Company Quick10K Filing
CHS
Price1.00 EPS-650,983,000
Shares-0 P/E-0
MCap-0 P/FCF-0
Net Debt1,663 EBIT814
TEV1,663 TEV/EBIT2
TTM 2019-05-31, in MM, except price, ratios
10-Q 2020-02-29 Filed 2020-04-08
10-Q 2019-11-30 Filed 2020-01-08
8-K 2020-06-11
8-K 2020-06-02
8-K 2020-05-21
8-K 2020-01-20
8-K 2020-01-07

CHSCL 10Q Quarterly Report

Part I. Financial Information
Item 1. Financial Statements
Note 1 Basis of Presentation and Significant Accounting Policies
Note 2 Revenues
Note 3 Receivables
Note 4 Inventories
Note 5 Investments
Note 6 Notes Payable and Long - Term Debt
Note 7 Equities
Note 8 Benefit Plans
Note 9 Income Taxes
Note 10 Segment Reporting
Note 11 Derivative Financial Instruments and Hedging Activities
Note 12 Fair Value Measurements
Note 13 Commitments and Contingencies
Note 14 Leases
Note 15 Acquisitions
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 6. Exhibits
EX-10.1 ex101amendmentno1masterfra.htm
EX-10.2 ex102amendmentno2masterfra.htm
EX-10.3 ex103amendmentno3chsincdef.htm
EX-31.1 ex-311113019.htm
EX-31.2 ex-312113019.htm
EX-32.1 ex-321113019.htm
EX-32.2 ex-322113019.htm

CHS Earnings 2019-11-30

Balance SheetIncome StatementCash Flow
2016128402016201720182020
Assets, Equity
10.08.06.04.02.00.02016201720182020
Rev, G Profit, Net Income
0.30.1-0.0-0.2-0.3-0.52016201720182020
Ops, Inv, Fin

10-Q 1 chscp10qq1113019.htm 10-Q Document

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Form 10-Q

þ
 
Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended November 30, 2019.
or
o
 
Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from to

Commission file number: 001-36079
CHS Inc.
(Exact name of Registrant as specified in its charter)
Minnesota
 (State or other jurisdiction of
incorporation or organization)
 
41-0251095
 (I.R.S. Employer
Identification Number)
 
 
 
5500 Cenex Drive Inver Grove Heights, Minnesota 55077
 (Address of principal executive offices,
including zip code)
 
(651) 355-6000
 (Registrant’s telephone number,
including area code)

Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
8% Cumulative Redeemable Preferred Stock
CHSCP
The Nasdaq Stock Market LLC
Class B Cumulative Redeemable Preferred Stock, Series 1
CHSCO
The Nasdaq Stock Market LLC
Class B Reset Rate Cumulative Redeemable Preferred Stock, Series 2
CHSCN
The Nasdaq Stock Market LLC
Class B Reset Rate Cumulative Redeemable Preferred Stock, Series 3
CHSCM
The Nasdaq Stock Market LLC
Class B Cumulative Redeemable Preferred Stock, Series 4
CHSCL
The Nasdaq Stock Market LLC

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES þ NO o

Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files).
YES þ NO o

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
Accelerated filer o
Non-accelerated filer þ
Smaller reporting company o
Emerging growth company o

If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
YES o NO þ

Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date:
The Registrant has no common stock outstanding.
 



INDEX
 
 
 
 
Page
No.
 
 
 
 
 
 
 
 
 
 



Unless the context otherwise requires, for purposes of this Quarterly Report on Form 10-Q, the words "CHS," "we," "us" or "our" refer to CHS Inc., a Minnesota cooperative corporation, and its subsidiaries as of November 30, 2019.

FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains and our other publicly available documents may contain, and our officers, directors and other representatives may from time to time make, "forward-looking statements" within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by words such as "anticipate," "intend," "plan," "goal," "seek," "believe," "project," "estimate," "expect," "strategy," "future," "likely," "may," "should," "will" and similar references to future periods. Forward-looking statements are neither historical facts nor assurances of future performance. Instead, they are based only on our current beliefs, expectations and assumptions regarding the future of our businesses, financial condition and results of operations, future plans and strategies, projections, anticipated events and trends, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict and many of which are outside of our control. Our actual results and financial condition may differ materially from those indicated in the forward-looking statements. Therefore, you should not place undue reliance on any of these forward-looking statements. Important factors that could cause our actual results and financial condition to differ materially from those indicated in the forward-looking statements are discussed or identified in our public filings made with the U.S. Securities and Exchange Commission, including in the "Risk Factors" discussion in Item 1A of our Annual Report on Form 10-K for the year ended August 31, 2019. Any forward-looking statements made by us in this Quarterly Report on Form 10-Q are based only on information currently available to us and speak only as of the date on which the statement is made. We undertake no obligation to publicly update any forward-looking statement, whether written or oral, that may be made from time to time, whether as a result of new information, future developments or otherwise, except as required by applicable law.

1


PART I. FINANCIAL INFORMATION

ITEM 1.     FINANCIAL STATEMENTS

CHS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
 
November 30,
2019
 
August 31,
2019
 
(Dollars in thousands)
ASSETS
 
 
 
Current assets:
 

 


Cash and cash equivalents
$
192,761

 
$
211,179

Receivables
2,631,374

 
2,731,209

Inventories
3,368,868

 
2,854,288

Other current assets
980,904

 
865,919

Total current assets
7,173,907

 
6,662,595

Investments
3,713,201

 
3,683,996

Property, plant and equipment
5,086,628

 
5,088,708

Other assets
1,240,555

 
1,012,195

Total assets
$
17,214,291

 
$
16,447,494

LIABILITIES AND EQUITIES
 
 
 
Current liabilities:
 

 
 

Notes payable
$
2,170,924

 
$
2,156,108

Current portion of long-term debt
28,231

 
39,210

Accounts payable
2,447,610

 
1,931,415

Accrued expenses
467,765

 
555,323

Other current liabilities
1,066,902

 
901,651

Total current liabilities
6,181,432

 
5,583,707

Long-term debt
1,725,837

 
1,749,901

Other liabilities
684,106

 
496,356

Commitments and contingencies (Note 13)


 


Equities:
 

 
 

Preferred stock
2,264,038

 
2,264,038

Equity certificates
4,897,197

 
4,988,877

Accumulated other comprehensive loss
(228,571
)
 
(226,933
)
Capital reserves
1,681,597

 
1,584,158

Total CHS Inc. equities
8,614,261

 
8,610,140

Noncontrolling interests
8,655

 
7,390

Total equities
8,622,916

 
8,617,530

Total liabilities and equities
$
17,214,291

 
$
16,447,494


The accompanying notes are an integral part of the condensed consolidated financial statements (unaudited).

2


  
CHS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
 
Three Months Ended November 30,
 
2019
 
2018
 
(Dollars in thousands)
Revenues
$
7,621,485

 
$
8,484,289

Cost of goods sold
7,295,942

 
8,013,648

Gross profit
325,543

 
470,641

Marketing, general and administrative expenses
168,331

 
156,143

Operating earnings
157,212

 
314,498

Interest expense
34,971

 
38,908

Other income
(13,498
)
 
(25,134
)
Equity income from investments
(49,662
)
 
(66,508
)
Income before income taxes
185,401

 
367,232

Income tax expense
6,664

 
20,117

Net income
178,737

 
347,115

Net income (loss) attributable to noncontrolling interests
855

 
(389
)
Net income attributable to CHS Inc. 
$
177,882

 
$
347,504

    
The accompanying notes are an integral part of the condensed consolidated financial statements (unaudited).


3



CHS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
Three Months Ended November 30,
 
2019
 
2018
 
(Dollars in thousands)
Net income
$
178,737

 
$
347,115

Other comprehensive (loss) income, net of tax:
 
 
 
Pension and other postretirement benefits
5,073

 
2,101

Cash flow hedges
(5,872
)
 
(1,307
)
Foreign currency translation adjustment
(839
)
 
(405
)
Other comprehensive (loss) income, net of tax
(1,638
)
 
389

Comprehensive income
177,099

 
347,504

Comprehensive income (loss) attributable to noncontrolling interests
855

 
(389
)
Comprehensive income attributable to CHS Inc. 
$
176,244

 
$
347,893


The accompanying notes are an integral part of the condensed consolidated financial statements (unaudited).



4


CHS INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
Three Months Ended November 30,
 
2019
 
2018
 
(Dollars in thousands)
Cash flows from operating activities:
 

 
 

Net income
$
178,737

 
$
347,115

Adjustments to reconcile net income to net cash provided by (used in) operating activities:
 

 
 

Depreciation and amortization, including amortization of deferred major maintenance
136,643

 
137,779

Equity income from investments, net of distributions received
(30,468
)
 
(47,621
)
Provision for doubtful accounts
1,775

 
5,009

Deferred taxes
(3,579
)
 
26,555

Other, net
8,341

 
(3,162
)
Changes in operating assets and liabilities, net of acquisitions:
 

 
 

Receivables
108,495

 
(182,767
)
Inventories
(514,580
)
 
(416,196
)
Accounts payable and accrued expenses
386,021

 
299,741

Other, net
(110,684
)
 
(261,251
)
Net cash provided by (used in) operating activities
160,701

 
(94,798
)
Cash flows from investing activities:
 

 
 

Acquisition of property, plant and equipment
(131,808
)
 
(104,750
)
Proceeds from disposition of property, plant and equipment
3,015

 
5,752

Expenditures for major maintenance
(7,691
)
 
(3,441
)
Changes in CHS Capital notes receivable, net
15,195

 
(126,865
)
Financing extended to customers
(915
)
 
(3,928
)
Payments from customer financing
4,209

 
71,137

Other investing activities, net
3,046

 
7,319

Net cash used in investing activities
(114,949
)
 
(154,776
)
Cash flows from financing activities:
 

 
 

Proceeds from notes payable and long-term debt
5,414,395

 
4,429,276

Payments on notes payable, long-term debt and capital lease obligations
(5,445,420
)
 
(4,317,479
)
Preferred stock dividends paid
(42,167
)
 
(42,167
)
Redemptions of equities
(5,447
)
 
(24,072
)
Other financing activities, net
6,757

 
3,503

Net cash (used in) provided by financing activities
(71,882
)
 
49,061

Effect of exchange rate changes on cash and cash equivalents
(1,153
)
 
(1,535
)
Decrease in cash and cash equivalents and restricted cash
(27,283
)
 
(202,048
)
Cash and cash equivalents and restricted cash at beginning of period
299,675

 
543,940

Cash and cash equivalents and restricted cash at end of period
$
272,392

 
$
341,892


The accompanying notes are an integral part of the condensed consolidated financial statements (unaudited).

5


CHS INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

Note 1        Basis of Presentation and Significant Accounting Policies

Basis of Presentation

These unaudited condensed consolidated financial statements reflect, in the opinion of management, all normal recurring adjustments necessary for a fair statement of our financial position, results of operations and cash flows for the periods presented. The results of operations and cash flows for interim periods are not necessarily indicative of results for a full fiscal year because of the seasonal nature of our businesses, among other things. Our unaudited condensed consolidated financial statements and notes are presented as permitted by the requirements for Quarterly Reports on Form 10-Q and should be read in conjunction with the consolidated financial statements and notes thereto for the year ended August 31, 2019, included in our Annual Report on Form 10-K, filed with the Securities and Exchange Commission ("SEC").

Certain captions within the Condensed Consolidated Balance Sheets, Condensed Consolidated Statements of Operations and Condensed Consolidated Statements of Cash Flows have been combined within other captions as allowed by SEC financial statement reporting requirements under Regulation S-X. Prior year information has been revised to conform with the current presentation.

Significant Accounting Policies

The following significant accounting policy was updated or changed since our Annual Report on Form 10-K for the year ended August 31, 2019.

Leases

As described in the "Recent Accounting Pronouncements" section, we adopted Accounting Standards Update ("ASU") No. 2016-02, Leases, as amended (collectively "Accounting Standards Codification ("ASC") Topic 842"), on September 1, 2019, using the modified retrospective approach. Our accounting policies and additional disclosures with respect to ASC Topic 842 are included in Note 14, Leases.

Recent Accounting Pronouncements

Except for the recent accounting pronouncements described below, other recent accounting pronouncements are not expected to have a material impact on our condensed consolidated financial statements.

Adopted

We adopted ASC Topic 842 as of September 1, 2019, using the modified retrospective approach. In addition, we used the additional optional transition method and package of practical expedients in the period of adoption without retrospective adjustment to previous periods presented, although we elected not to apply the hindsight practical expedient available under the standard. As a result of using the modified retrospective method, prior periods have not been restated, and a $33.7 million cumulative-effect adjustment was recorded to increase the opening balance of capital reserves as of the adoption date related to recognition of previously deferred gains associated with the sale-leaseback of our primary corporate office building located in Inver Grove Heights, Minnesota. Additionally, adoption of ASC Topic 842 resulted in the recognition of operating lease right of use assets and associated lease liabilities of $268.4 million and $267.0 million, respectively, as of September 1, 2019. Adoption of ASC Topic 842 did not have a material impact on our Condensed Consolidated Statements of Operations or Condensed Consolidated Statements of Cash Flows. Additional information and further disclosures related to our leases and lease-related financial statement amounts is included within Note 14, Leases.

Not Yet Adopted

In June 2016, the Financial Accounting Standards Board issued ASU No. 2016-13, Financial Instruments - Credit Losses (ASC Topic 326): Measurement of Credit Losses on Financial Instruments. The amendments in this ASU introduce a new approach, based on expected losses, to estimate credit losses on certain types of financial instruments. This ASU is intended to provide financial statement users with more decision-useful information about the expected credit losses associated with most financial assets measured at amortized cost and certain other instruments, including trade and other receivables,

6


loans, held-to-maturity debt securities, net investments in leases and off-balance-sheet credit exposures. Entities are required to apply the provisions of this ASU as a cumulative-effect adjustment to capital reserves as of the beginning of the first reporting period in which the guidance is adopted. This ASU is effective for us beginning September 1, 2020, for our fiscal year 2021 and for interim periods within that fiscal year. We are currently evaluating the impact adoption will have on our condensed consolidated financial statements.

Note 2        Revenues

The following table presents revenues recognized under ASC Topic 606, Revenue from Contracts with Customers ("ASC Topic 606"), disaggregated by reportable segment, as well as the amount of revenues recognized under ASC Topic 815, Derivatives and Hedging ("ASC Topic 815"), and other applicable accounting guidance for the three months ended November 30, 2019 and 2018. Other applicable accounting guidance primarily includes revenues recognized under ASC Topic 842, Leases, and ASC Topic 470, Debt, that fall outside the scope of ASC Topic 606.
 
 
ASC Topic 606
 
ASC Topic 815
 
Other Guidance
 
Total Revenues
Three Months Ended November 30, 2019:
 
(Dollars in thousands)
Energy
 
$
1,693,848

 
$
201,575

 
$

 
$
1,895,423

Ag
 
1,358,626

 
4,316,087

 
37,142

 
5,711,855

Corporate and Other
 
5,541

 

 
8,666

 
14,207

Total revenues
 
$
3,058,015

 
$
4,517,662

 
$
45,808

 
$
7,621,485

 
 
 
 
 
 
 
 
 
Three Months Ended November 30, 2018:
 
 
 
 
 
 
 
 
Energy
 
$
1,940,190

 
$
221,098

 
$

 
$
2,161,288

Ag
 
1,355,826

 
4,913,428

 
36,143

 
6,305,397

Corporate and Other
 
5,234

 

 
12,370

 
17,604

Total revenues
 
$
3,301,250

 
$
5,134,526

 
$
48,513

 
$
8,484,289


Less than 1% of revenues accounted for under ASC Topic 606 included within the table above are recorded over time; these revenues are primarily related to service contracts.

Contract Assets and Contract Liabilities

Contract assets relate to unbilled amounts arising from goods that have already been transferred to the customer where the right to payment is not conditional upon the passage of time. This results in recognition of an asset, as the amount of revenue recognized at a certain point-in-time exceeds the amount billed to the customer. Contract assets are recorded in receivables within our Condensed Consolidated Balance Sheets and were not material as of November 30, 2019, and August 31, 2019.

Contract liabilities relate to advance payments from customers for goods and services that we have yet to provide. Contract liabilities of $205.0 million and $207.5 million as of November 30, 2019, and August 31, 2019, respectively, are recorded within other current liabilities on our Condensed Consolidated Balance Sheets. For the three months ended November 30, 2019 and 2018, we recognized revenues of $92.0 million and $95.2 million, respectively, which were included in the other current liabilities balance at the beginning of the period.

Note 3        Receivables
 
November 30, 2019
 
August 31, 2019
 
(Dollars in thousands)
Trade accounts receivable
$
1,706,564

 
$
1,803,284

CHS Capital short-term notes receivable
606,605

 
592,909

Other
497,880

 
511,821

Gross receivables
2,811,049

 
2,908,014

Less: allowances and reserves
179,675

 
176,805

Total receivables
$
2,631,374

 
$
2,731,209


7


Receivables are comprised of trade accounts receivable, short-term notes receivable in our wholly-owned subsidiary, CHS Capital, LLC ("CHS Capital"), and other receivables, less an allowance for doubtful accounts.

Notes receivable from commercial borrowers are collateralized by various combinations of mortgages, personal property, accounts and notes receivable, inventories and assignments of capital stock from certain regional cooperatives. These loans are originated in various states, primarily in the Upper Midwest region of the United States, the most significant of which include Minnesota, North Dakota and South Dakota. CHS Capital also has loans receivable from producer borrowers that are collateralized by various combinations of growing crops, livestock, inventories, accounts receivable, personal property and supplemental mortgages and are originated in the same states as the commercial notes.

In addition to the short-term balances included in the table above, CHS Capital had long-term notes receivable, with durations of generally not more than 10 years, totaling $164.3 million and $180.0 million at November 30, 2019, and August 31, 2019, respectively. The long-term notes receivable are included in other assets on our Condensed Consolidated Balance Sheets. As of November 30, 2019, and August 31, 2019, the commercial notes represented 45% and 41%, respectively, and the producer notes represented 55% and 59%, respectively, of total CHS Capital notes receivable.

CHS Capital has commitments to extend credit to customers if there are no violations of contractually established conditions. As of November 30, 2019, CHS Capital's customers had additional available credit of $538.8 million. No significant troubled debt restructuring activity occurred and no third-party customer or borrower accounted for more than 10% of the total receivables balance as of November 30, 2019, or August 31, 2019.

Note 4        Inventories        
 
November 30, 2019
 
August 31, 2019
 
(Dollars in thousands)
Grain and oilseed
$
1,451,865

 
$
1,024,645

Energy
721,887

 
717,378

Agronomy
1,051,970

 
954,037

Processed grain and oilseed
102,483

 
109,900

Other
40,663

 
48,328

Total inventories
$
3,368,868

 
$
2,854,288


As of November 30, 2019, we valued approximately 14% of inventories, primarily crude oil and refined fuels within our Energy segment, using the lower of cost, determined on the LIFO method, or net realizable value (16% as of August 31, 2019). If the FIFO method of accounting had been used, inventories would have been higher than the reported amount by $247.2 million and $215.0 million as of November 30, 2019, and August 31, 2019, respectively. Actual valuation of inventory under the LIFO method can be made only at the end of each year based on inventory levels and costs at that time. Interim LIFO calculations are based on management's estimates of expected year-end inventory levels and are subject to the final year-end LIFO inventory valuation.

Note 5        Investments
 
November 30, 2019
 
August 31, 2019
 
(Dollars in thousands)
Equity method investments:
 
 
 
CF Industries Nitrogen, LLC
$
2,743,776

 
$
2,708,942

Ventura Foods, LLC
378,463

 
374,516

Ardent Mills, LLC
209,956

 
209,027

Other equity method investments
256,042

 
267,247

Other investments
124,964

 
124,264

Total investments
$
3,713,201

 
$
3,683,996



8


Equity Method Investments

Joint ventures and other investments, in which we have significant ownership and influence, but not control, are accounted for in our condensed consolidated financial statements using the equity method of accounting. Our primary equity method investments are described below. In addition to recognition of our share of income from our equity method investments, our equity method investments are evaluated for indicators of other-than-temporary impairment on an ongoing basis in accordance with accounting principles generally accepted in the United States ("U.S. GAAP"). Other investments consist primarily of investments in cooperatives without readily determinable fair values and are generally measured at cost, unless an impairment or other observable market price change occurs requiring an adjustment.

CF Nitrogen

We have a $2.7 billion investment in CF Industries Nitrogen, LLC ("CF Nitrogen"), a strategic venture with CF Industries Holdings, Inc. ("CF Industries"). The investment consists of an approximate 10% membership interest (based on product tons) in CF Nitrogen. We account for this investment using the hypothetical liquidation at book value method, recognizing our share of the earnings and losses of CF Nitrogen based upon our contractual claims on the entity's net assets pursuant to the liquidation provisions of the CF Nitrogen Limited Liability Company Agreement, adjusted for the semi-annual cash distributions we receive as a result of our membership interest in CF Nitrogen. For the three months ended November 30, 2019 and 2018, equity earnings were $34.8 million and $40.9 million, respectively, and are included as equity income from investments in our Nitrogen Production segment.

Ventura Foods and Ardent Mills
    
We have a 50% interest in Ventura Foods, LLC ("Ventura Foods"), which is a joint venture with Wilsey Foods, Inc., a majority-owned subsidiary of MK USA Holdings, Inc., that produces and distributes primarily vegetable oil-based products. Additionally, we have a 12% interest in Ardent Mills, LLC ("Ardent Mills"), which is a joint venture with Cargill Incorporated and ConAgra Foods, Inc., and combines the North American flour milling operations of the three parent companies. We account for Ventura Foods and Ardent Mills as equity method investments, and our share of the results of these equity methods investments are included in Corporate and Other.

The following table provides aggregate summarized unaudited financial information for our equity method investments in CF Nitrogen, Ventura Foods and Ardent Mills for the three months ended November 30, 2019 and 2018:
 
Three Months Ended
November 30,
 
2019
 
2018
 
(Dollars in thousands)
Net sales
$
2,098,284

 
$
2,241,539

Gross profit
346,027

 
339,937

Net earnings
214,004

 
272,736

Earnings attributable to CHS Inc.
53,462

 
67,668

    
Our investments in other equity method investees are not significant in relation to our condensed consolidated financial statements, either individually or in the aggregate.

Note 6        Notes Payable and Long-Term Debt

Our notes payable and long-term debt are subject to various restrictive requirements for maintenance of minimum consolidated net worth and other financial ratios. We were in compliance with our debt covenants as of November 30, 2019. The table below summarizes our notes payable as of November 30, 2019, and August 31, 2019.


November 30, 2019

August 31, 2019

(Dollars in thousands)
Notes payable
$
1,357,062


$
1,330,550

CHS Capital notes payable
813,862


825,558

Total notes payable
$
2,170,924


$
2,156,108


9


As of November 30, 2019, our primary line of credit was a five-year unsecured revolving credit facility with a syndicate of domestic and international banks. The credit facility provides a committed amount of $2.75 billion that expires on July 16, 2024. As of November 30, 2019, and August 31, 2019, the outstanding balance on this facility was $245.0 million and $335.0 million, respectively. Additionally, on September 30, 2019, CHS Capital entered into a credit agreement with a revolving note. Under this agreement, CHS Capital has available capacity of $150.0 million of which no amount was outstanding as of November 30, 2019.

We have a receivables and loans securitization facility ("Securitization Facility") with certain unaffiliated financial institutions ("Purchasers"). Under the Securitization Facility, we and certain of our subsidiaries ("Originators") sell trade accounts and notes receivable ("Receivables") to Cofina Funding, LLC ("Cofina"), a wholly-owned bankruptcy-remote indirect subsidiary of CHS. Cofina in turn transfers the Receivables to the Purchasers, and this arrangement is accounted for as a secured borrowing. We use the proceeds from the sale of Receivables under the Securitization Facility for general corporate purposes and settlements are made on a monthly basis. The Securitization Facility terminates on June 26, 2020, but may be extended.

On September 6, 2019, we renewed our repurchase facility ("Repurchase Facility") related to the Securitization Facility. Under the Repurchase Facility, we can borrow up to $150.0 million, collateralized by a subordinated note issued by Cofina in favor of the Originators and representing a portion of the outstanding balance of the Receivables sold by the Originators to Cofina under the Securitization Facility. As of November 30, 2019, and August 31, 2019, the outstanding balance under the Repurchase Facility was $150.0 million.

Interest expense for the three months ended November 30, 2019 and 2018, was $35.0 million and $38.9 million, respectively, net of capitalized interest of $2.8 million and $2.1 million, respectively.

Note 7        Equities

Changes in Equities

Changes in equities for the three months ended November 30, 2019 and 2018, are as follows:
 
Equity Certificates
 
 
 
Accumulated
Other
Comprehensive
Loss
 
 
 
 
 
 
 
Capital
Equity
Certificates
 
Nonpatronage
Equity
Certificates
 
Nonqualified Equity Certificates
 
Preferred
Stock
 
 
Capital
Reserves
 
Noncontrolling
Interests
 
Total
Equities
 
(Dollars in thousands)
Balance as of August 31, 2019
$
3,753,493

 
$
29,074

 
$
1,206,310

 
$
2,264,038

 
$
(226,933
)
 
$
1,584,158

 
$
7,390

 
$
8,617,530

Reversal of prior year redemption estimates
5,447

 

 

 

 

 

 

 
5,447

Redemptions of equities
(4,721
)
 
(54
)
 
(672
)
 

 

 

 

 
(5,447
)
Preferred stock dividends

 

 

 

 

 
(84,334
)
 

 
(84,334
)
ASC Topic 842 cumulative-effect adjustment

 

 

 

 

 
33,707

 

 
33,707

Other, net
(8
)
 

 
(39
)
 

 

 
(1,312
)
 
410

 
(949
)
Net income

 

 

 

 

 
177,882

 
855

 
178,737

Other comprehensive loss, net of tax

 

 

 

 
(1,638
)
 

 

 
(1,638
)
Estimated 2020 cash patronage refunds

 

 

 

 

 
(28,504
)
 

 
(28,504
)
Estimated 2020 equity redemptions
(91,633
)
 

 

 

 

 

 

 
(91,633
)
Balance as of November 30, 2019
$
3,662,578

 
$
29,020

 
$
1,205,599

 
$
2,264,038

 
$
(228,571
)
 
$
1,681,597

 
$
8,655

 
$
8,622,916


10


 
Equity Certificates
 
 
 
Accumulated
Other
Comprehensive
Loss
 
 
 
 
 
 
 
Capital
Equity
Certificates
 
Nonpatronage
Equity
Certificates
 
Nonqualified Equity Certificates
 
Preferred
Stock
 
 
Capital
Reserves
 
Noncontrolling
Interests
 
Total
Equities
 
(Dollars in thousands)
Balance as of August 31, 2018
$
3,837,580

 
$
29,498

 
$
742,378

 
$
2,264,038

 
$
(199,915
)
 
$
1,482,003

 
$
9,446

 
$
8,165,028

Reversal of prior year redemption estimates
24,072

 

 

 

 

 

 

 
24,072

Redemptions of equities
(22,004
)
 
(183
)
 
(1,885
)
 

 

 

 

 
(24,072
)
Preferred stock dividends

 

 

 

 

 
(84,334
)
 

 
(84,334
)
Reclassification of unrealized (gain) loss on investments

 

 

 

 
(4,706
)
 
4,706

 

 

Other, net
(409
)
 

 
(26
)
 

 

 
3,436

 
318

 
3,319

Net income (loss)

 

 

 

 

 
347,504

 
(389
)
 
347,115

Other comprehensive income, net of tax

 

 

 

 
389

 

 

 
389

Estimated 2019 cash patronage refunds

 

 

 

 

 
(89,344
)
 

 
(89,344
)
Estimated 2019 equity redemptions
(50,081
)
 

 

 

 

 

 

 
(50,081
)
Balance as of November 30, 2018
$
3,789,158

 
$
29,315

 
$
740,467

 
$
2,264,038

 
$
(204,232
)
 
$
1,663,971

 
$
9,375

 
$
8,292,092


Preferred Stock Dividends

The following is a summary of dividends per share by class of preferred stock for the three months ended November 30, 2019 and 2018. Due to the timing of dividend declarations during the first quarter of each fiscal year, the per share amount of dividends is comprised of two quarterly dividend declarations for those periods.
 
 
 
Three Months Ended
November 30,
 
Nasdaq symbol
 
2019
 
2018
Class of preferred stock:
 
 
(Dollars per share)
8% Cumulative Redeemable
CHSCP
 
1.00

 
1.00

Class B Cumulative Redeemable, Series 1
CHSCO
 
0.98

 
0.98

Class B Reset Rate Cumulative Redeemable, Series 2
CHSCN
 
0.88

 
0.88

Class B Reset Rate Cumulative Redeemable, Series 3
CHSCM
 
0.84

 
0.84

Class B Cumulative Redeemable, Series 4
CHSCL
 
0.94

 
0.94


11


Accumulated Other Comprehensive Income (Loss)        

Changes in accumulated other comprehensive income (loss) by component, net of tax, are as follows for the three months ended November 30, 2019 and 2018:
 
Pension and Other Postretirement Benefits
 
Cash Flow Hedges
 
Foreign Currency Translation Adjustment
 
Total
 
(Dollars in thousands)
Balance as of August 31, 2019, net of tax
$
(172,478
)
 
$
15,297

 
$
(69,752
)
 
$
(226,933
)
Other comprehensive income (loss), before tax:
 
 
 
 
 
 
 
Amounts before reclassifications
(85
)
 
(3,331
)
 
(2,411
)
 
(5,827
)
Amounts reclassified out
4,977

 
(4,473
)
 

 
504

Total other comprehensive income (loss), before tax
4,892

 
(7,804
)
 
(2,411
)
 
(5,323
)
Tax effect
181

 
1,932

 
1,572

 
3,685

Other comprehensive income (loss), net of tax
5,073

 
(5,872
)
 
(839
)
 
(1,638
)
Balance as of November 30, 2019, net of tax
$
(167,405
)
 
$
9,425

 
$
(70,591
)
 
$
(228,571
)
 
Pension and Other Postretirement Benefits
 
Unrealized Net Gain on Available for Sale Investments
 
Cash Flow Hedges
 
Foreign Currency Translation Adjustment
 
Total
 
(Dollars in thousands)
Balance as of August 31, 2018, net of tax
$
(140,335
)
 
$
8,861

 
$
(5,882
)
 
$
(62,559
)
 
$
(199,915
)
Other comprehensive income (loss), before tax:
 
 
 
 
 
 
 
 
 
Amounts before reclassifications
175

 

 
(317
)
 
(25
)
 
(167
)
Amounts reclassified out
2,565

 

 
(1,475
)
 

 
1,090

Total other comprehensive income (loss), before tax
2,740

 

 
(1,792
)
 
(25
)
 
923

Tax effect
(639
)
 

 
485

 
(380
)
 
(534
)
Other comprehensive income (loss), net of tax
2,101

 

 
(1,307
)
 
(405
)
 
389

Reclassifications
416

 
(8,861
)
 
983

 
2,756

 
(4,706
)
Balance as of November 30, 2018, net of tax
$
(137,818
)
 
$

 
$
(6,206
)
 
$
(60,208
)
 
$
(204,232
)
    
Amounts reclassified from accumulated other comprehensive income (loss) were related to pension and other postretirement benefits, cash flow hedges, available-for-sale investments and foreign currency translation adjustments. Pension and other postretirement reclassifications include amortization of net actuarial loss, prior service credit and transition amounts and are recorded as cost of goods sold, marketing, general and administrative expenses and other income (see Note 8, Benefit Plans, for further information). Gains or losses associated with cash flow hedges are recorded as cost of goods sold (see Note 11, Derivative Financial Instruments and Hedging Activities, for further information). Gains or losses on the sale of available-for-sale investments and foreign currency translation reclassifications related to sales of businesses are recorded as other income.

Note 8        Benefit Plans

We have various pension and other defined benefit and defined contribution plans, in which substantially all employees may participate. We also have nonqualified supplemental executive and Board retirement plans.

12


Components of net periodic benefit costs for the three months ended November 30, 2019 and 2018, are as follows:
 
Three Months Ended November 30,
 
Qualified
Pension Benefits
 
Nonqualified
Pension Benefits
 
Other Benefits
 
2019
 
2018
 
2019
 
2018
 
2019
 
2018
Components of net periodic benefit costs:
 (Dollars in thousands)
Service cost
$
10,538

 
$
9,648

 
$
101

 
$
78

 
$
262

 
$
263

Interest cost
5,431

 
7,099

 
107

 
187

 
187

 
274

Expected return on assets
(11,671
)
 
(11,242
)
 

 

 

 

Prior service cost (credit) amortization
45

 
42

 
(28
)
 
(19
)
 
(111
)
 
(139
)
Actuarial loss (gain) amortization
5,396

 
3,087

 
25

 

 
(348
)
 
(407
)
Net periodic benefit cost
$
9,739

 
$
8,634

 
$
205

 
$
246

 
$
(10
)
 
$
(9
)

The service cost component of defined benefit net periodic benefit cost is recorded in cost of goods sold and marketing, general and administrative expenses. The other components of net periodic benefit cost are recorded in other income.

Employer Contributions

Any contributions made during fiscal 2020 will depend primarily on market returns on the pension plan assets and minimum funding level requirements. No contributions were made to the pension plans during the three months ended November 30, 2019, and we do not currently anticipate being required to make a contribution for our benefit plans in fiscal 2020.

Note 9        Income Taxes

Our effective tax rate for the three months ended November 30, 2019, was 3.6%, compared to 5.5% for the three months ended November 30, 2018. The decreased effective tax rate reflects the equity management assumptions used in fiscal 2020.

It is reasonably possible that the amount of unrecognized tax benefits could significantly change within the next 12 months. We have ongoing federal, state and international income tax audits in various jurisdictions and are evaluating uncertain tax positions that may be challenged by local tax authorities and not fully sustained. These uncertain tax positions are reviewed on an ongoing basis and adjusted in light of facts and circumstances, including progression of tax audits, developments in case law and closing of statutes of limitation. The total amounts of unrecognized tax benefits that, if recognized, would affect the effective tax rate as of November 30, 2019, and August 31, 2019, are $98.7 million and $93.3 million, respectively.

Note 10        Segment Reporting

We are an integrated agricultural enterprise, providing grain, foods and energy resources to businesses and consumers on a global basis. We provide a wide variety of products and services, from initial agricultural inputs such as fuels, farm supplies, crop nutrient and crop protection products, to agricultural outputs that include grains and oilseeds, grain and oilseed processing and food products, and the production and marketing of ethanol. We define our operating segments in accordance with ASC Topic 280, Segment Reporting, to reflect the manner in which our chief operating decision maker, our Chief Executive Officer, evaluates performance and allocates resources in managing our businesses. We have aggregated those operating segments into three reportable segments: Energy, Ag and Nitrogen Production.

Our Energy segment produces and provides primarily for the wholesale distribution of petroleum products and transportation of those products. Our Ag segment purchases and further processes or resells grains and oilseeds originated by our country operations business, by our member cooperatives and by third parties; serves as a wholesaler and retailer of crop inputs; and produces and markets ethanol. Our Nitrogen Production segment consists solely of our equity method investment in CF Nitrogen, which entitles us, pursuant to a supply agreement that we entered into with CF Nitrogen, to purchase up to a specified quantity of granular urea and urea ammonium nitrate ("UAN") annually from CF Nitrogen. Corporate and Other represents our financing and hedging businesses, which primarily consist of commodities hedging and financial services related to crop production. Our non-consolidated investments in Ventura Foods and Ardent Mills are also included in Corporate and Other.

13


Corporate administrative expenses and interest are allocated to each business segment and Corporate and Other, based on direct usage for services that can be tracked, such as information technology and legal, and other factors or considerations relevant to the costs incurred.

Many of our business activities are highly seasonal and operating results vary throughout the year. For example, in our Ag segment, our country operations business generally experiences higher volumes and income during the spring planting season and during the fall harvest season, and our agronomy business generally experiences higher volumes and income during the spring planting season. Our global grain marketing operations are subject to fluctuations in volume and earnings based on producer harvests, world grain prices and demand. Our Energy segment generally experiences higher volumes and profitability in certain operating areas, such as refined products, in the summer and early fall when gasoline and diesel fuel usage is highest and is subject to global supply and demand forces. Other energy products, such as propane, may experience higher volumes and profitability during the winter heating and crop-drying seasons.

Our revenues, assets and cash flows can be significantly affected by global market prices for commodities such as petroleum products, natural gas, grains, oilseeds, crop nutrients and flour. Changes in market prices for commodities that we purchase without a corresponding change in the selling prices of those products can affect revenues and operating earnings. Commodity prices are affected by a wide range of factors beyond our control, including the weather, crop damage due to plant disease or insects, drought, availability and adequacy of supply, government regulations and policies, world events, and general political and economic conditions.

While our revenues and operating results are derived primarily from businesses and operations that are wholly-owned or subsidiaries and limited liability companies in which we have a controlling interest, a portion of our business operations are conducted through companies in which we hold ownership interests of 50% or less or do not control the operations. See Note 5, Investments, for more information on these entities.

Reconciling amounts primarily represent the elimination of revenues between segments. Such transactions are executed at market prices to more accurately evaluate the profitability of the individual business segments.
        
Segment information for the three months ended November 30, 2019 and 2018, is presented in the tables below. Fiscal 2020 results for our Ag segment include results associated with our acquisition of the remaining 75% ownership interest in West Central Distribution, LLC ("WCD") that we did not previously own on March 1, 2019, which are not included in our prior period results. Refer to further details related to our acquisition of the remaining 75% ownership interest in WCD that we did not previously own within Note 15, Acquisitions.

Energy
 
Ag
 
Nitrogen Production
 
Corporate
and Other
 
Reconciling
Amounts
 
Total
Three Months Ended November 30, 2019:
(Dollars in thousands)
Revenues, including intersegment revenues
$
2,027,895


$
5,715,994


$

 
$
15,950


$
(138,354
)

$
7,621,485

Operating earnings (loss)
161,199


(417
)

(7,823
)
 
4,253




157,212

Interest expense
374


20,741


12,130

 
3,838


(2,112
)

34,971

Other income
(964
)
 
(11,453
)
 
(1,569
)
 
(1,624
)
 
2,112

 
(13,498
)
Equity (income) loss from investments
(364
)

4,157


(34,834
)
 
(18,621
)



(49,662
)
Income (loss) before income taxes
$
162,153


$
(13,862
)

$
16,450

 
$
20,660


$


$
185,401

Intersegment revenues
$
(132,472
)

$
(4,139
)

$

 
$
(1,743
)

$
138,354


$

Total assets as of November 30, 2019
$
4,449,652

 
$
7,108,507

 
$
2,761,709

 
$
2,894,423

 
$

 
$
17,214,291

 
 
 
 
 
 
 
 
 
 
 
 
 
Energy
 
Ag
 
Nitrogen Production
 
Corporate
and Other
 
Reconciling
Amounts
 
Total
Three Months Ended November 30, 2018:
(Dollars in thousands)
Revenues, including intersegment revenues
$
2,310,080

 
$
6,308,714

 
$

 
$
19,067

 
$
(153,572
)
 
$
8,484,289

Operating earnings (loss)
235,639

 
80,127

 
(5,128
)
 
3,860

 

 
314,498

Interest expense
4,237

 
21,000

 
13,679

 
763

 
(771
)
 
38,908

Other income
(986
)
 
(22,400
)
 
(1,571
)
 
(948
)
 
771

 
(25,134
)
Equity (income) loss from investments
(73
)
 
1,209

 
(40,915
)
 
(26,729
)
 

 
(66,508
)
Income before income taxes
$
232,461

 
$
80,318

 
$
23,679

 
$
30,774

 
$

 
$
367,232

Intersegment revenues
$
(148,792
)
 
$
(3,317
)
 
$

 
$
(1,463
)
 
$
153,572

 
$


14


Note 11        Derivative Financial Instruments and Hedging Activities

Our derivative instruments primarily consist of commodity and forward contracts and, to a minor degree, may include foreign currency and interest rate swap contracts. These contracts are economic hedges of price risk, but we do not apply hedge accounting under ASC Topic 815, except with respect to certain interest rate swap contracts accounted for as fair value hedges and certain future crude oil purchases that are accounted for as cash flow hedges. Derivative instruments are primarily recorded within other current assets and other current liabilities on our Condensed Consolidated Balance Sheets at fair value as described in Note 12, Fair Value Measurements.

Derivatives Not Designated as Hedging Instruments

The following tables present the gross fair values of derivative assets, derivative liabilities and margin deposits (cash collateral) recorded on our Condensed Consolidated Balance Sheets, along with related amounts permitted to be offset in accordance with U.S. GAAP. We have elected not to offset derivative assets and liabilities when we have the right of offset under ASC Topic 210-20, Balance Sheet - Offsetting, or when the instruments are subject to master netting arrangements under ASC Topic 815-10-45, Derivatives and Hedging - Overall.
 
November 30, 2019
 
 
 
Amounts Not Offset on Condensed Consolidated Balance Sheet but Eligible for Offsetting
 
 
 
Gross Amount Recognized
 
Cash Collateral
 
Derivative Instruments
 
Net Amount
 
(Dollars in thousands)
Derivative Assets
 
 
 
 
 
 
 
Commodity derivatives
$
159,617

 
$

 
$
27,199

 
$
132,418

Foreign exchange derivatives
5,518

 

 
3,632

 
1,886

Embedded derivative asset
17,933

 

 

 
17,933

Total
$
183,068

 
$

 
$
30,831

 
$
152,237

Derivative Liabilities
 
 
 
 
 
 
 
Commodity derivatives
$
183,025

 
$
3,030

 
$
37,749

 
$
142,246

Foreign exchange derivatives
19,297

 

 
3,632

 
15,665

Total
$
202,322

 
$
3,030

 
$
41,381

 
$
157,911

 
August 31, 2019
 
 
 
Amounts Not Offset on Condensed Consolidated Balance Sheet but Eligible for Offsetting
 
 
 
Gross Amount Recognized
 
Cash Collateral
 
Derivative Instruments
 
Net Amount
 
(Dollars in thousands)
Derivative Assets
 
 
 
 
 
 
 
Commodity derivatives
$
215,030

 
$

 
$
58,726

 
$
156,304

Foreign exchange derivatives
10,334

 

 
7,108

 
3,226

Embedded derivative asset
21,364

 

 

 
21,364

Total
$
246,728

 
$

 
$
65,834

 
$
180,894

Derivative Liabilities
 
 
 
 
 
 
 
Commodity derivatives
$
223,410

 
$
4,191

 
$
41,647

 
$
177,572

Foreign exchange derivatives
20,609

 

 
7,108

 
13,501

Total
$
244,019

 
$
4,191

 
$
48,755

 
$
191,073


Derivative assets and liabilities with maturities of 12 months or less are recorded in other current assets and other current liabilities, respectively, on our Condensed Consolidated Balance Sheets. Derivative assets and liabilities with maturities greater than 12 months are recorded in other assets and other liabilities, respectively, on our Condensed Consolidated Balance Sheets. The amount of long-term derivative assets, excluding derivatives designated as cash flow or fair value hedges, recorded on our Condensed Consolidated Balance Sheets at November 30, 2019, and August 31, 2019, was $18.6 million and $26.6 million, respectively. The amount of long-term derivative liabilities, excluding derivatives designated as cash flow or fair value

15


hedges, recorded on our Condensed Consolidated Balance Sheets at November 30, 2019, and August 31, 2019, was $6.8 million and $7.4 million, respectively.

The majority of our derivative instruments have not been designated as hedging instruments. The following table sets forth the pretax gains (losses) on derivatives not accounted for as hedging instruments that have been included in our Condensed Consolidated Statements of Operations for the three months ended November 30, 2019 and 2018.
 
 
 
Three Months Ended
November 30,
 
Location of Gain (Loss)
 
2019
 
2018
 
 
 
(Dollars in thousands)
Commodity derivatives
Cost of goods sold
 
$
42,674

 
$
(6,448
)
Foreign exchange derivatives
Cost of goods sold
 
(10,161
)
 
16,056

Foreign exchange derivatives
Marketing, general and administrative expenses
 
1,743

 
(832
)
Embedded derivative
Other income
 
1,569

 
1,571

Total
 
$
35,825

 
$
10,347


Commodity Contracts
    
As of November 30, 2019, and August 31, 2019, we had outstanding commodity futures and options contracts that were used as economic hedges, as well as fixed-price forward contracts related to physical purchases and sales of commodities. The table below presents the notional volumes for all outstanding commodity contracts accounted for as derivative instruments.
 
November 30, 2019
 
August 31, 2019
 
Long
 
Short
 
Long
 
Short
 
(Units in thousands)
Grain and oilseed (bushels)
546,758

 
733,722

 
547,096

 
717,522

Energy products (barrels)
9,705

 
5,363

 
13,895

 
4,663

Processed grain and oilseed (tons)
454

 
2,753

 
597

 
2,454

Crop nutrients (tons)
73

 
29

 
76

 
23

Ocean freight (metric tons)
200

 
55

 
295

 
85

Natural gas (MMBtu)
60

 

 
130

 


Foreign Exchange Contracts

We conduct a substantial portion of our business in U.S. dollars, but we are exposed to risks relating to foreign currency fluctuations primarily due to global grain marketing transactions in South America, the Asia Pacific region and Europe, and purchases of products from Canada. We use foreign currency derivative instruments to mitigate the impact of exchange rate fluctuations. Although we have some risk exposure relating to foreign currency transactions, a larger impact with exchange rate fluctuations is the ability of foreign buyers to purchase U.S. agricultural products and the competitiveness of U.S. agricultural products compared to the same products offered by alternative sources of world supply. The notional amounts of our foreign exchange derivative contracts were $972.2 million and $894.7 million as of November 30, 2019, and August 31, 2019, respectively.

Embedded Derivative Asset

Under the terms of our strategic investment in CF Nitrogen, if the CF Industries credit rating is reduced below certain levels by two of three specified credit ratings agencies, we are entitled to receive a nonrefundable annual payment of $5.0 million from CF Industries. These payments will continue on an annual basis until the date that the CF Industries credit rating is upgraded to or above certain levels by two of the three specified credit ratings agencies or February 1, 2026, whichever is earlier.

Since the CF Industries credit rating was reduced below the specified levels during fiscal 2017, we have received an annual payment of $5.0 million from CF Industries. Gains totaling $1.6 million were recognized in other income in our Condensed Consolidated Statements of Operations for the periods ended November 30, 2019 and 2018. The fair value of the embedded derivative asset recorded on our Condensed Consolidated Balance Sheet as of November 30, 2019, was equal to $17.9 million. The current and long-term portions of the embedded derivative asset are included in other current assets and

16


other assets on our Condensed Consolidated Balance Sheets, respectively. See Note 12, Fair Value Measurements, for additional information regarding valuation of the embedded derivative asset.

Derivatives Designated as Fair Value or Cash Flow Hedging Strategies

Fair Value Hedges

As of November 30, 2019, and August 31, 2019, we had outstanding interest rate swaps with an aggregate notional amount of $365.0 million designated as fair value hedges of portions of our fixed-rate debt that is due between fiscal 2021 and fiscal 2025. Our objective in entering into these transactions is to offset changes in the fair value of the debt associated with the risk of variability in the three-month U.S. dollar LIBOR interest rate ("LIBOR"), in essence converting the fixed-rate debt to variable-rate debt. Under these interest rate swaps, we receive fixed-rate interest payments and make interest payments based on the three-month LIBOR. Offsetting changes in the fair values of both the swap instruments and the hedged debt are recorded contemporaneously each period and only create an impact to earnings to the extent that the hedge is ineffective.
    
The following table presents the fair value of our derivative interest rate swap instruments designated as fair value hedges and the line item on our Condensed Consolidated Balance Sheets in which they are recorded.
Balance Sheet Location
 
November 30, 2019
 
August 31, 2019
 
 
(Dollars in thousands)
Other assets
 
$
6,886

 
$
9,841


The following table sets forth the pretax gains (losses) on derivatives accounted for as hedging instruments that have been included in our Condensed Consolidated Statements of Operations for the three months ended November 30, 2019 and 2018.
 
 
 
 
Three Months Ended
November 30,
Gain (Loss) on Fair Value Hedging Relationships
 
Location of Gain (Loss)
 
2019
 
2018
 
 
 
 
(Dollars in thousands)
Interest rate swaps
 
Interest expense
 
$
(2,955
)
 
$
(955
)
Hedged item
 
Interest expense
 
2,955

 
955

Total
 
$

 
$


The following table provides the location and carrying amount of hedged liabilities in our Condensed Consolidated Balance Sheets as of November 30, 2019, and August 31, 2019.
 
 
November 30, 2019
 
August 31, 2019
Balance Sheet Location
 
Carrying Amount of Hedged Liabilities
 
Cumulative Amount of Fair Value Hedging Adjustments Included in Carrying Amount of Hedged Liabilities
 
Carrying Amount of Hedged Liabilities
 
Cumulative Amount of Fair Value Hedging Adjustments Included in Carrying Amount of Hedged Liabilities
 
 
(Dollars in thousands)
Long-term debt
 
$
331,435

 
$
33,565

 
$
334,389

 
$
30,611


Cash Flow Hedges

In fiscal 2018, our Energy segment began designating certain pay-fixed, receive-variable, cash-settled swaps as cash flow hedges of future crude oil purchases. We also began designating certain pay-variable, receive-fixed, cash-settled swaps as cash flow hedges of future refined product sales. These hedging instruments and the related hedged items are exposed to significant market price risk and potential volatility. As part of our risk management strategy, we look to hedge a portion of our expected future crude oil needs and the resulting refined product output based on prevailing futures prices, management's expectations about future commodity price changes and our risk appetite. As of November 30, 2019, and August 31, 2019, the aggregate notional amount of cash flow hedges was 9.1 million and 7.7 million barrels, respectively.


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The following table presents the fair value of our commodity derivative instruments designated as cash flow hedges and the line items on our Condensed Consolidated Balance Sheets in which they are recorded.
 
 
Derivative Assets
 
 
 
Derivative Liabilities
Balance Sheet Location
 
November 30, 2019
 
August 31, 2019
 
Balance Sheet Location
 
November 30, 2019
 
August 31, 2019
 
 
(Dollars in thousands)
 
 
 
(Dollars in thousands)
Other current assets
 
$
26,112

 
$
33,179

 
Other current liabilities
 
$
5,387

 
$
5,351


The following table presents the pretax losses recorded in other comprehensive income relating to cash flow hedges for the three months ended November 30, 2019 and 2018:
 
 
Three Months Ended
November 30,
 
 
2019
 
2018
 
 
(Dollars in thousands)
Commodity derivatives
 
$
(7,103
)
 
$
(2,463
)

The following table presents the pretax gains relating to cash flow hedges that were reclassified from accumulated other comprehensive loss into our Condensed Consolidated Statements of Operations for the three months ended November 30, 2019 and 2018:
 
 
 
Three Months Ended
November 30,
 
Location of Gain
 
2019
 
2018
 
 
 
(Dollars in thousands)
Commodity derivatives
Cost of goods sold
 
$
4,852

 
$
1,900


Note 12        Fair Value Measurements

ASC Topic 820, Fair Value Measurements and Disclosures, defines fair value as the price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The standard also establishes a hierarchy for inputs used in measuring fair value, which requires an entity to maximize use of observable inputs and minimize use of unobservable inputs when measuring fair value. Observable inputs are inputs or market data that a market participant would obtain from independent sources to value the asset or liability. Unobservable inputs are inputs that reflect our assumptions about the factors market participants would use in valuing the asset or liability developed based on the best information available in the circumstances. The fair value hierarchy consists of three levels: Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities. Level 2 inputs include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs (other than quoted prices) that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability. Categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement.


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Recurring fair value measurements at November 30, 2019, and August 31, 2019, are as follows:
 
November 30, 2019
 
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
 
(Dollars in thousands)
Assets
 

 
 

 
 

 
 

Commodity derivatives
$
26,343

 
$
159,387

 
$

 
$
185,730

Foreign exchange derivatives

 
5,606

 

 
5,606

Interest rate swap derivatives

 
6,886

 

 
6,886

Deferred compensation assets
46,754

 

 

 
46,754

Embedded derivative asset

 
17,933

 

 
17,933

Segregated investments
91,080

 

 

 
91,080

Other assets
6,082

 

 

 
6,082

Total
$
170,259

 
$
189,812

 
$

 
$
360,071

Liabilities
 

 
 

 
 
 
 

Commodity derivatives
$
36,032

 
$
152,380

 
$

 
$
188,412

Foreign exchange derivatives

 
19,297

 

 
19,297

Total
$
36,032

 
$
171,677

 
$

 
$
207,709

 
August 31, 2019
 
Quoted Prices in
Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
Total
 
(Dollars in thousands)
Assets
 
 
 
 
 
 
 
Commodity derivatives
$
67,817

 
$
180,392

 
$

 
$
248,209

Foreign exchange derivatives

 
10,339

 

 
10,339

Interest rate swap derivatives

 
9,841

 

 
9,841

Deferred compensation assets
40,368

 

 

 
40,368

Embedded derivative asset

 
21,364

 

 
21,364

Segregated investments
77,777

 

 

 
77,777

Other assets
6,519

 

 

 
6,519

Total
$
192,481

 
$
221,936

 
$

 
$
414,417

Liabilities
 
 
 
 
 
 
 
Commodity derivatives
$
40,305

 
$
188,455

 
$

 
$
228,760

Foreign exchange derivatives

 
20,701

 

 
20,701

Total
$
40,305

 
$
209,156

 
$

 
$
249,461


Commodity and foreign exchange derivatives. Exchange-traded futures and options contracts are valued based on unadjusted quoted prices in active markets and are classified within Level 1. Our forward commodity purchase and sales contracts with fixed-price components, select ocean freight contracts and other over-the-counter ("OTC") derivatives are determined using inputs that are generally based on exchange traded prices and/or recent market bids and offers, adjusted for location specific inputs, and are classified within Level 2. Location-specific inputs are driven by local market supply and demand and are generally based on broker or dealer quotations or market transactions in either the listed or OTC markets. Changes in the fair values of these contracts are recognized in our Condensed Consolidated Statements of Operations as a component of cost of goods sold.

Interest rate swap derivatives. Fair values of our interest rate swap derivatives are determined using valuation models that are widely accepted in the market to value these OTC derivative contracts. The specific terms of the contracts, as well as

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market observable inputs, such as interest rates and credit risk assumptions, are factored into the models. As all significant inputs are market observable, all interest rate swaps are classified within Level 2. Changes in the fair values of contracts not designated as hedging instruments for accounting purposes are recognized in our Condensed Consolidated Statements of Operations as a component of interest expense. See Note 11, Derivative Financial Instruments and Hedging Activities, for additional information about interest rate swaps designated as fair value and cash flow hedges.
        
Deferred compensation and other assets. Our deferred compensation investments consist primarily of rabbi trust assets that are valued based on unadjusted quoted prices on active exchanges and are classified within Level 1. Changes in the fair values of these other assets are primarily recognized in our Condensed Consolidated Statements of Operations as a component of marketing, general and administrative expenses.

Embedded derivative asset. The embedded derivative asset relates to contingent payments inherent to our investment in CF Nitrogen. The inputs used in the fair value measurement include the probability of future upgrades and downgrades of the CF Industries credit rating based on historical credit rating movements of other public companies and the discount rates applied to potential annual payments based on applicable historical and current yield coupon rates. Based on these observable inputs, our fair value measurement is classified within Level 2. See Note 11, Derivative Financial Instruments and Hedging Activities, for additional information.

Segregated investments. Our segregated investments are comprised of U.S. Treasury securities, which are valued using quoted market prices and classified within Level 1.

There were no material transfers between Level 1, Level 2 and Level 3 assets and liabilities during the three months ended November 30, 2019.

Note 13        Commitments and Contingencies

Environmental

We are required to comply with various environmental laws and regulations incidental to our normal business operations. To meet compliance requirements, we establish reserves for the probable future costs of remediation of identified issues, which are included in cost of goods sold and marketing, general and administrative expenses in our Condensed Consolidated Statements of Operations. The resolution of any such matters may affect consolidated net income for any fiscal period; however, we believe any resulting liabilities, individually or in aggregate, will not have a material effect on our condensed consolidated financial statements during any fiscal year.
    
Other Litigation and Claims

We are involved as a defendant in various lawsuits, claims and disputes, which are in the normal course of our business. The resolution of any such matters may affect net income for any fiscal period; however, we believe any resulting liabilities, individually or in aggregate, will not have a material effect on our condensed consolidated financial statements during any fiscal year.

Guarantees

We are a guarantor for lines of credit and performance obligations of related, non-consolidated companies. Our bank covenants allow maximum guarantees of $1.0 billion, of which $178.3 million were outstanding on November 30, 2019. We have collateral for a portion of these contingent obligations. We have not recorded a liability related to the contingent obligations as we do not expect to pay out any cash related to them, and the fair values are considered immaterial. The underlying loans to the counterparties for which we provide these guarantees were current as of November 30, 2019.

Note 14        Leases

We adopted ASC Topic 842 on September 1, 2019, using the modified retrospective approach. In addition, we used the additional optional transition method and package of practical expedients in the period of adoption without retrospective adjustment to previous periods presented, although we elected not to apply the hindsight practical expedient. As a result of using the additional optional transition method and following a modified retrospective approach, prior periods have not been restated, and a $33.7 million cumulative-effect adjustment was recorded to increase the opening balance of capital reserves as of the adoption date related to recognition of previously deferred gains associated with the sale-leaseback of our primary corporate office building located in Inver Grove Heights, Minnesota. Our accounting for finance leases (previously referred to

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as capital leases) remains substantially unchanged; however, adoption of ASC Topic 842 resulted in recognition of operating lease right of use assets and associated lease liabilities of $268.4 million and $267.0 million, respectively, as of September 1, 2019. Adoption of ASC Topic 842 did not have a material impact on our Condensed Consolidated Statements of Operations or Condensed Consolidated Statements of Cash Flows.

We assess arrangements at inception to determine whether they contain a lease. An arrangement is considered to contain a lease if it conveys the right to control the use of an asset for a period of time in exchange for consideration. The right to control the use of an asset must include both (a) the right to obtain substantially all economic benefits associated with an identified asset and (b) the right to direct how and for what purpose the identified asset is used. Certain arrangements provide us with the right to use an identified asset; however, most of these arrangements are not considered to represent a lease as we do not control how and for what purpose the identified asset is used. For example, our supply agreements, warehousing and distribution services agreements, and transportation services agreements generally do not contain leases.

We lease property, plant and equipment used in our operations primarily under operating lease agreements and, to a lesser extent, under finance lease agreements. Our operating leases are primarily for railcars, equipment, vehicles and office space, many of which contain renewal options and escalation clauses. Renewal options are included as part of the right of use asset and liability when it is reasonably certain that we will exercise the renewal option; however, renewal options are generally not included as we are not reasonably certain to exercise such options.

Operating lease right of use assets and liabilities for operating leases are recognized at the lease commencement date for leases in excess of 12 months based on the present value of lease payments over the lease term. For measurement and classification of lease agreements, lease and non-lease components are grouped into a single lease component for all asset classes. Variable lease payments are excluded from measurement of right of use assets and liabilities and generally include payments for non-lease components such as maintenance costs, payments for leased assets beyond their noncancelable lease term and payments for other non-lease components such as sales tax. The discount rate used to calculate present value is our collateralized incremental borrowing rate or, if available, the rate implicit in the lease. The incremental borrowing rate is determined for each lease based primarily on its lease term. Certain lease arrangements include rental payments adjusted annually based on changes in an inflation index. Our lease arrangements generally do not contain residual value guarantees or material restrictive covenants.

Lease expense is recognized on a straight-line basis over the lease term. The components of lease expense recognized in our Condensed Consolidated Statements of Operations are as follows:
 
Three Months Ended November 30, 2019
 
(Dollars in thousands)
Operating lease expense
$
16,480

Finance lease expense:
 
Amortization of assets
2,189

Interest on lease liabilities
224

Short-term lease expense
3,343

Variable lease expense
116

Total net lease expense*
$
22,352

*Income related to sub-lease activity is not material and has been excluded from the table above.


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Supplemental balance sheet information related to operating and finance leases is as follows:
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