Fitch: Another Strong Year Predicted for U.S. Coal Industry in 2006.

NEW YORK -- U.S. Coal producers continue to benefit from strong pricing dynamics following the rebound beginning in the third quarter of 2003, according to Fitch Ratings. Spot prices for some coals have leveled off but more contract prices should be reflecting current conditions resulting in higher realized prices. Earnings growth is somewhat constrained by rising costs given tight labor markets, high energy-related prices (explosives and diesel fuel), high steel prices, and tight markets for equipment and parts. Fitch views the overall fundamentals for the industry positively.

Spot prices for Central Appalachian coal (CAP) and Northern Appalachian coal (NAP) have moderated over the last 12 months given greater burning of Powder River Basin coal (PRB). The spot price per ton for CAP was $62.00 for the week of Dec. 3, 2005, down from $66.50 at the end of 2004 but strongly ahead of the year-end 2003 spot price per ton of $39.00. NAP spot prices per ton have moderated as well to $44.00 recently, down from $57.00 at year-end 2004 but up from $32.00 at year-end 2003. Spot prices for high sulfur Illinois Basin coal (ILB) have been fairly steady while SO2 emissions allowances have been trending up sharply. Emissions allowances were over $1,500/ton recently, up $1,050/ton one month ago and $710/ton from this time last year. Uinta Basin's low sulfur coal has continued to rise in the spot market, currently fetching $37.00/ton, up from $29/ton at year-end and $21/ton at the end of 2003. While PRB coal did not participate in the sharp run up in 2004 spot prices, it has shown strong gains in the first nine months of 2005. PRB spot prices per ton were $6.20 at year-end 2004 and $12.79 at the end of September 2005, peaking at $16.89 for the week ended Oct. 21, 2005, trading down to $14.64 for the week ending Dec. 3, 2005.

Demand for coal continues to be strong given coal's increasing cost advantage over natural gas and fuel oil as fuel for electricity generation. Thermal coal currently has a substantial delivered price advantage over natural gas for electrical generation purposes (approximately $1.50 per MMBtu versus natural gas's approximately $7.00 per MMBtu as of July, the most recent data). While coal is often the fuel of choice for base load electrical generation when natural gas prices exceed $6.00 per MMBtu, natural gas 12-month futures prices have risen further to approximately $10.64 per MMBtu from $5.40 per MMBtu since the beginning of 2004. This implied outlook for continued high gas prices supports a robust coal price market, which continues to be reflected when contracts come up for repricing. Coal demand is generally weighted toward the summer months given that air-conditioning is 100% electricity fueled, where as only about 30% of heating is electricity fueled. The short supply leading into the summer for 2005 coupled with unusually warm weather exacerbated by coal transportation constraints has resulted in low inventories particularly at Western utilities. The expectation is that there should be restocking currently and in advance of May 2006. Potential emissions regulations covering mercury and carbon could substantially change the economics of burning coal for electricity generation.

Production is up only modestly: for the 52 weeks ended Dec. 3, 2005 production was 1.1 billion tons, up only 1.4% from the prior year. Availability of underground mining equipment as well as tires for surface mine equipment is proving a production constraint. Supply of CAP coal is constrained by difficult geologic conditions. In the short term, transportation disruptions related to stormy weather or bottlenecks can lead to near term shortages in the East. In NAP and the ILB, skilled labor supply has been a limiting factor, whereas availability of rail transportation constrains supply from the PRB. Expectations for 2006 are that there will be some benefit to improvements in the PRB rail services but that demand will outstrip the increased capacity. Subject to financing, the Dakota, Minnesota, and Eastern railroad expects to begin construction in late 2006 on a 900-mile build-in to the Powder River Basin, which would take three years to complete.

Supply from imports has been growing: for the first six months of 2005, imports were 14.8 million tons, up 22% from the same period in 2004. Currently, European utilities have high inventories, resulting in slack demand, and ocean freight costs have been declining, resulting in sharp declines in import prices. Terminal capacity is the constraint to imports. The Charleston terminal is working to expand capacity by 2007. Keystone Industries is planning a new terminal in Jacksonville, Florida to handle six million tons per year; construction would take two years.

Fitch expects coal demand to remain strong with limited increased supply over the next two to three years, thereby supporting a strong pricing market. Raw material, labor, and equipment costs should remain high but not escalate. The result should be strong free cash flow generation, which serves as the basis for Fitch's positive view on the coal industry.

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