MGP Ingredients, Inc. — Form 10-K Summary
Reporting period: Six-month transition period from July 1 to December 31, 2011, following a change in fiscal year-end from June 30 to December 31. This is not a full-year report or a standalone fourth-quarter report. Unless noted otherwise, dollar figures are in thousands. The comparable six-month 2010 results are unaudited.
Business context and significant developments
MGP produces food-grade and beverage alcohol, specialty wheat starches and proteins, and plant-based biopolymers and wood composites. On December 27, 2011, it acquired substantially all assets of Lawrenceburg Distillers Indiana’s beverage distillery business for an estimated $11,041, funded through its revolving credit facility. The acquisition added bourbon, whiskey, gin and grain-neutral-spirit capacity, but contributed only de minimis revenue and a $102 net loss through December 31.
On January 3, 2012, the company completed a holding-company reorganization. On February 1, ICP Holdings bought an additional 20% of Illinois Corn Processing (ICP) for $9,103; MGP’s interest fell from 50% to 30%, and the company expects to recognize an approximately $4,000 pretax gain in 2012.
Financial performance
| Metric | Six months ended Dec. 31, 2011 | Comparable 2010 period |
|---|---|---|
| Net sales | $146,477 | $114,929 |
| Gross profit | $2,946 | $19,146 |
| Gross margin | 2.0% | 16.7% |
| Income before income taxes | $2,329 | $8,278 |
| Net income | $10,635 | $8,244 |
| Diluted earnings per share | $0.59 | $0.46 |
| Cash flow from operations | $(9,603) | $(1,160) |
Sales increased 27.4%, driven mainly by distillery products. Net income includes a $13,048 after-tax bargain-purchase gain on the Indiana acquisition; excluding that unusual gain, reported earnings do not reflect comparable underlying operating performance. A $1,301 impairment charge was also recorded.
- Distillery products: Sales were $118,437, up 38.2%. Segment pretax income fell to $1,234 from $15,426; return on sales declined to 1.0% from 18.0%.
- Ingredient solutions: Sales were $27,596, down 3.5%. Segment pretax income was $1,044 versus $1,863.
- Other: Sales were $444; segment pretax loss was $274.
Higher commodity costs significantly squeezed margins: corn cost per bushel averaged 53.4% higher and flour cost per pound 34.0% higher year over year. Pricing did not fully offset these increases. Production interruptions at Atchison, a planned 10-day shutdown of protein and starch production, higher flood-related transportation costs and losses on non-hedge-accounted derivatives also weighed on results.
Cash, liquidity and debt
- At December 31, cash and cash equivalents were $383; restricted cash was $7,605. Working capital was $18,887, down from $22,381 at June 30, 2011.
- Total debt and capital lease obligations were $29,664, including $21,142 drawn on the Wells Fargo revolving facility. Reported availability under the facility was $23,358 at December 31, subject to borrowing-base limits.
- Operating cash flow was negative $9,603; investing cash flow was negative $12,324 and financing cash flow was positive $14,707. The acquisition and other capital investment drove cash uses, while increased borrowings funded the shortfall.
- After the ICP interest sale, proceeds were used to reduce revolving borrowings; reported facility availability was $19,177 at February 29, 2012.
- Stockholders’ equity was $84,430. The company paid a $0.05-per-share dividend during the period and declared another $0.05 dividend payable in April 2012.
Outlook, risks and unusual items
Management’s strategy is to emphasize higher-margin specialty ingredients and premium food-grade and beverage alcohol, improve operations and develop bio-based products. No quantified revenue or earnings guidance is provided. Management expects grain prices to remain volatile and intends to use supply agreements and hedges to protect margins; pass-through of cost increases is not assured. The company entered a grain supply contract for the Indiana distillery and was negotiating a longer-term contract for Atchison.
- The Wells Fargo facility requires a minimum fixed-charge coverage ratio of 2.00 to 1.00. MGP failed this test for the 12 months ended December 31, 2011 and obtained a lender waiver. It reported compliance with the separate adjusted-net-income covenant. The facility also limits dividends and other actions and is secured by substantially all personal property and certain facilities.
- ICP reported a $1,240 net loss for the six months ended December 31, 2011, of which MGP’s share was $620. Prior ICP covenant violations were waived through September 30, 2011. Further losses or liquidity deterioration could permit plant closure or lender remedies and could affect MGP’s product supply and investment value.
- Key risks include grain, flour, natural-gas and ethanol price volatility; inability to pass on costs; facility outages; integration and performance of the Indiana acquisition; customer and supplier concentration; and regulatory and environmental requirements. A new Atchison water-cooling system, completed in July 2011, cost approximately $10,000; no related emissions penalties were incurred in the transition period.
- The acquisition’s bargain-purchase gain depends on fair-value estimates using significant unobservable inputs and remains subject to working-capital and purchase-accounting adjustments. The acquired business’s internal controls were excluded from management’s and the auditor’s internal-control assessment at December 31; management concluded controls for the assessed business were effective.
Most important facts for investors to verify
- Underlying operating earnings excluding the acquisition-related bargain gain, and the final purchase-accounting and working-capital adjustments.
- Progress in restoring gross margins as input costs, hedges and customer pricing change.
- Liquidity, borrowing-base availability and continued compliance with Wells Fargo covenants after the waiver.
- Indiana distillery integration, capital requirements, customer supply commitments and profitability as operations scale.
- ICP’s operating results, covenant status and the financial and supply implications of MGP’s reduced 30% ownership.
- Cash conversion and restricted-cash needs, given negative operating cash flow and low unrestricted cash at period-end.