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 September 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)

(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    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 September 30, 2010, there was no public trading market for the Company’s common stock. There were 33,129,553 shares of the Company’s common stock and 13,455,522 shares of the Company’s preferred stock outstanding on September 30, 2010.

 

 

 


 

Item 1. Condensed Consolidated Financial Statements

RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)

AS OF SEPTEMBER 30, 2010 AND DECEMBER 31, 2009

(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

 

     September 30,
2010
    December 31,
2009
 

ASSETS

    

CURRENT ASSETS:

    

Cash and cash equivalents

   $ 11,486      $ 5,855   

Restricted cash

     674        2,156   

Accounts receivable, net (includes amounts owed by related parties of $486 and $2,328 as of September 30, 2010 and December 31, 2009, respectively)

     9,046        12,162   

Inventories

     13,119        12,840   

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

     4,948        4,689   
                

Total current assets

     39,273        37,702   
                

Property, plant and equipment, net

     167,124        124,429   

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

     42,811        —     

Goodwill

     85,139        16,080   

Intangible assets, net

     6,070        7,203   

Deferred income taxes

     1,500        1,500   

Investments

     4,358        6,149   

Other assets

     9,082        7,495   

Restricted cash

     2,307        —     
                

TOTAL ASSETS

   $ 357,664      $ 200,558   
                

LIABILITIES AND EQUITY (DEFICIT)

    

CURRENT LIABILITIES:

    

Revolving line of credit

   $ 6,240      $ 350   

Current maturities of notes payable

     2,904        2,756   

Accounts payable (includes amounts owed to related parties of $5,122 and $5,415 as of September 30, 2010 and December 31, 2009, respectively)

     11,628        14,133   

Accrued expenses and other liabilities

     3,792        4,197   

Deferred revenue

     881        5,480   
                

Total current liabilities

     25,445        26,916   

Unfavorable lease obligation

     11,576        11,783   

Preferred stock embedded conversion feature derivatives

     46,556        4,104   

Seneca Holdco liability, at fair value

     8,708        —     

Notes payable

     48,324        25,749   

Notes payable - Seneca Landlord, LLC

     36,250        —     

Other liabilities

     7,479        10,015   
                

Total liabilities

     184,338        78,567   
                

COMMITMENTS AND CONTINGENCIES

    

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

     116,810        149,122   

EQUITY (DEFICIT):

    

Company stockholders’ equity (deficit):

    

Common stock ($.0001 par value; 140,000,000 shares authorized; 33,129,553 and 19,575,117 shares outstanding at September 30, 2010 and December 31, 2009, respectively)

     3        2   

Common stock - additional paid-in-capital

     87,375        15,676   

Warrants - additional paid-in-capital

     4,820        4,619   

Accumulated deficit

     (35,682     (60,905
                

Total stockholders’ equity (deficit)

     56,516        (40,608

Noncontrolling interests

     —          13,477   
                

Total equity (deficit)

     56,516        (27,131
                

TOTAL LIABILITIES AND EQUITY (DEFICIT)

   $ 357,664      $ 200,558   
                

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 NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009

(IN THOUSANDS)

 

     Three Months
Ended
September 30,
2010
    Three Months
Ended
September 30,
2009
    Nine Months
Ended
September 30,
2010
    Nine Months
Ended
September 30,
2009
 

REVENUES:

        

Biodiesel sales

   $ 62,285      $ 29,687      $ 139,170      $ 65,778   

Biodiesel sales - related parties

     680        6,245        2,939        10,032   

Biodiesel government incentives

     —          6,041        3,674        13,572   
                                
     62,965        41,973        145,783        89,382   

Services

     131        408        529        1,659   

Services - related parties

     26        308        636        744   
                                
     63,122        42,689        146,948        91,785   
                                

COSTS OF GOODS SOLD:

        

Biodiesel

     20,882        18,856        49,119        60,666   

Biodiesel - related parties

     35,687        21,640        83,399        31,048   

Services

     68        217        310        970   

Services - related parties

     —          —          291        —     
                                
     56,637        40,713        133,119        92,684   
                                

GROSS PROFIT (LOSS)

     6,485        1,976        13,829        (899

SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES

        

(includes related party amounts of $445 and $1,259 for the three and nine months ended September 30, 2010, respectively and $695 and $1,350 for the three and nine months ended September 30, 2009, respectively)

     5,782        7,643        16,599        19,916   

GAIN ON SALE OF ASSETS - related party

     —          (2,254     —          (2,254

IMPAIRMENT OF ASSETS

     7,336        —          7,477        —     
                                

INCOME (LOSS) FROM OPERATIONS

     (6,633     (3,413     (10,247     (18,561
                                

OTHER INCOME (EXPENSE), NET:

        

Change in fair value of preferred stock conversion feature embedded derivatives

     1,996        (2,548     6,997        (1,429

Change in fair value of interest rate swap

     103        (17     291        254   

Change in fair value of Seneca Holdco liability

     (1,773     —          (2,144     —     

Other income (includes related party amounts of $38 and $355 for the three and nine months ended September 30, 2009, respectively)

     340        120        429        2,132   

Interest expense (includes related party amounts of $73 and $277 for the three and nine months ended September 30, 2010, respectively, and $9 for the three and nine months ended September 30, 2009)

     (1,483     (545     (3,218     (1,830

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

     6        2        189        15   

Impairment of investments

     —          —          (400     —     
                                
     (811     (2,988     2,144        (858
                                

LOSS BEFORE INCOME TAXES AND

        

LOSS FROM EQUITY INVESTMENTS

     (7,444     (6,401     (8,103     (19,419

INCOME TAX BENEFIT

     —          1,637        3,728        4,875   

LOSS FROM EQUITY INVESTMENTS

     (173     (199     (554     (570
                                

NET LOSS

     (7,617     (4,963     (4,929     (15,114
                                

LESS - NET LOSS ATTRIBUTABLE TO NONCONTROLLING INTEREST

     —          1,448        —          6,350   
                                

NET LOSS ATTRIBUTABLE TO THE COMPANY

     (7,617     (3,515     (4,929     (8,764

EFFECTS OF RECAPITALIZATION

     —          —          8,521        —     

LESS - ACCRETION OF PREFERRED STOCK TO REDEMPTION VALUE

     (5,367     (11,560     (21,613     (31,337
                                

NET LOSS ATTRIBUTABLE TO THE COMPANY’S COMMON STOCKHOLDERS

   $ (12,984   $ (15,075   $ (18,021   $ (40,101
                                

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 NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009 (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        —          —          —          —          —          —          —     

Issuance of common stock

     —          —          270,000        —          1,368        —          —          —          1,368   

Stock compensation expense

     —          —          —          —          2,495        —          —          —          2,495   

Accretion of preferred stock to redemption value

     —          31,337        —          —          (31,337     —          —          —          (31,337

Net loss

     —          —          —          —          —          —          (8,764     (6,350     (15,114
                                                                        

BALANCE, September 30, 2009

     12,464,357      $ 136,278        19,575,117      $ 2      $ 29,686      $ 4,619      $ (8,764   $ 13,887      $ 39,430   
                                                                        

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, net of $862 for issue cost

     —          —          13,754,436        1        79,304        —          —          —          79,305   

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   

Conversion of warrants to restricted stock units

     —          —          —          —          1,068        (1,068     —          —          —     

Blackhawk Biofuels LLC deconsolidation and transition adjustment

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

Stock compensation expense

     —          —          —          —          835        —          —          —          835   

Accretion of preferred stock to redemption value

     —          21,613        —          —          (21,613     —          —          —          (21,613

Net loss

     —          —          —          —          —          —          (4,929     —          (4,929
                                                                        

BALANCE, September 30, 2010

     13,455,522      $ 116,810        33,129,553      $ 3      $ 87,375      $ 4,820      $ (35,682   $ —        $ 56,516   
                                                                        

See notes to condensed consolidated financial statements.

 

4


 

RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009

(IN THOUSANDS)

 

     Nine Months
Ended

September 30,
2010
    Nine Months
Ended

September 30,
2009
 

CASH FLOWS FROM OPERATING ACTIVITIES:

    

Net loss

   $ (4,929   $ (15,114

Adjustments to reconcile net loss to net cashflows from operating activities:

    

Depreciation expense

     3,673        3,284   

Amortization expense

     369        923   

Gain on sale of property, plant & equipment

     —          (2,254

Provision (benefit) for doubtful accounts

     64        (1,480

Stock compensation expense

     491        2,495   

Loss from equity method investees

     554        570   

Deferred tax benefit

     (3,728     (4,875

Impairment of intangible assets

     7,336        —     

Impairment of investments

     400        —     

Impairment of long lived assets

     141        —     

Change in fair value of preferred stock conversion feature embedded derivatives

     (6,997     1,429   

Change in fair value of Seneca Holdco liability

     2,044        —     

Distributions receved from equity method investees

     50        60   

Expense settled with stock issuance

     —          334   

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

    

Accounts receivable

     4,709        (721

Inventories

     (71     3,933   

Prepaid expenses and other assets

     666        3,787   

Accounts payable

     (5,913     243   

Accrued expenses and other liabilities

     143        (1,316

Deferred revenue

     (4,599     —     

Billings in excess of costs and estimated earnings on uncompleted contracts

     —          (111
                

Net cash flows from operating activities

     (5,597     (8,813
                

CASH FLOWS FROM INVESTING ACTIVITIES:

    

Cash paid for purchase of property, plant and equipment

     (3,929     (6,728

Proceeds from the sale of fixed assets

     320        3,032   

Change in restricted cash

     (525     4,687   

Deconsolidation of Blackhawk

     (206     —     

Cash provided through Blackhawk acquisition

     1        —     

Cash provided through Central Iowa Energy acquisition

     403        —     
                

Net cash flows from investing activities

     (3,936     991   
                

CASH FLOWS FROM FINANCING ACTIVITIES:

    

Borrowings on line of credit

     5,500        880   

Repayments on line of credit

     (160     (1,757

Cash paid on notes payable

     (1,205     (325

Cash proceeds from investment in Seneca Landlord

     4,000        —     

Cash received from issuance of common stock to ARES Corporation

     8,000        —     

Cash paid for issuance cost of common stock

     (280     —     

Cash paid for debt issuance costs

     (691     —     
                

Net cash flows from financing activities

     15,164        (1,202
                

NET CHANGE IN CASH AND CASH EQUIVALENTS

     5,631        (9,024

CASH AND CASH EQUIVALENTS, Beginning of period

     5,855        15,311   
                

CASH AND CASH EQUIVALENTS, End of period

   $ 11,486      $ 6,287   
                

(continued)

 

5


 

RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009

(IN THOUSANDS)

 

     Nine Months
Ended

September 30,
2010
    Nine Months
Ended

September 30,
2009
 

SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:

    

Cash paid for income taxes

   $ 579      $ 2,823   
                

Cash paid for interest

   $ 3,000      $ 1,621   
                

SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:

    

Effects of recapitalization

   $ 8,521     
          

Accretion of preferred stock to redemption value

   $ 21,613      $ 31,337   
                

Amounts included in period-end accounts payable for:

    

Purchases of property, plant and equipment

   $ 47      $ 49   
                

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

   $ 39,314     
          

Issuance of restricted stock units for equity issuance cost

   $ 582     
          

Assets (liabilities) acquired through the issuance of stock:

    

Cash

   $ 8,404      $ —     

Restricted cash

     2,302        —     

Other current assets

     1,342        —     

Property, plant, and equipment

     89,597        —     

Goodwill

     69,059        —     

Intangible assets

     5,895        —     

Other noncurrent assets

     231        1,359   

Line of credit

     (900     —     

Other current liabilities

     (5,548     —     

Debt

     (72,668     —     

Other noncurrent liabilities

     (11,729     —     

Fair value of contingent consideration

     (2,868     —     
                
   $ 83,117      $ 1,359   
                

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

(concluded)

 

6


 

RENEWABLE ENERGY GROUP, INC. AND SUBSIDIARIES

NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - Unaudited

For The Nine Months Ended September 30, 2010 and 2009

(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 a warrant for the purchase of shares of Common Stock, with the number of shares warrant exchange ratio and exercise price per share adjusted based on the 0.4479 common shares exchange ratio. The former members of Blackhawk received 132,680 shares of Series A Preferred Stock, 6,753,311 shares of Common Stock and 335,924 warrants.

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 and Equity Transactions” for a description of the acquisition and their accounting treatment.

On July 16, 2010, the Company acquired certain assets from Tellurian Biodiesel, Inc. (Tellurian) and American BDF, LLC (ABDF). ABDF was a joint venture owned by Golden State Service Industries, Restaurant Technologies, Inc. (RTI) and Tellurian Biodiesel. See “Note 6 – Acquisitions and Equity Transactions” for a description of the acquisition.

On September 21, 2010, the Company acquired substantially all of the assets of Clovis Biodiesel, LLC (Clovis), a wholly owned subsidiary of ARES Corporation, and received $8,000 cash in exchange for the Company’s Common Stock. See “Note 6 – Acquisitions and Equity Transactions” for a description of the acquisition.

Prior to February 26, 2010, the Company refers to the business, results of operations 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 operations 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 September 30, 2010, the Company owned biodiesel production facilities with a total of 182 million gallons per year (mmgy) of production capacity, which includes a 60 mmgy biodiesel facility in Seneca, Illinois leased by the Company from a consolidated variable interest entity (see Note 6 – Acquisitions and Equity Transactions).

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 the credit markets. 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. In September 2010, the Company purchased the assets of Clovis which includes a partially completed 15 mmgy biodiesel plant located in Clovis, New Mexico. The plant is approximately 70% complete. The Company continues to be in discussions with lenders in an effort to obtain financing for facilities under construction and capital improvement projects. 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


 

As of September 30, 2010, the Company managed one other biodiesel production facility owned primarily by an independent investment group with an aggregate of 30 mmgy capacity (hereafter referred to as Network Plant). For this facility, the Company has entered into an agreement to manage the facility while the investment group determines how to raise capital for production facility upgrades. In 2009, the Company provided notice to five networks facilities that it would be terminating services under the Management and Operational Services Agreement (MOSA) twelve months from the date notice was provided as permitted by the MOSAs. Of the five cancellation notices given in 2009, three facilities did not renew their MOSA, the Company is still in negotiations with one facility regarding continued services and another facility was purchased through an asset purchase agreement.

The biodiesel industry and the Company’s business have relied 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 $0 and $3,674 for the three and nine months ended September 30, 2010, respectively, and $6,041 and $13,572 for the three and nine months ended September 30, 2009, respectively. The Company does not expect to have 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 is the primary beneficiary of the economic benefits and 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.

 

8


 

Restricted Cash

Restricted cash consists of project funds and debt reserve funds related to various Company entities totaling $2,981 and $2,156 as of September 30, 2010 and December 31, 2009, respectively, which have been restricted in accordance with the terms of loan agreements. The Company classifies restricted cash between current and non-current assets based on the length of time the restricted cash will be utilized.

Accounts Receivable

Accounts receivable are carried on a gross basis, less allowance for doubtful accounts. Management estimates the allowance for doubtful accounts based on existing economic conditions, the financial conditions of 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 reasonable 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 September 30, 2010 and December 31, 2009 include adjustments to reduce inventory to the lower of cost or market in the amount of $47 and $194, 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 feedstock inventory and biodiesel finished goods 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 feedstock 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 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.

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.

 

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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 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:

 

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

Expected volatility

     40.00     40.00     50.00

Risk-free rate

     3.40     4.40     0.89

Valuation of Seneca Holdco Liability

Associated with the Company’s transaction with Nova Biosource Fuels, LLC (See Note 6 – Acquisitions and Equity Transactions), 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, 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:

 

     September 30,
2010
    April 9,
2010
 

Expected volatility

     40.00     50.00

Risk-free rate

     3.40     4.60

Probability of IPO

     70.00     60.00

 

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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 date 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 $5,367 and $21,613 for the three and nine months ended September 30, 2010, respectively, and $11,560 and $31,337 for the three and nine months ended September 30, 2009, 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 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:

 

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

Discount rate

     16.00     15.00     13.00

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 for impairment by reporting unit annually on July 31 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.

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 - September 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 - September 30, 2010

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

Impairment of assets

During the three months ended September 2010, a raw material supply agreement with the New Orleans and Emporia facilities was cancelled by the counter-party. The original agreement was recorded as an intangible asset in the amount of $7,025 and as a result was charged off during the three months ended September 30, 2010. The Company also impaired deferred financing cost related to the New Orleans project GoZone bonds. The Company determined that it was not probable that the GoZone bond allocation would be extended past the December 14, 2010 deadline or that the bonds would be issued prior to the deadline. The amount of the impairment for the three months ended September 30, 2010 was $311.

 

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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).

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 and restricted stock units 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.

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. As of September 30, 2010, the Company had net deferred income tax assets of $42,250 with an offsetting valuation allowance of $40,750, which results in a net deferred tax asset of $1,500. The net amount is offset by an accrued liability for uncertain tax benefits in the amount of $1,500.

In evaluating the available evidence, the Company 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, the Company considers the nature, frequency and severity of losses in light of the conditions giving rise to those losses. As of December 31, 2009, the Company 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, the Company concluded as of December 31, 2009, a valuation allowance was required for the entire amount of the 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 nine months ended September 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 nine months ended September 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.

 

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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.

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.

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 and Equity Transactions” 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.

On July 16, 2010, the Company issued 598,295 shares of Common Stock in connection with the purchase of substantially all Tellurian LLC and ABDF company assets.

On September 21, the Company issued 2,150,000 shares of Common Stock to ARES Corporation in connection with the purchase of substantially all the assets held by Clovis Biodiesel, LLC and cash.

 

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Common Stock Warrants

Under the Company’s outstanding warrants, the holder may purchase the number of shares of Common Stock underlying each warrant held for a purchase price ranging from $2.23 to $11.00 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 and Equity Transactions” 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 $7,034 of the Series A Preferred Stock dividends in arrears as of September 30, 2010 and $33,388 of Biofuels preferred stock dividends in arrears as of December 31, 2009.

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.

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 Public 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.

 

15


 

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.

 

16


 

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 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).

 

17


 

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

NOTE 6 — ACQUISITIONS AND EQUITY TRANSACTIONS

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, an asset purchase of Tellurian and ABDF on July 16, 2010 and an asset purchase of Clovis Biodiesel on September 21, 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 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.

 

18


 

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

 

     Allocation at
February 26, 2010
 

Assets (liabilities) acquired:

  

Cash

   $ 1   

Restricted cash

     2,002   

Other current assets

     859   

Property, plant and equipment

     55,253   

Goodwill

     43,896   

Other noncurrent assets

     231   

Line of credit

     (350

Other current liabilities

     (3,621

Notes payable

     (48,743

Other noncurrent liabilities

     (6,507
        

Fair value of common and preferred stock issued

   $ 43,021   
        

The acquisition price is summarized as follows:

 

     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 September 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 nine months ended September 30, 2010 included in the condensed consolidated statement of operations was $2,615 and $6,652, 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.

 

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:

 

     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   
        

The acquisition price is 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 March 8, 2010 through September 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 nine months ended September 30, 2010 included in the condensed consolidated statement of operations was $833 and $2,151, 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, 2010 and January 1, 2009, respectively:

 

     Three Months
Ended
September 30, 2010
    Three Months
Ended
September 30, 2009
    Nine Months
Ended
September 30, 2010
    Nine Months
Ended
September 30, 2009
 

Revenues

   $ 63,122      $ 42,877      $ 147,102      $ 94,872   

Net loss

   $ (7,617   $ (6,836   $ (7,974   $ (20,144

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.

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.

Tellurian Biodiesel, Inc. and American BDF, LLC

On July 16, 2010, the Company issued 598,295 shares and up to an additional 731,250 shares of Common Stock for certain assets of Tellurian and ABDF. Tellurian was a California-based biodiesel company and marketer. ABDF was a joint venture owned by Golden State Service Industries, RTI and Tellurian and previously focused on building a national array of small biodiesel plants that would convert used cooking oil into high quality, sustainable biodiesel. The purchase connects RTI’s national used cooking oil collection system, with more than 16,000 installations, with the Company’s national network of biodiesel manufacturing facilities.

As of the date the financial statements were issued for the three months ended September 30, 2010, the Company was still in the process of allocating the fair value of the Common Stock issued to the assets obtained from Tellurian and ABDF. The actual allocation to be recorded will be based on the final estimation of the fair value of the assets received.

The following table summarizes the preliminary allocation of the fair value of the Common Stock issued to the fair values of the assets acquired:

 

     Preliminary
Allocation  at
July 16, 2010
 

Assets acquired:

  

Intangible asset

   $ 5,895   

Fair value of earnout liability

     (2,868
        

Fair value of common stock issued

   $ 3,027   
        

The fair value of the Common Stock issued is summarized as follows:

 

     Value at July 16, 2010  
     Fair Value      Fair Value per
Share
 

Fair value of stock issued:

     

Common Stock

   $ 3,027       $ 5.06   

Clovis Biodiesel, LLC

On September 21, 2010, REG Clovis, LLC, a wholly owned subsidiary of the Company, acquired substantially all assets of Clovis Biodiesel, LLC, a wholly owned subsidiary of the ARES Corporation. At closing, the Company delivered to ARES Corporation 2,150,000 shares of Common Stock in exchange for the assets of Clovis and $8,000 cash.

The Company determined that the Clovis assets do not constitute a business as defined under ASC Topic 805 on the basis that the Clovis 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 Clovis 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.

As of the date the financial statements were issued for the three months ended September 30, 2010, the allocation of the recorded amounts of Clovis consideration transferred and the recognized amounts of the assets acquired were determined based on the fair value of Common Stock exchanged.

 

21


 

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
September 21, 2010
 

Assets acquired:

  

Cash

   $ 8,000   

Property, plant and equipment

     2,191   
        

Fair value of common stock issued

   $ 10,191   
        

The final acquisition price is summarized as follows:

 

     Final Value at September 21, 2010  
     Fair Value      Fair Value per
Share
 

Fair value of stock issued:

     

Common Stock

   $ 10,191       $ 4.74   

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.

 

22


 

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. Those companies are SoyMor Biodiesel, LLC (SoyMor), Western Iowa Energy, LLC (WIE), Western Dubuque Biodiesel, LLC (WDB) and East Fork Biodiesel, LLC (EFB). See “Note 9 – Investments” for the investment amounts and the related condensed financial information 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.

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.

 

23


 

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

 

Investment:

   Investments      Maximum
Exposure
 

SoyMor

   $ 1,170       $ 1,198   

WIE

     576         641   

WDB

     2,009         2,015   

416 S Bell

     603         3,012   
                 
   $ 4,358       $ 6,866   
                 

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 and Equity Transactions” 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 for the three months ended September 30, 2010, the Company was still in the process of determining the fair value of the assets acquired and liabilities assumed. The actual valuation of the net assets acquired will be based on the final fair value valuation. The following table summarizes the preliminary allocation of the purchase price to the fair values of the assets and liabilities recorded by the Company as a result of the transaction and subsequent consolidation of Landlord:

 

     Preliminary
Allocation  at
April 8, 2010
 

Assets (liabilities) acquired:

  

Restricted cash

   $ 4,000   

Property, plant and equipment

     39,314   

Current liabilities

     (400

Seneca Holdco liability

     (6,664

Notes payable

     (36,250
        

Fair value of consideration

   $ —     
        

 

24


 

NOTE 8 — INVENTORIES

Inventories consist of the following:

 

     September 30,
2010
     December 31,
2009
 

Raw materials

   $ 3,303       $ 743   

Work in process

     170         22   

Finished goods

     9,646         12,075   
                 

Total

   $ 13,119       $ 12,840   
                 

NOTE 9 — INVESTMENTS

Investments consist of the following:

 

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

Investment and accumulated earnings in:

         

SoyMor

     9   $ 1,170         9   $ 1,354   

WIE (a)

     2     576         2     602   

WDB (b)

     8     2,009         8     2,195   

416 S Bell

     50     603         50     598   

CIE (c)

          4     1,000   

EFB (d)

     4     —           4     400   
                     

Total (e)

     $ 4,358         $ 6,149   
                     

 

(a) 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.
(b) As of August 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 WDB.
(c) During the first quarter of 2010, the Company purchased Central Iowa Energy LLC (See Note 6 – Acquisitions and Equity Transactions). Through the purchase price allocation, the Company eliminated its investment in Central Iowa Energy.
(d) As of June 2010, the Company impaired the remaining investment amount of $400.
(e) The investments include deferred tax assets of $677, fully offset by a valuation allowance.

 

25


 

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

 

                September 30,
2010
    December 31,
2009
 

CONDENSED BALANCE SHEET:

       

Total current assets

      $ 884      $ 15,530   
                   

Total noncurrent assets

      $ 23,957      $ 90,846   
                   

Total current liabilities

      $ 579      $ 31,260   
                   

Total noncurrent liabilities

      $ 5,626      $ 9,303   
                   

CONDENSED STATEMENT OF OPERATIONS:

       
    Three Months
Ended
September 30,
2010
    Three Months
Ended
September 30,
2009
    Nine Months
Ended
September 30,
2010
    Nine Months
Ended
September 30,
2009
 

Sales

  $ 229      $ 22,231      $ 6,607      $ 41,309   

Costs of goods sold

    (142     (21,274     (5,343     (40,299

Operating and other expenses

    (765     (1,708     (6,039     (4,873
                               

Net loss

  $ (678   $ (751   $ (4,775   $ (3,863
                               

NOTE 10 — ACCRUED EXPENSES AND OTHER LIABILITIES

Accrued expenses and other liabilities consist of the following:

 

     September 30,
2010
     December 31,
2009
 

Accrued property taxes

   $ 834       $ 792   

Accrued employee compensation

     1,236         858   

Accrued interest

     272         193   

Unfavorable lease obligation, current portion

     1,129         1,829   

Other

     321         525   
                 

Total

   $ 3,792       $ 4,197   
                 

Other noncurrent liabilities consist of the following:

 

     September 30,
2010
     December 31,
2009
 

Fair value of interest rate swap

   $ 790       $ 1,031   

Liability for unrecognized tax benefits

     1,500         1,500   

Deferred grant revenue

     745         —     

Straight-line lease liability

     1,576         —     

Earnout liability

     2,868         —     

Deferred credit related to investment in Blackhawk

     —           7,484   
                 

Total

   $ 7,479       $ 10,015   
                 

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.

 

26


 

The unfavorable lease obligation consists of the following:

 

     September 30,
2010
    December 31,
2009
 

Unfavorable lease obligation

   $ 13,612      $ 13,612   

Accumulated amortization

     (907     —     
                

Total unfavorable lease obligation

     12,705        13,612   

Current portion

     (1,129     (1,829
                
   $ 11,576      $ 11,783   
                

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 $282 and $907 for the three and nine months ended September 30, 2010, respectively, and $(257) and $(571) for the three and nine months ended September 30, 2009, respectively, for noncurrent liabilities is included in the cost of biodiesel sales.

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

 

2010

   $ 284   

2011

     1,129   

2012

     1,129   

2013

     1,129   

2014

     1,129   

Thereafter

     7,905   
        
   $ 12,705   
        

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

On February 26, 2010, in connection with the Blackhawk Merger, one of the Company’s subsidiaries, REG Danville, assumed a $24,600 term loan. The term loan matures November 2011. The Illinois Finance Authority guarantees 61% of the term loan and the remaining amount is secured by the Danville facility. The term loan bears interest at a fluctuating rate per annum equal to the LIBOR rate plus the applicable margin of 400 basis points through September 30, 2010 and December 31, 2009 (effective rate at September 30, 2010 and December 31, 2009 was 4.26% and 4.23%, respectively). Amounts outstanding on the term loan were $24,039 and $24,445 as of September 30, 2010 and December 31, 2009, respectively. 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 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 $2,500 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.

REG Danville also has a revolving line-of-credit with a current borrowing capacity of $190 which expires on November 30, 2010. 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 $190 and $350 as of September 30, 2010 and December 31, 2009, respectively. On September 30, 2010, REG Danville amended the term loan and revolving line-of-credit to reduce the line-of-credit to $190, provide for repayment terms on the revolving credit line and extend the due date. REG Danville is required to make $20 payments on a weekly basis until the balance is paid in full.

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 September 30, 2010 of 5.00%). Borrowings outstanding under the line-of-credit were $550 as of September 30, 2010.

 

27


 

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 September 30, 2010 of $23,611 require interest to be accrued based on 30 day LIBOR or 2.00%, whichever is higher, plus 300 basis points (effective rate at September 30, 2010 of 5.00%). The debt is secured by all plant assets owned by REG Newton. The Company has guaranteed the 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 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. See “Note 18 – Subsequent Events” for a description of amendment entered into by REG Newton for the AgStar Loan.

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 (effective rate at September 30, 2010 of 3.26%). The WestLB Revolver is secured by assets and ownership interests of REG Marketing & Logistics Group, LLC and REG Services. Borrowings outstanding under the line-of-credit were $5,500 as of September 30, 2010.

On April 9, 2010, Landlord entered into a note payable agreement with West LB. The balance of the note as of September 30, 2010 is $36,250. 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 September 30, 2010 (effective rate at September 30, 2010 of 3.26%). Interest is paid monthly. Principal payments have been deferred until February 2012. At that time, Landlord will be required to make estimated monthly principal payments of $201 with remaining unpaid principal due at maturity on April 8, 2017. The note payable is secured by the property located at the Seneca location.

The Company was in compliance with all restrictive financial covenants associated with its borrowings as of September 30, 2010 with exception to the REG Newton AgStar Loan. REG Newton received an amendment from the bank that cured the financial covenants on the AgStar Loan.

 

28


 

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

 

2011

   $ 2,904   

2012

     25,296   

2013

     25,079   

2014

     2,767   

2015

     2,759   

Thereafter

     28,673   
        

Total

     87,478   

Less: current portion

     (2,904
        
   $ 84,574   
        

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.

On May 6, 2009, the Company’s 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 may be awarded under the plan 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. The restrictions will lapse with respect to the restricted stock units upon vesting, at which point each restricted stock unit (RSU) will be immediately converted into one share of common stock. The restricted stock units have no conversion price.

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. On August 18, 2010, the Biofuels Board cancelled the stock options held by company employees. This cancellation was concurrent with the issuance of the restricted stock units under the 2009 Plan. The remaining options held by non-employees were assumed by the Company and will remain outstanding under the 2009 Plan with the same conditions as under the 2006 Plan.

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

     (20,500     

Cancelled

     (1,959,236     
             

Options outstanding - September 30, 2010

     228,816      $ 9.50         6.1 years   
             

Options exercisable - September 30, 2010

     228,816      $ 9.50         6.1 years   
             

All stock options that remain outstanding are fully vested and exercisable.

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

On August 18, 2010, the Company Board approved the distribution of restricted stock units to employees of the Company. The cancellation of the 2006 Plan stock options and issuance of the restricted stock units was accounted for in accordance with ASC Topic 718. We followed modification accounting which requires the Company to recognize expense based upon the excess fair value of the new awards over the original awards as determined on the modification date. The excess fair value was calculated based upon the difference between the fair value of the restricted stock unit price at issuance and the fair value of the stock options cancelled utilizing the Black-Scholes options pricing model as of the same date.

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

 

29


 

The following table summarizes information about the Company’s Common Stock restricted stock units granted, exercised, forfeited, vested and exercisable:

 

     Amount of
Awards
     Weighted
Average Issue
Price
 

Awards outstanding - December 31, 2009

     —        

Issued

     2,621,723       $ 4.74   
           

Awards outstanding -September 30, 2010

     2,621,723       $ 4.74   
           

The restricted stock units issued will cliff vest at the earlier of expressly provided service or performance conditions. The service period for these RSU awards is a three year period from the grant date. The performance conditions provide for immediate vesting upon various conditions including a change in control or other common stock liquidity events. The Company is recording the stock compensation expense over the three year service period.

Stock-based compensation cost relating to the stock options and restricted stock units were $423 and $491 for the three and nine months ended September 30, 2010, respectively and $715 and $2,495 for the three and nine months ended September 30, 2009, respectively. The stock-based compensation costs were included as a component of selling, general and administrative expenses. The remaining expense yet to be recorded for the restricted stock unit awards is $9,554 over a period of 2.9 years.

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.

 

30


 

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
September 30,
2010
          Three Months
Ended
September 30,
2009
          Nine Months
Ended
September 30,
2010
          Nine Months
Ended
September 30,
2009
        
  

Revenues - Biodiesel sales

   $ 680       (a)    $ 6,245       (a)    $ 2,939       (a)    $ 10,032         (a
  

Revenues - Services

   $ 26       (b)    $ 308       (b)    $ 636       (b)    $ 744         (b
  

Cost of goods sold - Biodiesel

   $ 35,687       (c)    $ 21,640       (c)    $ 83,399       (c)    $ 31,048         (c
  

Cost of goods sold - Services

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

Selling, general, and administrative expenses

   $ 445       (e)    $ 695       (e)    $ 1,259       (e)    $ 1,350         (e
  

Other income

   $ —         (f)    $ 38       (f)    $ —         (f)    $ 355         (f
  

Interest expense

   $ 73       (g)    $ 9       (g)    $ 277       (g)    $ 9         (g
  

Interest income

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

Proceeds from the sale of long lived assets

   $ —         (i)    $ —         (i)    $ —         (i)    $ 3,032         (i

(a)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 7          $ 5          $ 12          $ 8      
  

E D & F Man

     673            6,240            2,927            9,984      
  

Network Plants

     —              —              —              40      
                                                  
      $ 680          $ 6,245          $ 2,939          $ 10,032      
                                                  

(b)

  

Represents transactions with Network Plants

                       

(c)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 4,779          $ 5,799          $ 11,225          $ 14,908      
  

Network plants

     —              —              1,493            —        
  

Bunge

     30,908            15,837            70,681            15,837      
  

E D & F Man

     —              4            —              303      
                                                  
      $ 35,687          $ 21,640          $ 83,399          $ 31,048      
                                                  

(d)

  

Represents transactions with Network Plants

                       

(e)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 42          $ 45          $ 135          $ 284      
  

416 S. Bell, LLC

     86            172            258            517      
  

Bunge

     304            411            776            411      
  

E D & F Man

     13            67            90            138      
                                                  
      $ 445          $ 695          $ 1,259          $ 1,350      
                                                  

(f)

  

Represents transactions with ED&F Man

                       

(g)

  

Represents transactions with related parties as follows:

                       
  

West Central

   $ 14          $ —            $ 91          $ —        
  

Bunge

     59            9            186            9      
                                                  
      $ 73          $ 9          $ 277          $ 9      
                                                  

(h)

  

Represents transactions with Blackhawk Biofuels

                       

(i)

  

Represents transactions with ED&F Man

                       

 

31


Summary of Related Party Balances

 

          As of
September 30,
2010
          As of
December 31,
2009
       
   Accounts receivable    $ 486        (a   $ 2,328        (a
   Prepaid inventory    $ —          (b   $ 269        (b
   Accounts payable    $ 5,122        (c   $ 5,415        (c

(a)

   Represents balances with related parties as follows:         
   West Central    $ 132        $ 123     
   Network Plants      101          1,065     
   Bunge      —            24     
   E D & F Man      253          1,116     
                       
      $ 486        $ 2,328     
                       

(b)

   Represents balances with Bunge         

(c)

   Represents balances with related parties as follows:         
   West Central    $ 2,740        $ 2,951     
   Network Plants      44          2,293     
   Bunge      2,273          127     
   E D & F Man      65          44     
                       
      $ 5,122        $ 5,415     
                       

West Central Cooperative

The Company purchases once-refined soy oil from West Central. Purchases from West Central were $4,779 and $11,225 for the three and nine months ended September 30, 2010, respectively. The Company’s purchases were $5,799 and $14,908 for the three and nine months ended September 30, 2009, respectively. The Company also had co-product sales which totaled $7 and $12 for the three and nine months ended September 30, 2010, respectively, and $5 and $8 for the three and nine months ended September 30, 2009, 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 $30 for the three and nine months ended September 30, 2010, respectively, and $10 and $30 for the three and nine months ended September 30, 2009, 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 $32 and $105 for the three and nine months ended September 30, 2010, respectively, and $35 and $254 for the three and nine months ended September 30, 2009, respectively.

In addition to the amounts above, the Company recorded interest expense of and $14 and $91 for the three and nine months ended September 30, 2010, respectively.

Accounts receivable includes net balances due from West Central of $132 and $123 at September 30, 2010 and December 31, 2009, respectively. Accounts payable includes net balances due to West Central of $2,740 and $2,951 at September 30, 2010 and December 31, 2009, respectively.

Bunge North America

The Company purchases feedstocks for the production of biodiesel. Purchases from Bunge were $30,908 and $70,681 for the three and nine months ended September 30, 2010, respectively, and $15,837 for the three and nine months ended September 30, 2009, respectively.

 

32


 

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 $360 for the three and nine months ended September 30, 2010, respectively, and $341 for the three and nine months ended September 30, 2009. The Company incurred $59 and $186 in interest expense for the three and nine months end September 30, 2010, respectively, and $9 for the three and nine months ended September 30, 2009, respectively, 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 $184 and $416 in incentive fees for the three and nine months ended September 30, 2010, respectively, and $70 for the three and nine months ended September 30, 2009, respectively.

The Company has accounts receivable due from Bunge of $0 and $24 as of September 30, 2010 and December 31, 2009, respectively. The Company has prepaid inventory balance of $0 and $269 as of September 30, 2010 and December 31, 2009, respectively. The Company has accounts payable due to Bunge of $2,273 and $127 as of September 30, 2010 and December 31, 2009, respectively.

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 nine months ended September 30, 2010, fees of $13 and $90, respectively, were paid according to the agreement. For the three and nine months ended September 30, 2009, fees of $67 and $138, 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 $0 during the three and nine months ended September 30, 2010, respectively, and $4 and $303 during the three and nine months ended September 30, 2009, respectively. Additionally, the Company received $0 in terminal lease revenue from Westway during the three and nine months ended September 30, 2010, respectively, and $38 and $355 during the three and nine months ended September 30, 2009, 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 $673 and $2,927 for the three and nine months ended September 30, 2010, respectively, and $6,240 and $8,344 for the three and nine months ended September 30, 2009, respectively. Additionally, revenues from raw material sales totaled $0 for the three and nine months ended September 30, 2010, respectively, and $0 and $1,640 for the three and nine months ended September 30, 2009, respectively.

The Company had accounts receivable due from E D & F Man of $253 and $1,116 as of September 30, 2010 and December 31, 2009, respectively. The Company had accounts payable due to E D & F Man of $65 and $44 as of September 30, 2010 and December 31, 2009, 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 $26 and $636 for the three and nine months ended September 30, 2010, respectively, and $308 and $744 for the three and nine months ended September 30, 2009, respectively. Additionally, revenues from biodiesel sales totaled $0 for the three and nine months ended September 30, 2010, respectively, and $0 and $40 for the three and nine months ended September 30, 2009, respectively. The Company also incurred fees related to the production of biodiesel in the amount of $0 and $1,493 for the three and nine months ended September 30, 2010, respectively.

The Company had accounts receivable due from the Network Plants of $101 and $1,065 at September 30, 2010 and December 31, 2009, respectively. The Company had accounts payable due to the Network Plants of $44 and $2,293 at September 30, 2010 and December 31, 2009, respectively.

416 S. Bell, LLC

The Company rents a building for administrative uses under an operating lease from 416 S. Bell, LLC. Rent payments made under this lease totaled $86 and $258 for the three and nine months ended September 30, 2010, respectively, and $172 and $517 for the three and nine months ended September 30, 2009, respectively.

 

33


 

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 September 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 September 30, 2010, the Company had 429 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 $21,363 as of September 30, 2010. The agreement 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 $790 and $1,031 at September 30, 2010 and December 31, 2009, respectively, and is recorded in the 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.

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 September 30, 2010, the Company posted $3,105 of collateral associated with its commodity-based derivatives with a net liability position of $595.

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

 

34


 

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 September 30, 2010

 
    

Asset Derivatives

    

Liability Derivatives

 
    

Balance Sheet

Location

   Fair
Value
    

Balance Sheet

Location

   Fair
Value
 
Embedded derivative          Preferred stock embedded conversion feature derivatives    $ 46,556   
Interest rate swap          Other liabilities      790   
Commodity derivatives    Prepaid expenses and other assets    $ 409       Prepaid expenses and other assets      1,004   
                       
Total derivatives       $ 409          $ 48,350   
                       

 

          Three Months
Ended
September 30,
2010
     Three Months
Ended
September 30,
2009
    Nine Months
Ended
September 30,
2010
     Nine Months
Ended
September 30,
2009
 
    

Location of Gain (Loss)

Recognized in Income

   Amount of
Gain
Recognized

in Income on
Derivatives
     Amount of
Gain (Loss)
Recognized

in Income on
Derivatives
    Amount of
Gain
Recognized

in Income on
Derivatives
     Amount of
Gain (Loss)
Recognized

in Income on
Derivatives
 

Embedded derivative

   Change in fair value of preferred stock conversion feature embedded derivatives    $ 1,996       $ (2,548   $ 6,997       $ (1,429

Interest rate swap

   Change in fair value of interest rate swap      103         (17     291         254   

Commodity derivatives

   Cost of goods sold - Biodiesel      435         447        933         (475
                                     

Total

      $ 2,534       $ (2,118   $ 8,221       $ (1,650
                                     

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.

 

35


 

   

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 September 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 September 30, 2010  
     Total     Level 1      Level 2     Level 3  

Preferred stock embedded derivatives

   $ (46,556   $ —         $ —        $ (46,556

Interest rate swap

   $ (790     —           (790     —     

Seneca Holdco liability

   $ (8,708     —           —          (8,708

Earnout liability

   $ (2,868     —           —          (2,868

Commodity derivatives

   $ (595     —           (595     —     
                                 
   $ (59,517   $ —         $ (1,385   $ (58,132
                                 

 

36


 

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 nine months ended September 30, 2010:

 

     Preferred
Stock
Embedded
Derivatives
    Seneca
Holdco
Liability
    Earnout
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     —          —          —          —     

Total unrealized gains (losses)

     —          —          —          —          —     

Purchases, issuance, and settlements, net

     —          —          —          —          —     
                                        

Ending balance - September 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 consolidation

     —          —          —          (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     —          —          —     

Total unrealized gains (losses)

     1,996        (1,673     —          —          —     

Purchases, issuance, and settlements, net

     —          432        (2,868     —          —     
                                        

Ending balance - September 30, 2010

   $ (46,556   $ (8,708   $ (2,868   $ —        $ —     
                                        

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.

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 combination of the Call Option and the 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.

 

37


 

The estimated fair values of the Company’s financial instruments, which are not recorded at fair value on a recurring basis, are as follows as of September 30, 2010 and December 31, 2009:

 

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

Financial Assets:

        

Restricted cash

   $ 2,981      $ 2,981      $ 2,156      $ 2,156   

Financial Liabilities:

        

Notes payable and lines of credit

     (93,718     (93,865     (28,855     (29,124

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 oils and other feedstocks and methanol into biodiesel. The Biodiesel segment also includes the Company’s purchases and resale 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 and operations 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 nine months ended September 30, 2010 and September 30, 2009 and as of September 30, 2010 and December 31, 2009:

 

     Three Months
Ended
September 30,
2010
    Three Months
Ended
September 30,
2009
    Nine Months
Ended
September 30,
2010
    Nine Months
Ended
September 30,
2009
 

Net sales:

        

Biodiesel

   $ 62,965      $ 41,973      $ 145,783      $ 89,382   

Services

     2,725        769        6,941        4,784   

Intersegment revenues

     (2,568     (53     (5,776     (2,381
                                
   $ 63,122      $ 42,689      $ 146,948      $ 91,785   
                                

Loss before income taxes and loss from equity investments:

        

Biodiesel

   $ 6,396      $ 1,477      $ 13,265      $ (2,332

Services

     89        499        564        1,433   

Corporate and other (a)

     (13,929     (8,377     (21,932     (18,520
                                
   $ (7,444   $ (6,401   $ (8,103   $ (19,419
                                

Depreciation and amortization expense, net:

        

Biodiesel

   $ 1,744      $ 1,499      $ 4,042      $ 4,207   
                                

Purchases of property, plant, and equipment:

        

Biodiesel

   $ 1,865      $ 1,068      $ 3,929      $ 6,728   
                                
                 September 30,
2010
    December 31,
2009
 

Goodwill:

        

Biodiesel

       $ 69,059      $ —     

Services

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

Assets:

        

Biodiesel

       $ 293,464      $ 147,807   

Services

         20,799        17,829   

Corporate and other (b)

         43,401        34,922   
                    
       $ 357,664      $ 200,558   
                    

 

(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 September 30, 2010 and December 31, 2009, there was $184 and $86, 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.

On November 15, 2010, REG Newton amended the loan agreement to revise certain financial covenants. In exchange for these revisions, REG Newton agreed to begin reduced principal payments early within two months after the enactment of the reinstated tax credit. The amount of the reduced principal payments would be $82.

* * * * * *

 

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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, Blackhawk Biofuels, LLC, or Blackhawk, Tellurian Biodiesel, Inc., or Tellurian, American BDF, LLC, or ABDF, or Clovis Biodiesel, LLC, or Clovis; 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 September 30, 2010, we owned four completed biodiesel production facilities: a 12 million gallon per year, or mmgy, facility in Ralston, Iowa, a 35 mmgy facility near Houston, Texas, or the Houston Facility, a 45 mmgy facility in Danville, Illinois and a 30 mmgy facility in Newton, Iowa. In April 2010, 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. In February 2008, 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, during third quarter 2010, we acquired a 15 mmgy biodiesel production facility in Clovis, New Mexico which is approximately 70% complete. We plan to complete this facility once we obtain project financing.

As of September 30, 2010, we provide limited operational services to one biodiesel production facility owned by a third party group of investors, for which we had previously provided more extensive operational services. . As of September 30, 2010, this facility was not operating. We continue to be in discussions with the facility owners with regards to future services. We also provide biodiesel facility construction management services to third parties. We are currently providing these services internally 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 operations 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 operations 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 and Equity Transactions” to our consolidated financial statements.

 

40


 

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 Equity Transactions” and “Note 7 – Variable Interest Entities” to our consolidated financial statements.

On July 16, 2010, the Company issued 598,295 shares and up to an additional 731,250 shares of Common Stock for certain assets of Tellurian and ABDF. Tellurian was a California-based biodiesel company and marketer. ABDF was a joint venture owned by Golden State Service Industries, Restaurant Technologies, Inc., or RTI, and Tellurian and previously focused on building a national array of small biodiesel plants that would convert used cooking oil into high quality, sustainable biodiesel. The purchase connects RTI’s national used cooking oil collection system, with more than 16,000 installations, with the Company’s national network of biodiesel manufacturing facilities. For additional information regarding this transaction, see “Note 6 – Acquisitions and Equity Transactions” to our consolidated financial statements.

On September 21, 2010, we acquired a 15 mmgy biodiesel production facility in Clovis, New Mexico, or the Clovis Facility, from ARES Corporation who also invested an additional $8 million in cash in exchange for Common Stock. In exchange for the Clovis Facility and $8 million in cash, we issued 2,150,000 shares of common stock. The Clovis Facility is 70% complete. For additional information regarding this transaction, see “Note 6 – Acquisitions and Equity Transactions” to our consolidated financial statements.

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 again. During May, our Ralston facility began producing at a reduced production level. During June, we stopped producing biodiesel at our Houston Facility, which remains idle.

The Energy Independence and Security Act of 2007 created the Renewable Fuels Standard. On July 1, 2010, an updated Renewable Fuels Standard program, or RFS2, was implemented. RFS2 mandates volume requirements for the amount of biomass-based diesel that must be utilized each year. Under the program, obligated parties—including petroleum refiners and fuel importers—must show compliance with these standards. Currently, biodiesel meets two categories of an obligated party’s required volume obligation—biomass-based diesel and advanced biofuel. Today, biodiesel is the only commercially-available advanced biofuel that meets the RFS2 standard based on its greenhouse gas emissions reductions score. Consistent with the RFS2 program, the Environmental Protection Agency, or EPA, announced it would require the domestic use of 800 million gallons of biodiesel in 2011 and one billion by 2012. Currently the American Petroleum Institute, or API, has filed a lawsuit against the EPA relating to timing of enforcement of RFS2. If API prevails in the lawsuit, the obligation for 2011 could be substantially reduced from the current requirement.

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, which began production in August 2010;

 

   

purchases and resale of biodiesel produced by third parties; and

 

   

toll manufacturing activities we service for third parties.

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 and from the sale of Renewable Identification Numbers, or RINS. In 2009 and through September 30, 2010, our revenues from the sale of co-products and RINS were less than five percent of the 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.

 

41


 

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 September 30, 2010, we acquired the assets of CIE, we had ceased providing services to three of these facilities and remain in discussions and provide limited services to the other facility. 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 construction activity and supply 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 nine months of 2010. During 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, other co-products of the biodiesel production process and RINS; 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

 

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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, the impairment of investments we made in biodiesel plants owned by third parties and the changes in valuation of Seneca Holdco liability.

Accounting for Investments

We use the equity method of accounting to account for the operating results of entities over which we have significant influence. We consider significant influence to include our previous significant operational influence due to our management of biodiesel operations at a member-owned facility and participation by one of our employees on the member-owned facility’s board of directors. This currently includes SoyMor Biodiesel, LLC. We expect to use the equity method to account for our equity interests in all entities with which we execute a MOSA and have board participation. Additionally, we use the equity method of accounting to account for the operating results of 416 S Bell, LLC. Under the equity method, we recognize our proportionate share of the net income (loss) of each entity in the line item “Loss from equity method investees.”

We use the cost method of accounting to account for our investment in three previous member plants, East Fork Biodiesel, LLC, or EFB, after May, 2010, Western Iowa Energy, LLC, or WIE and after August 2010, Western Dubuque Biodiesel, LLC, or WDB. Because we do not have the ability to influence the operating and financial decisions of EFB, WIE, or WDB and do 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 $0.4 million impairment recorded during the nine month periods ended September 30, 2010, relating to EFB, which fully impaired the remaining investment. There has been no impairment of the WIE or WDB investments.

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 Equity Transactions” 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. Most 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 are currently purchasing under and expect to renegotiate terms similar to the expired agreement with West Central. The purchase price for soybean oil under this agreement will be 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. We also arranged 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.

 

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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 or loss.

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

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, equities, 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 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 including RINS – both purchased and produced by us at owned manufacturing facilities, and leased manufacturing facilities;

 

   

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.

Biodiesel sales revenues are recognized when 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 reflect 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”.

 

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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 $7.4 million impairment recorded during the nine month periods ended September 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 on July 31 or when we believe impairment indicators 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 September 30, 2010, we had net deferred income tax assets of approximately $42.3 million with a valuation allowance of $40.8 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 September 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 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 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 was $43.9 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, “Consolidations”). 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, “Financial Instruments” 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 have consolidated as the primary beneficiary.

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

 

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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, we are required to bifurcate and account for as a separate liability certain derivatives embedded in our 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, 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.

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:

 

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

Expected volatility

     40.00     40.00     50.00

Risk-free rate

     3.40     4.40     0.89

The estimated fair values of the conversion feature embedded in the Series A Preferred Stock is recorded as a derivative liability. The derivative liability is 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 Biosource Fuels, LLC (See “Note 6 – Acquisitions and Equity Transactions” 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.

 

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

 

     September 30,
2010
    April 9,
2010
 

Expected volatility

     40.00     50.00

Risk-free rate

     3.40     4.60

Probability of IPO

     70.00     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, after issuance of the Series A Preferred Stock, 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 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 $5.4 million and $21.6 million for the three and nine months ended September 30, 2010, respectively, and $11.6 million and $31.3 million for the three and nine months ended September 30, 2009, 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. 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 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:

 

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

Discount rate

     16.00     15.00     13.00

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. We have two stock incentive plans. 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. Eligible award recipients are employees, non-employee directors and advisors. We account for stock-based compensation in accordance with ASC Topic 718, “Stock Compensation”. On August 18, 2010, the Biofuels Board cancelled the stock options held by employees. This cancellation was concurrent with the issuance of the restricted stock units under the 2009

 

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Stock Incentive Plan. The remaining options held by non-employees were assumed by the Company and will remain outstanding under the 2009 Stock Incentive Plan with the same conditions as under the 2006 Plan. Compensation expense was recorded for stock options and restricted stock units awarded to employees and non-employee directors in return for service. The total compensation cost was measured at the grant-date fair value of the award less the fair value of any modified awards at the date of modification and is recognized as compensation expense over the vesting period. We record expense based upon the vesting schedule of the awards.

Results of Operations

Three and nine months ended September 30, 2010 and three and nine months ended September 30, 2009

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

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2010     2009     2010     2009  

Revenues

        

Biodiesel

     62,965        35,932        142,109        75,810   

Biodiesel government incentives

     —          6,041        3,674        13,572   
                                

Total Biodiesel

     62,965        41,973        145,783        89,382   

Services

     157        716        1,165        2,403   
                                

Total

     63,122        42,689        146,948        91,785   
                                

Cost of Goods Sold

        

Biodiesel

     56,569        40,496        132,518        91,714   

Services

     68        217        601        970   
                                

Total

     56,637        40,713        133,119        92,684   
                                

Gross Profit (Loss)

     6,485        1,976        13,829        (899

Selling, general and administrative expenses

     5,782        7,643        16,599        19,916   

Gain on sale of assets – related party

     —          (2,254     —          (2,254

Impairment of assets

     7,336        —          7,477        —     
                                

Operating Income (Loss)

     (6,633     (3,413     (10,247     (18,561

Other income (expense)

     (811     (2,988     2,144        (858

Income tax benefit

     —          1,637        3,728        4,875   

Loss from equity investments

     (173     (199     (554     (570
                                

Net Loss

     (7,617     (4,963     (4,929     (15,114

Net loss attributable to non-controlling interests

     —          1,448        —          6,350   
                                

Net Loss Attributable to REG

     (7,617     (3,515     (4,929     (8,764

Effects of recapitalization

     —          —          8,521        —     

Less - accretion of preferred stock to redemption value

     (5,367     (11,560     (21,613     (31,337
                                

Net Loss Attributable to the Company’s Common Shareholders

     (12,984     (15,075     (18,021     (40,101
                                

During 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 $20.4 million, or 48%, and $55.1 million, or 60%, to $63.1 million and $146.9 million for the three and nine months ended September 30, 2010, respectively, from $42.7 million and $91.8 million for the three and nine months ended September 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 $21.0 million, or 50%, and $56.4 million, or 63%, to $63.0 million and $145.8 million during the three and nine months ended September 30, 2010, respectively, from $42.0 million and $89.4 million for the three and nine months ended September 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 three quarters of 2010, the average sales price increased $0.43, or 15%, and $0.67, or 27%, to $3.21 and $3.17, respectively, during the three and nine months ended September 30, 2010, compared to $2.78 and $2.50 during the three and nine months ended September 30, 2009. The following table summarizes the gallons sold (in millions):

 

     Three Months  Ending
September 30
     Nine Months  Ending
September 30
 
     2009      2010      2009      2010  

REG Ralston

     2.7         1.4         7.9         4.5   

Tolling Arrangements with Newton facility

     2.3         4.4         3.4         9.2   

Tolling Arrangements with Danville facility

     6.8         9.5         10.2         21.0   

Blackhawk

     —           —           0.7         —     

Third