Business Context and Reporting Period
Company: MGP Ingredients, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: March 31, 2011 (Third Quarter of Fiscal Year 2011)
Business Overview: MGP Ingredients produces ingredient solutions (specialty starches and proteins), distillery products (food and fuel grade alcohol), and other plant-based polymers. The company operates facilities in Atchison, Kansas, and maintains a 50% interest in the Illinois Corn Processing, LLC (ICP) joint venture in Pekin, Illinois.
Key Financial Metrics
| Metric (in thousands) | Q3 2011 | Q3 2010 | YTD 2011 | YTD 2010 |
|---|---|---|---|---|
| Net Sales | $64,188 | $49,269 | $179,117 | $147,612 |
| Gross Profit | $6,519 | $4,967 | $25,665 | $23,314 |
| Gross Margin % | 10.2% | 10.1% | 14.3% | 15.8% |
| Net Income (Loss) | $701 | $(2,254) | $8,945 | $6,262 |
| Diluted EPS | $0.04 | $(0.14) | $0.50 | $0.38 |
| Operating Cash Flow (YTD) | $(1,709) | $22,176 | $(1,709) | $22,176 |
| Cash & Equivalents | $713 | $822 | $713 | $822 |
| Total Debt (Current + Long-term) | $8,245 | $2,771 | $8,245 | $2,771 |
| Working Capital | $25,478 | $25,142 | $25,478 | $25,142 |
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 30.3% in Q3 2011 and 21.3% YTD compared to the prior year, driven primarily by a 46.9% increase in the Distillery Products segment due to higher volumes of food-grade alcohol.
- Profitability: The company returned to profitability in Q3 2011 ($701k net income) compared to a loss of $2.3M in Q3 2010. YTD net income increased 42.8% to $8.9M.
- Cost Pressures: Cost of sales rose significantly due to raw material inflation. Corn costs averaged 66.2% higher per bushel and flour costs 44.3% higher per pound in Q3 2011 compared to the prior year.
- Cash Flow Deterioration: Operating cash flow turned negative YTD 2011 at $(1.7M) compared to positive $22.2M in YTD 2010. This was caused by a $17.3M increase in receivables and inventory and a decrease in payables.
- Debt Levels: Total debt increased to $8.2M from $2.8M, primarily due to increased utilization of the revolving credit facility ($6.0M outstanding) to fund working capital and capital expenditures.
Guidance, Outlook, Risks, and Unusual Items
- Capital Projects: The company is undertaking significant capital expenditures, including an $8.5M water cooling project at the Atchison distillery (expected completion Sept 2011) and a $2.5M infrastructure upgrade for the protein and starch plant.
- Joint Venture Performance: The ICP joint venture contributed $79k to earnings in Q3 2011, a significant improvement from a $1.5M loss in Q3 2010. ICP is operating near full capacity.
- Segment Performance:
- Distillery Products: Strong growth in sales and margins (11.5% gross margin in Q3) driven by food-grade alcohol volume and hedging gains.
- Ingredient Solutions: Sales declined 5.8% in Q3 due to lower volumes of commodity products and higher unrecovered raw material costs.
- Other: Sales declined 52.5% in Q3 due to lower unit sales of biopolymers and the exit from the pet products business.
- Risks and Contingencies:
- Commodity Volatility: Significant exposure to corn and flour price fluctuations, partially mitigated by derivative contracts.
- Environmental Compliance: The company is executing a project to comply with a Kansas Department of Health and Environment consent agreement regarding VOC emissions. Penalties apply if caps are exceeded or timelines missed.
- Credit Covenants: The company must maintain a minimum debt service coverage ratio of 1.25:1 and limit monthly losses to $2M. Management reported compliance as of March 31, 2011.
- Unusual Items: Prior year results (Q2 2010) were adjusted for out-of-period items totaling $1.35M related to accounts payable corrections and benefit plan settlements, which impacted comparative analysis.
Investor Verification Checklist
- Working Capital Trends: Verify the sustainability of the $17.3M increase in receivables and inventory and its impact on future cash conversion cycles.
- Raw Material Hedging: Assess the effectiveness of the company's derivative strategy given the 66% increase in corn costs and the $3.2M favorable impact on cost of sales YTD.
- Capital Expenditure Funding: Confirm the ability to fund the $8.5M water cooling project and $2.5M plant upgrade without breaching the $8M annual capital expenditure covenant (excluding water cooling).
- Joint Venture Exposure: Review the $15.5M maximum exposure to loss related to the ICP joint venture and the partner's (SEACOR Energy) financial stability.
- Debt Covenants: Monitor the debt service coverage ratio and monthly loss limits closely, as the company operates with a relatively thin margin profile in the Ingredient Solutions segment.