Deciphering Renewable Energy Group's Margins

| About: Renewable Energy (REGI)

In the Renewable Energy Group's (NASDAQ:REGI) conference call CFO Chad Stone stated:

"Let me start by walking you through our revenues. It can be a bit confusing due to the required accounting for the 2012 retroactive tax credit that became loss in 2013."

I would say "a bit confusing" is a bit of an understatement. This article will explore the complexities of analyzing the earnings, margins and production of REGI and other firms in its industry.

To start, in the press release it states:

During the quarter, the average B100 price per gallon sold by REG was $4.44, a decrease of 8% from Q1 2012. REG sold 38.9 million gallons of biodiesel

From that data revenue should be 38.9m x $4.44 = $173m

Biofuels sales are recorded as $189m, or an average of $189m/38.9m = $4.86/gal. That is $0.42 above the stated sales price $4.44. It is also reported that total revenues are $339m including the government incentives. $339m/38.9m = $8.72/gal. That $339 however includes $150m of the tax credit, $127 of which applies to 2012 production.

Revenue consisted of $189 million of biodiesel sales and $150 million from the tax credit listed in our income statement as government incentives. $127 million of that $150 million is related to 2012 while the remaining $23 million relates to 2013.

Adjusting for the tax credit, earned revenues for Q1 should be $173m from the sales and $23m from the tax credit for a total of $173 + $23 = $196m. $196m/38.9m = $5.04/gal of fuel. The reported average sales price of the fuel was $4.44, and the calculated revenue per gallon is $5.04/gal. The $0.60 difference $5.04 - $4.44 = $0.60 is the impact of the $1 gallon tax credit. REGI however doesn't keep 100% of the tax credit:

If you can see on slide nine the net 2012 tax credit benefit of $57.4 million is made up of $127.9 million of revenues less $70.5 million of cost of good sold.

Out of the $1 tax credit, REGI keeps $57.4/$127.9 = $0.45, the other $0.55 is passed on to the blender or other party. The other note is that REGI sold 38.9m gallons, but only made $23m in the tax credit. That is an effective tax credit of $23/38.9m = $0.60/gallon. 0.45 x 0.6 = $0.27 tax credit/gallon to REGI. The fuel price itself discounts some of the tax credit. My current estimate is about $0.36/gallon, so REGI may be making about $0.27 + $0.36 = $0.63 per gallon net for the tax credit. The above calculation had it at $0.60.

On page #10 of the presentation they report Q1 revenue w/o the 2012 tax credit of $211m, production of 38.9m gallons, cost of goods sold of $182m, gross profit of $29m and average sales price of $4.44/gallon. $4.44 x 38.9 = $173m. The difference between the reported and calculated revenues is $211m - $173m = $38m, or the $1/gallon tax credit. The cost of goods sold is $182m/38.9m = $4.68/gallon, which is $4.68 - $4.44 = $0.24 more than the average sales price. The gross profit margin is then $29m/38.9m = $0.75/gallon.

I attempt to model the margins for REGI during the quarter, and those numbers are consistent with my estimates. Currently, my gross estimates range between $0.42 and $0.98 depending on the feedstock. My net estimates range between $0.33 and $0.89. Here are the most current estimates. REGI uses mostly lower-cost feedstocks. This recent conference call provided details on the tax credit which allowed me to find tune the estimate from the previous approach.

Additional comments worth noting from the conference call:

Yesterday biodiesel RINs closed over $0.90 per RIN again this is much higher than the $0.55 per RIN in our original forecast when we last provided guidance.

Rins have not only been going higher, the feedstocks have been stable or falling in price.

We have instituted and improved RIN inventory management system internally to help manage this volatility. To conclude we are pleased to report a strong first quarter and we are optimistic about the market conditions for biodiesel moving ahead.

I found this interesting because in a past article I highlighted how the timing of selling their inventory of RINs greatly reduced their potential profits. Greater control of their RIN inventory, and understanding of the developing RIN market should be constructive going forward.

The liquidation of the RINs may have helped boost earnings in Q4 2012, but it came at a steep cost in lost future revenues, and they most likely were sold at very unfavorable prices.

Additional information that may impact the biofuels industry is that the 2013 production still lags the 1.28 billion gallon quota for 2013. The recently released EPA numbers show that only $288m gallons have been produced through March, or 22.5% of the quota. That is below the 25% that would be on target, but firms are allowed to carry over 20% of their production into the next year, so the effective target is 1.28 x 1.2 = 1.54 billion gallons. We are only 19% towards that target.

Lastly, one additional thing to consider when investing in the biofuels industry are the other players. BIOX Corp (BX.TO) was up strongly prior to the REGI earnings announcement, and KiOR (NASDAQ:KIOR) has been strong lately as well. If the economics are making REGI profitable, they should also be helping the earnings of the other firms as well. Both Biox (OTC:BXIOF) and KiOR (KIOR) have earnings calls on May 9th. The other firm in the group Syntroleum (NASDAQ:SYNM) has had their plant out of production since late last year, and has not released any information claiming that they have resumed production. SYNM did however recently receive approximately $9m for its 2012 tax credit.

In conclusion, the strong earnings report by REGI bodes well for the biofuels industry as a whole. The economics are strong and improving, margins are solid, RIN prices are increasing, feedstock prices are stable or falling and fuel prices have been relatively stable. If these trends continue, 2013 should be a good year for the biofuels industry.

Disclaimer: This article is not an investment recommendation. Any analysis presented in this article is illustrative in nature, is based on an incomplete set of information and has limitations to its accuracy, and is not meant to be relied upon for investment decisions. Please consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author's best judgment as of the date of publication, and are subject to change without notice.

Disclosure: I am long SYNM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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