Company Quick10K Filing
Quick10K
Southwest Iowa Renewable Energy
10-Q 2019-06-30 Quarter: 2019-06-30
10-Q 2019-03-31 Quarter: 2019-03-31
10-Q 2018-12-31 Quarter: 2018-12-31
10-K 2018-09-30 Annual: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-Q 2017-12-31 Quarter: 2017-12-31
10-K 2017-09-30 Annual: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-Q 2016-12-31 Quarter: 2016-12-31
10-K 2016-09-30 Annual: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-Q 2015-12-31 Quarter: 2015-12-31
10-K 2015-09-30 Annual: 2015-09-30
10-Q 2015-06-30 Quarter: 2015-06-30
10-Q 2015-03-31 Quarter: 2015-03-31
10-Q 2014-12-31 Quarter: 2014-12-31
10-K 2014-09-30 Annual: 2014-09-30
10-Q 2014-06-30 Quarter: 2014-06-30
10-Q 2014-03-31 Quarter: 2014-03-31
10-Q 2013-12-31 Quarter: 2013-12-31
8-K 2019-09-04 Regulation FD, Exhibits
8-K 2019-08-16 Other Events
8-K 2019-08-07 Earnings, Exhibits
8-K 2019-05-10 Regulation FD, Exhibits
8-K 2019-05-09 Earnings, Exhibits
8-K 2019-03-21 Officers
8-K 2019-02-15 Regulation FD, Exhibits
8-K 2019-02-15 Shareholder Vote
8-K 2019-02-14 Earnings, Exhibits
8-K 2019-01-14 Regulation FD, Exhibits
8-K 2018-12-14 Earnings, Exhibits
8-K 2018-12-14 Regulation FD, Exhibits
8-K 2018-10-02 Regulation FD, Exhibits
8-K 2018-09-24 Enter Agreement, Officers, Exhibits
8-K 2018-09-18 Other Events, Exhibits
8-K 2018-08-08 Earnings, Exhibits
8-K 2018-05-10 Regulation FD, Exhibits
8-K 2018-03-31 Officers
8-K 2018-02-16 Shareholder Vote
8-K 2018-01-22 Regulation FD, Exhibits
8-K 2018-01-16 Regulation FD, Exhibits
WLMS Williams Industrial Services Group 58
STNN EPHS Holdings 47
GSRX Green Spirit Industries 41
VLDI Validian 14
FXSG Invesco Currencyshares Singapore Dollar Trust 4
BSRC Biosolar 2
HWH HWH 0
CAVF Cavendish Futures Fund 0
RIVEX Rivex Technology 0
CLSH CLS Holdings 0
SIRE 2019-06-30
Part I - Financial Statements
Item 1. Financial Statements
Note 1: Nature of Business
Note 2: Summary of Significant Accounting Policies
Note 3: Inventory
Note 4: Revolving Loan/Credit Agreements
Note 5: Fair Value Measurement
Note 6: Related Party Transactions
Note 7: Major Customer
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation.
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 2. Unregistered Sales of Equity Securities and Use of Proceeds.
Item 3. Defaults Upon Senior Securities.
Item 4. Mine Safety Disclosures.
Item 5. Other Information.
Item 6. Exhibits
EX-31.1 sire-20190630x10qex311.htm
EX-31.2 sire-20190630x10qex312.htm
EX-32.1 sire-20190630x10qex321.htm
EX-32.2 sire-20190630x10qex322.htm

Southwest Iowa Renewable Energy Earnings 2019-06-30

SIRE 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

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

Form 10-Q

(Mark one)
ý
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
 
 
 
For the quarterly period ending June 30, 2019
 
 
 
 
 
o
TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _________ to __________

Commission file number 000-53041

SOUTHWEST IOWA RENEWABLE ENERGY, LLC
(Exact name of registrant as specified in its charter)
 
 
Iowa
20-2735046
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
 
 
10868 189th Street, Council Bluffs, Iowa
51503
(Address of principal executive offices)
(Zip Code)
 
 
Registrant’s telephone number (712) 366-0392
 
 
Securities registered under Section 12(b) of the Exchange Act:
None.
 
 
Title of each class
Name of each exchange on which registered
 
 
Securities registered under Section 12(g) of the Exchange Act:
Series A Membership Units
(Title of class)
Indicate by check mark whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the 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 x     No o
 
Indicate by check mark whether the registrant has submitted electronically on its corporate Website, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes x   No o




Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
 
Large accelerated filer  o       Accelerated filer (do not check if a smaller reporting company) o         Non-accelerated filer o       Smaller reporting company x
 
 
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 x


As of June 30, 2019, the Company had 8,993 Series A, 3,334 Series B and 1,000 Series C Membership Units outstanding.

DOCUMENTS INCORPORATED BY REFERENCE—None




TABLE OF CONTENTS
 
Item No.
Item Matter
PAGE NO.
 
 
 
 
 
CERTIFICATIONS
SEE EXHIBITS 31 AND 32 




PART I – FINANCIAL STATEMENTS
 
Item 1. Financial Statements

SOUTHWEST IOWA RENEWABLE ENERGY, LLC
Balance Sheets
(Dollars in thousands)
ASSETS
June 30, 2019
 
September 30, 2018
 
(Unaudited)
 
 
Current Assets
 
 
 
Cash and cash equivalents
$
1,076

 
$
1,440

Accounts receivable
1,388

 
1,135

Accounts receivable, related party
6,248

 
11,537

Derivative financial instruments
3,487

 
1,046

Inventory
19,848

 
13,526

Prepaid expenses and other
509

 
341

Total current assets
32,556

 
29,025

 
 
 
 
Property, Plant and Equipment
 
 
 
Land
2,064

 
2,064

Plant, building and equipment
235,394

 
229,813

Office and other equipment
1,803

 
1,625

 
239,261

 
233,502

Accumulated depreciation
(129,304
)
 
(121,634
)
Net property, plant and equipment
109,957

 
111,868

 
 
 
 
Other assets
1,447

 
1,738

Total Assets
$
143,960

 
$
142,631

 
 
 
 
Notes to Financial Statements are an integral part of this statement

4



SOUTHWEST IOWA RENEWABLE ENERGY, LLC
Balance Sheets
(Dollars in thousands)
LIABILITIES AND MEMBERS' EQUITY
June 30, 2019
 
September 30, 2018
 
(Unaudited)
 
 
Current Liabilities
 
 
 
Accounts payable
$
2,984

 
$
3,183

Accounts payable, related party
11

 
18

Derivative financial instruments

 
1,567

Accrued expenses
7,079

 
7,500

Accrued expenses, related parties
5,813

 
601

Current maturities of notes payable
2,077

 
6,560

Total current liabilities
17,964

 
19,429

 
 
 
 
Long Term Liabilities
 
 
 
Notes payable, less current maturities
27,156

 
15,333

Other long-term liabilities
2,983

 
2,834

Put option liability, related party

 
5,400

Total long term liabilities
30,139

 
23,567

 
 
 
 
Members' Equity
 
 
 
Members' capital, 13,327 units issued and outstanding
87,165

 
87,165

Accumulated earnings
8,692

 
12,470

Total members' equity
95,857

 
99,635

 
 
 
 
Total Liabilities and Members' Equity
$
143,960

 
$
142,631

 
 
 
 
Notes to Financial Statements are an integral part of this statement

5



SOUTHWEST IOWA RENEWABLE ENERGY, LLC
Statements of Operations
(Dollars in thousands except for net income per unit)
(Unaudited)
 
Three Months Ended
 
Three Months Ended
 
Nine Months Ended
 
Nine Months Ended
 
June 30, 2019
 
June 30, 2018
 
June 30, 2019
 
June 30, 2018
 
 
 
 
 
 
 
 
Revenues
$
53,505

 
$
53,611

 
$
160,077

 
$
157,708

Cost of Goods Sold
 
 
 
 
 
 
 
Cost of goods sold-non hedging
54,275

 
55,346

 
162,637

 
156,919

Realized & unrealized hedging (gains)
(1,372
)
 
(470
)
 
(3,195
)
 
(823
)
 
52,903

 
54,876

 
159,442

 
156,096

 
 
 
 
 
 
 
 
Gross Margin (Loss)
602

 
(1,265
)
 
635

 
1,612

 
 
 
 
 
 
 
 
General and administrative expenses
1,061

 
1,809

 
3,737

 
4,243

 
 
 
 
 
 
 
 
Operating (Loss)
(459
)
 
(3,074
)
 
(3,102
)
 
(2,631
)
 
 
 
 
 
 
 
 
Interest and other expense, net
292

 
265

 
676

 
549

 
 
 
 
 
 
 
 
Net (Loss)
$
(751
)
 
$
(3,339
)
 
$
(3,778
)
 
$
(3,180
)
 
 
 
 
 
 
 
 
Weighted average units outstanding - basic
13,327

 
13,327

 
13,327

 
13,327

Weighted average units outstanding - diluted
13,327

 
13,327

 
13,327

 
13,327

(Loss) per unit - basic
$
(56.35
)
 
$
(250.54
)
 
$
(283.48
)
 
$
(238.61
)
(Loss) per unit - diluted
$
(56.35
)
 
$
(250.54
)
 
$
(283.48
)
 
$
(238.61
)
Distributions per unit - basic
$

 
$

 
$

 
$
500.00

Distributions per unit - diluted
$

 
$

 
$

 
$
500.00

 
 
 
 
 
 
 
 
Notes to Financial Statements are an integral part of this statement

6



SOUTHWEST IOWA RENEWABLE ENERGY, LLC
Statements of Members' Equity
(Dollars in thousands)
 
Members' Capital
 
Retained Earnings
 
Total
 
 
 
 
 
 
Balance, September 30, 2017
$
87,165

 
$
21,644

 
$
108,809

Net Income

 
1,087

 
1,087

Distributions ($500 per unit)

 
(6,663
)
 
(6,663
)
Balance, December 31, 2017
87,165

 
16,068

 
103,233

Net (Loss)

 
(928
)
 
(928
)
Balance, March 31, 2018
87,165

 
15,140

 
102,305

Net (Loss)

 
(3,339
)
 
(3,339
)
Balance, June 30, 2018
$
87,165

 
$
11,801

 
$
98,966

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Balance, September 30, 2018
$
87,165

 
$
12,470

 
$
99,635

Net (Loss)

 
(1,260
)
 
(1,260
)
Balance, December 31, 2018
87,165

 
11,210

 
98,375

Net (Loss)

 
(1,767
)
 
(1,767
)
Balance, March 31, 2019
87,165

 
9,443

 
96,608

Net (Loss)

 
$
(751
)
 
$
(751
)
Balance, June 30, 2019
$
87,165

 
$
8,692

 
$
95,857

 
 
 
 
 
 
Notes to Financial Statements are an integral part of this statement


7



SOUTHWEST IOWA RENEWABLE ENERGY, LLC
Statements of Cash Flows
(Dollars in thousands)
(Unaudited)

Nine Months Ended
 
Nine Months Ended

June 30, 2019
 
June 30, 2018
CASH FLOWS FROM OPERATING ACTIVITIES

 

Net (Loss)
$
(3,778
)
 
$
(3,180
)
Adjustments to reconcile to net cash provided by (used in) operating activities:

 

Depreciation
7,670

 
8,753

Amortization
54

 
54

Loss on disposal of property and equipment

 
526

Change in other assets, net
291

 
41

(Increase) decrease in current assets:

 

Accounts receivable
5,036

 
(1,289
)
Inventories
(6,322
)
 
(333
)
Prepaid expenses and other
(168
)
 
(100
)
Derivative financial instruments
(2,441
)
 
(338
)
Increase (decrease) in current liabilities:
 
 
 
Accounts payable
(206
)
 
(1,317
)
Derivative financial instruments
(1,567
)
 
542

Accrued expenses
4,791

 
789

Increase in other long-term liabilities
(5,251
)
 
262

Net cash provided by (used in) operating activities
(1,891
)
 
4,410



 

CASH FLOWS FROM INVESTING ACTIVITIES

 

Purchase of property and equipment
(5,759
)
 
(4,832
)
Proceeds from sale of property and equipment

 
50

Net cash (used in) investing activities
(5,759
)
 
(4,782
)


 

CASH FLOWS FROM FINANCING ACTIVITIES

 

Distributions paid to members

 
(6,663
)
Proceeds from debt
137,960

 
101,292

Payments on debt
(130,674
)
 
(94,537
)
Net cash provided by financing activities
7,286

 
92




 


Net (decrease) in cash and cash equivalents
(364
)
 
(280
)


 

CASH AND CASH EQUIVALENTS

 

Beginning
1,440

 
1,487

Ending
$
1,076

 
$
1,207



 



 

SUPPLEMENTAL CASH FLOW INFORMATION

 

Cash paid for interest
$
633

 
$
687

 
 
 
 
Notes to Financial Statements are an integral part of this statement

 
 
 

8



SOUTHWEST IOWA RENEWABLE ENERGY, LLC
Notes to Financial Statements
Note 1:  Nature of Business
Southwest Iowa Renewable Energy, LLC (the “Company”), located in Council Bluffs, Iowa, was formed in March, 2005, and began producing ethanol in February, 2009.   The Company is permitted to produce up to 140 million gallons of ethanol per year. The Company sells its ethanol, distillers grains, corn syrup and corn oil in the continental United States, Mexico, and the Pacific Rim.
Note 2:  Summary of Significant Accounting Policies
Basis of Presentation and Other Information
The accompanying financial statements are as of and for the three months and nine months ended June 30, 2019 and 2018, and are unaudited and reflect all adjustments (consisting only of normal recurring adjustments) which are, in the opinion of management, necessary for a fair presentation of the financial position and operating results for the interim periods. These unaudited financial statements and notes should be read in conjunction with the audited financial statements and notes thereto, for the fiscal year ended September 30, 2018 ("Fiscal 2018") contained in the Company’s Annual Report on Form 10-K. See revision considerations related to form amounts presented in Form 10-K in the paragraph below. The results of operations for the interim periods presented are not necessarily indicative of the results for the entire year.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from these estimates.
Revision
The Company has applied SAB No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements. SAB No. 108 states that registrants must quantify the impact of correcting all misstatements, including both the carryover (iron curtain method) and reversing (rollover method) effects of prior year misstatements on the current-year financial statements, and by evaluating the error measured under each method in light of quantitative and qualitative factors. Under SAB No. 108, prior year misstatements which, if corrected in the current year would be material to the current year, must be corrected by adjusting prior year financial statements, even though such correction previously was and continues to be immaterial to the prior year financial statements. Correcting prior year financial statements for such “immaterial errors” does not require previously filed reports to be amended. Such corrections will be made the next time the Company files current year financial reports and references the prior year.
In applying the requirements of SAB No. 108, the Company adjusted its repairs and maintenance accruals, which were understated, with respect to the tank cars and hopper cars the Company was leasing. The Company should have been booking a provision for repairs necessary to return the cars to the lessor in "normal" status. Since the lease was initiated in March of 2009, with a lease end date of March of 2019, adjustments to previous periods were required. Although the charges in any one quarter were not significant, the historical financial statements were revised with all appropriate entries being retrospectively reflected in the financial statements.
As of September 30, 2018, the impact of the revision on the balance sheet was $3.6 million as summarized below in the Accumulative revision to Balance Sheet table. Additionally, items on the statements of operations were revised including activity in the three and nine months ended June 30, 2019 and the three and nine months ended June 30, 2018 as summarized below in the Revision to Statements of Operations table.

9



Accumulative revision to Balance Sheet (Dollars in thousands) as of:
 
 
 
September 30, 2018

Increase in current liabilities


$
722

Increase in long term liabilities


2,834

Decrease in accumulated earnings


3,556

 
 
 
Revision to Statements of Operations (Dollars in thousands except income (loss) per unit)
 
Three Months Ended June 30, 2019
Three Months Ended June 30, 2018
Increase in cost of goods sold
$

$
94

(Increase) in net (loss)

(94
)
(Increase) in net (loss) per unit

(7.02
)
 
 
 
 
Nine Months Ended June 30, 2019
Nine Months Ended June 30, 2018
Increase in cost of good sold
$
187

$
281

(Increase) in net (loss)
(187
)
(281
)
(Increase) in net (loss) per unit
(14.03
)
(21.06
)


Revenue Recognition
The Company adopted Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606) on October 1, 2018. Under the ASU, revenue is recognized when a customer obtains control of promised goods or services in an amount that reflects the considerations the entity expects to receive in exchange for those goods or services. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from the contracts with customers. The Company applied the five-step method outlined in the ASU to all contracts with customers, and elected the modified retrospective implementation method. The new revenue standard did not have an impact on the Company's financial statements.
The Company sells ethanol and related products pursuant to marketing agreements.  Revenues are recognized when the marketing company has taken title to the product, prices are fixed or determinable and collectability is reasonably assured. 
The Company’s products are generally shipped Free on Board ("FOB") shipping point, and recorded as a sale upon delivery of the applicable bill of lading.  The Company’s ethanol sales are handled through an ethanol purchase agreement (the “Ethanol Agreement”) with Bunge North America, Inc. (“Bunge”).  Syrup and distillers grains (co-products) are sold through a distillers grains agreement (the “DG Agreement”) with Bunge, based on market prices. The Company markets and distributes all of the corn oil it produces directly to end users at market prices.   Carbon dioxide is sold through a Carbon Dioxide Purchase and Sale Agreement (the “CO2 Agreement”) with Air Products and Chemicals, Inc. Marketing fees, agency fees, and commissions due to the marketer are calculated separately from the settlement for the sale of the ethanol products and co-products and are included as a component of cost of goods sold.  Shipping and handling costs incurred by the Company for the sale of ethanol and co-products are included in cost of goods sold.

Accounts Receivable
Accounts receivable are recorded at original invoice amounts less an estimate made for doubtful receivables based on a review of all outstanding amounts on a monthly basis.  Most of the accounts receivable are receivables from Bunge. Management determines the allowance for doubtful accounts by regularly evaluating customer receivables and considering the customer’s financial condition, credit history and current economic conditions.  As of June 30, 2019 and September 30, 2018, management

10



had determined no allowance was necessary.  Accounts receivables are written off when deemed uncollectable and recoveries of receivables written off are recorded when received.

Investment in Commodities Contracts, Derivative Instruments and Hedging Activities
The Company’s operations and cash flows are subject to fluctuations due to changes in commodity prices.  The Company is subject to significant market risk with respect to the price and availability of corn, the principal raw material used to produce ethanol and ethanol by-products.  Exposure to commodity price risk results from its dependence on corn in the ethanol production process.  Rising corn prices may result in lower profit margins and, therefore, represent unfavorable market conditions.  This is especially true when market conditions do not allow the Company to pass along increased corn costs to customers. The availability and price of corn is subject to wide fluctuations due to unpredictable factors such as weather conditions, farmer planting decisions, governmental policies with respect to agriculture and international trade and global demand and supply.
To minimize the risk and the volatility of commodity prices, primarily related to corn and ethanol, the Company uses various derivative instruments, including forward corn, ethanol, and distillers grains purchase and sales contracts, over-the-counter and exchange-traded futures and option contracts.  When the Company has sufficient working capital available, it enters into derivative contracts to hedge its exposure to price risk related to forecasted corn needs and forward corn purchase contracts.  
Management has evaluated the Company’s contracts to determine whether the contracts are derivative instruments. Certain contracts that literally meet the definition of a derivative may be exempted from derivative accounting as normal purchases or normal sales.  Normal purchases and normal sales are contracts that provide for the purchase or sale of something other than a financial instrument or derivative instrument that will be delivered in quantities expected to be used or sold over a reasonable period in the normal course of business.  Gains and losses on contracts that are designated as normal purchases or normal sales contracts are not recognized until quantities are delivered or utilized in production.
The Company applies the normal sale exemption to forward contracts relating to ethanol, distillers grains, and corn oil and therefore these forward contracts are not marked to market. As of June 30, 2019, the Company had no contracts for ethanol, 0.1 million tons of wet and dried distillers grains and 5.0 million pounds of corn oil.
Corn purchase contracts are treated as derivative financial instruments. Changes in market value of forward corn contracts, which are marked to market each period, are included in costs of goods sold.  As of June 30, 2019, the Company was committed to purchasing 5.4 million bushels of corn on a forward contract basis resulting in a total commitment of $21.6 million. In addition, the Company was committed to purchase 1.0 million bushels of corn on basis contracts.
In addition, the Company enters into short-term cash, options and futures contracts as a means of managing exposure to changes in commodity prices.  The Company enters into derivative contracts to hedge the exposure to volatile commodity price fluctuations.  The Company maintains a risk management strategy that uses derivative instruments to minimize significant, unanticipated earnings fluctuations caused by market volatility.  The Company’s specific goal is to protect itself from large moves in commodity costs.  All derivatives are designated as non-hedge derivatives and the contracts will be accounted for at fair value.  Although the contracts will be effective economic hedges of specified risks, they are not designated as and accounted for as hedging instruments.
Derivatives not designated as hedging instruments along with cash held by brokers at June 30, 2019 and September 30, 2018 at market value are as follows:

11




Balance Sheet Classification
 
June 30, 2019
 
September 30, 2018
 
 
 
in 000's
 
in 000's
Futures and option contracts

 

 

In gain position

 
$
1,239

 
$
583

In loss position

 
(237
)
 
(82
)
Cash held by broker

 
1,499

 
545

Forward contracts, corn
 
 
986

 


Current asset
 
3,487

 
1,046



 


 


Forward contracts, corn
 
 

 
1,567


Current liability
 

 
1,567

Net futures, options, and forward contracts

 
$
3,487

 
$
(521
)
    
The net realized and unrealized gains and losses on the Company’s derivative contracts for the three and nine months ended June 30, 2019 and 2018 consist of the following:
 
 
 
Three Months Ended
 
Nine Months Ended

Statement of Operations Classification
 
June 30, 2019
 
June 30, 2018
 
June 30, 2019
 
June 30, 2018
 
 
 
in 000's
 
in 000's
 
in 000's
 
in 000's
Net realized and unrealized (gains) losses related to:

 

 

 
 
 
 


 

 

 
 
 
 
Forward purchase corn contracts
Cost of Goods Sold
 
$
(3,298
)
 
$
1,802

 
$
(4,072
)
 
$
2,121

Futures and option corn contracts
Cost of Goods Sold
 
1,926

 
(2,272
)
 
877

 
(2,944
)


Inventory
Inventory is stated at the lower of weighted average cost or net realizable value. In the valuation of inventories and purchase commitments, net realizable value is defined as estimated selling price in the ordinary course of business less reasonable predictable costs of completion, disposal and transportation.  
Put Option liability
The put option liability consists of an agreement between the Company and ICM, Inc. that contains a conditional obligation to repurchase feature. In accordance with accounting for put options as a liability, the Company calculated the fair value of the put option under Level 3, using a valuation model called the Monte Carlo Simulation. Using this model, the estimated value did not change significantly from September 30, 2018 to June 30, 2019. The put option liability was reclassified to accrued expenses - related party as the option will be exercised within a year.
Income Per Unit
Basic income per unit is calculated by dividing net income by the weighted average units outstanding for each period. Basic earnings and diluted per unit data were computed as follows (in thousands except per unit data):

12



 
Three Months Ended
 
Nine Months Ended
 
June 30, 2019
 
June 30, 2018
 
June 30, 2019
 
June 30, 2018
Numerator:
 
 
 
 
 
 
 
Net (loss) for basic earnings per unit
$
(751
)
 
$
(3,339
)
 
$
(3,778
)
 
$
(3,180
)
Net (loss) for diluted earnings per unit
$
(751
)
 
$
(3,339
)
 
$
(3,778
)
 
$
(3,180
)
 
 
 
 
 
 
 
 
Denominator:
 
 
 
 
 
 
 
Weighted average units outstanding - basic
13,327

 
13,327

 
13,327

 
13,327

Weighted average units outstanding - diluted
13,327

 
13,327

 
13,327

 
13,327

(Loss) per unit - basic
$
(56.35
)
 
$
(250.54
)
 
$
(283.48
)
 
$
(238.61
)
(Loss) per unit - diluted
$
(56.35
)
 
$
(250.54
)
 
$
(283.48
)
 
$
(238.61
)


Recently Issued Accounting Pronouncements
Leases
In February 2016, FASB issued ASU 2016-02 "Leases” ("ASU 2016-02"). ASU 2016-02 requires the recognition of lease assets and lease liabilities by lessees for all leases greater than one year in duration and classified as operating leases under previous GAAP. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, and for interim periods within that fiscal year. The Company will implement ASU 2016-02 in October 2019, when fiscal 2020 starts. The Company will include a right to use assets for approximately $9.0 million and a corresponding liability at the start of the next fiscal year for the operating leases.

Note 3:  Inventory
Inventory is comprised of the following:
 
June 30, 2019
 
September 30, 2018
 
(000)
 
(000)
Raw Materials - corn
$
6,735

 
$
4,095

Supplies and Chemicals
4,983

 
4,747

Work in Process
1,931

 
1,421

Finished Goods
6,199

 
3,263

Total
$
19,848

 
$
13,526


 
Note 4:   Revolving Loan/Credit Agreements
FCSA/CoBank
The Company has a credit agreement with Farm Credit Services of America, FLCA (“FCSA”) and CoBank, ACB, as cash management provider and agent (“CoBank”) which provides the Company with a term loan in the original amount of $30.0 million (the “Term Loan”) and a revolving term loan in the original amount of up to $36.0 million (the “Revolving Term Loan”), together with the Term Loan, the “ FCSA Credit Facility ”). The FCSA Credit Facility is secured by a security interest on all of the Company’s assets.
 
The Term Loan provides for quarterly payments by the Company to FCSA of $1.5 million, with a maturity date of September 20, 2019. The Revolving Term Loan has a maturity date of June 1, 2023 and requires reductions in principal availability in increments of $6.0 million each June 1 commencing on June 1, 2020. Under the FCSA Credit Facility, the Company has the right to select from several LIBOR based interest rate options with respect to each of the Term Loan and the Revolving Term Loan.

As of June 30, 2019, there was $10.9 million available under the Revolving Term Loan.

13




Notes payable

Notes payable consists of the following:

June 30, 2019
 
September 30, 2018
 
(000's)
 
(000's)
Term Loan bearing interest at LIBOR plus 3.35% (5.76% at June 30, 2019)
$
1,500

 
$
6,000

Revolving Term Loan bearing interest at LIBOR plus 3.35% (5.76% at June 30, 2019)
25,099

 
12,894

Other debt with interest rates ranging from 3.50% to 4.15% and maturities through 2022
2,711

 
3,129


29,310

 
22,023

Less Current Maturities
2,077

 
6,560

Less Financing Costs, net of amortization
77

 
130

Total Long Term Debt
27,156

 
15,333



The approximate aggregate maturities of notes payable as of June 30, 2019 are as follows:
2020
$
2,077

 
 
2021
1,683

 
 
2022
6,608

 
 
2023
18,942

Total
$
29,310


 
Note 5:  Fair Value Measurement
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.  In determining fair value, the Company used various methods including market, income and cost approaches.  Based on these approaches, the Company often utilized certain assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and/or the risks inherent in the inputs to the valuation technique.  These inputs can be readily observable, market corroborated, or generally unobservable inputs.  The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs.  Based on the observable inputs used in the valuation techniques, the Company is required to provide the following information according to the fair value hierarchy.
The fair value hierarchy ranks the quality and reliability of the information used to determine fair values.  Financial assets and liabilities carried at fair value will be classified and disclosed in one of the following three categories:
Level 1 -
Valuations for assets and liabilities traded in active markets from readily available pricing sources for market transactions involving identical assets or liabilities.
Level 2 -
Valuations for assets and liabilities traded in less active dealer or broker markets.  Valuations are obtained from third-party pricing services for identical or similar assets or liabilities.
Level 3 -
Valuations incorporate certain assumptions and projections in determining the fair value assigned to such assets or liabilities.
A description of the valuation methodologies used for instruments measured at fair value, including the general classifications of such instruments pursuant to the valuation hierarchy, is set below.

14



Put Option liability. The put option liability consists of an agreement between the Company and ICM that contains a conditional obligation to repurchase feature. In accordance with accounting for put options as a liability, the Company calculated the fair value of the put option under Level 3, using a Monte Carlo Simulation model.
Derivative financial instruments.  Commodity futures and exchange traded options are reported at fair value utilizing Level 1 inputs. For these contracts, the Company obtains fair value measurements from an independent pricing service.  The fair value measurements consider observable data that may include dealer quotes and live trading levels from the Chicago Mercantile Exchange (“CME”) market.  Ethanol contracts are reported at fair value utilizing Level 2 inputs from third-party pricing services.  Forward purchase contracts are reported at fair value utilizing Level 2 inputs.   For these contracts, the Company obtains fair value measurements from local grain terminal values.  The fair value measurements consider observable data that may include live trading bids from local elevators and processing plants which are based on the CME market.
The following table summarizes financial assets and liabilities measured at fair value on a recurring basis as of June 30, 2019 and September 30, 2018, categorized by the level of the valuation inputs within the fair value hierarchy (in '000s):
 
June 30, 2019

Level 1
 
Level 2
 
Level 3
Assets:
 
 
 
 

Derivative financial instruments
$
1,239

 
$
986

 
$


 
 
 
 

Liabilities:
 
 
 
 

Derivative financial instruments
237

 

 

Put option liability

 

 
5,400

 
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2018

Level 1
 
Level 2
 
Level 3
Assets:
 
 
 
 
 
Derivative financial instruments
$
583

 
$

 
$

 
 
 
 
 
 
Liabilities:
 
 
 
 
 
Derivative financial instruments
82

 
1,567

 

Put option liability

 

 
5,400




The following table summarizes the assumptions used in computing the fair value of the put options subject to fair value accounting at June 30, 2019 and September 30, 2018

 
June 30, 2019
 
September 30, 2018
Put option assumptions:
 
 
 
Risk-free interest rate
2.57
%
 
2.57
%
Expected volatility
22
%
 
22
%
Expected life (years)
0.50

 
1.25

Exercise price
$10,897
 
$10,897
Company unit price
$5,500
 
$5,500

 
The following table reflects the activity for liabilities measured at fair value using Level 3 inputs during the nine months ended June 30, 2019 and for Fiscal 2018 that ended September 30, 2018:


15



 
June 30, 2019

 
September 30, 2018

Beginning Balance
$
5,400

 
$
5,700

Change in Value

 
(300
)
Ending Balance
$
5,400

 
$
5,400


 
Note 6:   Related Party Transactions
Bunge
Under the Ethanol Agreement, the Company sells Bunge all of the ethanol produced by the Company, and Bunge purchases the same.  The Company pays Bunge a percentage fee for ethanol sold by Bunge, subject to a minimum and maximum annual fee.  The initial term of the Ethanol Agreement expires on December 31, 2019, however it will automatically renew for one additional five-year term unless Bunge provides the Company with notice of election not to renew no later than 180 days prior to the expiration of the initial term. Bunge did not provide notice to the Company of an election not to renew within the 180-day non-renewal notice period and therefore, the term of the Ethanol Agreement will be automatically extended until December 31, 2024. The Company incurred ethanol marketing expenses of $0.4 million during both of the three months ended June 30, 2019 and 2018, and $1.1 million during both of the nine months ended June 30, 2019 and 2018, under the Ethanol Agreement.
Under the DG Purchase Agreement, Bunge purchases all distillers grains produced by the Company, and receives a fee based on the net sale price of distillers grains, subject to a minimum and maximum annual fee.  The initial term of the DG Purchase Agreement expires on December 31, 2019  and will automatically renew for one additional five year term unless Bunge provides the Company with notice of election not to renew no later than 180 days prior to the expiration of the initial term. Bunge did not provide notice to the Company of an election not to renew within the 180-day non-renewal notice period and therefore, the term of the DG Purchase Agreement will be automatically extended until December 31, 2024. The Company incurred distillers grains marketing expenses of $0.3 million during both of the three months ended June 30, 2019 and 2018, and $1.0 million and $0.9 million during the nine months ended June 30, 2019 and 2018, respectively.
The Company and Bunge entered into an Amended and Restated Grain Feedstock Agency Agreement on December 5, 2014 (the “ Agency Agreement ”).  The Agency Agreement provides that Bunge procure corn for the Company and that the Company pay Bunge a per bushel fee, subject to a minimum and maximum annual fee.  The initial term of the Agency Agreement expires on December 31, 2019 and will automatically renew for one additional five year term unless Bunge provides the Company with notice of election not to renew no later than 180 days prior to the expiration of the initial term. Bunge did not provide notice to the Company of an election not to renew within the 180-day non-renewal notice period and therefore, the term of the Agency Agreement will be automatically extended until December 31, 2024. Expenses for corn procurement by Bunge were $0.2 million during both of the three months ended June 30, 2019 and 2018, and $0.5 million during both of the nine months ended June 30, 2019 and 2018.
Starting with the 2015 crop year, the Company began using corn containing Syngenta Seeds, Inc.’s proprietary Enogen® technology (“ Enogen Corn ”) for a portion of its ethanol production needs.  The Company contracts directly with growers to produce Enogen Corn for sale to the Company.  The Company has contracted for 25,500 acres of Enogen corn for the fiscal year ending September 30, 2019 ("Fiscal 2019"). Concurrent with the Agency Agreement, the Company and Bunge entered into a Services Agreement regarding Enogen Corn purchases (the “ Services Agreement ”).  Under this Services Agreement, the Company originates all Enogen Corn contracts for its facility and Bunge assists the Company with certain administrative matters related to Enogen Corn, including facilitating delivery to the facility.  The Company pays Bunge a per bushel service fee.  The initial term of the Services Agreement expires on December 31, 2019 and will automatically renew for one additional five year term unless Bunge provides the Company with notice of election not to renew no later than 180 days prior to the expiration of the initial term. Bunge did not provide notice to the Company of an election not to renew within the 180-day non-renewal notice period and therefore, the term of the Services Agreement will be automatically extended until December 31, 2024. Expenses under the Services Agreement are included as part of the Amended and Restated Grain Feedstock Agency Agreement discussed above.

16



On June 26, 2009, the Company executed a Railcar Agreement with Bunge for the lease of 325 ethanol cars and 300 hopper cars which are used for the delivery and marketing of ethanol and distillers grains. In November 2016, the Company reduced the number of leased ethanol cars to 323. In both November 2013 and January 2015 the Company reduced the number of hopper cars by one for a total of 298 leased hopper cars.  Under the Railcar Agreement, the Company leases railcars for terms lasting 120 months and continuing on a month-to-month basis thereafter.  The Railcar Agreement will terminate upon the expiration of all railcar leases. On November 1, 2016, the agreement was amended to provide for 96 hopper cars to be side-leased back to Bunge. The Company subleased 40 hopper cars to an unrelated third party, which sublease expired March 25, 2019. In June 2018, one of the third party customers entered into an assignment agreement for their 52 hopper cars with the Company and Bunge which was phased in over the fourth quarter of Fiscal 2018, and was implemented during the first quarter of Fiscal 2019. The Company received an up front assignment/payment, and the net result will be financially neutral, and the number of side-leased railcars by the Company remains the same.
The Company entered into an amendment to the Railcar Agreement effective March 24, 2019 to provide for the lease of 323 ethanol cars and 111 hopper cars which will be used for the delivery and marketing of ethanol and distiller grains. Under the terms of the amended Railcar Agreement, the original DOT111 cars will be leased over a four year term running from March 24, 2019 to April 30, 2023, with the ability to start returning cars after January 1, 2023 to conform to the requirement for DOT117 cars with enhanced safety specifications which is scheduled to become effective May 2023. The 111 hopper cars will be leased over a three year term running from March 24, 2019 to March 31, 2022 and continuing on a month-to-month basis thereafter. The Company's lease of the hopper cars will terminated upon the expiration of all such hopper cars. The amendments to the Railcar Agreement lowered the cost for the leases by approximately 25% as compared to the prior lease terms. The ethanol cars and hopper cars repairs and maintenance revision expenses flowed through the financial statements for Fiscal 2009 to the end of the second quarter of Fiscal 2019 should be adequate to cover normal wear and tear expenses, but the Company will monitor to determine if any revisions to the cost estimates are in order. Expenses under the Railcar Agreements were $0.8 million for the three months ended June 30, 2019 and $1.0 million for the three months ended June 30, 2018, net of subleases and accretion. Expenses for the nine months ended June 30, 2019 and 2018, were $2.7 million and $2.9 million, respectively, for railcar lease expenses.
ICM    

In connection with the payoff of the ICM subordinated debt, the Company entered into the SIRE ICM Unit Agreement dated December 17, 2014 (the “ Unit Agreement ”).  Under the Unit Agreement, the Company granted ICM the right to sell to the Company its 1,000 Series C and 18 Series A Membership Units (the “ ICM Units ”) commencing anytime during the earliest of  several alternative dates and events at the greater of $10,897 per unit or the fair market value (as defined in the agreement) on the date of exercise. ICM’s right to sell the ICM Units to the Company expires on January 1, 2020. The put option liability was reclassified to accrued expenses - related party as the option will be exercised within a year.


Note 7: Major Customer
The Company is party to the Ethanol and Distillers Grain Purchase Agreements with Bunge for the exclusive marketing, selling, and distributing of all the ethanol, distillers grains, and syrup produced by the Company. Revenues from Bunge were $50.8 million and $51.2 million for the three months ended June 30, 2019 and 2018, respectively, and $151.2 million and $150.3 million for the nine months ended June 30, 2019 and 2018, respectively.


17



Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operation.
General
The following management discussion and analysis provides information which management believes is relevant to an assessment and understanding of our financial condition and results of operations. This discussion should be read in conjunction with the financial statements included herewith and notes to the financial statements and our Annual Report on Form 10-K for the year ended September 30, 2018 including the financial statements, accompanying notes and the risk factors contained herein.

CAUTIONARY STATEMENTS REGARDING FORWARD-LOOKING STATEMENTS
 
This quarterly report on Form 10-Q of Southwest Iowa Renewable Energy, LLC (the "Company," "SIRE," "we," or "us") contains historical information, as well as forward-looking statements that involve known and unknown risks and relate to future events, our future financial performance, or our expected future operations and actions.  In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “future,” “intend,” “could,” “hope,”  “predict,” “target,” “potential,” or “continue” or the negative of these terms or other similar expressions.  These forward-looking statements are only our predictions based on current information and involve numerous assumptions, risks and uncertainties.  Our actual results or actions may differ materially from these forward-looking statements for many reasons, including the reasons described in this report.  While it is impossible to identify all such factors, factors that could cause actual results to differ materially from those estimated by us include, without limitation:
Changes in the availability and price of corn, natural gas, and steam;
Negative impacts resulting from reductions in, or other modifications to, the renewable fuel volume requirements under the Renewable Fuel Standard issued by the Environmental Protection Agency;
Our inability to comply with our credit agreements required to continue our operations;
Negative impacts that our hedging activities may have on our operations;
Decreases in the market prices of ethanol, distillers grains;
Ethanol supply exceeding demand and corresponding ethanol price reductions;
Changes in the environmental regulations that apply to our plant operations;
Changes in plant production capacity or technical difficulties in operating the plant;
Changes in general economic conditions or the occurrence of certain events causing an economic impact in the agriculture, oil or automobile industries;
Changes in other federal or state laws and regulations relating to the production and use of ethanol;
Changes and advances in ethanol production technology;
Competition from larger producers as well as competition from alternative fuel additives;
Changes in interest rates and lending conditions of our loan covenants;
Volatile commodity and financial markets;
Decreases in export demand due to the imposition of duties and tariffs by foreign governments on ethanol and distiller grains produced in the United States;
Disruptions, failures or security breaches relating to our information technology infrastructure; and
Trade actions by the Trump Administration, particularly those affecting the biofuels and agricultural sectors and related industries.
 
These forward-looking statements are based on management’s estimates, projections and assumptions as of the date hereof and include various assumptions that underlie such statements.  Any expectations based on these forward-looking statements are subject to risks and uncertainties and other important factors, including those discussed in the management discussion and analysis, in our Annual Report on Form 10-K for the fiscal year ended September 30, 2018 ("Fiscal 2018") under the section entitled “Risk Factors” and in our other prior Securities and Exchange Commission filings. These and many other factors could affect our future financial condition and operating results and could cause actual results to differ materially from expectations set forth in the forward-looking statements made in this document or elsewhere by Company or on its behalf.  We undertake no obligation to revise or update any forward-looking statements.  The forward-looking statements contained in this quarterly report on Form 10-Q are included in the safe harbor protection provided by Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended.

18



Overview
The Company is an Iowa limited liability company, located in Council Bluffs, Iowa, formed in March, 2005. The Company is permitted to produce 140 million gallons of ethanol annually.  We began producing ethanol in February, 2009 and sell our ethanol, distillers grains, corn oil and corn syrup in the continental United States, Mexico, and the Pacific Rim.

Executive Overview of Ethanol Industry    
The ethanol industry is experiencing the lowest margin environment seen in the past nine to ten years principally due to the fact that the supply of ethanol is outstripping demand and markets are reacting accordingly by disincentivizing production. Adding to the supply/demand imbalance is the stance taken by the former administrator of the Environmental Protection Agency (the "EPA") , Scott Pruitt, with regard to the issuance of “hardship waivers” to so-called small refineries. These waivers allowed the recipient to no longer comply with the requirements of the Renewable Fuel Standard (the "RFS") which is discussed further below. The mechanism that provides accountability in RFS compliance is the Renewable Identification Number (RIN). RIN’s are a tradeable commodity given that if refiners (obligated parties) need additional RIN’s to be compliant, they have to purchase them from those that have excess. Thus, there is an economic incentive to use renewable fuels like ethanol, or in the alternative, buy RIN’s. The EPA’s allowance of numerous waivers has driven the price for RIN’s from 75 cents in January 2018 to 12 cents on May 20, 2019.
Domestic ethanol use is around 14 billion gallons per year. The industry currently has capacity to produce over 16 billion gallons. Exports play a critical role in keeping the United States from being awash in production. Worldwide exports from the U.S. increased almost 24% between calendar years 2017 and 2018. But in the first four months of 2019, the last available month of data from the U.S. Energy Information Administration ("EIA") on ethanol for exports, export volume is down 22.7% compared to the first four months of 2018. This decrease is primarily due to the reduction of exports to Brazil, the largest customer of U.S. ethanol, by over 24%. Despite the reduction in exports to Brazil, Brazil remains one of the three largest customers for U.S. ethanol exports together with Canada and India. Exports to these three countries have accounted for almost 65% of all U.S. ethanol exports in 2019. The top 5 countries accounted for 76% and 72% of U.S. ethanol exports from October through April 2019 and 2018, respectively. In 2019, exports to India, South Korea and the Philippines have increased more than 60% from October 2018 to April 2019. International trade disputes with China and the imposition of tariffs have resulted in no exports to China in the past six months.
On March 12, 2019, the EPA proposed regulatory changes to allow gasoline blended with up to 15 percent ethanol (E15) to utilize the One-Pound Waiver under the Clean Air Act which allows for the sale of E15 during the summer months. At the end of May 2019, the EPA finalized the rule extending the One-Pound Waiver to E15 so its sale can expand beyond flex-fuel vehicles during the June 1 to September 14 summer driving season. This rule is being challenged in an action filed in Federal District Court for the DC Circuit; however, the One-Pound Waiver is in effect, and E15 is able to be sold during the summer driving season.
On March 14, 2019, EPA Administrator Wheeler approved five additional small refinery waivers. It is not known if the EPA will reallocate these exemptions to , or allow these to be effective reductions to the RFS targets as had been recently done by former EPA Administrator Pruitt. On June 11, 2019, twelve U.S. Senators from the Midwest sent Administrator Wheeler a letter requesting him to cease issuing RIN waivers under the hardship rule. On that same day, President Trump visited our ethanol plant.People he met with and speakers at the event voiced their displeasure with the RIN waivers. According to Reuters, President Trump has directed members of his Cabinet to review the EPA's use of waivers exempting small refineries from the nations biofuel policy.
In order to drive positive results in a negative margin environment, we need to continue to improve on our operational efficiencies. Therefore, our management team and Board of Directors has approved several projects to enhance our plant's operational efficiencies and we are in the process of implementing these projects. We continue to evaluate opportunities to add value to our production process by diversifying into high protein feed along with measures to reduce the carbon index ("CI") of the ethanol we produce. Two technology providers were engaged to generate engineering reports that outlined the cost/benefit of their respective processes. The initial reports were received by management staff and presented to our Board.
In addition, we are also continuing with our efforts to de-bottleneck the production process. We are currently working on the installation of a dehydration membrane technology that is expected to allow for a more efficient increase in dehydration capability and slight reduction in our CI score. We expect this new technology to be fully implemented in the fourth quarter of Fiscal 2019.

Recent Regulatory Developments

Renewable Fuel Standard


19



The ethanol industry receives support through the Federal Renewable Fuels Standard (the “RFS”) which has been, and will continue to be, a driving factor in the growth of ethanol usage. The RFS requires that each year a certain amount of renewable fuels must be used in the United States. The RFS is a national program that allows refiners to use renewable fuel blends in those areas of the country where it is most cost-effective.   The U.S. Environmental Protection Agency (the “EPA”) is responsible for revising and implementing regulations to ensure that transportation fuel sold in the United States contains a minimum volume of renewable fuel.

The RFS original volume requirements increased incrementally each year through 2022 when the mandate requires that the United States use 36 billion gallons of renewable fuels.  Starting in 2009, the RFS required that a portion of the RFS must be met by certain “advanced” renewable fuels. These advanced renewable fuels include ethanol that is not made from corn, such as cellulosic ethanol and biomass based biodiesel. The use of these advanced renewable fuels increases each year as a percentage of the total renewable fuels required to be used in the United States.

Annually, the EPA is supposed to pass a rule that establishes the number of gallons of different types of renewable fuels that must be used in the United States which is called the renewable volume obligation. On November 30, 2018, the EPA issued the final rule that set the 2019 annual volume requirements for renewable fuel at 19.92 billion gallons of renewable fuels per year (the "Final 2019 Rule"). On July 5, 2019, the EPA issued a proposed rule for 2020 which set the annual volume requirements renewable fuel at 19.92 billion gallons of renewable fuel (the "Proposed 2020 Rule"). Both the Final 2019 Rule and the Proposed 2020 Rule maintained the number of gallons that may be met by conventional renewable fuels such as corn based ethanol at 15.0 billion gallons. Although the volume requirements set forth in the Final 2019 Rule are slightly higher than the final 2018 volume requirements (the "Final 2018 Rule") and the Proposed 2020 Rule volume requirements are slightly higher than those set forth in the Final 2019 Rule, the volume requirements under the Final 2018 Rule, the Final 2019 Rule and the Proposed 2020 Rule are all still significantly below the 26 billion gallons, 28 billion gallons, and 30 billion gallons, respectively, statutory mandates , with significant reductions in the volume requirements for advanced biofuels as well.

Under the RFS, if mandatory renewable fuel volumes are reduced by at least 20% for two consecutive years, the EPA is required to modify, or reset, statutory volumes through 2022. The Final 2018 Rule represented the first year the total proposed volume requirements were more than 20% below statutory levels. In response, the EPA Administrator directed his staff to initiate the required technical analysis to perform any future reset consistent with the reset rules. The Final 2019 Rule is approximately 29% below the statutory levels representing the second consecutive year of reductions of more than 20% below the statutory mandates and therefore, triggering the mandatory reset under the RFS. The EPA is now statutorily required to modify the statutory volumes through 2022 within one year of the trigger event, based on the same factors used to set the volume requirements post-2022. These factors include environmental impact, domestic energy security, expected production, infrastructure impact, consumer costs, job creation, price of agricultural commodities, food prices, and rural economic development.

In October 2018, the Trump administration released timelines for certain EPA rulemaking initiatives relating to the RFS including the “reset” of the statutory blending targets. The EPA is expected to propose rules modifying the applicable volume targets for cellulosic biofuel, advanced biofuel, and total renewable fuel for the years 2020-2022. The proposed rules are also expected to include proposed diesel renewable volume obligations for 2021 and 2022. The timetable for the consideration of the proposed rule is expected to overlap with the annual standard-setting rulemaking, therefore, it is expected that the proposed rule will also include the applicable renewable volume obligations for 2020. The rule is expected to be finalized by December 2019.

Federal mandates supporting the use of renewable fuels like the RFS are a significant driver of ethanol demand in the U.S. Ethanol policies are influenced by environmental concerns, diversifying our fuel supply, and an interest in reducing the country’s dependence on foreign oil. Consumer acceptance of flex-fuel vehicles and higher ethanol blends of ethanol in non-flex-fuel vehicles may be necessary before ethanol can achieve significant growth in U.S. market share. Another important factor is a waiver in the Clean Air Act, known as the "One-Pound Waiver", which allows E10 to be sold year-round, even though it exceeds the RVP limitation of nine pounds per square inch. At the end of May 2019, the EPA finalized a rule which extended the One-Pound Waiver to E15 so its sale can expand beyond flex-fuel vehicles during the June 1 to September 15 summer driving season. This rule is being challenged in court; however, the One-Pound Waiver is in effect, and E15 is being sold during the summer driving season.

Despite the recent actions by the Trump administration relating to E15, there continues to be uncertainty regarding the future of the RFS as a result of the significant number of small refinery waivers granted.  Under the RFS, the EPA assigns individual refiners, blenders, and importers the volume of renewable fuels they are obligated to use based on their percentage of total domestic transportation fuel sales. Obligated parties use RINs to show compliance with RFS-mandated volumes. RINs are attached to renewable fuels by ethanol producers and detached when the renewable fuel is blended with transportation fuel or traded in the open market. The market price of detached RINs affects the price of ethanol in certain markets and influences the purchasing decisions by obligated parties.

20




Although the Final 2018 Rule, the Final 2019 Rule and the Proposed 2020 Rule all maintain the number of gallons which may be met by conventional renewable fuels such as corn-based ethanol at 15.0 billion gallons this number does not take into account waivers granted by the EPA to small refiners for "hardship." The EPA can, in consultation with the Department of Energy, waive the obligation for individual smaller refineries that are suffering “disproportionate economic hardship” due to compliance with the RFS. To qualify, for this “small refinery waiver,” the refineries must be under total throughput of 75,000 barrels per day and state their case for an exemption in an application to the EPA each year. As of July 2019, the EPA has approved 54 exemptions for compliance years 2016 and 2017 totaling 800 million gallons for 2016 and 1.82 billion gallons for 2017. This effectively reduces the annual renewable volume obligation for each year by that amount as the waivers exempt the obligating parties from meeting the RFS blending targets and the waived gallons are not reallocated to other obligated parties at this time. The resulting surplus of RINs in the market has brought values down significantly. Since the RIN value helps to make higher blends of ethanol more cost effective, lower RIN values could negatively impact retailer and consumer adoption of E15 and higher blends. As of July 2019, there are 38 waiver applications pending for compliance year 2018. Although the EPA had previously announced that is was suspending the waiver program pending review in 2019, the industry has not seen any evidence to support this position and in fact, on March 14, 2019, Administrator Wheeler granted five additional small refinery waivers for 2018. The EPA has not denied a single exemption request since 2015 and the EPA did not address reallocating lost blending volumes, nor mention the impact of the "hardship" waivers on the volume requirements set out in the Final 2019 Rule or the Proposed 2020 Rule.

The resulting surplus of RINs in the market has brought values down significantly to under $0.20. Since higher RIN values help to make higher blends of ethanol more cost competitive, lower RIN values could hinder or at least slow retailer and consumer adoption of E15 and higher blends. If the EPA continues to grant discretionary waivers and RIN prices continue to fall, it could negatively affect ethanol prices.

Biofuels groups have filed a lawsuit in the U.S. Federal District Court for the D.C. Circuit, challenging the Final 2019 Rule over the EPA’s failure to address small refinery exemptions in the rulemaking. This is the first RFS rulemaking since the expanded use of the exemptions came to light, however the EPA has refused to cap the number of waivers it grants or how it accounts for the retroactive waivers in its percentage standard calculations. The EPA has a statutory mandate to ensure the volume requirements are met, which are achieved by setting the percentage standards for obligated parties. The EPA's current approach runs counter to this statutory mandate and undermines Congressional intent. Biofuels groups argue the EPA must therefore adjust its percentage standard calculations to make up for past retroactive waivers and adjust the standards to account for any waivers it reasonably expects to grant in the future.

If the EPA’s decisions to reduce the volume requirements under the RFS statutory mandates are allowed to stand, if the volume requirements are further reduced or if the EPA continues to grant waivers to small refineries, the market price and demand for ethanol would be adversely effective which would negatively impact our financial performance.

On May 18, 2018, the Advanced Biofuel Association initiated a legal challenge to the EPA’s process for granting exemptions from compliance under the RFS to small refineries. In its petition, the Advanced Biofuel Association seeks judicial review of the EPA’s decision to modify criteria to lower the threshold by which the agency determines whether to grant small refineries an exemption for the RFS for reasons of disproportionate economic hardship.

Additionally, on May 29, 2018, the National Corn Growers Association, National Farmers Union, and the Renewable Fuels Association filed a petition challenging the EPA’s grant of waivers to three specific refineries seeking that the court reject the waivers granted to the three as an abuse of EPA authority.  These waived gallons are not redistributed to obligated parties, and in effect, reduce the aggregate Renewable Volume Obligations ("RVOs") under the RFS. If the specific waivers granted by the EPA and/or its lower criteria for granting small refinery waivers under the RFS are allowed to stand, or if the volume requirements are further reduced, it could have an adverse effect on the market price and demand for ethanol which would negatively impact our financial performance.

Related to the recent lawsuits, the Renewable Fuels Association, American Coalition for Ethanol, Growth Energy, National Biodiesel Board, National Corn Growers Association, Biotechnology Industry Organization, and National Farmers Union petitioned the EPA on June 4, 2018 to change its regulations to account for lost volumes of renewable fuel resulting from the retroactive small refinery exemptions. This petition to the EPA seeks a broader, forward-looking remedy to account for the collective lost volumes caused by the recent increase in retroactive small refinery RVO exemptions. It is unclear what regulatory changes, if any, will emerge from the petition to the EPA.

In 2017, the D.C. Circuit ruled in favor of biofuel groups against the EPA related to its decision to lower the 2016 volume requirements by 500 million gallons. As a result, the court remanded to the EPA to make up for the 500 million gallons. Despite

21



this, during the 2019 volume requirement rulemaking, the EPA stated it does not intend to make up the 500 million gallons as the court directed, citing potential burden on obligated parties. It is anticipated litigation will ensue from this matter.

On February 4, 2019, Growth Energy filed a lawsuit in the Court of Appeals for the District of Columbia against the EPA challenging the EPA’s failure to address small refinery exemptions in the Final 2019 Rule.

Although the maintenance of the 15 billion gallon threshold for volume requirements that may be met with corn-based ethanol in the Final 2018 Rule, the Final 2019 Rule and the Proposed 2020 Rule together with the application of the One-Pound Waiver to E15 permitting the year round sale of E15 signals support from the EPA and the Trump administration for domestic ethanol production, the Trump administration could still elect to materially modify, repeal or otherwise invalidate the RFS and it is unclear what regulatory framework and renewable volume requirements, if any, will emerge as a result of any such reforms; however, any such reform could adversely affect the demand and price for ethanol and the Company's profitability.

Industry Factors Affecting our Results of Operations
Ethanol prices decreased 2.2% during the three months ended June 30, 2019 as compared to the same period in the previous fiscal year. In addition, there was a slight decrease of 0.8% in ethanol shipments during the three months ended June 30, 2019 as compared to the prior year. Ethanol prices decreased 5.5% for the nine months ended June 30, 2019 as compared the nine months ended June 30, 2018. Somewhat offsetting the price reduction was a 1.4% increase in the ethanol shipments during the corresponding nine month period.
Management currently believes that despite ethanol price changes, the ethanol outlook for the fourth quarter of our fiscal year ending September 30, 2019 ("Fiscal 2019") as well as the outlook for certain of our co-products will remain flat due to the following factors:
The latest estimates of supply and demand provided by the U.S. Department of Agriculture (the "USDA") increased the estimate for 2018/19 ending corn stocks to 2.2 billion bushels from 1.8 billion bushels. For 2018/19, the USDA lowered corn consumption for ethanol and co-products to 5.5 billion bushels and lowered their forecast for the corn supply to 14.4 billion bushels. The USDA lowered corn price estimates for Fiscal 2019 and lowered the yield per acre and production numbers from those set forth in the October 2018 report.
The EIA released in its Short Term Energy Outlook report in July 2019, and indicated that U.S. gasoline demand is expected to remain flat at 9.3 million bpd; however, the EIA forecasts that gasoline demand will increase in 2020 and if such increase is realized, will set a new record for gasoline consumption. The EIA's July 2019 report also forecasts that retail gasoline prices are forecast to decline by 3.0% compared with 2018 levels which supports the EIA forecast for increased gasoline. Any increase in gasoline demand could have a positive impact on ethanol demand. The EIA July 2019 report also forecasts that gasoline prices are expected to increase 4.2% in 2020; however, the EIA forecasts that despite the higher price, gasoline demand in 2020 will increase.
Global ethanol demand as reported by the EIA decreased in the last 6 months from 2018 record levels for exports to various foreign markets, in spite of higher blending mandates and octane demand within the foreign countries. Worldwide exports from the U.S. decreased 7.6% between November 2018 and April 2019, the last available month information was published. Brazil, Canada and India remain the three largest customers, and accounted for almost 65% of all U.S. ethanol exports from November 2018 to April 2019. The top 5 countries accounted for 76% for this time period. Despite the imposition of a 20% tariff on U.S. ethanol imports above a specified quota back in September of 2017, Brazil has remained as our largest exporter due to inter-harvest sugar shortages, although shipments have decreased almost 25% as compare to the comparable period last year.

We currently believe that our margins will remain tight in light of mixed signals on support for the RFS and waivers of refiner RVOs by the EPA. Escalation in the price for crude oil and unleaded gasoline could have a negative impact on the demand for gasoline and impact the market price of ethanol, which could adversely impact our profitability during the balance of Fiscal 2019. This negative impact could worsen in the event that domestic ethanol inventories remain high, or if U.S. exports of ethanol remain low or decline further. Unless additional demand can be found in foreign or domestic markets, a continued level of current ethanol stocks or any increase in domestic ethanol supply could further adversely impact the price of ethanol. The risk of an escalating trade war with foreign countries is a great threat to the U.S. agriculture economy in the short term.
Our distiller grain margins have been impacted positively in the short term due to plant shutdowns and plant slowdowns by local competitors which resulted in increased demand for our dried distiller grains ("DDG") and wet distiller grains ("WDG"). We have experienced a price increased of 19.0% for the nine months ended June 30, 2019, as compared to the nine months ended

22



June 30, 2018, on only a 4.5% increase of tons sold for those same periods. In the three months ended June 30, 2019, as compared to the three months ended June 30, 2018, we saw a price increase of 4.8% and a volume increase of 4.1% for a 9.1% increase in revenue for this category. In 2018, an estimated 31% of U.S. DDG production was exported, and 2018 was the second highest export year on record for DDG. U.S. exports of DDG to China, at onetime our largest market, continues to be impacted since 2016 by countervailing against U.S. product. These duties have adversely imported export volume to China, as they were ranked 17th in export volume in 2018. We cannot forecast how much demand from China will come back into the marketplace, or if additional demand can be created from other foreign markets or domestically. Domestic demand for distiller grains could also remain low if corn prices decline and end-users switch to lower priced alternatives.


Results of Operations
The following table shows our results of operations, revised per SAB No. 108 as discussed previously in Note 2, stated as a percentage of revenue for the three months ended June 30, 2019 and 2018.
 
Three Months Ended June 30, 2019
 
Three Months Ended June 30, 2018
 
Amounts
 
% of Revenues
 
Amounts
 
% of Revenues
 
in 000's
 
 
 
in 000's
 
 
Income Statement Data
 
 
 
 
 
 
 
Revenues
$
53,505

 
100.0
 %
 
$
53,611

 
100.0
 %
Cost of Goods Sold
 
 
 
 
 
 
 
Material Costs
38,201

 
71.4
 %
 
38,121

 
71.1
 %
Variable Production Expense
7,305

 
13.7
 %
 
7,748

 
14.5
 %
Fixed Production Expense
7,397

 
13.8
 %
 
9,007

 
16.8
 %
Gross Profit (Loss)
602

 
1.1
 %
 
(1,265
)
 
(2.4
)%
General and Administrative Expenses
1,061

 
2.0
 %
 
1,809

 
3.4
 %
Interest and other expense, net
292

 
0.5
 %
 
265

 
0.4
 %
Net (Loss)
$
(751
)
 
(1.4
)%
 
$
(3,339
)
 
(6.2
)%


The following table shows our results of operations, stated as a percentage of revenue for the nine months ended June 30, 2019 and 2018.

23



 
Nine Months Ended June 30, 2019
 
Nine Months Ended June 30, 2018
 
Amounts
 
% of Revenues
 
Amounts
 
% of Revenues
 
in 000's
 
 
 
in 000's
 
 
Income Statement Data
 
 
 
 
 
 
 
Revenues
$
160,077

 
100.0
 %
 
$
157,708

 
100.0
 %
Cost of Goods Sold
 
 
 
 
 
 
 
Material Costs
116,347

 
72.7
 %
 
109,172

 
69.2
 %
Variable Production Expense
23,685

 
14.8
 %
 
23,746

 
15.1
 %
Fixed Production Expense
19,410

 
12.1
 %
 
23,178

 
14.7
 %
Gross Profit
635

 
0.4
 %
 
1,612

 
1.0
 %
General and Administrative Expenses
3,737

 
2.4
 %
 
4,243

 
2.7
 %
Interest and other expense, net
676

 
0.4
 %
 
549

 
0.3
 %
Net (Loss)
$
(3,778
)
 
(2.4
)%
 
$
(3,180
)
 
(2.0
)%
    

Revenues

Our revenue from operations is derived from three primary sources: sales of ethanol, distillers grains, and corn oil.  The chart below displays statistical information regarding our revenues. During the three months ended June 30, 2019, the average price per gallon of ethanol decreased by 2.2% as compared to the same period in 2018, coupled with a 0.8% decrease in gallons of ethanol sold. The net effect was an 3.0% decrease in ethanol revenue for the three months ended June 30, 2019. The decrease in ethanol prices resulted principally from industry production fluctuating in order to align production with ethanol demand due to EPA granting of waivers for small producers resulting in higher inventories, which continued to drive ethanol prices lower. During the nine months ended June 30, 2019, the average price per gallon of ethanol decreased 5.5% as compared to the first nine months ended June 30, 2018 , but the price decrease was partially offset by an increase of 1.4% in the volume of gallons sold. The net effect was a 4.2% reduction in ethanol revenue. Domestic ethanol production grew to meet record exports to countries other than China in late 2018, but domestic demand has stopped growing as a result of the significant number of small refinery waivers granted by the EPA. During the first few month of 2019, ethanol exports to foreign counties has been reduced, especially to Brazil, which when combined with the small refinery waivers, has led to a significant oversupply of domestic ethanol inventories and has had an adverse impact on ethanol demand and ethanol prices.

An increase in the average price per ton of distillers grains of approximately 4.8% coupled with a 4.1% increase in volume sold resulted in an increase of 9.1% in revenue for this category in the three months ended June 30, 2019 as compared to the same three month period in 2018. Distillers grain revenue increased as some ethanol plants recently started to slow down ethanol production, and correspondingly distiller grain production, and also distiller grain exports showed continued strong demand from Southeast Asia. For the nine months ended June 30, 2019, the average price per ton for distillers grains increased 19.0% compared to the corresponding period in 2018, and volume increased 4.5% for tons of distiller grains sold. Overall, revenue increased 24.4% for distiller grains in the nine months ended June 30, 2019 compared to the nine months ended June 30, 2018. Last year's revenue for distillers grain was also lower due to decreased demand from China exports resulting from the antidumping and countervailing duties imposed on distillers grains produced in the United States that China had implemented in 2017.

Corn oil revenue increased 19.9% in the three months ended June 30, 2019 compared to the three months ended June 30, 2018 with higher volume of 117.5% offset by corn oil prices that were almost 50% per pound less when compared to the same period in the prior year. For the nine months ended June 30, 2019 as compared to the nine months ended June 30, 2018, corn oil revenue increased increased 22.7% as higher volume of 129.4% was coupled with a similar price reduction exceeding 50%. Our market for corn oil is primarily local middlemen that compete for our available supply.

24





    


Three Months Ended June 30, 2019

Three Months Ended June 30, 2018
 
Amounts in 000's

% of Revenues

Amounts in 000's

% of Revenues
Product Revenue Information
 

 

 

 
Denatured and Undenatured Ethanol
$
40,857


76.4
%

$
42,124


78.6
%
Distillers Grains
9,840


18.4
%

9,017


16.8
%
Corn Oil
2,529


4.7
%

2,109


3.9
%
Other
279


0.5
%

361


0.7
%

 
Nine Months Ended June 30, 2019
 
Nine Months Ended June 30, 2018
 
Amounts in 000's
 
% of Revenues
 
Amounts in 000's
 
% of Revenues
Product Revenue Information
 
 
 
 
 
 
 
Denatured and Undenatured Ethanol
$
119,649

 
74.8
%
 
$
124,863

 
79.2
%
Distillers Grains
31,254

 
19.5
%
 
25,130

 
15.9
%
Corn Oil
8,372

 
5.2
%
 
6,822

 
4.3
%
Other
802

 
0.5
%
 
893

 
0.6
%
 



Cost of Goods Sold
 
Our cost of goods sold as a percentage of our revenues was 98.9% and 102.4% for the three months ended June 30, 2019 and 2018, respectively.  Our two primary costs of producing ethanol and distillers grains are corn and energy, with steam and natural gas as our primary energy sources.   Cost of goods sold also includes net (gains) or losses from derivatives and hedging relating to corn.   The average price of corn used in ethanol production per bushel increased 0.3% in the three months ended June 30, 2019 compared to the three months ended June 30, 2018. Corn used in ethanol sold increased by 1.9% in the three months ended June 30, 2019 from 2018 on an increase of 1.7% in ethanol production. For the nine months ended June 30, 2019 and 2018, respectively, our cost of good sold as a percentage of our revenues was 99.6% and 99.0%. The average price of corn used in ethanol production per bushel increased 5.9% compared to the nine months ended June 30, 2018, while the corn used in ethanol production increased 3.9% for the nine months ended June 30, 2019 from 2018 on a total production increase of 3.3%.
Realized and unrealized gains (losses) related to our derivatives and hedging related to corn resulted in a $1.4 million decrease to our cost of goods sold for the three months ended June 30, 2019, compared to a decrease of $0.5 million for the three months ended June 30, 2018. For the nine months ended June 30, 2019, our realized and unrealized gains (losses) related to our derivatives and hedging for corn resulted in a $3.2 million decrease to our cost of goods sold compared to a decrease of $0.8 million for the nine months ended June 30, 2018. We recognize the gains or losses that result from the changes in the value of our derivative instruments related to corn in cost of goods sold as the changes occur.  As corn prices fluctuate, the value of our derivative instruments are impacted, which affects our financial performance.  We anticipate continued volatility in our cost of goods sold due to the timing of the changes in value of the derivative instruments relative to the cost and use of the commodity being hedged.
Variable production expenses decreased 5.7% when comparing the three months ended June 30, 2019 to the three months ended June 30, 2018 due to a reduction in chemical costs. For the nine months ended June 30, 2019 compared to the nine months

25



ended June 30, 2018, variable production expenses decreased 0.3%, as higher energy costs of 6.7% were offset by lower chemical costs of 8.3%.
Fixed production expenses decreased 17.9% for the three months ended June 30, 2019 compared to the three months ended June 30, 2018. Lower repair and maintenance costs and equipment rental during the annual shutdown was the primary reason for the decreased expense in this category. For the nine months ended June 30, 2019 compared to the same time period for 2018, lower repair and maintenance costs along with lower depreciation costs, as in 2018 ten year assets became fully depreciated,were the primary reasons for the 16.3% reduction to this category.
General & Administrative Expense
 
General and administrative expenses include salaries and benefits of administrative employees, professional fees and other general administrative costs.  Our general and administrative expenses for the three months ended June 30, 2019 decreased 41.3% compared to the three months ended June 30, 2018, primarily due to one time charge in 2018 of $0.5 million for a loss on fixed assets, as well as lower accounting, consulting and legal fees and decreased bonus expenses. For the nine months ended June 30, 2019 compared to the same time period for 2018 , administrative expenses decreased 11.9%, primarily due to the loss on fixed assets for $0.5 million noted above and the timing of corporate obligations and the Chief Executive Officer ("CEO") search and associated bonus and moving expenses incurred in connection with the replacement of the retiring CEO in the first quarter of Fiscal 2019.
Other Expense

Our other expenses were $0.3 million during both of the three months ended June 30, 2019 and 2018.. Even though the Company has borrowed more on our revolver bank account in 2019 compared to 2018, we have been able to keep interest expenses relatively flat. For the nine months ended June 30, 2019 compared to the same time period in 2018, other expenses were $0.7 million and 0.5 million, respectively. The receipt of patronage dividends in 2018 was the primary difference.
Change in fair value of put option liability

There was no change in the fair value of the put option liability with ICM during the nine months ended June 30, 2019. This is a non-cash charge, and is re-evaluated every quarter for significant changes in value.
Selected Financial Data
Modified EBITDA is defined as net income plus interest expense net of interest income, plus depreciation and amortization, or EBITDA, as adjusted for unrealized hedging (gains) losses.  Modified EBITDA is not required by or presented in accordance with generally accepted accounting principles in the United States of America ("GAAP"), and should not be considered as an alternative to net income, operating income or any other performance measure derived in accordance with GAAP, or as an alternative to cash flow from operating activities or as a measure of our liquidity.

We present modified EBITDA because we consider it to be an important supplemental measure of our operating performance and it is considered by our management and Board of Directors as an important operating metric in their assessment of our performance.
We believe modified EBITDA allows us to better compare our current operating results with corresponding historical periods and with the operational performance of other companies in our industry because it does not give effect to potential differences caused by variations in capital structures (affecting relative interest expense, including the impact of write-offs of deferred financing costs when companies refinance their indebtedness), the amortization of intangibles (affecting relative amortization expense), unrealized hedging (gains) losses and other items that are unrelated to underlying operating performance.  We also present modified EBITDA because we believe it is frequently used by securities analysts and investors as a measure of performance.   There are a number of material limitations to the use of modified EBITDA as an analytical tool, including the following:

Modified EBITDA does not reflect our interest expense or the cash requirements to pay our principal and interest.  Because we have borrowed money to finance our operations, interest expense is a necessary element of our costs and our ability to generate profits and cash flows.  Therefore, any measure that excludes interest expense may have limitations.
Although depreciation and amortization are non-cash expenses in the period recorded, the assets being depreciated and amortized may have to be replaced in the future, and modified EBITDA does not reflect the cash requirements for such replacement.   Because we use capital assets, depreciation and amortization expense is a necessary element of our costs

26



and ability to generate profits.  Therefore, any measure that excludes depreciation and amortization expense may have limitations.
 
We compensate for these limitations by relying heavily on our GAAP financial measures and by using modified EBITDA as supplemental information.  We believe that consideration of modified EBITDA, together with a careful review of our GAAP financial measures, is the most informed method of analyzing our operations.  Because modified EBITDA is not a measurement determined in accordance with GAAP and is susceptible to varying calculations, modified EBITDA, as presented, may not be comparable to other similarly titled measures of other companies.  The following table provides a reconciliation of modified EBITDA to net income (loss) (in thousands except per unit data):
 
 
Three months ended
 
Three months ended
 
Nine months ended
 
Nine months ended
 
June 30, 2019
 
June 30, 2018
 
June 30, 2019
 
June 30, 2018
 
 
 
 
 
 
 
 
EBITDA
 
 
 
 
 
 
 
Net (Loss)
$
(751
)
 
$
(3,339
)
 
$
(3,778
)
 
$
(3,180
)
Interest Expense
298

 
299

 
750

 
771

Depreciation
2,537

 
2,535

 
7,670

 
8,753

EBITDA
2,084

 
(505
)
 
4,642

 
6,344


 
 
 
 
 
 
 
Unrealized Hedging (Gain) Loss
(2,065
)
 
653

 
(3,055
)
 
(235
)
 
 
 
 
 
 
 
 
Modified EBITDA
$
19

 
$
148

 
$
1,587

 
$
6,109


 
 
 
 
 
 
 



Liquidity and Capital Resources
The Company has certain loan agreements with FCSA and CoBank (the "FCSA Credit Facility"). The FCSA Credit Facility provides the Company with a term loan of $30 million, due in 2019, and a revolving term loan of $36 million, due in 2023. The interest rate on the FCSA Credit Facility is LIBOR plus 3.35%.
As of June 30, 2019, we had a cash balance of $1.1 million, $10.9 million available under the Revolving Term Loan and working capital of $14.6 million.

During the fourth quarter of Fiscal 2019, we estimate that we will require cash of approximately $52.5 million for our primary input of corn and $4.8 million for our energy sources of electricity, steam, and natural gas.
Management expects to have sufficient cash available to fund operations for the next twelve months generated by cash from our continuing operations and available cash under our Revolving Term Loan. We cannot estimate the availability of funds for hedging in the future.


Commodity Price Risk 
Our operations are highly dependent on commodity prices, especially prices for corn, ethanol and distillers grains and the spread between them (the "crush margin"). As a result of price volatility for these commodities, our operating results may fluctuate substantially. The price and availability of corn are subject to significant fluctuations depending upon a number of factors that affect commodity prices in general, including crop conditions, weather, governmental programs and foreign purchases. We may experience increasing costs for corn and natural gas and decreasing prices for ethanol and distillers grains which could significantly impact our operating results. Because the market price of ethanol is not directly related to corn prices, ethanol producers

27



are generally not able to compensate for increases in the cost of corn through adjustments in prices for ethanol.  We continue to monitor corn and ethanol prices and manage the "crush margin" to affect our longer-term profitability.

We enter into various derivative contracts with the primary objective of managing our exposure to adverse price movements in the commodities used for, and produced in, our business operations and, to the extent we have working capital available and available market conditions are appropriate, we engage in hedging transactions which involve risks that could harm our business. We measure and review our net commodity positions on a daily basis.  Our daily net agricultural commodity position consists of inventory, forward purchase and sale contracts, over-the-counter and exchange traded derivative instruments.  The effectiveness of our hedging strategies is dependent upon the cost of commodities and our ability to sell sufficient products to use all of the commodities for which we have futures contracts.  Although we actively manage our risk and adjust hedging strategies as appropriate, there is no assurance that our hedging activities will successfully reduce the risk caused by market volatility which may leave us vulnerable to high commodity prices. Alternatively, we may choose not to engage in hedging transactions in the future. As a result, our future results of operations and financial conditions may also be adversely affected during periods in which price changes in corn, ethanol and distillers grain to not work in our favor.
In addition, as described above, hedging transactions expose us to the risk of counterparty non-performance where the counterparty to the hedging contract defaults on its contract or, in the case of over-the-counter or exchange-traded contracts, where there is a change in the expected differential between the price of the commodity underlying the hedging agreement and the actual prices paid or received by us for the physical commodity bought or sold.  We have, from time to time, experienced instances of counterparty non-performance but losses incurred in these situations were not significant.
Although we believe our hedge positions accomplish an economic hedge against our future purchases and sales, management has chosen not to use hedge accounting, which would match any gain or loss on our hedge positions to the specific commodity purchase being hedged.  We are using fair value accounting for our hedge positions, which means as the current market price of our hedge positions changes, the realized or unrealized gains and losses are immediately recognized in the current period (commonly referred to as the “mark to market” method). The immediate recognition of hedging gains and losses under fair value accounting can cause net income to be volatile from quarter to quarter due to the timing of the change in value of the derivative instruments relative to the cost and use of the commodity being hedged.  As corn prices move in reaction to market trends and information, our income statement will be affected depending on the impact such market movements have on the value of our derivative instruments.  Depending on market movements, crop prospects and weather, our hedging strategies may cause immediate adverse effects, but are expected to produce long-term positive impact.
In the event we do not have sufficient working capital to enter into hedging strategies to manage our commodities price risk, we may be forced to purchase our corn and market our ethanol at spot prices and as a result, we could be further exposed to market volatility and risk. However, during the past year, the spot market has been advantageous.
Credit and Counterparty Risks

Through our normal business activities, we are subject to significant credit and counterparty risks that arise through normal commercial sales and purchases, including forward commitments to buy and sell, and through various other over-the-counter (OTC) derivative instruments that we utilize to manage risks inherent in our business activities.  We define credit and counterparty risk as a potential financial loss due to the failure of a counterparty to honor its obligations.  The exposure is measured based upon several factors, including unpaid accounts receivable from counterparties and unrealized gains (losses) from OTC derivative instruments (including forward purchase and sale contracts).   We actively monitor credit and counterparty risk through credit analysis (by our marketing agent). 

Impact of Hedging Transactions on Liquidity
Our operations and cash flows are highly impacted by commodity prices, including prices for corn, ethanol, distillers grains and natural gas. We attempt to reduce the market risk associated with fluctuations in commodity prices through the use of derivative instruments, including forward corn contracts and over-the-counter exchange-traded futures and option contracts. Our liquidity position may be positively or negatively affected by changes in the underlying value of our derivative instruments. When the value of our open derivative positions decrease, we may be required to post margin deposits with our brokers to cover a portion of the decrease or we may require significant liquidity with little advanced notice to meet margin calls. Conversely, when the value of our open derivative positions increase, our brokers may be required to deliver margin deposits to us for a portion of the increase.  We continuously monitor and manage our derivative instruments portfolio and our exposure to margin calls and while we believe we will continue to maintain adequate liquidity to cover such margin calls from operating results and borrowings, we cannot estimate the actual availability of funds from operations or borrowings for hedging transactions in the future.

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The effects, positive or negative, on liquidity resulting from our hedging activities tend to be mitigated by offsetting changes in cash prices in our business. For example, in a period of rising corn prices, gains resulting from long grain derivative positions would generally be offset by higher cash prices paid to farmers and other suppliers in local corn markets. These offsetting changes do not always occur, however, in the same amounts or in the same period.
We expect that a $1.00 per bushel fluctuation in market prices for corn would impact our cost of goods sold by approximately $48 million, or $0.34 per gallon, assuming our plant operates at 100% of our capacity.  We expect the annual impact to our results of operations due to a $0.50 decrease in ethanol prices will result in approximately a $70 million decrease in revenue.


Off-Balance Sheet Arrangements
We do not have any off balance sheet arrangements.
Item 3.   Quantitative and Qualitative Disclosures about Market Risk
Not applicable.

Item 4.    Controls and Procedures.

Evaluation of Disclosure Controls and Procedures

SIRE's  management,  under the supervision and with  the  participation  of  SIRE's president and chief executive officer and SIRE's chief financial officer,  is responsible for establishing and maintaining adequate disclosure  controls  and  procedures  (as defined in Rule  13a-15(e) under the Securities  Exchange  Act of 1934) that are designed to insure that information required to be disclosed in the reports that the Company files is recorded, processed, summarized and reported as of the end of the  period covered by this quarterly report.  Based on that evaluation,  SIRE's president and chief executive officer and SIRE's chief financial officer have concluded  that, as of the end of the period covered by this quarterly report, SIRE's disclosure controls and procedures are effective to provide  reasonable  assurance that the information required to be disclosed in the reports SIRE  files or submits under the Securities Exchange  Act of 1934 is (i) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms, and (ii) accumulated and communicated to management, including SIRE's principal executive and principal financial officers or persons performing such functions, as appropriate, to allow timely decisions regarding  disclosure.  SIRE believes that a control system, no matter how well designed and operated, cannot provide absolute  assurance that the  objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.
 
No Changes in Internal Control Over Financial Reporting
 
No change in SIRE's internal control over financial reporting occurred during the period covered by this quarterly report that has materially affected, or is reasonably likely to materially affect, SIRE's internal control over financial reporting.

PART II – OTHER INFORMATION
 
Item 1.   Legal Proceedings.
From time to time the Company is involved in various litigation matters arising in the ordinary course of its business. None of these matters, either individually or in the aggregate, currently is material to the Company except as reported in the Company’s annual report on Form 10-K for the year ended September 30, 2018 and there were no material developments to such matters.


Item 1A.   Risk Factors.
There have been no material changes to the risk factors disclosed in Item 1A of our Form 10-K for the fiscal year ended September 30, 2018. Additional risks and uncertainties, including risks and uncertainties not presently known to us, or that we currently deem immaterial, could also have an adverse effect on our business, financial condition and/or results of operations.



29



Item 2.   Unregistered Sales of Equity Securities and Use of Proceeds.
None

Item 3. Defaults Upon Senior Securities.
 
None

Item 4. Mine Safety Disclosures.
 
Not applicable.

Item 5. Other Information.
 
None

Item 6.   Exhibits
Rule 13a-14(a)/15d-14(a) Certification (pursuant to Section 302 of the Sarbanes-Oxley Act of 2002) executed by the Principal Executive Officer.
 
 
Rule 13a-14(a)/15d-14(a) Certification (pursuant to Section 302 of the Sarbanes-Oxley Act of 2002) executed by the Principal Financial Officer.
 
 
32.1***
Rule 15d-14(b) Certifications (pursuant to Section 906 of the Sarbanes-Oxley Act of 2002) executed by the Principal Executive Officer.
 
 
32.2***
Rule 15d-14(b) Certifications (pursuant to Section 906 of the Sarbanes-Oxley Act of 2002) executed by the Principal Financial Officer.
 
 
101.XML*
XBRL Instance Document
 
 
101.XSD*
XBRL Taxonomy Schema
 
 
101.CAL*
XBRL Taxonomy Calculation Database
 
 
101.LAB*
XBRL Taxonomy Label Linkbase
 
 
101.PRE*
XBRL Taxonomy Presentation Linkbase
 
 
***
This certification is not deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, or otherwise subject to the liability of that section. Such certification will not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, except to the extent that the Company specifically incorporates it by reference.
*
Furnished, not filed.

30