UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2010

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 333-161187

 

 

RENEWABLE ENERGY GROUP, INC.

(Exact name of registrant as specified in its charter)

 

DELAWARE   26-4785427

(State of other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

416 South Bell Avenue Ames, Iowa   50010
(Address of principal executive offices)   ( Zip code)

(515) 239-8000

(Registrant’s telephone number, including area code)

 

 

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, 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  ¨    NO  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, 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   ¨    Accelerated filer   ¨
Non-accelerated filer   x (Do not check if a smaller reporting company)    Smaller reporting company   ¨

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

As of June 30, 2010, there was no public trading market for the Company’s common stock. There were 30,381,258 shares of the Company’s common stock and 13,455,522 shares of the Company’s Series A Preferred Stock outstanding on June 30, 2010.

 

 

 


Item 1. Condensed Consolidated Financial Statements

RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)

AS OF DECEMBER 31, 2009 AND JUNE 30, 2010

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

 

     December 31,
2009
    June 30,
2010
 

ASSETS

    

CURRENT ASSETS:

    

Cash and cash equivalents

   $ 5,855      $ 5,285   

Restricted cash

     2,156        —     

Accounts receivable, net (includes amounts owed by related parties of $2,328 and $368 as of December 31, 2009 and June 30, 2010, respectively)

     12,162        5,654   

Inventories

     12,840        13,575   

Prepaid expenses and other assets (includes amounts paid to related parties of $269 as of December 31, 2009)

     4,689        4,592   
                

Total current assets

     37,702        29,106   
                

Property, plant and equipment, net

     124,429        166,013   

Property, plant and equipment, net - Seneca Landlord, LLC

     —          42,106   

Goodwill

     16,080        85,139   

Intangible assets, net

     7,203        7,195   

Deferred income taxes

     1,500        1,500   

Investments

     6,149        4,445   

Other assets

     7,495        10,543   

Restricted cash

     —          2,304   
                

TOTAL ASSETS

   $ 200,558      $ 348,351   
                

LIABILITIES AND EQUITY (DEFICIT)

    

CURRENT LIABILITIES:

    

Revolving line of credit

   $ 350      $ 900   

Current maturities of notes payable

     2,756        3,072   

Accounts payable (includes amounts owed to related parties of $5,415 and $4,355 as of December 31, 2009 and June 30, 2010, respectively)

     14,133        12,522   

Accrued expenses and other liabilities (includes amounts owed to related parties of $3,436 as of June 30, 2010)

     4,197        7,979   

Deferred revenue

     5,480        0   
                

Total current liabilities

     26,916        24,473   

Unfavorable lease obligation

     11,783        11,858   

Preferred stock embedded conversion feature derivatives

     4,104        48,552   

Seneca Holdco liability, at fair value

     —          7,467   

Notes payable

     25,749        48,747   

Notes payable - Seneca Landlord, LLC

     —          36,250   

Other liabilities

     10,015        3,765   
                

Total liabilities

     78,567        181,112   
                

COMMITMENTS AND CONTINGENCIES (Note 17)

    

Redeemable preferred stock ($.0001 par value; 60,000,000 shares authorized; 12,464,357 and 13,455,522 shares outstanding at December 31, 2009 and June 30, 2010, respectively; redemption amount $247,587 and $222,016 at December 31, 2009 and June 30, 2010, respectively)

     149,122        111,443   

EQUITY (DEFICIT):

    

Company stockholders’ equity (deficit):

    

Common stock ($.0001 par value; 140,000,000 shares authorized; 19,575,117 and 30,381,258 shares outstanding at December 31, 2009 and June 30, 2010, respectively)

     2        3   

Common stock - additional paid-in-capital

     15,676        77,969   

Warrants - additional paid-in-capital

     4,619        5,888   

Accumulated deficit

     (60,905     (28,064
                

Total stockholders’ equity (deficit)

     (40,608     55,796   

Noncontrolling interests

     13,477        —     
                

Total equity (deficit)

     (27,131     55,796   
                

TOTAL LIABILITIES AND EQUITY (DEFICIT)

   $ 200,558      $ 348,351   
                

See notes to condensed consolidated financial statements.

 

2


RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

FOR THE THREE MONTHS AND SIX MONTHS ENDED JUNE 30, 2009 AND 2010

(IN THOUSANDS)

 

     Three  Months
Ended
June  30,
2009
    Three  Months
Ended
June  30,
2010
    Six  Months
Ended
June  30,
2009
    Six  Months
Ended
June  30,
2010
 

REVENUES:

        

Biodiesel sales

   $ 23,098      $ 45,290      $ 36,091      $ 76,885   

Biodiesel sales - related parties

     1,413        879        3,787        2,259   

Biodiesel government incentives

     4,882        22        7,531        3,674   
                                
     29,393        46,191        47,409        82,818   

Services

     405        77        1,251        398   

Services - related parties

     334        69        436        610   
                                
     30,132        46,337        49,096        83,826   
                                

COSTS OF GOODS SOLD:

        

Biodiesel

     25,688        15,969        41,810        28,237   

Biodiesel - related parties

     5,083        25,156        9,408        47,712   

Services

     220        118        753        242   

Services - related parties

     —          —          —          291   
                                
     30,991        41,243        51,971        76,482   
                                

GROSS PROFIT (LOSS)

     (859     5,094        (2,875     7,344   

SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES

        

(includes related party amounts of $291 and $655 for the three and six months ended June 30, 2009, respectively and $454 and $814 for the three and six months ended June 30, 2010, respectively)

     7,200        5,731        12,273        10,817   

IMPAIRMENT ON LONG LIVED ASSETS

     —          —          —          141   
                                

LOSS FROM OPERATIONS

     (8,059     (637     (15,148     (3,614
                                

OTHER INCOME (EXPENSE), NET:

        

Change in fair value of preferred stock conversion feature embedded derivatives

     320        5,001        1,119        5,001   

Change in fair value of interest rate swap

     284        116        271        188   

Change in fair value of Seneca Holdco liability

     —          (371     —          (371

Other income (includes related party amounts of $115 and $317 for the three and six months ended June 30, 2009, respectively)

     111        57        2,012        90   

Interest expense (includes related party amounts of $151 and $204 for the three and six months ended June 30, 2010, respectively)

     (555     (1,394     (1,285     (1,735

Interest income (includes related party amounts of $180 for the six months ended June 30, 2010)

     —          2        13        183   

Impairment of investments

     —          (400     —          (400
                                
     160        3,011        2,130        2,956   
                                

INCOME (LOSS) BEFORE INCOME TAXES AND LOSS FROM EQUITY INVESTMENTS

     (7,899     2,374        (13,018     (658

INCOME TAX BENEFIT (EXPENSE)

     2,055        (2,600     3,238        3,728   

LOSS FROM EQUITY INVESTMENTS

     (133     (166     (371     (381
                                

NET INCOME (LOSS)

     (5,977     (392     (10,151     2,689   
                                

LESS - NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTEREST

     1,951        —          4,902        —     
                                

NET INCOME (LOSS) ATTRIBUTABLE TO THE COMPANY

     (4,026     (392     (5,249     2,689   

EFFECTS OF RECAPITALIZATION

     —          —          —          8,521   

LESS - ACCRETION OF PREFERRED STOCK TO REDEMPTION VALUE

     (10,410     (5,178     (19,776     (16,246
                                

NET LOSS ATTRIBUTABLE TO THE COMPANY’S COMMON STOCKHOLDERS

   $ (14,436   $ (5,570   $ (25,025   $ (5,036
                                

See notes to condensed consolidated financial statements.

 

3


RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF REDEEMABLE PREFERRED STOCK AND EQUITY (DEFICIT) (Unaudited)

FOR THE SIX MONTHS ENDED JUNE 30, 2009 AND 2010 (IN THOUSANDS EXCEPT SHARE AMOUNTS)

 

                 Company Stockholders’ Equity (Deficit)              
     Redeemable
Preferred
Stock
Shares
    Redeemable
Preferred
Stock
    Common
Stock
Shares
    Common
Stock
    Common Stock -
Additional
Paid-in
Capital
    Warrants  - -
Additional
Paid-in
Capital
    Retained
Earnings
(accumulated
deficit)
    Noncontrolling
Interest
    Total  

BALANCE, December 31, 2008

   12,434,004      $ 104,607      19,305,117      $ 2      $ 57,160      $ 4,619      $ —        $ 20,237      $ 82,018   

Issuance of preferred stock

   30,353        334      —          —          —          —          —          —          —     

Stock compensation expense

   —          —        —          —          1,780        —          —          —          1,780   

Accretion of preferred stock to redemption value

   —          19,776      —          —          (19,776     —          —          —          (19,776

Net loss

   —          —        —          —          —          —          (5,249     (4,902     (10,151
                                                                    

BALANCE, June 30, 2009

   12,464,357      $ 124,717      19,305,117      $ 2      $ 39,164      $ 4,619      $ (5,249   $ 15,335      $ 53,871   
                                                                    

BALANCE, December 31, 2009

   12,464,357      $ 149,122      19,575,117      $ 2      $ 15,676      $ 4,619      $ (60,905   $ 13,477      $ (27,131

Derecognition of REG Holdco preferred stock, common stock, and common stock warrants

   (12,464,357     (158,475   (19,575,117     (2     (6,323     (4,619     —          —          (10,944

Issuance of preferred stock, common stock, and common stock warrants to REG Holdco , net of $52,394 for embedded derivatives

   13,164,357        102,287      18,875,117        2        14,221        4,619        —          —          18,842   

Issuance of common stock in acquisitions

   —          —        11,006,141        1        66,366        —          —          —          66,367   

Issuance of preferred stock in acquisitions, net of $1,158 for embedded derivatives

   291,165        2,263      —          —          —          —          —          —          —     

Issuance of warrants in acquisitions

   —          —        —          —          —          1,269        —          —          1,269   

Issuance of common stock

   —          —        500,000        —          3,015        —          —          —          3,015   

Blackhawk Biofuels LLC deconsolidation and transition adjustment

   —          —        —          —          1,192        —          30,152        (13,477     17,867   

Stock compensation expense

   —          —        —          —          68        —          —          —          68   

Accretion of preferred stock to redemption value

   —          16,246      —          —          (16,246     —          —          —          (16,246

Net income

   —          —        —          —          —          —          2,689        —          2,689   
                                                                    

BALANCE, June 30, 2010

   13,455,522      $ 111,443      30,381,258      $ 3      $ 77,969      $ 5,888      $ (28,064   $ —        $ 55,796   
                                                                    

See notes to condensed consolidated financial statements.

 

4


RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

FOR THE SIX MONTHS ENDED JUNE 30, 2009 AND 2010

(IN THOUSANDS)

 

     Six  Months
Ended
June  30,
2009
    Six  Months
Ended
June 30,
2010
 

CASH FLOWS FROM OPERATING ACTIVITIES:

    

Net income (loss)

   $ (10,151   $ 2,689   

Adjustments to reconcile net income (loss) to net cashflows from operating activities:

    

Depreciation expense

     2,153        2,230   

Amortization of intangible assets and liabilities, net

     555        68   

Gain on sale of property, plant & equipment

     (30     —     

Benefit for doubtful accounts

     (1,596     (45

Stock compensation expense

     1,780        68   

Loss from equity method investees

     371        381   

Deferred tax benefit

     (3,238     (3,728

Impairment of investments

     —          400   

Impairment of long lived assets

     —          141   

Change in fair value of preferred stock conversion feature embedded derivatives

     (1,119     (5,001

Change in fair value of Seneca Holdco liability

     —          371   

Distributions received from equity method investees

     —          50   

Expense settled with stock issuance

     334        —     

Changes in asset and liabilities, net of effects from mergers and acquisitions:

    

Accounts receivable

     (3,355     8,211   

Inventories

     4,287        (527

Prepaid expenses and other assets

     4,613        (61

Accounts payable

     486        (5,357

Accrued expenses and other liabilities

     (1,305     3,485   

Deferred revenue

     —          (5,480

Billings in excess of costs and estimated earnings on uncompleted contracts

     (111     —     
                

Net cash flows from operating activities

     (6,326     (2,105
                

CASH FLOWS FROM INVESTING ACTIVITIES:

    

Cash paid for purchase of property, plant and equipment

     (5,660     (2,064

Proceeds from the sale of fixed assets

     32        320   

Change in restricted cash

     4,044        152   

Deconsolidation of Blackhawk

     —          (206

Cash provided through Blackhawk acquisition

     —          1   

Cash provided through Central Iowa Energy acquisition

     —          403   
                

Net cash flows from investing activities

     (1,584     (1,394
                

CASH FLOWS FROM FINANCING ACTIVITIES:

    

Borrowings on line of credit

     880        —     

Repayments on line of credit

     (1,439     —     

Cash paid on notes payable

     (205     (614

Cash proceeds from investment in Seneca Landlord

     —          4,000   

Cash paid for debt issuance costs

     —          (457
                

Net cash flows from financing activities

     (764     2,929   
                

NET CHANGE IN CASH AND CASH EQUIVALENTS

     (8,674     (570

CASH AND CASH EQUIVALENTS, Beginning of period

     15,311        5,855   
                

CASH AND CASH EQUIVALENTS, End of period

   $ 6,637      $ 5,285   
                

(continued)

 

5


RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

FOR THE SIX MONTHS ENDED JUNE 30, 2009 AND 2010

(IN THOUSANDS)

 

     Six  Months
Ended
June  30,
2009
   Six  Months
Ended
June  30,
2010
 

SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:

     

Cash paid for income taxes

   $ 2,707    $ 579   
               

Cash paid for interest

   $ 937    $ 1,602   
               

SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:

     

Effects of recapitalization

      $ 8,521   
           

Accretion of preferred stock to redemption value

   $ 19,776    $ 16,246   
               

Amounts included in period-end accounts payable for:

     

Purchases of property, plant and equipment

   $ 604    $ 412   
               

Removal of cost method investee as a result of consolidation

      $ 1,000   
           

Issuance of common stock for debt financing cost

      $ 3,015   
           

Removal of equity method investee as a result of consolidation

      $ 3,969   
           

Property, plant and equipment acquired through the assumption of liabilities

      $ 36,650   
           

Assets (liabilities) acquired through the issuance of stock:

     

Cash

      $ 404   

Restricted cash

        2,302   

Other current assets

        1,342   

Property, plant, and equipment

        87,406   

Goodwill

        69,059   

Other noncurrent assets

        231   

Line of credit

        (900

Other current liabilities

        (5,548

Notes payable

        (72,668

Other noncurrent liabilities

        (11,729
           
      $ 69,899   
           

See “Note 7 - Variable Interest Entities” for noncash items related to the deconsolidation of Blackhawk

(concluded)

See notes to condensed consolidated financial statements.

 

6


RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Unaudited

For The Six Months Ended June 30, 2009 and 2010

(In Thousands, Except Share and Per Share Amounts)

NOTE 1 — ORGANIZATION, PRESENTATION, AND NATURE OF THE BUSINESS

On February 26, 2010, Renewable Energy Group, Inc. (the Company) (formerly known as REG Newco, Inc.) completed its acquisitions of REG Biofuels, Inc. (Biofuels) (formerly known as Renewable Energy Group, Inc. and REG Intermediate Holdco, Inc.) and Blackhawk Biofuels, LLC (Blackhawk) and on March 8, 2010 the Company completed its asset purchase of Central Iowa Energy, LLC (CIE) (collectively, the Acquisitions).

On February 26, 2010, a wholly owned subsidiary of the Company was merged with and into Biofuels (the Biofuels Merger). As a result of the Biofuels Merger, each share of Biofuels’ common stock issued and outstanding immediately prior to the effective time was converted into the right to receive one share of the Company’s common stock, $0.0001 par value per share (the Common Stock), and each share of the Biofuels’ preferred stock issued and outstanding immediately prior to the effective time was converted into the right to receive one share of the Company’s Series A Preferred Stock, $0.0001 par value per share (the Series A Preferred Stock).

Also on February 26, 2010, a wholly owned subsidiary of the Company was merged with and into Blackhawk (the Blackhawk Merger). Blackhawk was renamed REG Danville, LLC (REG Danville) immediately following the merger. As a result of the Blackhawk Merger, each outstanding Blackhawk Series A Unit (other than such units held by Biofuels or any affiliate of Biofuels) was converted into 0.4479 shares of Common Stock and 0.0088 shares of Series A Preferred Stock. Each outstanding warrant for the purchase of series A units of Blackhawk became exercisable for the purchase of shares of Common Stock, with the number of shares and exercise price per share adjusted based on the 0.4479 shares exchange ratio. The former members of Blackhawk received 132,680 shares of Series A Preferred Stock and 6,753,311 shares of Common Stock.

On March 8, 2010, the Company acquired substantially all of the assets and liabilities of CIE (CIE Asset Purchase) in exchange for an aggregate of 4,252,830 shares of Common Stock and 158,485 shares of Series A Preferred Stock. The assets and liabilities were acquired from CIE by REG Newton, LLC (REG Newton), a wholly owned subsidiary of the Company.

On April 9, 2010, the Company entered into a series of agreements related to the asset purchase agreement with Nova Biosource Fuels, Inc. See “Note 6 – Acquisitions” for a description of the Acquisitions and their accounting treatment.

See “Note 18 – Subsequent Events” for a description of subsequent events through the date the financial statements were issued, including the acquisition of substantially all the assets of Tellurian Biodiesel, Inc. and American BDF, LLC.

Prior to February 26, 2010, the Company refers to the business, results of operation and cash flows of Biofuels, which is considered the accounting predecessor to the Company. For the period after February 26, 2010, the Company refers to the business, results of operation and cash flows of Renewable Energy Group, Inc. (formerly, REG Newco, Inc.) and its consolidated subsidiaries, including Biofuels, REG Danville, and REG Newton.

Nature of Business

As of June 30, 2010, the Company owned biodiesel production facilities with 122 million gallons per year (mmgy) of production capacity. Additionally, the Company leases a 60 mmgy biodiesel facility in Seneca, Illinois from a consolidated variable interest entity (see Note 6 – Acquisitions).

In 2007, the Company commenced construction of a 60 mmgy production capacity facility near New Orleans, Louisiana and a 60 mmgy production capacity facility in Emporia, Kansas. In 2008, the Company halted construction of these facilities as a result of conditions in the biodiesel industry and its inability to obtain bond financings. The Company continues to pursue financing and intends to finish the New Orleans, Louisiana facility, which is approximately 50% complete, and the facility in Emporia, Kansas, which is approximately 20% complete, when industry conditions improve and financing becomes available. The Company continues to be in discussions with lenders in an effort to obtain financing for facilities under construction and capital improvement projects. The Company’s New Orleans facility has a GoZone Bond allocation of up to $100,000 in order to finance the completion of the construction of that facility and possibly related facilities. This allocation has been extended through December 14, 2010. The city incentive package for the Emporia construction project has been renewed for an additional three years starting July 1, 2010. Additionally, as a result of halting construction, the Company performed an analysis to evaluate if the assets under construction were impaired. Based on the projected gross cash flows of the projects, if the projects were to be completed, the Company determined that no impairment has occurred.

 

7


Through the date of the financial statements, the Company managed four other biodiesel production facilities owned primarily by independent investment groups with an aggregate of 150 mmgy capacity (hereafter referred to as Network Plants). For each of these facilities, the Company has entered into a Management and Operational Services Agreement (MOSA). Under the MOSA, the Company is responsible for procuring the necessary feedstock and other inputs for the facility, and marketing and selling the finished biodiesel product under the Company’s brand. In addition to the biodiesel produced at the Company’s owned and managed plants, the Company also purchases and sells biodiesel produced by third parties. In 2009, the Company provided notice to five networks facilities that it would be terminating services under the MOSAs twelve months from the date notice was provided as permitted by the MOSAs. The Company intends to renegotiate MOSAs with these facilities and will be seeking a higher management fee payable to REG. However, there is no assurance the facilities will agree to the terms we intend to propose. Of the five cancellation notices given in 2009, the Company is aware of two facilities that do not plan to renew the MOSA, the Company is still in negotiations with two facilities regarding continued services and another facility was purchased through an asset purchase agreement.

The biodiesel industry and the Company’s business have been dependent on the continuation of certain federal and state incentives and mandates. The federal biodiesel tax credit expired on December 31, 2009, and, as of the date of the financial statements, Congress has not yet acted to reinstate the credit. As a result, the incentives to the biodiesel industry may not continue beyond the expired date or, if they continue, the incentives may not be at the same level. The failure to reenact, revocation or amend the federal incentive program could adversely affect the financial results of the Company. Revenues include amounts related to federal subsidies and regulatory support totaling $4,882 and $7,531 for the three and six months ended June 30, 2009, respectively, and $22 and $3,674 for the three and six months ended June 30, 2010, respectively. The Company does not expect to have significant biodiesel tax credit revenues until the reinstatement of the credit.

NOTE 2 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Consolidation

The accompanying Condensed Consolidated Financial Statements include the accounts of the Company consolidated with the accounts of all of its subsidiaries and affiliates in which the Company holds a controlling financial interest as of the financial statement date. Normally, a controlling financial interest reflects ownership of a majority of the voting interests. Other factors considered in determining whether a controlling financial interest is held include whether the Company possesses the authority to purchase or sell assets or make other operating decisions that significantly affect the entity’s results of operations and whether the Company bears a majority of the financial risks of the entity. Intercompany accounts and transactions have been eliminated.

Cash and Cash Equivalents

Cash and cash equivalents consists of money market funds and demand deposits with financial institutions. The Company considers all highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents.

The Company has corrected the presentation of borrowings and repayments on its line of credit for 2009. Related amounts had previously been presented on a net basis, rather than on a gross basis as required in accordance with ASC Topic 230, Statement of Cash Flows (formerly SFAS No. 95, Statement of Cash Flows). The correction had no effect on net cash from financing activities.

Restricted Cash

Restricted cash consists of project funds and debt reserve funds related to various Company entities totaling $2,156 and $2,304 as of December 31, 2009 and June 30, 2010, respectively, which have been restricted in accordance with the terms of the loan agreement.

 

8


Accounts Receivable

Accounts receivable are carried on a gross basis, less the allowance for doubtful accounts. Management estimates the allowance for doubtful accounts based on existing economic conditions, the financial conditions of the customers, and the amount and age of past due accounts. Receivables are considered past due if full payment is not received by the contractual due date. Past due accounts are generally written off against the allowance for doubtful accounts only after all collection attempts have been exhausted.

Inventories

Inventories consist of raw materials, work in process and finished goods and are valued at the lower of cost or market. Inventory values as of December 31, 2009 and June 30, 2010 include adjustments to reduce inventory to the lower of cost or market in the amount of $194 and $668, respectively. Cost is determined based on the first-in, first-out method.

Derivative Instruments and Hedging Activities

The Company has entered into derivatives to hedge its exposure to price risk related to soybean oil inventory and biodiesel inventory. Additionally, the Company has entered into an interest rate swap with the objective of managing risk caused by fluctuations in interest rates associated with the REG Danville note payable.

These derivative contracts are accounted for in accordance with ASC Topic 815, Derivatives and Hedging (ASC Topic 815), as amended. ASC Topic 815 requires that an entity recognize and record all derivatives on the balance sheet at fair value. All of the Company’s derivatives are designated as non-hedge derivatives and are utilized to manage cash flow. Although the contracts may be effective economic hedges of specified risks, they are not designated as, nor accounted for, as hedging instruments. Unrealized gains and losses on futures and options contracts used to hedge soybean oil purchases or biodiesel inventory are recognized as a component of biodiesel costs of goods sold, and therefore are reflected in current results of operations. Unrealized gains and losses on the interest rate swap are recorded in change in fair value of interest rate swap in the Company’s statements of operations.

Valuation of Preferred Stock Conversion Feature Embedded Derivatives

As stated in “Note 1 – Organization, Presentation and Nature of the Business”, in connection with the Biofuels Merger, all outstanding shares of Biofuels preferred stock were converted into Company Series A Preferred Stock.

The Series A Preferred Stock terms provide for voluntary and, under certain circumstances, automatic conversion of the Series A Preferred Stock to Common Stock based on a prescribed formula. In addition, shares of Series A Preferred Stock are subject to redemption at the election of the holder beginning February 26, 2014. The redemption price is equal to the greater of (i) an amount equal to $13.75 per share of Series A Preferred Stock plus any and all accrued dividends, not to exceed $16.50 per share, or (ii) the fair market value of the Series A Preferred Stock. Under ASC Topic 815, the Company is required to bifurcate and account for as a separate liability certain derivatives embedded in its contractual obligations. An “embedded derivative” is a provision within a contract, or other instrument, that affects some or all of the cash flows or the value of that contract, similar to a derivative instrument. Essentially, the embedded provision within the contract contains all of the attributes of a free-standing derivative, such as an underlying market variable, a notional amount or payment provision, and can be settled “net,” but the contract, in its entirety, does not meet the ASC Topic 815 definition of a derivative.

The Company has determined that the conversion feature of the Series A Preferred Stock (the former Biofuels preferred stock) is an embedded derivative because the redemption feature allows the holder to redeem Series A Preferred Stock for cash at a price which can vary based on the fair market value of the Series A Preferred Stock, which effectively provides the holders with a mechanism to “net settle” the conversion option. Consequently, the embedded conversion option must be bifurcated and accounted for separately because the economic characteristics of this conversion option are not considered to be clearly and closely related to the economic characteristics of the Series A Preferred Stock, which is considered more akin to a debt instrument than equity.

Accordingly, upon issuance of the Series A Preferred Stock, the Company recorded a liability representing the estimated fair value of the right of holders of the Series A Preferred Stock to receive the fair market value of the Common Stock issuable upon conversion of the Series A Preferred Stock on the redemption date. This liability is adjusted each quarter based on changes in the estimated fair value of such right, and a corresponding income or expense is recorded in change in fair value of the Series A Preferred Stock conversion feature embedded derivatives in the Company’s statements of operations.

The Company uses the option pricing method to value the embedded derivative. The Company used the Black-Scholes options pricing model to estimate the fair value of the conversion option embedded in each series of Biofuels preferred stock prior to February 26, 2010 and the Series A Preferred Stock as of and subsequent to February 26, 2010. The Black-Scholes options pricing model requires the development and use of highly subjective assumptions. These assumptions include the expected volatility of the value of the Company’s equity, the expected conversion date, an appropriate risk-free interest rate, and the estimated fair value of the Company’s equity. The expected volatility of the Company’s equity is estimated based on the volatility of the value of the equity of

 

9


publicly traded companies in a similar industry and general stage of development as the Company. The expected term of the conversion option is based on the period remaining until the contractually stipulated redemption date of February 26, 2014. The risk-free interest rate is based on the yield on U.S. Treasury STRIPs with a remaining term equal to the expected term of the conversion option. The development of the estimated fair value of the Company’s equity is discussed below in “Valuation of the Company’s Equity.”

The significant assumptions utilized in the Company’s valuation of the embedded derivative are as follows:

 

     December 31,
2009
    February 26,
2010
    June 30,
2010
 
      

Expected volatility

   50.00   40.00   40.00

Risk-free rate

   0.89   4.40   3.70

Valuation of Seneca Holdco Liability

Associated with the Company’s transaction with Nova Biofuels, LLC (See Note 6 – Acquisitions), the Company has the option to purchase (Call Option) and Seneca Holdco, LLC has the option to require the Company to purchase (Put Option) the membership interest of Seneca Landlord, LLC whose assets consist primarily of a biodiesel plant located in Seneca, Illinois. Both the Put Option and the Call Option have a term of seven years and are exercisable by either party at a price based on a pre-defined formula. The Company has valued the amounts financed by Seneca Holdco, LLC, the Put Option, and the Call Option using an option pricing model. The fair values of the Put Option and the Call Option were estimated using an option pricing model, and represent the probability weighted present value of the gain that is realized upon exercise of each option. The option pricing model requires the development and use of highly subjective assumptions. These assumptions include (i) the value of the Company’s equity, (ii) expectations regarding future changes in the value of the Company’s equity, (iii) expectations about the probability of either option being exercised, including the Company’s ability to list its securities on an exchange or complete a public offering, and (iv) an appropriate risk-free rate. Company management considered current public equity markets, relevant regulatory issues, biodiesel industry conditions and the Company’s position within the industry when estimating the probability that the Company will raise additional capital. Differences in the estimated probability and timing of this event may significantly impact the fair value assigned to the Seneca Holdco Liability as management has determined it is not likely that the Put Option will become exercisable in the absence of this event.

The significant assumptions utilized in the Company’s valuation of the Seneca Holdco liability are as follows:

 

     April 9,
2010
    June 30,
2010
 
    

Expected volatility

   50.00   50.00

Risk-free rate

   4.60   3.70

Probability of IPO (proceeds over $50 million)

   60.00   60.00

Preferred Stock Accretion

Beginning October 1, 2007, the date that the Company determined that there was a more than remote likelihood that the then issued and outstanding preferred stock would become redeemable, the Company commenced accretion of the carrying value of the preferred stock over the period until the earliest redemption date, which was August 1, 2011, to the Biofuels preferred stock’s redemption value, plus accrued but unpaid dividends using the effective interest method. This determination was based upon the current state of the public equity markets which was restricting the Company’s ability to execute a qualified public offering, the Company’s historical operating results, and the volatility in the biodiesel and renewable fuels industries which have resulted in lower projected profitability. Prior to October 1, 2007, the Company had determined that it was not probable that the preferred stock would become redeemable; therefore, the carrying value was not adjusted in accordance with ASC Topic 480-10-S99, Classification and Measurement of Redeemable Securities.

On February 26, 2010, the Company determined that there was a more than remote likelihood that the Series A Preferred Stock would become redeemable, the Company commenced accretion of the carrying value of the Series A Preferred Stock over the period until the earliest redemption date (February 26, 2014) to the Series A Preferred Stock’s redemption value, plus accrued but unpaid dividends using the effective interest method. This determination was based upon the current state of the public equity markets which is restricting the Company’s ability to execute a qualified public offering, the Company’s historical operating results, and the volatility in the biodiesel and renewable fuels industries which have resulted in lower projected profitability.

Accretion of $10,410 and $19,776 for the three and six months ended June 30, 2009, respectively, and $5,178 and $16,246 for the three and six months ended June 30, 2010, respectively, has been recognized as a reduction to income available to common stockholders in accordance with paragraph 15 of ASC Topic 480-10-S99.

Valuation of the Company’s Equity

The Company considered three generally accepted valuation approaches to estimate the fair value of the aggregate equity of the Company: the income approach, the market approach and the cost approach. Ultimately, the estimated fair value of the aggregate

 

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equity of the Company was developed using the Income Approach—Discounted Cash Flow (DCF) method. The value derived using this approach was supported by a variation of the Market Approach, specifically comparisons of the implied multiples derived using the DCF method to the multiples of various metrics calculated for guideline public companies.

Material underlying assumptions in the DCF analysis include the gallons produced and managed, gross margin per gallon, expected long-term growth rates and an appropriate discount rate. Gallons produced and managed as well as the gross margin per gallon were determined based on historical and forward-looking market data.

The discount rate used in the DCF analysis is based on macroeconomic, industry and Company-specific factors and reflects the perceived degree of risk associated with realizing the projected cash flows. The selected discount rate represents the weighted average rate of return that a market participant investor would require on an investment in the Company’s debt and equity. The percent of total capital assumed to be comprised of debt and equity when developing the weighted average cost of capital was based on a review of the capital structures of the Company’s publicly traded industry peers. The cost of debt was estimated utilizing the adjusted average 20-Year B-rated corporate bond rate during the previous 12 months representing a reasonable market participant rate based on the Company’s publicly traded industry peers. The Company’s cost of equity was estimated utilizing the capital asset pricing model, which develops an estimated market rate of return based on the appropriate risk-free rate adjusted for the risk of the biofuel industry relative to the market as a whole, an equity risk premium and a company specific risk premium. The risk premiums included in the discount rate were based on historical and forward looking market data.

Discount rates utilized in the Company’s DCF model are as follows:

 

     December 31,
2009
    February 26,
2010
    June 30,
2010
 

Discount rate

   13.00   15.00   15.00

Valuations derived from this model are subject to ongoing verification and review. Selection of inputs involves management’s judgment and may impact net income. This analysis is done on a regular basis and takes into account factors that have changed from the time of the last Common Stock issuance. Other factors affecting our assessment of price include recent purchases or sales of our Common Stock, if available.

Non-monetary Exchanges

The Company records assets acquired and liabilities assumed through the exchange of non-monetary assets based on the fair value of the assets and liabilities acquired or the fair value of the consideration exchanged, whichever is more readily determinable.

 

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Property, Plant and Equipment

Property, plant and equipment is recorded at cost, including applicable construction-period interest, less accumulated depreciation. Maintenance and repairs are expensed as incurred. Depreciation expense is computed on a straight-line method based upon estimated useful lives of the assets. Estimated useful lives are as follows:

 

Automobiles and trucks

   5 years

Computers and office equipment

   5 years

Office furniture and fixtures

   7 years

Machinery and equipment

   10-30 years

Leasehold improvements

   the lesser of the lease term or 30 years

Buildings and improvements

   30-40 years

Goodwill

The Company accounts for goodwill in accordance with ASC Topic 350, Intangibles – Goodwill and Other. Goodwill is reviewed annually by reporting unit for impairment or between annual periods when management believes impairment indicators exist. If the carrying value of the reporting unit goodwill is considered impaired, a loss is recognized based on the amount by which the carrying value exceeds the fair market value of the reporting unit goodwill. Fair value is determined using a discounted cash flow methodology involving a significant level of judgment in the assumptions used. Changes to the Company’s strategy or market conditions could significantly impact these judgments and require adjustments to recorded amounts of goodwill. There was no impairment of goodwill recorded in the periods presented. Goodwill relating to the Blackhawk Merger and CIE Asset Acquisition was initially recorded in the first quarter 2010 and was finalized during the second quarter of 2010.

The following table summarizes goodwill for the Company’s business segments:

 

     Biodiesel    Services    Total

Ending balance - December 31, 2008

   $ —      $ 16,080    $ 16,080

Acquisitions

     —        —        —  
                    

Ending balance - June 30, 2009

   $ —      $ 16,080    $ 16,080
                    

Ending balance - December 31, 2009

   $ —      $ 16,080    $ 16,080

Blackhawk Biofuels acquisition

     43,896      —        43,896

CIE acquisition

     25,163      —        25,163
                    

Ending balance - June 30, 2010

   $ 69,059    $ 16,080    $ 85,139
                    

Revenue Recognition

The Company recognizes revenues from the following sources:

   

the sale of biodiesel and its co-products — both purchased and produced by the Company

 

   

fees received from federal and state incentive programs for renewable fuels

 

   

fees received for the marketing and sales of biodiesel produced by third parties and from managing operations of third party facilities

Biodiesel sales revenues are recognized where there is persuasive evidence of an arrangement, delivery has occurred, the price has been fixed or is determinable and collectability can be reasonably assured.

Revenues associated with the governmental incentive programs are recognized when the amount to be received is determinable, collectability is reasonably assured, and the sale of product giving rise to the incentive has been recognized.

Fees for managing ongoing operations of third party plants, marketing biodiesel produced by third party plants and from other services are recognized as services are provided. The Company also has performance based incentive agreements that are included as management service revenues. These performance incentives are recognized as revenues when the amount to be received is determinable and collectability is reasonably assured.

The Company acts as a sales agent for certain third parties, thus the Company recognizes revenues on a net basis in accordance with ASC Topic 605-45, Revenue Recognition (ASC Topic 605-45).

 

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Stock-Based Compensation

The Company has two stock incentive plans. On July 31, 2006, the Biofuels Board of Directors (Biofuels Board) approved the 2006 Stock Incentive Plan. On May 6, 2009, the Company Board of Directors (Company Board) approved the 2009 Stock Incentive Plan. Eligible award recipients are employees, non-employee directors and advisors. The Company accounted for stock-based compensation in accordance with ASC Topic 718, Stock Compensation (ASC Topic 718). Compensation expense was recorded for stock options awarded to employees and non-employee directors in return for service. The expense was measured at the grant-date fair value of the award and recognized as compensation expense over the vesting period. The Company recorded expense based upon the vesting schedule of the awards.

Income Taxes

The Company recognizes deferred taxes by the asset and liability method. Under this method, deferred income taxes are recognized for differences between the financial statement and tax bases of assets and liabilities at enacted statutory tax rates in effect for the years in which differences are expected to reverse. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. In addition, the carrying amount of deferred tax assets are reviewed to determine whether the establishment of a valuation allowance is necessary. If it is more-likely-than-not that all or a portion of the Company’s deferred tax assets will not be realized, based on all available evidence, a deferred tax valuation allowance would be established. Consideration is given to positive and negative evidence related to the realization of the deferred tax assets. Significant judgment is required in making this assessment.

In evaluating the available evidence, management considers, among other factors, historical financial performance, expectation of future earnings, length of statutory carry forward periods, experience with operating loss and tax credit carry forwards not expiring unused, tax planning strategies and timing of reversals of temporary differences. In evaluating losses, management considers the nature, frequency and severity of losses in light of the conditions giving rise to those losses. As of December 31, 2009, management concluded that the 2008 and 2009 book and tax losses that result in cumulative losses represent negative evidence. This evidence combined with the uncertainty surrounding the future availability of the federal blender’s credit that expired on December 31, 2009 and has yet to be renewed provides negative evidence that cannot be overcome by positive and objectively verifiable evidence. Based on this evaluation, management has concluded as of December 31, 2009, a valuation allowance was required for the entire amount of the Company’s net deferred tax assets since positive, objectively verifiable evidence was not available to prove that it was more likely than not that the Company would be able to realize these assets.

During the three and six months ended June 30, 2010 the Company did not record an income tax benefit or expense related to its operations as all amounts were offset by a related change in the valuation allowance. Deferred tax liabilities were recorded during the six months ended June 30, 2010 as a result of the Blackhawk Merger and CIE Asset Purchase. As the deferred tax liabilities were recorded, the resulting decrease in net deferred tax assets required a lower valuation allowance. The release of the associated valuation allowance resulted in an income tax benefit.

Prior to deconsolidation on January 1, 2010 and the Blackhawk Merger, Blackhawk was treated as a partnership for federal and state income tax purposes and generally did not incur income taxes. Instead, its earnings and losses were included in the income tax returns of its members. Therefore, no provision or liability for federal or state income taxes was included in the consolidated financial statements of the Company as of December 31, 2009 aside from its pro-rata share determined based on its ownership interest.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the dates of the financial statements and reported amounts of revenues and expenses during the reporting periods. These estimates are based on information that is currently available to management and on various assumptions that the Company believes to be reasonable under the circumstances. Actual results could differ from those estimates.

 

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New Accounting Pronouncements

In June 2009, the FASB issued ASU No. 2009-17, Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities, which amends ASC Topic 810, Consolidations (ASU No. 2009-17). This Statement requires a qualitative analysis to determine the primary beneficiary of a Variable Interest Entity (VIE). The analysis identifies the primary beneficiary as the enterprise that has both the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance and the obligation to absorb losses or the right to receive benefits that could be significant to the VIE. The Statement also requires additional disclosures about an enterprise’s involvement in a VIE. The effective date is the beginning of fiscal year 2010. The Company adopted this statement effective January 1, 2010 which resulted in the deconsolidation of Blackhawk and additional disclosure requirements. See “Note 7 – Variable Interest Entities” for additional information.

In January 2010, the FASB issued Accounting Standards Update (ASU) No. 2010-06, Fair Value Measurements and Disclosures (ASU 2010-06), which amends ASC Topic 820, adding new requirements for disclosures for Levels 1 and 2, separate disclosures of purchases, sales issuances, and settlements related to Level 3 measurements and clarification of existing fair value disclosures. ASU 2010-06 is in effect for interim and annual periods beginning after December 15, 2009, except for the requirement to provide Level 3 activity of purchases, sales, issuances, and settlements on a gross basis, which will be effective for fiscal years beginning after December 15, 2010. The adoption of this guidance did not have a material effect on the Company’s financial statements and the Company does not anticipate the remaining disclosures will have a material effect on the Company’s financial statements.

 

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NOTE 3 — STOCKHOLDERS’ EQUITY OF THE COMPANY

Common Stock

On February 26, 2010, the Company filed its restated certification of incorporation with the Secretary of State of Delaware. The restated certificate of incorporation authorized 140,000,000 shares of Common Stock at a par value of $0.0001 per share. See “Note 6 – Acquisitions” for information related to Common Stock issued in connection with the Acquisitions.

Each holder of Common Stock is entitled to one vote for each share of Common Stock held on all matters submitted to a vote of stockholders. Subject to preferences that may apply to shares of outstanding Series A Preferred Stock as outlined below, the holders of outstanding shares of the Common Stock are entitled to receive dividends. After the payment of all preferential amounts required to the holders of Series A Preferred Stock, all of the remaining assets of the Company available for distribution shall be distributed ratably among the holders of Common Stock.

Common Stock Issued During 2010:

On February 26, 2010, the Company issued 6,753,311 shares of Common Stock to the shareholders of Blackhawk in exchange for outstanding shares of Blackhawk.

On March 8, 2010, the Company issued 4,252,830 shares of Common Stock to CIE and to Houlihan Smith & Company in connection with the purchase of substantially all CIE company assets.

On April 9, 2010, the Company issued 500,000 shares of Common Stock to West LB in connection with the issuance of a Revolving Credit Agreement to the Company.

Common Stock Warrants

Under the warrants, the holder may purchase one share of Common Stock for each warrant held for various purchase prices per share. The warrant holder may “net exercise” the warrants and use the common shares received upon exercise of the warrants outstanding as the consideration for payment of the exercise price.

The warrant holders are generally protected from anti-dilution by adjustments for any stock dividends, stock split, combination, or other recapitalization.

NOTE 4 — REDEEMABLE PREFERRED STOCK

The Company’s restated certificate of incorporation filed on February 26, 2010 authorizes 60,000,000 shares of preferred stock with a par value of $0.0001. The Company Board has the discretion, subject to the approval of certain shareholders, as to the designation of voting rights, dividend rights, redemption price, liquidation preference and other provisions of each issuance. See “Note 6 – Acquisitions” for information related to the cancellation of all outstanding Biofuels preferred stock on February 26, 2010 and the issuance of Series A Preferred Stock in connection with the Acquisitions.

Dividend Provisions

The holders of the Series A Preferred Stock accrue dividends at the rate of $0.88 per share per annum. Dividends are cumulative, accrue on a daily basis from the date of issuance and compound annually from the date of issuance. If dividends on the Series A Preferred Stock have not been paid or declared, the deficiency shall be paid or declared before any dividend is declared for Common Stock. Dividends in arrears do not bear interest. Holders of the Series A Preferred Stock are allowed to participate in the dividends to common stockholders in the event that dividends on Common Stock exceed that of the Series A Preferred Stock as if the Series A Preferred Stock had been converted to Common Stock at the beginning of the year. Holders of at least seventy-five percent of the outstanding shares of the Series A Preferred Stock that were issued in exchange for shares of the Series A, Series AA, Series B or Series BB Biofuels Preferred Stock, pursuant to the Biofuels Merger agreement (Preferred Supermajority) may vote to waive the timing or amount of any dividend payment. The Company has not declared any dividends on the Series A Preferred Stock outstanding. Dividends previously accrued on the Biofuels preferred stock were forgone in connection with the Biofuels Merger and issuance of the Series A Preferred Stock. There were $33,388 of Biofuels preferred stock dividends in arrears as of December 31, 2009 and $4,073 of the Series A Preferred Stock dividends in arrears as of June 30, 2010.

Liquidation Rights

Upon the occurrence of a voluntary or involuntary liquidation (including consolidations, mergers or sale of assets as defined by the preferred stock agreement), if the remaining net assets of the Company are sufficient, the holders of the Series A Preferred Stock shall be paid no less than liquidation value plus all dividends in arrears (whether or not declared), out of the assets of the Company legally available for distribution to its stockholders, before any payment or distribution is made to any holders of Common Stock.

 

15


If upon any liquidation or dissolution, the remaining net assets of the Company are insufficient to pay the amount that the Series A Preferred Stock holders are due as indicated above, the holders of Series A Preferred Stock will share ratably in any distribution of the remaining assets of the Company.

Conversion Rights

All shares of the Series A Preferred Stock will be converted into shares of Common Stock at the then applicable conversion ratio on the date:

 

  a) of a closing of the sale of shares of Common Stock at a level at or exceeding $22.00, in a Qualified Pulic Offering (QPO), requiring aggregate proceeds to the Company of at least $40 million, or

 

  b) specified in a written contract or agreement of the Preferred Supermajority, or

 

  c) the shares of Common Stock have a closing price on NASDAQ or any national securities exchange in excess of $24.75 per share for ninety (90) consecutive trading days with an average daily trading volume on such trading days of at least US $8,000.

Voting Rights

Each holder of the Series A Preferred Stock is entitled to the number of votes equal to the number of shares of Common Stock into which the Series A Preferred Stock held by such holder are convertible.

Additionally, the Company is prohibited, without obtaining the approval of the Preferred Supermajority from performing certain activities including, but not limited to, amending shareholder agreements, redeeming or purchasing any outstanding shares of the Company, declaring dividends, making certain capital expenditures and merging or consolidating with other entities.

Redemption Rights

On or after February 26, 2014, the Preferred Supermajority may require that the Company redeem all or part of the issued and outstanding shares of the Series A Preferred Stock out of funds lawfully available; provided, however, that any such redemptions equal in the aggregate $5,000. The redemption price is the greater of the fair market value per share at the date of the redemption election or $13.75 per share of the Series A Preferred Stock, plus accrued and unpaid preferred stock dividends, not to exceed $16.50 per share.

Preferred Stock Issued During 2010:

On February 26, 2010, the Company exchanged 700,000 shares of Common Stock issued to USRG HoldCo V LLC, Ohana Holdings LLC, ED&F Man Holdings B.V. and others for 700,000 shares of Series A Preferred Stock.

The Company applied the guidance in EITF Topic No. D-42: The Effect on the Calculation of Earnings per Share for the Redemption or Induced Conversion of Preferred Stock (codified to ASC 260-10 S99-2) in regards to the exchange of common shares for preferred shares and the exchange of one series of preferred shares for a different series of preferred shares.

The Company compared the fair value of the preferred shares issued to the carrying amount of the preferred and common shares that were redeemed. The excess of the carrying amount of preferred and common share that were redeemed over the fair value of the preferred shares issued was recorded as an increase in additional paid-in capital and was added to net earnings available to common shareholders.

On February 26, 2010, the Company issued 132,680 shares of Series A Preferred Stock to the shareholders of Blackhawk in exchange for the outstanding Series A Units of Blackhawk.

On March 8, 2010, the Company issued 158,485 shares of Series A Preferred Stock to CIE and to Houlihan Smith & Company in connection with the purchase of substantially all of CIE company assets.

NOTE 5 — BLACKHAWK

On May 9, 2008 the Company was party to a transaction, whereby Blackhawk purchased a 45 mmgy biodiesel production facility under construction located in Danville, Illinois from Biofuels Company of America, LLC. Blackhawk received the plant assets under construction and assumed a term construction loan with principal outstanding of $24,650 in exchange for $5,250 in cash and 1,980,488 shares of Common Stock of the Company set forth in the purchase agreement at $10.25 per share. Additionally, the Company issued 127,273 shares of Series B Preferred Stock with a per share value of $11.00 as established in the purchase agreement, to Bunge North America, Inc. (Bunge) on behalf of Blackhawk. In exchange for the Series B Preferred Stock Blackhawk entered into a soy oil supply agreement with Bunge. In exchange for the Biofuels Common and Biofuels Preferred Stock issued, the Company received a subordinated convertible note from Blackhawk with a par value of $21,700.

According to the terms of the agreement, the outstanding principal may be payable in cash or Blackhawk membership units as determined at the Company’s sole discretion. Principal is due upon maturity on May 9, 2013 and may be prepaid at any time at the

 

16


election of Blackhawk. Additionally, the Company may elect to convert the outstanding principal to membership units of Blackhawk upon successful completion of an IPO, change in control of the Company, or May 9, 2011. Interest on the note is accrued at a rate equal to the 30 day LIBOR plus a spread of 500 basis points that is payable in cash or membership units of Blackhawk at Blackhawk’s sole discretion.

Simultaneously with this transaction the Company entered into a MOSA with Blackhawk to manage the operations of the newly acquired plant as well as a design-build agreement to perform construction services retrofitting the plant to produce biodiesel using alternative feedstocks. Finally, the Company received 51,563 warrants to purchase membership units in Blackhawk at $0.01 per share at anytime with no scheduled expiration. The warrants were received by the Company as compensation for providing a guarantee of $1.5 million in indebtedness of Blackhawk under the term construction loan and they vest 20% per year after the date of issuance until fully vested.

The Company held 1,000,000 membership units of Blackhawk as of May 9, 2008 and has subsequently received an additional 327,017 units, 658,052 units and 145,307 units in 2008, 2009 and 2010, respectively, in lieu of interest on the subordinated convertible note. The Company’s interest represents ownership interests in Blackhawk of 11.6% and 12.4% as of December 31, 2009 and February 26, 2010, respectively.

Prior to January 1, 2010, the Company consolidated Blackhawk according to the then requirements of ASC Topic 810 as they were determined to be the primary beneficiary (PB). The Company determined it was the PB as it holds significant variable interests resulting in it receiving the majority of Blackhawk’s expected losses or the majority of its expected residual returns. Variable interests in Blackhawk held by the Company are the subordinated convertible note, membership units, guaranty of indebtedness of up to $1,500, warrants, MOSA, and the design-build agreement.

As a result of the consolidation, all accounts of Blackhawk have been included with the Company’s financial statements as of May 9, 2008, the date of the transaction. As required by ASC Topic 810 the assets, including cash of $2,225, and liabilities consolidated by the Company were recorded at their relative fair values. The fair value of the Biofuels Common and Biofuels Preferred Stock transferred as consideration was determined as further discussed in “Note 2 – Summary of Significant Accounting Policies” and is summarized as follows:

 

     Fair Value    Fair Value
Per Share

Common

   $ 1,763    $ 0.89

Series B Preferred

     1,231    $ 9.67
         

Total

   $ 2,994   
         

The assets and liabilities consolidated by the Company from Blackhawk did not represent a business as defined in ASC Topic 805, Business Combinations, therefore no goodwill was recorded. Accordingly, the Company consolidated Blackhawk and accounts for the membership units not held by the Company as a noncontrolling interest.

On January 1, 2010, the Company deconsolidated Blackhawk as a result of adopting ASU No. 2009-17, as it was determined that the Company was no longer the PB (Blackhawk Deconsolidation). Although the financial arrangements mentioned above resulted in the Company holding substantial variable interests in Blackhawk, they did not give the Company the power to direct the activities that most significantly impact Blackhawk’s economic performance. Consequently, subsequent to adopting this accounting pronouncement, the Company deconsolidated Blackhawk. See “Note 7 – Variable Interest Entities” for additional information. Upon deconsolidation, an equity investment in Blackhawk of $3,969 and a subordinated convertible note receivable of $24,298 were recognized at fair value using the option available under ASC Topic 825, Financial Instruments, and the previously consolidated amounts were removed from the consolidated balance sheet. The difference between the amounts recognized at fair value and the removal of the previously consolidated amounts was recorded to retained earnings (accumulated deficit).

On February 26, 2010, the Company completed the Blackhawk Merger. See “Note 6 – Acquisitions” for additional information regarding the accounting for the Blackhawk Merger.

NOTE 6 — ACQUISITIONS

On February 26, 2010, the Company completed its mergers with Biofuels and Blackhawk and on March 8, 2010 the Company completed the asset purchase of CIE. The Company also completed the asset purchase of Nova Biosource Fuels, Inc. on April 8, 2010.

REG Biofuels, Inc.

On February 26, 2010, the Company completed its merger with Biofuels.

Pursuant to the Second Amended and Restated Agreement and Plan of Merger, executed November 20, 2009, dated and effective as of the original execution date, May 11, 2009, REG Merger Sub, Inc., a Delaware corporation and wholly owned subsidiary of the Company was merged with and into Biofuels. Upon consummation of the merger, Biofuels became a wholly owned

 

17


subsidiary of the Company. At the closing, each share of Biofuels’ Common Stock issued and outstanding immediately prior to the effective time was converted into the right to receive one share of the Common Stock, $0.0001 par value per share, and each share of Biofuels’ preferred stock issued and outstanding immediately prior to the effective time was converted into the right to receive one share of the Series A Preferred Stock, $0.0001 par value per share.

The Company accounted for the Biofuels Merger as a business combination in accordance with ASC Topic 805. When accounting for the exchange of shares between entities under common control, the entity that receives the net assets shall initially recognize the assets and liabilities transferred at their carrying amounts in the accounts of the transferring entity at the date of transfer.

As the transaction was accounted for with carryover basis, no goodwill was recognized in conjunction with the Biofuels Merger, and no significant contingent assets or liabilities were acquired or assumed in the Biofuels Merger.

Blackhawk Biofuels LLC

On February 26, 2010, the Company completed the Blackhawk Merger.

Pursuant to the Second Amended and Restated Agreement and Plan of Merger, executed November 21, 2009, dated and effective as of the original execution date, May 11, 2009, REG Danville, LLC, a wholly owned subsidiary of the Company, was merged with and into Blackhawk. Upon consummation of the merger, Blackhawk became a wholly owned subsidiary of the Company and changed its name to REG Danville, LLC. Pursuant to the Blackhawk Merger, each outstanding Blackhawk Series A Units (other than such units held by Biofuels or any affiliate of Biofuels) was converted into 0.4479 shares of Common Stock and 0.0088 shares of Series A Preferred Stock. Each outstanding warrant for the purchase of series A units of Blackhawk became exercisable for the purchase of shares of Common Stock, with the number of shares and exercise price per share adjusted appropriately based on the 0.4479 shares exchange ratio. The former members of Blackhawk have received 132,680 shares of Series A Preferred Stock and 6,753,311 shares of Common Stock.

As of the date the financial statements were issued for the three months ended March 31, 2010, the Company was still in the process of determining the acquisition price of Blackhawk. The actual allocation of the recorded amounts of the Blackhawk Merger consideration transferred and the recognized amounts of the assets acquired and liabilities assumed were later determined during the three months ended June 30, 2010 based on the final appraisals and evaluation and estimations of fair value as of the acquisition date.

 

18


The following table summarizes the preliminary and final allocations of the purchase price to the fair values of the assets acquired and liabilities assumed at the date of acquisition:

 

     Preliminary
Allocation at
February 26, 2010
    Adjustments to
Purchase
Price Allocation
    Final
Allocation at
February 26, 2010
 

Assets (liabilities) acquired:

      

Cash

   $ 1      $ —        $ 1   

Restricted cash

     2,002        —          2,002   

Other current assets

     638        221        859   

Property, plant and equipment

     61,969        (6,716     55,253   

Goodwill

     39,933        3,963        43,896   

Other noncurrent assets

     231        —          231   

Line of credit

     (350     —          (350

Other current liabilities

     (3,621     —          (3,621

Notes payable

     (48,677     (66     (48,743

Other noncurrent liabilities

     (9,105     2,598        (6,507
                        

Fair value of common and preferred stock issued

   $ 43,021      $ —        $ 43,021   
                        

The adjustments to the preliminary purchase price allocation recorded during the three months ended June 30, 2010 did not have a material impact on the condensed consolidated statement of operations.

There were no changes to the preliminary acquisition price summarized as follows:

 

     Final Value at February 26, 2010
     Fair Value    Fair Value per
Share

Fair value of stock issued:

     

Warrants

   $ 1,269    $ 3.78

Common Stock

     40,721    $ 6.03

Series A Preferred

     1,031    $ 7.77
         

Total

   $ 43,021   
         

Since all of REG Danville’s revenues for the period from February 26, 2010 through June 30, 2010 consisted entirely of tolling fees from REG Marketing & Logistics Group, LLC (REG Marketing), they were eliminated on a consolidated basis. The net loss generated by REG Danville for the three and six months ended June 30, 2010 included in the condensed consolidated statement of operations was $2,997 and $4,037, respectively.

Central Iowa Energy LLC

On March 8, 2010, the Company completed its acquisition of substantially all of the assets of CIE.

Pursuant to the Second Amended and Restated Asset Purchase Agreement, executed November 20, 2009, dated and effective as of the original execution date, May 8, 2009, REG Newton, LLC, a wholly owned subsidiary of the Company, acquired substantially all assets and liabilities of CIE. At closing, the Company delivered to CIE an aggregate of 158,485 shares of Series A Preferred Stock and 4,252,830 shares of Common Stock.

As of the date the financial statements were issued for the three months ended March 31, 2010, the Company was still in the process of determining the acquisition price of CIE. The actual allocation of the recorded amounts of the CIE Asset Purchase consideration transferred and the recognized amounts of the assets acquired and liabilities assumed were later determined during the three months ended June 30, 2010 based on the final appraisals and evaluation and estimations of fair value as of the acquisition date.

 

19


The following table summarizes the final allocation of the purchase price to the fair values of the assets acquired and liabilities assumed at the date of acquisition:

 

     Final
Allocation at
March 8, 2010
 

Assets (liabilities) acquired:

  

Cash

   $ 403   

Restricted cash

     300   

Other current assets

     483   

Property, plant and equipment

     32,153   

Goodwill

     25,163   

Line of credit

     (550

Other current liabilities

     (1,927

Notes payable

     (23,925

Other noncurrent liabilities

     (5,222
        

Fair value of common and preferred stock issued

   $ 26,878   
        

There were no adjustments to the preliminary purchase price allocation during the three months ended June 30, 2010.

There were no changes to the preliminary acquisition price summarized as follows:

 

     Final Value at March 8, 2010
     Fair Value    Fair Value per
Share

Fair value of stock issued:

     

Common Stock

   $ 25,645    $ 6.03

Series A Preferred

     1,233    $ 7.77
         

Total

   $ 26,878   
         

Since all of REG Newton’s revenues for the period from February 26, 2010 through June 30, 2010 consisted entirely of contract manufacturing fees from REG Marketing, they were eliminated on a consolidated basis. The net loss generated by REG Newton for the three and six months ended June 30, 2010 included in the condensed consolidated statement of operations was $754 and $1,318, respectively.

The following pro forma condensed combined results of operations assume that the Blackhawk Merger and CIE Asset Acquisition were completed as of January 1, 2009 and January 1, 2010, respectively:

 

     Three Months
Ended
June 30, 2009
    Three Months
Ended
June 30, 2010
    Six Months
Ended
June 30, 2009
    Six Months
Ended
June 30, 2010
 

Revenues

   $ 30,894      $ 46,337      $ 51,995      $ 83,980   

Net loss

   $ (6,977   $ (392   $ (13,308   $ (356

Nova Biosource Fuels, Inc.

On April 8, 2010, the Company entered into a series of agreements related to the asset purchase agreement with Nova Biosource Fuels, Inc. In September 2009, the United States Bankruptcy Court for the District of Delaware entered an order authorizing the sale of assets by Nova Biofuels Seneca, LLC (Nova Seneca) and Nova Biosource Technologies, LLC, (Nova Technologies), to a wholly owned subsidiary of Biofuels, pursuant to terms of an Asset Purchase Agreement, dated as of September 23, 2009 (the Nova Asset Purchase Agreement). The assets of Nova Seneca and Nova Technologies (the Seneca Assets), including the 60 mmgy biodiesel facility located in Seneca, Illinois (Seneca Facility) was acquired from Chapter 11 debtors in possession initially by the Company and immediately thereafter was sold to an entity owned by three significant stockholders of the Company or their affiliates: Bunge North America, Inc., USRG Holdco V, LLC and West Central Cooperative. These stockholder parties facilitated the transactions described above by, among other things, creating Seneca Landlord, LLC (Landlord), agreeing to invest $4,000 for repairs to the Seneca Facility and in consideration therefore received guarantees of certain payments and other obligations from the Company described below.

REG Seneca and Landlord entered into a Lease Agreement that governs REG Seneca’s lease of the Seneca Facility from Landlord. The Lease has a term of 7 years on a net lease basis covering the debt service on $36,250 of mortgage indebtedness against the Seneca Facility, as well as taxes, utilities, maintenance and other operating expenses.

 

20


REG Seneca will pay Landlord a $600 per year fee (Fee), payable $150 per quarter, which is guaranteed by the Company. During the term of the lease, Seneca Holdco has a put option to the Company of the Landlord equity interests after one year, April 8, 2011, provided the Company has a minimum excess net working capital (as defined) of 1.5 times the put/call price. During this time, the Company also has a call option of the Landlord equity interests. The put/call price is the greater of three times the initial investment or an amount yielding a 35% internal rate of return. If the put/call is exercised within three years, the Fee and distributions in the first three years are credited to the put/call price. At the time the put or call is exercised, the Company will issue 150,000 shares of Common Stock to Seneca Holdco.

REG Services Group, LLC (REG Services), an indirect wholly owned subsidiary of the Company, will manage REG Seneca pursuant to a MOSA. The Company granted an option to purchase substantial amounts of glycerin produced at the Company’s biodiesel facilities to one of the Seneca Holdco investors and the Company agreed with another of the Seneca Holdco investors to purchase a substantial amount of corn oil for use at the Seneca Facility or other Company facilities.

The Company determined that the Seneca Assets do not constitute a business as defined under ASC Topic 805 on the basis that the Seneca Assets are not an integrated set of activities or assets that are capable of being conducted or managed in a manner that would provide any economic benefit or return to the Company. As a result, the Company accounted for the purchase of the Seneca Assets as an asset acquisition. Neither goodwill nor a gain from a bargain purchase was recognized in conjunction with the acquisition, and no significant contingent assets or liabilities were acquired or assumed in the acquisition.

See “Note 7 – Variable Interest Entities” for information on the accounting of the aforementioned transaction.

NOTE 7 — VARIABLE INTEREST ENTITIES

In June 2009, the FASB amended its guidance on accounting for VIEs through the issuance of ASU No. 2009-17. The new accounting guidance resulted in a change in our accounting policy effective January 1, 2010. Among other things, the new guidance requires a qualitative analysis to determine the PB of a VIE, requires continuous assessments of whether an enterprise is the PB of a VIE and amends certain guidance for determining whether an entity is a VIE. Under the new guidance, a VIE must be consolidated if the enterprise has both (a) the power to direct the activities of the VIE that most significantly impact the entity’s economic performance and (b) the obligation to absorb losses or the right to receive benefits from the VIE that could potentially be significant to the VIE. This new accounting guidance was effective for the Company on January 1, 2010 and was applied prospectively.

On January 1, 2010, the Company deconsolidated Blackhawk after performing a reassessment under this new guidance. Blackhawk had previously been consolidated due to the variable interests held by the Company. Variable interests in Blackhawk held by the Company as of January 1, 2010 included a subordinated convertible note, membership units, guaranty of indebtedness of up to $1,500, warrants and the MOSA. Although these financial arrangements resulted in the Company holding substantial variable interests in Blackhawk, they did not empower the Company to direct the activities that most significantly impact Blackhawk’s economic performance. Consequently, subsequent to this change in accounting policy, the Company deconsolidated Blackhawk.

 

21


Upon deconsolidation the Company has accounted for its interests in Blackhawk using the fair value options available under ASC Topic 825, Financial Instruments, since January 1, 2010. The following table represents the deconsolidating entries as of January 1, 2010:

 

     As Reported
January 1,
2010
    Adjusted     As Adopted  

ASSETS

      

CURRENT ASSETS:

      

Cash

   $ 5,855      $ (206   $ 5,649   

Restricted cash

     2,156        (2,002     154   

Current assets

     29,691        1,098        30,789   
                        

Total current assets

     37,702        (1,110     36,592   
                        

Property, plant and equipment, net

     124,429        (43,209     81,220   

Goodwill

     16,080        —          16,080   

Noncurrent assets

     22,347        27,731        50,078   
                        

TOTAL ASSETS

   $ 200,558      $ (16,588   $ 183,970   
                        

LIABILITIES AND EQUITY (DEFICIT)

      

CURRENT LIABILITIES:

      

Revolving line of credit

   $ 350      $ (350   $ —     

Current maturities of notes payable

     2,756        (815     1,941   

Current liabilities

     23,810        (1,144     22,666   
                        

Total current liabilities

     26,916        (2,309     24,607   

Notes payable

     25,749        (23,630     2,119   

Other liabilities

     25,902        (8,516     17,386   
                        

Total liabilities

     78,567        (34,455     44,112   
                        

Redeemable preferred stock

     149,122        —          149,122   

EQUITY (DEFICIT):

      

Company stockholders’ equity (deficit):

      

Common stock

     2        —          2   

Common stock - additional paid-in-capital

     15,676        1,192        16,868   

Warrants - additional paid-in-capital

     4,619        —          4,619   

Retained earnings (accumulated deficit)

     (60,905     30,152        (30,753
                        

Total stockholders’ equity (deficit)

     (40,608     31,344        (9,264

Noncontrolling interests

     13,477        (13,477     —     
                        

Total equity (deficit)

     (27,131     17,867        (9,264
                        

TOTAL LIABILITIES AND EQUITY (DEFICIT)

   $ 200,558      $ (16,588   $ 183,970   
                        

The Company has invested in four network plants owned by independent investment groups that the Company manages under Management and Operational Services Agreements (MOSA). Those companies are SoyMor Biodiesel, LLC, Western Iowa Energy, LLC, Western Dubuque Biodiesel, LLC, CIE and East Fork Biodiesel, LLC. See “Note 9 – Investments” for the investment amounts and the related condensed financial information of these investments. In addition, the Company has a seat on the board of one of these investments. The Company evaluated each investment and determined we do not hold an interest in any of our investments in network plants that would give us the power to direct the activities that most significantly impact the economic performance of the network plant. As a result, the Company is not the PB and does not consolidate these VIE’s.

 

22


The Company has 50% ownership in 416 S. Bell, a joint venture where control is equally shared. The Company determined that neither partner in the joint venture has the power to direct the activities that most significantly impact the economic performance of the joint venture individually. As a result, the Company is not the PB and does not consolidate this VIE.

The carrying values and maximum exposure for all unconsolidated VIE’s as of June 30, 2010 are as follows:

 

Investment:

   Investments    Maximum
Exposure

SoyMor

   $ 1,236    $ 1,243

WIE

     576      601

WDB

     2,049      2,051

416 S Bell

     584      3,014
             
   $ 4,445    $ 6,909
             

On April 8, 2010, the Company determined that Landlord was a VIE and was consolidated into the Company’s financial statements as it is the PB (ASC Topic 810). See “Note 6 – Acquisitions” for a description of the acquisition. The Company has a put/call option with Seneca Holdco to purchase Landlord and currently leases the plant for production of biodiesel both of which represent a variable interest in Landlord that are significant to the VIE. Although the Company does not have an ownership interest in Seneca Holdco, it was determined that the Company is the PB due to the related party nature of the entities involved; the Company’s ability to direct the activities that most significantly impact Landlord’s economic performance; and the design of Landlord that ultimately gives the Company the majority of the benefit from the use of Seneca’s assets. The Company has elected the fair value option available under ASC Topic 825 on the $4,000 investment made by Seneca Holdco and the associated put and call options (the Seneca Holdco Liability). Changes in the fair value after the date of the transaction will be recorded in earnings. Those assets are owned by, and those liabilities are obligations of, Landlord, not the Company.

As of the date the financial statements were issued, the Company was still in the process of determining the allocation of acquired net assets as of April 8, 2010. The actual valuation of the net assets acquired will be based on the final fair value valuation.

The following summarizes the preliminary assets and liabilities recorded by the Company at fair value as a result of the transaction and subsequent consolidation of Landlord:

 

     Preliminary
Allocation at
April 8, 2010
 

Assets (liabilities) acquired:

  

Cash

   $ 4,000   

Property, plant and equipment

     39,746   

Current liabilities

     (400

Seneca Holdco liability

     (7,096

Notes payable

     (36,250
        

Fair value of consideration

   $ —     
        

NOTE 8 — INVENTORIES

Inventories consist of the following:

 

     December 31,
2009
   June 30,
2010

Raw materials

   $ 743    $ 3,657

Work in process

     22      129

Finished goods

     12,075      9,789
             

Total

   $ 12,840    $ 13,575
             

 

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NOTE 9 — INVESTMENTS

Investments consist of the following:

 

     December 31, 2009    June 30, 2010
     Ownership     Balance    Ownership     Balance

Investment and accumulated earnings in:

         

SoyMor

   9   $ 1,354    9   $ 1,236

WIE***

   2     602    2     576

WDB

   8     2,195    8     2,049

416 S Bell

   50     598    50     584

CIE*

   4     1,000     

EFB****

   4     400    0     —  
                 

Total**

     $ 6,149      $ 4,445
                 

 

* During the first quarter of 2010, the Company purchased Central Iowa Energy LLC (See Note 6 – Acquisitions). Through the purchase price allocation, the Company eliminated its investment in Central Iowa Energy.
** The investments include a deferred tax asset of $677 fully offset by a valuation allowance.
*** As of May 2010, the investment was converted from an equity method to cost method investment due to the Company no longer having the ability to significantly influence the operations of WIE.
**** As of June 2010, the Company impaired the remaining investment amount of $400.

The condensed financial information of equity method investments is as follows:

 

                 December 31,
2009
    June 30,
2010
 

CONDENSED BALANCE SHEET:

        

Total current assets

       $ 15,530      $ 11,649   
                    

Total noncurrent assets

       $ 90,846      $ 60,123   
                    

Total current liabilities

       $ 31,260      $ 31,230   
                    

Total noncurrent liabilities

       $ 9,303      $ 5,694   
                    

CONDENSED STATEMENT OF OPERATIONS:

        
     Three Months
Ended

June 30,
2009
    Three Months
Ended

June 30,
2010
    Six Months
Ended

June 30,
2009
    Six Months
Ended
June 30,
2010
 

Sales

   $ 13,863      $ 2,667      $ 19,077      $ 6,378   

Costs of goods sold

     (12,860     (123     (19,025     (5,201

Operating and other expenses

     (1,763     (3,746     (3,165     (5,274
                                

Net loss

   $ (760   $ (1,202   $ (3,113   $ (4,097
                                

 

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NOTE 10 — ACCRUED EXPENSES AND OTHER LIABILITIES

Accrued expenses and other liabilities consist of the following:

 

     December 31,
2009
   June 30,
2010

Accrued property taxes

   $ 792    $ 1,194

Accrued employee compensation

     858      1,419

Accrued interest

     193      325

Unfavorable lease obligation, current portion

     1,829      1,129

Cash advances

     —        3,436

Other

     525      476
             

Total

   $ 4,197    $ 7,979
             

Other noncurrent liabilities consist of the following:

 

     December 31,
2009
   June 30,
2010

Fair value of interest rate swap

   $ 1,031    $ 893

Liability for unrecognized tax benefits

     1,500      1,500

Deferred grant revenue

     —        745

Straight-line lease liability

     —        627

Deferred credit related to investment in Blackhawk

     7,484      —  
             

Total

   $ 10,015    $ 3,765
             

As a result of the merger with Blackhawk on February 26, 2010, the Company recognized a deferred tax asset and an associated deferred credit related to excess taxable basis over book basis on its investment in Blackhawk. The Company reflected the related amounts on its consolidated balance sheet as of December 31, 2009 as the acquisition represented a recognizable subsequent event that will reverse in the foreseeable future. The deferred credit was reversed through retained earnings (accumulated deficit) on January 1, 2010 upon adoption of ASU 2009-17 resulting in the deconsolidation of Blackhawk.

The unfavorable lease obligation consists of the following:

 

     December 31,
2009
    June 30,
2010
 

Unfavorable lease obligation

   $ 13,612      $ 13,612   

Accumulated amortization

     —          (625
                

Total unfavorable lease obligation

     13,612        12,987   

Current portion

     (1,829     (1,129
                
   $ 11,783      $ 11,858   
                

The unfavorable lease obligation is amortized over the contractual period the Company is required to make rental payments under the lease.

An amortization benefit (expense) of $(257) and $(314) for the three and six months ended June 30, 2009, respectively, and $362 and $625 for the three and six months ended June 30, 2010, respectively, for noncurrent liabilities is included in the cost of biodiesel sales.

 

25


Estimated amortization benefit as of June 30, 2010 for the fiscal year ending December 31 is as follows:

 

2010

   $ 566

2011

     1,129

2012

     1,129

2013

     1,129

2014

     1,129

Thereafter

     7,905
      
   $ 12,987
      

On May 1, 2010, the Company amended its lease of a terminal facility in Houston, Texas. The amended agreement is through December 2021 and changes the monthly lease payment. For the year ending December 31, 2010, the fixed payment is reduced from $515 to $165. For the year ending December 31, 2011, the fixed monthly lease payment will increase on a quarterly basis throughout the year resulting in monthly lease payments of $215, $275, $350 and $450. From January 1, 2012, and continuing thereafter, the monthly lease payment will be $515, subject to escalation, on an annual basis, utilizing the producer price index. Due to the scheduled increase in lease payments over the life of the lease, the Company is recording a straight-line lease liability related to the monthly payments pursuant to ASC Topic 840, Leases (ASC Topic 840). The straight-line lease liability is recorded in other liabilities on the condensed balance sheet.

NOTE 11 — BORROWINGS

Notes payable includes term loans obtained in conjunction with the purchase of the Blackhawk biodiesel production facility located in Danville, Illinois (See “Note 5 – Blackhawk”). Amounts outstanding as of December 31, 2009 and June 30, 2010 of $24,445 require interest to be accrued based on 30 day LIBOR plus 400 basis points through December 31, 2009 and June 30, 2010, (effective rate at December 31, 2009 and June 30, 2010 of 4.23% and 4.35%, respectively). Monthly principal payments of $205 plus applicable interest were required beginning April 2009 with the remaining principal and interest due at maturity on November 3, 2011. Blackhawk paid the April 2009 payment timely as scheduled. On November 25, 2009, Blackhawk signed an amendment (Second Amendment) to the loan agreement to defer May through December principal payments. Additionally, the Second Amendment required monthly fixed payments of $135 plus interest to commence on January 1, 2010.

Blackhawk did not make the scheduled principal and interest payments as aforementioned. On February 26, 2010, Blackhawk entered into an amendment (Third Amendment) with the bank, which defers monthly principal payments until July 1, 2010. The Third Amendment also modified certain financial covenants contained in the Loan Agreement. The Illinois Finance Authority guarantees 60.85% of the term loan and the remaining amount is secured by all plant assets owned by REG Danville. REG Danville is required to make monthly interest payments. In addition to these monthly payments, as a result of the amendment to the loan agreement, REG Danville is required to make annual principle payments equal to 50% of REG Danville’s Excess Cash Flow (50% Excess Payment) with respect to each fiscal year until $2,500 has been paid from the Excess Cash Flow. Excess Cash Flow is equal to EBITDA less certain cash payments made during the period including principal payments, lease payments, interest payments, tax payments, approved distributions and capital expenditures. Excess Cash Flow is measured annually; therefore, no amounts have yet been paid. Thereafter, REG Danville is required to make annual payments equal to 25% of its Excess Cash Flow.

In May 2008 Blackhawk entered into a pay-fixed/receive-variable interest rate swap agreement that effectively fixes the variable component of the interest rate on the Term Loan at 3.67% through November 2011. The fair value of the interest rate swap agreement was $1,031 and $893 at December 31, 2009 and June 30, 2010, respectively, and is recorded in other noncurrent liabilities. The interest rate swap was not designated as an accounting hedge under ASC Topic 815 and thus all gains and losses are recorded currently in earnings.

REG Danville also has a revolving line-of-credit with an aggregate borrowing capacity of $5,000 which expired on December 31, 2009. The revolving line of credit accrues interest at the prime rate plus 25 basis points or the 30 day LIBOR plus 300 basis points as determined at the election of REG Danville at the time of borrowing and is secured by all plant assets owned by REG Danville. Borrowings outstanding under the line-of-credit were $350 and $350 as of December 31, 2009 and June 30, 2010, respectively.

In March 2010, REG Newton obtained a revolving line-of-credit (AgStar Line) with an aggregate borrowing capacity of $2,350 which will expire on March 7, 2011. The revolving line of credit accrues interest at 30 day LIBOR or 2.00%, whichever is higher, plus 300 basis points (effective rate at June 30, 2010 of 5.00%). Borrowings outstanding under the line-of-credit were $550 as of June 30, 2010.

In March 2010, as part of the CIE Asset Purchase, REG Newton assumed the term debt of CIE and refinanced the term debt (AgStar Loan). Amounts outstanding as of June 30, 2010 of $23,610 require interest to be accrued based on 30 day LIBOR or 2.00%, whichever is higher, plus 300 basis points (effective rate at June 30, 2010 of 5.00%). The debt is secured by all plant assets owned by REG Newton. The Company has guaranteed the

 

26


obligations under the AgStar Line and has a limited guarantee related to the obligations under the AgStar Loan; which provide that the company will not be liable for more than the unpaid interest, if any, on the AgStar Loan that has accrued during an 18-month period beginning on March 8, 2010. REG Newton is required to make interest only payments on a monthly basis through September 2011. Beginning in October 2011, REG Newton will be required to make principal and interest payments until the maturity date of March 8, 2013. Under the AgStar Loan, REG Newton is required to maintain a debt service reserve account (Debt Reserve) equal to 12 monthly payments of principal and interest on the AgStar Loan. Beginning on January 1, 2011 and at each fiscal year end thereafter until such time as the balance in the Debt Reserve contains the required 12 months of payments, REG Newton must deposit an amount equal to its Excess Cash Flow, which is defined in the AgStar Loan agreement as EBITDA, less the sum of required debt payments, interest expense, any increase in working capital from the prior year until working capital exceeds $6,000, up to $500 in maintenance capital expenditure, allowed distributions and payments to fund the Debt Reserve. Also beginning on January 1, 2011, provided that REG Newton is in compliance with the working capital ratios and the Debt Reserve is funded, REG Newton must make an annual payment equal to 50% of its Excess Cash Flow calculated based upon the prior year’s audited financial statements within 120 days of the fiscal year end.

On April 9, 2010, REG Marketing & Logistics Group, LLC and REG Services, together with the Company as guarantor, (the WestLB Loan Parties) entered into a Revolving Credit Agreement (WestLB Revolver) with WestLB AG (WestLB). The initial available credit amount under the WestLB Revolver is $10,000 with additional lender increases up to a maximum commitment of $18,000. Advances under the WestLB Revolver are limited to the amount of certain qualifying assets of the WestLB Loan Parties that secure amounts borrowed. The WestLB Revolver requires the WestLB Loan Parties to maintain compliance with certain financial covenants. The term of the WestLB Revolver is two years. The interest rate varies depending on the loan type designation and is either 2.0% over the higher of 50 basis points above the Federal Funds Effective Rate or the WestLB prime rate for base rate loans or 3.0% over adjusted LIBOR for Eurodollar loans. The WestLB Revolver is secured by assets and ownership interests of REG Marketing & Logistics Group, LLC and REG Services. As of the date of the financial statements, no amounts were outstanding under the WestLB Revolver. The Company has drawn on the line of credit subsequent to the financial statement date.

On April 9, 2010, Landlord entered into a note payable agreement with West LB. The note requires that interest be accrued at different rates based on whether it is a Base Rate Loan or Eurodollar loan at either 2.0% over the higher of 50 basis points above the Federal Funds Effective Rate or the WestLB prime rate for Base Rate loans or 3.0% over adjusted LIBOR for Eurodollar loans. The loan was a Base Rate Loan through June 30, 2010 (effective rate at June 30, 2010 of 5.75%). Interest is paid monthly. Principal payments have been deferred until February 2012. At that time, Landlord will be required to make monthly principal payments of $201 with remaining unpaid principal due at maturity on April 8, 2010. The note payable is secured by the property located at the Seneca location. The balance of the note as of June 30, 2010 is $36,250.

The Company was in compliance with all restrictive financial covenants associated with its borrowings as of June 30, 2010 with exception to the REG Danville line-of-credit and term debt. REG Danville is in default of the agreement as the line-of-credit expired on December 31, 2009 and there remains a $350 outstanding balance. REG Danville is in the process of renegotiating the line of credit with the bank. REG Danville received a letter from the bank waiving the financial covenants on the term debt.

 

27


Maturities of the borrowings are as follows for the years ending June 30:

 

2011

   $ 3,072   

2012

     25,701   

2013

     25,094   

2014

     2,767   

2015

     2,762   

Thereafter

     28,673   
        

Total

     88,069   

Less: current portion

     (3,072
        
   $ 84,997   
        

NOTE 12 — STOCK-BASED COMPENSATION

Renewable Energy Group:

On July 31, 2006, the Biofuels Board approved the 2006 Stock Incentive Plan (the 2006 Plan). The 2006 Plan provides for 2,500,000 shares of Biofuels Common Stock to be available for option grants. Option grants are awarded at the discretion of the board. Options expire ten years from the date of the grant. There are no performance conditions associated with the options.

The Biofuels Common Stock options are generally protected from anti-dilution via adjustments for any stock dividends, stock split, combination or other recapitalization.

The following table summarizes information about Biofuels Common Stock options granted, exercised, forfeited, vested and exercisable:

 

     Amount of
Options
    Weighted
Average  Exercise
Price
   Weighted
Average
Contractual
Term

Options outstanding - December 31, 2009

   2,208,552      $ 9.54    6.8 years

Forfeited

   (5,500     
           

Options outstanding - June 30, 2010

   2,203,052      $ 9.54    6.3 years
           

Options exercisable - June 30, 2010

   2,189,563      $ 9.54    6.3 years
           

Twenty-five percent of the options issued to Biofuels employees vested on the date of grant and the remaining options vest evenly on a monthly basis over the next three years. West Central board members were granted 110,000 options which vested 100% on the date of grant. Two Board Members were granted 25,000 options each which vest ratably by quarter over a three year term.

Subject to the terms of the stock incentive plan agreement, in the event of a change of control of the Company, the options become fully exercisable. In connection with a change of control, Biofuels, at its discretion, may cancel options in exchange for a payment per share in cash of an amount equal to the excess, if any, of the change of control price per share over the exercise price of the option.

There was no intrinsic value of options granted, exercised or outstanding during the periods presented.

On May 6, 2009, the Company Board approved the 2009 Stock Incentive Plan (the 2009 Plan). The 2009 Plan provides for 5,400,000 shares of Company Common Stock to be made issuable or distributable under the plan. Restricted stock or restricted stock units are awarded at the discretion of the board. Restricted stock units may not be sold, transferred, pledged, assigned, or otherwise alienated until the lapse of the period of restriction, which is defined as a period shall not be less than three years but may lapse ratably over such three year period unless otherwise expressly provided. No awards have been issued under the 2009 Plan as of June 30, 2010.

The 2009 Plan is generally protected from anti-dilution via adjustments for any stock dividends, stock split, combination or other recapitalization.

The restricted stock units issued will cliff vest at the earlier of an expressly provided service or performance conditions or at the end of the three year service period from the grant date.

Stock-based compensation cost relating to the stock options were $889 and $1,780 for the three and six months ended June 30, 2009, respectively and $32 and $68 for the three and six months ended June 30, 2010, respectively. The stock-based compensation costs were included as a component of selling, general and administrative expenses.

There was no intrinsic value of options granted, exercised or outstanding during the periods presented.

 

28


Blackhawk:

Blackhawk had an equity-based compensation plan which provided for the issuance of options to purchase an aggregate of 650,000 units of Blackhawk to members of the Blackhawk board of managers, for the purpose of providing services to facilitate the construction and planned future operations of the plant. Options to purchase the entire 650,000 units were issued on June 30, 2006. The options are exercisable at a purchase price of $1.00 per unit at any time from and after the date on which the plant commences operations (vesting date) and will continue for a period of one year following such date, after which all such rights shall terminate. During December 2008, Blackhawk commenced operations and at that time the unit options were fully vested.

On May 9, 2008, Blackhawk issued an option for the purchase of an additional 100,000 units to an outside consultant for services related to the project. This option is exercisable at a purchase price of $2.00 per unit at any time from and after the date on which the plant commences operations and will continue for a period of seven years following such date, after which all such rights shall terminate.

On February 26, 2010, the Blackhawk stock-based compensation plan was cancelled due to the merger with the Company. The outstanding options at the time of the merger were converted into Common Stock warrants of the Company.

 

29


NOTE 13 — RELATED PARTY TRANSACTIONS

Related parties include certain investors as well as entities in which the company has an equity method investment or an investment combined with a MOSA or board seat. Investors defined as related parties include (i) the investor having ten percent or more ownership, including convertible preferred stock, in the Company or (ii) the investor holding a board seat on the Company’s board of directors.

Summary of Related Party Transactions

 

          Three  Months
Ended
June  30,
2009
        Three  Months
Ended
June  30,
2010
        Six  Months
Ended
June  30,
2009
        Six  Months
Ended
June 30,
2010
      
  

Revenues - Biodiesel sales

   $ 1,413    (a)    $ 879    (a)    $ 3,787    (a)    $ 2,259    (a
  

Revenues - Services

   $ 334    (b)    $ 69    (b)    $ 436    (b)    $ 610    (b
  

Cost of goods sold - Biodiesel

   $ 5,083    (c)    $ 25,156    (c)    $ 9,408    (c)    $ 47,712    (c
  

Cost of goods sold - Services

   $ —      (d)    $ —      (d)    $ —      (d)    $ 291    (d
  

Selling, general, and administrative expenses

   $ 291    (e)    $ 454    (e)    $ 655    (e)    $ 814    (e
  

Other income

   $ 115    (f)    $ —      (f)    $ 317    (f)    $ —      (f
  

Interest expense

   $ —      (g)    $ 151    (g)    $ —      (g)    $ 204    (g
  

Interest revenue

   $ —      (h)    $ —      (h)    $ —      (h)    $ 180    (h

(a)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 3       $ 3       $ 3       $ 5   
  

E D & F Man

     1,375         876         3,744         2,254   
  

Network Plants

     35         —           40         —     
                                          
      $ 1,413       $ 879       $ 3,787       $ 2,259   
                                          

(b)

  

Represents transactions with Network Plants

                       

(c)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 4,921       $ 511       $ 9,109       $ 6,446   
  

Network plants

     —           —           —           1,493   
  

Bunge

     —           24,645         —           39,773   
  

E D & F Man

     162         —           299         —     
                                          
      $ 5,083       $ 25,156       $ 9,408       $ 47,712   
                                          

(d)

  

Represents transactions with Network Plants

                       

(e)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 54       $ 47       $ 239       $ 93   
  

416 S. Bell, LLC

     172         86         345         172   
  

Bunge

     —           272         —           472   
  

E D & F Man

     65         49         71         77   
                                          
      $ 291       $ 454       $ 655       $ 814   
                                          

(f)

  

Represents transactions with ED&F Man

                       

(g)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ —         $ 32       $ —         $ 77   
  

Bunge

     —           119         —           127   
                                          
      $ —         $ 151       $ —         $ 204   
                                          

(h)

  

Represents transactions with Blackhawk Biofuels

                       

 

30


Summary of Related Party Balances

 

          As of
December 31,
2009
        As of
June 30,
2010
     
   Accounts receivable    $ 2,328   (a   $ 368   (a
   Prepaid inventory    $ 269   (b   $ —     (b
   Accounts payable    $ 5,415   (c   $ 4,355   (c
   Accrued expenses and other liabilities    $ —     (d   $ 3,436   (d

(a)

   Represents balances with related parties as follows:         
   West Central    $ 123     $ 122  
   Network Plants      1,065       148  
   Bunge      24       —    
   E D & F Man      1,116       98  
                   
      $ 2,328     $ 368  
                   

(b)

   Represents balances with Bunge         

(c)

   Represents balances with related parties as follows:         
   West Central    $ 2,951     $ 510  
   Network Plants      2,293       141  
   Bunge      127       3,665  
   E D & F Man      44       39  
                   
      $ 5,415     $ 4,355  
                   

(d)

   Represents balances with Bunge         

West Central Cooperative

The Company purchases once-refined soy oil from West Central. Purchases from West Central were $4,921 and $9,109 for the three and six months ended June 30, 2009, respectively. The Company’s purchases were $511 and $6,446 for the three and six months ended June 30, 2010, respectively. The Company also had co-product sales which totaled $3 for the three and six months ended June 30, 2009, respectively, and $3 and $5 for the three and six months ended June 30, 2010, respectively.

West Central leases the land under the Company’s production facility at Ralston, Iowa to the Company at an annual cost of one dollar. The Company is responsible for the property taxes, insurance, utilities and repairs for the facility relating to this lease. The lease has an initial term of twenty years and the Company has options to renew the lease for an additional thirty years.

At the time of the signing of the contribution agreement, the Company executed an asset use agreement with West Central to provide the use of certain assets, such as office space, maintenance equipment and utilities. The agreement requires the Company to pay West Central its proportionate share of certain costs incurred by West Central. This agreement has the same term as the land lease. Selling, general and administrative expenses included in the statement of operations related to this agreement totaled $10 and $20 for the three and six months ended June 30, 2009, respectively, and $10 and $20 for the three and six months ended June 30, 2010, respectively.

At the time of the signing of the contribution agreement, the Company entered into a contract for services with West Central, to provide certain corporate and administrative services such as human resources, information technology, and accounting. The agreement requires the Company to pay West Central the proportionate share of the costs associated with the provision of services, plus a 15% margin. The agreement had an initial one-year term and is cancellable thereafter upon six months notice by either party. Selling, general, and administrative expenses included in the statement of operations related to this agreement totaled $44 and $219 for the three and six months ended June 30, 2009, respectively, and $37 and $73 for the three and six months ended June 30, 2010, respectively.

In addition to the amounts above, the Company recorded interest expense of and $32 and $77 for the three and six months ended June 30, 2010, respectively.

Accounts receivable includes net balances due from West Central of $123 and $122 at December 31, 2009 and June 30, 2010, respectively. Accounts payable includes net balances due to West Central of $2,951 and $510 at December 31, 2009 and June 30, 2010, respectively.

 

31


Bunge North America

The Company purchases feedstocks for the production of biodiesel. Purchases from Bunge were $0 for the three and six months ended June 30, 2009, respectively, and $24,645 and $39,773 for the three and six months ended June 30, 2010, respectively.

During July 2009, the Company entered into an agreement for Bunge to provide services related to the procurement of raw materials and the purchase and resale of biodiesel produced by the Company. The agreement is a three-year term and either party has the ability to cancel the agreement after the term ends. Selling, general and administrative expenses included in the statement of operations related to this agreement totaled $120 and $240 for the three and six months ended June 30, 2010, respectively. The Company incurred $119 and $127 in interest expense for the three and six months end June 30, 2010, related to the purchase and resale of biodiesel. Also, as part of the agreement, the Company is required to pay an incentive fee to Bunge for meeting certain hedging goals utilizing Bunge’s advice. The Company incurred $152 and $232 in incentive fees for the three and six months ended June 30, 2010, respectively.

The Company has accounts receivable due from Bunge of $24 and $0 as of December 31, 2009 and June 30, 2010, respectively. The Company has prepaid inventory balance of $269 and $0 as of December 31, 2009 and June 30, 2010, respectively. The Company has accounts payable due to Bunge of $127 and $3,665 as of December 31, 2009 and June 30, 2010, respectively. The Company has accrued expenses and other liabilities of $3,436 as of June 30, 2010.

E D & F Man Holdings Ltd.

In August 2006, at the time of the initial closing of its preferred stock investment, the Company entered into a glycerin marketing agreement and various terminal lease agreements with one of E D & F’s then wholly owned subsidiaries, Westway Feed Products, Inc. (Westway). Under the glycerin marketing agreement, Westway has an exclusive right to market the glycerin produced at each of the Company’s owned and managed facilities. For the three and six months ended June 30, 2009, fees of $65 and $71, respectively, were paid according to the agreement. For the three and six months ended June 30, 2010, fees of $49 and $77, respectively, were paid. This contract has a term of five years and automatically renews in one-year periods thereafter unless terminated by either party. The Company also has entered into a master terminal lease agreement and several leases for terminals with another wholly-owned subsidiary of E D & F, Westway Terminal Company, Inc. These leases have terms ranging from one month to four years. The Company leased two terminals for aggregate fees of $162 and $299 during the three and six months ended June 30, 2009, respectively, and $0 during the three and six months ended June 30, 2010, respectively. Additionally, the Company received $115 and $317 in terminal lease revenue from Westway during the three and six months ended June 30, 2009, respectively, and $0 during the three and six months ended June 30, 2010, respectively, related to its terminal facility located in Stockton, California. In July 2009, the Company sold the Stockton terminal facility to Westway for $3.0 million in cash.

The Company also entered into a tolling agreement with E D & F for biodiesel to be produced out of the Company’s Houston, Texas biodiesel production facility. Revenues on biodiesel from this toll agreement and from other biodiesel sales were $1,088 and $2,104 for the three and six months ended June 30, 2009, respectively, and $876 and $2,254 for the three and six months ended June 30, 2010, respectively. Additionally, revenues from raw material sales totaled $287 and $1,640 for the three and six months ended June 30, 2009, respectively, and $0 for the three and six months ended June 30, 2010, respectively.

The Company had accounts receivable due from E D & F Man of $1,116 and $98 as of December 31, 2009 and June 30, 2010, respectively. The Company had accounts payable due to E D & F Man of $44 and $39 as of December 31, 2009 and June 30, 2010, respectively.

Network Plants

The Company receives certain fees for the marketing and sale of product produced by and the management of the Network Plants’ operations, in which the Company has also invested. As an additional incentive to the Company and additional compensation for the marketing, sales and management services being rendered, the Network Plants pay a bonus to the Company on an annual basis equal to a percentage of the net income of the Network Plant, as defined by the management agreement. Total related party management service revenues recognized by the Company related to investees were $334 and $436 for the three and six months ended June 30, 2009 , respectively, and $69 and $610 for the three and six months ended June 30, 2010, respectively. Additionally, revenues from biodiesel sales totaled $35 and $40 for the three and six months ended June 30, 2009, respectively, and $0 for the three and six months ended June 30, 2010, respectively. The Company also incurred fees related to the production of biodiesel in the amount of $0 and $1,493 for the three and six months ended June 30, 2010, respectively.

The Company had accounts receivable due from the Network Plants of $1,065 and $148 at December 31, 2009 and June 30, 2010, respectively. The Company had accounts payable due to the Network Plants of $2,293 and $141 at December 31, 2009 and June 30, 2010, respectively.

416 S. Bell, LLC

 

32


The Company rents a building for administrative uses under an operating lease from 416 S. Bell, LLC. Rent payments made under this lease totaled $172 and $345 for the three and six months ended June 30, 2009, respectively, and $86 and $172 for the three and six months ended June 30, 2010, respectively.

NOTE 14 — DERIVATIVE INSTRUMENTS

From time to time the Company enters into derivative transactions to hedge its exposure to interest rate and commodity price fluctuations. The Company does not enter into derivative transactions for trading purposes.

As of June 30, 2010, the Company has entered into heating oil and soy oil derivative instruments and an interest rate swap agreement. The Company has entered into heating oil and soy oil commodity-based derivatives in order to protect gross profit margins from potentially adverse effects of price volatility on biodiesel sales where the prices are set at a future date. As of June 30, 2010, the Company had 618 open commodity contracts. In addition, the Company manages interest rate risk associated with the REG Danville variable interest rate note payable using a fixed rate swap. The interest rate swap agreement has an outstanding notional value of $24,445 as of June 30, 2010.

ASC 815 requires all derivative financial instruments to be recorded on the balance sheet at fair value. The Company’s derivatives are not designated as hedges and are utilized to manage cash flow. The changes in fair value of the derivative instruments are recorded through earnings in the period of change.

REG Danville’s interest rate swap contains a credit support arrangement that is directly linked to the notes payable with the same counterparty. Therefore, the interest rate swap counterparty would have access to the debt service fund or other collateral posted by REG Danville as a result of any failure to perform under the interest rate swap agreement. As of June 30, 2010, the Company posted $2,839 of collateral associated with its commodity-based derivatives with a net asset position of $11.

The Company’s preferred stock embedded conversion feature is further discussed in “Note 2 – Summary of Significant Accounting Policies”.

 

33


The following tables provide details regarding the Company’s derivative financial instruments:

 

    

As of December 31, 2009

    

Asset Derivatives

  

Liability Derivatives

    

Balance Sheet

Location

   Fair
Value
  

Balance Sheet

Location

   Fair
Value
Embedded derivative          Preferred stock embedded conversion feature derivatives    $ 4,104
Interest rate swap          Other liabilities      1,031
Commodity derivatives    Prepaid expenses and other assets    $ 47    Prepaid expenses and other assets      300
                   
Total derivatives       $ 47       $ 5,435
                   
    

As of June 30, 2010

    

Asset Derivatives

  

Liability Derivatives

    

Balance Sheet

Location

   Fair
Value
  

Balance Sheet

Location

   Fair
Value
Embedded derivative          Preferred stock embedded conversion feature derivatives    $ 48,552
Interest rate swap          Other liabilities      893
Commodity derivatives    Prepaid expenses and other assets    $ 741    Prepaid expenses and other assets      730
                   
Total derivatives       $ 741       $ 50,175
                   

 

          Three Months
Ended
June  30,

2009
    Three Months
Ended
June  30,

2010
   Six Months
Ended
June  30,

2009
    Six Months
Ended
June  30,

2010
    

Location of Gain (Loss)

Recognized in Income

   Amount of
Gain (Loss)
Recognized
in Income  on
Derivatives
    Amount of
Gain (Loss)
Recognized

in Income on
Derivatives
   Amount of
Gain (Loss)
Recognized
in Income on
Derivatives
    Amount of
Gain (Loss)
Recognized
in Income on
Derivatives

Embedded derivative

   Chage in fair value of preferred stock conversion feature embedded derivatives    $ 320      $ 5,001    $ 1,119      $ 5,001

Interest rate swap

   Change in fair value of interest rate swap      284        116      271        188

Commodity derivatives

   Cost of goods sold - Biodiesel      (1,366     704      (922     498
                                

Total

      $ (762   $ 5,821    $ 468      $ 5,687
                                

NOTE 15 — FAIR VALUE MEASUREMENT

ASC Topic 820 establishes a framework for measuring fair value in GAAP and expands disclosures about fair market value measurements. ASC Topic 820 clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. As a basis for considering assumptions, ASC Topic 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

 

   

Level 1 — Quoted prices for identical instruments in active markets.

 

34


   

Level 2 — Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-derived valuations, in which all significant inputs are observable in active markets.

 

   

Level 3 — Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.

In addition, ASC Topic 820 requires disclosures about the use of fair value to measure assets and liabilities to enable the assessment of inputs used to develop fair value measures, and for unobservable inputs, to determine the effects of the measurements on earnings.

A summary of assets (liabilities) measured at fair value as of December 31, 2009 and June 30, 2010 is as follows:

 

     As of December 31, 2009  
     Total     Level 1    Level 2     Level 3  

Preferred stock embedded derivatives

   $ (4,104   $ —      $ —        $ (4,104

Interest rate swap

   $ (1,031     —        (1,031     —     

Commodity derivatives

   $ (253     —        (253     —     
                               
   $ (5,388   $ —      $ (1,284   $ (4,104
                               
     As of June 30, 2010  
     Total     Level 1    Level 2     Level 3  

Preferred stock embedded derivatives

   $ (48,552   $ —      $ —        $ (48,552

Interest rate swap

   $ (893     —      $ (893     —     

Seneca Holdco liability

   $ (7,467     —      $ —          (7,467

Commodity derivatives

   $ 11        —      $ 11        —     
                               
   $ (56,901   $ —      $ (882   $ (56,019
                               

The following is a reconciliation of the beginning and ending balances for liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the six months ended June 30, 2010.

 

     Preferred
Stock
Embedded
Derivatives
    Seneca
Holdco
Liability
    Blackhawk
Subordinated
Debt
    Blackhawk
Unit
Interest
 

Ending balance - December 31, 2008

   $ (1,765   $ —        $ —        $ —     

Total unrealized gains (losses)

     799        —          —          —     

Purchases, issuance, and settlements, net

     —          —          —          —     
                                

Ending balance - March 31, 2009

     (966     —          —          —     

Total unrealized gains (losses)

     320        —          —          —     

Purchases, issuance, and settlements, net

     —          —          —          —     
                                

Ending balance - June 30, 2009

   $ (646   $ —        $ —        $ —     
                                

Ending balance - December 31, 2009

   $ (4,104   $ —        $ —        $ —     

Total unrealized gains (losses)

     —          —          —          —     

Deconsolidation of Blackhawk

     —          —          24,298        3,678   

Purchases, issuance, and settlements, net

     (49,448     —          —          291   

Purchase accounting consolidaiton

     —          —          (24,298     (3,969
                                

Ending balance - March 31, 2010

     (53,552     —          —          —     

Total unrealized gains (losses)

     5,001        (371     —          —     

Purchases, issuance, and settlements, net

     (1     (7,096     —          —     
                                

Ending balance - June 30, 2010

   $ (48,552   $ (7,467   $ —        $ —     
                                

The company used the following methods and assumptions to estimate fair value of its financial instruments:

Valuation of Preferred Stock embedded conversion feature derivatives: The estimated fair value of the derivative instruments embedded in the Company’s outstanding preferred stock is determined using the option pricing method to allocate the fair value of the underlying stock to the various components comprising the security, including the embedded derivative. The allocation was performed based on each class of preferred stock’s liquidation preference and relative seniority. Derivative liabilities are adjusted to reflect fair value at each period end. The effects of interactions between embedded derivatives are calculated and accounted for in arriving at the overall fair value of the financial instruments.

 

35


Interest rate swap: The fair value of the interest swap was determined based on a discounted cash flow approach using market observable swap curves.

Commodity derivatives: The instruments held by the Company consist primarily of futures contracts, swap agreements, purchased put options, and written call options. The fair value of contracts based on quoted prices of identical assets in an active exchange-traded market is reflected in Level 1. Contracts whose fair value is determined based on quoted prices of similar contracts in over-the-counter markets are reflected in Level 2.

Seneca Holdco liability: The liability represents the Call Option and Put Option related to the purchase of membership interest of Seneca Landlord, LLC. The fair value of the Seneca Holdco liability is determined using an option pricing model and represents the probability weighted present value of the gain that is realized upon exercise of each option.

Notes payable and lines of credit: The fair value of long-term debt and lines of credit was established using discounted cash flow calculations and current market rates.

The estimated fair values of the Company’s financial instruments are as follows as of December 31, 2009 and June 30, 2010:

 

    December 31, 2009     June 30, 2010  
    Asset  (Liability)
Carrying Amount
    Estimated Fair Value     Asset (Liability)
Carrying Amount
    Estimated Fair Value  
       

Financial Assets:

       

Restricted cash

  $ 2,156      $ 2,156      $ 2,304      $ 2,304   

Financial Liabilities:

       

Notes payable and lines of credit

    (28,855     (29,124     (88,969     (88,956

NOTE 16 — OPERATING SEGMENTS

The Company reports its operating segments based on services provided to customers, which includes Biodiesel, Services and Corporate and Other activities. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company has chosen to differentiate the operating segments based on the products and services each segment offers.

The Biodiesel segment processes waste vegetable oils, animal fats, virgin vegetable oil and other feedstocks and methanol into biodiesel. The Biodiesel segment also includes the Company’s purchases and resales of biodiesel produced by third parties. Revenue is derived from the sale of the processed biodiesel, related byproducts and renewable energy government incentive payments. The Services segment offers services for managing the construction of biodiesel production facilities and managing ongoing operations of third party plants and collects fees related to the services provided. The Company does not allocate items that are of a non-operating nature or corporate expenses to the business segments. Intersegment revenues are reported by the Services segment which manages the construction of facilities included in the Biodiesel segment. Revenues are recorded by the Services segment at cost. Corporate expenses consist of corporate office expenses including compensation, benefits, occupancy and other administrative costs, including management service expenses.

 

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The following table represents the significant items by operating segment for the results of operations for the three months and six months ended June 30, 2009 and June 30, 2010 and as of December 31, 2009 and June 30, 2010:

 

     Three Months
Ended
June  30,

2009
    Three Months
Ended
June  30,

2010
    Six Months
Ended
June 30,

2009
    Six Months
Ended
June 30,
2010
 

Net sales:

        

Biodiesel

   $ 29,393      $ 46,191      $ 47,409      $ 82,818   

Services

     1,168        890        4,015        2,538   

Intersegment revenues

     (429     (744     (2,328     (1,530
                                
   $ 30,132      $ 46,337      $ 49,096      $ 83,826   
                                

Income (loss) before income taxes and loss from equity investments:

        

Biodiesel

   $ (1,378   $ 5,066      $ (3,809   $ 6,869   

Services

     519        28        934        475   

Corporate and other (a)

     (7,040     (2,720     (10,143     (8,002
                                
   $ (7,899   $ 2,374      $ (13,018   $ (658
                                

Depreciation and amortization expense, net:

        

Biodiesel

   $ 1,435      $ 1,373      $ 2,708      $ 2,298   
                                

Purchases of property, plant, and equipment:

        

Biodiesel

   $ 371      $ 2,003      $ 5,660      $ 2,064   
                                
                 December 31,
2009
    June 30,
2010
 

Goodwill:

        

Biodiesel

       $ —        $ 69,059   

Services

         16,080        16,080   
                    
       $ 16,080      $ 85,139   
                    

Assets:

        

Biodiesel

       $ 147,807      $ 297,948   

Services

         17,829        16,080   

Corporate and other (b)

         34,922        34,323   
                    
       $ 200,558      $ 348,351   
                    

 

(a) Corporate and other includes income/(expense) not associated with the business segments, such as corporate general and administrative expenses, shared service expenses, interest expense and interest income, all reflected on an accrual basis of accounting.
(b) Corporate and other includes cash and other assets not associated with the business segments, including investments.

NOTE 17 — COMMITMENTS AND CONTINGENCIES

On May 8, 2009 the Company entered into a series of agreements with one of its shareholders, Bunge, whereby Bunge would purchase raw material inputs for later resale to the Company and use in producing biodiesel. Additionally, the agreements provide for Bunge to purchase biodiesel produced by the Company for resale to the Company’s customers. These agreements provide financing for the Company’s raw material and finished goods inventory not to exceed aggregate amounts outstanding of $10,000. In exchange for this financing, Bunge will receive fees equal to the greater of 30 day LIBOR plus 7.5% or 10% as determined based on the amount of inventory financed, plus a monthly service fee of $40 and incentive fees not to exceed $1,500 per annum. As of December 31, 2009 and June 30, 2010, there was $86 and $152, respectively, in incentive fees due to Bunge.

The Company is involved in legal proceedings in the normal course of business. The Company currently believes that any ultimate liability arising out of such proceedings will not have a material adverse effect on the Company’s financial position, results of operations or cash flows.

NOTE 18 — SUBSEQUENT EVENTS

The Company has performed an evaluation of subsequent events through the date the financial statements were issued.

During July 2010, the Company acquired Tellurian Biodiesel and American BDF, LLC (ABDF). ABDF is a joint venture owned by Golden State Service Industries, Restaurant Technologies, Inc. and Tellurian Biodiesel. The Company issued Common Stock for the acquisition.

* * * * * *

 

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

This report contains forward-looking statements regarding Renewable Energy Group, Inc., or we or the Company, that involve risks and uncertainties such as anticipated financial performance, business prospects, technological developments, products, possible strategic initiatives and similar matters. In some cases, you can identify forward-looking statements by terms such as “may,” “might,” “objective,” “intend,” “should,” “could,” “can,” “would,” “expect,” “believe,” “estimate,” “predict,” “potential,” “plan,” or the negative of these terms, and similar expressions intended to identify forward-looking statements. These forward looking statements include, but are not limited to, statements about costs or difficulties related to the integration of the businesses or assets and liabilities of REG Biofuels, Inc.,(formerly known as Renewable Energy Group, Inc. and REG Intermediate Holdco, Inc.), or Biofuels, Central Iowa Energy, LLC, or CIE, or Blackhawk Biofuels, LLC, or Blackhawk; anticipated production facilities, including expected locations, completion date, production capacity, diversified feedstock capability, capital expenditures, and the ratio of debt and equity financing; existing or proposed legislation affecting the biodiesel industry; facilities under development progressing to the construction and operational stages; the market for biodiesel and potential biodiesel consumers; expectations regarding expenses and sales; anticipated cash needs and estimates regarding capital requirements and needs for additional financing and; anticipated trends and challenges in our business and the biodiesel market. These statements reflect current views with respect to future events and are based on assumptions and subject to risks and uncertainties. We note that a variety of factors could cause actual results and experience to differ materially from the anticipated results or expectations expressed in our forward-looking statements. Given these uncertainties, you should not place undue reliance on these forward-looking statements.

Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those expected. These risks and uncertainties include, but are not limited to, those risks discussed in Item 1A of this report.

We encourage you to read this Management’s Discussion and Analysis of Financial Condition and Results of Operations in conjunction with the accompanying condensed consolidated financial statements and related notes.

Overview

As of June 30, 2010, we owned four biodiesel production facilities: a 12 million gallon per year, or mmgy, facility in Ralston, Iowa, a 35 mmgy facility near Houston, Texas, a 45 mmgy facility in Danville, Illinois and a 30 mmgy facility in Newton, Iowa. During second quarter, we signed a seven year lease with a 60 mmgy facility in Seneca, Illinois to bring total production capacity to 182 mmgy. In addition to these five plants, we began construction of two 60 mmgy production capacity facilities in 2007, one in New Orleans, Louisiana and the other in Emporia, Kansas. We halted construction of these facilities as a result of conditions in the biodiesel industry and our inability to obtain financing necessary to complete construction of the facility. The New Orleans facility is approximately 50% complete and the Emporia facility is approximately 20% complete. We continue to pursue a variety of options with respect to financing the completion of construction of these two facilities. In addition, as of June 30, 2010 we managed four biodiesel production facilities owned by a third party groups of investors, for which we manage facility operations and provide input procurement, quality control, marketing and distribution, logistics and risk management services. As of June 30, 2010, these facilities were not operating. We provided notice of termination or terminated MOSAs with all of these facilities and are currently negotiating with two facilities with regards to continued services. We also provide biodiesel facility construction management services to third parties. We are currently providing these services for construction activities at the Seneca facility.

Recent Developments

Prior to February 26, 2010, the “Company,” “we” “us” “our” and similar references refers to the business, results of operation and cash flows of Biofuels, formerly Renewable Energy Group, Inc., which is considered the accounting predecessor to Renewable Energy Group, Inc., formerly, REG Newco, Inc. After February 26, 2010, such references refer to the business, results of operation and cash flows of Renewable Energy Group, Inc., and its consolidated subsidiaries, including Biofuels, REG Danville, LLC, or REG Danville, and REG Newton, LLC or REG Newton.

On February 26, 2010, we acquired Blackhawk, referred to as the Blackhawk Merger, and Biofuels, referred to as the Biofuels Merger. Subsequent to the Blackhawk Merger, Blackhawk changed its name to REG Danville. On March 8, 2010, one of our wholly owned subsidiaries, REG Newton, acquired substantially all of the assets and liabilities of CIE, which is referred to as the CIE Asset Acquisition.

In connection with these transactions, we agreed to issue 30,043,005 shares of our Common Stock, $0.0001 par value per share, or the Common Stock, and 13,461,539 shares of our Series A Preferred Stock, $0.0001 par value per share, or the Series A Preferred Stock including shares issued to one of our subsidiaries relating to our ownership interest in CIE. For additional information regarding these transactions, see “Note 6 – Acquisitions” to our consolidated financial statements.

On April 8, 2010, we closed a transaction in which our wholly-owned subsidiary REG Seneca, LLC, or REG Seneca, agreed to lease and operate a 60 mmgy biodiesel production facility located in Seneca, Illinois and certain related assets. The facility is owned by Seneca Landlord, LLC, or Landlord, which, because of the lease, put/call option and related party entity ownership, is considered a variable interest entity and is consolidated for financial statement purposes. For additional information regarding this transaction, the Seneca Transaction, see “Note 6 – Acquisitions” and “Note 7 – Variable Interest Entities” to our consolidated financial statements.

 

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The Federal Volumetric Ethanol Excise Tax Credit, referred to as the blenders’ tax credit, provided a $1.00 tax credit per gallon of pure biodiesel, or B100, to the first blender of biodiesel with petroleum based diesel fuel. The blenders’ tax credit expired on December 31, 2009 and as of the date of the financial statements, had not been reenacted. As a result, our sales for 2010 are almost entirely B100. During April 2010, we temporarily stopped producing biodiesel at our Newton facility and our Ralston facility due to reduced demand for biodiesel because of the lack of reinstatement of the blender’s tax credit. At the end of April, our Newton facility began production under tolling arrangements with us. During May, our Ralston facility began producing at a reduced production level. During June, we stopped producing biodiesel at our Houston facility.

The Energy Independence and Security Act of 2007 (EISA) expanded the Renewable Fuels Standard (RFS2) and specifically required a renewable component in U.S. diesel fuel. On July 1, 2010, RFS2 was implemented , which provided volume requirements and under the program, obligated parties—including refiners and fuel importers—must show compliance for blending biodiesel. Consistent with the RFS2 program, the Environmental Protection Agency (EPA) announced it would require the domestic use of 800 million gallons of biodiesel in 2011.

Segments

We derive revenue from two reportable business segments: Biodiesel and Services.

Biodiesel Segment

Our Biodiesel segment includes:

 

   

our operations of our wholly-owned biodiesel production facilities, currently consisting of production facilities located in:

 

   

Ralston, Iowa;

 

   

Houston, Texas;

 

   

as of February 26, 2010, Danville, Illinois;

 

   

as of March 8, 2010, Newton, Iowa; and,

 

   

as of April 8, 2010, Seneca, Illinois;

 

   

purchases and resales of biodiesel produced by third parties; and

 

   

toll manufacturing activities we service for third parties.

During the quarter ending June 30, 2010, our Houston facility was operated under a tolling agreement with ED&F Man Holdings BV, or ED&F. Under the tolling agreement, ED&F procures feedstocks that the Houston facility processes into biodiesel for a fixed fee. During June 2010, we stopped producing under the arrangement with ED&F and have not been producing biodiesel at our Houston facility.

We derive a small portion of our revenues from the sale of glycerin and fatty acids, which are co-products of the biodiesel production process. In 2009, our revenues from the sale of glycerin and fatty acids were less than one percent of its total Biodiesel segment revenues.

Services Segment

Our Services segment includes:

 

   

biodiesel facility management and operational services, whereby we provide day-to-day management and operational services to biodiesel production facilities; and

 

   

construction management services, whereby we act as the construction manager and general contractor for the construction of biodiesel production facilities.

Our facility operations management services provided to owners of biodiesel production facilities involve a broad range of activities. Under our Management Operations Services Agreement, or MOSA, that we enter into with a facility owner, we typically receive a monthly fee based on gallons of biodiesel produced or marketed and we are eligible for a bonus based on the facility’s net income. Our MOSAs generally have had a three-year or five-year term. We do not recognize revenue from the sale of biodiesel produced at managed facilities, which we sell for the account of the member-owner as we act as an agent for these transactions. In 2009, we provided notice to five network facilities, including CIE, that we would be terminating our services under the MOSAs twelve months from the date notice was provided as permitted by the MOSAs. As of June 30, 2010, three facilities have either not renewed the MOSAs or have indicated that they do not plan to renew the MOSA. We have also provided a notice of default to another facility and as a result, we have terminated that MOSA. We do not anticipate that these non-renewals will have a significant impact on our financial statements.

Our construction management services primarily include assistance with pre-construction planning, such as site selection and permitting, facility and process design and engineering, engagement of subcontractors to perform all construction activity and to supply all biodiesel processing equipment, and project management services. Because we do not have internal construction capabilities and do not manufacture biodiesel processing equipment, we rely on our prime subcontractors, Todd & Sargent and its joint venture with the Weitz Company, TSW, to fulfill the bulk of our obligations to our customers. Payments to these prime subcontractors represent most of the costs of goods sold for our Services segment.

Demand for our construction management and facility operations services depends on capital spending by potential customers and existing customers, which is directly affected by trends in the biodiesel industry. Due to the current economic climate, overcapacity in the biodiesel industry and reduced demand for biodiesel, REG did not receive any new orders for new facility construction services in 2009 or the first half of 2010. During

 

39


the first quarter of 2009, we were completing our engagement to upgrade the facility in Danville, Illinois. This revenue was eliminated for financial reporting purposes, in 2009, as a result of our previous consolidation of Blackhawk’s financial statements – see “Note 5 – Blackhawk” to our consolidated financial statements. During second quarter of 2010, REG agreed to manage construction of the upgrades to the Seneca Facility. This revenue was eliminated for financial reporting purposes, in 2010, as a result of our consolidation of Seneca Landlord – see “Note 7 – Variable Interest Entities” to our consolidated financial statements. We anticipate revenues derived from construction management services will be minimal in future periods until conditions in the biodiesel industry improve.

Components of Revenues and Expenses

We derive revenues in our Biodiesel segment from the following sources:

 

   

sales of biodiesel produced at our wholly-owned facilities, including transportation, storage and insurance costs to the extent paid for by our customers;

 

   

fees from toll manufacturing arrangements with ED&F Man at our Houston facility;

 

   

revenues from our sale of biodiesel produced by third parties through toll manufacturing arrangements with us;

 

   

resale of finished biodiesel acquired from others;

 

   

sales of glycerin, and other co-products of the biodiesel production process; and

 

   

incentive payments from federal and state governments, including the federal biodiesel blenders’ tax credit, now expired, which we received directly when we sold our biodiesel blended with petroleum diesel, primarily as B99, a one percent petroleum diesel mix with biodiesel, rather than in pure form or B100.

We derive revenues in our Services segment from the following sources:

 

   

fees received from member-owned facilities in our network for operations management services that we provide for biodiesel production facilities, typically based on production rates and profitability of the member-owned facility; and

 

   

amounts received for services performed by us in our role as general contractor and construction manager for biodiesel production facilities.

Cost of goods sold for our Biodiesel segment includes:

 

   

with respect to our wholly-owned production facilities, expenses incurred for feedstocks, catalysts and other chemicals used in the production process, facility leases, utilities, depreciation, salaries and other indirect expenses related to the production process, and, when required by our customers, transportation, storage and insurance;

 

   

with respect to biodiesel acquired from third parties produced under toll manufacturing arrangements, expenses incurred for feedstocks, catalysts and other chemicals used in the production process, and toll processing fees paid to the facility producing the biodiesel;

 

   

changes during the applicable accounting period in the market value of derivative and hedging instruments, such as exchange traded contracts, related to feedstocks and commodity fuel products; and

 

   

the purchase price of finished biodiesel acquired from third parties on the spot market, and related expenses for transportation, storage, insurance, labor and other indirect expenses.

Cost of goods sold for our Services segment includes:

 

   

our facility management and operations activities, primarily salary expenses for the services of management employees for each facility and others who provide procurement, marketing and various administrative functions; and

 

   

our construction management services activities, primarily our payments to subcontractors constructing the production facility and providing the biodiesel processing equipment, and, to a much lesser extent, salaries and related expenses for our employees involved in the construction process.

Selling, general and administrative expense consists of expenses generally involving corporate overhead functions and operations at our Ames, Iowa headquarters.

Other income (expense), net is primarily comprised of the changes in fair value of the embedded derivative related to the Series A Preferred Stock conversion feature, changes in fair value of interest rate swap, interest expense, interest income, and the impairment of investments we made in biodiesel plants owned by third parties.

Accounting for Investments

                 REG uses the equity method of accounting to account for the operating results of entities over which REG has had significant influence. REG uses the equity method to account for REG’s minority equity interests in two companies as a result of REG’s previous significant operational influence due to REG’s management of biodiesel operations at these member-owned facilities and in some cases the participation of one of REG’s employees on each member-owned facility’s board of directors. These entities include SoyMor Biodiesel, LLC and Western Dubuque Biodiesel, LLC. REG expects to use the equity method to account for REG’s equity interests in all entities with which REG executes a MOSA and has board participation. Additionally, REG uses the equity method of accounting to account for the operating results of 416 S Bell, LLC. Under the equity method, REG recognizes its proportionate share of the net income (loss) of each entity in the line item “Income from equity method investees.”

 

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We use the cost method of accounting to account for its investment in one previous member plant, East Fork Biodiesel, LLC, or EFB, and as of June 7, 2010, Western Iowa Energy, LLC, or WIE. Because REG does not have the ability to influence the operating and financial decisions of EFB or WIE and does not maintain a position on the board of directors, the investment is accounted for using the cost method. Under the cost method, the initial investment is recorded at cost and assessed for impairment. There was $0 and $0.4 million impairment recorded during the six month periods ended June 30, 2009 and 2010, respectively, relating to EFB, which fully impaired the remaining investment. There has been no impairment of the WIE investment.

In June 2009, the Financial Accounting Standards Board, or “FASB”, amended its guidance on accounting for variable interest entities, or VIEs. As of January 1, 2010, the Company evaluated each investment and determined we do not hold a controlling interest in any of our investments in network plants that would empower us to direct the activities that most significantly impact economic performance. As a result, we are not the primary beneficiary and do not consolidate these VIE’s. See “Note 7 – Variable Interest Entities” to our consolidated financial statements for more information.

For additional information with regards to prior accounting treatment for now acquired investments including Blackhawk and CIE, please see “Note 5 – Blackhawk”, “Note 6 – Acquisitions” and “Note 7 – Variable Interest Entities” to our consolidated financial statements.

Risk Management

The profitability of the biodiesel production business largely depends on the spread between prices for feedstocks and for biodiesel fuel. We actively monitor changes in prices of these commodities and attempt to manage a portion of the risks of these price fluctuations. However, the extent to which we engage in risk management activities varies substantially from time to time, depending on market conditions and other factors. Adverse price movements for these commodity products directly affect our operating results. As a result of our recent acquisitions, our exposure to these risks has increased. In addition to our expertise in managing risks related to biodiesel production, we receive input from others with risk management expertise and utilize research conducted by outside firms to provide additional market information in forming our risk management strategies.

We manage feedstock supply risks related to biodiesel production in a number of ways, including through long-term supply contracts with soybean processors. All of the feedstock requirements for our Ralston facility, REG Ralston, LLC, or REG Ralston, are supplied under a three year agreement with West Central Cooperative, or West Central. West Central has notified REG that it intended to terminate the current agreement with REG Ralston as it expired on July 8, 2010. We expect to renegotiate similar terms with West Central. We have also entered into feedstock supply agreements with Bunge North America, Inc., or Bunge, for the facilities we are constructing in New Orleans, Louisiana and Emporia, Kansas, and we expect that committed amounts under these agreements will satisfy approximately 60% of our feedstock requirements at these facilities when construction is completed and they become fully operational. The purchase price for soybean oil under all three of these agreements is indexed to prevailing Chicago Board of Trade, or CBOT, soybean oil market prices with a negotiated market basis. We utilize futures contracts and options to hedge, or lock in, the cost of portions of our future soybean oil requirements generally for varying periods up to one year.

We also use animal fat as a feedstock to produce biodiesel. We have increased our use of animal fat as a result of the tolling arrangements with plants with animal fat processing capabilities and the acquisition of REG Danville and REG Newton. The Company also arranges for purchases of a significant volume of animal fat to supply our network facilities. We utilize several varieties of animal fat, including but not limited to poultry fat, choice white grease, tallow and yellow grease. We manage animal fat supply risks related to biodiesel production through supply contracts with animal fat suppliers/producers. There is no established futures market for animal fat. The purchase price for animal fat is generally set on a negotiated flat price basis or spread to a prevailing market price reported by the USDA price sheet. Our limited efforts to hedge against changing animal fat prices, have involved entering into futures contracts or options on other commodity products, such as soybean oil or heating oil. However, these products do not always experience the same price movements as animal fats, making risk management for these feedstocks challenging.

Our ability to mitigate our risk of falling biodiesel prices is limited. We have entered into forward contracts to supply biodiesel. However, pricing under these forward sales contracts generally has been indexed to prevailing market prices, as fixed price contracts for long periods on acceptable terms have generally not been available. There is no established market for biodiesel futures. Our efforts to hedge against falling biodiesel prices, which have been relatively limited to date, generally involve entering into futures contracts and options on other commodity products, such as diesel fuel and heating oil. However, these products do not always experience the same price movements as biodiesel. Changes in the value of these futures or options instruments are recognized in current income.

See “Critical Accounting Policies—Derivative Instruments and Hedging Activities”.

We also advise the board of directors of our network facilities regarding risk mitigation and hedging strategies, although executed transactions are effected solely for the account of the network facility.

Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the U.S. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amount of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. We evaluate our estimates on an ongoing basis. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making the judgments we make about the carrying values of

 

41


assets and liabilities that are not readily apparent from other sources. Because these estimates can vary depending on the situation, actual results may differ from the estimates.

We believe the following critical accounting policies affect our more significant judgments used in the preparation of our consolidated financial statements:

Revenue recognition.

We recognize revenues from the following sources:

 

   

the sale of biodiesel and its co-products—both purchased and produced by us at owned manufacturing facilities and through tolling arrangements with network plants;

 

   

fees received under toll manufacturing agreements with third parties;

 

   

fees received from federal and state incentive programs for renewable fuels;

 

   

fees from construction and project management; and

 

   

fees received for the marketing and sales of biodiesel produced by third parties and from managing operations of third party facilities.

Biodiesel sales revenues are recognized where there is persuasive evidence of an arrangement, delivery has occurred, the price has been fixed or is determinable, and collectability can be reasonably assured.

Fees received under toll manufacturing agreements with third parties are generally established as an agreed upon amount per gallon of biodiesel produced. The fees are recognized where there is persuasive evidence of an arrangement, delivery has occurred, the price has been fixed or is determinable, and collectability can be reasonably assured.

Revenues associated with the governmental incentive programs are recognized when the amount to be received is determinable, collectability is reasonably assured, and the sale of product giving rise to the incentive has been recognized.

Historically, we have provided consulting and construction services under turnkey contracts. These jobs require design and engineering effort for a specific customer purchasing a unique facility. We record revenue on these fixed-price contracts on the percentage of completion basis using the ratio of costs incurred to estimated total costs at completion as the measurement basis for progress toward completion and revenue recognition. The total contract price includes the original contract plus any executed change orders only when the amounts have been received or awarded.

Contract cost includes all direct labor and benefits, materials unique to or installed in the project and subcontract costs. Contract accounting requires significant judgment relative to assessing risks, estimating contract costs and making related assumptions for schedule and technical issues. We routinely review estimates related to contracts and reflects revisions to profitability in earnings on a current basis. If a current estimate of total contract cost indicates an ultimate loss on a contract, we would recognize the projected loss in full when it is first determined. We recognize additional contract revenue related to claims when the claim is probable and legally enforceable.

Changes relating to executed change orders, job performance, construction efficiency, weather conditions, and other factors affecting estimated profitability may result in revisions to costs and revenues and are recognized in the period in which the revisions are determined.

Billings in excess of costs and estimated earnings on uncompleted contracts represents amounts billed to customers prior to providing related construction services.

Fees for managing ongoing operations of third party plants, marketing biodiesel produced by third party plants, and from other services are recognized as services are provided. We also have performance-based incentive agreements that are included as management service revenues. These performance incentives are recognized as revenues when the amount to be received is determinable and collectability is reasonably assured.

We act as a sales agent for certain third parties and recognize revenues on a net basis in accordance with ASC Topic 605-45, “Revenue Recognition”.

Impairment of Long-Lived Assets and Certain Identifiable Intangibles. We review long-lived assets, including property, plant and equipment and definite-lived intangible assets, for impairment in accordance with ASC Topic 360-10, “Property, Plant, and Equipment”. Asset impairment charges are recorded for long-lived assets and intangible assets subject to amortization when events and circumstances indicate that such assets may be impaired and the undiscounted net cash flows estimated to be generated by those assets are less than their carrying amounts. If estimated future undiscounted cash flows are not sufficient to recover the carrying value of the assets, an impairment charge is recorded for the amount by which the carrying amount of the assets exceeds its fair value. Fair value is determined by management estimates using discounted cash flow calculations. The estimate of cash flows arising from the future use of the asset that are used in the impairment analysis requires judgment regarding what we would expect to recover from the future use of the asset. Changes in judgment that could significantly alter the calculation of the fair value or the recoverable amount of the asset may result from, but are not limited to, significant changes in the regulatory environment, the business climate, management’s plans, legal factors, commodity prices, and the use of the asset or the physical condition of the asset. There was $0 and $0.1 million impairment recorded during the six month periods ended June 30, 2009 and 2010, respectively.

Goodwill asset valuation. While goodwill is not amortized, it is subject to periodic reviews for impairment. As required by ASC Topic 350, “Intangibles—Goodwill and Other”, we review the carrying value of goodwill for impairment annually or when we believe impairment indicators

 

42


exist. The analysis is based on a comparison of the carrying value of the reporting unit to its fair value, determined utilizing a discounted cash flow methodology. Additionally, we review the carrying value of goodwill whenever events or changes in business circumstances indicate that the carrying value of the assets may not be recoverable. Changes in estimates of future cash flows caused by items such as unforeseen events or sustained unfavorable changes in market conditions could negatively affect the fair value of the reporting unit’s goodwill asset and result in an impairment charge. There was no impairment recorded in the periods presented.

Income taxes. We recognize deferred taxes by the asset and liability method. Under this method, deferred income taxes are recognized for differences between the financial statement and tax bases of assets and liabilities at enacted statutory tax rates in effect for the years in which differences are expected to reverse. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the enactment date. In addition, valuation allowances are established if necessary to reduce deferred tax assets to amounts expected to be realized.

Prior to the Blackhawk Merger, Blackhawk was treated as a partnership for federal and state income tax purposes and generally did not incur income taxes. Instead, its earnings and losses were included in the income tax returns of its members. Therefore, no provision or liability for federal or state income taxes was included in our consolidated financial statements aside from its pro-rata share determined based on its ownership interest for the year ending December 31, 2009 and the period ending February 26, 2010 prior to acquisition.

We utilize the asset and liability method of accounting for deferred income taxes, which requires that deferred tax assets and liabilities be recorded to reflect the future tax consequences of temporary timing differences between the tax and financial statement basis of assets and liabilities. On December 31, 2009, we determined that it is unlikely that the assets will be fully realized in the future based on available evidence; therefore, a full valuation allowance was established against the assets. On a quarterly basis, any deferred tax assets are reviewed to determine the probability of realizing the assets. At June 30, 2010, we had net deferred income tax assets of approximately $37.8 million with a full valuation allowance of $36.3 million, which resulted in a net deferred tax asset of $1.5 million and is offset by an accrued liability for uncertain tax benefits. We believe there is a reasonable basis in the tax law for all of the positions we take on the various federal and state tax returns we file. However, in recognition of the fact that various taxing authorities may not agree with our position on certain issues, we expect to establish and maintain tax reserves. As of June 30, 2010, we had a net deferred tax liability of $1.5 million relating to uncertain tax benefits.

Derivatives instruments and hedging activities. The Financial Accounting Standards Board issued ASC Topic 815-40, “Derivatives and Hedging” or ASC 815-40. ASC 815-40 established accounting and reporting standards for derivative instruments and required that an entity recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. REG utilizes options and futures contracts to hedge feedstock purchases and biodiesel sales contracts. We have designated the derivatives as non-hedge derivatives that are utilized to manage cash flow. Additionally, REG has entered into an interest rate swap with the objective of managing risk caused by fluctuations in market interest rate risks associated with the REG Danville construction loan. Unrealized gains and losses on the options and futures contracts are therefore recognized as a component of Biodiesel cost of goods sold, and are reflected in current results of operations. Unrealized gains and losses on the interest rate swap are recorded in other income or expense, net.

Consolidations. As of June 30, 2010, we had determined the acquisition price of Blackhawk and CIE. For the Blackhawk Merger and CIE Asset Purchase Agreement, the allocation of the recorded amounts of consideration transferred and the recognized amounts of the assets acquired and liabilities assumed are based on the final appraisals and evaluation and estimations of fair value as of the acquisition date. We determined the goodwill recorded should be $43.8 million and $25.2 million for REG Danville and REG Newton, respectively.

On April 8, 2010, we determined that Landlord was a Variable Interest Entity, or VIE, and will be consolidated into our financial statements as we are the primary beneficiary (ASC Topic 810). We have a put/call option with Seneca Holdco, LLC, or Seneca Holdco. to purchase Landlord and we currently lease the plant for production of biodiesel, both of which represent a variable interest in Landlord that are significant to the VIE. Although we do not have an ownership interest in Seneca Holdco, we determined that we are the primary beneficiary due to the related party nature of the entities involved; our ability to direct the activities that most significantly impact Landlord’s economic performance; and the design of Landlord that ultimately gives us the majority of the benefit from the use of Seneca’s assets. We have elected the fair value option available under ASC Topic 825 on the $4.0 million investment made by Seneca Holdco and the associated put and call options. Changes in the fair value after the date of the transaction will be recorded in earnings. Those assets are owned by and those liabilities are obligations of Landlord, which we will consolidate as the primary beneficiary.

See “Note 6 – Acquisitions” to our consolidated financial statements for a description of the acquisitions.

Valuation of Preferred Stock Embedded Derivatives. The terms of the Series A Preferred Stock provide for voluntary and, under certain circumstances, automatic conversion of the Series A Preferred Stock to Common Stock based on a prescribed formula. In addition, shares of Series A Preferred Stock are subject to redemption at the election of the holder beginning February 26, 2014. The redemption price is equal to the greater of (i) an amount equal to $13.75 per share of Series A Preferred Stock plus any and all accrued dividends, not exceeding $16.50 per share, and (ii) the fair market value of the Series A Preferred Stock. Under ASC Topic 815-40, REG is required to bifurcate and account for as a separate liability certain derivatives embedded in its contractual obligations. An “embedded derivative” is a provision within a contract, or other instrument, that affects some or all of the cash flows or the value of that contract, similar to a derivative instrument. Essentially, the embedded terms contain all of the attributes of a free-standing derivative, such as an underlying market value, a notional amount or payment provision, and can be settled “net,” but the contract, in its entirety, does not meet the ASC 815-40 definition of a derivative. For a description of the redemption and liquidation rights associated with Series A Preferred Stock, see “Note 4 – Redeemable Preferred Stock” to our consolidated financial statements.

We have determined that the conversion feature of Series A Preferred Stock is an embedded derivative because the redemption feature allows the holder to redeem Series A Preferred Stock for cash at a price which can vary based on the fair market value of the Series A Preferred Stock, which effectively provides the holders of the Series A Preferred Stock with a mechanism to “net settle” the conversion option. Consequently,

 

43


the embedded conversion option must be bifurcated and accounted for separately because the economic characteristics of this conversion option are not considered to be clearly and closely related to the economic characteristics of the Series A Preferred Stock, which is a considered more akin to a debt instrument than equity.

Accordingly, upon issuance of Series A Preferred Stock, we recorded a liability representing the estimated fair value of the right of preferred holders to receive the fair market value of the Common Stock issuable upon conversion of the Series A Preferred Stock on the redemption date. This liability is adjusted each quarter based on changes in the estimated fair value of such right, and a corresponding income or expense is recorded as Other Income in our statements of operations.

We use the option pricing method to value the embedded derivative. We use the Black-Scholes options pricing model to estimate the fair value of the conversion option embedded in the Series A Preferred Stock. The Black-Scholes options pricing model requires the development and use of highly subjective assumptions. These assumptions include the expected volatility of the value of our equity, the expected conversion date, an appropriate risk-free interest rate, and the estimated fair value of our equity. The expected volatility of our equity is estimated based on the volatility of the value of the equity of publicly traded companies in a similar industry and general stage of development as us. The expected term of the conversion option is based on the period remaining until the contractually stipulated redemption date of February 26, 2014. The risk-free interest rate is based on the yield on U.S. Treasury STRIPs with a remaining term equal to the expected term of the conversion option. The development of the estimated fair value of our equity is discussed below in the “Valuation of the Company’s Equity.”

The significant assumptions utilized in our valuation of the embedded derivative are as follows:

 

     December 31,
2009
    February 26,
2010
    June 30,
2010
 
      

Expected volatility

   50.00   40.00   40.00

Risk-free rate

   0.89   4.40   3.70

The estimated fair values of the conversion feature embedded in the Series A Preferred Stock are recorded as derivative liabilities. The derivative liabilities are adjusted to reflect fair value at each period end, with any increase or decrease in the fair value being recorded in results of operations as change in fair value of Series A Preferred Stock embedded derivative. The impact of the change in the value of the embedded derivative is not included in the determination of taxable income.

Valuation of Seneca Holdco Liability. Associated with our transaction with Nova Biofuels, LLC (See “Note 6 – Acquisitions” to our consolidated financial statements), we have the option to purchase (Call Option) and Seneca Holdco has the option to require us to purchase (Put Option) the membership interest of Landlord whose assets consist primarily of a biodiesel plant located in Seneca, Illinois. Both the Put Option and the Call Option have a term of seven years and are exercisable by either party at a price based on a pre-defined formula. We have valued the amounts financed by Seneca Holdco, the Put Option, and the Call Option using an option pricing model. The fair values of the Put Option and the Call Option were estimated using an option pricing model, and represent the probability weighted present value of the gain that is realized upon exercise of each option. The option pricing model requires the development and use of highly subjective assumptions. These assumptions include (i) the value of our equity, (ii) expectations regarding future changes in the value of the our equity, (iii) expectations about the probability of either option being exercised, including the our ability to list our securities on an exchange or complete a public offering, and (iv) an appropriate risk-free rate. We considered current public equity markets, relevant regulatory issues, biodiesel industry conditions and our position within the industry when estimating the probability that we will raise additional capital. Differences in the estimated probability and timing of this event may significantly impact the fair value assigned to the Seneca Holdco Liability as we determined it is not likely that the Put Option will become exercisable in the absence of this event.

The significant assumptions utilized in our valuation of the Seneca Holdco liability are as follows:

 

     April 9,
2010
    June 30,
2010
 

Expected volatility

   50.00   50.00

Risk-free rate

   4.60   3.70

Probability of IPO (proceeds over $50 million)

   60.00   60.00

Preferred Stock Accretion. Beginning October 1, 2007, the date that the Company determined that there was a more than remote likelihood that the Biofuels preferred stock would become redeemable, the Company commenced accretion of the carrying value of the Biofuels preferred stock over the period until the earliest redemption date, which was August 1, 2011, to the Biofuels preferred stock’s redemption value, plus accrued but unpaid dividends using the effective interest method. This determination was based upon the current state of the public equity markets which was restricting the Company’s ability to execute a qualified public offering, the Company’s historical operating results, and the volatility in the biodiesel and renewable fuels industries which have resulted in lower projected profitability. Prior to October 1, 2007, the Company had determined that it was not probable that the Biofuels preferred stock would become redeemable; therefore, the carrying value was not adjusted in accordance with ASC Topic 480-10-S99, “Classification and Measurement of Redeemable Securities”.

On February 26, 2010, the Company determined that there was a more than remote likelihood that the Series A Preferred Stock would become redeemable, the Company commenced accretion of the carrying value of the Series A Preferred Stock over the period until the earliest redemption date (February 26, 2014) to the Series A Preferred Stock’s redemption value, plus dividends using the effective interest method. This determination was based upon the current state of the public equity markets which is restricting the Company’s ability to execute a qualified public

 

44


offering, the Company’s historical operating results, and the volatility in the biodiesel and renewable fuels industries which have resulted in lower projected profitability.

Accretion of $19.8 million and $16.2 million has been recognized as a reduction to income available to Common Stockholders in accordance with paragraph 15 of ASC 480-10-S99 for the six months ended June 30, 2009 and 2010, respectively.

Valuation of the Company’s Equity. We considered three generally accepted valuation approaches to estimate the fair value of our aggregate equity: the income approach, the market approach, and the cost approach. Ultimately, the estimated fair value of our aggregate equity is developed using the Income Approach—Discounted Cash Flow, or DCF, method. The value derived using this approach is supported by a variation of the Market Approach, specifically comparisons of the implied multiples derived using the DCF method to the multiples of various metrics calculated for guideline public companies.

Material underlying assumptions in the DCF analysis include the gallons produced and managed, gross margin per gallon, expected long-term growth rates, and an appropriate discount rate. Gallons produced and managed as well as the gross margin per gallon were determined based on historical and forward-looking market data.

The discount rate used in the DCF analysis is based on macroeconomic, industry, and company-specific factors and reflects the perceived degree of risk associated with realizing the projected cash flows. The selected discount rate represents the weighted average rate of return that a market participant investor would require on an investment in our debt and equity. The percent of total capital assumed to be comprised of debt and equity when developing the weighted average cost of capital was based on a review of the capital structures of our publicly traded industry peers. The cost of debt was estimated utilizing the adjusted average 20-Year B-rated corporate bond rate during the previous 12 months representing a reasonable market participant rate based on our publicly traded industry peers. Our cost of equity was estimated utilizing the capital asset pricing model, which develops an estimated market rate of return based on the appropriate risk-free rate adjusted for the risk of the biofuels industry relative to the market as a whole, an equity risk premium, and a company specific risk premium. The risk premiums included in the discount rate were based on historical and forward looking market data.

Discount rates utilized in our DCF model are as follows:

 

     December 31,
2009
    February 26,
2010
    June 30,
2010
 

Discount rate

   13.00   15.00   15.00

        Valuations derived from this model are subject to ongoing internal and external verification and review. Selection of inputs involves management’s judgment and may impact net income. This analysis is done on a regular basis and takes into account factors that have changed from the time of the last Common Stock issuance. Other factors affecting our assessment of price include recent purchases or sales of Common Stock, if available.

Stock based compensation. Biofuels maintains a stock-based compensation program for employees and directors under the 2006 Stock Option Plan, or the 2006 Plan. The 2006 Plan was approved by the Biofuels Board of Directors, or Biofuels Board, on July 31, 2006. We maintain a stock-based compensation program for employees and directors under the 2009 Stock Option Plan, or the 2009 Plan. The 2009 Plan was approved by the Board of Directors, on May 6, 2009. We account for both plans according to the requirements of ASC Topic 718, “Stock Compensation”, or ASC 718, and use the Black-Scholes option pricing model to determine the fair value of the stock-based awards. If any of the assumptions under the Black-Scholes option pricing model change significantly, stock based compensation expense, from additional grants, may differ materially in the future from that recorded in the current period.

The calculation of stock-based compensation expense involves complex and subjective assumptions, including the Company’s stock price volatility, expected term of the option grant, dividend yield and the applicable risk free interest rate. For purposes of the calculation, the expected stock-price volatility used was based on the average historical volatility rate for publicly traded companies that are engaged in similar alternative fuel activities, a comparison that we deemed reasonable. The expected term of the options represents the estimated period of time until exercise and is based on the simplified method prescribed in the ASC 718, which is the average of the vesting and the contractual life of the option. Based on our limited operating history, management considers the option term, as calculated in accordance with ASC 718, as reasonable and expects to update such expected term upon the development of actual historical results.

The fair value of the Common Stock was based on the third party transactions with Common Stock. We have not paid dividends on Common Stock and we do not expect to pay dividends during the option term.

Total stock-based compensation expense during the six months ended June 30, 2010 and 2009 was $0.1 million and $1.8 million, respectively.

Results of Operations

Three and six months ended June 30, 2010 and three and six months ended June 30, 2009

Set forth below is a summary of certain unaudited financial information (in thousands) for the periods indicated:

 

45


     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2009     2010     2009     2010  

Revenues

        

Biodiesel

   $ 24,511      $ 46,169      $ 39,878      $ 79,144   

Biodiesel government incentives

     4,882        22        7,531        3,674   
                                

Total Biodiesel

     29,393        46,191        47,409        82,818   

Services

     739        146        1,687        1,008   
                                

Total

     30,132        46,337        49,096        83,826   
                                

Cost of Goods Sold

        

Biodiesel

     30,771        41,125        51,218        75,949   

Services

     220        118        753        533   
                                

Total

     30,991        41,243        51,971        76,482   
                                

Gross Profit (Loss)

     (859     5,094        (2,875     7,344   

Selling, General and Administrative Expenses

     7,200        5,731        12,273        10,958   
                                

Operating Income (Loss)

     (8,059     (637     (15,148     (3,614

Other Income (Expenses)

     160        3,011        2,130        2,956   

Income Tax (Expense) Benefit

     2,055        (2,600     3,238        3,728   

Loss from Equity Investments

     (133     (166     (371     (381
                                

Net Income (Loss)

     (5,977     (392     (10,151     2,689   

Net loss attributable to non-controlling interests

     1,951        —          4,902        —     
                                

Net Income (Loss) Attributable to REG

     (4,026     (392     (5,249     2,689   

Effects of Recapitalization

     —          —          —          8,521   

Less - Accretion of Preferred Stock to Redemption Value

     (10,410     (5,178     (19,776     (16,246
                                

Net Loss Attributable to the Company’s Common Shareholders

   $ (14,436   $ (5,570   $ (25,025   $ (5,036
                                

During first half of 2009, Blackhawk was consolidated in our financial results. During first quarter 2010, Blackhawk was excluded from our financial results until the date of the Blackhawk Merger, February 26, 2010. After February 26, 2010, Blackhawk was included in our financial results. See “Note 5 – Blackhawk” and “Note 7 – Variable Interest Entities” on the consolidated financial statements for additional information relating to the Blackhawk consolidation.

Revenues. Our total revenues increased $16.2 million, or 54%, and $34.7 million, or 71%, to $46.3 million and $83.8 million for the three and six months ended June 30, 2010, respectively, from $30.1 million and $49.1 million for the three and six months ended June 30, 2009. This increase was due to an increase in biodiesel revenues, offset by a small decrease in service revenues, as follows:

Biodiesel. Biodiesel revenues including government incentives increased $16.8 million, or 57%, and $35.4 million, or 75%, to $46.2 million and $82.8 million during the three and six months ended June 30, 2010, respectively, from $29.4 million and $47.4 million for the three and six months ended June 30, 2009, respectively. This increase in biodiesel revenues was due to an increase in both selling price and gallons sold. As a result of higher energy prices during the first half of 2010, the average B100 sales price increased $0.72, or 29%, and $0.82, or 35%, to $3.19 and $3.13, respectively, during the three and six months ended June 30, 2010, compared to $2.47 and $2.31 during the three and six months ended June 30, 2009. The following table summarized the gallons sold (in millions):

 

     Three Months Ending
June  30
   Six Months Ending
June  30
     2009    2010    2009    2010

REG Ralston

   2.1    0.7    5.2    3.1

Tolling Arrangements with Newton facility

   0.8    2.9    1.1    4.8

Tolling Arrangements with Danville facility

   3.4    8.5    3.4    11.5

Blackhawk

   —      —      0.7    —  

Third Party Purchases

   0.5    0.3    0.9    0.7

REG Houston

   3.6    —      5.5    —  
                   

Gallons Sold

   10.4    12.4    16.8    20.1

Houston Gallons Tolled for Others

   1.5    2.6    3.9    6.2
                   

Total Gallons Sold

   11.9    15.0    20.7    26.3

Gallons sold increased 20% from 16.8 million gallons during the first half of 2009 to 20.1 million gallons during the first half of 2010, excluding gallons under tolling arrangements at our Houston Facility. The increase in gallons sold was primarily the result of finished biodiesel produced by Blackhawk, now REG Danville, under a tolling arrangement with us which was not in effect during the first quarter 2009. This arrangement resulted in 8.1 million gallons of additional sales during first half of 2010. Gallons sold also increased 3.7 million gallons during first half of 2010 as a result of biodiesel produced by CIE, now REG Newton, under a tolling arrangement with us, under

 

46


which fewer gallons had been produced during first half of 2009. The increases in gallons sold during 2010 were partially offset by our Houston facility producing 5.5 million gallons on its own behalf during the first half of 2009 and none during the first half of 2010, and a small decrease in our Ralston production of 2.1 million from the first half of 2009 to the first half of 2010. Under Houston’s tolling arrangement, during the first half of 2010, we shipped 6.2 million gallons compared to 3.9 million gallons during the same period of 2009. As a result of these shipments, we earned toll fees of $0.33 per gallon, $2.1 million total revenue, during the six months ended June 30, 2010, and $0.43 per gallon, $1.7 million total revenue, during the six months ended June 30, 2009.

Services. Services revenues decreased $0.6 million, or 80%, and $0.7 million, or 40%, to $0.1 million and $1.0 million for the three and six months ended June 30, 2010, from $0.7 million and $1.7 million for the three and six months ended June 30, 2009. Our revenues generated from management services provided to network facilities, excluding Blackhawk, decreased during first half 2010 due to decreased production at the network plants driven by the expiration of the blender’s tax credit.

Cost of goods sold. Our cost of goods sold increased $10.2 million, or 33%, and $24.5 million, or 47%, to $41.2 million and $76.5 million for the three and six months ended June 30, 2010, from $31.0 million and $52.0 million for the three and six months ended June 30, 2009, respectively. This increase was primarily due to costs associated with the increase in gallons sold in the 2010 period and as follows:

Biodiesel. Biodiesel cost of goods sold increased $10.3 million, or 34%, and $24.7 million, or 48%, to $41.1 million and $75.9 million for the three and six months ended June 30, 2010, compared to $30.8 million and $51.2 million for the three and six months ended June 30, 2009, respectively. The increase in cost of goods sold is primarily the result of additional gallons sold in the 2010 period as outlined above. Average animal fat costs for the six months ended June 30, 2010 and 2009 were $0.29 and $0.23 per pound, respectively. Soybean oil costs were not substantially different during the two periods. We had gains of $0.7 million and $0.5 million from hedging activity in the three and six months ended June 30, 2010, compared to losses of $1.4 million and $1.0 million from hedging arrangements in the three and six months ended June 30, 2009, respectively.

Services. Cost of services decreased $0.1 million, or 46%, and $0.3 million, or 29%, to $0.1 million and $0.5 million for the three and six months ended June 30, 2010, from $0.2 million and $0.8 million for the three and six months ended June 30, 2009, respectively. We had limited construction activity in the first two quarters of 2010 and minimal associated costs. Costs incurred to perform services under the MOSAs decreased due to a reduction in wages during first half 2010.

Selling, general and administrative expenses. Our selling, general and administrative, or SG&A, expenses were $5.7 million and $11.0 million for the three and six months ended June 30, 2010, respectively, compared to $7.2 million and $12.3 million for the three and six months ended June 30, 2009. SG&A expenses decreased $1.5 million, or 20% and $1.3 million, or 11% for the three and six months ended June 30, 2010 as a result of several factors, but primarily because 2009 expenses included the consolidation of Blackhawk SG&A expenses, which although still included in consolidated expenses during 2010, have been greatly reduced due to the completion of the Blackhawk Merger and start up of the facility. Professional expenses increased $1.1 million for the six months ending June 30, 2010 compared to the same period in 2009. The increase was almost entirely related to the Biofuels Merger, Blackhawk Merger, CIE Asset Acquisition and the Seneca transaction during 2010. The increase was partially offset by other cost cutting measures undertaken by management during 2010, which reduced wages and information technology expenses during the six months ended June 30, 2010.

Other income (expense), net. Other income was $3.0 million and $3.0 million for the three and six months ended June 30, 2010. Other income was $0.2 million and $2.1 million during the three and six months ended June 20, 2009. Other income is primarily comprised of the changes in fair value of the Series A Preferred Stock conversion feature embedded derivative, interest expense, interest income, and the other non-operating items. The change in fair value of the Series A Preferred Stock conversion feature embedded derivative resulted in $5.0 million income for second quarter of 2010, compared to expense of $0.3 million and $1.2 million for the three and six months ended June 30, 2009. Interest expense increased $0.8 million and $0.4 million for the three and six months ended June 30, 2010, from $0.6 million and $1.3 million for the three and six months ended June 30, 2009. This increase was primarily attributable to Blackhawk Merger, CIE Asset Acquisition during the first quarter of 2010 and the Seneca transaction during the second quarter of 2010. Other income during first half of 2009 included $1.4 million of miscellaneous income relating to release of an escrow related to REG’s Stockton terminal facility that occurred in the first half of 2009 and grant income of $0.3 million relating to a research grant received from the State of Iowa.

Income tax (expense) benefit. Income tax expense was $2.6 million and income tax benefit $3.7 million for the three and six months ended June 30, 2010, compared to income tax benefit of $2.1 million and $3.2 million for the three and six months ended June 20, 2009. Deferred tax liabilities were recorded as a result of the Blackhawk Merger and CIE Asset Purchase. As the deferred tax liabilities were recorded, the resulting decrease in net deferred tax assets required a lower valuation allowance. The release of the associated valuation allowance resulted in an income tax benefit. Additional adjustment to the deferred tax liabilities as a result of finalizing the purchase price allocation during second quarter resulted in the deferred tax expense during the three months ending June 30, 2010.

Loss from equity investments. Loss from equity investments was $0.4 million for the first half 2010 and 2009. The slight decrease in loss from equity investments was primarily attributable to reduced production of the partially owned biodiesel production facilities.

Non-controlling interest. Net loss from noncontrolling interests was $2.0 million and $4.9 million for the three and six months ended June 30, 2009, respectively, resulting from the consolidation of Blackhawk in 2009.

Effects of Recapitalization. Net effects of recapitalization were $8.5 million for the six months ended June 30, 2010. This is a one time item due to the Biofuels Merger share issuances.

 

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Preferred stock accretion. Preferred stock accretion was $5.2 million and $16.2 million for the three and six months ended June 30, 2010, compared to $10.4 million and $19.8 million for the three and six months ended June 30, 2009. The accretion amount increases as the redemption date becomes closer due to the use of the effective interest rate method. During the first half of 2010, we accreted two months of the previously issued Biofuels preferred stock (redemption date of August 1, 2011) and one month of newly issued Series A Preferred Stock (redemption date February 26, 2014). Although the overall accretion increased, monthly accretion expense decreased after the Biofuels Merger as a result of the new redemption amount and redemption date.

Liquidity and Capital Resources

Sources of liquidity. Since inception, a significant portion of our operations have been financed through the sale of our capital stock. From 2006 through June 30, 2010, we received cash proceeds of $121.1 million from private sales of preferred stock and Common Stock. At June 30, 2010, we had total cash and cash equivalents of $5.3 million. At June 30, 2010, we had debt of $89.0 million.

On February 26, 2010, in connection with the Blackhawk Merger, one of our subsidiaries, REG Danville, assumed a $24.6 million term loan and a $5.0 million revolving credit line with Fifth Third Bank. As of June 30, 2010, there was $24.4 million of principal outstanding under the term loan and $0.4 million outstanding under the revolving credit line. The Illinois Finance Authority guarantees 61% of the term loan and the remaining amount is secured by our Danville facility. The term loan bears interest at a fluctuating rate per annum equal to the LIBOR rate plus the applicable margin of 4%. Until June 30, 2010, REG Danville was required to make only monthly payments of accrued interest. Beginning on July 1, 2010, REG Danville is required to make monthly principal payments equal to $135,803 plus accrued interest. In addition to these monthly payments, as the result of an amendment to the loan agreement, REG Danville is required to make annual principal payments equal to 50% of REG Danville’s Excess Cash Flow, or the 50% Excess Payment, with respect to each fiscal year until $2.5 million has been paid from the Excess Cash Flow. Excess Cash Flow is equal to EBITDA less certain cash payments made during the period including principal payments, lease payments, interest payments, tax payments, approved distributions and capital expenditures. Excess Cash Flow is measured annually; therefore, no amounts have yet been paid. Thereafter, REG Danville is required to make annual payments equal to 25% of its Excess Cash Flow. REG Danville is subject to various loan covenants that restrict its ability to take certain actions, including prohibiting it from paying any dividend to us until the 50% Excess Payment is made and certain financial ratios are met. As of June 30, 2010, REG Danville was not in compliance with the term loan agreement but obtained a waiver from Fifth Third related to the noncompliance. The term loan matures on November 3, 2011 and the revolving credit line expired on December 31, 2009. The $0.4 million outstanding under the revolving credit time is currently past due.

                 On March 8, 2010, in connection with the CIE Acquisition, one of our subsidiaries, REG Newton, refinanced a $23.6 million term loan, or the AgStar Loan, and obtained a $2.4 million line of credit, or the AgStar Line, with AgStar Financial Service, PCA, or AgStar. As of June 30, 2010, there was $23.6 million of principal outstanding under the AgStar Loan and $0.6 million of principal outstanding under the AgStar Line. These amounts are secured by our Newton facility. We have guaranteed the obligations under the AgStar Line and have a limited guarantee related to the obligations under the AgStar Loan; which provide that we will not be liable for more than the unpaid interest, if any, on the AgStar Loan that has accrued during a 18-month period beginning on March 8, 2010. The AgStar Loan bears interest at 3% plus the greater of (i) LIBOR or (ii) two percent. Until October 1, 2011, REG Newton is required to pay only accrued interest on the AgStar Loan. Beginning on October 1, 2011, equal monthly payments of principal and accrued interest are due based on a 12-year amortization period. Under the AgStar Loan, REG Newton is required to maintain a debt service reserve account, or the Debt Reserve, equal to 12-monthly payments of principal and interest on the AgStar Loan. Beginning on January 1, 2011 and at each fiscal year end thereafter until such time as the balance in the Debt Reserve contains the required 12-months of payments, REG Newton must deposit an amount equal to its Excess Cash Flow, which is defined in the AgStar Loan agreement as EBITDA, less the sum of required debt payments, interest expense, any increase in working capital from the prior year until working capital exceeds $6.0 million, up to $0.5 million in maintenance capital expenditure, allowed distributions and payments to fund the Debt Reserve. In the event any amounts are past due, AgStar may withdraw such amounts from the Debt Reserve. Also beginning on January 1, 2011, provided that REG Newton is in compliance with the working capital ratios and the Debt Reserve is funded, REG Newton must make an annual payment equal to 50% of its Excess Cash Flow calculated based upon the prior year’s audited financial statements within 120 days of the fiscal year end. REG Newton is subject to various standard loan covenants that restrict its ability to take certain actions, including prohibiting REG Newton from making any cash distributions to us in excess of 35% of REG Newton’s net income for the prior year. The AgStar Loan matures on March 8, 2013 and the AgStar Line expires on March 7, 2011.

During July 2009, we and certain subsidiaries entered into an agreement with Bunge for Bunge to provide services related to the procurement of raw materials and the purchase and resale of biodiesel produced. The agreement provides for Bunge to purchase up to $10.0 million in feedstock for, and biodiesel from, us. In June 2009, we entered into an extended payment terms agreement with West Central to provide up to $3.0 million in outstanding payables for up to 45 days. Both of these agreements provided additional working capital resources to us. As of June 30, 2010 the Company had approximately $5.3 million combined outstanding under these agreements.

Certain of our subsidiaries, and the Company as guarantor, entered into a Revolving Credit Agreement, or the WestLB Revolver, dated as of April 8, 2010, with WestLB, AG. The initial available credit amount under the WestLB Revolver is $10 million with additional lender increases up to a maximum commitment of $18 million. Advances under the WestLB Revolver are limited to the amount of certain of our qualifying assets that secure amounts borrowed. The WestLB Revolver requires that we maintain compliance with certain financial covenants. The term of the WestLB Revolver is two years. The interest rate varies depending on the loan type designation and is either 2.0% over the higher of 50 basis points above the Federal Funds Effective Rate or the WestLB prime rate for Base Rate loans or 3.0% over adjusted LIBOR for Eurodollar loans. The WestLB Revolver is secured by assets and ownership interests of our subsidiaries. See “Note 11—Borrowings” to our consolidated financial statements for additional information. In July, we borrowed $3.5 million of the amount available on the WestLB Revolver.

As a result of the Seneca Transaction, we received from Seneca Holdco, which is owned by three of our investors, to invest $4.0 million in Landlord the company that owns the Seneca biodiesel production facility, the Seneca Facility, at closing to pay for repairs

 

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to the Seneca facility. Landlord will lease the Seneca Facility to REG Seneca, on a triple net basis with rent being set at an amount to cover debt service and other expenses. REG Seneca will pay Seneca Landlord a $0.6 million per year fee, payable $150,000 per quarter, which is guaranteed by us. See “Note 7 – Variable Interest Entities” to our consolidated financial statements for additional information.

On April 8, 2010, Landlord entered into a note payable agreement with West LB. The note requires that interest be accrued at different rates based on whether it is a Base Rate Loan or Eurodollar loan at either 2.0% over the higher of 50 basis points above the Federal Funds Effective Rate or the WestLB prime rate for Base Rate loans or 3.0% over adjusted LIBOR for Eurodollar loans. The loan was a Base Rate Loan through June 30, 2010. The effective rate at June 30, 2010 was 5.75%. Interest is paid monthly. Principal payments have been deferred until February 2012. At that time, Landlord will be required to make monthly principal payments of $201,389 with remaining unpaid principal due at maturity on April 8, 2010. The note payable is secured by the property located at the Seneca, IL location. The balance of the note as of June 30, 2010 is $36.3 million. These monthly payments of interest and principal are lease payments from REG Seneca under the leasing arrangement.

We and our subsidiaries were in compliance with all restrictive financial covenants associated with borrowings as of June 30, 2010 with exception to the REG Danville’s line-of-credit and term loan. REG Danville is in default of the agreement as the line of credit expired on December 31, 2009 and there remains a $0.4 million outstanding balance. We are in the process of renegotiating the line of credit with the bank. We obtained a waiver related to the technical default on the term loan related to an EBITDA requirement for the six months ended June 30, 2010.

We continue to be in discussions with lenders in an effort to obtain financing for facilities under construction and capital improvement projects for our operating facilities. Our New Orleans, Louisiana facility has a GoZone Bond allocation of up to $100 million in order to finance the completion of the construction of that facility and possibly related facilities. This allocation expires in December 2010.

The Company is seeking to enter into equity and debt financing arrangements to meet its projected financial needs for operations, upgrades to existing plants and for completion of the New Orleans, Louisiana facility and Emporia, Kansas facility. The financing may consist of common or preferred stock, debt, project financing or a combination of these financing techniques. Additional debt would likely increase the Company’s leverage and interest costs and would likely be secured by certain Company assets. Additional equity or equity-linked financings would likely have a dilutive effect on our existing shareholders. It is likely that the terms of any project financing would include customary financial and other covenants on our project subsidiaries, including restrictions on the ability to make distributions, to guarantee indebtedness, and to incur liens on the plants of such subsidiaries.

Cash flow. The following table presents information regarding REG’s cash flows and cash and cash equivalents for the years ended December 31, 2007, 2008, and 2009 and for the six months ended June 30, 2009 and 2010:

 

     Year Ended
December 31,
    Six months Ended
June 30,
 
     2007     2008     2009     2009     2010  
     (in thousands)  

Net cash flows from operating activities

   $ (6,921   $ (3,636   $ (8,209   $ (6,326   $ (2,105

Net cash flows from investing activities

     (52,898     (26,173     371        (1,584     (1,394

Net cash flows from financing activities

     25,086        26,155        1,618        (764     2,929   

Net change in cash and cash equivalents

     (34,733     (3,654     (9,456     (8,674     (570

Cash and cash equivalents, end of period

   $ 18,965      $ 15,311      $ 5,855      $ 6,637      $ 5,285   

Operating activities. Net cash used in operating activities was $2.1 million and $6.3 million for the six months ended June 30, 2010 and 2009, respectively. For the six months ended June 30, 2010, net income was $2.7 million which was largely offset by changes in the deferred tax benefit of $3.7 million and $5.0 million change in the fair value of preferred stock conversion feature embedded derivative resulting in a net cash use from operations of $2.1 million. The net use of cash from operating activities during the six months ended June 30, 2009, of $6.3 million resulted primarily from a $10.2 million net loss from operations, as well as changes in allowance for doubtful accounts of $1.5 million and changes to deferred taxes of $3.2 million. These cash uses were partially offset by net working capital decrease of $4.6 million and non-cash depreciation and stock-based compensation expenses totaling $2.7 million and $1.8 million, respectively.

Investing activities. Net cash used in investing activities for the six months ended June 30, 2010 was $1.4 million, consisting of cash paid for Seneca construction of $2.1 million and partially offset by a certificate of deposit provided from the acquisition of CIE that relates to the IDED loan and is restricted. Net cash used in investing activities for the six months ended June 30, 2009 was $1.6 million, as $5.3 million in facility construction costs for Danville were partially offset by receipt of $3.4 million from a construction escrow fund related to REG Danville’s construction.

Financing activities. Net cash provided from financing activities for the six months ended June 30, 2010 was $2.9 million, which represents $4.0 million cash proceeds received from the Seneca investors. This was partially offset by principal payments in connection with the note payable and cash paid for debt issuance. Net cash used in financing activities for the six months ended June 30, 2009 was $0.8 million, which consisted of $0.9 million borrowings on the REG Danville line of credit and payoff of the WestLB borrowings of $1.3 million.

Capital expenditures. REG plans to make significant capital expenditures when debt financing becomes available to complete construction of two facilities, one in New Orleans, Louisiana and one in Emporia, Kansas, with aggregate production capacity of 120 mmgy. REG estimates

 

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completion of the New Orleans facility will require approximately $57 million in additional capital and the Emporia facility will require an additional $54 million. Additional construction expenditures will be required for the Seneca facility, most of which have been funded through the cash provided by the Seneca investors, but some will be funded through the operation of the facility.

Contractual Obligations

As of June 30, 2010, we had no material changes to our first quarter contractual obligations table, which describes our consolidated commitments to settle contractual obligations in cash as of March 31, 2010, except as described below.

 

     Payments Due by Period
     Total    Less Than
1 Year
   Years
1-3
   Years
4-5
   More Than
5 Years
     (in thousands)

Long Term Debt(1)(2)

   $ 106,647    $ 6,253    $ 62,092    $ 8,807    $ 29,496

(1) See footnotes to the financial statements for additional detail. Includes fixed interest associated with obligations as of June 30, 2010.

(2) Reflects Lease Agreement, entered into by REG Seneca and Landlord that governs REG Seneca’s lease of the Seneca Facility from Landlord. The Lease has a term of 7 years on a net lease basis covering the debt service on $36,250 of mortgage indebtedness against the Seneca Facility, as well as taxes, utilities, maintenance and other operating expenses.

Off-Balance Sheet Arrangements

REG has no off-balance sheet arrangements.

Recent Accounting Pronouncements

In June 2009, the FASB issued ASC Topic 810, Consolidations. This Statement requires a qualitative analysis to determine the primary beneficiary of a VIE. The analysis identifies the primary beneficiary as the enterprise that has both the power to direct the activities of a VIE that most significantly impact the VIE’s economic performance and the obligation to absorb losses or the right to receive benefits that could be significant to the VIE. The Statement also requires additional disclosures about an enterprise’s involvement in a VIE. The effective date is the beginning of fiscal year 2010. The Company adopted this statement effective January 1, 2010, which resulted in the deconsolidation of Blackhawk and additional disclosure requirements. See “Note 7 – Variable Interest Entities” to our consolidated financial statements for additional information.

In January 2010, the FASB issued Accounting Standards Update, or ASU, No. 2010-06, “Fair Value Measurements and Disclosures”, ASU 2010-06, which amends ASC Topic 820, adding new requirements for disclosures for Levels 1 and 2, separate disclosures of purchases, sales issuances, and settlements related to Level 3 measurements and clarification of existing fair value disclosures. ASU 2010-06 is effective for interim and annual periods beginning after December 15, 2009, except for the requirement to provide Level 3 activity of purchases, sales, issuances, and settlements on a gross basis, which will be effective for fiscal years beginning after December 15, 2010. The adoption of this guidance did not have a material effect on the Company’s financial statements and the Company does not anticipate the remaining disclosures will have a material effect on the Company’s financial statements

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The primary objectives of REG’s investment activity are to preserve principal, provide liquidity and maximize the income without significantly increasing the risk. Some of the securities REG invests in are subject to market risk. This means that a change in prevailing interest rates may cause the principal amount of the investment to fluctuate. To minimize this risk, REG maintains its portfolio of cash equivalents and short-term investments in money market funds and certificates of deposit.

Over the period from January 2005 through June 2010, average diesel prices based on Platts reported pricing for Group 3 (Midwest) have ranged from approximately $3.81 per gallon reported in June 2008 to approximately $1.21 per gallon in March 2009, with prices averaging $2.10 per gallon during this period. Over the period from January 2005 through June 2010, soybean oil prices (based on closing sales prices on the CBOT nearby futures, for crude soybean oil) have ranged from $0.6416 per pound in September 2008 to $0.1972 per pound in January 2005, with closing sales prices averaging $0.3453 per pound during this period. Over the period from January 2005 through March 2010, animal fat prices (based on prices from The Jacobsen Missouri River, for choice white grease) have ranged from $0.4892 per pound in July 2008 to $0.1226 per pound in May 2006, with sales prices averaging $0.2264 per pound during this period.

Higher feedstock prices or lower biodiesel prices result in lower profit margins and, therefore, represent unfavorable market conditions. Traditionally, REG has not been able to pass along increased feedstock prices to its biodiesel customers. The availability and price of feedstocks are subject to wide fluctuations due to unpredictable factors such as weather conditions during the growing season, kill ratios, carry-over from the previous crop year and current crop year yield, governmental policies with respect to agriculture, and supply and demand.

REG has prepared a sensitivity analysis to estimate its exposure to market risk with respect to its soybean oil requirements, fat requirements and sales contracts and the related exchange-traded contracts for 2009. Market risk is estimated as the potential loss in fair value, resulting from a hypothetical 10.0% adverse change in the fair value of its soybean oil requirements and sales contracts. The results of this analysis, which may differ from actual results, are as follows:

 

     2009
Volume
(in millions)
   Units    Hypothetical
Adverse
Change in
Price
    Change in
Annual
Gross Profit
(in millions)
   Percentage
Change in
Gross Profit
 

Biodiesel

   42.9    gallons    10.0   $ 10.9    370.9

Animal Fats

   141.0    pounds    10.0   $ 3.6    120.7

Soybean Oil

   121.1    pounds    10.0   $ 3.5    119.2

 

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Interest Rate Risk

We are subject to interest rate risk in connection with REG Ralston’s loan with a $2.4 million outstanding balance made from the proceeds of Variable Rate Demand Industrial Development Revenue Bonds, or the IFA Bonds, issued by the Iowa Finance Authority to finance our Ralston facility. The IFA Bonds bear interest at a variable rate determined by the remarketing agent from time to time as the rate necessary to produce a bid for the purchase of all of the Bonds at a price equal to the principal amount thereof plus any accrued interest at the time of determination, but not in excess of 10% per annum. The interest rate on the bonds was 0.61% for the last week of June 2010. A hypothetical increase in interest rate of 10% would not have a material effect on REG’s annual interest expense.

We are subject to interest rate risk relating to REG Danville’s $24.6 million term debt financing with Fifth Third Bank and its $5.0 million revolving line of credit from Fifth Third Bank. The term loan bears interest at a fluctuating rate based on a range of rates above 30-day LIBOR and will mature on November 3, 2011. Interest will accrue on the outstanding balance of the term loan at the 30 day LIBOR plus 400. Interest accrued on the outstanding balance of the loan at June 30, 2010 at 4.35%. The revolving line of credit will accrue interest at REG Danville’s choice of the 30-day LIBOR rate plus 300 basis points or the Lender’s prime rate plus 25 basis points and is due in monthly payments. At June 30, 2010, we accrued interest at the 30-day LIBOR plus 300 basis points on the outstanding balance which totaled 3.23%.

Blackhawk entered into an interest rate swap agreement in connection with the aforementioned term loan in May 2008. The agreement was assumed by REG Danville. The swap agreement effectively fixes the interest rate at 3.67% on a notional amount of approximately $24.4 million of REG Danville’s term loan through November 2011. The fair value of the interest rate swap agreement was $1.0 million and $0.9 million at both December 31, 2009 and June 30, 2010, respectively, and is recorded in other noncurrent liabilities. The interest rate swap agreement is not designated as a cash flow or fair value hedge. Gains and losses based on the fair value change in the interest rate swap agreement are recognized in the statement of operations as change in fair value of interest rate swap agreement. A hypothetical increase in interest rate of 10% would not have a material effect on our annual interest expense.

REG Newton is subject to interest rate risk relating to its $23.6 million term debt financing and its $2.4 million revolving line of credit both from AgStar. Interest will accrue on the outstanding balance of the term loan at 30 day LIBOR or 2.00%, whichever is higher, plus 300 basis points (effective rate at June 30, 2010 of 5.00%). The revolving line of credit accrues interest at 30 day LIBOR or 2.00%, whichever is higher, plus 300 basis points (effective rate at June 30, 2010 of 5.00%). A hypothetical increase in interest rate of 10% would not have a material effect on our annual interest expense.

REG Seneca is subject to interest rate risk relating to its lease payments for the facility. The lease provides that REG Seneca will pay rent in the amount of the interest payments due to WestLB from Seneca Landlord, LLC. The note requires interest that interest be accrued at different rates based on whether it is a Base Rate Loan or Eurodollar loan. Each Base Rate Loan shall accrue interest at a rate per annum equal to 2% plus the higher of (i) the Federal Funds Effective Rate plus 0.5% and (ii) the rate of interest in effect for such day as publicly announced from time to time by WestLB as its “prime rate”. Each Eurodollar Loan shall accrue interest at a rate per annum equal to 3.0% plus the greater of (a) one and one half percent (1.5%) per annum, and (b) the rate per annum obtained by dividing (x) LIBOR for such Interest Period and Eurodollar Loan, by (y) a percentage equal to (i) 100% minus (ii) the Eurodollar Reserve Percentage for such Interest Period. The loan was a Base Rate Loan through June 30, 2010 (effective rate at June 30, 2010 of 5.75%). Interest is paid monthly.

Inflation

To date, inflation has not significantly affected REG’s operating results though costs for construction, labor, taxes, repairs, maintenance and insurance are all subject to inflationary pressures. Inflationary pressure in the future could affect REG’s ability to maintain its production facilities adequately, build new biodiesel production facilities and expand its existing facilities as well as the demand for its facility construction management and operations management services.

 

ITEM 4. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

We maintain a system of disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company’s reports under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to management, including our Chief Executive Officer and the Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.

Subject to the limitations noted above, management, with the participation of our Chief Executive Officer and our Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) of the Exchange Act, as of June 30, 2010. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were not effective as of June 30, 2010 because of the material weaknesses identified in our risk factor on page 55 of our Quarterly Report on Form 10-Q for the quarter ended March 31, 2010.

 

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Changes in Internal Control Over Financial Reporting

There were no changes in our internal control over financial reporting that occurred during the quarter ended June 30, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS

We are party to various legal proceedings arising in the ordinary course of business, which we believe there is no pending or threatened litigation that would have a material adverse effect on our financial position, operations or liquidity.

 

ITEM 1A. RISK FACTORS

There are no material changes from the risk factors previously disclosed in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2010. See Part II, Item 1A in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2010, entitled “Risk Factors.”

 

ITEM 6. EXHIBITS

(A) Exhibits:

 

Exhibit No.

  

Description

10.1    2009 Stock Incentive Plan.
10.2    Lease Agreement, dated as of April 8, 2010, by and between Seneca Landlord, LLC and REG Seneca, LLC (incorporated by reference to Exhibit 10.1 to Renewable Energy Group, Inc.’s (the “Company’s”) Current Report on Form 8-K dated April 9, 2010).
10.3    Funding, Investor Fee and Put/Call Agreement, dated as of April 8, 2010, by and among Seneca Biodiesel Holdco, LLC, Seneca Landlord, LLC, the Company, REG Intermediate Holdco, Inc., and REG Seneca, LLC (incorporated by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K dated April 9, 2010).
10.4    Accounts Agreement, dated as of April 8, 2010, by and among Seneca Landlord, LLC, REG Seneca, LLC, Sterling Bank, WestLB AG, New York Branch (incorporated by reference to Exhibit 10.3 to the Company’s Current Report on Form 8-K dated April 9, 2010).
10.5    Revolving Credit Agreement, dated as of April 8, 2010, by and among REG Marketing and Logistics Group, LLC, REG Services Group, LLC, the Company and WestLB AG, New York Branch (incorporated by reference to Exhibit 10.4 to the Company’s Current Report on Form 8-K dated April 9, 2010).
31.1    Certification of the Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a).
31.2    Certification of the Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a).
32.1    Certification of the Chief Executive Officer pursuant to 18 USC Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2    Certification of the Chief Financial Officer pursuant to 18 USC Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

    RENEWABLE ENERGY GROUP, INC.
Dated: August 16, 2010     By:   /s/ Jeffrey Stroburg
      Jeffrey Stroburg
      Chief Executive Officer and Director

 

Dated: August 16, 2010     By:   /s/ Chad Stone
      Chad Stone
      Chief Financial Officer
      (Principal Financial Officer)

 

Dated: August 16, 2010     By:   /s/ Natalie Lischer
      Natalie Lischer
      Treasurer and Secretary
      (Principal Accounting Officer)

 

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