Transcript of
Penford Corporation (PENX)
Fourth
Quarter and Year End Results Conference Call
November 13, 2009
Edited for Clarity and Readability
Thomas D.
Malkoski, President and Chief Executive Officer
Steven O.
Cordier, Chief Financial Officer
Operator
Greetings and welcome
to the Penford Corporation’s Fourth Quarter 2009 and Fiscal Year Ended August
31, 2009 Earnings Conference Call. At this time, all participants are on a
listen-only mode. A brief question and answer session will follow the formal
presentation. If anyone should require operator assistance during the call,
please press *0 on your telephone keypad. As a reminder, this conference is
being recorded.
It is now my pleasure
to introduce your host, Mr. Steve Cordier, Chief Financial Officer for Penford
Corporation. Thank you, Mr. Cordier, you may now begin.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Thank
you Chris. Good morning everyone. Thank you for participating in our conference
call to discuss the fourth quarter fiscal 2009 financial results. Joining me
on the call is Tom Malkoski, President and Chief Executive Officer of Penford
Corporation.
Before
we get started, let me caution you about any forward looking statements we make
this morning, including any statements or predictions about the Company’s
prospects, expected future performance, plans, or strategies. Actual future
results could differ materially from those described in such forward-looking
statements, and the Company does not intend to update or revise any
forward-looking statements. Among the factors that could cause actual results
to differ materially are the risks and uncertainties discussed or referred to
during the call, those identified in our earnings release today, and those
described in our filings with the Securities & Exchange Commission.
Fiscal
2009 brought significant challenge and change for Penford Corporation. The
Industrial business successfully re-started operations after a disastrous flood
and then immediately confronted the most severe recession since the 1930’s.
The Food business performance during these difficult economic circumstances
validated the importance of a value added specialty focused business model for
long term success. And, as you have read from our announcement today, we
believe that we have reached the final stages of divesting the Company’s
operations in Australia.
I
will discuss the recent operating results and then Tom will provide some
comments on our business outlook.
At
this time last year, our Cedar Rapids facility was battling back from one of
the largest floods in American history. Industrial manufacturing operations
were shut-down for most of the fiscal fourth quarter of 2008. During the
subsequent rebuilding process, the Food Ingredient business divested its
dextrose operations, which had been sited in Cedar Rapids. Since comparisons
to fourth quarter fiscal 2008 financials are less meaningful for both segments
my quarterly comparative comments will be against the prior sequential
quarter of fiscal 2009. This perspective also will underscore the magnitude of
improvement that has been building throughout the second half of our fiscal
year.
The
Food Ingredients segment has built a vibrant business based on product
platforms that offer high value formulations which contribute significantly to
our customers’ success. The economic recession tested this model and the
positive outcome has confirmed our conviction that offering a combination of
high performing, differentiated products and focused customer service builds
success that provides premium returns as well as opportunities for extended
growth. This segment has increased revenues by 45% over the past five years
while expanding operating margins, which reached 19.6% in fiscal 2009.
Fourth
quarter results were a continuation of the upward trend, despite the headwinds
of an economic slowdown. Revenue of $18.1 million was an all-time record. The
core coatings category, which represents about half of the segment sales,
increased modestly and the remaining mix of products rose at double-digit
rates. Unit costs fell 5% from the third quarter after declining 8% from the
quarter before. Operating income reached $3.9 million, also an all-time record
for the division.
The
Industrial Ingredients segment benefited from decisive internal actions as well
as an improved external environment in the fourth quarter. The shipment rate
for printing and writing papers has picked up from lows seen in the first
several months of calendar 2009. While order-related downtime and closures are
still occurring, the pace of the capacity withdrawals has diminished. Our
paper industry customers remain focused on balancing supply with forecasted
demand while reducing costs.
The
decision to expand output choices and enter the bio-fuels category has proven
timely for the Industrial business. We shifted available manufacturing
capacity to ethanol production as order patterns for industrial starches
fluctuated. That capability stabilized production throughput and provided
ready access to an end-market that has been improving since late summer. That
category represented 50% of the product mix in the fourth quarter and has
progressed from an important source of cost absorption to a provider of unit
and absolute profits over the last several months.
Demand
for the Liquid Natural Additives line continues to grow. Trial activity is
high, reflecting the deliberate positioning of this cost effective renewable
source material against petroleum based chemical additives. Commercialization
rates have also accelerated as new and existing customers focus on improving
cost-in-use along with better processing performance and end-product
functionality. We believe the outlook for Penford’s Liquid Additives line is
good, especially with oil hovering near $80 per barrel.
At
the last quarterly conference call we described progress against cost reduction
benchmarks that were implemented during the first half of fiscal 2009. A
targeted program to decrease unit costs across all areas that included staffing
cuts and reduced spending was initiated. In addition, each manufacturing
process was examined for opportunities to improve efficiencies and yields. As
a result, unit costs decreased 9% in the third quarter. These programs have
advanced and unit costs declined another 13% in the fourth quarter. Absolute
cost-of-goods sold are $5 million lower than the second quarter and we expect
to hold these improvements.
Quarterly
revenues increased 18% on double digit gains in highly modified industrial
starches and single digit growth in bio-fuels. The business regained
profitability with $0.7 million in operating income, a sharp turnaround from a
$7.0 million loss in the prior quarter.
Consolidated
sales from continuing operations in the fourth quarter of fiscal 2009 were
$70.7 million and operating income was $1.3 million or $0.12 per diluted
share.
Cash flows from continuing operations and
consolidated liquidity are satisfactory. The Company had $94.8 million in
total debt outstanding as at August 31st, 2009, down about $3
million from the end of the prior quarter. The combination of improving
revenues, lower unit costs and careful working capital management provided $9.1
million in cash from operations during the fourth quarter. The business units
continue to generate cash and we now have accumulated more than $10 million
cash on hand. The Company has not drawn against its revolving credit facility
in more than five months and internal cash flows plus asset sales have allowed
us to lower total loan balances by $10 million since the end of August. We
plan to use the proceeds from the sale of the Australian operations to further
reduce debt by the end of the calendar year.
The
Australia/New Zealand Operations are classified as “held for sale” at August
31, 2009 and we are presenting the financial position, results of operations
and cash flows of that business as discontinued operations in Penford’s
consolidated financial statements.
Fiscal
2009 pre-tax loss from discontinued operations was $57.0 million. This total
includes a previously disclosed second quarter non-cash goodwill impairment
charge of $13.8 million and an incremental $33.0 million non-cash impairment
charge in the fourth quarter to reduce the carrying values of the Australia/New
Zealand assets to their estimated fair values less the related costs to sell
those assets. The charge also reflects the fiscal 2009 operating loss of $10.4
million.
I’ll
now turn the call over to Tom for additional comments on the Australian
divestiture as well as a discussion of business prospects in fiscal 2010 and
beyond.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
Thanks Steve.
We have executed contracts with two different
parties for the sale of all operating assets in Lane Cove and Tamworth, Australia. Recall that the sale of the New Zealand business was completed and announced during
September. The sale of the Australia and New Zealand businesses represents an
important strategic and operating step for the Corporation. After conclusion
of these asset sales, the Company should generate higher returns, and a
stronger cash and earnings profile. Importantly, though, with renewed
management focus on strategic opportunities for growth and margin improvement
in our continuing North American operations, we believe we are in a better
position to enhance shareholder value. We expect to close both deals within a
matter of weeks, and as Steve said, apply those proceeds to reduce outstanding
debt. We are grateful to the employees of the Australian and New Zealand businesses for their efforts over the past several years and as well as their
commitment to supporting the operations during the recent period of uncertainty
surrounding ultimate ownership.
We
have seen clear improvement over the past two quarters within our own
businesses that reflect determined implementation of cost containment programs
and efficient plant operations. While the paper and fuel markets have shown
some signs of modest recovery, we project continued demand uncertainty for
these important categories during the rest of fiscal 2010. We also expect
spirited competition in our Industrial business to retain or convert market
share in product categories that are subject to substitution and switching.
The
prospects for continued growth of our food business remain strong. The
economic recession has impacted some segments within food, yet Penford has held
its market position and this business has several promising new growth
applications currently in stages of development and customer trials.
Broad
based cost reduction programs and the expected divestiture of the
Australian/New Zealand segment will leave us leaner and better positioned to
manage through uncertain market conditions and capitalize on opportunities to
build our industrial and food businesses. Our focus on products that create
customer value through functionality, improved processing characteristics, and
efficient cost-in-use, all supported by strong technical service, should help
maintain our leadership position in specialty
starches.
Penford
is vigorously pursuing the claim filed in Federal court in Iowa last January to
recover additional compensation for the flood in Cedar Rapids from its
insurers. We have recently filed a motion for partial summary judgment in the
case.
As was announced earlier this year, the
Company is reviewing potential strategic alternatives to enhance shareholder value.
This review is continuing. The Company does not plan to release additional
information on this subject at this time.
Thank you for your interest in Penford.
Please open the call for questions.
Operator
Thank you. We will
now be conducting a question and answer session. If you would like to ask a
question, please press *1 on your telephone keypad. A confirmation tone will
indicate your line is in the question queue. You may press *2 if you would
like to remove your question from the queue. For those participants using
speaker equipment, it may be necessary to pick up your handset before pressing
the * keys. One moment please while I pool for questions.
Our first question
comes from the line of Laurence Alexander with Jefferies & Company. Please
proceed with your question. Your mic is now live.
Lucy Watson –
Jefferies & Company
Thanks. This is Lucy
Watson on for Laurence today.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Hi, Lucy.
Lucy Watson –
Jefferies & Company
I just wanted to ask
what were the main factors contributing to the decline in unit production cost.
How much of the decline was due to lower unabsorbed overhead and how much was
due to lower costs? And maybe how much also of margin expansion was due to price?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
It’s different
segment by segment but, generally, about a third of the improvement in the unit
cost came from better efficiencies and production yields, about 25% came from
lower headcount costs and the balance came from lower input costs primarily in
the areas of agricultural raw materials, chemicals, and so forth.
With your second
question regarding margin expansion and its sources, the bulk of the margin
expansion came from improvements in the cost structure. There were also some
higher average selling prices which was a combination of outright price
increases obtained earlier in the year and then some mix improvements in the
food business.
Lucy Watson –
Jefferies & Company
Okay. And after
paying down debt following the Australia sale, what are your priorities for
cash?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
We are still going to
carefully manage our leverage position and, where possible, reduce the outstanding
debt but we’re also going to be looking at opportunities for the business to
invest in growth and productivity improvements with capital projects.
Lucy Watson –
Jefferies & Company
Okay. And just one
quick followup, it looks like your CapEx was about a little over $1 million in
the quarter, what should we expect for a run rate going into next year?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Well, if you recall from
our third amendment to the credit facility, the capital expenditures basket has
been limited to about $6.5 million for the fiscal year so we will be expecting
to run at about that rate.
Lucy Watson –
Jefferies & Company
Thank you.
Operator
Our next question comes
from the line of Ken Zaslow with BMO Capital Markets. Please proceed with your
question. Your mic is now live.
Ken Zaslow – BMO
Capital Markets
Hi. Good morning,
everyone.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Good morning.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
Good morning.
Ken Zaslow – BMO
Capital Markets
I don’t know if you
told us, but can you tell us what the proceeds are going to be?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
No. We haven’t disclosed
that yet. We did disclose the proceeds from the New Zealand sale because
they’ve been collected.
Ken Zaslow – BMO
Capital Markets
Right.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
We’ll provide similar
information when we complete the process for the rest of the assets.
Ken Zaslow – BMO
Capital Markets
And what were the tax
rate and interest… I guess you can't tell us the interest, but what will the
tax rate be excluding these operations going forward?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
We’re estimating them
to be around the normalized statutory rate of about 33% to 34%.
Ken Zaslow – BMO
Capital Markets
Okay. And in terms
of your ongoing strategic review, when can we benchmark to know when it is over?
I know you can’t tell us what you’re doing but when will we know that it’s finalized?
Is there going to be an actual action to conclude this and it’s guaranteed that
we’ll see an action or is there a date? Is there some sort of benchmarks that
we could just use to understand when this would be over or not?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
The strategic process
we commenced earlier this year is still continuing. We’ve been working with
our retained advisors to identify, evaluate, and then explore a wide range of
strategic alternatives to enhance our shareholder value. It’s our policy not
to comment on matters of this nature while they’re pending and I would be very
hesitant to put an ending date for that process because it’s an exploratory
process at this stage.
Ken Zaslow – BMO
Capital Markets
Okay. So, I mean it
could go on for another couple of years?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
We’re very active in
the process itself and have been since we made an announcement.
Ken Zaslow – BMO
Capital Markets
Okay.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
So we think we’d be
driving for a conclusion at some point.
Ken Zaslow – BMO
Capital Markets
Okay.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
Ken, you’ve already
seen at least one element of the strategic process.
Ken Zaslow – BMO
Capital Markets
Absolutely and I
agree. For whatever it’s worth, I think it’s the right move, but I was trying
to figure out how much longer are we going to hear about the process and I
didn’t know if we were going to end up just concluding with this. I wouldn't
say sooner rather than later, but just kind of figuring out how long it’s going
to be until we know a definitive answer. That's all.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
Okay.
Ken Zaslow – BMO
Capital Markets
In terms of the LNA,
I understand that there was increased competition in that product. Do you have
different growth and margin outlook expectations given the change in the
environment or when this is fully up and running? Is this in line with what it
was pre-flood?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Let me clarify a
couple of things. We expect increased competition in the product lines where
there’s direct substitutability and the products are widely available across a
peer group of competitors. That’s not the case with the Liquid Natural Additives.
That is a highly specialized line. We expect that the high relative margin of
that line will remain. What we're trying to do is increase the scale of that
business and leverage that growth in future quarters. We're very encouraged by
the fact that throughout the slowdown in the economy there's been strong
activity in the trials with new customers but also the strong commercialization
rate and shipments of volume.
Ken Zaslow – BMO
Capital Markets
So your outlook would
be the same pre and post…?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Yes.
Ken Zaslow – BMO
Capital Markets
Okay.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
We didn’t lose any
steam on that product last year. It actually grew and what Steve was referring
to is the nature of the trial activity. It’s not only the number of trials but
also that the types of usage are higher volume opportunities compared with the
average of the current LNA products shipments. So they’re meaningful
opportunities as we see them.
Ken Zaslow – BMO
Capital Markets
And then the next question
I have is on the demand side for paper. You said it’s improved from the lows. Are
we at a point where you're going to see year-over-year increases or its just
sequential improvement? Can you paint us a little bit of a picture of that
what you actually see in the demand side?
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
I think in the short
term, it would be more sequential improvement. When we get to the winter
months, it would likely be year-on-year improvements because the winter months
of December through April were the weakest during this downturn.
Ken Zaslow – BMO
Capital Markets
And is it mostly on
the volume side, the pricing side, or both?
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
It really is both.
Ken Zaslow – BMO
Capital Markets
Alright. I’ll leave
it there. Thank you.
Operator
Thank you. Our next
question comes from the line of Robert Felice with J. Goldman & Company.
Please proceed with your question. Your mic is now live.
Robert Felice – J.
Goldman & Company
Hi, guys. Just a
couple of quick questions. First, could you give us a sense as to how you're
thinking about your mix between ethanol and industrial starch in 2010. It
seems to me that ethanol margins have gotten a bit more attractive of late. So
I was hoping you would comment on that.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
The original model
had been to run at about 25% ethanol with the balance of the mix in industrial
starches, Liquid Natural Additives, and specialty products. As I said on the
prepared comments, we're now running at about a 50/50 mix of ethanol to those
other product streams and I would expect that for the rest of this fiscal year
it will be tilted a little bit more toward that 50/50 mix.
Robert Felice – J.
Goldman & Company
Okay. And how is the
shift toward ethanol from industrial starches impacted prices on the industrial
starch side, if at all?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Right now it does not
have a material effect on the pricing of the remaining industrial starches. If
you recall, the peer competitors are also experiencing some available capacity
because of the general downturn across all the output streams that they are
capable of manufacturing, whether it’s industrial starches, sweeteners, food
starches, high fructose corn syrups, and so forth. So the capacity situation
within the supplying side of the industry is looser. Simply dialing our
product streams across to bio-fuels will have less impact on price under those
conditions.
Robert Felice – J.
Goldman & Company
Okay. The industrial
business really saw a nice sequential improvement in profit. Could you give us
a sense as to how the profit moved month by month? Was the bulk of the
earnings attributed to the last month of the quarter? I'm just trying to get a
sense as to how the business exited the quarter versus starting the quarter.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
All of the three of
the months were profitable but the acceleration did occur more toward the end
of the quarter than at the beginning of the quarter. But certainly it was
building from a profitable base early in the quarter.
Robert Felice – J.
Goldman & Company
Okay. Lastly, we've
had a lot of moving pieces in the industrial business over the last 18 to 24 months.
I was hoping you could take a step back and talk to the normalized earnings
power of the business as well as how long you think it takes to get back to
that normalized level and more importantly, what it takes to get back there.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Let me take your
question in reverse. First of all, how long it takes would be dependent
somewhat on external variables. Certainly as the economy recovers and the
demand for industrial starches improves along with that, we would likely see a
change in the mix toward industrial starches, which are the markets that we've
been committed to historically. Those also offer higher average selling prices
generally than in the bio-fuels products on a unit basis. Those are some of the
elements that would contribute to a more secular run rate for that operation.
If you look at the other elements that would contribute to improvements on a
long-term basis in the industrial business, they include a settling out of the
capacity and utilization rates for our end-market customers, particularly paper;
a rebalancing of the output streams across all the peer competitor groups; a
continuation of what I think are historically normalized input costs whether
that’s natural gas, corn, chemicals, and so forth, which we have reached but
need to hold; and then certainly, the ability in that business to dial back and
forth across the new product streams that have been introduced. That business
has achieved gross margin levels in the past that are in the high teens and
that’s certainly the target for the business to continue to strive for, reach,
and then try to improve against.
Robert Felice – J.
Goldman & Company
So nothing that
should make us think that getting back to historical levels of profitability is
unattainable. So we should think that getting back to those levels is quite
reachable.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
The business is built
to achieve that and the investments we've made in the business over the past
few years have been not only to sustain that but improve against it.
Robert Felice – J.
Goldman & Company
Okay. Great. Thanks
for taking my questions.
Operator
Thank you. Once
again, ladies and gentlemen, to ask a question, please press *1 on your
telephone keypad. A confirmation tone will indicate your line is in the
question queue. You may press *2 if you would like to remove your question
from the queue.
Thank you. Our next
question comes from the line of Jay Weinstein with Oak Forest Investment
Management. Please proceed with your question. Your mic is now live.
Jay Weinstein – Oak Forest Investment Management
Hi, Steve and Tom.
It’s Jay Weinstein. How are you?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Good morning.
Jay Weinstein – Oak Forest Investment Management
I'm so old I remember
when Jeff bought the Australia business the first time. So a testimony to
something, I'm not sure what it is.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
Right.
Jay Weinstein – Oak Forest Investment Management
My staying power. A
couple of questions. I want to ask a question about the proceeds in a slightly
different way from the divestitures. First of all, you cannot tell from the
press release what’s the total debt level right now. The long term is $71.1.
I know with the current liability, there’s going to be something. How big is
that number?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
As of today, the
total debt levels are about $85 million.
Jay Weinstein – Oak Forest Investment Management
Okay. And again at
the August 31 balance sheet, it has basically total assets of roughly, let’s go
round it, $43 million and current liability is at $16 million leaving a
difference of $27 million. I know you cannot really answer this but within a
wide range is it reasonable to assume that that $27 million is at least
somewhere close to what you're expecting from proceeds? Within the confines of
legal restrictions and all those disclaimers and everything else, is that a
reasonable way to look at it?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
The way you're
getting to it is a reasonable approach; perhaps different from others but
there’s nothing that I can point to that’s flawed in your approach.
Jay Weinstein – Oak Forest Investment Management
Okay. That’s fine.
If it turns out $5 million to 10 million on either side, that… at least it
gives me a guide post to work with. Also, I went back and looked and you have
at least a fair amount of interest rates swaps, which are, I assume, pretty
substantially out of the money at current levels. Are those current valuations
in the other liabilities part of the balance sheet on 08/31 and if so, what…
how do you have them valued, Steve?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Well, the interest
rate swaps allow us to defer the changes in the fixed versus the floating.
Those go through the balance sheet and the category that you described. I
missed the second part of your question.
Jay Weinstein – Oak Forest Investment Management
Well, I'm assuming
that they have some… I just want to know what the value is. I mean it will be…
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
We've
disclosed them in the past and I don’t have it directly in front of me but I
think that we swapped some at about 4.35% and the rest was slightly over 5%.
Jay Weinstein – Oak Forest Investment Management
I was wondering what
the actual balance sheet value is under the other liability section at 08/31.
It will be on the 10-K but…
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
You know what, I will
refer you to that because we're going to file it within a few hours.
Jay Weinstein – Oak Forest Investment Management
Oh, in that case,
don’t worry about it. That’s fine. The Australia business provided some
seasonality to your results because of their weather and obviously being in the
other hemisphere. Remind me, I cannot remember which quarters it was that it
sort of affected it, how it affected it, so I can process going forward netting
that business out. Your seasonality will change a bit, won’t it?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Yes. It affected
results mainly as we accumulated grain and that occurred actually in our first
and second quarters of the fiscal year. The wheat side of the business, which
was about 50% of the raw material acquisition for Australia, occurs in the
first half and as those prices rose and fell dramatically over the course of
two droughts, that affected our seasonality on the cost side as well as the
margin spread. The rest of the business, maize or corn, was largely acquired
during the third quarter of our fiscal year. Those results, as we've said in
the past, were a little bit more sticky in their impact. You've seen wheat
prices fall dramatically over the last few months as the harvest for wheat in Australia has better prospects. The corn prices have been declining but not at the same
pace. And that seasonality was probably most pronounced in the second quarter
of our fiscal year.
Jay Weinstein – Oak Forest Investment Management
Tom, how happy are
you going to be that you don’t have to… you, hopefully, won’t have to answer
those questions anymore? About wheat prices in Australia.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
We would very much
like to concentrate on some of the new opportunities to build our business.
Jay Weinstein – Oak Forest Investment Management
A very diplomatic answer.
I'm trying to cause us trouble. I'm going to cause trouble with one other
question. The ethanol investment, as you look… I forget when it was committed
and obviously, to go out and build that and get up to speed and then you have
the flood and everything else, how do you look at it now? Would you say, okay,
it was definitely the right thing to do, we thought it was the right thing to
do at the time, somewhere in the middle? Strategically, how do you think about
it now?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
This is Steve. I
think we announced that in 2006, we completed it only a month before flood.
You're asking for a qualitative response so I’ll give you my…
Jay Weinstein – Oak Forest Investment Management
That’s exactly what
I'm asking for, yes.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
I am personally very
strongly of the view that it was the right thing to do for the business for
several reasons. First of all, it provided us with output diversification that
affected all of our margins and productivity capabilities across the industrial
business because it gave us multiple choices that gave us competitive parity
with many of our peer producers. The second one is that it allowed access to an
output stream and end market that was quite different, not only in the cycle
that it exhibits over an economic period, but also the ability to readily enter
and exit because it’s more of a commodity market. The ability to dial in and
out of that biofuels category while responding to changes in our industrial
starch business demand was very useful and quite evident over the last several
quarters. Lastly, perhaps most importantly from a strategic viewpoint, the
construction of that ethanol facility gives us a stepping stone into some
important new specialty marketplaces that range from biochemicals to personal
care products that we think will, over the long run, be perhaps the most
important benefit of that investment.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
And Jay, I would just
echo what Steve said that the operational flexibility was critical particularly
during uncertain economic times. The move into ethanol and the plans going
forward to go beyond ethanol to second generation biomaterials is still being
worked very aggressively today and we think there will be opportunities there.
The access to alcohol as a reagent has helped us with some very novel products
that open up new opportunities for these materials that as we generate better
cash flow and can invest behind our business. We certainly will invest in
growth in some of those areas.
Jay Weinstein – Oak Forest Investment Management
Yes, okay. Thanks.
Because obviously your original strategic plan is still in force and of no
fault of your own because of the flood, you're one year or two years behind
where you would be knowledge based wise in what to expect and how to go forward
about it.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
That’s
probably a good way to think of it; that we haven’t lost sight of where we're
headed and we hit the speed bumps and it has slowed us down for a bit.
Jay Weinstein – Oak Forest Investment Management
Think of
it as speed bumps. I'm not sure it was a brick wall. It’s not a brick wall
but that was a big speed bump, essentially nothing you can do about that. Last
question, I have to ask, legal expenses for the law suit. We've all paid legal
bills and we know what they can be and obviously, if you expect to at least
recover something but it’s uncertain. Is it a material item in your SG&A
or give me a sense?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
I think
if you look at our costs overall, we're projecting it to be about $50,000 a
month.
Jay Weinstein – Oak Forest Investment Management
Okay.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
While not
insignificant, I don’t think that they're going to stagger us either.
Jay Weinstein – Oak Forest Investment Management
Yes. At
some juncture, 8 million years down the road if you have to go to a real trial
obviously, it would be a big boost, but we’ll worry about that when we get to
it, right?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Right.
Jay Weinstein – Oak Forest Investment Management
Okay.
Thanks, guys. It was nice talking to you again. I haven’t spoken to you for a
while and hope you're well.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
I
appreciate it. Thanks.
Thomas
D. Malkoski – Penford Corporation – President and Chief Executive Officer
Thank
you.
Operator
Thank
you. Our next question comes from the line of Laurence Alexander with
Jefferies & Company. Please proceed with your question. Your mic is now
live.
Laurence Alexander –
Jefferies & Company
Hi,
there. Just two quick questions. One is can you give us an update now that
Australia’s exiting the portfolio as to raw materials as a percentage of costs
of sales and also could you speak to the raw material volatility now that
Australia is out of the portfolio?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Sure.
I’ll answer the second part first. I think that the volatility will be greatly
diminished. The main source of volatility for agricultural raw materials in
the North American sector will be that we will be truly short corn on the
ethanol side of the business which I mentioned is about 50% of the mix on the industrial
side. For the balance of the business in industrial starches, the major raw
material of corn is a pass-through to our customers. We collect the net
corn cost from them. The largest raw material for the food business is potato
starch, a significant portion of which continues to be bought from the potato
starch processors and then sold back. I think we are largely protected from
wide swings in the overall agricultural raw material side on the North American
businesses.
As a
total percent of revenues, the agricultural raw materials are somewhere around
35%. Obviously, a little bit higher percentage of our cost of goods sold but
in that 30% to 35% range.
Laurence Alexander –
Jefferies & Company
And
again, this may have already been covered. What is your net debt at the end of
the quarter and what’s your medium-term target?
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
The net
debt at the end of the quarter was about $95 million at the end of August. As
we said earlier on this call, as of today, it’s about $85 million and we have
more than $10 million cash on hand and intend to use the proceeds from the
Australian divestitures to further reduce the debt.
Laurence Alexander –
Jefferies & Company
Okay.
Perfect. Thank you.
Operator
Thank
you. There are no further questions at this time. I would like to turn the
floor back over to Mr. Cordier for any closing comments you may have.
Steven
O. Cordier – Penford Corporation – Chief Financial Officer
Thanks
for your participation. Any follow-up calls, please try to reach me on the
number at the top of the press release. Thanks.
Operator
Ladies
and gentlemen, this does conclude today’s conference. You may disconnect your
lines at this time and we thank you all for your participation. Have a
wonderful day.
