Renewable Energy Group, Inc. (REGI) CEO Randy Howard on Q2 2018 Results - Earnings Call Transcript

Renewable Energy Group, Inc. (REGI) Q2 2018 Earnings Conference Call August 7, 2018 4:30 PM ET

Executives

Randy Howard - President, Chief Executive Officer

Chad Stone - Chief Financial Officer

Brad Albin - Vice President of Manufacturing

Eric Bowen - Vice President of Corporate Business Development & Legal Affairs

Gary Haer - Vice President of Sales & Marketing

Todd Robinson - Treasurer

Analysts

Craig Irwin - Roth Capital Partners

Operator

Good day ladies and gentlemen and welcome to the Renewable Energy Group, Second Quarter 2018 Earnings Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, this conference call is being recorded.

I would now like to turn the conference over to Mr. Todd Robinson, Treasurer. Sir, you may begin.

Todd Robinson

Thank you, Lisa. Good afternoon everyone and welcome to our Second Quarter, 2018 Earnings Conference Call. With me today are our President and Chief Executive Officer, Randy Howard; and our Chief Financial Officer, Chad Stone. Also on the call to answer questions are Brad Albin, our Vice President of Manufacturing; Eric Bowen, our Vice President of Corporate Business Development & Legal Affairs; and Gary Haer, our Vice President of Sales and Marketing.

Let me cover a few housekeeping items before I turn the call over to Randy. First, I would like to remind everyone that this call is being webcast and is available at the Investor Relations section of our website at regi.com. A replay will be available on our website beginning later this afternoon.

The webcast includes an accompanying slide deck, which will appear automatically with the webcast, but you will need to advance the slides manually as we prompt you. For those of you dialing in, the slide deck can be downloaded, along with the earnings press release, in the Investor Relations section of our website.

Turning to slide two, we would like to advise you that some of the information discussed on this conference call will contain forward-looking statements. These statements involve risks, uncertainties and assumptions that are difficult to predict and such forward-looking statements are not a guarantee of performance. The company’s actual results could differ materially from those contained in such statements.

Several factors could cause or contribute to those differences. These factors are described in detail in the Risk Factors and other sections of our Annual Report on Form 10-K for 2017 and our Quarterly Report on form 10Q for the period ended March 31, 2018 on file with the SEC. These forward-looking statements speak only as of the date of this call. The company undertakes no obligation to publicly update any forward-looking statements based on new information or revised expectations.

Today’s discussion also includes non-GAAP financial measures. We believe these metrics will help investors assess the operating performance of our core business. Please see the press release or the appendix to the accompanying slide deck for a reconciliation of the non-GAAP measures to the most comparable GAAP measures.

Also let me remind you about the BTC and how it impacts the comparisons we will discuss today. As you know, the biodiesel mixture excise tax credit or BTC was made retroactive for 2017 on February 9, 2018. The net benefit of the reinstatement is reflected in our GAAP financial statements for the first quarter of 2018.

Because of the credit links to our 2017 operations, our adjusted operating results reflect an allocation of the new benefits of the credit to our 2017 results quarter by quarter. This makes year-to-year comparisons more sensible. Chad will give you a little bit more detail on this when he reviews our financial results.

With that, let me turn the call over to our President and Chief Executive Officer, Randy Howard. Randy.

Randy Howard

Thank you Todd and thanks everyone for joining the call. Over the last year the REGT has focused on improving all aspects of our business platform. We are optimizing our feedstocks to maximize profits as feedstocks and in market shift. Implementing short term projects that produce organic growth and cost reduction among our fleet of production plans and expanding our ability to serve the highest margin markets and highest value customers, while continuing to improve our balance sheet and focus on shareholder return.

Our second quarter results reflected on slide three demonstrate that the REG team is delivering tangible results from these improvement efforts. Adjusted EBITDA was more than double the pre-BTC amount from Q2 of last year and was probably in the guidance range. Halfway through the year our Adjusted EBITDA was approximately three times that, of the pre-BTC the first half of 2017.

A strong second quarter results include planned downtime of approximately three weeks or a maintenance turnaround and catalyst change at our Geismar Louisiana renewable diesel facility. The turnaround went smoothly on the plant is up and again running about nameplate capacity. Geismar produced 13.2 million gallons a renewable diesel, 78% of nameplate capacity for the second quarter.

Our team at Geismar is doing an outstanding job of running the plant safely and efficiently. We are completing the final engineering stage related to a possible expansion of Geismar from 75 million gallons per year nameplate to 121 million gallons per day and to make logistics and other improvements.

Final project review and an investment decision is anticipated by the end of the year. If the project proceeds as currently contemplated the additional production will come on line in mid-2020. Renewable diesel demand continues to grow and we expect renewable diesel will be a key to driving increasing profits in the years ahead.

The rest of our biomass based diesel fleet also ran well. We produced 109 million gallons of biodiesel, running at almost 100% of nameplate across the fleet.

We have told you before that we regularly identify many high ROI projects that improve our efficiency and profitability. Let me give you a vivid example of how we are expanding our affected capacity through continuous improvement.

If you turn to slide four you will see that our effective capacity has grown materially across our domestic biodiesel fleet since 2015. The baseline represents the nameplate capacity of nine of our 12 biodiesel plant and the green line, the effective capacity over time.

These efforts have created 77 million gallons per year of annual incremental capacity at a very attractive total investment cost of approximately $0.52 a gallon of affected capacity. That organic growth has accelerated this year and we are on target to hit our goal of 10% growth in the annual production from the existing fleet. Also note that our first quarter production was constrained due to the required inspection of our 364 vessels, which we won’t have to do for another 10 years.

Complementing our solid production was another quarter of outstanding sales and marketing performance. Our sales and marketing team generated well in excess of our production capacity. We sold 150 million gallons a renewable diesel and biodiesel, 6.5% of which was third party produce.

Sales were balanced across our primary customer categories of travel centers, petroleum majors and distributors or jobbers. We continue to meet the demand of a growing list of end user customers and recently contracted to supply renewable diesel to the New York City Department of Administrative Services, which operates a 1000 vehicle fleet.

During the quarter we introduced REG Ultra Clean, a proprietary blend of our renewable diesel and biodiesel, the results and reduction of tailpipe emissions far below California and federal standards enabling our customers the vastly reduce their emissions. Our operational excellence was complemented by stable market conditions.

The next two slides show the HOBO Spread, an indication of the industry gross margin, or the difference between soybean oil prices and heating oil prices rose during the quarter, and that RIN prices decreased during the same period. Slide seven shows the correlation between HOBO Spread and RIN prices remain strong resulting in the stable margins through the quarter.

Our results were strongly supported by increases in the prices of California LCFS Credit, as well as other premium low carbon fuel markets. You can see on slide eight the LCFS Credit values increased from $142 to $185 per metric ton in the quarter in California.

The regulatory environment continues to show positive momentum. The EPA proposed a 2020 RBO that would grow biomass-based diesel category by 330 million gallons or 15% over 2019. The 2019 advanced biofuel category would grow by 590 million gallons or 14% over 2018 volumes.

Since biodiesel and renewable diesel satisfy obligations in both the biomass based diesel and advanced bio fuel categories, we are pleased to see the proposed grow and are working diligently to see these numbers finalized as part of EPA’s final rule due in November.

In Europe we’re pleased by the progress that has been made on the renewable energy Directive 2 or RED2. These changes are positive for waste based biodiesel producers like our Germany facilities.

We continue to receive positive feedback from our congressional supporters on the retroactive reinstatement of the BTC for 2018. At this point we expect the reinstatement would be taken up in the lame-duck session after midterm elections. We’re working in close coordination with a diverse group of industry stakeholders to construct a long term solution for the BTC, to provide certainty beyond one or two years and are receiving a warm reception for members of Congress on such a solution.

Now I want to touch on capital allocation. The prudent use of capital is the primary way we can grow the value of REG and generate attractive returns for shareholders. We nearly completed our previous repurchase program during the second quarter and the board authorized in June a new repurchase program for an additional $75 million. This reflects the cumulative authorization for repurchases up $230 million over the last four years.

Maintenance CapEx for 2018 is on plan, growth investment is focused mostly, but not exclusively on renewable diesel. As I mentioned earlier, we are looking at many options in renewable diesel, both for expansion at Geismar and other renewable diesel investments. We expect to be making decisions and reporting them to you by year end.

Before I turn the call the Chad, I want to give you an update on Life Sciences business. Over the last year we have actively engaged in the marketplace to identify the best way to maximize the value of our Life Sciences business unit and its product portfolio, technology and patents.

We received positive feedback on the attractiveness of certain Life Science products and their value to customers. This includes our market leading research program with ExxonMobil to convert cellulosic sugars into biodiesel. The program continues to deliver excellent results, demonstrating the potential of our Life Sciences Technology. We are focused on moving those parts of the portfolio that are closest to commercial launch into joint development agreements.

Like the joint development agreement with Exxon, these arrangements can help fund a significant portion of the work, reducing the required investment and advancing the project through commercial stage gates. We expect to initiate joint development agreement for our CA product family shortly.

We aggressively pursued a range of alternatives for the Life Science business and it has become clear to us at this time, joint development agreement are the most attractive alternative to maximize the value of our Life Sciences business unit. Accordingly we are focusing our efforts to quickly finalize joint development agreement on the most attractive project.

This approach is expected to allow us to reduce our REGs annual net investment in Life Sciences from its current level of about $12 million per year to near zero by the end of next year and cash flow positive in 2020. Those patented processes and products that do not have prospects for a near term joint development agreement will be available to restart, sell or license if and when an appropriate business partner or acquirers emerges. We believe this approach will allow REG’s shareholders to benefit from the values that this unique technology is creating while minimizing additional investment.

Now let me turn the call over to Chad for the financial update and I will return to discuss our guidance and outlook. Chad.

Chad Stone

Thank you, Randy. Let me start by reviewing our second quarter financial results. Our press release and supplemental slides contain all the figures and comparisons you need. I’m not going to repeat all the numbers, instead we’re going to focus on the main factors that influence the results. Keep in mind we’re referring to second quarter regular figures, unless I say otherwise and all comparisons are year-over-year.

Our profitability was very strong despite the fact that the BTC was not in effect. Adjusted EBITDA was solid more than double last year’s and near the high end of our guidance range as shown on slide nine.

Our total first half adjusted EBITDA without the BTC is just shy of $60 million. Including an allocation for the estimated net benefit of the BTC and assuming a retroactive reinstatement for the full year, our adjusted EBITDA would be nearly $170 million for the first half of the year as reflected on slide 10.

You can see that based on our first half results, we are sustaining the step change in earning power we first demonstrated in 2017. As you can see on slide 11, our trailing 12 month adjusted EBITDA inclusive of the BTC reinstatement for 2018 continues to improve and on slide 12 you can see our trailing 12 month return on invested capital is 26% with a retroactive BTC reinstatements.

I should also note that all of our remaining 2017 BTC proceeds were collected from the IRS by the end of June. Gallons sold was near the high end of our guidance, our mix between renewable diesel, biodiesel both domestic and in Europe, third party gallons and petroleum diesel as shown on slide 13.

On slide 14 you can see our second quarter financial results. Our average selling prices this quarter was up 8.7%. Total revenue growth was 8.4% and revenue growth was driven by a blend of volume growth and better pricing, although offset partially by lower RIN values. RIN prices declined during the quarter, due mainly to the expanded HOBO Spread as Randy highlighted earlier.

Our SG&A expenses increased by 7.6% which is in line with our revenue growth, while R&D expenses were down. Now let’s turn to the balance sheet and capital allocation. If you can see on slide 15 compared to the start of the quarter, cash is far higher due to the receipt of the 2017 BTC and as you would expect, receivables are significantly lower for the same reason. We paid off almost all of our line of credit using BTC funds.

Long term debt is down due to the reclassification of all the convertible bonds at the current liability. The 2019 convertible bonds now mature in less than one year. We have set aside sufficient funds to settle these bonds when they mature or convert.

In addition, due to the increase in our stock price in the quarter, both our 2019 and 2036 convertible notes became convertible in the current quarter based on the stock price conversion trigger and therefore requiring current classification for the 2036 notes as well on the balance sheet.

Year-to-date we have repurchased 1.9 million shares and $24.5 million of principal amount of the 2036 convertible bonds as you can see on slide 17. There was 1.5 million remaining at June 30 under the December 2017, $75 million authorization. As we noted in our form 8-K filing, our board in June authorized another $75 million for repurchases.

For modeling purposes, we expect our growth CapEx to be directed mainly although not exclusively to renewable diesel. In the quarter we invested $12 million in CapEx that was primarily used for Ralston, Madison and Great Harbour. Our board approved CapEx for the next 12 to 15 months is $65 million, for maintenance CapEx, high return plant improvement projects and growth in our renewable diesel platform.

Our effective tax rate for 2018 is expected to continue to be less than 5%. Our low effective tax rate is due to a valuation allowance reserve against our deferred tax assets, which is mostly made up of NOLs resulting from the BTC treatment. Without the valuation allowance, the future cash tax benefit of our NOLs was over $200 million at quarter and.

Now I’ll turn the call back to Randy to discuss the outlook. Randy.

Randy Howard

Thanks Chad. Based on the current environment, as shown on slide 22 we’re forecasting gallons sold in the third quarter to be 175 million to 190 million gallons, and are forecasting 35 million to 50 million for adjusted EBITDA without the BTC.

If the BTC is reinstated retroactively as expected, we estimate adjusted EBITDA for the third would increase by approximately $60 million, bringing the total to $95 million to $110 million. Given our first half performance, and our expectations for a strong third quarter, we are well under way to another record year.

This estimate is based on the actual performance through the end of July, takes into account existing forward contracts expected to be fulfilled in existing spot margins to the end of the quarter. Any changes to the price of diesel, feedstocks, RIMs or LCFS credits through the end of the quarter would be expected to affect the estimated results.

Now I would like to turn the call over to the operator for the question-and-answer segment of our call. Operator?

Question-and-Answer Session

Operator

Thank you, sir. [Operator Instructions]

Randy Howard

Yeah operator, we can’t hear the question if there is one.

Operator

One moment let me see. Okay, there is a question now and that question is coming with Craig Irwin. Your line is open.

Craig Irwin

Good evening and thanks for taking my questions. First I got to say Randy, wow! That was an impressive quarter, congratulations on the big numbers this quarter.

What I did want to ask about though is the guidance. So the guidance seems a little stronger than I would have estimated based on RIN trading and some of the other underlying commodities where we’ve been sort of bouncing around the last few weeks. Can you maybe talk about the third quarter, what’s contributing to the $50 million for the top end of your EBITDA guidance range and your confidence level, you know for meeting or exceeding the bottom end of the range. How much of that is already committed and do you have any fixed price RIN off-tick agreements that might give that little more visibility.

Randy Howard

Yeah Craig, I think the biggest factor that I would say is we really got a running start on the third quarter from a feedstock standpoint. You know we anticipated certain people’s downtimes and all that. So we are benefiting from really lower feedstock costs, certainly lower than we expected and that’s a big driver.

LCFS credits, you know obviously marched up to the quarter and as we enter the third quarter are a significant driver to our third quarter performance. And those LCFS credits are monetized in a quarter-by-quarter kind of choppy way, so it’s hard to see how that moves. But when we look at our forecast, which is obviously well under way through the third quarter we feel confident in that range.

Craig Irwin

Great, and then the strength in this quarter that you’re reporting today for the June quarter, you were $8.7 million about my EBITDA estimate, very healthy number in there. Can you talk a little bit about what contributed to the strength, was there any risk management gain that maybe drove a little bit of the upside. And again, how did you offset the following RIN prices in the quarter and come through with such a strong number?

Randy Howard

Well as we highlighted, really the HOBO Spreads, the basic industry margins, they increased through the quarter and equally offset the decline at RIN, so that correlation continues to work for us. And again I think largely was the feedstock story; we’ve been benefiting from obviously lower soybean prices and then the prices of other waste fats that usually trigger off of that. It really helped the feedstock side.

In addition, you know so far this year and we are projecting you know certainly later in the fall that cattle slaughter rates are at record levels. I mean they’re just all a lot more feedstock than that we thought coming into this year and we and the market are benefiting from that.

Craig Irwin

Great!

Randy Howard

Craig relative to hedges, if you look at the details, our hedge losses – we had hedge losses of $12 million in the quarter.

Craig Irwin

Fantastic! Thank you for that. Next thing I wanted to touch on is the de-bottle necking, so thank you for sharing the numbers with us, you know 77 million gallons for $40 million, $0.52 a gallon for the de-bottle necking achieved over the last couple years. My understanding was that that $40 million invested also contributed to a broader front end capabilities on a bunch of your plants is that included in the $40 million, some of the flexibility you had to take more of the more difficult feedstocks or is this a vanilla number that separates the front end capabilities that you’ve added to some of your plants.

Randy Howard

Yeah, I would say it’s all mixed together, it did both. Obviously you know different feedstocks run different rate through our plants, but by improving the capability not only to run more difficult feedstocks which gives us an effective capacity that’s larger and that’s what you’re seeing.

Craig Irwin

Okay and then the Ralston capacity expansion, I think was done for less than $0.52 a gallon is that correct.

Randy Howard

Well. So yeah, we took that out of that data because it was it was a specific capital of a major project, so we didn’t want to dilute kind of what we would consider the bread and butter continuous improvement project that Brad and his team have executed against. So it’s not in these numbers.

Craig Irwin

Okay, thank you for clarifying that. Next thing I want to ask about is REG Geismar, so congratulations on the on the successful turnaround there, getting that thing back operating well about nameplate. What do we need to see for the go decision on the capacity expansion at Geismar? Are you looking for a funding commitment to announce this to the market, are you looking for final permits. You know we know that you have the land. Can you maybe describe for us sort of what you’re going through, the last stages of the process to make a sort of up-down decision on whether or not to go forward with the expansion?

Randy Howard

Sure so we have available funds to move forward with the Geismar expansion, so it’s a funding issue. We have put in place a project development process that has us go through engineering phases and reach a stage gate before we advance the project. So we are in the last phase of that process of what we call FEL-3 which is doing the actual final engineering for the project.

So I guess in another way to say it, we couldn’t go faster if we tried. You know we’re doing the final engineering and it’s just our process that we don’t make an investment decision until we see that final engineering, which gives us a much tighter band on cost and schedule, and so that’s what we’ll see in the fourth quarter and that’s when we’ll make the final decision. But it’s really just a matter of going through our process that gives us confidence in cost and schedule.

Craig Irwin

Thank you for that. Another thing that investors often ask about is your plan for blending more of your own product to capture greater share of RIN, greater benefit of the environmental to compliance that biodiesel, renewable diesel brings to the market. Can you maybe update us on your rollout plans for the rest of the year as far as your own blending terminals, where you stand on capacity today and where you think you can go over the next couple of years?

Randy Howard

I’ll give you as much as I can. Like I said, we’re really focused on ramping up those projects. We’ve added another two terminals this year after adding 10 last year. We continue to – I think we’ve added 5 fleets more on this, and when we add fleet customers, that means we’re selling them a blended, complete blended product, so that continues to move forward.

Obviously we are focused on doing that in California where the margins or are very attractive, and again those projects – that process in California I would say is going a little slower than we hope largely because the logistics issues in California. We have put things in place to solve those and I would expect us to see a visible ramp up in the second half of the year on California blended product.

Craig Irwin

Great! In your prepared remarks Randy you mentioned the biodiesel tax credits and the fact that you expect it to be reinstated in lame-duck; I think that makes a lot of sense. Can you maybe give us a little bit of color on where things stand or where you believe things are likely to shake out as far as maybe converting that to a five year reinstatement and maybe transitioning that over to being a producer’s credit instead of a blender’s credit, and maybe a five year credit with the ramp down? How do you think this is likely to unfold?

Randy Howard

Well first of all, us and the industry have coalesced around a biodiesel excise tax credit in the same form it is today. That has been a unifying theme across all stakeholders. So the need for producer’s credit is really subsided now that we have strong countervailing duties in place to restrict subsidized Argentine imports. So we are really focused on a BTC bio diesel excise tax credit.

Relative to the term, I think we’re looking at maybe even something longer than five years to get past the 2022 when the EPA takes over full review of the RFS and so at this point we are focused on something even longer than five years.

Craig Irwin

That’s good, that’s good. Another question that comes up all the time is RVOs. So there is a group out there that that is actually part 2.8 million galleon RVO, an adjustment for the 19 RVOs before we get final numbers, given the gift that administrator Pruitt gave to some of the largest refineries in this country, you know a way to sort of even out the playing field through the end of the year. What do you think the prospects are for adjusting RVOs to remediate some of these shameful small refinery assumptions that administrator Pruitt handed out over the course of the last 1.5 year.

Randy Howard

Well, we’ll see. Obviously there’s a lot of litigation in place that calls and questions the legitimacy of those niche refinery exemption. I would think that its best at the end of the day that they – those be reversed and reinstated and so we’ll see if that’s the process that we end up, but that’s what we would advocate.

Relative to the RVOs, I think you know for us the real highlight is the 590 million gallon increase in the advanced category. As you know the industry traditionally produces well above the biomass base diesel RVO. So it’s great that we see growth there, but the real number that drives the market is that advanced category.

Craig Irwin

Great, thanks for that. Congratulations again on the strong quarter. I’ll go ahead and hop back in the queue.

Randy Howard

Thanks Craig.

Chad Stone

Thanks Craig.

Operator

[Operator Instructions]. There are no more questions in the queue. I would like to turn the call back over to Randy Howard for any further remarks.

Randy Howard

Thank you, operator. To wrap up, Todd you are going to mention some of our investor event.

Todd Robinson

Yeah, thanks Randy. As you can see on slide 23, this week we will present and host meetings in Boston on Wednesday; August 8 at Canaccord Genuity 38^th Annual Growth Conference, following that on Thursday August 9, we will present and host meetings at the Jefferies Industrial Conference in New York City. Finally, on August 29 we will host meetings at the Seaport Global Industrial Conference in Chicago. Attendance at these conferences in invitation only, so please contact your respective sales representative if you want to attend or schedule one-on-one meetings with us.

Thank you all again. This concludes the call you and you may now disconnect.

Operator

Ladies and gentlemen, thank you for participating in today’s conference. This concludes today’s program. You may all disconnect. Everyone have a great day!