Construction Partners, Inc. 10-Q

Item 3. Quantitative and Qualitative Disclosures About Market Risk. Commodity Price Risk We are subject to commodity price risk with respect to price changes in liquid asphalt and energy, including fossil fuels and electricity for aggregates and HMA production, natural gas for HMA production and fuel for distribution vehicles and production-related mobile equipment. In order to manage or reduce commodity price risk, we monitor the costs of these commodities at the time of bid and price them into our contracts accordingly. Furthermore, liquid asphalt escalator provisions in most of our public contracts, and in some of our private and commercial contracts, limit our exposure to price fluctuations in this commodity. In addition, we enter into various firm purchase commitments, with terms generally less than 18 months, for certain raw materials. Our risk management activities also include the use of financial derivative instruments. We have entered into fuel swap and natural gas swap contracts to mitigate the financial impact of fluctuations in commodity prices. We do not enter into commodity swap contracts for speculative or trading purposes. These fuel and natural gas swap contracts provide a fixed price for less than 50% of our estimated fuel and natural gas usage for the remainder of fiscal year 2023 and part of fiscal year 2024. The table below provides information about the Company’s swap contracts that are sensitive to changes in commodity prices, specifically fuel and natural gas, as of December 31, 2022 (unaudited). Carrying Amount Fair Value Fuel swap contracts (1) Contract volumes (1,000 gallons) 2,688 Weighted average price (per gallon) $ 2.87 Contract amount (in thousands) $ 316 $ 316 Natural gas swap contracts (1) Contract volumes (1,000 MMBTU) 820 Weighted average price (per MMBTU) $ 5.99 Contract amount (in thousands) $ (797) $ (797) (1) See also Note 15 - Investment in Derivative Instruments and Note 16 - Fair Value Measurements to the unaudited consolidated financial statements included elsewhere in this report. Interest Rate Risk We are exposed to interest rate risk on certain of our short- and long-term debt obligations used to finance our operations and acquisitions. We have SOFR-based floating rate borrowings under the Credit Agreement, which expose us to variability in interest payments due to changes in the reference interest rates. From time to time, we use derivative instruments as hedges against the impact of interest rate changes on future earnings and cash flows. We do not enter into such derivative instruments for speculative or trading purposes. At December 31, 2022, we had a total of $426.9 million of variable rate borrowings outstanding. Holding other factors constant and absent the interest rate swap agreements described above, a hypothetical 1% change in our borrowing rates would result in a $4.3 million change in our annual interest expense based on our variable rate debt at December 31, 2022. The following table presents the future principal payment obligations, interest payments, and fair values associated with the Company’s debt instruments assuming the Company’s actual level of variable rate debt as of December 31, 2022 (unaudited, in thousands). For the Fiscal Year Ending September 30, Fair 2023 2024 2025 2026 2027 Total Value Debt obligations Term Loan Principal Payments $ 9,375 $ 13,438 $ 17,188 $ 20,625 $ 208,125 $ 268,750 $ 268,750 Revolving Credit Facility Principal Payments — — — — 158,100 158,100 158,100 Interest payments (1) 18,864 24,489 23,652 22,504 16,075 (1) Represents projected interest payments using the Company’s December 2022 SOFR-based floating rate of 5.94 per annum%. The notional amount of the Company’s outstanding interest rate swap contract at December 31, 2022 was $300.0 million. The maturity date of this swap is June 30, 2027, and the fair value of the outstanding swap contract was $23.4 million as of December 31, 2022. See 31 Table of Contents also Note 15 - Investment in Derivative Instruments and Note 16 - Fair Value Measurements to the unaudited consolidated financial statements included elsewhere in this report. Inflation Risk We are subject to the effects of inflation through wage pressures, increases in the cost of raw materials used to produce HMA, and increases in other items, such as fuel, concrete and steel. During the quarter ended December 31, 2022, we continued to experience increased costs in several of these inflation-sensitive items. We seek to recover increasing costs by obtaining higher prices for our products or by including the anticipated price increases in our bids. Due to the relatively short-term duration of our construction contracts, we are generally able to reduce our exposure to price increases on new contracts, but we are limited in our ability to pass through increased costs for projects already in our backlog. Going forward, continued cost inflation in these areas may require further price adjustments to maintain profit margin, and any price increases may have a negative effect on demand.