Item 7. Management’s Discussion and Analysis
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following MD&A should be read in conjunction with a review of the other Items included in this Form 10-K and our December 31, 2021 consolidated financial statements included elsewhere in this report. A reference to a “Note” relates to a note in the accompanying notes to the consolidated financial statements. Certain statements contained in this MD&A may be deemed to be forward-looking statements. See “Special Note Regarding Forward-Looking Statements.”
Overview
General
LSB is headquartered in Oklahoma City, Oklahoma and through our subsidiaries, we manufacture and sell chemical products for the agricultural, mining, and industrial markets. We own and operate three multi plant facilities in Cherokee, Alabama, El Dorado, Arkansas and Pryor, Oklahoma, and operate a facility on behalf of Covestro in Baytown, Texas. Our products are sold through distributors and directly to end customers, primarily throughout the U.S. and parts of Mexico and Canada.
Key Operating Initiatives for 2022
We expect our future results of operations and financial condition to benefit from following key initiatives:
•
Investing to improve Environmental, Health &Safety and Reliability at our Facilities to further our Progress Towards Becoming a “Best in Class” Chemical Plant Operator while Supplying our Customers with Products of the Highest Quality.
▪
We believe that our operational progress over the past several years represents proof that high safety standards not only enable us to protect what matters, which is the well-being of our employees, but also translates into improved plant performance. With that in mind, in 2022 we remain acutely focused on our efforts to further the progress we’ve made in creating a high performing safety culture as we advance the safety programs, we have underway and implement new ones. Additionally, we will be investing capital at all three of our facilities to further promote safe and reliable operations in order to build upon the success we have had in implementing enhanced safety programs during the last three years.
▪
We have several initiatives currently underway focused on further improving the reliability of our plants which we expect will allow us to produce greater volumes of product for sale, lower our cost of production and increase our overall profitability. These initiatives are focused on operations excellence through enhancements in leadership at certain of our facilities, bolstering our operating procedures, leveraging the technology investments we’ve made for the purpose of advancing the optimization of our asset health monitoring through asset care excellence maintenance programs. Additionally, our product quality program continues to focus on providing products to our customers that meet the highest quality standards.
•
Continue Broadening the Distribution and Optimization of our Product mix. Over the course of 2021 we were successful in maximizing the production capacity of our plants, and plan to continue to expand the distribution of our products by partnering with customers to take product into different markets while also focusing our efforts to upgrade our margins through the optimization of our product mix.
▪
In the first quarter of 2021, we commenced a new long-term nitric acid supply contract with a customer under which we agreed to supply between 70,000 to 100,000 tons of nitric acid per year. We progressively ramped the volume of product supplied to the customer over the course of 2021, and in 2022, we will recognize a full year of sales under this agreement putting us in a sold-out position for nitric acid at our El Dorado facility and achieving our objective to fully utilize our production capacity for this product.
▪
We are targeting $10 million to $15 million of capital for margin enhancement projects in 2022 to optimize our storage and distribution capability. Additionally, we are evaluating opportunities to upgrade more of the ammonia we produce into higher value downstream products in order to capture additional margin. We also believe we have opportunities to increase our production volume of certain products through debottlenecking projects and will be analyzing the potential returns from these investments over the course of the year.
•
D evelopment and Implementation of a Strategy to Capitalize on Low Carbon Ammonia and Clean Energy Opportunities . The reduction of greenhouse gas emissions, particularly related to carbon dioxide, has been, and, we expect will increasingly become a global environmental priority as part of efforts to stem the deleterious effects of climate change. There is increasing evidence from a variety of industry studies to indicate that ammonia can play a significant role in making meaningful progress towards this objective. As a result, we are currently in the process of formulating a strategy to become a producer and marketer of blue and green ammonia and other derivative products over the coming years. Blue ammonia is produced using natural gas and conventional processes but includes the additional stage where the CO2 emissions are captured and permanently stored in deep underground rock formations, resulting in a low carbon emission product that can be sold at a premium to agricultural, industrial, mining, power generation and marine customers seeking to reduce their carbon footprint and potentially capitalize on
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government incentives . Green ammonia is ammonia produced using renewable energy to power electrolyzers that extract hydrogen from water, resulting in the zero-carbon production of ammonia that , we believe can , also be sold at a premium to a variety of industries around the world .
Ammonia has been increasingly emerging as one of the most viable alternatives to serve as a hydrogen-based energy source for a variety of applications given its higher energy density and ease of storage relative to hydrogen gas. Blue and green ammonia can be used as zero carbon fuel in the maritime sector, a carbon free fertilizer and as a coal substitute in power generation. If ammonia were to be used for energy consumption globally, some studies have indicated that future demand could equate to five times the amount of current global annual production of ammonia, or approximately 50 times the current seaborne trade. We believe we are well-positioned to capitalize on this opportunity and be market leaders given our potential to retrofit our existing plants rather than investing in greenfield projects, thereby reducing the time to market and the upfront capital expenditures, enhancing the economic attractiveness to such investments. With that said, we will also consider investing in greenfield projects that have the potential to offer attractive returns
•
Pursue Acquisitions of Strategic Assets or Companies. We are actively engaged in evaluating and pursuing various opportunities to acquire strategic assets or companies (including through mergers), where we believe those acquisitions will enhance the value of the Company and provide attractive returns. Targets under consideration could provide us with geographic expansion, extend an existing product line, add a new product line, leverage our existing ammonia production capabilities, or complement our existing business lines, among other accretive opportunities. We are considering options across our agricultural, industrial and mining business. The opportunities we consider as meeting our investment criteria generally range in value from $200 million to $500 million, although we may consider other attractive opportunities outside of this range. We are also evaluating investments that would add additional production capacity in business lines where we believe the returns will be attractive. We may choose to finance any of the foregoing through the incurrence of additional indebtedness (including through loans or the issuance of debt securities) or the issuance of equity, in each case subject to financial analysis that we believe would support an increase to shareholder value and favorable market conditions at the time of issuance.
We may not successfully implement any or all of these initiatives. In addition, the consummation of any acquisition opportunity is subject to the negotiation of definitive documentation with any counterparties and, if applicable, regulatory approvals, as well as the satisfaction of negotiated closing conditions, none of which can be assured, and there can be no guarantee that any opportunity we choose to pursue will ultimately be consummated. Even if we successfully implement the initiatives, they may not achieve the results that we expect or desire.
Business Developments-2021
Exchange Transaction and Special Common Stock Dividend
On September 27, 2021, we closed a Securities Exchange Transaction (the “Exchange Transaction”) with LSB Funding LLC (the “Holder”), an affiliate of Eldridge, in which we exchanged the shares of Series E and Series F Redeemable Preferred Stock held by the Holder for shares of our common stock. In summary, we exchanged the approximately $310 million liquidation preference of preferred stock held by the Holder into our common stock based on an exchange price of $6.16, which was equal to the 30-day volume weighted average price as of the date of the Exchange Agreement. However, the exchange consideration paid under the Exchange Agreement was reduced by approximately 1.2 million shares, which shares were included in the Special Dividend and received by the Holder. In connection with the transaction, on October 8, 2021, our common stockholders, including the Holder, received the Special Dividend in the form of 0.30 shares of our common stock for every share owned as of the September 24, 2021, the Special Dividend record date. The main benefit of the exchange is that it relieved our Company and our common stockholders from the expensive, compounding burden of the preferred stock dividend, improving the current capital structure.
Reduced Cost of Capital through Debt Refinancing
The Exchange Transaction discussed above prompted the major credit rating agencies, Moody’s and S&P, to upgrade their credit ratings on our debt, which combined with the favorable credit markets, enabled us to complete a refinancing of our senior notes on significantly improved terms, reducing our cost of capital, bolstering our liquidity and extending the maturity of our debt. More specifically, on October 14, 2021, we closed on an offering of $500 million of senior secured notes due 2028, bearing an interest rate of 6.250%, which we used to redeem our $435 million of 9.625% senior notes that were due to mature in 2023, with the balance being used to enhance the liquidity of our balance sheet and for general corporate purposes. The reduction of the rate of interest on our outstanding notes by more than 300 basis points represents a meaningful reduction in our annual cash interest expense and puts us in a position to more aggressively pursue our key operating initiatives discussed above.
Continued Improvement in Product Sales
Selling prices for all of our major products improved over the course of 2021 as compared to the prior year driven by a combination of supply and demand factors. With respect to our agricultural business, corn prices for the vast majority of 2021 sat above levels not seen since 2014, and the current prices exceeding $6 per bushel, are significantly above the $4 per bushel level that we believe represents a very favorable level for farmers to earn significant income on their crops. The strong corn prices over the past year have
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been driven, in part, by a rebound in the production of ethanol, a gasoline additive that represents approximately 40% of total U.S. corn use annually, as miles drive n have returned to near pre-pandemic levels . Also supporting the strong corn pricing over the past year has been Chinese demand for corn for use as feed for swine as part of the nation’s efforts to rebuild its swine production in the wake of a virus that dramatically reduced its swine population several years ago. This demand for feed is expected to remain robust as China has moved to large institutional hog farms which consume significant quantities of corn. Globally, corn supplies have been constrained by drought conditions in South America and the Western U.S., which has served to further bolster corn prices. Early forecasts point to U.S. corn acreage to be planted in the 2022-2023 planting season to be approximately 90 to 92 million acres, modestly lower than the 2021-2022 estimate of 93.4 million acres, but still at a very healthy level to support strong demand for fertilizers.
In addition to strong corn pricing, which has prompted farmers to increase fertilizer purchases in order to maximize yields, a series of supply related factors that unfolded over the course of 2021 have served to create a global shortage of ammonia, driving the strong increase in the prices for nitrogen products. This began in February 2021, as winter storm Uri and the resultant severe cold weather experienced in many areas of the U.S. caused many nitrogen producers to idle their plants resulting in a tightening in the supply of nitrogen products headed into the spring planting season. Exacerbating this supply constraint, during the third quarter of 2021 a number of ammonia facilities underwent turnarounds that were originally scheduled for third quarter of 2020 but were postponed due to the COVID-19 pandemic. Additionally, in late August, Hurricane Ida, a Category 4 storm caused production along the U.S. Gulf coast to be shut down for a period of time, further reducing production. Also supporting the strength in fertilizer prices has been the significant increase in the cost of natural gas, the primary feedstock for production of ammonia, which has prompted various producers to cease operations of some facilities, particularly in Europe where natural gas prices have surged to more than $30 per MMBtu, rendering some ammonia plants uneconomical to operate. The resultant decrease in global production of ammonia has fueled further strength in nitrogen-based fertilizer prices, which have thus far materially outstripped the impact to production costs of rising natural gas prices in the U.S. The factors discussed above have led to continued strong pricing into the first quarter of 2022, which we expect to support continued favorable pricing levels over the balance of the year.
As for our industrial and mining products, selling prices have continued to improve as the supply of ammonia remains tight due to strong global demand, curtailed global supply due to rising natural gas prices, numerous global unplanned outages and lower than expected product imports. As a result, the Tampa Ammonia benchmark price increased to, and remains at multi-year high levels, which have translated into higher selling prices for our products as many of our industrial contracts are indexed to this benchmark price. Demand trends for the industrial products we sell, primarily nitric acid and ammonia, have remained robust despite disruptions to certain end markets, such as auto manufacturing which has been constrained due to a shortage of microprocessors, as activity in other markets, such as homebuilding and power generation has remained strong. In addition, our sales of nitric acid increased steadily throughout 2021 pursuant to the new long-term nitric acid supply contract discussed above. Demand for our mining products continues to improve as quarry and construction activity has been elevated due to robust levels of residential, commercial and civil infrastructure buildout along with strong demand for precious metals, including expectations for rising copper production to support the growing domestic production of electric vehicles.
See a more detailed discussion below under “Key Industry Factors.”
Long-Term Nitric Acid Supply Contract
During October 2020, EDC entered into a new long-term nitric acid supply contract with a customer. Under the agreement, EDC agreed to supply between 70,000 to 100,000 tons of nitric acid annually, with sales that began in the first quarter of 2021. The initial contract term extends through 2027 but includes automatic one-year renewal terms unless terminated by either party pursuant to the terms of the contract.
PPP Loan Forgiven
In April 2020, we entered into a federally guaranteed Paycheck Protection Program (“PPP”) loan for $10 million with a lender pursuant to a new loan program through the U.S. Small Business Administration (“SBA”) as the result of the PPP established by the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act and amended by the Paycheck Protection Program Flexibility Act of 2020. We have used all of the proceeds from the PPP loan for payroll, rent, utilities, and other specified costs that qualify for loan forgiveness. In April 2021, we submitted the PPP loan forgiveness application to the lender. In June 2021, the PPP loan was fully forgiven by the SBA and lender.
2021 Winter Storm Uri, Natural Gas Curtailment and Settlement of Natural Gas Contracts
On February 12, 2021, the Pryor Facility was taken out of service due to extreme cold weather associated with the winter storm Uri that caused a surge in natural gas prices in the region, along with the curtailment of gas distribution by the operator of the pipeline that supplies natural gas to the facility. On February 21, 2021, this facility began a phased restart and the facility’s ammonia plant was in production shortly thereafter.
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Also , as a result of unprecedented cold weather conditions, on February 17, 2021, the primary natural gas supplier to our El Dorado Facility asserted a claim of force majeure and materially restricted the supply of gas to the facility . However, effective February 23, 2021 , the force majeure was lifted, and the facility’s ammonia plant was in production shortly thereafter .
As weather across the middle of the country improved and temperatures warmed, natural gas prices normalized, and supply were restored to levels required for full operation of our facilities.
Notably, our Cherokee Facility was not materially impacted by the extreme cold weather and related natural gas price and supply issues and operated at targeted levels throughout February 2021.
In order to mitigate a portion of the commodity price risk associated with natural gas, we periodically enter into natural gas forward contracts and volume purchase commitments that locked in the cost of certain volumes of natural gas. Prior to this weather event, we had both types of arrangements. During the first quarter of 2021, we settled all of our natural gas forward contracts and certain volume purchase commitments outstanding at that time. As a result of the settlement of these natural gas contracts, we were able to significantly mitigate the impact from lost production, lost sales and higher costs resulting from the impact of the natural gas shortage caused by winter storm Uri.
Key Industry Factors
Supply and Demand
Agricultural
The price at which our agricultural products are ultimately sold depends on numerous factors, including the supply and demand for nitrogen fertilizers which, in turn, depends upon world grain demand and production levels, the cost and availability of transportation and storage, weather conditions, competitive pricing and the availability of imports. Additionally, expansions or upgrades of competitors’ facilities and international and domestic political and economic developments continue to play an important role in the global nitrogen fertilizer industry economics, including the impact from the Phase 1 trade agreement between the U.S and China. These factors can affect, in addition to selling prices, the level of inventories in the market which can cause price volatility and affect product margins.
From a farmers’ perspective, the demand for fertilizer is affected by the aggregate crop planting decisions and fertilizer application rate decisions of individual farmers. Individual farmers make planting decisions based largely on prospective profitability of a harvest, while the specific varieties and amounts of fertilizer they apply depend on factors such as their financial resources, soil conditions, weather patterns and the types of crops planted.
Additionally, changes in corn prices and those of soybean, cotton and wheat prices, can affect the number of acres of corn planted in a given year, and the number of acres planted will drive the level of nitrogen fertilizer consumption, likely effecting prices.
For 2021 as noted in the table below, the USDA estimates the number of acres of corn planted in the U.S. was approximately 93 million acres, up 3% compared to the 2020 planting season. In addition, the USDA estimates the U.S ending stocks for the 2022 Crop will be approximately 39 million metric tons, a 25% increase from the 2021 Crop. The USDA also is estimating a record yield for the 2022 Crop, up approximately 3% from a year ago.
The following February estimates are associated with the corn market:
2022 Crop
2021 Crop
2020 Crop
(2021 Harvest)
(2020 Harvest)
Percentage
(2019 Harvest)
Percentage
February Report (1)
February Report (1)
Change (2)
February Report (1)
Change (3)
U.S. Area Planted (Million acres)
93.4
90.7
3.0
%
89.7
4.1
%
U.S. Yield per Acre (Bushels)
177.0
171.4
3.3
%
167.5
5.7
%
U.S. Production (Million bushels)
15,115
14,111
7.1
%
13,620
11.0
%
U.S. Ending Stocks (Million metric tons)
39.1
31.4
24.5
%
48.8
(19.9
%)
World Ending Stocks (Million metric tons)
302.2
292.1
3.5
%
306.3
(1.3
%)
(1)
Information obtained from WASDE report dated February 9, 2022 (“February Report”) for the 2021/2022 (“2022 Crop”), 2020/2021 (“2021 Crop”) and 2019/2020 (“2020 Crop”) corn marketing years. The marketing year is the twelve-month period during which a crop normally is marketed. For example, the marketing year for the current corn crop is from September 1 of the current year to August 31 of the next year. The year begins at the harvest and continues until just before harvest of the following year.
(2)
Represents the percentage change between the 2022 Crop amounts compared to the 2021 Crop amounts.
(3)
Represents the percentage change between the 2022 Crop amounts compared to the 2020 Crop amounts.
The current USDA corn outlook for the U.S. is for slightly higher production, higher food, seed and industrial use, ethanol and larger ending stocks. From a demand perspective, corn prices remain well above historical 5-year averages and remain significantly higher
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than $4 per bushel, the level that we believe represent a key threshold as it relates to favorable farmer economics. In addition, domestic corn demand to produce ethanol has rebounded to pre-pandemic levels as the continued roll-out of vaccines has allowed for the re-opening of the vast majority of the U.S. economy, promoting increased mobility and a return to historical levels of gasoline consumption. M ost gasoline has 10% ethanol content. Ethanol is commonly made from corn and ethanol production is the largest user of U.S. corn, currently representing roughly 3 6 % of total U.S. corn demand .
The available U.S. supply of ammonia and other nitrogen products has tightened in 2021, primarily as the result of higher demand for such products, in addition to the idling of many nitrogen plants in February 2021 due to the severe cold weather and ongoing industry downtime caused the lingering problems of that event coupled with more turnaround activity in 2021 as many companies chose to delay turnarounds in 2020 as a result of the pandemic and lost production from several hurricane events in 2021. T he significant increase in the cost of natural gas, the primary feedstock for production of ammonia, which has prompted various producers to cease operations of some facilities further reducing supplies, particularly in Europe where natural gas prices have surged to more than $30 per MMBtu, rendering some ammonia plants uneconomical to operate.
As a result of these factors discussed above, we have experienced a price rally for fertilizers during 2021, and we expect these price levels will continue into the 2022 spring planting season.
Industrial and Mining
Our industrial products sales volumes are dependent upon general economic conditions primarily in the housi ng, automotive, and paper industries. According to the American Chemistry Council, the U.S. economic indicators are improving and pointing towards continued improvement in the markets we serve. Our sales prices generally vary with the market price of ammonia or natural gas, as applicable, in our pricing arrangements with customers. See discussion above concerning a new long-term nitric acid supply contract under “Business Developments-2021.”
Our mining products are LDAN and AN solution, which are primary used as AN fuel oil and specialty emulsions for usage in the quarry and the construction industries, for metals mining, and to a lesser extent, for coal. In our mining markets, our sales volumes are typically driven by changes in the overall North American consumption levels of mining products that can be impacted by weather. Demand for our mining products continues to improve as quarry and construction activity has been elevated due to robust levels of residential, commercial and civil infrastructure buildout along with strong demand for precious metals, including expectations for rising copper production to support the growing domestic production of electric vehicles.
Natural Gas Prices
Natural gas is the primary feedstock used to produce nitrogen fertilizers at our manufacturing facilities. In recent years, U.S. natural gas reserves have increased significantly due to, among other factors, advances in extracting shale gas, which has reduced and stabilized natural gas prices, providing North America with a cost advantage over certain imports. As a result, our competitive position and that of other North American nitrogen fertilizer producers has been positively affected.
We historically have purchased natural gas either on the spot market, through forward purchase contracts, or a combination of both and have used forward purchase contracts to lock in pricing for a portion of our natural gas requirements. These forward purchase contracts are generally either fixed-price or index-price, short-term in nature and for a fixed supply quantity. We are able to purchase natural gas at competitive prices due to our connections to large distribution systems and their proximity to interstate pipeline systems. The following table shows the annual volume of natural gas we purchased and the average cost per MMBtu:
2021
2020
Natural gas volumes (MMBtu in millions)
28.3
30.1
Natural gas average cost per MMBtu
$
3.51
$
2.09
Transportation Costs
Costs for transporting nitrogen-based products can be significant relative to their selling price. We continue to evaluate the recent rising costs of rail and truck freight domestically. Since the Magellan ammonia pipeline was permanently shut down in 2020, certain Oklahoma and Texas producers that relied on the pipeline to transport their ammonia are relying on other transportation modes, primarily trucks, but also rail and barge transport. As a result of increases in demand for available trucks to transport ammonia, primarily during the spring and fall planting seasons, higher transportation costs have and could continue to impact our margins, if we were unable to fully pass through these costs to our customers. Additionally, continued truck driver shortages could impact our ability to fulfill customer demand. As a result, we continue to evaluate supply chain efficiencies to reduce or counter the impact of higher logistics costs.
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Key Operational Factors
Facility Reliability
Consistent, reliable and safe operations at our chemical plants are critical to our financial performance and results of operations. The financial effects of planned downtime at our plants, including Turnarounds (primarily associated with our ammonia plants), is mitigated through a diligent planning process that considers the availability of resources to perform the needed maintenance and other factors. Unplanned downtime of our plants typically results in lost contribution margin from lost sales of our products, lost fixed cost absorption from lower production of our products and increased costs related to repairs and maintenance. All Turnarounds result in lost contribution margin from lost sales of our products, lost fixed cost absorption from lower production of our products, and increased costs related to repairs and maintenance, which repair, and maintenance costs are expensed as incurred.
Our Cherokee Facility is currently on a three-year ammonia plant Turnaround cycle completing a planned Turnaround during 2021 with t he next ammonia plant Turnaround planned in the third quarter of 2024.
Our El Dorado and Pryor Facilities are currently on a three-year ammonia plant Turnaround cycle with both currently scheduled for their next ammonia plant Turnarounds in the third quarter of 2022 .
Ammonia Production
Ammonia is the basic product used to produce all of our upgraded products. The ammonia production rates of our plants affect the total cost per ton of each product produced and the overall sales of our products.
Total ammonia production in 2021 was 765,000 tons. For 2022, we are targeting total ammonia production of approximately 780,000 tons to 800,000 tons despite a 30-day Turnaround at our Pryor Facility and a 24-day Turnaround at our El Dorado Facility, which will lower ammonia production during the third quarter by approximately 50,000 tons.
We believe that our focus on continuous improvement in reliability as discussed in key operating initiatives will result in year over year improvement in ammonia production for 2022.
Forward Sales Contracts
We use forward sales of our fertilizer products to optimize our asset utilization, planning process and production scheduling. These sales are made by offering customers the opportunity to purchase product on a forward basis at prices and delivery dates that are agreed upon, with dates typically occurring within 12 months. We use this program to varying degrees during the year depending on market conditions and our view of changing price environments. Fixing the selling prices of our products months in advance of their ultimate delivery to customers typically causes our reported selling prices and margins to differ from spot market prices and margins available at the time of shipment.
Consolidated Results for 2021
Our consolidated net sales for 2021 were $556.2 million compared to $351.3 million for 2020. Our consolidated operating income for 2021 was $101.0 million compared to an operating loss of $15.5 million for 2020. The items affecting our operating results are discussed below and under “Results of Operations.”
Items Affecting Comparability of Results
Selling Prices
Our 2021 average agricultural selling prices for our ammonia, UAN, and HDAN increased 111%, 87% and 46%, respectively, compared to 2020. As discussed above under “Business Developments-2021,” increased demand, higher corn prices and tighter supplies of nitrogen products contributed to the improved pricing.
Our 2021 average industrial selling prices for most of our products were also higher compared to the same period of 2020, primarily driven by the $359 per metric ton increase in the Tampa Ammonia benchmark price, as many of our industrial contracts are indexed to the Tampa Ammonia benchmark price.
Turnaround Activities (2021 only)
When a Turnaround is performed, overall results are negatively impacted. This impact includes lost contribution margin from lost sales, lost fixed cost absorption from lower production, and increased costs associated with repairs and maintenance. The effects of our Turnaround, exclusive of the impacts due to lost ammonia production during the downtime, are shown below:
Turnaround
Turnaround Expense
Estimated Lost Ammonia Production
Facility
2021 Related Period
Downtime
(In Thousands)
(In Tons)
Cherokee
3 rd Quarter
40 days
$
7,976
21,000
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Settlement of Natural Gas Contracts (2021 only)
As discussed above under “Business Developments-2021”, we settled all of our natural gas forward contracts and certain volume purchase commitments and recognized a realized gain of approximately $6.8 million, which is classified as a reduction to cost of sales. As a result of the settlement of these natural gas contracts, we were able to significantly mitigate the impact from lost production, lost sales and higher costs resulting from the impact of the natural gas shortage caused by the February cold weather event.
Change of Control and Special Dividend (2021 only)
As the result of the Exchange Transaction discussed above under “Business Developments-2021” and in Note 2, Eldridge held over 60% of our outstanding shares of common stock on the closing date of the Exchange Transaction. As a result, a change of control (“CoC”) event occurred as defined in certain agreements, including stock-based awards and cash-based awards. As a result, additional expense was recognized due to the CoC event. In addition, pursuant to anti-dilutive terms included in the cash-based awards, the number of units of cash-based awards increased due to the Special Dividend, also resulting in additional expense being recognized. In summary, we recognized approximately $5.0 million in additional expense, of which $1.2 million is classified as cost of sales and $3.8 million is classified as SG&A.
Net Loss on Extinguishments of Debt (2021 only)
As discussed above under “Business Developments-2021” and in Note 5, we redeemed all of the Senior Secured Notes due 2023 and recognized a loss on extinguishment of debt of approximately $20.3 million. Partially offsetting this loss was a gain on extinguishment of debt of $10 million associated with the PPP loan that was fully forgiven by the SBA and lender.
Settlements with Certain Vendors (2020 only)
During 2020, EDC and certain vendors mediated settlements totaling $7.6 million for EDC to recover certain costs associated with our new nitric acid plant at our El Dorado Facility. The construction of this plant was completed and began production in 2016. Of the $7.6 million, approximately $5.7 million is classified as a reduction to cost of sales and approximately $1.9 million is classified as a reduction to PP&E. The recovery amount was applied against the original classification of the underlying costs.
Legal Fees-Leidos
For 2021 and 2020, certain legal fees were approximately $1.9 million and $5.7 million, respectively. These fees relate to claims we are pursuing against Leidos to recover damages and losses associated with the construction of the ammonia plant at the El Dorado Facility as discussed in footnote B of Note 9. Due to the impact from the COVID-19 pandemic, the trial date has been delayed, which resulted in reduced costs in 2021. We are awaiting a new trial date.
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Results of Operations
The following Results of Operations should be read in conjunction with our consolidated financial statements for the years ended December 31, 2021 and 2020 and accompanying notes and the discussions under “Overview” and “Liquidity and Capital Resources” included in this MD&A. You should carefully review and consider the information in the MD&A of our 2020 Form 10-K, filed with the SEC on February 25, 2021, for an understanding of our results of operations and liquidity discussions and analysis comparing 2020 to 2019.
We present the following information about our results of operations. Net sales to unaffiliated customers are reported in the consolidated financial statements and gross profit represents net sales less cost of sales. Net sales are reported on a gross basis with the cost of freight being recorded in cost of sales.
Year Ended December 31, 2021 Compared to Year Ended December 31, 2020
The following table contains certain financial information:
Percentage
2021
2020
Change
Change
(Dollars In Thousands)
Net sales:
Agricultural products
$
264,502
$
180,036
$
84,466
47
%
Industrial and mining products
291,737
171,280
120,457
70
%
Total net sales
$
556,239
$
351,316
$
204,923
58
%
Gross profit:
Adjusted gross profit (1)
217,515
80,960
136,555
169
%
Depreciation and amortization (2)
(68,583
)
(69,500
)
917
(1
)%
Turnaround expense
(9,953
)
(76
)
(9,877
)
Recovery from settlements with certain vendors (3)
—
5,664
(5,664
)
Total gross profit
138,979
17,048
121,931
715
%
Selling, general and administrative expense
38,028
32,084
5,944
19
%
Other (income) expense, net
(97
)
499
(596
)
Operating income (loss)
101,048
(15,535
)
116,583
750
%
Interest expense, net
49,378
51,115
(1,737
)
(3
)%
Net loss on extinguishments of debt
10,259
—
10,259
Non-operating other expense, net
2,422
10
2,412
Benefit for income taxes
(4,556
)
(4,749
)
193
Net income (loss)
$
43,545
$
(61,911
)
$
105,456
(170
)%
Other information:
Gross profit percentage (4)
25.0
%
4.9
%
20.1
%
Adjusted gross profit percentage (4)
39.1
%
23.0
%
16.1
%
Property, plant and equipment expenditures
$
35,128
$
30,471
$
4,657
15
%
(1)
Represents a non-GAAP measure since the amount excludes unallocated depreciation and amortization, Turnaround expenses and a recovery from settlements.
(2)
Represents amount classified as cost of sales.
(3)
See discussion above under “Items Affecting Comparability of Results.”
(4)
As a percentage of total net sales.
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The following tables provide key sales metrics for the agricultural products:
Percentage
Product (tons sold)
2021
2020
Change
Change
UAN
440,270
498,738
(58,468
)
(12
)%
HDAN
265,918
292,679
(26,761
)
(9
)%
Ammonia
70,331
97,367
(27,036
)
(28
)%
Other
13,505
18,024
(4,519
)
(25
)%
Total
790,024
906,808
(116,784
)
(13
)%
Percentage
Gross Average Selling Prices (price per ton)
2021
2020
Change
Change
UAN
$
281
$
150
$
131
87
%
HDAN
$
347
$
237
$
110
46
%
Ammonia
$
485
$
230
$
255
111
%
With respect to sales of industrial and mining products, the following table indicates key operating metrics of our major products:
Percentage
Product (tons sold)
2021
2020
Change
Change
Ammonia
234,258
269,485
(35,227
)
(13
)%
AN, Nitric Acid and Other
442,066
303,787
138,279
46
%
Total
676,324
573,272
103,052
18
%
Tampa Ammonia Benchmark (price per metric ton)
$
592
$
233
$
359
154
%
Net Sales
Agricultural product sales increased driven primarily by higher sales prices for all of our agricultural products partially offset by lower sales volumes of our products resulting from lower production, including ammonia, due to the February 2021 weather event, the completion of a Turnaround at our Cherokee Facility during 2021, and product mix shifts to our industrial and mining products. As discussed above under “Business Developments-2021,” increased demand, higher corn prices, and tighter supplies of nitrogen products contributed to the improved pricing.
Industrial product sales increased primarily from higher sales prices due primarily to higher Tampa Ammonia benchmark pricing and higher nitric acid sales volume due in part to sales beginning in 2021 pursuant to the new long-term nitric acid supply agreement, and product mix shifts. The average Tampa Ammonia pricing was approximately $359 per ton higher compared to the same period in 2020.
Mining products sales improved driven by primarily from increased sales volumes. Demand for our mining products improved as quarry and construction activity has been elevated due to robust levels of residential, commercial and civil infrastructure buildout along with strong demand for precious metals, including expectations for rising copper production to support the growing domestic production of electric vehicles. Also, certain mining sales contracts are linked to natural gas indexes and as the cost of natural gas increases, the pricing for these products increase accordingly.
Gross Profit
As noted in the table above, we recognized a gross profit of $139 million for 2021 compared to $17 million for the same period in 2020, or a $122 million improvement. Overall, our gross profit percentage was 25% for 2021 compared to 5% for 2020. Our adjusted gross profit percentage increased to 39% for 2021 from 23% for 2020.
The increase in gross profit was primarily driven by higher sales prices for our products coupled with an overall increase in sales volume of upgraded industrial and mining products partially offset by lower volumes of our agricultural products. The improvement in gross profit was also partially offset by the net impact of the February weather disruption and overall higher average natural gas costs, which averaged $3.51 per MMBtu for 2021 as compared to $2.09 per MMBtu for 2020 and the impact of the Turnaround completed at our Cherokee Facility as discussed above under “Turnaround Activities”. Also, 2020 included settlements with certain vendors resulting in a recovery of approximately $5.7 million.
35
Selling, General and Administrative
Our SG&A expenses were $38.0 million for 2021, an increase of $5.9 million compared to 2020. The net increase was primarily driven by approximately $3.8 million of expense due to CoC and anti-dilutive provisions included in certain agreements as discussed above under “Change of Control and Special Dividend.”, approximately $5.4 million associated with short and long-term compensation incentives and other payroll related costs partially offset by lower professional fees of $4.0 million.
Interest Expense, net
Interest expense for 2021 was $49.4 million compared to $51.1 million for 2020. The decrease relates primarily to the interest expense incurred in 2020 associated with a litigation judgment discussed in footnote (B) of Note 9.
Net loss on Extinguishments of Debt
As discussed above under “Business Developments-2021” and in Note 5, during 2021, we redeemed all of the Senior Secured Notes due 2023 and recognized a loss on extinguishment of debt of approximately $20.3 million. Partially offsetting this loss was a gain on extinguishment of debt of $10 million associated with the PPP loan that was fully forgiven by the SBA and lender.
Non-operating Other Expense (Income), net
Non-operating other expense for 2021 was $2.4 million (minimal for 2020). This change primarily relates to the change in fair value of the embedded derivative included in the Series E Redeemable Preferred prior to its extinguishment through the completion of the Exchange Transaction discussed above under “Business Developments-2021”.
Benefit for Income Taxes
The benefit for income taxes for 2021 was $4.6 million compared to $4.7 million for 2020. The resulting effective tax rate for 2021 was (11.7)% on pre-tax income compared to 7.1% for 2020 on pre-tax loss. For 2021, the negative effective tax rate on pre-tax income was driven by the benefit from the exclusion of PPP Loan forgiveness income from taxable income, tax credits, and the impact of adjustments made to valuation allowances, partially offset by the impact of state law changes. For 2020, the effective tax rate was impacted by adjustments made to our valuation allowances. Also see discussion in Note 8.
36
LIQUIDITY AND CAPITAL RESOURCES
The following table summarizes our cash flow activities for 2021 and 2020:
2021
2020
Change
(In Thousands)
Net cash flows from operating activities
$
87,627
$
(2,513
)
$
90,140
Net cash flows from investing activities
$
(34,694
)
$
(28,426
)
$
(6,268
)
Net cash flows from financing activities
$
12,947
$
24,412
$
(11,465
)
Net Cash Flow from Operating Activities
Net cash provided by operating activities was $87.6 million for 2021 compared to net cash used of $2.5 million for 2020, a change of $90.1 million.
For 2021, net cash provided is the result of a net income of $43.5 million plus adjustments of $68.7 million for depreciation and amortization of PP&E, net loss on extinguishments of debt of $10.3 and other adjustments of $8.4 million and net cash used of $43.3 million primarily from our working capital, including accounts receivable.
For 2020, net cash provided is the result of a net loss of $61.9 million plus adjustments of $69.6 million for depreciation and amortization of PP&E, and other adjustments of $9.4 million less an adjustment of $4.8 million for deferred taxes and net cash used of approximately $14.8 million primarily from our working capital, including accounts payable, accounts receivable and prepaid deposits.
Net Cash Flow from Investing Activities
Net cash used by investing activities was $34.7 million for 2021 compared to $28.4 million for 2020, a change of $6.3 million.
For 2021 and 2020, net cash used relates primarily to expenditures for PP&E.
Net Cash Flow from Financing Activities
Net cash provided by financing activities was $12.9 million for 2021 compared to $24.4 million for 2020, a change of $11.5 million.
For 2021, net cash provided primarily consists of proceeds of $500 million from the New Notes, $16.7 million from insurance premium short-term financing partially offset by $435 million redemption of the Old Notes, payments of debt-related costs of $27.3 million, payments on other long-term debt and short-term financing of $28.0 million, payments of costs of $7.4 million related to the Exchange Transaction, and payments of $6.1 million for other financing activities.
For 2020, net cash provided primarily consists of proceeds of $57.2 million from other long-term debt and insurance premium short-term financing partially offset by payments on other long-term debt and short-term financing of $32.3 million and payments of $0.5 million for other financing activities.
37
Capitalization
The following is our total current cash, long-term debt and stockholders’ equity:
December 31,
2021
2020
(In Millions)
Cash and cash equivalents
$
82.1
$
16.3
Revolving credit facility and long-term debt:
Working Capital Revolver Loan
—
—
Senior Secured Notes due 2028 (1)
500.0
—
Senior Secured Notes due 2023 (1)
—
435.0
Secured Financing due 2023
7.7
10.7
Secured Loan Agreement due 2025
5.3
6.8
Secured Financing Agreement due 2025
24.0
28.6
Unsecured Loan Agreement due 2022 (1)
—
10.0
Secured Promissory Note due 2021
—
1.2
Other
0.3
0.5
Unamortized discount and debt issuance costs
(9.7
)
(8.6
)
Total long-term debt, including current portion, net
527.6
$
484.2
Series E and F redeemable preferred stock (2)
—
$
272.1
Total stockholders' equity
460.5
$
149.6
(1)
See discussions above under “Business Developments-2021 relating to the debt agreement.
(2)
See discussion above under “Business Developments-2021” and Note 2 relating to the Exchange Transaction associated with the Series E and Series F redeemable preferred stock.
We currently have a revolving credit facility, our Working Capital Revolver Loan, with a borrowing base of $65 million. As of December 31, 2021, our Working Capital Revolver Loan was undrawn and had approximately $61.3 million of availability.
In connection with the implementation of our strategy, we may pursue acquisitions of strategic assets or companies (including through mergers), or additional investment in our production capacity, for which we may require additional funds. We may choose to finance any of the foregoing through the incurrence of additional indebtedness (including through loans or the issuance of debt securities) [or the issuance of equity], in each case subject to market conditions.
We expect capital expenditures to be approximately $65 million for 2022, which includes approximately $15 million for margin enhancement projects. The remaining capital spending is planned for reliability and maintenance capital projects.
We believe that the combination of our cash on hand, the availability on our revolving credit facility, and our cash flow from operations will be sufficient to fund our anticipated liquidity needs for the next twelve months.
Compliance with Long - Term Debt Covenants
As discussed below under “Loan Agreements,” the Working Capital Revolver Loan requires, among other things, that we meet certain financial covenants. The Working Capital Revolver Loan does not include financial covenant requirements unless a defined covenant trigger event has occurred and is continuing. As of December 31, 2021, no trigger event had occurred.
Loan Agreements
Senior Secured Notes due 2028 – LSB has $500 million aggregate principal amount of the 6.25% Senior Secured Notes outstanding, as discussed in footnote (B) of Note 7. Interest is to be paid semiannually on May 15 th and October 15 th . Due to the redemption of the Old Notes, our interest expense is expected to decrease as compared to 2021.
Secured Financing due 2023 – EDC is party to a secured financing arrangement with an affiliate of LSB Funding. Principal and interest are payable in 48 equal monthly installments with a final balloon payment of approximately $3 million due in June 2023.
Secured Loan Agreement due 2025 - EDC is party to a secured loan agreement with an affiliate of LSB Funding. Principal and interest are payable in 60 equal monthly installments through March 2025.
Secured Financing Agreement due 2025 – EDA is party to a secured financing agreement with an affiliate of LSB Funding. Principal and interest are payable in 60 equal monthly installments with a final balloon payment of approximately $5 million due in August 2025.
38
Working Capital Revolver Loan – At December 31, 2021, the Working Capital Revolver Loan was undrawn and the net credit available for borrowings under our Working Capital Revolver Loan was approximately $61.3 million, based on our eligible collateral, less outstanding standby letters of credit as of that date . Also see discussion above under “Compliance with Long-Term Debt Covenants .
Capital Expenditures – 2021
For 2021, capital expenditures relating to PP&E were $35.1 million, which expenditures include approximately $0.6 million associated with maintaining compliance with environmental laws, regulations and guidelines. The capital expenditures were funded primarily from cash and working capital.
See discussion above under “Capitalization” for our expected annual capital expenditures for 2022.
Expenses Associated with Environmental Regulatory Compliance
We are subject to numerous federal, state and local laws and regulations, including matters regarding environmental, health and safety matters. As a result, we incurred expenses of $3.4 million in 2021 in connection with environmental projects. For 2022, we expect to incur expenses ranging from $3.8 million to $4.2 million in connection with additional environmental projects. However, it is possible that the actual costs could be significantly different than our estimates.
Dividends
See discussions above under “Business Developments-2021” and Notes 1 and 2 regarding the common stock Special Dividend.
We have not paid cash dividends on our outstanding common stock in many years, and we do not currently anticipate paying cash dividends on our outstanding common stock in the near future.
See discussion under Notes 12 and 14 regarding the conversion and payment of the accumulated dividends during 2021 relating to the Series D 6% cumulative convertible Class C preferred stock (the “Series D Preferred”) and Series B 12% cumulative convertible Class C Preferred Stock (the “Series B Preferred”).
Seasonality
We believe fertilizer products sold to the agricultural industry are seasonal while sales into the industrial and mining sectors generally are less susceptible. The selling seasons for agricultural products are primarily during the spring and fall planting seasons, which typically extend from March through June and from September through November in the geographical markets we distribute the majority of our agricultural products. As a result, we typically increase our inventory of fertilizer products prior to the beginning of each planting season in order to meet the demand for our products. In addition, the amount and timing of sales to the agricultural markets depend upon weather conditions and other circumstances beyond our control.
Performance and Payment Bonds
We are contingently liable to sureties in respect of insurance bonds issued by the sureties in connection with certain contracts entered into by subsidiaries in the normal course of business. These insurance bonds primarily represent guarantees of future performance of our subsidiaries. As of December 31, 2021, we have agreed to indemnify the sureties for payments, up to $9.7 million, made by them in respect of such bonds. All of these insurance bonds are expected to expire or be renewed in 2022.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of Regulation S-K under the Securities Exchange Act of 1934.
39
Aggregate Contractual Obligations
As of December 31, 2021, our aggregate contractual obligations are summarized in the following table:
Payments Due in the Year Ending December 31,
Contractual Obligations
Total
2022
2023
2024
2025
2026
Thereafter
(In Thousands)
Long-term debt:
Senior Secured Notes
$
500,000
$
—
$
—
$
—
$
—
$
—
$
500,000
Other
37,366
9,454
10,900
7,427
9,585
—
—
Total long-term debt
537,366
9,454
10,900
7,427
9,585
—
500,000
Interest payments on long-term debt (1)
225,326
34,195
33,225
32,464
31,692
31,250
62,500
Capital expenditures (2)
64,500
64,500
—
—
—
—
—
Operating leases
32,258
9,692
7,989
6,298
3,736
2,543
2,000
Firm purchase commitments
24,553
24,553
—
—
—
—
—
Natural gas pipeline commitment (3)
3,060
720
720
720
720
180
—
Other contractual obligations
11,617
3,238
2,388
2,388
1,258
1,258
1,087
Other contractual obligations included in
noncurrent accrued and other liabilities (4)
2,500
—
2,500
—
—
—
—
Total
$
901,180
$
146,352
$
57,722
$
49,297
$
46,991
$
35,231
$
565,587
(1)
The estimated interest payments are based on interest rates at December 31, 2021, which debt is all fixed interest rate debt.
(2)
Capital expenditures include only the budgeted amounts at December 31, 2021.
(3)
Our proportionate share of the minimum costs to ensure capacity relating to a gathering and pipeline system.
(4)
The future cash flows relating to the death benefit is based on estimates at December 31, 2021.
40
New Accounting Pronouncements
Refer to Note 1 for recently adopted and issued accounting standards.
Critical Accounting Policies and Estimates
The preparation of financial statements requires management to make estimates and assumptions that affect the reported amount of assets, liabilities, revenues and expenses, and disclosures of contingencies and fair values. It is reasonably possible that the estimates and assumptions utilized as of December 31, 2021, could change in the near term. The more critical areas of financial reporting affected by management's judgment, estimates and assumptions include the following:
Contingencies – Certain conditions may exist which may result in a loss, but which will only be resolved when future events occur. We and our legal counsel assess such contingent liabilities, and such assessment inherently involves an exercise of judgment. If the assessment of a contingency indicates that it is probable that a loss has been incurred, we would accrue for such contingent losses when such losses can be reasonably estimated. If the assessment indicates that a potentially material loss contingency is not probable but reasonably possible, or is probable but cannot be estimated, the nature of the contingent liability, together with an estimate of the range of possible loss if determinable and material, would be disclosed. Estimates of potential legal fees and other directly related costs associated with contingencies are not accrued but rather are expensed as incurred. Loss contingency liabilities are included in current and noncurrent accrued and other liabilities and are based on current estimates that may be revised in the near term. In addition, we recognize contingent gains when such gains are realized or realizable and earned.
We are involved in various legal matters that require management to make estimates and assumptions as discussed in Note 9.
It is reasonably possible that the actual costs could be significantly different than our estimates.
Regulatory Compliance – As discussed under “Government Laws and Regulations” in Item 1 of this report, we are subject to numerous federal, state, and local laws and regulations, including matters regarding environmental, health and safety matters. We have developed policies and procedures related to regulatory compliance. We must continually monitor whether we have maintained compliance with such laws and regulations and the operating implications, if any, and amount of penalties, fines and assessments that may result from noncompliance. We will also be obligated to manage certain discharge water outlets and monitor groundwater contaminants at our chemical facilities should we discontinue the operations of a facility. However, certain conditions exist which may result in a loss, but which will only be resolved when future events occur relating to these matters. We are involved in various environmental matters that require management to make estimates and assumptions, including matters discussed under footnote A of Note 9. At December 31, 2021 and 2020, liabilities totaling $0.5 million have been accrued relating to these matters. It is also reasonably possible that the estimates and assumptions utilized as of December 31, 2021 could change in the near term. Actual results could differ materially from these estimates and judgments, as additional information becomes known.
Income Tax – As discussed under “Income Taxes” in Note 1 and in Note 8, income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those differences are expected to be recovered or settled. We establish valuation allowances if we believe it is more-likely-than-not that some or all of deferred tax assets will not be realized. Significant judgment is applied in evaluating the need for and the magnitude of appropriate valuation allowances against deferred tax assets. At December 31, 2021 and 2020, our valuation allowance on deferred tax assets was $47.0 million and $64.7 million, respectively.
Series E and Series F Redeemable Preferred - As discussed in Note 1, the Series E and Series F Redeemable Preferred Stocks, prior to their redemption as discussed in Note 2, were redeemable outside our control and therefore were historically classified as temporary/mezzanine equity. These redeemable preferred stocks were recorded at fair value upon issuance, net of issuance costs or discounts. In addition, certain embedded features included in the Series E Redeemable Preferred required bifurcation and were classified as derivative liabilities. The carrying values of the redeemable preferred stocks were being increased by periodic accretions (including the amount for dividends earned but not yet declared or paid) using the interest method so that the carrying amount would equal the redemption value as of the earliest possible redemption date by the holder (October 25, 2023). The accretion was recorded to retained earnings.
As discussed in Note 2, in July 2021, we entered into the Exchange Agreement with the Holder, an affiliate of Eldridge, which Exchange Agreement was voted on and approved by our stockholders at the Special Meeting held in September 2021. Pursuant to the terms of the Exchange Agreement, the Holder exchanged all of the shares of the Series E and Series F Redeemable Preferred into our common stock based on the Liquidation Preference and an exchange price of $6.16, which is equal to the 30-day volume weighted average price as of the date of the Exchange Agreement. The Liquidation Preference primarily consists of $1,000 per share of Series E Redeemable Preferred plus accrued and unpaid dividends plus the participation rights value. However, the exchange consideration paid under the Exchange Agreement would be reduced by approximately 1.2 million shares, which shares were included in the Special Dividend and received by the Holder.
41
On September 27, 2021, the closing of the Exchange Agreement occurred, and the Exchange Transaction was consummated. Pursuant to the terms of the Exchange Agreement, the Holder exchanged all of the shares of the Series E and Series F Redeemable Preferred for approximately 49.1 million shares of our common stock.
The total fair value of the approximately 49.1 million shares of common stock issued was approximately $531.1 million (based on the average per share price on the date of closing). The fair value of the common stock issued was in excess of the Ser ies E and Series F Redeemable Preferred carrying amount, net of the bifurcated embedded derivative and unamortized issuance costs, by approximately $231.8 million and is treated as a deemed dividend. Because we were in an accumulated deficit position on the closing date, the deemed dividend was charged to capital in excess of par value .