CHS Inc. — FY2018 Form 10-K Summary
Reporting period: Fiscal year ended August 31, 2018. The filing also reports the fourth quarter ended August 31, 2018; it is an annual report, not a standalone quarterly filing. CHS is a farmer- and cooperative-owned integrated agricultural business, with Energy, Ag and Nitrogen Production segments. Prior-period figures identified below are restated.
Financial results and liquidity
| Metric | FY2018 | FY2017, restated |
|---|---|---|
| Revenue | $32.68 billion | $32.04 billion |
| Gross profit | $1.09 billion; 3.35% of revenue | $894.7 million; 2.79% |
| Operating earnings (loss) | $457.1 million; 1.40% of revenue | $(174.0) million; (0.54%) |
| Income (loss) before taxes | $671.2 million | $(110.2) million |
| Net income attributable to CHS | $775.9 million; 2.37% of revenue | $71.6 million; 0.22% |
| Cash from operating activities | $1.07 billion | $919.1 million |
| Cash from investing activities | $(79.5) million | $(405.0) million |
| Cash from financing activities | $(732.2) million | $(618.3) million |
Revenue increased about 2.0% year over year. Net income included a $104.1 million income tax benefit, including a provisional $155.2 million benefit from revaluing U.S. deferred taxes after the Tax Act, and a $131.8 million gain on disposals. The filing does not provide a clear measure of recurring earnings excluding these and other unusual items.
Energy segment revenue was $7.59 billion and pretax income was $452.1 million, versus $6.23 billion and $61.1 million in FY2017. Ag revenue was $25.04 billion and pretax income was $74.3 million, versus $25.72 billion and a $270.2 million loss. Nitrogen Production pretax income was $38.8 million; Corporate and Other was $106.0 million. The Nitrogen Production segment is an equity-method investment and reports no segment revenue.
At August 31, 2018, cash was $450.6 million, working capital was $759.0 million and the current ratio was 1.1. Notes payable were $2.27 billion and long-term debt, including current maturities, was $1.93 billion; combined, these were approximately $4.20 billion. Long-term debt declined from $2.18 billion, while notes payable rose from $1.99 billion. Total equities were $8.17 billion. CHS reported covenant compliance. Preferred stock outstanding was $2.26 billion; FY2018 preferred dividends paid were $168.7 million.
FY2018 investing included $355.4 million of property, plant and equipment acquisitions and $80.5 million of major repairs. Operating cash flow increased, with management citing working-capital efficiencies, improved inventory positions and receivable collections. Asset-sale proceeds were $234.9 million; proceeds from property and equipment dispositions were $91.2 million, including a corporate office sale-leaseback.
Fourth-quarter information
For the three months ended August 31, 2018, revenue was $8.58 billion, gross profit was $391.4 million, pretax income was $248.3 million and net income attributable to CHS was $240.4 million. In the comparable restated quarter of FY2017, revenue was $8.00 billion, gross profit was $91.6 million, pretax loss was $109.1 million and net loss attributable to CHS was $74.5 million. FY2018 fourth-quarter results included a $61 million disposal gain and reserve recoveries; the filing’s discussion identifies $18.8 million of reserve recoveries in that quarter.
Material changes, outlook and risks
- Restatement and misconduct: CHS restated FY2017 and FY2016 audited financial statements and multiple interim periods. An investigation found intentional misconduct by a former rail-freight trading employee who manipulated rail-car valuations and quantities; certain freight contracts also did not qualify as derivatives under accounting rules. The restatement reduced FY2017 pretax results by $55.3 million and net income by $56.3 million: restated net income was $71.0 million versus $127.2 million previously reported. FY2016 restated net income was $383.0 million versus $424.0 million previously reported. Additional intercompany and other accounting corrections were made.
- Controls: Management concluded disclosure controls and internal control over financial reporting were ineffective at August 31, 2018, due to material weaknesses in monitoring, journal-entry and reconciliation review, intercompany accounting, freight-contract accounting, and IT general controls, including ERP implementation controls. Remediation was underway; weaknesses would not be considered remediated until controls operated effectively for a sufficient period and were tested. The auditor did not attest to internal-control effectiveness.
- Business drivers: Energy profitability improved with higher crack spreads and favorable crude discounts; management expected those market conditions to support strong FY2019 Energy earnings. Ag faced lower margins, reduced liquidity and higher leverage across the industry, plus uncertainty from trade tensions. CHS expected FY2019 Ag revenue, margins and cash flows to remain under pressure.
- FY2019 cash needs: Management expected capital expenditures of approximately $515 million, including $151 million for refinery property and equipment, and about $177 million for planned McPherson refinery maintenance. It also expected $168 million of debt and capital-lease repayments, $83 million of long-term-debt interest and $168.7 million of preferred dividends. Management believed operating and investing cash flows plus credit availability would support operations and covenant compliance.
- Investigations and contingencies: CHS discussed its findings with SEC Enforcement staff and said it was cooperating; it reported no known formal SEC investigation or inquiry at the time, but could not predict outcomes or potential penalties. In FY2018 it also voluntarily disclosed to DOJ and the SEC potential FCPA violations involving reimbursements connected to Mexican customs officials in 2014–2015. The company could not estimate the outcome. Ordinary-course litigation and environmental liabilities were not expected by management to be material. The filing also identifies a potential excise-tax-credit gain contingency that, if recognized, could materially affect the financial statements.
- Other risks and unusual items: Commodity prices, weather, trade restrictions, counterparty and borrower defaults, refinery operations, RIN prices, environmental regulation, foreign exchange, seasonality and member business choices can affect results. FY2018 also included $37.7 million of reserve and impairment recoveries, $26.3 million of impairments related to international investments, and a $58.2 million gain on sale of CHS Insurance. CHS funded approximately $160 million of loan guarantees related to losses from its Brazilian trading partner; further recovery from that counterparty was not estimable.
Most important facts for investors to verify
- Review the restated financial statements and notes to understand the full period-by-period effects of the freight, intercompany and other corrections.
- Track remediation and independent testing of the disclosed material weaknesses, especially freight accounting, intercompany eliminations and ERP-related IT controls.
- Monitor any SEC or DOJ developments, potential sanctions, and the status and financial exposure of the FCPA matter.
- Assess earnings quality by separating operating performance from the tax benefit, asset-disposal gains and reserve recoveries; verify whether FY2019 Energy conditions persist and Ag pressures worsen or ease.
- Reconcile short-term borrowings, the securitization facility, cash needs and planned refinery spending; confirm continued covenant compliance and liquidity availability.