Pacific Ethanol, Inc. — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015. The filing identifies the registrant as Pacific Ethanol, Inc.; it does not identify Alto Ingredients, Inc. as the filer.
Business context
Pacific Ethanol produced and marketed ethanol and co-products, including wet distillers grain (WDG) and corn oil, and operated four Western U.S. ethanol plants with aggregate annual capacity of up to 200 million gallons. It held a 96% interest in the plant-owning entity. Dollar amounts below are in millions unless noted.
Financial performance and liquidity
| Metric | Q1 2015 | Q1 2014 / comparator |
|---|---|---|
| Net sales | $206.2 | $254.5 |
| Gross profit (loss) | $(1.0); gross margin approximately (0.5%) | $38.5; 15.1% margin |
| Operating income (loss) | $(5.9) | $34.9 |
| Consolidated net loss | $(4.5) | $(8.8) |
| Net loss attributable to common stockholders | $(4.7), or $(0.19) per share | $(11.1), or $(0.69) per share |
| Cash provided by operating activities | $7.3 | $22.9 |
| Capital expenditures | $8.2 | $1.8 |
| Cash and cash equivalents | $42.3 | $62.1 at December 31, 2014 |
| Current assets / current liabilities | $110.6 / $22.8 | $139.6 / $25.4 at December 31, 2014 |
| Working capital / current ratio | $87.7 / 4.84 | $114.1 / 5.48 at December 31, 2014 |
| Long-term debt, net of current portion | $17.0 | $34.5 at December 31, 2014 |
Net sales fell 19% year over year as average sales price per gallon declined 39% to $1.65, more than offsetting a 20% increase in total gallons sold to 135.7 million. Average delivered corn cost declined 16.5% to $4.81 per bushel, but weaker ethanol prices and excess industry supply compressed crush margins and drove the gross loss. SG&A rose 33.7% to $4.9 million, mainly from merger-related professional fees. Net interest expense declined 76.7% to $1.0 million, primarily due to lower average debt.
Cash declined $19.8 million during the quarter. Operating cash flow of $7.3 million was more than offset by $8.2 million of capital spending and $19.0 million of financing cash outflows, including $17.5 million of payments on Kinergy’s credit line. Kinergy ended the quarter with no balance on its $30 million line; the Plant Owners had no revolving-credit borrowings and reported $34.5 million of aggregate availability. Plant Owners’ term debt outstanding was $17.0 million on the consolidated balance sheet. Their facilities bear floating rates; the reported average rate was approximately 11%.
Material changes and unusual items
- Sales volume increased while revenue and gross profitability declined sharply because selling prices fell faster than input costs.
- Fair-value warrant expense was $0.2 million versus $35.8 million in Q1 2014. This noncash item substantially affected the prior-year comparison; remaining warrant revaluations may continue to create earnings volatility.
- The company recorded a $2.7 million income-tax benefit in Q1 2015. In Q1 2014 it recorded a $3.3 million tax provision despite a book loss, primarily because warrant fair-value expense was not tax deductible.
- Capital expenditures increased to $8.2 million, associated with plant improvement initiatives. Management approved a budget of up to $30 million for plant investments over the following year.
Outlook, risks and contingencies
- Management said industry margins were negative in Q1 2015 but had improved to positive in Q2 to date. It had increased production and expected to maintain those levels for the rest of 2015 if the improved supply-demand balance persisted. These are management expectations, not guaranteed results.
- The company expected the Aventine Renewable Energy merger to close in Q2 2015, subject to shareholder, regulatory and other closing conditions. The stated exchange ratio was 1.25 Pacific Ethanol shares per Aventine share, with approximately 17.75 million shares expected to be issued; pre-merger Pacific Ethanol holders were expected to own approximately 58% of the combined company. Pacific Ethanol had incurred $1.7 million of merger-related fees through March 31. The filing also cited estimated combined transaction costs of approximately $2.4 million.
- Management described plans for plant-efficiency, corn-oil, co-generation and advanced-biofuel projects. It estimated that planned plant investments could improve annual operating earnings by $10–$12 million at expected production margins and full capacity; these targets depend on execution and market conditions.
- Key business risks include volatility in ethanol, corn, natural gas and co-product prices; production, logistics and infrastructure interruptions; dependence on a concentrated customer and supplier base; industry competition; and regulatory changes affecting renewable-fuel mandates. A 10% adverse price move over the modeled three-month volumes was estimated to reduce pretax income by approximately $7.6 million for ethanol and $7.7 million for corn. A 100-basis-point rate increase was estimated to reduce quarterly pretax income by about $0.1 million.
- Kinergy reported Q1 three-month EBITDA of $(0.3) million against a stated $0.5 million covenant threshold. The filing says covenant testing was waived for the quarter because required availability levels were maintained. Investors should distinguish this waiver from performance against the stated threshold.
- In GS CleanTech patent litigation, the court ruled in January 2015 that the patents at issue were invalid and therefore not infringed; an inequitable-conduct claim remained, and GS CleanTech indicated it would appeal after resolution of that claim. No provision was recorded because management did not consider a material adverse ruling probable.
- The filing discusses material Aventine-related contingencies if the merger closes, including litigation concerning the Aurora facility and rail access, and an approximately $8.6 million storage-fee claim against an Aventine affiliate. It also warns of higher combined-company debt: pro forma consolidated debt was estimated at approximately $192.2 million as of December 31, 2014, after giving effect to the merger.
- Management concluded disclosure controls and procedures were effective at a reasonable assurance level as of March 31, 2015; no material quarterly change in internal control over financial reporting was reported.
Important facts for investors to verify
- Confirm the issuer and filing identity: this 10-Q is for Pacific Ethanol, Inc., despite the request metadata naming Alto Ingredients, Inc.
- Check whether Q2 margin improvement continued and whether production levels and plant upgrades delivered expected results.
- Verify the Aventine merger’s closing status, final share issuance and ownership dilution, transaction costs, acquired debt, and resolution of the disclosed Aventine litigation and rail issues.
- Monitor cash use, capital spending, available borrowing capacity, covenant headroom and the effect of lower commodity margins on liquidity.
- Track commodity prices, customer and supplier concentration, warrant-related fair-value changes, and any developments in the GS CleanTech matter.