Alto Ingredients Inc (ALTO) 2018 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Pacific Ethanol Second Quarter 2018 Financial Results Conference Call. (Operator Instructions) As a reminder, this call is being recorded.

I would now like to turn the conference over to Kirsten Chapman with LHA Investor Relations. Ma'am, you may begin.

Thank you, Ashley, and thank you all for joining us today for the Pacific Ethanol Second Quarter 2018 Results Conference Call. On the call today are Neil Koehler, President and CEO; and Bryon McGregor, CFO. Neil will begin with a review of the business highlights. Bryon will provide a summary of the financial and operating results. And then Neil will return to discuss Pacific Ethanol's outlook and open the call for questions.

Pacific Ethanol issued a press release yesterday providing details of the company's quarterly results. The company also prepared a presentation for today's call that is available on the company's website at pacificethanol.net.

If you have any questions, please call LHA Investor Relations at (415) 433-3777. A telephone replay of today's call will be available through August 16, the details of which are included in yesterday's press release. A webcast replay will also be available at Pacific Ethanol's website.

Please note that the information in this call speaks only as of today, August 9, and therefore, you are advised that time-sensitive information may no longer be accurate at the time of any replay. Please refer to the company's safe harbor statement on Slide 2 of the presentation available online, which says that some of the comments in this presentation constitute forward-looking statements and considerations that involve a number of risks and uncertainties. The actual future results of Pacific Ethanol could differ materially from those statements.

Factors that could cause or contribute to such differences include, but are not limited to, events, risks and other factors previously and from time to time disclosed in Pacific Ethanol's filings with the SEC. Except as required by applicable law, the company assumes no obligation to update any forward-looking statements.

In management's prepared remarks, non-GAAP measures will be referenced. Management uses these non-GAAP measures to monitor the financial performance of operations and believes these measures will assist investors in assessing the company's performance for the periods being recorded.

The company defines adjusted EBITDA as unaudited net income or loss attributed to Pacific Ethanol before interest expense, provision or benefit for income taxes, asset impairments, purchase accounting adjustments, fair value adjustments and depreciation and amortization expense.

To support the company's review of the non-GAAP information later in this call, a reconciling table was included in yesterday's press release.

It's now my pleasure to introduce Neil Koehler, President and CEO. Please go ahead, Neil. Neil, are you on mute?

Yes. In fact, that was true. Thanks, Kirsten, and thanks to everyone joining us today. For the second quarter, net sales were $410.5 million, up 1% from last year's second quarter. Total gallons sold were $227.4 million. Production gallons sold were $144.4 million. Industry ethanol margins remain compressed in the second quarter, negatively impacted by questionable EPA practices of granting over 2 billion gallons of small refinery exemptions from the RFS over for the last 2 years and trade tariffs that had temporarily stopped U.S. ethanol exports to China. These actions have caused significant demand destruction for U.S. ethanol, resulting in higher than optimal industry inventory levels. Further negatively impacting our results were higher-than-expected corn basis and greater repair and maintenance expenses including final boiler replacement cost at our Pekin facility, which Bryon will detail in his comments.

As a result, we had a $1.3 million gross loss for the second quarter compared to a gross profit of $1.7 million in the comparable quarter last year. Loss available to common shareholders was $13.2 million and adjusted EBITDA was $1 million compared to loss available to common shareholders of $9.2 million and adjusted EBITDA of $2.6 million last year.

Despite the regulatory-induced demand destruction, we believe that the market fundamentals remain strong and should support better margins. Ethanol is a low-cost, high-value, low-carbon renewable transportation fuel and a high-value source of octane. Blending ethanol into gasoline drives down the price of gasoline to consumers.

These compelling blend economics will drive higher ethanol blend rates in both U.S. and international markets. We are encouraged by the change of leadership at the EPA, as the former administrator was not supportive of the ethanol industry and did not reflect President Trump's repeated support for the industry and for agriculture. We, as a company and through the industry trade associations, are actively engaged with the EPA and the White House to implement RVP parity for E15 blends, maintain the EPA RVOs targets to be consistent with the law and to be more judicious in granting small refinery economic hardship exemptions, and when granted, reallocate those gallons to all other obligated parties.

While these changes won't impact 2018, we do believe and anticipate positive momentum in 2019 for expansion in the year-round blending of E15.

The West Coast carbon markets are strong and supportive of the low-carbon fuel we produce in California and Oregon. These markets create continued and growing premiums for our lower carbon ethanol.

California carbon credit prices of strengthened month-over-month for the last year. The average for June was $154 per metric ton, up from $77 per metric ton from the same time last year. And prices are currently above $185 per ton, driven by increasing compliance obligations under the LCFS.

Oregon carbon credit prices have also seen continued strength. The Oregon clean fuels program lacks California in implementation time line but with similar objectives. The average June price was $69, which is up from $45 at the same time last year, and prices are currently above $80 per metric ton.

Currently, gasoline demand remains strong, up about 1.5% over last year to date. This is a result of a strong overall economy and steady oil prices.

At a 10% blend ratio, for every percent increase in average annual gasoline demand, ethanol demand increases by over 140 million gallons. More significantly, as the market migrates to higher ethanol blends, every 1% increase in blend rates across the entire U.S. gasoline pool would increase ethanol demand by approximately 1.4 billion gallons at current gasoline demand.

Overall, international demand for U.S. ethanol is stronger this year compared to last year. In fact, U.S. ethanol exports through June were 928 million gallons, up 33% from the first half of 2017 and on place to shatter last year's record of 1.38 billion gallons.

As in U.S. markets, U.S.-produced ethanol is a low-cost, low-carbon high-octane product and increasingly is becoming a standard blend component in gasoline around the world. At the beginning of the year, China was importing significant quantities of ethanol from the U.S. in support of its announced 10% blending requirement by 2020.

Recently, with the trade tariffs imposed by the U.S. and reciprocated by China, exports to China have dropped to 0. However, if China sticks to their 10% by 2020 goal, even while rapidly increasing their own domestic production, they will need to significantly import additional gallons, which ultimately supports continued growth in the overall international demand for ethanol.

During this period of continued tight production margins, our focus remains on implementing initiatives and investing in our assets to reduce our costs, improve our yields and carbon scores and build sustaining value for our shareholders. We are engaged in several plant-level capital projects with near-term paybacks. We have successfully completed the integration of ICP and are now benefiting from increased product diversification that supports stronger margins and lessens our exposure to commodity price fluctuations in the fuel ethanol markets. We have achieved our goal of $4.5 million in annualized cost savings through synergies from our ICP acquisition.

We have successfully completed our solar power project in Madera, which is currently running at 70% capacity. We expect it will be at full capacity by the end of the year once PG&E has completed its final upgrade to its adjacent substation. This project is expected to reduce our utility cost by approximately $1 million annually and lower our carbon score.

The 3.5-megawatt cogeneration project at our Stockton, California facility has not yet achieved commercial operations as the 2 units have required modifications to meet performance standards. The manufacturer is covering all these modifications. So while the delay will extend the timing of achieving the target energy savings from the project, our expectation is still $4 million in annualized savings once operational. We will provide an update when the systems have achieved target performance levels.

The Airgas CO2 plant at our Stockton facility is under construction and is expected to be online and producing revenue for us at the end of the fourth quarter. We are currently producing cellulosic ethanol at our Stockton plant, generating D3 RINS, and are still awaiting EPA approval of our cellulosic ethanol pathways for our Madera and Magic Valley plants. We believe the delays have been primarily a function of the negative political environment at the EPA towards advanced biofuels, and we are vocal that under new regulatory leadership, these approvals will move forward. Once the EPA gets final approval, production from these 3 plants will generate an additional combined $2 million in incremental EBITDA on an annualized basis.

With that, I'd like to turn the call over to our CFO, Bryon McGregor.

Thank you, Neil. For the second quarter 2018 compared to the second quarter of 2017, net sales were $410.5 million compared to $405.2 million. The decline in sales is attributable to a 28% decrease in third-party gallons sold, partially offset by a 20% increase in production gallons sold. The increase in production gallons sold is due primarily to the addition of ICP's production volumes, and the reduction in third-party gallons was due to our intentional and successful efforts to improve the profitability of that area of our business.

Cost of goods sold was $411.8 million compared to $403.5 million in the prior year's quarter, resulting in a gross loss of $1.3 million for the quarter compared to gross profit of $1.7 million in the prior year's quarter.

This quarter's gross loss was impacted by $8.8 million or $0.06 per gallon from our 2 extraordinary items worth noting. We incurred $5 million in higher repairs and maintenance costs that included $1.5 million in final boiler repairs at our Pekin facility.

With the boiler issues largely behind us, we look forward to lower operating expenses to the tune of approximately $9 million annually when compared to the last 3 years. We had $2.4 million in -- of unrealized noncash mark-to-market losses on our derivative position, $1 million of which has been reversed with recent increases in corn prices.

And finally, from a regional perspective, our westernmost plant saw a significant increase in freight and basis cost for corn, which was only partially offset by the benefits of favorable ethanol spreads between Chicago and the West Coast. This negative differential in crush margin at our western plants added $1.4 million in additional costs. These variances in both ethanol and corn freight and basis have subsequently returned to more historically normal levels.

SG&A expenses were $8.9 million, slightly up from $8.8 million in last year's quarter, but down $400,000 from the last quarter, the latter a result of lower compensation expenses. We now expect SG&A to total $18 million for the second half of 2018, approximately in line with the first half of the year.

Adjusted EBITDA was positive $1 million compared to $2.6 million in the year-ago period.

For the 6 months ended June 30, 2018, compared to 2017, net sales were $810.5 million compared to $791.5 million. Cost of goods sold was $808.5 million compared to $795.7 million. Gross profit was $2.1 million compared to a gross loss of $4.1 million. SG&A expenses were $18.2 million compared to $14.2 million, the latter of which included $3.6 million in onetime gains associated with legal matters in the prior year. Loss available to common stockholders was $21.4 million or $0.50 per share compared to $22.1 million or $0.52 per share. Adjusted EBITDA was $6.7 million compared to $733,000.

Turning to our balance sheet. During the first 6 months of 2018, cash flow from operations was $4.9 million, contributing to a healthier balance sheet. At June 30, 2018, cash and cash equivalents were $62.6 million compared to $49.4 million at December 31, 2017. For the second quarter of 2018, our capital expenditures totaled just over $3 million, primarily related to plant improvement initiatives and in line with guidance. We continue to expect our 2018 capital expenditures to be in line with our 2017 expenditures. However, as noted in our previous call, we will adjust the amount based on industry economics and company performance.

With that, I'll turn the call back to Neil.

Thanks, Bryon. We continue to believe 2018 will be stronger than 2017. Our conviction remains firm in the fundamentals of long-term growth in ethanol demand, supported by the octane, carbon and cost benefits of ethanol. And we are confident that our differentiated strategy positions us well for profitable growth.

With that, Ashley, I'd like to open the call for questions.

(Operator Instructions) Our first question comes from Eric Stine of Craig-Hallum.

So maybe just, I guess, I'll start on the regulatory side with the new EPA chief. I mean, do you think that there is a path forward that the RVP waiver could be done stand-alone since that is the one area that seems like it could be done pretty quickly and wouldn't have to go through a lot of administrative things? I mean, it could just be done. But that clearly wasn't going to be done under the past EPA head.

Yes, we think that the change of leadership and the upcoming midterm elections does create that path. That being said, it's still a bit muddled. Clearly, when the President was in Iowa, he stated that they were very close to getting the E15 done. But then, in that same sense, that it's very complicated. Well, it's not a very complicated if you're just moving the RVP rule-making by itself. So there still is some pressure to connect it to something else. We think that is ridiculous because plenty has already been given to the refiners through the small refinery exemptions and RIN prices are quite low. And we think that the -- it's time to give something to agriculture and to the farmer and the ethanol industry that is able to take incremental corn and move it into the market, which is good for the economy and the consumer and the environment. So very, very definitely we're pushing quite hard to, between now and the end of the year and certainly before the midterm elections, get an RVP rule-making moving forward.

Yes, got it. Okay. Maybe just turning to your outlook for the market here for the remainder of the year. I know you've got large producer who recently came out and said that they were done kind of moderating their production, that not to worry about that. They were just going to kind of run, I don't know, full out, but they were going to run at pretty high levels of utilization. And we're sitting here and we've got production here an all-time high and entering some seasonally slower gasoline demand. I mean, when you add all that up, what is it -- I mean, what does it do to your expectations, at least for the remainder of the year?

Well, it's -- we're cautious. It's -- we definitely have some excess inventory. I would point out that it is not that out of whack. It's -- you're looking it, call it, 3 or 4 days to get back to supply-demand ratios that correlate to pretty decent margins. So taking either some production down or demand up, can solve that very quickly. You point out that we are going into the slower demand season in the fall and that can be a tough time. At the same time, exports continue to be very strong, particularly to Brazil. They've been taking more, even in the summer, than they have in the past, and they ramp up in the fall their own ethanol demand. Given the compelling economics of ethanol blending everywhere, including Brazil, is up double digits year-over-year. So we anticipate Brazil to continue to be a very strong outlet for U.S. ethanol. We're seeing other incremental demand. If China were to come back in and the tariffs were resolved, that could be very catalytic as well. But there is no question that without some incremental demand, which is why we're pushing very hard on the RVP, because that -- that's the single fastest way to relieve the supply-demand imbalances to open up the year-round market for E15. That opens up a potential market of 7.5 billion gallons. Clearly, we don't have that kind of supply. But we think that once the E15 starts, we have a very -- or starts in a year-round basis, that we have a much tighter market, but that is more of a 2019. So it's -- we think that there are couple of factors that could keep things in balance this year, but there are also some factors, such as everybody running harder than they have been, that could cause this market to continue to be out of balance.

Got it. Okay. Maybe last one just for Bryon on the repair costs. So just to be clear, so those are done in Q2, should not impact results going forward? And then, a follow-up, is that something where you can update on the insurance situation, given the problem equipment from a supplier?

Yes. So that is correct. The boiler expenses are behind us. There's still legal costs to prosecute our position against the boiler manufacturer working with the insurance companies. I wouldn't expect nor would I expect you to plan on insurance proceeds at this point. This is clearly a manufacturer defect. And so that's the position we're taking and as well as the insurance companies are probably getting legal action that way.

I don't think we have a very good case.

We do. Then your second part of your question was?

No, I think you covered it. I think we're good.

Okay.

Our next question comes from Craig Irwin of Roth Capital Partners.

So the onetime items that you mentioned in the press release, $5 million higher maintenance and then Bryon itemized the list for us, can you maybe clarify for us what this was sequentially? And whether or not the numbers you are sharing were year-over-year increases? And sequentially, how much of that is likely to disappear as we move into the third quarter? Do we get the full $0.05 in EBITDA margin uplift?

Yes. So it's interesting there's both a $5 million difference sequentially, but part of that increase is -- so year-over-year, Craig, there was a $5 million year-over-year increase, but $2.5 million of that was related to ICP, which was not in our portfolio last year. So not to be confused with that, which is sequential increase quarter-over-quarter, which was what I was commenting on largely. Which was, again, you had the boiler cost, we had some additional repairs, unplanned repairs and maintenance. And then on top of that, we had the couple of other expenses associated with that including the Western. The differential, it spreads between corn basis, rate basis and the premium that you were getting for West Coast product.

So in some, yes, it's $5 million that we do not believe will recur in a more normalized environment.

So the second question that I had was related to the relocation of the spurious refinery, small refinery, waivers that Pruitt handed out. Can you talk a little bit about how that's likely to play out at least from your perspective? Do you expect the EPA to potentially reallocate those gallons? Or is this something that's going to be maybe an unfortunate piece of history for the market?

I think the latter is the case. I think it's a long shot to think that the 2016 and '17 gallons related to the small refinery exemptions would be reallocated. What we think is quite possible and administrator -- acting administrator Wheeler essentially indicated it at a congressional hearing a week ago, was that on a prospective basis, that the EPA should come up with a mechanism to anticipate what those exemptions might be and reallocate those gallons. So it is very focused on a go-forward basis to make sure that we don't continue to experience the -- here's 15 billion gallons of a requirement that now has been reduced to 14 billion or less due to the other hand giving away the small refinery exemptions. So that is the focus on perspective. We're still working hard to remand as well the 500 million gallons that the courts have said were inappropriately held back by way of implicating the inadequate supply. That issue, we're litigating. We don't think there is a chance that the -- that, that will be part of the final RVO because it wasn't part of the proposals. It was hard to put something in that was not indicated, in fact, specifically asked not to be commented upon. So that also becomes something prospectively that, legally, the EPA is going to be required to reallocate those gallons and that might end up becoming part of the reset proposal that should be coming in 2019.

Great. And then last question, if I may. Do you have a view on the biodiesel tax credit and the potential conversion for that credit from a lender's credit to a producer's credit, given that a producer's credit would exclude an estate from the California market and do good things for LCFS credits, obviously, benefiting your West Coast production? Do you have a view there that you're sharing with your representation in D.C.? And as an association, this is something you think the ethanol lobby can get behind?

It's not something -- we're not currently a biodiesel producer, so it's not something that I spend a lot of time focused on. I know that when there was an effort to convert it to a producer payment, that there was a lot of political headwinds on that. And so I think the more likely outcome is if there is an extension of the biodiesel credit, it would still be a blender's credit.

Our next question comes from Carter Driscoll of B. Riley.

First question. I think you made a comment in the prepared remarks talking about you took your marketing volumes down fairly aggressively, helping profitability. Can you just help me square that? It has been largely a close to breakeven business for you. Why not continue to bring it down in this environment fairly dramatically and help the overall blended margin? Just trying to get your thought process there.

Yes, fair enough. And you'll see when we file the Q, that the marketing division was more than breakeven. It was quite profitable in fact. So the strategy was to really move out of markets that were just so competitive and we're really didn't have a competitive advantage, and were trading dollars at best markets like Arizona, for instance. So we have refocused that business on areas that are tributary to our production assets, which are very supportive. We have a competitive advantage. We have significant market share in all of the markets where we have ethanol production assets, particularly out west, where we have very significant market share beyond our own production capacity. And that's where we focus that business, where we have production advantages as well as carbon advantages and that has created a, while reduced, a profitable platform.

So is it -- should I think about this as a new run rate or a temporary adjustment?

That's a fair question. I would say for the moment, I would say a new run rate.

Okay. Obviously, there's been a lot of discussion on policy. Do you feel that the waivers have stopped or materially has flowed since the change in administration? And then, do you think that would or could have a positive effect on getting approval for cellulosic? And is there a realistic expectation that the tariff's -- the increasing tariff problems with China could go away? I mean, it seems like export markets has actually been healthier because Brazil stepped in and hasn't been kind of the down situation than we thought. On a run rate basis, it looks like we're tracking towards the high end of that 1 6 to 1 8 if the -- this -- at this run rate right now. Just trying to square the different parts of what this administration is clearly impacting on the biofuels policy of the biofuels industry in this country.

Yes. The RIN prices are in the $0.20 range so there's no question that have come down significantly, which undermines -- obviously, has undermined the demand for our product as we have this excess supply of RINs due to the small refinery exemptions. So that has taken some pressure off, which is why we think the rationale is stronger than ever to move forward with the RVP parity for the E15. And as E15 enters the market, more blending to the statutory numbers of the 15 billion gallons for conventional without any numbers there for small refinery exemptions and reallocated, if they are granted, that, that would continue to keep RIN prices low as more product is blended into the marketplace. Because the RIN prices are lower, we do assume, although there still is a lack of transparency from the EPA, but we do assume that those exemptions have slowed down, and hopefully, are not being granted at all. If you look at the public announcements from oil companies and record profits, you don't see a lot of economic hardships there either. So we are optimistic that, that has slowed and also optimistic that on a go-forward basis, that any exemptions will be reallocated. On the question of exports, you're right. I mean, that's -- incrementally, we're up strongly. At some point, tariffs with China will be resolved. It's hard to -- doesn't look like anytime soon, but it will happen and that would be a huge catalyst. I mean, if you look at where the exports are today and you add China back in, we were expecting 300 million to 400 million gallons from China. We're way less than that because they pretty much ceased taking any product after the first quarter. That alone would get this market very much in the balance and tighten up to where you would see a very different margin structure today if China were taking the amount of ethanol that, frankly, their market would like be taking. So a number of catalysts there that we see. Timing on when they kick in is a little less certain.

Okay. Maybe just a follow-up, Bryon. So you said most of the issues with the Pekin boiler is behind you. You were just referring to the legal uncertainty in terms of how you go after the cost, the actual installation is complete and expected to be performing at its -- however you run it on a run rate basis going forward? But performance-wise, everything is back to normal. It's really just a question of (inaudible) monetary damages, is that correct?

Yes. So it's only legal that's left.

(Operator Instructions) Our next question comes from Sameer Joshi of H.C. Wainwright.

Of the cost savings that are attributable to ICP, have they been completely realized at that $4.5 million level? And are these reflected in the recent quarter results?

The $4.5 million probably isn't fully reflected in Q2, but it will be going forward.

And I think Neil mentioned the Madera solar plant is operating at 70% because of some substation requirement that -- something that needs to be done at the substation level. What is the expected time line on that? And when do we expect that $1 million savings on annual basis to be fully realized?

We expect the substation work with the local utility PG&E to be completed by the end of the year. So from this point forward, so for Q3 and Q4, it will be more 70% of that $1 million savings on an annualized basis as well as the additional carbon benefit, which we'll see once we're up and running, but we expect that to be better than a point of carbon score. And then in -- going forward in 2019, we would expect the full 100% benefit, $1 million and the additional point plus of carbon benefit.

Understood. In terms of the capital expenditures that you have budgeted for rest of the year, are there any priorities that take precedence or others in case you decide not to spend as much?

Most of the capital expenditures that we have are commitments from either prior periods or -- and I wouldn't say that they include really any material commitments this year. So just seeing them through the rest of the way. As far as prioritization, they're going to be really focused. If we do make any additional capital expenditures, we have a number of projects that are sitting in the wings that have really phenomenal paybacks. And it's just the decisions as to deployment of capital and making sure that we're capitally disciplined about this.

Is any of this planned or budgeted for any further low carbon fuel initiative?

There are a number of projects in works and we'll announce them to the extent that they -- so you'll be able to build those into your analysis. But yes, there are number of capital projects that are available to us that would have significant benefits from a carbon intensity perspective.

But under the current balance of the year, capital expenditures that's related to just finishing projects that have already been disclosed, announced and repairs and maintenance CapEx and just keeping the platform efficient.

Understood. Going back to the macro level, how do you see E15 penetration for the rest of the year? And part 2 of that question is, is there any -- do you see any further industry consolidation and your participation in such consolidation going forward?

Yes. On E15, there's approximately 1,500 stations that are distributing that today. And we anticipate that to be 2,000 by the end of the year. The volume numbers are probably 100 million, 150 million gallons of incremental demand as you get to that 2,000 stations and -- or better. And as stations are added, it could grow to 200 million-plus in 2019. If you open up the E15 year-round and the summer blending, that number becomes incrementally lot larger and you then have an incentive for more players to get into the mix. And if the EPA is enforcing the RFS to the letter of the law, that is going to be a huge incentive for more E15 blending and that's why we're so focused on the RVP parity because that is an appropriate and valuable game changer. The consolidation, you have one large player that's announced they're selling plants. Who ends up buying them remains to be seen. We will look at assets, but today, we are focused on continuing to improve our own platform and continue to diversify the product mix and to continue to add value through the existing assets that we have.

And I'm showing no further questions at this time. I'd like to turn the call back to Neil for any closing remarks.

Thanks, Ashley, and thank you all for joining us today and your continued support of Pacific Ethanol. Have a good day, and look forward to speaking to you soon.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone...