Green Plains' (GPRE) CEO Todd Becker on Q2 2014 Results - Earnings Call Transcript

| About: Green Plains (GPRE)

Green Plains Inc. (NASDAQ:GPRE)

Q2 2014 Earnings Conference Call

July 30, 2014 11:00 AM ET

Executives

Jim Stark – VP, IR and Media Relations

Todd Becker – President and CEO

Jerry Peters – CFO

Analysts

Farha Aslam – Stephens, Inc.

Michael Cox – Piper Jaffray

Lawrence Alexander – Jefferies

Patrick Jobin – Credit Suisse

Matt Farwell – Imperial Capital

Craig Irwin – Wedbush Securities

Operator

Good day everyone and welcome to the Green Plains Second Quarter 2014 Financial Results Conference Call. Today’s conference is being recorded. For opening remarks and introductions I’ll turn the call over to Mr. Jim Stark. Please go ahead, sir.

Jim Stark

Thanks, Canabie. Good morning and welcome to our second quarter earnings conference call. On the call today are Todd Becker, Chief Executive Officer; Jerry Peters, our Chief Financial Officer; Jeff Briggs, who is our Chief Operating Officer, and Steve Bleyl, who is Executive Vice President of Ethanol Marketing.

We are here to discuss our quarterly financial results and recent developments for Green Plains. There is a slide presentation for you to follow along with as we go through our comments today. You can find this presentation on our website at www.gpreinc.com on the investor page under the Events and Presentations link.

Our comments today will contain forward-looking statements which are any statements made, that are not historical facts. These forward-looking statements are based on the current expectations of Green Plains’ management team and there can be no assurance that such expectations will prove to be correct. Because forward-looking statements involve risk and uncertainties Green Plains’ actual results could differ materially from management’s expectations.

Please refer to Page two of the website presentation and our 10-K and other periodic SEC filings for information about the factors that could cause different outcomes. The information presented today is time sensitive and is accurate only at this time. If any portion of this presentation is rebroadcast, retransmitted or redistributed at a later date, Green Plains will not be reviewing or updating this material.

I’ll now turn the call over to Todd Becker.

Todd Becker

Thanks Jim and thanks for joining our call this morning. 2014 is shaping to be a record year, the second quarter was also our second best quarter in our history and puts us in an excellent position to end 2014 very strong. In the current market Green Plains should report stronger 2014 second half results, more than $1.88 per earnings per share reported in the first half 2014.

For the second quarter we generated net income of $32.3 million or $0.82 a share. Our ethanol production reached a record 242 million gallons or approximately 95% of our expected daily average production capacity for the quarter. We also produced a record amount of distiller’s grains totaling 653,000 tonnes in the second quarter and also produced a record amount of corn oil at 58 million pounds.

Overall we generated $66 million in total segment operating income before corporate costs. This includes a nearly $20 million of additional income from inter-segment eliminations that we discussed with you during the first quarter conference call. If you remember we pointed to net realized margins after eliminations and for now this impact is generally behind us as inventories and in transit volumes have adjusted back to more normal levels as fleet velocities made progress this quarter.

So net realized ethanol margins are really a combination of ethanol segment operating income and inter-segment eliminations and per gallon were actually similar on that basis. Both Q1 and Q2 were approximately $0.25 per gallon when looking at it this way. We always had inventories and have inventories and in transit gallons. The end of the first quarter was filled with both margin volatility and transportation issues which led to much larger swing than normal. While we don’t expect this to be the norm it will not be the last time we run in to this issue, Jerry will give you a detailed look at this in his presentation as well.

We made good progress on several fronts in the quarter with our 12 million bushel grain expansion on track to be ready for the sizable corn crop that we expect to be harvested this fall. We expect to have over 43 million bushels of storage as a company for this crop year. The plan is to continue to expand in this area as discussed previously.

We were successful in completing the refinancing of five ethanol plant term loans in the second quarter as well. The new agency rated credit facility provides Green Plains with a platform to refinance other ethanol plant term loans as they mature and also provides a financing vehicle for other potential acquisitions and/or initiatives we may have in the future. The refinancing along with the cash generation we’re experiencing puts our balance sheet in the best position in our history.

Our long-term often applauded, often criticized risk management philosophy is one of the reasons Green Plains was able to clear the market with an offering like this. As illustrated in the past over the five-year operating period we cut margin volatility into half at the long-term cost of less than $0.02 per gallon.

Now I’ll turn the call over to Jerry to run through the second quarter financial performance and I’ll come back to close the call with some additional company and industry comments.

Jerry Peters

Thanks, Todd and good morning everybody. We’re pleased to report a solid second quarter with net income of $32.3 million or $0.82 per diluted share compared to $6 million or $0.19 per share last year. We reported consolidated revenues of $838 million in the second quarter which was up 4% from a year ago. Volumes sold for each of our primary commodities increased substantially while average prices realized declined. For example volumes of ethanol sold increased 26% to over $303 million gallons while the average realized price per gallon was 22% lower than last year’s second quarter.

The acquisitions of the plants at Atkinson, Fairmont and Wood River accounted for the majority of the increase in ethanol volumes year-over-year and was also the primary reason for a 35% increase in distiller’s grains production and a 47% increase in corn oil production compared to the second quarter of last year.

Our consolidated operating income for the quarter was $58.9 million versus $18.6 million a year ago as a result of these higher production levels and overall better margin environment in the ethanol industry. In our segment results, the ethanol production segment generated $30.1 million of operating income for the second quarter compared with 7 million last year. In addition our intersegment eliminations turned around as expected contributing about $19.8 million of additional operating income to the quarter. As we discussed on the first quarter call we anticipated about 75% of the $22 million deferred profit in the intersegment eliminations to turn around and be realized in the second quarter. Our marketing and logistics group was able to do a little better than that as we managed our ethanol inventories down to close out the quarter.

On page four of the presentation materials, we’ve included some additional information on our realized ethanol production margins. When you focus on ethanol production sold externally you will note that we sold 8 million gallons less than produced in Q1 and 12 million gallons more than we produced in Q2. This inventory build and then subsequent liquidation which was caused by transportation constraints earlier in the year caused reported margins in the ethanol group to fluctuate between the first and second quarters but this was then offset by intersegment eliminations. In fact putting the two quarters together you see a relatively realized margins for volumes sold to external customers of $0.25 to $0.26 per gallon for the first half of 2014.

In our other segments we generated $16.5 million of non-ethanol operating income for the quarter, which was down $800,000 from the second quarter of 2013. We reported increases of $3 million in operating income for corn oil production and $1 million increase in the agrobusiness segment offset by a decline in the marketing and distribution segment year-over-year. Marketing and distribution’s lower performance is primarily related to a decline in our crude oil transportation activity in 2014 versus 2013 as nearly all of our tanker cars have been returned to ethanol service.

Given the performance in the first quarter of 2014 the marketing and distribution segment has had a very strong first half. Interest expense increased approximately $1.9 million in second quarter of 2014 compared to a year ago due to higher average debt balances outstanding. Our income tax expense was $17.8 million for the quarter, which was approximately a 35.5% effective tax rate for the quarter. We anticipate our tax rate to be around 37% for the remainder of 2014.

One item to highlight is that we changed how we account for the 3.25% convertible notes in our diluted earnings per share calculation. In May we received shareholder approval to allow for flexible settlement in cash, shares of stock or a combination of each for the conversion of these notes. At the beginning of this quarter we adopted the treasury stock method based on our expected use of cash to settle the principal balance of this as they come due. This will simplify our diluted earnings per share calculation going forward and generally result in reduced weighted average share outstanding. Our diluted share count was approximately 39.4 million for the second quarter and the share count will fluctuate based on the average share price but should remain around 40 million shares on a diluted basis for the rest of the year.

Earnings before interest, income taxes, depreciation and amortization or EBITDA was $74.5 million for the second quarter and on a trailing 12 months basis EBITDA totaled approximately $270 million. As Todd mentioned earlier our balance sheet is in great shape.

On slide seven, you can see our net term debt as of June 30th was approximately $115 million less than one year ago. Over the past four quarters we’ve invested approximately $130 million in acquisitions and another $40 million in capital expenditures while reducing net term debt by $115 million. Our total cash and equivalents is nearly $375 million at the end of the second quarter. We achieved a significant milestone with the refinancing of five ethanol plant term loans with the $225 million term loan B transaction led by BMO Capital Markets and BNP Paribas. The transaction refinanced approximately $191 million of debt at the subsidiary level enabled the release of excess working capital and trapped earnings in these subsidiaries of over $100 million up to the parent.

In addition the new structure which is secured by six of the company’s ethanol plants reduces our aggregate minimum required principal payments by nearly $30 million annually to less than $0.04 per gallon. The facility also frees up future cash flows to the parent and extends the average maturities of the company’s debt portfolio from 2.9 to 5.4 years. The term loan received a double B plus B2 ratings from S&P and Moody’s respectively and was very well received by the markets. Given the market response and the positive impact the company’s performance will have to our overall credit profile we anticipate expanding the facility at advantageous interest rates to refinance some or possibly all of our remaining subsidiary facilities in the months ahead.

With this refinancing and the strength of our operating results we’ve reduced our term debt total capitalization to 41% and posted a leverage ratio of 1.9 times our trailing 12 months EBITDA. We expect to continue to experience solid improvement in our ratios and remain on target to reach zero net debt in 2015 absent a significant acquisition.

With that I’ll turn the call back over to Todd.

Todd Becker

Thanks Jerry. So we are approximately 90% hedged for the third quarter and 25% for the fourth quarter but let me give you a bit of perspective on the forward margin movement that we just came out of the second quarter so you can get perspective. On the first day of second quarter when we looked at the curve Q3 margins were just $0.11 per gallon and Q4 margins were less than a nickel. We are in a production increasing and stock increasing environment. We certainly do not believe coming in to driving season that this was going to hold. By May margins expanded in the low 20s and by July in the low 30s for the third quarter. We have to ultimately make a decision and want to move back into to lock margins away and we remained very patient during this process which is why we can give you positive guidance for the last half of the year after coming off the best two quarters in our history.

The forward cost remains and continues to remain strong because of ethanol fundamentals which are solid. Domestic gasoline demand continues to run above the five year average and consequently the blending of ethanol continues to be stronger than a year ago. The ethanol discount, the wholesale gasoline remains significant and both domestic and export demand is robust. After a low in new export interest for the third quarter we have now seen a significant pickup in export demand for the fourth quarter of this year and the first quarter of 2015. We have seen new interest from the Middle East, Brazil and even India in addition to the normal channels such as Canada.

With that said we have sold up to 16% of our fourth quarter and 14% of our first quarter 2015 production for export depending on executions into export channels and continue to work very hard to provide backing to exporters for more overseas business. Much like late last year and early this year which is the last time we indicated to your export sales volume. We believe this environment will lead to a continuing expanded margin structure. With the combination of export demand and potential winter rail delays it can make for another interesting season during Q4 and Q1.

So in summary for this discussion we locked in Q3 when margins expanded to a point that made sense for us to make the decision. We are being more patient for Q4 and Q1 margins as fundamental seem to be in our favor to take step back and assess when to pull the trigger. At this point nothing points to a need to be in a hurry. Any slowdown in the rail fleet velocities in the U.S. will lead to additional tightness in the overall stock situation which will lead to a better margin environment and we expect this will lead to a strong last half overall as discussed.

I want to spend a moment on distiller’s grain since this has been an area of interest for many of you. While we have seen the price per ton back over the last few months, we have seen an increase in usage of [DDG] or distillers grains in livestock feed in U.S. as a result of the lower price. Interestingly enough while the contribution to our margins has fallen from the decrease in distiller’s prices the corresponding drop in corn and natural gas prices along with the strength in ethanol has actually led to an expanded margin environment all since the Chinese market seems to have closed to the U.S. product.

We are pleased to announce the acquisition of Supreme Cattle Feeders in June. We believe that Supreme is a great adjacent business for us which provides us more insight into the cattle feeding business for which nearly 67% of the distillers sold by the U.S. ethanol industry goes into either beef or dairy cattle. At the end of June, Supreme had approximately 50,000 head of cattle on feed which were mostly customer cattle. We believe this is an excellent adjacent business for the company and its shareholders just the insights gained from the rational inclusions this quarter during the drop in distillers prices helped the company make better decisions overall. There are many similarities to the ethanol model and we’ve been able to very quickly integrate this business into the company.

The agribusiness segment this quarter included a small bump in operating income from this new business. As we transition from customer cattle to company cattle we expect a continued contribution to operating income this year. While this is a business we like to expand it, it is not our core focus. Green Plains is an ethanol producer and we continue to look for opportunities to expand ethanol production and ethanol distribution or other parts of our value train that bring additional revenue and income streams to the bottom line.

I’ll just give you a quick update on the BioProcess Algae venture. Since we have completed our initial obligation to the DOE program we have continued to meet the department of energy milestones at each step. We are evaluating whether continued involvement will accelerate our commercial development as well. As we mentioned on the last call the focus of the work with DOE was to provide Algae Oil for military fuel development and encouraging results also translate to an acceleration of very interesting opportunities, further oil based opportunities in chemical and Omega-3 applications.

We are in final planning stages for the new expansion of production capacity in order to produce products that are in demand. We have had several development efforts with end-use demand most recently around our EPA strain to be included in human nutrition products with good results. We need to be able to produce products under current GMP or good manufacturing practices for human consumption, and we’re focused on getting approval for that. We have also efforts for our products to be certified for food and feed products which we are working on as well.

So we continue to focus on long term shareholder value and we still firmly believe there is significant growth available for Green Plains from the platform we have built that benefit all of our stakeholders. The platform continues to generate free cash flow and we continue to be good stewards of your capital. With that, I close my comments and then we’ll open up the call for questions. So Debbie, let’s get started.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). We’ll take our first question from Farha Aslam with Stephens.

Farha Aslam – Stephens, Inc.

Hi. Good morning.

Todd Becker

Good morning, Farha.

Farha Aslam – Stephens, Inc.

Quick questions on production. In terms of Green Plains do you anticipate that this 95% run rate is sustainable going into the second half of the year, or should we back – can you run at a 100% capacity?

Todd Becker

I think right now on paper we’re running higher than that. So we are pushing forwards with full capacity close to a billion gallons run rate. In terms of kind of go forward so we’re pushing towards that 250 million gallons a quarter toward trying to increase that even more.

Farha Aslam – Stephens, Inc.

Okay, and then in terms of the industry, what do you think the industry’s sustainable kind of run rate is at this point? Can we stay at this kind of 14.5 billion to 15 billion gallons?

Todd Becker

We’re in the sweet spot of kind of rail moment and capacity and with really no significant major downtime for maintenance which is what we saw in the second quarter of the year, as we saw production volumes go down.

As the season continues and we get towards new crop again I mean we will start to see maintenance turnarounds again, impact weekly production. So I think overall between maintenance and potential winter issues around rail movements that could happen again this year.

I am not sure we can maintain 950. We’ve averaged 911 since a year ago or since October of last year. If you kind of look over that whole time period we’re probably closer to a 911 to 925 sustainable run rate much more than 950 to 960 every single week.

Farha Aslam – Stephens, Inc.

And then when we look at additional ethanol capacity coming online do you anticipate any new plants to be commenced given the margin environment we’re seeing?

Todd Becker

In terms of built capacity already?

Farha Aslam – Stephens, Inc.

No, new capacity coming online how do you think you can see incremental capacity creep in existing facilities and do you anticipate any new facilities for the industry?

Todd Becker

Okay. So I’ll answer three different things here. So the first thing is, I don’t anticipate [envisaging] to build a new facility. I think there still a couple of facilities that could come online, couple of hundred million gallons. Potentially we know that one Indiana facility is coming back online and I think there is still one in Nebraska that probably comeback online fully at some point.

And then beyond that capacity creep at this point because you start to bump up against your base line, it’s very difficult unless you want to fully just make an export gallon and then you could push a little bit harder but still at this point, we don’t see significant capacity creep to the upside from these levels.

Farha Aslam – Stephens, Inc.

Great, and my final question is just on the export market, how many gallons do you think the U.S. is going to export this year in totality and any color on outlook for next year?

Todd Becker

I think we’re still going to push between that 800 million and a billion gallons unless we see something significantly different than what we see today in the fourth quarter. The third quarter we didn’t see as robust of interest as we saw in Q1 and Q2 of the year but we are starting to see the real big pick up in Q4 and Q1 of next year.

So I think we’re still in that 800 million to a billion gallons of export. And I think when you look at potentially 2015 you could see that same thing happen as ethanol continues to compete very well as a molecule globally. More importantly we have a potential for this dry weather to continue in Brazil. I think that something we have to watch very closely as it could be a real problem if we don’t get some moisture down there of having two back to back potential issues down there which then is obviously favorable as well from a pricing standpoint in the world market for U.S. ethanol.

So I think when you look at it and based on the current curve and based on the current market especially the forward curve in ethanol we are highly competitive in the world all the way through 2015 so we could see another 800 million to a billion potentially more than that for 2015 as well as long everything else holds.

Farha Aslam – Stephens, Inc.

Great, my last question is, on a spot basis where would GPRE’s EBITDA margins fee right now?

Todd Becker

On an absolute nearby spot market in today you are above $0.40 a gallon.

Farha Aslam – Stephens, Inc.

Thank you.

Operator

We’ll take our next question from Michael Cox with Piper Jaffray.

Michael Cox – Piper Jaffray

Good morning guys. I don’t want to I guess dwell too much on this but as you look at the 2Q realized margin, could you speak, I guess provide a little more color as to how the movement of inventory moved that margin around from Q1 to Q2?

Todd Becker

Yeah. I mean Michael we always carry inventories. So I mean it’ not like we had a significant inventory build and are in transit in inventories. What happen was because of the way that the economy works on when title transfers depending on how the sales book looks it could impact profitability between quarters. It always has but it never showed in a very large way in the intersegment elimination because of the way the company was set up in the past and the way that company marketed ethanol in the past.

So what you saw now is because of the slowdown in rail movement and the volatility sometimes in the spot versus next month margin structure or next quarter’s margin structure, sometime you’ll see an impact like this. It’s been happening any ways. You just haven’t seen the large numbers because they’ve been up in the ethanol segment that’s why we said at the end of the last quarter you need to add ethanol production plus intersegment eliminations and that will gave you a net realized margin and we said most of that will come back in the second quarter to give you a net realized margin.

So when we lock in first quarter margins our goal is to lock in the mid-20s for the first half margins for each quarter and we are able to do that and it was just a function of when if you shipped very fast or you shipped earlier or you shipped late depending on the quarter and when things land. If they land before the end of the quarter, will be counted in this quarter, if they land at the first week of next quarter it counts in next quarter and that’s really where we saw the big volatility because we couldn’t adequately predict rail movements because of the issues around the U.S. railroads and the carriers and what they were doing typically we can’t predict when things are going to arrive, when title can transfer and when we count them in earnings. And this was just a much more volatile end of quarter that we couldn’t predict that. And that’s where we had things moving between quarters but they always do anyways they were just more pronounced.

Michael Cox – Piper Jaffray

Okay, that’s really helpful. And you commented on removing some of the sub-debt or moving towards a model like that. How would that change your flexibility with your cash and the flow of cash to corporate and your ability to use that cash in different ways?

Jerry Peters

Yeah, Michael this is Jerry. With the term loan B we have an awful lot of flexibility of moving cash up to the parent company. It’s a 1% amortization and then we have an excess cash flow suite and once we satisfy that everything else can move up to the parent company level versus the old subsidiary financing involved working capital covenants and other restrictions that basically cause us to get a lot of cash crap down in those subsidiaries.

So we have seen a pretty dramatic shift just on the plants that we have done so far and would expect an additional amount of flexibly where basically that cash is sitting in the corporate treasury rather than in the subsidiaries treasury. Gives us a lot more flexibility as far managing working capital.

Michael Cox – Piper Jaffray

Okay, okay, that’s helpful. And just last question you had commented Todd on the DDGs and obviously we have seen corn prices come under pressure and as a result we would expect DDGs to come under pressure as well. But as that situation calms down and potentially gets resolved where would you see DDG pricing trending over the next six or nine months?

Todd Becker

It really comes down to whether we can open that Chinese market backup or not or whether we find a new market for our product, which we seen other market step in at these price levels and these relationships to corn. So we saw a significant drop and we have work through and some areas below 100% the value of corn and even lower than that. When the Chinese market was robust and we had that demand and predictable demand then DDGs were trading at 120% to 140% the price of corn, just depending on the spot.

So I think we’ve stabilized I think as – if there is any uplift in the corn market I think you will see a significant coverage happen into the storage market. I just don’t think the market is very worried as corn continues to make to make new lows that the stores are going to move in opposite direction of that today. Most importantly though I think the market understood the impact of the store so a $50 drop in the stores is a $0.15 a gallon hit into the margin structure with the natural gas dropping a $1 that is a $0.03 gain and in the rest of which was made of corn going down and ethanol remaining stable. So consequentially for the ethanol industry we worked right through that and margins have since actually expanded since that overall since the Chinese I would say quarter on quarter embargo of our product.

Michael Cox – Piper Jaffray

Okay, very good. Thanks a lot guys.

Todd Becker

Thanks.

Operator

We will take our next question from Lawrence Alexander with Jefferies.

Lawrence Alexander – Jefferies

Hi, I wanted to touch on two things. First the studies that you are doing for the Algae JV, are you expanding these scope of the studies or are there other reasons why it’s taking as long as it has or are there any end markets or application that you have already crossed off?

Todd Becker

No, we are still focused squarely on human nutrition and animal feed. We do have some applications in chemicals that we think we can get to as well. I mean we cannot make the same it’s not hard to make that same oil molecule and so a lot of it was equipment and we had to get drivers back, some of it has been centrifuges we have to get – order new centrifuges for size and scope and scale and it’s really just a long lead time, some of the equipment in the CapEx that we needed to do and during that time we have done is we have done work with other companies in Omega 3, EPA applications, pigment applications, human nutrition applications, animal feed applications and we are still focused on all of that.

What we are really focused on now is super charging our yield through expanded blended use of our autotrophic, heterotrophic or mixotrophic reactors and we are designing right now the kind of the final phases of the next CapEx which we think – our goal is to break ground somewhere in the next 60 days on this project and be completed with this new next step-up for production sometime late in second quarter of ‘15. So nothing is telling us to stop just yet but we would like to have some kind of joint venture/JDA/product deal inked prior to breaking ground if we can get that done but part of it is being hindered by the fact that we need to be GMP certified in order to get back in human nutrition products or human application products and that’s what we are working really hard to get that done through the process that we have.

Lawrence Alexander – Jefferies

And then if you do have – if the industry can sustain several more quarters of comparable margins. What would you like to flex or level the cash flow into in terms of changing the footprint of the company or the product mix?

Todd Becker

Well as we indicated to you we should sustain several more quarters of these margins because we indicated margins structures better than we saw in the first-half. So that’s the first point. The second point is at this point, this is our first real quarter that we have been able to get a good view on cash flow and available cash after investing a lot into our hedging program and margins calls, after freeing up capital from our term loan B we’ve finally been able to now at this point see a much stronger corporate cash balance and a much company cash balance.

With that said we are not on any massive changing event in terms of the company strategy. Right now our company strategy is to do as well as we can on what we have today I would say that on the acquisition front there has been interesting things that have crossed our path but nothing that I would say we would want to make any kind of significant investment in at this point. So we are steady as she goes on cash generation, we are steady as she goes on the business if we see agencies around our supply chain we have always said we will invest there whether it’s grain storage or terminals or potentially usage of our product but there is no significant event that I would say changes the focus of this company other than strong cash generation for our shareholders today and a continued strengthening of the balance sheet.

So hopefully we will have more quarters of good news around the balance sheet and getting to a zero net debt and at that point we can determine what the best capital allocation policies are but I don’t see any significant event right now taking place other than continuing the same progress that we have made.

Lawrence Alexander – Jefferies

Thank you.

Operator

We will take our next question from Patrick Jobin with Credit Suisse.

Patrick Jobin – Credit Suisse

Hi, good morning, a few questions. First, I want to follow-up on the capital allocation topic. As you approach that zero net debt and have more flexibility to use the cash held at the plants are there discussions at the board level about increasing the dividend yield to something you know more meaningful or is this really keep the cash and wait till acquisition appearing or internal growth and then I have few follow-ups. Thanks.

Todd Becker

We always talk at the Board level of our capital allocation what’s the best thing to do for our shareholders and I think like I said this is our first real quarter of seeing a significant build of cash under the balance sheet and potential free cash flow generation for next several quarters and I think at that point the Board will do what’s right for the company and right for the shareholders and I think it’s not unreasonable to think that anything on the table but I would like to get through a couple of more quarters get to our target that we have established and determine what the best allocation of capital is and if it’s not to grow the company we will make the right decision on behalf our shareholders to make sure that we do the right thing. I think like I said we have the goal we still have a lot of debt, when you look at our balance sheet there is $60 million of total debt a lot of that is working capital. We can still finance our working capital if we want to and use our capital for that which saves us interest but we don’t pay a lot on those lines or we can continue to look at the overall debt structure as well but I think our goals are in sight of the zero net term debt and at that point we can make better decisions.

Patrick Jobin – Credit Suisse

Okay. And then just two questions, one, more fundamental for the industry about exports and then one on margins for the back half but on the export outlook I think I heard say Todd you are thinking about you know maybe 800 to 1 billion gallons in 2015, but it was in some of the markets like India and Middle East and Canada certainly. Why couldn’t we see that number significantly higher? And then just housekeeping just to make sure we’re apples-to-apples here thinking about EBITDA per gallon for the ethanol production segment kind of what you are thinking about for Q3 and Q4 dividend and 90% and 25% hedged respectively put in place for the back-half? Thanks

Todd Becker

I believe yes in 2015 if we see some of these markets that should buy more from us because of price that we could see even increases over a 1 billion gallons but I’ll believe it when I see it and I think we have the work to do. I think we have to see where the Brazilians come in on their crop and their usage and their determination of what they will need from a domestic shortfall perspective. I think the news of India finally making some inroads into the world markets on some ethanol demand which we are seeing both domestically here in the U.S. as well as out of South America is good news but while they have been around and hanging around for quite a while and we will have to see what kind of follow-up there is and whether they are really willing to put on the forward deck at these margins or at these levels. I know Canada continued to increase during the year. We have seen other markets come in. We’ve seen the Middle East come in for distribution throughout the Middle East.

So when you kind of add all that up I would say the two swing factors for ‘15 will be the resilience and India market. And if we could open up those two markets we could easily exceed a billion gallons and that’s kind of the wait and see. But the good news is what we indicated to you on our potential export sale deck and execution for Q4 and Q1 when we indicated that to you in Q1 of this year and Q4 of last year that was a telling tale of the fact that we weren’t able to build stock through those times as an industry but we are also producing lot less as well. So we’ll have to kind of see how this all shapes up but we do need the demand and I think the demand is coming, I think that’s favorable.

In terms of the second question we are not giving specific guidance in terms of margin structures for what we will achieve except to say that last half will be better than the first half. We did lock in – I gave you some indication of locking in margins for Q3 and how patient we were as margins continue to expand during the quarter. And that they will be better than the $0.25 a gallon that we net realized in the second quarter. I would say we can say that. And then in Q4 what we are seeing right now is mid 30s in the forward curve on the EBIDTA margin and we are only 25% locked away.

So depending on no big incident on corn and no big incident on weather and a continuation of the potential great corn crop that we are going to have I think you can at least extrapolate from there that margins could be in at this point based on the forward curve there are in the 30s and we’ll have to wait and see what they are as we continue to make our decisions. But at this point we are being very patient as we see the export demand shape up for the fourth quarter.

So overall very optimistic about our last half, and even on the forward curve what we are seeing in ‘15 we are seeing a forward curve develop, Q1 right now low 20s, just on the curve. But that’s driven by the fact that you have a $0.13 a gallon or $0.10 a gallon inverse between Q4 and Q1 something like that may be little bit greater and you’ve got $0.03 equivalent gallon carry in the corn market. So all of those add up to if that doesn’t exist and if the market was firmer around the back end you’d be able to achieve somewhat similar margins in the first quarter. But that’s just structure of the curve more than it is fundamentals of the market.

Overall everything seems to be positive at least for several quarters.

Patrick Jobin – Credit Suisse

Okay. Thank you very much. Appreciate it.

Operator

We’ll go next to Matt Farwell with Imperial Capital.

Matt Farwell – Imperial Capital

Hi. Good morning. I just wanted to ask about the export gallons. I don’t think you said how many gallons you had for export in Q3. And then could you give us an idea of how much more profitable the gallons headed for export may be relative to domestic?

Todd Becker

The Q3 export volume for us was extremely small, I’d say less than 5% of the total if not even half of that. I don’t have that number in front of me. But it was really a non-event for us in the third quarter. Most of what we did went into the Canadian market as a company. In terms of export volume for the going forward, I mean we basically look at that volume and we price it accordingly to having to either run the plants lower or to cover the cost of what it take to produce a different specification. With that said we do try to earn a return because there is margin span that takes – you’d have to be much more competitive on the export because you need more to produce that gallon.

So I wouldn’t say that it significantly an immediate increase in profitability because we sell export gallons except the fact that the more export gallons we can get on the books the better the overall margin structure should as domestic demand will remain strong, export demand will be strong and that’s why you see us with a little bit more open book than we normally would have at this time on a margin structure like that in the forward curve.

So I’d say overall it just gives us a better bias towards a little more open gallons on the forward curve which overall should increase our profitability.

Matt Farwell – Imperial Capital

Got it. And just to go back to the DDGs. You indicated that pricing that you are seeing sort of on the forward basis has come down from 120% to 140% of corn. It seem like you are saying now you are looking at more around the 100% of corn on a weight equivalent basis?

Todd Becker

Or even lower actually. We have markets that are 80% price of corn, 70% some market. Because you got to remember lot of cattle’s on pasture now. So until they make their way back to the feed lot after summer this is one of those summers where the Chinese went absent. And cattle are on graph because of the weather in the southern planes. And you kind of add all that up together we went back towards a 70% to 80% price of corn in some markets and 100% in other markets depending on where you were located from a transportation perspective. And there are even some markets that are lower than that because you are close to cattle feed lots.

So but as we mentioned there are margin traded right through it and recovered very easily and took the impact of that and actually expanded since the Chinese situation. So that’s what you can expect at this point.

Matt Farwell – Imperial Capital

Is there anything underlying the Chinese ability to pay more for DDGs just based on seed replacement ratios or other factors?

Todd Becker

Yes. Well, yes. Domestic corn price which is extremely high there. So they can always pay more. I mean they have the highest domestic corn prices in the world today. But I think the per value unit approaching of distillers right now are the cheapest protein globally. So now you have two things out of ethanol plants coming the cheapest molecule globally and the cheapest per unit of protein globally. And I think that’s where we see this step back in to the market if you are global player for distillers and we are seeing the a little bit of pick up there. But listen, the Chinese did – this was their fifth event of the year of not taking U.S. product because the market came down whether it’s corn, whether it’s soy, whether it’s wheat and now it’s grains I think they did it on cotton too.

This was the fifth time this year that the Chinese backed away from U.S. products for what I would call price measure. You’ve heard force measure and this is measure. This is a very common event that I think was driven by both politics and price. And I don’t think it was driven by anything other than that. If you ask a domestic Chinese feeder they would love to have their distillers in the rational especially at these prices. But I think you can expect that if they came back in to the market prices would go back immediately up.

Matt Farwell – Imperial Capital

And then a question on the hedging policy, you said in the past that you believe while you may not always be able to report margins in line with what went on in spot markets your margins will eventually drift higher to where the markets are. Doesn’t seem like that’s an expectation that we can have going forward. It seems like on the forward markets we are generally looking at weaker margins than we were seeing in spot markets this year. Is that fair or can you provide any more color on that analysis?

Todd Becker

Yeah. Really since fourth quarter last year that has been the case. And if we would have been in the spot market it would have been a different financial result. But with the debt structure that we have and the billion gallons on the balance sheet that we’ve been building we felt that it was still prudent to follow our policy of the way that we’ve run this business.

As you can see as our balance sheet gets stronger and we have a better view of this curve and how long it will last and we are sitting there staring at very good forward margins in Q4 and we are being very, very patient. So I think you’ll see some of that pick up in Q3 and then more of that pick up in Q4 as we trend more towards that environment. But again you go back to April 1st and Q3 margins were $0.11 a gallon with railroad velocity picking up and no export demand on the horizon it was hard to say what was going to happen fundamentally and stocks were building and production was increasing. But fundamentals were pointing in to this favor except the fact that the demand continues to increase.

So what we are going, we are going to continue on with our strategy but I would say that we can be a little bit more flexible because of the quality of our balance sheet and the quality of the underlying fundamentals of the industry right now which until something points to something different you’ll see us trend more towards some of these higher margin structures.

Matt Farwell – Imperial Capital

Got it. Great, that’s great color. Thanks a lot.

Todd Becker

Thank you.

Operator

And we will take our final question today from Craig Irwin with Wedbush.

Craig Irwin – Wedbush Securities

Good morning. Thank you for taking my questions. So Todd, in your prepared remarks you mentioned the pending tankers regs. There have been lot of different parties commenting on these obviously we’re going to see comments over the next 45, 50 days coming before the final rule is issued. Can you talk a little bit about what you think will be most constructive for the ethanol industry in a final rule?

Todd Becker

Well, we’re going to have to wait and see what that rule. Obviously ethanol is getting a lumped in to the volatility crude being moved on the rail system. Whether right or wrong, that I don’t know if we’re going get past that issue in terms of this ruling. So what’s going to have to happen is cars that move crude and the cars that move ethanol will be retrofitted. And then it comes down to how do those cost get passed along and where does those cost – continued to get push down in to the price of the fuel.

And so when you look at the potential here what you have as you’ve got a car that has to get retrofitted and somebody has got to pay for it. And they got to pay for over certain amount of time. And then you’ll have make the determination whether you let the lease roll off as you are paying for it or you go and buy some cars on own or you make a deal to extend the retrofit cost over the life of the car instead of the life of lease.

I think the rail companies understand that. I think the industry understands that, both ethanol and crude. I think the issue is we expect the most of the cost will get will get passed in the rail freight cost of the end consumer anyway. So I mean somebody has to pay for it. But we don’t think it’s going to have a significant impact on our forward earnings curve. Because we believe that either one way or the other it’s going to get passed on and the cost of that will get passed on in the freight and/or you’ll make a decision that you just need to buy your own new cars because it will be cheaper than leasing old cars that are retrofitted. I think we are still yet to be determined on any of those.

But overall I believe all the parties at the table are going to be very reasonable and rational to figure out how to make this work for everybody. Because what you don’t want is the cost of the retrofit to be too so high that people drop their leases and go buy and build the new bunch of new cars at a significantly lower cost of old lease rates plus retrofits. And I think that’s the risk. And I think the industry and the customers will work through that.

Craig Irwin – Wedbush Securities

Great. Thank you. My second question is about your internal trading group. Can you update us on the status there, whether or not you’ve been continuing to hire in to that group? And how you would gauge your profitability of this group in the current quarter?

Todd Becker

Yeah. What we said is at the end of the last quarter after having a great first quarter we said the allocation of capital on to that group for the second quarter because of the lack of opportunities was very low and we would go back to a more normalized $5 million to $7 million. I think we ended up at $4.4 million or something like that. But still we expect that marketing and distribution will be $5 million to $7 million quarter business.

We have continually been searching for new business opportunities in agriculture, in energy, in product trading and we continue to focus on that area. But right now because of the somewhat lack of opportunities that we’re seeing low volatility in the markets in general here we’re not allocating a significant amount of capital to that group and we’ll wait for the next opportunity like we saw in the first quarter.

In the meantime I think we’ll be very consistent in delivering the numbers that we mentioned kind of the $5 million to $7 million a quarter on average and not inclusive of that big first quarter which may skew it a little bit. But I think for rest of the year the group will deliver those type of numbers and we’ll see where the next opportunity comes. But we are still aggressively looking for trades or teams of traders to come on to our platform and anything that has to do with types of things that we trade.

Craig Irwin – Wedbush Securities

Thanks again for taking my questions.

Todd Becker

Thank you.

Operator

Mr. Becker, I’ll turn it back to you now for closing remarks.

Todd Becker

Thank you, and thank you everybody coming on the call. We just finished our record first half and obviously with that said and the guidance that we’ve given it will be a record second half. And so we think we’re going to have a very strong year. We have good cash flow generation for our shareholders and stakeholders. We are in the one of the best situations we’ve ever been from a balance sheet perspective and we think the fundamentals are lining up very well for continuations of markets that we’ve seen. So thanks for coming on the call today. And we’ll talk to you next quarter.

Operator

Ladies and gentlemen, thank you for your participation. This does conclude today’s conference.

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