Renewable Energy Group, Inc. (NASDAQ:REGI) Q3 2018 Results Earnings Conference Call November 6, 2018 4:30 PM ET
Todd Robinson - Treasurer
Randolph Howard - President and Chief Executive Officer
Chad Stone - Chief Financial Officer
Craig Irwin - ROTH Capital Partners
Chip Moore - Canaccord Genuity
Good day, ladies and gentlemen. Welcome to the Renewable Energy Group third 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 introduce your host for today’s call, Mr. Todd Robinson, Treasurer. Sir, you may begin.
Thank you, operator. Good afternoon, everyone, and welcome to our third 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 and 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 later on our website 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. If the deck does not appear, please click refresh and it should be available for download. If you're on the webcast, it should appear automatically.
Now, 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 10-Q for the period ended June 30, 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 that reinstatement was reflected in our GAAP financial statements for the first quarter of 2018.
Because the credit relates to our 2017 operations, our adjusted operating results reflect an allocation of the net benefits of the credit to our 2017 results quarter by quarter. This makes year-over-year comparisons more sensible. Chad will give 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?
Thank you, Todd. And thank you, everyone, for joining the call. REG added another very positive quarter to bolster our already strong financial performance in the first half of the year.
Adjusted EBITDA was well within our forecast before accounting for risk management. We continue to operate our fleet at high-efficiency and are pleased to report double-digit year-over-year increases in gallons produced and sold. This all happened within a context of a supportive market environment, which I will also briefly review.
I also will talk about our announcement last week of an exciting new relationship with Phillips 66 to explore the possibility of jointly building a renewable diesel refinery on the West Coast. We are hopeful that this will develop into a long-term opportunity to further our ability to leverage our renewable diesel technology and expand production to meet the growing demand for cleaner transportation fuels.
Let me first review some of our solid operating highlights for the quarter and year-to-date. Chad will walk you through more of the details of our third quarter results and overall financials.
Adjusted EBITDA for the quarter was $34.6 million after taking into account the impact of risk management losses and without the BTC being in effect. This adds to our already strong first half for a nine-month adjusted EBITDA of $94.4 million or approximately five times the equivalent amount for the same period in 2017, all without the BTC.
Slide four highlights our quarter-over-quarter and the year-over-year improvement in adjusted EBITDA. Should the BTC be retroactively reinstated for the full-year and on the same terms, which we continue to expect, we estimate that we would capture an additional $70 million for business conducted in the third quarter and $179 million for the first nine months. This would increase net income and adjusted EBITDA by equivalent amounts. As a result, we believe we are on track for another record year of adjusted EBITDA performance.
Our key focus of our efforts is continuous improvement. And we again saw the positive impact in our production numbers this quarter. As shown on slide seven, we produced 139 million gallons for the quarter, bringing our year-to-date production to 370 million gallons. This represents a 16% increase over third quarter 2017 and an 11% increase over the equivalent nine-month period in 2017.
Likewise, gallons sold were 179 million for the quarter, which is 18% above third quarter 2017 as shown on slide eight.
Our marketing team has done an excellent job generating demand for our growing production. As North America's largest advanced biofuel producer, we continue to serve a growing demand for cleaner diesel fuels.
As you can see on slide nine, for the first nine months, production of our renewable fuels has saved an estimated 2.9 million metric tons of CO2 compared to petroleum diesel. Every shareholder of REG can see the benefit of their investment in creating cleaner transportation fuels.
For the EPA calculator, 2.9 million metric tons is the equivalent of removing the CO2 produced from over 600,000 automobiles per year. We continue to grow our list of major trucking fleets and end-user customers where we supply a range of cleaner burning blends of renewable fuel.
Our downstream assets now encompass 41 terminals, serving 23 fleets and end users.
Slide 10 reflects our geographic footprint that covers the continental US with notable concentration in states that provide the highest value for renewable fuels such as California, Illinois, Iowa, Minnesota and Texas.
The regulatory environment also drives demand. This being election day, we are expecting a lot of activity in the weeks ahead as we move past the elections and Congress returns to tackle important end-of-the-year legislation.
We're pleased that participants across the various industries associated with biomass-based diesel remain united in the desire for a long-term extension of the BTC.
This support is broad-based from feedstock suppliers, including farmers and ranchers, to producers, to blenders and, ultimately, to the end users represented largely by the trucking industry.
We continue to expect congressional action on the retroactive reinstatement and extension of the BTC before year-end.
EPA appears on track to publish the final 2019 advanced biofuel and 2020 biomass-based diesel RVOs by the end of the month. We expect the EPA to finalize the RVOs largely at the level set forth in the EPA’s proposed rule earlier this year, ensuring meaningful growth in both the biomass-based diesel and advanced biofuels category.
In California, which has proven its leadership as one of the most important markets for clean fuels globally, the LCFS’ extension through 2030 was approved, creating a deeper, smoother and longer demand profile.
Within the context of steadily growing demand for our cleaner burning renewable fuels, we're looking carefully at a balanced capital allocation strategy that will both drive growth in our business and offer attractive returns to our shareholders.
Let me expand a bit on the relationship with Phillips 66 that I mentioned earlier. Last week, we announced that planning is underway for the possible construction of a large-scale renewable diesel plant on the US West Coast.
The plant would utilize our proprietary BioSynfining technology. It is currently contemplated that the new facility would be constructed adjacent to Phillips 66's Ferndale refinery in Washington State. The Ferndale refinery offers existing infrastructure including tank storage, a docked-in rail and trucking access.
We have been collaborating with Phillips 66 for more than a year on this exciting project. We expect the final decision to be made in 2019. If approved, and provided that the engineering and construction schedules proceed as currently envisioned, commercial production at the new facility would be expected to commence in 2021.
As discussed before, we are also reinvesting our cash flow into incremental improvements in the existing fleet and growing our renewable diesel production.
We also expect to announce our decision regarding potential expansion and logistic improvements at our Geismar renewable diesel plant. And on that, we are continuing with preliminary engineering on building another production train at this site that would approximately double our Geismar capacity.
The economics around renewable diesel are compelling and we believe it can be an engine of growth for us for years to come.
In our life science business, our market-leading research program with ExxonMobil to convert cellulosic sugars into biodiesel continues to exceed expectations.
We also continue to make good progress on moving those parts of our life sciences portfolio that are closest to commercial launch into joint development agreements.
Like our work with Exxon, these arrangements can help fund a significant portion of the development work, reducing the investment required to advance these projects through commercial stage gates.
Now, let me turn the call over to Chad for the financial update and then I will return to discuss our guidance and outlook.
Thank you, Randy. Let me start by reviewing our third quarter financial results. Our press release and supplemental slides contain all the figures and comparisons you need.
Keep in mind that we’re referring to third quarter figures unless I say otherwise and all comparison are year-over-year.
Revenue was down due to a lower average selling price, resulting primarily from lower RIN prices and offset by more gallons sold.
Sales of separated RINs were significantly lower as our customer demand shifted to more biodiesel with attached RINs.
Notably, gross profit more than tripled. This was due to better spread supporting biomass-based diesel sales, primarily due to lower feedstock costs.
You can see the HOBO spread on slide 14. This is our general measure of the economics of market conditions. The chart shows the spread was around $0.95 better than last year.
Our industry generally anticipated margin improvement largely due to the elimination of subsidized imports from Argentina and Indonesia beginning in the second half of last year.
Slide 15 shows RIN prices which have been trending down. RIN prices have been behaving as expected as they've been inversely correlated with HOBO spread recently.
Higher gross profit and lower operating expenses resulted in operating income swinging from a loss last year to solidly profitable this year.
SG&A expenses were down $2.5 million due to non-recurring severance payments last year and lower professional fees this year.
The operating income improvement resulted in a similar improvement in net income as well. Net income was a bit higher than operating income due to a small contribution from other income and expense.
Randy noted adjusted EBITDA of $34.6 million includes a risk management charge, which created a $15 million negative headwind relative to when we gave guidance on our last call. The risk management losses are primarily attributable to gallons to be delivered in the future when we should realize an offsetting benefit. And, of course, there is no BTC benefit yet. We believe the results highlight profound change from the past, reflecting our stepped-up earnings power.
Fully diluted EPS was $0.53 per share compared the basic EPS of $0.65 per share. The increase in our share price resulted in our convertible bonds being well into the money during the quarter.
For accounting purposes, the principal portion of the convertible bonds is not considered dilutive as our current content is to settle the principal amount in cash.
The conversion premium can be settled with cash, stock or a combination of cash and stock. Therefore, the premium value of the convertible bonds result in an increase in weighted average shares for our fully diluted EPS.
Our fully diluted share count at September 30 included 7.6 million shares attributable to the conversion of the convertible bonds. This was calculated using the average share price for the quarter of $22.16. This compares to 4.3 million shares included in the June 30, 2018 using a share price of $15.49 and no shares included in September 30, 2017 because they were anti-dilutive.
With respect to the conversions of our convertible notes maturing in June 2019, we’ve elected to settle the principal amount of all conversions with cash and any conversion value premium with shares of our common stock.
Slide 19 shows our trailing 12-month adjusted EBITDA and slide 20 shows trailing 12-month return on invested capital. ROIC is 14% pretax credit and 31.5% with the BTC included. Both metrics reflect our growing and upward earnings power which continue to strengthen our balance sheet.
The balance sheet highlights are reflected on slide 21. Cash plus marketable securities was down $12 million during the quarter and cash generated during the quarter from operations was used to buy back convertible bonds as well as to fund CapEx of $9 million, which was a mixture of normal maintenance and optimization projects.
In the months ahead, we will be making financial decisions on the scope of spending for the Geismar expansion and joint development project with Phillips 66. Those are long-term initiatives that we believe will set the course for shareholder value creation for years to come.
For modeling purposes, we expect our growth CapEx to be directed mainly, though not exclusively, to renewable diesel. Our expected CapEx for the next 12 to 15 months is $45 million to $55 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 be less than 5% and our low effective tax rate is due to a valuation allowance reserved 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 around $280 million at quarter-end.
Now, I’ll turn the call back to Randy to discuss our outlook. Randy?
Thanks, Chad. Based on the current environment, as shown on slide 27, for the fourth quarter, we are forecasting gallons sold to be 150 million to 165 million gallons and adjusted EBITDA without the BTC of $20 million to $30 million.
We estimate the fourth quarter adjusted EBITDA would increase by approximately $50 million if the BTC is retroactively reinstated for 2018 on the same terms as 2017.
This translates to full year forecasted gallons sold of 640 million to 655 million gallons. Adjusted EBITDA without the BTC $115 million to $125 million and adjusted EBITDA of $330 million to $350 million, assuming the BTC is retroactively reinstated as we expect.
Clearly, our expectations are for another record year performance for REG in 2018. The estimate for the fourth quarter and full year is based on actual performance through the end of October and takes into account existing forward contracts expected to be fulfilled and existing spot margins through the end of the quarter.
Any changes to the price of diesel, feedstocks, RINs or LCFS credits through the end of the quarter could 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?
Thank you. [Operator Instructions]. The first question comes from Craig Irwin from ROTH Capital Partners. Your line is open.
Good evening. And thanks for taking my questions. So, first, I should say congratulations on again another very strong quarter. My first question I wanted to ask is about the non-cash hedge losses in the quarter. Can you articulate for us precisely how much they were and what your assumptions are in the fourth quarter, so we can see how really strong this quarter was?
Craig, it’s Chad. Thanks for the question. Just to give you a little bit of our risk management loss for the quarter was about 7.5 million. But if you really look at the ULSD movement, the spot prices, the last 10 days of the quarter, we had a significant run-up in ultralow sulfur diesel. And that was during that short time period a pretty significant impact, which is largely protecting fourth quarter gallons. So, that headwind between the time we gave you guidance and end of the quarter was a $15 million movement, and 11 million roughly of that is related to fourth quarter specifically.
That said, if you look at what energy prices have done just in the month of October or since September 30, that 7.5 million risk management loss for the quarter to date has virtually reversed in October. So, that's what you can expect going forward.
Great. Thank you for that. Then I was kind of surprised by the announcement of, I guess, the joint venture plant. Maybe we’ll REG-Ferndale that you're in serious consideration with Phillips on moving forward on this. I was kind of surprised that you would announce this ahead of maybe 120 or 240 for REG Geismar. Can you maybe share with us specifically what catalyzed the public disclosure around the cooperation with Phillips 66 and should we expect similar things to play out for Geismar?
Yeah. Sure, Craig. As we’ve said today and also in our press release, we've been working with Phillips 66 for over a year on this project. And we got to the phase of the preliminary engineering where we needed to go public both to begin the actual on-site permitting evaluation and again the next phase of cost estimating and engineering.
Because that activity was going to be public, we felt it was urgent that we notify our investors via a press release. So, that's really what dictated the timing, is just the general nature of project development became public.
Sorry, I interrupted.
No. Relative to Geismar, obviously, we’re in the last phase of the kind of engineering – detailed engineering for expanding and debottlenecking the logistics at Geismar. And then, again, we’re in the preliminary stages of looking at nominally doubling that new added capacity at Geismar. So, all of that activity is taking place simultaneously. And for a company like REG, what's nice is a lot of it's very similar and it's not like it’s three separate projects. It’s work that’s complementary.
Great. Thank you for that. So then, that hedges – actually, that bridges right over to the question I wanted to ask about the experience at Geismar and your remediation of that plant and what this means for your ability to construct renewable hydrocarbon diesel plants at an attractive construction value. Should we look at maybe a $2 per 50-gallon construction cost as we do some math on the 275 million gallons in potential capacity additions. Assuming Phillips takes 50% over the next number of years, do you think 250 is a fair number? Are we going to be closer to $2 a gallon? Is this something that's going to move around based on the transportation infrastructure that needs to be added to the sites? Any color so that we can consider whether or not the cash flows over the next two years should be able to sufficiently fund the whole construction cost for REG?
Craig, as you know, I'm not going to be able to quantify any cost estimates until we get the final numbers and we go public with those. So, I can't give you any guidance. What I can say is we continue to look at ways to improve the project to do it more efficiently and that's really what we’ve spent the time doing, looking at all of the option to make sure that the options that we do select improve our return on invested capital and also take into consideration time-to-market and a lot of different site-specific activities that we’re looking at there. So, it is unfortunately a kind of a complex set of variables that we’re trying to optimize to get the best decision.
Great. Thank you for that. The next thing I wanted to ask about is the repurchase of the convertible notes in the quarter. So, you said $10 million were spent on repurchasing the notes. Can you share with us what amount of principal this represented on the original, what is it, 36 notes that were outstanding?
Yeah. The $10 million was the related principal.
So, the actual cash spend was greater than $10 million?
Yeah. I think up until about 170% was what we experienced. And, recently, as the share prices continued to move up, we have not been recently active on that.
Understood, understood. So, today is a big day for everyone in America with the election – there’s a number of things that are on the docket for completion before year-end. I expect that the reinstatement of the blender’s credit is there. What would you see is an ideal scenario, something that investors in REG should be very happy with coming out of Congress over the next number of weeks or couple of months before the end of the year?
Well, I would say, clearly, the industry, as I said, is united. When I say the industry, you have to understand the biodiesel excise tax credit is something that benefits all the way from the feedstock producers, farmers and ranchers through producers to blenders, all the way to the end-user customer. So, I speak of the industry in those terms.
We are all unified in seeing a long-term extension to that biodiesel excise tax credit instead of this year-on, year-off uncertainty that has really frustrated investment. So, that's our desire. We believe there's large bipartisan support for the biodiesel excise tax credit. I think the last letter I saw had 46 congressmen split roughly 50-50 Democrats and Republicans recommending the extension of the biodiesel excise tax credit.
Now, obviously, we'd love a long-term extension. That's what's on the table. I think there's certainly momentum to get this out of the annual tax extender’s credit. But at the end of the day, we’re confident that certainly a retroactive reinstatement for 2018 will happen as well as, like I said, at least some forward certainty into 2019 and beyond.
Great. And then, last question, if I may. You've done some really shareholder friendly things over the last several quarters, repurchasing the convertible bonds, repurchasing your stock, not buying small renewable diesel plants. Is the purchase of small renewable plants still a possibility on the horizon? Or would you be largely focusing your cash flows on some of these potential large construction projects that you have, that you see significant returns on and then, obviously, continuing to repurchase stock or bonds or whatever is most appropriate in the equity stack?
We’re always looking at opportunities. Like I said, we look at that on a balanced approach. What can make sure gives us a good growth profile? What’s the best return on our invested capital? We think that is the best way to reward our shareholders over time, and we’ll continue that philosophy.
Great. That’s the end of my questions. So, thank you very much and congratulations on the really strong performance.
[Operator Instructions]. Our next question comes from Chip Moore from Canaccord. Your line is open.
Good evening. And I’ll let go my congratulations, guys. at this time. Maybe with all the focus here clearly on renewable diesel, can you just dive in a little bit on performance this quarter at Geismar and then things you’ve learned there that are going to help you in some of these potential new endeavors.
Yeah. Performance at Geismar continues to run well. Actually, above nameplate capacity. We have added and improved the reliability of that facility. So, that’s allowed us to continue to run long-term. At this point, we certainly expect to go nominally 12 months between any need to come down for callous change. So, we’re just really pleased with just the whole operating history and the improvements we've seen to, again, make it just much more reliable.
Great. With carb credit spread at pretty big deficit and trading near all-time highs, maybe you can expand on that market and other LCFS markets, as well as some of the downstream initiatives in terms of blending, where do you stand in California, for instance?
No, that’s a good question. Yes, we continue, obviously, to see strengthened California market both for straight renewable diesel as well as our REG ultra-clear, which is basically marketed as a proprietary blend of renewable diesel and our biodiesel.
Those blended fuels continue to grow year-on-year. We've seen significant increase 2018 versus 2017. A lot of our national fleet customers are now starting to purchase that blended product in California. It's been a little slow in getting volumes up on a blended basis in California due to the logistics. But we see our way forward at year-end. Have seen a much higher blend rate of biodiesel and renewable diesel. And that's also contributing to our profitability.
As we look through 2019, we’ll come back when we end full year and give full year guidance. We think that will be one of the things we can feature as you look at 2019 as our increasing blends of renewable diesel and biodiesel.
That’s great. Maybe one last one for me, guys. Back to midterms and the potential retroactive blenders. Hopefully, we get more visibility. Is that a data decision you’d like to see finalized before we get a decision on any of these other growth initiatives or is that separate? Thanks.
Well, certainly, we would love to understand the, obviously, long-term tax credit position. But I think the one thing we’ve demonstrated this year is without the BTC in effect, our industrial scale and scope, what REG has been able to do by optimizing our plants and performance, bringing that altogether has created very strong earnings and cash flows that don't limit our ability to invest in the future as we currently see it.
So, yes, we’d love to he have that visibility, but, right now, that's not inhibiting our decision-making.
That’s great. Thanks. And congrats again, guys.
I'm showing no further questions at this time. I would now like turn the call back over to Randy Howard, CEO, for closing remarks.
Thank you, operator. To wrap up, results this quarter continue to demonstrate the sustainability of the step function improvement in earnings power we experienced last year.
We've been solidly profitable even when absorbing the impact of commodity market movements and solidly profitable even without the BTC.
We are looking at opportunities to expand our commitment to renewable diesel, while continuing to optimize the efficiency of our fleet of traditional biodiesel plants.
Our collaboration with Phillips 66 demonstrates the growing interest in renewable diesel by the major oil companies as well as the value-added role REG can play in this phase.
Our balance sheet remains strong and we’re positioned well to make the attractive investments that we believe will keep shareholder value growing for years to come. We are as enthusiastic as ever about the outlook of our company.
Now, before we close, Todd is going to mention upcoming investor events for REG. Todd?
Thanks, Randy. Upcoming events are shown on slide 28. On November 8, we will present and host one-on-one meetings at the Robert Baird Industrials Conference in Chicago. That will follow-up with one-on-one meeting at ROTH Capital’s Industrial Growth Conference in New York on December 11. Attendance at these conferences is invitation-only. So please contact your respective sales representative if you want to attend or schedule one-on-one meetings at this.
Thank you all again. This concludes the call. And you may now disconnect.
Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may disconnect and have a wonderful day.