CHS INC quarterly report, Q1 FY2020

Business context and reporting period

CHS Inc. is a farmer-owned agricultural and energy cooperative. This unaudited Form 10-Q covers the fiscal first quarter ended November 30, 2019, compared with the three months ended November 30, 2018. Results are seasonal and interim performance may not indicate full-year results.

Key financial metrics

At November 30, 2019, cash and cash equivalents were $192.8 million; working capital was $992.5 million and the current ratio was 1.2. Notes payable were $2.171 billion and long-term debt, including current maturities, totaled approximately $1.754 billion. Total equities were $8.623 billion. The company reported $272.4 million of cash and restricted cash at quarter-end in its cash flow statement.

Material changes versus the prior period

• Energy segment income before taxes fell 30.2% to $162.2 million, mainly reflecting narrower WTI–WCS crude differentials and lower crack spreads. Propane demand and hedging gains partly offset the decline.
• Ag segment shifted to a $13.9 million pretax loss from $80.3 million income. Poor prior-year weather, weaker grain volumes and margins, trade uncertainty, and lower crop yields weighed on results.
• Nitrogen Production pretax income declined 30.5% to $16.5 million, reflecting lower urea and UAN prices and reduced equity income from CF Nitrogen.
• Corporate and Other pretax income decreased 32.9% to $20.7 million, primarily due to lower earnings from Ventura Foods and Ardent Mills and lower financing and hedging income.
• Equity income from investments declined 25.3% to $49.7 million. SG&A rose 7.8% to $168.3 million, including higher IT maintenance and ERP consulting costs and WCD-related payroll.
• Operating cash flow turned positive, with working-capital movements—including lower receivables and higher payables and accruals—more than offsetting lower net income. Investing outflow was $114.9 million; financing outflow was $71.9 million.

Outlook, risks, contingencies and unusual items

• Management expects normalized Energy market conditions from Q1 to continue through fiscal 2020. It expects Ag revenue, margins and cash flows to remain under pressure through the year amid challenging agricultural conditions and uncertain trade relations; duration and severity are uncertain. No specific earnings guidance was provided.
• Fiscal 2020 planned capital expenditures are approximately $532 million. Management also expected about $168.7 million of preferred dividends, $90 million of patronage cash distributions and approximately $90 million of equity redemptions during the fiscal year. It stated that cash, operating cash flow and available borrowing capacity should support operations and that it expects covenant compliance.
• Liquidity includes a $2.75 billion committed revolving facility, with $245 million outstanding, and a securitization facility with $700 million maximum availability; $601 million of its $601.5 million available amount was utilized. The securitization facility was scheduled to terminate June 26, 2020, subject to possible extension.
• Debt covenants were met at quarter-end. Guarantees for related entities totaled $178.3 million against a permitted maximum of $1.0 billion; management did not expect related cash payments. Routine environmental matters and litigation were not expected to have a material financial effect.
• Disclosure controls and procedures were deemed ineffective because of two previously identified material weaknesses in internal control over financial reporting. Remediation work continued, including control-plan execution, oversight and staffing efforts.
• CHS adopted lease accounting guidance on September 1, 2019: it recorded operating lease right-of-use assets of $268.4 million and liabilities of $267.0 million, and a $33.7 million cumulative adjustment to opening capital reserves. Adoption did not materially affect reported operations or cash flows.
• The March 2019 acquisition of the remaining 75% of West Central Distribution contributed $77.8 million of revenue and a $0.3 million pretax loss in the quarter; purchase accounting remained preliminary.

Important facts for investors to verify

• Whether Ag segment volumes and margins recover, given persistent weather-related effects and trade uncertainty, and whether management’s full-year pressure outlook changes.
• Energy segment sensitivity to WCS differentials, crack spreads, RIN prices and propane demand, including the assumption that Q1 market conditions persist.
• Working-capital and seasonal cash-flow needs, securitization-facility utilization and renewal, and the company’s capacity to fund planned capital spending, dividends and patronage distributions.
• Progress in remediating the two material weaknesses and the effectiveness of controls after remediation.
• Final WCD purchase accounting, potential asset valuation pressure in Ag, and changes in tax positions: unrecognized tax benefits were $98.7 million and could change significantly within 12 months.