Filing summary
Entity note: The supplied filing is Pacific Ethanol, Inc.’s Form 10-Q, not an Alto Ingredients, Inc. filing. The filing covers the quarter ended September 30, 2014 and was signed November 12, 2014. Financial amounts below are in millions of dollars unless stated otherwise.
Business context and reporting period
Pacific Ethanol produced and marketed ethanol and co-products, including wet distillers grains and corn oil, primarily in the Western United States. It reported a 96% ownership interest in PE Op Co., which owned four plants with aggregate annual capacity of up to 200 million gallons. All four plants were operating; Madera restarted production on April 30, 2014 and reached full capacity in the second quarter.
Financial performance and liquidity
| Metric | Three months ended September 30, 2014 | Nine months ended September 30, 2014 |
|---|---|---|
| Net sales | $275.6 | $851.3 |
| Gross profit / gross margin | $18.0 / 6.5% | $90.1 / 10.6% |
| Operating income | $13.6 | $77.7 |
| Net income attributed to Pacific Ethanol | $4.0 | $8.8 |
| Income available to common stockholders; diluted EPS | $3.7; $0.15 | $7.8; $0.35 |
| Cash provided by operating activities | Not presented by quarter | $76.3 |
For comparison, the company reported a $5.0 million net loss attributable to Pacific Ethanol in Q3 2013 and a $9.4 million loss for the first nine months of 2013. Sales rose 17.8% year over year in Q3 and 22.8% for the nine-month period. Total gallons sold increased 27.5% in Q3 and 23.4% year to date, while average sales price per gallon fell 11.5% and 3.0%, respectively. Management attributed the improved gross profit chiefly to lower corn costs, stronger crush and commodity margins, higher yields, and increased volumes.
Q3 SG&A was $4.4 million, up from $2.5 million; nine-month SG&A was $12.4 million, up from $9.6 million. Interest expense declined to $1.1 million for Q3 and $8.4 million for nine months, primarily reflecting lower average debt.
At September 30, cash was $56.3 million, current assets $119.8 million, current liabilities $26.5 million, and working capital $93.3 million (current ratio 4.53). Total liabilities were $67.9 million. Reported long-term debt was $30.5 million, with no current portion; the balance included $13.5 million outstanding on Kinergy’s line and $17.0 million of third-party Plant Owners’ term debt. Kinergy reported $14.8 million of borrowing-base availability, and Plant Owners had $34.5 million available on revolving facilities with no balance drawn.
Operating cash flow of $76.3 million included substantial noncash adjustments, including a $37.5 million add-back related to fair-value changes in warrants. Investing used $16.0 million, including $10.0 million of property and equipment additions. Financing used $9.1 million; the company reported $64.8 million of debt retired during the period, alongside $42.7 million of warrant-exercise proceeds and $26.1 million net proceeds from an equity offering.
Material changes versus the prior comparable period
- Gross margin improved to 6.5% in Q3 from 1.5% and to 10.6% for nine months from 1.6%.
- Production restarted at Madera, and production and third-party gallons sold increased.
- The company reduced debt substantially, retired all parent-level debt, and increased cash from $5.2 million at year-end 2013 to $56.3 million.
- Common shares outstanding increased from 16.1 million at December 31, 2013 to 24.3 million at September 30, 2014, reflecting warrant exercises and an equity offering, among other issuances.
- Fair-value changes and warrant inducements were a $4.4 million expense in Q3 and $39.7 million for the nine-month period, versus income of $0.8 million and $1.5 million, respectively, in 2013. These items materially affected reported earnings and are subject to stock-price movements.
Outlook, risks, contingencies, and unusual items
- Management outlook: Management said industry margins compressed in late Q3 and early Q4, but viewed the weakness as seasonal and expected conditions to rebalance more favorably. It cited the large corn crop, continuing ethanol exports, and expected lower rail freight costs. These statements are expectations, not formal earnings guidance.
- Investment plans: The company approved up to $16.0 million of plant capital expenditures over six months, had spent about $2.0 million, and expected most spending by Q2 2015. Its stated target was a 6–7 cent-per-gallon annual operating earnings improvement, or $12–$14 million at full capacity. It also planned to extend corn-oil technology to the remaining plants by early 2015.
- Market and operating exposure: Results depend heavily on volatile ethanol, corn, natural gas, and co-product prices; production margins had contracted from their March 2014 peak. Other risks include rail and other infrastructure disruptions, plant downtime, regulation and renewable-fuel mandates, customer and supplier concentration, competition, and the availability of credit.
- Debt and liquidity: Management believed available resources and credit facilities were sufficient for working capital and capital expenditures for at least 12 months. Kinergy’s facility has financial covenants and expires December 31, 2015; the company reported covenant compliance and substantial headroom at September 30.
- Taxes and dividends: The company recorded income-tax provisions of $3.2 million for Q3 and $13.6 million for nine months, in part because warrant-related fair-value adjustments were not tax deductible. Series B preferred stock dividends were $0.3 million for Q3 and $0.9 million year to date; $2.2 million of accrued preferred dividends remained. Failure to make ongoing quarterly cash payments could trigger default under related agreements.
- Litigation: GS CleanTech alleged patent infringement relating to corn-oil separation technology and sought injunctions and damages. On October 23, 2014, a court issued a sealed order finding the asserted patents invalid and not infringed in other cases; the company believed the ruling would also resolve its cases and intended to seek dismissal. The ruling’s application to the company’s cases was not yet established in the filing.
- Controls: Management concluded disclosure controls were effective at a reasonable-assurance level and reported no material changes in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Confirm the intended issuer: the supplied 10-Q identifies Pacific Ethanol, Inc., while the request metadata identifies Alto Ingredients, Inc.
- Review the drivers and sustainability of improved plant-level margins, including the subsequent-quarter margin compression described by management.
- Separate cash generated by operations from noncash warrant-related adjustments when assessing cash-flow quality and earnings volatility.
- Check subsequent warrant exercises, share-count dilution, and the remaining preferred-dividend obligations.
- Track capital spending against the $16.0 million budget and verify whether the targeted operating improvements are achieved.
- Follow the status and scope of the GS CleanTech ruling, the related dismissal motions, and any potential exposure.