Andersons, Inc.: Form 10-Q for the period ended Jun 30, 2023

Forward Looking Statements

The following “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contains forward-looking statements which relate to future events or future financial performance and involve known and unknown risks, uncertainties and other factors that may cause actual results, levels of activity, performance or achievements to be materially different from those expressed or implied by these forward-looking statements. Such factors include, but are not limited to, the effects of economic, weather and agricultural conditions, regulatory conditions, competition globally and in the markets the Company serves, the ongoing economic impacts from the war in Ukraine, fluctuations in cost and availability of commodities, the effectiveness of the Company's internal control over financial reporting and the unpredictability of existing and possible future litigation. However, it is not possible to predict or identify all such factors. The reader is urged to carefully consider these risks and others, including those risk factors listed under Item 1A of the 2022 Form 10-K. In some cases, the reader can identify forward-looking statements by terminology such as may, anticipates, believes, estimates, predicts, or the negative of these terms or other comparable terminology. These statements are only predictions. Actual events or results may differ materially. These forward-looking statements relate only to events as of the date on which the statements are made and the Company undertakes no obligation, other than any imposed by law, to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Although management believes that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements.

Critical Accounting Policies and Estimates

Our critical accounting policies and critical accounting estimates, as described in our 2022 Form 10-K, have not materially changed through the second quarter of 2023.

Executive Overview

Our operations are organized, managed and classified into three reportable business segments: Trade, Renewables and Nutrient & Industrial. Each of these segments is generally based on the nature of products and services offered and aligns with the management structure.

The agricultural commodity-based business is one in which changes in selling prices generally move in relationship to changes in purchase prices. Therefore, increases or decreases in prices of the agricultural commodities that the business deals in will have a relatively equal impact on Sales and merchandising revenues and Cost of sales and merchandising revenues and a much less significant impact on Gross profit. As a result, changes in Sales and merchandising revenues between periods may not necessarily be indicative of the overall performance of the business and greater emphasis should be placed on changes in Gross profit.

Trade

The Trade segment’s second quarter operating results were mixed as overall gross profit declined despite strong earnings from certain well-positioned merchandising businesses. Throughput of agricultural inventories declined from the second quarter of 2022. When combined with the strong first quarter, income before income taxes and gross profit remain ahead of 2022 even without $16.1 million of inventory insurance recoveries recorded thus far in 2023. The first half of 2022 included certain margin impacts from the Russian invasion of Ukraine that were not repeated in the first half of 2023. Recent investments in food and pet food ingredients also contributed to earnings in the quarter. Winter wheat volume accumulated from the just-completed harvest was higher than expected and at good qualities in our core geography.

Agricultural inventories on hand were 74.5 million and 107.0 million bushels at June 30, 2023 and June 30, 2022, respectively. These bushels consist of inventory held at company-owned or leased facilities, transload inventory, in-transit inventory, and third-party held inventory. Total Trade storage space capacity at company-owned or leased facilities, including temporary pile storage, was approximately 175 million bushels at June 30, 2023, which was comparable to the prior year.

With the strong South American harvest, combined with improving U.S. crop conditions, the outlook for global grain stocks has improved. With the mix of assets and merchandising capabilities across key geographies, Trade is well-positioned. While there continues to be geopolitical risks in areas in which we do business, including certain countries that have controlled currencies, the unrest surrounding Black Sea grain shipments could result in continued volatility in commodity markets.

Renewables

The Renewables segment's second quarter operating results were good on rallying crush margins and strong co-product values. While the results decreased year over year, the prior year results included approximately $24.4 million in additional mark-to-market gains and $17.6 million of proceeds received as a part of the USDA Biofuel Producer Program enacted as a part of the CARES Act, of which $8.9 million was attributable to the Company. When the impact of these items is removed from prior year results, the current year operating results are well ahead of the prior year. Ethanol crush margins strengthened over the quarter and the current margin outlook, despite volatility, remains strong. Production facilities operated efficiently in the quarter with improved ethanol and corn oil yield and lower costs than the comparable quarter in 2022. The merchandising businesses, including renewable diesel feedstocks, continue to deliver solid earnings on higher volumes and strong co-product values, and exceeded our second quarter 2022 results. Our eastern corn belt production facilities remain well-positioned for corn supply.

Ethanol and related co-products volumes for the three and six months ended June 30, 2023 and 2022 were as follows:

(in thousands)

(a) Includes corn oil, soybean oil, and other fats, oils, and greases.

(b) DDG tons shipped converts wet tons to a dry ton equivalent amount.

Nutrient & Industrial

The Nutrient & Industrial segment's second quarter operating results improved from the prior year. After a slow first quarter of 2023 when reduced sales reflected delayed purchasing in a falling price environment, customers returned during the 2023 spring application season driving increased tons sold from the second quarter of 2022. Gross profit improved by $4 million, and reflects these higher volumes partially offset by margin compression from overall market price declines. Strong corn prices are expected to drive demand on specialty liquid products with fall conditions and market dynamics influencing second half volumes as we transition to the off season.

Storage capacity at our Ag Supply Chain and Specialty Liquids facilities, including leased storage, was approximately 448 thousand tons for dry nutrients and approximately 510 thousand tons for liquid nutrients at June 30, 2023, which is similar to the prior year.

Tons of product sold for the three and six months ended June 30, 2023 and 2022 were as follows:

(in thousands)

In the table above, Ag Supply Chain represents facilities principally engaged in the wholesale distribution and retail sale and application of primary agricultural nutrients such as bulk nitrogen, phosphorus, and potassium. Specialty Liquid locations produce and sell a variety of low-salt liquid starter fertilizers, micronutrients for agricultural use, and specialty products for use in various industrial processes. Engineered Granules include a variety of corncob-based products and facilities that primarily manufacture granulated dry products for use in specialty turf and agricultural applications. Prior year volumes have been reclassified for the three and six months ended June 30, 2022, to conform with current year presentation as the product mix in certain facilities has evolved.

Other

Our “Other” activities include corporate income and expense and cost for functions that provide support and services to the operating segments. The results include expenses and benefits not allocated to the operating segments and other elimination and consolidation adjustments.

Operating Results

The following discussion focuses on the operating results as shown in the Condensed Consolidated Statements of Operations and includes a separate discussion by segment. Additional segment information is included herein in Note 12, Segment Information.

Comparison of the three months ended June 30, 2023 with the three months ended June 30, 2022 including a reconciliation of GAAP to non-GAAP measures:

(in thousands)

(in thousands)

The Company uses Income (loss) before income taxes attributable to the Company from continuing operations, a non-GAAP financial measure as defined by the Securities and Exchange Commission, to evaluate the Company’s financial performance. This performance measure is not defined by accounting principles generally accepted in the United States and should be considered in addition to, and not in lieu of, GAAP financial measures. Management believes that Income (loss) before income taxes attributable to the Company from continuing operations is a useful measure of the Company’s performance because it provides investors additional information about the Company's operations allowing evaluation of underlying business performance and period-to-period comparability. This measure is not intended to replace or be an alternative to Income (loss) before income taxes from continuing operations, the most directly comparable amounts reported under GAAP.

Trade

Operating results for the Trade segment decreased by $18.7 million from the same period of the prior year. Sales and merchandising revenues decreased by $401.0 million and cost of sales and merchandising revenues decreased by $379.7 million that resulted in decreased gross profit of $21.3 million. The vast majority of the decrease in sales and merchandising revenues and cost of sales and merchandising revenues is attributable to sharp commodity price decreases from the prior year as the war in Ukraine created uncertainty around global supply which drove commodity prices higher in 2022. The decrease in gross profit was a result of a $13.1 million decline from lower elevation margins in our asset-based business and a $10.2 million decline in the premium ingredients business, as the exceptional prior year results benefited from the significant rise in commodity prices.

Operating, administrative and general expenses increased by $6.2 million. The increase from the prior year is primarily related to $3.3 million in additional bad debt expense, $1.7 million in additional clean-up costs from a prior year fire at a Michigan grain asset and $1.1 million in additional insurance expenses.

Interest expense decreased by $2.4 million due to reduced short-term borrowings from lower commodity prices in addition to the business managing working capital usage in the higher interest rate environment in 2023.

Other income, net increased by $6.4 million from the same quarter of 2022. This increase was a result of an impairment of one of the Company's equity method investments of approximately $4.5 million in the prior year in addition to $2.0 million from insurance recoveries in the current year.

Renewables

Operating results for the Renewables segment declined by $7.0 million from the same period last year. Sales and merchandising revenues decreased by $4.8 million and cost of sales and merchandising revenues decreased by $13.2 million compared to prior year results. As a result, gross profit increased by $8.4 million compared to 2022 results. The deconsolidation of ELEMENT in the second quarter resulted in a reduction of both sales and merchandising revenues and cost of sales and merchandising revenues of approximately $60 million. The reduction of both sales and merchandising revenues and cost of sales and merchandising revenues were partially offset by increased third-party trading volumes mainly in the renewable diesel feedstocks merchandising business. The increase to gross profit in the current period results reflect a $27.7 million margin improvement at the ethanol plants, primarily from improved ethanol margins and increased co-product values which was partially offset by unfavorable unrealized mark-to-market adjustments of $21.8 million when compared to the prior year.

Operating, administrative and general expenses decreased by $1.0 million from the prior year, of which, the majority was due to the deconsolidation of ELEMENT operations early in the second quarter.

Other income, net decreased from the prior year by $11.0 million due to $17.6 million in proceeds received in the prior year as a part of the USDA Biofuel Producer Program. In 2023, the Company recorded a $6.5 million gain on the deconsolidation of the ELEMENT joint venture.

Nutrient & Industrial

Operating results for the Nutrient & Industrial segment increased by $4.3 million compared to the same period in the prior year. Sales and merchandising revenues decreased by $24.7 million and cost of sales and merchandising revenues decreased by $28.7 million resulting in an $4.0 million increase in gross profit. The decrease in sales and merchandising revenues and cost of sales and merchandising revenues was due to fertilizer prices decreasing approximately 50% from the prior year. This decrease in fertilizer prices from the prior year was partially offset by increased demand as volumes sold increased by approximately 21% in the second quarter of the current year. The increase in gross profit was mainly driven by a $12.4 million favorable impact from the increased volumes sold which was partially offset by an $8.4 million decrease in sales margins from the prior year.

Other

Results for the quarter improved by $1.9 million compared to the same period in the prior year. The improvement in results was primarily driven by a $1.0 million reduction of incentive compensation expense when compared to the same quarter of prior year.

Income Taxes

For the three months ended June 30, 2023, the Company recorded income tax expense from continuing operations of $21.7 million. The Company's effective tax rate was 20.8% on income before taxes from continuing operations of $104.4 million. The difference between the 20.8% effective tax rate and the U.S. federal statutory tax rate of 21% is primarily attributable to the tax impact of non-controlling interest offset by state and local income taxes and nondeductible compensation. During the three months ended June 30, 2023, discrete tax expense of $1.4 million was recorded on income before taxes of $6.5 million related to a gain on the deconsolidation of a joint venture.

For the three months ended June 30, 2022, the Company recorded income tax expense from continuing operations of $15.8 million. The Company's effective tax rate was 13.3% on income from continuing operations of $118.2 million. The effective tax rate differs from the U.S. federal statutory tax rate of 21.0% due to the tax impact of certain discrete derivatives and hedging activities offset by state and local taxes and nondeductible compensation.

Comparison of the six months ended June 30, 2023 with the six months ended June 30, 2022 including a reconciliation of GAAP to non-GAAP measures:

(in thousands)

(in thousands)

The Company uses Income (loss) before income taxes attributable to the Company from continuing operations, a non-GAAP financial measure as defined by the Securities and Exchange Commission, to evaluate the Company’s financial performance. This performance measure is not defined by accounting principles generally accepted in the United States and should be considered in addition to, and not in lieu of, GAAP financial measures. Management believes that Income (loss) before income taxes attributable to the Company from continuing operations is a useful measure of the Company’s performance because it provides investors additional information about the Company's operations allowing evaluation of underlying business performance and period-to-period comparability. This measure is not intended to replace or be an alternative to Income (loss) before income taxes from continuing operations, the most directly comparable amounts reported under GAAP.

Trade

Operating results for the Trade segment increased by $17.0 million from the prior year. Sales and merchandising revenues decreased by $607.9 million and cost of sales and merchandising revenues decreased by $636.1 million for an increased gross profit impact of $28.3 million. The vast majority of the decrease in sales and merchandising revenues and cost of sales and merchandising revenues is attributable to sharp commodity price decreases from the prior year as the war in Ukraine created uncertainty around global supply which drove commodity prices higher in 2022. The $28.3 million increase in gross profit was mainly related to the performance of both the assets and merchandising businesses. The asset-based business contributed approximately $10.4 million to gross profit as it recorded approximately $16.1 million worth of inventory insurance recoveries, which were partially offset by lower elevation margins when compared to the prior year. The merchandising business contributed approximately $19.7 million to gross profit as well-positioned inventories generated strong margins, with a $9.4 million decline in the premium ingredients business that couldn't repeat exceptional prior year results from the significant rise in commodity prices that occurred during that period.

Operating, administrative and general expenses increased by $18.6 million from the same period of prior year. The main drivers of the increase relate to an additional $5.2 million in insurable clean-up costs in the current quarter related to a fire at a Michigan grain asset, $5.0 million from new merchandising locations, $3.3 million in additional bad debt expense, and $2.0 million in increased insurance expenses.

Interest expense increased by $1.2 million due to rising interest rates which were partially offset by lower short-term borrowings as the Company continues to manage working capital.

Other income, net increased by $8.6 million from the same period of 2022. The increase was primarily attributable to favorable changes in foreign currency of $5.4 million when compared to the prior year along with approximately $2.0 million of property insurance recoveries in the current year.

Renewables

Operating results for Renewables decreased by $50.6 million from the same period of prior year, primarily due to the asset impairment charge discussed below. Sales and merchandising revenues increased by $151.5 million and cost of sales and merchandising revenues increased by $142.5 million compared to prior year. As a result, gross profit increased by $9.0 million to the prior year. The increase in sales and merchandising revenues and cost of sales and merchandising revenues are mainly due to increased third-party trading volumes mainly in the renewable diesel feedstocks as that business has grown significantly from the prior year. The increase in volumes was partially offset from the tapering down of operations at the ELEMENT facility and the ultimate deconsolidation of the entity that occurred in April of 2023 resulting in a reduction from the prior period of approximately $65 million in sales and merchandising revenues and cost of sales and merchandising revenues, respectively. The remainder of the decrease is associated to decreased commodity prices that were partially offset by higher volumes in the third-party trading of renewable diesel feedstocks. The gross profit associated with the ethanol plants was $23.8 million higher than the prior year from improved ethanol crush margins and increased co-product values which was partially offset by unfavorable unrealized mark-to-market adjustments of $14.0 million when compared to the prior year.

An asset impairment charge of $87.2 million related to the ELEMENT ethanol plant in Colwich, Kansas was recorded in the current year. As ELEMENT was a consolidated subsidiary of the Company at the time, the entire impairment charge is represented in Asset impairment.

Interest expense increased by $0.9 million due to rising interest rates on the Company's short-term line of credit compared to the prior year.

Other income, net decreased from the prior year by $10.6 million due to $17.6 million in proceeds received in the prior year as a part of the USDA Biofuel Producer Program that was enacted as a part of the CARES Act. In 2023, the Company recorded a $6.5 million gain on the deconsolidation of the ELEMENT joint venture.

Nutrient & Industrial

Operating results for the Nutrient & Industrial segment decreased by $16.9 million compared to record results through the second quarter of prior year. Sales and merchandising revenues decreased $70.8 million and cost of sales and merchandising revenues decreased by $53.1 million resulting in decreased gross profit of $17.7 million. The decrease in sales and merchandising revenues and cost of sales and merchandising revenues was mainly due to the reset of fertilizer prices from the record high prices resulting from an already tight supply market and exaggerated by the war in Ukraine in the first half of 2022. Although fertilizer prices decreased approximately 50% from the prior year, the Company experienced a significant increase in volumes in the later stages of the first half of 2023 as demand shifted from first quarter to the second which partially offset the impact of decreased fertilizer prices when compared to the prior year. Gross profit decreased from the prior year by approximately $24.8 million due to margin decreases and was partially offset by increased sales volumes of $7.1 million.

Operating, administrative and general expenses decreased by $1.9 million due to reduced incentive compensation when compared to results in the prior year.

Interest expense increased by $0.8 million due to rising interest rates on the Company's short-term line of credit compared to the prior year.

Other

Other expenses were consistent with the same period last year as higher health insurance claims from the Company's self-funded medical insurance plan in the current year were largely offset by a modest gain on a cost method investment.

Income Taxes

For the six months ended June 30, 2023, the Company recorded an income tax expense from continuing operations of $15.8 million. The Company's effective tax rate was 40.2% on income before taxes from continuing operations of $39.4 million. The difference between the 40.2% effective tax rate and the U.S. federal statutory tax rate of 21.0% is primarily attributable to the tax impact of noncontrolling interest, state and local income taxes and nondeductible compensation. During the six months ended June 30, 2023, a net discrete income tax benefit of $10.6 million was recorded on a net loss before taxes of $88.8 million related to the current year operations, impairment charge, and gain on the deconsolidation of a joint venture.

For the six months ended June 30, 2022, the Company recorded income tax expense from continuing operations of $19.9 million. The Company’s effective tax rate was 15.4% on income from continuing operations of $128.8 million. The effective tax rate differs from the U.S. federal statutory rate of 21.0% due to the tax impact of non-controlling interest as well as certain discrete derivatives and hedging activities offset by state and local income taxes and nondeductible compensation.

The Company’s subsidiary partnership returns are under federal tax examination by the Internal Revenue Service (“IRS”) for the tax years 2015 through 2018, respectively. The Company’s subsidiary is under federal tax examination by the Mexican tax authorities for tax year 2015. The IRS and Mexican tax authorities’ examinations could potentially be resolved within the next 12 months. The resolution of these examinations could change our unrecognized tax benefits and favorably impact income tax expense by a range of $2.9 million to $8.1 million.

Liquidity and Capital Resources

Working Capital

At June 30, 2023, the Company had working capital from continuing operations of $1,144.0 million, an increase of $160.0 million from the prior year. This increase was attributable to changes in the following components of current assets from continuing operations and current liabilities from continuing operations:

(in thousands)

Current assets from continuing operations as of June 30, 2023 decreased $1,017.0 million in comparison to those as of June 30, 2022. This decrease was primarily related to the change in inventories and current commodity derivative assets. The decreases in those accounts can largely be attributed to the stabilization of agricultural commodity prices in the current year in comparison to the significant increases in the prices of agricultural commodities, including fertilizer, that the Company transacts in the ordinary course of business in the same period of the prior year.

Current liabilities from continuing operations decreased $1,177.0 million from the prior year mainly due to the decreased utilization of the Company's short-term revolving credit line. The decreased use of the short-term revolving credit line is a result of the stabilization of commodity prices in the year compared to the severe increase in commodity prices in the same period of the prior year, as well as a strategic focus on managing short-term debt in light of the rising interest rate environment.

Sources and Uses of Cash

(in thousands)

Operating Activities

Our operating activities provided cash of $207.4 million and used cash of $721.8 million in the first six months of 2023 and 2022, respectively. The increase in cash provided was primarily due to the decreased working capital needs driven by significant decreases in agricultural commodity prices when compared to the same period in the prior year. When the changes in operating assets and liabilities are removed and excluding inventory insurance recoveries, cash provided by operating activities was slightly lower than prior year.

Investing Activities

Investing activities used cash of $71.7 million through the first six months of 2023 compared to $30.1 million in the prior period. Spending for purchases of property, plant and equipment increased by approximately $31.5 million from the prior year from increased investments across all segments. The prior year also includes approximately $6.2 million of additional net proceeds from the Company's exit of the Rail business.

We expect to invest approximately $125 million to $150 million in property, plant and equipment in 2023, with spending split evenly between growth projects and maintenance.

Financing Activities

Financing activities used cash of $155.0 million and provided cash of $622.1 million for the six months ended June 30, 2023 and 2022, respectively. This decrease from the prior year was due to the significant increase in agricultural commodity prices in the prior period and the related need for short-term borrowings. Agricultural commodity prices have decreased in the current year and the Company is operating in a much more stable pricing environment in 2023 which requires much less borrowing on the Company's short-term credit facilities.

The Company is party to borrowing arrangements with a syndicate of banks that provide a total of $1,869.1 million in borrowing capacity. Of the total capacity, $265.4 million is non-recourse to the Company. As of June 30, 2023, the Company had $1,740.7 million available for borrowing with $231.1 million of that total being non-recourse to the Company.

The Company paid $12.5 million in dividends in the first six months of 2023 compared to $12.2 million paid in the prior period. The Company paid dividends of $0.185 and $0.18 per common share in January and April of 2023 and 2022, respectively. On June 23, 2023, the Company declared a cash dividend of $0.185 per common share payable on July 24, 2023, to shareholders of record on July 3, 2023.

Certain of our long-term borrowings include covenants that, among other things, impose minimum levels of working capital and various debt leverage ratios. The Company is in compliance with all covenants as of June 30, 2023. In addition, certain of our long-term borrowings are collateralized by first mortgages on various facilities.

Because the Company is a significant borrower of short-term debt in peak seasons and the majority of this is variable rate debt, increases in interest rates could have a significant impact on our profitability. In addition, periods of high grain prices and/or unfavorable market conditions could require us to make additional margin deposits on our exchange traded futures contracts. Conversely, in periods of declining prices, the Company could receive a return of cash.

Management believes the Company's sources of liquidity will be adequate to fund operations, capital expenditures and service indebtedness.

At June 30, 2023, the Company had standby letters of credit outstanding of $25.8 million.

For further information, refer to our Annual Report on Form 10-K for the year ended December 31, 2022. There were no material changes in market risk, specifically commodity and interest rate risk during the six months ended June 30, 2023.

Evaluation of Disclosure Controls and Procedures

Based on an evaluation under the supervision and with the participation of the Company’s management, the Company’s principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act were effective as of June 30, 2023 to provide reasonable assurance that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is (i) recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms and (ii) accumulated and communicated to the Company’s management, including its principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

There were no changes in the Company’s internal control over financial reporting during the second quarter of 2023, identified in connection with management’s evaluation required by paragraph (d) of Rules 13a-15 and 15d-15 under the Exchange Act that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

The business, financial condition and operating results of the Company can be affected by a number of factors, whether currently known or unknown, including but not limited to those described in Part I, Item 1A of the 2022 Form 10-K under the heading “Risk Factors,” any one or more of which could, directly or indirectly, cause the Company’s actual financial condition and operating results to vary materially from past, or from anticipated future, financial condition and operating results. Any of these factors, in whole or in part, could materially and adversely affect the Company’s business, financial condition, operating results and stock price.