This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.
spk03: Good morning, and welcome to the Darling Ingredients, Inc. conference call to discuss the company's first quarter 2022 results. After the speaker's prepared remarks, there will be a question and answer period, and instructions to ask a question will be given at that time. Today's call is being recorded. I would now like to turn the call over to Ms. Sue Ann Guthrie. Please go ahead.
spk14: Welcome to the Darling Ingredients first quarter 2022 earnings call. Participants this morning are Mr. Randall C. Stewie, Chairman and Chief Executive Officer, Mr. Brad Phillips, Chief Financial Officer, Mr. John Bullock, Chief Strategy Officer, and Ms. Sandra Dudley, Executive Vice President of Renewables and U.S. Specialty Operations. There is a slide presentation available on the Investors page under the Events and Presentations on our corporate website. During this call, we'll be making forward-looking statements, which are predictions, projections, or other statements about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could materially differ because of factors discussed in yesterday's press release and the comments made during this conference call and the risk factors section of our Form 10-K, 10-Q, and other reported filings within the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statement. Now I would like to hand the call over to Randy.
spk11: Hey, thanks, Sue Ann. Good morning, everyone. Thanks for joining us for our first quarter 2022 earnings call. We kicked off the year with a very strong first quarter earnings of $330.7 million in combined adjusted EBITDA. Our global ingredients business had a record quarter at $244.1 million in EBITDA. Our food business earned $57.7 million in EBITDA, and our fuel segment ended the quarter with $110 million in EBITDA, with $86.6 coming out of Diamond Green Diesel. We are carrying solid momentum into 2022. Global supply chain challenges remain, while increased labor and energy costs are being addressed by our formula and spread pricing, and finished products pricing remains robust around the world. Starting with our feed segment, globally, raw material volumes are up year over year, and we are not seeing any indication of livestock or herd reduction. Fat prices continue to escalate throughout the quarter, Protein prices improved during the quarter and grew sequentially. However, logistical disruptions due to container shortages have kept our prices lower year over year. Additionally, we saw some margin compression relative to Q1 in 2021, which reflects procurement process lags due to rising prices. We're working diligently to maintain margin structure in a higher energy cost environment, especially in Europe. Turning to our food segment, performance grew year over year driven by our pepton business and our product mix shift from commodity gelatins to hydrolyzed specialty collagens. The changes we made in late 2021 have helped improve margins. I am confident we will see improvement in the food segment for the balance of the year despite supply chain challenges. In our fuel segment, escalating energy prices in Europe supported stronger earnings in our green energy electricity business. Our previously announced acquisition of Uptabak is contributing nicely and is under expansion. Now, turning to Diamond Green Diesel. We successfully completed a turnaround at DGD1 during the first quarter. Q1 earnings for DGD were $1.11 per gallon in EBITDA. This is lower than our full-year estimate of $1.25 per gallon, and it's attributed to rapidly escalating feedstock prices, while heating oil, RINs, and LCFS did not have adequate time to react. As we head into Q2, margins are on the rebound. We are seeing higher RINs and steady LCFS prices. DGD 1 and 2 are running wide open, and optimization programs are in place to increase gallons. Given these factors, combined with the startup of DGD 3 and Q4, we maintain our forecast of at least 750 million gallons at $1.25 per gallon EBITDA for the full year 2022. Last week, we announced two key strategic acquisitions to grow our base business, the completion of the Valley Proteins acquisition and our signing of a definitive agreement to purchase the FASA Group in Brazil. With these announcements, we will process more than 15 million metric tons of the world's available slaughtered animal byproducts, or about 15% of the world's supply. Valley Proteins, which closed on May 2nd for $1.1 billion, plus or minus various closing adjustments, includes 18 new plants that process about 2.4 million metric tons of raw material per year and enough fat to produce approximately 125 million gallons of renewable diesel. This is a great acquisition and will be immediately accretive. For 2022, we expect a contribution of $60 to $70 million of new EBITDA, And under current market conditions, I anticipate the business contribution to be more than 150 million in EBITDA in 2023 as we address operational synergies. On May 5th, we announced the signing of a definitive agreement to purchase FASA Group for 2.8 billion rials, or approximately 560 million U.S. dollars at the current exchange rate. FASA Group processes more than 1.3 million metric tons of beef, pork, and chicken annually, through 14 rendering plants with an additional two plants under construction and has approximately 2,400 employees. FASA will augment our supply of low-carbon feedstocks to Diamond Green Diesel and will also be immediately accretive upon closing. We expect to close by the end of the year. The current operating EBITDA of this business is approximately 500 million rials per year. Now I'd like to hand it over to Brad to take us through the financials, and then I'll come back with a little bit of an outlook for the balance of 2022. Brad? Okay. Thanks, Randy.
spk15: Net income for the first quarter, 2022, totaled $188.1 million, or $1.14 per diluted share, compared to net income of $151.8 million, or $0.90 per diluted share, for the 2021 first quarter. Net sales were $1.37 billion for the first quarter 2022 as compared to $1 billion for the first quarter 2021, or a 30.5% increase in net sales. Operating income was $232.9 million for the first quarter of 2022 compared to $199.5 million for the first quarter of 2021. The 16.7% increase in operating income was primarily due to the gross margin increasing 71.9 million or a 26.2% improvement on higher volumes and record high fat prices in our global ingredients businesses, while our share of the earnings from the Diamond Green Diesel joint venture declined 30.4 million to 71.8 million from 102.2 million the previous year. Additionally, the first quarter of 2022 included 3.8 million of acquisition and integration funds caused primarily related to our acquisitions of OptiBec, Valley Proteins, and Faza Group, as well as $4.6 million increase in SG&A. Now turning to income taxes, the company recorded income tax expense of $26.1 million for the three months ended April 2, 2022. The effective tax rate for the first quarter is 12%, which differs from the federal statutory rate of 21% due primarily to biofuel tax incentives the relative mix of earnings among jurisdictions with different tax rates and excess tax benefits from stock-based compensation. The company also paid 41.4 million of income taxes in the first quarter. For 2022, we are projecting an effective tax rate of 18% and cash taxes of approximately 60 million for the remainder of the year. Total debt outstanding at the end of the first quarter, 2022, was $1.7 billion as compared to $1.5 billion at year-end 2021, and the bank covenant leverage ratio ended the quarter at 1.69 times. The increase in debt was primarily a result of the acquisition of OptiVec and contributions to Diamond Green Diesel due to the project's acceleration. Capital expenditures totaled $71.6 million in the first quarter, and the company repurchased $17.2 million of common stocks. Lastly, you will note we added a $500 million delay draw term on A, which was undrawn at the end of the first quarter. With that, I'll turn it back over to you, Randy.
spk11: Thanks, Brad. Looking ahead, the business environment remains very favorable for Darling Ingredients. Rendering volumes are robust and growing with no sign of depopulating or herd reduction. Despite global supply chain concerns, we are optimistic as we have seen some improvement and better raw material availability. While European energy prices are up 250% year over year, we are working hard to minimize the impact and protect our margin. Darling Ingredients continues to lead the way in creating renewable and bioenergy solutions to combat rapidly rising energy prices and satisfy the world's demand for low-carbon fuels and decarbonization. We expect our green energy business in Europe to continue to flourish as we expand capacity to meet this increased demand. Diversifying our feedstock supply to support DGD from a multi-continent arbitrage has been our focus. Darling's access to low-carbon intensity feedstock is unparalleled in the industry. DGD's ideal location with access to multiple transportation options, our pre-treatment expertise, our experienced team make DGD the lowest cost producer of renewable diesel in the world, and our best is yet to come. Our global ingredients business run rate supports earnings of $1 billion to $105 billion EBITDA for the year without Valley Proteins. Valley Proteins is expected to contribute about $60 to $70 million of running EBITDA in 2022. Adding in at least 750 million gallons of renewable diesel at $1.25 per gallon EBITDA, we believe a combined adjusted EBITDA of 1.55 to 1.60 is very achievable. This does not include any additional gallons that may even be produced at Diamond Green Diesel 3 in Q4. With that, let's open it up to Q&A now.
spk03: We will now begin the question and answer session. To ask a question, we'll press star then 1 in your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing keys. To withdraw your question, please press star then 2.
spk09: At this time, we will pause momentarily to assemble our roster. Our first question will come from Manav Gupta with Credit Suisse.
spk03: You may now go ahead.
spk01: So, Randy, somehow you guys are always ahead of the curve. You figured out renewable diesel before everybody else did. Your facilities are now coming on. BGT3 is coming on soon. And world is like your competitors are still figuring out permitting and stuff. So, Somehow you're always ahead of the curve. And my question here is, when we see the next leg of growth for Darling here, it appears between Valley Protein and FASA and the deals you're signing with Chick-fil-A and stuff, that the next leg of growth for Darling is going to be coming from the feed side of the business. I mean, you have DJD3 coming on, but when we look at Dar, the next leg of growth for next three or five years is going to be on the feed side. So if you could comment a little bit on that, sir.
spk11: Yeah, I think, thanks, Manav. Appreciate the comments. And, you know, got to say hats off to the global darling team on bringing these acquisitions home. The Brazilian one we worked on for almost eight years. And the Valley Protein one, been working with the Smith family for a number of years to bring that one home as well. I think we talk very openly about kind of a four-legged approach to growth. And, you know, we in this room with the management team still view Darling as really an excellent growth vehicle around the world. We don't see our growth anywhere near done in the near future. And so I'm going to talk about four paths of growth here. Number one, that's our green electricity business in Europe. We continue to see the opportunities to add digestion capacity, OOPTABEXA, An example, that's going to grow substantially in volume given energy prices in Europe. It's a very lucrative investment. But most importantly, it allows us to arbitrage different raw material streams that typically could go to landfill or can't go to landfill and make energy out of them. So it's a very, very good investment. So that's the green energy side. You've got to move to diamond green diesel. We're not done there yet. I mean, jet fuel, I mean, you saw the United announcement here this week. I mean, we are not by any means discounting the fact that we won't be making SAF here in the next couple years. We're just going to let the policy evolve before the capex is spent here. And we believe there's just adequate gallons there eventually when the policy supports that. So that's number two. Number three, you will see the food segment accelerate for the balance of the year and next year. We've built a special product and a product line there, and it's expanding into our biomedical area now that gives us really a neat opportunity to add significant earnings without volatility. And that's a very different business in the sense it uses slaughtered animal byproducts as raw materials. But at the end of the day, it's more of a specialty ingredients business than anything else we're in. And we've got a great team there. that's moving it forward. So, you know, as we look, we've got the green energy. We've got diamond green diesel expansion, SAF. We've got the pepton business that we're working on growing. And then the fourth leg is clearly what we would call our global ingredients business or core rendering business. Valley Proteins was the number two independent processor in the United States. It is a great team, great locations where we're not at. basically 50% the size of Darling USA rendering operations in volume per week. And I think it's very easy to look back historically what Darling post-national byproducts, post-Griffin in the 2011-12 can make, and then we're about 60% bigger now in North America or the USA than we were at that time. So that's where we're trying to telegraph that Valley Proteins will be incredibly accretive to this company once we get it integrated and once we get the margin structure, the operations, and get it to look like the business that we have. Moving south to Brazil, we've talked openly about Brazil for a number of years. We are a very successful company in Brazil today. Adding these factories to our Brazil management group and our team and our structure just made a lot of sense. Brazil will feed the world, and we absolutely believe that animal agriculture, while it may come under challenges in Europe and maybe to a degree at times in Canada or the U.S., Brazil is still the wild, wild west relative to growth in animal agriculture. And we have 14 factories and two more under construction. They're spread out throughout Brazil to allow for growth from the south to the north as Brazil expands. You know, I think the thing that's interesting, and I'm sure Sandy will comment later today, but we're already importing fats from Brazil into Diamond Green Diesel. That goes with the logistics that we've always talked about of location, location, location for Norco or St. Charles and Port Arthur. So the FASA group was an immediately just a very simple idea that we've been working on for a lot of years. It's being procured or bought from a private family that we know very well The management team is going to stay in place for three years to help us continue to grow. So those are the four paths, green electricity, DGD, pepton, and core ingredients growth. We continue to see many, many opportunities still around the world in the core ingredients growth, including additional factories that will be put under construction here in the U.S. once the agreements are signed. So we just still see Darling as a growth vehicle, Manav.
spk01: Perfect, sir. My quick follow-up here is, you know, sometimes as analysts, we focus too much on Fats prices, Rins prices, LCFS, and we sometimes don't give enough credit to the fact that Darling, at the end of the day, is a technology innovation company. You spent so much time on collagen peptides and figured it all out, and it's doing very well. So can you talk a little bit about your R&D efforts, R&D pipeline, what's that looking like, and where could the next leg of R&D take you? And I'll leave it there, sir. Thank you so much.
spk17: Thanks, Manav. This is John. You know, at the end of the day, We have tremendous expertise in taking the byproduct material from the meat industry around the world and turning it into a variety of different products. What Darling, I believe, has been really good at is we focus on the value of the finished products. We're always out there trying to figure out where our customers and the world is going to take us for demand for our products. And then we work backward from there. trying to figure out how to create the most efficient and best supply chains around those great products. And what you see inside of Darling today is we've got rock star, and I mean rock star, low-carbon products across the spectrum of biofuels as well as into fixed energy and electric and gas in Europe. We have rock star products on the peptide side. And when you start with what's the value of the product, where is the marketplace going from the demand of the product, and you listen to your customers, then you are able to rebuild the innovation. Our innovation pipeline today is tremendous. We're working on a variety of new products that our customers are coming to us and saying, this is the future. This is where we would like to see you bring us products today. And we're really good at going back in because there's just such a broad range of expertise along different product lines around the world, different geographies. We understand various cultures around the world very well. We have an ability to internalize those products and design that structure backwards. And I will tell you today, the pipeline is more robust internally than it's ever been. We have a very exciting platform of products that we are working on now. developing with our customers, but it's all about the finished products. It's all about creating a product that the market wants.
spk01: Thank you so much. Thank you for taking my questions.
spk03: Our next question will come from Ben Calo with Baird. You may now go ahead.
spk00: Hey, good morning, guys. Congrats on all the work. Maybe a boring question, but just on the leverage, how do you view that, Randy or Brad, when we look forward? I think you tick up in the queue. I saw it up to five times, and you've been there before. But maybe just remind us about the cash flow that DGD spits out and how you think about the leverage going forward.
spk15: Yeah, Ben, this is Brad. Good morning. So you've followed us for a while, and what we've tended to do is certainly de-lever down to where we've recently been, and as Randy just articulated and John, we have been, we still are, view ourselves as a growth company. Having said that, can we lever up and after Valley, if we're bid over two times, with FASA, we will de-lever the business, We're in the process already de-levering. Our cash flows are tremendous. DGD coming online now in the fourth quarter this year. So having said all of that, we still have the big picture from a leverage perspective of staying – You know, after the dust settles from acquisitions each time, you see what we've done. We've gotten below three times, well below three times, and that's really still our mantra and our strategy.
spk00: And, Randy, you said, you know, we're not finished with DGD, and you talked about SAF. But is there, you know, as you make acquisitions to underpin, you know, feedstock, is there, what's the thought about what's next? I hate to ask that question, but what's next in terms of another plant?
spk13: Yeah. Hi, Ben. So this is Sandy Dudley. You know, I think we're right now working on feverishly trying to complete DGD3. But that said, while there's not an investment decision on the table, You know, we purposefully left space at Fort Arthur that would work well for a DGD-4 or SAF if the marketing conditions are right. And I think, you know, if you look at both us and our partner, you know, it would be a huge underestimation to say that DGD-3 is the limit for us. I mean, if you look at our partner, you know, they've done a whole lot beyond just petroleum. And then you look at what we've done as Darling. You know, we are a great low-carbon feedstock business. a tremendous food business, and then we have an unparalleled renewables business. And then if you look at what we did together, you know, we created DGD. So I think that there's a lot more for us. I think we've purposefully positioned ourselves within the market and how we built DGD3 to take advantage of whatever opportunities make sense for us going forward.
spk09: Thank you. Our next question will come from Adam Samuelson with Goldman Sachs.
spk03: You may now go ahead.
spk06: Yes, thanks. Good morning, everyone. Randy, I was hoping maybe first if we could just think about the updated view on the base business for the year. And I think in your prepared remarks you said 1 to 1.05 billion for the base and then another 60, 70 or so for Valley. Could you help us just frame kind of how the key moving pieces of how that's changed relative to where you were at the end of February, and specifically that just assuming forward curves on fats and oils from here? And then I have a follow-up on Valley.
spk11: Yeah. No, Adam. Essentially, it's a bit dynamic and a bit crystal ball-ish here a little bit. little bit. But, you know, we're looking at the Q1 run rate, you know, and then I'm looking at April now and, you know, basically doing rendering math, divide by four times 13 and then extrapolate now. So it's very simple as we look at the run rate. And we have not seen the higher fat prices flow through the business here. Remember, we're 60 days sold out in front at most times now relative to the supply chain to Diamond Green Diesel. So you get a bit of a lag. So you're going to see Q2 much higher in the global ingredients business than Q1 because of the fat prices flowing through. Protein prices, well, better sequentially, lower year over year. A whole bunch of different reasons going into that. But, you know, still at the end of the day, somewhat at or near in many places to soybean meal. And as long as soybean meal doesn't crash, we should be good there. The Russolo and the food ingredients business is really just starting to ramp up as sales move forward here. And so we feel pretty good there about it. So it's pretty simple math of extrapolating the first quarter and then taking April, divide by four times 13, and that'll put you at the one, you know, basically the 105-0 run rate. And then Valley, we believe, will run at about $8.5 million, maybe up to $10 million a month here. for the balance of the year, and there's seven months left. And so, you know, that's not added in there yet. We're still, you know, we're really on day number eight of Valley, so it would be kind of hard to tell you. Remember, you know, while it was in Hart-Scott filing, you know, in today's world, you didn't get to do a lot of deep dive into people, places, and pricing, if you will. And so now we're just getting into it. You know, the benchmark for next year there is just simply saying we should be able to get the similar margins out of that business operationally and marketing-wise and product mix-wise that we have in our base business. So that's how that's all extrapolated. And Sandy's numbers are 750 times a buck and a quarter divided by two. And that's the magic math. I don't know that that works in Goldman Sachs quantum physics class, but that's rendering Randy's math.
spk06: I'm no quantum physician, so I appreciate that. But on the Valley Protein for next year and just thinking about getting that business to more in line with your legacy U.S. business, can you talk about where the bigger opportunities were? Is it product mix on me moving some of the poultry by product into pet food markets? Where was the gap in terms of their performance and their operations and their mix that that you're so excited about?
spk11: It's a little bit of everything. Number one, when a business goes for sale and management teams and operating teams find out they're going to have a new owner, it becomes a bit of a challenge to keep momentum. I would say they lost a little bit of focus and momentum around the business. There's a little bit of capital. It's not giant numbers that have to go back into this to bring it up to our standards. But you start to look at species-specific, moving different products around. We look at what we're selling product for versus what they have sold product for and saying if they would have only sold the product at the same price we did or near, that's a significant number. There's 1,900 people in 18 factories. I mean, simple math again, 105, 110 people. There's a lot of people that we've got to figure out what they're doing. And then you look at it from a yield standpoint, from an energy operating cost standpoint, and we see significant opportunity there to teach the organization how we do it. I don't want to ever say we're the best of the best, but I think we're pretty darn good at what we do. And when we benchmark ourselves against them, if we can get them to where we're at, you know, it is very easily the achievable 150 number next year that we're throwing out there.
spk06: And if I can just squeeze one more follow-up, where are spot margins in DGD today, and how is a backward-dated kind of diesel curve kind of impacting kind of your margin capture? You want to take that, Sandy?
spk13: Yes. So, you know, diesel spot margins today are well above, you know, where they were for Q1. You know, they're getting closer to the $1.50 to $2 level. It just kind of depends on the day, where the rinse price is, feedstock prices, et cetera. It's well above what we saw, you know, the last quarter. So that's positive. And I think that if you look at where we're estimating for the year to end up at $1.25, That probably looks like a pretty conservative estimate at this point in time. So we're really happy about that. In terms of the backward-aided curve, the backward-aided curve for us, what we do is we don't necessarily hedge our volumes out to the front month. They're going out to further months. And so we're not capturing that full front month value that you're seeing.
spk06: Okay, that's really helpful. I'll pass it on. Thank you.
spk03: Our next question will come from Ben Bienvenu with Stevens. You may now go ahead.
spk04: Yep, thanks so much. Good morning. Good morning. I want to ask about your acquisition strategy around continuing to build out your feed ingredients business. Strategically, it makes all the sense in the world. And I think you guys are in a relatively unique position in that your vertically integrated renewable diesel production positions you to acquire these assets, I would think, without a lot of relative competition for these assets. The multiples you're paying suggest that. Can you talk about the potential, though it seems remote, for the competition for these types of assets to grow? And when you think about the value that you can add to these businesses when you buy them, given your long history of running and operating these types of businesses efficiently, how that positions you competitively relative to potential other suitors for these types of businesses.
spk17: Yeah, this is John. I mean, first of all, thank you for asking that question. This is something we sit around all the time and wonder, especially, quite frankly, when we see the multiples that others are valued in the marketplace. The reality is this, the feedstock supply position that we've established around the world in today's marketplace would cost an insurmountable amount of money for anybody else to come in and try to replace. But more importantly than that, the supply system associated with low carbon fats is a complicated supply chain. These are complicated supply chains to our plants. Our plants are complicated to run. And the sale of the product in the marketplace and the supply chain is a complex mechanism to operate. So if somebody went in today's market, which basically what we've seen in recent acquisitions with others, if you look at what you've heard in the marketplace in relationship to other acquisitions that have occurred out there that we haven't been engaged in, you would see multiples in the 12 to 18 times range. If you went out to try to replace the size and scope of our system At those types of multiples today, you would have to break a bank to come up with enough money to do that. So the reality is we're hard to duplicate. In fact, we're impossible to duplicate. Now, it's pretty easy to set up a trading desk and put a guy at a desk with a telephone and say that you've got procurement expertise on fats. You've got the ability to call us up to try to buy fat and others like us, but you don't really have the ability to source fat from its origin source. which is what we do. We go out to restaurants and pick up the fat. We go to slaughter facilities and pick up the processing material and bring it in process. We go out and pick up the food plate waste and come in and turn that into bioenergy. The reality is that system is very, very difficult. Nobody else has that. Nobody else has the vertically integrated position in this marketplace. And it seems to be the best kept secret in the entire industry.
spk11: Yeah, I would add, Ben. I mean, it's a very special business that we've put together over the last 20 years. Clearly, the marketplace is still trying to understand what we have, what the competitive advantages are. I mean, you know, scale, geographic, people, expertise, product line. You know, when... A meat processor around the world, whether it's in Brazil or China or Australia, thinks about it. The first call is to us now because they know we can derive maximum value for them with the product line that we can convert their byproducts into and thus essentially pay them more, make them more competitive, and help them grow at the same time meeting our shareholder requirements growing. Like I said, we still see the world as our oyster out there. John was... John was talking about, you know, I always like to give a little joke about it. I mean, RTI traded out there at 15, 16 times. You got 200 million pounds of fat. Well, that's great. Well, we got that with Valiant. Oh, by the way, we got 18 other rendering plants for free. So, you know, it's really how do you look at this stuff? And this is really a very special platform around the world that has, you know, it always has competition. But we have such a position now, I think it's very defensible, and it will continue to grow.
spk04: That's great. Yeah, definitely an enviable position to be in. My second question relates to cash flow, and I'm less looking for a direct answer and more hoping that you can help us think about calibrating strategically. And the question is, you know, I think – We've certainly been guilty of this, focusing a lot on what might the distribution of cash flow from the joint venture be back up to Darling in 2023 or beyond. And I'm kind of stepping back and seeing or thinking now, hey, you're making acquisitions across the feed ingredients business. You're investing into organic growth of the business. You're buying back stock. talking about potentially SAF down the road at the economics lineup. And I guess it sounds more like you've got a lot of opportunities that you might pursue and the returns will dictate where you put the capital to work. But as we get closer to what's likely to be a very sizable amount of free cash flow coming back to the business, have you considered setting up a framework or a structure to create some predictability in our expectation of where that cash might go, or is it truly going to be variable depending on the environment?
spk11: No, I think, Ben, I mean, you articulated about six hours of the board meeting the last couple days there, and to be honest with you, yeah, I mean, we will be articulating that. I mean, number one, we will maintain, and our goal is to become investment-grade and maintain sub-3.0 leverage. So, you know, if you say $1 gets you to the trajectory of delevering after the growth that we've done here, that's very simple to do given the massive amount of cash that's generated. Number two, John Bullock has projects that will compete for capital. And number three, we'll continue our share buyback on an opportunistic basis, just like we've done. We're committed to that. And four, If there's any shekels left in the cigar box, then the board will have the opportunity to put a dividend under it in 23 to be meaningful. So there's going to be a balancing act of all four items with the number one being maintain the leverage at investment grade levels or below. Number two, fund the growth as we see it out there that has reasonable returns. Number three, Buy back stock when it makes sense, when that is the best investment, and make sure we don't dilute anybody at any time. And four, consider a dividend when it makes sense here. And so I think that's exactly what you're going to see us do, and we're going to be committed to it.
spk09: Very good. Sounds great. Thanks so much. Best of luck. Our next question will come from Thomas Palmer with JP Morgan.
spk03: You may now go ahead.
spk07: Good morning and thank you for the question. Maybe follow up on Adam's question on DGD's economics and dig into some of the factors that maybe could cause DGD to vary from the spot rates you cited. So I'm just going to list a couple things. So first I saw you have an approved pathway in California for renewable naphtha. Have you started selling into LCFS markets with that? Second, the derivative losses were pretty sizable last quarter. At this point, should we expect additional losses in the second quarter, or is it mainly going to be isolated to that first quarter? And then third, to what extent should we factor in startup costs at Fort Arthur as we look at the fourth quarter?
spk10: Thank you.
spk13: Okay, so I guess I'm going to start with our feedstock or our hedge loss because you brought that up. So typically what we do at DGD is we buy our feedstock months in advance. And when we do that, generally what we try to do is we try to hedge the spread between the feedstock price and the diesel price. That means that we're putting on hedges in the months in which we plan to sell the diesel. that's typically not the front month. So that's in part an answer to your first question on why we don't realize the front month margin. So basically then, and because we're putting those hedges on, and specifically within Q1, what we saw is we saw that that diesel price continued to climb all quarter long. And what that meant then is it meant that we were buying our hedge back at a higher price than what we put it on at. That's what created the hedge loss. And in terms of what we expect going forward, we don't know where diesel prices are going to go. We're not going to expect the spread. We have a normal hedging policy that we plan to maintain. And so where that falls out is where it falls out. In terms of Port Arthur and margins and where we think things are going to go, We think that there's a lot of support within the market. You know, what we've seen recently that was different than what we saw really in Q4 is we saw that RINs really responded as well. And we continue to think that RINs will respond in order to incent the marginal producer. And we are not the marginal producer. So we do think that we'll have good values when Port Arthur comes online. You know, we have very low carbon feedstocks that we utilize, and we're fortunate for that. And so I don't necessarily anticipate anything different with regard to Port Arthur, but we'll see. We'll see how the market reacts to that. We do see, you know, we're also seeing some movement in sort of LCFS prices, which is a good sign. We've recently seen those kind of pop back up. I know that CARB recently came out. with their report on the scoping plan or there was some initial discussion with regard to the scoping plan where they were talking about considering increasing the targets both before and after 2030. So that's very positive and, you know, I don't know if that's what's driving the increase in the LCFS prices, but I think that those will continue to strengthen there. So I think that the market looks very positive going our way and that's again why we're seeing better margins going into the future than we did in Q1. Thank you for all that detail.
spk07: Maybe just to follow up on the FAFSA acquisition, what's the structure of the rendering market in South America? Is it formula contract similar to the U.S. or structured differently?
spk17: This is John. There's a combination of formula contracts and then also some just contracts where we're pricing versus the marketplace. I think the critical issue that we see in Brazil with FOSA that we see in all of our rendering operations is that we have the right locations and relationship to where the slaughtered byproducts are being created. So we've got the really good economics. We can give a really great deal back to our raw material suppliers. because of how we're positioned in those marketplaces and kind of the form and substance of whether you're doing it on a long-term contract or whether or not you're just buying on what the current market is and passing along that value back to your raw material suppliers. I think it's sometimes overestimated. You know, we operate very different models in every continent that we operate in, but the fundamental thing is this. Are you in the right location with the right processing capability and to support the people that are providing you with the raw material products.
spk09: And if you are, then you've got a great business model. Thank you.
spk03: Our next question will come from Ken Zaslow with Bank of Montreal. You may now go ahead.
spk02: Hey, good morning, guys. Morning. Morning. I'm going to try and do some Bank of Montreal math. Maybe not that complicated, but let me just try this out. If you're guiding this year to $1.1 billion for the rendering and you have another $150 million of incremental profits coming from Valley, that seems to add up about 1.25 for next year without any changes. And then if I think about the Diamond Green Diesel, going to about 1.3 billion gallons next year, holding margin at $1.25. That's kind of close to about $800 million. Is there anything wrong with Bank of Montreal math?
spk11: I would say, okay, we're guiding a billion, a billion 50 in the base business, add 50 to 60 for accretion from Valley this year, so you could say up to 1.1 there. So I call it 150. That's an incremental 100 over the 50 this year. So if prices hold, volumes hold, then, yeah, you could go 1.1 to 1.2 next year. And then, you know, I'm looking at Sandy, you know, if we, you know, billion two is what we're saying. You're rounding up to a billion three now. I'm not allowed to do that yet, although I kind of believe it'll do that. And you're right. I mean, you know, that is Bank of Montreal math, and I love it.
spk02: And that also excludes FAFSA. Is that also true?
spk11: Yes. Yeah, and like I said, it's at a 500 million or up, you know, divide by five on the real plus or minus a couple bips there. So it's at 100 million run rate right now, USD. Okay.
spk02: And then also just to make sure I fully understand this, what new capacity for you guys is coming online this year on the food side? And does that add incremental profitability?
spk17: We have one unit coming on to expand our pepton capability later this year.
spk02: So that would also be marginally incremental as well. Is that fair?
spk11: In 23 as it comes on. It's supporting the growth in the hydrolyzed collagen business for next year.
spk02: Okay. All right. That was just trying to just do BMO math. And then the second question I have, just to double check on this, next year when you, from the Diamond Green Diesel business, if you pay a dividend back to yourself, that could be used to deleverage the balance sheet. So leverage is really not an issue that I should know about. Or I know, Brad, when you discuss the leverage, you're talking about, you know, generating tons of cash flow, but you also have this diamond green diesel dividend that might be coming back next year. So that also provides a little likelihood of deleveraging, or am I misunderstanding that as well?
spk11: No, I mean, you know, using the math that you generated there, yeah, I mean, you know, if we snapshot the world as of May 2nd or whatever, Brad, we're what, 288 levered with something like that plus Valley in there now? So, I mean, you know, we're where we want to be right now. And then if we start pulling dividends of $400 to $600 million out of Diamond Green next year, on top of a core run rate that has a billion number in it, that, you know, there's somewhere between $700 and a billion of free cash to, you know, like I said, do one of the four things that we're going to do.
spk02: Okay. And then my last question is, is when I think about SAS, what is the pathway to that and what will be the key milestone for you to be aware of that? And then I'll leave it there.
spk13: I think the big milestone for us really is to get a tax credit put in place. That's really the main holdup. So we need to see what that looks like and see if it makes economic sense before we want to make an investment decision on that.
spk08: Great. I appreciate it, guys. See you next weekend. My pleasure.
spk03: Our next question will come from Matthew Blair with Tador Pickering Holt. You may now go ahead.
spk05: Hey, Randy. You mentioned that DGD is pulling some feedstocks from Brazil today. What percent of DGD's feed is imported now? And looking forward, do you expect the U.S. to to pull an increasing amount of global feedstocks to support all this RD growth? And if so, it seems like your Gulf Coast location could be pretty ideal. So I was hoping you could comment on that.
spk11: I'll comment a little bit and let Sandy put her thoughts together. I mean, clearly, we have the arbitrage flexibility. We're bringing stuff from all over the world today into Diamond Green Diesel 1 and 2, and obviously, we will with 3. I mean, that's the beauty of those locations. Received by water, can ship by water. And, you know, as long as the U.S. is really the leader in low-carbon markets and as long as the capacity is here, not in Europe, then, yeah, we'll continue to originate. Sandy, you want to comment a little bit?
spk13: Yeah, I think as we, you know, have expanded our capacity, then we've drawn more international feedstocks into the mix. I would expect that we would do the same once DGD3 comes online. And I think we want to do that because we have the unit that can run the cheapest fats, you know, and so we want to do that so we can create the highest margins. And so, you know, we're fortunate that we sit in the Gulf of Mexico and where we do and that we have the capabilities that we do with our unit, that we have the pretreater, that we have, you know, just tremendous logistics and that we can bring in whatever the cheapest fat is from wherever that is in the world.
spk05: Great. And then thinking about the $1.25 EBITDA guidance for 2022, I was curious if you view that as somewhat of a floor, just considering that some of your competitors seem to be struggling even to stay cash break even in this environment. So is that $1.25 a floor in your mind? And then also, does that $1.25, is that enough for you to support additional RD investment?
spk11: Yeah, I'll try to answer that a little bit. Maybe John will want to pipe in. Number one, as Sandy said, we look at the ability of the feedstocks we can run and originate from around the world that gives us an incredible competitive advantage. You heard about the pathway on NAFTA now that's out there, the CI scores that we have. You know, the supply chain between us, you know, no one ever talks about Valero's supply of corn oil. I mean, that's important into this facility. So $1.25, I always hate to use as a floor, but right now with what we see, you know, obviously with the inverse or the backwardation, I had to learn what that word meant in the market. Clearly, as we go forward here, you know, it looks like it's conservative with what we see. And going forward, nearby spot margins are quite a bit above that. But as we work through the volatility and then the world dealing with renewable demand with the higher oil prices, we'll see. Keep in mind, $1.25 against a $3.30 a gallon investment is still an incredible return for us as we go forward. Sandy, John, anything you want to add?
spk17: Yeah, I think the only thing that I would add to it, and we've talked about this a lot in the past, We have built a machine that is the right machine in the right location with the right expertise and the right capabilities. And essentially what we have is a Swiss watch. We are fully capable to maximize margins in the environment that will develop in the future. We have a lot of folks out there that are not building Swiss watches. They're trying to come out with the cheapest knockoffs they possibly can to try to participate in what looks like a massively lucrative business. This is a very good business if you're in the right location, with the right machine, with the right logistics, with the right people. If you're not, it's not so much fun, and we're starting to see that from some of these other guys. So margins will go up and down over time at Diamond. We're fully confident that we built the right machine with the right partners, and we're prepared to compete for the long haul. And we think that margin structure is going to be solid for us. And as Randy said, at $1.25, it remains the best investment. that you could possibly have an ag or energy in the world.
spk09: Thank you very much. Our next question will come from Sam Margolin with Wolf Research.
spk03: You may now go ahead.
spk12: Hey, morning, everybody. How you doing? Morning. Quick one on this green energy initiative. Maybe you could elaborate. I guess you're talking about RNG, digester gas, and I was just wondering, you know, given it makes sense, right, given where energy costs are in Europe, is this a business that you imagine as kind of an internal, almost like a co-gen business, or are you planning to distribute, you know, what you produce to third parties?
spk17: No, this is John. We've been engaged in digestion in Europe now for a very long period of time. We ran one of the largest digesters for Since we bought Vyond at our Saan facility in the Netherlands, we recognize this. It's interesting. Low carbon, everybody has been focused on just low carbon biofuels, and that's a very important marketplace. However, in Europe, you have a fundamentally different pricing structure. The price for fixed power is so much more expensive. This is before Vladimir Putin invaded Ukraine. It's much more so today. But even before, fundamentally, they had high natural gas prices. And that led to an extremely lucrative market. They have also developed policies that support fixed power generation, similar to what we've talked about as a renewable electric credit in the United States that's never been fully baked into the regulatory scheme in the U.S. It is in Europe. And so we have the expertise. Again, running digesters is a tricky proposition. We have great internal expertise. We've expanded San over the years. We put a unit into our Dunderloo facility in Belgium a few years ago, expanded that, just recently bought Uptabak. And we continue to look to expand that business because we just think fundamentally it's a great place in Europe to take advantage of the low-carbon fixed power market because the marketplace is structured such that it makes a lot of sense to be engaged there in the regulatory scheme. is extremely friendly to being able to be in that industry. So, again, we're in the right place at the right time, but we've not set on our laurels. We've rapidly expanded that with an absolutely fabulous European team we have working on this.
spk11: Yeah, Sam, the supply chain there is obviously we can divert different streams from plate waste that has to be recycled to manure. We're in partnership with the Dutch farming community to – you know, different animal byproduct streams that are not allowed to go back into feed. And clearly, you know, then from there you obviously make the gas. We convert the gas to electricity through the turbines and we make biophosphate fertilizers that go back into the marketplace. And so it's just a natural force. As John said, we operate the largest facility in the Netherlands in Sundh. We built and have doubled and tripled the size of our Dunderloo, Belgium facility. Now we added OOP to back, and we still see three or four different opportunities throughout Europe, from Poland on to Germany, that allow the same thing because of the, if you think of it, it's the logistical supply chain. You've got to have the trucks to collect the material. It's no different, in a sense, from the used cooking oil business. In North America, we're just picking up different streams, and instead of settling or or purifying used cooking oil, we're converting it back into green electricity. So it's a very natural fit.
spk12: Got it. Thanks for that. And then just a quick one on food. I mean, if I kind of look at the margin progression and I overlay that with, you know, the way you talk about the segment in terms of mixed benefits and new products, you know, it looks like we are almost at the finish line of the new product contribution kind of overwhelming and making up for the energy costs. Edwin that was that was hitting margins earlier you think that is that a fair assessment and then on you know on the margin side is that just going to keep going where now you know that business has essentially fully absorbed the energy cost impact and now you're just sort of banking the mixed benefit on the collagen side and yeah I'm not totally under sure that I understand the question
spk17: Let me comment generally about this segment. We have seen tremendous margin improvement in our food segment because we were an early adopter into the pepton space and have been able to divert a lot of products towards that much higher margin product marketplace. And the demand in that marketplace, I have to tell you, is absolutely stellar, and we don't think that that stops. So we still think there's plenty of opportunity for us to grow in that space, and we work hard on that every day to take advantage of opportunities to grow. I'm not quite sure I understand the energy cost component of what you were asking us.
spk12: Well, the question, so you had, you know, you had margin benefits accruing from product mix on the Pepton side, but it wasn't accumulating to full segment margin gains, right, year over year, you have a little bit of a decremental margin in food. And I'm attributing that to energy costs. And so I'm just wondering if now that energy costs have kind of maybe plateaued, you know, we're sort of through that process, and you'll start to see food margins expand because there's nothing interfering with that.
spk11: Yeah, I think, Sam, that, you know, I think there were multiple things, obviously, from COVID, you disruptions, container freight disruptions, energy price escalation, raw material price escalation, that all impacted that food segment. Really, instead of going into hyperspeed, it stayed back on cruise control last year. We're starting to see that now accelerate in first quarter, and we think it'll continue through 2022, and then we bring on some more capacity in 2023. So I think you'll see a an improvement there. I think, is that fair enough, John?
spk17: No, that's exactly right. Energy was part of it, obviously, but there were, as Randy said, a variety of factors that just kind of flushed together that kind of delayed what we thought was going to be the impact coming out of this. But now we're starting to see it, and it looks like it has an excellent growth curve to it.
spk09: Got it. Thank you. Our next question will come from Bill Baldwin with Baldwin Anthony Securities.
spk03: You may now go ahead.
spk16: Thank you very much. I wanted to see what insights you could offer regarding your rendering volumes in Europe. You indicated you're going to have roughly around 15 million metric tons globally with the acquisitions that you've made. Where do we stand in Europe in terms of those volumes, and what are the trends there? Are they static? Are they growing? Are they declining? Can you give us some feel for that?
spk11: Well, I think, you know, Bill, we had about 11.5 million tons, added 2.5, a little under with Valley, and another little under a million and a half with FASA. So that's where the 14-something rounding to 15 million comes from. Never really broke out in Europe, but what I can tell you in Europe today is The volumes are actually up year over year right now, pretty steady. Animal agriculture is under attack a little bit in Europe today, you know, really what climate change and what's to do with the manure. We've seen some animal disease issues in Europe, ASF up in Poland, a little bit into Germany, and then we've seen some bird flu issues. Now, remember the While the bird flu side depopulates in Europe, anything that does with animal disease gets brought into one of our seven RENVAC plants to be disposed of. So we benefit on both sides there. But really no material changes, I mean, yet today in animal production or demand in Europe.
spk17: John, Brad, anything that you're... No, I think one of the interesting things that we've seen, and it was interesting when COVID started, We sit around and worried about what was going to happen to our volume and it didn't go down and it went up. And then as we've seen supply chain disruptions around the world, we sit around and worry that our volume is going to go down and it goes up. The reality is the demand consumption by the world now, while everybody complains about prices, people are still buying. And so we see tremendous volumes continuing to flow through our facilities. And that's part because we keep bringing on additional production capability all the time to be able to handle that. So it's great right now.
spk11: Yeah. And I think more importantly in North America, we're still running, plants are having to run six days to make five days of production in the, in the meat business because of labor shortages. I mean, it's just universal. So, I mean, clearly the demands there and they could run more if they had more people. So it's a, uh, we're, we're optimistic for the year that the volumes will remain robust and they're, you know, up 3.6 year over year right now during Q1.
spk16: Yeah, that's been, uh, that's been, well, we expected volumes to be pretty good, uh, here in the early part of the year. I think kind of felt like they might trail off a little bit in the beef as you got out towards the latter part of the year, but it sounds like you're not really expecting that, Randy. Uh, not seeing it yet. Right. Uh, Last question, as far as the European rendering, can you offer a little bit of a species breakdown as to the percentage of beef, pork, and poultry that you process through your rendering plants there? How does that kind of stack up?
spk17: Well, this is John. There's less cows in Europe. There's a whole lot of chickens and there's a whole lot of pigs. We're engaged heavily in both of those.
spk11: Yeah, I mean, Germany is clearly a beef country, you know, Holland has a lot of pigs and Poland has a lot of chickens. So it's pretty similar mix to what we have in North America here. So it's just differential which country because you've got more pasture land, obviously, in Germany.
spk16: Okay.
spk08: Thank you very much.
spk03: This concludes our question and answer session. I would like to turn the comments back over to Randy Stewie for any closing remarks.
spk11: All right. Once again, thank you, everybody. Appreciate everyone's time today. Hope you stay safe. Look forward to seeing you sometime at any upcoming events. Next week we'll be at BMO presenting there, and I look forward to everybody catching up and staying healthy and being safe. Talk to you soon.
spk09: The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
Disclaimer