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Edited Transcript of PEIX earnings conference call or presentation 13-Mar-19 3:00pm GMT

Q4 2018 Pacific Ethanol Inc Earnings Call

FRESNO Mar 18, 2019 (Thomson StreetEvents) -- Edited Transcript of Pacific Ethanol Inc earnings conference call or presentation Wednesday, March 13, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Bryon T. McGregor

Pacific Ethanol, Inc. - CFO

* Neil M. Koehler

Pacific Ethanol, Inc. - Founder, CEO, President & Director

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Conference Call Participants

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* Eric Andrew Stine

Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst

* Sameer S. Joshi

H.C. Wainwright & Co, LLC, Research Division - Associate

* Moriah Shilton

LHA Investor Relations - SVP

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Pacific Ethanol, Inc. Fourth Quarter and Year-End Financial Results Conference Call. (Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Ms. Moriah Shilton, LHA Investor Relations. Ma'am, you may begin.

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Moriah Shilton, LHA Investor Relations - SVP [2]

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Thank you, Joyel, and thank you all for joining us today for the Pacific Ethanol Fourth Quarter and Full Year 2018 Results Conference Call. On the call today are Neil Koehler, President and CEO; and Bryon McGregor, CFO. Neil will begin with a review of business highlights. Bryon will provide a summary of the financial and operating results. And then, Neil will return to discuss Pacific Ethanol's outlook and open the call for questions.

Pacific Ethanol issued a press release yesterday providing details of the company's financial results. The company also prepared a presentation for today's call that is available on the company's website at pacificethanol.com. If you have any questions, please call LHA at (415) 433-3777. A telephone replay of today's call will be available through March 20, the details of which are included in yesterday's earnings press release. A webcast replay will also be available at Pacific Ethanol's website.

Please note that information in this call speaks only as of today, March 13. And therefore, you're advised that time sensitive information may no longer be accurate at the time of any replay. Please refer to the company's safe harbor statement on Slide 2 of the presentation available online, which says that some of the comments in this presentation constitute forward-looking statements and considerations that involve a number of risks and uncertainties. The actual future results of Pacific Ethanol could differ materially from those statements. Factors that could cause or contribute to such differences include, but are not limited to, events, risks and other factors previously and from time-to-time disclosed in Pacific Ethanol's filings with the SEC. Except as required by applicable law, the company assumes no obligation to update any forward-looking statements.

In management's prepared remarks, non-GAAP measures will be referenced. Management uses these non-GAAP measures to monitor the financial performance of operations and believes these measures will assist investors in assessing the company's performance for the periods being reported.

The company defines adjusted EBITDA as unaudited net income or loss attributed to Pacific Ethanol before interest expense, provision or benefit for income taxes, asset impairments, purchase accounting adjustments, fair value adjustments and depreciation and amortization expense. To support the company's review of any non-GAAP information later in this call, a reconciling table was included in yesterday's press release.

It is now my pleasure to introduce Neil Koehler, President and CEO. Neil?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [3]

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Thanks, Moriah, and thank you, everyone, for joining us today. At Pacific Ethanol, we are focused on delivering long-term sustainable growth and profitability for our shareholders by being a leading producer and marketer of low carbon renewable fuel and high-value feed and alcohol products. Through both organic growth and acquisitions, we have established a footprint of 9 plants with an annual capacity of more than 600 million gallons, while diversifying product offerings and expanding nationally.

The ethanol production facilities we originally built in the West and the facilities we subsequently purchased in the Aventine and ICP acquisitions are valuable assets. We have invested significant resources into these facilities to improve performance, diversify revenue streams, build efficiencies and lower production costs. There remains additional cost-effective opportunities to continue to improve these facilities and make them some of the most competitive in the world. This is important, as the biofuels business is growing nationally and internationally, fueled by the need for high octane, low carbon and low-cost transportation fuel. While the U.S. has been impacted by a combination of oversupply, regulatory uncertainty, demand destruction through the questionable overuse of small refinery exemptions and international trade disputes, we expect these negative forces to change for the better and return the industry and Pacific Ethanol to a much stronger position.

All this being said, we believe our platform's value is not appropriately reflected in our current enterprise valuation of less than $0.30 per gallon against recently publicly announced asset sales of over $1 per gallon and replacement value in excess of $2 per gallon. To remedy this, we have initiated a plan to complete over the next 6 months a strategic realignment of our business. Our current focus is on the potential sale of production assets, reduction of our debt levels, strengthening of our cash and liquidity and opportunities for strategic partnerships and capital raising, all positioning the company to optimize our business performance.

We have great confidence in the strong relationships we have built with our financial and commercial partners, and we believe we are taking the appropriate steps to increase our shareholder value to benefit all our stakeholders long-term and to provide greater financial flexibility to execute future strategic initiatives. We have engaged Piper Jaffray to aid us in the potential sale of production assets.

Now on to a discussion of the fourth quarter and full year 2018 results. We firmly believe the compelling cost, octane and carbon benefits of ethanol will continue to drive both new, domestic and export demands to levels in 2019 beyond the record total output and export volume set in 2018. However, production margins in the fourth quarter sunk to historic lows and current margins, while improving, remain at nonprofitable levels. This sustained poor margin environment impacted both our fourth quarter and full year 2018 results.

For the fourth quarter, net sales were $334 million from a total of 209 million gallons sold. Net loss available to common stockholders was $32.3 million, and adjusted EBITDA was a negative $18 million. Our results were impacted by a few factors. The loss was primarily driven by a sharper lower average ethanol sales price per gallon during the quarter, compressing production margins. For the full year, ethanol prices fell to a 13-year low. The industry's historically high inventory levels also negatively impacted ethanol margins in the fourth quarter. In response to high inventory levels and lower margins, in the third quarter, we moderated production in locations most impacted in where we weren't otherwise contractually committed, and we continue this practice into the fourth quarter. As a company, we reduced our production levels and are running at around 85% of operating capacity across the portfolio.

Turning to the overall ethanol market and gallons sold, 2018 set new records for total output and export volumes. Ethanol production reached an estimated 16.1 billion gallons in the year, marking the sixth straight year of incremental growth. Total consumption rose to a record 16.2 billion gallons, 300 million gallons more than a year ago, driven largely by steady domestic sales and record exports of 1.7 billion gallons, as global octane demand continues to grow. Brazil and Canada remained top customers for the fourth straight year, accounting for half of all U.S. ethanol exports. We continue to see new growth opportunities for exports in Asia, the Middle East, Central America and Mexico.

Looking ahead, global demand is strong, with clear opportunities for additional growth. First, the EPA yesterday released the proposed rule for facilitating year round use of E15, reconfirming its commitment to a final rule by June 1 of this year in advance of the summer driving season. We are confident this will result in incremental demand this summer and will continue to accelerate the introduction of higher blends. Second, export markets are expected to continue to grow with the resolution of trade disputes with China opening up a large new market for U.S. ethanol as China continues on its path to incorporate 10% ethanol blends into its gasoline supply. A 10% blend would require over 4 billion gallons of ethanol annually in China. Current domestic production capacity in China is about 1 billion gallons and even with the doubling of domestic production, China represents a very large market opportunity for U.S. ethanol. Before the trade dispute earlier last year, China was on track to be a 200 million to 300 million gallon market for U.S. ethanol in 2018, and instead, was only around 50 million gallons. A reasonably quick resolution of the trade dispute with China could add 300 million gallons of new demand for U.S. ethanol in 2019 and an excess of 1 billion gallons in 2020.

Third, octane demand globally continues to increase as ethanol is the lowest cost and cleanest burning source of octane in the market. And lastly, a renewed interest in low carbon fuels portends increased demand for renewable fuels here and abroad. Ethanol has a carbon intensity that is on average 40% lower than gasoline and with new technologies, continues to move lower, which is why ethanol has been the single largest contributor to carbon reductions in low-carbon fuel standards.

The West Coast carbon markets continue to create strong premiums for our lower carbon ethanol. In California, low-carbon fuel standard regulation updates became effective on January 4 of this year. With this set of amendments, the target is to reduce the carbon intensity in fuels in California by 20% from a 2010 baseline by 2030. The Washington legislature is considering a state Clean Fuels Program bill and if approved, would be the third state with the Clean Fuels Program, joining Oregon and California. Other states and regions in the United States are now considering similar low-carbon fuel programs. Also, Canada is finalizing a nationwide Clean Fuels Program that will be implemented in 2022.

Looking internally, in addition to our strategic realignment plans, our focus today is delivering additional value with our existing assets to capitalize on the positive macro trends by cutting cost in both the operating and corporate level, further diversifying our sales through additional high-protein feed and high-quality alcohol products and implementing new initiatives to continue to lower the carbon scores of our plants that can service valuable low-carbon fuel markets.

I'd now like to turn the call over to Bryon for a financial and operational review of our fourth quarter and full year 2018 results. Bryon?

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Bryon T. McGregor, Pacific Ethanol, Inc. - CFO [4]

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Thank you, Neil. For the fourth quarter 2018 compared to the fourth quarter of 2017, net sales were $334 million compared to $395 million. The 15% decline in sales is attributable to lower ethanol prices, fewer gallons produced and fewer third-party gallons sold. The lower production gallons resulted from our decision to moderate production in response to lower ethanol prices and negative ethanol margins. As noted in previous quarters this year, the reduction in third-party gallons was due to our intentional and successful effort to improve the profitability of that area of our business.

Cost of goods sold was $355 million compared to $397 million in the prior year's quarter, a reflection of lower production and third-party ethanol sales.

Gross loss for the quarter totaled $21 million compared to $2 million in the prior year's quarter due to historically low ethanol margins. SG&A expenses were $9.2 million, up from $8.6 million due to higher legal cost and a full year of ICP results. We expect SG&A for Q1 to total $9 million.

Loss available to common shareholders was $32.3 million or $0.74 per share compared to $13.6 million or $0.32 per share. Adjusted EBITDA was negative $18 million compared to $273,000 in the year ago period.

For the full year 2018 compared to 2017, net sales were $1.52 billion compared to $1.63 billion. Production gallons sold were 556 million of the total 883 million gallons sold. Cost of goods sold was $1.53 billion compared to $1.63 billion. Gross loss for 2018 was $15.2 million compared to gross profit of $5.9 million. SG&A expenses were $36.4 million compared to $31.5 million, the latter of which included $3.6 million in onetime gains associated with legal matters in the prior year.

Loss available to common shareholders was $61.5 million or $1.42 per share compared to $36.2 million or $0.85 per share. Adjusted EBITDA was negative $5.1 million compared to positive $13.6 million.

Turning to our balance sheet. For the full year 2018, cash flow from operations was $1.6 million. At December 31, 2018, cash and cash equivalents were $26.6 million compared to $49.5 million at December 31, 2017. Much of this decline is attributable to a combination of margin-related losses, mandatory capital expenditures and amortizing debt payments.

For the fourth quarter of 2018, our capital expenditures totaled $4.3 million, primarily related to plant improvement initiatives, bringing our total capital expenditures for the year to just over $15.1 million. Planned capital expenditures for Q1 currently are expected to total $4 million, solely associated with necessary repair and maintenance of our facilities.

Looking at our overall capital structure, we have $67 million in debt obligations coming due mid-December. As noted previously, we have been actively exploring options to refinance this debt. Given the strong headwinds created by sustained depressed ethanol margins, domestic demand destruction and trade conflicts, we were not able to complete a refinancing prior to year-end. Accordingly, we are required to record this debt as current. Undeterred, our refinancing efforts continue.

In addition, we are required to show the $75 million in term debt secured by our Pekin facility as current as we were out of compliance with our financial covenants and have not yet obtained a waiver from our lenders. To this end, we are working collaboratively and productively with our lenders to address these issues.

We believe successful implementation of our strategic realignment efforts, anticipated improvements in ethanol margins and near-term accommodation from our lenders will generate adequate cash to address short-term liquidity constraints and facilitate the ultimate material reduction in our debt balances and recapitalization of our production facilities.

With that, I will turn the call back to Neil.

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [5]

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Thanks, Bryon. As I opened the call, we are confident that the compelling cost, octane and carbon benefits of ethanol will drive both new domestic and export demand in 2019. We expect both domestic and export demand to achieve new highs in 2019 as a result of increased penetration of E15 and the easing of trade tensions.

With more regulatory certainty, a proper implementation of the RFS and freer international trade, the ethanol industry is poised to tighten the supply and demand balance, returning the industry to its stronger financial position. And with our strategic realignment process we are currently undertaking, we are taking necessary steps to best position Pacific Ethanol to benefit.

With that, Joyel, I'd like to open the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Eric Stine with Craig-Hallum.

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Eric Andrew Stine, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [2]

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Maybe just first a two-part question on the strategic restructuring. Just maybe more details on what you would need to do with your assets to get them in a spot where they are potentially for sale? And then secondly, you talked about further operational initiatives, are those above and beyond what you've got underway today? And potentially, what type of CapEx would that require?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [3]

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On the first part of the question, all of our plants are operating and operating very efficiently other than the one plant, Aurora East, in Nebraska that is currently idled. So to that extent, they're all ready for whatever disposition. At this point, we're running them and running them well and benefiting from some improved market conditions. As I said on the prepared remarks, we have hired Piper Jaffray to look at the potential disposition of some assets. And that's prospective, so we'll just have to see how that plays out. But we think that, that could be an important part of our realignment. In terms of initiatives, we talked about the ones that are in play. We do have any number of other ones as markets improve and whether it's adding to our solar, whether it's putting in new technologies to significantly reduce natural gas at our facilities that serve the low-carbon markets and that will depend upon capital and market conditions. But you're aware of the ones that are underway and are being finished up.

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Eric Andrew Stine, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [4]

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Yes. Okay, good. Maybe just more of an industry question. I know you mentioned 85% of capacity and I'm definitely hearing from others in the industry, cutting back on that as well, but production has still remained stubbornly high. And so just curious, what you're seeing now? And do you think as we get into summer driving season that people have the -- that are thoughtful about that and keeping production where it needs to be? Or do you expect that to come back?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [5]

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Well, I -- there has certainly been enough pain and suffering in the industry where it has forced people to take a more sober look at that and to reduce rates. And you're right, they -- inventories have remained high. Production rates have been higher than they should be, but I would also point out that quite a bit below capacity. I mean, this industry can produce at or even above 17 billion gallon rate per year and there rightfully should be a great market for that and more, but today it's not quite at those rates. Encouraging over the last couple weeks, we have seen production come on. Numbers that came out this morning had us running at a production rate of 15.4 billion gallons annualized. So that's quite a bit less than full capacity. Inventories were down over 2% and demand was up. So we -- if you look at that annualized, we're in balance to actually with the exports and domestic demand producing a bit less than the market is calling for, which is why the inventories came down. So the trend is good, and we always see it this time of the year. And I think there's a little more discipline, again, given the very difficult financial environment the industry has found itself in to try to keep some balance there that will continue to see margins improve.

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Eric Andrew Stine, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [6]

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Yes. Okay. And maybe last question from me. Just as we think about early 2019 in basis, weather in the Midwest has been pretty severe. Just curious if that has caused any issues with basis, I guess, particularly in the first quarter?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [7]

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Yes. On corn basis and ethanol basis, we've seen increases in both. Unfortunately, the increase in corn basis that we've seen on a short-term basis has been greater on a per gallon basis than the improvement in the Chicago to L.A. ethanol spread. So that has pinched the -- in the first quarter the West Coast plants to some degree. We are seeing that basis come back down to normal. So it was a temporary impact. And with demand continuing to improve domestically and globally for ethanol, we're encouraged to see the strong West Coast basis and would hope that, that would continue and then on top of that, we have a very strong carbon premium because those markets continue to be very, very robust.

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Operator [8]

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(Operator Instructions) Our next question comes from Sameer Joshi with H.C. Wainwright.

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Sameer S. Joshi, H.C. Wainwright & Co, LLC, Research Division - Associate [9]

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The question is related to the positive news on the E15 front and also on the trade front juxtapositioned with your decision to divest some of your assets. If there is a positive outlook, what is it that is prompting your sale now?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [10]

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I kind of missed the last part of the question.

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Sameer S. Joshi, H.C. Wainwright & Co, LLC, Research Division - Associate [11]

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Given that your outlook is good for -- based on E15 and based on trade dispute settlements, what justifies the shutting down or selling the plants?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [12]

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Right. Well, the Aurora East was shut down because its economics were marginal at the time, and it was part of our efforts to do our part to reduce overall production rates. That plant can be turned on anytime, and we continue to evaluate that. But for the last part, Eric's question, it's important that we take this one step at a time as an industry and don't dial up production rates to where, suddenly, we're right back in the soup. As it relates to the potential sale of assets, I mean, that's really looking at our own balance sheet. This will continue to be a commodity business, very volatile one at that. And while we are encouraged by improving conditions, we think it is prudent to address debt issues with the company. We do have gap that is maturing in December, working through our issues with our lenders in Illinois as well. And that is part of addressing our specific balance sheet issues in a very proactive, prudent way, so that we can be even in a stronger position to benefit from the improving market conditions.

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Sameer S. Joshi, H.C. Wainwright & Co, LLC, Research Division - Associate [13]

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Okay. On the SG&A front, you mentioned one of the things you're doing is raising costs at both the corporate and the plant level -- operations level. What -- have any of these changes been implemented and do they reflect in the 4Q numbers?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [14]

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They do not. I mean, we've been continuing to run as efficiently as possible, but with some legal issues that we've been working through, they were elevated in Q4. That is declining, so that will be an improvement. We've had vacancies, both at the corporate level and even at the overhead levels at the plants that we have not been filling. So it is a -- it's a gradual trend, and we're continuing to work very hard on that. We feel that our SG&A rates are -- on a enterprise basis are pretty efficient to begin with, but we're working to bring them even lower.

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Sameer S. Joshi, H.C. Wainwright & Co, LLC, Research Division - Associate [15]

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Okay. One last one from me. If you would invest in lower carbon technologies and cellulose like technologies and solar and other investments, would that help -- or does that help with your exports if China opens up?

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [16]

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The China situation is just a overall supply and demand globally, given that this is a global market. And all boats will be benefited from that rising tide. As it relates to our low-carbon technologies, that strategy always about selling our ethanols close to those markets and as close to those plants that are located in those markets as possible. So it would always be a higher value to sell with that very significant premium on carbon into those markets than export. That being said, we do have our production in Nebraska that spreads very well to the Gulf and will be and has been part of supply in international markets.

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Operator [17]

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This concludes our question-and-answer session. I would now like to turn the call back over to Neil Koehler for any closing remarks.

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Neil M. Koehler, Pacific Ethanol, Inc. - Founder, CEO, President & Director [18]

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Thank you all for joining us today. Appreciate your support of the company. We're encouraged by the trends in the market and the initiatives that we're taking as a company. And we look forward to speaking to you soon. Have a great day.

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Operator [19]

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Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program, and you may all disconnect. Everyone, have a wonderful day.