NACCO INDUSTRIES INC 10-Q

Item 1A Risk Factors During the quarter ended September 30, 2020, there have been no material changes to the risk factors previously disclosed in the Company's Annual Report on Form 10-K for the year ended December 31, 2019, except as follows: The Company’s results of operations, financial condition, cash flows and stock price could be adversely affected by pandemics, epidemics or other public health emergencies, such as the global outbreak of COVID-19. The Company’s results of operations, financial condition, cash flows and stock price could be adversely affected by pandemics, epidemics or other public health emergencies, such as the global outbreak of COVID-19. The COVID-19 pandemic resulted in governments around the world implementing stringent measures to help control the spread of the virus, including quarantines, "shelter in place" and "stay at home" orders, travel restrictions, business curtailments, school closures, and other measures. The Company has continued to operate as an essential business because it supports critical infrastructure industries, as defined by the U.S. Department of Homeland Security. Although the Company has continued to operate facilities consistent with federal guidelines and state and local orders, the ongoing COVID-19 pandemic and the preventive or protective actions taken by governmental authorities may have a material adverse effect on the Company’s operations, work force, supply chain or customers, including business shutdowns or disruptions. The extent to which COVID-19 may adversely impact the Company's businesses depends on future developments, which are highly uncertain and unpredictable, including the extent of new outbreaks, the extent to which additional actions to mitigate the COVID-19 pandemic may be needed, the nature of government public health guidelines and the public's adherence to those guidelines, and the timing for proven treatments and vaccines for COVID-19. Any resulting financial impact cannot reasonably be estimated at this time, but could have a material adverse effect on the Company’s financial condition, cash flows and results of operations. Even after the COVID-19 pandemic has subsided, the Company may experience material adverse effects due to a decline in economic activity. Additionally, concerns over the economic impact of COVID-19 have caused extreme volatility in financial and other capital markets which has and may continue to adversely impact NACCO's stock price. Termination of or default under long-term mining contracts could materially reduce the Company's profitability. Substantially all of the Coal Mining segment's profits are derived from long-term mining contracts. Although the Company has long-term contracts, numerous political and regulatory authorities, along with well-funded environmental activist groups, are devoting substantial resources to anti-coal activities to minimize or eliminate the use of coal as a source of electricity generation or other combustive uses. As a result of such activities, the Coal Mining segment's customers could prematurely retire certain coal-fired generating units or other facilities that combust coal. Any customers' premature facility closure could have a material adverse effect on the Company’s business, financial condition and results of operations. On May 7, 2020, Great River Energy ("GRE"), Falkirk Mine's customer, and the Company's second largest customer, announced its intent to retire the Coal Creek Station power plant in the second half of 2022 and modify the Spiritwood Station power plant to be fueled by natural gas. Falkirk Mine is the sole supplier of lignite coal to Coal Creek Station pursuant to a long-term contract under which Falkirk also supplies approximately 0.3 million tons of lignite coal per year to Spiritwood Station. Falkirk has approximately 480 employees, and, in 2019, delivered a total of 7.4 million tons of lignite coal and contributed approximately $16 million to NACCO’s Earnings from Unconsolidated Operations. The closure of Coal Creek Station would have a material adverse effect on the long-term earnings of NACCO. The terms of the contract between the Company and GRE specify that GRE is responsible for all costs related to mine closure, including but not limited to final mine reclamation costs, post-retirement medical benefits and pension costs with respect to Falkirk employees. Also noted in GRE’s announcement is their plan to negotiate an agreement to terminate their steam and water supply contract with Blue Flint, an ethanol biorefinery fueled by process steam from Coal Creek Station. Blue Flint’s owner, 35 Table of Contents Midwest AgEnergy, is considering using the contract termination payment from Great River Energy to reinvest in an economical alternate source for its process heat. NACCO has a $5.0 million investment in Midwest AgEnergy. If Midwest AgEnergy is unable to find an economical alternate source for its process heat, the Company’s investment could become impaired. State implementation of the EPA’s Regional Haze Rule (“RHR”) could require Coyote Creek’s customers to incur significant new costs at the Coyote Station power plant, which could, dependent on determinations by state regulatory commissions on approval to recover such costs from Coyote Creek’s customer’s customers, negatively impact Coyote Creek’s customers’ net income, financial position and cash flows. The Company understands that the North Dakota Department of Environmental Quality (“NDDEQ”) could require sources subject to RHR Round 2 reasonable progress determinations, including Coyote Station, to undertake emissions control measures. If NDDEQ requires significant emissions controls at Coyote Station by December 31, 2028, it may not be economically feasible for Coyote Creek's customers to invest in such equipment and an early retirement of Coyote Station and the Coyote Creek mine could be necessary. NDDEQ’s state implementation plan is due to be submitted to the EPA by July 2021. Preliminary modeling favors minimal additional emissions control measures for all North Dakota sources. The Company expects the NDDEQ to further evaluate additional preliminary control scenarios for regional visibility modeling in the second half of 2020 and prepare a draft state implementation plan available for public comment the first half of 2021. Under certain circumstances of default or termination of Coyote Creek’s Lignite Sales Agreement (“LSA”), the Company would be obligated for payment of a "make-whole" amount to Coyote Creek’s third-party lenders. The “make-whole” amount is based on the excess, if any, of the discounted value of the remaining scheduled debt payments over the principal amount. In addition, in the event Coyote Creek’s LSA is terminated on or after January 1, 2024 by Coyote Creek’s customers, the Company is obligated to purchase Coyote Creek’s dragline and rolling stock for the then net book value of those assets. Any decision by Coyote Creek’s customers to reduce operations or prematurely close the Coyote mine would have a material adverse effect on the Company’s results of operations, financial position and cash flows. Mississippi Lignite Mining Company ("MLMC") is subject to risks associated with its capital investment, operating and equipment costs, growing use of alternative power generation that competes with coal-fired power generation, changes in customer demand and inflationary adjustments. The profitability of MLMC is subject to the risk of loss of investment in this operation, increases in the cost of mining, changes in customer demand, growing competition from alternative power generation that competes with coal-fired generation and the emergence of adverse mining conditions. At MLMC, the costs of mining operations are not reimbursed by MLMC's customer. As such, increased costs at MLMC or decreased revenues could materially reduce the Company's profitability. Any reduction in customer demand at MLMC, including reductions related to reduced mechanical availability of the customer’s power plant, would adversely affect the Company's operating results and could result in significant impairments. In addition, MLMC sells lignite at contractually agreed upon prices which are subject to changes in the level of established indices over time. The price of diesel fuel is heavily-weighted among these indices. As such, a substantial decline in diesel prices could materially reduce MLMC's profitability, as the decline in revenue will only be partially offset by the effect of lower diesel prices on production costs. MLMC delivers coal to the Red Hills Power Plant in Ackerman, Mississippi. The Red Hills Power Plant supplies electricity to TVA under a long-term PPA. MLMC’s contract with its customer runs through 2032. TVA’s power portfolio includes coal, nuclear, hydroelectric, natural gas and renewables. In 2019, TVA published its updated Integrated Resource Plan ("IRP"). The IRP indicates TVA plans to increase its reliance on solar power. A decrease in the number of days TVA dispatches the Red Hills Power Plant would reduce MLMC's customer's demand for coal. The decision of which power plants to dispatch is determined by TVA. TVA has dispatched Red Hills Power Plant at a lower rate in the last two years than in prior years. Choctaw Generation Limited Partnership ("CGLP") leases the Red Hills Power Plant from a Southern Company subsidiary pursuant to a leveraged lease arrangement. The ability of the lessee to make required payments to the Southern Company subsidiary is dependent on the operational performance of the Red Hills Power Plant. Southern Company recently publicly disclosed that while all CGLP lease payments have been paid in full through June 30, 2020, operational and other risks have resulted in cash liquidity challenges at the Red Hills Power Plant, and based on current forecasts of energy prices in the years following the expiration of the PPA in 2032, concerns exist regarding the lessee's ability to make the remaining semi-annual lease payments through the end of the lease term in 2047. During the fourth quarter of 2019, Southern Company concluded that it was no longer probable that all of the payments would be received over the term of the lease and therefore recognized an impairment charge to reduce the value of the lease investment. During the second quarter of 2020, Southern Company revised the estimated cash flows 36 Table of Contents to be received under the leveraged lease which resulted in a full impairment of the lease investment. If any future lease payment is not paid in full, the Southern Company subsidiary may be unable to make its corresponding payment to the holders of the underlying non-recourse debt related to the Red Hills Power Plant. Failure to make the required payment to the debtholders could represent an event of default that would give the debtholders the right to foreclose on, and take ownership of, the Red Hills Power Plant from the Southern Company subsidiary. A foreclosure of the Red Hills Power Plant could have a material adverse effect on MLMC's financial condition, results of operations and cash flows. Similar to the Company's unconsolidated mines, all production costs at MLMC are capitalized into inventory and recognized in cost of sales as tons are delivered. In periods of limited or no deliveries, MLMC may be required to reduce its inventory carrying value using the lower of cost or net realizable value approach, which could adversely affect MLMC’s results of operations. Changes in customer demand for any reason, including, but not limited to, reduced mechanical availability of the customer’s power plant, dispatch of power generated by other energy sources ahead of coal, fluctuations in demand due to unanticipated weather conditions, regulations or comparable policies which may promote planned and unplanned outages at the Red Hills Power Plant, economic conditions, including an economic slowdown and a corresponding decline in the use of electricity, governmental regulations and inflationary adjustments could have a material adverse effect on MLMC's financial condition, results of operations and cash flows. Changes in coal consumption patterns of U.S. electric power generators could adversely affect the Company's profitability. The amount of coal consumed by the electric power generation industry is affected by general economic conditions; overall demand for electricity; availability of transmission; competition from alternative fuel sources for power generation, such as natural gas, nuclear, hydroelectric, wind and solar power, and the location, availability, quality and price of those alternative fuel sources; environmental and other governmental regulations, including those impacting coal-fired power plants; and energy conservation efforts and related governmental policies. Changes in the utility and coal mining industry that affect our customers could also adversely affect the Company. Lower natural gas prices and increased availability of renewables have contributed to a reduction in demand for coal-fired electric power generation. Competition from natural gas-fired plants that are relatively more efficient, less expensive to construct and less difficult to permit than coal-fired plants has the most potential to continue to displace a significant amount of coal-fired electric power generation in the near term. Federal and state mandates for increased use of electricity derived from renewable energy sources have also adversely affected demand for coal-fired electric power generation. Such mandates make alternative fuel sources more competitive with coal-fired electric power generation. The outcome of the 2020 U.S. presidential election could result in a shift in the regulatory environment that is impossible to predict at this time. Changes in federal and state mandates that would include an acceleration in the use of electricity derived from renewable energy sources could result in a decrease in coal consumption by the electric power generation industry and the Company’s customers. A decrease in coal consumption by the electric power generation industry and the Company’s customers could have a material adverse effect on the Company’s business, financial condition and results of operations. Insurance coverage is increasingly expensive, contains more stringent terms and may be difficult to obtain in the future. A number of global insurance companies have taken action to limit coverage for companies in the coal mining industry, which could result in significant increases in costs of insurance or in the Company’s ability to maintain insurance coverage at current levels. The Company holds a number of insurance policies, including director and officers’ liability and property and casualty insurance coverages. Because the Company is involved in the coal mining industry, costs of insurance may increase substantially or insurance carriers may decide not to insure the Company in the future. In addition, if the Company makes significant insurance claims, its ability to obtain future insurance coverage at commercially reasonable rates could be materially adversely affected. An inability to obtain insurance coverage, significant increases in the premiums or deductibles of insurance the Company obtains, or losses in excess of its liability insurance coverage limits, which may go down in the future, could have a material adverse effect on the Company's operating results and financial condition. Increasing scrutiny and changing expectations with respect to the Company’s environmental, social and governance practices may impose additional costs on the Company or expose the Company to new or additional risks. 37 Table of Contents Companies across all industries are facing increasing scrutiny from stakeholders related to their environmental, social and governance (“ESG”) practices. Investor advocacy groups, certain institutional investors, investment funds and other influential investors are also increasingly focused on ESG practices. Regardless of the industry, investors’ and others increased focus and activism related to ESG and similar matters may hinder access to capital, insurance and other financial products as third parties may decide to reallocate capital or to not commit capital or risk management products as a result of their assessment of a company’s ESG practices. Companies which do not adapt to or comply with investor or stakeholder expectations and standards, which are evolving, or which are perceived to have not responded appropriately, regardless of whether there is a legal requirement to do so, may suffer from reputational damage and the business, financial condition, and/or stock price of such a company could be materially and adversely affected. The Company could face pressures from investors, who are increasingly focused on climate change, to prioritize sustainable energy practices, reduce the Company’s carbon footprint and promote sustainability. Investors may request the Company implement ESG procedures or standards as a condition to maintain their investment or to make further investments. Additionally, the Company may face reputational challenges in the event its ESG practices are inconsistent with the third party views of acceptable ESG practices.