PVR: Coal and Land Management

Review of Coal and Natural Resource Management
At year-end 2007, we owned or controlled a record 818 million tons of proven and probable coal reserves, an increase of seven percent from the prior year level. In 2007, coal production by our lessees was 32.5 million tons, relatively fl at from a record 32.8 million tons in 2006. Segment operating income was $68.8 million in 2007, six percent lower than 2006’s record $73.4 million.

Our coal reserves are located in Central Appalachia, the Illinois Basin, Northern Appalachia and the San Juan Basin. During 2007, reserve increases in the Illinois Basin and Central Appalachia were partially offset by decreases in Northern Appalachia and the San Juan Basin. Production decreases in Central Appalachia and Northern Appalachia were largely offset by production increases in the Illinois and San Juan Basins.

During 2007, revenues for PVR Coal and NRM decreased one percent to $111.6 million from $113.0 million in 2006 primarily due to a four percent decrease in coal royalties revenue, partially offset by an 18 percent increase in coal services and natural resource management revenues. Coal royalties revenue decreased slightly during 2007 primarily due to a decrease in average coal royalties per ton. The decrease was largely due to the combination of increased production in the Illinois Basin, which has lower coal prices and therefore lower royalty realizations, and reduced production in Central Appalachia. Average coal royalties per ton decreased three percent to $2.89 in 2007 from $2.99 in the prior year.

We completed two coal reserve acquisitions during 2007, adding approximately 60 million tons of coal in the Illinois Basin for a total acquisition cost of approximately $52 million. The 2007 acquisitions in the Illinois Basin complement the approximate 116 million tons of western Kentucky coal we purchased in 2005 and 2006. We believe that production from the Illinois Basin will grow because of its proximity to power plants and also because of expected future environmental regulations which will require increased scrubbing of most coals, including lower sulfur coals from other basins. We expect to continue to diversify our coal reserve holdings into this and other domestic basins in the future.

In the second half of 2007, we completed acquisitions of forestland and oil and gas royalties in Appalachia for approximately $124 million. We plan to expand our coal services and infrastructure business, which had revenue growth of 24 percent in 2007, as well as to continue to expand our natural resource management businesses in the future; however, the main focus of the segment will remain on acquiring coal reserves.

The September 2007 acquisition of approximately 62,000 acres of forestland in West Virginia for a purchase price of approximately $93 million significantly expanded our existing timber management business. As a result of the acquisition, we owned approximately 220,000 acres of forestland in Kentucky, Virginia and West Virginia at year-end 2007. The $31 million acquisition of oil and gas royalties in eastern Kentucky and southwestern Virginia from PVA expanded our exposure to this sub-segment.

We also look to continue to expand our coal services and infrastructure business. Coal infrastructure projects typically involve long-lived, fee-based assets that generally produce steady and predictable cash flows and are therefore attractive to PTPs. We own a number of such infrastructure facilities and intend to continue to look for growth opportunities in this area of operations. During 2007, we acquired a preparation plant in connection with our acquisition of coal reserves in western Kentucky. We also have an equity interest in a coal handling joint venture, which is seeking to develop opportunities for coal related infrastructure projects involving end users.

In 2007, approximately 81 percent of the coal produced from our properties was subject to leases which required our lessees to pay royalties based on the higher of a fixed base price or a percentage of the gross sales price they received for selling the coal. Most of that coal is sold by our lessees under long-term contracts, typically one to three years in length. The royalties we received on the other 19 percent of coal produced from our properties were based on fixed rates per ton, which escalate annually.

In the second half of 2006 and continuing into 2007, coal prices decreased from the historically high levels experienced in the previous two and one half years, due to higher than normal coal inventories at electric utilities and milder than normal winter weather. Coal prices increased significantly in the fourth quarter of 2007. The global markets for most types of coal remain strong. Continued demand from emerging countries and increased domestic consumption have created a strong global picture. U.S. produced coal enjoyed increased demand abroad during 2007 as dwindling supplies and the decline of the dollar made U.S.-exported coal more attractive. Pricing is strong in early 2008 primarily due to increasing global demand and supply difficulties. We believe the increase in coal prices will benefit our lessees during 2008 as many of them will enter into new long-term supply contracts.