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KIOR > SEC Filings for KIOR > Form 10-K on 17-Mar-2014All Recent SEC Filings

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Form 10-K for KIOR INC


17-Mar-2014

Annual Report


ITEM 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and the other financial information appearing elsewhere in this report. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in the forward-looking statements as a result of various important factors, including those discussed below and those discussed in the section entitled "Risk Factors" included in Item 1A of Part 1 of this report. Due to the fact that we have generated only limited revenue to date, we believe that the financial information contained in this report is not indicative of, or comparable to, the financial profile that we expect to have if and when we begin to generate significant revenues. We undertake no obligation to update publicly any forward-looking statements, even if new information becomes available or other events occur in the future, except to the extent required by law.

Overview

We are a next-generation renewable fuels company. We have developed a proprietary catalytic process that allows us to produce cellulosic gasoline and diesel from abundant, lignocellulosic biomass. Our cellulosic gasoline and diesel are true hydrocarbon fuels which are similar to their traditional petroleum-based counterparts and yet we estimate they will result in over 60% less life cycle GHG emissions. While other renewable fuels are derived from soft starches, such as corn starch or cane sugar, for ethanol, or from soy and other vegetable oils for biodiesel, cellulosic fuel is derived from lignocellulose found in wood, grasses and the non-edible portions of plants. Our biomass-to-cellulosic fuel technology platform combines our proprietary catalyst systems with FCC processes that have been used in crude oil refineries to produce gasoline for over 60 years.

In April 2012, we mechanically completed our Columbus facility. During the fourth quarter of 2012, we commissioned our proprietary BFCC operation at the Columbus facility, and produced our first "on specification" cellulosic intermediate oil in limited quantities. In the first quarter of 2013, we commissioned the Columbus plant's hydrotreater and fractionation units, and made our first cellulosic diesel and gasoline shipments in March 2013 and June 2013, respectively. During 2013, we gradually increased production at our Columbus facility but did not reach "steady state" production.

We have substantial doubts about our ability to continue as a going concern. To continue as a going concern, we must secure additional capital to provide us with additional liquidity. Other than the Commitment from Mr. Khosla to invest in us a cash amount of up to an aggregate of $25,000,000 in available funds in a number of monthly borrowings of no more than $5,000,000 per month, we have no other near-term sources of financing. Because the Commitment is subject to the negotiation and execution of definitive financing documents and the achievement of performance milestones, we cannot be certain as to the ultimate timing or terms of this investment. If we are unsuccessful in finalizing definitive documentation with Mr. Khosla on or before April 1, 2014, we will not have adequate liquidity to fund our operations and meet our obligations (including our debt payment obligations) and we do not expect other sources of financing to be available to us. This will likely cause us to default under our existing debt and we could be forced to seek relief under the U.S. Bankruptcy Code (or an involuntary petition for bankruptcy may be filed against us). In addition, any new financing will require the consent of our existing debt holders and may require the restructuring of our existing debt. If we successfully achieve our performance milestones that allow us to receive the full Commitment in the near term, we expect to be able to fund our operations and meet our obligations until August 31, 2014, but will need to raise additional funds to continue our operations beyond that date.

During the first quarter of 2014, we commenced a series of optimization projects and upgrades at our Columbus facility. The optimization projects and upgrades are targeted at improving throughput, yield and overall process efficiency and reliability. In terms of throughput, we have experienced issues with structural design bottlenecks and reliability that have limited the amount of wood that we can introduce to our BFCC system. These issues have caused the Columbus facility to run significantly below its nameplate capacity for biomass of 500 bone dry tons per day and limited our ability to produce cellulosic gasoline and diesel. We have identified and intend to implement changes to the BFCC, hydrotreater and wood yard that we believe will alleviate these issues. In terms of yield, we have identified additional enhancements that we believe will improve the overall yield of transportation fuels from each ton of biomass from the Columbus facility, which has been lower than expected due to a delay introducing our new generation of catalyst to the facility and mechanical failures impeding desired chemical reactions in the BFCC reactor. In terms of overall process efficiency and reliability, we have previously generated products with an unfavorable mix that includes higher percentages of fuel oil and off specification product. Products with higher percentages of fuel oil result in lower product and RIN revenue and higher overall costs. We have identified and intend to implement changes that we believe will further optimize our processes and increase reliability and on-stream percentage throughout our Columbus facility. We are also aiming to make reductions to our cost structure by, among other things, decreasing natural gas consumption by the facility. While we have completed some of these projects and upgrades, we have elected to suspend further optimization work and bring the Columbus facility to a safe, idle state, which we believe will enable us to restart the facility upon the achievement of additional research and development milestones, financing and completion of the optimization work. We do not expect to complete these optimization projects until we achieve additional research and development milestones and receive additional financing.

Subject to our ability to achieve these additional research and development milestones, our ability to raise capital, our ability to successfully complete our optimization projects and upgrades and the success of these projects and upgrades in improving operations at our Columbus facility, we intend to begin construction of our next commercial production facility, which we do not expect to occur before the second half of 2015 at the earliest. We will also need to raise additional capital to continue our operations, build our next commercial production facility and subsequent facilities, continue the development of our technology and products, commercialize any products resulting from our research and development efforts, and satisfy our debt service obligations.


We were incorporated and commenced operations in July 2007. Since our inception, we have operated as a development stage company, performing extensive research to develop, enhance, refine and commercialize our biomass-to-cellulosic fuel technology platform. We have focused our efforts on research and development and getting our Columbus facility to steady state operations. As a result, we have generated net losses of $347.5 million, $96.4 million and $64.1 million for the years ended December 31, 2013, 2012 and 2011, respectively, as well as total of $525.5 million of operating losses and an accumulated deficit of $574.3 million from our inception through December 31, 2013. We expect to continue to incur operating losses until we construct our first standard commercial production facility and it is operational. As discussed above, we have substantial doubts about our ability to continue as a going concern and we must raise capital in one or more external equity and/or debt financings to fund the cash requirements of our ongoing operations. Other than the Commitment from Mr. Khosla, all of our other committed sources of financing are contingent upon, among other things, our raising $400 million from one or more offerings, private placements or other financing transactions, which we do not expect to occur prior to the completion of the optimization projects and upgrades at our Columbus facility.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, expenses and related disclosures. We base our estimates and assumptions on historical experience and on various other factors that we believe to be reasonable under the circumstances. We evaluate our estimates and assumptions on an ongoing basis. The results of our analysis form the basis for making assumptions about the carrying values of assets and liabilities that are not readily apparent from other sources. Our actual results may differ from these estimates under different assumptions or conditions.

We believe the following accounting policies are the most critical to a full understanding and evaluation of our reported financial results and reflect the more significant judgments and estimates that we use in the preparation of our consolidated financial statements.

Inventories

Inventory is valued at standard cost, which approximates actual cost computed on a first-in, first-out basis, not in excess of cost or net realizable market value. Inventories, which consist of cellulosic gasoline, diesel and fuel oil, renewable crude oil, renewable cellulosic biomass (primarily pine logs and wood chips), and catalyst, are categorized as finished goods, work-in-process or raw material inventories. Inventory costs include transportation, chipping and overhead costs incurred during production.

Impairment of Long-Lived Assets and Intangible Assets

We assess impairment of long-lived assets, including intangible assets, on at least an annual basis and test long-lived assets for recoverability when events or changes in circumstances indicate that their carrying amount may not be recoverable. Circumstances which could trigger a review include, but are not limited to, significant decreases in the market price of the asset; significant adverse changes in the business climate or legal factors; accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of the asset; a forecast of continuing losses associated with the use of the asset; or expectations that the asset will more likely than not be sold or disposed of significantly before the end of its estimated useful life.

Recoverability is assessed by using undiscounted future net cash flows of assets grouped at the lowest level for which there are identifiable cash flows independent of the cash flows of other groups of assets. If the undiscounted future net cash flows are less than the carrying amount of the asset, the asset is deemed impaired. The amount of the impairment is measured as the difference between carrying value and the fair value of the asset.

The majority of our long-lived assets, other than intangible assets, consist of our Columbus facility, demonstration unit, and pilot unit. The demonstration and pilot units are variations of common refinery equipment used in technology development and scale-up of processes that have been scaled and modified for our research and development purposes. Our intangible assets consist of purchased biomass conversion technology and technology licenses.

For the fourth quarter of 2013, we determined that impairment indicators existed related to the Columbus facility as a result of the Columbus facility not generating positive cash flows and us not being able to get the facility to "steady state" operations. We recorded an impairment of $185.0 million as of December 31, 2013. Estimates of future cash flows used to test the recoverability of a long-lived asset are based on the existing service potential of the asset at the date it is tested. As of December 31, 2013, the Columbus facility required optimization projects and upgrades to achieve operational targets that we believe are attainable based on the design of the facility. We plan to pursue the required financing to complete such optimization projects and upgrades to achieve operational targets of the facility, however we do not currently have the funds nor do we have any committed funds available to complete the optimization projects and upgrades to progress the Columbus facility to a cash positive asset. As the facility does not have other alternative uses in its current state, we impaired the Columbus facility and estimated the fair value to be its salvage value.


For the fourth quarter of 2013, we also recorded an impairment of $11.3 million related to the design costs of our previously planned commercial production facility in Natchez, Mississippi. Raising the capital necessary to construct our next commercial production facility is subject to our raising capital in the near term to continue our operations, our successful completion of our optimization projects and upgrades and their success in improving operations at the Columbus facility. As such, we cannot be certain that the construction of our next commercial production facility is probable.

Our undiscounted cash flow analysis involves significant estimates and judgments. Although our cash flow forecasts are based on assumptions that are consistent with our plans, there is significant exercise of judgment involved in determining the cash flow attributable to a long-lived asset over its estimated remaining useful life. Our estimates of anticipated cash flows could be reduced significantly in the future. As a result, the carrying amounts of our long-lived assets could be reduced through impairment charges in the future. Changes in estimated future cash flows could also result in a shortening of the estimated useful life of long-lived assets, including intangibles, for depreciation and amortization purposes.

Stock-Based Compensation

Compensation cost for grants of all share-based payments is based on the estimated grant date fair value. We attribute the value of share-based compensation to expense using the straight-line method. We estimate the fair value of our share-based payment awards using the Black-Scholes option-pricing model, which we refer to as the Black-Scholes model. The Black-Scholes model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. The Black-Scholes model requires the input of certain assumptions, including assumptions relating to the risk-free interest rate, the expected term and expected volatility which materially affect the fair value estimates. The risk-free interest rate was based on the market yield currently available on United States Treasury securities with maturities approximately equal to the option's expected term. Expected term represents the period that our stock-based awards are expected to be outstanding. The simplified method was used to calculate the expected term. Historical share option exercise experience does not provide a reasonable basis upon which to estimate expected term, as we are a development stage company and fair market value of shares granted changed from our historical grants as a result of our initial public offering in June 2011. The expected volatility was based on the historical stock volatilities of several comparable publicly-traded companies over a period equal to the expected terms of the options, as we do not have a long trading history to use to estimate the volatility of our own common stock. Our expected dividend yield was assumed to be zero as we have not paid, and do not anticipate paying, cash dividends on our shares of common stock.

We estimate our forfeiture rate based on an analysis of our actual forfeitures and will continue to evaluate the appropriateness of the forfeiture rate based on actual forfeiture experience, analysis of employee turnover and other factors. Quarterly changes in the estimated forfeiture rate can have a significant effect on reported stock-based compensation expense, as the cumulative effect of adjusting the rate for all expense amortization is recognized in the period the forfeiture estimate is changed. If a revised forfeiture rate is higher than the previously estimated forfeiture rate, an adjustment is made that will result in a decrease to the stock-based compensation expense recognized in the consolidated financial statements. If a revised forfeiture rate is lower than the previously estimated forfeiture rate, an adjustment is made that will result in an increase to the stock-based compensation expense recognized in the consolidated financial statements.

We will continue to use judgment in evaluating the expected volatility, lives, forfeiture and dividend rate related to our stock-based compensation on a prospective basis and incorporating these factors into our option-pricing model.

Each of these inputs is subjective and generally requires significant management and director judgment to determine. If, in the future, we determine that another method for calculating the fair value of our stock options is more reasonable, or if another method for calculating these input assumptions is prescribed by authoritative guidance, and, therefore, should be used to estimate expected volatility or expected term, the fair value calculated for our stock options could change significantly. Higher volatility and longer expected terms generally result in an increase to stock-based compensation expense determined at the date of grant.

See Note 13 - Stock-Based Compensation for the unrecognized stock-based compensation cost and weighted-average period for the cost to be recognized over for awards under our 2007 Stock Option/Stock Issuance Plan and 2011 Long-Term Incentive Plan.

Income Taxes

We are subject to income taxes in the United States. We use the liability method of accounting for income taxes, whereby deferred tax asset or liability account balances are calculated at the balance sheet date using current tax laws and rates in effect for the year in which the differences are expected to affect taxable income.

We must make certain estimates and judgments in determining income tax expense for financial statement purposes. These estimates and judgments occur in the calculation of tax credits, benefits and deductions and in the calculation of certain tax assets and liabilities, which arise from differences in the timing of recognition of revenue and expenses for tax and financial statement purposes. Significant changes to these estimates may result in an increase or decrease to our tax provision in a subsequent period.

Recognition of deferred tax assets is appropriate when realization of such assets is more likely than not. We recognize a valuation allowance against our net deferred tax assets if it is more likely than not that some portion of the deferred tax assets will not be fully realizable. This assessment requires judgment as to the likelihood and amounts of future taxable income by tax jurisdiction. At December 31, 2013 and 2012, we had a full valuation allowance against all of our deferred tax assets, including our NOLs.

We make estimates and judgments about our future taxable income that are based on assumptions that are consistent with our plans and estimates. Should the actual amounts differ from our estimates, the amount of our valuation allowance could be materially impacted. Any adjustment to the deferred tax asset valuation allowance would be recorded in the income statement for the periods in which the adjustment is determined to be required.


We assess all material positions taken in any income tax return, including all significant uncertain positions, in all tax years that are still subject to assessment or challenge by relevant taxing authorities. Assessing an uncertain tax position begins with the initial determination of the position's sustainability and is measured at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. As of each balance sheet date, unresolved uncertain tax positions must be reassessed, and we will determine whether (i) the factors underlying the sustainability assertion have changed and (ii) the amount of the recognized tax benefit is still appropriate. The recognition and measurement of tax benefits requires significant judgment. Judgments concerning the recognition and measurement of a tax benefit might change as new information becomes available. We believe that it is more likely than not that our income tax positions and deductions will be sustained following an audit. Therefore, we have not recorded any liabilities in any of the periods presented in the consolidated financial statements resulting from uncertain tax positions taken or expected to be taken in our tax returns.

Common Stock Warrants

We estimate the fair value of our common stock warrants using the Black-Scholes model. The risk-free interest rate was based on the market yield currently available on United States Treasury securities with maturities approximately equal to the warrant's expected term. Expected term represents the period that our common stock warrants are expected to be outstanding. In the case of our common stock warrants issued under the Loan and Security Agreement, the warrants generally have a term of seven years. The expected volatility was based on the historical stock volatilities of several comparable publicly-traded companies over a period equal to the expected terms of the warrants, as we do not have a long trading history to use to estimate the volatility of our own common stock. Our expected dividend yield was assumed to be zero as we have not paid, and do not anticipate paying, cash dividends on our shares of common stock.

We will continue to use judgment in evaluating the expected volatility, lives, and dividend rate related to our common stock warrants on a prospective basis and incorporating these factors into our warrant-valuation model.

Results of Operations

During 2013, we continued in the startup phase at our Columbus facility but did not achieve steady state operations. During this phase, we expect that our results of operations will fluctuate significantly and will not be comparable to results we expect to achieve once we reach steady state operations. Lower overall volumes, unfavorable product mix (higher percentage of fuel oil) and resulting lower product and RIN revenue, lower yields of cellulosic fuel, limited number of customers and pricing flexibility, lower wood yard efficiencies and other unfavorable metrics are factors that we expect will improve on achieving steady state operations. We ceased production at our Columbus facility at the start of 2014 in order to focus on optimization projects and upgrades. While we have completed some of these projects and upgrades, we have elected to suspend further optimization work and to bring the Columbus facility to an idle state. During this time, unless and until we restart the facility, we expect to have no production or revenue from the facility, but will continue to incur significant operating costs and expenses. If we successfully achieve our performance milestones that allow us to receive the full Commitment from Mr. Khosla in the near term, we expect to be able to fund our operations and meet our obligations until August 31, 2014, but will need to raise additional funds to continue our operations beyond that date.

 Comparison of Years Ended December 31, 2013 and 2012



Revenues



                                                                                       Year - to - Year
                                               Years Ended December 31,                     Change
                                               2013                   2012            $                 %
                                                                (Dollars in thousands)
Revenues:
Product revenue                           $         1,476          $       85          1,391              N/A
Renewable identification number revenue               349                   2            347              N/A

Total revenues                            $         1,825          $       87     $    1,738

Product revenue. Our product revenue was $1.5 million for the year ended December 31, 2013 compared to $85,000 for the same period in 2012. Product revenue of approximately $1.4 million was primarily generated by our cellulosic gasoline, diesel, and fuel oil shipments from our Columbus facility. All revenues in the year ended December 31, 2013 and 2012 are attributable to customers in the United States. For the year ended December 31, 2013, our revenue and production from our Columbus facility consisted of the following:

                    Cellulosic       Cellulosic
                     Gasoline          Diesel        Fuel Oil
Product Revenue    $    624,000     $    721,000     $  77,000
Gallons Produced        372,000          308,000       214,000
Gallons Sold            282,000          234,000        81,000


The remaining product revenue was generated from our research and development facilities and it primarily relates to revenue earned from the sale of blended diesel to one of our offtake customers for fleet testing, as further discussed in the paragraph below. Currently, we have ceased work on a series of optimization projects and upgrades at the Columbus facility and are bringing the facility to an idle state. These projects were targeted at improving throughput, yield and overall process efficiency and reliability and to address problems we have had to date in the Columbus facility with structural design bottlenecks and reliability issues, operations below nameplate capacity, unfavorable product mix and higher costs due to overall process inefficiencies. As a result of this cessation of operations, we are unable to estimate 2014 production levels.

Revenue for the year ended December 31, 2012 was generated from a contract whereby we sold 1,024 gallons of our cellulosic diesel produced from our research and development facilities to an obligated third-party to blend with 20,924 gallons of diesel. We then purchased the blended diesel from the obligated third-party for sale to one of our offtake customers for fleet testing. During the fourth quarter of 2012, we sold 12,800 gallons of this blended diesel, of which approximately 597 gallons was our cellulosic diesel. Revenue consisted of our fuel price plus incremental fees incurred to purchase diesel and costs to blend it with our cellulosic diesel. We sold the remaining blended diesel in the first quarter of 2013.

Renewable identification number revenue. Our RIN revenue was $349,000 for the year ended December 31, 2013 compared to $2,000 in 2012. We generated cellulosic gasoline and diesel RINs in connection with our cellulosic gasoline and diesel shipments from our Columbus facility. For the year ended December 31, 2013, our RIN revenue consisted of $198,000 from 387,000 cellulosic diesel RINs and $151,000 from 276,000 cellulosic gasoline RINs. Our fuel oil shipments do not generate RINs. We generated and sold 1,741 cellulosic diesel RINs for $2,000 in the fourth quarter of 2012 due to the contract discussed above.

If and when we restart our Columbus facility, we expect that our revenues from sales of cellulosic gasoline and diesel and RINs will be limited and . . .

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