MGP Ingredients, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; comparisons are with Q1 2017 unless noted. MGP produces distilled spirits and industrial alcohol, and specialty wheat protein and starch ingredients. Amounts below are in millions of dollars unless otherwise stated.
Financial results
| Metric | Q1 2018 | Q1 2017 |
|---|---|---|
| Net sales | $87.956 | $87.169 |
| Gross profit / margin | $18.951 / 21.5% | $19.041 / 21.8% |
| Operating income / margin | $10.389 / 11.8% | $11.392 / 13.1% |
| Income before taxes | $10.182 | $11.532 |
| Net income | $8.927 | $8.678 |
| Diluted EPS | $0.52 | $0.50 |
| Operating cash flow | $0.879 | $(0.942) |
| Capital expenditures paid | $6.978 | $6.454 |
Sales rose 0.9%, while gross profit declined 0.5% and operating income fell 8.8%. Net income increased 2.9%, primarily reflecting a lower effective tax rate and reduced net interest expense, partly offset by weaker operations and the absence of prior-year equity-method earnings. The effective tax rate was 12.3%, versus 24.7%; the company said the Tax Cuts and Jobs Act and share-based compensation tax effects were key factors. Tax accounting under the Act remained incomplete at quarter-end.
Segments and material changes
- Distillery Products: Sales increased 0.6% to $74.377 million, but gross profit declined 4.5% to $15.870 million and gross margin fell to 21.3% from 22.5%. Higher distillers feed/co-product, warehouse-service and fuel-grade alcohol sales offset lower food-grade alcohol sales. Premium beverage alcohol sales fell 3.4%, mainly due to customer-order and shipment timing; feed and co-product sales benefited from improved selling prices.
- Ingredient Solutions: Sales increased 2.7% to $13.579 million. Gross profit rose 27.0% to $3.081 million and gross margin improved to 22.7% from 18.4%, primarily due to higher average selling prices, partly offset by higher input costs. Specialty wheat starch and protein sales grew; commodity wheat protein sales were nil compared with $0.346 million a year earlier.
- SG&A increased 11.9% to $8.562 million, primarily from brand-platform investment, including personnel, advertising and promotion, and other personnel costs.
- The company sold its 30% interest in Illinois Corn Processing in July 2017; accordingly, Q1 2018 had no equity-method earnings, compared with $0.471 million in Q1 2017.
Cash, debt and liquidity
Cash was $1.123 million at March 31, 2018, down from $3.084 million at year-end. Operating cash flow was positive but modest; inventory absorbed $5.727 million of cash, while receivables used $0.185 million. Investing activities used $7.040 million, and financing activities provided $4.200 million, including $7.741 million of revolving-credit proceeds. The company paid $1.375 million in dividends and dividend equivalents.
Total debt, net of unamortized loan fees, was $32.235 million, up from $24.554 million at December 31, 2017. This included $11.039 million outstanding under the revolver and $20.000 million of fixed-rate notes. The $150 million revolver had $138.961 million available; the company reported compliance with its debt covenants. Current assets exceeded current liabilities by $106.484 million, largely reflecting $98.876 million of inventory, including $67.932 million of barreled distillate.
Outlook, risks and unusual items
- Management expected approximately $22 million of 2018 capital expenditures for facility improvements and expansion, maintenance and environmental, health and safety projects. The approved whiskey-warehouse expansion totaled approximately $33.8 million; about $28 million had been incurred by March 31, 2018.
- Management stated it expected cash from operations and borrowing capacity to support budgeted capital expenditures and anticipated operating requirements for the foreseeable future. No earnings or revenue guidance was provided in the supplied filing text.
- The company is building aged-whiskey inventory to pursue anticipated demand growth. This strategy ties up cash, and inventory requirements may rise with commodity prices. Grain, wheat flour and natural gas costs are exposed to market volatility; variable-rate debt also creates interest-rate exposure. A 100-basis-point increase in variable rates was estimated to raise annualized interest expense by $0.148 million based on quarter-end borrowings.
- Legal and regulatory matters remain related to the October 2016 chemical release at the Atchison facility. OSHA’s $0.138 million penalty was settled for $0.075 million in 2017. The EPA had indicated it intended to seek approximately $0.250 million in civil penalties; negotiations were paused pending its criminal investigation. The company had not accrued an EPA penalty, citing expected negotiated resolution and immateriality to the quarter. Potential private claims and regulatory outcomes could not be reasonably estimated; insurance coverage is subject to limitations and a deductible.
- The company adopted the new revenue-recognition standard using the modified retrospective method and reported no impact to opening retained earnings or Q1 results. It was evaluating the impact of the forthcoming lease standard.
Important facts for investors to verify
- Whether premium beverage alcohol order timing reverses and distillery segment margins recover.
- Progress, remaining costs and expected returns for the whiskey-warehouse expansion and the broader 2018 capital plan.
- Inventory growth, operating cash generation and the company’s ability to fund investment and dividends without materially increasing borrowings.
- Resolution and potential financial exposure from the EPA investigation and related private claims, including the extent and timing of insurance recoveries.
- Final tax accounting under the Tax Act and the sustainability of the unusually low Q1 effective tax rate.