2nd quarter earnings call
2nd Quarter Earnings Conference Call
August 15, 2007
1:00pm EDT
35 Minutes, 25 seconds
Thomas J. Edelman - Earnings is a bit of a misnomer as we are still in the construction phase at Biofuel. We expect to have both plants up and operating late in the 1st quarter of 2008. We are principally engaged in planning and executing construction of plants as well as longer term operations of the company As a result, financial statements are somewhat sparse as you can see in the attachment to the press release in terms of what they tell you about the company. In fact, you can say it is pretty much an indication simply of our overhead cost structure in the company.
If you look at compensation with expense in 2nd quarter of 2007, is $1.3 million of expense. Of that amount, $300,000 was a non cash charge for various issuances of securities going back to the origin of the company and hiring the staff. They were not in a conventional business sense, expenses of this period. They are accounting for earlier issuances. So, our overhead is running at about a $1 million rate in terms of compensation expense. All other expenses listed there under “other” is $700,000. We had a run rate of expenses of about $1.7 million. We had some interest income during the quarter just because of cash proceeds of the underwritten offering in the middle of June leading to what under GAAP is loss before minority interest of $1.8 million. That loss before minority interest is the closest thing to what a normal company depiction would be because as you recall, some of the original investors own their interest still until they convert directly in the LLC. So simplistically, that was the run rate in the 2nd quarter. The $1.8 million will be moving up to closer to the $2 million cost run rate as we continue to add personnel and expenses as we approach operations. The final piece here, this beneficial conversion chart is again an unusual outcome under GAAP of the fact that among our original investors, there was some preferential earnings not vis-à-vis you or the public shareholders but as between the founding investors and for reasons that I can’t fully explain under GAAP, that’s an expense we needed to take when we took the company public. That will not as I understand it, exist going forward. It was a one time charge. So, the loss here of the $ .25 share if you cut through it, is roughly equivalent to what our overhead burden is running going forward.
Turning to the balance sheet, which is a bit more representative of what is happening. The company’s total fundings is about $275 million. At June 30th we held cash in equivalents at that date of roughly $88 million. Again that is largely proceeds from the offering. We had borrowed by that date $50 million under our subordinated debt facility. $5 million simply to start the access to our bank lines under our bank facility and the $6 million is under what’s called a tax abatement note. This is really a tax incentive that the State of Nebraska gives us where it’s a reduction in ongoing property taxes but funds the capital that we received.
Subsequent to the end of the quarter, the underwriters exercised the green shoe and we received roughly another $7.7 million in net proceeds and we used that along with some of the other cash on hand to retire $30 million out of our $50 million subordinated debt borrowings, leaving $20 million outstanding there, $5 million on senior bank construction facility and the roughly $6 million on the tax abatement note. In terms of availability going forward, just a quick snapshot, we have $205 million available under our construction lines. The total cost we estimate at the current time from here to completion is about $163 million, so there’s about a $40 million margin available above and beyond what we need to spend to commission these first two plants, plus our cash for total availability of about $137 million, minus the $30 million used to re-pay the subordinated debt. So about $100 million that is intended to fund the construction of our third plant that we’ll return to a bit later in the conference call if we may, but we’re in a very strong position as we contemplate our alternatives and work towards completing these two facilities.
Introduce Scott H. Pearce, President and CEO and David J. Kornder, Executive Vice President and COO – Transition to Construction
Scott Pearce - Thanks Tom and to each of you for joining. I’m mainly going to talk through our first two plants. They’re substantially similar in terms of the schedule so I’ll talk about construction in total rather than the individual plant.
Through the end of June, we had spent $148 million on both of our plants, so based on the remaining amount due, $163 million that’s expected, we believe provided we meet the existing budget, this would complete all 230 million gallons of capacity for an average capital cost of $1.35 per gallon, which as you know is significantly below current plant costs. Since June we have really been working on ramping up our operations teams as we get ready for starting the plants up and have hired many of the key managers required including having the plant managers in place at both facilities. With these folks on the ground, it is helping us confirm the construction is being completed with the goal of being a low cost producer. This is very much at the front of our minds.
As far as specific areas of progress on construction, the two facilities are staged but I’m going to talk about construction in terms of a single plant. Fairmont is expected to start up about 3 weeks later than Wood River, both of which are still projected to start up in the first quarter of 2008. We have on the front end of the plant the physical construction, not including electrical and controls, most of the plant principally complete. This would include upgrading Cargill’s 3 million bushel grain silo, installing a 250 ft. conveyor and building a day storage bin. The conveyor is going to transfer corn from the silos that will leave from Cargill to the day storage bin. The day storage bin that we’ve built at each location is about 130,000 bushel storage. It’s a vertical concrete tank that stands about 90 feet in the air, and also houses at the bottom, the hammer mills that grind the corn. By the end of September we expect that the electricity and controls will be completed for the systems just described at the front end for both locations.
As for the main process area and specifically the fermentation tanks, we’re about 70% complete with physical construction at each location. This is where the corn that has been ground in the hammer mills and then mixed with water and enzymes is essentially cooked. These tanks themselves will hold about 200,000 gallons and what this means is that these tanks are largely erected with the tops put in place. There are 7 at each location, so 14 total. The structural steel that goes around these tanks and the buildings and main pipe racks have been lifted by cranes and largely bolted in place. So now the pump and piping between the tanks and to the rest of the plant are being completed, which is keeping crews of pipefitters and welders quite busy on each location. Once this is done then the electrical and instrumentation work will begin on the main process area.
Finally, at the back end of the plant, the dryers where the wet distilled grains will be dried and the distillation dehydration and evaporation where the finished ethanol product will flow from, they are about 50% complete.
We are doing most of the main utilities and infrastructure work ourselves, other than water. That would include electrical, rail, road and natural gas, these are all substantially complete. As far as challenges to construction, somewhat to the budget but mainly schedule, we are concerned about water treatment and labor and steel. Water treatment is often completed outside of the turn-key contract and for reasons that include a complicated set of environmental regulations, slow engineering and tight construction schedules. This is something we’re putting a lot of attention and focus on at the moment. Labor and steel, though largely included in the turn-key contract and therefore, a risk that we don’t bear directly, there’s a lot of work to be completed especially hanging the structural steel and running all of the pipes. Essentially what you have are cranes that lift the steel that’s been assembled from the ground and erect these structures and then pipes are run. There’s just a lot of work to be done. We have about 250 people at each location currently doing the work and yet as we move into the fall, TIC will be moving from 60 hour work weeks, to doubling up those shifts even more. So, the pace we’ve got to meet to keep construction on track is just significant between now and the end of the year to support starting up the 1st quarter.
That’s a wrap up on details on construction. As we turn and contemplate start up, we’re working very closely with both TIC and Delta T as well as Cargill to start to focus on the intricate details of what you need to do to have a successful start up. After this, we’ll start to work on buying corn, receiving the rail cars we’ve leased and shipping ethanol.
One significant event has occurred since the offering. This is the planned purchase of Delta T by Bateman Litwin, that’s set to close on August 22nd. Bateman-Litwin is an AIM listed firm based in the Netherlands. They are a global engineering and construction company focused largely on the energy business without much of a footprint in the US, although they do have an office in Louisiana and do work on the gulf coast in the oil and gas business. We expect that this acquisition will be a net positive for BFE but we are approaching it cautiously as we get to know a new owner and especially as it relates to bringing on our third plant, which Tom is going to discuss.
Tom on third plant.
It will be unremitting over the next three to four months. There are still a lot of pieces of the puzzle in terms of these initial plants to get together. There will be some additional challenges in this area as we look at the initiation of construction of a third plant in terms of the Delta T sale to Bateman-Litwin, which we believe will be a net positive. It will add financial strength and certainly personnel depth to what has been a superb company to date and we think ultimately will strengthen them as well as us and the project but in the short run, acquisitions are always a disruption and certainly it’s had some effect in that regard as we look at the initial projects and our third plant. In terms of the third plant, a series of things has occurred. The first being the acquisition of Delta T. The second is fairly extensive work that has been going on in terms of trying to enhance and strengthen the coordination between TIC, our prime contractor who we’re really completely dependent on and Delta T who is providing the engineering and technology for the initial plants, as well as we hope for 3rd plant.
We’ve been delayed quite substantially, partly by the offering being considerably more extended and challenging than we anticipated. Partially because of some issues in the generic construction market industry wide, but related to ethanol to some degree in specifics. So we are running well behind what this Spring-June period we anticipated would be execution of contracts and proceeding on construction of a third plant. Initially we were convinced at Alta, IA. It’s fair to say we are more ambiguous as to whether that should be at Alta, IA or Atchison, KS but we are aggressively working both sites so we would be in a position to proceed once we had contracts on a satisfactory basis arranged and agreed to. So, we are probably 3 to 6 months behind schedule in terms of those plants that has the benefit, frankly, that there can be even greater attention on the successful completion of the initial two plants. It also reduces our peak financing needs as we look at building a third plant because as you delay the capital costs on the third plant, you move closer and ultimately into the positive cash flow that the first two plants will be generating by the end of the first quarter, beginning of 2nd quarter of 2008. So the company’s peak financing need each month that delays actually is reduced. So, we’re not thrilled with the delay but it does have some positive aspects to it. We’re continuing to assess it and we’ll be bringing a full update of information to our board on those plants, on the location decisions and some of the issues we see in the construction contracting to our board meeting the middle of September to get some further decisions made there.
We’re pleased, but not unchallenged with how we’re proceeding on the first two. Delayed but not as yet, discouraged in terms of proceeding on the third plant and in the meantime, watching obviously with great interest, developments in the market for ethanol versus corn and therefore, the anticipated operating margins of our plants once they come on stream going forward and its impact on the industry along with feelings about both demand and capacity that keep developing. Biggest thing that has happened as you all know, from when we were doing the underwriting, there was a historic planting—largest corn planting since WWII. This spring that corn seems to be developing well, not brilliantly.
I think there are areas as we understand from Cargill that could be certainly using more moisture, especially in the southeastern portion of the Midwest. Overall, it’s doing rather well. Corn spot prices, as a result, had come down quite substantially. Spot price at June 30 was $3.17 a bushel. It’s come up a little bit as dryness continued since then. I guess the most recent spot price I’ve heard is $3.30 but well down from more than $4.00 numbers that peaked out before this planting. The ethanol price has not been nearly as gratifying given the strength in crude markets. Those prices as of June 30 approximate $2.20 – $2.23 a gallon. I guess the most recent price we’ve heard over the past few days has dipped down to below $2.00 to $1.85 but as of quarter end, the gross margin on the ethanol would be about $1.09, leaving a net margin, I believe of about $. 60 in these plants, if those prices were to remain constant during the start up of our facilities. So, were still running at that point, above our internal base projections of about $ .50 a gallon net margin. I guess if we ran those numbers as of today with the spot price of ethanol down, we’d be slightly below those numbers but not an unhappy picture, particularly as the market is absorbing a high degree of new plants coming on stream. So we continue to believe in the strategy we’re pursuing construction of the initial facilities, developing the kind of organization and risk management structure that will allow us thereafter, to continue to go after and build and/or to switch to acquisitions, which have certainly become more attractive. You all saw the Verasun purchase of ASA, very recently, it’s substantially above the prices that we seem to be trading at, at the current time, but we hope to be in a position before too long to be able to take advantage of some of the opportunities we see out in the market. That at this stage of the development of the company this is about all we have to report to you.
Question: Roden Woodstroff (Cowen & Company) – Want to get a sense on two initial plants on areas where you think there’s both the most challenge in the months ahead with the first quarter and where you have opportunities possibly to make up time.
Answer (Scott) – At Wood River we have the greatest challenge there in just getting the actual equipment installed and the fact is that its schedule is tighter than our Minnesota plant. It’s a little more difficult to attract labor. It’s a little more of a remote area and because of the pricing under the contract, TIC is unable to offer the kind of wages that are currently being demanded in the marketplace. That said, I think the opportunity and the plans we’ve seen for making up time are to get the buildings completed and erected so much of the piping and instrumentation can be done, irrespective of weather and then moving to more shifts. Whether they go 24 hours or just into the night, there are definitely plans to double up shifts in the next few weeks. At Minnesota, that plant has a very strong construction team and the schedule is much closer and more likely to be met. The big area of risk is water treatment and getting that done. It’s a fairly complicated system relative to what industry has done and we are not taking that lightly. We have many good people on that and are focusing on that but I think all around, Fairmont is a pretty good story and the parts that need to fall in place to get that plant, other than water, are pretty well lined out.
Tom – Scott, if I remember our discussions with TIC…one reason these additional shifts work well in Nebraska, where getting the base labor is challenging is many of these workers are nomadic employees of TIC. They don’t live near this facility but move from site to site. So, they can be convinced to work tougher schedules than someone might where competition is home and family, because they’re on this site until the project is completed.
Scott – One other thing that Tom reminds me of is TIC has two other plants in the area that are finishing up in the Midwest. One in Madrid, Nebraska and one in Arizona and we expect to have crews freed up that will be joining the force there and we think that will help us catch up.
Question: Roden Woodstroff (Cowen & Company) – Any possibility that you guys, in terms of the acquisition market, any chance you might find something opportunistic that might help sooner rather than later, that might help you as far as the anticipated delay on the third plant?
Answer (Tom) – It’s certainly possible. We are looking and talking to a lot of people including ASA before their transaction was concluded. What we are seeing at the moment is that while the market has softened quite significantly, there’s quite a few distressed or quasi distressed calls. The pricing that people are looking for, does not reflect that distress yet. So, our feeling is that before the acquisition market gets as attractive as we believe it will, particularly for the one and two plant operators, we think more time has to pass before the pricing is more realistic. It is challenging in the things we’ve seen so far to see the kinds of rates of return that we would be looking for in the current commodity markets and construction climates. So, we’re looking we just haven’t seen anything overwhelmingly tempting yet.
Question: Golden Harris (International Steel Services) – Relating to decision to go forward with the third plant, particularly in relation to what appears to be a significant increase in construction costs. My understanding is now the construction cost is approaching something in excess of $2.00 per gallon and I’m wondering how you’ll be able to hold the budget, if the two plants are in at $1.35, whether or not there’s possibly are you leasing or doing anything else that essentially does not reflect the actual full cost particularly as it relates to the 3rd plant.
Answer (Tom) – I think the numbers are relatively comparable. The all in cost by the time we are all done will be closer to $1.45. But the difference between the $1.45 and the $1.90 - $2.00 is very much a reflection of the increase in every aspect of the cost of these plants from steel to compressors to concrete that has taken place since we originally signed the EPC contracts. So there is no question that there are significant challenges in trying to get those costs, which have escalated sharply down before we commit to begin construction on the third plant. They are going to be far more challenging to meet our rate of return targets just because the rates have moved up so sharply. But no, there is no magic bullet like we’ll lease this as opposed to that to solve the problem, at least none that we’ve found yet.
Question – Golden Harris (International Steel Services) – Follow up question. Relates to price of ethanol. I’m concerned that there seems to be a deviation from the ethanol price to the oil price and with that continuing, are our thoughts on hedging the ethanol price being modified in any way? Also, what do you see the role of Cargill in that Marketing issue?
Answer (Tom) – Cargill will be doing all the marketing for us in a physical sense. That doesn’t’ mean they’ll be handling any or all of the hedging but they will be doing all of the long term marketing under contract and we think that they will be a major plus for the company given their overall stroke in the market vs. ours who have not been marketing at all. In terms of the deviation, you’re absolutely right . Historically the view was that should trade for the price of gas plus a premium for the portion of the blenders tax credit and clearly at this moment, that has reversed itself in that ethanol is trading at least a reasonable portion of the time at a discount to unleaded gas. The most articulate explanation of that is that we, ethanol producers or in our case, prospective ethanol producers are paying for the construction of the infrastructure needed to move ethanol into the gas stream. For example, in Florida, tank barging, loading facilities are needed to bring ethanol into the state and be able to blend into the gasoline stream. Until that happens, the thing that is inducing Transpmontaigne, who’s very active down there or Northville in the NY area is the significant per gallon profits they’re making by buying inexpensive ethanol and blending it with very expensive gas. Our view as well as Cargill’s is that is a temporary anomaly and that will go away in the next 3 to 6 months but almost assuredly in the next 18 to 24 months. So the historic relationship will reassert itself but it’s certainly not true at the moment.
Question: Golden Harris (International Steel Services) – You did not address the hedging question. I’m just wondering whether there are any recommendations Cargill may have with relation to some ability to hedge the price of ethanol.
Answer: Tom – We are not engaged in doing any hedging. We have begun discussions with Cargill and some of the major Wall Street firms in terms of hedging. Our approach to hedging and our policies have not changed at all. What have changed are the commodity prices and the relationships will be a lot more challenging at the current time. If these prices were to stay static, it will be a lot more challenging to achieve this 50 – 75% hedging of the major commodity components over a two to three year period because you would be locking in very unfavorable spreads. So, our approach and our policy has not changed but in this commodity market, it doesn’t mean that opportunities are open at all times and at the current time, I don’t believe there are any attractive hedging opportunities to be entered into. Fortunately, we will not be hedging, at the earliest, until the end of the year.
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