Earnings Call Transcript - ALTO Q1 2021

Operator, Operator

Ladies and gentlemen, thank you for standing by. And welcome to the Alto Ingredients Incorporated First Quarter 2021 Financial Results. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Moriah Shilton. Please go ahead.

Moriah Shilton, Investor Relations

Thank you, Elaine. And thank you all for joining us today for the Alto Ingredients’ first quarter 2021 results conference call. On the call today are Mike Kandris, CEO; and Bryon McGregor, CFO. Mike will begin with a review of business highlights, Bryon will provide a summary of the financial and operating results, and then Mike will return to discuss Alto Ingredients’ outlook and open the call for questions. Alto Ingredients issued a press release after the market closed today, providing details of the company’s quarterly results. The company also prepared a presentation for today’s call that is available on the company’s website at altoingredients.com. A telephone replay of today’s call will be available through May 19th, the details of which are included in today’s earnings press release. A webcast replay will also be available at Alto Ingredients’ website. Please note that the information in this call speaks only as of today, May 12th. You are advised that time-sensitive information may no longer be accurate at the time of any replay. Please refer to the company’s Safe Harbor statement on slide two of the presentation available online, which states that some of the comments in this presentation constitute forward-looking statements and considerations that involve a number of risks and uncertainties. The actual future results of Alto Ingredients could differ materially from those statements. Factors that could cause or contribute to such differences include, but are not limited to, events, risks and other factors previously and from time-to-time disclosed in Alto Ingredients’ filings with the SEC. Except as required by applicable law, the company assumes no obligation to update any forward-looking statements. In management’s prepared remarks, non-GAAP measures will be referenced. Management uses these non-GAAP measures to monitor the financial performance of operations and believes these measures will assist investors in assessing the company’s performance for the periods being reported. The company defines adjusted EBITDA as unaudited net income or loss attributed to Alto Ingredients before interest expense, provision or benefit for income taxes, asset impairments, loss on extinguishment of debt, purchase accounting adjustments, fair value adjustments, and depreciation and amortization expense. To support the company’s review of non-GAAP information later in this call, a reconciling table was included in today’s press release. It is now my pleasure to introduce Mike Kandris, CEO. Mike?

Mike Kandris, CEO

Thank you, Moriah. Thank you, everyone, for joining us today. We have a solid first quarter to start the year, as we sold 19 million gallons of specialty alcohol through a combination of contracted volumes, spot sales, and exports. It also was our fourth consecutive quarter of gross profit and positive adjusted EBITDA, reflecting the benefits of focusing on our strengths, selling specialty alcohols and essential ingredients. This is a more sustainable and profitable business model than fuel-grade ethanol alone. We generated net income of $4.4 million and adjusted EBITDA of $13.6 million. These results represent an approximate $30 million improvement in net income year-over-year, a further testament to the benefit of our transformation efforts. We remain on track for our specialty alcohol contracted sales to contribute a minimum of $60 million in gross profit for 2021 and we remain optimistic about adding additional contracted specialty alcohol volumes in 2022 and beyond. This will further improve utilization over time from our expanded production capacity and enhanced certifications. As we announced on April 28th, we have signed a definitive agreement with Seaboard Energy California to sell our fuel-grade ethanol production facility in Madera for a total consideration of $28.3 million. We expect the sale of this 40 million gallon per year facility to close in the second quarter of 2021 and most of the cash proceeds will be used to retire company debt. This will save approximately $700,000 per quarter in interest expense and an additional $400,000 per quarter in negative EBITDA carrying cost for this idle facility. We are on track with our $18 million announced capital improvement projects in 2021 that are expected to expand revenue and increase efficiencies and plant reliability. One example is a project underway that will increase the annual production capacity of our use facility by approximately 15%. Another example is a project to upgrade the feed dryers at our Pekin facility to produce even higher value feed in addition to improving overall plant efficiency and reliability. These two projects alone are scheduled to be completed and fully operational on or before the end of Q3 and are expected to contribute approximately $5 million annually in EBITDA, with a payback in less than two years. Turning to a topic that is top of mind for many of our investors, the role of carbon capture and sequestration can have on the decarbonization of our environment. As we discussed on our last call, Alto will be an active player in the carbon capture space, as our Pekin campus sits atop the Mount Simon Sandstone formation, considered to be one of the most significant potential carbon storage resources in the United States. We are actively engaged in discussions to develop a carbon capture and sequestration program at the Pekin site, which generates over 600,000 tons of CO2 annually. We look forward to sharing more information over the next few quarters regarding this uniquely profitable opportunity for the company. Finally, worth noting, among many other projects under development, it is our plan to expand protein production at our dry mill facilities, representing 250 million gallons of annual alcohol production. While it is too early to provide specific details, we believe the economics are compelling. We will provide greater details on these projects over the coming months once contractual arrangements are finalized. With that, I’d now like to turn the call over to Bryon for a discussion of our financials. Bryon?

Bryon McGregor, CFO

Thank you, Mike. I’ll discuss a few financial highlights and metrics for the first quarter of 2021 and provide an update on our expectations regarding certain metrics for the year. For the first quarter of 2021, net sales were $290 million, compared to $169 million in the fourth quarter, due to an increase in gallons sold and an increase in sales price per gallon. This is also attributable to having a full quarter of production at our Pekin dry mill, with the price per gallon sold up 13% compared to last quarter in line with rising commodity prices. We sold 58 million production gallons in the first quarter, of which 19 million gallons were specialty alcohols, up 3 million gallons sequentially over last quarter’s results. Gross profit was $13.8 million, relatively flat compared to the $13.6 million last quarter. The improvement in sales of specialty alcohol was in part negatively impacted by the seasonally poor fuel-grade ethanol crush margin early in the first quarter and the extreme weather conditions adversely impacting natural gas prices. As noted on our prior earnings call, we have seen improvement in fuel ethanol margins as industry inventories have declined and fuel demand has increased, and our dry mills are operating at positive margins. As a reminder, the $60 million in gross profit contribution from the sale of specialty alcohols Mike referred to earlier is based in part on the 70 million gallons that were contracted in the fall of 2020. These gallons were contracted for the entire calendar year of 2021 at fixed volumes and prices. Concurrently, we hedged some major input costs like corn at the then prevailing market prices to preserve the associated margins and minimize the impact of future commodity price volatility. Similarly, as we negotiate new fixed-price contracts, the terms will reflect concurrent market conditions and commodity prices that we will hedge at the time of signing. SG&A expenses in the quarter were $7 million, generally in line with last quarter, but slightly inflated due to normal seasonally high expenses, where we remain on track with our guidance of $20 million to $25 million for the full year of 2021. Our interest expense for the first quarter was $1.9 million, 50% lower than the $3.8 million we paid in the fourth quarter of 2020, and a 64% reduction from the same quarter last year as we continue to pay down high-interest debt. In the first quarter, we repaid $5.5 million in principal on our senior notes and $3 million on our CoBank credit facilities. In the past 12 months, we have paid off $120 million of high-interest debt, successfully removing 72% of the total debt we had entering that time period. We are on track to be net debt-free in 2021. Income available to common shareholders was $4.4 million or $0.06 per diluted share, compared to a loss of $20.5 million or $0.30 per share in the fourth quarter. The fourth and first quarters include the impairment charges of $24.4 million and $1.2 million, respectively, associated with our Western assets and their transition to assets held for sale on the balance sheet. Turning to our balance sheet. On March 31, 2021, our cash and cash equivalents were $44.1 million, compared to $47.7 million on December 31, 2020. After the quarter-end, we announced the pending sale of our Madera plant for a total consideration of $28.3 million, comprised of $19.5 million in cash and $8.8 million in the assumption of liabilities. Upon closing the sale, we anticipate reducing our debt outstanding by approximately $18.5 million, bringing our remaining term and plan debt loan balances to under $30 million. Proceeds from future asset sales will be used to further retire debt, bolster liquidity, and fund needed capital projects. In summary, we are building a balance sheet to support not only current liquidity needs through various commodity cycles, but also to address future capital improvement and growth opportunity funding needs. Mike, back to you.

Mike Kandris, CEO

Thank you, Bryon. Over the past 12 months, we have improved operations, optimized our production footprint, and reduced controllable expenses and our overall cost of capital, thus building a strong platform for the future. This platform provides us the ability to aggressively pursue opportunities organically to reinvest in quality proven high-value projects, as well as pursue accretive strategic M&A opportunities. We are grateful to all our employees for the efforts they have undertaken to put us in a position of strength as we look to the future. With this, Operator, I’d like to open the lines for questions.

Operator, Operator

And your first question comes from Eric Stine from Craig-Hallum.

Aaron Spychalla, Analyst

Good afternoon. It’s Aaron Spychalla on for Eric. Thanks for taking the questions.

Mike Kandris, CEO

Hi, Aaron.

Bryon McGregor, CFO

Hi, Aaron.

Aaron Spychalla, Analyst

Hello. Maybe first, you said you’re on track contracting the remaining 50% of the specialty alcohol, but can you just give a little more detail on the progress there and if you’re seeing any pricing pressures, and then maybe also talk a little bit about the two recent certifications and whether that concerns spot or contract and just the outlook for international sales as well?

Bryon McGregor, CFO

Sure, Aaron. It’s Bryon. I’ll take the first part and let Mike handle the second part. We remain on track in selling those gallons, but it’s important to note as well that we view this as a long play, right? While we would love to and we certainly are working diligently to be able to sell all 140 million gallons, particularly the 2020 contract for those gallons in 2022 and beyond. It would be, I think, an aggressive assumption on most people’s part to assume that we could place all of that product immediately. But we expect with the certifications that Mike will speak more about to be able to do so effectively over the coming years, particularly as you look at just the onboarding and the diligent processes that our customers go through in order to be able to find the product. With regards to certifications, Mike, do you want to?

Mike Kandris, CEO

Yeah. So, as you mentioned, Aaron, we have announced that we have gained additional certifications. I think the key here is that during the process of this kind of goes back to what the first part of your question was, how do you get yourself in a position to be set up going into 2022 and beyond. One of the things that we saw early on was getting the certifications, getting qualified with customers, and starting the conversations with customers early is incredibly important. And we’re working very hard at that as we go through the year, even though the contracting cycle typically is in Q4, there’s a lot of work that gets done ahead of time. We’ve been very fortunate and a lot of our very good customers have worked with us and have guided us through what is important for them and what we need to do to increase our business with them. So, again, it’s a process. As Bryon said, certifications are extremely important, not only domestically but internationally, and that’s where our focus is right now.

Aaron Spychalla, Analyst

Understood. Thanks for the color. Second, on corn and kind of just basis there, given recent developments. I know you talked a little bit about the hedging on the alcohol portion, but just on the fuel grade. Could you just talk a little bit about that, kind of what you’re seeing maybe kind of 2Q near-term thoughts on just corn and any hedges and just basis as well?

Mike Kandris, CEO

Sure. So I think it’s important to remember that while there are opportunities at times to be able to lock in spreads even on the fuel business, we will take advantage of those opportunities as they present themselves. But generally speaking, what we have found historically is that where you’re pricing your product on an index basis that is highly speculative and usually not at your most profitable place to be locking in your spreads on our product because of the inverted nature of ethanol prices and the carry that’s in corn. This year it’s kind of backwards, right? We’ve got an inversion in both corn and ethanol. So there are times when there is an opportunity to be able to lock in one month or two months out.

Aaron Spychalla, Analyst

Right.

Mike Kandris, CEO

And that’s all positive. But I would generally say that it is our intent for the product that we sell on index to be in the nearby. And so you’re not pricing corn until you effectively are grinding it and selling it.

Aaron Spychalla, Analyst

Okay. And then maybe last one carbon capture, we’ll stay tuned for details on Pekin. But just curious your thoughts on kind of Stockton and the developments in that market as well. Is there any color you can provide there on potential carbon capture would be helpful?

Mike Kandris, CEO

Yeah. Well, we have publicly announced that we’re pursuing a potential sale of the Stockton facility, and again, you have to pick your spots. Our goal right now is to sell that facility and take the resources to further pay down debt and use those proceeds to pursue other opportunities. Pekin is such a fantastic carbon capture story and we’re getting a lot of interest there. We’re just trying to sort through what is the best opportunity for us going forward. And again, like we mentioned, we’ll definitely keep everybody up to speed as we go through that process. But right now our focus primarily on carbon capture is at Pekin, and again, we are pursuing a sale of the Stockton facility.

Aaron Spychalla, Analyst

All right. Thanks for taking the questions.

Bryon McGregor, CFO

Thanks, Aaron.

Operator, Operator

And you have a question from Amit Dayal from H. C. Wainwright.

Amit Dayal, Analyst

Thank you. Good afternoon, guys.

Bryon McGregor, CFO

Hi, Amit.

Amit Dayal, Analyst

So the carbon capture opportunity, is there any specific technology that we need to sort of develop? Just trying to get a sense of like what will go into executing against building out this business segment?

Bryon McGregor, CFO

I don’t think there’s any particular new technology that needs to be developed. This is a method that has been utilized for years in enhanced oil recovery and similar applications. However, it does require a substantial capital investment not only to start with test wells and develop the resource, but also for large pumps, compression, and perhaps pipelines to effectively collect the product before injection. While there is a significant capital cost involved and it’s not a short-term project, but rather a multiyear endeavor, the economics are also quite compelling.

Amit Dayal, Analyst

Okay. All right. I want to take one of the questions on this offline. And then just going to the gross margin or gross profit comments Mike made, the $60 million number, is that specifically attributed to the specialty alcohol line of business in gross profit?

Mike Kandris, CEO

Yes. It is. Yes. It is. Yeah. That is specifically addressing the contractual $70 million that we talked about initially.

Amit Dayal, Analyst

Understood. Thank you for that. And with respect to sort of utilization levels, Bryon, could you maybe share what utilization levels were in 1Q and what you expect potential utilization levels to be in the remainder of the year?

Bryon McGregor, CFO

So, Amit, just to clarify your question, are you looking for overall utilization across the entire portfolio? Are you looking specifically towards specialty alcohols?

Amit Dayal, Analyst

You should break it out, Bryon, that would actually be very helpful. If you should have that, if not, the overall number will help as well?

Bryon McGregor, CFO

I believe the figures we've reported are consistent and can serve as a solid target for your projections for the rest of the year. Regarding specialty alcohols, based on our contracted volumes, we're aiming for at least 50%, and we expect to exceed that. As I mentioned earlier, reaching full utilization of our specialty alcohols is a goal but also a challenging aspiration. Therefore, a more realistic expectation would be to see gradual growth over time. We anticipate more growth this year, with additional capacity utilization as we secure more contracts in the coming one to three years.

Amit Dayal, Analyst

Understood. Did you already have some international sales for the specialty alcohol products in 1Q?

Bryon McGregor, CFO

Yes.

Amit Dayal, Analyst

Okay. Got it. Thank you. Yeah. I will take my other questions offline. Thank you so much.

Bryon McGregor, CFO

Thanks, Amit.

Mike Kandris, CEO

Thank you.

Operator, Operator

And you have a question from Sean Trauschke from Guggenheim Partners.

Constantine Lednev, Analyst

Hi. Good afternoon. It’s actually Constantine Lednev here for Sean. I have a couple of questions to follow up for kind of an abundance of information. On kind of the realized margins and product sales, can you talk about the structure of the contracts nominated sales and how specifically how price elastic are the specialty alcohols and ingredients kind of in light of corn prices escalating and what kind of cost protection that you may have kind of both near-term and longer-term as ethanol prices have been stepping up?

Bryon McGregor, CFO

Hi, Constantine. It’s Bryon. To address your question, I'll discuss both the short term for this year and the outlook for 2022 and beyond. In the short term, our volumes and prices are quite fixed and inflexible. Depending on customer demand, we might see some renegotiations in the fourth quarter as we prepare for the new year, possibly adjusting capacity as well. Overall, we feel confident about our margins since we have hedged our input costs, which is why we outlined our expectations for 70 million gallons and $60 million in gross margin. Looking to 2022, it would be unrealistic to think that our increased capacity, which has risen from 110 million gallons to 140 million gallons this year, along with others in the market expanding their production, won’t impact prices. However, we remain optimistic that the specialty alcohol market will maintain a premium compared to alternatives like fuel. If this weren’t the case, producers would likely focus on reducing operating costs and selling fuel ethanol instead. A critical aspect of our business, as Mike pointed out, involves onboarding and quality control. These serve as barriers to entry for us and protect our position, but they also require effort to ensure we effectively place our product and retain our customers over time, which has generally been our experience. Mike, do you have anything to add?

Mike Kandris, CEO

No. Thank you. You got it, Bryon.

Constantine Lednev, Analyst

Thanks for the color. That’s really helpful. And just a bit of a follow-up on kind of the economics and the market, do you think the recent price moves and changes in the margin change any of the economics on kind of the planned investments, $18 million that you talked about? Any color on the payback kind of timeframes and just thoughts on kind of capital allocation at this juncture?

Mike Kandris, CEO

Yeah. With the $18 million, we’re being very specific in terms of where we are investing our capital dollars. We have a lot of infrastructure that we are continuing to upgrade to improve reliability. There are kind of two buckets you can put it in, further growth opportunities and reliability and improvement and your efficiencies and reliability within your existing plant structure. We carefully look at those and analyze them. There were certain things that were within that $18 million that we had to focus on, for instance, at our ICP plant. It was important to upgrade the cooling tower, which was part of that $18 million capital expenditure and that we have planned for 2021. There’s a variety of things that go into that, no one single answer. I think above and beyond that, as I mentioned in the remarks, we now have a solid platform and we’ve worked really hard over the last 12 months to kind of put ourselves in a position, working on the debt, working on a variety of issues, to put ourselves in a position to where we can aggressively pursue some other activities above and beyond the $18 million and we’re looking at those also.

Constantine Lednev, Analyst

And just kind of in regard to the opportunities. You obviously talked about kind of carbon capture opportunities at Pekin, how are you thinking about the capacity for these future investments and kind of maybe a range of capital requirements? And are you thinking about this from a standalone perspective or kind of a joint venture agreement of some sort?

Bryon McGregor, CFO

It’s a really great question. I think probably the best way to answer that is we’re considering all of those options, and the real goal is to be able to be the other private producer of the carbon and the CO2 that we intend to try and capture as much value as we can and retain it for the benefit of the company and the shareholders. We’ll certainly intend to and we’ll continue the process where we keep these competitive and try and optimize value with regards to this resource.

Constantine Lednev, Analyst

Perfect.

Bryon McGregor, CFO

So I don’t mean to answer the question, it just we consider both, but we’re considering all options and we’ll make sure that we bring to bear that which makes the most sense for us while mitigating risk appropriately and effectively assigning risks with the people who can best handle that risk.

Constantine Lednev, Analyst

That gives some very good color and thank you for the disclosures.

Operator, Operator

There are no further questions at this time. I’ll turn the call back over to Mike Kandris for any closing remarks.

Mike Kandris, CEO

Thank you for joining us today and for your ongoing support. As you can tell, we are excited about the progress we have made and the bright future we have ahead. We look forward to continuing our dialogue with you as we make further progress. Thank you and I hope everyone has a good afternoon.

Operator, Operator

Ladies and gentlemen, this concludes today’s conference. Thank you for participating. You may now disconnect your line.