Summary of ADA-ES INC - Yahoo! Finance

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

This Report contains forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934 and Section 27A of the Securities Act of 1933 that involve risks and uncertainties. Words or phrases such as "anticipates," "believes," "hopes," "expects," "intends," "plans," the negative expressions of such words, or similar expressions are used in this Report to identify forward-looking statements, and such forward-looking statements include, but are not limited to, statements or expectations regarding:

(a) when mercury and other regulations or pollution control requirements will become effective and the scope and impact of such regulations, including the impact of the final Mercury and Air Toxics Standards ("MATS");

(b) expected growth in and potential size of our target markets;

(d) the terms and timing of the acquisition of the assets of Bulk Conveyor Specialist Inc., and Bulk Conveyor Services, Inc. (together, "Bulk Conveyor");

(e) the effectiveness of our technologies and the benefits they provide;

(f) expected timing of conducting additional demonstrations of our technology and completing a supply agreement with Arch Coal;

(g) the timing of awards of, and work under, our contracts and agreements and their value and their availability;

(h) expected production levels at our refined coal ("RC") facilities, when those RC facilities will be placed into permanent operation and expected use of the tax credits under Section 45 of the Internal Revenue Code ("Section 45 tax credits") generated by the RC facilities;

(i) our ability to profitably sell, lease and/or recognize the tax benefits from operating additional RC facilities;

(j) timing and amounts of or changes in future revenues, funding for our business and projects, margins, expenses, earnings, tax rate, cash flow, working capital, liquidity and other financial and accounting measures;

(k) the materiality of any future adjustments to previously recorded revenue as a result of DOE audits;

(l) whether any lawsuits or Environmental Protection Agency ("EPA") actions will have a material impact on the implementation of the MATS or other regulations; and

(m) management's belief that it is more likely than not that the Company will realize its tax deferred assets.

The forward-looking statements included in this Report involve risks and uncertainties. Actual events or results could differ materially from those discussed in the forward-looking statements as a result of various factors including, but not limited to, timing of new and pending regulations and any legal challenges to them; the government's failure to promulgate regulations or appropriate funds that benefit our business; changes in laws and regulations, accounting rules, prices, economic conditions and market demand; impact of competition; availability, cost of and demand for alternative energy sources and other technologies; technical, start up and operational difficulties; inability to commercialize our technologies on favorable terms; our inability to ramp up our operations to effectively address expected growth in our target markets; loss of key personnel; failure to satisfy performance guaranties; the failure of the facilities leased by Clean Coal Solutions, LLC ("Clean Coal") to continue to produce coal that qualifies for Section 45 tax credits; termination of the leases of such facilities; decreases in the coal available for treatment at Clean Coal's RC facilities; plant outages; seasonality; failure to monetize the new CyCleanTM and M-45TM facilities; failure to consummate the Bulk Conveyor acquisition; difficulties in the integration of Bulk Conveyor's operations; inability to put into permanent operation our available RC facilities and obtain necessary agreements, permits and private letter rulings from the IRS; availability of raw materials and equipment for our businesses; results of further discussions with the Securities and Exchange Commission ("SEC") with respect to the Company's deferred tax assets; our inability to realize our deferred tax assets; intellectual property infringement claims from third parties; as well as other factors relating to our business, as described in our filings with the U.S. Securities and Exchange Commission, with particular emphasis on the risk factor disclosures contained in those filings and in Item 1A of our Annual Report on Form 10-K and Part II Item 1A of this Form 10-Q. You are cautioned not to place undue reliance on the forward-looking statements made in this report, and to consult filings we have made and will make with the SEC for additional discussion concerning risks and uncertainties that may apply to our business and the ownership of our securities. The forward-looking statements contained in this Report are presented as of the date hereof, and we disclaim any duty to update such statements unless required by law to do so.

Restatement

With this Amendment we have restated the following previously filed consolidated financial statements, data and related disclosures: Consolidated Balance Sheets as of June 30, 2012 and December 31, 2011, Consolidated Statements of Operations for the three and six months ended June 30, 2012 and 2011, Consolidated Statements of Changes in Stockholders' Deficit for the six months ended June 30, 2012 and 2011and Consolidated Statements of Cash Flows for the six months ended June 30, 2012 and 2011. The restatement reflects non-cash adjustments and has no effect on previously reported operating income results or cash flows from operations. The following Management Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") should be read in conjunction with the unaudited consolidated financial statements and notes thereto, included in Item 1 of this Amendment, and the audited consolidated financial statements and notes thereto and the MD&A included in the Company's Amendment No. 2 to its Annual Report on Form 10-K/A for the fiscal year ended December 31, 2011 filed on October 19, 2012, as well as the Company's other filings with the SEC.

The restatement results from management's determination that the Company had not properly accounted for the interest held by an affiliate of the Goldman Sachs Group ("GS") in our joint venture, Clean Coal Solutions, LLC ("Clean Coal") since May 2011 and that a full valuation allowance against the Company's deferred tax assets should have been recognized as of December 31, 2010 and all subsequent quarters thereafter.

The following MD&A incorporates the restated figures reflecting these changes. For this reason the data set forth in this section may differ from that presented in discussions and data in our previously filed Quarterly Report on Form 10-Q for the period ended June 30, 2012.

Overview

We develop, offer and implement proprietary environmental technology and market specialty chemicals to the coal-burning electric utility steam generating units ("EGU") industry, to the Portland cement industry and to industrial boiler operators. We have three operating segments: RC (refined coal), EC (emission control) and CC (CO2 capture). The RC segment includes revenues from the leasing of RC facilities and RC sales which approximate the cost of raw coal acquired for RC facilities operated for our own account. The EC segment includes revenue from the supply of emissions control systems including powdered activated carbon injection ("ACI") systems, dry sorbent injection ("DSI") systems to control SO2 , SO3, and HCl and flue gas conditioning ("FGC") systems, the licensing of certain technology and provision of consulting services. The CC segment includes revenue from projects relating to the CO2 capture and control market, including projects co-funded by government agencies, such as the DOE and industry supported contracts.

Our RC segment generates revenues through the lease or sale of RC facilities, which qualify for Section 45 tax credits, to third party financial institutions or others as well as operating RC facilities and keeping the tax credits for our own and our partners' accounts. To date, 28 RC facilities that qualify for the
Section 45 tax credits have been "placed in service" through Clean Coal, our RC joint venture with NexGen Refined Coal, LLC ("NexGen"), an affiliate of NexGen Resources Corporation, and with an affiliate of The Goldman Sachs Group, Inc. ("GS").

The primary drivers for many of our EC products and services are environmental laws and regulations impacting the electric power generation industry. Environmental regulations, such as the 1990 Clean Air Act Amendments, the recently enacted Mercury and Air Toxics Standards ("MATS") regulations, various Maximum-Achievable Control Technology ("MACT") standards including the upcoming Industrial Boiler MACT ("IBMACT") regulations, Cement MACT (as defined below) regulations, various state regulations and permitting requirements for coal-fired power plants are requiring electric power generators to reduce emissions of pollutants, such as particulate matter, SO2, NOx, mercury, and acid gases. We are a key supplier of mercury control equipment and services, which includes ACI systems, to the EC market whose commercial equipment component first began in 2005 when several individual states began to require limits on mercury emissions. We also offer DSI systems to control SO2 and acid gases such as HCl and SO3.

We conduct research and development efforts in CO2 capture and control from coal-fired boilers. In September 2010, we signed our second significant contract related to CO2 capture with the DOE, for a project that is expected to continue through the end of 2014.

Refined Coal

We are marketing our CyClean and M-45 technologies, services and equipment through our joint venture in Clean Coal. Since its inception, ADA has been considered the primary economic beneficiary of Clean Coal and has consolidated its accounts.

Environmental Legislation and Regulations

Clean Coal's primary opportunity is based on Section 45 tax credits, as amended by the American Jobs Creation Act of 2004, the Emergency Economic Stabilization Act of 2008, the American Recovery and Reinvestment Act of 2009, and the Tax Relief and Job Creation Act of 2010. In December 2009, the IRS issued the initial guidance as to the specifics concerning how the emissions reductions are to be measured and certified to demonstrate compliance necessary to qualify for the Section 45 tax credits. The IRS provided subsequent guidance on October 4, 2010 to address various issues that had arisen. Additionally, the IRS has published a number of Private Letter Rulings ("PLR"s) that provide approval to taxpayers on specific Section 45 tax credit projects. Although the approvals in each PLR only applies to the taxpayer on the specific project mentioned in the PLR, other taxpayers can gain an understanding on how the IRS is ruling on certain matters based on the conclusions reached in the PLR.

In December 2010, the Tax Relief and Job Creation Act of 2010 extended the placed in service deadline for the Section 45 tax credits to January 1, 2012. The 2012 tax credit amounts to $6.47 per ton of RC, and escalates annually through 2021.

Technology License Agreements and Operating Agreement

ADA licensed to Clean Coal, on an exclusive basis, the CyClean technology in November 2006. On July 27, 2012 ADA licensed the M-45 technology (the "M-45 License") to Clean Coal in order to leverage Clean Coal's operating expertise and take advantage of the other synergies that can be obtained by Clean Coal having the ability to provide and use either the CyClean or M-45 technology.

The M-45 License grants Clean Coal a license to use, on an exclusive, non-transferable, royalty bearing basis, certain technology (the "M-45 Technology"), with the right to grant multiple tiered sublicenses, for the production of RC in the United States and its territories and possessions. The M-45 License includes certain rights to use the M-45 Technology on various ranks or blends of coals in any type of coal-fired boiler, and is in addition to the license granted to Clean Coal for CyClean. In addition to the rights described above, the M-45 License gives Clean Coal, on a limited, non-exclusive, non-transferable, royalty-bearing basis, with the right to sublicense (under specified terms to be approved by ADA prior to the sublicense being granted) to limited utilities that burn or have burned RC using the M-45 Technology to continue to use the M-45 Technology under certain circumstances for the purpose of "Mercury Only Emission Control" (which is the use of the M-45 Technology for the primary purpose of decreasing the emissions of mercury from coal-fired boilers using any type of coal or blend of coals, but without the intention of also decreasing emissions of NOx or otherwise qualifying for Section 45 tax credits or other similar tax credits.)

The M-45 License runs from July 27, 2012, through the later of the expiration of
(i) the Section 45 tax credits, (ii) any similar tax credit subsequently enacted, but within one year of the expiration of the Section 45 tax credits, which tax credit provides for the production of a coal-based fuel (pre-combustion) that emits, when combusted, a lower level of both NOx and mercury emissions, or (iii) the date on which Clean Coal or any sublicensee permanently ceases to provide Mercury Only Emission Control (as defined above). The M-45 License excludes the use of the M-45 Technology or certain licensed property (as further defined in the M-45 License) in connection with the application of additives included in the M-45 Technology or the licensed property at any PRB mines and sites (including coal processing sites) in the PRB, or during transportation of the PRB coal from such mines and sites to the first delivery point (i.e. during the originating mode of transportation by train, railcar or other methods), which rights have been granted to Arch Coal, Inc. ("Arch Coal") under the related Development and License Agreement we have with Arch Coal.

Pursuant to the M-45 License, we will receive royalties (the "RC Royalties") equal to (i) a percent of the per-ton, pre-tax margin from future production of RC produced with the M-45 Technology from leased or sold RC facilities, (ii) a percentage of the Section 45 tax credits claimed by Clean Coal (or a Clean Coal affiliate), or their respective owners, on RC produced by a facility that Clean Coal does not monetize with a third party and instead opts to retain the
Section 45 tax credits from that facility for its (or an affiliate's) own benefit, net of all directly allocable operating expenses and all utility payments incurred by Clean Coal (or an affiliate) in connection with the production and sale of such RC, and (iii) a percent of the revenue, net of all direct expenses, received by Clean Coal as a direct result of Clean Coal's exercise of the license for Mercury Only Emission Control described above. ADA is entitled to receive up to $10 million in prepaid royalty deposits upon the attainment of certain milestones, which amount includes an initial payment of $2 million made upon signing of the non-binding term sheet for the M-45 License Agreement in November, 2011. Clean Coal has the right to defer prepaid royalty deposit payments (subject to the accrual of interest on such deferred amounts) if it determines that it should do so in order to meet its capital needs. Prepaid royalty deposit payments made by Clean Coal but not credited against Clean Coal's RC Royalty payment obligations in accordance with the M-45 License may become refundable by us if no RC Royalties have been accrued or paid for a period of six consecutive months and, in the reasonable opinion of Clean Coal, no RC Royalties are expected to be paid or accrued in the next 90 day period, subject to our right to review and dispute the repayment amount.

Until such time as the prepaid royalty deposit payments have been fully amortized, Clean Coal may reduce the RC Royalties payable to us by 50% until the closing of a monetization transaction or commencement of operation by Clean Coal of a facility producing more than a specified number of tons of RC, at which time the reduction shall be lowered to 33 1/3%. Further adjustments to RC Royalties payable to us are provided for in the event it does not appear that RC Royalties payable over the term of the License Agreement will allow for the full amortization of prepaid royalties. We have certain obligations to provide technical assistance to Clean Coal and its sublicensees during the term of the M-45 License, as well as certain obligations to protect and maintain the patents that underlie the M-45 Technology.

The M-45 License contains customary indemnification provisions for license agreements of its type, including indemnification by us for any losses suffered by Clean Coal as a result of any claims for infringement by the M-45 Technology as to intellectual property rights of any third party, as well as customary representations and warranties and liability limitation provisions. Either party may terminate the M-45 License upon written notice to the other party if the other party commits a material breach of any representation, warranty, covenant or agreement contained in the M-45 License, generally with a right to cure a breach within 30 days.

In addition, on August 1, 2012, ADA entered into a Second Amendment to the Second Amended and Restated Operating Agreement of Clean Coal (the "OA Amendment") pursuant to which we made certain changes to Clean Coal's existing Operating Agreement to conform the agreement to the rights being granted to Clean Coal under the M-45 License described above. In addition, the OA Amendment deletes certain provisions of the existing Operating Agreement that are no longer applicable to Clean Coal's business, adds an additional "at-large" member to the Clean Coal Board of Managers who is not affiliated with either ADA, NexGen or GS, and revises the governance provisions to reflect the addition of the additional member of the Board of Managers of Clean Coal.

Leased and Operating RC Facilities

On June 29, 2010, Clean Coal executed contracts in which two RC facilities were leased by Clean Coal's wholly owned subsidiaries (the "Lessors") to GS RC Investment, LLC (the "Lessee"). The two facilities were installed at two different power plants in the Midwest each of which operates two cyclone boilers burning Powder River Basin ("PRB") coal from Wyoming. On November 21 and December 15, 2011, Clean Coal, the Lessors and the Lessee entered into two Exchange Agreements pursuant to which the parties exchanged the leased RC facilities at each power plant with newly constructed, redesigned RC facilities which resulted in termination of the original leases and entry into new lease agreements (the "Exchange Transactions"). The new leases carry over most of the substantive terms and conditions of the initial leases and have annual terms that automatically renew through December 31, 2021.

As a result of the extension of the Section 45 tax credit placed in service deadline, Clean Coal built and qualified an additional 26 RC facilities that met the extended placed in service date. These facilities use a combination of our CyClean technology, which is limited to cyclone boilers, and M-45 technology, which can be used in non-cyclone boilers.

Based on the current Section 45 tax credits, we expect Clean Coal to generate revenues from leasing or selling RC facilities to financial parties or generate tax credits by retaining and operating the 26 RC facilities that met the placed in service deadline through December 31, 2021. Upon expiration of the tax credits on December 31, 2021, the leases of our RC facilities to financial parties will terminate. We may then lease the RC facilities directly to the utilities or operate them on behalf of utility customers given the significant benefit of the resulting mercury reductions such facilities provide. The tax credits would no longer be available absent further extension by Congress.

ADA expects several of the newly qualified RC facilities to begin routine operations in 2012. Once the final utility site and financing party have been determined, it takes an average of approximately six months to obtain environmental permits for full-time operation, secure necessary approvals from state Public Utility Commissions, and negotiate and complete all necessary contracts. Since the IRS did not provide explicit guidance on blending of coal to qualify for Section 45 tax credits, PLRs may be needed from the IRS if requested by the applicable utility or financing party, which may take four to six months to obtain after formal contracts are completed. We expect that we will eventually be able to obtain all required PLRs. We expect that the transactions for the new RC facilities over the next year will be structured similarly to the lease transactions previously entered into for the two initial RC facilities placed in service in June of 2010 or may also be structured as a sale of the RC facility with the purchase price payable over time. If we enter into transactions for RC facilities that are structured as sales, we would expect the economic impact to us to be substantially similar to prior lease transactions. As is generally the case in these transactions, the sale or lease of the RC facilities and the monetization of the Section 45 tax credits involve a relationship between the utility, a financial party and Clean Coal. By buying or leasing the RC facility and producing RC, the financial institution or other party becomes the producer of RC, receives the benefit of the annually escalating per ton Section 45 tax credit and is able to deduct depreciation. In return it pays, and may also deduct, a fee to the utility for coal handling and land use to site the RC facility and operational costs. In addition, the financial party pays a combination of fixed and contingent rents to Clean Coal for the lease of the RC facility. In addition to the site and coal handling payments, the utility receives the benefit of the resulting mercury reductions which have an estimated value of between $1.00- $4.00 per ton.

In connection with the Exclusive Right to Lease Agreement ("Lease Agreement") among ADA, NexGen and Clean Coal as discussed in prior filings, Clean Coal granted GS the exclusive right (but not the obligation) to lease facilities that will produce up to approximately 12 million tons (+/- 10%) (the "Target Tons") of RC per year on pre-established lease terms similar to those currently in effect for Clean Coal's two then-existing leased facilities, but which are more economically favorable to Clean Coal than the rates in the leases for the existing RC facilities that Clean Coal leased to another GS affiliate in June 2010. Clean Coal is required to submit a package to GS with respect to each RC facility it proposes that GS consider for leasing (being all RC facilities developed by Clean Coal until the Target Tons are met), and upon certification and acceptance of the certification for a given RC facility by GS, GS is required to pay Clean Coal, as a deposit, an agreed amount for each 1 million tons of projected annual RC production. Upon closing of a lease of an RC facility from Clean Coal, GS is required to pay Clean Coal an additional amount per 1 million tons of projected annual RC production. These payments are paid as advance rent, and actual amounts due under the leases (with true-ups) will be paid in accordance with the operative lease and related agreements, which are to be based on the forms of documents that were used in the transactions for the existing RC facilities leased to the Lessee and will include guaranties by us and NexGen. The initial lease terms are expected to be five years, with annual renewals for five successive one-year periods. If GS determines that it wishes not to lease a RC facility after it has paid the deposit, it can demand the return of the deposit paid for that RC facility, and the deposit must be paid within 30 days of the end of the quarter in which the demand is made. The amount of any deposit will earn interest from the date of demand until the deposit is paid. Clean Coal received $14.9 million from GS in 2011 as initial deposits for more than the Target Tons, which according to the Lease Agreement reserves its right to negotiate for specific RC facilities. We are also currently in discussions with a number of other major financial institutions, corporations and other investors with respect to a number of the remaining facilities.

Pursuant to the Lease Agreement, Clean Coal leased an additional RC facility to GS in the first quarter of 2012 pursuant to agreements with substantially similar terms and conditions as those applicable to the two other currently leased RC facilities. With progress to date, currently a total of seven RC facilities are operating at full time status treating fourteen boilers that, in the aggregate, average more than twenty million tons of RC per year.

In addition to the three leased RC facilities, Clean Coal began full time operations for four additional RC facilities in the first and second quarters of 2012 for its own account (as well as part time operation on a few other RC facilities), resulting in its right to claim the Section 45 tax credits. Clean Coal leased one of these RC facilities to another third party in the first week of August. Clean Coal plans to retain and operate one of these RC facilities permanently for its own account going forward and to lease or sell the other RC facilities currently in full time operation to financial institutions or others pending completion of definitive agreements. During the second quarter, the four RC facilities operated for Clean Coal's account generated approximately $7.5 million in Section 45 tax credits that can be used to offset future tax expenses, approximately $38 million in revenues from RC sales which are offset by $38 million in raw coal costs. Clean Coal has finalized monetization contracts for an eighth RC facility and is waiting for a PLR and other approvals before full time operation can commence which is expected in the next few months. With these eight RC facilities operating, Clean Coal will be producing about 23 million tons of RC per year based upon historical coal usage at these plants. Clean Coal is in negotiations to lease or sell several additional RC facilities and expects to be producing up to 30 million tons of RC by year end.

In those cases where Clean Coal chooses to operate an RC facility, either on an interim basis or for the long-term, it receives the benefit of the Section 45 tax credit from the RC produced at the facility. As part of those operations Clean Coal purchases raw coal from the utility and sells the RC back, generally at the same price per ton, recognizing revenue from the RC sale and costs of revenue for the raw coal purchased. These amounts may be significant as the average per ton price for the coal purchased and sold could be in excess of $35. In those operations Clean Coal also pays, and may also deduct, a fee to the utility for coal handling and land use to site the RC facility, and operational costs. For the RC facilities that Clean Coal operates, it will receive in 2012 a tax credit of $6.47 per ton and it will make and deduct for tax purposes payments to the utility and operating expenses.

Status of Remaining RC Facilities

Based upon the progress to date with the available RC facilities, we expect several additional units to be in full time operation by the end of 2012. So far we have achieved an announced goal that we would be at three times the 2011 RC production levels by the end of the second quarter. This RC production level includes RC facilities leased to others as well as RC facilities that Clean Coal . . .