Earnings Call Transcript
DARLING INGREDIENTS INC. (DAR)
Earnings Call Transcript - DAR Q1 2022
Operator, Operator
Good morning, and welcome to the Darling Ingredients Inc. Conference Call to discuss the company's First Quarter 2022 results. After the speakers' prepared remarks, there will be a question-and-answer period, and instructions to ask a question will be given at that time. Today's call is being recorded. I would now like to turn the call over to Ms. Suann Guthrie. Please go ahead.
Suann Guthrie, Executive
Welcome to the Darling Ingredients First Quarter 2022 Earnings Call. Participants this morning are Mr. Randall Stuewe, Chairman and Chief Executive Officer; Mr. Brad Phillips, Chief Financial Officer; Mr. John Bullock, Chief Strategy Officer; and Ms. Sandra Dudley, Executive Vice President of Renewables and U.S. Specialty Operations. There is a slide presentation available on the Investor's page under Events and Presentations on our corporate website. During this call, we will be making forward-looking statements, which are projections or other statements about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could materially differ because of factors discussed in today's press release, the comments made during this conference call, and the risk factors section of our Form 10-K, 10-Q, and other reported filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statements. Now, I would like to hand the call over to Randy.
Randall Stuewe, CEO
Hey, thanks, Suann. Good morning, everyone. Thanks for joining us for our first quarter 2022 earnings call. We kicked off the year with very strong first-quarter earnings of $330.7 million and combined adjusted EBITDA. Our Global Ingredients business had a record quarter at $244.1 million in EBITDA. Our food business earned $57.7 million in EBITDA and our fuel segment ended the quarter with $110 million in EBITDA, with $86.6 coming out of Diamond Green Diesel. We're carrying solid momentum into 2022. Global supply chain challenges remain, while increased labor and energy costs are being addressed by our formula and spread pricing in finished products. Pricing remains robust around the world. Starting with our feed segment globally, raw material volumes are up year-over-year, and we're not seeing any indication of livestock or hard reduction. Fat prices continued to escalate throughout the quarter. Protein prices improved during the quarter and grew sequentially. However, logistical disruptions due to container shortages have kept our prices lower year-over-year. Additionally, we saw some margin compression relative to Q1 in 2021, which reflects procurement process lags due to rising prices. We're working diligently to maintain margin structure in a higher energy cost environment, especially in Europe. Turning to our food segment, performance grew year-over-year, driven by our peptide business and our product mix shift from commodity gelatins to hydrolyzed specialty collagens. The changes we made in late 2021 have helped improve margins. I am confident we will see improvement in the food segment for the balance of the year, despite supply chain challenges. In our fuel segment, escalating energy prices in Europe supported stronger earnings in our green energy electricity business. Our previously announced acquisition of Optivac is contributing nicely and is under expansion. Now, turning to Diamond Green Diesel, we successfully completed a turnaround at DGD 1 during the first quarter. Q1 earnings for DGD were $1.11 per gallon EBITDA. This is lower than our full-year estimate of a $1.25 per gallon, and it's attributed to rapidly escalating feedstock prices while heating oil RINS and LCFS did not have adequate time to react. As we head into Q2, margins are on the rebound. We're seeing higher rents and steady LCFS prices. DGD 1 and 2 are running wide open and optimization programs are in place to increase gallons. Given these factors combined with the startup of DGD3 in Q4, we maintain our forecast of at least 750 million gallons at a $1.25 per gallon EBITDA for the full-year 2022. Last week, we announced two key strategic acquisitions to grow our base business, the completion of the Valley Proteins acquisition and our signing of a definitive agreement to purchase the FASA Group in Brazil. With these announcements, we will process more than 15 million metric tons of the world's available slaughtered animal by-products or about 15% of the world's supply. Valley Proteins, which closed on May 2nd for $1.1 billion, plus or minus various closing adjustments, includes 18 new plants to process about 2.4 million metric tons of raw material per year, and enough fat to produce approximately 125 million gallons of renewable diesel. This is a great acquisition and will be immediately accretive. For 2022, we expect a contribution of $60 million to $70 million of new EBITDA. Under current market conditions, I anticipate the business contribution to be more than $150 million in EBITDA in 2023 as we address operational synergies. On May 5th, we announced the signing of a definitive agreement to purchase FASA Group for 2.8 billion Reals or approximately 560 million U.S. dollars at the current exchange rate. FASA Group processes more than 1.3 million metric tons of beef, pork, and chicken annually through 14 rendering plants with an additional two plants under construction, and has approximately 2,400 employees. FASA will augment our supply of low carbon feedstocks to Diamond Green Diesel and will also be immediately accretive upon closing. We expect to close by the end of the year. The current operating EBITDA of this business is approximately 500 million Reals per year. Now I'd like to hand it over to Brad to take us through the Financials and then I'll come back with a little bit of an outlook for the balance of 2022, Brad.
Brad Phillips, CFO
Thanks, Randy. Net income for the first quarter 2022 totaled $188.1 million or $1.14 per diluted share compared to net income of $151.8 million or $0.90 per diluted share for the 2021 first quarter. Net sales were $1.37 billion for the first quarter 2022, as compared to $1 billion for the first quarter 2021, representing a 30.5% increase in net sales. Operating income was $232.9 million for the first quarter of 2022 compared to $199.5 million for the first quarter of 2021. The 16.7% increase in operating income was primarily due to the gross margin increasing $71.9 million or a 26.2% improvement on higher volumes and record high fat prices in our Global Ingredients businesses while our share of the earnings from the Diamond Green Diesel joint venture declined $30.4 million to $71.8 million from $102.2 million the previous year. Additionally, the first quarter of 2022 included $3.8 million of acquisition and integration costs primarily related to our acquisitions of Optivac, Valley Proteins, and FASA Group, as well as a $4.6 million increase in SG&A. Now turning to income taxes, the company recorded income tax expense of $26.1 million for the three months ended April 2, 2022. The effective tax rate for the first quarter is 12%, which differs from the federal statutory rate of 21% due primarily to biofuel tax incentives, the relative mix of earnings among jurisdictions with different tax rates, and excess tax benefits from stock-based compensation. The company also paid $41.4 million of income taxes in the first quarter. For 2022, we are projecting an effective tax rate of 18% and cash taxes of approximately $60 million for the remainder of the year. Total debt outstanding at the end of the first quarter 2022 was $1.7 billion as compared to $1.5 billion at year-end 2021, and the bank covenant leverage ratio ended the quarter at 1.69 times. The increase in debt was primarily the result of the acquisition of Optivac and contributions to Diamond Green Diesel due to project acceleration. Capital expenditures totaled $71.6 million in the first quarter, and the company repurchased $17.2 million of common stock. Lastly, you will note we added a $500 million delayed draw term loan aide, which was undrawn at the end of the First Quarter. With that, I'll turn it back over to you, Randy.
Randall Stuewe, CEO
Thanks, Brad. Looking ahead, the business environment remains very favorable for Darling Ingredients. Rendering volumes are robust and growing with no sign of depopulating or hard reductions. Despite global supply chain concerns, we are optimistic as we have seen some improvement and better raw material availability. While European energy prices were up 250% year-over-year, we are working hard to minimize the impact and protect our margin. Darling Ingredients continues to lead the way in creating renewable and bio-energy solutions to combat rapidly rising energy prices and satisfy the world's demand for low carbon fuels and decarbonization. We expect our Green Energy business in Europe to continue to flourish as we expand capacity to meet this increased demand. Diversifying our feedstocks supply to support DGD from a multi-continent arbitrage has been our focus. Darling's access to low carbon intensity feedstock is unparalleled in the industry. DGD is an ideal location with access to multiple transportation options. Our pretreatment expertise and our experienced team make DGD the lowest-cost producer of renewable diesel in the world and our best is yet to come. Our Global Ingredients business run rate supports earnings of $1 billion to $1.05 billion EBITDA for the year without Valley Proteins. Valley Proteins is expected to contribute about $60 million to $70 million of running EBITDA in 2022. Adding in at least 750 million gallons of renewable diesel at $1.25 per gallon EBITDA, we believe a combined adjusted EBITDA of $1.55 to $1.60 billion is very achievable. This does not include any additional gallons that may even be produced at Diamond Green Diesel 3 in Q4. With that, let's open it up to Q&A now.
Operator, Operator
We will now begin the question-and-answer session. At this time, we'll pause briefly to gather our list of participants. Our first question will come from Manav Gupta with Credit Suisse. You may proceed.
Manav Gupta, Analyst
So Randy, somehow you guys are always ahead of the curve. You figured out renewable diesel before everybody else did, your facilities are now coming on, DGD 3 is coming on soon, and it seems like your competitors are still figuring out permitting and stuff. So, somehow, you're always ahead of the curve. And my question here is, when we see the next leg of growth for Darling here, it appears between Valley Proteins and FASA and the deals you're signing with DGD 3 and stuff, that the next leg of growth for Darling is going to be coming from the feed side of the business. I mean, you have DGD 3 coming on, but when we look at the next level of growth for the next three or five years, it seems it will be in the feed side, so if you could comment a little bit on that, sir.
Randall Stuewe, CEO
Thank you, Manav. We appreciate your remarks, and I want to commend the global Darling team for their successful acquisitions. The Brazilian acquisition took nearly eight years to finalize, and I have spent significant time with the Smith family to secure Valley Proteins as well. We pride ourselves on our four-pronged approach to growth, and the management team remains optimistic about Darling’s potential as a strong growth vehicle worldwide. Our growth trajectory is far from complete. Let’s discuss the four growth avenues. First, there's our Green Electricity business in Europe, where we continue to see opportunities to increase digestion capacity. An example is Op de Beeck, which is set to grow considerably due to energy prices in Europe. This represents a lucrative investment that enables us to convert raw materials that would typically end up in landfills into energy. Second, we are not finished with our Diamond Green Diesel initiative. Recent announcements, such as the one with United regarding jet fuel, indicate that we won’t discount the production of sustainable aviation fuel in the coming years. We plan to let policies evolve before making significant capital expenditures in this area, believing there will eventually be sufficient demand as regulations support it. Third, we foresee our food segment accelerating as we move through this year and into next. We have developed a specialized product line that has now expanded into our biomedical sector, offering new avenues for significant earnings with stability. This aspect of our business utilizes slaughtered animal by-products as raw materials and has evolved into more of a specialty ingredients operation. We're fortunate to have an excellent team driving this forward. Finally, the fourth area is our Global Ingredients business, commonly referred to as core rendering. Valley Proteins stands as our second largest independent processor in the U.S., and the team’s exceptional capabilities and strategic locations are noteworthy, as we are currently around 50% the volume of Darling USA's rendering operations per week. Historically, after acquiring national by-products and Griffin around 2011/12, we have grown nearly 60% larger in the U.S. market since then. I want to emphasize that once we integrate Valley Proteins and optimize our margin structure, it will be incredibly beneficial for our company. In Brazil, we remain a strong player and plan to continue expanding with additional factories. Our management in Brazil has crafted an effective structure, and we believe it will be vital in feeding a growing global population. Despite challenges faced by animal agriculture in Europe and North America, Brazil presents immense growth opportunities. We already operate 14 factories with two more under construction, positioned strategically throughout Brazil to align with the country's expansion. Interestingly, we've begun importing fats from Brazil into Diamond Green Diesel, aligning with our logistics strategy for locations such as Norco, St. Charles, and Port Arthur. The acquisition of the FASA Group reflects a straightforward and longstanding plan, with a management team committed to support us for the next three years. The four growth paths are Green Electricity, Diamond Green Diesel, Peptan, and core ingredients. We continue to identify further opportunities for core ingredient growth globally, including plans for new factories in the U.S. once agreements are finalized. We firmly view Darling as a growth-oriented company.
Manav Gupta, Analyst
Perfect, sir. My quick follow-up here is sometimes as analysts we focus too much on fat prices, grain prices, LCFS, and we sometimes don't give enough credit to the fact that Darling at the end of the day is a technology innovation company. You spent so much time on collagen peptide and figured it all out and it's doing very well for you. So, can you talk a little bit about your R&D efforts, R&D pipeline? What's that looking like and then where could the next leg of R&D be? And I'll leave it there. Thank you so much.
John Bullock, CSO
Thanks, Manav. At the end of the day, we have tremendous expertise in taking the byproduct material from the meat industry around the world and turning it into a variety of different products. What Darling, I believe, has been really good at is we focus on the value of the finished products. We're always out there trying to figure out where our customers and the world is going to take us for demand for our products. And then we work backward from there, trying to figure out how to create the most efficient and best supply chains around those great products. What I want you to see inside of Darling today is we've got rock star, and we mean rock star low-carbon products across the spectrum of biofuels, as well as into fixed energy, and electric and gas in Europe. We have rock star products on the Peptan side. And when you start with, 'What's the value of the product? Where's the marketplace going from the demand of the product?' and you listen to your customers, then you are able to rebuild the innovation. Our innovation pipeline today is tremendous. We're working on a variety of new products that our customers are coming to us and saying, 'This is the future. This is where we would like to see you bring us products.' And we're really good at going back-end, because there's just such a broad range of expertise along different product lines, around the world. We have an ability to internalize those products and design that structure backward. And I will tell you, today the pipeline is more robust internally than it's ever been. We have a very exciting platform of products that we're working on now, developing with our customers. But it's all about the finished products. It's all about creating a product that the market wants.
Manav Gupta, Analyst
Thank you so much. Thank you for taking my questions.
Operator, Operator
Our next question will come from Ben Kallo with Baird. You may now go ahead.
Ben Kallo, Analyst
Good morning, everyone. Congratulations on all your hard work. I have a question about leverage. How do you view that, Randy or Brad? I noticed you've mentioned it can go up to five times in the past. Could you remind us about the cash flow that DGD generates and your thoughts on leverage moving forward?
Brad Phillips, CFO
Yeah, Ben, this is Brad. Good morning. You've been following us for a while, and we've consistently delivered on our recent performance. As Randy and John mentioned, we still see ourselves as a growth company. That said, after leveraging up following Valley to just over two times, we will reduce our leverage, and we're already in the process of doing that. Our cash flows are strong, especially with DGD coming online in the fourth quarter this year. Considering all of this, we maintain our long-term perspective on leverage. After completing our acquisitions, we've consistently managed to stay below three times, and that continues to be our focus and strategy.
Ben Kallo, Analyst
Randy, you mentioned we're not done with DGD and discussed the SAF. As you pursue acquisitions to support feedstock, what are your thoughts on the next steps? I hesitate to ask, but what comes next in terms of another plant?
Sandra Dudley, EVP
Yeah, hi, there. This is Sandra Dudley. I think we're right now working fiercely to complete DGD 3. But that said, there is no investment decision on the table. We purposely have less space at Port Arthur that would work well for a DGD 4 or SAF if the marketing conditions are right. And I think if you look at both us and our partners, it would be a huge underestimation to say that DGD 3 is the limit for us. I mean, if you look at our partners, you know they've done a whole lot beyond just petroleum. And then you look at what we've done as Darling, you know we're a great low carbon feedstocks business, a tremendous food business. And then we have an unparalleled renewables business. And then if you look at what we did together, we created DGD. I think that there is a lot more for us. I think we purposefully positioned ourselves within the market and how we built the DGD 3 to take advantage of whatever opportunities makes sense for us going forward.
Operator, Operator
Our next question will come from Adam Samuelson with Goldman Sachs. You may now go ahead.
Adam Samuelson, Analyst
Hi, good morning, everyone. Randy, I was hoping you could provide an updated view on the base business for the year. In your prepared remarks, you mentioned a range of $1 billion to $1.05 billion for the base. Can you help us understand how the key elements have changed since the end of February, particularly regarding the future projections for fats and oils? I also have a follow-up question about Valley.
Randall Stuewe, CEO
Adam, we're looking at the Q1 run rate and considering April now. Essentially, we're doing some calculations to extrapolate that amount. As we analyze the run rate, we haven't yet seen the higher fat prices impact the business. Keep in mind that we're sold out for 60 days, and given the supply chain for our Diamond Green Diesel, there is a lag in this process. Consequently, we expect Q2 to be much stronger in the Global Ingredients business compared to Q1, reflecting the increase in fat prices. Although protein prices are better sequentially, they're still lower year-over-year for various reasons. However, they're comparable to soybean meal prices, and as long as soybean meal remains stable, we should be fine. The Russillo and food ingredients business is just beginning to grow as sales increase, and we feel optimistic about that. The math involves looking at the first quarter and then calculating for April to arrive at a roughly $1.05 run rate. For Valley, we project it will generate about $8.5 million, potentially up to $10 million a month for the remainder of the year, and we haven't included that yet. We're still in the early stages with Valley, making it difficult to provide accurate estimates. Remember, while it was in the Hart-Scott filing, we weren't able to conduct thorough analyses on various factors, and we're just starting that process now. The benchmark for next year indicates we should achieve similar margins operationally, marketing-wise, and in terms of product mix as we do in our core business. That's how we've derived these figures. Lastly, Sandy's calculations are based on 750 times a buck and a quarter divided by two. That's the approach we've taken.
Adam Samuelson, Analyst
I'm no quantum physicist so I appreciate that. But on the Valley Proteins for next year, and just thinking about getting that business more in line with your legacy U.S. business. Can you talk about where the bigger opportunities are? Is the product mix moving some of the poultry byproduct into the pet food markets? Where was the gap in terms of their performance and their operations in their mix that you are so excited about?
Randall Stuewe, CEO
It's a little bit of everything, and number one, when a business goes for sale and management teams and operating teams find out that they're going to have a new owner, it becomes a bit of a challenge to keep momentum. And I would say they lost a little bit of focus and momentum around the business. There's a little bit of capital, it's not giant numbers that I'll have to go back into this to bring it up to our standards, but just start to look at specific pieces, moving different products around, we look at what we're selling product for versus what they have sold product for and say, if they would have only sold the product at the same price we did or near, that's an insignificant number. There are 1,900 people in 18 factories. I mean, simple math again, 105, 110 people. There's a lot of people that we got to figure out what they're doing. And then you look at it from a yield standpoint, from an energy operating cost standpoint, and we see significant opportunity there to teach the organization how we do it. I don't want to ever say we're the best of the best, but I think we're pretty good at what we do. And when we benchmark ourselves against them, if we can get them to where we're at, that it is very easily the achievable $150 million number next year that we're throwing out there.
Adam Samuelson, Analyst
And if I can just squeeze one more follow-up, where are spot margins in DGD today and how's a backward-dated diesel curve impacting your margin capture?
Randall Stuewe, CEO
Would you take that, Sandy?
Sandra Dudley, EVP
Yeah. So, diesel spot margins today are well above where they were for Q1, and they're getting closer to the $1.50 to $2 level. It just kind of depends on the day where the RINS prices, feedstock prices, etc. It's well above what we saw last quarter. So that's positive, and I think that if you look at where we're estimating for the year to end up at a $1.25, that probably looks like a pretty conservative estimate at this point in time. So, we're really happy about that. In terms of the backward-dated curve, what we do is we don't necessarily hedge our volumes out to the front month; they're going out to further months, and so we're not capturing that full front month value that you're seeing.
Adam Samuelson, Analyst
Okay. That's really helpful. Thank you.
Operator, Operator
Our next question will come from Ben Bienvenue with Stephens. You may now go ahead.
Ben Bienvenue, Analyst
Yeah, thanks so much. Good morning.
Randall Stuewe, CEO
Morning.
Ben Bienvenue, Analyst
I want to ask about your acquisition strategy around, just to build out your feed ingredients business. Strategically it makes all the sense in the world, and I think you guys are in a relatively unique position that you're vertically integrated. Renewable diesel production positions you to acquire these assets, I would think without a lot of relative competition for these assets, the multiples you're paying suggest that. Can you talk about the potential, though it seems remote, for the competition for these types of assets to grow? And when you think about the value that you can add to these businesses, when you buy them, given your long history of running and operating these types of businesses efficiently, how that positions you competitively relative to potential other suitors for these types?
John Bullock, CSO
This is John. First of all, thank you for asking that question. This is something we sit around all the time and wonder, especially quite frankly, when we see the multiples that others are valued in the marketplace. The reality is this: the feedstock supply position that we've established around the world in today's marketplace would cost an insurmountable amount of money for anybody else to come in and try to replace. But more importantly than that, the supply system associated with low carbon fats is a complicated supply chain. These are complicated supply chains to our plants. Our plants are complicated to run, and the sale of the products in the marketplace and the supply chain is a complex mechanism to operate. So, if somebody went in today's market with basically what we've seen in recent acquisitions with others, if you look at what you've heard in the marketplace in relationship to other acquisitions that have occurred out there that we haven't been engaged in, you would see multiples in the 12 to 18 times range. If you went out to try to replace the size and scope of our system at those types of multiples today, you'd have to break a bank to come up with enough money to do that. So, the reality is we're hard to duplicate. In fact, we're impossible to duplicate. You announced pretty easy to set up a trading desk and put a guided desk with the telephone and say that you've got procurement expertise on fats. You've got the ability to call us up to try to buy fat and others like us. But you don't really have the ability to source back from its origin source, which is what we do. We go out to restaurants and pick up the fat. We go to slaughter facilities and pick up the processed material and bring it in and process it, where you are and pick up the food waste and convert that into bioenergy. The reality is that system is very difficult. Nobody else has that. Nobody else has the vertically integrated position in this marketplace. And it seems to be the best kept secret in the entire industry.
Randall Stuewe, CEO
I would add, Ben, it's a very unique business that we've developed over the last 20 years. The marketplace is still trying to grasp what we offer and what our competitive advantages are, such as scale, geographic reach, expertise, and product lines. When a meat processor anywhere in the world, whether in Brazil, China, or Australia, considers their options, their first call is now to us because they understand we can generate maximum value from their by-products. This approach not only pays them more but also enhances their competitiveness and fosters growth, all while fulfilling our shareholders' expectations for growth. As I mentioned, we still view the world positively. John was speaking earlier, and I often share a little joke about trading at 15 or 16 times for 200 million pounds of fat. This is fantastic; we acquired that with Valley, and we also have the additional 18 rendering plants without additional cost. It all depends on your perspective. We have created a truly exceptional platform worldwide, facing competition, but I believe our position is very defensible and will continue to expand.
Ben Bienvenue, Analyst
That's great. Yeah, definitely an enviable position to be in. My second question relates to cash flow, and I'm less looking for a direct answer and more hoping that you can help us think about calibrating strategically. And the question is, I think we certainly have been guilty of this, focusing a lot on what might the distribution of cash flow from the joint venture be back up to Darling in 2023 or beyond. And I'm stepping back and seeing or thinking now, you're making acquisitions across the feed ingredients business, you're investing in organic growth of the business, you're buying back stock, talking about potentially SAS down the road at the economics lineup. And I guess it sounds more like you've got a lot of opportunities that you might pursue and the returns will dictate where you put the capital to work. But as we get closer to what's likely to be a very sizable amount of free cash flow coming back to the business, have you considered setting up a framework or a structure to create some predictability in our expectation or where that cash might go, or is it truly going to be variable depending on the environment?
Brad Phillips, CFO
No. I think you covered a lot during the recent board meeting, and to be honest, we will be discussing this further. Our goal is to achieve investment-grade status and maintain leverage below three times. If you consider that reaching a leverage level with $1.1 billion is achievable after our recent growth, it's straightforward given our significant cash generation. John Bullock has projects that will seek funding. We will continue our share buyback program opportunistically, as we have in the past. We are dedicated to this strategy. If there are any remaining funds, the board may consider issuing a meaningful dividend in 2023. Therefore, we will balance these four elements: maintaining leverage at an investment-grade level or lower; funding growth opportunities with reasonable returns; buying back stock at the right times to avoid dilution; and considering dividends when appropriate. This is what you can expect from us, and we are committed to it.
Ben Bienvenue, Analyst
Very good. Sounds great. Thanks so much. Best of luck.
Operator, Operator
Our next question will come from Thomas Palmer with JPMorgan. You may now go ahead.
Thomas Palmer, Analyst
Good morning and thank you for the question. Maybe a follow-up on Adam's question on DGD's economics, and dig into some of the factors that could cause DGD to vary from the spot rates you cited. So, I just want to lift a couple of things. So first I saw you have an approved pathway in California for renewable Naphtha. Have you started selling into LCFS markets with that? Second, the derivative losses were sizable last quarter. At this point, should we expect additional losses in the second quarter? Or is it mainly going to be isolated to that first quarter? And then third, to what extent should we factor in startup costs as Port Arthur as we look at the fourth quarter?
Sandra Dudley, EVP
I’ll start by discussing our feedstock and hedge loss since you mentioned it. At DGD, we typically purchase our feedstock months in advance and aim to hedge the spread between the feedstock price and the diesel price during the months we plan to sell diesel. This is not usually in the front month, which explains why we do not realize the front month margin. During Q1, we observed that diesel prices increased throughout the quarter, leading us to buy back our hedge at a higher price than initially set, resulting in the hedge loss. Looking ahead, we cannot predict the direction of diesel prices and will maintain our regular hedging policy. Regarding Port Arthur and margins, we believe there is substantial market support. Recent trends differ from what we experienced in Q4, particularly with RINS responding, which we anticipate will incentivize the marginal producers, of which we are not one. We expect good values when Port Arthur becomes operational, especially since we utilize very low carbon feedstocks, which is advantageous. While I don’t foresee major changes regarding Port Arthur, we are observing some positive movement in LCFS prices. Recently, these have increased, and CARB has discussed raising targets before and after 2030, which is encouraging. Whether this is impacting LCFS prices is uncertain, but I believe these will continue to strengthen, and the market outlook appears favorable, suggesting better margins in the future compared to Q1.
Thomas Palmer, Analyst
Thank you for all that detail. Maybe just a follow up on the thoughts on the acquisition. What's the structure of the rendering market in South America? Is it formula contracts similar to the U.S. or structured differently?
John Bullock, CSO
This is John. There's a combination of formula contracts and then also just contracts we're repricing versus the marketplace. I think the critical issue that we see in Brazil with FASA that we see in all of our rendering operations is that we have the right locations and relationships to where the slaughter by-products are being created. So, we've got the really good economics. We can give a really great deal back to our raw material suppliers because of how we're positioned in those marketplaces. And the form and substance of whether you are doing it on a long-term contract or whether or not you're just buying on what the current market is and testing along that value back to your raw material suppliers, I think, is sometimes overestimated. We operate very different models in every continent that we operate in. But the fundamental thing is this: are you in the right location with the right processing capability to support the people that are providing you with the raw material products? If you are, then you've got a great business model.
Operator, Operator
Our next question will come from Kenneth Zaslow with Bank of Montreal. You may now go ahead.
Kenneth Zaslow, Analyst
Hey, good morning, guys.
Brad Phillips, CFO
Morning.
Randall Stuewe, CEO
Morning.
Kenneth Zaslow, Analyst
I'm going to try to do some Bank of Montreal math. Maybe not that complicated, but let me just try this out. If you're guiding this year to $1.1 billion for the rendering and you have another $150 million of incremental profit coming from Valley, that seems to add up that $1.25 for next year without any changes. And then if I think about the Diamond Green Diesel going to about 1.3 billion gallons next year, holding margin at $1.25, that's close to about $800 million. Is there anything wrong with Bank of Montreal math?
Randall Stuewe, CEO
I would say we're projecting $1 billion to $1.5 billion in the base business with $50 to $64 in contributions from Valley this year. This could result in as much as $1.1 billion. The incremental profit, which I estimate at $150 million, adds $100 million over the $50 this year. If prices and volumes remain stable, we could potentially increase from $1.1 billion to $1.2 billion next year. Regarding Sandy, we're stating $1.2 billion, but you're suggesting it could be rounded up to $1.3 billion. While I’m not permitted to make that adjustment, I believe it could happen. You're correct; that sounds like Bank of Montreal math, and I appreciate it.
Kenneth Zaslow, Analyst
And that also excludes is that also true? That includes
Randall Stuewe, CEO
Yes, and like I said, it's at a $500 million or up. Divide by five on the real plus or minus a couple bips there. So, it's at the $100 million run rate right now USD.
Kenneth Zaslow, Analyst
Okay. And then also, just to make sure I fully understand this, what new capacity for you guys coming online this year on the food side? And does that add incremental profitability?
John Bullock, CSO
We have one unit coming on to expand our Peptan capability later this year.
Kenneth Zaslow, Analyst
That would also be largely incremental as well. Is that fair?
Randall Stuewe, CEO
In '23 as it comes on, it's supporting the growth in the hydrolyzed collagen business for next year.
Kenneth Zaslow, Analyst
I was trying to do more calculations. I have a follow-up question about the Diamond Green Diesel business. If next year you distribute a dividend to yourself, could that be used to reduce the debt on the balance sheet? Is this not something I should be concerned about? I recall, Brad, you mentioned the leverage and discussed the significant cash flows being generated. I’m also aware that there might be a Diamond Green Diesel dividend coming back next year, which could also help in reducing the debt. Am I misunderstanding that?
Randall Stuewe, CEO
No. Using the math that you generated there, if we snapshot the world as of May 2nd or whatever, Brad, we're what? Two eighty-eight levered with something like that with Valley in there now. We're where we want to be right now and then if we start pulling dividends of $400 million to $600 million out of Diamond Green next year, on top of a core run rate that has a billion number in it, that there's somewhere between $700 and $1 billion of free cash to, like I said, during one of the four things that we're going to do.
Kenneth Zaslow, Analyst
Okay. And then my last question is, when I think about SAS, what is the pathway to that? And what will be the key milestones for you to be aware of that? And then I'll leave it there.
Sandra Dudley, EVP
I think the big milestone for us really is to get a tax credit put in place, that's really the main holder. So, we need to see what that looks like and see if it makes economic sense before we want to make an investment decision on that.
Kenneth Zaslow, Analyst
That's great. I appreciate it, guys.
Operator, Operator
Our next question will come from Matthew Blair with Tudor, Pickering, Holt. You may now go ahead.
Matthew Blair, Analyst
Hey Randy, you mentioned that DGD is pulling some feedstocks from Brazil today. What percent of DGD's feed is imported now? And looking forward, do you expect the U.S. to pull an increasing amount of global feedstocks to support all this RD growth, and if so, it seems like your Gulf Coast location could be pretty ideal. So, hoping you could comment on that.
Randall Stuewe, CEO
I'll comment a little bit, let Sandy put her thoughts together. I mean, clearly, we have the arbitrage flexibility. We're bringing stuff from all over the world today into Diamond Green Diesel one and two, and obviously we will all three. I mean, that's the beauty of those locations, we can receive by water, can ship by water. And as long as the U.S. is really the leader in low carbon markets, and as long as the capacity is here not in Europe, then yes, we will continue to originate. Sandy, you want to comment a little bit?
Sandra Dudley, EVP
I think as we have expanded our capacity, then we've drawn more international feedstocks into the mix. I would expect that we will do the same once DGD 3 comes online. And I think we want to do that because we have the unit that can run the cheapest fats. And so, we want to do that so we can create the highest margins. And so, we're fortunate that we sit in the Gulf of Mexico and where we do, and that we have the capabilities that we do with our unit, that we have the pre-traders that we have just tremendous logistics, and that we can bring in whatever the cheapest fat is from wherever that is in the world.
Matthew Blair, Analyst
Great. And then thinking about the $1.25 EBITDA guidance for 2022, I was curious if you view that as somewhat of a floor, just considering that some of your competitors seem to be struggling, even to stay break even in this environment. So, is that $1.25 a floor in your mind, and also is that $1.25 enough for you to support additional R&D investment?
Randall Stuewe, CEO
Yeah, I'll try to answer that a little bit. Maybe John will want to pipe in. Now, number one, as Sandy said, we look at the ability of the feedstocks we can run and originate from around the world that gives us an incredible competitive advantage. You've heard about the pathway on Naphtha now that's out there. The scores that we have, the supply chain between us, no one ever talks about Valero's supply of corn oil; that's important into this facility. A $1.25 I would say to you is the floor, but right now with what we see, obviously with the inverse or the backwardation, I had to learn what that word meant in the market, clearly, as we go forward here, it looks like it's conservative with what we see. And going forward, the nearby spot margins are quite a bit above that, but as we work through the volatility and then the world dealing with renewable demand or with the higher oil prices, we'll see. Keep in mind, a dollar and a quarter against a $3.30 a gallon investment is still an incredible return for us as we go forward. Sandy, John, is there anything you want to add?
John Bullock, CSO
I think the only thing that I would add to it, and we've talked about this a lot in the past, we have built a machine that is the right machine, in the right location, with the right expertise, and the right capabilities. Essentially, what we have is a Swiss watch. We're fully capable of maximizing margins in the environments that we will develop in the future. We have a lot of folks out there that are not building Swiss watches. They're trying to come out with the cheapest knockoffs they possibly can to try to participate in what looks like a massively lucrative business. This is a very good business if you're in the right location, with the right machine, with the right logistics, with the right people. If you're not, it's not so much fun, and we're starting to see that from some of these other guys. So, margins will go up and down over time at Diamond. We're fully confident that we built the right machine with the right partners, and we're prepared to compete for the long haul. We think that margin structure is going to be solid for us. And as Randy said, a dollar and a quarter remains the best investment that you could possibly have in energy in the world.
Matthew Blair, Analyst
Thank you very much.
Operator, Operator
Our next question will come from Sam Margolin with Wolfe Research. You may now go ahead.
Sam Margolin, Analyst
Morning everybody. How are you doing?
Randall Stuewe, CEO
Morning.
Sam Margolin, Analyst
Quick one on this Green Energy initiative, maybe you could elaborate. I guess you are talking about RNG digester gas; and I was just wondering, it makes sense, given where energy costs are in Europe. Is this a business that you imagine as an internal almost like a co-gen business or are you planning to distribute what you produce to third-parties?
John Bullock, CSO
This is John. We've been involved in digestion in Europe for quite some time. We operated one of the largest digesters since acquiring Beyond and our SAN facility in the Netherlands. We find it interesting that there’s a focus on low carbon biofuels, which is important, but Europe has a different pricing structure. The cost for fixed power is significantly higher, and this was true even before the invasion of Ukraine, with already high natural gas prices leading to a very profitable market. Additionally, Europe has implemented policies that support fixed power generation, unlike in the U.S., where similar incentives are not fully integrated. We possess strong internal expertise in running digesters, having expanded our capabilities over the years, including the addition of a unit at our Denderleeuw facility in Belgium and our recent acquisition of Op de Beeck. We are looking to further expand this business as it's an excellent opportunity to leverage the low carbon fixed power market in Europe, where the regulatory environment is very favorable for this industry. We believe we are well-positioned and have rapidly expanded our efforts with an outstanding team in Europe.
Randall Stuewe, CEO
Sam, we can redirect various streams from plate waste that needs recycling into manure. We are collaborating with the Dutch farming community to process different animal byproducts that cannot be returned to feed. From this, we generate gas, convert it into electricity through turbines, and produce biophosphate fertilizers, which then enter the marketplace. This process is quite natural for us. As John mentioned, we manage the largest facility in the Netherlands in Son and have significantly expanded our Denderleeuw facility in Belgium. We have also added Op de Beeck and identified three or four additional opportunities across Europe, from Poland to Germany, due to the logistical supply chain. We need trucks to collect the material, similar to the used cooking oil business in North America. We are collecting different streams and instead of purifying used cooking oil, we're converting it back into green electricity. Therefore, it is a very natural fit.
Sam Margolin, Analyst
Thanks for that. Regarding the Food segment, it seems that the margin progression, when considered alongside the mix benefits and new products, suggests we are nearing a point where the contribution from new products is largely compensating for the earlier energy cost headwind that affected margins. Do you agree with this assessment? Additionally, will the margins continue to improve now that the business has largely absorbed the impact of energy costs, allowing you to benefit from the mix improvement related to collagen?
John Bullock, CSO
Yes, I'm not totally sure that I understand the question. Let me comment generally about the segment. We have seen tremendous margin improvement in our Food segment because we were an early adopter into the peptide space, and have been able to divert a lot of products towards that much higher margin product marketplace. The demand in that marketplace, I'll have to tell you, is absolutely stellar and we don't think that that stops. We still think there's plenty of opportunity for us to grow in that space and we work hard on that every day to take advantage of opportunities to grow. I'm not quite sure I understand the energy cost component of what you were asking us.
Randall Stuewe, CEO
I believe there were several factors that affected the food segment, including COVID disruptions, container shortages, and increases in energy and raw material prices. As a result, instead of rapidly advancing, the segment maintained a steady pace last year. However, we are beginning to see acceleration in the first quarter, and we expect this trend to continue through 2022. With additional capacity coming online in 2023, we anticipate an improvement in that area. Is that a fair assessment?
Sam Margolin, Analyst
Got it. Thank you.
Operator, Operator
Our next question will come from Bill Baldwin with Baldwin Anthony Securities. You may now go ahead.
Bill Baldwin, Analyst
Thank you very much. I wanted to see what insights you can offer regarding your rendering volumes in Europe. You indicated you are going to have roughly around 15 million metric tons globally with the acquisitions that you've made. Where do we stand in Europe in terms of those volumes? And what are the trends there? Are they static? Are they growing? Or are they declining? Can you give us a feel for that?
Randall Stuewe, CEO
We had about 11.5 million tons, added 2.5 tons with Valley, and another under 1.5 million tons with FASA, which brings us to roughly 15 million tons. While I haven't specifically broken out the numbers for Europe, I can tell you that volumes there are currently up year-over-year and remain fairly steady. However, animal agriculture in Europe is facing some challenges, particularly due to climate change and issues related to manure management. There have also been animal disease concerns, including ASF in Poland and parts of Germany, as well as bird flu issues. It's important to note that as bird flu leads to depopulation in Europe, any related animal diseases are managed at one of our seven Rendac plants for disposal, benefiting us on both counts. So far, there haven't been any significant changes in animal production or demand in Europe. John, Brad, do you have anything to add?
John Bullock, CSO
No. I think one of the interesting things that we've seen, and it was interesting when COVID started, we sat around and worried about what was going to happen to our volume and it didn't go down, and it went up. And then as we've seen supply chain disruptions around the world, we sit around and worry that our volumes are going to go down and it goes up. The reality is the demand consumption by the world now, while everybody complains about prices, people are still buying. So, we speak tremendous volumes, continuing to flow through our facilities and that's part because we keep bringing on additional production capability all the time to be able to handle that. So, it's great right now.
Randall Stuewe, CEO
And I think more importantly in North America, we're still running plants six days to make five days of production in the meat business because of the labor shortages. I mean, it's just universal. So clearly the demand's there and they could bring more if they had more people. So, we're optimistic for the year that the volumes will remain robust and they were up 3.6 year-over-year right now during Q1.
Bill Baldwin, Analyst
We had anticipated good volumes at the beginning of the year. However, I believe they might decrease a bit towards the end of the year, although it seems like you don't share that expectation, Randy.
Randall Stuewe, CEO
The demand is clearly present, and they could increase supply if they had more manpower. Therefore, we have a positive outlook for the year, expecting that the volumes will stay strong and have increased 3.6 percent year-over-year during Q1. While we anticipated good volumes early in the year, I have a feeling that beef might decline a bit later in the year, but it seems like you are not expecting that, Randy.
Bill Baldwin, Analyst
Right. Last question, as far as the European rendering, can you offer a little bit of a species breakdown as the percentage of beef, pork, and poultry that you processed through your rendering plants there? How is that stack up?
John Bullock, CSO
Well, this is John. There are fewer cows in Europe, but there are a lot of chickens and pigs. We are heavily involved in both of those.
Randall Stuewe, CEO
Germany is definitely known for its beef. In the Netherlands, there are many pigs, and Poland has a significant number of chickens. The mix is quite similar to what we experience in North America, but it varies by country, especially since Germany has more pasture land.
Bill Baldwin, Analyst
Okay. Thank you very much.
Operator, Operator
This concludes our question-and-answer session. I would like to turn the call back over to Randall Stuewe for any closing remarks.
Randall Stuewe, CEO
All right. Once again, thank you everybody. I appreciate everyone's time today. I hope you stay safe. I look forward to seeing you sometime at any upcoming events. Next week there will be at BMO presenting there, and I look forward to everybody catching up and staying healthy and being safe. I'll talk to you soon.
Operator, Operator
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.