surface
mine.
The reduction in shipments to Big Rivers and the Webster County Coal
Corporation legal proceedings have resulted in suspension of production at the
Smith Surface mine. Lodestar believes that it will resume production from the
mine only if these two issues are successfully resolved. See "--Long-Term Coal
Supply Contracts," "--Legal Proceedings" and "Risk Factors--Reclamation and
Closure Liabilities." Otherwise, it expects the operation to be idled for
several months, possibly indefinitely.
IVY CREEK. Lodestar produced approximately 1.0 million tons of low sulfur
coal in 1997 from the Ivy Creek mine and controls approximately 1.5 million
recoverable tons of demonstrated reserves associated with this mine. The
operation at Ivy Creek utilizes various surface mining techniques and employs
shovel, loader, and dozer spreads, including a Komatsu 575 dozer, the largest
dozer in the world. Coal from the Ivy Creek mine averages 0.9% sulfur, 10.0%
ash, 12,300 Btus per pound and 7% moisture.
Approximately 59% of the coal from this mine is transported by truck to
Lodestar's Transcontinental Loadout near Ivel, Kentucky (the "Transcontinental
Loadout") for shipment to customers. This facility, which is capable of loading
a 10,000-ton unit train in less than four hours, is located on the CSX rail
line, and has throughput capacity of 4.0 million tons per year. The
Transcontinental Loadout has modern crushing, screening and blending equipment,
as well as quality control and automated sampling systems. Coal from Lodestar's
other mines in Eastern Kentucky is also shipped through the Transcontinental
Loadout. Approximately 78% of Lodestar's coal shipped through the
Transcontinental
59
<PAGE>
Loadout is sold to affiliates of U.S. Gen. Lodestar generates additional revenue
from the Transcontinental Loadout by loading coal for non-affiliated
enterprises. In addition, Lodestar has the ability to purchase coal from smaller
producers and blend it through the Transcontinental Loadout.
In addition, approximately 13% of the coal from the Ivy Creek mine is
shipped through Lodestar's Stone Coal Loadout located near Pikeville, Kentucky
(the "Stone Coal Loadout"), and the balance is shipped directly to customers via
the Big Sandy River. At the Stone Coal Loadout, Lodestar has the capability of
crushing, sizing, and loading 360,000 tons per year. The Stone Coal Loadout has
capacity for a 9,000-ton unit train with a loading rate of 1,200 tons per hour
and a stockpile capacity of 40,000 tons.
The total cost of Lodestar's plant and equipment associated with the Ivy
Creek mine, not including the Transcontinental and Stone Coal Loadouts, was
approximately $3.6 million as of October 31, 1997, with a net book value of
approximately $3.1 million. The total cost of Lodestar's plant and equipment
associated with the Transcontinental Loadout was approximately $9.0 million as
of October 31, 1997, and its net book value was approximately $8.6 million as of
such date. The total cost of Lodestar's plant and equipment associated with the
Stone Coal Loadout was approximately $.6 million as of October 31, 1997, and its
net book value was approximately $.4 million as of such date.
SPRADLIN BRANCH. Lodestar produced approximately 493,000 tons of low sulfur
coal in 1997 from the Spradlin Branch mine, utilizing the mountaintop and
contour surface mining methods. As of January 31, 1998, Lodestar controls
approximately 1.4 million recoverable tons of demonstrated reserves associated
with this mine. The coal from the Spradlin Branch mine averages 0.7% sulfur, 11%
ash, 12,000 Btus per pound and 7% moisture.
Approximately 36% of the coal from this mine is hauled by truck to several
barge loading facilities located on the Big Sandy River for shipment to various
customers. Lodestar maintains a stockpile near these docks, which allows
Lodestar to blend its product as necessary to meet a particular customer's
needs. The balance of Spradlin Branch mine's production is shipped to the
Transcontinental Loadout for shipment by rail to various customers.
The total cost of Lodestar's plant and equipment associated with the
Spradlin Branch mine was approximately $2.6 million as of October 31, 1997, with
a net book value of approximately $2.3 million.
SPURLOCK FORK. The Spurlock Fork mine produced approximately 543,000 tons
of low sulfur coal in 1997 by the mountaintop removal method of surface mining.
As of January 31, 1998, Lodestar controls approximately 0.5 million recoverable
tons of demonstrated reserves in connection with this mine. The coal from the
Spurlock Fork mine averages 0.9%, sulfur, 11% ash, 12,200 Btus per pound and 7%
moisture.
Approximately 63% of the coal produced from this mine is shipped for
truck-direct or river sales. The balance is hauled by truck to the Stone Coal
Loadout or Transcontinental Loadout. The total cost of Lodestar's plant and
equipment associated with the Spurlock Fork mine was approximately $1.7 million
as of October 31, 1997, with a net book value of approximately $1.5 million.
SHOP BRANCH. Lodestar operates the Shop Branch mine, which began production
in early 1997, as a contractor for the owner of the mine's coal and mining
rights. Lodestar has a contract to mine up to 1.8 million tons of low sulfur
coal of which 491,000 tons were mined in 1997, with approximately 666,000 tons
remaining as of July 31, 1998. Lodestar provides the labor, equipment, supplies
and other materials needed to mine the coal and is paid a fixed price per ton
for its mining services. The mining is accomplished through the mountaintop
removal method of surface mining. The coal averages 0.8% sulfur, 12.0% ash,
12,000 Btus per pound and 7% moisture.
In addition to mining services, Lodestar has agreed to purchase 750,000 tons
per year of coal from the Shop Branch mine through May 1999 and 500,000 tons per
year from June 1999 through May 2001. Pursuant to this contract, Lodestar
purchased approximately 432,000 tons from June 1, 1997 to December 31, 1997,
which were shipped through the Transcontinental Loadout. The total cost of
Lodestar's
60
<PAGE>
plant and equipment associated with the Shop Branch mine was approximately $2.3
million as of October 31, 1997, and its net book value was approximately $2.1
million as of such date.
MILLER CREEK. Lodestar produced approximately 752,000 tons of low sulfur
coal in 1997 from the Miller Creek mine and as of January 31, 1998 has
approximately 9.4 million recoverable tons of demonstrated reserves associated
with this mine. Lodestar utilizes two continuous miner units at the Miller Creek
mine. This coal averages 0.9% sulfur, 4.0% ash, 13,100 Btus per pound and 5%
moisture on a fully-washed basis.
The coal from the Miller Creek mine is hauled by truck to Lodestar's
Chapperal Preparation Plant in Pikeville, Kentucky (the "Chapperal Preparation
Plant"), a 700-ton per hour modern preparation plant with stockpile capacity of
40,000 tons. The Chapperal Preparation Plant is equipped with train and truck
loadouts and produces a specially sized stoker coal, as well as high quality nut
and slack coal. The coal shipped from the Chapperal Preparation Plant is sold to
a variety of customers.
As of October 31, 1997, the total cost of Lodestar's plant and equipment
associated with the Miller Creek mine, not including the Chapperal Preparation
Plant, was approximately $2.6 million, with a net book value of approximately
$2.2 million. The total cost of Lodestar's plant and equipment associated with
the Chapperal Preparation Plant was approximately $1.8 million as of October 31,
1997, and its net book value was approximately $1.6 million as of such date.
THREE EASTERN KENTUCKY CONTRACT MINES. Lodestar controls the coal and
mining rights at three deep mines in Eastern Kentucky, which produced
approximately 145,000 tons in 1997. Lodestar uses contract mining companies at
each of these mines to provide the labor, equipment, supplies and other
materials needed to mine the coal and deliver it to either the Chapperal
Preparation Plant or the Transcontinental Loadout, as instructed by Lodestar.
Lodestar pays each contract mining company a fixed price per ton for its mining
services. These mines produce coal which averages 1.2% sulfur, 8.0% ash, 13,000
Btus per pound and 5% moisture on a fully washed basis. Because Lodestar
utilizes the services of a contract mining company at each of these mines,
Lodestar does not maintain any plant and equipment associated with these mines.
LONG-TERM COAL SUPPLY CONTRACTS
Lodestar supplies a substantial portion of its coal to customers pursuant to
long-term contracts. Customers enter into such long-term contracts principally
to secure a reliable source of coal at predictable prices. Lodestar enters into
such contracts to obtain stable revenue sources required to support the large
expenditures needed to open, expand and maintain the mines servicing such
contracts.
Presently, Lodestar supplies coal to more than 30 customers on an ongoing
basis. For the twelve months ended July 31, 1998, approximately 67% of
Lodestar's coal sales and related revenue were made under long-term contracts.
Five long-term contracts with three customers accounted for approximately 55% of
coal sales and related revenue for the twelve months ended July 31, 1998. As of
July 31, 1998, Lodestar's long-term contracts had a weighted average term of
approximately 7.7 years. The following table sets forth information regarding
Lodestar's long-term supply contracts as of July 31, 1998:
61
<PAGE>
<TABLE>
<CAPTION>
APPROXIMATE
CONTINUOUS EXPIRATION CURRENT CURRENT ANNUAL
SERVICE DATE OF CURRENT CONTRACT TERM(1) CONTRACT TONNAGE
CUSTOMER (NUMBER OF YEARS) CONTRACT (NUMBER OF YEARS) (IN THOUSANDS)
<S> <C> <C> <C> <C>
Alabama Power Company................. 2 December 1999 3 400
City of Lansing (2)................... 10 December 1999 3 85
Abbott Laboratories................... 4 March 2000 6 75
Big Rivers(3)......................... 15 June 2001 41/2 375
TVA--Colbert/Gallatin(4).............. 21 June 2003 6 2,000
TVA--Johnsonville(4).................. 3 June 2003 6 1,000
Tondu Energy Systems, Inc.(2)......... 9 December 2004 16 200
U.S. Gen--Cedar Bay(2)(5)............. 5 August 2013 20 1,000
U.S. Gen--Indiantown(2)............... 3 December 2025 30 700
</TABLE>
- ------------------------
(1) Reflects stated term of contract including any options to extend and does
not assume early termination due to any price reopeners which may exist.
(2) Reflects shipments under total requirements contracts.
(3) The annual tonnage under contract was reduced effective July 1, 1998, to a
maximum of 750,000 tons, with 375,000 tons to each of two separate Big
Rivers plants. Pursuant to the price reopener provision of the contract, Big
Rivers obtained bids for replacement coal to the plants, and Lodestar was
given an opportunity to match the bid prices, with new prices effective July
1, 1998. The process resulted in a higher contract price for 375,000 tons to
one plant. The bid price for replacement tonnage to the other plant was
lower than the contract price and was not accepted by Lodestar. Although Big
Rivers has taken the position that the contract has therefore terminated
with respect to that plant as of July 1, 1998, Lodestar has asserted that
the bid received by Big Rivers was not bona fide, as required by the
contract, and that Lodestar was entitled to "match" the next lowest bid,
which was a price acceptable to Lodestar. Although the contract provides for
arbitration, Lodestar continues negotiations with Big Rivers. The Company
believes that whether this dispute is resolved favorably or unfavorably, it
will not have a material effect on the Company's business, financial
condition and results of operations.
(4) Provides for up to a 20% increase or decrease of coal supplied at the
customer's discretion.
(5) This contract accounted for approximately 10% of the Company's coal sales
and related revenue for the twelve months ended July 31, 1998. Cedar Bay
currently is involved in litigation with its principal customer whereby
Cedar Bay is alleging underpayment by its customer pursuant to their power
purchase agreement. One of the items being disputed by Cedar Bay is the
composition of the coal pricing index which governs Cedar Bay's receipts
from this customer and Cedar Bay's subsequent payment to Lodestar. Lodestar
disputes the calculation of this coal pricing index and believes it thus is
being underpaid under its current contract with Cedar Bay. Lodestar has
agreed not to seek reimbursement for the underpayment pending the resolution
of Cedar Bay's litigation with its customer, and Lodestar is cooperating in
Cedar Bay's litigation against this customer. Should the coal pricing index
issue of Cedar Bay's litigation be resolved in a manner unfavorable to
Lodestar, it could affect future pricing under Lodestar's contract with
Cedar Bay and could have a material adverse effect on Lodestar's future
results of operations. Furthermore, Cedar Bay's ability to meet its
financial obligations, including those under its contract with the Company,
may be adversely affected to the extent Cedar Bay is not successful in its
overall litigation efforts. If Cedar Bay is unable to fulfill its
obligations under its contract with the Company, including its commitments
with respect to ash disposal, it would have a material adverse effect on the
Company's business, financial condition and results of operations. See
"--Other Services."
62
<PAGE>
Lodestar's long-term contracts with the TVA and U.S. Gen accounted for
approximately 27% and 17%, respectively, of Lodestar's coal sales and related
revenue for the twelve months ended October 31, 1997. The TVA contracts and the
U.S. Gen contracts are expected to represent approximately 26% and 18%,
respectively, of coal sales and related revenue in fiscal 1998. No other single
customer accounted for more than 10% of Lodestar's coal sales and related
revenue for the twelve months ended October 31, 1997.
The terms of long-term contracts entered into by Lodestar are the result of
specific bidding procedures set forth by a prospective customer followed by
extensive negotiations between the customer and Lodestar. The terms and
conditions of such contracts vary from customer to customer in many respects. In
particular, long-term contracts specify the characteristics of the coal to be
shipped to a customer, including, without limitation, the Btu, sulfur, ash and
moisture of the coal. Moreover, most of Lodestar's contracts specify the agreed
upon seams and/or locations from which the coal for a customer is to be sourced.
Certain coal supply agreements to which Lodestar is a party are
"requirements" contracts whereby the customer is obligated to purchase only that
quantity of coal required for its operations. Lodestar thus is exposed to
certain risks associated with its customers. In particular, the customer's
limited purchase obligation is directly related to the demand for the customer's
electricity produced from a particular facility with such coal. Demand for
electricity from these facilities, and therefore the demand for Lodestar's coal,
is affected by a number of factors beyond the control of Lodestar. For the
twelve months ended July 31, 1998, 25% of Lodestar's coal sales and related
revenue were derived from such requirements contracts.
In addition to the quantity, quality and source of coal, Lodestar's
contracts contain numerous other terms and conditions, including, without
limitation, the following: (i) price adjustment and/or reopener features; (ii)
extension, assignment and/or termination provisions; and (iii) force majeure
provisions to permit suspension of performance under a contract by Lodestar
and/or a customer due to certain events beyond the control of the affected
party, including labor disputes and changes in government regulation.
Certain of Lodestar's long-term coal supply contracts are subject to price
adjustment provisions which provide for increases or decreases in price, as
determined by specific conditions set forth in the contracts. Price conditions
in a contract might specify an economic index or other market pricing mechanism
on which a contract price is based. Certain contracts contain limitations on the
magnitude of price changes that may result from the reopener provisions of a
contract. Price reopener provisions provide for the renegotiation of the price
terms of a long-term contract.
Although Lodestar currently has no ongoing contract disputes other than with
Big Rivers and Cedar Bay, Lodestar has become involved in such disputes from
time to time relating to, among other things, coal quality, pricing and
quantity. While customer disputes, if unresolved, could result in the
termination or cancellation of the applicable contract, Lodestar works closely
with its customers to resolve any differences. Nonetheless, there can be no
assurance that future disputes, if any, will be resolved in a mutually
satisfactory manner.
Operating profit margins realized by Lodestar under its long-term contracts
vary from contract to contract and depend upon a variety of factors, including
the type of customer (electrical power utility, IPP or industrial), base price
and adjustment provisions, as well as Lodestar's production and transportation
costs. Termination or suspension of deliveries under contracts could have a
material adverse effect on Lodestar's financial condition and results of
operation.
COAL TRANSPORTATION
Customers typically incur the transportation costs from the loadout point
(E.G. where loaded onto truck or barge) to the place of use (E.G. a customers'
power plant). Consequently, the availability and
63
<PAGE>
cost of transportation constitute important factors for the marketability of
coal. Transportation costs are dependent primarily on the proximity of the
customer to the coal source.
For the twelve months ended July 31, 1998, approximately 45% of Lodestar's
tonnage was shipped by inland waterway barges, 39% by rail on CSX and 16% by
direct truck deliveries. Although CSX dominates Lodestar's access to rail lines,
Lodestar believes that the freight charges it pays are competitive with the
charges paid by other coal producers served by multiple railroads. The practices
and rates set by the railroad serving a particular mine might affect, either
adversely or favorably, Lodestar's marketing efforts with respect to coal
produced from that mine. In addition, Lodestar believes its use of non-rail
delivery systems is advantageous because it provides both competitive
alternatives and transportation diversification.
WESTERN KENTUCKY OPERATIONS
The Caseyville Dock located on the Ohio River in Western Kentucky plays an
important role in the transportation of Lodestar's Western Kentucky products.
Accessible by truck from Lodestar's Pyro and Smith Preparation Plants, the
Caseyville Dock handled 43% of Lodestar's total coal shipments for the twelve
months ended July 31, 1998. The Caseyville Dock provides Lodestar with a
competitive advantage over other coal producers because it (a) is under the
control of Lodestar and (b) is located farther south on the Ohio River than any
comparable facility, providing a cost advantage in delivering coal to customers
in the Southern United States. In addition, the large number of barge companies
on the Ohio River ensures competitive barging rates. As of October 31, 1997, the
total cost of plant and equipment associated with the Caseyville Dock was
approximately $.7 million, with a net book value of $.7 million.
For the twelve months ended July 31, 1998, 77% of Lodestar's Western
Kentucky coal shipments traveled by truck to the Caseyville Dock to be loaded
onto barges. The current operations depend upon a single trucking company to
transport coal from the Pyro Preparation Plant to the Caseyville Dock. In the
event that this trucking company is unable to continue this service, Lodestar
may experience a disruption in coal deliveries and may incur higher
transportation charges in the future. However, Lodestar has reached agreement
with TVA to ship by rail an increased portion of the coal supplied to it. This
agreement will lessen Lodestar's dependence on this single trucking company.
EASTERN KENTUCKY OPERATIONS
For the twelve months ended July 31, 1998, 76% of Lodestar's Eastern
Kentucky coal shipments traveled by CSX rail. The remaining 24% of coal
shipments traveled by truck directly to the customer or by truck to river docks.
Lodestar's Eastern Kentucky operations utilize numerous independent trucking
companies and thus are not dependent on any single trucking company.
MARKETING AND SALES
Lodestar currently conducts its marketing and sales throughout the Eastern,
South Central and Great Lakes regions of the United States, covering most areas
east of the Mississippi River and, through brokers, internationally. Shipments
of coal for the twelve months ended July 31, 1998 were 10.8 million tons,
including 6.6 million tons under contracts with utilities, 1.8 million tons
under long-term contracts with IPPs, 2.2 million tons to brokers and 0.2 million
tons to industrial customers.
Lodestar has recently increased its marketing staff to expand Lodestar's
industrial sales in the Midwest and its utility and industrial sales in the
Southern United States. New marketing initiatives are expected to increase total
coal sales as well as improve average price realizations. In addition, Lodestar
intends to restart its coal brokering operations to identify smaller producers
that may benefit from Lodestar's marketing resources and experience in certain
niche markets.
64
<PAGE>
OTHER SERVICES
Lodestar operates an ash disposal facility adjacent to the Transcontinental
Loadout, which has approximately twenty years of capacity at current disposal
rates. This facility has the capability of accepting ash from both open-top
hopper railcars and pneumatic railcars. Presently, the ash disposed of at this
facility is received by Lodestar pursuant to its coal supply agreements with
Indiantown Cogeneration, L.P. ("Indiantown") and Cedar Bay Generating, L.P.
("Cedar Bay"), both affiliates of U.S. Gen.
Lodestar is paid a fee for disposal of the ash at this facility. For the
twelve months ended July 31, 1998, Lodestar disposed of approximately 277,000
tons of ash for which it was paid approximately $5.1 million. Cedar Bay
accounted for approximately 70% of the tons and approximately 72% of the revenue
associated with ash disposal for the twelve months ended July 31, 1998. The
total cost, including capitalized development expenditures, of Lodestar's plant
and equipment associated with this facility was $8.7 million as of October 31,
1997, and its net book value was approximately $8.3 million as of such date. See
"--Long-Term Coal Supply Contracts."
DEVELOPMENT AND EXPLORATION
As part of its ongoing mining operations, Lodestar develops certain of its
existing coal reserves. In particular, as part of its mine planning, Lodestar
surveys and drills geographic regions to determine, among other things, the
grade and depth of reserves to be mined. The objective of Lodestar's development
efforts is to identify the specific coal reserves with which to meet customer
requirements cost effectively.
With regard to exploration, Lodestar's business strategy encompasses the
acquisition of coal reserves that complement its existing operations or provide
expansion opportunities. The object of Lodestar's exploration activity is to
maintain and expand its coal reserves, offsetting the annual depletion resulting
from ongoing mining operations. Given the breadth of Lodestar's operating
capabilities in Eastern and Western Kentucky, Lodestar believes that
opportunities exist to consolidate coal reserves within its primary geographic
areas. Historically, the Predecessor Company, due to its strategic objectives,
did not undertake significant exploration activities. Lodestar, however, intends
to pursue exploration activities which are consistent with its business
strategy.
For the twelve months ended July 31, 1998, Lodestar capitalized in
accordance with generally accepted accounting principles $1.0 million associated
with its development efforts.
COMPETITION
The United States coal industry is highly competitive, with numerous
producers in all coal producing regions. Lodestar competes with other large
producers and many small producers in the United States and abroad. Many of
Lodestar's customers are also customers of Lodestar's competitors. The markets
in which Lodestar sells its coal are highly competitive and affected by factors
beyond Lodestar's control. Continued demand for Lodestar's coal and the prices
that Lodestar will be able to obtain will depend primarily on coal consumption
patterns of the domestic electric utility industry, which in turn are affected
by the demand for electricity, coal transportation costs, environmental and
other governmental regulations and orders, technological developments and the
availability and price of competing coal and alternative fuel supply sources
such as oil, natural gas, nuclear energy and hydroelectric energy.
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EMPLOYEES
As of July 31, 1998, Lodestar had 892 employees. The following table
presents Lodestar's employees by location:
<TABLE>
<CAPTION>
LOCATION HOURLY SALARY TOTAL
<S> <C> <C> <C>
Western Kentucky(1)....................................................................... 422 74 496
Eastern Kentucky(2)....................................................................... 301 51 352
West Virginia(3).......................................................................... 7 2 9
Corporate Office--Lexington, Kentucky..................................................... 8 27 35
--- --- ---
Total................................................................................. 738 154 892
--- --- ---
--- --- ---
</TABLE>
- ------------------------
(1) In August 1997, the UMWA was certified by the National Labor Relations Board
following a representation election to represent 446 employees at Lodestar's
Western Kentucky operations. Lodestar has entered into a collective
bargaining agreement with the UMWA, which either party may terminate on or
after May 13, 2000, and that Lodestar believes will contribute to the long-
term success of these operations. Lodestar considers its relationship with
these employees generally to be good and has not experienced significant
labor relations problems as a result of the UMWA representation.
(2) Lodestar's employees at its Eastern Kentucky operations are not represented
by a union, and Lodestar believes its relations with these employees are
good. However, there can be no assurance that Lodestar's workforce in
Eastern Kentucky will not unionize in the future.
(3) Following the idling of production in the first quarter of fiscal 1998, the
employees at Lodestar's West Virginia operations are performing final
reclamation work.
LEGAL PROCEEDINGS
Lodestar and Webster County Coal Corporation ("WCCC") are parties to an
agreement relating to Lodestar's mining at its Smith Surface mine. The agreement
resolved various disputes that arose in 1992 when WCCC objected to Lodestar's
renewal of its mining permit, claiming that Lodestar's operations could damage
WCCC's nearby underground mine. The agreement requires Lodestar to maintain a
minimum net worth of $70.0 million or, in the alternative, to procure a payment
and performance bond in the amount of $20.0 million, a requirement Lodestar has
not met since late 1996. On August 10, 1998, WCCC filed suit against Lodestar in
the Webster County (Kentucky) Circuit Court (Case No. 98-CI-00163) seeking a
judgment requiring specific performance of this minimum net worth or bond
requirement of the agreement. WCCC's complaint also requests an injunction to
prevent Lodestar from mining in the area affected by the agreement until this
requirement of the agreement is met. Lodestar has filed its answer denying that
this requirement should be enforced because (a) WCCC would have an adequate
remedy at law if it were ever damaged, (b) Lodestar is not now mining in the
affected area, and (c) the bond requirement would no longer serve its intended
purpose because Lodestar has satisfied the obligations the bond was to secure.
As a result of the legal action, Lodestar could be required to post a $20.0
million bond, or to permanently stop mining at the Smith Surface mine. Although
the Company cannot predict with any certainty the outcome of this action, the
Company does not believe the outcome of any such action would have a material
adverse effect on the financial condition and results of operations of the
Company.
The Predecessor Company initiated a claim on June 16, 1990 against its
insurance carriers in COSTAIN COAL INC. V. NATIONAL UNION FIRE INSURANCE CO., ET
AL., Civil Action No. 90-CI-2075, Fayette Circuit Court, Third Division, for
denial of coverage on claims related to a 1989 accident at a former mine. The
insurance carriers ultimately funded the settlement but are seeking to recoup
from Lodestar a majority of the monies paid. A settlement was reached between
the Predecessor Company and one carrier, resulting in a remaining recoupment
claim of approximately $7.5 million. One of the carriers has been allowed to
file an amended complaint naming the Company as a party. The Predecessor
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<PAGE>
Company had asserted claims for damages alleging bad faith on the carriers' part
in refusing to fund the claims. In September 1994, the court issued an order
holding that some of the payments by the insurance carriers were made under
policies which did not provide coverage to the actual Predecessor Company entity
involved. The Predecessor Company has asserted that the court's ruling does not
eliminate its bad faith claims or establish the carriers' rights to recoupment.
Pursuant to the Acquisition, the Predecessor's Parent contractually retained
liability and agreed to indemnify Lodestar for the NATIONAL UNION action.
Accordingly, the Predecessor's Parent is defending the NATIONAL UNION action.
Discovery is substantially complete, but no trial date has been set. Although
the Company believes a court would recognize the contractual arrangement between
the Predecessor's Parent and Lodestar regarding the allocation of liability for
this litigation, there can be no assurance that the court will do so. Moreover,
there can be no assurance that the Predecessor's Parent will be able to fulfill
its indemnification obligations. See "Risk Factors--Predecessor Company Risk." A
ruling by the court that the insurance carriers are owed recoupment and that
liability for this matter attaches to Lodestar or the Company despite the
contractual allocation of liability to the Predecessor's Parent, could have a
material adverse effect on the Company's financial condition and results of
operations.
The Company is involved in various other claims and lawsuits incidental to
the ordinary course of its business that are not expected to have a material
adverse effect on the financial condition or results of operations of the
Company.
AVAILABLE INFORMATION
The Company and the Guarantors have filed with the Commission a Registration
Statement on Form S-4 (together with all amendments, exhibits, schedules and
supplements thereto, the "Registration Statement") under the Securities Act with
respect to the Exchange Notes offered hereby. This Prospectus, which forms a
part of the Registration Statement, does not contain all the information set
forth in the Registration Statement, certain parts of which have been omitted in
accordance with the rules and regulations of the Commission. For further
information with respect to the Company, and the Exchange Notes offered hereby,
reference is made to the Registration Statement. Statements contained in this
Prospectus as to the contents of certain documents filed as exhibits to the
Registration Statement are not necessarily complete and, in each case, are
qualified by reference to the copy of the document so filed. The Registration
Statement can be inspected and copied at the public reference facilities
maintained by the Commission at Room 1024, 450 Fifth Street, N.W., Washington,
D.C. 20549, and at the Commission's regional offices at 500 West Madison Street,
Suite 1400, Chicago, Illinois 60661 and 7 World Trade Center, 13th Floor, New
York, New York 10048. Copies of such material may be obtained from the Public
Reference Section of the Commission at 450 Fifth Street, N.W., Washington, D.C.
20549, at prescribed rates. Such material also can be reviewed through the
Commission's Electronic Data Gathering, Analysis, and Retrieval System, which is
publicly available through the Commission's web site (http://www.sec.gov).
The Company intends to furnish to each holder of the Exchange Notes annual
reports containing audited financial statements and quarterly reports containing
unaudited financial information for the first three quarters of each fiscal
year. The Company also will furnish to each holder of the Exchange Notes such
other reports as may be required by applicable law.
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<PAGE>
GOVERNMENTAL REGULATION
OVERVIEW
The coal mining industry is subject to regulation by federal, state and
local authorities on matters such as employee health and safety, permitting and
licensing requirements, air and water pollution, the reclamation and restoration
of mining properties after mining is completed, the discharge of hazardous
materials into the environment, surface subsidence from underground mining and
the effects that mining has on groundwater quality and availability. In
addition, the industry is affected by significant legislation mandating certain
benefits for current and retired coal miners. Various permits (primarily from
state agencies) must be obtained before mining operations are commenced.
Lodestar believes that all permits currently required to conduct its present
mining operations have been obtained. Lodestar may be required to prepare and
present to federal, state or local authorities data pertaining to the effect
that a proposed exploration for or production of coal may have on the
environment. Such requirements could prove costly and time-consuming, and could
delay commencement or continuation of exploration or production operations.
Future legislation and administrative regulations may emphasize the protection
of the environment, and as a consequence, the activities of Lodestar may be more
closely regulated. Such legislation and regulations, as well as future
interpretations and more rigorous enforcement of existing laws, may require
substantial increases in equipment and operating costs to Lodestar and delays,
interruptions or a termination of operations, the extent of which cannot be
predicted.
The remainder of this section provides a brief description of the general
purpose and impact of the principal federal, state and local laws and
regulations that affect the coal mining industry. These descriptions do not
address every material aspect or possible impact of the applicable law or
regulation.
HEALTH AND SAFETY
MINE HEALTH AND SAFETY STANDARDS
The Federal Coal Mine Health and Safety Act of 1969 (the "1969 Act") has
resulted in important health and safety benefits to coal miners while increasing
operating costs and reducing productivity for the coal industry as a whole. The
Federal Mine Safety and Health Act of 1977 (the "1977 Act") significantly
expanded the enforcement of health and safety standards. Regulations are
comprehensive and affect numerous aspects of mining operations, including
training of mine personnel, mining procedures, blasting and the equipment used
in mining operations. In addition to the federal framework, most states
(including Kentucky) impose regulatory and legal parameters for mine safety and
health.
Lodestar seeks to continue to improve its health and safety performance by,
among other measures: training employees in safe work practices; openly
communicating with employees regarding safety procedures; establishing,
following and improving safety standards through Lodestar's loss prevention
system; involving employees in establishing safety standards; and recording,
reporting and investigating all accidents, incidents and losses to avoid
reoccurrence. As evidence of the effectiveness of Lodestar's commitment to
health and safety, Lodestar's Spurlock mine received the Sentinels of Safety
Award in 1996 from MSHA for achieving 80,432 hours without a lost time accident.
BLACK LUNG
The Black Lung Reform Act of 1977 requires each coal mine operator to secure
payment of federal and state black lung claims to its employees through
insurance, bonds, qualified self-insurance or contributions to a
state-controlled fund. This Act also establishes a trust fund for the payment of
benefits and medical expenses to employees who cannot receive these benefits
from their employer. The trust fund is financed by a tax on coal sales. Lodestar
is self-insured for its workers' compensation liability, including obligations
under state and federal black lung claims. Accordingly, as of July 31,
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<PAGE>
1998, Lodestar had $19.7 million of performance bonds outstanding related to
such workers' compensation liability. These performance bonds and other
performance bonds including those related to reclamation are supported by $17.8
million in letters of credit as of July 31, 1998.
HEALTH BENEFITS ACT
The Coal Industry Retiree Health Benefit Act of 1992 (the "Health Benefits
Act") provides for the funding of health benefits for UMWA retirees. It requires
"signatory operators" to pay annual premiums to a trust fund benefiting those
retirees. Lodestar has been assigned a small number of beneficiaries based on
its former relationship with signatory operators. Lodestar is indemnified
contractually on this obligation by both the Predecessor's Parent and the
purchaser of its former operations in Alabama. Lodestar currently expects no
material liability in this regard. See "Risk Factors--Predecessor Company Risk."
ENVIRONMENTAL MATTERS
Lodestar is subject to regulation by various environmental laws, including
SMCRA, the Clean Air Act, the Comprehensive Environmental Response Compensation
and Liability Act of 1980 ("CERCLA"), the Federal Water Pollution Control Act
(the "Clean Water Act") and the Resource Conservation and Recovery Act of 1976
("RCRA"), as well as state laws of similar scope. These laws require
governmental approval of many aspects of coal mining operations, and both
federal and state inspectors regularly visit Lodestar's mines and other
facilities in order to assure compliance.
SURFACE MINING CONTROL AND RECLAMATION ACT
The Federal Surface Mining Control and Reclamation Act of 1977 ("SMCRA")
establishes mining and reclamation standards for all aspects of surface mining,
as well as many aspects of deep mining. SMCRA and similar state statutes
require, among other things, that mined property be restored in accordance with
specified standards and an approved reclamation plan. In addition, the Abandoned
Mine Lands Act, which is part of SMCRA, imposes a tax on all current mining
operations the proceeds of which are used to restore mines closed before 1977
and not reclaimed. The maximum tax is $.35 per ton on surface-mined coal and
$.15 per ton on underground-mined coal.
SMCRA also requires that comprehensive environmental protection and
reclamation standards be met during the course of and upon completion of mining
activities. For example, SMCRA requires Lodestar to restore a surface mine to
approximate original contour as contemporaneously as practicable with surface
coal mining operations. The mine operator must submit a bond or otherwise secure
the performance of these reclamation obligations. Lodestar accrues the liability
associated with all end of mine reclamation on a ratable basis as the coal
reserve is being mined. The estimated cost of reclamation, and the corresponding
accrual on Lodestar's financial statements, is updated periodically.
As part of its reclamation activities in the ordinary course of its
business, Lodestar had approximately $42.5 million of performance bonds
outstanding as of July 31, 1998. Lodestar's obligations under these performance
bonds and other performance bonds including those related to workers'
compensation are supported by $17.8 million in outstanding letters of credit as
of July 31, 1998. See "Risk Factors--Reclamation and Closure Liabilities."
CLEAN AIR ACT
The Clean Air Act and corresponding state laws which regulate the emissions
of pollutants into the air, affect coal mining operations both directly and
indirectly. Coal mining and processing operations may be directly affected by
Clean Air Act permitting requirements and/or emissions control requirements.
Coal mining and processing may also be impacted by future regulation of fine
particulate matter measuring 2.5 micrometers in diameter or smaller. For
example, new regulations relating to
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<PAGE>
fugitive dust and coal emissions may restrict Lodestar's ability to develop new
mines or require Lodestar to modify its existing operations.
The Clean Air Act indirectly affects coal mining operations by extensively
regulating the air emissions from coal-fueled electric power generation plants.
Reductions in emissions are occurring in two phases: Phase I began in 1995
(applicable to certain identified facilities) and Phase II will begin in 2000
(applicable to all facilities, including those subject to the 1995
restrictions). The affected utilities may be able to meet these requirements by,
among other things, switching to lower sulfur fuels, installing pollution
control devices such as scrubbers, reducing electricity generating levels, or by
purchasing or trading emissions allowance credits. Specific emissions sources
will receive these credits, which utilities and industrial concerns can trade or
sell to allow other units to emit higher levels of sulfur dioxide.
Lodestar believes that its presence in two distinct major coal supply
regions will minimize any adverse effects from the transition from Phase I to
Phase II of the Clean Air Act. The Clean Air Act, while limiting sulfur dioxide
(SO(2)) emissions, provides for certain alternatives to allow existing power
plants to continue to operate. In Eastern Kentucky, Lodestar's coal reserve base
consists of low sulfur coal for which a widespread market is expected to
continue to exist. In Lodestar's Western Kentucky operations, while the coal
reserve base consists of mid to high sulfur coals, Lodestar believes that it has
certain strengths with which to manage the effects of stricter emissions limits.
Specifically, higher sulfur coals with higher Btu content, such as Lodestar's
coal, will continue to be economical fuel supplies for plants equipped with
scrubbers. In addition, high sulfur coals can be blended with Western coals
containing low levels of sulfur to take advantage of the superior Btu content of
Lodestar's Western Kentucky coal. The emission allowance trading system also
will permit plants that over-comply with emission limits (including those with
scrubbers) to offset the emissions from higher emitting plants.
The Clean Air Act also requires that existing major sources of nitrogen
oxides in moderate or higher ozone non-attainment areas install Reasonably
Available Control Technology ("RACT") for nitrogen oxides, which are precursors
of ozone. In addition, stricter ozone standards are expected to be implemented
by the federal Environmental Protection Agency by 2003. On October 10, 1997, the
EPA unveiled an anti-smog plan calling for steep reductions in nitrogen oxide
emissions in 22 states, and cited power plants as the preferred way to meet the
goal. The states have a year to respond to the proposal. Any new requirements
will make it more costly to operate coal-fired power plants and could make coal
a less attractive fuel alternative in the planning and building of power plants
in the future. The effect such legislation or other legislation that may be
enacted in the future could have on the coal industry in general and on Lodestar
in particular cannot be predicted with certainty. Such legislation limits the
ability of some of Lodestar's customers to burn higher sulfur coals unless these
customers have or are willing to install scrubbers, to blend coal or to bear the
cost of acquiring emission credits which permit them to burn higher sulfur coal.
If the use of coal as a raw material for power generating were to be reduced, a
material adverse effect on Lodestar's financial condition and results of
operations could result.
In addition, the international community met in Kyoto, Japan in December
1997 and reached an agreement on the Kyoto Protocol establishing binding targets
and timetables for reduction of greenhouse gases. Among other things, the United
States committed to reducing U.S. carbon dioxide (CO(2)) emissions by 7% from
1990 levels by the 2008 to 2012 time frame, which could reduce reliance on
fossil fuels, including coal. Whether the United States will ratify this treaty
is uncertain and will likely be the subject of heavy debate. The Company cannot
predict the outcome of the events or their effects on the Company's operating
performance.
CERCLA
Lodestar is one of over 150 parties to a consent decree in U.S. V. UNION
ELECTRIC COMPANY, ET AL., 92 CV 00078 (E.D. Mo.), settling claims under CERCLA
of the United States and State of Missouri for
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cleanup of the Missouri Electric Works, Inc. Superfund Site located in Cape
Girardeau, Missouri. Lodestar's allocated share of costs is 1.13%, which
Lodestar estimates will equal approximately $113,000. The consent decree has not
yet been entered by the Court because of pending objections by certain
non-settling parties.
Except for reclamation costs, amounts spent by Lodestar in 1997 for
environmental matters were not material and are not expected to be material in
1998 or 1999.
COMPLIANCE
Lodestar endeavors to conduct mining operations in compliance with all
applicable federal, state and local laws and regulations. However, because of
extensive and comprehensive regulatory requirements, violations during mining
operations occur from time to time in the industry. Notwithstanding compliance
efforts, Lodestar does not believe such violations can be completely eliminated.
None of the violations to date or the monetary penalties assessed upon Lodestar
have been material.
While it is not possible to quantify the costs of compliance with all
applicable federal and state laws, those costs have been and are expected to
continue to be significant. However, Lodestar believes the cost of compliance
with regulatory standards will not substantially affect its ability to compete
with similarly situated coal companies.
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MANAGEMENT
DIRECTORS AND OFFICERS
The following table sets forth certain information regarding the directors
and executive officers of the Company and the Guarantors:
<TABLE>
<CAPTION>
NAME AGE POSITION
<S> <C> <C>
Ira Leon Rennert..................................... 64 Chairman, Chief Executive Officer and Director of the
Company and Chairman and Director of Lodestar,
Eastern Resources and Industrial Fuels
John W. Hughes....................................... 57 President and Chief Operating Officer of the Company
and Lodestar and President of Eastern Resources and
Industrial Fuels
Eugene C. Holdaway................................... 51 Senior Vice President of the Company and Lodestar
R. Eberley Davis..................................... 41 Vice President and General Counsel of Lodestar
Michael E. Donohue................................... 47 Chief Financial Officer of the Company and Vice
President and Chief Financial Officer of Lodestar,
Eastern Resources and Industrial Fuels
Mike Francisco....................................... 42 Vice President--East Kentucky Operations of Lodestar
and Vice President of Industrial Fuels
William M. Potter.................................... 46 Vice President--West Kentucky Operations of Lodestar
</TABLE>
IRA LEON RENNERT has been Chairman, Chief Executive Officer, Director and
principal shareholder of Renco (including predecessors) since Renco's first
acquisition in 1975, Chief Executive Officer of the Company since April 1998,
Chairman and Director of the Company since its establishment in August 1996 and
Chairman and Director of Lodestar, Eastern Resources and Industrial Fuels since
March 1997. Renco holds controlling interests in a number of manufacturing and
distribution concerns operating in businesses not competing with Lodestar,
including WCI Steel, Inc., The Doe Run Resources Corporation, Renco Metals, Inc.
and AM General Corporation.
JOHN W. HUGHES has been President and Chief Operating Officer of the Company
since April 1998 and of the Predecessor Company and Lodestar since August 1996.
Mr. Hughes joined the Predecessor Company in July 1995 as Executive Vice
President and Chief Operating Officer. From May 1993 until joining the
Predecessor Company, Mr. Hughes was a consultant and pursued personal interests
outside the coal industry. From November 1992 to May 1993, Mr. Hughes was the
Manager--Operations, Safety and Environmental and the President of Shell Mining
Company. Mr. Hughes has over 30 years of experience in the coal mining and the
oil and gas industries.
EUGENE C. HOLDAWAY has been Senior Vice President of the Company since April
1998 and of the Predecessor Company and Lodestar since September 1995. Mr.
Holdaway joined the Predecessor Company in March 1993 as Vice President--Sales
and Marketing. From June 1987 to March 1993, Mr. Holdaway served as Vice
President--Midwest and Western Sales at Arch Coal Sales Company. Mr. Holdaway
has over 22 years of experience in the coal mining industry.
R. EBERLEY DAVIS has been Vice President and General Counsel of the
Predecessor Company and Lodestar since November 1995. Mr. Davis previously
served as Director of Legal Affairs and Corporate Counsel of the Predecessor
Company from July 1995 to November 1995 and as Director of Legal
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Affairs for the Western Division of the Predecessor Company from January 1993 to
July 1995. Mr. Davis is a member of the Kentucky bar.
MICHAEL E. DONOHUE has been Chief Financial Officer of the Company and Vice
President and Chief Financial Officer of Lodestar, Eastern Resources and
Industrial Fuels since April 1998 and Treasurer of Industrial Fuels since
October 1994. From October 1997 to April 1998, Mr. Donohue was a consultant to
Lodestar. From November 1995 to September 1997, Mr. Donohue served as Vice
President and Treasurer of Lodestar and the Predecessor Company, and from March
1993 to November 1995, Mr. Donohue served as Assistant Treasurer of the
Predecessor Company. Mr. Donohue has held various positions with the Predecessor
Company and its subsidiaries since 1981.
MIKE FRANCISCO has been Vice President--East Kentucky Operations of the
Predecessor Company and Lodestar since July 1995 and Vice President of
Industrial Fuels since August 1995. Since joining the Predecessor Company in
June 1985, Mr. Francisco has held positions as, among others, Chief
Engineer--East Kentucky and Senior Production Engineer. Mr. Francisco has over
eighteen years experience in civil and mining engineering and is a registered
Professional Engineer.
WILLIAM M. POTTER has been Vice President--West Kentucky Operations of the
Predecessor Company and Lodestar since July 1995. Mr. Potter was Mine
Superintendent of Southard Coal from 1987 until it was acquired by the
Predecessor Company in 1989, and Mr. Potter remained in that position at the
Predecessor Company until 1990 when he became Superintendent of the Baker and
Wheatcroft mines. In 1993, Mr. Potter became General Manager of certain
underground operations in Western Kentucky. Mr. Potter has over 22 years of
experience in the mining industry.
EXECUTIVE COMPENSATION
The following table sets forth certain information concerning compensation
of the named executive officers by Lodestar and the Predecessor Company for
services rendered in all capacities for the twelve months ended October 31, 1997
and 1998:
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
-------------
ANNUAL COMPENSATION(1) PAYOUTS
FISCAL YEAR -------------
----------- ---------------------- LTIP ALL OTHER
NAME AND POSITION SALARY BONUS PAYOUTS(2) COMPENSATION(3)
<S> <C> <C> <C> <C> <C>
Ira Leon Rennert (4)............................ 1998 -- -- -- $ 1,200,000
Chairman and Chief Executive Officer 1997 -- -- -- --
John W. Hughes.................................. 1998 $ 220,000 -- $ 695,455 7,816
President and Chief Operating Officer 1997 220,000 $ 330,000 7,176
Eugene C. Holdaway.............................. 1998 180,250 -- 486,818 7,276
Senior Vice President 1997 180,250 -- 17,875
R. Eberley Davis................................ 1998 155,000 -- 347,727 7,297
Vice President and General Counsel 1997 155,000 35,000 6,511
Mike Francisco.................................. 1998 130,000 -- 347,727 6,120
Vice President--East Kentucky Operations 1997 115,000 -- 4,543
William M. Potter............................... 1998 111,500 -- 347,727 3,038
Vice President--West Kentucky Operations 1997 111,838 189 2,937
</TABLE>
- ------------------------
(1) Value of perquisites and other personal benefits did not exceed the lesser
of $50,000 or 10% of total salary and bonus per named executive officer.
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<PAGE>
(2) The amounts shown as "LTIP Payouts" in the table for each named executive
officer represent contractual payments under such officer's Net Worth
Appreciation Agreement. See "--Net Worth Appreciation Agreements."
(3) The amounts shown as "All Other Compensation" in the table for each named
executive officer, except Mr. Rennert, represent contributions to Messrs.
Hughes, Holdaway, Davis, Francisco and Potter under Lodestar's 401(k) plan
of $6,400, $6,000, $6,200, $5,200 and $2,248, respectively, in fiscal 1998,
and $6,000, $6,000, $5,600, $3,807 and $2,280 respectively, in fiscal 1997
and payments of life insurance premiums of $1,416, $1,276, $1,097, $920 and
$790, respectively, in fiscal 1998, and $1,176, $1,060, $911, $676 and $657,
respectively, in fiscal 1997. In addition, in fiscal 1997, Mr. Holdaway
received a payment of $10,815 in lieu of a pension. See "--Benefits."
(4) Mr. Rennert receives no compensation directly from Lodestar. He is Chairman
of the Board and the principal stockholder of Renco which receives a
management fee from Lodestar pursuant to the Management Consulting
Agreement. The amount shown as all other compensation to Mr. Rennert are the
management fees paid by Lodestar to Renco for fiscal 1998. The management
consultant fee was waived for March 15, 1997 through October 31, 1997. See
"Certain Relationships and Transactions."
No executive officer of the Company receives any compensation from the
Company except pursuant to his net worth appreciation agreement.
NET WORTH APPRECIATION AGREEMENTS
The named executive officers, except Mr. Rennert, and Mr. Donohue are each
parties to net worth appreciation agreements with Lodestar, pursuant to which,
upon termination of each person's employment with Lodestar, he is entitled to
receive an amount equal to a fixed percentage of the cumulative net income of
the Company, as defined, from a base date until the end of the fiscal quarter
preceding the date of his termination. Such amount is payable without interest
in 40 equal quarterly installments, commencing three months after later of (i)
the termination of each person's employment or (ii) attaining age 62.
The base date for each of the named executive officers under their
respective net worth appreciation agreement is March 14, 1997, the date of the
Acquisition. Mr. Hughes has a net worth percentage of 2.5% that vests as to 1.5%
on April 30, 2000 and 0.5% on each of April 30, 2001 and 2002, PROVIDED that in
each case Mr. Hughes remains in the employ of Lodestar until the applicable
vesting date. Mr. Holdaway has a net worth percentage of 1.75% that vests as to
1.05% on April 30, 2000 and 0.035% on each of April 30, 2001 and 2002, PROVIDED
that in each case Mr. Holdaway remains in the employ of Lodestar until the
applicable vesting date. Messrs. Davis, Francisco, Potter and Donohue each has a
net worth percentage of 1.25% that vests as to 0.75% on April 30, 2000 and 0.25%
on each of April 30, 2001 and 2002, PROVIDED that in each case Messrs. Davis,
Francisco, Potter and Donohue each remains in the employ of Lodestar until the
applicable vesting date. As of October 31, 1997, none of the named executive
officers had earned any amounts under his respective net worth appreciation
agreement.
The net worth appreciation agreements also provide that, in the event of
payment of a dividend or a sale of Lodestar, the active participants will be
entitled to receive an amount equal to a percentage of the dividend or the net
proceeds of the sale equal to their maximum percentages under the agreements.
Upon consummation of the offering of the Old Notes, approximately $2.8 million
was paid to certain employees of Lodestar, including each named executive
officer, pursuant to the net worth appreciation agreements.
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<PAGE>
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Company had no compensation committee during fiscal 1997 or fiscal 1998.
Ira Leon Rennert is the sole member of the Board of Directors. The compensation
for the executive officers is fixed by negotiations between such executive
officers and Mr. Rennert on behalf of Renco.
EMPLOYMENT AGREEMENTS
The named executive officers are parties to employment agreements with
Lodestar. Set forth below is a brief description of each such agreement.
JOHN W. HUGHES entered into an Employment Agreement with Lodestar, effective
as of April 1, 1997, with an initial term continuing until April 1, 2002 and
automatically renewable thereafter for additional one-year terms. Pursuant to
the terms of his agreement, Mr. Hughes' compensation is composed of (a) a base
annual salary of $220,000 and (b) an annual bonus of $75,000, provided that (i)
Mr. Hughes achieves certain performance objectives established by Lodestar, (ii)
Mr. Hughes is in active employment of Lodestar at the close of each fiscal year
and (iii) Lodestar's financial statements for such fiscal year, as prepared by
its independent public accountants, show a positive net income.
EUGENE C. HOLDAWAY entered into an Employment Agreement with Lodestar,
effective as of April 1, 1997, with an initial term continuing until April 1,
2002 and automatically renewable thereafter for additional one-year terms.
Pursuant to the terms of his agreement, Mr. Holdaway's compensation is composed
of (a) a base annual salary of $180,250 and (b) an annual bonus of $40,000,
provided that (i) Mr. Holdaway achieves certain performance objectives
established by Lodestar, (ii) Mr. Holdaway is in active employment of Lodestar
at the close of each fiscal year and (iii) Lodestar's financial statements for
such fiscal year, as prepared by its independent public accountants, show a
positive net income.
R. EBERLEY DAVIS entered into an Employment Agreement with Lodestar,
effective as of April 1, 1997, with an initial term continuing until April 1,
2002 and automatically renewable thereafter for additional one-year terms.
Pursuant to the terms of his agreement, Mr. Davis' compensation is composed of
(a) a base annual salary of $155,000 and (b) an annual bonus of $25,000,
provided that (i) Mr. Davis achieves certain performance objectives established
by Lodestar, (ii) Mr. Davis is in active employment of Lodestar at the close of
each fiscal year and (iii) Lodestar's financial statements for such fiscal year,
as prepared by its independent public accountants, show a positive net income.
MIKE FRANCISCO entered into an Employment Agreement with Lodestar, effective
as of April 1, 1997, with an initial term continuing until April 1, 2002 and
automatically renewable thereafter for additional one-year terms. Pursuant to
the terms of his agreement, Mr. Francisco's compensation is composed of (a) a
base annual salary of $130,000 and (b) an annual bonus of $25,000, provided that
(i) Mr. Francisco achieves certain performance objectives established by
Lodestar, (ii) Mr. Francisco is in active employment of Lodestar at the close of
each fiscal year and (iii) Lodestar's financial statements for such fiscal year,
as prepared by its independent public accountants, show a positive net income.
WILLIAM M. POTTER entered into an Employment Agreement with Lodestar,
effective as of April 1, 1997, with an initial term continuing until April 1,
2002 and automatically renewable thereafter for additional one-year terms.
Pursuant to the terms of his agreement, Mr. Potter's compensation is composed of
(a) a base annual salary of $111,550 and (b) an annual bonus of $25,000,
provided that (i) Mr. Potter achieves certain performance objectives established
by Lodestar, (ii) Mr. Potter is in active employment of Lodestar at the close of
each fiscal year and (iii) Lodestar's financial statements for such fiscal year,
as prepared by its independent public accountants, show a positive net income.
MICHAEL E. DONOHUE entered into an Employment Agreement with Lodestar,
effective as of July 1, 1998 with an initial term continuing until April 1, 2002
and automatically renewable thereafter for additional one-year terms. Pursuant
to the terms of his agreement, Mr. Donohue's compensation is composed of (a) a
base annual salary of $150,000 and (b) an annual bonus of $35,000, provided that
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(i) Mr. Donohue achieves certain performance objectives established by Lodestar,
(ii) Mr. Donohue is in active employment of Lodestar at the close of each fiscal
year and (iii) Lodestar's financial statement for such fiscal year, as prepared
by its independent public accountants, show a positive net income.
Each of the above described employment agreements requires that, until April
1, 2002 or the termination of their employment, whichever is later, each of the
above executive officers not, directly or indirectly, engage in any aspect of
the business of coal mining as an officer, director, partner, proprietor,
investor, associate, employee or consultant. In addition, each of the above
executive officers has agreed to maintain the confidentiality of information
obtained during their employment with Lodestar.
BENEFITS
Lodestar has a 401(k) defined contribution plan that covers all employees.
Employees can defer up to 15% of their income, and Lodestar contributes $1.00
for each $1.00 deferred up to 4% of an employee's salary (except for certain
employees of the Western Kentucky mining operations) and $.50 for each $1.00
deferred up to 4% of an employees' salary for such Western Kentucky employees.
Amounts deferred vest after five years.
Lodestar has a defined benefit plan for certain employees of the Western
Kentucky mining operations who do not receive full 401(k) matching from
Lodestar. Eligible employees receive, subject to certain limitations, a monthly
benefit equal to the sum of $17.08875 for each year of service up to ten years,
$17.64 for each year of service in excess of ten years up to twenty years,
$18.19125 for each year of service in excess of twenty years up to 30 years and
$18.7425 for each year of service in excess of 30 years up to 40 years. Benefits
begin on or before the 60th day after the end of the calendar year in which the
latest of the following occur: (i) the eligible employee attains the age of 65,
(ii) the tenth anniversary of the eligible employee's participation in the plan
or (iii) the date the eligible employee ceased to be an employee. William M.
Potter, the only named executive officer who participates in this plan, based on
his service to date, would receive benefits upon retirement at the age of 62
estimated to be $170.89 per month.
Industry legislation mandates certain benefits for current and retired coal
miners. See "Government Regulation--Health and Safety."
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STOCK OWNERSHIP
The following table sets forth certain information as of the date hereof
regarding the beneficial ownership of common stock of the Company by each
beneficial owner of 5% or more of the common stock of the Company, each director
and each named executive officer of the Company and Lodestar during the last
fiscal year, and by all directors and executive officers of the Company and
Lodestar as a group. Except as otherwise noted, the persons named in the table
below have sole voting and investment power with respect to all shares shown as
beneficially owned by them.
<TABLE>
<CAPTION>
BENEFICIAL OWNERSHIP
----------------------------
<S> <C> <C>
SHARES OF
NAME OF BENEFICIAL OWNERS COMMON STOCK PERCENT
The Renco Group, Inc.(1)................................................................. 1,000 100.0%
Ira Leon Rennert(1)(2)................................................................... 1,000 100.0%
John W. Hughes........................................................................... -- --
Eugene C. Holdaway....................................................................... -- --
R. Eberley Davis......................................................................... -- --
Mike Francisco........................................................................... -- --
William M. Potter........................................................................ -- --
All directors and executive officers as a group (7 persons).............................. 1,000 100.0%
</TABLE>
- ------------------------
(1) The address of this beneficial owner is c/o The Renco Group, Inc., 30
Rockefeller Plaza, 42nd Floor, New York, New York 10112.
(2) Mr. Rennert is deemed to beneficially own the Common Stock of the Company
owned by Renco due to the ownership by trusts established by him for himself
and members of his family of a total of 97.9% of the outstanding Common
Stock of Renco.
By virtue of Renco's ownership of all the outstanding shares of Common
Stock, and Mr. Rennert's ownership of a majority of the stock of Renco, Mr.
Rennert is in position to control actions that require the consent of a majority
of the holders of the Company's outstanding shares of Common Stock, including
the election of the Board of Directors.
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CERTAIN RELATIONSHIPS AND TRANSACTIONS
Under a Management Consulting Agreement, effective March 14, 1997, as
amended (the "Management Consultant Agreement"), between Renco and Lodestar,
Lodestar pays annual fees of $1,200,000 to Renco. The Management Consultant
Agreement provides that Lodestar shall not make any payment thereunder which
would violate any of its agreements with respect to any of its outstanding
indebtedness. The Management Consultant Agreement extends to October 31, 2005,
and thereafter shall continue for additional terms of three years each unless
sooner terminated by either party by giving six months prior written notice. For
the period March 15, 1997 to October 31, 1997, Lodestar's management fees were
waived by Renco. The management fees to Renco for the period from November 1,
1997 to the closing date of the Old Notes Offering were paid with the net
proceeds from the Old Notes Offering. Lodestar believes that the cost of
obtaining the type and quality of services rendered by Renco under the
Management Consultant Agreement was, and continues to be, no less favorable than
that at which Lodestar could obtain such services from unaffiliated entities.
The Company is included in the consolidated federal income tax return of
Renco. Under the terms of the Company's tax sharing agreement with Renco, income
taxes are allocated by Renco to the Company on a separate return basis except
that transactions between the Company and Renco and its other subsidiaries are
accounted for on a cash basis and not on an accrual basis. The Company is not
entitled to the benefit of net tax loss carryforwards, unless such tax losses
were a result of timing differences between its respective accounting for tax
and financial reporting purposes.
To obtain the advantages of volume, Renco purchases certain insurance
coverages for its subsidiaries, including the Company and Lodestar, and the
actual cost of such insurance, without markup, is reimbursed by the covered
subsidiaries. The major areas of Lodestar's insurance coverage obtained under
the Renco programs are property and business interruption. The premiums for
property and business interruption are allocated by Renco substantially as
indicated in the underlying policies. Renco also purchases and administers
certain insurance policies exclusively for Lodestar, including general and
product liability, automobile liability, casualty umbrella, excess workers'
compensation, marine liability, fiduciary and fidelity. Workers' compensation is
self-insured. The cost of such insurance, without markup, is reimbursed by
Lodestar as incurred. The total insurance cost under the Renco insurance
programs incurred in fiscal 1997 by Lodestar was approximately $.9 million. The
policies purchased by Renco were effective for less than a full year during
fiscal 1997; the annual cost of these policies was approximately $2.3 million.
Lodestar believes that its insurance costs under this program were less than it
would have incurred if it had obtained its insurance directly.
In connection with the Acquisition, Renco loaned $2.0 million to the
Company. In addition, Renco loaned $3.0 million to Lodestar in October 1997 to
provide working capital. These loans were repaid in full, including accrued
interest thereon, with the net proceeds of the Old Notes Offering.
Upon consummation of the offering of Old Notes, the Company paid a dividend
to Renco of $27.8 million.
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DESCRIPTION OF THE SENIOR NOTES
The Old Notes are, and the Exchange Notes will be, issued under the
indenture, dated as of May 15, 1998 (the "Indenture"), by and among the Company,
the Guarantors and State Street Bank and Trust Company, as trustee (the
"Trustee"). The following summary of the material provisions of the Indenture
does not purport to be complete and is subject to, and qualified in its entirety
by reference to, the provisions of the Indenture, including the definitions of
certain terms contained therein and those terms made part of the Indenture by
reference to the Trust Indenture Act of 1939, as amended (the "TIA"), as in
effect on the date of the Indenture. A copy of the Indenture is filed as an
exhibit to the Registration Statement. The definitions of certain capitalized
terms used in the following summary are set forth below under "--Certain
Definitions." For purposes of this section, references to the "Company" include
only Lodestar Holdings, Inc. and not its Subsidiaries. The Old Notes and the
Exchange Notes are collectively referred to as the "Senior Notes."
GENERAL
The Senior Notes are general unsecured obligations of the Company limited to
$235.0 million in aggregate principal amount, of which $150.0 million were
issued in the Old Notes Offering. Additional amounts of Senior Notes in an
aggregate principal amount of $85.0 million may be issued under the Indenture in
one or more series from time to time, subject to the limitations set forth under
"--Certain Covenants--Limitation on Indebtedness."
The Senior Notes will mature on May 15, 2005. Each Note bears interest at
the rate set forth on the cover page hereof from the date of issuance or from
the most recent interest payment date to which interest has been paid, payable
semiannually in arrears on each May 15, and November 15, commencing November 15,
1998, to the person in whose name the Senior Note (or any predecessor Senior
Note) is registered at the close of business on the May 1 or November 1
immediately preceding such interest payment date.
Principal of, premium, if any, and interest on the Senior Notes will be
payable, and the Senior Notes will be exchangeable and transferable, at the
office or agency of the Company in New York City maintained for such purposes
(which initially will be the Trustee or its agent); PROVIDED that payment of
interest may be made at the option of the Company by check mailed to the
registered holders of the Senior Notes ("Holders") at their registered
addresses. The Senior Notes will be issued only in fully registered form without
coupons, in denominations of $1,000 and any integral multiple thereof. No
service charge will be made for any registration of transfer, exchange or
redemption of Senior Notes, except in certain circumstances for any tax or other
governmental charge that may be imposed in connection therewith.
OPTIONAL REDEMPTION
The Senior Notes will be subject to redemption, in whole or in part, at the
option of the Company, at any time on or after May 15, 2002, at the redemption
prices (expressed as percentages of principal amount) set forth below plus
accrued interest to the redemption date, if redeemed during the twelve month
period beginning on May 15 of the years indicated below:
<TABLE>
<CAPTION>
YEAR PERCENTAGE
<S> <C>
2002............................................................................. 105.750%
2003............................................................................. 102.875%
2004 and thereafter.............................................................. 100.000%
</TABLE>
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OPTIONAL REDEMPTION UPON EQUITY OFFERINGS
In addition, at any time prior to May 15, 2001, the Company may redeem up to
35% of the sum of (x) the aggregate principal amount of the Senior Notes issued
in the Offering plus (y) any additional Senior Notes issued after the Issue Date
pursuant to the Indenture, with the proceeds of one or more Equity Offerings at
a redemption price (expressed as a percentage of principal amount) of 111.5%
plus accrued interest to the redemption date; PROVIDED that at least 65% of the
sum of (x) the aggregate principal amount of Senior Notes issued in the offering
of Old Notes plus (y) any additional Senior Notes issued after the Issue Date
pursuant to the Indenture remains outstanding immediately after any such
redemption. In order to effect the foregoing redemption with the proceeds of any
Equity Offering, the Company shall make such redemption not more than 120 days
after the consummation of any such Equity Offering. "Equity Offering" means an
offering of Qualified Capital Stock of the Company (other than to any Subsidiary
of the Company).
SINKING FUND
There will be no mandatory sinking fund payments for the Senior Notes.
SELECTION AND NOTICE OF REDEMPTION
In the event that less than all of the Senior Notes are to be redeemed at
any time, selection of such Senior Notes for redemption will be made by the
Trustee in compliance with the requirements of the principal national securities
exchange or quotation system, if any, on which such Senior Notes are listed or,
if such Senior Notes are not then listed on a national securities exchange or
quotation system, on a PRO RATA basis, by lot or by such method as the Trustee
shall deem fair and appropriate; PROVIDED, HOWEVER, that (i) no Senior Notes of
a principal amount of $1,000 or less shall be redeemed in part and (ii) a
redemption with the net cash proceeds of an Equity Offering shall be made on a
PRO RATA basis unless such method is otherwise prohibited. Notice of redemption
shall be mailed by first-class mail at least 30 but not more than 60 days before
the redemption date to each Holder of Senior Notes to be redeemed at its
registered address. If any Senior Note is to be redeemed in part only, the
notice of redemption that relates to such Senior Note shall state the portion of
the principal amount thereof to be redeemed. A new Senior Note in a principal
amount equal to the unredeemed portion thereof will be issued in the name of the
Holder thereof upon cancellation of the original Senior Note. On and after the
redemption date, interest will cease to accrue on Senior Notes or portions
thereof called for redemption.
GUARANTEES
The Company's obligations under the Senior Notes were guaranteed on the
Issue Date in the manner described below by the Company's existing Subsidiaries,
Lodestar Energy, Inc., Eastern Resources, Inc. and Industrial Fuels Minerals
Company, and, in the future, may be guaranteed by certain of the Company's
Restricted Subsidiaries. See "--Certain Covenants--Future Guarantees."
Each Guarantor unconditionally guarantees, on a senior basis, jointly and
severally, to each Holder and the Trustee, the full and prompt performance of
the Company's obligations under the Indenture and the Senior Notes, including
the payment of principal of and interest on the Senior Notes. The obligations of
each Guarantor are limited to the maximum amount which, after giving effect to
all other contingent and fixed liabilities of such Guarantor and after giving
effect to any collections from or payments made by or on behalf of any other
Guarantor in respect of the obligations of such other Guarantor under its
Guarantee or pursuant to its contribution obligations under the Indenture, will
result in the obligations of such Guarantor under the Guarantee not constituting
a fraudulent conveyance or fraudulent transfer under federal or state law. Each
Guarantor that makes a payment or distribution under a Guarantee shall be
entitled to a contribution from each other Guarantor in an amount PRO RATA,
based on the net assets of each Guarantor determined in accordance with GAAP.
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Each Guarantor may consolidate with or merge into or sell its assets to the
Company or to another Guarantor that is a Restricted Subsidiary without
limitation, or with other persons upon the terms and conditions set forth in the
Indenture. See "--Merger, Consolidation, Etc." In the event that either all of
the Capital Stock of a Guarantor is sold by the Company or one of the Restricted
Subsidiaries (whether by merger, stock purchase or otherwise) or all or
substantially all of the assets of a Guarantor are sold by such Guarantor and
such sale complies with the provisions set forth in "-- Certain
Covenants--Limitation on Sale of Assets" and "--Certain Covenants--Change of
Control" and any other applicable provisions in the Indenture, the Guarantor's
Guarantee will be released.
RANKING
The indebtedness of the Company and the Guarantors evidenced by the Senior
Notes and the Guarantees rank senior in right of payment to all future senior
subordinated and subordinated indebtedness of the Company and the Guarantors,
respectively, and equally with all other existing and future unsubordinated
indebtedness of the Company and the Guarantors, respectively. However, holders
of secured indebtedness and other secured obligations of the Company and the
Guarantors, such as the lenders under the New Senior Credit Facility, have
claims that effectively rank prior to those of the Holders with respect to the
assets securing such indebtedness. As of October 25, 1998, the Company had no
borrowings under (unused commitments of $90.0 million) and approximately $15.2
million in letters of credit outstanding, in each case, under the New Senior
Credit Facility.
CERTAIN COVENANTS
The Indenture contains, among others, the following covenants:
LIMITATION ON INDEBTEDNESS
(a) The Company will not, and will not cause or permit any of the Restricted
Subsidiaries to, directly or indirectly, create, incur, assume, guarantee,
become liable, contingently or otherwise, with respect to, or otherwise become
responsible for the payment of (collectively "incur") any Indebtedness
(including Acquired Indebtedness) other than Permitted Indebtedness; PROVIDED
that the Company and the Guarantors may incur Indebtedness (including Acquired
Indebtedness) if: (A) no Default or Event of Default shall have occurred and be
continuing at the time of the proposed incurrence thereof or shall occur as a
result of such proposed incurrence, and (B) after giving pro forma effect to
such proposed incurrence (and the application of the net proceeds therefrom),
the Consolidated Fixed Charge Coverage Ratio of the Company is at least equal to
2.0 to 1.0. Notwithstanding the foregoing, a Restricted Subsidiary that is not a
Guarantor may incur Acquired Indebtedness to the extent such Indebtedness could
have been incurred by the Company and the Guarantors pursuant to the proviso in
the immediately preceding sentence.
(b) The Company and the Guarantors shall not, directly or indirectly, in any
event incur any Indebtedness which by its terms (or by the terms of any
agreement governing such Indebtedness) is subordinated to any other Indebtedness
of the Company or such Guarantor unless such Indebtedness is also by its terms
(or by the terms of any agreement governing such Indebtedness) made expressly
subordinated to the Senior Notes or the Guarantee of such Guarantor, as the case
may be, to the same extent and in the same manner as such Indebtedness is
subordinated to such other Indebtedness of the Company or such Guarantor.
LIMITATION ON RESTRICTED PAYMENTS
The Company will not, and will not permit any of the Restricted Subsidiaries
to, directly or indirectly, after the Issue Date (a) declare or pay any dividend
or make any distribution on the Company's Capital Stock or make any payment to
holders of such Capital Stock (other than dividends or distributions payable in
Qualified Capital Stock of the Company or repayment of Indebtedness except as
provided in clause (c)), (b) purchase, redeem or otherwise acquire or retire for
value any
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Capital Stock of the Company or any warrants, rights or options to purchase or
acquire shares of any class of such Capital Stock, (c) purchase, redeem, prepay,
defease or otherwise acquire or retire for value, prior to any scheduled
maturity, scheduled repayment or scheduled sinking fund payment, Indebtedness of
the Company or any of the Guarantors that is expressly subordinate in right of
payment to the Senior Notes or the Guarantee of such Guarantor, as the case may
be, or (d) make any Investment (excluding any Permitted Investment) (each of the
foregoing actions set forth in clauses (a), (b), (c) and (d) being referred to
as a "Restricted Payment"), if at the time of such Restricted Payment or
immediately after giving effect thereto, (i) a Default or an Event of Default
shall have occurred and be continuing or (ii) Restricted Payments made
subsequent to the Issue Date (the amount expended for such purposes, if other
than in cash, shall be the Fair Market Value of such property proposed to be
transferred by the Company or such Restricted Subsidiary, as the case may be,
pursuant to such Restricted Payment) shall exceed the sum of:
(w) 50% of the cumulative Consolidated Net Income (or if cumulative
Consolidated Net Income shall be a loss, minus 100% of such loss) of the
Company earned subsequent to the Issue Date and prior to the date the
Restricted Payment occurs (treating such period as a single accounting
period);
(x) 100% of the aggregate net proceeds, including the Fair Market Value
of property other than cash, received by the Company from any person (other
than a Subsidiary of the Company) from the issuance and sale subsequent to
the Issue Date of Qualified Capital Stock of the Company (excluding (A)
Qualified Capital Stock paid as a dividend on any Capital Stock or as
interest on any Indebtedness, (B) any net proceeds from issuances and sales
financed directly or indirectly using funds borrowed from the Company or any
Subsidiary of the Company, until and to the extent such borrowing is repaid
and (C) any net proceeds from any Equity Offering which are used to redeem
the Senior Notes pursuant to, and in accordance with, the provisions
described under the caption "--Optional Redemption--Optional Redemption upon
Equity Offerings" above);
(y) 100% of the aggregate net proceeds, including the Fair Market Value
of property other than cash, received by the Company from any person (other
than a Subsidiary of the Company) from the issuance and sale of Disqualified
Capital Stock and/or Indebtedness, in each case that has been converted into
or exchanged for, pursuant to the terms of such Indebtedness, Qualified
Capital Stock of the Company after the Issue Date; and
(z) without duplication, the sum of (1) the aggregate amount returned in
cash on or with respect to Investments (other than Permitted Investments)
made subsequent to the Issue Date whether through interest payments,
principal payments, dividends or other distributions or payments, (2) the
net cash proceeds received by the Company or any Restricted Subsidiary from
the disposition of all or any portion of such Investments (other than to a
Subsidiary of the Company) and (3) upon redesignation of an Unrestricted
Subsidiary as a Restricted Subsidiary, the Fair Market Value of such
Subsidiary; PROVIDED, HOWEVER, that the sum of clauses (1), (2) and (3)
above shall not exceed the aggregate amount of all such Investments made
subsequent to the Issue Date.
The foregoing provisions shall not prohibit:
(1) the payment of any dividend within 60 days after the date of its
declaration if the dividend would have been permitted on the date of
declaration;
(2) the acquisition of Capital Stock of the Company or Indebtedness of
the Company or any Guarantor either (i) solely in exchange for shares of
Qualified Capital Stock of the Company or (ii) through the application of
net proceeds of a substantially concurrent sale for cash (other than to a
Subsidiary of the Company) of shares of Qualified Capital Stock of the
Company;
(3) the acquisition of Indebtedness of the Company or any Guarantor that
is expressly subordinate in right of payment to the Senior Notes or such
Guarantor's Guarantee, as the case may be, either (i) solely in exchange for
Indebtedness of the Company or such Guarantor which is
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expressly subordinate in right of payment to the Senior Notes or such
Guarantor's Guarantee, as the case may be, at least to the extent that the
Indebtedness being acquired is subordinated to the Senior Notes or such
Guarantor's Guarantee, as the case may be, and has no scheduled principal
prepayment dates prior to the scheduled final maturity date of the
Indebtedness being exchanged or (ii) through the application of net proceeds
of a substantially concurrent sale for cash (other than to a Subsidiary of
the Company) of Indebtedness of the Company or such Guarantor which is
expressly subordinate in right of payment to the Senior Notes or such
Guarantor's Guarantee, as the case may be, at least to the extent that the
Indebtedness being acquired is subordinated to the Senior Notes or such
Guarantor's Guarantee, as the case may be, and has no scheduled principal
prepayment dates prior to the scheduled final maturity date of the
Indebtedness being refinanced;
(4) the making of payments by the Company or any of the Restricted
Subsidiaries to Renco (A) no earlier than ten days prior to the date on
which Renco is required to make its payments to the Internal Revenue Service
or the applicable state taxing authority, as the case may be, pursuant to a
tax sharing agreement (which tax sharing agreement provides that the
payments thereunder shall not exceed the amount the Company and its
Subsidiaries would have been required to pay for taxes on a stand-alone
basis, except that the Company and its Subsidiaries will not have the
benefit of any of its tax loss carryforwards unless such tax losses were a
result of timing differences between the Company's and its Subsidiaries'
accounting for tax and financial reporting purposes, and which tax sharing
agreement also provides that transactions between the Company and Renco and
Renco's other Subsidiaries are accounted for on a cash basis and not on an
accrual basis) and (B) to reimburse Renco for out of pocket insurance or
surety bond payments made by Renco on behalf of the Company and its
Subsidiaries;
(5) the payment by the Company or any of the Restricted Subsidiaries of
a management fee to Renco in an amount not to exceed $1.2 million in any
fiscal year; and
(6) the payment by the Company of (i) a dividend to Renco on the Issue
Date in the aggregate amount not to exceed $28.0 million and (ii) accrued
and unpaid management fees to Renco on the Issue Date in an aggregate amount
not to exceed $700,000;
PROVIDED that in the case of clauses (2), (3) and (5), no Default or Event of
Default shall have occurred and be continuing at the time of such payment or as
a result thereof.
In determining the aggregate amount of Restricted Payments permissible under
clause (ii) of the first paragraph of this section, amounts expended, incurred
or outstanding pursuant to clauses (1) and (2) (but not pursuant to clauses (3),
(4), (5) or (6)) of the second paragraph of this section shall be included as
Restricted Payments; PROVIDED that any proceeds received from the issuance of
Qualified Capital Stock pursuant to clause (2) of the second paragraph of this
section shall be included in calculating the amount referred to in clause (x) or
clause (y), as the case may be, of the first paragraph of this section.
LIMITATION ON SALE OF ASSETS
The Company will not, and will not permit any of the Restricted Subsidiaries
to, consummate any Asset Sale unless (i) such Asset Sale is for at least Fair
Market Value, (ii) at least 80% of the consideration therefrom received by the
Company or such Restricted Subsidiary is in the form of cash or Cash Equivalents
and (iii) the Company or such Restricted Subsidiary shall apply the Net Cash
Proceeds of such Asset Sale within 270 days of receipt thereof, as follows:
(a) first, to repay (and, in the case of any revolving credit facility,
to the extent required by such revolving credit facility, effect a permanent
reduction in the commitment thereunder) any Indebtedness secured by the
assets involved in such Asset Sale or otherwise required to be repaid with
the proceeds thereof; and
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(b) second, with respect to any Net Cash Proceeds remaining after
application pursuant to the preceding paragraph (a) (the "Available
Amount"), the Company shall make an offer to purchase (the "Asset Sale
Offer") from all Holders of Senior Notes, up to a maximum principal amount
(expressed as a multiple of $1,000) of Senior Notes equal to the Available
Amount at a purchase price equal to 100% of the principal amount thereof
plus accrued and unpaid interest thereon, if any, to the date of purchase;
PROVIDED, HOWEVER, that the Company will not be required to apply pursuant
to this paragraph (b) Net Cash Proceeds received from any Asset Sale if, and
only to the extent that, such Net Cash Proceeds are applied to a Related
Business Investment within 270 days of such Asset Sale; PROVIDED, FURTHER,
that if at any time any non-cash consideration received by the Company or
any Restricted Subsidiary, as the case may be, in connection with any Asset
Sale is converted into or sold or otherwise disposed of for cash, then such
conversion or disposition shall be deemed to constitute an Asset Sale under
the Indenture and the Net Cash Proceeds thereof shall be applied in
accordance with this "Limitation on Sale of Assets" covenant; and PROVIDED,
FURTHER, that the Company may defer the Asset Sale Offer until there is an
aggregate unutilized Available Amount equal to or in excess of $10.0 million
resulting from one or more Asset Sales (at which time, the entire unutilized
Available Amount, and not just the amount in excess of $10.0 million, shall
be applied as required pursuant to this paragraph). To the extent the Asset
Sale Offer is not fully subscribed to by Holders of the Senior Notes, the
Company and the Restricted Subsidiaries may retain such unutilized portion
of the Available Amount and use it for any purpose not prohibited by the
Indenture.
In the event of the transfer of substantially all (but not all) of the
property and assets of the Company and the Restricted Subsidiaries as an
entirety to a person in a transaction permitted under "--Merger, Consolidation,
Etc." below, the successor corporation shall be deemed to have sold the
properties and assets of the Company and the Restricted Subsidiaries not so
transferred for purposes of this covenant, and shall comply with the provisions
of this covenant with respect to such deemed sale as if it were an Asset Sale.
In addition, the Fair Market Value of such properties and assets of the Company
or the Restricted Subsidiaries deemed to be sold shall be deemed to be Net Cash
Proceeds for purposes of this covenant.
Notice of an Asset Sale Offer will be mailed to the record Holders as shown
on the register of Holders not less than 30 days nor more than 60 days before
the payment date for the Asset Sale Offer, with a copy to the Trustee, and shall
comply with the procedures set forth in the Indenture. Upon receiving notice of
the Asset Sale Offer, Holders may elect to tender their Senior Notes in whole or
in part in integral multiples of $1,000 principal amount at maturity in exchange
for cash. To the extent Holders properly tender Senior Notes in an amount
exceeding the Available Amount, Senior Notes of tendering Holders will be
repurchased on a PRO RATA basis (based on amounts tendered). An Asset Sale Offer
shall remain open for a period of 20 business days or such longer period as may
be required by law.
If an offer is made to repurchase the Senior Notes pursuant to an Asset Sale
Offer, the Company will comply with all tender offer rules under state and
Federal securities laws, including, but not limited to, Section 14(e) under the
Exchange Act and Rule 14e-1 thereunder, to the extent applicable to such offer.
CHANGE OF CONTROL
Upon the occurrence of a Change of Control, the Company shall be obligated
to make an offer to purchase (a "Change of Control Offer"), and shall, subject
to the provisions described below, purchase, on a business day (the "Change of
Control Purchase Date") not more than 60 nor less than 45 days following the
occurrence of the Change of Control, all of the then outstanding Senior Notes at
a purchase price (the "Change of Control Purchase Price") equal to 101% of the
principal amount of the Senior Notes plus accrued and unpaid interest thereon to
the date of purchase. The Company shall, subject to the provisions described
below, be required to purchase all Senior Notes validly tendered
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into the Change of Control Offer and not withdrawn. The Change of Control Offer
is required to remain open for at least 20 business days and until the close of
business on the Change of Control Purchase Date.
In order to effect such Change of Control Offer, the Company shall, not
later than the 30th day after the Change of Control, mail to each Holder of
Senior Notes notice of the Change of Control Offer, which notice shall govern
the terms of the Change of Control Offer and shall state, among other things,
the procedures that Holders of Senior Notes must follow to accept the Change of
Control Offer.
If a Change of Control Offer is made, there can be no assurance that the
Company will have available funds sufficient to pay the Change of Control
Purchase Price for all of the Senior Notes that might be delivered by Holders of
Senior Notes seeking to accept the Change of Control Offer. The Company shall
not be required to make a Change of Control Offer upon a Change of Control if a
third party makes the Change of Control Offer in the manner, at the times and
otherwise in compliance with the requirements applicable to a Change of Control
Offer made by the Company and purchases all Senior Notes validly tendered and
not withdrawn under such Change of Control Offer.
In the event that a Change of Control occurs and the Company is required to
purchase the Senior Notes as described above, the Company will comply with all
tender offer rules under state and Federal securities laws, including, but not
limited to, Section 14(e) under the Exchange Act and Rule 14e-1 thereunder, to
the extent applicable to such offer.
LIMITATION ON LIENS
The Company will not, and will not permit any of the Restricted Subsidiaries
to, directly or indirectly, create, incur, assume or suffer to exist any Liens
upon any properties or assets of the Company (including, without limitation, any
Capital Stock of a Restricted Subsidiary) or any of the Restricted Subsidiaries
whether owned on the Issue Date or acquired after the Issue Date, or on any
income or profits therefrom, or assign or otherwise convey any right to receive
income or profits thereon other than (i) Liens existing on the Issue Date to the
extent and in the manner such Liens are in effect on the Issue Date, (ii) Liens
on properties and assets of the Company and the Restricted Subsidiaries existing
from time to time securing Indebtedness of the Company and the Restricted
Subsidiaries under the New Senior Credit Facility and securing obligations of
the Company and the Restricted Subsidiaries from time to time under performance
bonds, surety bonds or appeal bonds or other obligations of a like nature
incurred in the ordinary course of business and (iii) Permitted Liens.
LIMITATION ON DIVIDENDS AND OTHER PAYMENT RESTRICTIONS AFFECTING RESTRICTED
SUBSIDIARIES
The Company will not, and will not permit any of the Restricted Subsidiaries
to, directly or indirectly, create or otherwise cause or suffer to exist or
become effective any encumbrance or restriction on the ability of any Restricted
Subsidiary to: (a) pay dividends or make any other distributions on its Capital
Stock, or any other interest or participation in, or measured by, its profits,
owned by the Company or by any Restricted Subsidiary, or pay any Indebtedness
owed to the Company or any Restricted Subsidiary; (b) make loans or advances to
the Company or any Restricted Subsidiary; or (c) transfer any of its properties
or assets to the Company or to any Restricted Subsidiary, except for such
encumbrances or restrictions existing under or by reason of: (i) applicable law;
(ii) the Indenture; (iii) customary non-assignment provisions of any lease
governing a leasehold interest of the Company or any Restricted Subsidiary; (iv)
any instrument governing Indebtedness of a person acquired by the Company or any
Restricted Subsidiary at the time of such acquisition, which encumbrance or
restriction is not applicable to any person, or the properties or assets of any
person, other than the person or its Subsidiaries so acquired; (v) any written
agreement existing on the Issue Date or amendments or modifications thereto;
PROVIDED that no such agreement shall be modified or amended in such a manner as
to make the encumbrance or restriction more restrictive than as in effect on the
Issue Date; (vi) Indebtedness existing and as in effect on the Issue Date,
including, without limitation, the New
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Senior Credit Facility or any refinancing, refunding, replacement or extensions
thereof, PROVIDED that any such encumbrance or restriction contained in any
refinancing, refunding, replacement or extension of the New Senior Credit
Facility shall be no more restrictive than such encumbrance or restriction
contained in the New Senior Credit Facility as in effect on the Issue Date; and
(vii) Indebtedness incurred in accordance with the Indenture; PROVIDED that such
encumbrance or restriction shall be no more restrictive than any encumbrance or
restriction contained in the New Senior Credit Facility as in effect on the
Issue Date.
LIMITATION ON TRANSACTIONS WITH AFFILIATES
(a) The Company will not, and will not permit any of the Restricted
Subsidiaries to, directly or indirectly, enter into or permit to exist any
transaction (including, without limitation, the purchase, sale, lease or
exchange of any property or the rendering of any service) with or for the
benefit of an Affiliate of the Company or any Restricted Subsidiary (other than
transactions between the Company and a Restricted Subsidiary or between
Restricted Subsidiaries) (an "Affiliate Transaction"), other than (x) Affiliate
Transactions permitted under (b) below and (y) Affiliate Transactions (including
lease transactions) on terms that are no less favorable to the Company or the
relevant Restricted Subsidiary in the aggregate than those that might reasonably
have been obtained in a comparable transaction by the Company or such Restricted
Subsidiary on an arm's-length basis (as determined in good faith by the Board of
Directors of the Company, as evidenced by a Board Resolution) from a person that
is not an Affiliate; PROVIDED that except as otherwise provided under (b) below,
neither the Company nor any of the Restricted Subsidiaries shall enter into an
Affiliate Transaction or series of related Affiliate Transactions involving or
having a value of more than $5.0 million unless the Company or such Restricted
Subsidiary, as the case may be, has received an opinion from an Independent
Financial Advisor, with a copy thereof to the Trustee, to the effect that the
financial terms of such Affiliate Transaction are fair and reasonable to the
Company or such Restricted Subsidiary, as the case may be, and such terms are no
less favorable to the Company or such Restricted Subsidiary, as the case may be,
than those that could be obtained in a comparable transaction on an arm's-length
basis with a person that is not an Affiliate.
(b) The foregoing provisions shall not apply to (i) any Restricted Payment
that is made in compliance with the covenant entitled "Limitation on Restricted
Payments," (ii) payments by the Company or any of the Restricted Subsidiaries to
Renco of the amounts set forth in clauses (4), (5) and (6) of the second
paragraph of the covenant entitled "Limitation on Restricted Payments," (iii)
repayment of Indebtedness, including accrued interest thereon, owing to Renco as
of the Issue Date with the net proceeds of the Old Notes Offering, (iv)
repayment of Indebtedness owing to Renco incurred after the Issue Date in
accordance with its terms, and (v) reasonable and customary regular fees to
directors of the Company and the Restricted Subsidiaries who are not employees
of the Company and the Restricted Subsidiaries.
LIMITATION ON PREFERRED STOCK OF RESTRICTED SUBSIDIARIES
The Company will not permit any Restricted Subsidiary to issue any Preferred
Stock (except to the Company or a Restricted Subsidiary), nor will the Company
permit any person (other than the Company or a Restricted Subsidiary) to hold
any Preferred Stock of a Restricted Subsidiary.
FUTURE GUARANTEES
If the Company or any of the Restricted Subsidiaries transfers or causes to
be transferred, in one transaction or a series of related transactions, any
property to any domestic Restricted Subsidiary that is not a Guarantor, or if
the Company or any of the Restricted Subsidiaries shall organize, acquire or
otherwise invest in another Restricted Subsidiary, in each case having total
assets with a book value in excess of $1.0 million, then such transferee or
acquired or other Restricted Subsidiary shall (i) execute and deliver to the
Trustee a supplemental indenture in form reasonably satisfactory to the Trustee
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pursuant to which such Restricted Subsidiary shall unconditionally guarantee all
of the Company's obligations under the Senior Notes and the Indenture on the
terms set forth in the Indenture and (ii) deliver to the Trustee an Opinion of
Counsel that such supplemental indenture has been duly authorized, executed and
delivered by such Restricted Subsidiary and constitutes a legal, valid, binding
and enforceable obligation of such Restricted Subsidiary. Thereafter, such
Restricted Subsidiary shall be a Guarantor for all purposes of the Indenture.
CONDUCT OF BUSINESS
The Company and the Restricted Subsidiaries will not engage in any
businesses which are not the same, similar or reasonably related to the
businesses in which the Company and the Restricted Subsidiaries are engaged on
the Issue Date.
REPORTS
So long as any Senior Note is outstanding, the Company will file with the
Commission and, within 15 days after it files them with the Commission, file
with the Trustee and mail or cause the Trustee to mail to the Holders at their
addresses as set forth in the register of the Senior Notes copies of the annual
reports on Form 10-K and of the information, documents and other reports which
the Company is required to file with the Commission pursuant to Section 13 or
15(d) of the Exchange Act or which the Company would be required to file with
the Commission if the Company then had a class of securities registered under
the Exchange Act. Such financial information shall include annual reports
containing consolidated financial statements and notes thereto, together with an
opinion thereon expressed by an independent public accounting firm, management's
discussion and analysis of financial condition and results of operations as well
as quarterly reports containing unaudited condensed consolidated financial
statements for the first three quarters of every fiscal year.
MERGER, CONSOLIDATION, ETC.
The Company will not, in a single transaction or series of related
transactions, consolidate or merge with or into, or sell, assign, transfer,
lease, convey or otherwise dispose of all or substantially all of its assets to,
any person or adopt a Plan of Liquidation unless: (i) either (1) the Company
shall be the surviving or continuing corporation or (2) the person (if other
than the Company) formed by such consolidation or the person into which the
Company is merged or the person which acquires by sale, assignment, transfer,
conveyance or otherwise all or substantially all of the assets of the Company or
in the case of a Plan of Liquidation, the person to which assets of the Company
have been transferred (x) shall be a corporation organized and validly existing
under the laws of the United States or any State thereof or the District of
Columbia and (y) shall expressly assume, by supplemental indenture (in form and
substance satisfactory to the Trustee), executed and delivered to the Trustee,
the due and punctual payment of the principal of, and premium, if any, and
interest on, all of the Senior Notes, and the performance of every covenant of
the Indenture, the Senior Notes and the Registration Rights Agreement on the
part of the Company to be performed or observed; (ii) immediately after giving
effect to such transaction and the assumption contemplated by clause (y) above
(including giving effect to any Indebtedness and Acquired Indebtedness incurred
or anticipated to be incurred in connection with or in respect of such
transaction), the Company (in the case of clause (1) of the foregoing clause
(i)) or such person (in the case of clause (2) thereof) shall be able to incur
(assuming a market rate of interest with respect thereto) at least $1.00 of
additional Indebtedness (other than Permitted Indebtedness) as if it were the
Company under paragraph (a) of "--Certain Covenants--Limitation on Indebtedness"
above; (iii) immediately before and after giving effect to such transaction and
the assumption contemplated by clause (y) above (including giving effect to any
Indebtedness and Acquired Indebtedness incurred or anticipated to be incurred in
connection with or in respect of the transaction), no Default or Event of
Default shall have occurred or be continuing; (iv) the Company or such person
shall have delivered to the Trustee (A) an Officers' Certificate and an Opinion
of Counsel (which
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counsel shall not be in-house counsel of the Company) each stating that such
consolidation, merger, conveyance, transfer or lease or Plan of Liquidation and,
if a supplemental indenture is required in connection with such transaction,
such supplemental indenture, comply with this provision of the Indenture and
that all conditions precedent in the Indenture relating to such transaction have
been satisfied and (B) a certificate from the Company's independent certified
public accountants stating that the Company has made the calculations required
by clause (ii) above in accordance with the terms of the Indenture; and (v)
neither the Company nor any Restricted Subsidiary nor such person, as the case
may be, would thereupon become obligated with respect to any Indebtedness
(including Acquired Indebtedness), nor any of its property or assets subject to
any Lien, unless the Company or such Restricted Subsidiary or such person, as
the case may be, could incur such Indebtedness (including Acquired Indebtedness)
or create such Lien under the Indenture (giving effect to such person being
bound by all the terms of the Indenture).
Notwithstanding the foregoing, (i) the merger of the Company with an
Affiliate incorporated solely for the purpose of incorporating the Company in
another U.S. jurisdiction shall be permitted and (ii) the merger of the Company
and any Restricted Subsidiary shall be permitted.
For purposes of the foregoing, the transfer (by lease, assignment, sale or
otherwise, in a single transaction or series of transactions) of all or
substantially all of the properties or assets of one or more Restricted
Subsidiaries, the Capital Stock of which constitutes all or substantially all of
the properties and assets of the Company, shall be deemed to be the transfer of
all or substantially all of the properties and assets of the Company.
Each Guarantor (other than any Guarantor whose Guarantee is to be released
in accordance with the terms of the Guarantee and the Indenture in connection
with any transaction complying with the provisions of "--Certain
Covenants--Limitation on Sale of Assets") will not, and the Company will not
cause or permit any Guarantor to, consolidate with or merge with or into or
sell, assign, transfer, lease, convey or otherwise dispose of all or
substantially all of its assets to any person (other than a merger of the
Company with any Guarantor or a merger of Guarantors or a sale, assignment,
transfer, lease, conveyance or other disposition of all or substantially all of
the assets of a Guarantor to the Company or to any other Guarantor) unless: (i)
the entity formed by or surviving any such consolidation or merger (if other
than the Guarantor) or to which such sale, lease, conveyance or other
disposition shall have been made is a corporation organized and validly existing
under the laws of the United States or any state thereof or the District of
Columbia; (ii) such entity assumes by supplemental indenture all of the
obligations of such Guarantor under such Guarantee; and (iii) immediately after
giving effect to such transaction, no Default or Event of Default shall have
occurred and be continuing.
Upon any such consolidation, merger, conveyance, lease or transfer in
accordance with the foregoing, the successor person formed by such consolidation
or into which the Company or any Guarantor is merged or to which such
conveyance, lease or transfer is made will succeed to, and be substituted for,
and may exercise every right and power of, the Company or such Guarantor, as the
case may be, under the Indenture with the same effect as if such successor had
been named as the Company or such Guarantor, as the case may be, therein, and
thereafter (except in the case of a sale, assignment, transfer, lease,
conveyance or other disposition) the predecessor corporation will be relieved of
all further obligations and covenants under the Indenture and the Senior Notes,
in the case of the Company, or its Guarantee, in the case of a Guarantor.
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EVENTS OF DEFAULT
The following are Events of Default under the Indenture:
(a) the Company defaults in the payment of interest on the Senior Notes
when the same becomes due and payable and the Default continues for a period
of 30 days;
(b) the Company defaults in the payment of the stated principal amount
of the Senior Notes when the same becomes due and payable at maturity, upon
acceleration or redemption pursuant to an offer to purchase required under
the Indenture or otherwise;
(c) the Company or any of the Guarantors fails to comply in all material
respects with any of their other agreements contained in the Senior Notes or
the Indenture (including, without limitation, under the provisions of
"--Certain Covenants--Change of Control," "--Certain Covenants-- Limitation
on Sale of Assets" and "--Merger, Consolidation, Etc."), and the Default
continues for the period and after the notice specified below;
(d) there shall be any default or defaults in the payment of principal
or interest under one or more agreements, instruments, mortgages, bonds,
debentures or other evidences of Indebtedness under which the Company or any
Restricted Subsidiary then has outstanding Indebtedness in excess of $7.5
million, individually or in the aggregate;
(e) there shall be any default or defaults under one or more agreements,
instruments, mortgages, bonds, debentures or other evidences of Indebtedness
under which the Company or any Restricted Subsidiary then has outstanding
Indebtedness in excess of $7.5 million, individually or in the aggregate,
and such default or defaults have resulted in the acceleration of the
maturity of such Indebtedness;
(f) the Company or any of the Restricted Subsidiaries fails to perform
(after giving effect to any applicable grace periods) any term, covenant,
condition or provision of one or more agreements, instruments, mortgages,
bonds, debentures or other evidences of Indebtedness under which the Company
or any of the Restricted Subsidiaries then has outstanding Indebtedness in
excess of $7.5 million, individually or in the aggregate, and such failure
to perform results in the commencement of judicial proceedings to foreclose
upon any assets of the Company or any of the Restricted Subsidiaries
securing such Indebtedness or the holders of such Indebtedness shall have
exercised any right under applicable law or applicable security documents to
take ownership of any such assets in lieu of foreclosure;
(g) one or more judgments, orders or decrees for the payment of money
which either individually or in the aggregate at any one time exceed $7.5
million shall be rendered against the Company or any of the Restricted
Subsidiaries by a court of competent jurisdiction and shall remain
undischarged and unbonded for a period (during which execution shall not be
effectively stayed) of 60 consecutive days after such judgment, order or
decree becomes final and nonappealable;
(h) the Company or any Significant Subsidiary (1) admits in writing its
inability to pay its debts generally as they become due, (2) commences a
voluntary case or proceeding under any Bankruptcy Law with respect to
itself, (3) consents to the entry of a judgment, decree or order for relief
against it in an involuntary case or proceeding under any Bankruptcy Law,
(4) consents to the appointment of a Custodian of it or for substantially
all of its property, (5) consents to or acquiesces in the institution of a
bankruptcy or an insolvency proceeding against it, (6) makes a general
assignment for the benefit of its creditors or (7) takes any corporate
action to authorize or effect any of the foregoing;
(i) a court of competent jurisdiction enters a judgment, decree or order
for relief in respect of the Company or any Significant Subsidiary in an
involuntary case or proceeding under any Bankruptcy Law which shall (1)
approve as properly filed a petition seeking reorganization, arrangement,
adjustment or composition in respect of the Company or any Significant
Subsidiary,
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(2) appoint a Custodian of the Company or any Significant Subsidiary or for
substantially all of its property or (3) order the winding-up or liquidation
of its affairs, and such judgment, decree or order shall remain unstayed and
in effect for a period of 60 consecutive days; or
(j) any of the Guarantees of a Significant Subsidiary ceases to be in
full force and effect or any of such Guarantees is declared to be null and
void and unenforceable or any of such Guarantees is found to be invalid, or
any such Guarantor denies its liability under its Guarantee (other than by
reason of release of a Guarantor in accordance with the terms of the
Indenture).
A Default under clause (c) above (other than in the case of any Default
under the provisions of "--Certain Covenants--Limitation on Sale of Assets,"
"--Certain Covenants--Change of Control" or "--Merger, Consolidation, Etc.,"
which Defaults shall be Events of Default without the notice and without the
passage of time specified in this paragraph) is not an Event of Default until
the Trustee notifies the Company, or the Holders of at least 25% in principal
amount of the outstanding Senior Notes notify the Company and the Trustee, of
the Default and the Company does not cure the Default within 30 days after
receipt of the notice. The notice must specify the Default, demand that it be
remedied and state that the notice is a "Notice of Default." Such notice shall
be given by the Trustee if so requested by the Holders of at least 25% in
principal amount of the Senior Notes then outstanding.
If an Event of Default (other than an Event of Default specified in clause
(h) or (i) above) occurs and is continuing, then and in every such case the
Trustee or the Holders of not less than 25% in aggregate principal amount of the
then outstanding Senior Notes may declare the unpaid principal of, premium, if
any, and accrued and unpaid interest on, all the Senior Notes then outstanding
to be due and payable, by a notice in writing to the Company (and to the
Trustee, if given by Holders) and upon such declaration such principal amount,
premium, if any, and accrued and unpaid interest will become immediately due and
payable, notwithstanding anything contained in the Indenture or the Senior Notes
to the contrary. If an Event of Default specified in clause (h) or (i) above
occurs, all unpaid principal of, and premium, if any, and accrued and unpaid
interest on, the Senior Notes then outstanding will ipso facto become
immediately due and payable without any declaration or other act on the part of
the Trustee or any Holder.
Holders of the Senior Notes may not enforce the Indenture or the Senior
Notes except as provided in the Indenture. Subject to the provisions of the
Indenture relating to the duties of the Trustee, the Trustee is under no
obligation to exercise any of its rights or powers under the Indenture at the
request, order or direction of any of the Holders, unless such Holders have
offered to the Trustee reasonable indemnity. Subject to all provisions of the
Indenture and applicable law, the Holders of a majority in aggregate principal
amount of the then outstanding Senior Notes have the right to direct the time,
method and place of conducting any proceeding for any remedy available to the
Trustee or exercising any trust or power conferred on the Trustee. The Trustee
may withhold from Holders notice of any continuing Default or Event of Default
(except a Default or Event of Default in the payment of principal of or premium,
if any, or interest on the Senior Notes or that resulted from the failure to
comply with the provisions of "--Certain Covenants--Change of Control" or
"--Merger, Consolidation, Etc.") if it determines that withholding notice is in
their interest. The Holders of a majority in aggregate principal amount of the
Senior Notes then outstanding by notice to the Trustee may rescind an
acceleration and its consequences if all existing Events of Default (other than
the nonpayment of principal of and premium, if any, and interest on the Senior
Notes which has become due solely by virtue of such acceleration) have been
cured or waived and if the rescission would not conflict with any judgment or
decree. No such rescission shall affect any subsequent Default or impair any
right consequent thereto.
The Holders of a majority in aggregate principal amount of the Senior Notes
then outstanding may, on behalf of the Holders of all the Senior Notes, waive
any past Default or Event of Default under the Indenture and its consequences,
except a Default in the payment of principal of or premium, if any, or interest
on the Senior Notes or in respect of a covenant or provision of the Indenture
which cannot be modified or amended without the consent of all Holders.
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Under the Indenture, the Company is required to provide an Officers'
Certificate to the Trustee promptly upon any such officer obtaining knowledge of
any Default or Event of Default (PROVIDED that such officers shall provide such
certification at least annually whether or not they know of any Default or Event
of Default) that has occurred and, if applicable, describe such Default or Event
of Default and the status thereof. In addition, for each fiscal year, the
Company's independent certified public accountants are required to certify to
the Trustee that they have reviewed the terms of the Indenture and the Senior
Notes as they relate to accounting matters and whether, during the course of
their audit examination, any Default or Event of Default has come to their
attention, and specifying the nature and period of existence of any such Default
or Event of Default.
AMENDMENT, SUPPLEMENT AND WAIVER
From time to time, the Company, the Guarantors and the Trustee may, without
the consent of the Holders, amend, waive or supplement the Indenture or the
Senior Notes for certain specified purposes, including, among other things,
curing ambiguities, defects or inconsistencies, maintaining the qualification of
the Indenture under the TIA or making any change that does not adversely affect
the rights of any Holder. In addition, the Indenture contains provisions
permitting the Company, the Guarantors and the Trustee, with the consent of the
Holders of not less than a majority in aggregate principal amount of the then
outstanding Senior Notes, to enter into any supplemental indenture for the
purpose of adding, changing or eliminating any of the provisions of the
Indenture or of modifying in any manner the rights of the Holders under the
Indenture; PROVIDED that no such supplemental indenture may without the consent
of the Holder of each outstanding Senior Note affected thereby: (i) reduce the
amount of Senior Notes whose Holders must consent to an amendment or waiver;
(ii) reduce the rate of, or extend the time for payment of, interest, including
defaulted interest, on any Senior Note; (iii) reduce the principal of or premium
on or change the fixed maturity of any Senior Note; (iv) make the principal of,
or interest on, any Senior Note payable in money other than as provided for in
the Indenture and the Senior Notes; (v) make any change in provisions relating
to waivers of defaults, the ability of Holders to enforce their right under the
Indenture or in the matters discussed in these clauses (i) through (ix); (vi)
waive a default in the payment of principal of or interest on, or redemption or
repurchase payment with respect to, any Senior Notes, other than a payment
required under the "Limitation on Sale of Assets" covenant and the "Change of
Control" covenant; (vii) adversely affect the ranking of the Senior Notes or the
Guarantees; (viii) change the Maturity Date or alter the redemption or
repurchase provisions in a manner adverse to Holders other than a redemption or
repurchase pursuant to the "Limitation on Sale of Assets" covenant and the
"Change of Control" covenant; or (ix) release the Guarantee of any Significant
Subsidiary.
DISCHARGE; DEFEASANCE
The Indenture provides that the Company and the Guarantors may terminate
their obligations under the Senior Notes, the Guarantees and the Indenture if:
(i) all Senior Notes previously authenticated and delivered have been delivered
to the Trustee for cancellation or the Company and the Guarantors have paid all
sums payable by them thereunder, or (ii) the Company has irrevocably deposited
or caused to be deposited with the Trustee or the Paying Agent and conveyed all
right, title and interest for the benefit of the Holders of such Senior Notes,
under the terms of an irrevocable trust agreement in form and substance
satisfactory to the Trustee, as trust funds in trust solely for the benefit of
the Holders for that purpose, money or U.S. government obligations maturing as
to principal and interest in such amounts and at such times as are sufficient
without consideration of any reinvestment of such interest to pay principal of,
premium, if any, and interest on such outstanding Senior Notes to maturity;
PROVIDED that, among other things, the Company shall have delivered to the
Trustee (i) either (a) in the case of a legal defeasance, a ruling directed to
the Trustee received from the Internal Revenue Service to the effect that the
Holders of such Senior Notes will not recognize income, gain or loss for Federal
income tax purposes as a result of the Company's exercise of its option under
the defeasance provision of the Indenture and will be subject to Federal income
tax on the same
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amount and in the same manner and at the same times as would have been the case
if such option had not been exercised or (b) an Opinion of Counsel to the same
effect as the ruling described in clause (a) above and, in the case of a legal
defeasance, accompanied by a ruling to that effect published by the Internal
Revenue Service, unless there has been a change in the applicable Federal income
tax since the date of the Indenture such that a ruling from the Internal Revenue
Service is no longer required, and (ii) an Opinion of Counsel to the effect
that, assuming no intervening bankruptcy of the Company between the date of
deposit and the 91st day following the date of deposit and that no Holder is an
insider of the Company, after the passage of 90 days following the deposit, the
trust funds will not be subject to the effect of any applicable bankruptcy,
insolvency, reorganization or similar laws affecting creditors' rights
generally. Certain obligations of the Company and the Guarantors under the
Indenture or the Senior Notes, including the payment of interest and principal,
shall remain in full force and effect until such Senior Notes have been paid in
full. Notwithstanding the foregoing, the ruling of the Internal Revenue Service
and the Opinion of Counsel required by clause (i) above with respect to a legal
defeasance need not be delivered if all Senior Notes not theretofore delivered
to the Trustee for cancellation (x) have become due and payable, (y) will become
due and payable on the maturity date within one year or (z) are to be called for
redemption within one year under arrangements satisfactory to the Trustee for
the giving of notice of redemption by the Trustee in the name, and at the
expense, of the Company.
GOVERNING LAW
The Indenture provides that it, the Senior Notes and the Guarantees are
governed by, and construed in accordance with, the laws of the State of New York
but without giving effect to applicable principles of conflicts of law to the
extent that the application of the law of another jurisdiction would be required
thereby.
THE TRUSTEE
State Street Bank and Trust Company serves as Trustee under the Indenture.
The Indenture will provide that, except during the continuance of an Event
of Default, the Trustee will perform only such duties as are specifically set
forth in the Indenture. During the existence of an Event of Default, the Trustee
will exercise such rights and powers vested in it by the Indenture, and use the
same degree of care and skill in its exercise as a prudent person would exercise
or use under the circumstances in the conduct of such person's own affairs.
The Indenture and the provisions of the TIA contain certain limitations on
the rights of the Trustee, should it become a creditor of the Company or the
Guarantors, to obtain payments of claims in certain cases or to realize on
certain property received in respect of any such claim as security or otherwise.
Subject to the TIA, the Trustee will be permitted to engage in other
transactions; PROVIDED that if the Trustee acquires any conflicting interest as
described in the TIA, it must eliminate such conflict or resign.
CERTAIN DEFINITIONS
"Acquired Indebtedness" means Indebtedness of a person or any of its
Subsidiaries existing at the time such person becomes a Subsidiary (Restricted
Subsidiary, in the case of the Company) or assumed in connection with the
acquisition of assets from such person, including, without limitation,
Indebtedness incurred by such person in connection with, or in anticipation or
contemplation of, such person becoming a Subsidiary (Restricted Subsidiary, in
the case of the Company) or such acquisition.
"Affiliate" of any specified person means any other person, directly or
indirectly, controlling or controlled by or under direct or indirect common
control with such specified person. For the purposes of this definition,
"control" when used with respect to any person means the power to direct the
management and policies of such person, directly or indirectly, whether through
the ownership of voting securities, by contract or otherwise; and the terms
"affiliated", "controlling" and "controlled"
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have meanings correlative of the foregoing. For purposes of "--Certain
Covenants--Limitation on Transactions with Affiliates," the term "Affiliate"
shall include any person who, as a result of any transaction described therein,
would become an Affiliate.
"Asset Acquisition" means (i) an Investment by the Company or any Restricted
Subsidiary in any other person pursuant to which such person shall become a
Restricted Subsidiary or a Subsidiary of a Restricted Subsidiary or shall be
merged with the Company or any Restricted Subsidiary or (ii) the acquisition by
the Company or any Restricted Subsidiary of the assets of any person which
constitute all or substantially all of the assets of such person or any division
or line of business of such person.
"Asset Sale" means any direct or indirect sale, issuance, conveyance,
transfer, lease, assignment or other transfer for value by the Company or any of
the Restricted Subsidiaries (including, without limitation, any Sale/leaseback)
to any person, in one transaction or a series of related transactions, of (i)
any Capital Stock of any Restricted Subsidiary; (ii) all or substantially all of
the properties and assets of any division or line of business of the Company or
any Restricted Subsidiary; or (iii) other than in the ordinary course of
business, any other properties or assets of the Company or any Restricted
Subsidiary in excess of $1.0 million. For the purposes of this definition, the
term "Asset Sale" shall not include (i) any sale, issuance, conveyance,
transfer, lease or other disposition of properties or assets that is consummated
in accordance with the provisions of "--Merger, Consolidation, Etc." above and
(ii) the sale of inventory in the ordinary course of business.
"Bankruptcy Law" means Title 11 of the U.S. Code or any similar Federal,
state or foreign law for the relief of debtors.
"Capital Expenditures" shall mean payments for any assets, or improvements,
replacements, substitutions or additions thereto, that have a useful life of
more than one year and which, in accordance with GAAP consistently applied, are
required to be capitalized (as opposed to expensed in the period in which the
payment occurred).
"Capital Lease," as applied to any person, means any lease of (or any
agreement conveying the right to use) any property (whether real, personal or
mixed) by such person as lessee which, in conformity with GAAP, is required to
be accounted for as a capital lease on the balance sheet of such person.
"Capital Stock" means, with respect to any person, any and all shares,
interests, participation or other equivalents (however designated) of such
person's capital stock, whether outstanding at the Issue Date or issued after
the Issue Date, and any and all rights, warrants or options exchangeable for or
convertible into such capital stock (but excluding any debt security that is
exchangeable for or convertible into such capital stock).
"Capitalized Lease Obligation" means, as to any person, the obligations of
such person under a Capital Lease and, for purposes of the Indenture, the amount
of such obligations at any date shall be the capitalized amount of such
obligations at such date, determined in accordance with GAAP.
"Cash Equivalents" means (i) marketable direct obligations issued by, or
unconditionally guaranteed by, the United States Government or issued by any
agency thereof and backed by the full faith and credit of the United States, in
each case maturing within two years from the date of acquisition thereof; (ii)
marketable direct obligations issued by any state of the United States of
America or any political subdivision of any such state or any public
instrumentality thereof maturing within two years from the date of acquisition
thereof and, at the time of acquisition, having one of the two highest ratings
obtainable from either Standard & Poor's Ratings Services, a division of The
McGraw-Hill Companies, Inc. ("S&P") or Moody's Investors Service, Inc.
("Moody's"); (iii) commercial paper maturing no more than two years from the
date of creation thereof and, at the time of acquisition, having a rating of at
least A-1 from S&P or at least P-1 from Moody's; (iv) certificates of deposit or
bankers' acceptances maturing within two years from the date of acquisition
thereof issued by any commercial bank organized under the laws of the United
States of America or any state thereof or the District of Columbia or any U.S.
branch of a foreign bank having at the date of acquisition thereof
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combined capital and surplus of not less than $500,000,000; (v) repurchase
obligations with a term of not more than seven days for underlying securities of
the types described in clause (i) above entered into with any bank meeting the
qualifications specified in clause (iv) above; and (vi) investments in money
market funds which invest substantially all their assets in securities of the
types described in clauses (i) through (v) above. Notwithstanding the foregoing,
for purposes of clause (i) of the definition of "Permitted Investment," 20% of
the Cash Equivalents may include securities having a rating of at least BBB by
S&P and Baa by Moody's.
"Change of Control" means the occurrence of one or more of the following
events: (i) any direct or indirect sale, lease, exchange or other transfer (in
one transaction or a series of related transactions) of all or substantially all
of the assets of the Company or Renco to any person or group of related persons
for purposes of Section 13(d) of the Exchange Act (a "Group") (other than a
Permitted Holder or a Group controlled by a Permitted Holder), together with any
Affiliates thereof (whether or not otherwise in compliance with the provisions
of the Indenture); (ii) the approval by the holders of Capital Stock of the
Company or Renco, as the case may be, of any plan or proposal for the
liquidation or dissolution of the Company, or Renco, as the case may be (whether
or not otherwise in compliance with the provisions of the Indenture); (iii) the
acquisition in one or more transactions of "beneficial ownership" (within the
meaning of Rules 13d-3 and 13d-5 under the Exchange Act, except that a person
shall be deemed to have "beneficial ownership" of all securities that such
person has the right to acquire, whether such right is exercisable immediately
or only after the passage of time) by any person, entity or Group (other than a
Permitted Holder or a Group controlled by any Permitted Holder) of any Capital
Stock of the Company or Renco such that, as a result of such acquisition, such
person, entity or Group either (A) beneficially owns (within the meaning of
Rules 13d-3 and 13d-5 under the Exchange Act), directly or indirectly, more than
50% of the Company's or Renco's then outstanding voting securities entitled to
vote on a regular basis in an election for a majority of the Board of Directors
of the Company or Renco or (B) otherwise has the ability to elect, directly or
indirectly, a majority of the members of the Company's or Renco's Board of
Directors; or (iv) the shareholders of Renco as of the Issue Date and the
Permitted Holders shall cease to own at least 50% of the equity of Renco owned
by such shareholders on the Issue Date.
Under New York law, in determing whether a sale of assets by a corporation
is a sale of "all or substantially all its assets," the focus is not on the
dollar amount involved, but rather on the nature of the sale as it affects the
ability of the corporation to conduct the business for which it was established.
If the sale of certain assets is significant enough to render the corporation
unable, in whole or in part, to accomplish the purposes or objects for which it
was incorporated, such sale is not in the ordinary course of business and would
be deemed a sale of "all or substantially all its assets." So long as the
corporation remains able to conduct its business, the sale of such corporation's
assets, even its sole asset, may be within the ordinary course of business and
will not be deemed a sale of "all or substantially all its assets."
"Commission" means the Securities and Exchange Commission.
"Consolidated EBITDA" means, with respect to any person, for any period, the
sum (without duplication) of (i) Consolidated Net Income, (ii) to the extent
Consolidated Net Income has been reduced thereby, all income taxes of such
person and its Subsidiaries (Restricted Subsidiaries, in the case of the
Company) paid or accrued in accordance with GAAP for such period (other than
income taxes attributable to extraordinary, unusual or non-recurring gains or
losses), Consolidated Interest Expense, amortization expense (including
amortization of deferred financing costs) and depletion and depreciation expense
and (iii) other non-cash items (other than non-cash interest) reducing
Consolidated Net Income (including, without limitation, any non-cash charges in
respect of post-employment benefits for health care, life insurance and
long-term disability benefits required in accordance with GAAP) less other
non-cash items increasing Consolidated Net Income, all as determined on a
consolidated basis for such person and its Subsidiaries (Restricted
Subsidiaries, in the case of the Company) in accordance with GAAP.
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"Consolidated Fixed Charge Coverage Ratio" means, with respect to any
person, the ratio of Consolidated EBITDA of such person during the four full
fiscal quarters (the "Four Quarter Period") ending on or prior to the date of
the transaction giving rise to the need to calculate the Consolidated Fixed
Charge Coverage Ratio (the "Transaction Date") to Consolidated Fixed Charges of
such person for the Four Quarter Period. For purposes of this definition, if the
Transaction Date occurs prior to the date on which four full fiscal quarters
have elapsed subsequent to the Issue Date and financial statements with respect
thereto are available, "Consolidated EBITDA" and "Consolidated Fixed Charges"
shall be calculated, in the case of the Company, after giving effect on a pro
forma basis to the issuance of the Senior Notes and the application of the net
proceeds therefrom as if the Senior Notes were issued on the first day of the
Four Quarter Period. In addition to and without limitation of the foregoing, for
purposes of this definition, "Consolidated EBITDA" and "Consolidated Fixed
Charges" shall be calculated after giving effect on a pro forma basis for the
period of such calculation to (i) the incurrence of any Indebtedness (and the
application of the net proceeds therefrom) of such person or any of its
Subsidiaries (Restricted Subsidiaries, in the case of the Company) giving rise
to the need to make such calculation and any incurrence of other Indebtedness at
any time on or after the first day of the Four Quarter Period and on or prior to
the Transaction Date (the "Reference Period"), as if such incurrence occurred on
the first day of the Reference Period and (ii) any Asset Sales or Asset
Acquisitions (including, without limitation, any Asset Acquisition giving rise
to the need to make such calculation as a result of such person or one of its
Subsidiaries (Restricted Subsidiaries, in the case of the Company) (including
any person who becomes a Subsidiary (Restricted Subsidiary, in the case of the
Company) as a result of the Asset Acquisition) incurring, assuming or otherwise
being liable for Acquired Indebtedness) occurring during the Reference Period,
as if such Asset Sale or Asset Acquisition (including the incurrence, assumption
or liability for any such Indebtedness or Acquired Indebtedness) occurred on the
first day of the Reference Period. If such person or any of its Subsidiaries
(Restricted Subsidiaries, in the case of the Company) directly or indirectly
guarantees Indebtedness of a third person, the preceding sentence shall give
effect to the incurrence of such guaranteed Indebtedness as if such person or
any Subsidiary (Restricted Subsidiary, in the case of the Company) of such
person had directly incurred or otherwise assumed such guaranteed Indebtedness.
Furthermore, in calculating "Consolidated Fixed Charges" for purposes of this
"Consolidated Fixed Charge Coverage Ratio," (1) interest on Indebtedness
determined on a fluctuating basis as of the Transaction Date and which will
continue to be so determined thereafter shall be deemed to have accrued at a
fixed rate per annum equal to the rate of interest on such Indebtedness in
effect on the Transaction Date, and (2) notwithstanding clause (1) above,
interest on Indebtedness determined on a fluctuating basis, to the extent such
interest is covered by agreements relating to Interest Rate Protection
Obligations, shall be deemed to accrue at the rate per annum resulting after
giving effect to the operation of such agreements.
"Consolidated Fixed Charges" means, with respect to any person for any
period, the sum of, without duplication, the amounts for such period, taken as a
single accounting period, of (i) Consolidated Interest Expense of such person
(net of any interest income) less non-cash amortization of deferred financing
costs and (ii) the product of (x) the amount of all dividends declared and paid
on Preferred Stock of such person during such period times (y) a fraction, the
numerator of which is one and the denominator of which is one minus the then
current effective consolidated Federal, state, local and foreign tax rate
(expressed as a decimal number between 1 and 0) of such person during such
period (as reflected in the audited consolidated financial statements of such
person for the most recently completed fiscal year).
"Consolidated Interest Expense" means, with respect to any person for any
period, without duplication, the sum of (i) the interest expense of such person
and its Subsidiaries (Restricted Subsidiaries, in the case of the Company) for
such period as determined on a consolidated basis in accordance with GAAP
consistently applied, including, without limitation, (a) any amortization of
debt discount, (b) the net cost under Interest Rate Protection Obligations
(including any amortization of discounts), (c) the
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interest portion of any deferred payment obligation and (d) all accrued
interest, and (ii) the interest component of Capitalized Lease Obligations paid,
accrued and/or scheduled to be paid or accrued by such person and its
Subsidiaries (Restricted Subsidiaries, in the case of the Company) during such
period as determined on a consolidated basis in accordance with GAAP
consistently applied.
"Consolidated Net Income" means, with respect to any person for any period,
the net income (or loss) of such person and its Subsidiaries (Restricted
Subsidiaries, in the case of the Company), on a consolidated basis for such
period determined in accordance with GAAP; PROVIDED that (i) the net income of
any person in which such person or any Subsidiary (Restricted Subsidiary, in the
case of the Company) of such person has an ownership interest with a third party
(other than a person that meets the definition of a Wholly-Owned Subsidiary
(Wholly-Owned Restricted Subsidiary, in the case of the Company)) shall be
included only to the extent of the amount that has actually been received by
such person or its Wholly-Owned Subsidiaries (Wholly-Owned Restricted
Subsidiaries, in the case of the Company) in the form of dividends or other
distributions during such period (subject to, in the case of any dividend or
distribution received by a Wholly-Owned Subsidiary) (Wholly-Owned Restricted
Subsidiary, in the case of the Company) of such person, the restrictions set
forth in clause (ii) below) and (ii) the net income of any Subsidiary
(Restricted Subsidiary, in the case of the Company) of such person that is
subject to any restriction or limitation on the payment of dividends or the
making of other distributions shall be excluded to the extent of such
restriction or limitation; PROVIDED, FURTHER, that there shall be excluded (a)
the net income (or loss) of any person (acquired in a pooling of interests
transaction) accrued prior to the date it becomes a Subsidiary (Restricted
Subsidiary, in the case of the Company) of such person or is merged into or
consolidated with such person or any Subsidiary (Restricted Subsidiary, in the
case of the Company) of such person, (b) any gain (or loss) (and related tax
effects) resulting from an Asset Sale by such person or any of its Subsidiaries
(Restricted Subsidiaries, in the case of the Company), (c) any extraordinary,
unusual or nonrecurring gains or losses (and related tax effects) in accordance
with GAAP and (d) any compensation--related expenses arising as a result of the
application of the net proceeds from the issuance of the Senior Notes. For
purposes of the "Limitation on Restricted Payments" covenant, the amortization
of deferred financing costs relating to the issuance of the Senior Notes shall
be excluded from this definition of "Consolidated Net Income."
"Default" means any event that is, or after notice or passage of time or
both would be, an Event of Default.
"Disqualified Capital Stock" means any class of Capital Stock which, by its
terms (or by the terms of any security into which it is convertible or for which
it is exchangeable), or upon the happening of any event (other than a Change of
Control), matures or is mandatorily redeemable, pursuant to a sinking fund
obligation or otherwise, or is redeemable at the option of the holder thereof,
in whole or in part, on or prior to the Maturity Date.
"Event of Default" has the meaning set forth under "--Events of Default"
herein.
"Exchange Act" means the Securities Exchange Act of 1934, as amended.
"Fair Market Value" means, with respect to any asset, the price which could
be negotiated in an arm's-length free market transaction, for cash, between a
willing seller and a willing buyer, neither of whom is under undue pressure or
compulsion to complete the transaction. Fair Market Value of any asset of the
Company or the Restricted Subsidiaries shall be determined by the Board of
Directors of the Company acting in good faith and shall be evidenced by a Board
Resolution thereof delivered to the Trustee; PROVIDED that with respect to any
Asset Sale which involves in excess of $5.0 million, the Fair Market Value of
any such asset or assets shall be determined by an Independent Financial
Advisor.
"GAAP" means generally accepted accounting principles set forth in the
opinions and pronouncements of the Accounting Principles Board of the American
Institute of Certified Public Accountants and statements and pronouncements of
the Financial Accounting Standards Board or in such other
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statements by such other entity as may be approved by a significant segment of
the accounting profession of the United States, which are in effect as of the
Issue Date.
"Guarantors" means collectively each of Lodestar Energy, Inc., Eastern
Resources, Inc., Industrial Funds Minerals Company and any Restricted Subsidiary
that in the future executes a supplemental indenture pursuant to the covenant
entitled "Future Guarantees" or otherwise in which any such Restricted
Subsidiary agrees to be bound by the terms of the Indenture; PROVIDED that any
person constituting a Guarantor as described above shall cease to constitute a
Guarantor when its respective Guarantee is released in accordance with the terms
of the Indenture.
"Indebtedness" means with respect to any person, without duplication, (i)
all obligations of such person for borrowed money, (ii) all obligations of such
person evidenced by bonds, debentures, notes or other similar instruments, (iii)
all Capitalized Lease Obligations (but not obligations under Operating Leases)
of such person, (iv) all obligations of such person issued or assumed as the
deferred purchase price of property or services, all conditional sale
obligations and all obligations under any title retention agreement (but
excluding trade accounts payable, accrued expenses and deferred taxes arising in
the ordinary course of business), (v) all obligations of such person for the
reimbursement of any obligor on any letter of credit, banker's acceptance or
similar credit transaction entered into in the ordinary course of business, (vi)
all obligations of any other person of the type referred to in clauses (i)
through (v) which are secured by any Lien on any property or asset of such first
person and the amount of such obligation shall be the lesser of the value of
such property or asset or the amount of the obligation so secured, (vii) all
guarantees of Indebtedness by such person, (viii) Disqualified Capital Stock
valued at the greater of its voluntary or involuntary maximum fixed repurchase
price plus accrued and unpaid dividends, (ix) all obligations under interest
rate agreements or hedging agreements of such person and (x) any amendment,
supplement, modification, deferral, renewal, extension or refunding of any
liability of the types referred to in clauses (i) through (ix) above. For
purposes hereof, the "maximum fixed repurchase price" of any Disqualified
Capital Stock which does not have a fixed repurchase price shall be calculated
in accordance with the terms of such Disqualified Capital Stock as if such
Disqualified Capital Stock were purchased on any date on which Indebtedness
shall be required to be determined pursuant to the Indenture, and if such price
is based upon, or measured by, the Fair Market Value of such Disqualified
Capital Stock, such Fair Market Value to be determined in good faith by the
Board of Directors of the person issuing such Disqualified Capital Stock.
Notwithstanding anything to the contrary contained herein or in the Indenture,
Indebtedness shall not include (i) the purchase of coal reserves requiring the
payment of royalty fees on an installment basis in the ordinary course of
business consistent with past practice, (ii) obligations under performance
bonds, surety bonds or appeal bonds, letters of credit (other than reimbursement
obligations) or similar obligations, in each case incurred in the ordinary
course of business and (iii) any obligation of the Company or any Restricted
Subsidiary in the form of an earn-out arrangement undertaken in connection with
any acquisition of property or assets by the Company or such Restricted
Subsidiary, which obligation shall be based upon increases in coal prices above
price levels existing on the date of such acquisition, shall not constitute
Indebtedness under the Indenture.
"Independent Financial Advisor" means an accounting, appraisal or investment
banking firm of nationally recognized standing that is, in the reasonable and
good faith judgment of the Board of Directors of the Company, qualified to
perform the task for which such firm has been engaged and disinterested and
independent with respect to the Company and its Affiliates.
"Interest Rate Protection Obligations" means the obligations of any person
pursuant to any arrangement with any other person, whereby, directly or
indirectly, such person is entitled to receive from time to time periodic
payments calculated by applying either a floating or a fixed rate of interest on
a stated notional amount in exchange for periodic payments made by such other
person calculated by applying a fixed or a floating rate of interest on the same
notional amount and shall include, without limitation, interest rate swaps,
caps, floors, collars and similar agreements.
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"Investment" means, with respect to any person, any direct or indirect
advance, loan, guarantee or other extension of credit or capital contribution to
(by means of any transfer of cash or other property to others or any payment for
property or services for the account or use of others or otherwise), or any
purchase or acquisition by such person of any Capital Stock, bonds, notes,
debentures or other securities or evidences of Indebtedness issued by, any other
person. Investments shall exclude extensions of trade credit on commercially
reasonable terms in accordance with normal trade practices. For the purposes of
the "Limitation on Restricted Payments" covenant, the amount of any Investment
(other than an Investment covered by clause (z) of the first paragraph thereof)
shall be the original cost of such Investment plus the cost of all additional
Investments by the Company or any of the Restricted Subsidiaries, without any
adjustments for increases or decreases in value, or write-ups, write-downs or
write-offs with respect to such Investment, reduced by the payment of dividends
or distributions in connection with such Investment or any other amounts
received in respect of such Investment.
"Issue Date" means the date on which the Senior Notes offered hereby are
originally issued under the Indenture.
"Lien" means (x) any lien, mortgage, deed of trust, pledge, security
interest, charge or encumbrance of any kind including, without limitation, any
conditional sale or other title retention agreement, any lease in the nature
thereof, any option or other agreement to sell and any filing of or agreement to
file a financing statement as debtor under the Uniform Commercial Code or any
similar statute and (y) any agreement to enter into any of the foregoing.
"Maturity Date" means May 15, 2005.
"Net Cash Proceeds" means, with respect to any Asset Sale, the proceeds
thereof in the form of cash or Cash Equivalents including payments in respect of
deferred payment obligations when received in the form of cash or Cash
Equivalents (except to the extent that such obligations are financed or sold
with recourse to the Company or any Restricted Subsidiary) net of (i) brokerage
commissions and other fees and expenses (including fees and expenses of legal
counsel and investment bankers) related to such Asset Sale, (ii) provisions for
all taxes payable as a direct result of such Asset Sale and (iii) appropriate
amounts to be provided by the Company or any Restricted Subsidiary, as the case
may be, as a reserve required in accordance with GAAP consistently applied
against any liabilities associated with such Asset Sale and retained by the
Company or any Restricted Subsidiary, as the case may be, after such Asset Sale,
including, without limitation, pension and other post-employment benefit
liabilities, liabilities related to environmental matters and liabilities under
any indemnification obligations associated with such Asset Sale, all as
reflected in an Officers' Certificate delivered to the Trustee.
"New Senior Credit Facility" means the Amended and Restated Loan and
Security Agreement dated as of the Issue Date among the Company, Lodestar, the
financial institutions named therein, Congress Financial Corporation and The CIT
Group/Business Credit, Inc., as the same may be amended, restated, supplemented
or otherwise modified from time to time, and includes any agreement renewing,
refinancing or replacing all or any portion of the Indebtedness under such
agreement.
"Operating Lease" means, as applied to any person, any lease (including,
without limitation, leases that may be terminated by the lessee at any time) of
any property (whether real, personal or mixed) that is not a Capital Lease other
than any such lease under which that person is the lessor.
"Permitted Holders" means Ira Leon Rennert and his Affiliates, estate, heirs
and legatees, and the legal representatives of any of the foregoing, including,
without limitation, the trustee of any trust of which one or more of the
foregoing are the sole beneficiaries.
"Permitted Indebtedness" means (i) any Indebtedness of the Company and the
Restricted Subsidiaries under the New Senior Credit Facility consisting of (A) a
borrowing facility in an aggregate amount not to exceed $90.0 million in
aggregate principal amount at any time outstanding plus (B) a $30.0 million
letter of credit facility, in each case plus any interest, fees and expenses
from time to time owed thereunder, (ii) the Senior Notes issued in the Old Notes
Offering in an aggregate principal amount not to exceed $150.0 million and the
related Guarantees, (iii) any other Indebtedness of the
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Company and the Restricted Subsidiaries outstanding on the Issue Date, (iv)
purchase money Indebtedness and any Indebtedness incurred for Capitalized Lease
Obligations of the Company and the Restricted Subsidiaries not to exceed $20.0
million in the aggregate at any time outstanding, (v) Interest Rate Protection
Obligations to the extent the notional principal amount of such Interest Rate
Protection Obligations does not exceed the principal amount of the Indebtedness
to which such Interest Rate Protection Obligations relate entered into in the
ordinary course of business, (vi) additional Indebtedness of the Company and the
Restricted Subsidiaries not to exceed $30.0 million in the aggregate at any time
outstanding, (vii) Indebtedness owed by the Company or any of the Restricted
Subsidiaries to the Company or any Restricted Subsidiary; PROVIDED that in the
case of Indebtedness owed by the Company to any Restricted Subsidiary, such
Indebtedness is contractually subordinated in right of payment to the Senior
Notes, (viii) any renewals, extensions, substitutions, refundings, refinancings
or replacements of any Indebtedness described in the preceding clauses (i), (ii)
and (iii) above and this clause (viii), so long as such renewal, extension,
substitution, refunding, refinancing or replacement does not result in an
increase in the aggregate principal amount of the outstanding Indebtedness
represented thereby (except if such Indebtedness refinances Indebtedness under
the New Senior Credit Facility or any other agreement providing for subsequent
borrowings, does not result in an increase in the commitment available under the
New Senior Credit Facility or such other agreement), (ix) any indebtedness of
the Company or the Guarantors to Renco in an aggregate principal amount not to
exceed $15.0 million at any time outstanding; PROVIDED that any such
Indebtedness is contractually subordinated in right of payment to the Company's
obligations under the Senior Notes or such Guarantor's obligations under its
Guarantee, as the case may be; PROVIDED, FURTHER, that if as of any date any
person other than Renco or one of its Wholly-Owned Subsidiaries owns or holds
any such Indebtedness or holds a Lien on the instrument held by Renco or one of
its Wholly-Owned Subsidiaries governing such Indebtedness, such date shall be
deemed the incurrence of Indebtedness not constituting Permitted Indebtedness
pursuant to this clause (ix) and (x) any guarantees of the foregoing.
"Permitted Investment" means (i) cash and Cash Equivalents, (ii) any
Investment by the Company or any of the Restricted Subsidiaries in the Company
or any Restricted Subsidiary, (iii) Related Business Investments by the Company
or any of the Restricted Subsidiaries in joint ventures, partnerships or persons
(including Unrestricted Subsidiaries) that are not Restricted Subsidiaries in an
amount not to exceed $25.0 million in the aggregate at any one time outstanding,
(iv) Investments by the Company or any Restricted Subsidiary in another person,
if as a result of such Investment (a) such other person becomes a Restricted
Subsidiary or (b) such other person is merged or consolidated with or into, or
transfers or conveys all or substantially all of its assets to, the Company or a
Restricted Subsidiary, (v) Investments received in connection with the
bankruptcy or reorganization of suppliers and customers and in settlement of
delinquent obligations of, and other disputes with, customers and suppliers, in
each case arising in the ordinary course of business, (vi) the non-cash proceeds
of any Asset Sale, (vii) Investments under or pursuant to Interest Rate
Protection Obligations in the ordinary course of business and (viii) loans and
advances to employees of the Company and the Restricted Subsidiaries made in the
ordinary course of business.
"Permitted Liens" means (i) pledges or deposits by such person under
worker's compensation laws, unemployment insurance laws or similar legislation,
or good faith deposits in connection with bids, tenders, contracts (other than
for the payment of Indebtedness) or leases to which such person is a party, or
deposits to secure public statutory obligations of such person or deposits to
secure surety or appeal bonds to which such person is a party, or deposits as
security for contested taxes or import duties or for the payment of rent, (ii)
Liens imposed by law, such as landlords', carriers', warehousemen's and
mechanics' Liens or bankers' Liens incurred in the ordinary course of business
for sums which are not yet due or are being contested in good faith and for
which adequate provision has been made, (iii) Liens for taxes not yet subject to
penalties for non-payment or which are being contested in good faith and by
appropriate proceedings, if adequate reserve, as may be required by GAAP, shall
have been made therefor, (iv) Liens in favor of issuers of performance bonds,
surety bonds or appeal
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bonds issued pursuant to the request of and for the account of such person in
the ordinary course of its business, (v) Liens to support trade letters of
credit issued in the ordinary course of business, (vi) survey exceptions,
encumbrances, easements or reservations of, or rights of others for, rights of
way, sewers, electric lines, telegraph and telephone lines and other similar
purposes, or zoning or other restrictions on the use of real property, (vii)
Liens securing Indebtedness permitted under clause (iv) of the definition of
Permitted Indebtedness; PROVIDED that the Fair Market Value of the asset at the
time of the incurrence of the Indebtedness subject to the Lien shall not exceed
the principal amount of the Indebtedness secured, (viii) Liens with respect to
Acquired Indebtedness permitted to be incurred in accordance with the provisions
of "--Certain Covenants--Limitation on Indebtedness" above; PROVIDED that such
Liens secured such Acquired Indebtedness at the time of the incurrence of such
Acquired Indebtedness by the Company or any of the Restricted Subsidiaries and
were not incurred in connection with, or in anticipation of, the incurrence of
such Acquired Indebtedness by the Company or any of the Restricted Subsidiaries;
PROVIDED, FURTHER, that such Liens do not extend to or cover any property or
assets of the Company or any of the Restricted Subsidiaries other than the
property or assets that secured the Acquired Indebtedness prior to the time such
Indebtedness became Acquired Indebtedness of the Company or any of the
Restricted Subsidiaries and are no more favorable to the lienholders than those
securing the Acquired Indebtedness prior to the incurrence of such Acquired
Indebtedness by the Company or any of the Restricted Subsidiaries, (ix) Liens
arising from judgments, decrees or attachments in circumstances not constituting
an Event of Default, (x) Liens on assets or property (including any real
property upon which such assets or property are or will be located) securing
Indebtedness incurred to purchase or construct such assets or property, which
Indebtedness is permitted to be incurred under the Indenture, (xi) Liens
securing Indebtedness which is incurred to refinance or replace Indebtedness
which has been secured by a Lien permitted under the Indenture and is permitted
to be refinanced or replaced under the Indenture, PROVIDED that such Liens do
not extend to or cover any property or assets of the Company or any of the
Restricted Subsidiaries not securing the Indebtedness so refinanced or replaced,
and (xii) Liens securing reimbursement obligations under letters of credit but
only in or upon the goods the purchase of which was financed by such letters of
credit. "person" means any individual, corporation, partnership, joint venture,
trust, estate, unincorporated organization or government or any agency or
political subdivision thereof or any similar entities.
"Plan of Liquidation" means, with respect to any person, a plan that
provides for, contemplates or the effectuation of which is preceded or
accompanied by (whether or not substantially contemporaneously, in phases or
otherwise) (i) the sale, lease, conveyance or other disposition of all or
substantially all of the assets of such person otherwise than as an entirety or
substantially as an entirety and (ii) the distribution of all or substantially
all of the proceeds of such sale, lease, conveyance or other disposition and all
or substantially all of the remaining assets of such person to holders of
Capital Stock of such person.
"Preferred Stock" means, with respect to any person, any and all shares,
interests, participation or other equivalents (however designated) of such
person's preferred or preference stock, whether outstanding on the Issue Date or
issued thereafter, and including, without limitation, all classes and series of
preferred or preference stock of such person.
"pro forma" means, with respect to any calculation made or required to be
made pursuant to the terms of the Indenture, a calculation in accordance with
Article 11 of Regulation S-X under the Exchange Act.
"Qualified Capital Stock" means, with respect to any person, any Capital
Stock of such person that is not Disqualified Capital Stock or convertible into
or exchangeable or exercisable for Disqualified Capital Stock.
"Related Business Investment" means any Investment, Capital Expenditure or
other expenditure by the Company or any Restricted Subsidiary which is related
to the business of the Company and the Restricted Subsidiaries as it is
conducted on the Issue Date or any business which is the same, similar or
reasonably related to such business.
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"Renco" means The Renco Group, Inc., a New York corporation, which is the
parent of the Company, or any successor thereto.
"Restricted Subsidiary" means any Subsidiary of the Company which at the
time of determination is not an Unrestricted Subsidiary. The Board of Directors
of the Company may designate any Unrestricted Subsidiary to be a Restricted
Subsidiary only if, immediately after giving effect to such designation, the
Company and the Guarantors could incur at least $1.00 of additional Indebtedness
(other than Permitted Indebtedness) pursuant to the "Limitation on Indebtedness"
covenant, on a pro forma basis taking into account such designation.
"Sale/leaseback" means any lease whereby the Company or any of the
Restricted Subsidiaries, directly or indirectly, becomes or remains liable as
lessee or as guarantor or other surety, of any property (whether real or
personal or mixed) whether now owned or hereafter acquired, (i) that the Company
or the Restricted Subsidiaries, as the case may be, has sold or transferred or
is to sell or transfer to any other person (other than the Company or any
Restricted Subsidiary), or (ii) that the Company or any of the Restricted
Subsidiaries, as the case may be, intends to use for substantially the same
purpose as any other property that has been or is to be sold or transferred by
the Company or any such Restricted Subsidiary to any person (other than the
Company or any Restricted Subsidiary) in connection with such lease.
"Significant Subsidiary" means any Restricted Subsidiary that satisfies the
criteria for a "significant subsidiary" set forth in Rule 1-02(w) of Regulation
S-X under the Exchange Act.
"Subsidiary" of any person means (i) any corporation of which the
outstanding capital stock having at least a majority of the votes entitled to be
cast in the election of directors under ordinary circumstances shall at the time
be owned, directly or indirectly, by such person or (ii) any other person of
which at least a majority of the voting interest under ordinary circumstances is
at the time owned, directly or indirectly, by such person. For purposes of this
definition, any directors' qualifying shares or investments by foreign nationals
mandated by applicable law shall be disregarded in determining the ownership of
a Subsidiary.
"Unrestricted Subsidiary" means (i) any Subsidiary of the Company which at
the time of determination is an Unrestricted Subsidiary (as designated by the
Board of Directors of the Company, as provided below) and (ii) any Subsidiary of
an Unrestricted Subsidiary. The Board of Directors of the Company may designate
any Subsidiary of the Company (including any newly acquired or newly formed
Subsidiary) to be an Unrestricted Subsidiary, unless such Subsidiary owns any
Capital Stock of, or owns, or holds any Lien on, any property of, any Restricted
Subsidiary of the Company which is not a Subsidiary of the Subsidiary to be so
designated; PROVIDED that (a) the Company certifies that such designation
complies with the "Limitation on Restricted Payments" covenant and (b) each
Subsidiary to be so designated and each of its Subsidiaries has not at the time
of designation, and does not thereafter, create, incur, issue, assume, guarantee
or otherwise become directly or indirectly liable with respect to any
Indebtedness pursuant to which the lender has recourse to any of the assets of
the Company or any of the Restricted Subsidiaries. The Board of Directors of the
Company may designate any Unrestricted Subsidiary to be a Restricted Subsidiary
only if, immediately after giving effect to such designation, the Company and
the Guarantors could incur at least $1.00 of additional Indebtedness (other than
Permitted Indebtedness) pursuant to the "Limitation on Indebtedness" covenant,
on a pro forma basis taking into account such designation.
"Wholly-Owned Restricted Subsidiary" means any Restricted Subsidiary which
is a Wholly-Owned Subsidiary of the Company.
"Wholly-Owned Subsidiary" means any Subsidiary of such person to the extent
all of the Capital Stock or other ownership interests in such Subsidiary (other
than (x) directors' qualifying shares and (y) an immaterial interest owned by
other persons solely to comply with applicable law) is owned directly or
indirectly by such person or a Wholly-Owned Subsidiary of such person.
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DESCRIPTION OF NEW SENIOR CREDIT FACILITY
The following description of the New Senior Credit Facility does not purport
to be complete and is subject to, and qualified in its entirety by reference to,
all of the provisions of the loan and security agreement relating to the New
Senior Credit Facility, a copy of which is filed as an exhibit to the
Registration Statement. Capitalized terms used herein and not otherwise defined
have the meaning ascribed to such terms in the agreement.
GENERAL
As of October 25, 1998, the New Senior Credit Facility was undrawn, and
approximately $15.2 million of letters of credit were outstanding. Under the New
Senior Credit Facility, the revolving credit lenders (the "Revolving Credit
Lenders") will, in their discretion, lend and relend to Lodestar up to not more
than the sum of (i) 90% of the Net Amount of Eligible Accounts plus (ii) 60% of
the Value of Eligible Inventory plus (iii) 25% of the Value of Eligible Stores
Inventory (but not more than a loan value of $5.0 million), (whereby the sum of
(ii) and (iii) shall not exceed $25.0 million) up to a limit of $90.0 million.
Lodestar's collections from accounts are applied to reduce the loan balance,
which may be reborrowed up to the aforesaid limits.
In addition, the Revolving Credit Lenders may extend up to $30.0 million of
letter of credit accommodations The available letter of credit accommodations
will decrease by $4.0 million per year. The annual amortization may be waived at
the lenders' discretion, subject to the results of asset values determined by
appraisal.
INTEREST
Interest on Lodestar's revolving loan balances is payable monthly at the
prime rate plus 0.75% per annum. The interest rate on October 25, 1998 was 9.0%.
In the event of a default by Lodestar under the New Senior Credit Facility, the
interest rate will be 2.75% per annum in excess of the prime rate.
LETTER OF CREDIT FEES
In addition to customary charges, fees and expenses, Lodestar pays the agent
a letter of credit fee equal to 1.5% per annum on the daily outstanding balance
of the letter of credit accommodations for the immediately preceding month,
except that the agent may require Lodestar to pay the agent such letter of
credit fee at a rate equal to 3.5% per annum on such outstanding balance for (i)
the period on and after the date of termination of the New Senior Credit
Facility or (ii) the period from and after the date of the occurrence of an
event of default thereunder.
SECURITY
As security for the indebtedness of the New Senior Credit Facility, Lodestar
has granted the Revolving Credit Lenders a first priority security interest in
substantially all property and assets of Lodestar.
TERM
The New Senior Credit Facility will continue until May 2001 and from year to
year thereafter, provided that either Lodestar or the Revolving Credit Lenders
may terminate the agreement at any expiration date upon 60 days' advance written
notice. Lodestar has paid the Revolving Credit Lenders a customary fee in
connection with the execution of the New Senior Credit Facility.
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CERTAIN COVENANTS
In addition to customary covenants, the New Senior Credit Facility requires
that Lodestar be subject to certain covenants, including, without limitation: a
restriction on the incurrence of additional indebtedness; a restriction on the
creation of additional liens; compliance with certain financial covenants;
certain restrictions on dividends, loans and investments; and restrictions on
mergers and sales of assets.
EVENTS OF DEFAULT
The New Senior Credit Facility contains certain events of default,
including, without limitation, the following: (i) the failure of Lodestar to pay
any of its obligations under the New Senior Credit Facility within three days
after the due date; (ii) certain defaults by Lodestar under various other
indebtedness after any applicable grace period; (iii) any default by Lodestar in
the performance or observance of the conditions and covenants of the New Senior
Credit Facility or related agreements, beyond any applicable cure period; (iv)
any representation or warranty made by Lodestar to the Revolving Credit Lenders
proving to be false in any material respect; (v) certain judgments against
Lodestar; (vi) certain events of bankruptcy or insolvency of Lodestar; or (vii)
the occurrence of any change in the control or ownership of Lodestar.
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MATERIAL FEDERAL INCOME TAX CONSIDERATIONS
The following is a summary of certain U.S. federal income tax consequences
of the purchase, beneficial ownership and disposition of Exchange Notes received
by investors that acquire the Exchange Notes in the Exchange Offer. Except as
provided below under "--Tax Treatment of Non-U.S. Holders," this summary deals
only with a beneficial owner of an Exchange Note that is (i) a citizen or
resident of the United States, (ii) a corporation, partnership or other business
entity created or organized in or under the laws of the United States or any
State or political subdivision thereof (including the District of Columbia),
(iii) an estate the income of which is subject to U.S. federal income taxation
regardless of its source, or (iv) a trust if a court within the United States is
able to exercise primary supervision over its administration, and one or more
United States persons have the authority to control all of its substantial
decisions (each, a "U.S. Holder").
An individual may, subject to certain exceptions, be deemed to be a resident
of the United States by virtue of being present in the United States for at
least 31 days in the calendar year and for an aggregate of at least 183 days
during a three-year period ending in the current calendar year (counting for
such purposes of all the days present in the current year, one-third of the days
present in the immediately preceding year, and one-sixth of the days present in
the second preceding year).
This summary is based on interpretations of the Internal Revenue Code of
1986, as amended, regulations issued thereunder, and rulings and decisions
currently in effect (or in some cases proposed), all of which are subject to
change. Any such change may be applied retroactively and may adversely affect
the federal income tax consequences described herein. This summary addresses
only Holders that own Exchange Notes as capital assets and not as part of a
"straddle" or a "conversion transaction" for federal income tax purposes, or as
part of some other integrated investment. This summary does not discuss all of
the tax consequences that may be relevant to particular investors or to
investors subject to special treatment under the federal income tax laws (such
as life insurance companies, retirement plans, regulated investment companies,
securities dealers, or investors whose functional currency is not the U.S.
dollar). No ruling from the Internal Revenue Service (the "IRS") will be sought
with respect to the Exchange Notes, and the IRS could take a contrary view with
respect to the matters described below. ACCORDINGLY, HOLDERS ARE URGED TO
CONSULT THEIR TAX ADVISORS WITH RESPECT TO THE FEDERAL, STATE, AND LOCAL TAX
CONSEQUENCES OF OWNING EXCHANGE NOTES, AS WELL AS ANY CONSEQUENCES ARISING UNDER
THE LAWS OF ANY OTHER TAXING JURISDICTION TO WHICH THEY MAY BE SUBJECT.
CONSEQUENCES OF THE EXCHANGE
The exchange of Old Notes for Exchange Notes in the Exchange Offer will not
be a taxable exchange for U.S. federal income tax purposes. A Holder will not
recognize any taxable gain or loss as a result of such exchange and will have
the same adjusted tax basis and holding period in the Exchange Notes as it had
in the Old Notes immediately before the exchange.
TAX TREATMENT OF U.S. HOLDERS
STATED INTEREST
Stated interest on the Exchange Notes will be taxable to a U.S. Holder as
ordinary interest income as the interest accrues or is paid (in accordance with
the U.S. Holder's method of tax accounting).
MARKET DISCOUNT
If a U.S. Holder purchases an Exchange Note (or purchased the Old Note for
which the Exchange Note was exchanged, as the case may be) at a price that is
less than its adjusted issue price (as defined), the excess of the adjusted
issue price over the U.S. Holder's purchase price will be treated as
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"market discount." However, such market discount will be considered to be zero
if it is less than 1/4 of 1% of the adjusted issue price multiplied by the
number of complete years to maturity from the date the U.S. Holder purchased
such Exchange Note (or Old Note). The "adjusted issue price" of an Exchange Note
at any time is its issue price reduced by the sum of all prior payments of
amounts other than qualified stated interest. Under the market discount rules of
the Code, a U.S. Holder generally will be required to treat any principal
payment on, or any gain realized on the sale, exchange, retirement or other
disposition of, an Exchange Note as ordinary income (generally treated as
interest income) to the extent of the market discount which accrued but was not
previously included in income. In addition, the U.S. Holder may be required to
defer, until the maturity of the Exchange Note or its earlier disposition in a
taxable transaction, the deduction of all or a portion of the interest expense
on any indebtedness incurred or continued to purchase or carry such Exchange
Note (or the Old Note for which the Exchange Note was exchanged, as the case may
be). In general, market discount will be considered to accrue ratably during the
period from the date of acquisition of the Exchange Note (or Old Note for which
the Exchange Note was exchanged, as the case may be) to the maturity date of the
Exchange Note, unless the U.S. Holder makes an irrevocable election (on an
instrument-by-instrument basis) to accrue market discount under a constant yield
method. A. U.S. Holder may elect to include in income market discount currently
as it accrues (under either a ratable or constant yield method), in which case
the rules described above regarding the treatment of gain as ordinary income
upon the disposition of the Exchange Note and upon the receipt of certain
payments, and the deferral of interest deductions, will not apply. The election
to include market discount in income currently, once made, applies to all market
discount obligations acquired on or after the first day of the first taxable
year to which the election applies, and may not be revoked without the consent
of the IRS.
AMORTIZABLE BOND PREMIUM
If a U.S. Holder purchases an Exchange Note (or purchased the Old Note for
which the Exchange Note was exchanged, as the case may be) for an amount in
excess of its principal amount (or, in certain circumstances, the amount payable
upon an optional redemption), the excess of the purchase price over the
principal amount (or, in certain circumstances, the amount payable upon an
optional redemption) will be treated as "amortizable bond premium." A U.S.
Holder may elect to amortize such premium, if any, using a constant yield method
over the period ending on the maturity date (or, in certain circumstances, the
first date on which the Exchange Notes are subject to an optional redemption).
The amortized amount of such premium for a taxable year generally will be
treated first as a reduction of interest on such Exchange Note included in such
taxable year to the extent thereof, then as a deduction allowed in that taxable
year to the extent of the U.S. Holder's prior interest inclusions on such
Exchange Note, and finally as a carryforward allowable against the U.S. Holder's
future interest inclusions on such Exchange Note. Such election, once made, is
irrevocable without the consent of the IRS and applies to all taxable bonds held
during the taxable year for which the election is made or subsequently acquired.
SALE, EXCHANGE AND RETIREMENT OF EXCHANGE NOTES
Upon the sale, exchange or retirement of an Exchange Note, a U.S. Holder
will recognize gain or loss equal to the difference between the amount received
(other than amounts in respect of accrued and unpaid interest or accrued market
discount not previously included in income, which in either case will be taxable
as ordinary income) and the adjusted tax basis in the Exchange Note. A U.S.
Holder's adjusted tax basis in an Exchange Note will be, in general, such U.S.
Holder's cost therefor, increased by the amount of any market discount
previously included in the U.S. Holder's gross income, and decreased by the
amount of any amortizable bond premium applied to reduce, or allowed as a
deduction against, interest with respect to such Exchange Notes. Any such gain
or loss will be capital gain or loss and will be long-term capital gain or loss
if, at the time of sale, exchange or retirement, the Exchange Note has been held
for more than one year.
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TAX TREATMENT OF NON-U.S. HOLDERS
A Non-U.S. Holder of an Exchange Note that is not subject to U.S. federal
income tax as a result of any direct or indirect connection to the United States
other than its ownership of an Exchange Note will not be subject to U.S. federal
income or withholding tax in respect of interest income or gain on the Exchange
Note if (1) the Non-U.S. Holder provides an appropriate statement, signed under
penalties of perjury, identifying the Non-U.S. Holder and stating, among other
things, that the Non-U.S. Holder is not a U.S. person and (2) the Non-U.S.
Holder is not a "10-percent shareholder" or a "related controlled foreign
corporation" with respect to the Company. To the extent these conditions are not
met, a 30% withholding tax will apply to interest income on the Exchange Note,
unless an income tax treaty reduces or eliminates such tax or the interest is
effectively connected with the conduct of a trade or business within the United
States by such Non-U.S. Holder and the Non-U.S. Holder provides an appropriate
statement to that effect. In the latter case, such Non-U.S. Holder generally
will be subject to U.S. federal income tax with respect to all income from an
Exchange Note at regular rates applicable to U.S. taxpayers and may be subject
to an additional branch profits tax. An individual Non-U.S. Holder of an
Exchange Note will not be subject to U.S. federal estate tax as a result of the
death of such Non-U.S. Holder, provided such Non-U.S. Holder did not at the time
of death actually or constructively own 10% or more of the combined voting power
of all classes of stock of the Company and, at the time of such Non-U.S.
Holder's death, payments of interest on such Exchange Note would not have been
effectively connected with the conduct by such Non-U.S. Holder of a trade or
business in the United States.
U.S. INFORMATION REPORTING REQUIREMENTS AND BACKUP WITHHOLDING TAX
Under certain circumstances, the IRS requires "information reporting"
annually to the IRS and to each Non-U.S. Holder, and it requires "backup
withholding" at a rate of 31% with respect to certain payments made on or with
respect to the Exchange Notes. Backup withholding generally does not apply with
respect to certain U.S. Holders, including corporations, tax-exempt
organizations, qualified pension and profit sharing trusts and individual
retirement accounts. Backup withholding is not an additional tax and may be
refunded (or credited against the Holder's U.S. federal income tax liability, if
any) provided that certain required information is furnished. The information
reporting requirements may apply regardless of whether withholding is required.
Copies of the information returns reporting such interest and withholding also
may be made available to the tax authorities in the country in which a Non-U.S.
Holder is a resident under the provisions of an applicable income tax treaty or
agreement.
For interest paid on or before December 31, 1999, Non-U.S. Holders of the
Exchange Notes generally will be exempt from IRS reporting requirements and U.S.
backup withholding. For interest paid on or after January 1, 2000 however,
certain Non-U.S. Holders of the Exchange Notes that fail to certify their status
as Non-U.S. Holders will be subject to information reporting and U.S. backup
withholding at a rate of 31%.
The payment of the proceeds on the disposition of an Exchange Note by a
holder to or through the U.S. office of a broker generally will be subject to
information reporting and backup withholding at a rate of 31% unless the holder
either certifies its status as a Non-U.S. Holder under penalties of perjury or
otherwise establishes an exemption. The payment of the proceeds on the
disposition of an Exchange Note by a Non-U.S. Holder to or through a non-U.S.
office of a non-U.S. broker will not be subject to backup withholding or
information reporting unless the non-U.S. broker is a U.S. related person. The
payment of proceeds on the disposition of an Exchange Note by a Non-U.S. Holder
to or through a non-U.S. office of a U.S. broker or a "U.S. related person"
generally will be subject to information reporting and backup withholding at a
rate of 31% unless the holder certifies its status as a Non-U.S. Holder under
penalties of perjury or the broker has certain documentary evidence in its files
as to the Non-U.S. Holder's foreign status and the broker has no actual
knowledge to the contrary.
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For this purpose, a "U.S. related person" is (i) a "controlled foreign
corporation" for U.S. federal income tax purposes, (ii) a foreign person 50% or
more of whose gross income from all sources for the three-year period ending
with the close of its taxable year preceding the payment (or for such part of
the period that the broker has been in existence) is effectively connected with
the conduct of a U.S. trade or business, or (iii) for payments made on or after
January 1, 2000, a foreign partnership, if at any time during its tax year, one
or more of its partners are U.S. persons who, in the aggregate, hold more than
50% of the income or capital interest of the partnership or if, at any time
during its taxable year, the partnership is engaged in the conduct of a U.S.
trade or business.
PLAN OF DISTRIBUTION
A broker-dealer that is the holder of Old Notes that were acquired for the
account of such broker-dealer as a result of market-making or other trading
activities (other than Old Notes acquired directly from the Company or any
affiliate of the Company) may exchange such Old Notes for Exchange Notes
pursuant to the Exchange Offer; PROVIDED, that each broker-dealer that receives
Exchange Notes for its own account in exchange for Old Notes, where such Old
Notes were acquired by such broker-dealer as a result of market-making or other
trading activities, must acknowledge that it will deliver a prospectus in
connection with any resale of such Exchange Notes. This Prospectus, as it may be
amended or supplemented from time to time, may be used by a broker-dealer in
connection with resales of Exchange Notes received in exchange for Old Notes
where such Old Notes were acquired as a result of market-making activities or
other trading activities. The Company has agreed that for a period of 180 days
after consummation of the Exchange Offer, it will make this Prospectus, as it
may be amended or supplemented from time to time, available to any broker-dealer
for use in connection with any such resale. In addition, until December 22,
1998, all dealers effecting transactions in the Exchange Notes may be required
to deliver a prospectus.
The Company will not receive any proceeds from any sale of Exchange Notes by
broker-dealers or any other holder of Exchange Notes. Exchange Notes received by
broker-dealers for their own account pursuant to the Exchange Offer may be sold
from time to time in one or more transactions in the over-the-counter market, in
negotiated transactions, through the writing of options on the Exchange Notes or
a combination of such methods of resale, at market prices prevailing at the time
of resale, at prices related to such prevailing market prices or negotiated
prices. Any such resale may be made directly to purchasers or to or through
brokers or dealers who may receive compensation in the form of commissions or
concessions from any such broker-dealer and/or the purchasers of any such
Exchange Notes. Any broker-dealer that resells Exchange Notes that were received
by it for its own account pursuant to the Exchange Offer and any broker or
dealer that participates in a distribution of such Exchange Notes may be deemed
to be an "underwriter" within the meaning of the Securities Act and any profit
on any such resale of Exchange Notes and any commissions or concessions received
by any such persons may be deemed to be underwriting compensation under the
Securities Act. The Letter of Transmittal states that by acknowledging that it
will deliver and by delivering a prospectus, a broker-dealer will not be deemed
to admit that it is an "underwriter" within the meaning of the Securities Act.
For a period of 180 days after consummation of the Exchange Offer, the
Company will promptly send additional copies of this Prospectus and any
amendment or supplement to this Prospectus to any broker-dealer that requests
such documents in the Letter of Transmittal. The Company has agreed to pay all
expenses incident to the Exchange Offer and to the Company's performance of, or
compliance with, the Registration Rights Agreement (other than commissions or
concessions of any brokers or dealers) and will indemnify the holders of the
Notes (including any broker-dealers) against certain liabilities, including
liabilities under the Securities Act.
107
<PAGE>
LEGAL MATTERS
Certain legal matters related to the Exchange Notes being offered hereby are
being passed upon for the Company and the Guarantors by Cadwalader, Wickersham &
Taft, New York, New York.
EXPERTS
The consolidated financial statements of Lodestar Holdings, Inc. and its
subsidiaries as of October 31, 1997 and for the period March 15, 1997 to October
31, 1997 and the consolidated financial statements of the Predecessor Company
and its subsidiaries as of December 31, 1996 and for each of the years in the
two-year period ended December 31, 1996 and the period January 1, 1997 to March
14, 1997, have been included herein in reliance upon the reports of KPMG Peat
Marwick LLP, independent certified public accountants, appearing elsewhere
herein and upon the authority of said firm as experts in accounting and
auditing.
ENGINEERS
The information appearing in this Offering Memorandum concerning estimates
of Lodestar's demonstrated reserves have been audited by Marshall Miller &
Associates, Bluefield, Virginia, as stated in their report with respect thereto
included herein as Annex A upon the authority of that firm as experts.
108
<PAGE>
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
COSTAIN COAL INC. AND SUBSIDIARIES
<TABLE>
<CAPTION>
PAGE
<S> <C>
Independent Auditors' Report............................................................................... F-2
Consolidated Balance Sheet as of December 31, 1996......................................................... F-3
Consolidated Statements of Operations for the years ended December 31, 1996 and 1995....................... F-4
Consolidated Statements of Stockholder's Equity for the years ended December 31, 1996 and 1995............. F-5
Consolidated Statements of Cash Flows for the years ended December 31, 1996 and 1995....................... F-6
Notes to Consolidated Financial Statements................................................................. F-7
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES AND PREDECESSOR
Independent Auditors' Report............................................................................... F-18
Consolidated Balance Sheet as of October 31, 1997.......................................................... F-19
Consolidated Statements of Operations for the period March 15, 1997 to October 31, 1997 and the period
January 1, 1997 to March 14, 1997........................................................................ F-20
Consolidated Statements of Stockholder's Equity for the period January 1, 1997 to March 14, 1997 and the
period March 15, 1997 to October 31, 1997................................................................ F-21
Consolidated Statements of Cash Flows for the period March 15, 1997 to October 31, 1997 and the period
January 1, 1997 to March 14, 1997........................................................................ F-22
Notes to Consolidated Financial Statements................................................................. F-23
Condensed Consolidated Balance Sheet as of July 31, 1998................................................... F-33
Condensed Consolidated Statements of Operations for the nine months ended July 31, 1998, the period March
15, 1997 to July 31, 1997, the period January 1, 1997 to March 14, 1997 and the period November 1, 1996
to December 31, 1996..................................................................................... F-34
Condensed Consolidated Statements of Cash Flows for the nine months ended July 31, 1998, the period March
15, 1997 to July 31, 1997, the period January 1, 1997 to March 14, 1997 and the period November 1, 1996
to December 31, 1996..................................................................................... F-35
Notes to Condensed Consolidated Financial Statements....................................................... F-36
</TABLE>
Lodestar Holdings, Inc. is a holding company whose wholly-owned direct and
indirect subsidiaries include Lodestar Energy, Inc., Eastern Resources, Inc. and
Industrial Fuels Minerals Company. These subsidiaries guarantee the Old Notes,
and will guarantee the Exchange Notes, fully, unconditionally, and jointly and
severally. The assets, equity, income and cash flows of other non-guarantor
subsidiaries are inconsequential (I.E. individually and combined less than 3% of
the Lodestar Holdings, Inc. totals). Lodestar Holdings, Inc. has no operations
or assets separate from its investment in its subsidiaries. Accordingly,
separate financial information of the subsidiaries is not considered necessary
to include, as in management's opinion, it would not be material to investors.
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Costain Coal Inc.:
We have audited the accompanying consolidated balance sheet of Costain Coal
Inc. and subsidiaries (a wholly-owned subsidiary of Costain America Inc. and the
predecessor to Lodestar Energy, Inc.) as of December 31, 1996, and the related
consolidated statements of operations, stockholder's equity, and cash flows for
the years ended December 31, 1996 and 1995. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Costain Coal
Inc. and subsidiaries as of December 31, 1996, and the results of their
operations and their cash flows for the years ended December 31, 1996 and 1995
in conformity with generally accepted accounting principles.
As described further in note 1 to the consolidated financial statements, the
common stock of Costain Coal Inc. and subsidiaries was acquired by Lodestar
Holdings, Inc. (formerly Rencoal, Inc.) on March 14, 1997.
KPMG PEAT MARWICK LLP
Louisville, Kentucky
April 24, 1997
F-2
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
DECEMBER 31,
1996
(IN
THOUSANDS,
EXCEPT
SHARE DATA)
<S> <C>
ASSETS
Current assets:
Cash............................................................................................. $ 8,314
Accounts receivable.............................................................................. 23,798
Due from affiliates.............................................................................. 10,687
Inventories...................................................................................... 10,980
Prepaid expenses and other current assets........................................................ 5,471
-------------
Total current assets........................................................................... 59,250
Property, plant and equipment, net................................................................. 116,094
Long-term due from Parent.......................................................................... 28,198
Other assets....................................................................................... 4,816
-------------
$ 208,358
-------------
-------------
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Short-term notes payable......................................................................... $ 116
Current installments of long-term debt........................................................... 102
Current installments of capital lease obligations................................................ 5,755
Accounts payable................................................................................. 45,955
Accrued expenses................................................................................. 40,573
-------------
Total current liabilities...................................................................... 92,501
Long-term obligations, excluding current installments.............................................. 16,820
Other non-current liabilities...................................................................... 65,371
-------------
Total liabilities.............................................................................. 174,692
-------------
Stockholder's equity:
Common stock, $.01 par value. Authorized 1,000 shares, issued and outstanding 100 shares......... 1
Additional paid-in capital....................................................................... 271,011
Accumulated deficit.............................................................................. (236,693)
Pension liability adjustment..................................................................... (653)
-------------
Total stockholder's equity..................................................................... 33,666
Commitments and contingencies......................................................................
-------------
$ 208,358
-------------
-------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER
31,
----------------------
<S> <C> <C>
1996 1995
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Coal sales and related revenue.......................................................... $ 255,386 $ 308,370
Operating costs:
Cost of revenues...................................................................... 257,269 255,859
Depreciation, depletion and amortization.............................................. 22,714 30,832
General and administrative............................................................ 14,270 11,677
---------- ----------
294,253 298,368
---------- ----------
Operating income (loss)............................................................. (38,867) 10,002
Other income (deductions):
Interest income....................................................................... 2,101 --
Interest expense...................................................................... (4,902) (4,436)
Minority interest in net earnings..................................................... -- (658)
Asset write-downs and provisions...................................................... -- (39,642)
Profit on disposal of Dolet Hills..................................................... -- 44,008
---------- ----------
(2,801) (728)
---------- ----------
Income (loss) before income taxes................................................... (41,668) 9,274
Income taxes............................................................................ -- 3,279
---------- ----------
Net income (loss)................................................................... $ (41,668) $ 5,995
---------- ----------
---------- ----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL DEFICIT PENSION TOTAL
COMMON PAID-IN (IN LIABILITY STOCKHOLDER'S
STOCK CAPITAL THOUSANDS) ADJUSTMENT EQUITY
<S> <C> <C> <C> <C> <C>
Balances at January 1, 1995..................... $ 1 $ 271,011 $ (201,020) $ -- $ 69,992
Net income...................................... -- -- 5,995 -- 5,995
Pension adjustment.............................. -- -- -- (287) (287)
--- ---------- ------------- ----- ------------
Balances at December 31, 1995................... 1 271,011 (195,025) (287) 75,700
Net loss........................................ -- -- (41,668) -- (41,668)
Pension adjustment.............................. -- -- -- (366) (366)
--- ---------- ------------- ----- ------------
Balances at December 31, 1996................... $ 1 $ 271,011 $ (236,693) $ (653) $ 33,666
--- ---------- ------------- ----- ------------
--- ---------- ------------- ----- ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------
<S> <C> <C>
1996 1995
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Net cash provided by (used in) operating activities:
Net income (loss)....................................................................... $ (41,668) $ 5,995
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating
activities:
Asset write-downs and provisions...................................................... -- 39,642
Depreciation, depletion and amortization.............................................. 22,714 30,832
(Gain) loss on sale/disposal of property, plant and equipment, net.................... 2,665 (1,290)
Profit on disposal of DHMV............................................................ -- (44,008)
Minority interest in net earnings..................................................... -- 658
Changes in working capital accounts..................................................... 20,965 (25,927)
(Increase) decrease in other assets..................................................... 505 (2,273)
Increase (decrease) in non-current liabilities.......................................... 7,791 (9,920)
----------- ----------
Net cash provided by (used in) operating activities................................. 12,972 (6,291)
----------- ----------
----------- ----------
Cash flows from investing activities:
Capital expenditures.................................................................. (10,705) (5,785)
Proceeds from sale of businesses...................................................... -- 61,176
Proceeds from sales of property, plant and equipment.................................. 305 4,180
----------- ----------
Net cash provided by (used in) investing activities................................. (10,400) 59,571
----------- ----------
Cash flows from financing activities:
Principal payments on long-term obligations........................................... (5,400) (5,415)
Proceeds from short-term notes payable................................................ 116 --
Distributions to minority interest.................................................... -- (640)
Net change in long-term due from Parent............................................... (6,780) (47,254)
----------- ----------
Net cash used in financing activities............................................... (12,064) (53,309)
----------- ----------
Net decrease in cash.................................................................... (9,492) (29)
Cash at beginning of year............................................................... 17,806 17,835
----------- ----------
Cash at end of year..................................................................... $ 8,314 $ 17,806
----------- ----------
----------- ----------
Supplemental cash flow disclosures:
Interest paid......................................................................... $ 4,962 $ 4,450
----------- ----------
----------- ----------
Income taxes paid..................................................................... $ 2,089 $ 2,058
----------- ----------
----------- ----------
Minimum pension liability increase.................................................... $ 366 $ 287
----------- ----------
----------- ----------
Equipment acquired through capital lease.............................................. $ -- $ 14,709
----------- ----------
----------- ----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996 AND 1995
(IN THOUSANDS)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) DESCRIPTION OF BUSINESS
Costain Coal Inc. and its subsidiaries (the Company) consist of a number of
coal mining operations in Kentucky and West Virginia. Operations in Alabama and
Louisiana were sold in 1995.
(b) OWNERSHIP, PRINCIPLES OF CONSOLIDATION AND VALUATION
At December 31, 1996, the Company was a wholly-owned subsidiary of Costain
America Inc. (CAI). CAI is a wholly-owned subsidiary of Costain USA Inc. (CUSA),
a holding company owned 100% by Costain Group PLC (Group). All significant
intercompany accounts and transactions have been eliminated in consolidation.
All dollar amounts are presented in thousands unless otherwise noted.
In 1994, the Company decided to sell all of its coal mining business.
Following detailed negotiations, the Company reached agreement on January 18,
1995 on the sale of its 80% interest in Dolet Hills Mining Venture (DHMV) to its
joint venture partner for a total consideration of approximately $61.0 million,
subject to certain adjustments. The 1995 consolidated financial statements
include the Company's 80% interest in DHMV through March 24, 1995, the closing
date of its sale.
Apart from DHMV, however, no satisfactory offer was received for the
remainder of the coal mining business at that point in time. Accordingly, CAI
decided that, for the time being, it would be in CAI's best interest to retain
and operate the Company.
In December 1995, the Company sold its Alabama coal operations for $2.0
million with $1 million payable in 24 monthly installments commencing January
31, 1996.
Following a significant improvement in operating performance, the successful
sales of DHMV and the Alabama operations, and in response to inquiries from
potential purchasers, CAI again entered into discussions during 1996 with
potential buyers for the coal mining business. Following extensive negotiations
and due diligence by prospective buyers, further write-downs and provisions of
$39,642 at December 31, 1995 were made to recognize management's estimate of the
ultimate realization from the sale of the Company. These write-downs and
provisions are more fully described in note 9.
Pursuant to the Stock Purchase Agreement between Costain America Inc. and
Lodestar Holdings, Inc. (formerly Rencoal, Inc.) dated November 8, 1996, as
amended by the Supplemental Agreement dated February 13, 1997, the Company's
common stock was acquired by Lodestar Holdings, Inc. on March 14, 1997. Certain
liabilities of the Company were not acquired in the transaction and were
transferred to CAI.
(c) INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined on
an average basis for coal and on the first-in, first-out basis for materials and
supplies.
(d) REVENUE RECOGNITION
The Company recognizes revenues upon shipments of coal and upon receipt of
coal ash. Revenues are primarily generated from shipments to customers
throughout the United States.
F-7
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(e) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost and, where appropriate,
written down to realizable value. Equipment under capital leases is stated at
the present value of minimum lease payments at the inception of the lease. In
addition, the Company capitalizes expenditures incurred during the acquisition,
exploration, and development phase of mining operations. As part of the overall
asset write-downs at December 31, 1995 (see note 9), the value of certain
property, plant and equipment was reduced.
Depreciation of property, plant and equipment is provided using the
straight-line method over their estimated useful lives as follows: buildings and
improvements, 6-15 years; mining equipment, 3-5 years; preparation plant and
machinery, 3-7 years; and transportation equipment and other, 7-15 years.
Depletion and amortization of land and mineral rights and deferred development
costs are provided using the units-of-production method based on the estimated
recoverable reserves. Equipment held under capital leases is amortized
straight-line over the shorter of the lease term or estimated useful life of the
asset.
The Company adopted the provisions of Statement of Financial Accounting
Standard (SFAS) No. 121, ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND
FOR LONG-LIVED ASSETS TO BE DISPOSED OF, on January 1, 1996. This Statement
required that long-lived assets and certain identifiable intangibles be reviewed
for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability of assets to
be held and used is measured by a comparison of the carrying amount of an asset
to future net cash flows expected to be generated by the asset. If such assets
are considered to be impaired, the impairment to be recognized is measured by
the amount by which the carrying amount of the assets exceed the fair value of
the assets. Assets to be disposed of are reported at the lower of the carrying
amount or fair value less costs to sell. Adoption of this Statement did not have
a material impact on the Company's financial position, results of operations, or
liquidity.
(f) INCOME TAXES
Results of operations of the Company have been included in the consolidated
Federal income tax return of CUSA.
The Company's consolidated provision and actual cash payments for U.S.
federal income taxes are allocated between CUSA and all of its subsidiaries in
accordance with the Company's tax allocation policy and have been reflected in
the Company's consolidated financial statements. In general, the consolidated
tax provision and related tax payments or refunds are allocated between the
companies, for financial statement purposes, based principally upon the
financial income, taxable income, credits and other amounts directly related to
the respective company as calculated on a separate return basis.
(g) WORKERS' COMPENSATION AND BLACK LUNG EXPENSE
The cost of workers' compensation and black lung expense is based on
historical claims experience and periodic actuarial studies of workers'
compensation and black lung claims incurred and reported and incurred but not
reported. The black lung valuation methods project the ultimate expected numbers
of state and federal black lung claims from current working population, and
based on the combined projected cost of such claims, estimates and annual costs
with the goal of fully funding all future claims within the expected period of
mining operations.
F-8
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(h) RECLAMATION
The cost of final reclamation of active mining areas is accrued over the
life of the mine based on the units-of-production method. Reclamation performed
during mining operations is expensed as incurred.
(i) BENEFIT PLANS
The Company sponsors a defined benefit pension plan covering certain
employees and a defined contribution benefit plan covering substantially all of
its employees (see note 8).
(j) USE OF ESTIMATES
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent liabilities to prepare these financial statements in conformity with
generally accepted accounting principles. Actual results could differ from those
estimates.
(2) INVENTORIES
Inventories consist of the following at December 31, 1996:
<TABLE>
<S> <C>
Coal....................................................................... $ 4,782
Materials and supplies..................................................... 6,198
---------
$ 10,980
---------
---------
</TABLE>
(3) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are summarized as follows at December 31,
1996:
<TABLE>
<S> <C>
Land and mineral rights................................................... $ 45,772
Buildings and improvements................................................ 45,757
Machinery and equipment................................................... 132,249
Deferred development costs................................................ 10,044
Transportation equipment and other........................................ 3,803
---------
237,625
Less accumulated depreciation, depletion and amortization................. 121,531
---------
Property, plant and equipment, net.................................... $ 116,094
---------
---------
</TABLE>
F-9
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(4) LONG-TERM DEBT
Long-term debt at December 31, 1996 consists of the following:
<TABLE>
<S> <C>
Miscellaneous notes payable maturing through 2002, at interest rates ranging
from 0% to 10%............................................................. $ 182
Less current installments.................................................... 102
---------
Long-term debt, excluding current installments............................... $ 80
---------
---------
</TABLE>
The aggregate maturities of long-term debt for each of the five years
subsequent to December 31, 1996, and thereafter, are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31:
<S> <C>
1997............................................................................................ $ 102
1998............................................................................................ 25
1999............................................................................................ 15
2000............................................................................................ 15
2001............................................................................................ 15
Thereafter...................................................................................... 10
---------
$ 182
---------
---------
</TABLE>
(5) LEASES
The Company is obligated under various capital leases for equipment that
expire at various dates through 2001.
Amortization of assets held under capital leases is included in
depreciation, depletion, and amortization. The total accumulated amortization of
leased property under capital leases was $9,185 and $9,537 at December 31, 1996
and 1995, respectively.
The Company also has several noncancelable operating leases, primarily for
mining and transportation equipment, administrative facilities, and office
equipment. These leases expire at various dates through 2011. Rental expense for
operating leases (except those with lease terms of one year or less that were
not renewed) during 1996 and 1995 was $10,791 and $9,120, respectively.
F-10
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(5) LEASES (CONTINUED)
Future minimum lease payments under noncancelable operating leases and the
present value of net minimum capital lease payments as of December 31, 1996 are
as follows:
<TABLE>
<CAPTION>
CAPITAL OPERATING
YEAR ENDING DECEMBER 31: LEASES LEASES
<S> <C> <C>
1997.............................................................................. $ 7,822 $ 10,791
1998.............................................................................. 7,822 9,982
1999.............................................................................. 7,673 5,824
2000.............................................................................. 3,109 3,173
2001.............................................................................. 822 1,816
Thereafter........................................................................ -- 12,573
--------- -----------
Total minimum lease payments...................................................... 27,248 $ 44,159
-----------
-----------
Less amount representing interest (at rates ranging from 8.4% to 11.8%)........... 4,753
---------
Present value of net minimum capital lease payments............................... 22,495
Less current installments of capital lease obligations............................ 5,755
---------
Capital lease obligations, excluding current installments......................... $ 16,740
---------
---------
</TABLE>
(6) INCOME TAXES
Income tax expense (benefit) for the years ended December 31, 1996 and 1995
consists of:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER
31,
---------------------
<S> <C> <C>
1996 1995
Current........................................................................ $ -- $ 4,916
Deferred....................................................................... -- (1,637)
---------- ---------
$ -- $ 3,279
---------- ---------
---------- ---------
</TABLE>
Total income tax expense differs from the amount computed by applying the
Federal income tax rate of 35% to income (loss) before income taxes as a result
of the following:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER
31,
---------------------
<S> <C> <C>
1996 1995
Computed "expected" tax expense (benefit)...................................... $ (14,584) $ 3,246
Increase (reduction) in income taxes resulting from:
Excess of statutory over cost depletion........................................ -- (599)
State income taxes, net of Federal income tax benefit.......................... (295) 3,164
Increase (decrease) in valuation allowance..................................... 22,978 (7,033)
Change in operating loss carryforward.......................................... (4,077) 4,006
Other, net..................................................................... (4,022) 495
---------- ---------
Total income tax expense....................................................... $ -- $ 3,279
---------- ---------
---------- ---------
</TABLE>
F-11
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(6) INCOME TAXES (CONTINUED)
The significant components of deferred income tax expense (benefit) for the
years ended December 31, 1996 and 1995 are as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER
31,
---------------------
<S> <C> <C>
1996 1995
Deferred tax expense (benefit) (exclusive of the effects of other components
listed below)................................................................ $ (22,978) $ 5,396
Increase (decrease) in beginning-of-the-year balance of the valuation allowance
for deferred tax assets...................................................... 22,978 (7,033)
---------- ---------
$ -- $ (1,637)
---------- ---------
---------- ---------
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and liabilities at December 31, 1996 are
presented below:
<TABLE>
<S> <C>
Deferred tax assets:
Net operating loss carryforwards........................................... $ 37,730
Accrued reclamation liabilities............................................ 5,634
Other accrued liabilities.................................................. 31,174
Depreciation and depletion................................................. 20,087
---------
Total gross deferred tax assets............................................ 94,625
Less valuation allowance................................................... (94,625)
---------
Net deferred tax assets.................................................... $ --
---------
---------
</TABLE>
The valuation allowance for deferred tax assets as of January 1, 1996 was
$71,647. The increase in the total valuation allowance for the year ended
December 31, 1996 was $22,978. In assessing the realizability of deferred tax
assets, management considers whether it is more likely than not that some
portion or all of the deferred tax assets will not be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future
taxable income during the periods in which those temporary differences become
deductible.
Management considers projected future taxable income and tax planning
strategies in making this assessment. Based upon the level of historical taxable
income and projections for future taxable income over the periods in which the
deferred tax assets are deductible, management believes it is more likely than
not the Company will realize the benefits of those deductible differences, net
of the existing valuation allowance at December 31, 1996.
At December 31, 1996, the Company has net operating loss carryforwards for
Federal income tax purposes of approximately $218,795 as calculated on a
consolidated return basis. The Company has net operating loss carryforwards for
Federal income tax purposes of approximately $107,800 on a separate return
basis. The net operating loss carryforwards expire at various times from
1997-2010.
During 1996 the Company experienced a change of ownership as defined in
Internal Revenue Code section 382. This resulted in significant restrictions on
the Company's ability to use tax attribute carryforwards.
F-12
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(7) MINORITY INTEREST
The Company's 80% interest in DHMV was sold in March 1995. The minority
interest share of net earnings of DHMV was $658 for the year ended December 31,
1995.
(8) BENEFIT PLAN
The Company maintains a defined benefit pension plan at one of its
operations which covers substantially all the employees at that location. The
plan provides specified pension benefits based on the employees' years of
service. Contributions to the plan are actuarially determined to provide the
plan with sufficient assets to meet future benefit payment requirements. The
plan's assets consist primarily of investments in intermediate term fixed income
loans and private placement bonds and mortgages. The plan has approximately
1,100 participants at December 31, 1996.
The funded status of the plan and the amounts recognized in the Company's
consolidated balance sheet at December 31, 1996 are as follows:
<TABLE>
<S> <C>
Actuarial present value of benefit obligations:
Vested benefit obligation................................................ $ (9,144)
---------
---------
Accumulated benefit obligation........................................... $ (9,364)
---------
---------
Projected benefit obligation............................................. $ (9,364)
Plan assets at fair value................................................ 7,306
---------
Projected benefit obligation in excess of plan assets.................. (2,058)
Unrecognized net (gain) loss........................................... 653
Prior service cost not yet recognized in net periodic pension cost..... 54
Unrecognized net obligation at July 31, 1989 being recognized over 15
years................................................................ 309
---------
Pension liability included in accrued expenses......................... (1,042)
Adjustment required to recognize minimum liability....................... (1,016)
---------
Total pension liability recognized in consolidated balance sheet......... $ (2,058)
---------
---------
</TABLE>
Net pension costs for the plan for 1996 and 1995 consist of the following:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER
31,
--------------------
<S> <C> <C>
1996 1995
--------- ---------
Service costs--benefits earned during the period.................................................. $ 463 $ 387
Interest cost on projected benefit obligation..................................................... 505 656
Actual return on plan assets...................................................................... (486) (749)
Net amortization and deferral..................................................................... 15 263
--------- ---------
Net pension plan expense...................................................................... $ 497 $ 557
--------- ---------
--------- ---------
</TABLE>
The weighted-average discount rates used to determine the actuarial present
value of the projected benefit obligations were 7.5% for 1996 and 6.0% for 1995.
The expected long-term rate of return on assets was 7.5% for 1996 and 1995.
F-13
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(8) BENEFIT PLAN (CONTINUED)
In 1996 and 1995, as required by SFAS No. 87, the Company recorded
adjustments to the pension liability adjustment to reflect the changes in
accumulated benefits over the fair value of pension assets for the defined
benefit plan. To the extent that the accumulated benefits exceed related
unrecognized prior service cost and the transition obligation, the net change in
the liability is charged directly to stockholder's equity. The maximum
intangible asset to offset the $1,016 and $704 additional liability in 1996 and
1995, respectively, is $363 and $417. The difference of $653 and $287 is charged
to stockholder's equity for 1996 and 1995, respectively.
The Company also maintains a defined contribution plan which covers all
employees meeting certain eligibility requirements. Contributions to plan
expensed in 1996 and 1995 were $1,680 and $1,216 respectively.
(9) ASSET WRITE-DOWNS
In 1994, the Company recorded write-downs of certain assets and
reassessments of certain liabilities resulting from the Company's reassessment
of anticipated business activity in light of the economic environment in the
coal industry (see note 1). The provision in 1995 recognized management's
estimate at July 31, 1996, of the ultimate realization from the sale of the
Company. These amounts consisted of the following:
<TABLE>
<S> <C>
Property, plant and equipment:
Land and mineral rights............................................................ $ 1,400
Machinery and equipment............................................................ 29,842
---------
31,242
Other noncurrent liabilities....................................................... 8,400
---------
$ 39,642
---------
---------
</TABLE>
(10) FAIR VALUE OF FINANCIAL INSTRUMENTS
At December 31, 1996, the carrying amounts of accounts receivable, due from
affiliates, accounts payable, and accrued expenses approximate fair value
because of the short maturity of these instruments.
The fair value of long-term due from Parent approximates its carrying value.
The fair value of long-term obligations, using current rates available to
the Company, approximates their carrying value.
(11) RELATED PARTY TRANSACTIONS
Following the sale of the Company's 80% interest in DHMV in March 1995, the
Company repaid its intercompany loan with CAI and advanced that company
operating funds in the normal course of business. The long-term amount due from
CAI at December 31, 1996 was $28,198. This amount bears interest at 8%. There is
no specified maturity date on the loan to CAI. Due from affiliates consists of
net amounts due from CAI of $3,287, and amounts due from CUSA of $7,400 at
December 31, 1996.
F-14
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(12) COMMITMENTS AND CONTINGENCIES
The Company and its subsidiaries have future minimum royalty payments which
represent advance royalty obligations; these are generally recoupable against
royalty payments otherwise due based on production. The future minimum royalty
payments are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31:
<S> <C>
1997......................................................................................... $ 2,946
1998......................................................................................... 2,760
1999......................................................................................... 2,350
2000......................................................................................... 2,067
2001......................................................................................... 1,760
Thereafter................................................................................... 8,805
---------
$ 20,688
---------
---------
</TABLE>
The Company and certain subsidiaries are involved in a number of legal
actions, which, if adverse judgments are ultimately awarded, may individually or
in the aggregate have a material adverse effect on the Company's consolidated
financial position and results of operations. With respect to each of these
proceedings, based on the advice of outside counsel and consideration of the
facts at hand, it is the opinion of the Company's management that the ultimate
disposition of the litigation will not have a material adverse effect on the
Company's consolidated financial position or results of operations.
(13) SIGNIFICANT CUSTOMERS
The Company makes a significant portion of its sales to three customers.
Sales to these three customers totaled approximately $74,000, or 29% (11%, 10%
and 8% respectively) of total sales in 1996. Accounts receivable from these
customers totaled $7,955 at December 31, 1996.
The Company made a significant portion of its sales to two customers in
1995. Sales to these two customers totaled approximately $68,000 or 22% (15% and
7% respectively) of total sales in 1995.
F-15
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(14) ACCRUED EXPENSES AND OTHER NON-CURRENT LIABILITIES
<TABLE>
<S> <C>
Accrued expenses consist of the following at December 31, 1996:
Accrued royalties........................................................ $ 9,577
Accrued taxes............................................................ 6,006
Workers' compensation and black lung liability........................... 4,741
Other.................................................................... 20,249
---------
$ 40,573
---------
---------
Other non-current liabilities consist of the following at December 31,
1996:
Accrued royalties........................................................ $ 16,268
Accrued reclamation costs................................................ 18,039
Workers' compensation and black lung liability........................... 19,453
Other.................................................................... 11,611
---------
$ 65,371
---------
---------
</TABLE>
(15) SUMMARIZED FINANCIAL INFORMATION
The following provides the Company's unaudited condensed financial
information as of and for the ten months ended October 31, 1996:
CONDENSED CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
OCTOBER 31,
1996
(IN
THOUSANDS)
(UNAUDITED)
<S> <C>
ASSETS
Cash..................................................................................... $ 4,865
Accounts receivable...................................................................... 29,759
Due from related parties................................................................. 39,379
Inventories.............................................................................. 12,155
Other assets............................................................................. 128,298
-------------
Total assets......................................................................... $ 214,456
-------------
-------------
LIABILITIES AND STOCKHOLDER'S EQUITY
Accounts payable......................................................................... $ 38,891
Accounts expenses........................................................................ 46,355
Long-term obligations.................................................................... 23,806
Other non-current liabilities............................................................ 65,753
Stockholder's equity..................................................................... 39,651
-------------
Total liabilities and stockholder's equity........................................... $ 214,456
-------------
-------------
</TABLE>
F-16
<PAGE>
COSTAIN COAL INC. AND SUBSIDIARIES
(A WHOLLY-OWNED SUBSIDIARY OF COSTAIN AMERICA INC.
AND THE PREDECESSOR TO LODESTAR ENERGY, INC.)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(15) SUMMARIZED FINANCIAL INFORMATION (CONTINUED)
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
TEN MONTHS
ENDED
OCTOBER 31,
1996
(IN THOUSANDS)
(UNAUDITED)
<S> <C>
Coal sales and related revenue......................................................... $ 218,476
---------------
Operating costs:
Cost of revenues..................................................................... 220,891
Depreciation, depletion and amortization............................................. 19,420
General and administrative........................................................... 11,963
---------------
252,274
---------------
Operating loss..................................................................... (33,798)
Interest expense, net.................................................................. (2,251)
---------------
Net loss............................................................................... $ (36,049)
---------------
---------------
</TABLE>
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
TEN MONTHS
ENDED
OCTOBER 31,
1996
(IN THOUSANDS)
(UNAUDITED)
<S> <C>
Net cash provided by operating activities:
Net loss............................................................................... $ (36,049)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation, depletion and amortization............................................. 19,420
Changes in working capital accounts.................................................... 15,436
Decrease in other assets............................................................... 4,320
Increase in other non-current liabilities.............................................. 8,539
---------------
Net cash provided by operating activities.......................................... 11,666
---------------
Cash flows from investing activities:
Capital expenditures................................................................. (8,885)
---------------
Net cash used in investing activities.............................................. (8,885)
---------------
Cash flows from financing activities:
Principal payments on long-term obligations.......................................... (4,387)
Proceeds from notes payable.......................................................... 116
Net change in due from related parties............................................... (11,451)
---------------
Net cash used in financing activities.............................................. (15,722)
---------------
Net decrease in cash................................................................... (12,941)
Cash at beginning of period............................................................ 17,806
---------------
Cash at end of period.................................................................. $ 4,865
---------------
---------------
</TABLE>
F-17
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
Lodestar Holdings, Inc.:
We have audited the accompanying consolidated balance sheet of Lodestar
Holdings, Inc. and subsidiaries (the Company) as of October 31, 1997 and the
related consolidated statements of operations, stockholder's equity, and cash
flows for the period from March 15, 1997 to October 31, 1997 (Successor Period),
and the consolidated statements of operations, stockholder's equity, and cash
flows for the period from January 1, 1997 to March 14, 1997 (Predecessor Period)
of Costain Coal Inc. and subsidiaries (the Predecessor). These consolidated
financial statements are the responsibility of the Companies' management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the aforementioned Company consolidated financial statements
present fairly, in all material respects, the financial position of Lodestar
Holdings, Inc. and subsidiaries as of October 31, 1997 and the results of their
operations and their cash flows for the Successor Period, in conformity with
generally accepted accounting principles. Further, in our opinion, the
aforementioned Predecessor consolidated financial statements present fairly, in
all material respects, the results of operations, and cash flows of Costain Coal
Inc. and subsidiaries for the Predecessor Period, in conformity with generally
accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, effective
March 15, 1997, Lodestar Holdings, Inc. (formerly Rencoal, Inc.) acquired all of
the outstanding stock of Costain Coal Inc. in a business combination accounted
for as a purchase. As a result of the acquisition, the consolidated financial
information for the period after the acquisition is presented on a different
cost basis than that for the period before the acquisition and, therefore, is
not comparable.
KPMG PEAT MARWICK LLP
Louisville, Kentucky
January 14, 1998
F-18
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
OCTOBER 31,
1997
-------------
<S> <C>
(IN
THOUSANDS,
EXCEPT SHARE
DATA)
ASSETS
Current assets:
Cash............................................................................................. $ 3,055
Accounts receivable.............................................................................. 37,412
Inventories...................................................................................... 11,604
Prepaid expenses and other current assets........................................................ 4,859
-------------
Total current assets......................................................................... 56,930
Property, plant and equipment, net................................................................. 84,541
Coal and ash disposal contracts in excess of market, net of accumulated amortization of $1,945..... 44,856
Other assets....................................................................................... 14,121
-------------
$ 200,448
-------------
-------------
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Current installments of long-term debt........................................................... $ 4,000
Current installments of capital lease obligations................................................ 6,603
Due to related party............................................................................. 3,000
Accounts payable................................................................................. 43,062
Accrued expenses................................................................................. 31,689
-------------
Total current liabilities.................................................................... 88,354
Long-term obligations, excluding current installments.............................................. 47,953
Due to related party............................................................................... 2,000
Other non-current liabilities...................................................................... 61,078
-------------
Total liabilities............................................................................ 199,385
-------------
Stockholder's equity:
Common stock, $1.00 par value. Authorized, issued and outstanding 1,000 shares................... 1
Additional paid-in capital....................................................................... 5,000
Accumulated deficit.............................................................................. (3,938)
-------------
Total stockholder's equity................................................................... 1,063
Commitments and contingencies......................................................................
-------------
$ 200,448
-------------
-------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-19
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
THE THE
COMPANY PREDECESSOR
<S> <C> <C>
<CAPTION>
MARCH 15, JANUARY 1,
1997 TO 1997 TO
OCTOBER 31, MARCH 14,
1997 1997
<S> <C> <C>
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Coal sales and related revenue.......................................................... $ 173,881 $ 46,486
Operating costs:
Cost of revenues...................................................................... 150,716 44,676
Depreciation, depletion and amortization.............................................. 14,276 4,749
General and administrative............................................................ 6,823 2,190
----------- -----------
171,815 51,615
----------- -----------
Operating income (loss)............................................................. 2,066 (5,129)
Interest expense, net................................................................. (6,004) (809)
----------- -----------
Loss before income taxes............................................................ (3,938) (5,938)
Income taxes............................................................................ -- --
----------- -----------
Net loss............................................................................ $ (3,938) $ (5,938)
----------- -----------
----------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-20
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
<TABLE>
<CAPTION>
ADDITIONAL PENSION TOTAL
COMMON PAID-IN ACCUMULATED LIABILITY STOCKHOLDER'S
STOCK CAPITAL DEFICIT ADJUSTMENT EQUITY
<S> <C> <C> <C> <C> <C>
(IN THOUSANDS)
THE PREDECESSOR
Balance at January 1, 1997........................ $ 1 $ 271,011 $ (236,693) $ (653) $ 33,666
Net loss.......................................... -- -- (5,938) -- (5,938)
--- ---------- ------------ ----- ------------
Balance at March 14, 1997......................... $ 1 $ 271,011 $ (242,631) $ (653) $ 27,728
--- ---------- ------------ ----- ------------
--- ---------- ------------ ----- ------------
- ----------------------------------------------------------------------------------------------------------------------
THE COMPANY
Balance at March 15, 1997......................... $ -- $ -- $ -- $ -- $ --
Initial Company capitalization.................... 1 5,000 -- -- 5,001
Net loss.......................................... -- -- (3,938) -- (3,938)
--- ---------- ------------ ----- ------------
Balance at October 31, 1997....................... $ 1 $ 5,000 $ (3,938) $ -- $ 1,063
--- ---------- ------------ ----- ------------
--- ---------- ------------ ----- ------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-21
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
THE THE
COMPANY PREDECESSOR
<S> <C> <C>
<CAPTION>
MARCH 15, JANUARY 1,
1997 TO 1997 TO
OCTOBER 31, MARCH 14,
1997 1997
<S> <C> <C>
<CAPTION>
(IN THOUSANDS)
<S> <C> <C>
Net cash used in operating activities:
Net loss................................................................................ $ (3,938) $ (5,938)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation, depletion and amortization.............................................. 14,276 4,749
Amortization of deferred financing fees............................................... 396 --
Inputed interest...................................................................... 1,406 --
Changes in operating assets and liabilities:
Accounts receivable................................................................. (18,865) 5,311
Due from affiliates................................................................. -- 2,679
Inventories......................................................................... 849 (2,979)
Prepaid expenses and other current assets........................................... 753 (655)
Other assets........................................................................ (1,170) (148)
Accounts payable.................................................................... 2,857 (5,212)
Accrued expenses.................................................................... (6,613) 3,225
Other non-current liabilities....................................................... (4,945) (2,770)
----------- -----------
Net cash used in operating activities............................................. (14,994) (1,738)
----------- -----------
Cash flows from investing activities:
Payment for Stock Purchase, net of cash acquired...................................... (22,830) --
Capital expenditures.................................................................. (3,771) (1,149)
Proceeds from sales of property, plant and equipment.................................. 252 --
----------- -----------
Net cash used in investing activities............................................. (26,349) (1,149)
----------- -----------
Cash flows from financing activities:
Proceeds from long-term debt.......................................................... 41,152 --
Net change in long-term due from Costain America Inc.................................. -- 210
Principal payments on long-term obligations........................................... (4,852) (1,698)
Payments on short-term notes payable.................................................. -- (87)
Proceeds from related party borrowings................................................ 5,000 --
Initial company capitalization........................................................ 5,001 --
Financing fees paid................................................................... (1,903) --
----------- -----------
Net cash provided by (used in) financing activities............................... 44,398 (1,575)
----------- -----------
Net increase (decrease) in cash......................................................... 3,055 (4,462)
Cash at beginning of year............................................................... -- 8,314
----------- -----------
Cash at end of year..................................................................... $ 3,055 $ 3,852
----------- -----------
----------- -----------
Supplemental cash flow disclosures:
Interest paid......................................................................... $ 4,086 $ 587
----------- -----------
----------- -----------
Income taxes paid..................................................................... $ -- $ 1,500
----------- -----------
----------- -----------
Equipment acquired with note payable.................................................. $ -- $ 1,818
----------- -----------
----------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-22
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
OCTOBER 31, 1997
(IN THOUSANDS)
(1) ORGANIZATION AND BASIS OF PRESENTATION
(a) THE BUSINESS
Lodestar Holdings, Inc. (formerly Rencoal, Inc.) and its subsidiaries (the
Company), a wholly owned subsidiary of The Renco Group, Inc. (Renco), began
operations on March 15, 1997. The Company's principal operations consist of a
number of coal mining operations in Kentucky and West Virginia. Coal shipments
are made to a wide variety of utilities throughout the United States.
(b) STOCK PURCHASE
Pursuant to the Stock Purchase Agreement between Costain America Inc. and
the Company dated November 8, 1996, as amended by the Supplemental Agreement
dated February 13, 1997 (the Stock Purchase), the common stock of Costain Coal
Inc. and its subsidiaries (the Predecessor) was acquired by the Company for a
purchase price of $23,753 on March 14, 1997. Certain liabilities of the
Predecessor were not acquired in the transaction and were transferred to Costain
America Inc. The Company was also indemnified by Costain America Inc. with
regards to the outcome of certain Predecessor litigation. The acquisition of the
Predecessor was accounted for using the purchase method of accounting as
prescribed under Accounting Principles Board Opinion No. 16, "Business
Combinations". All debt and equity and operations acquired have been "pushed
down" to the Company, from the date of acquisition in the consolidated financial
statements.
(c) BASIS OF PRESENTATION
The accompanying consolidated financial statements present the Company's
consolidated financial position as of October 31, 1997 and its consolidated
results of operations and cash flows from the acquisition date of March 15, 1997
through October 31, 1997, and the consolidated operations and cash flows of the
Predecessor for the period January 1, 1997 through March 14, 1997.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) PRINCIPLES OF CONSOLIDATION
The consolidated financial statements for the period from March 15, 1997
through October 31, 1997 include the accounts of the Company. The consolidated
financial statements for the period from January 1, 1997 through March 14, 1997
include the accounts of Costain Coal Inc. and its subsidiaries, all of which are
wholly-owned. All significant intercompany accounts and transactions have been
eliminated in consolidation.
(b) INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined on
an average basis for coal and on the first-in, first-out basis for materials and
supplies.
F-23
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(c) REVENUE RECOGNITION
The Company recognizes revenues upon shipments of coal and upon receipt of
coal ash. Revenues are primarily generated from shipments to customers
throughout the United States.
(d) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost or allocated cost for those
assets acquired in the Stock Purchase. Equipment under capital leases is stated
at the present value of minimum lease payments at the inception of the lease. In
addition, the Company capitalizes expenditures incurred during the acquisition
and development phase of mining operations.
Depreciation of property, plant and equipment is provided using the
straight-line method over their estimated useful lives as follows: buildings and
improvements, 6-15 years; mining equipment, 3-5 years; preparation plant and
machinery, 3-7 years; and transportation equipment and other, 7-15 years.
Depletion and amortization of land and mineral rights and deferred development
costs are provided using the units-of-production method based on the estimated
recoverable reserves. Equipment held under capital leases is amortized
straight-line over the shorter of the lease term or estimated useful life of the
asset.
In accordance with Statement of Financial Accounting Standard No. 121, the
recoverability of assets to be held and used is measured by a comparison of the
carrying amount of an asset to future net cash flows expected to be generated by
the asset. If such assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying amount of the assets
exceed the fair value of the assets. Assets to be disposed of are reported at
the lower of the carrying amount or fair value less costs to sell. No impairment
losses were recorded in the period from March 15, 1997 through October 31, 1997.
(e) INTANGIBLE ASSETS
The Company has certain contracts to sell coal and dispose of coal ash at
prices in excess of current market prices. These contracts, which were acquired
as part of the Stock Purchase, are for varying periods of time, with the last
contract expiring in the year 2025. These contracts were valued at the
acquisition date at the present value of expected profits from sales under these
contracts in excess of those that would be earned if sales were made at the then
prevailing market prices. These contracts are being amortized using the
straight-line method over the lives of the contracts.
Goodwill, which represents the excess of purchase price over the fair value
of net assets acquired, is amortized on a straight-line basis over the expected
period to be benefited of 15 years. Goodwill net of accumulated amortization,
was $7,308 at October 31, 1997 and is included in other assets.
The Company assesses the recoverability of intangible assets by a comparison
of the carrying amounts of such assets to future net cash flows expected to be
generated by the assets. If such assets are considered to be impaired, the
impairment recognized is measured by the amount by which the carrying amount of
the assets exceeds the fair value of the assets. No impairment losses were
recorded in the period from March 15, 1997 through October 31, 1997.
F-24
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
(f) INCOME TAXES
The Company is included in the consolidated federal income tax return of
Renco. Under the terms of the tax sharing agreement among Renco and its
subsidiaries, income taxes are allocated to the Company on a separate return
basis, except that transactions between the Company, Renco and Renco's other
subsidiaries are accounted for on a cash basis and the Company does not receive
the benefit of net operating loss carryforwards, unless such loss carryforwards
were a result of temporary differences between the Company's accounting for tax
and financial reporting purposes.
The results of operations of the Predecessor were included in the
consolidated federal income tax return of Costain USA Inc. (the 100% owner of
Costain America Inc.).
Income taxes are determined under the asset and liability method. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between financial statement carrying amounts of
existing assets and liabilities and their respective tax bases and operating
loss and tax credit carryforwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment date.
(g) WORKERS' COMPENSATION AND BLACK LUNG EXPENSE
The cost of workers' compensation and black lung expense is based on
historical claims experience and periodic actuarial studies of workers'
compensation and black lung claims incurred and reported and incurred but not
reported. The black lung valuation methods project the ultimate expected numbers
of state and federal black lung claims from current working population, and
based on the combined projected cost of such claims, estimates and annual costs
with the goal of fully funding all future claims within the expected period of
mining operations.
(h) RECLAMATION
The cost of final reclamation of active mining areas is accrued over the
life of the respective mines based on the units-of-production method.
Reclamation performed during mining operations is expensed as incurred.
(i) BENEFIT PLANS
The Company retained the Predecessor's defined benefit pension plan covering
certain employees and defined contribution benefit plan covering substantially
all of its employees (see note 8).
(j) USE OF ESTIMATES
Management of the Company and the Predecessor have made a number of
estimates and assumptions relating to the reporting of assets and liabilities
and the disclosure of contingent liabilities to prepare these consolidated
financial statements in conformity with generally accepted accounting
principles. Actual results could differ from those estimates.
F-25
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(3) INVENTORIES
Inventories consist of the following at October 31, 1997:
<TABLE>
<S> <C>
Coal............................................................... $ 8,360
Materials and supplies............................................. 3,244
---------
$ 11,604
---------
---------
</TABLE>
(4) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are summarized as follows at October 31:
<TABLE>
<S> <C>
Land and mineral rights............................................ $ 26,142
Buildings and improvements......................................... 873
Machinery and equipment............................................ 57,241
Deferred development costs......................................... 7,303
Transportation equipment and other................................. 4,890
---------
96,449
Less accumulated depreciation, depletion and amortization.......... 11,908
---------
Property, plant and equipment, net........................... $ 84,541
---------
---------
</TABLE>
(5) LONG-TERM DEBT
Long-term debt at October 31, 1997 consists of the following:
<TABLE>
<S> <C>
Revolving credit agreement, interest payable monthly at 3/4% above
prime (9.25% at October 31, 1997)................................ $ 13,495
Term loan payable in monthly installments of $292 plus interest at
1 3/4% above prime (10.25% at October 31, 1997).................. 22,657
Note payable in quarterly installments of $125 (final payment due
February, 2001) plus interest at the greater of 12.5% or an
indexed rate (12.5% at October 31, 1997)......................... 4,750
---------
Total long-term debt............................................... 40,902
Less current installments.......................................... 4,000
---------
Long-term debt, excluding current installments............... $ 36,902
---------
---------
</TABLE>
F-26
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(5) LONG-TERM DEBT (CONTINUED)
The aggregate maturities of long-term debt for each of the four years
subsequent to October 31, 1997 are as follows:
<TABLE>
<CAPTION>
YEAR ENDING OCTOBER 31:
<S> <C>
1998............................................................................... $ 4,000
1999............................................................................... 4,000
2000............................................................................... 29,652
2001............................................................................... 3,250
---------
$ 40,902
---------
---------
</TABLE>
The revolving credit agreement and term loan payable are provided through a
single lending agreement. This lending agreement allows for aggregate borrowings
of up to $60,000 and is available through March 14, 2000. The amount available
under the revolving credit agreement at any one time is determined based upon
inventory and accounts receivable levels, and the balance of the term loan and
letters of credit outstanding. The unborrowed portion available under the
revolving credit agreement as of October 31, 1997 was approximately $5,000. A
commitment fee of .5% of the average daily unborrowed portion is due monthly. On
December 6, 1997 the Company amended this credit agreement, increasing the
maximum aggregate borrowings available to $70,000.
The note payable, the revolving credit agreement and the term loan payable
are secured by substantially all assets of the Company.
The debt agreements include covenants as to maintenance of minimum working
capital, minimum net worth, the incurrence of other indebtedness, and
limitations on capital expenditures. The Company is in compliance with all debt
covenants at October 31, 1997.
(6) LEASES
The Company is obligated under various capital leases for equipment that
expire at various dates through 2001.
Amortization of assets held under capital leases is included in
depreciation, depletion, and amortization. The total accumulated amortization of
leased property under capital leases was $2,490 at October 31, 1997.
The Company also has several noncancelable operating leases, primarily for
mining and transportation equipment, administrative facilities, and office
equipment. These leases expire at various dates through 2012. Rental expense for
operating leases during the periods March 15, 1997 through October 31, 1997 and
January 1, 1997 through March 14, 1997 was $7,121 and $1,933, respectively.
F-27
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(6) LEASES (CONTINUED)
Future minimum lease payments under noncancelable operating leases and the
present value of net minimum capital lease payments as of October 31, 1997 are
as follows:
<TABLE>
<CAPTION>
CAPITAL OPERATING
YEAR ENDING OCTOBER 31: LEASES LEASES
<S> <C> <C>
1998.................................................................... $ 8,165 $ 10,111
1999.................................................................... 7,562 6,657
2000.................................................................... 3,765 3,530
2001.................................................................... 861 2,155
2002.................................................................... -- 1,535
Thereafter.............................................................. -- 11,438
--------- -----------
Total minimum lease payments............................................ 20,353 $ 35,426
-----------
-----------
Less amount representing interest (at rates ranging from 8.4% to
11.8%).................................................................. 2,699
---------
Present value of net minimum capital lease payments..................... 17,654
Less current installments of capital lease obligations 6,603
---------
Capital lease obligations, excluding current installments............... $ 11,051
---------
---------
</TABLE>
(7) INCOME TAXES
There was no current or deferred income tax expense (benefit) for the
periods from March 15, 1997 through October 31, 1997 and January 1, 1997 through
March 14, 1997.
Total income tax expense (benefit) differs from the amount computed by
applying the Federal income tax rate of 35% to loss before income taxes as a
result of the following:
<TABLE>
<CAPTION>
THE THE
COMPANY PREDECESSOR
<S> <C> <C>
--------------------------------
<CAPTION>
MARCH 15, JANUARY 1,
1997 TO 1997 TO
OCTOBER 31, MARCH 14,
1997 1997
<S> <C> <C>
Computed "expected" tax benefit............................. $ (1,378) $ (2,078)
Increase (reduction) in income taxes resulting from:
State income taxes, net of Federal income tax benefit....... (197) 774
Increase in valuation allowance............................. -- 1,304
Net operating loss for which no benefit is available........ 1,575 --
------- -------
Total income tax expense.................................... $ -- $ --
------- -------
------- -------
</TABLE>
F-28
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(7) INCOME TAXES (CONTINUED)
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and liabilities at October 31, 1997 are
presented below:
<TABLE>
<S> <C>
Deferred tax assets:
Accrued reclamation............................................. $ 4,887
Other accrued liabilities....................................... 9,790
Depreciation and depletion...................................... 6,830
---------
Total gross deferred tax assets............................. 21,507
Less valuation allowance.................................... 5,562
---------
Net deferred tax assets..................................... 15,945
---------
Deferred tax liabilities:
Coal and ash disposal contracts................................. (17,945)
---------
Net deferred tax liability (included in other non-current
liabilities).............................................. $ (2,000)
---------
---------
</TABLE>
There was no change in the valuation allowance for the periods March 15,
1997 to October 31, 1997 and January 1, 1997 to March 14, 1997. In assessing the
realizability of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred tax assets will not be
realized. The ultimate realization of deferred tax assets is dependent upon the
generation of future taxable income during the periods in which those temporary
differences become deductible.
Management considers the reversal of deferred tax liabilities, projected
future taxable income and tax planning strategies in making this assessment.
Based upon the level of historical taxable income and projections for future
taxable income over the periods in which the deferred tax assets are deductible,
management believes it is more likely than not the Company will realize the
benefits of those deductible differences, net of the existing valuation
allowance at October 31, 1997.
Subsequently recognized tax benefits relating to the valuation allowance for
deferred tax assets as of October 31, 1997 will be allocated to goodwill.
(8) BENEFIT PLANS
The Company's defined benefit pension plan provides specified pension
benefits based on the employees' years of service. Contributions to the plan are
actuarially determined to provide the plan with sufficient assets to meet future
benefit payment requirements. The plan's assets consist primarily of investments
in intermediate term fixed income loans and private placement bonds and
mortgages. The plan has approximately 1,100 participants at October 31, 1997.
F-29
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(8) BENEFIT PLANS (CONTINUED)
The funded status of the plan and the amounts recognized in the Company's
consolidated balance sheet at October 31, 1997 are as follows:
<TABLE>
<S> <C>
Actuarial present value of benefit obligations:
Vested benefit obligation........................................ $ (9,612)
---------
---------
Accumulated benefit obligation................................... $ (9,613)
---------
---------
Projected benefit obligation..................................... $ (9,613)
Plan assets at fair value........................................ 8,089
---------
Projected benefit obligation in excess of plan assets.......... (1,524)
Unrecognized net gain.......................................... (432)
---------
Pension liability included in accrued expenses................. $ (1,956)
---------
---------
</TABLE>
Net pension costs for the plan for the periods March 15, 1997 through
October 31, 1997 and January 1, 1997 through March 14, 1997 consist of the
following:
<TABLE>
<CAPTION>
THE THE
COMPANY PREDECESSOR
<S> <C> <C>
----------------------------
<CAPTION>
MARCH 15, JANUARY 1,
1997 TO 1997 TO
OCTOBER 31, MARCH 14,
1997 1997
<S> <C> <C>
Service costs--benefits earned during the period.................... $ 226 $ 71
Interest cost on projected benefit obligation....................... 442 140
Actual return on plan assets........................................ (445) (141)
Net amortization and deferral....................................... 122 39
----- ---
Net pension plan expense............................................ $ 345 $ 109
----- ---
----- ---
</TABLE>
The weighted-average discount rate used to determine the actuarial present
value of the projected obligations was 7.5% at October 31, 1997. The expected
long-term rate of return on assets was 7.5% at October 31, 1997.
The Company also retained a defined contribution plan of the Predecessor
which covers all employees meeting certain eligibility requirements.
Contributions expensed to this plan were $760 for the period March 15, 1997
through October 31, 1997 and $236 for the period January 1, 1997 through March
14, 1997.
(9) FAIR VALUE OF FINANCIAL INSTRUMENTS
At October 31, 1997, the carrying amounts of accounts receivable, accounts
payable, and accrued expenses approximate fair value because of the short
maturity of these instruments.
The fair value of long-term obligations, using current rates available to
the Company, approximates their carrying value.
F-30
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(10) RELATED PARTY TRANSACTIONS
The Company has a $3,000 non-interest bearing note payable to Renco for cash
provided during the period from March 15, 1997 through October 31, 1997. This
note is payable upon demand.
The Company also has a note payable in the amount of $2,000 to Renco. This
note is payable in full on March 1, 2001, and bears interest at a rate of
8 1/4%. Interest charges through October 31, 1997 were waived by Renco.
Renco provides certain management services to the Company as provided for
under a management agreement. Charges of $750, which would have been incurred in
accordance with this agreement were waived during the period from March 15, 1997
through October 31, 1997. Management believes that such costs approximate the
cost of comparable services which could be obtained from unaffiliated entities.
(11) COMMITMENTS AND CONTINGENCIES
The Company and its subsidiaries have future minimum royalty payments which
represent advance royalty obligations; these are generally recoupable against
royalty payments otherwise due based on production. The future minimum royalty
payments are as follows:
<TABLE>
<CAPTION>
YEAR ENDING OCTOBER 31:
<S> <C>
1998............................................................................... $ 2,904
1999............................................................................... 2,678
2000............................................................................... 2,399
2001............................................................................... 1,847
2002............................................................................... 1,686
Thereafter......................................................................... 6,669
---------
$ 18,183
---------
---------
</TABLE>
The Company and certain subsidiaries are involved in a number of legal
actions, which, if adverse judgments are ultimately awarded, may individually or
in the aggregate have a material adverse effect on the Company's consolidated
financial position and results of operations. With respect to each of these
proceedings, based on the advice of outside counsel and consideration of the
facts at hand, it is the opinion of the Company's management that the ultimate
disposition of the litigation will not have a material adverse effect on the
Company's consolidated financial position or results of operations.
The Company is required by certain third parties which have contractual
agreements with the Company, primarily governmental agencies that provide mining
permits, to maintain bonds. The Company has a bonding line of $85,000, of which
$17,000 was available at October 31, 1997. In support of the bonding line,
letters of credit in the amount of $16,000 were outstanding at October 31, 1997.
In addition, the bonding agent has a third priority security interest in
substantially all assets of the Company.
The Company has various other letters of credit outstanding in the amount of
approximately $3,000 at October 31, 1997.
F-31
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(12) SIGNIFICANT CUSTOMERS
The Company makes a significant portion of its sales to four customers.
Sales to these customers totaled approximately $53,000, or 30% (9%, 8%, 7% and
6% respectively) of total sales, for the period March 15, 1997 through October
31, 1997. Accounts receivable from these customers totaled $8,844 at October 31,
1997.
Likewise, the Predecessor made a significant portion of its sales to these
four customers. Sales to these customers totaled approximately $15,000 or 32%
(10%, 8%, 7% and 7% respectively) of total sales, for the period January 1, 1997
through March 14, 1997.
(13) ACCRUED EXPENSES AND OTHER NON-CURRENT LIABILITIES
Accrued expenses consist of the following at October 31, 1997:
<TABLE>
<S> <C>
Royalties.......................................................... $ 9,352
Taxes, other than income........................................... 4,444
Payroll and benefits............................................... 4,162
Workers' compensation and black lung............................... 3,717
Reclamation costs.................................................. 1,799
Other.............................................................. 8,215
---------
$ 31,689
---------
---------
</TABLE>
Other non-current liabilities consist of the following at October 31, 1997:
<TABLE>
<S> <C>
Royalties.......................................................... $ 15,991
Reclamation costs.................................................. 18,379
Workers' compensation and black lung............................... 19,929
Other.............................................................. 6,779
---------
$ 61,078
---------
---------
</TABLE>
F-32
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
JULY 31,
1998
(IN
THOUSANDS)
(UNAUDITED)
<S> <C>
ASSETS
Current assets:
Cash............................................................................................. $ 14,213
Accounts receivable.............................................................................. 32,522
Inventories...................................................................................... 12,433
Advanced royalties............................................................................... 4,038
Prepaid expenses and other current assets........................................................ 1,841
-------------
Total current assets........................................................................... 65,047
Property, plant and equipment, net................................................................. 99,053
Coal and ash disposal contracts in excess of market, net of accumulated
amortization of $4,273........................................................................... 42,528
Other assets....................................................................................... 17,721
-------------
Total assets................................................................................... $ 224,349
-------------
-------------
LIABILITIES AND STOCKHOLDER'S DEFICIT
Current liabilities:
Accounts payable................................................................................. $ 29,575
Accrued expenses................................................................................. 26,041
-------------
Total current liabilities...................................................................... 55,616
Long-term obligations, excluding current installments.............................................. 150,000
Other non-current liabilities...................................................................... 47,573
-------------
Total liabilities.............................................................................. 253,189
-------------
Stockholder's deficit:
Common stock, $1.00 par value. Authorized, issued and outstanding 1,000 shares................... 1
Additional paid-in capital....................................................................... 5,000
Accumulated deficit.............................................................................. (33,841)
-------------
Total stockholder's deficit.................................................................... (28,840)
-------------
Total liabilities and stockholder's deficit.................................................... $ 224,349
-------------
-------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-33
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
THE COMPANY THE PREDECESSOR COMPANY
NINE PERIOD NOVEMBER 1,
MONTHS MARCH 15, JANUARY 1, 1996 TO
ENDED 1997 TO 1997 TO DECEMBER
JULY 31, JULY 31, MARCH 14, 31,
1998 1997 1997 1996
--------- --------- ------------- -----------
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Coal sales and related revenue................. $ 199,657 $ 100,778 $ 46,486 $ 36,910
Operating costs:
Cost of revenues............................. 168,014 89,600 44,676 36,378
Depreciation, depletion and amortization..... 19,997 8,566 4,749 3,294
General and administrative................... 11,670 3,237 2,190 2,307
--------- --------- ------------- -----------
199,681 101,403 51,615 41,979
--------- --------- ------------- -----------
Operating loss............................. (24) (625) (5,129) (5,069)
Interest expense, net........................ 8,633 3,727 809 550
--------- --------- ------------- -----------
Loss before income taxes and extraordinary
items.................................... (8,657) (4,352) (5,938) (5,619)
Income taxes................................. -- -- -- --
--------- --------- ------------- -----------
Loss before extraordinary items............ (8,657) (4,352) (5,938) (5,619)
Extraordinary items.......................... 6,572 -- -- --
--------- --------- ------------- -----------
Net loss................................... $ (2,085) $ (4,352) $ (5,938) $ (5,619)
--------- --------- ------------- -----------
--------- --------- ------------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-34
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
THE COMPANY THE PREDECESSOR COMPANY
NOVEMBER 1,
NINE MONTHS MARCH 15, JANUARY 1, 1996 TO
ENDED 1997 TO 1997 TO DECEMBER
JULY 31, JULY 31, MARCH 14, 31,
1998 1997 1997 1996
----------- --------- ----------- -----------
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Net cash provided by (used in) operating
activities:
Net loss......................................... $ (2,085) $ (4,352) $ (5,938) $ (5,619)
Adjustment to reconcile net loss to net cash
used in operating activities:
Depreciation, depletion and amortization....... 19,997 8,566 4,749 3,294
(Gain) loss on sale of property, plant and
equipment.................................... (2) 42 -- 2,665
(Increase) decrease in working capital
accounts..................................... (16,847) (22,246) 2,282 5,529
(Increase) decrease in other assets............ 2,305 (884) (148) (3,815)
Increase (decrease) in non-current
liabilities.................................. (13,505) 105 (2,770) (748)
----------- --------- ----------- -----------
Net cash provided by (used in) operating
activities:.............................. (10,137) (18,769) (1,825) 1,306
----------- --------- ----------- -----------
Cash flows provided by (used in) investing
activities
Capital expenditures........................... (31,313) (3,409) (1,149) (1,820)
Proceeds from sales of property, plant and
equipment.................................... 282 -- -- 305
----------- --------- ----------- -----------
Net cash provided by (used in) investing
activities:.............................. (31,031) (3,409) (1,149) (1,515)
----------- --------- ----------- -----------
Cash flows provided by (used in) financing
activities:
Increase (decrease) in debt obligations........ (58,556) 20,985 (1,698) (1,013)
Proceeds from notes issuance................... 150,000 -- -- --
Increase (decrease) in due to related
parties...................................... (5,000) 73 210 4,671
Financing fees paid............................ (6,300) -- -- --
Dividends...................................... (27,818) -- -- --
----------- --------- ----------- -----------
Net cash provided by (used in) financing
activities:.............................. 52,326 21,058 (1,488) 3,658
----------- --------- ----------- -----------
Net increase (decrease) in cash.................. 11,158 (1,120) (4,462) 3,449
Cash at beginning of period...................... 3,055 3,852 8,314 4,865
----------- --------- ----------- -----------
Cash at end of period............................ $ 14,213 $ 2,732 $ 3,852 $ 8,314
----------- --------- ----------- -----------
----------- --------- ----------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-35
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1998
(IN THOUSANDS)
(1) ACCOUNTING POLICIES
Reference is made elsewhere in the document which includes additional
information about the Company, its operations and its consolidated financial
statements, and contains a summary of major accounting policies followed by the
Company in preparation of its consolidated financial statements. These policies
were also followed in preparing the quarterly condensed consolidated financial
statements included herein.
Management of the Company has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent liabilities to prepare these condensed consolidated financial
statements in conformity with generally accepted accounting principles. Actual
results could differ from those estimates. The management of the Company
believes that all adjustments necessary to make a fair statement of the results
in these interim periods have been made. All adjustments reflected in the
financial statements are of a normal recurring nature. Results for the nine
month period ended July 31, 1998 are not necessarily indicative of the results
to be expected for the full year.
Footnote disclosures exclude information that was disclosed in the audited
financial statements of the most recent fiscal year.
(2) INVENTORIES
Inventories consist of the following:
<TABLE>
<CAPTION>
JULY 31, OCTOBER 31,
1998 1997
<S> <C> <C>
(UNAUDITED) (AUDITED)
Coal.......................................... $ 9,727 $ 8,360
Materials and supplies........................ 2,706 3,244
------------ ---------------
Total inventories....................... $ 12,433 $ 11,604
------------ ---------------
------------ ---------------
</TABLE>
(3) LONG-TERM DEBT
Outstanding debt at July 31, 1998 consists of $150.0 million in 11.5% Senior
Notes due 2005 (the "Senior Notes"). The Senior Notes bear interest at 11.5% per
annum and mature on May 15, 2005. The Senior Notes are general unsecured
obligations of the Company. Interest on the Senior Notes is payable semiannually
on May 15 and November 15.
In addition, the Company has borrowing and letter of credit capacity under a
credit facility which expires May 15, 2001. The limits on aggregate borrowings
and letters of credit are $90.0 million and $30.0 million, respectively.
Availability under this facility at any one time is based upon inventory and
accounts receivable levels as well as appraised value of property, plant and
equipment. The interest rate applicable to outstanding borrowing is the prime
rate plus 0.75% per annum. As of July 31, 1998 the outstanding borrowings and
letters of credit were $0 and $22.0 million, respectively. The credit facility
is secured by substantially all assets of Lodestar Energy, Inc.
The Indenture governing the Senior Notes and the credit facility contain
covenants that require the Company to satisfy certain financial ratios. The
Company was in compliance with all applicable covenants at July 31, 1998.
F-36
<PAGE>
LODESTAR HOLDINGS, INC. AND SUBSIDIARIES
AND PREDECESSOR
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
JULY 31, 1998
(IN THOUSANDS)
(4) EXTRAORDINARY ITEMS
The extraordinary items are composed of a credit associated with the buyout
of certain deferred payment obligations and a charge associated with the
write-off of capitalized costs. The deferred payment obligations were bought out
at a discount from book value of $7,960. The charge of $1,388 represented the
write-off of all unamortized costs attributable to the indebtedness which was
repaid with the proceeds of the Senior Notes.
(5) INCOME TAX
Income taxes are provided for financial reporting purposes based on
management's best estimate of the effective tax rate expected to be applicable
for the full calendar year.
F-37
<PAGE>
GLOSSARY OF SELECTED TERMS
ANTHRACITE COAL. A "hard" coal with a Btu content that can be as high as
15,000 Btus per pound. Anthracite deposits are located primarily in the
Appalachian region of Pennsylvania, and are used primarily for industrial and
home heating purposes.
ASH. Small particles of inert material found in coal. The percentage of ash
affects the heating value of coal, The higher the percentage of ash, the lower
the heating value of the coal.
AUGER. A corkscrew-like machine used in highwall mining to bore into the
side of a hill and extract coal by "twisting" it out. Lodestar is engaged in
some highwall mining in its Eastern Kentucky operations using the auger methods.
BITUMINOUS COAL. A "soft" black coal with a Btu content that ranges from
10,500 to 14,000 Btus per pound. This coal is located primarily in Appalachia
(including Kentucky), the Midwest, Colorado and Utah, and is the type most
commonly used for electric power generation in the United States. Bituminous
coal is used for utility and industrial steam purposes, and as a feedstock for
coke, which is used in steel production. All of Lodestar's reserves are
bituminous coal.
BRITISH THERMAL UNIT (BTU). A measure of the energy required to raise the
temperature of one pound of water one degree Fahrenheit.
COAL SEAM. Coal deposits occur in layers. Each such layer is called a
"seam."
COMPLIANCE COAL. Coal which, when burned, emits less than 1.2 pounds of
sulfur dioxide per million Btu.
CONTINUOUS MINER. Deep mining machines used in room and pillar mining that
cut out a block of coal (the length of each cut ranging from fifteen to 34
feet), cutting 20-foot wide passages as high as the coal seam. Roof bolting
machines are utilized to secure the immediate strata above the coal, and pillars
(50 to 100 feet squared) are left to provide overall roof support. Room and
pillar mining using continuous mining machines is the most common method of deep
mining.
CONTOUR MINING. A type of mining conducted on coal seams where mountaintop
removal is not economical because of the amount of overburden on the coal seam.
Mining proceeds laterally around a hillside, using equipment such as dozers and
hydraulic shovels, at essentially the same elevation following the coal seam.
The contour cut in a coal seam provides a flat surface that can be used to
facilitate highwall mining. Once the coal has been removed, the overburden is
replaced, leaving the mined property with approximately the same contour as
before mining. This is a common surface mining method on the steeper slopes of
the Appalachian bituminous coal fields. Lodestar practices contour mining in
Eastern Kentucky when other mining methods are not economically feasible.
DEEP MINE. An underground coal mine.
DEMONSTRATED RESERVES. The total of measured reserves and indicated
reserves.
DRAGLINE. A type of excavating equipment which casts a cable-hung bucket a
considerable distance, collects the dug material by pulling the bucket toward
itself on the ground with a second cable, elevates the bucket and dumps the
material on a spoil bank, in a hopper or on a pile.
HIGHWALL MINING. A method of deep mining whereby a system bores into the
face of a coal seam, usually left accessible from contour mining, which has
ceased to be economically viable because of excessive overburden. Highwall
mining can be accomplished by a variety of methods, including relatively simple
auger mining where a corkscrew-like machine, or auger, bores into the side of a
hill and extracts coal by "twisting" it out or by combinations of other mining
equipment, including the use of
G-1
<PAGE>
modified continuous miners. Lodestar is engaged in some highwall mining in its
Eastern Kentucky operations using the continuous and auger methods
HYDRAULIC SHOVEL. A machine used in mountaintop removal mining to remove
the top of a hill down to the coal seam, leaving a level plateau in place of the
hilltop.
INDICATED RESERVES. Reserve estimates in this category have a moderate
degree of geologic assurance. There are no sample and measurement sites in areas
of indicated coal. However, a single measurement can be used to classify coal
lying beyond measured as indicated. Indicated coal lies more than 0.25 mile, but
less than 0.75 mile, from a point of thickness measurement. Further exploration
is necessary to place indicated coal into the measured category.
LIGNITE COAL. A brownish-black coal with a Btu content that generally
ranges from 6,500 to 8,300 Btus per pound. Major lignite operations are located
in Texas, North Dakota, Montana and Louisiana. Lignite coal is used almost
exclusively in power plants located adjacent to such mines because any
transportation costs, coupled with the mining costs, would exceed the price a
customer would pay for such low-Btu coal.
LONGWALL MINING SYSTEM. A deep mining method that uses hydraulic jacks,
varying from five to twelve feet in height, to support the roof of the mine
while a large shearing machine extracts the coal. A chain line then moves the
coal to a deep mine belt system for delivery to the surface. Longwall mining
equipment generally cuts blocks of coal, referred to as longwall panels, that
have a width of approximately 650 to 1,000 feet and a length ranging from
approximately 7,000 to 18,000 feet. Longwall panels can contain more than 2.0
million tons of coal. Longwall mining is a low-cost, high-output method of deep
mining that results in the highest coal recovery percentage for underground
mining. In addition, longwall mining is a much faster method of mining coal than
room and pillar mining. After a longwall panel is cut, the longwall mining
equipment must be disassembled and moved to the next panel location, a process
which generally takes one to two weeks. Lodestar presently utilizes a longwall
mining system at its Baker mine in Western Kentucky.
MEASURED RESERVES. Reserve estimates in this category have the highest
degree of geological assurance. Measured coal lies within 0.25 mile of a valid
point of measurement or point of observation (such as previously mined areas)
supporting such measurements. The sites for thickness measurement are so closely
spaced, and the geologic character is so well defined, that the average
thickness, areal extent, size, shape and depth of coal beds are well
established.
MOISTURE. One of the primary factors considered in determining the value
and marketability of coal. The percentage of moisture is important because the
higher the moisture, the lower the heating value of the coal. Also, if the
percentage of moisture is too high, customers may experience handling problems
with the coal.
MOUNTAINTOP REMOVAL MINING. A method of mining similar to open pit mining,
except that the top of a hill is removed down to the coal seam, using large
earth-moving machines, such as dozers and hydraulic shovels, leaving a level
plateau in place of the hilltop. A more complete recovery of the coal is
accomplished through this method as compared to contour mining. However, its
feasibility depends on the amount of overburden in relation to the coal to be
removed. The site then is backfilled with the overburden and otherwise restored
to its approximate original contour, and vegetation is replaced. The site is
often returned to higher value uses, as the land will now be improved and more
suitable for development and use. The majority of Lodestar's Eastern Kentucky
mining consists of mountaintop removal mining.
OPEN PIT MINING. A method of mining which is essentially a large-scale
earth moving operation, whereby the rock and soil overlying a coal deposit (the
"overburden") is excavated by equipment, such as dozers, hydraulic shovels and
draglines. The exposed coal is then fractured by blasting and loaded
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onto haul trucks or overland conveyors for transportation to processing and
loading facilities. The site then is backfilled with the overburden and
otherwise restored to its approximate original contour, and vegetation is
replaced. One of Lodestar's contractors practices open pit surface mining at the
Smith Surface mine in Western Kentucky.
OVERBURDEN. Layers of earth and rock covering a coal seam. In surface
mining operations, overburden is removed prior to coal extraction.
PREPARATION PLANT. Usually located on a mine site, although one plant may
serve several mines. A preparation plant is a facility for crushing, sizing and
washing coal to prepare it for use by a particular customer. The washing process
improves the quality of coal by reducing ash and sulfur content and improving
Btu content.
RAW COAL. Coal that has not been washed or treated at a preparation plant.
RECLAMATION. The restoration of land and environmental values to a mining
site after the coal is extracted. Reclamation operations are usually underway
where the coal already has been taken from a mine, even as mining operations are
taking place elsewhere at the site. The process commonly includes "recontouring"
or reshaping the land to its approximate original appearance, restoring topsoil
and planting native grass and ground covers. Reclamation is closely regulated by
both state and federal law.
RECOVERABLE RESERVES. The amount of coal that can be recovered from the
reserve base. The average recovery factor for underground mines is about 57%,
and about 80% from surface mines. Using these percentages, there are about 300.0
billion tons of recoverable reserves in the United States, enough to last more
than 300 years at current consumption levels.
ROOM AND PILLAR MINING. A method of deep mining which uses
remote-controlled continuous miners that cut out a block of coal (the length of
each cut ranging from fifteen to 34 feet), cutting 20-foot wide passages as high
as the coal seam. Roof bolting machines are utilized to secure the immediate
strata above the coal, and pillars (50 to 100 feet squared) are left to provide
overall roof support. In some instances, it is possible to also remove the
pillars of coal, retreating from the back of the mine moving toward the mouth of
the mine, allowing the rock roof to fall in the mined out areas. Room and pillar
mining using continuous mining machines is the most common method of deep
mining. Lodestar and its contractors utilize the room and pillar method of
underground mining at its Smith Underground, Wheatcroft, Miller Creek and the
three Eastern Kentucky contract mines.
SALEABLE COAL. Saleable coal includes any coal that is sold or that is
suitable for sale, including raw coal plus coal which has been washed in a
preparation plant.
SCRUBBER. Any of several forms of chemical/physical devices which operate
to neutralize sulfur compounds formed during coal combustion. These devices
combine the sulfur in gaseous emissions with other chemicals to form inert
compounds, such as gypsum, which must then be removed for disposal.
SPOT MARKET. Sales of coal pursuant to an agreement for shipments over a
period of one year or less. Spot market sales are generally obtained by a
competitive bidding process.
STEAM COAL. Coal used by power plant and industrial steam boilers to
produce electricity or process steam. It generally is lower in Btu content and
higher in volatile matter than metallurgical coal.
STOKER COAL. A specially sized coal of high Btu content specifically for
use in automatic firing equipment.
SUBBITUMINOUS COAL. A black coal with a Btu content that ranges from
approximately 7,900 to 9,500 Btus per pound. Most subbituminous reserves are
located in Montana, Wyoming, Colorado, New
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Mexico, Washington and Alaska. Subbituminous coal is used almost exclusively by
electric utilities and some industrial consumers.
SULFUR CONTENT. Coal is commonly described by its sulfur content due to the
importance of sulfur in environmental regulations. Compliance coal, when burned,
emits no more than 1.2 pounds of sulfur dioxide per million Btu. This term
originated as a description of coal as it related to the Clean Air Act. "Low
sulfur" coal has a variety of definitions but typically is used to describe
coals consisting of 1.0% (or usually 1.6 pounds per million Btu) or less sulfur.
Lodestar's reserves in Eastern Kentucky are of low sulfur grades. "Mid to high
sulfur" coal describes coals consisting of 1.8% or more sulfur. Lodestar's
reserves in Western Kentucky are mid to high sulfur grades.
SURFACE MINE. A mine in which coal lies near the surface and can be
extracted by removing the covering layer of overburden. About 60% of total U.S.
coal production comes from surface mines.
TONS. A short ton is equal to 2,000 pounds as compared to a metric ton,
which is approximately 2,205 pounds.
UNDERGROUND MINE. Also known as a "deep" mine. Usually located several
hundred feet below the earth's surface, an underground mine's coal is removed
mechanically and transferred by shuttle car or conveyor to the surface. Most
underground mines are located east of the Mississippi River and account for
about 40% of annual U.S. coal production.
UNIT TRAIN. A long train of usually 90 to 100 cars, carrying only coal. A
typical unit train can carry at least 9,000 to 10,000 tons of coal in a single
shipment and is nearly a mile long.
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YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. WE
HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH INFORMATION OR TO MAKE ANY
REPRESENTATION TO YOU THAT IS NOT CONTAINED IN THIS PROSPECTUS. THIS PROSPECTUS
IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO
BUY THESE SECURITIES IN ANY JURISDICTION WHERE THE OFFER OR SALE IS NOT
PERMITTED. YOU SHOULD NOT UNDER ANY CIRCUMSTANCES ASSUME THAT THE INFORMATION IN
THIS PROSPECTUS IS CORRECT ON ANY DATE AFTER THE DATE OF THIS PROSPECTUS.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
<S> <C>
Forward Looking Statements...................... 2
Prospectus Summary.............................. 3
Risk Factors.................................... 12
Use of Proceeds................................. 19
Capitalization.................................. 20
Unaudited Pro Forma Consolidated Financial
Data.......................................... 21
Selected Consolidated Financial Data............ 26
The Exchange Offer.............................. 28
Management's Discussion and Analysis of
Financial Condition and Results of
Operations.................................... 36
Industry........................................ 46
Business........................................ 52
Governmental Regulation......................... 68
Management...................................... 72
Stock Ownership................................. 77
Certain Relationships and Transactions.......... 78
Description of the Senior Notes................. 79
Description of New Senior Credit Facility....... 102
Material Federal Income Tax Considerations...... 104
Plan of Distribution............................ 107
Legal Matters................................... 108
Experts......................................... 108
Engineers....................................... 108
Index to Consolidated Financial Statements...... F-1
Glossary of Selected Terms...................... G-1
</TABLE>
UNTIL DECEMBER 22, 1998 (40 DAYS AFTER THE DATE OF THIS PROSPECTUS) ALL
DEALERS THAT EFFECT TRANSACTIONS IN THESE SECURITIES, WHETHER OR NOT
PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS
IN ADDITION TO DEALERS' OBLIGATION TO DELIVER A PROSPECTUS WHEN ACTING AS
UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
LODESTAR
HOLDINGS, INC.
EXCHANGE OFFER
FOR
11 1/2% SENIOR NOTES
DUE 2005
GUARANTEED
BY:
LODESTAR ENERGY, INC.
EASTERN RESOURCES, INC.
INDUSTRIAL FUELS MINERALS COMPANY
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PROSPECTUS
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NOVEMBER 12, 1998
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