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REGI > SEC Filings for REGI > Form 10-Q on 8-Aug-2014All Recent SEC Filings

Show all filings for RENEWABLE ENERGY GROUP, INC.

Form 10-Q for RENEWABLE ENERGY GROUP, INC.


8-Aug-2014

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This report contains forward-looking statements regarding Renewable Energy Group, Inc., or "we," "our" or "the Company" that involve risks and uncertainties such as anticipated financial performance, business prospects, technological developments, products, possible strategic initiatives and similar matters. In some cases, you can identify forward-looking statements by terms such as "may," "might," "objective," "intend," "should," "could," "can," "would," "expect," "believe," "estimate," "predict," "potential," "plan," or the negative of these terms, and similar expressions intended to identify forward-looking statements.
These forward-looking statements include, but are not limited to, statements about facilities currently under development progressing to the construction and operational stages, including planned capital expenditures and our ability to obtain financing for such construction; existing or proposed legislation affecting the biomass-based diesel industry, including governmental incentives and tax credits; our utilization of forward contracting and hedging strategies to minimize feedstock and other input price risk; anticipated future revenue sources from our operational management and facility construction services; the expected effect of current and future environmental laws and regulations on our business and financial condition; our ability to renew existing and expired contracts at similar or more favorable terms; expected technological advances in biomass-based diesel production methods; our competitive advantage relating to input costs relative to our competitors; the market for biomass-based diesel and potential biomass-based diesel consumers; our ability to further develop our financial, managerial and other internal controls and reporting systems to accommodate future growth; expectations regarding the realization of deferred tax assets and the establishment and maintenance of tax reserves and anticipated trends; expectations regarding our expenses and sales; anticipated cash needs and estimates regarding capital requirements and needs for additional financing; and challenges in our business and the biomass-based diesel market.
These forward-looking statements are based on management's current expectations, estimates, assumptions and projections, which are subject to risks and uncertainties. These risks and uncertainties could cause actual results to differ materially from those expected. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Risks and uncertainties include, but are not limited to, those risks discussed in Item 1A Part II in this Quarterly Report on Form 10-Q for the three and six months ended June 30, 2014. We encourage you to read this Management's Discussion and Analysis of Financial Condition and Results of Operations in conjunction with the accompanying condensed consolidated financial statements and related notes. Forward-looking statements contained in this report present management's views only as of the date of this report. Except as required under applicable law, we do not intend to issue updates concerning any future revisions of management's views to reflect events or circumstances occurring after the date of this report.
Overview
We intend to become a leading producer of advanced biofuels and renewable chemicals. We are currently the largest producer of biomass-based diesel, an advanced biofuel, in the United States based on gallons produced. We participate in each aspect of biomass-based diesel production, from acquiring feedstock, managing construction and operating biomass-based diesel production facilities to marketing, selling and distributing biomass-based diesel and its co-products. We operate a network of nine operational biomass-based diesel plants, with an aggregate nameplate production capacity of 332 million gallons per year, or mmgy, and one fermentation facility. We have acquired eight of our ten facilities since February 2010. We believe our fully integrated approach, which includes acquiring feedstock, managing biorefinery facility construction and upgrades, operating biorefineries, marketing renewable products and distributing through a network of terminals, positions us to capitalize on growing demand for biomass-based diesel, renewable chemicals and other advanced biofuels. Our experience has enabled us to develop extensive expertise in biorefinery operations, from facility construction management and feedstock procurement to biomass-based diesel production, marketing, logistics and risk management. We are a low-cost biomass-based diesel producer. We primarily produce our biomass-based diesel from a wide variety of lower cost feedstocks, including inedible corn oil, used cooking oil and inedible animal fat. We also produce biomass-based diesel from virgin vegetable oils, which are more widely available and tend to be higher in price. We believe our ability to process a wide variety of feedstocks provides us with a cost advantage over many biomass-based diesel producers, particularly those that rely on higher cost virgin vegetable oils, such as soybean oil or canola oil.
We are expanding into the production of renewable chemicals, additional advanced biofuels and other products through our acquisition of LS9, Inc., or LS9, in January 2014. LS9 was a development stage company focused on harnessing the power of microbial fermentation to develop and produce renewable chemicals, fuels and other products. The LS9 assets acquired consist mainly of in-process research and development, fixed assets and goodwill.
On February 12, 2014, we announced the launch of a new company, REG Energy Services, LLC, which sells petroleum-based heating oil and diesel fuel, and enables us to offer more biofuel blends. We intend to sell heating oil and ultra-low sulfur


diesel, or ULSD, at terminals initially throughout the northeastern U.S. as well as BioHeatฎ blended heating fuel at one of our existing terminal locations and potentially in other locations across North America.
On June 3, 2014, our subsidiary, REG Synthetic Fuels, LLC, or REG Synthetic Fuels, acquired substantially all the assets of Syntroleum Corporation, or Syntroleum, which consisted of a 50% limited liability company membership interest in Dynamic Fuels, LLC, or Dynamic Fuels, as well as intellectual property and other assets. Dynamic Fuels owns a 75 mmgy nameplate capacity renewable diesel biorefinery located in Geismar, Louisiana. In connection with this transaction, we issued 3,493,613 shares of our Common Stock to Syntroleum On June 6, 2014, we acquired the remaining 50% ownership interest in Dynamic Fuels from Tyson Foods, Inc., or Tyson Foods. At closing, REG Synthetic paid approximately $16.5 million in cash to Tyson Foods and funded the repayment by Dynamic Fuels of a promissory note issued to Tyson Foods in the amount of approximately $13.5 million. REG Synthetic is also obligated to make up to $35 million in future payments to Tyson Foods based on product volumes at the Dynamic Fuels biorefinery over a period of up to eleven and a half years. The obligations of REG Synthetic with respect to these future payments are guaranteed by the Company.
For the three and six months ended June 30, 2014, we sold 77 and 124 million gallons of biomass-based diesel, including 10 and 17 million gallons that we purchased from third parties and resold. During 2013, we sold a total of 259 million gallons of biomass-based diesel, including 48 million gallons we purchased from third parties and resold.
We own three partially completed biodiesel production facilities and one non-operational plant. In 2007, we began construction of two 60 mmgy nameplate production capacity facilities, one near New Orleans, Louisiana and the other in Emporia, Kansas. In February 2008, we halted construction of these facilities as a result of conditions in the biomass-based diesel industry and our inability to obtain financing necessary to complete construction of the facilities. Construction of the New Orleans facility is approximately 45% complete and construction of the Emporia facility is approximately 20% complete. Further, during the third quarter of 2010, we acquired a 15 mmgy nameplate biodiesel production capacity facility in Clovis, New Mexico which is approximately 50% complete. Currently, the Clovis facility is being operated as a terminal. In November 2012, we acquired a 15 mmgy nameplate biodiesel production facility near Atlanta, Georgia that was idled prior to our acquisition and will remain non-operational until certain repairs or upgrades are made. We plan to complete construction and upgrade of these facilities as financing becomes available, and subject to market conditions. Accordingly, at this point in time, we do not believe that any of these facilities should be impaired.
We derive revenues from two reportable business segments: Biodiesel and Services Biodiesel Segment
Our Biodiesel segment, as reported herein, includes:
• the operations of the following production facilities:

• a 12 mmgy nameplate biodiesel production facility located in Ralston, Iowa;

• a 35 mmgy nameplate biodiesel production facility located near Houston, Texas;

• a 45 mmgy nameplate biodiesel production facility located in Danville, Illinois;

• a 30 mmgy nameplate biodiesel production facility located in Newton, Iowa;

• a 60 mmgy nameplate biodiesel production facility located in Seneca, Illinois;

•            a 30 mmgy nameplate biodiesel production facility located near
             Albert Lea, Minnesota;


•            a 15 mmgy nameplate biodiesel production facility located in New
             Boston, Texas;


•            a 30 mmgy nameplate biodiesel production facility located in Mason
             City, Iowa; and


•            a 75 mmgy nameplate renewable diesel production facility located in
             Geismar, Louisiana, since its acquisition in June 2014 that was idle
             prior to acquisition.


•         purchases and resale of biomass-based diesel, Renewable Identification
          Numbers, or RINs, and raw material feedstocks acquired from third
          parties;


•         our sales of biomass-based diesel produced under toll manufacturing
          arrangements with third party facilities using our feedstocks;


•         our production of biomass-based diesel under toll manufacturing
          arrangements with third parties using their feedstocks at our
          facilities; and

• incentives received from federal and state programs for renewable fuels.

We derive a small portion of our revenues from the sale of glycerin, free fatty acids and other co-products of the biomass-based diesel production process. In 2013 and the six months ended June 30, 2014, our revenues from the sale of co-products were less than five percent of our total Biodiesel segment revenues.


In accordance with EPA regulations, we generate 1.5 to 1.7 Renewable Identification Numbers, or RINS, for each gallon of biomass-based diesel we produce and sell, as specified in the RFS2 regulations. RINs are used to track compliance with RFS2 using the EPA moderated transaction system, or EMTS. RFS2 allows us to attach between zero and 2.5 RINs to any gallon of biomass-based diesel we sell. We generally attach 1.5 to 1.7 RINs when we sell a gallon of biomass-based diesel. As a result, a portion of our selling price for a gallon of biomass-based diesel is generally attributable to RFS2 compliance; however no cost is allocated to the RINs generated by our biomass-based diesel production as RINs are a form of government incentive and not a result of the physical attributes of the biomass-based diesel production. In addition, RINs, once obtained with gallons of biomass-based diesel, may be separated by the acquirer and sold separately. From time to time, we may obtain these RINs from third parties for resale, and the value of these is reflected in "Prepaid expenses and other assets" on our consolidated balance sheet. At each balance sheet date, this RIN inventory is valued at the lower of cost or market and resulting adjustments are reflected in our cost of goods sold for the period. The cost of RINs obtained from third parties is determined using the average cost method. Because we do not allocate costs to RINs generated by our biomass-based diesel production, fluctuations in the value of our RIN inventory represent fluctuations in the value of RINs we have obtained from third parties. Services Segment
Our Services segment includes:

•         biomass-based diesel facility management and operational services,
          whereby we provide day-to-day management and operational services to
          biomass-based diesel production facilities; and


•         construction management services, whereby we act as the construction
          management and general contractor for the construction of biomass-based
          diesel production facilities.

Historically, we provided facility operations management services to owners of biomass-based diesel production facilities under management and operational services agreements, or MOSAs. During 2010, we ceased providing services to three of these facilities, acquired one and continued to provide limited services to the other facility. The termination of our MOSAs has not had a significant impact on our financial statements. Our Services segment has been focused internally on managing and upgrading our facilities.
We have utilized our construction management expertise internally to upgrade our facilities. We are currently working on a $20 million upgrade to our Mason City facility and a $13 million upgrade to our Newton facility. In 2013, we completed a $22 million upgrade to our Albert Lea facility and spent $4 million and $1 million in repairs of our recently acquired New Boston and Mason City facilities, respectively. We anticipate external revenues derived from construction management services will be minimal in future periods. Demand for our construction management and facility management and operational services depend on capital spending by potential customers and existing customers, which is directly affected by trends in the biomass-based diesel industry. We have not received any orders or provided services to outside parties for new facility construction services since 2009.
Factors Influencing Our Results of Operations The principal factors affecting our operations are the market prices for biomass-based diesel and the feedstocks used to produce biomass-based diesel, as well as governmental programs designed to create incentives or requirements for the production and use of biomass-based diesel.
Governmental programs favoring biomass-based diesel production and use Biomass-based diesel has historically been more expensive than petroleum-based diesel, excluding biomass-based diesel incentives and credits. The biomass-based diesel industry's growth has largely been the result of federal and state programs that require or incentivize biomass-based diesel, which allows biomass-based diesel to compete with petroleum-based diesel on price. On July 1, 2010, RFS2 was implemented, stipulating volume requirements for the amount of biomass-based diesel and other advanced biofuels that must be utilized in the United States each year. Under RFS2, Obligated Parties, including petroleum refiners and fuel importers, must show compliance with these standards. Currently, biomass-based diesel meets two categories of an Obligated Party's annual renewable fuel required volume obligation, or RVO-biomass-based diesel and undifferentiated advanced biofuel. The RFS2 program required the domestic use of one billion gallons of biomass-based diesel in 2012 and 1.28 billion gallons in 2013. As of this filing, the EPA has not finalized the 2014 RVO. The EPA has proposed that the 2014 and 2015 biomass-based diesel RVO be 1.28 billion gallons for each of those years and a reduced Advanced Biofuel RVO of 2.20 billion gallons rather than the original EISA volume of 3.75 billion for 2014. According to EMTS data, RINS equivalent to 0.78 billion gallons of biomass-based diesel were generated for the six months ended June 30, 2014. Since 2010, our sales volumes and revenues have benefited from our increased production capacity, as well as an increase in demand relating to the implementation of RFS2.


The 2013 RFS2 requirement for biomass-based diesel was 1.28 billion. According to EMTS data, 1.78 billion gallons of biomass-based diesel was produced in 2013. We believe more gallons were produced in 2013 than were required by RFS2 as a result of the fact that the federal biomass-based diesel mixture excise tax credit, or BTC, was set to expire on December 31, 2013. Since Obligated Parties are allowed to satisfy up to 20% of their 2014 RVO with 2013 RINs, we believe many producers, importers and purchasers of biomass-based diesel were taking advantage of the BTC while it was available. We believe this 2013 overproduction and importation of more biomass-based diesel in 2013 than was required to meet the 2013 RVO, when combined with the unseasonably cold winter, led to decreased demand for biomass-based diesel in the first six months of 2014. The BTC provided a $1.00 refundable tax credit per gallon of 100% pure biomass-based diesel, or B100, to the first blender of biomass-based diesel with petroleum-based diesel fuel. The BTC expired on December 31, 2013 and it is uncertain whether it will be reinstated again. The expiration of the BTC along with any amendments that may be made if the BTC is reinstated or a similar credit is enacted, could adversely affect our financial results in the future. Biomass-based diesel and feedstock price fluctuations Our operating results generally reflect the relationship between the price of biomass-based diesel, including credits and incentives, including RINs, and the price of feedstocks used to produce biomass-based diesel. Biomass-based diesel fuels are low carbon, renewable alternatives to petroleum-based diesel fuel and are primarily sold to the end user after blending with petroleum-based diesel fuel. Biomass-based diesel prices have historically been heavily influenced by petroleum-based diesel fuel prices. Accordingly, biomass-based diesel prices have generally been impacted by the same factors that affect petroleum prices, such as worldwide economic conditions, supply and demand factors, wars and other political events, OPEC production quotas, changes in petroleum refining capacity and natural disasters. Regulatory and legislative factors also influence the price of biomass-based diesel. Biomass-based diesel RIN pricing, a value component that was introduced via RFS2 in July 2010, has had a significant impact on our biodiesel pricing. In December 2013, the value of RINs, as reported by OPIS, contributed approximately $0.49, or 13%, of the average B100 Upper Midwest spot price of a gallon of biodiesel as reported by The Jacobsen. During 2013, the value of RINs, as reported by OPIS, contributed to the average B100 spot price of a gallon of biodiesel, as reported by The Jacobsen, with the level of contribution ranging from a low of $0.35 per gallon, or 9%, in October 2013 to a high of $2.20, or 43%, per gallon in January 2013. There was a sharp decline in RIN prices during the third and fourth quarters of 2013. RIN pricing declined from $1.07 per RIN at June 30, 2013 to the low price of $0.24 per RIN in November 2013, finishing the year at $0.35 per RIN on December 31, 2013, as reported by OPIS, which contributed to the decline in the average price of biodiesel during 2013. During the first six months of 2014, the value of RINs, as reported by OPIS, contributed approximately $0.85, or 24%, of the average B100 Upper Midwest spot price of a gallon of biodiesel, as reported by The Jacobsen.
During 2013, feedstock expense accounted for 84% of our production cost, while methanol and chemical catalysts expense accounted for 5% and 3% of our costs of goods sold, respectively.
Feedstocks for biomass-based diesel production, such as inedible corn oil, used cooking oil, inedible animal fat and soybean oil are commodities and market prices for them will be affected by a wide range of factors unrelated to the price of biomass-based diesel and petroleum-based diesel fuels. The following table outlines some of the factors influencing supply and price for each feedstock:


Feedstock                Factors Influencing Supply and Price
Inedible Corn Oil        Ethanol production
                         Implementation of inedible corn oil separation systems
                         into existing and new ethanol facilities
                         Demand for inedible corn oil from renewable fuel and
                         other markets
                         Export demand
                         Extraction system yield
Used Cooking Oil         Export demand
                         Population
                         Number of restaurants in the vicinity of collection
                         facilities and terminals which is dependent on
                         population density
                         Cooking methods and eating habits, which can be impacted
                         by the economy
Inedible Animal Fat      Export demand
                         Number of slaughter kills in the United States
                         Demand for inedible animal fat from other markets
Soybean Oil              Export demand
                         Weather conditions
                         Soybean meal demand
                         Farmer planting decisions
                         Government policies and subsidies
                         Crop disease

During 2013, 83% of our feedstocks were comprised of inedible corn oil, used cooking oil and inedible animal fats with the remainder coming from refined vegetable oil.
Historically, most biomass-based diesel in the United States has been made from soybean oil. Soybean oil prices have fluctuated greatly over the past years. Over the period January 2010 to June 2014, soybean oil prices (based on daily closing nearby futures prices on the Chicago Board of Trade, or CBOT, for crude soybean oil) have ranged from $0.3584 per pound, or $2.69 per gallon of biodiesel, in July 2010 to $0.5977 per pound, or $4.48 per gallon of biodiesel, in April 2011, assuming 7.5 pounds of soybean oil yields one gallon of biodiesel. The average closing price for soybean oil during 2013 was $0.4585 per pound, or $3.44 per gallon of biodiesel, compared to $0.4033 per pound, or $3.02 per gallon of biodiesel, for the six months ended June 30, 2014. Over the period from January 2010 to June 2014, the price of choice white grease, an inedible animal fat (based on daily closing nearby futures prices reported by The Jacobsen for Missouri River delivery of choice white grease), have ranged from $0.2250 per pound, or $1.80 per gallon of biodiesel, in January 2014 to $0.5250 per pound, or $4.20 per gallon of biodiesel, in June 2011, assuming 8.0 pounds of choice white grease yields one gallon of biodiesel. The average closing price for choice white grease during 2013 was $0.3767 per pound, or $3.01 per gallon of biodiesel, compared to $0.3314 per pound, or $2.65 per gallon of biodiesel, for the six months ended June 30, 2014.
The graph below illustrates the spread between the cost of producing one gallon of biodiesel made from soybean oil to the cost of producing one gallon of biodiesel made from a lower cost feedstock from December 2011 to June 2014. The results were derived using assumed conversion factors for the yield of each feedstock and subtracting the cost of producing one gallon of biodiesel made from each respective lower cost feedstock from the cost of producing one gallon of biodiesel made from soybean oil.


[[Image Removed]]
• Soybean oil (crude) prices are based on the monthly average of the daily closing sale price of the nearby soybean oil contract as reported by CBOT (based on 7.5 pounds per gallons).

(1) Used cooking oil prices are based on the monthly average of the daily low sales price of Missouri River yellow grease as reported by The Jacobsen (based on 8.5 pounds per gallon).

(2) Inedible corn oil prices are reported as the monthly average of the daily distillers' corn oil market values delivered to Illinois as reported by The Jacobsen (based on 8.2 pounds per gallon).

(3) Choice white grease prices are based on the monthly average of the daily low prices of Missouri River choice white grease as reported by The Jacobsen (based on 8.0 pounds per gallon).

Our results of operations generally will benefit when the spread between biodiesel prices and feedstock prices widens and will be harmed when this spread narrows. The following graph shows feedstock cost data of choice white grease and soybean oil on a per gallon basis compared to the per gallon sale price data for biodiesel, and the spread between the two, from December 2011 to June 2014.

[[Image Removed]]


(1) Biodiesel prices are based on the monthly average of the midpoint of the high and low prices of B100 (Upper Midwest) as reported by The Jacobsen.

(2) Soybean oil (crude) prices are based on the monthly average of the daily closing sale price of the nearby soybean oil contract as reported by CBOT (based on 7.5 pounds per gallon).

(3) Choice white grease prices are based on the monthly average of the daily low price of Missouri River choice white grease as reported by The Jacobsen (based on 8.0 pounds per gallon).

(4) Spread between biodiesel price and choice white grease price.

(5) Spread between biodiesel price and soybean oil (crude) price.

In the second quarter of 2014, feedstock prices generally increased in April and May and started to decline in June. Due to lower slaughter numbers in cattle, as a result of the two year drought in the southern plains, and in hogs, as a result of the PED virus, animal fat prices increased during the beginning of the quarter, which in June appeared to be offset by weaker exports and lower palm oil prices. This coupled with favorable growing conditions for soybeans have put downward pressure on soybean oil prices and other feedstocks. Risk Management
The profitability of the biomass-based diesel production business largely depends on the spread between prices for feedstocks and biomass-based diesel, including RINs, each of which is subject to fluctuations due to market factors and each of which is not significantly correlated. Adverse price movements for these commodities directly affect our operating results. We attempt to protect operating margins by entering into risk management contracts that mitigate price volatility of our feedstocks, such as inedible corn oil, used cooking oil, inedible animal fat, soybean oil and energy prices. We create offsetting positions by using a combination of forward fixed-price physical purchases and sales contracts on feedstock and biomass-based diesel, including risk management futures contracts, swaps and options primarily on heating oil and soybean oil; however, the extent to which we engage in risk management activities varies substantially from time to time, and from feedstock to feedstock, depending on market conditions and other factors. In making risk management decisions, we utilize research conducted by outside firms to provide additional market information.
Inedible corn oil, used cooking oil, inedible animal fat and soybean oil are the primary feedstocks we used to produce biomass-based diesel in 2013 and the first . . .

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