Attached files

file filename
EX-32 - EX-32 - Heron Lake BioEnergy, LLCa11-7962_1ex32.htm
EX-31.2 - EX-31.2 - Heron Lake BioEnergy, LLCa11-7962_1ex31d2.htm
EX-31.1 - EX-31.1 - Heron Lake BioEnergy, LLCa11-7962_1ex31d1.htm

Table of Contents

 

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

x      Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934.

 

For the fiscal quarter ended January 31, 2011

 

OR

 

o         Transition report under Section 13 or 15(d) of the Exchange Act.

 

For the transition period from                    to                  .

 

COMMISSION FILE NUMBER 000-51825

 

HERON LAKE BIOENERGY, LLC

(Exact name of Registrant as specified in its charter)

 

Minnesota

 

41-2002393

(State or other jurisdiction of organization)

 

(I.R.S. Employer Identification No.)

 

91246 390th Avenue, Heron Lake, MN 56137-1375

(Address of principal executive offices)

 

(507) 793-0077

(Issuer’s telephone number)

 

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

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  o   Yes   o  No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

 

 

 

Non-accelerated filer x

 

Smaller reporting company o

(Do not check if a smaller reporting company)

 

 

 

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

 

As of March 15, 2011, there were 30,208,074 Class A units outstanding.

 

 

 




Table of Contents

 

PART I.  FINANCIAL INFORMATION

 

Item 1.  Financial Statements

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Condensed Consolidated Balance Sheets

 

 

 

January 31,

 

October 31,

 

 

 

2011

 

2010*

 

 

 

(Unaudited)

 

 

 

ASSETS

 

 

 

 

 

Current Assets

 

 

 

 

 

Cash and equivalents

 

$

745,106

 

$

1,523,318

 

Restricted cash

 

452,031

 

572,224

 

Marketable securites restricted

 

650,000

 

400,000

 

Accounts receivable

 

6,192,605

 

5,017,229

 

Inventory

 

9,334,261

 

10,637,023

 

Derivative instruments

 

121,875

 

 

Prepaid expenses

 

424,010

 

104,519

 

Total current assets

 

17,919,888

 

18,254,313

 

 

 

 

 

 

 

Property and equipment

 

 

 

 

 

Land and improvements

 

12,208,498

 

12,208,498

 

Plant buildings and equipment

 

94,490,498

 

94,480,582

 

Vehicles and other equipment

 

631,433

 

620,788

 

Office buildings and equipment

 

605,431

 

605,431

 

 

 

107,935,860

 

107,915,299

 

Less accumulated depreciation

 

(19,476,612

)

(18,111,652

)

 

 

88,459,248

 

89,803,647

 

 

 

 

 

 

 

Other Assets

 

 

 

 

 

Restricted cash

 

313,229

 

395,982

 

Other intangibles, net

 

442,551

 

451,643

 

Debt service deposits and other

 

649,998

 

634,992

 

Total other assets

 

1,405,778

 

1,482,617

 

 

 

 

 

 

 

Total Assets

 

$

107,784,914

 

$

109,540,577

 

 

See Notes to Condensed Consolidated Financial Statements

 


* Derived from audited financial statements

 

1



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Condensed Consolidated Balance Sheets

 

 

 

January 31,

 

October 31,

 

 

 

2011

 

2010*

 

 

 

(Unaudited)

 

 

 

LIABILITIES AND MEMBERS’ EQUITY

 

 

 

 

 

Current Liabilities

 

 

 

 

 

Checks written in excess of bank balance

 

$

 

$

913,492

 

Line of credit

 

4,500,000

 

3,500,000

 

Current maturities of long-term debt

 

49,759,239

 

50,830,571

 

Accounts payable:

 

 

 

 

 

Trade accounts payable

 

975,841

 

2,852,083

 

Trade accounts payable — related party

 

493,135

 

955,137

 

Accrued expenses

 

926,454

 

881,215

 

Accrued losses on forward contracts

 

65,897

 

707

 

Derivative instruments

 

 

101,388

 

Total current liabilities

 

56,720,566

 

60,034,593

 

 

 

 

 

 

 

Long-Term Debt, net of current maturities

 

3,950,157

 

4,068,716

 

 

 

 

 

 

 

Commitments and Contingencies

 

 

 

 

 

 

 

 

 

 

 

Members’ Equity, 30,208,074 Class A units issued and outstanding at January 31, 2011 and October 31, 2010

 

47,114,191

 

45,437,268

 

 

 

 

 

 

 

Total Liabilities and Members’ Equity

 

$

107,784,914

 

$

109,540,577

 

 

See Notes to Condensed Consolidated Financial Statements

 


*        Derived from audited financial statements

 

2



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Condensed Consolidated Statements of Operations

 

 

 

Three Months
Ended January 31,

 

Three Months
Ended January 31,

 

 

 

2011

 

2010

 

 

 

(Unaudited)

 

(Unaudited)

 

 

 

 

 

 

 

Revenues

 

$

39,199,181

 

$

29,413,131

 

 

 

 

 

 

 

Cost of Goods Sold

 

 

 

 

 

Cost of goods sold

 

35,654,718

 

24,228,820

 

Lower of cost or market adjustment`

 

318,218

 

632,899

 

Total Cost of Goods Sold

 

35,972,936

 

24,861,719

 

 

 

 

 

 

 

Gross Profit

 

3,226,245

 

4,551,412

 

 

 

 

 

 

 

Selling, General, and Administrative Expenses

 

(695,768

)

(1,011,574

)

 

 

 

 

 

 

Operating Income

 

2,530,477

 

3,539,838

 

 

 

 

 

 

 

Other Income (Expense)

 

 

 

 

 

Interest income

 

17,716

 

14,254

 

Interest expense

 

(900,496

)

(941,340

)

Other income

 

29,226

 

5,410

 

Total other expense, net

 

(853,554

)

(921,676

)

 

 

 

 

 

 

Net Income

 

$

1,676,923

 

$

2,618,162

 

 

 

 

 

 

 

Net Income Per Unit - Basic and Diluted

 

$

0.06

 

$

0.10

 

 

 

 

 

 

 

Weighted Average Units Outstanding - Basic and Diluted

 

30,208,074

 

27,104,625

 

 

See Notes to Condensed Consolidated Financial Statements

 

3



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Condensed Consolidated Statements of Cash Flows

 

 

 

Three Months
Ended January 31,

 

Three Months
Ended January 31,

 

 

 

2011

 

2010

 

 

 

(Unaudited)

 

(Unaudited)

 

 

 

 

 

 

 

Operating Activities

 

 

 

 

 

Net income

 

$

1,676,923

 

$

2,618,162

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

1,374,052

 

1,411,529

 

Lower of cost or market adjustments

 

318,218

 

632,899

 

Change in fair value of derivative instruments

 

83,317

 

 

Change in operating assets and liabilities:

 

 

 

 

 

Restricted cash

 

(129,807

)

(1,279

)

Accounts receivable

 

(1,175,376

)

176,390

 

Inventory

 

1,302,762

 

(4,210,983

)

Derivative instruments

 

(306,580

)

 

Prepaid expenses and other

 

(334,497

)

(277,330

)

Accounts payable

 

(2,338,244

)

(390,101

)

Accrued expenses

 

45,239

 

(46,966

)

Accrued loss on forward contracts

 

(253,028

)

(1,249,285

)

Net cash provided (used in) operating activities

 

262,979

 

(1,336,964

)

 

 

 

 

 

 

Investing Activities

 

 

 

 

 

Capital expenditures

 

(20,561

)

(26,873

)

Net cash used in investing activities

 

(20,561

)

(26,873

)

 

 

 

 

 

 

Financing Activities

 

 

 

 

 

Checks written in excess of bank balance

 

(913,492

)

 

Proceeds from line of credit, net

 

1,000,000

 

 

Payments of long-term debt

 

(1,189,891

)

(1,181,516

)

Release of restricted cash

 

82,753

 

79,365

 

Net cash used in financing activities

 

(1,020,630

)

(1,102,151

)

 

 

 

 

 

 

Net decrease in cash and equivalents

 

(778,212

)

(2,465,988

)

 

 

 

 

 

 

Cash and Equivalents — Beginning of Period

 

1,523,318

 

3,184,074

 

 

 

 

 

 

 

Cash and Equivalents — End of Period

 

$

745,106

 

$

718,086

 

Supplemental Cash Flow Information

 

 

 

 

 

Total interest paid

 

$

840,571

 

$

894,574

 

 

Notes to Condensed Consolidated Financial Statements are an integral part of these Statements.

 

4



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

1.              SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

The accompanying unaudited condensed consolidated interim financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted as permitted by such rules and regulations. These financial statements and related notes should be read in conjunction with the financial statements and notes thereto included in the Company’s audited financial statements for the year ended October 31, 2010, contained in the Company’s annual report on Form 10-K.

 

In the opinion of management, the condensed consolidated interim financial statements reflect all adjustments (consisting of normal recurring accruals, with the exception of the adjustments to reduce forward contacts to net realizable value that we consider necessary to present fairly the Company’s results of operations, financial position and cash flows. The results reported in these condensed consolidated interim financial statements should not be regarded as necessarily indicative of results that may be expected for any other quarter or for the fiscal year.

 

Nature of Business

 

The Company owns and operates a 50 million gallon ethanol plant near Heron Lake, Minnesota.  In addition, the Company produces and sells distillers grains with solubles as co-products of ethanol production.

 

Principles of Consolidation

 

The financial statements include the accounts of Heron Lake BioEnergy, LLC and its wholly owned subsidiary, Lakefield Farmers Elevator, LLC, collectively, the “Company.”  All significant intercompany balances and transactions are eliminated in consolidation.

 

Accounting Estimates

 

Management uses estimates and assumptions in preparing these financial statements in accordance with generally accepted accounting principles. Those estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported revenues and expenses.  The Company uses estimates and assumptions in accounting for significant matters including, among others, the analysis of impairment of long-lived assets, and valuation of forward purchase contract commitments and inventory.  The Company periodically reviews estimates and assumptions, and the effects of revisions are reflected in the period in which the revision is made. Actual results could differ from those estimates.

 

Marketable Securities

 

Marketable securities consists of certificates of deposit, with effective maturities of generally one year or less. Management determines the appropriate classification of marketable securities at the time of purchase and reevaluates such designation as of each balance sheet date.

 

Long-Lived Assets

 

The Company reviews property and equipment and other long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable.  Circumstances which could trigger a review include, but are not limited to: significant decreases in the market price of the asset; significant adverse changes in the business climate or legal factors; accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of the asset; current period cash flow or operating losses combined with a history of losses or a forecast of continuing losses associated with the use of the assets; and current expectation that the asset will more likely than not be sold or disposed significantly before the end of its estimated useful life.  If circumstances require a long-lived asset be tested for possible impairment, the Company first compares undiscounted cash flows expected to be generated by an asset to the carrying value of the asset. If the carrying value of the long-lived asset is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying value exceeds its fair value. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values and third-party independent appraisals, as considered necessary.

 

5



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

The Company’s ethanol production plant has a stated capacity of 50 million gallons per year.  The carrying value of the Company’s facilities at January 31, 2011 and October 31, 2010 was approximately $88.5 million and $89.8 million, respectively. In accordance with the Company’s policy for evaluating impairment of long-lived assets described above, management has evaluated the recoverability of the facilities based on projected future cash flows from operations over the facilities’ estimated useful lives. Management has determined that the projected future undiscounted cash flows from operations of these facilities exceed their carrying value at January 31, 2011 and October 31, 2010; therefore, no impairment loss was indicated or recognized. In determining the projected future undiscounted cash flows, the Company has made significant assumptions concerning the future viability of the ethanol industry, the future price of corn in relation to the future price of ethanol and the overall demand in relation to production and supply capacity.  Given the uncertainties in the ethanol industry, should management be required to adjust the carrying value of the facilities at some future point in time, the adjustment could be significant and could significantly impact the Company’s financial position and results of operations.  No adjustment has been made to these financial statements for this uncertainty.

 

Fair Value of Financial Instruments

 

The Company adopted guidance for accounting for fair value measurements of financial assets and financial liabilities and for fair value measurements of nonfinancial items that are recognized or disclosed at fair value in the consolidated financial statements on a recurring basis. The Company adopted guidance for fair value measurement related to nonfinancial items that are recognized and disclosed at fair value in the financial statements on a nonrecurring basis. The guidance establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to measurements involving significant unobservable inputs (Level 3 measurements).

 

The three levels of the fair value hierarchy are as follows:

 

·                  Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access at the measurement date.

 

·                  Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.

 

·                  Level 3 inputs are unobservable inputs for the asset or liability.

 

The level in the fair value hierarchy within which a fair measurement in its entirety falls is based on the lowest level input that is significant to the fair value measurement in its entirety.

 

Except for those assets and liabilities which are required by authoritative accounting guidance to be recorded at fair value in our balance sheets, the Company has elected not to record any other assets or liabilities at fair value. No events occurred during the quarters ended January 31, 2011 or October 31, 2010 that required adjustment to the recognized balances of assets or liabilities, which are recorded at fair value on a nonrecurring basis.

 

The carrying value of cash and equivelents, restricted cash, marketable securities, accounts receivable, accounts payable and accrued liabilities approximates fair value due to the short maturity of these instruments. The fair value of long-term debt has been estimated using discounted cash flow analysis based upon the Company’s current incremental borrowing rates for similar types of financing arrangements. The fair value of outstanding debt will fluctuate with changes in applicable interest rates. Fair value will exceed carrying value when the current market interest rate is lower than the interest rate at which the debt was originally issued. The fair value of a company’s debt is a measure of its current value under present market conditions. It does not impact the financial statements under current accounting rules. The Company believes the carrying amount of the revolving term loan and line of credit approximates the fair value.

 

6



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

The Company estimates the fair value of debt based on the difference between the market interest rate and the stated interest rate of the debt.   The carrying amount and the fair value of long-term debt are as follows:

 

 

 

Carrying Amount

 

Fair Value

 

 

 

 

 

 

 

Long-term debt at January 31, 2011

 

$

53,709,396

 

$

50,670,122

 

Long-term debt at October 31, 2010

 

$

54,899,287

 

$

52,885,420

 

 

Environmental Liabilities

 

The Company’s operations are subject to environmental laws and regulations adopted by various governmental entities in the jurisdiction in which it operates.  These laws require the Company to investigate and remediate the effects of the release or disposal of materials at its location.  Accordingly, the Company has adopted policies, practices, and procedures in the areas of pollution control, occupational health, and the production, handling, storage and use of hazardous materials to prevent material environmental or other damage, and to limit the financial liability that could result from such events.  Environmental liabilities are recorded when the liability is probable and the costs can be reasonably estimated.

 

2.            GOING CONCERN

 

The financial statements have been prepared on a going-concern basis, which contemplates the recoverability of assets and the satisfaction of liabilities in the normal course of business.

 

As a result of the Company’s financial performance, the Company violated certain financial covenants under its master loan agreement with AgStar Financial Services, PCA (“AgStar”) at the end of each quarter from January 31, 2009 to October 31, 2010, except the quarter ended July 31, 2010. At October 31, 2010, the Company was out of compliance with the minimum fixed charge coverage ratio covenant of the master loan agreement.  At January 31, 2011, the Company was in compliance with its obligations under the master loan agreement and the amended forbearance agreement and the covenants contained therein. However, the Company anticipates that the owner equity ratio covenant of the master loan agreement will not be met as of the end of fiscal year 2011, unless amended.

 

At January 31, 2009, the Company reclassified the long-term debt related to this agreement to current liabilities because the Company was not in compliance with the minimum working capital requirement. That reclassification remains as of January 31, 2011 because of the actual and anticipated covenant defaults stated above.

 

At January 31, 2011, the Company’s total indebtedness to AgStar was approximately $53.6 million. All of the Company’s assets and real property are subject to security interests and mortgages in favor of AgStar as security for the obligations of the master loan agreement.

 

On July 2, 2010, the Company entered into a forbearance agreement with AgStar by which AgStar agreed it would not declare a default under the master loan agreement or enforce any of the remedies available to it for the period of July 2, 2010 to the earlier of an event of default (as defined under the forbearance agreement) or December 31, 2010.  On December 30, 2010, the Company entered into an amended forbearance agreement with AgStar relating to its covenant violation at October 31, 2010. Under the amended forbearance agreement, AgStar agreed it would not declare a default under the loan documents or enforce any of the remedies available to it for the period of December 30, 2010 to the earlier of an event of default (as defined under the amended forbearance agreement) or March 1, 2011. On December 30, 2010, AgStar also agreed to extend the maturity date of the Company’s line of credit to March 1, 2011. Further, the amended forbearance agreement required the Company to obtain not less than $4.5 million in additional equity investments by March 1, 2011, the proceeds of which would be held in escrow pending the Company and AgStar entering into mutually agreeable amendments to the master loan agreement and related loan documents.  The amended forbearance agreement provides that failure of the Company to meet this requirement would constitute an event of default.

 

7



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

On March 1, 2011, the Company entered into a second amended forbearance agreement with AgStar that extended the forbearance period to the later of (i) April 1, 2011 or (ii) the occurrence of an event of default (as defined under the second amended forbearance agreement), but in any case no later than May 1, 2011. On March 1, 2011, AgStar also agreed to extend the maturity date of the revolving line of credit loan to match the extended forbearance period in the second amended forbearance agreement. In exchange for AgStar agreeing to extend the forbearance period under the second amended forbearance agreement and the maturity date of the revolving line of credit, the Company paid the amount equal to fifty percent (50%) of the deferred interest pursuant to the provisions of section 5.d. of the forbearance agreement, in full satisfaction of the obligation of the Company to pay the deferred interest. By extending the forbearance period under the second amended forbearance agreement, AgStar also extended the date by which the Company must obtain not less than $4.5 million in additional equity investments to the end of the new forbearance period (i.e., no later than May 1, 2011).

 

As of January 31, 2011, $4.5 million was outstanding on the line of credit. The Company intends to seek an extension of the maturity date of its line of credit with AgStar beyond May 1, 2011, but such an extension cannot be assured.  The Company would likely not have adequate cash to repay the amounts outstanding on its line of credit on May 1, 2011, if AgStar did not extend the maturity date.  Further, without an amendment to the owner equity ratio covenant in the master loan agreement, the Company anticipates that it will be in violation of this covenant of the master loan agreement at October 31, 2011.

 

The Company’s failure to comply with its obligations under the second amended forbearance agreement, failure to comply with the covenants of the master loan agreement or its failure to repay the revolving line of credit loan when due would result in an event of default under the master loan agreement, entitling AgStar to accelerate and declare due all amounts outstanding under the master loan agreement.

 

If AgStar exercises its right to accelerate the maturity of the debt outstanding under the master loan agreement, the Company will not have adequate available cash to repay the amounts outstanding.  While an event of default exists, the Company is not permitted to borrow additional funds under its line of credit or revolving term note without AgStar’s consent.

 

These factors raise substantial doubt about the Company’s ability to continue as a going concern.

 

3.              UNCERTAINTIES

 

The Company has certain risks and uncertainties that it experienced during volatile market conditions such as what the Company experienced during fiscal 2010. These volatilities can have a severe impact on operations. The Company’s revenues are derived from the sale and distribution of ethanol and distillers grains to customers primarily located in the U.S. Corn for the production process is supplied to the plant primarily from local agricultural producers.  Ethanol sales average 75% - 85% of total revenues and corn costs average 65% - 75% of cost of goods sold.

 

The Company’s operating and financial performance is largely driven by the prices at which it sells ethanol and the net expense of corn. The price of ethanol is influenced by factors such as supply and demand, the weather, government policies and programs, unleaded gasoline prices and the petroleum markets as a whole. Excess ethanol supply in the market, in particular, puts downward pressure on the price of ethanol. The largest cost of production is corn. The cost of corn is generally impacted by factors such as supply and demand, the weather, government policies and programs, and a risk management program used to protect against the price volatility of these commodities. Market fluctuations in the price of and demand for these products may have a significant adverse effect on the Company’s operations, profitability and the availability and adequacy of cash flow to meet the Company’s working capital requirements.

 

8



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

4.              FAIR VALUE MEASUREMENTS

 

The following table provides information on those assets measured at fair value on a recurring basis.

 

 

 

Fair Value as of

 

Fair Value Measurement Using

 

 

 

January 31, 2011

 

Level 1

 

Level 2

 

Level 3

 

 

 

 

 

 

 

 

 

 

 

Commodity derivative instruments

 

$

121,875

 

$

121,875

 

$

 

$

 

 

 

 

Fair Value as of

 

Fair Value Measurement Using

 

 

 

October 31, 2010

 

Level 1

 

Level 2

 

Level 3

 

 

 

 

 

 

 

 

 

 

 

Commodity derivative instruments

 

$

(101,388

)

$

(101,388

)

$

 

$

 

 

The fair value of derivative instruments is based on quoted market prices in active markets.

 

5.              INVENTORY

 

Inventory consisted of the following at January 31, 2011 and October 31, 2010:

 

 

 

January 31,

 

October 31,

 

 

 

2011

 

2010 *

 

Raw materials

 

$

6,078,947

 

$

5,995,564

 

Work in process

 

1,076,963

 

1,042,844

 

Finished goods

 

1,096,386

 

2,021,672

 

Supplies

 

828,360

 

826,213

 

Other grains

 

253,605

 

750,730

 

Total

 

$

9,334,261

 

$

10,637,023

 

 


*    Derived from audited financial statements

 

The Company recorded no losses related to inventory for the three months ended January 31, 2011 and approximately $58,000 for the three months ended January 31, 2010, for losses recorded on forward purchase contracts as noted in Note 10, where the market value was less than the cost basis, attributable primarily to the volatility in market prices of corn during the quarter. The loss was recorded with the lower of cost or market adjustment in the statement of operations. In addition, the Company stored grain inventory for farmers.  The value of these inventories owned by others is approximately $980,000 and $2,543,000 based on market prices at January 31, 2011 and October 31, 2010, respectively, and is not included in the amounts above.

 

6.              DERIVATIVE INSTRUMENTS

 

As of January 31, 2011, the Company has corn derivative instruments, which are required to be recorded as either assets or liabilities at fair value in the Condensed Consolidated Balance Sheet. Derivatives qualify for treatment as hedges when there is a high correlation between the change in fair value of the derivative instrument and the related change in value of the underlying hedged item and when the Company formally documents, designates, and assesses the effectiveness of transactions that receive hedge accounting initially and on an on-going basis. The Company must designate the hedging instruments based upon the exposure being hedged as a fair value hedge or a cash flow hedge. The Company does not enter into derivative transactions for trading purposes.

 

9



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

The Company enters into corn and ethanol derivatives in order to protect cash flows from fluctuations caused by volatility in commodity prices for periods up to 24 months. These derivatives are put in place to protect gross profit margins from potentially adverse effects of market and price volatility on ethanol sales and corn purchase commitments where the prices are set at a future date. Although these derivative instruments serve the Company’s purpose as an economic hedge, they are not designated as effective hedges for accounting purposes. For derivative instruments that are not accounted for as hedges, or for the ineffective portions of qualifying hedges, the change in fair value is recorded through earnings in the period of change. As of January 31, 2011, the notional amount of the Company’s outstanding derivative instruments was approximately 300,000 bushels that were used to hedge forecasted corn purchases through March 2011.

 

The following tables provide details regarding the Company’s fair value of the derivative instruments at January 31, 2011, none of which are designated as hedging instruments:

 

 

 

Balance Sheet location

 

Assets

 

Liabilities

 

Corn contracts

 

Derivative instruments

 

$

121,875

 

$

 

 

In addition, as of January 31, 2011, the Company had no restricted cash related to margin requirements for the Company’s derivative instrument positions.

 

The following tables provide details regarding the gains and (losses) from the Company’s derivative instruments included in the consolidated statements of operations, none of which are designated as hedging instruments:

 

 

 

Statement of

 

Three-Months Ended January 31,

 

 

 

Operations location

 

2011

 

2010

 

Corn contracts

 

Cost of goods sold

 

$

(166,000

)

$

 

Totals

 

 

 

$

(166,000

)

$

 

 

7.              LINE OF CREDIT

 

Under the master loan agreement, the Company has a revolving line of credit loan with AgStar for a maximum commitment of $6,750,000, subject to a defined borrowing base.  By a series of amendments to the master loan agreement with AgStar, the maturity of the revolving line of credit was extended from its original maturity of November 1, 2009 to June 30, 2010.  On July 2, 2010, as part of a forbearance agreement, the Company and AgStar agreed upon renewal terms for the Company’s line of credit loan with a new maturity date of December 31, 2010 . On December 30, 2010, AgStar renewed its revolving line of credit loan commitment in an aggregate principal amount outstanding at any one time not to exceed $6,750,000 or 75% of certain accounts receivable and inventory amounts, with a maturity date of March 1, 2011.  On March 1, 2011, as part of the second amended forbearance agreement, AgStar extended the maturity date of the revolving line of credit loan to the later of April 1, 2011 or an event of default (as defined under the second amended forbearance agreement), but in any case no later than May 1, 2011.

 

Interest accrues on borrowings at the greater of 6.0% or the one month LIBOR plus 3.25%, which totaled 3.51% at January 31, 2011 and October 31, 2010.  The Company must pay a 0.25% commitment fee on the average daily unused portion of the line of credit.

 

At January 31, 2011 and October 31, 2010, outstanding borrowings on the line of credit were $4.5 million and $3.5 million, respectively. Amounts available under the line of credit are reduced by outstanding standby letters of credit.

 

As described in Note 2, the Company was not in compliance with the fixed charge ratio covenant of the master loan agreement at October 31, 2010.  However, the Company was in compliance with the covenants of its master loan agreement and amended forbearance agreement with AgStar at January 31, 2011.

 

10



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

8.              DEBT FINANCING

 

Debt financing consists of the following:

 

 

 

January 31,

 

October 31,

 

 

 

2011

 

2010*

 

Term note payable to lending institution, see terms below

 

$

47,895,021

 

$

48,967,611

 

 

 

 

 

 

 

Revolving term note to lending institution, see terms below

 

1,155,872

 

1,155,872

 

 

 

 

 

 

 

Assessments payable

 

3,425,085

 

3,431,170

 

 

 

 

 

 

 

Notes payable to electrical company

 

1,199,417

 

1,304,129

 

 

 

 

 

 

 

Equipment note

 

34,001

 

40,505

 

 

 

 

 

 

 

Total

 

53,709,396

 

54,899,287

 

 

 

 

 

 

 

Less amounts due on demand or within one year

 

49,759,239

 

50,830,571

 

 

 

 

 

 

 

Net long term debt

 

$

3,950,157

 

$

4,068,716

 

 


*    Derived from audited financial statements

 

As described in Note 2, the Company anticipates it will not be in compliance with the owner equity ratio covenant of the master loan agreement with AgStar as of October 31, 2011 and has reclassified the long-term portion of the debt with them to current.

 

Term Note

 

Under the master loan agreement with AgStar, the Company has a term note with outstanding indebtedness of $47.9 million and $49.0 million at January 31, 2011 and October 31, 2010, respectively.

 

In May 2008, the Company locked in an interest rate of 6.58% on $45.0 million of the note for three years ending April 30, 2011. The remainder of the amount outstanding on the term note is subject to a variable rate based on LIBOR plus 3.25%, which percentage is subject to reduction based upon the ratio of members’ equity to assets. The Company will make equal monthly payments of principal and interest of approximately $640,000 to amortize the note over a period not to exceed ten years, with a final balloon payment due in October 2012. In addition, the Company is required to make additional payments on the term note from excess cash flow, as defined in the master loan agreement, up to $2.0 million per year to AgStar until the Company reaches a specified financial ratio.

 

As described in Note 2, the Company was not in compliance with the fixed charge ratio covenant of the master loan agreement at October 31, 2010.  However, the Company was in compliance with the covenants of its master loan agreement and amended forbearance agreement with AgStar at January 31, 2011.

 

11



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

Revolving Term Note

 

Under the master loan agreement with AgStar, the Company has a revolving term note for cash and inventory management purposes. The maximum amount available under the revolving term note is reduced each year by $500,000.  As of January 31, 2011 the maximum amount of the revolving term note was $3.5 million. The applicable interest rate on the revolving note is 3.25% above the one month LIBOR rate. The Company accrued an additional 2.0% in default interest on all of its indebtedness to AgStar from February 1, 2010 through July 2, 2010 because of covenant defaults.  The revolving term note will mature on October 1, 2012. The Company pays a commitment fee of 0.35% per annum on the unused portion of the revolving term note.  At January 31, 2011 and October 31, 2010, there was approximately $1.1 million outstanding on the revolving term note.

 

As described in Note 2, the Company was not in compliance with the fixed charge ratio covenant of the master loan agreement at October 31, 2010 and does not anticipate being in compliance as of and for the period ending October 31, 2011.  As such, amounts due under the term note and revolving term note have been classified as current liabilities.  However, the Company was in compliance with the covenants of its master loan agreement with AgStar at January 31, 2011

 

Estimated maturities of long-term debt after reclassification to current at January 31, 2011 are as follows:

 

2010

 

$

49,759,239

 

2011

 

712,514

 

2012

 

366,307

 

2013

 

382,706

 

2014

 

400,197

 

After 2014

 

2,088,433

 

 

 

 

 

Total long-term debt

 

$

53,709,396

 

 

9.             LEASES

 

The Company leases equipment, primarily rail cars, under operating leases through 2017.   Rent expense for the three months ended January 31, 2011 and 2010 was approximately $454,000 and $436,000, respectively.

 

At January 31, 2011, the Company had the following minimum future lease payments, which at inception had non-cancelable terms of more than one year:

 

2012

 

$

1,665,360

 

2013

 

1,620,796

 

2014

 

1,561,308

 

2015

 

1,031,902

 

2016

 

831,600

 

Thereafter

 

1,316,700

 

 

 

 

 

Total lease commitments

 

$

8,027,666

 

 

12



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

10.              COMMITMENTS AND CONTINGENCIES

 

Legal Proceedings

 

Permit Matters

 

The costs associated with obtaining and complying with permits and complying with environmental laws have increased the Company’s costs of construction, production and continued operation. In particular, the Company has incurred significant expense relating to its air-emission permit in four categories: (1) obtaining the air emissions permit from the Minnesota Pollution Control Agency (“MPCA”); (2) compliance with the air emissions permit and the terms of the Company’s compliance agreement with the MPCA; (3) the Company’s dispute under the design-build agreement with Fagen, Inc. relating to equipment failures, warranty claims and other claims regarding air emissions at its plant that was the subject of an arbitration action that was settled on July 2, 2010 as described below; and (4) a March 2008 notice of violation from the MPCA that was resolved in December 2010 though a stipulation agreement.

 

On December 16, 2010, the MPCA issued a permit to the Company that supersedes its previously granted air permit and the compliance agreement.  The permit establishes the applicable limits for each type of emission generated by the Company’s ethanol plant.  The permit also requires the Company to take additional actions relating to its plant and its operations within certain time frames.  The Company expects to incur additional costs to the additional actions required by its permit, as well as improvements to its plant to ensure compliance with its permit.  Under the amended forbearance agreement with AgStar, advances from the Company’s term revolving note may only be used for an engineering and mercury emissions remediation project and may not exceed $1.4 million.

 

On December 16, 2010, the Company entered into a stipulation agreement with the MPCA relating to the March 2008 notice of violation.  Under the stipulation agreement, the Company agreed to pay a civil penalty of $66,000, of which $54,000 was paid within thirty days and up to $12,000 may be satisfied through the Company’s delivery of a building capture efficiency study.

 

While the Company’s air emissions permit issue was resolved with the December 16, 2010 issuance of a new air permit by the MPCA, the Company’s arbitration action against Fagen, Inc. has been settled, and the Company has addressed the notice of violation through a stipulation agreement, the Company anticipates future expense associated with compliance with its air permit and environmental laws.  A violation of environmental laws, regulations or permit conditions can result in substantial fines, natural resource damage, criminal sanctions, permit revocations and/or plant shutdown, any of which could have a material adverse effect on the Company’s operations.

 

Contractual Obligations

 

The following table provides information regarding the consolidated contractual obligations of the Company as of January 31, 2011:

 

 

 

Total

 

Less than
One Year

 

One to Three
Years

 

Three to
Five Years

 

Greater
Than Five
Years

 

Long-term debt obligations (1)

 

$

59,596,879

 

$

46,745,691

 

$

8,901,500

 

$

2,175,819

 

$

1,773,869

 

Operating lease obligations

 

8,027,666

 

1,665,360

 

3,182,104

 

1,863,502

 

1,316,700

 

Purchase obligations (2)

 

22,835,202

 

21,075,450

 

1,759,752

 

 

 

Total contractual obligations

 

$

90,459,747

 

$

69,486,501

 

$

13,843,356

 

$

4,039,321

 

$

3,090,569

 

 


(1)            Long-term debt obligations include estimated interest and interest on unused debt.

(2)            Purchase obligations primarily include forward contracts for corn and coal.

 

13



Table of Contents

 

HERON LAKE BIOENERGY, LLC AND SUBSIDIARY

 

Notes to Condensed Consolidated Financial Statements

 

January 31, 2011 (Unaudited)

 

Forward Contracts

 

The Company has forward contracts in place for corn purchases of approximately $15.8 million through July 2011, which represents approximately 11% of the Company’s anticipated corn purchases for the remainder of fiscal 2011.

 

Currently, some of these corn contract prices are above market prices for corn. Given the recent changing price of corn upon taking delivery under these contracts, the Company would incur a loss. Accordingly, the Company recorded a loss on purchase commitments of approximately $318,000 and $575,000 for the three months ended January 31, 2011 and 2010, respectively.  The loss was recorded as a lower of cost or market adjustment on the statement of operations. The amount of the loss was determined by applying a methodology similar to that used in the lower of cost or market evaluation with respect to inventory. Given the uncertainty of future ethanol prices, this loss may or may not be recovered, and further losses on the outstanding purchase commitments could be recorded in future periods.

 

11.          RELATED PARTY TRANSACTIONS

 

The Company’s purchases of corn from members totaled approximately $9.8 million and $11.8 million during the three months ended January 31, 2011 and 2010, respectively.

 

14



Table of Contents

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

This Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains, in addition to historical information, forward-looking statements that are based on our expectations, beliefs, intentions or future strategies. These statements are subject to risks and uncertainties that could cause actual results to differ materially from the statements because of certain factors, including those set forth under Part I, Item 1A. “Risk Factors” in our Annual Report on Form 10-K for the year ended October 31, 2010, as well as in other filings we make with the Securities and Exchange Commission. All forward-looking statements included herein are based on information available to us as of the date hereof, and we undertake no obligation to update any such forward-looking statements.

 

The following is a discussion and analysis of Heron Lake BioEnergy’s financial condition and results of operations as of and for the three month period ended January 31, 2011 and 2010. This section should be read in conjunction with the condensed consolidated financial statements and related notes in Item 1 of this report and the Company’s Annual Report on Form 10-K for the year ended October 31, 2010.

 

We prepared the following discussion and analysis to help readers better understand our financial condition, changes in our financial condition, and results of operations for the three months ended January 31, 2011.

 

Overview

 

Heron Lake BioEnergy, LLC is a Minnesota limited liability company that was formed for the purpose of constructing and operating a dry mill corn-based ethanol plant near Heron Lake, Minnesota. The plant has a stated capacity to produce 50 million gallons of denatured fuel grade ethanol and 160,000 tons of dried distillers’ grains per year. Our revenues are derived from the sale and distribution of our ethanol and in the sale and distribution of our distillers’ grains.

 

Our operating results are largely driven by the prices at which we sell ethanol and distillers grains and the costs related to their production, particularly the cost of corn. Historically, the price of ethanol tended to fluctuate in the same direction as the price of unleaded gasoline and other petroleum products. However, during fiscal 2010 and continuing into fiscal 2011, ethanol prices tended to move up and down proportionately with changes in corn prices. The price of ethanol can also be influenced by factors such as general economic conditions, concerns over blending capacities, and government policies and programs. The price of distillers grains is generally influenced by supply and demand, the price of substitute livestock feed, such as corn and soybean meal, and other animal feed proteins. Our largest component of and cost of production is corn. The cost of corn is affected primarily by factors over which we lack any control such as crop production, carryout, exports, government policies and programs, and weather. The growth of the ethanol industry has increased the demand for corn. We believe that continuing increase in global demand will result in corn prices above historic averages.  During the first quarter of fiscal year 2011 ended January 31, 2011, the price of ethanol on the Chicago Board of Trade fluctuated from $2.04 to $2.40 per gallon; our average sales price was $2.23 per gallon, with basis.  During the same period, the price of corn on the Chicago Board of Trade fluctuated from a low of $5.07 to a high of $6.67 per bushel; our average purchase price was $5.19 per bushel, with basis.

 

Trends and Uncertainties Impacting Our Operations

 

Our current and future results of operation are affected and will continue to be affected by factors such as (a) volatile and uncertain pricing of ethanol and corn; (b) availability of corn that is, in turn, affected by trends such as corn acreage, weather conditions, and yields on existing and new acreage diverted from other crops; and (c) the supply and demand for ethanol, which is affected by acceptance of ethanol as a substitute for fuel, public perception of the ethanol industry, government incentives and regulation, and competition from new and existing construction, among other things. Other factors that may affect our future results of operation include those factors discussed in “Item 1. Business” of our Annual Report on Form 10-K for the year ended October 31, 2010 and “Part II, Item 1A Risk Factors” of this Form 10-Q.

 

Critical Accounting Estimates

 

A description of our critical accounting estimates was provided in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the year ended October 31, 2010. At January 31, 2011, our critical accounting estimates continue to include those described in our Annual Report on Form 10-K. In addition, our analysis of future projections, resolution of debt terms and other assumptions in consideration of continuing as a going concern include critical accounting estimates.

 

15



Table of Contents

 

Results of Operations

 

The following table shows summary information from our Statement of Operations for the three months ended January 31, 2011 and 2010.

 

 

 

January 31, 2011

 

January 31, 2010

 

Income Statement Data

 

Amount

 

%

 

Amount

 

%

 

Revenues

 

$

39,199,181

 

100.0

 

$

29,413,131

 

100.0

 

 

 

 

 

 

 

 

 

 

 

Cost of Goods Sold

 

 

 

 

 

 

 

 

 

Cost of goods sold

 

35,654,718

 

91.0

 

24,228,820

 

82.3

 

Lower of cost or market adjustment

 

318,218

 

.8

 

632,899

 

2.2

 

Total Cost of Goods Sold

 

35,972,936

 

91.8

 

24,861,719

 

84.5

 

 

 

 

 

 

 

 

 

 

 

Gross Profit

 

3,226,245

 

8.2

 

4,551,412

 

15.5

 

 

 

 

 

 

 

 

 

 

 

Operating Expenses

 

695,768

 

1.7

 

1,011,574

 

3.5

 

 

 

 

 

 

 

 

 

 

 

Operating Income

 

2,530,477

 

6.5

 

3,539,838

 

12.0

 

 

 

 

 

 

 

 

 

 

 

Other Expense, net

 

(853,554

)

(2.2

)

(921,676

)

(3.1

)

 

 

 

 

 

 

 

 

 

 

Net Income

 

$

1,676,923

 

4.3

 

$

2,618,162

 

8.9

 

 

Revenues

 

Revenues, derived from the sale of fuel ethanol and distillers’ grains with solubles (“DGS”) produced at the plant, increased 38.8% for the quarter ended January 31, 2011 as compared to the quarter ended January 31, 2010. Net ethanol revenues during the quarter ended January 31, 2011, were approximately $32.2 million, representing 82% of our sales, compared to approximately $23.7 million during the quarter ended January 31, 2010, representing 81% of our sales. The increase in ethanol revenue was a result of a 12% increase in the gallons of ethanol sold and a 19.2% increase in the average price per gallon of ethanol in the quarter ended January 31, 2011 as compared to the quarter ended January 31, 2010. The main contributing factor to the increase in gallons of ethanol sold is the higher amount of inventory on hand at January 31, 2010 compared to levels at January 31, 2011.  There were no ethanol derivative gains or losses during the quarter ended January 31, 2011 and 2010.

 

Total sales of DGS during the quarter ended January 31, 2011 were approximately $5.1 million comprising 13% of our revenues. DGS sales during the quarter ended January 31, 2010 were $2.5 million or 9% of revenues. The average DGS price increased 45% for the quarter ended January 31, 2011 as compared to the quarter ended January 31, 2010. DGS tonnage sold increased by 39% for the quarter ended January 31, 2011 as compared to the quarter ended January 31, 2010 due to an increase in modified DGS produced.  The remaining percent of revenues is made up of incidental other sales.

 

Cost of Goods Sold

 

Our costs of sales include, among other things, the cost of corn used in ethanol and DGS production (which is the largest component of costs of sales); coal, processing ingredients, electricity, and wages, salaries and benefits of production personnel. We use approximately 1.5 million bushels of corn per month at the plant. We contract with local farmers and elevators for our corn supply.

 

16



Table of Contents

 

Our cost of goods sold (including lower of cost or market adjustments) as a percentage of revenues were 91.8% and 84.5% for the three months ended January 31, 2011 and 2010, respectively. The per bushel cost of corn, including lower of cost or market adjustments, increased approximately 58% in the quarter ended January 31, 2011 as compared to the quarter ended January 31, 2010. This increase caused the increase in the cost of goods sold as a percent of revenues. Cost of goods sold includes lower of cost or market adjustments of approximately $318,000 and $633,000 for the three months ended January 31, 2011 and 2010, respectively, which related to forward purchase contracts and inventory where the fixed price was more than the estimated realizable value.  We had losses related to corn derivative instruments of approximately $166,000 for the quarter ended January 31, 2011, which increased cost of sales. We had no gains or losses related to corn derivative instruments for the three months ended January 31, 2010.  Our gross profit margin for the three months ended January 31, 2011 declined to a profit of 8.2% from a profit of 15.5% for the three months ended January 31, 2010. We had a decreased gross margin in the first quarter of fiscal 2011 as compared to first quarter of fiscal 2010 due to the 58% increase in the cost of corn, including lower of cost or market adjustments, while the price per gallon of ethanol only increased 21%.

 

The cost of corn fluctuates based on supply and demand, which, in turn, is affected by a number of factors which are beyond our control. We expect our gross margin to fluctuate in the future based on the relative prices of corn and fuel ethanol. We use futures and option contracts to minimize our exposure to movements in corn prices, but there is no assurance that these hedging strategies will be effective. At January 31, 2011, none of our contracts were designated as hedges and, as a result, changes to the market value of these contracts were recognized as a gain or loss. As a result, gains or losses on derivative instruments do not necessarily coincide with the related corn purchases. This may cause fluctuations in our statement of operations. While we do not use hedge accounting to match gains or losses on derivative instruments, we believe the derivative instruments provide an economic hedge.

 

Operating Expenses

 

Operating expenses consist of selling, general and administrative expense and include wages, salaries and benefits of administrative employees at the plant, insurance, professional fees and similar costs. These expenses represented 1.7% of total revenues for the three months ended January 31, 2011 and 3.5% of total revenues for the three months ended January 31, 2010.  These expenses generally do not vary with the level of production at the plant.  The decrease in the period included reduced consulting costs, salaries, and environmental related costs.

 

Other Expense, Net

 

Other expenses consisted primarily of interest expense. Interest expense consists primarily of interest payments on our credit facilities described below. Interest expense, which was down approximately 4% for the three months ended January 31, 2011 as compared to the three months ended January 31, 2010, is dependent on the balances outstanding and on interest rate fluctuations. For the three months ended January 31, 2011, debt balances were down approximately 9% as compared to the three months ended January 31, 2010.  Balances on our line of credit decreased from $5.0 million at January 31, 2010 to $4.5 million outstanding at January 31, 2011.

 

Liquidity and Capital Resources

 

As of January 31, 2011, we had cash and cash equivalents (other than restricted cash) of approximately $745,000, current assets of approximately $17.9 million and total assets of approximately $107.8 million.

 

Our principal sources of liquidity consist of cash provided by operations, cash and cash equivalents on hand and historically we have also obtained liquidity through borrowing from AgStar Financials Services, PCA under a master loan agreement.  Under the master loan agreement with AgStar, we have three forms of debt: a term note, a revolving term note and a line of credit.  The total indebtedness to AgStar at January 31, 2011 consists of $47.9 million under the term note, $1.1 million under the revolving term note and $4.5 million under the line of credit.  Among other provisions, our master loan agreement contains covenants requiring us to maintain various financial ratios and tangible net worth. It also limits our annual capital expenditures and member distributions. All of our assets and real property are subject to security interests and mortgages in favor of AgStar as security for the obligations of the master loan agreement.

 

17



Table of Contents

 

As a result of our financial performance, we violated certain financial covenants under our master loan agreement with AgStar at the end of each quarter from January 31, 2009 to October 31, 2010, except the quarter ended July 31, 2010.  However, we were in compliance with the covenants of our master loan agreement and amended forbearance agreement with AgStar at January 31, 2011. Without an amendment to the covenants, we do not expect to be in compliance with the owners equity ratio covenant of the master loan agreement as of October 31, 2011 or January 31, 2012. Therefore, we have classified $43.3 million of the AgStar debt as a current liability that would otherwise be classified as long term. As a result, current liabilities as of January 31, 2011 totaled approximately $56.7 million, including $43.3 million of long-term debt reclassified as current liabilities.

 

Under a forbearance agreement with AgStar dated July 2, 2010, AgStar agreed it would not declare a default under the master loan agreement or enforce any of the remedies available to it for the period of July 2, 2010 to the earlier of an event of default (as defined under the forbearance agreement) or December 31, 2010.  Furthermore, AgStar renewed our revolving line of credit loan effective July 2, 2010 with a maturity date of December 31, 2010 in an aggregate principal amount outstanding at any one time not to exceed $6,750,000. Interest accrues on borrowings at the greater of 6.0% or the one-month LIBOR plus 3.25%.

 

On December 30, 2010, we entered into an amended forbearance agreement with AgStar relating to our financial covenant violation at October 31, 2010. Under that amended forbearance agreement, AgStar agreed it would not declare a default under the loan documents or enforce any of the remedies available to it for the period of December 30, 2010 to the earlier of an event of default (as defined under the amended forbearance agreement) or March 1, 2011. On December 30, 2010, AgStar also agreed to extend the maturity date of our line of credit to March 1, 2011. Further, the amended forbearance agreement required the Company to obtain not less than $4.5 million in additional equity investments by March 1, 2011, the proceeds of which would be held in escrow pending the Company and AgStar entering into mutually agreeable amendments to the master loan agreement and related loan documents.  The amended forbearance agreement provides that failure of the Company to meet this requirement would constitute an event of default.

 

On March 1, 2011, we entered into a second amended forbearance agreement with AgStar that extended the forbearance period to the later of (i) April 1, 2011 or (ii) the occurrence of an event of default (as defined under the second amended forbearance agreement), but in any case no later than May 1, 2011. On March 1, 2011, AgStar also agreed to extend the maturity date of the revolving line of credit loan to match the extended forbearance period in the second amended forbearance agreement. In exchange for AgStar agreeing to extend the forbearance period under the second amended forbearance agreement and the maturity date of the revolving line of credit, the Company paid the amount equal to fifty percent (50%) of the deferred interest pursuant to the provisions of section 5.d. of the forbearance agreement, in full satisfaction of the obligation of the Company to pay the deferred interest.

 

By extending the forbearance period under the second amended forbearance agreement, AgStar also extended the date by which the Company must obtain not less than $4.5 million in additional equity investments to the end of the new forbearance period (i.e., no later than May 1, 2011).

 

On August 20, 2010, the Company commenced a rights offering to its eligible Minnesota-resident unit holders to raise up to $6.8 million in additional capital.  In January of 2011, the Company amended its rights offering to eligible Minnesota-resident unit holders in response to the amended forbearance agreement requirement that the Company obtain not less than $4.5 million in additional equity investments by March 1, 2011.  Under the terms of the amended rights offering, all proceeds would be held in escrow until the Company obtained not less than $4.5 million in additional equity investments in accordance with the amended forbearance agreement.  If the Company did not meet this requirement by March 1, 2011, all proceeds in escrow would be returned to any subscribers in the amended rights offering.

 

While the second amended forbearance agreement extended the date by which the Company must obtain not less than $4.5 million in additional equity investments to no later than May 1, 2011, the escrow condition in the amended rights offering was not met by March 1, 2011.  Therefore, the Company has terminated the amended rights offering to its members and all proceeds of the amended rights offering in escrow will be returned to the subscribers.

 

The fact that the Company did not meet the rights offering escrow condition or that it terminated the rights offering does not mean the Company has abandoned its efforts to raise additional capital or is in default of its agreements with AgStar.  As indicated, under the second amended forbearance agreement, AgStar has extended the date by which the Company must obtain not less than $4.5 million in additional equity investment to no later than May 1, 2011.  The Company is current on all payments to AgStar and continues in its discussions to obtain not less than $4.5 million in additional equity investment by the extended forbearance date.  The Company also is continuing its discussions with AgStar regarding longer-term amendments to its master loan agreement and other loan docouments with AgStar.

 

18



Table of Contents

 

We intend to seek an extension of the maturity date of our line of credit with AgStar beyond May 1, 2011, but such an extension cannot be assured.  The Company would likely not have adequate cash to repay the amounts outstanding on its line of credit on May 1, 2011, if AgStar did not extend the maturity date.  Further, without an amendment to the owner equity ratio covenant in the master loan agreement, the Company anticipates that it will be in violation of this covenant of the master loan agreement at October 31, 2011.  The Company’s failure to comply with its obligations under the second amended forbearance agreement (including its obligation to obtain not less than $4.5 million in additional equity investment), failure to comply with the covenants of the master loan agreement or its failure to repay the revolving line of credit loan when due would result in an event of default under the master loan agreement, entitling AgStar to accelerate and declare due all amounts outstanding under the master loan agreement.  If AgStar accelerated and declared due all amounts outstanding under the master loan agreement, the Company would not have adequate cash to repay the amounts due, resulting in a loss of control of our business or bankruptcy.

 

If AgStar exercises its right to accelerate the maturity of the debt outstanding under the master loan agreement, the Company will not have adequate available cash to repay the amounts outstanding.  While an event of default exists, the Company is not permitted to borrow additional funds under its line of credit or revolving term note without AgStar’s consent.In May 2008, we locked in an interest rate of 3.58% plus 3.00%, which totals 6.58%, on $45.0 million of the term note, for three years ending April 30, 2011. The remainder of the amount outstanding on the term note is subject to a variable rate based on the one-month LIBOR plus 3.25%.  We are required to make equal monthly payments of principal and interest of approximately $652,000 to amortize the note over a period not to exceed ten years, with a final balloon payment due in October 2012. In addition, we are required to make additional payments on the term note of excess cash flow, as defined in the agreement, up to $2.0 million per year to AgStar until we meet certain minimum tangible owner’s equity, as defined in the agreement. As part of the debt financing, the premium above LIBOR may be reduced based on the ratio of members’ equity to assets. From February 1, 2010 through July 2, 2010, AgStar accrued default interest at a 2.00% default rate on all of our loans with AgStar, which was $51.3 million at July 31, 2010.  As part of the forbearance agreement, AgStar approved the deferral of the default interest accrued prior to July 2, 2010 to the end of the forbearance period, and reduction of the accumulated deferred default interest by 50% if we comply with all loan covenants and payment obligations under the loan documents with AgStar and pay the 50% deferred interest amount at the end of the forbearance period.  As part of the second amended forbearance agreement, the Company paid this 50% deferred interest amount in full satisfaction of the obligation to pay the entire deferred interest amount.

 

Our principal uses of cash are to pay operating expenses of the plant and to make debt service payments on our long-term debt. During the three months ended January 31, 2011, the Company drew $1.0 million on the line of credit and paid long term debt of approximately $1.2 million described below.

 

The following table summarizes our sources and uses of cash and equivalents from our condensed consolidated statements of cash flows for the periods presented (in thousands):

 

 

 

 

Three Months Ended
January 31

 

 

 

2011

 

2010

 

Net cash provided by (used in) operating activities

 

$

262,979

 

$

(1,336,964

)

Net cash used in investing activities

 

(20,561

)

(26,873

)

Net cash used in financing activities

 

(1,020,630

)

(1,102,151

)

Net decrease in cash and equivalents

 

$

(778,212

)

$

(2,465,988

)

 

During the three months ended January 31, 2011, we provided $0.3 million in cash from operating activities. This consists primarily of generating net income of $1.7 million plus non-cash expenses including depreciation and amortization of $1.4 million and lower of cost or market adjustments of $0.3 million offset by decreasing accounts payables by $2.3 million and increasing accounts receivable by $1.2 million. The changes in our working capital occured due to the timing of payments to our vendors for corn, particularly, around January 31, as well as depending on the size and timing of shipments of ethanol and distiller grain as the load out can be sizable.

 

During the three months ended January 31, 2010, we used $1.3 million in cash for operating activities. This use consists primarily of generating net income of $4.7 million exclusive of non cash expenses including depreciation and amortization of $1.4 million and lower of cost or market adjustments of $0.6 million offset by increasing inventory on hand by $4.2 million.

 

During the three months ended January 31, 2011, we used approximately $21,000 for investing activities to pay for capital expenditures. During the three months ended January 31, 2011, we used $1.0 million for financing activities consisting primarily of payments on long-term debt.

 

During the three months ended January 31, 2010, we used approximately $27,000 for investing activities to pay for capital expenditures. During the three months ended January 31, 2010, we used $1.1 million for financing activities consisting primarily of payments on long term debt.

 

19



Table of Contents

 

Outlook

 

Currently, ethanol prices are favorable. Nevertheless, we expect to see continuing volatility in ethanol prices.  Future prices for fuel ethanol will be affected by a variety of factors beyond our control including the amount and timing of additional domestic ethanol production and ethanol imports; petroleum and gasoline prices; and the development of other alternative fuels.

 

Prices for DGS are also affected by a number of factors beyond our control such as the supply of and demand for DGS as an animal feed, prices of competing feeds, and perceptions of nutritional value of DGS as compared to those of competing feeds. We believe that current market prices for DGS can be sustained long-term as long as the prices of competing animal feeds remain steady or increase, livestock feeders continue to create demand for alternative feed sources such as distillers’ grains and the supply of distillers’ grains remains relatively stable. On the other hand, if competing commodity price values retreat and DGS supplies increase due to growth in the ethanol industry, DGS prices may decline.

 

Corn prices have been volatile for the past year due in part to higher demand from the renewable fuels industry. The expansion of ethanol productive capacity has brought about a substantial increase in demand for corn and thus in corn prices.  The volatility is also a result of less than trend line yields in the U.S. last year, thus impacting the corn supply.  We expect the price of corn to remain at current price levels well into 2011.  Due to increased exposure of ethanol, corn is now being viewed as an “energy commodity” as opposed to strictly a “grain commodity”, contributing to the upward pressure on corn prices.  The USDA’s February 11, 2011 Feed Outlook Report projects U.S. corn prices for the 2011 season average to be at $5.05 to $5.75 per bushel.

 

Off-Balance Sheet Arrangements

 

We do not have any off-balance sheet arrangements.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

We are subject to market risks concerning our long-term debt and future prices of corn, coal, ethanol and distillers grains.  We consider market risk to be the impact of adverse changes in market prices on our results of operations.  In general, ethanol prices are affected by the supply and demand for ethanol, the cost of ethanol production, the availability of other fuel oxygenates, the regulatory climate and the cost of alternative fuels such as gasoline. The price of corn is affected by weather conditions and other factors affecting crop yields, farmer planting decisions and general economic, market and regulatory factors.  From time to time, we may purchase corn futures and options to hedge a portion of the corn we anticipate we will need. In addition, we have contracted for future physical delivery of corn. We are exposed to the full impact of market fluctuations associated with interest rates and commodity prices.

 

We are also subject to market risk on the selling prices of our distiller grains. These prices fluctuate seasonally when the price of corn or other cattle feed alternatives fluctuate in price.

 

As an example of our potential sensitivity to price changes, if the price of ethanol rises or falls $0.10 per gallon, our annual revenues may increase or decrease accordingly by approximately $5.0 million, assuming no other changes in our business. Additionally, if the price of corn rises or falls $0.25 per bushel, our annual cost of goods sold may increase or decrease by $5.0 million, again assuming no other changes in our business.  During the first quarter of fiscal year 2011 ended January 31, 2011, the price of ethanol on the Chicago Board of Trade fluctuated from $2.04 to $2.40 per gallon; our average sales price was $2.23 per gallon, with basis.  During the same period, the price of corn on the Chicago Board of Trade fluctuated from a low of $5.07 to a high of $6.67 per bushel; our average purchase price was $5.19 per bushel, with basis.  Our future earnings may be affected by changes in interest rates due to the impact those changes have on our interest expense on borrowings under our credit facilities. As of January 31, 2011, we had $17.0 million of outstanding borrowings with variable interest rates. With each 1% change in interest rates our annual interest expense would change by $170,000. In addition, in April 2011, the remaining portion of our fixed rate debt with Ag Star becomes variable again. This will further expose the Company to changes in interest rates.

 

Item 4. Controls and Procedures

 

Effectiveness of Disclosure Controls and Procedures

 

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our “disclosure controls and procedures” (as defined in Rules 13a-15(e) under the Exchange Act) as of the end of the period covered by this report. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, our disclosure controls and procedures were effective.

 

20



Table of Contents

 

Changes in Internal Control over Financial Reporting

 

There has been no change in our internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) that occurred in the fiscal quarter ended January 31, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings.

 

Discussions of legal matters are incorporated by reference from Part I, Item 1, Note 10 “Commitments and Contingencies — Legal Proceedings” of this Form 10-Q, and should be considered an integral part of Part II, Item 1, “Legal Proceedings”.

 

Item 1A. Risk Factors

 

The most significant risk factors applicable to the Company are described in Part I, Item 1A “Risk Factors” of our Annual Report on Form 10-K for the year ended October 31, 2010. There have been no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

None.

 

Item 3. Defaults upon Senior Securities

 

None.

 

Item 4. [Removed and Reserved]

 

Item 5.  Other Information

 

None.

 

Item 6. Exhibits

 

The following exhibits are included in this report:

 

Exhibit
No.

 

Exhibit

 

 

 

31.1

 

Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) or 15d-14(a)  of the Exchange Act.

 

 

 

31.2

 

Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)  or 15d-14(a)  of the Exchange Act.

 

 

 

32

 

Certification pursuant to 18 U.S.C. § 1350.

 

21



Table of Contents

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

HERON LAKE BIOENERGY, LLC

 

 

Date: March 15, 2011

/s/  Robert J. Ferguson

 

Robert J. Ferguson

 

President and Chief Executive Officer

 

(Principal Executive Officer)

 

 

Date: March 15, 2011

/s/  Lucas G. Schneider

 

Lucas G. Schneider

 

Chief Financial Officer

 

(Principal Accounting and Financial Officer)

 

22