MGP Ingredients, Inc.

Good day and welcome to the MGP Ingredients First Quarter 2021 Financial Results Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your touchtone phone. To withdraw your question, please press star, then two. Please note this event is being recorded. I would now like to turn the conference Over to Mike Houston. Please go ahead.

Thank you. I'm Mike Houston with Lambert & Company, MGP's investor relations firm. And joining me today are members of their management team, including Dave Colo, President and Chief Executive Officer, and Brandon Gall, Vice President of Finance and Chief Financial Officer. We'll begin the call with management's prepared remarks and then open the call up to questions. However, before we begin today's call, it is my responsibility to inform you that this call may involve certain forward-looking statements, such as projections of sales, operating income, gross margin, and effective tax rate, as well as statements on the plans and objectives of the company's business. The company's actual results could differ materially from any forward-looking statements made today due to a number of factors, including the risk factors described in the company's most recent annual and quarterly reports filed with the Securities and Exchange Commission. The company assumes no obligation to update any forward-looking statements made during the call. If anyone does not already have a copy of the press release issued by MGP today, you can access it at the company's website, www.mgpingredients.com. At this time, I would like to turn the call over to MGP's President and Chief Executive Officer, Dave Colo. Dave?

Thank you, Mike, and thank you all for joining us. On this call, we will provide an overview of our results for the quarter, updates on key financial performance metrics, and a discussion of progress against our strategy. Then we will take your questions. We are very pleased with our continued momentum this quarter, which has again yielded record consolidated results. Sales of premium beverage alcohol increased 31.1%, primarily due to higher-aged whiskey and new distillate sales. As expected during the quarter, we experienced temporary softness in our ingredient solutions segment, primarily due to a natural gas curtailment that impacted approximately two weeks of production in February. However, we anticipate improved results in the second quarter as we have cycled past the weather-related events in the first quarter. Consolidated sales for the quarter increased 9.3%, while gross profit increased 39.2% to a record $32.3 million. representing 29.8% of consolidated sales. Reported operating income increased 49.6%, while adjusted operating income increased 56.7%. Looking at each segment individually. In our distillery product segment, sales increased 11.5%, primarily driven by sales in brown goods, which increased 49.3% from the prior year period. Strong aged whiskey and new distillate sales led to these results. Aged whiskey sales also served as the primary driver to the increase in gross margins for the period. Our objective to optimize brown goods profit by increasing volume share at market-based pricing continued to benefit both the segment and consolidated results for the quarter. The macro consumer trend supporting the ongoing growth of the American whiskey category remained solid. which is confirmed by the demand we're experiencing from new and existing brown goods customers. We also experienced strong aged whiskey demand from craft distillers as a percent of our overall aged sales mix during the quarter, which was more comparable to pre-COVID levels in relation to our national and multinational customers. While consumer demand for American whiskey remains robust and our diverse customer mix has positioned as well, we anticipate our growth rates will begin to normalize and come more in line with overall category growth. Continuing on to other areas of the segment, sales of premium beverage white goods declined 0.3% for the quarter, while sales of industrial alcohol decreased 19.8% with improved pricing and margins. As mentioned in our last call, The decline in industrial alcohol sales was primarily attributed to reduced third-party sales of industrial alcohol produced by ICP, our former joint venture partner. Going forward, ICP will market and sell these products, and we anticipate these services will be substantially complete by the end of the second quarter of 2021, with sales for the year totaling approximately $4 million. For reference, in 2020, we sold approximately $24 million of product for ICP reflected as industrial alcohol revenue within our distillery product segment at low single digit gross margins. Excluding the impact of this third party agreement, industrial alcohol sales would have increased 6% from the prior year period. We are pleased with the improved pricing and margins following contract negotiations that occurred during the fourth quarter of last year, but anticipate spot market margins will normalize and return to historical levels as demand moderates and additional supply enters the market over the next several quarters. Sales of our distillers grains byproduct decreased 28.9% for the quarter, primarily due to the need to convert from selling dry distillers grains byproducts. to wet distillers grains byproducts due to the dryer incident in Q4 of last year. We expect continued comparative declines in revenue for our distillers grains this year until the dryer system installation is complete, which we anticipate occurring in the fourth quarter of this year. Revenue from warehouse services increased 5.1% for the quarter, reflecting in part growth in the number of customer barrels aging in our whiskey warehouses and other services we provide. Turning to ingredient solutions, sales for the quarter grew 0.3% while gross profit decreased to $4 million, representing 20.7% of segment sales. As expected, this quarter's results do not properly reflect the solid demand we continue to experience in the ingredient solutions segment. In addition to the temporary natural gas curtailments, which resulted in lost production in February of this year and reduced margins by more than 400 basis points in the quarter, we also experienced issues with backlogs at various ports, as well as shortages for shipping containers needed to deliver our products abroad. Despite the impact these issues had on product mix, we finished the quarter with strong sales and margins in March and anticipate improved results in the second quarter as we have cycled past the weather-related events that occurred in the first quarter. We believe our diverse customer base and optimal product mix continue to be aligned with strong consumer trends. We are very pleased with the revenue and profit results this quarter. Overall, both of our business segments continue to benefit from favorable consumer trends, and our strategic plan has us well positioned to fully capture the potential these trends offer. This concludes my initial remarks. Let me now turn things over to Brandon Gall for a review of the key metrics and numbers. Brandon? Thanks, Dave.

For the quarter, consolidated sales increased 9.3% to $108.3 million. As a result, a double-digit growth in premium beverage alcohol within the distillery product segment. Gross profit increased 39.2% to $32.3 million. due to improved gross profits in the distillery product segment. Gross margin increased by 640 basis points to 29.8%. As noted in our last earnings call, we experienced a fire at the Atchison facility during the fourth quarter, which damaged feed drying equipment and caused a temporary loss of production time. During the first quarter, we recorded a $3.6 million partial settlement from our insurance carrier. We are working to construct a replacement drying system that is anticipated to be operational in the fourth quarter of this year. Until the replacement system is operational, however, we anticipate this will continue to affect gross profit results. However, we expect a portion, if not all, of these losses will be offset by our business interruption insurance coverage similar to the past two quarters. Please note, however, the timing of any insurance recovery, despite best efforts, is outside of our control and may not occur in this same period as the recognized loss. Corporate selling, general, and administrative expenses for the quarter increased $2.3 million to $11.8 million as compared to the first quarter 2020, primarily due to business acquisition costs related to the Lexco transaction. We will incur additional transaction related costs, the majority of which will occur in the second quarter of 2021. We anticipate fully transitioning our legacy MGP brands, into the Luxco sales and marketing organization during the second quarter, which will be reflected in our quarterly results and reported under the newly established Branded Spirits segment going forward. Operating income for the first quarter increased 49.6% to $20.5 million, primarily due to strong brown goods sales within the distillery product segment. Non-GAAP operating income increased 56.7%, to $22.4 million, exclusive of business acquisition costs related to the Lexco transaction. Our corporate effective tax rate for the quarter was 23%, compared with 24.7% a year ago, primarily due to additional tax credits recognized as a result of the new drying system investment. Net income for the first quarter increased 56.7% to $15.4 million, and earnings per share increased to $0.90 from $0.57 per share, primarily due to higher operating income. Non-GAAP EPS for the quarter increased to $1.01 per share from $0.61 per share, exclusive of business acquisition costs related to the Luxco transaction. Cash flow from operations was $17 million in the first quarter, which is up from approximately $500,000 in the first quarter of 2020. reflecting the strong cash-generating capability of our business. In addition to improved operating results, our operating cash flows were also driven by the combination of record-age sales and reduced put-away for aging whiskey inventory. MGP's balance sheet and access to capital remain strong, allowing us to continue to invest to grow and drive long-term shareholder value. We remain well-capitalized, with debt towing $39.9 million and a strong cash position of $22.6 million. Our capital allocation strategy continues to provide sustainable growth opportunities that are consistent with our long-term strategy and strengthen our position in growing markets. Our investment in inventory of aging whiskey decreased by $6.7 million to $98.7 million at cost at the end of the first quarter. This net decrease was driven by strong sales of aged whiskey and reduce put away of whiskey for aging during the quarter. And we are pleased with the continued execution of this critical component of our long-term strategy. MGP is offering the following guidance for fiscal 2021, excluding Luxco's financial results and acquisition related costs. 2021 adjusted sales growth is projected in the zero to 2% range versus 2020, reflecting reduced sales of third-party industrial alcohol and reduced average sales prices resulting from the selling of wet versus dry distiller's grains byproduct. The company's estimate of growth in adjusted operating income in 2021 is 7% to 12%, which is exclusive of Luxco acquisition costs. Adjusted earnings per share are forecasted to be in the 205 to 215 range, with shares outstanding expected to be approximately $22 million at year end, Full-year adjusted EPS guidance includes the impact of the 5 million shares issued in connection with the LuxCo acquisition, while first quarter EPS results were calculated based on 17 million shares outstanding prior to the transaction's close. We anticipate providing 2021 consolidated guidance inclusive of LuxCo during our second quarter earnings call, at which point we will have completed the finance and accounting requirements associated with the transactions. In light of our strategy to pursue growth through investing in our business and the recent closing of the Luxco acquisition, the board authorized a quarterly dividend in the amount of $0.12 per share. This is payable on June 4th to stockholders of record as of May 21st. The board continues to view dividends as an important way to share the success of the company with shareholders. Let me now turn things back over to Dave for concluding remarks.

Thanks, Brandon. We remain committed to the execution of our long-term growth strategy, further building on the momentum from last year. We recently achieved a significant milestone in our strategic plan with the completion of the Luxco acquisition in April and have begun the integration and synergy work streams necessary to optimize our combined business while setting ourselves on a path for anticipated future growth. The newly combined company will greatly expand our portfolio of higher value added branded spirits from coast to coast. We now have three business segments that are uniquely aligned with strong consumer trends, which we believe will create long-term and sustainable shareholder value. I wanted to provide additional context around the guidance Brandon shared as it relates to the legacy parts of our business for the full year. While we are off to a strong start to the year, we remain mindful of the market factors associated with our overall business, in particular the market factors associated with our aging brown goods products. We have learned the past several years that there can be significant variability in our customer demand patterns for these products based on a number of factors, including the lack of forward visibility to customer demand as most of this product continues to be sold on a spot versus contract basis. As we stated earlier, although we experienced significant growth in aged brown goods revenue and gross profit in the quarter, well ahead of the historical growth for the broader American whiskey category, we anticipate our growth rates will moderate over time and be more in line with the overall category growth. This is factored into our guidance for the full year as we continue to execute our long-term strategic plan. Inventory of aging whiskey at quarter end declined $6.7 million from the fourth quarter to $98.7 million at cost, reflecting strong sales of aged whiskey and reduced put-away of whiskey for aging. We are very pleased with the continued execution of this critical component of our long-term strategy, and we believe we have reached a point of equilibrium, recognizing that this is a dynamic versus static state. We will continue to evaluate our aged whiskey inventory and put-away levels on an ongoing basis with the objective of carrying adequate inventory levels of various ages and mash bills to meet projected customer demand and the demand of our branded spirit segment. Our library of various mash bills and vintages has truly enabled MGP to provide additional value to customers while contributing significant levels of profit and cash flow for the company. Although we delivered strong results for the quarter, we continue to experience two primary headwinds for 2021. The first headwind relates to increased commodity costs. As you may be aware, during the past several months, there have been significant increases in corn commodity exports from the U.S., as well as downward revisions to 2020 corn crop yields and stocks, resulting in higher corn and wheat costs. As a reminder, we employ an extensive risk management program, That includes purchasing the corresponding grain at the same time we contract volume and pricing for our products. However, for various reasons, we do not contract 100% of our sales, and as a result, we cannot provide assurance that we will always be able to price through increases in commodity costs to our customers in the open market. Second, like many other businesses, we are experiencing disruptions in our supply chains. We continue to experience transportation availability issues, both domestically and with backlogs at various ports, as well as shortages for shipping containers needed to deliver our products abroad. While these logistical issues are likely the result of the global supply chain disruption caused by the COVID-19 pandemic, it is unclear how long these delays and issues will persist. However, demand for our products remains robust and we believe our business continues to be well positioned to mitigate these challenges through the balance of the year. Our focus on continually refining the effectiveness of our tactical execution, accelerating the pace of our strategic implementation, and leveraging the strong foundation we have built has positioned MGP for sustainable long-term growth. That concludes our prepared remarks. Operator, we are ready to begin the question and answer portion of the call.

Speakers, you may unmute your lines. We will now begin the question and answer session. To ask a question, you may press star then one on your touch-tone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first question today will come from Alex Furman with Craig Callum. Please go ahead.

Great. Thanks very much for taking my question. You know, I wanted to ask about the implications of the Luxco acquisition to the numbers. I know it's, you know, tough from where you're sitting right now to really give a firm projection for 2021, including Luxco. But can you kind of help us out just given that it's, you know, going to have a really significant impact impact on the numbers, you know, what would it have added in, you know, the last three quarters of 2020? Just any sort of kind of base case or historical framing up of, you know, what Luxco has done in terms of top line and EBITDA contribution would be really helpful as we think about our models.

Yeah, Alex, this is Brandon. First of all, thanks for the question. I'm happy to provide some clarity where I can. So the thing to point back toward is the investment presentation we released in January when we announced the Luxco transaction. There were some financials shared at the time. on an adjusted, unaudited basis for 2019, but also on an LTM basis as of October 2020. That should be pretty directional, I think, for what you're trying to accomplish. I will share also that as we're now more than a month into the integration of Luxco, we are still running the traps on the numbers, as we mentioned already. But there have been no surprises. and things are progressing along very nicely on that front.

Great. That's really helpful. And then just as we think about the sales of Ace Whiskey, and this is really now three-quarters in a row that you've had good success in selling whiskey, CA's whiskey, and you mentioned that it's hard to really forecast what that demand is going to look like in the future. I mean, is there a sense that, given that the demand is strong right now, that we could continue to see strong sales of it this year, you know, as long as the demand is there? Is there anything you can kind of tell us about your current, you know, I know there's not so much visibility, you know, multi-year, but at least looking at over the next couple of months, is that kind of what you've been seeing? Any direction there would be helpful.

Yeah, Alex, this is Dave. Yeah, we've experienced, you know, really strong demand for our aged whiskey, as you mentioned, the last three to four quarters. Q1 as well, obviously a very strong quarter. We, you know, the best indication that we have that we keep trying to guide to is the fact that we think over time our growth rate should be pretty much in line with the overall American whiskey category growth rates. We recognize that quarter to quarter, our growth could be above or below that, as evidenced by what we've seen here in Q1. But as we look forward, that's kind of the guidepost we reference is, overall, we think that as the American whiskey category grows, that's where we would expect our growth rates to be in line with. Also, if you look at our inventory position, and we spoke to this in the prepared remarks. We feel like we've pulled down our inventory levels of our age put away the last year. We feel the level that we're at now is a pretty good level, and I would say it's kind of a level of equilibrium, meaning on a go-forward basis, we would look to put away – the amount of whiskey based on what we think our forecasted demand is going to be within that given year. So we feel good about that. We think our inventory positions are much more balanced today than they were a year ago. And we'll continue to put away whiskey, again, based on what we think our projected demand going forward will be.

Sure, that makes sense. Thank you. And then, you know, my last question, the ingredient solution side of the business, I mean, that's been a really top performing segment for a while now. And, you know, it sounds like from your prepared remarks that the demand from your customers for your offerings remains very strong, and there were some reasons why we didn't kind of see that in the numbers this quarter. Can you talk a little bit more about that and when we should start to see reported results start to match what you're seeing in terms of customer demand?

Sure. Yeah, I think in Q1, we kind of gave a forecast of this in our Q4 call. We had the In the month of February, we lost about two weeks of production in our ingredients business. Due to the cold weather that came through the Midwest, our natural gas supply was curtailed, which resulted in us needing to shut down operations through that period. As we restarted operations and got into March, we had a very strong March, both from a top line and a gross margin performance, more in line with what historically we've printed on that business last year. And as we go into, you know, Q2 and the balance of the year, we still are having very strong demand, and we would expect, you know, the business to have similar gross margins to, you know, what we've been reporting in the prior year. So we're still very confident in that business. We've cycled past the weather-related events in Q1 and feel like we're back on track for the balance of the year.

That's great. Thanks very much.

You bet.

Our next question will come from Bill Chappelle with Tourist Securities. Please go ahead.

Thanks. Good morning.

Good morning, Bill.

Hey, just I guess first kind of question on the guidance and especially on the distillery business and your kind of commentary of it growing in line with or in line with the category. I guess one Can you kind of quantify how much the, and you might have already done this, the white goods issue, I mean, the switchover, how much that impacted on this year? And then two, I'm just trying to kind of, more importantly, couple the statements because you would think if you're selling age inventory on a regular basis, which has a significantly higher price and transaction value than new distillate, that your sales should grow faster than the category until you're kind of out of product or cycle through that. So help me understand why you would only grow in line with that if you're still selling age for the foreseeable future.

Yeah, Bill, this is Brandon. Thanks for the questions. You know, first of all, on the switchover, The total sales to ICP, which is the third-party contract facility that we set a partnership with last year, was around $24 million in total, and that hits our industrial alcohol product line. This year, we expect to be finished selling by the second quarter of this year, and we expect the total to be somewhere around $4 million in total sales for 2021. As it relates to your brown question, which is a really good one, As Dave mentioned, there is variability within brown, even within the mix. Pricing, as you correctly pointed out, for age is much greater than new distillate. Then as we sell one, two, three, and four-year-old, there's different pricing for each of those as well. As we cycle over quarters, we may sell a lot of each one quarter even more than we did comparative quarter, but if it's a different vintage, if we're selling more one-year-old versus four-year-old, it may not have what you would think would be the desired result from selling that much more volume. It's not that straightforward. What we do know is that we've seen four or five straight quarters now of extreme demand for our brown goods, specifically for age. There are underlying trends that would indicate that that can continue. But as we know, there can also be, as we've experienced, some variability to that business just due to customer buying patterns that we've discussed.

So just to follow up that, so is your guidance for the remainder of the year just assuming there's no further age sales and that would just be offside? Or are you thinking that the age sales are front-end loaded this year, and you'll see a kind of a lesser amount as we move through the year.

Yeah, it's probably more of the latter, Bill. So our – you know, as we put together the guidance at this early on in the year, especially after coming off, you know, a strong quarter and a strong few quarters for age, if you – actually, if we go back and look at the last three quarters, it is a little bit more front-loaded, but for the full year – we do have our total ground sales growing closer in line with the category.

Got it. And then second question, can you give us any update on at least top-line trends for Luxco for the first quarter? I mean, have they continued to grow? Have there been any issues, anything we should be thinking about?

Yeah, can't share a lot on the first quarter at this point. And believe me, Bill, it's not because I don't want to. We've been working on this for a long time. We're really excited about the deal. We can't wait to share more with you in Q2. You know, what I will share is what I already mentioned a little bit to Alex, is that, you know, we have not seen any surprises since January. And that would make us feel differently about the numbers we shared at that point in time. which, again, should be still on our website and available. But we do have to finish running the traps and put together the required accounting that's necessary to really provide more informed guidance. We hate to want to get a little bit ahead of ourselves now, only to have to slightly revive that at all a quarter from now. We just want to be prudent in our approach and be as clear as possible with you and with the investors when the time's right.

Got it. And then last two questions. Sorry. One going back to just brown spirits. It seems that the kind of conversion over the past year of how you're viewing the age has been from creating an asset that you can sell for top dollar to creating a library for your customers to shop whenever they want. And I didn't know if that's having a negative impact on kind of new distillate because now your customers can see, like, look, we can buy on consignment and just buy it in three, four years. We don't need to buy it up front. If that's having an adverse effect near term or expected to on your kind of new distillate business.

Yeah, I think, you know, we still sell a lot of new distillate, and a lot of those customers are on a contract basis. I think, you know, through the last, I'd say, three to four quarters as a result of COVID, I think what we've seen is on brown goods in particular on aged, in the last two to three quarters, we've seen the craft distillers kind of come back into the aged market in a pretty significant way. And, you know, now they're back in line with kind of their historical buying patterns, if you will, Bill. So I think, you know, long term, we still view the kind of the balance between aged and new distillate. to be in line with what we've seen over the last, you know, three to four years. That's something that we evaluate literally quarter to quarter, and obviously it also influences how much MGP-owned inventory we put away. But at this point, you know, we still sell a lot of new distillate. We expect that to continue, and we also expect to see some pretty, you know, good growth patterns in the H side of the business as well.

Got it. Last question for me. Just the insurance settlement in the quarter, didn't know whether that, I think that's included in the numbers and in your full year guidance. I could be wrong and just didn't know where that fell in gross margin or if it fell in SG&A. Just any clarity there would be helpful.

Yeah, thanks for giving me the opportunity to clarify that, Bill. Yeah, so we did recognize a partial insurance settlement of around, you know, $3.5 million, $3.7 million in the quarter. That is treated as a reduction to cost of goods sold, so it will hit the gross margin. The actual receipt was closer to $8.5 million. The difference we have on our balance sheet until we can – because a portion of that is going to go towards different areas, whether it's more business interruption or whether it's to the driver replacement itself. So until we get more clarity and get closer to the end, if not – or even complete the replacement driver system, We are going to keep that on our balance sheet just to be conservative and then recognize it when we have more visibility and clarity.

The 3.7 is in the non-GAAP EPS for the quarter and then in your full year guidance, 2 to 2.15 for the year. Is that correct?

It's actually, yeah, it's in the GAAP reported for the quarter because we did receive and recover it in the quarter. Okay. Yeah, we are factoring in that for the year. We are going to offset the majority, if not all, of our business interruption impacts with insurance.

Okay, great. Perfect. Thank you.

Ladies and gentlemen, this will conclude our question and answer session. I would like to turn the conference back over to Dave Kohler for any closing remarks.

Thank you for your interest in our company and for joining us today for our first quarter call. We look forward to talking with you again after the second quarter. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.