LSB Industries, Inc. (LXU) Q4 2017 Earnings Report, Transcript and Summary

Greetings and welcome to the LSB Industries' Fourth Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Kristy Carver, Vice President and Treasurer. Thank you. You may begin.

Thank you, Christine. Please note that today's call will include forward-looking statements, and because these statements are based on the company's current intent, expectations, and projections, they are not guarantees of future performance and a variety of factors could cause actual results to differ materially. As this call will include references to non-GAAP results, please reference the press release in the Investors section of our website, lsbindustries.com, for further information regarding forward-looking statements and reconciliations of non-GAAP results to GAAP results. At this time, I would like to go ahead and turn the call over to Dan for opening remarks.

Thank you, Kristy and good morning to everyone. We're pleased to have you on our call this morning and appreciate your time. During our discussion this morning, we will cover our 2017 fourth quarter results and share some early thoughts on the nitrogen markets for 2018. We'll also discuss our significant commitment to improving our on-stream rates at our production facilities. On-stream rates, cost reduction and further cost savings initiatives are key focus for us in 2018 and both John Diesch and Mark Behrman will discuss our action plans. Finally, I’ll recap our six key focus items for 2018. Our revenues were approximately $89 million in the fourth quarter of 2017 compared to $85 million in the prior year fourth quarter, an increase of $4 million or approximately 4%. The increase was attributed to both higher shipped industrial volumes and the overall increase in product selling prices. Our fourth quarter 2017 EBITDA declined by approximately $3 million compared to the fourth quarter of 2016. Fourth quarter 2017 was hampered by the unplanned downtime at Pryor and El Dorado, which led to lower production volumes and reduced sales opportunities during the fourth quarter. This downtime was expensive as EBITDA was impacted by approximately $9 million for the quarter. Mark will discuss the order book delivery carry over impact for the first quarter of 2018 in his remarks. We continued to experience logistic challenges from the railroads and truck carriers. We're not alone as many of our competitors and many other industries are seeing the poor rail service. Rail service timeliness has continued to decline and we often see roundtrip routes taking 15% to 20% longer than a year ago. We have enhanced our rail car management and tracking capabilities to help mitigate the delays, but we are still seeing slow service from the railroads. Truck availability is also experiencing a general tightening due to driver availability. As many of you know, starting on January 1 of this year, carriers are now required to maintain electronic logs and that has had a significant impact on the industry. Our rates and schedules are being managed closely to keep transportation costs in check, however, this will continue to be a challenge for us in 2018. Our number one goal for this year is to significantly improve the reliability of our plant operations with a particular focus on our Pryor facility. We are fully engaged in implementing an enhanced maintenance management system, which will provide us with state of the art technology in assessing, managing, executing and improving our maintenance activities. Since our fourth quarter repairs, we have operated very well at all facilities. Specific to our Pryor facility, we have done a deep internal review of that facility, however, as I mentioned on our last conference call, we have engaged BD Energy and Black & Veatch to further review our reliability improvement opportunities. Their work should be completed by the end of the first quarter or early in the second quarter of 2018. We plan to use both our work and the outside engineering studies to further improve the on-stream rates at Pryor. We're also focused on further cost reduction and are actively implementing companywide procurement enhancements. We believe these efforts will start to achieve savings in the second half of 2018 and achieve between 3 million to 4 million of annual savings beginning in 2019. During the 2017 fourth quarter, we continued to produce selling, general and administrative expenses. The new US tax law will not have a significant cash tax impact on the company. We currently have approximately $540 million of net operating losses and are not a current cash tax payer. While we did recognize a benefit for book purposes, there is no cash tax impact nor do we expect to experience an impact until the NOLs are fully utilized. That’s several years away. We continue to see higher selling prices and firm demand as we progress into the first and second quarter of 2018. We believe the first half of 2018 will be a stronger nitrogen market than we experienced in 2017. Current important data suggests the level of imports will remain below last year's volumes. Global urea prices remain firm. We anticipate the second half of 2018 will not see the significant price weakness we experienced for the same period in 2017. North America remains import driven and the prices at the US Gulf will have to be competitive with the international market pricing to drill the import volumes into North America. We believe the new North American nitrogen capabilities that have been added during the past year and those currently coming online are more effectively integrating and improving the required distribution channels to efficiently place product to customers without incurring significant price reductions. As the distribution channel continues to mature, we anticipate product pricing volatility will be reduced and prices will improve. We're positive on both product demand and the pricing outlook for 2018 as compared to 2017. I'll now turn the discussion over to John Diesch who will cover our plant operations for the fourth quarter. John?

Thank you, Dan. Good morning, everyone. Our Cherokee facility continues to operate well. The ammonia plant had 99% on-stream time during the quarter with urea and UAN production above plan. Our El Dorado ammonia plant had a 77% on-stream time for the fourth quarter. The downtime was due to the previously announced October 16 repair and upgrade of the auxiliary boiler and shell replacement of a heat exchanger. Since those repairs were made, the ammonia plant has run at 99% on-stream time and I am pleased with how that facility is currently operating. The El Dorado nitric acid plants also ran well to meet our HDAN and LDAN demand. The fabrication of the N2O abatement vessel for the new nitric acid plant continues with delivery expected in early September. This will be installed during a planned outage this fall, the date of this outage has not yet been set and as a reminder, all costs related to its replacement are covered under warranty. Our Pryor facility has had a disappointing operating quarter. Its ammonia plant had on-stream time at 22% for the fourth quarter due to the previously announced unplanned downtime during October and the majority of November to make repairs and upgrades after the September 23 incident. The mix gas coil and high temperature piping in and around the convection section of the primary reformer was replaced and upgraded to higher performance materials. In addition, we completed a compressor overhaul in the urea plant, replaced heat exchangers in ammonia and urea that were slated for the next turnaround. Because of the work completed during this outage, we now have not scheduled a turnaround at our Pryor facility in 2018. The next scheduled turnaround will now be in the mid-2019. The plant has been running well in January and February and I expect that to continue. The Baytown nitric acid plant is also running well. We are in the midst of planning for a turnaround in October of this year. Keep in mind that since we operate this facility for [indiscernible], they incur all capital and operating costs for the plant. In early December, we kicked off the reliability and operations improvement process. We call it ROI. As part of this process, we are upgrading the maintenance management system to make it more user friendly. We are implementing a new maintenance workflow process and are doing risk and criticality assessment of equipment and instrumentation. We are also upgrading our PM programs for critical equipment with a focus on root cause of equipment failures in defining leading metrics to track progress and drive accountability. We have hired outside operational consultants to assist in this process. They will also assist us in centralizing our purchasing and stores to allow us to reduce costs, improve our buying power. We expect full implementation across all our plants by mid-2018. As I mentioned on our last conference call, we are focusing on identifying risks and improving reliability on Pryor. BD Energy Systems, a leading specialist in the design of primary and secondary reformers is analyzing heat material balances across the ammonia plant with an emphasis on improving reliability efficiency and performance. Black & Veatch is looking at reliability risks in the ammonia, urea, nitric acid plants, electrical infrastructure and other utility systems. This study will identify reliability risks, methods to reduce those risks and opportunities to upgrade or modernize systems. We expect completion of both studies by the end of the first quarter or early second quarter of this year. We believe BD Energy and Black & Veatch will confirm our initial internal assessments and may identify equipment and process improvements that will enhance the reliability of the facility. So far in 2018, all four of our plants have performed well. Our capital expenditures in 2018 are focused on safety, environmental compliance and reliability improvement. The ROI process is not only about changing maintenance methodologies and procedures, but just as importantly changing the culture. Often culture change is the most difficult. I am happy to say our people see the benefits and are actively accepting these changes. Although 2017 was a challenging year, we have laid the groundwork for continuous improvement in making our facilities safe and more reliable. I am pleased with plant performance at Cherokee, as they have operated well for almost four years. In El Dorado, now that we are past the shakedown issues at our ammonia plant, I feel good about that facility’s performance. That allows us to focus more of our attention on improving the performance at Pryor. Now, I will turn the call to Mark to discuss financial results for the fourth quarter.

Thanks, John and good morning. Page 13 of the presentation provides a consolidated summary statement of operations for the fourth quarter of 2017 as compared to the fourth quarter of 2016. In reviewing our continuing operations, total net sales increased for the quarter, primarily related to higher selling prices as Tampa ammonia averaged $300 a metric ton compared to $215 a metric ton for the fourth quarter of ’16. Additionally, sales volumes in several products increased quarter-over-quarter. Sales volumes of industrial ammonia increased as a result of improved on-stream rates at our El Dorado facility, while improved LDAN sales volumes for mining applications were driven by our sales and marketing efforts and stronger overall demand from this market. Partially offsetting that, sales were negatively impacted by lower overall ammonia and UAN volumes as our Pryor facility was down for most of the quarter. As a result, we purchased approximately 33,000 tons of UAN from third-parties to meet customer obligations and the sales and cost of sales for the purchase product are included in the fourth quarter. Gross profit decreased approximately 1.3 million versus the fourth quarter of 2017, despite higher net sales due to higher fixed costs, loss costs absorption and the aforementioned cost of purchase versus produced UAN at our Pryor facility. These higher costs were somewhat offset by improved operating performance at our El Dorado facility, which operated at an ammonia on-stream rate of 77% versus 73% in the fourth quarter of last year. Lastly, adjusted EBITDA was essentially flat for the quarter, an improvement over the marginal to moderately negative EBITDA outlook for the fourth quarter that I indicated on our last earnings call. The improvement versus our expectation three months ago was largely the result of improved LDAN sales volumes and stronger Tampa ammonia pricing. I will bridge the EBITDA for you on the next slide. Please refer to our reconciliation of non-GAAP measures, beginning on slide 21 for further information on non-cash and one-time costs incurred during the period. To give further clarity on the results of the quarter, page 14 bridges our consolidated adjusted EBITDA for Q4 2017 to Q4 2016. Higher selling prices contributed approximately $1 million to EBITDA. Despite a significant improvement in Tampa ammonia pricing of $85 a metric ton, which benefited our industrial business, pricing for UAN as well as ammonia out of our Pryor facility was negatively impacted by lower priced orders taken during the fill program in late summer. Unfortunately, as a result of the unplanned downtime, we were not able to clear these orders during the quarter, despite purchasing approximately 33,000 tons of UAN for resale. Additionally, these unfulfilled forward orders will negatively impact the first quarter of 2018, which I will discuss in more detail later. Unplanned downtime at our Pryor facility had a negative impact of almost $9 million during the fourth quarter of 2017 as compared to 2016, resulting from higher fixed costs, loss cost absorption and the cost of purchased versus produced UAN. This is slightly higher than the $7 million to$8 million EBITDA impact of unplanned downtime I had indicated on our Q3 call as we were down approximately two weeks longer than originally expected due to minor compressor issues that John mentioned earlier. Since production of ammonia at our Pryor facility began in early December, that plan is operated at an on-stream rate of 93%. El Dorado ammonia plant on-stream time continues to improve as we believe that we are past the shakedown issues that we experienced at the -- that you generally experience in the starting of a new plant. As John previously mentioned, the ammonia plant is operated at an average on-stream rate of 99% since coming back into production following the October outage that we discussed last earnings call. The plant continues to produce ammonia at a daily rate of between 1300 and 1350 tons a day. The continued improvement in on-stream rates benefited the quarter by approximately $5 million as compared to the fourth quarter of 2016. Excluding the impact from the Pryor facility downtime, EBITDA for the quarter would have been closer to $10 million. As John and Dan mentioned previously, we have several initiatives underway that we believe will lead to the improved overall reliability of our Pryor facility to avoid significant unplanned downtime and the related impact to EBITDA. Despite yesterday's announcement of Tampa ammonia pricing of $305 a metric ton for March, Tampa ammonia will average $333 a metric ton for the first quarter of 2018, which is $30 a metric ton higher than the fourth quarter of 2017 and $25 a metric ton higher than the same quarter of last year. Sales of ammonia and many of our industrial products, which are indexed to the Tampa ammonia price, will follow suit. We also expect this to translate into higher pricing for ammonia out of our Pryor facility into the ag sector. As I previously mentioned, we will have a lag effect on UANs sold out of our Pryor facility that is related to the fourth quarter downtime and the carryover of full fill orders into the beginning of March. We expect this to negatively impact EBITDA for the first quarter by approximately $2.5 million. The first quarter of 2018 will also include approximately $2 million of one-time costs associated with the use of outside operational consultants that are assisting us in accelerating the enhancement of our maintenance management system and maintenance procedures and with centralizing and expanding our procurement and inventory management efforts. Also included is the cost of several reliability studies being performed by third-party engineering firms at that facility. Despite these additional costs and the carryover of lower priced UAN, we expect first quarter EBITDA to be at or above the first quarter of 2017. Also important to note however is that the first quarter of 2017 included approximately $1.5 million of EBITDA related to our working interest in the Marcellus shale, which was sold during 2017. Page 15 outlines our capital structure at the end of Q4, 2017. We ended the quarter with over $33 million in cash. Additionally, our ABL facility was undrawn and had over $41 million of availability at year end, giving us total liquidity of approximately $75 million. As a reminder, our ABL borrowing base will vary based on accounts receivable and inventory levels. Total outstanding debt at the quarter end was approximately $414 million, excluding the unamortized discount and issuance costs associated with our debt. We also had outstanding preferred stock of approximately $185 million, including approximately $46 million in accrued and unpaid dividends. We currently expect to continue to accrue the dividends on our preferred stock as we do not meet the 2 to 1 fixed charge coverage ratio needed to make restricted payments. Last quarter, we indicated that we would seek to refinance our senior secured notes in the first half of this year. We are continuing to review our options with our advisors and lenders. Moving to page 16, we outline our free cash flow. Cash provided from operations for the 12 months of 2017 was approximately $2 million. Additionally, cash flow from operations includes a semiannual interest payment on our senior secured notes that occurs every first and third quarter of each year. Capital expenditures in 2017 were approximately $35 million. Additionally, as previously discussed, we sold off several non-core assets that generated approximately $24 million in gross proceeds during 2017. Net cash used for financing primarily reflects scheduled debt payments, including $3.5 million payoff of debt associated with the sale of non-core assets that I just discussed and our insurance premium financing. For the 12 months 2017, we had a decrease in cash of $26 million. Looking forward to the full year of 2018, the metrics we're providing on pages 17 and 18 are meant to serve as points of reference for how we currently think about our targets for 2018. We’ve tried to capture potential variation in factors such as demand, on-stream rates and cost levels by using ranges. With that said, we do not plan to provide updates to all these metrics on a quarterly basis with the exception of sales volumes or if there is a substantial change to our view on one of the other items. Product sales volumes for the full year of 2018 are presented on the top half of page 17. Volumes in 2018 will be impacted by the 25-day turnaround in El Dorado and a 35-day turnaround at Cherokee, both of which will now be on three year turnaround schedules. However, as you can see, despite the two turnarounds scheduled for the year, as a result of improved operating rates at our Pryor and El Dorado facilities, combined with aggressive marketing of HDAN, LDAN nitric acid and mixed acids, we do expect volumes to approximate those in 2017. The bottom of page 17 includes our projected turnaround costs for 2018 of approximately $12 million, which represents costs associated with contractors, repairs and supplies that are not capitalized. These are actual out of pocket expenses and do not include any loss contribution margin, or lost cost absorption from the lost production and sales of product not produced during the 25-day and 35-day turnarounds. As you are aware, under our current accounting policy, the full $12 million will be expensed as incurred, which may be different from some of our peers who are capitalizing and amortizing these expenses between turnarounds. We expect the majority of this expense along with the lost contribution margin and cost absorption during the downtime to impact our third quarter results. Page 18 covers a range of variable and fixed plant expenses as well as SG&A for 2018. Also, you will note that CapEx for the year will remain at between $30 million and $35 million, inclusive of all capital spent during the two turnarounds. Now, I'll turn it back over to Dan to wrap up.

Thanks, Mark. As Mark just described, we do expect an improved 2018. We're optimistic on market demand, market pricing and our ability to improve our plant operating rates. We also expect to significantly improve our cash flow in 2018 as compared to 2017. As we look forward to strengthening the business in 2018, we're undertaking six key initiatives. Number one, improving the on-stream rates of our chemical plants. We have several initiatives underway that we talked about earlier that will assist us in improving the reliability of our plants and allows to produce more products for sale while lowering our cost of production. In 2017, we made the decision to upgrade our existing maintenance management system through technology enhancements and work processes to improve our predictive and preventive maintenance programs at our facilities. At that time, we also made the decision to engage outside maintenance experts to assist us in expediting its implementation and its overall use. As we said earlier, we expect that system will be implemented by the end of the second quarter of 2018 and we'll begin to see the benefits in the second half of this year. Additionally, specific to the Pryor facility, we engaged several outside engineering firms to assist us in overall plant reliability study, which will be used to enhance our reliability improvement plan for that facility. We expect the study to complete toward at the end of the first quarter or early in the second quarter. Our second key focus is the continued improvement of our safety performance. We believe that high safety standards are critical to improve plant performance. With that in mind, we implemented enhanced safety programs at our facilities that focus on reducing risk and improving our safety culture in 2017. The implementation and training of these programs will continue in 2018 and we expect these will benefit our on-stream rates. Number three, continue broadening the distribution of our ammonium nitrate and nitric acid products. We increased our overall sales volume of high density ammonium nitrate in 2017 by approximately 60,000 tons or 26% to a total of approximately 290,000 tons compared to 230,000 tons for 2016. This was accomplished with various marketing initiatives, which included storing and distributing high density ammonium nitrate at Cherokee and Pryor facility that allows us to sell to new markets and customers out of those facilities. It also includes educating growers on the additional applications for high density ammonium nitrate. In 2018, we will continue to focus on those initiatives and other activities in an effort to continue to grow our annual sales volume over 2017. In addition, through increased marketing efforts, we increased our volumes of nitric acid by approximately 22% or 18,000 tons from 82,000 tons in 2016 to 100,000 tons in 2017. We'll continue to focus on increasing our marketing efforts to expand our market for nitric products in North America. Number four, improving the margins on our sales of products. Over the last several years, we’ve focused on increasing our sales volumes to produce at an optimal on-stream rates and lower our manufacturing cost per ton of product. In 2018, we’ll continue to review all the sales to customers to determine if there are opportunities to improve margins on sales to these customers and to explore if there are further product upgrading opportunities. Number five, reducing and controlling our cost structure. We have engaged outside experts to assist us with centralizing and expanding our company wide procurement efforts. We expect this to be implemented by the end of the second quarter of 2018 and believe that these efforts will result in a reduction in expenses and capital spend in the aggregate amount between $3 million to $4 million on an annualized basis. Over the last 18 months, we have reduced our SG&A and plant expenses over $12 million annually and believe in addition to the procurement initiative discussed above, there is still an opportunity to further reduce those expenses. Number six, focusing on improving our capital structure and overall cost of capital. We're actively seeking ways to improve our capital structure and reduce our overall cost of capital. We believe that the improving end markets for our products, combined with our improved operating performance will be of benefit in reducing our cost of capital. With that, I’ll conclude our prepared remarks and open it up for discussions. Christine?

[Operator Instructions] Our first question comes from the line of Joe Mondillo with Sidoti.

So my first question, Mark, the sensitivity analysis was at the end of the presentation. That does not include any sort of the one-time type items that you listed off, correct?

No. The sensitivity analysis, remember, is just representative of different natural gas price levels and Tampa ammonia price levels serving as a proxy for the other fertilizer products. What the earnings power is of the assets, so it doesn't include, it assumes no turnarounds, because obviously as we just talked about the Cherokee and El Dorado plants and facilities, we’ll be on three year turnaround cycles. So we’ll have turnarounds this year. In ‘19 and ’20, we have no turnarounds. So it doesn't take into account any one-time items or things like that.

Okay. So I was wondering if you could just bridge the gap between sort of that table and the one time items. So if you could just go through the onetime items one more time. I think it was $12 million, the turnarounds. It was a $2 million effect by the lag of Pryor, if you could just go through those, that would be helpful.

Sure. So we've got $2.5 million of EBITDA impact from carryover UAN sales orders that we took in the fulfill -- during the fulfill program that will actually run into the first quarter. So that's $2.5 million from that. There's $2 million of additional costs related to some of the items that I outlined, including outside operational consultants and the studies that we're doing at the Pryor. And then we've got $12 million of actual turnaround expense for the year, kind of, not that it matters that much, but 50-50 between Cherokee and El Dorado and then of course you've got the impact of the lost production and lost sales from the 25 and 35-day turnaround. And obviously, that's pretty significant product that we won’t have to sell.

How much was that again? I'm sorry.

We didn't put a dollar amount associated with that.

Okay. And what was the turnaround costs, I guess, it's hard to actually think about that, I guess, in 2017 right, just because Pryor and all the difficulties with that, it's probably not really comparable, right?

Yeah. If you think about just turnaround, we only had really one turnaround, which was Pryor and there was about $1 million of turnaround expense.

Okay. That's helpful. I also wanted to ask about sort of expectations on price realization and I sort of track Gulf prices and just wondering where you think your realization should sort of play out relative to Gulf prices, just given the dynamics and I know there's a lot of variables?

Well, I think we can say now that we're taking orders currently to be delivered over the next couple of months, UAN at kind of around 180 per ton and ammonia out of Pryor is probably in the 370 to 380 range and then obviously the ammonia out of El Dorado was Tampa indexed. And the ammonia out of Cherokee, which is sold into the industrial marketplace is Tampa indexed as well, but remember we get a pretty large premium for that product.

Okay. And just in regard to UAN, it looks like those UAN prices are sort of similar to Gulf prices, but just in general, regardless of that, UAN, ammonia prices like you mentioned are up quite a bit. Just wondering if you could talk about the dynamics of UAN because those are actually, I think, sort of flat to downish, sort of flattish I guess, but ammonia was up quite a bit. Given that we're in sort of the, I guess, seasonal strength of UAN you would think, why is UAN not as strong as ammonia prices just on the year-over-year comp.

This is Dan. I mean I think you had significant UAN capacity additions during the last period of time. So you're seeing really a full season with all of the UAN facilities coming online. As a result, you’ve seen a lot of excess ammonia that wasn't being upgraded earlier that's now being upgraded. So you're not seeing a lot of excess ammonia out on the market right now. And in addition of that, you have urea upgrading facilities that have come online and it's consuming some of that free ammonia that you saw out there on the market. So I think a combination of those is generally what's causing a little bit of price pressure on UAN.

Hey, Joe, just going back to the grid that you talked about and so it sort of bridging the gap, remember, the grid assumes no turnarounds. It also assumes operating rates that are in the second bullet point under the key factors on that page of 97%, 95% and 95% respectively for El Dorado, Cherokee and Pryor. And in our 2018 outlook, we talked about averaging 94%. The other thing I would say is you hit UAN pricing, sort of the disconnect between UAN prices and ammonia prices. That also assumes that natural relationship between UAN and ammonia comes back, which we believe it will as Dan said when the new production of UAN in North America is absorbed into the marketplace.

I wanted to comment on sort of question about Pryor, just to get a little more color. I know this has been a problem pretty much since that plant was taken out of the dormant state that it was back in the early 2000s. So over the last, it seems like 10 years, you guys -- the company itself has been working on that plant. Could you give us an idea of, I know you guys have only been there a certain period of time and in that time period, but how much work has been done on the plant, how close are we to feeling that consistent production is there. Obviously, your guidance sort of projects some sort of confidence that utilization rates will be higher this year. Any sort of color on how much more work this plant needs would be helpful?

Well, I mean, a significant work has been done the last couple of years in the plant and some work was done even prior to that. I think we're at a point right now where our internal view is, we feel like we know what we need to do to that plant to get the uptime. We're upgrading some DCS systems on it. We're putting in a new rear reactor that we talked about before. So we feel like we're identifying -- we've identified most of the items. We are confirming our internal sustenance with the work from the outside engineering firms that we talked about. And as we said, we expect those to be done into this quarter or first quarter, second quarter. So look, we will continue to upgrade that facilities. Our view is that we've made most of the significant investment we need to make up there to get the reliability on-stream. Clearly, it's not going to be at the 99% rate that we operate some of the other rates, but I think 95% is a realistic achievable goal. We've upgraded management of that plant. We continue to upgrade the engineering and maintenance activities up there. So I think the efforts we've undertaken here the last couple years are going to start to bear fruit and then obviously having John Diesch in charge here for the last year and a half is really starting to have an impact on things. So I feel like we're in pretty good shape or on the right path. Will there be surprises in the future? Sure. As I've often described it to people, we hope they're just skinned knees and don't require surgery and sutures. And that's where we think we are right now. There will be minor things on a go forward basis, but we're hopeful that we don't have major items that we saw this fall.

Joe, this is John Diesch. In addition to all those enhancements, so we're looking to identify risks that are not easily found, such as materials of construction, because if you -- this plant was originally built in the 60s, technologies have changed and so what we identify in those issues is to make improvements.

Is there any more capacity on that plant? I know like many years ago, there was talk about that, but it I think if I remember correctly, it was just sort of so outdated that it wasn't even possible. Is there any possibility of increasing capacity there at this point in time? Is it just sort of maintenance and trying to maintain a consistent production at what the production levels that you sort of see right now?

Well, Joe, just to remind folks, what we really sell out of that product are really two products. We sell agricultural ammonia, and then agricultural UAN out of that plant. Clearly, the ammonia market out of that plant is a tougher ammonia market. We have to typically move that product to the east or to the west, there's not a lot of ammonia demand in that area. So what we're trying to do is upgrade more to UAN with this new urea reactor that we're going to be installing, that has additional urea capacity, which will allow us to produce more UAN. As far as the ammonia plant, some of the control systems on there, we should be able to run at tighter operational levels to get the highest production but fundamentally, there are not any major changes other than the urea reactor that we're putting in, no fundamental changes to the ammonia plant that we would anticipate making to increase significant volumes.

Joe, you're referring in the past, I think the company had previously spoken about two ammo packs that we had up at Pryor and possibly restarting those. We made the determination about a year and a half ago, year ago that they were not in great shape and they weren't ones that we would feel comfortable about restarting, coupled with excess ammonia in that marketplace makes it extremely hard to sell all of that additional ammonia. So we sold off those ammo packs as part of the non-core asset sales.

Last question for me, just relative to the guided, the production guidance that you provided, I'm just wondering considering the sort of, I guess, the long term contracts that you have within your industrial products, how much flexibility do you have to flex up your ag product production depending on, if the market improves a ton or vice versa.

Let me address. I mean at Pryor, I think we've sort of addressed that where the ammonia production is relatively stable. At Cherokee, we don't have a lot of agricultural ammonia sold, most of that is sold into the industrial market as refrigeration rate. There is a small ag market around there that we would look to sell to, but we’re essentially marketing all the product we produce out of there. Out of El Dorado, El Dorado is where we have the most flexibility to increase agricultural sales and upgrading it to nitric acid and/or ammonium nitrate, both high density and low density. And as we indicated in our prepared comments, high density volumes have gone up significantly over the last two years and low density product just for the mining market has increased fairly significantly. We see both of those markets continuing to grow. So to the extent that we can increase agricultural sales for ammonia and we increase both of those upgraded products, three upgraded product volumes, we would expect merchant ammonia that we currently sell on the pipeline to decrease with the upgraded products. So we have flexibility to upgrade more product to ammonium nitrate and upgrade more product to nitric acid. We anticipate increasing both of those product lines in 2018 over 2017, which would provide more sales opportunity for upgraded. However, the additional operating rates that we're expecting to get out of El Dorado in 2018 will still allow us to produce additional merchant ammonia. So I think we have an overall chance to lift all volumes in 2018 is really what we expect out of the El Dorado. The other two plants, I think, we're reasonably balanced.

Joe, just keep in mind. I mean, we, by design, have made a decision to have a healthy balance between our industrial and mining business and our ag business. We think that having that stable base of business at fairly attractive margins through sales into the industrial and mining sectors really gives us and protects our downside and still leaves us with enough upside when the ag markets really start to return and pricing has a significant rebound.

Right. And so just to clarify, your industrial products in terms of the production guidance that's based on long-term contracts, volume contracts.

Most of those contracts are two to three year contracts.

Okay. So if the ag market, say, all this are exploded, pricing went through the roof. You really don't have that much flexibility to say instead of selling low density UAN, we're going to go for high density UAN to take advantage of the prices. There's not that much flexibility to sort of –

There is some pretty reasonable flexibility down at El Dorado. I mean, we could upgrade more product into ammonium nitrate being at low density or high density. We do have a -- once we reach 400 – approximately 470,000 tons. I believe it is combined between the two of them, that solution, ammonium nitrate solution capacity, that's where we would bump into a problem. That's a high class problem for us if we have that. So to the extent that we could upgrade more to high density for ag market, we'd be happy to do that and the mining market picks up, we would be happy to do that as well. So I think we've got flexibility down there to do it. Obviously, the less merchant ammonia going into the pipeline, if we did that.

Hey Joe, let me give you some perspective and it's maybe not trying to change product mix, but if we saw Tampa ammonia prices, UAN prices and let's say HDAN prices, just move $10. We have only variable cost against that. So we've got pretty large contribution margins. That's about $11 million to $12 million increase in EBITDA, just from $10 movement.

Our next question comes from the line of David Deterding with Wells Fargo.

Just on your EBITDA guidance for Q1 ‘18 being greater than Q1 ’17, Mark, you mentioned $1.5 million I think in asset sale proceeds. Just clarifying that, it looks like my model has a roughly $20 million that you're including that 1.5 million in being greater than the first quarter of ‘17.

Yes. So the first quarter of ’17, you're right. It’s about $20 million and it includes $1.5 million of EBITDA from the working interest that we had in the Marcellus Shale that we actually sold during 2017. So clearly, we don't have that today.

And then as you think about working capital, obviously, prices are up here a bit. How do you think about working capital Q1 and then kind of as we move throughout the year.

Probably Q1, we are building up some inventory and certainly building up some receivables as we’re selling the product. So I would say, probably an increase of $5 million to $6 million of working capital during the first quarter.

And then as you think about your liquidity, I mean, we’re roughly call it at $75 million today. It sounds like then the EBITDA generation in Q1 would more than offset any working capital build you have and this is probably the low point of liquidity that you would expect.

Yeah. You're absolutely right. At the end of the first quarter, due to the ramp up for the spring season and obviously we've got an interest payment that we made and always make on Feb 1, we're at the low point from a liquidity cycle and then we start to build up additional liquidity going through the spring season and really probably hit a high point in the summer months.

And then with your CapEx guidance of 30 to 35, I think we're probably getting pretty close to maintenance there would be my guess. How do you think about the cadence of that CapEx? Is it pretty much just evenly spread out through the quarters in ’18?

No. It's going to be probably heavily weighted to the third quarter, because remember, we're spending a bunch of capital, both at El Dorado and Cherokee during those turnarounds. So I'd say, you probably have maybe $15 million to $18 million of that capital being spent during the third quarter.

And then just last question, as I look at my cash flow items here and interest expense of 35 to 40 and CapEx of 30 to 35, it looks like you're kind of guiding of fixed charges of kind of $65 million to $75 million. Is there anything else we need to be aware of on a cash perspective that would push that cash need higher this year?

No.

Our next question comes from the line of Owen Douglas with Robert W. Baird.

Just got a quick question, just want to make sure I am aware of this. I think you said that there were some unfulfilled orders in 4Q ’17, is that for UAN.

Yes.

Okay. And just out of curiosity, so how do you think about that shortfall having an impact in 2018? Do you expect there to be perhaps a little bit more kind of pricing pressure as you try to win back those customers that gave the orders.

This is just a carryover of those orders. Our view was -- it was about a $2.5 million impact in the first quarter. So we have to deliver those orders in the first -- manufacture and deliver those orders in the first quarter. Had those orders been fulfilled in the fourth quarter, we'd be manufacturing and delivering to a higher price market. So it's just a carryover lag that's reducing our -- effectively reducing our sales product for items that we manufacture in the first quarter.

I get it. So it's really just a timing thing as opposed to customers, well, I guess, were the customers actually kind of receiving material later than they originally ordered. Is that a fair way to think about it?

In some cases, yes. In some cases, they placed orders in late August, September for late in the year or early in the year delivery, but as Dan said, we clearly would have rather have delivered that product in the first -- in the fourth quarter so that we're actually selling product at higher prices here in the first quarter.

And just wanted to also understand, this is on slide 18, fixed plant expenses including salary and wages, the 2018 numbers, does that also include Baytown?

Yes. It does.

Okay. I see. So we're looking at plant expenses being down about $15 million year-over-year. Can you just help me understand that a little bit better what’s going to be driving those lower fixed plant expenses?

Let me -- just to clarify, Baytown has less than 20 employees. So it's not a significant -- it's not a significant impact on that. I think we've got a variety of expenses that we reduced all the way from cost of cost of purchasing MRO items. We've watched obviously looking at headcount, maintenance materials are going to be down as well and maintenance over time clearly, we expect to be down this year. So I think, it's a whole variety expenses, not anything you can really point to individually significant that will be driving it. But it's really a tighter and better management of the plant operations.

And just to understand the maintenance number, this is maintenance stuff which is being compared on an apples to apples basis, there is no shift into CapEx year over year.

That’s correct.

So the $10 million higher turnaround, where should that be factored in? Where would that typically run in that $10 million incremental turnaround expenses? CapEx or fixed plant expenses?

No. It’s going to run through cost of sales. So, ultimately six plant expenses that roll up to cost of sales.

Okay. I see. So we have six plant expenses actually down $25 million year-over-year. Is that the right way to think about it?

No. I don't think so, I'd have to go back and look to tell you the truth. I don't have something that I can reconcile here.

Okay. We can follow-up on that offline. And finally, the comment was made in terms of objectives for 2018 that you wanted to lower the cost of capital, just wondering sort of understand that so typically think of equity being the most expensive cost of capital and as you are going to move higher up the capital structure all the way to secure debt, it tends to decrease. Can you give me some sense for how you're thinking about reducing that cost of capital for the company?

I think the first order of business and we've been pretty open and transparent about that is we've got outstanding senior secured notes of $375 million that clearly we need to refinance and so we intend to do that as a first step. I don't think we're prepared to talk about how we're going to reduce what in essence is the only capital that we have and that would be the preferred stock that's outstanding.

Okay. I think I understand that. So can you talk about cost of capital? You’re excluding equity from that comment.

Yeah. That clearly would be less than our lists.

Mr. Greenwell, we have no further questions at this time. I would now like to turn the floor back over to you for closing comments.

Great. Thank you. Well, thanks, everyone for participating. We appreciate your time on the call this morning and we look forward to our next quarterly call. Thanks so much and have a great day.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation and have a wonderful day.