UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2021

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from ______ to _______

 

Commission File Number: 000-21467

 

ALTO INGREDIENTS, INC.

(Exact name of registrant as specified in its charter)

 

Delaware   41-2170618
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)
     

1300 South Second Street, Pekin, Illinois

 

61554

(Address of principal executive offices)   (zip code)

 

(916) 403-2123

(Registrant’s telephone number, including area code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each Class      

Trading Symbol

 

Name of Exchange on Which Registered

Common Stock, $0.001 par value   ALTO  

The Nasdaq Stock Market LLC
(Nasdaq Capital Market)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

 

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

 

Large accelerated filer Accelerated filer
Non-accelerated filer Smaller reporting company
Emerging growth company      

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

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

 

As of May 14, 2021, there were 72,707,703 shares of Alto Ingredients, Inc. common stock, $0.001 par value per share, and 896 shares of Alto Ingredients, Inc. non-voting common stock, $0.001 par value per share, outstanding.

 

 

 

 

PART I

FINANCIAL INFORMATION

 

    Page
     
ITEM 1. FINANCIAL STATEMENTS. 1
     
  Consolidated Balance Sheets as of March 31, 2021 (unaudited) and December 31, 2020 1
     
  Consolidated Statements of Operations for the Three Months Ended March 31, 2021 and 2020 (unaudited) 3
     
  Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2021 and 2020 (unaudited) 4
     
  Consolidated Statements of Stockholders’ Equity for the Three Months Ended March 31, 2021 and 2020 (unaudited) 5
     
  Notes to Consolidated Financial Statements (unaudited) 6
     
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. 18
     
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. 30
     
ITEM 4. CONTROLS AND PROCEDURES. 30
     
  PART II
  OTHER INFORMATION  
     
ITEM 1. LEGAL PROCEEDINGS. 31
     
ITEM 1A. RISK FACTORS. 31
     
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS. 41
     
ITEM 3. DEFAULTS UPON SENIOR SECURITIES. 41
     
ITEM 4. MINE SAFETY DISCLOSURES. 41
     
ITEM 5. OTHER INFORMATION. 41
     
ITEM 6. EXHIBITS. 42
     
SIGNATURES   43

 

i

 

 

PART I - FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS.

 

ALTO INGREDIENTS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)

 

    March 31,     December 31,  
ASSETS   2021     2020  
    (unaudited)     *  
Current Assets:            
Cash and cash equivalents   $ 44,146     $ 47,667  
Accounts receivable (net of allowance for doubtful accounts of $351 and $260, respectively)     56,458       43,491  
Inventories     55,216       37,925  
Prepaid inventory     1,021       891  
Derivative instruments     22,355       17,149  
Assets held-for-sale     57,053       58,295  
Other current assets     5,339       8,628  
Total current assets     241,588       214,046  
Property and equipment, net     226,183       229,486  
Other Assets:                
Right of use operating lease assets, net     11,704       11,046  
Notes receivable     13,556       14,337  
Intangible asset     2,678       2,678  
Other assets     5,407       5,225  
Total other assets     33,345       33,286  
Total Assets   $ 501,116     $ 476,818  

 

 

 

* Amounts derived from the audited financial statements for the year ended December 31, 2020.

 

See accompanying notes to consolidated financial statements.

 

-1-

 

 

ALTO INGREDIENTS, INC.
CONSOLIDATED BALANCE SHEETS (CONTINUED)
(in thousands, except par value)

 

    March 31,     December 31,  
LIABILITIES AND STOCKHOLDERS’ EQUITY   2021     2020  
    (unaudited)     *  
Current Liabilities:            
Accounts payable – trade   $ 23,171     $ 13,047  
Accrued liabilities     13,623       11,101  
Current portion – operating leases     2,581       2,180  
Current portion – long-term debt     37,581       25,533  
Derivative instruments     4,741        
Liabilities held-for-sale     19,231       19,542  
Other current liabilities     11,822       15,524  
Total current liabilities     112,750       86,927  
                 
Long-term debt, net of current portion     64,396       71,807  
Operating leases, net of current portion     8,956       8,715  
Other liabilities     13,332       13,134  
                 
Total Liabilities     199,434       180,583  
                 
Commitments and Contingencies (Note 6)                
                 
Stockholders’ Equity:                
Alto Ingredients, Inc. Stockholders’ Equity:                
Preferred stock, $0.001 par value; 10,000 shares authorized;
Series A: 1,684 shares authorized; no shares issued and outstanding as of March 31, 2021 and December 31, 2020;
Series B: 1,581 shares authorized; 927 shares issued and outstanding as of March 31, 2021 and December 31, 2020; liquidation preference of $19,975 as of March 31, 2021
    1       1  
Common stock, $0.001 par value; 300,000 shares authorized; 73,161 and 72,487 shares issued and outstanding as of March 31, 2021 and December 31, 2020, respectively     73       72  
Non-voting common stock, $0.001 par value; 3,553 shares authorized; 1 share issued and outstanding as of March 31, 2021 and December 31, 2020            
Additional paid-in capital     1,037,718       1,036,638  
Accumulated other comprehensive loss     (3,878 )     (3,878 )
Accumulated deficit     (732,232 )     (736,598 )
Total Stockholders’ Equity     301,682       296,235  
Total Liabilities and Stockholders’ Equity   $ 501,116     $ 476,818  

 

 

 


*
Amounts derived from the audited financial statements for the year ended December 31, 2020.

 

See accompanying notes to consolidated financial statements.

 

-2-

 

 

ALTO INGREDIENTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited, in thousands, except per share data)

 

    Three Months Ended
March 31,
 
    2021     2020  
Net sales   $ 218,734     $ 311,404  
Cost of goods sold     204,897       324,294  
Gross profit (loss)     13,837       (12,890 )
Selling, general and administrative expenses     7,014       10,212  
Asset impairment     1,200        
Income (loss) from operations     5,623       (23,102 )
Fair value adjustments           673  
Interest expense, net     (1,885 )     (5,307 )
Other income, net     940       580  
Income (loss) before benefit for income taxes     4,678       (27,156 )
Benefit for income taxes            
Consolidated net income (loss)     4,678       (27,156 )
Net loss attributed to noncontrolling interests           2,056  
Net income (loss) attributed to Alto Ingredients, Inc.   $ 4,678     $ (25,100 )
Preferred stock dividends   $ (312 )   $ (315 )
Net income (loss) available to common stockholders   $ 4,366     $ (25,415 )
Net income (loss) per share, basic   $ 0.06     $ (0.47 )
Net income (loss) per share, diluted   $ 0.06     $ (0.47 )
Weighted-average shares outstanding, basic     70,351       53,828  
Weighted-average shares outstanding, diluted     72,464       53,828  

 

See accompanying notes to consolidated financial statements.

 

-3-

 

  

ALTO INGREDIENTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited, in thousands)

 

    Three Months Ended
March 31,
 
    2021     2020  
Operating Activities:            
Consolidated net income (loss)   $ 4,678     $ (27,156 )
Adjustments to reconcile consolidated net income (loss) to net cash provided by (used in) operating activities:                
Depreciation     5,860       9,759  
Asset impairment     1,200        
Gains (losses) on derivative instruments     (10,543 )      
Non-cash compensation     804       865  
Amortization of deferred financing fees     190       305  
Fair value adjustments           (673 )
Inventory valuation           4,223  
Interest added to debt           133  
Bad debt expense     91       19  
Changes in operating assets and liabilities:                
Accounts receivable     (13,057 )     22,024  
Inventories     (17,291 )     10,845  
Prepaid expenses and other assets     3,832       (396 )
Prepaid inventory     (129 )     (181 )
Operating leases     (1,037 )     (2,348 )
Assets held-for-sale     1,241       1,624  
Liabilities held-for-sale     (312 )     9,370  
Accounts payable and accrued liabilities     20,391       (1,512 )
Net cash provided by (used in) operating activities     (4,082 )     26,901  
Investing Activities:                
Additions to property and equipment     (4,411 )     (1,245 )
Net cash used in investing activities     (4,411 )     (1,245 )
Financing Activities:                
Net proceeds (payments) from Kinergy’s line of credit     13,042       (18,156 )
Proceeds from stock option exercises     462        
Proceeds from issuance of common stock           282  
Principal payments on borrowings     (8,532 )      
Net cash provided by (used in) financing activities     4,972       (17,874 )
Net increase (decrease) in cash and cash equivalents     (3,521 )     7,782  
Cash and cash equivalents at beginning of period     47,667       18,997  
Cash and cash equivalents at end of period   $ 44,146     $ 26,779  
                 
Supplemental Information:                
Interest paid   $ 1,825     $ 1,968  
Accrued preferred stock dividends   $ 312     $ 315  

 

See accompanying notes to consolidated financial statements.

 

-4-

 

 

ALTO INGREDIENTS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(unaudited, in thousands)

 

    Preferred Stock     Common Stock     Additional
Paid-In
    Accumulated     Accum. Other
Comprehensive
    Non-Controlling
       
    Shares     Amount     Shares     Amount     Capital     Deficit     Income (Loss)     Interests     Total  
Balances, January 1, 2021     927     $ 1       72,487     $ 72     $ 1,036,638     $ (736,598 )   $ (3,878 )   $        —     $ 296,235  
Stock-based compensation expense – restricted stock issued to employees and directors, net of cancellations and tax                 550       1       618                         619  
Stock option exercises                 124             462                         462  
Preferred stock dividends                                   (312 )                 (312 )
Net loss                                   4,678                   4,678  
Balances, March 31, 2021     927     $ 1       73,161     $ 73     $ 1,037,718     $ (732,232 )   $ (3,878 )   $     $ 301,682  
Balances, January 1, 2020     927     $ 1       55,508     $ 56     $ 942,307     $ (720,214 )   $ (2,370 )   $ 7,265     $ 227,045  
Stock-based compensation expense – restricted stock issued to employees and directors, net of cancellations and tax                 (38 )     (4 )     868                         864  
Issuances of common stock                 421       4       278                         282  
Preferred stock dividends                                   (315 )                 (315 )
Net loss                                   (25,100 )           (2,056 )     (27,156 )
Balances, March 31, 2020     927     $ 1       55,891     $ 56     $ 943,453     $ (745,629 )   $ (2,370 )   $ 5,209     $ 200,720  

 

-5-

 

 

ALTO INGREDIENTS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

 

1. ORGANIZATION AND BASIS OF PRESENTATION.

 

Organization and Business – The consolidated financial statements include, for all periods presented, the accounts of Alto Ingredients, Inc., a Delaware corporation (“Alto Ingredients”), and its direct and indirect subsidiaries (collectively, the “Company”), including its wholly-owned subsidiaries, Kinergy Marketing LLC, an Oregon limited liability company (“Kinergy”), Alto Nutrients LLC, a California limited liability company (“Alto Nutrients”), Alto Op Co., a Delaware corporation (“Alto Op Co.”) and all seven of the Company’s production facilities as of March 31, 2021.

 

The Company is a leading producer and marketer of specialty alcohols and essential ingredients. The Company also produces and markets fuel-grade ethanol. The Company’s production facilities in Pekin, Illinois are located in the heart of the Corn Belt, benefit from low-cost and abundant feedstock and allow for access to many additional domestic markets. In addition, the Company’s ability to load unit trains and barges from these facilities allows for greater access to international markets. The Company’s four production facilities in California, Oregon and Idaho, located in close proximity to both feed and fuel-grade ethanol customers, enjoy unique advantages in efficiency, logistics and product pricing.

 

The Company had a combined production capacity of 450 million gallons per year, as of March 31, 2021, markets, on an annualized basis, over 500 million gallons of alcohols, and produces, on an annualized basis, nearly 1.5 million tons of essential ingredients on a dry matter basis, such as dried yeast, corn gluten meal, corn gluten feed, and distillers grains and liquid feed used in commercial animal feed and pet foods.

 

The Company focuses on four key markets: Health, Home & Beauty; Food & Beverage; Essential Ingredients; and Renewable Fuels. Products for the Health, Home & Beauty market include specialty alcohols used in mouthwash, cosmetics, pharmaceuticals, hand sanitizers, disinfectants and cleaners. Products for the Food & Beverage markets include grain neutral spirits used in alcoholic beverages and vinegar as well as corn germ used for corn oils. Products for Essential Ingredients markets include yeast, corn gluten and distillers grains used in commercial animal feed and pet foods. Renewable Fuels includes fuel-grade ethanol and distillers corn oil used as a feedstock for renewable diesel fuel.

 

As of March 31, 2021, the Company was operating at approximately 64% of its then-450 million gallon annual production capacity. As market conditions change, the Company may increase, decrease or idle production at one or more operating facilities or resume operations at any idled facility.

 

Basis of PresentationInterim Financial Statements – The accompanying unaudited consolidated financial statements and related notes have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Results for interim periods should not be considered indicative of results for a full year. These interim consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020. The accounting policies used in preparing these consolidated financial statements are the same as those described in Note 1 to the consolidated financial statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair statement of the results for interim periods have been included. All significant intercompany accounts and transactions have been eliminated in consolidation.

 

Accounts Receivable and Allowance for Doubtful Accounts – Trade accounts receivable are presented at face value, net of the allowance for doubtful accounts. The Company sells specialty alcohols to large consumer products companies, sells fuel-grade ethanol to gasoline refining and distribution companies, sells essential ingredients to animal feed customers, including distillers grains and other feed co-products to dairy operators and animal feedlots and corn oil to poultry and biodiesel customers generally without requiring collateral.

 

-6-

 

 

The Company maintains an allowance for doubtful accounts for balances that appear to have specific collection issues. The collection process is based on the age of the invoice and requires attempted contacts with the customer at specified intervals. If, after a specified number of days, the Company has been unsuccessful in its collection efforts, a bad debt allowance is recorded for the balance in question. Delinquent accounts receivable are charged against the allowance for doubtful accounts once uncollectibility has been determined. The factors considered in reaching this determination are the apparent financial condition of the customer and the Company’s success in contacting and negotiating with the customer. If the financial condition of the Company’s customers were to deteriorate, resulting in an impairment of ability to make payments, additional allowances may be required.

 

Of the accounts receivable balance, approximately $51,301,000 and $35,839,000 at March 31, 2021 and December 31, 2020, respectively, were used as collateral under Kinergy’s operating line of credit. The allowance for doubtful accounts was $351,000 and $260,000 as of March 31, 2021 and December 31, 2020, respectively. The Company recorded a bad debt expense of $91,000 and $19,000 for the three months ended March 31, 2021 and 2020, respectively. The Company does not have any off-balance sheet credit exposure related to its customers.

 

Financial Instruments – The carrying values of cash and cash equivalents, accounts receivable, derivative assets, accounts payable, accrued liabilities and derivative liabilities are reasonable estimates of their fair values because of the short maturity of these items. The carrying value of the Company’s senior secured notes are recorded at fair value and are considered Level 2 fair value measurements. The Company believes the carrying value of its notes receivable are not considered materially different than fair value due to their recent issuances, and other long-term debt instruments’ carrying values are not considered materially different than fair value because the interest rates on these instruments are variable, and are considered Level 2 fair value measurements.

 

Estimates and Assumptions – The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates are required as part of determining the allowance for doubtful accounts, net realizable value of inventory, estimated lives of property and equipment, long-lived asset impairments, fair value of warrants, valuation allowances on deferred income taxes and the potential outcome of future tax consequences of events recognized in the Company’s financial statements or tax returns, and the valuation of assets acquired and liabilities assumed as a result of business combinations. Actual results and outcomes may materially differ from management’s estimates and assumptions.

 

2. ASSETS AND LIABILITIES HELD-FOR-SALE.

 

In October 2020, the Company’s Board of Directors approved a plan to sell the Company’s fuel-grade ethanol production facilities located in Madera and Stockton, California. As a result, the Company determined the related long-lived asset groups should be classified as held-for-sale at December 31, 2020. During the three months ended March 31, 2021, the Company provided for an additional impairment charge of $1.2 million based on revised fair value estimates. On April 23, 2021, the Company entered into an asset purchase agreement to sell its Madera facility for total consideration of $28.3 million, comprised of $19.5 million in cash and $8.8 million in assumption of liabilities. On May 14, 2021, the Company closed the sale.

 

-7-

 

 

The Company classified the following assets and liabilities as held-for-sale as of March 31, 2021 (in thousands):

 

    Stockton     Madera  
Property and equipment, net   $ 19,535     $ 27,813  
Right of use operating lease assets, net     9,705       -  
Assets held-for-sale   $ 29,240     $ 27,813  

 

    Stockton     Madera  
Operating lease obligations   $ 10,456     $  
Assessment financing           8,775  
Liabilities held-for-sale   $ 10,456     $ 8,775  

 

The Company classified the following assets and liabilities as held-for-sale as of December 31, 2020 (in thousands):

 

    Stockton     Madera  
Property and equipment, net   $ 19,535     $ 29,013  
Right of use operating lease assets, net     9,747       -  
Assets held-for-sale   $ 29,282     $ 29,013  

 

    Stockton     Madera  
Operating lease obligations   $ 10,435     $  
Assessment financing           9,107  
Liabilities held-for-sale   $ 10,435     $ 9,107  

 

For the three months ended March 31, 2021, net sales attributed to the results of operations for Stockton and Madera were $0.2 million and less than $0.1 million, respectively. For the three months ended March 31, 2020, net sales attributed to the results of operations for Stockton and Madera were $21.9 million and $21.5 million, respectively. For the three months ended March 31, 2021, pre-tax loss attributed to the results of operations for Stockton and Madera was $0.8 million and $1.6 million, respectively. For the three months ended March 31, 2020, pre-tax loss attributed to the results of operations for Stockton and Madera was $2.3 million and $1.8 million, respectively.

 

3. SEGMENTS.

 

The Company reports its financial and operating performance in three segments: (1) marketing and distribution, which includes marketing and merchant trading for Company-produced alcohols and essential ingredients on an aggregated basis, and third-party fuel-grade ethanol (2) Pekin production, which includes the production and sale of alcohols and essential ingredients produced at the Company’s Pekin, Illinois campus (“Pekin Campus”), and (3) Other production, which includes the production and sale of fuel-grade ethanol and essential ingredients produced at all of the Company’s other production facilities on an aggregated basis (“Other production”), none of which are individually so significant as to be considered a reportable segment.

 

-8-

 

 

The following tables set forth certain financial data for the Company’s operating segments (in thousands):

 

    Three Months Ended
March 31,
 
Net Sales   2021     2020  
Marketing and distribution:            
Alcohol sales, gross   $ 57,010     $ 57,506  
Alcohol sales, net     452       429  
Intersegment sales     2,244       4,315  
Total marketing and distribution sales     59,706       62,250  
Pekin Campus production, recorded as gross:                
Alcohol sales   $ 95,083     $ 84,132  
Essential ingredient sales     45,077       39,870  
Intersegment sales     9,985       2,332  
Total Pekin Campus sales     150,145       126,334  
Other production, recorded as gross:                
Alcohol sales   $ 15,969     $ 99,230  
Essential ingredient sales     5,143       30,237  
Intersegment sales     305       291  
Total Other production sales     21,417       129,758  
                 
Intersegment eliminations     (12,534 )     (6,938 )
Net sales as reported   $ 218,734     $ 311,404  
                 

 

Cost of goods sold:            
Marketing and distribution   $ 53,957     $ 57,139  
Pekin Campus production     137,376       128,683  
Other production     24,118       142,310  
Intersegment eliminations     (10,554 )     (3,838 )
Cost of goods sold as reported   $ 204,897     $ 324,294  

 

Income (loss) before benefit for income taxes:            
Marketing and distribution   $ 3,973     $ 2,930  
Pekin Campus production     9,691       (6,849 )
Other production     (5,137 )     (16,621 )
Corporate activities     (2,904 )     (2,562 )
    $ 5,623     $ (23,102 )
Depreciation:                
Pekin Campus production   $ 4,345     $ 5,130  
Other production     1,498       4,530  
Corporate activities     17       99  
    $ 5,860     $ 9,759  

 

Interest expense:            
Marketing and distribution   $ 202     $ 627  
Pekin Campus production     519       2,084  
Other production     136       32  
Corporate activities     1,028       2,564  
    $ 1,885     $ 5,307  

 

-9-

 

 

The following table sets forth the Company’s total assets by operating segment (in thousands): 

 

    March 31,
    December 31,  
Total assets:   2021     2020  
Marketing and distribution   $ 119,546     $ 89,337  
Pekin Campus production     238,370       234,439  
Other production     120,351       102,409  
Corporate assets     22,849       50,633  
    $ 501,116     $ 476,818  

 

4. INVENTORIES.

 

Inventories consisted primarily of bulk ethanol, specialty alcohols, corn, essential ingredients and unleaded fuel, and are valued at the lower of cost or net realizable value, with cost determined on a first-in, first-out basis. Inventory is net of a $1,033,000 valuation adjustment as of December 31, 2020. Inventory balances consisted of the following (in thousands):

 

    March 31, 2021     December 31,
2020
 
Finished goods   $ 39,654     $ 25,154  
Work in progress     4,965       4,333  
Raw materials     9,233       7,074  
Other     1,364       1,364  
Total   $ 55,216     $ 37,925  

 

5. DERIVATIVES.

 

The business and activities of the Company expose it to a variety of market risks, including risks related to changes in commodity prices. The Company monitors and manages these financial exposures as an integral part of its risk management program. This program recognizes the unpredictability of financial markets and seeks to reduce the potentially adverse effects that market volatility could have on operating results.

 

-10-

 

 

Commodity RiskCash Flow Hedges – The Company uses derivative instruments to protect cash flows from fluctuations caused by volatility in commodity prices for periods of up to twelve months in order to protect gross profit margins from potentially adverse effects of market and price volatility on alcohol sales and purchase commitments where the prices are set at a future date and/or if the contracts specify a floating or index-based price. In addition, the Company hedges anticipated sales of alcohol to minimize its exposure to the potentially adverse effects of price volatility. These derivatives may be designated and documented as cash flow hedges and effectiveness is evaluated by assessing the probability of the anticipated transactions and regressing commodity futures prices against the Company’s purchase and sales prices. Ineffectiveness, which is defined as the degree to which the derivative does not offset the underlying exposure, is recognized immediately in cost of goods sold. For the three months ended March 31, 2021 and 2020, the Company did not designate any of its derivatives as cash flow hedges.

 

Commodity Risk – Non-Designated Hedges – The Company uses derivative instruments to lock in prices for certain amounts of corn and alcohols by entering into exchange-traded forward contracts or options for those commodities. These derivatives are not designated for hedge accounting treatment. The changes in fair value of these contracts are recorded on the balance sheet and recognized immediately in cost of goods sold. The Company recognized net gains of $10,543,000 and $0 as the change in the fair value of these contracts for the three months ended March 31, 2021 and 2020, respectively.

 

Non Designated Derivative Instruments – The classification and amounts of the Company’s derivatives not designated as hedging instruments, and related cash collateral balances, are as follows (in thousands):

 

  As of March 31, 2021
    Assets   Liabilities
Type of Instrument   Balance Sheet Location   Fair
Value
    Balance Sheet Location   Fair
Value
 
Commodity contracts   Derivative assets   $ 22,355     Derivative liabilities   $ 4,741  

 

    As of December 31, 2020
    Assets   Liabilities
Type of Instrument   Balance Sheet Location   Fair
Value
    Balance Sheet Location   Fair
Value
 
Cash collateral balance   Other current assets   $ 520              
Commodity contracts   Derivative assets   $ 17,149     Derivative liabilities   $  

 

The classification and amounts of the Company’s recognized gains for its derivatives not designated as hedging instruments are as follows (in thousands):

 

        Realized Gains  
        For the three months Ended  
    March 31,  
Type of Instrument   Statements of Operations Location    2021     2020  
Commodity contracts   Cost of goods sold   $ 6,185     $  
        $ 6,185     $  

 

        Unrealized Gains  
        For the three months Ended
March 31,
 
Type of Instrument   Statements of Operations Location   2021     2020  
Commodity contracts   Cost of goods sold   $ 4,358     $  
        $ 4,358     $  

 

-11-

 

 

6. DEBT.

 

Long-term borrowings are summarized as follows (in thousands):

 

    March 31,
2021
    December 31,
2020
 
Kinergy line of credit   $ 45,554     $ 32,512  
Pekin revolving loan     17,580       20,580  
ICP revolving loan     9,384       9,384  
Parent notes payable     20,001       25,533  
CARES Act loans     9,860       9,860  
      102,379       97,869  
Less unamortized debt premium     174       230  
Less unamortized debt financing costs     (576 )     (759 )
Less short-term portion     (37,581 )     (25,533 )
Long-term debt   $ 64,396     $ 71,807  

 

Parent Notes Payable – On May 14, 2021, with proceeds from the Company’s sale of its Madera, California facility, it repaid $19.3 million of principal on its notes payable, with $0.7 million remaining.

 

Maturities of Long-term Debt – The Company’s long-term debt matures as follows (in thousands):

 

December 31:

     
2021   $ 20,001  
2022     82,378  
    $ 102,379  

 

Restrictions – At March 31, 2021, there were approximately $231.9 million of net assets at the Company’s subsidiaries that were not available to be transferred to Alto Ingredients, Inc. in the form of dividends, loans or advances due to restrictions contained in the credit facilities of the Company’s subsidiaries.

 

7. COMMITMENTS AND CONTINGENCIES.

 

Sales Commitments – At March 31, 2021, the Company had entered into sales contracts with its major customers to sell certain quantities of alcohol and essential ingredients. The Company had open alcohol indexed-price contracts for 102,526,000 gallons as of March 31, 2021 and open fixed-price alcohol sales contracts totaling $207,687,000 as of March 31, 2021. The Company had open fixed-price sales contracts for essential ingredients totaling $18,170,000 and open indexed-price sales contracts of essential ingredients for 146,000 tons as of March 31, 2021. These sales contracts are scheduled to be completed throughout 2021.

 

Purchase Commitments – At March 31, 2021, the Company had indexed-price purchase contracts to purchase 15,626,000 gallons of alcohol and fixed-price purchase contracts to purchase $1,238,000 of alcohol from its suppliers. The Company had fixed-price purchase contracts to purchase $33,883,000 of corn from its suppliers as of March 31, 2021. These purchase commitments are scheduled to be satisfied throughout 2021.

 

-12-

 

 

Litigation – General The Company is subject to various claims and contingencies in the ordinary course of its business, including those related to litigation, business transactions, employee-related matters, environmental regulations, and others. When the Company is aware of a claim or potential claim, it assesses the likelihood of any loss or exposure. If it is probable that a loss will result and the amount of the loss can be reasonably estimated, the Company will record a liability for the loss. If the loss is not probable or the amount of the loss cannot be reasonably estimated, the Company discloses the claim if the likelihood of a potential loss is reasonably possible and the amount involved could be material. While there can be no assurances, the Company does not expect that any of its pending legal proceedings will have a material impact on the Company’s financial condition or results of operations.

 

8. PENSION PLANS.

 

The Company sponsors a defined benefit pension plan (the “Retirement Plan”) and a health care and life insurance plan (the “Postretirement Plan”). The Company assumed the Retirement Plan and the Postretirement Plan as part of its acquisition of PE Central on July 1, 2015.

 

The Retirement Plan is noncontributory, and covers only “grandfathered” unionized employees at the Company’s Pekin, Illinois facility who fulfill minimum age and service requirements. Benefits are based on a prescribed formula based upon the employee’s years of service. The Retirement Plan, which is part of a collective bargaining agreement, covers only union employees hired prior to November 1, 2010.

 

The Company uses a December 31 measurement date for its Retirement Plan. The Company’s funding policy is to make the minimum annual contribution required by applicable regulations. As of December 31, 2020, the Retirement Plan’s accumulated projected benefit obligation was $24.6 million, with a fair value of plan assets of $17.6 million. The underfunded amount of $7.0 million is recorded on the Company’s consolidated balance sheet in other liabilities. For the three months ended March 31, 2021, the Retirement Plan’s net periodic expense was $22,000, comprised of $151,000 in interest cost and $109,000 in service cost, partially offset by $238,000 of expected return on plan assets. For the three months ended March 31, 2020, the Retirement Plan’s net periodic expense was $48,000, comprised of $173,000 in interest cost and $101,000 in service cost, partially offset by $226,000 of expected return on plan assets.

 

The Postretirement Plan provides postretirement medical benefits and life insurance to certain “grandfathered” unionized employees. Employees hired after December 31, 2000 are not eligible to participate in the Postretirement Plan. The Postretirement Plan is contributory, with contributions required at the same rate as active employees. Benefit eligibility under the plan reduces at age 65 from a defined benefit to a defined dollar cap based upon years of service. As of December 31, 2020, the Postretirement Plan’s accumulated projected benefit obligation was $5.3 million and is recorded on the Company’s consolidated balance sheet in other liabilities. The Company’s funding policy is to make the minimum annual contribution required by applicable regulations. For the three months ended March 31, 2021, the Postretirement Plan’s net periodic expense was $42,000, comprised of $10,000 of interest cost, $26,000 of service cost and $6,000 of amortization expense. For the three months ended March 31, 2020, the Postretirement Plan’s net periodic expense was $59,000, comprised of $38,000 of interest cost, $14,000 of service cost and $7,000 of amortization expense.

 

-13-

 

 

9. FAIR VALUE MEASUREMENTS.

 

The fair value hierarchy prioritizes the inputs used in valuation techniques into three levels, as follows:

 

Level 1 – Observable inputs – unadjusted quoted prices in active markets for identical assets and liabilities;

 

Level 2 – Observable inputs other than quoted prices included in Level 1 that are observable for the asset or liability through corroboration with market data; and

 

Level 3 – Unobservable inputs – includes amounts derived from valuation models where one or more significant inputs are unobservable. For fair value measurements using significant unobservable inputs, a description of the inputs and the information used to develop the inputs is required along with a reconciliation of Level 3 values from the prior reporting period.

 

Pooled separate accounts – Pooled separate accounts invest primarily in domestic and international stocks, commercial paper or single mutual funds. The net asset value is used as a practical expedient to determine fair value for these accounts. Each pooled separate account provides for redemptions by the Retirement Plan at reported net asset values per share, with little to no advance notice requirement, therefore these funds are classified within Level 2 of the valuation hierarchy.

 

Long-Lived Assets Held-for-Sale – The Company recorded its long-lived assets associated with its property and equipment held-for-sale at fair value at March 31, 2021 and December 31, 2020 of $47,348,000 and $48,548,000, respectively. The fair values of these assets are based on observable values for the assets through corroboration with market data and are designated as Level 3 inputs.

 

Other Derivative Instruments – The Company’s other derivative instruments consist of commodity positions. The fair values of the commodity positions are based on quoted prices on the commodity exchanges and are designated as Level 1 inputs.

 

The following table summarizes recurring and nonrecurring fair value measurements by level at March 31, 2021 (in thousands):

 

    Fair                    
    Value     Level 1     Level 2     Level 3  
Assets:                        
Derivative financial instruments   $ 22,355     $ 22,355     $     $  
Long-lived assets held-for-sale     57,053                   57,053  
    $ 79,408     $ 22,355     $     $ 57,053  
Liabilities:                                
Derivative financial instruments   $ (4,741 )   $ (4,741 )   $     $  
    $ (4,741 )   $ (4,741 )   $     $  

 

-14-

 

 

The following table summarizes recurring and nonrecurring fair value measurements by level at December 31, 2020 (in thousands):

 

                            Benefit Plan  
    Fair                       Percentage  
    Value     Level 1     Level 2     Level 3     Allocation  
Assets:                              
Derivative financial instruments   $ 17,149     $ 17,149     $     $          
Long-lived assets held-for-sale     58,295                   58,295          
Defined benefit plan assets(1)                                        
(pooled separate accounts):                                        
Large U.S. Equity(2)     5,470             5,470             31 %
Small/Mid U.S. Equity(3)     2,605             2,605             15 %
International Equity(4)     2,921             2,921             17 %
Fixed Income(5)     6,592             6,592             37 %
    $ 93,032     $ 17,149     $ 17,588     $ 58,295          
                                         
Liabilities:                                        
                                         
    $     $     $     $          

 

 

(1) Included in other assets in the consolidated balance sheets.

 

(2) This category includes investments in funds comprised of equity securities of large U.S. companies. The funds are valued using the net asset value method in which an average of the market prices for the underlying investments is used to value the fund.

 

(3) This category includes investments in funds comprised of equity securities of small- and medium-sized U.S. companies. The funds are valued using the net asset value method in which an average of the market prices for the underlying investments is used to value the fund.

 

(4) This category includes investments in funds comprised of equity securities of foreign companies including emerging markets. The funds are valued using the net asset value method in which an average of the market prices for the underlying investments is used to value the fund.

 

(5) This category includes investments in funds comprised of U.S. and foreign investment-grade fixed income securities, high-yield fixed income securities that are rated below investment-grade, U.S. treasury securities, mortgage-backed securities, and other asset-backed securities. The funds are valued using the net asset value method in which an average of the market prices for the underlying investments is used to value the fund.

 

10. EARNINGS PER SHARE.

 

The following tables compute basic and diluted earnings per share (in thousands, except per share data):

 

    Three Months Ended
March 31, 2021
 
    Income Numerator     Shares Denominator     Per-Share Amount  
Net income attributed to Alto Ingredients, Inc.   $ 4,678                  
Less: Preferred stock dividends     (312 )                
Basic income per share:                        
Income available to common stockholders   $ 4,366       70,351     $ 0.06  
Add: Dilutive securities           2,113          
Diluted income per share:                        
Income available to common stockholders   $ 4,366       72,464     $ 0.06  

 

-15-

 

 

    Three Months Ended
March 31, 2020
 
    Loss
Numerator
    Shares Denominator     Per-Share Amount  
Net loss attributed to Alto Ingredients, Inc.   $ (25,100 )                
Less: Preferred stock dividends     (315 )                
Basic and diluted loss per share:                        
Net loss available to common stockholders   $ (25,415 )     53,828     $ (0.47 )

 

There were an additional aggregate potentially dilutive weighted-average shares of 3,265,000 and 964,000 from convertible securities outstanding for the three months ended March 31, 2021 and 2020. These securities were not considered in calculating diluted net income (loss) per share for the three months ended March 31, 2021 and 2020, as their effect would have been anti-dilutive.

 

11. PARENT COMPANY FINANCIALS.

 

Restricted Net AssetsAt March 31, 2021, the Company had approximately $231.9 million of net assets at its subsidiaries that were not available to be transferred to Alto Ingredients in the form of dividends, distributions, loans or advances due to restrictions contained in the credit facilities of these subsidiaries.

 

Parent company financial statements for the periods covered in this report are set forth below (in thousands):

 

ASSETS  

March 31, 2021

   

December 31,
2020

 
Current Assets:            
Cash and cash equivalents   $ 16,534     $ 25,632  
Receivables from subsidiaries     16,412       15,548  
Other current assets     2,188       1,836  
Total current assets     35,134       43,016  
                 
Property and equipment, net     125       142  
Other Assets:                
Investments in subsidiaries     257,547       246,518  
Alto West, LLC receivable     42,649       42,649  
Right of use operating lease assets, net     2,915       2,985  
Other assets     1,087       1,088  
Total other assets     304,198       293,240  
Total Assets   $ 339,457     $ 336,398  
Current Liabilities:                
Accounts payable and accrued liabilities   $ 4,961     $ 2,001  
Accrued Alto Op Co. purchase     3,829       3,829  
Current portion of long-term debt     20,001       25,533  
Other current liabilities     394       473  
Total current liabilities     29,185       31,836  
                 
Long-term debt, net of current portion     5,665       5,564  
Other liabilities     2,925       2,763  
Total Liabilities     37,775       40,163  
Stockholders’ Equity:                
Preferred stock     1       1  
Common and non-voting common stock     73       72  
Additional paid-in capital     1,037,718       1,036,638  
Accumulated other comprehensive loss     (3,878 )     (3,878 )
Accumulated deficit     (732,232 )     (736,598 )
Total Alto Ingredients, Inc. stockholders’ equity     301,682       296,235  
Total Liabilities and Stockholders’ Equity   $ 339,457     $ 336,398  

 

-16-

 

 

   

Three Months Ended
March 31,

 
   

2021

   

2020

 
Management fees from subsidiaries   $ 2,526     $ 3,253  
Selling, general and administrative expenses     4,651       5,377  
Loss from operations     (2,125 )     (2,124 )
Fair value adjustments           673  
Interest expense, net     (1,028 )     (1,598 )
Other income     807        
Loss before benefit for income taxes     (2,346 )     (3,049 )
Benefit for income taxes            
Loss before equity in losses of subsidiaries     (2,346 )     (3,049 )
Equity in income (losses) of subsidiaries     7,024       (24,107 )
Consolidated net income (loss)   $ 4,678     $ (27,156 )

 

    For the Three Months Ended
March 31,
 
    2021     2020  
Operating Activities:            
Consolidated net income (loss)   $ 4,678     $ (27,156 )
Adjustments to reconcile net income (loss) to cash used in operating activities:                
Equity in (income) losses of subsidiaries     (7,024 )     24,107  
Fair value adjustments           (673 )
Depreciation     17       33  
Amortization (accretion) of debt discount (premium)     101       (57 )
Changes in operating assets and liabilities:                
Receivables from subsidiaries     (864 )     123  
Other assets     (281 )     29  
Accounts payable and accrued expenses     (765 )      
Accounts payable with subsidiaries     110       2,235  
Net cash used in operating activities   $ (4,028 )   $ (1,359 )
Investing Activities:                
Additions to property and equipment   $     $  
Net cash used in investing activities   $     $  
Financing Activities:                
Proceeds from issuances of common stock   $ 462     $ 282  
Proceeds from plant receivable           5,813  
Payments on senior notes     (5,532 )      
Preferred stock dividend payments            
Net cash provided by (used in) financing activities   $ (5,070 )   $ 6,095  
Net increase (decrease) in cash and cash equivalents     (9,098 )     4,736  
Cash and cash equivalents at beginning of period     25,632       4,985  
Cash and cash equivalents at end of period   $ 16,534     $ 9,721  

 

12. SUBSEQUENT EVENT.

 

Agreement to sell Madera facilityOn April 23, 2021, the Company entered into an asset purchase agreement with Seaboard Energy California, LLC, for the purchase and sale of the Company’s Madera, California production facility for total consideration of $28.3 million, comprised of $19.5 million in cash and $8.8 million in assumption of liabilities. The Company closed the sale on May 14, 2021, and using net cash proceeds, repaid $19.3 million on its parent notes payable.

 

-17-

 

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

The following discussion and analysis should be read in conjunction with our consolidated financial statements and notes to consolidated financial statements included elsewhere in this report. This report and our consolidated financial statements and notes to consolidated financial statements contain forward-looking statements, which generally include the plans and objectives of management for future operations, including plans and objectives relating to our future economic performance and our current beliefs regarding revenues we might generate and profits we might earn if we are successful in implementing our business and growth strategies. The forward-looking statements and associated risks may include, relate to or be qualified by other important factors, including:

 

fluctuations in the market prices of alcohols and essential ingredients;

 

fluctuations in the costs of key production input commodities such as corn and natural gas;

 

the projected growth or contraction in the alcohol and essential ingredients markets in which we operate;

 

our strategies for expanding, maintaining or contracting our presence in these markets;

 

anticipated trends in our financial condition and results of operations; and

 

our ability to distinguish ourselves from our current and future competitors.

 

You are cautioned not to place undue reliance on any forward-looking statements, which speak only as of the date of this report, or in the case of a document incorporated by reference, as of the date of that document. We do not undertake to update, revise or correct any forward-looking statements, except as required by law.

 

Any of the factors described immediately above, or referenced from time to time in our filings with the Securities and Exchange Commission or in the “Risk Factors” section below could cause our financial results, including our net income or loss or growth in net income or loss to differ materially from prior results, which in turn could, among other things, cause the price of our common stock to fluctuate substantially.

 

Recent Developments

 

On April 23, 2021, we entered into an asset purchase agreement with Seaboard Energy California, LLC, for the purchase and sale of our Madera, California production facility for total consideration of $28.3 million, comprised of $19.5 million in cash and $8.8 million in assumption of liabilities. We closed the transaction on May 14, 2021, and with the net proceeds, repaid $19.3 million in principal on our senior notes.

 

Overview

 

We are a leading producer and marketer of specialty alcohols and essential ingredients, and the largest producer of specialty alcohols in the United States based on annualized volumes.

 

-18-

 

 

We operate six alcohol production facilities. Three of our production facilities are located in the Midwestern state of Illinois and three of our facilities are located in the Western states of California, Oregon and Idaho. Our facility in California is held-for-sale as we are in the process of marketing the Stockton facility for sale. We have an annual alcohol production capacity of 410 million gallons. We market all of the alcohols produced at our facilities as well as fuel-grade ethanol produced by third parties. In 2020, we marketed over 500 million gallons combined of our own alcohols as well as fuel-grade ethanol produced by third parties, and nearly 1.5 million tons of essential ingredients on a dry matter basis. Our business consists of three reportable segments: two production segments and a marketing segment.

 

We report our financial and operating performance in three segments: (1) marketing and distribution, which includes marketing and merchant trading for Company-produced alcohols and essential ingredients on an aggregated basis, and third party fuel-grade ethanol (2) Pekin production, which includes the production and sale of alcohols and essential ingredients produced at our Pekin, Illinois campus, and (3) Other production, which includes the production and sale of fuel-grade ethanol and essential ingredients produced at all of our other production facilities on an aggregate basis, none of which are individually so significant as to be considered a reportable segment.

 

Our mission is to expand our business as a leading producer and marketer of specialty alcohols and essential ingredients. We intend to accomplish this goal in part by investing in our specialized and higher value specialty alcohol production and distribution infrastructure, expanding production in high-demand essential ingredients, expanding and extending the sale of our products into new regional and international markets, building efficiencies and economies of scale and by capturing a greater portion of the value stream.

 

Production Segments

 

We produce specialty alcohols, fuel-grade ethanol and essential ingredients, focusing on four key markets: Health, Home & Beauty; Food & Beverage; Essential Ingredients; and Renewable Fuels. Products for the Health, Home & Beauty market include specialty alcohols used in mouthwash, cosmetics, pharmaceuticals, hand sanitizers, disinfectants and cleaners. Products for the Food & Beverage markets include grain neutral spirits used in alcoholic beverages and vinegar as well as corn germ used for corn oils. Products for Essential Ingredients markets include yeast, corn gluten and distillers grains used in commercial animal feed and pet foods. Our Renewable Fuels products include fuel-grade ethanol and distillers corn oil used as a feedstock for renewable diesel fuel.

 

We produce our alcohols and essential ingredients at our production facilities described below. Our production facilities located in the Midwest are in the heart of the Corn Belt, benefit from low-cost and abundant feedstock and enjoy logistical advantages that enable us to provide our products to both domestic and international markets via truck, rail or barge. Our production facilities located on the West Coast are near their respective fuel and feed customers, offering significant timing, transportation cost and logistical advantages.

 

We are currently operating at approximately 64% of our estimated maximum annual production capacity. Our Magic Valley and Stockton facilities are currently idled. As market conditions change, we may increase, decrease or idle production at one or more operating facilities or resume operations at any idled facility.

 

        Annual Production Capacity
(estimated, in gallons)
 
Production Facility   Location   Fuel-Grade Ethanol     Specialty Alcohol  
Pekin Campus   Pekin, IL     110,000,000       140,000,000  
Magic Valley   Burley, ID     60,000,000        
Columbia   Boardman, OR     40,000,000        
Stockton   Stockton, CA     60,000,000        

 

Marketing Segment

 

We market all of the alcohols and essential ingredients we produce at our facilities. We also market fuel-grade ethanol produced by third parties.

 

We have extensive and long-standing customer relationships, both domestic and international, for our specialty alcohols and essential ingredients. These customers include producers and distributors of ingredients for cosmetics, sanitizers and related products, distilled spirits producers, food products manufacturers, producers of personal health/consumer health and personal care hygiene products, and global trading firms.

 

Our fuel-grade ethanol customers are located throughout the Western and Midwestern United States and consist of integrated oil companies and gasoline marketers who blend fuel-grade ethanol into gasoline. Our customers depend on us to provide a reliable supply of fuel-grade ethanol and manage the logistics and timing of delivery with very little effort on their part. Our customers collectively require fuel-grade ethanol volumes in excess of the supplies we produce at our facilities. We secure additional fuel-grade ethanol supplies from third-party fuel-grade ethanol plants in California and other third-party suppliers in the Midwest where a majority of fuel-grade ethanol producers are located. We arrange for transportation, storage and delivery of fuel-grade ethanol purchased by our customers through our agreements with third-party service providers in the Western United States as well as in the Midwest from a variety of sources.

 

-19-

 

 

We market our essential ingredient feed products to dairies and feedlots, in many cases located near our production facilities. These customers use our feed products for livestock as a substitute for corn and other sources of starch and protein. We sell our corn oil to poultry and biodiesel customers. We do not market essential ingredients from other producers.

 

See “Note 3 – Segments” to our Notes to Consolidated Financial Statements included elsewhere in this report for financial information about our business segments.

 

Current Initiatives and Outlook

 

We had a solid first quarter, selling 19 million gallons of specialty alcohols through a combination of contracted volumes, spot sales and exports. The first quarter also represented our fourth consecutive quarter of gross profit, reflecting the benefits of our new business focus on specialty alcohols and essential ingredients. Our new business focus is more sustainable and profitable than our prior focus on fuel-grade ethanol.

 

We are now the largest producer of specialty alcohols in the United States based on annualized volumes. We have 410 million gallons of annual production capacity, of which approximately 140 million gallons, or 34%, is specialty alcohols and the balance is fuel-grade ethanol. We are currently operating production facilities with 290 million gallons of annual capacity, of which nearly 50% is specialty alcohols. All of our operating facilities are running at break-even or better on an earnings before interest, taxes, depreciation and amortization basis.

 

We remain on track for sales of our specialty alcohols to contribute a minimum of $60 million in gross profit for the full year based on 70 million gallons of specialty alcohols contracted in the fall of 2020 at fixed volumes and prices. Many variables could materially impact our results, including export conditions, the ability of our customers to take all of their contracted volumes for 2021, market demand for sanitizers and disinfectants, our ability to timely sell our Stockton, California production facility, and fuel-grade ethanol crush margins. We are optimistic that we can add additional contracted specialty alcohol volumes in 2022 and future years, improving utilization over time from our expanded specialty alcohol production capacity and our ISO 9001, ICH Q7 and EXCiPACT certifications.

 

As noted above, we have completed the sale of our idled fuel-grade ethanol production facility in Madera, California for total consideration of $28.3 million. We expect to save approximately $0.7 million per quarter in interest expense and approximately $0.4 million per quarter in carrying costs associated with the idled facility.

 

We have capital improvement projects totaling $18.0 million in process or scheduled for 2021. We expect these projects to expand revenue and increase efficiencies and plant reliability. For example, we are increasing our yeast facility’s annual production capacity by approximately 15%. We will also have the ability to further expand production of even higher value yeast derivatives with similar payback profiles. In addition, we are upgrading our feed dryers at our Pekin Campus that will produce even higher value feed and improve overall plant efficiency and reliability. These two projects are scheduled for completion by the third quarter with an expected payback in less than two years, or approximately $5.0 million in additional annual earnings before interest, taxes, depreciation and amortization.

 

Our Pekin Campus sits on the Mt. Simon sandstone formation, considered one of the most significant potential carbon storage resources in the United States. As a member of the Carbon Capture Coalition, we are actively engaged in discussions to develop a carbon capture and sequestration program at our Pekin site, which generates over 600,000 tons of CO2 annually, and expect to be an active player in the carbon capture space.

 

Finally, among many other projects under development is our plan to expand protein production at our dry-mill production facilities, which collectively represent 250 million gallons of annual production capacity. We believe the economics of expanded protein production are compelling and would expect to achieve protein concentrations in excess of 50% and an improvement in corn oil production by 50%.

 

Over the past twelve months, we have improved operations and our production footprint, and reduced controllable expenses and our overall cost of capital, to build a strong foundation for the future which will enable us to aggressively pursue organic opportunities to reinvest in quality, proven high-value projects, as well as pursue accretive strategic acquisitions.

 

Critical Accounting Policies

 

The preparation of our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America, requires us to make judgments and estimates that may have a significant impact upon the portrayal of our financial condition and results of operations. We believe that of our significant accounting policies, the following require estimates and assumptions that require complex, subjective judgments by management that can materially impact the portrayal of our financial condition and results of operations: revenue recognition; impairment of long-lived assets and held-for-sale classification; valuation of allowance for deferred taxes and derivative instruments. These significant accounting principles are more fully described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in our Annual Report on Form 10-K for the year ended December 31, 2020.

 

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Results of Operations

 

The following selected financial information should be read in conjunction with our consolidated financial statements and notes to our consolidated financial statements included elsewhere in this report, and the other sections of “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in this report.

 

Certain performance metrics that we believe are important indicators of our results of operations include:

 

    Three Months Ended
March 31,
    Percentage  
    2021     2020     Change  
Fuel-grade ethanol production gallons sold (in millions)     39.0       100.2       (61.1 )%
Specialty alcohol production gallons sold (in millions)     19.0       22.3       (14.8 )%
Third party fuel-grade ethanol gallons sold (in millions)     54.0       62.4       (13.5 )%
Total gallons sold (in millions)     112.0       184.9       (39.4 )%
                         
Total gallons produced (in millions)     58.0       116.2       (50.1 )%
Production capacity utilization     52 %     77 %     (32.5 )%
                         
Average sales price per gallon   $ 1.94     $ 1.51       28.5 %
                         
Corn cost per bushel—CBOT equivalent   $ 4.98     $ 3.79       31.4 %
Average basis(1)     0.29       0.44       (34.1 )%
Delivered cost of corn   $ 5.27     $ 4.23       24.6 %
                         
Total essential ingredients tons sold (in thousands)     276.9       671.9       (58.8 )%
Essential ingredients revenues as % of delivered cost of corn(2)     40.0 %     37.0 %     8.1 %
                         
Average CBOT ethanol price per gallon   $ 1.60     $ 1.24       29.0 %
Average CBOT corn price per bushel   $ 5.40     $ 3.74       44.4 %

 

 

(1) Corn basis represents the difference between the immediate cash price of delivered corn and the future price of corn for Chicago delivery.
(2) Essential ingredients revenues as a percentage of delivered cost of corn shows our yield based on sales of essential ingredients, including wet distillers grains and corn oil, generated from alcohol we produced.

 

Net Sales, Cost of Goods Sold and Gross Profit (Loss)

 

The following table presents our net sales, cost of goods sold and gross profit (loss) in dollars and gross profit (loss) as a percentage of net sales (in thousands, except percentages):

 

   

Three Months Ended

March 31,

    Change in  
    2021     2020     Dollars     Percent  
                         
Net sales   $ 218,734     $ 311,404     $ (92,670 )     (29.8 )%
Cost of goods sold     204,897       324,294       (119,397 )     (36.8 )%
Gross profit (loss)   $ 13,837     $ (12,890 )   $ 26,727      

NM*

 
Percentage of net sales     6.3 %     (4.1 )%                

 

* Not meaningful

 

Net Sales

 

The decrease in our consolidated net sales for the three months ended March 31, 2021 as compared to the same period in 2020 was primarily due to a decrease in our total gallons sold, partially offset by an increase in our average sales price per gallon.

 

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Our production gallons sold and our volume of essential ingredients sold declined for the three months ended March 31, 2021 as compared to the same period in 2020. Our third-party gallons sold also declined. Our production gallons and essential ingredients sold declined primarily due to an intentional reduction in our production of fuel-grade ethanol due to adverse market conditions as well as the sale of our Nebraska facilities in April 2020. Our third-party gallons sold declined as we focused our efforts on selling our own fuel-grade ethanol production.

 

On a consolidated basis, our average sales price per gallon increased 28.5% to $1.94 for the three months ended March 31, 2021 as compared to $1.51 for the same period in 2020. The average Chicago Board of Trade, or CBOT, fuel-grade ethanol price per gallon, increased 29.0% to $1.60 for the three months ended March 31, 2021 as compared to $1.24 for the same period in 2020.

 

Marketing Segment

 

Net sales of fuel-grade ethanol from our marketing segment, excluding intersegment sales, decreased by $0.5 million, or 1%, to $57.4 million for the three months ended March 31, 2021 as compared to $57.9 million for the same period in 2020.

 

Our volume of third party fuel-grade ethanol gallons sold reported gross by our marketing segment decreased by 7.2 million gallons, or 21%, to 26.7 million gallons for the three months ended March 31, 2021 as compared to 33.9 million gallons for the same period in 2020. At our marketing segment’s average sales price per gallon of $2.14 for the three months ended March 31, 2021, we generated $15.3 million less in net sales from our marketing segment from the 7.2 million fewer gallons of third-party fuel-grade ethanol sold gross in the three months ended March 31, 2021 as compared to the same period in 2020.

 

Our volume of third party fuel-grade ethanol gallons sold reported net by our marketing segment decreased by 1.2 million gallons, or 4%, to 27.3 million gallons for the three months ended March 31, 2021 as compared to 28.5 million gallons for the same period in 2020. The decrease in third-party fuel-grade ethanol gallons sold reported net reduced net sales by less than $0.1 million.

 

The $0.44 per gallon, or 26%, increase in our marketing segment’s average sales price per gallon for the three months ended March 31, 2021 as compared to the same period in 2020 resulted in a $14.8 million increase in our net sales from third-party fuel-grade ethanol sold by our marketing segment.

 

Pekin Campus Production Segment

 

Net sales of alcohol from our Pekin Campus production segment increased by $11.0 million, or 13%, to $95.1 million for the three months ended March 31, 2021 as compared to $84.1 million for the same period in 2020. Our total volume of production gallons sold decreased by 7.4 million gallons, or 13%, to 50.6 million gallons for the three months ended March 31, 2021 as compared to 58.0 million gallons for the same period in 2020. At our Pekin Campus production segment’s average sales price per gallon of $1.88 for the three months ended March 31, 2021, we generated $13.9 million less in net sales from our Pekin Campus production segment from the 7.4 million fewer gallons of alcohol sold in the three months ended March 31, 2021 as compared to the same period in 2020. The increase of $0.43, or 30%, in our Pekin Campus production segment’s average sales price per gallon in the three months ended March 31, 2021 as compared to the same period in 2020 improved our net sales from our Pekin Campus production segment by $24.9 million.

 

Net sales of essential ingredients increased $5.2 million, or 13%, to $45.1 million for the three months ended March 31, 2021 as compared to $39.9 million for the same period in 2020. Our total volume of essential ingredients sold decreased by 27,000 tons, or 11%, to 211,000 tons for the three months ended March 31, 2021 from 238,000 tons for the same period in 2020. At our average sales price per ton of $213.18 for the three months ended March 31, 2021, we generated $5.6 million less in net sales from the 27,000 fewer tons of essential ingredients sold in the three months ended March 31, 2021 as compared to the same period in 2020. The increase of $45.59, or 27%, in our average sales price per ton for the three months ended March 31, 2021 as compared to the same period in 2020 increased our net sales from our Pekin Campus production segment by $10.8 million.

 

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Other Production Segment

 

Net sales of alcohol from our other production segment decreased by $83.3 million, or 84%, to $16.0 million for the three months ended March 31, 2021 as compared to $99.3 million for the same period in 2020. Our total volume of gallons sold decreased by 57.1 million gallons, or 89%, to 7.4 million gallons for the three months ended March 31, 2021 as compared to 64.5 million gallons for the same period in 2020. At our other production segment’s average sales price per gallon of $2.16 for the three months ended March 31, 2021, we generated $123.2 million less in net sales from our other production segment from the 57.1 million fewer gallons of alcohol sold in the three months ended March 31, 2021 as compared to the same period in 2020. The increase of $0.62, or 40%, in our other production segment’s average sales price per gallon for the three months ended March 31, 2021 as compared to the same period in 2020 improved our net sales from our other production segment by $39.9 million.

 

Net sales of essential ingredients decreased $25.1 million, or 83%, to $5.1 million for the three months ended March 31, 2021 as compared to $30.2 million for the same period in 2020. Our total volume of essential ingredients sold decreased by 369,000 tons, or 85%, to 65,000 tons for the three months ended March 31, 2021 from 434,000 tons for the same period in 2020. At our average sales price per ton of $78.64 for the three months ended March 31, 2021, we generated $29.0 million less in net sales from the 369,000 fewer tons of essential ingredients sold in the three months ended March 31, 2021 as compared to the same period in 2020. The increase of $8.97, or 12.9%, in our average sales price per ton for the three months ended March 31, 2021 as compared to the same period in 2020 increased our net sales from our other production segment by $3.9 million.

 

Cost of Goods Sold and Gross Profit (Loss)

 

Our consolidated gross profit (loss) improved to a gross profit of $13.8 million for the three months ended March 31, 2021 from a gross loss of $12.9 million for the same period in 2020, representing a gross profit margin of 6.3% for the three months ended March 31, 2021 compared to negative 4.1% for the same period in 2020. Our consolidated gross profit (loss) improved due to significantly higher margin sales of our specialty alcohols and a substantial reduction in negative margin sales of fuel-grade ethanol as we have idled a significant amount of our fuel-grade ethanol production.

 

Marketing Segment

 

Our marketing segment’s gross profit improved by $2.0 million to $3.5 million for the three months ended March 31, 2021 as compared to $1.5 million for the same period in 2020. Of this improvement, $3.0 million is attributable to higher margins from sales of third-party fuel-grade ethanol, partially offset by a reduction of $1.0 million attributable to lower marketing volumes of third-party fuel-grade ethanol for the three months ended March 31, 2021 as compared to the same period in 2020.

 

Pekin Campus Production Segment

 

Our Pekin Campus production segment’s gross profit improved by $15.2 million to a gross profit of $13.2 million for the three months ended March 31, 2021 as compared to a gross loss of $2.0 million for the same period in 2020. Of this improvement, $17.1 million is attributable to increased margins from our specialty alcohols, partially offset by $1.9 million less in gross profit attributable to decreased sales volumes in the three months ended March 31, 2021 as compared to the same period in 2020.

 

-23-

 

 

Other Production Segment

 

Our other production segment’s gross profit improved by $9.5 million to a gross loss of $2.9 million for the three months ended March 31, 2021 as compared to a gross loss of $12.4 million for the same period in 2020. Of this improvement, $22.6 million is attributable to lower sales volumes at negative margins, partially offset by $13.1 million in lower gross profit attributable to a negative margin environment for fuel-grade ethanol for the three months ended March 31, 2021 as compared to the same period in 2020.

 

Selling, General and Administrative Expenses

 

The following table presents our selling, general and administrative, or SG&A, expenses in dollars and as a percentage of net sales (in thousands, except percentages):

 

   

Three Months Ended

March 31,

    Change in  
    2021     2020     Dollars     Percent  
Selling, general and administrative expenses   $ 7,014     $ 10,212     $ (3,198 )     (31.3 )%
Percentage of net sales     3.2 %     3.3 %                

 

Our SG&A expenses decreased for the three months ended March 31, 2021 as compared to the same period in 2021. The $3.2 million period over period decrease in SG&A expenses is primarily due to higher professional fees incurred in the three months ended March 31, 2021 in connection with our debt restructuring and asset sale efforts. We anticipate SG&A expenses of $20.0 million to $25.0 million for all of 2021.

 

Interest Expense, net

 

The following table presents our interest expense, net in dollars and as a percentage of net sales (in thousands, except percentages):

 

   

Three Months Ended

March 31,

    Change in  
    2021     2020     Dollars     Percent  
Interest expense, net   $ 1,885     $ 5,307     $ (3,422 )     (64.5 )%
Percentage of net sales     0.9 %     1.7 %                

 

Our interest expense, net decreased for the three months ended March 31, 2021 as compared to the same period in 2021. The $3.4 million period over period decrease in interest expense, net is primarily due to lower average borrowings outstanding as a result of our significant principal payments on outstanding debt over the past year.

 

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Net Income (Loss) Available to Common Stockholders

 

The following table presents our net income (loss) available to common stockholders in dollars and as a percentage of net sales (in thousands, except percentages):

 

   

Three Months Ended

March 31,

    Change in  
    2021     2020     Dollars     Percent  
Net income (loss) available to Common Stockholders   $ 4,366     $ (25,415 )   $ 29,781      

NM

 
Percentage of net sales     2.0 %     (8.2 )%                

 

The increase in net income available to common stockholders is primarily due to our higher gross profit and lower SG&A expenses and interest expense, for the three months ended March 31, 2021 as compared to the same period in 2020.

 

Liquidity and Capital Resources

 

During the three months ended March 31, 2021, we funded our operations primarily from cash generated by our operations, proceeds from lines of credit and cash on hand. These funds were also used to make payments on our term debt and our other credit facilities and for capital expenditures. As of March 31, 2021, we had $44.1 million in cash and cash equivalents and $4.7 million available for borrowing under Kinergy’s operating line of credit. We believe we have sufficient liquidity to meet our anticipated working capital, debt service and other liquidity needs for the next twelve months from the date of this report.

 

Quantitative Year-End Liquidity Status

 

We believe that the following amounts provide insight into our liquidity and capital resources. The following selected financial information should be read in conjunction with our consolidated financial statements and notes to consolidated financial statements included elsewhere in this report, and the other sections of “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in this report (dollars in thousands).

 

    March 31, 2021     December 31, 2020     Change  
Cash and cash equivalents   $ 44,146     $ 47,667       (7.4 )%
Current assets   $ 241,588     $ 214,046       12.9 %
Property and equipment, net   $ 226,183     $ 229,486       (1.4 )%
Current liabilities   $ 112,750     $ 86,927       29.7 %
Long-term debt, noncurrent portion   $ 64,396     $ 71,807       (10.3 )%
Working capital   $ 128,838     $ 127,119       1.4 %
Working capital ratio     2.14       2.46       (13.0 )%

 

-25-

 

 

Restricted Net Assets

 

At March 31, 2021, we had approximately $231.9 million of net assets at our subsidiaries that were not available to be transferred to Alto Ingredients, Inc. in the form of dividends, distributions, loans or advances due to restrictions contained in the credit facilities of the subsidiaries.

 

Changes in Working Capital and Cash Flows

 

Working capital improved to $128.8 million at March 31, 2021 from $127.1 million at December 31, 2020 as a result of an increase of $27.5 million in current assets, partially offset by an increase of $25.8 million in current liabilities.

 

Current assets increased primarily due to an increase in accounts receivable and higher inventory values due to increased commodity prices for both alcohol and corn from the prior period.

 

Our current liabilities increased primarily due to an increase in accounts payable due to timing of payments and an increase in current portion of long-term debt as amounts due within one year increased.

 

Our cash and cash equivalents declined by $3.5 million primarily due to $4.1 million in cash used in our operating activities and $4.4 million in cash used in our investing activities, partially offset by $5.0 million in cash provided by our financing activities.

 

Cash used in our Operating Activities

 

We used $4.1 million in cash in our operating activities during the three months ended March 31, 2021, as compared to $26.9 million in cash provided by our operations for the same period in 2020. Specific factors that contributed to the change in cash from our operating activities include:

 

a decrease of $35.1 million related to higher accounts receivable balances due to the timing of payments

 

a decrease of $28.1 million related to higher inventories due to increased commodity prices; and

 

a decrease of $10.5 million from losses on derivative instruments due to the recent rise in corn prices.

 

These amounts were partially offset by:

 

an increase of $31.8 million in our consolidated net income due to higher margins from our sales of specialty alcohols; and

 

an increase of $21.9 million related to accounts payable due to timing of payments.

 

Cash used in our Investing Activities

 

We used $4.4 million of cash in our investing activities for the three months ended March 31, 2021 for additions to property and equipment resulting from our capital expenditure projects.

 

Cash provided by our Financing Activities

 

Cash provided by our financing activities was $5.0 million for the three months ended March 31, 2021, which reflected net proceeds of $13.0 million from Kinergy’s operating line of credit and $0.5 million in stock option exercises, partially offset by $8.5 million in principal payments on our other indebtedness.

 

-26-

 

 

Kinergy’s Operating Line of Credit

 

Kinergy maintains an operating line of credit for an aggregate amount of up to $100.0 million. The credit facility matures on August 2, 2022. Interest accrues under the credit facility at a rate equal to (i) the three-month London Interbank Offered Rate (“LIBOR”), plus (ii) a specified applicable margin ranging from 1.50% to 2.00%. The credit facility’s monthly unused line fee is 0.25% to 0.375% of the amount by which the maximum credit under the facility exceeds the average daily principal balance during the immediately preceding month. Payments that may be made by Kinergy to Alto Ingredients, Inc. as reimbursement for management and other services provided by Alto Ingredients, Inc. to Kinergy are limited under the terms of the credit facility to $1.5 million per fiscal quarter. The credit facility also includes the accounts receivable of our wholly-owned subsidiary, Alto Nutrients, LLC, or Alto Nutrients, as additional collateral. Payments that may be made by Alto Nutrients to Alto Ingredients, Inc. as reimbursement for management and other services provided by Alto Ingredients, Inc. to Alto Nutrients are limited under the terms of the credit facility to $0.5 million per fiscal quarter. Alto Nutrients, one of our indirect wholly-owned subsidiaries, markets our essential ingredients and also provides raw material procurement services to our subsidiaries.

 

For all monthly periods in which excess borrowing availability falls below a specified level, Kinergy and Alto Nutrients must collectively maintain a fixed-charge coverage ratio (calculated as a twelve-month rolling earnings before interest, taxes, depreciation and amortization divided by the sum of interest expense, capital expenditures, principal payments of indebtedness, indebtedness from capital leases and taxes paid during such twelve-month rolling period) of at least 2.0 and are prohibited from incurring certain additional indebtedness (other than specific intercompany indebtedness). The obligations of Kinergy and Alto Nutrients under the credit facility are secured by a first-priority security interest in all of their respective assets in favor of the lender.

 

We believe Kinergy and Alto Nutrients are in compliance with the fixed-charge coverage ratio covenant as of the filing of this report. The following table sets forth the fixed-charge coverage ratio financial covenant and the actual results for the periods presented:

 

    Three Months Ended
March 31,
    Years Ended
December 31,
 
    2021     2020     2020     2019  
                         
Fixed-Charge Coverage Ratio Requirement     2.00       2.00       2.00       2.00  
Actual     7.71       4.05       5.35       5.71  
Excess     5.71       2.05       3.35       3.71  

 

Alto Ingredients, Inc. has guaranteed all of Kinergy’s obligations under the credit facility. As of March 31, 2021, Kinergy had an outstanding balance of $45.5 million and $4.7 million of unused borrowing availability under the credit facility.

 

Alto Pekin Credit Facilities

 

On December 15, 2016, Alto Pekin, LLC, or Alto Pekin, one of our indirect wholly-owned subsidiaries and the entity that holds two of our production facilities in Pekin, Illinois, entered into a Credit Agreement, or the Pekin Credit Agreement, with 1st Farm Credit Services, PCA and CoBank, ACB, or CoBank. Under the terms of the Pekin Credit Agreement, Alto Pekin borrowed from 1st Farm Credit Services $64.0 million under a term loan facility that matures on August 20, 2021, or the Pekin Term Loan, and up to $32.0 million under a revolving term loan facility that matures on February 1, 2022, or the Pekin Revolving Loan, and together with the Pekin Term Loan, the Pekin Credit Facility. The Pekin Credit Facility is secured by a first-priority security interest in all of Alto Pekin’s assets.

 

-27-

 

 

The Pekin Credit Facility and related agreements contain a variety of representations, warranties, covenants and events of default. Following a series of amendments and waivers among Alto Pekin, its lenders and their agent, certain terms of the agreements are as follows:

 

Interest accrues under the Pekin Credit Facility at an annual rate equal to the 30-day LIBOR plus 5.00%.

 

Alto Pekin is required to pay a monthly fee on any unused portion of the Pekin Revolving Loan at a rate of 0.75% per annum.

 

Alto Pekin and Alto ICP, LLC, or ICP, one of our indirect wholly-owned subsidiaries and the entity that holds one of our production facilities in Pekin, Illinois, are collectively required to maintain working capital of not less than 50% of the combined outstanding revolving lines of credit, which was $27.0 million at March 31, 2021; and an annual debt service coverage ratio of not less than 1.25 to 1.00, in addition to various other affirmative and negative covenants.

 

Net proceeds arising from a sale of any of our midwestern production facility assets will be allocated 33/34/33% among Alto Pekin’s and ICP’s lenders, collectively, our senior secured noteholders, and us, respectively. Net proceeds arising from the sale of any of our western production facility assets will be allocated first to the senior secured noteholders up to $20.0 million and then allocated 33/34/33% among Alto Pekin’s and ICP’s lenders, collectively, our senior secured noteholders, and us, respectively.

 

As of the filing of this report, we believe we are in compliance with the terms and conditions of the Notes.

 

ICP Credit Facilities

 

On September 15, 2017, ICP, Compeer Financial, PCA, or Compeer, and CoBank as agent, entered into a Credit Agreement, or the ICP Credit Agreement. Under the terms of the ICP Credit Agreement, ICP borrowed from Compeer $24.0 million under a term loan facility that matures on September 20, 2021, or the ICP Term Loan, and up to $18.0 million under a revolving term loan facility that matures on September 1, 2022, or the ICP Revolving Loan, and together with the ICP Term Loan, the ICP Credit Facility. The ICP Credit Facility is secured by a first-priority security interest in all of ICP’s assets.

 

The ICP Credit Facility and related agreements contain a variety of representations, warranties, covenants and events of default. Following a series of amendments and waivers among ICP, its lenders and their agent, certain terms of the agreements are as follows:

 

Interest accrues under the ICP Credit Facility at an annual rate equal to the 30-day LIBOR plus 3.75%.

 

ICP is required to pay an annual nonrefundable commitment fee, calculated as 0.75% multiplied by the average daily positive difference between (i) the ICP Revolving Loan commitment (which may be reduced by ICP from time to time in increments of $0.5 million), minus (ii) the aggregate principal amounts outstanding under the ICP Revolving Loan.

 

ICP and Alto Pekin are collectively required to maintain working capital of not less than 50% of the combined outstanding revolving lines of credit, which was $27.0 million at March 31, 2021; and an annual debt service coverage ratio of not less than 1.50 to 1.00, in addition to various other affirmative and negative covenants.

 

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Net proceeds arising from the sale of any of our midwestern production facility assets will be allocated 33/34/33% among Alto Pekin’s and ICP’s lenders, collectively, our senior secured noteholders, and us, respectively. Net proceeds arising from the sale of any of our western production facility assets will be allocated first to the senior secured noteholders up to $20.0 million and then allocated 33/34/33% among Alto Pekin’s and ICP’s lenders, collectively, our senior secured noteholders, and us, respectively.

 

As of the filing of this report, we believe we are in compliance with the terms and conditions of our ICP Credit Facility.

 

Senior Secured Notes

 

On December 12, 2016, we entered into a Note Purchase Agreement with five accredited investors and sold $55.0 million in aggregate principal amount of senior secured notes to the investors in a private offering for aggregate gross proceeds of 97% of the principal amount of the notes sold. On June 26, 2017, we entered into a second Note Purchase Agreement with five accredited investors and sold an additional $13.9 million in aggregate principal amount of senior secured notes to the investors in a private offering for aggregate gross proceeds of 97% of the principal amount of the notes sold, and collectively with the notes previously sold, the Notes. The Notes are secured by a first-priority security interest in all of our equity interests in Alto Op Co.

 

The Notes and related agreements contain a variety of representations, warranties, covenants and events of default. Following a series of amendments and waivers with the holders of our Notes, or the senior secured noteholders, and their agent, certain terms of the agreements are as follows:

 

The Notes mature on December 15, 2021.

 

Payments due under the Notes rank senior to all other indebtedness of Alto Ingredients, Inc. other than permitted senior indebtedness.

 

Interest on the Notes accrues at a rate of 15% per annum.

 

Any voluntary prepayments must be made at 102% of the principal amount prepaid.

 

The Notes also contain a variety of limitations, including a prohibition on parent company indebtedness; restrictions on redemption, repurchase or payment of any dividend or distribution in respect of our or our subsidiaries’ equity interests; restrictions on asset sales and other dispositions; and restrictions on our or our subsidiaries’ ability to issue equity for purposes other than to pay down a portion of the outstanding balance of the Notes.

 

In March 2020, ICP granted to the senior secured noteholders a security interest in certain of its personal property. In addition, Alto Central granted to the senior secured noteholders a security interest in certain of its personal property. Alto Central also pledged its equity interests in Alto Pekin and ICP in favor of the senior secured noteholders as additional collateral securing our obligations to the senior secured noteholders. Alto Op. Co also granted to the senior secured noteholders a security interest in certain of its personal property. We and certain subsidiaries also entered into intercreditor agreements with the ICP’s and Alto Pekin’s lenders, and the agent for our senior secured noteholders, to address issues of priority and the allocation of proceeds from asset sales.

 

On May 14, 2021, in connection with the sale of our Madera, California fuel-grade ethanol production facility, we repaid $19.3 million in principal on these Notes.

 

As of the filing of this report, we believe we are in compliance with the terms and conditions of the Notes.

 

-29-

 

 

CARES Act Loans

 

On May 4, 2020, Alto Ingredients, Inc. and Alto Pekin received loan proceeds from Bank of America, NA under the Coronavirus Aid, Relief, and Economic Security Act, or the CARES Act, through the Paycheck Protection Program administered by the U.S. Small Business Administration. Alto Ingredients, Inc. received $6.0 million and Alto Pekin received $3.9 million in loan proceeds. The loans mature in two years and bear interest at a rate of 1.00% per annum. Under the terms of the loans, certain amounts may be forgiven if they are used for qualifying expenses as described in the CARES Act, but we can provide no assurance that we will be able to obtain forgiveness of all or any portion of the loans. We have applied for loan forgiveness.

 

Effects of Inflation

 

The impact of inflation was not significant to our financial condition or results of operations for the three months ended March 31, 2021 and 2020.

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

 

Not applicable.

 

ITEM 4. CONTROLS AND PROCEDURES.

 

Evaluation of Disclosure Controls and Procedures

 

We conducted an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by the company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures also include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate, to allow timely decisions regarding required disclosure. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded as of March 31, 2021 that our disclosure controls and procedures were effective at a reasonable assurance level.

 

Changes in Internal Control over Financial Reporting

 

There has been no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

Inherent Limitations on the Effectiveness of Controls

 

Management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control systems are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in a cost-effective control system, no evaluation of internal control over financial reporting can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, have been or will be detected.

 

These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of a simple error or mistake. Controls can also be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part on certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Projections of any evaluation of controls effectiveness to future periods are subject to risks. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures.

 

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PART II - OTHER INFORMATION

 

ITEM 1. LEGAL PROCEEDINGS.

 

We are subject to legal proceedings, claims and litigation arising in the ordinary course of business. While the amounts claimed may be substantial, the ultimate liability cannot presently be determined because of considerable uncertainties that exist. Therefore, it is possible that the outcome of those legal proceedings, claims and litigation could adversely affect our quarterly or annual operating results or cash flows when resolved in a future period. However, based on facts currently available, management believes such matters will not adversely affect in any material respect our financial position, results of operations or cash flows.

 

ITEM 1A. RISK FACTORS.

 

Before deciding to purchase, hold or sell our common stock, you should carefully consider the risks described below in addition to the other information contained in this Report and in our other filings with the Securities and Exchange Commission, including subsequent reports on Forms 10-Q and 8-K. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business. If any of these known or unknown risks or uncertainties actually occurs with material adverse effects on Alto Ingredients, our business, financial condition, results of operations and/or liquidity could be seriously harmed. In that event, the market price for our common stock will likely decline, and you may lose all or part of your investment.

 

Risks Related to our Business

 

The effects of the coronavirus pandemic, or its abatement, may materially and adversely affect our business, results of operations and liquidity.

 

The coronavirus pandemic has resulted in businesses suspending or substantially curtailing operations and travel, quarantines, and an overall substantial slowdown of economic activity. Federal, state and foreign governments have implemented measures to contain the virus, including social distancing requirements, travel restrictions, border closures, limitations on public gatherings, work-from-home orders, and closure of non-essential businesses. Many of these measures remain or have been curtailed only partially. Transportation fuels in particular, including fuel-grade ethanol, experienced significant price declines and reduced demand. A further or extended ongoing downturn in global economic activity, or recessionary conditions in general, would likely lead to poor demand for, and negatively affect the prices of, fuel-grade ethanol, materially and adversely affecting our business, results of operations and liquidity.

 

Furthermore, to protect the health and well-being of our employees and customers, we have implemented work-from-home requirements, made substantial modifications to employee travel policies, and cancelled or shifted marketing and other corporate events to virtual-only formats for the foreseeable future. While we continue to monitor our circumstances and may adjust our current policies as more information and public health guidance become available, these precautionary measures could negatively affect our sales and marketing efforts, delay and lengthen our sales cycles, or create operational or other challenges, any of which could harm our business and results of operations.

 

In addition, if one or more of our employees or customers becomes ill from coronavirus and attributes their infection to us, including through exposure at one of our offices or production facilities, we could be subject to allegations of failure to adequately mitigate the risk of exposure. Such allegations could harm our reputation and expose us to the risks of litigation and liability.

 

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Our specialty alcohols business has benefitted significantly from the coronavirus pandemic due to a substantial increase in demand for alcohol-based sanitizers and disinfectants. As the coronavirus pandemic abates, demand for alcohol-based sanitizers and disinfectants may decline, ultimately exerting downward pressure on prices for our specialty alcohols used in those products. In addition, higher industry production levels in response to the coronavirus pandemic and any resulting oversupply of specialty alcohols for sanitizers and disinfectants would also exert downward pressure on prices. Reduced demand and prices for our specialty alcohols used in sanitizers and disinfectants, or industry oversupply of those specialty alcohols, may materially and adversely affect our business, results of operations and liquidity.

 

Our results of operations and our ability to operate at a profit are largely dependent on our ability to manage the costs of corn, natural gas and other production inputs, with the prices of our alcohols and essential ingredients, all of which are subject to volatility and uncertainty.

 

Our results of operations are highly impacted by commodity prices, including the cost of corn, natural gas and other production inputs that we must purchase, and the prices of alcohols and essential ingredients that we sell. Prices and supplies are subject to and determined by market and other forces over which we have no control, such as weather, domestic and global demand, supply shortages, export prices and various governmental policies in the United States and throughout the world.

 

Price volatility of corn, natural gas and other production inputs, and alcohols and essential ingredients, may cause our results of operations to fluctuate substantially. We may fail to generate expected levels of net sales and profits even under fixed-price and other contracts for the sale of specialty alcohols used in consumer products. Our customers may not pay us timely or at all, even under longer-term, fixed-price contracts for our specialty alcohols, and may seek to renegotiate prices under those contracts during periods of falling prices or high price volatility.

 

Over the past several years, for example, the spread between corn and fuel-grade ethanol prices has fluctuated significantly. Fluctuations are likely to continue to occur. A sustained narrow spread, whether as a result of sustained high or increased corn prices or sustained low or decreased alcohol or essential ingredient prices, would adversely affect our results of operations and financial position. Revenues from sales of alcohols, particularly fuel-grade ethanol, and essential ingredients could decline below the marginal cost of production, which may force us to further suspend production, particularly fuel-grade ethanol production, at some or all of our facilities.

 

In addition, some of our fuel-grade ethanol marketing activities will likely be unprofitable in a market of generally declining prices due to the nature of our business. For example, to satisfy customer demands, we maintain certain quantities of fuel-grade ethanol inventory for subsequent resale. Moreover, we procure much of our fuel-grade ethanol inventory outside of third-party marketing arrangements and therefore must buy fuel-grade ethanol at a price established at the time of purchase and sell fuel-grade ethanol at an index price established later at the time of sale that is generally reflective of movements in the market price of fuel-grade ethanol. As a result, our margins for fuel-grade ethanol sold in these transactions generally decline and may turn negative as the market price of fuel-grade ethanol declines.

 

We can provide no assurance that corn, natural gas or other production inputs can be purchased at or near current or any particular prices, or that our alcohols or essential ingredients will sell at or near current or any particular prices. Consequently, our results of operations and financial position may be adversely affected by increases in the prices of corn, natural gas and other production inputs or decreases in the prices of our alcohols and essential ingredients.

 

Increased alcohol or essential ingredient production or higher inventory levels may cause a decline in prices for those products, and may have other negative effects, adversely impacting our results of operations, cash flows and financial condition.

 

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The prices of our alcohols and essential ingredients are impacted by competing third-party supplies of those products. For example, we believe that the most significant factor influencing the price of fuel-grade ethanol has been the substantial increase in production. According to the Renewable Fuels Association, domestic fuel-grade ethanol production capacity increased from an annualized rate of 1.5 billion gallons per year in January 1999 to a record 16.1 billion gallons in 2018. In addition, if fuel-grade ethanol production margins improve, we anticipate that owners of production facilities operating at below capacity, or owners of idled production facilities, will increase production levels, thereby resulting in more abundant fuel-grade ethanol supplies and inventories. Increases in the supply of alcohols and essential ingredients may not be commensurate with increases in demand for alcohols and essential ingredients, thus leading to lower prices. Moreover, higher industry production levels in response to the coronavirus pandemic and any resulting oversupply of alcohols for sanitizers and disinfectants, and corresponding oversupply of essential ingredient co-products, may also exert downward pressure on prices. Any of these outcomes could have a material adverse effect on our results of operations, cash flows and financial condition.

 

The prices of our products are volatile and subject to large fluctuations, which may cause our results of operations to fluctuate significantly.

 

The prices of our products are volatile and subject to large fluctuations. For example, the market price of fuel-grade ethanol is dependent upon many factors, including the supply of ethanol and the price of gasoline, which is in turn dependent upon the price of petroleum which itself is highly volatile and difficult to forecast. Our fuel-grade ethanol sales are tied to prevailing spot market prices rather than long-term, fixed-price contracts. Fuel-grade ethanol prices, as reported by the CBOT, ranged from $0.81 to $1.62 per gallon in 2020 and from $1.25 to $1.70 per gallon in 2019. In addition, even under longer-term, fixed-price contracts for our specialty alcohols, our customers may seek to renegotiate prices under those contracts during periods of falling prices or high price volatility. Fluctuations in the prices of our products may cause our results of operations to fluctuate significantly.

 

Disruptions in our production or distribution may adversely affect our business, results of operations and financial condition.

 

Our business depends on the continuing availability of rail, road, port, storage and distribution infrastructure. In particular, due to limited storage capacity at our production facilities and other considerations related to production efficiencies, our facilities depend on just-in-time delivery of corn. The production of alcohols also requires a significant and uninterrupted supply of other raw materials and energy, primarily water, electricity and natural gas. Local water, electricity and gas utilities may fail to reliably supply the water, electricity and natural gas that our production facilities need or may fail to supply those resources on acceptable terms. In the past, poor weather has caused disruptions in rail transportation, which slowed the delivery of fuel-grade ethanol by rail, the principle manner by which fuel-grade ethanol from our facilities located in the Midwest is transported to market. In addition, in 2020, we experienced closure of the Illinois River for lock repairs which required greater use of less cost-effective modes of product transport such as via rail and truck, which resulted in higher costs and negatively affected our results of operations.

 

Disruptions in production or distribution, whether caused by labor difficulties, unscheduled downtimes and other operational hazards inherent in the alcohol production industry, including equipment failures, fires, explosions, abnormal pressures, blowouts, pipeline ruptures, transportation accidents and natural disasters such as earthquakes, floods and storms, or human error or malfeasance or other reasons, could prevent timely deliveries of corn or other raw materials and energy, and could delay transport of our products to market, and may require us to halt production at one or more production facilities, any of which could have a material adverse effect on our business, results of operations and financial condition.

 

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Some of these operational hazards may also cause personal injury or loss of life, severe damage to or destruction of property and equipment or environmental damage, and may result in suspension of operations and the imposition of civil or criminal penalties. Our insurance may not fully cover the potential hazards described above or we may be unable to renew our insurance on commercially reasonable terms or at all.

 

We may engage in hedging transactions and other risk mitigation strategies that could harm our results of operations and financial condition.

 

In an attempt to partially offset the effects of volatility of our product prices, in particular fuel-grade ethanol, corn and natural gas costs, we may enter into contracts to fix the price of a portion of our production or purchase a portion of our corn or natural gas requirements on a forward basis. In addition, we may engage in other hedging transactions involving exchange-traded futures contracts for corn, natural gas and unleaded gasoline from time to time. The financial statement impact of these activities is dependent upon, among other things, the prices involved and our ability to sell sufficient products to use all of the corn and natural gas for which forward commitments have been made. Hedging arrangements also expose us to the risk of financial loss in situations where the other party to the hedging contract defaults on its contract or, in the case of exchange-traded contracts, where there is a change in the expected differential between the underlying price in the hedging agreement and the actual prices paid or received by us. In addition, our open contract positions may require cash deposits to cover margin calls, negatively impacting our liquidity. As a result, our hedging activities and fluctuations in the price of corn, natural gas, fuel-grade ethanol and unleaded gasoline may adversely affect our results of operations, financial condition and liquidity.

 

The industries in which we operate are extremely competitive. Many of our significant competitors have greater production and financial resources and could use their greater resources to gain market share at our expense.

 

The industries in which we operate are extremely competitive. Many of our significant competitors have substantially greater production and financial resources than we do. As a result, our competitors may be able to compete more aggressively and sustain that competition over a longer period of time. Successful competition will require a continued high level of investment in facility maintenance. We may fail to anticipate or respond adequately to new industry developments and other competitive pressures due to our limited resources relative to many significant competitors. This failure could reduce our competitiveness and cause a decline in market share, sales and profitability. Even if sufficient funds are available, we may not be able to make the modifications and improvements necessary to compete successfully.

 

We also face competition from international suppliers, particularly of fuel-grade ethanol, many of whom have cost structures substantially lower than ours. An increase in domestic or foreign competition could force us to reduce our prices and take other steps to compete effectively, which could adversely affect our business, financial condition and results of operations.

 

We incur significant expenses to maintain and upgrade our production facilities and operating equipment, and any interruption in our operations would harm our operating performance.

 

We regularly incur significant expenses to maintain and upgrade our production facilities and operating equipment. The machines and equipment we use to produce our alcohols and manufacture our essential ingredients are complex, have many parts, and some operate on a continuous basis. We must perform routine equipment maintenance and must periodically replace a variety of parts such as motors, pumps, pipes and electrical parts. In addition, our production facilities require periodic shutdowns to perform major maintenance and upgrades. These scheduled shutdowns result in lower sales and increased costs in the periods during which a shutdown occurs and could result in unexpected operational issues in future periods as a result of changes to equipment and operational and mechanical processes made during shutdown.

 

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Risks Related to our Finances

 

We have incurred significant losses and negative operating cash flow in the past and we may incur losses and negative operating cash flow in the future, which may hamper our operations and impede us from expanding our business.

 

We have incurred significant losses and negative operating cash flow in the past. For the years ended December 31, 2020 and 2019, we incurred consolidated net losses of approximately $17.3 million and $101.3 million, respectively. For the three months ended March 31, 2021 and for the year ended December 31, 2019, we incurred negative operating cash flow of approximately $4.1 million and $23.4 million, respectively. We may incur losses and negative operating cash flow in the future. We expect to rely on cash on hand, cash, if any, generated from our operations, borrowing availability under our lines of credit and proceeds from our future financing activities, if any, to fund all of the cash requirements of our business. Additional losses and negative operating cash flow may hamper our operations and impede us from expanding our business.

 

Our indebtedness exposes us to many risks that could negatively impact our business, our business prospects, our liquidity and our cash flows and results of operations.

 

Our production facilities located in the Midwest have significant indebtedness. In addition, we have significant indebtedness under our senior secured notes issued at the parent-company level. The terms of our loans require amortizing payments of principal over the lives of the loans and our borrowing availability under our revolving credit facilities periodically and automatically declines through the maturity dates of those facilities. Our indebtedness could:

 

make it more difficult to pay or refinance our debts as they become due during adverse economic and industry conditions because those conditions could result in insufficient cash flows from operations to make our scheduled debt payments;

 

limit our flexibility to pursue strategic opportunities or react to changes in our business and the industry in which we operate and, consequently, place us at a competitive disadvantage to our competitors who have less debt;

 

require a substantial portion of our cash flow from operations, if any, to be used for debt service payments, thereby reducing our ability to fund working capital, capital expenditures, new business ventures, dividend payments and other general corporate purposes; and/or

 

limit our ability to procure additional financing for working capital or other purposes.

 

Our term loans and credit facilities also require compliance with numerous financial and other covenants, the violation of which could result in an acceleration of our indebtedness.

 

Much of our indebtedness bears interest at variable rates. An increase in prevailing interest rates would likewise increase our debt service obligations and could materially and adversely affect our cash flows and results of operations.

 

Our ability to generate sufficient cash to make all principal and interest payments when due depends on our business performance, which is subject to a variety of factors beyond our control, including the supply of and demand for our alcohols and other products, product prices, the cost of key production inputs, and many other factors incident to the alcohol production and marketing industry. We cannot provide any assurance that we will be able to timely satisfy such obligations.

 

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Our ability to utilize net operating loss carryforwards and certain other tax attributes may be limited.

 

Federal and state income tax laws impose restrictions on our use of net operating loss, or NOL, and tax credit carryforwards in the event that an “ownership change” occurs for tax purposes, as defined by Section 382 of the Internal Revenue Code, or Code. In general, an ownership change occurs when stockholders owning 5% or more of a corporation entitled to use NOL or other loss carryforwards have increased their ownership by more than 50 percentage points during any three-year period. The annual base limitation under Section 382 of the Code is calculated by multiplying the corporation’s value at the time of the ownership change by the greater of the long-term tax-exempt rate determined by the Internal Revenue Service in the month of the ownership change or the two preceding months. Our ability to utilize our NOL and other loss carryforwards may be substantially limited. These limitations could result in increased future tax obligations, which could have a material adverse effect on our financial condition and results of operations.

 

Risks Related to Legal and Regulatory Matters

 

Future demand for fuel-grade ethanol is uncertain and may be affected by changes to federal mandates, public perception, consumer acceptance and overall consumer demand for transportation fuel, any of which could negatively affect demand for fuel-grade ethanol and our results of operations.

 

Although many trade groups, academics and governmental agencies have supported fuel-grade ethanol as a fuel additive that promotes a cleaner environment, others have criticized fuel-grade ethanol production as consuming considerably more energy and emitting more greenhouse gases than other biofuels and potentially depleting water resources. Some studies have suggested that corn-based ethanol is less efficient than ethanol produced from other feedstock and that it negatively impacts consumers by causing increased prices for dairy, meat and other food generated from livestock that consume corn. Additionally, critics of fuel-grade ethanol contend that corn supplies are redirected from international food markets to domestic fuel markets. If negative views of corn-based ethanol production gain acceptance, support for existing measures promoting use and domestic production of corn-based ethanol as a fuel additive could decline, leading to reduction or repeal of federal ethanol usage mandates, which would materially and adversely affect the demand for fuel-grade ethanol. These views could also negatively impact public perception of the fuel-grade ethanol industry and acceptance of ethanol as an alternative fuel.

 

There are limited markets for fuel-grade ethanol beyond those established by federal mandates. Discretionary blending and E85 blending (i.e., gasoline blended with up to 85% fuel-grade ethanol by volume) are important secondary markets. Discretionary blending is often determined by the price of fuel-grade ethanol versus the price of gasoline. In periods when discretionary blending is financially unattractive, the demand for fuel-grade ethanol may decline. Also, the demand for fuel-grade ethanol is affected by the overall demand for transportation fuel. Demand for transportation fuel is affected by the number of miles traveled by consumers and vehicle fuel economy. Lower demand for fuel-grade ethanol and co-products would reduce the value of our ethanol and related products, erode our overall margins and diminish our ability to generate revenue or to operate profitably. In addition, we believe that consumer acceptance of E15 and E85 fuels is necessary before fuel-grade ethanol can achieve any significant growth in market share relative to other transportation fuels.

 

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The United States fuel-grade ethanol industry is highly dependent upon various federal and state laws and any changes in those laws could have a material adverse effect on our results of operations, cash flows and financial condition.

 

The Environmental Protection Agency, or EPA, has implemented the Renewable Fuel Standard, or RFS, under the Energy Policy Act of 2005 and the Energy Independence and Security Act of 2007. The RFS program sets annual quotas for the quantity of renewable fuels (such as fuel-grade ethanol) that must be blended into motor fuels consumed in the United States. The domestic market for fuel-grade ethanol is significantly impacted by federal mandates under the RFS program for volumes of renewable fuels (such as ethanol) required to be blended with gasoline. Future demand for fuel-grade ethanol will largely depend on incentives to blend ethanol into motor fuels, including the price of ethanol relative to the price of gasoline, the relative octane value of ethanol, constraints in the ability of vehicles to use higher ethanol blends, the RFS, and other applicable environmental requirements.

 

Under the provisions of the Clean Air Act, as amended by the Energy Independence and Security Act of 2007, the EPA has limited authority to waive or reduce the mandated RFS requirements, which authority is subject to consultation with the Secretaries of Agriculture and Energy, and based on a determination that there is inadequate domestic renewable fuel supply or implementation of the applicable requirements would severely harm the economy or environment of a state, region or the United States in general. Our results of operations, cash flows and financial condition could be adversely impacted if the EPA reduces the RFS requirements from the statutory levels specified in the RFS.

 

Various bills in Congress introduced from time to time are also directed at altering existing renewable fuels energy legislation, but none has passed in recent years. Some legislative bills are directed at halting or reversing expansion of, or even eliminating, the renewable fuel program, while other bills are directed at bolstering the program or enacting further mandates or grants that would support the renewable fuels industry. Our results of operations, cash flows and financial condition could be adversely impacted if any legislation is enacted that reduces the RFS volume requirements.

 

We may be adversely affected by environmental, health and safety laws, regulations and liabilities.

 

We are subject to various federal, state and local environmental laws and regulations, including those relating to the discharge of materials into the air, water and ground, the generation, storage, handling, use, transportation and disposal of hazardous materials and wastes, and the health and safety of our employees. In addition, some of these laws and regulations require us to operate under permits that are subject to renewal or modification. These laws, regulations and permits often require expensive pollution control equipment or operational changes to limit actual or potential impacts to the environment. A violation of these laws and regulations or permit conditions can result in substantial fines, natural resource damages, criminal sanctions, permit revocations and/or production facility shutdowns. In addition, we have made, and expect to make, significant capital expenditures on an ongoing basis to comply with increasingly stringent environmental laws, regulations and permits.

 

We may be liable for the investigation and cleanup of environmental contamination at each of our production facilities and at off-site locations where we arrange for the disposal of hazardous substances or wastes. If these substances or wastes have been or are disposed of or released at sites that undergo investigation and/or remediation by regulatory agencies, we may be responsible under the Comprehensive Environmental Response, Compensation and Liability Act of 1980, or other environmental laws for all or part of the costs of investigation and/or remediation, and for damages to natural resources. We may also be subject to related claims by private parties alleging property damage and personal injury due to exposure to hazardous or other materials at or from those properties. Some of these matters may require us to expend significant amounts for investigation, cleanup or other costs.

 

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In addition, new laws, new interpretations of existing laws, increased governmental enforcement of environmental laws or other developments could require us to make significant additional expenditures. Continued government and public emphasis on environmental issues will likely result in increased future investments for environmental controls at our production facilities. Present and future environmental laws and regulations, and interpretations of those laws and regulations, applicable to our operations, more vigorous enforcement policies and discovery of currently unknown conditions may require substantial expenditures that could have a material adverse effect on our results of operations and financial condition.

 

The hazards and risks associated with producing and transporting our products (including fires, natural disasters, explosions and abnormal pressures and blowouts) may also result in personal injury claims or damage to property and third parties. As protection against operating hazards, we maintain insurance coverage against some, but not all, potential losses. However, we could sustain losses for uninsurable or uninsured risks, or in amounts in excess of existing insurance coverages. Events that result in significant personal injury or damage to our property or third parties or other losses that are not fully covered by insurance could have a material adverse effect on our results of operations and financial condition.

 

Risks Related to Ownership of our Common Stock

 

Future sales of substantial amounts of our common stock, or perceptions that those sales could occur, could adversely affect the market price of our common stock and our ability to raise capital.

 

Future sales of substantial amounts of our common stock into the public market, including up to 8.9 million shares of our common stock that may be issued upon the exercise of outstanding warrants, or perceptions that those sales could occur, could adversely affect the prevailing market price of our common stock and our ability to raise capital.

 

Our stock price is highly volatile, which could result in substantial losses for investors purchasing shares of our common stock and in litigation against us.

 

The market price of our common stock has fluctuated significantly in the past and may continue to fluctuate significantly in the future. The market price of our common stock may continue to fluctuate in response to one or more of the following factors, many of which are beyond our control:

 

fluctuations in the market prices of our products;

 

fluctuations in the costs of key production input commodities such as corn and natural gas;

 

the volume and timing of the receipt of orders for our products from major customers;

 

the coronavirus pandemic, including governmental and public response to the pandemic;

 

competitive pricing pressures;

 

anticipated trends in our financial condition and results of operations;

 

changes in market valuations of companies similar to us;

 

stock market price and volume fluctuations generally;

 

regulatory developments or increased enforcement;

 

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fluctuations in our quarterly or annual operating results;

 

additions or departures of key personnel;

 

our ability to obtain any necessary financing;

 

our financing activities and future sales of our common stock or other securities; and

 

our ability to maintain contracts that are critical to our operations.

 

The price at which you purchase shares of our common stock may not be indicative of the price that will prevail in the trading market. You may be unable to sell your shares of common stock at or above your purchase price, which may result in substantial losses to you and which may include the complete loss of your investment. In the past, securities class action litigation has often been brought against a company following periods of high stock price volatility. We may be the target of similar litigation in the future. Securities litigation could result in substantial costs and divert management’s attention and our resources away from our business.

 

Any of the risks described above could have a material adverse effect on our results of operations, the price of our common stock, or both.

 

Because we do not intend to pay any cash dividends on our shares of common stock in the near future, our stockholders will not be able to receive a return on their shares unless and until they sell them.

 

We intend to retain a significant portion of any future earnings to finance the development, operation and expansion of our business. We do not anticipate paying any cash dividends on our common stock in the near future. The declaration, payment, and amount of any future dividends will be made at the discretion of our board of directors, and will depend upon, among other things, our results of operations, cash flows, and financial condition, operating and capital requirements, and other factors as our board of directors considers relevant. There is no assurance that future dividends will be paid, and, if dividends are paid, there is no assurance with respect to the amount of any such dividend. Unless our board of directors determines to pay dividends, our stockholders will be required to look to appreciation of our common stock to realize a gain on their investment. There can be no assurance that this appreciation will occur.

 

Our bylaws contain an exclusive forum provision, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, employees or agents.

 

Our bylaws provide that, unless we consent in writing to the selection of an alternative forum, the Delaware Court of Chancery shall be the sole and exclusive forum for (a) any derivative action or proceeding brought on behalf of us, (b) any action asserting a claim of breach of a fiduciary duty owed by any director, officer or other employee of us to us or our stockholders, (c) any action asserting a claim arising pursuant to any provision of the Delaware General Corporation Law, or (d) any action asserting a claim governed by the internal affairs doctrine.

 

For the avoidance of doubt, the exclusive forum provision described above does not apply to any claims arising under the Securities Act of 1933, as amended, or the Securities Act, or the Securities Exchange Act of 1934, as amended, or the Exchange Act. Section 27 of the Exchange Act creates exclusive federal jurisdiction over all suits brought to enforce any duty or liability created by the Exchange Act or the rules and regulations thereunder, and Section 22 of the Securities Act creates concurrent jurisdiction for federal and state courts over all suits brought to enforce any duty or liability created by the Securities Act or the rules and regulations thereunder.

 

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The choice of forum provision in our bylaws may limit our stockholders’ ability to bring a claim in a judicial forum that they find favorable for disputes with us or our directors, officers, employees or agents, which may discourage such lawsuits against us and our directors, officers, employees and agents even though an action, if successful, might benefit our stockholders. The applicable courts may also reach different judgments or results than would other courts, including courts where a stockholder considering an action may be located or would otherwise choose to bring the action, and such judgments or results may be more favorable to us than to our stockholders. With respect to the provision making the Delaware Court of Chancery the sole and exclusive forum for certain types of actions, stockholders who do bring a claim in the Delaware Court of Chancery could face additional litigation costs in pursuing any such claim, particularly if they do not reside in or near Delaware. Finally, if a court were to find this provision of our bylaws inapplicable to, or unenforceable in respect of, one or more of the specified types of actions or proceedings, we may incur additional costs associated with resolving such matters in other jurisdictions, which could have a material adverse effect on us.

 

General Risk Factors

 

Cyberattacks through security vulnerabilities could lead to disruption of business, reduced revenue, increased costs, liability claims, or harm to our reputation or competitive position.

 

Security vulnerabilities may arise from our hardware, software, employees, contractors or policies we have deployed, which may result in external parties gaining access to our networks, data centers, cloud data centers, corporate computers, manufacturing systems, and/or access to accounts we have at our suppliers, vendors, and customers. External parties may gain access to our data or our customers’ data, or attack the networks causing denial of service or attempt to hold our data or systems in ransom. The vulnerability could be caused by inadequate account security practices such as failure to timely remove employee access when terminated. To mitigate these security issues, we have implemented measures throughout our organization, including firewalls, backups, encryption, employee information technology policies and user account policies. However, there can be no assurance these measures will be sufficient to avoid cyberattacks. If any of these types of security breaches were to occur and we were unable to protect sensitive data, our relationships with our business partners and customers could be materially damaged, our reputation could be materially harmed, and we could be exposed to a risk of litigation and possible significant liability.

 

Further, if we fail to adequately maintain our information technology infrastructure, we may have outages and data loss. Excessive outages may affect our ability to timely and efficiently deliver products to customers or develop new products. Such disruptions and data loss may adversely impact our ability to fulfill orders and interrupt other processes. Delayed sales or lost customers resulting from these disruptions could adversely affect our financial results, stock price and reputation.

 

The State of California enacted the California Consumer Privacy Act of 2018, or CCPA, effective on January 1, 2020. Our and our business partners’ or contractors’ failure to fully comply with the CCPA and other laws could lead to significant fines and require onerous corrective action. In addition, data security breaches experienced by us or our business partners or contractors could result in the loss of trade secrets or other intellectual property, public disclosure of sensitive commercial data, and the exposure of personally identifiable information (including sensitive personal information) of our employees, customers, suppliers, contractors and others.

 

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Unauthorized use or disclosure of, or access to, any personal information maintained by us or on our behalf, whether through breach of our systems, breach of the systems of our suppliers or vendors by an unauthorized party, or through employee or contractor error, theft or misuse, or otherwise, could harm our business. If any such unauthorized use or disclosure of, or access to, such personal information was to occur, our operations could be seriously disrupted, and we could be subject to demands, claims and litigation by private parties, and investigations, related actions, and penalties by regulatory authorities. In addition, we could incur significant costs in notifying affected persons and entities and otherwise complying with the multitude of foreign, federal, state and local laws and regulations relating to the unauthorized access to, or use or disclosure of, personal information. Finally, any perceived or actual unauthorized access to, or use or disclosure of, such information could harm our reputation, substantially impair our ability to attract and retain customers and have an adverse impact on our business, financial condition and results of operations.

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.

 

Unregistered Sales of Equity Securities

 

None.

 

Purchases of Equity Securities by the Issuer and Affiliated Purchasers

 

None.

 

Dividends

 

Our current and future debt financing arrangements may limit or prevent cash distributions from our subsidiaries to us, depending upon the achievement of specified financial and other operating conditions and our ability to properly service our debt, thereby limiting or preventing us from paying cash dividends.

 

For the three months ended March 31, 2021 and 2020, we accrued an aggregate of $0.3 million in dividends on our Series B Cumulative Convertible Preferred Stock, or Series B Preferred Stock, but did not declare or pay cash dividends, as permitted under an agreement with the holders of our Series B Preferred Stock, in an effort to preserve liquidity.

 

We have never declared or paid cash dividends on our common stock and do not currently intend to pay cash dividends on our common stock in the foreseeable future. We currently anticipate that we will retain any earnings for use in the continued development of our business.

 

The holders of our outstanding Series B Preferred Stock are entitled to dividends of 7% per annum, payable quarterly. Accrued and unpaid dividends in respect of our Series B Preferred Stock must be paid prior to the payment of any dividends in respect of shares of our common stock.

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.

 

Not applicable.

 

ITEM 4. MINE SAFETY DISCLOSURES.

 

Not applicable.

 

ITEM 5. OTHER INFORMATION.

 

Not applicable.

 

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ITEM 6. EXHIBITS.

 

Exhibit
Number
  Description
3.1   Certificate of Incorporation (*)
3.2   Certificate of Designations, Powers, Preferences and Rights of the Series A Cumulative Redeemable Convertible Preferred Stock (*)
3.3   Certificate of Designations, Powers, Preferences and Rights of the Series B Cumulative Convertible Preferred Stock (*)
3.4   Certificate of Amendment to Certificate of Incorporation dated June 3, 2010 (*)
3.5   Certificate of Amendment to Certificate of Incorporation effective June 8, 2011 (*)
3.6   Certificate of Amendment to Certificate of Incorporation effective May 14, 2013 (*)
3.7   Certificate of Amendment to Certificate of Incorporation effective July 1, 2015 (*)
3.8   Certificate of Amendment to Certificate of Incorporation effective January 12, 2021 (*)
3.9   Second Amended and Restated Bylaws (*)
31.1   Certifications Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (*)
31.2   Certifications Required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (*)
32.1   Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (*)
101.INS   XBRL Instance Document (*)
101.SCH   XBRL Taxonomy Extension Schema (*)
101.CAL   XBRL Taxonomy Extension Calculation Linkbase (*)
101.DEF   XBRL Taxonomy Extension Definition Linkbase (*)
101.LAB   XBRL Taxonomy Extension Label Linkbase (*)
101.PRE   XBRL Taxonomy Extension Presentation Linkbase (*)

 

 

 

(*) Filed herewith.

 

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SIGNATURES

 

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

 

  ALTO INGREDIENTS, INC.
     
Dated: May 17, 2021 By: /S/ BRYON T. MCGREGOR
  Bryon T. McGregor
  Chief Financial Officer
  (Principal Financial and Accounting Officer)

 

 

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Exhibit 3.1

  

State of Delaware

Secretary of State

Division of Corporations

Delivered 06:27 PM 02/28/2005

Filed 06:27 PM 02/28/2005

SRV 050169353 - 3877538 FILE

 

CERTIFICATE OF INCORPORATION

OF

PACIFIC ETHANOL, INC.,

A DELAWARE CORPORATION

 

FIRST: The name of the corporation is:

 

PACIFIC ETHANOL, INC.

 

SECOND: The address of the corporation's registered office in the State of Delaware is Corporation Trust Center, 1209 Orange Street, in the City of Wilmington, County of New Castle, State of Delaware. The name of the registered agent of the corporation at such location is The Corporation Trust Company.

 

THIRD: The nature of the business or purposes to be conducted or promoted by the corporation is to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of the State of Delaware.

 

FOURTH: The corporation is authorized to issue one class of capital stock to be designated "Common Stock" and another class of capital stock to be designated "Preferred Stock." The total number of shares of Common Stock that the corporation is authorized to issue is one hundred million (100,000,000), with a par value of $.001 per share. The total number of shares of Preferred Stock that the corporation is authorized to issue is ten million (10,000,000) with a par value of $.001 per share.

 

Except as otherwise provided by law, the shares of stock of the corporation, regardless of class, may be issued by the corporation from time to time in such amounts, for such consideration and for such corporate purposes as the board of directors may from time to time determine. A description of the different classes and series of the corporation's capital stock and a statement of the designations and the relative rights, preferences and limitations of the shares of each class and series of capital stock are as follows:

 

COMMON STOCK. Except as otherwise provided by the General Corporation Law of the State of Delaware or in this Article FOURTH (or in any certificate of designation establishing a series of Preferred Stock), the holders of Common Stock shall exclusively possess all voting power of the corporation. Each share of Common Stock shall be equal in all respects to every other share of Common Stock. Each holder of record of issued and outstanding Common Stock shall be entitled to one (1) vote on all matters for each share so held. Subject to the rights and preferences, if any, of the holders of Preferred Stock, each issued and outstanding share of Common Stock shall entitle the record holder thereof to receive dividends and distributions out of funds legally available therefor, when, as and if declared by the board of directors, in such amounts and at such times, if any, as the board of directors shall determine, ratably in proportion to the number of shares of Common Stock held by each such record holder. Upon any voluntary or involuntary liquidation, dissolution or winding up of the corporation, after there shall have been paid to or set aside for the holders of any class of capital stock having preference over the Common Stock in such circumstances the full preferential amounts to which they are respectively entitled, the holders of the Common Stock, and of any class or series of capital stock entitled to participate in whole or in part

therewith as to the distribution of assets, shall be entitled, after payment or provision for the payment of all debts and liabilities of the corporation, to receive the remaining assets of the corporation available for distribution, in cash or in kind, ratably in proportion to the number of shares of Common Stock held by each such holder.

 

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PREFERRED STOCK. The board of directors is authorized by resolution or resolutions, from time to time adopted, to provide for the issuance of Preferred Stock in one or more series and to fix and state the voting powers, designations, preferences and relative participating, optional or other special rights of the shares of each series and the qualifications, limitations and restrictions thereof, including, but not limited to, determination of one or more of the following:

 

(i) the distinctive designations of each such series and the number of shares which shall constitute such series, which number may be increased (except where otherwise provided by the board of directors in creating such series) or decreased (but not below the number of shares thereof then outstanding) from time to time by the board of directors;

 

(ii) the annual rate or amount of dividends payable on shares of such series, whether such dividends shall be cumulative or non-cumulative, the conditions upon which and the dates when such dividends shall be payable, the date from which dividends on cumulative series shall accrue and be cumulative on all shares of such series issued prior to the payment date for the first dividend of such series, the relative rights of priority, if any, of payment of dividends on the shares of that series, and the participating or other special rights, if any, with respect to such dividends;

 

(iii) whether such series will have any voting rights in addition to those prescribed by law and, if so, the terms and conditions of the exercise of such voting rights;

 

(iv) whether the shares of such series will be redeemable or callable and, if so, the prices at which, and the terms and conditions on which, such shares may be redeemed or called, which prices may vary under different conditions and at different redemption or call dates;

 

(v) the amount or amounts payable upon the shares of such series in the event of voluntary or involuntary liquidation, dissolution or winding up of the corporation, and the relative rights of priority, if any, of payment of shares of such series;

 

(vi) whether the shares of such series shall be entitled to the benefit of a sinking or retirement fund to be applied to the purchase or redemption of such shares, and if so entitled, the amount of such fund and the manner of its application, including the price or prices at which such shares may be redeemed or purchased through the application of such fund;

 

(vii) whether the shares of such series shall be convertible into, or exchangeable for, shares of any other class or classes or of any other series of the same or any other class or classes of capital stock of the corporation, and if so convertible or exchangeable, the conversion price or prices, or the rate or rates of exchange, and the adjustments thereof, if any, at which such conversion or exchange may be made, and any other terms of such conversion or exchange;

 

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(viii) whether the shares of such series that are redeemed or converted shall have the status of authorized but unissued shares of Preferred Stock and whether such shares may be reissued as shares of the same or any other series of stock;

 

(ix) the conditions and restrictions, if any, on the payment of dividends or on the making of other distributions on, or the purchase, redemption or other acquisition by the corporation, or any subsidiary thereof, of, the Common Stock or any other class (or other series of the same class) ranking junior to the shares of such series as to dividends or upon liquidation, dissolution or winding up of the corporation; and

 

(x) the conditions and restrictions, if any, on the creation of indebtedness of the corporation, or any subsidiary thereof, or on the issue of any additional stock ranking on parity with or prior to the shares of such series as to dividends or upon liquidation, dissolution or winding up of the corporation.

 

All shares within each series of Preferred Stock shall be alike in every particular, except with respect to the dates from which dividends, if any, shall commence to accrue.

 

FIFTH: The number of directors which constitute the whole Board of Directors shall be fixed exclusively by one or more resolutions adopted from time to time by the Board of Directors in accordance with the Bylaws of the corporation. Except as otherwise required by the General Corporation Law of the State of Delaware, (i) newly created directorships resulting from any increase in the number of directors and any vacancies on the Board of Directors resulting from death, resignation, disqualification, removal or other cause shall be filled by the affirmative vote of a majority of the remaining directors then in office, even though less than a quorum of the Board of Directors, or by a sole remaining director; (ii) any director elected in accordance with the preceding clause (i) shall hold office for the remainder of the full term of the class of directors in which the new directorship was created or the vacancy occurred and until such director's successor shall have been elected and qualified; and (iii) no decreased in the number of directors constituting the Board of Directors shall shorten the term of any incumbent director. The manner by which a director of the corporation may be removed from office shall be as provided in the Bylaws of the corporation. Advance notice of new business and stockholder nominations for the election of directors shall be given in the manner and to the extent provided in the Bylaws of the corporation. Elections of directors need not be by written ballot unless the Bylaws of the corporation shall so provide.

 

SIXTH: The corporation may, to the fullest extent to which it is empowered to do so and under the circumstances permitted by the General Corporation Law of the State of Delaware or any other applicable laws, as they may from time to time be in effect, indemnify any person who was made or is threatened to be made party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, by reason of the fact that he is or was a director or officer of the corporation, or is or was serving at the specific request of the corporation as a director or officer of another corporation, partnership, joint venture, trust or other enterprise (including, without limitation, any employee benefit plan), against all expenses (including attorneys' fees), judgments, fines and amounts incurred by him or her in connection with such action, suit or proceeding, and may take such steps as may be deemed appropriate by the board of directors, including purchasing and maintain insurance, entering into contracts (including, without limitation, contracts of indemnification between the corporation and its directors and officers), creating a trust fund, granting security interests or using other means (including, without limitation, a letter of credit) to ensure the payment of such amounts as may be necessary to effect such indemnification.

 

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SEVENTH: To the fullest extent permitted by the General Corporation Law of the State of Delaware as the same exists or as it may hereafter by amended, a director of the corporation shall not be personally liable to the corporation or its stockholders for monetary damages for breach of fiduciary duty as a director; provided, that in no event will the liability of any director of this corporation be eliminated or otherwise limited (i) for any breach of the director's duty of loyalty to the corporation or its stockholders; (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law; (iii) under Section 174 of the General Corporation Law of the State of Delaware; or (iv) for any transaction from which the director derived any improper personal benefit. If the General Corporation Law of the State of Delaware is amended to authorize corporate action further eliminating or limiting the personal liability of directors, then the liability of a director of the corporation shall be eliminated or limited to the fullest extent permitted by the General Corporation Law of the State of Delaware, as so amended.

 

Any repeal or modification of the foregoing paragraph, or the adoption of any provision of this certificate of incorporation inconsistent with the foregoing paragraph, shall not eliminate, reduce or otherwise adversely affect any right or protection of a director of the corporation existing at the time of such repeal or modification in respect of any matter occurring, or any cause of action, suit or proceeding that, but for the foregoing paragraph, would accrue or arise, prior to such repeal, modification or adoption of an inconsistent provision.

 

EIGHTH: The corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation, in the manner now or hereafter prescribed by law, and all rights conferred upon the stockholders herein are granted pursuant to this reservation.

 

NINTH: The corporation is to have perpetual existence.

 

TENTH: Meetings of the stockholders of the corporation may be held within or without the State of Delaware, as the Bylaws may provide. The books of the corporation may be kept (subject to any provision contained in the Bylaws) outside the State of Delaware at such place or places as may be designated from time to time by the Board of Directors or in the Bylaws of the corporation.

 

ELEVENTH: In furtherance and not in limitation of the powers conferred by statute, the Board of Directors is expressly authorized to make, alter, amend or repeal the Bylaws of the Corporation unless and to the extent the General Corporation Law of the State of Delaware shall provide otherwise.

 

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TWELFTH: The name and address of the sole incorporator of the corporation is:

 

Larry A. Cerutti

611 Anton Boulevard, 14th Floor

Costa Mesa, CA 92626

 

THIRTEENTH: The provisions of Section 203 of the General Corporation Law of the State of Delaware shall be applicable to this corporation.

 

I, THE UNDERSIGNED, being the sole incorporator hereinbefore named, for the purpose of forming a corporation pursuant to the General Corporation Law of the State of Delaware, do make this certificate, hereby declaring and certifying that this is my act and deed and the facts herein stated are true, and accordingly have hereunto set my hand this 28th day of February, 2005.

 

  By: /S/ LARRY A. CERUTTI
    Larry A. Cerutti, Sole Incorporator

 

5

 

 

 

Exhibit 3.2

 

CERTIFICATE OF DESIGNATIONS,

POWERS, PREFERENCES AND RIGHTS OF THE SERIES A

CUMULATIVE REDEEMABLE CONVERTIBLE PREFERRED STOCK

 

OF

 

PACIFIC ETHANOL, INC.

 

PURSUANT TO SECTION 151 OF THE

DELAWARE GENERAL CORPORATION LAW

 

Pacific Ethanol, Inc. (the "CORPORATION"), organized and existing under the laws of the State of Delaware, does, by its Chief Operating Officer and under its corporate seal, hereby certify that pursuant to the authority contained in Article Fourth of its Certificate of Incorporation and in accordance with the provisions of Section 151 of the Delaware General Corporation Law, its Board of Directors has adopted the following resolution creating the following classes and series of the Corporation's Preferred Stock and determining the voting powers, designations, powers, preferences and relative, participating, optional or other special rights, and the qualifications, limitations and restrictions thereof, of such classes and series:

 

RESOLVED, that, pursuant to authority conferred upon the Board of Directors by the Certificate of Incorporation of the Corporation (the "CERTIFICATE OF INCORPORATION"), there is hereby created the following series of Preferred Stock:

 

7,000,000 shares shall be designated Series A Cumulative Redeemable Convertible Preferred Stock, par value $0.001 per share (the "SERIES A PREFERRED STOCK").

 

The designations, powers, preferences, and rights and the qualifications, limitations and restrictions of the Series A Preferred Stock in addition to those set forth in the Certificate of Incorporation shall be as follows:

 

Section 1. DESIGNATION AND AMOUNT. 7,000,000 shares of the unissued preferred stock of the Corporation shall be designated as Series A Cumulative Redeemable Convertible Preferred Stock, par value $.001 per share. The Series A Preferred Stock shall be issued in accordance with the Purchase Agreement at a purchase price of $16.00 per share (the "SERIES A ISSUE PRICE").

 

Section 2. RANK. The Series A Preferred Stock shall rank: (i) subject to the requirements of Section 7, junior to any other class or series of capital stock of the Corporation hereafter created specifically ranking as to dividend rights, redemption rights, liquidation preference and other rights senior to the Series A Preferred Stock (the "SENIOR SECURITIES"); (ii) senior to all of the Corporation's common stock, par value $0.001 per share (the "COMMON STOCK"); (iii) senior to any class or series of capital stock of the Corporation hereafter created not specifically ranking as to dividend rights, redemption rights, liquidation preference and other rights senior to or on parity with any Series A Preferred Stock of whatever subdivision (collectively, with the Common Stock, the "JUNIOR SECURITIES"); and (iv) subject to the requirements of Section 7, on a parity with any class or series of capital stock of the Corporation hereafter created specifically ranking as to dividend rights, redemption rights, liquidation preference and other rights on a parity with the Series A Preferred Stock (the "PARITY SECURITIES").

 

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Section 3. DIVIDENDS. (a) So long as shares of Series A Preferred Stock remain outstanding, the holders of each share of the Series A Preferred Stock shall be entitled, from and after the date of issuance of such share, to receive, and shall be paid quarterly in arrears (beginning on the last day of the calendar quarter following the date of the initial issuance of Series A Preferred Stock) in cash out of funds legally available therefor, cumulative dividends, of an amount equal to 5.00% of the Series A Issue Price per share (as adjusted for any stock dividends, stock splits, combinations, recapitalizations involving equity securities of the Corporation, reclassifications or other similar events involving a change with respect to the Series A Preferred Stock) per annum with respect to each share of the Series A Preferred Stock; PROVIDED, HOWEVER, that such dividend may, at the option of the Corporation, be paid to the holders of Series A Preferred Stock in shares of the Series A Preferred Stock valued at the Series A Issue Price (as adjusted for any stock dividends, stock splits, combinations, recapitalizations involving equity securities of the Corporation, reclassifications or other similar events involving a change with respect to the Series A Preferred Stock). The holders of shares of Series A Preferred Stock shall be entitled to receive such dividends immediately after the payment of any dividends to Senior Securities required by the Corporation's Certificate of Incorporation, as amended or amended and restated and in effect, including for this purpose any certificate(s) of designation (the "CHARTER"), prior and in preference to any dividends paid to Junior Securities but in parity with any distribution to the holders of Parity Securities.

 

(b) In case the Corporation shall at any time or from time to time declare, order, pay or make a dividend or other distribution (including, without limitation, any distribution of stock or other securities or property or rights or warrants to subscribe for securities of the Corporation or any of its subsidiaries by way of a dividend, distribution or spin-off) on its Common Stock, other than (i) a distribution made in compliance with the provisions of Section 4 or (ii) a dividend or distribution made in Common Stock, the holders of the Series A Preferred Stock shall be entitled to receive from the Corporation with respect to each share of Series A Preferred Stock held, any dividend or distribution that would be received by a holder of the number of shares (including fractional shares) of Common Stock into which such Series A Preferred Stock is convertible on the record date for such dividend or distribution, with fractional shares of Common Stock deemed to be entitled to the corresponding fraction of any dividend or distribution that would be received by a whole share. Any such dividend or distribution shall be declared, ordered, paid and made at the same time such dividend or distribution is declared, ordered, paid and made on the Common Stock. No dividend or distribution shall be declared, ordered, paid or made on the Common Stock unless the dividend or distribution on the Series A Preferred Stock provided for by this paragraph shall be declared, ordered, paid or made at the same time.

 

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Section 4. LIQUIDATION PREFERENCE.

 

(a) In the event of any liquidation, dissolution or winding up of the Corporation, either voluntary or involuntary, the holders of Series A Preferred Stock shall be entitled to be paid out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, immediately after any distributions to Senior Securities required by the Charter, and prior and in preference to any distribution to Junior Securities but in parity with any distribution to the holders of Parity Securities, an amount per share equal to the sum of the Series A Issue Price (as adjusted for any stock splits, combinations, recapitalizations involving equity securities of the Corporation, reclassifications of other similar events involving a change with respect to the Series A Preferred Stock) and any accrued but unpaid dividends on the Series A Preferred Stock. If upon the occurrence of such event, and after the payment in full of the preferential amounts with respect to the Senior Securities, the assets and funds available to be distributed among the holders of the Series A Preferred Stock and the holders of any Parity Securities shall be insufficient to permit the payment to such holders of the full preferential amounts due to the holders of the Series A Preferred Stock and holders of the Parity Securities, respectively, then the entire assets and funds of the Corporation legally available for distribution shall be distributed among the holders of the Series A Preferred Stock and the Parity Securities, pro rata, based on the amount each such holder would receive if such full preferential amounts were paid unless otherwise provided in the Charter.

 

(b) Upon the completion of the distributions required by Section 4(a), if assets remain in the Corporation, they shall be distributed to the holders of Junior Securities other than Common Stock with respect to any liquidation preference payable to such holders.

 

(c) Upon the completion of the distributions required by Section 4(a) and Section 4(b), if assets remain in the Corporation, they shall be distributed pro rata, on an as-converted to Common Stock basis, to the holders of Common Stock and Series A Preferred Stock.

 

(d) A sale, lease, conveyance or disposition of all or substantially all of the capital stock or assets of the Corporation or a merger, consolidation, share exchange, reorganization or other transaction or series of related transactions (whether involving the Corporation or a subsidiary thereof) in which the Corporation's stockholders immediately prior to such transaction do not retain a majority of the voting power in the surviving entity (a "TRANSACTION"), shall be deemed to be a liquidation, dissolution or winding up within the meaning of this Section 4, unless (i) the holders of 66 2/3% of the then outstanding shares of the Series A Preferred Stock, vote affirmatively or consent in writing that such transaction shall not be treated as a liquidation, dissolution or winding up within the meaning of this Section 4 or (ii) such Transaction shall have resulted in the conversion of the Series A Preferred Stock in accordance with Section 5(b); PROVIDED, HOWEVER, that each holder of Series A Preferred Stock shall have the right to elect the conversion benefits of the provisions of Section 5(a) or other applicable conversion provisions in lieu of receiving payment in liquidation, dissolution or winding up of the Corporation pursuant to this Section; and PROVIDED, FURTHER, that shares of the surviving entity held by holders of the capital stock of the Corporation acquired by means of other than the Transaction shall not be used in determining if the shareholders of the Corporation own a majority of the voting power of the surviving entity, but shall be used for determining the total outstanding voting power of such entity.

 

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(e) Prior to the closing of a Transaction described in Section 4(d) which would constitute a liquidation, dissolution or winding up within the meaning of this Section 4, the Corporation shall, at its sole option, either (i) make all distributions of cash or other property that it is required to make to the holders of Series A Preferred Stock pursuant to the first sentence of Section 4(a), (ii) set aside sufficient funds or other property from which the distributions required to be made to such holders can be made, or (iii) establish an escrow or other similar arrangement with a third party pursuant to which the proceeds payable to the Corporation from the Transaction will be used to make the liquidating payments to such holders immediately after the consummation of the Transaction. In the event that the Corporation is unable to fully comply with any of the foregoing alternatives, the Corporation shall either: (x) cause such closing to be postponed until the Corporation complies with one of the foregoing alternatives, or (y) cancel such Transaction, in which event the rights of the holders of Series A Preferred Stock shall be the same as existing immediately prior to such proposed Transaction.

 

Section 5. CONVERSION OF SERIES A PREFERRED STOCK. The Corporation and the record holders of the Series A Preferred Stock shall have conversion rights as follows:

 

(a) RIGHT TO CONVERT. Each record holder of Series A Preferred Stock shall be entitled to convert whole shares of Series A Preferred Stock for the Common Stock issuable upon conversion of the Series A Preferred Stock, at any time at the option of the holder thereof, subject to adjustment as provided in Section 5(d) hereof, as follows: Each share of Series A Preferred Stock shall be convertible into such number of fully paid and nonassessable shares of Common Stock as is obtained by (I) multiplying the number of shares of Series A Preferred Stock so to be converted by the Series A Issue Price and (II) dividing the result thereof by the Conversion Price. The Conversion Price shall initially be $8.00 per share of Series A Preferred Stock, subject to adjustment as provided in Section 5(d). Accrued but unpaid dividends will be paid in cash upon any such conversion.

 

(b) FORCED CONVERSION. (i) In the event of a Transaction which will result in an Internal Rate of Return to holders of Series A Preferred Stock of 25.00% or more, each share of outstanding Series A Preferred Stock shall, concurrently with the closing of such Transaction, be converted into fully-paid and non-assessable shares of Common Stock. Any such conversion shall be made into the number of shares of Common Stock determined pursuant to Section 5(a) using the Conversion Price, as last adjusted. Accrued but unpaid dividends will be paid in cash on any such conversion.

 

(ii) Notwithstanding anything to the contrary herein, no shares of outstanding Series A Preferred Stock shall be converted into Common Stock pursuant to this Section 5(b) unless at the time of such proposed conversion the Corporation shall have on file with the Securities and Exchange Commission an effective registration statement with respect to the shares of Common Stock issued or issuable to the holders on conversion of the Series A Preferred Stock then issued or issuable to such holders and such shares of Common Stock are eligible for trading on NASDAQ (or approved by and listed on a stock exchange approved by the holders of 66 2/3% of the then outstanding shares of Series A Preferred Stock).

 

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(c) MECHANICS OF CONVERSION. In order to convert Series A Preferred Stock into full shares of Common Stock if (i) such conversion is pursuant to Section 5(a), the holder shall (A) fax a copy of a fully executed notice of conversion ("NOTICE OF CONVERSION") to the Corporation at the office of the Corporation or to the Corporation's designated transfer agent (the "TRANSFER AGENT") for the Series A Preferred Stock stating that the holder elects to convert, which notice shall specify the date of conversion, the number of shares of Series A Preferred Stock to be converted, the Conversion Price (together with a copy of the front page of each certificate to be converted) and (B) surrender to a common courier for either overnight or two (2) day delivery to the office of the Corporation or its transfer agent, the original certificates representing the Series A Preferred Stock (the "PREFERRED STOCK CERTIFICATES") being converted, duly endorsed for transfer, and (ii) such conversion is pursuant to Section 5(b), the Corporation shall fax a copy of a Notice of Conversion to the holders of Series A Preferred Stock stating that the shares of Series A Preferred Stock shall be converted into Common Stock, which notice shall describe the Transaction and the calculation of the Internal Rate of Return and specify the date of such conversion, the number of shares of Series A Preferred Stock that are being converted, the Conversion Price and a calculation of the number of shares of Common Stock issuable upon such conversion (together with a copy of the front page of each certificate to be converted); PROVIDED, HOWEVER, that the Corporation's failure to deliver a Notice of Conversion to each holder shall not affect the conversion of such shares of Series A Preferred Stock on the date of the closing of the Transaction and the cancellation of the certificates representing such shares of Series A Preferred Stock. In the event of a conversion pursuant to Section 5(b), the outstanding shares of Series A Preferred Stock shall be converted automatically without any further action by the holders of such shares and whether or not the certificates representing such shares are surrendered to the Corporation or its transfer agent and the Corporation shall not be obligated to issue certificates evidencing the shares of Common Stock issuable upon such conversion unless either the Preferred Stock Certificates are delivered to the Corporation or the Transfer Agent as provided above, or the holder notifies the Corporation or its Transfer Agent that such certificates have been lost, stolen or destroyed (subject to the requirements of Section 5(c)(i) below).

 

(i) LOST OR STOLEN CERTIFICATES. Upon receipt by the Corporation of evidence of the loss, theft, destruction or mutilation of any Preferred Stock Certificates representing shares of Series A Preferred Stock, and (in the case of loss, theft or destruction) of indemnity or security reasonably satisfactory to the Corporation, and upon surrender and cancellation of the Preferred Stock Certificates, if mutilated, the Corporation shall execute and deliver new Preferred Stock Certificates of like tenor and date; provided that the Corporation shall pay all costs of delivery (including insurance against loss and theft until delivered in an amount satisfactory to the holders of Series A Preferred Stock). However, the Corporation shall not be obligated to reissue such lost or stolen Preferred Stock Certificates if the holder contemporaneously requests the Corporation to convert such Series A Preferred Stock into Common Stock or if such shares of Series A Preferred Stock have been otherwise converted into Common Stock.

 

(ii) DELIVERY OF COMMON STOCK UPON CONVERSION. The Corporation no later than 6:00 p.m. (Pacific time) on the third (3rd) business day after receipt by the Corporation or its transfer agent of all necessary documentation duly executed and in proper form required for conversion, including the original Preferred Stock Certificates to be converted (or after provision for security or indemnification in the case of lost, stolen or destroyed certificates, if required), shall issue and surrender to a common courier for either overnight or (if delivery is outside the United States) two (2) day delivery to the holder as shown on the stock records of the Corporation a certificate for the number of shares of Common Stock to which the holder shall be entitled as aforesaid.

 

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(iii) DATE OF CONVERSION. The date on which a voluntary conversion pursuant to Section 5(a) occurs (the "DATE OF VOLUNTARY CONVERSION") shall be deemed to be the date the applicable Notice of Conversion is faxed to the Corporation or the Transfer Agent, as the case may be, provided that the copy of the Notice of Conversion is faxed to the Corporation on or prior to 6:00 p.m. (Pacific time) on the Date of Conversion. A forced conversion pursuant to Section 5(b) shall occur on the date on which such forced conversion is deemed to occur pursuant to Section 5(b) (the "DATE OF FORCED CONVERSION", and together with the Date of Voluntary Conversion, the "DATE OF CONVERSION"). The original Preferred Stock Certificates representing the shares of Series A Preferred Stock to be converted shall be surrendered by depositing such certificates with a common courier for either overnight or two (2) day delivery, as soon as practicable following the Date of Voluntary Conversion or as soon as practicable following the date such holder receives notice of the Date of Forced Conversion. The person or persons entitled to receive the shares of Common Stock issuable upon such conversion shall be treated for all purposes as the record holder or holders of such shares of Common Stock on the Date of Conversion.

 

(iv) NO FRACTIONAL SHARES ON CONVERSION. No fractional shares of Common Stock shall be issued upon conversion of the Series A Preferred Stock. In lieu of any fractional share to which the holder would otherwise be entitled, the Corporation shall (after aggregating all shares into which shares of Series A Preferred held by each holder could be converted) pay cash equal to such fraction multiplied by the market price per share of Common Stock (as determined in a reasonable manner by the Board) at the close of business on the Date of Conversion.

 

(d) ADJUSTMENT OF CONVERSION PRICE.

 

(i) ADJUSTMENTS OF CONVERSION PRICE UPON ISSUANCE OF COMMON STOCK. If at any time after the first filing of this Certificate of Designations, the Corporation shall issue or sell, or is, in accordance with Section 5(d)(i)(A) through (G) below, deemed to have issued or sold, any shares of Common Stock for a consideration per share less than the Conversion Price in effect immediately prior to the time of such issue or sale or deemed issue or sale, then, forthwith upon such issue or sale or deemed issue or sale, the Conversion Price shall be reduced to the price determined by dividing (x) an amount equal to the sum of (a) the number of shares of Common Stock outstanding immediately prior to such issue or sale multiplied by the then existing Conversion Price and (b) the consideration, if any, received by the Corporation upon such issue or sale, by (y) the total number of shares of Common Stock outstanding immediately after such issue or sale. For purposes of determining the number of shares of Common Stock outstanding as provided in clauses (x) and (y) above, the number of shares of Common Stock issuable upon conversion of all outstanding shares of Series A Preferred Stock, exercise of all outstanding Options (as defined below) and conversion of all outstanding Convertible Securities (as defined below) shall be deemed to be outstanding.

 

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For purposes of this Section 5(d)(i), the following subparagraphs (A) to (G) of this Section 5(d)i) shall also be applicable:

 

(A) ISSUANCE OF RIGHTS OR OPTIONS. In case at any time the Corporation shall in any manner grant (whether directly or by assumption in a merger or otherwise) any warrants or other rights to subscribe for or to purchase, or any options for the purchase of, Common Stock or any stock or security convertible into or exchangeable for Common Stock (such warrants, rights or options being called "OPTIONS" and such convertible or exchangeable stock or securities being called "CONVERTIBLE SECURITIES") whether or not such Options or the right to convert or exchange any such Convertible Securities are immediately exercisable, and the price per share for which Common Stock is issuable upon the exercise of such Options or upon the conversion or exchange of such Convertible Securities (determined by dividing (i) the total amount, if any, received or receivable by the Corporation as consideration for the granting of such Options, plus the minimum aggregate amount of additional consideration payable to the Corporation upon the exercise of all such Options, plus, in the case of such Options which relate to Convertible Securities, the minimum aggregate amount of additional consideration, if any, payable upon the issue or sale of such Convertible Securities and upon the conversion or exchange thereof (in all cases excluding the effect of a net issue election), by (ii) the total maximum number of shares of Common Stock issuable upon the exercise of such Options or upon the conversion or exchange of all such Convertible Securities issuable upon the exercise of such Options) shall be less than the Conversion Price in effect immediately prior to the time of the granting of such Options, then the total maximum number of shares of Common Stock issuable upon the exercise of such Options or upon conversion or exchange of the total maximum amount of such Convertible Securities issuable upon the exercise of such Options shall be deemed to have been issued for such price per share as of the date of granting of such Options and thereafter shall be deemed to be outstanding. Except as otherwise provided in Section 5(d)(i)(C), no adjustment of the Conversion Price shall be made upon the actual issue of such Common Stock or of such Convertible Securities upon exercise of such Options or upon the actual issue of such Common Stock upon conversion or exchange of such Convertible Securities.

 

(B) ISSUANCE OF CONVERTIBLE SECURITIES. In case the Corporation shall in any manner issue (whether directly or by assumption in a merger or otherwise) or sell any Convertible Securities, whether or not the rights to exchange or convert any such Convertible Securities are immediately exercisable, and the price per share for which Common Stock is issuable upon such conversion or exchange (determined by dividing (i) the total amount received or receivable by the Corporation as consideration for the issue or sale of such Convertible Securities, plus the aggregate amount of additional consideration, if any, payable to the Corporation upon the conversion or exchange thereof, by (ii) the total maximum number of shares of Common Stock issuable upon the conversion or exchange of all such Convertible Securities) shall be less than the Conversion Price in effect immediately prior to the time of such issue or sale, then the total maximum number of shares of Common Stock issuable upon conversion or exchange of all such Convertible Securities shall be deemed to have been issued for such price per share as of the date of the issue or sale of such Convertible Securities and thereafter shall be deemed to be outstanding; PROVIDED that (a) except as otherwise provided in Section 5(d)(i)(C), no adjustment of the Conversion Price shall be made upon the actual issue of such Common Stock upon conversion or exchange of such Convertible Securities and (b) if any such issue or sale of such Convertible Securities is made upon exercise of any Options to purchase any such Convertible Securities for which adjustments of the Conversion Price have been or are to be made pursuant to other provisions of this Section 5(d)(i), no further adjustment of the Conversion Price shall be made by reason of such issue or sale.

 

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(C) CHANGE IN OPTION PRICE OR CONVERSION RATE. Upon the happening of any of the following events, namely, if (1) the purchase price or exercise price provided for in any Option referred to in Section 5(d)(i)(A), (2) the number of shares into which the Option is exercisable, (3) the additional consideration, if any, payable upon the conversion or exchange of any Convertible Securities referred to in Section 5(d)(i)(A) or (B), or (4) the rate at which Convertible Securities referred to in Section 5(d)(i)(A) or (B) are convertible into or exchangeable for Common Stock shall change at any time (including, but not limited to, changes under or by reason of provisions designed to protect against dilution), the Conversion Price in effect at the time of such event shall forthwith be readjusted to the Conversion Price which would have been in effect at such time had such Options or Convertible Securities still outstanding provided for such changed purchase price, additional consideration or conversion rate, as the case may be, at the time initially granted, issued or sold.

 

(D) STOCK DIVIDENDS. In case the Corporation shall declare a dividend or make any other distribution upon any stock of the Corporation (other than Common Stock or Series A Preferred Stock) payable in Common Stock, then any Common Stock issuable in payment of such dividend or distribution shall be deemed to have been issued or sold for $.001 per share, unless the holders of at least 66 2/3% of the then outstanding Series A Preferred Stock shall have consented to such dividend or distribution.

 

(E) CONSIDERATION FOR STOCK. In case any shares of Common Stock, Options or Convertible Securities shall be issued or sold for cash, the consideration received therefor shall be deemed to be the amount received by the Corporation therefor, without deduction therefrom of any expenses incurred or any underwriting commissions or concessions paid or allowed by the Corporation in connection therewith. In case any shares of Common Stock, Options or Convertible Securities shall be issued or sold for a consideration other than cash, the amount of the consideration other than cash received by the Corporation shall be deemed to be the fair value of such consideration as determined in good faith by the Board, without deduction of any expenses incurred or any underwriting commissions or concessions paid or allowed by the Corporation in connection therewith. In case any Options shall be issued in connection with the issue and sale of other securities of the Corporation, together comprising one integral transaction in which no specific consideration is allocated to such Options by the parties thereto, such Options shall be deemed to have been issued for such consideration as determined in good faith by the Board.

 

(F) RECORD DATE. In case the Corporation shall take a record of the holders of its Common Stock for the purpose of entitling them (i) to receive a dividend or other distribution payable in Common Stock, Options or Convertible Securities or (ii) to subscribe for or purchase Common Stock, Options or Convertible Securities, then such record date shall be deemed to be the date of the issue or sale of the shares of Common Stock deemed to have been issued or sold upon the declaration of such dividend or the making of such other distribution or the date of the granting of such right of subscription or purchase, as the case may be.

 

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(G) TREASURY SHARES. The number of shares of Common Stock outstanding at any given time shall not include shares owned or held by or for the account of the Corporation, and the disposition of any such shares shall be considered an issue or sale of Common Stock for the purpose of this Section 5(d)(i).

 

(ii) CERTAIN ISSUES OF COMMON STOCK EXCEPTED. Anything herein to the contrary notwithstanding, the Corporation shall not be required to make any adjustment of the Conversion Price in the case of

the issuance or sale from and after the date of filing of this Certificate of Designations of Anti-Dilution Excluded Securities (as defined below).

 

(iii) ADJUSTMENTS FOR SUBDIVISIONS, COMMON STOCK DIVIDENDS, COMBINATIONS OR CONSOLIDATIONS OF COMMON STOCK. If the outstanding shares of Common Stock shall be subdivided or increased, by stock split, stock dividend or otherwise, into a greater number of shares of Common Stock, the Conversion Price shall concurrently with the effectiveness of such subdivision or payment of such stock dividend, be proportionately decreased. If the outstanding shares of Common Stock shall be combined or consolidated, by reclassification or otherwise, into a lesser number of shares of Common Stock, the Conversion Price shall, concurrently with the effectiveness of such combination or consolidation, be proportionately increased.

 

(iv) ADJUSTMENTS FOR RECLASSIFICATION, EXCHANGE AND SUBSTITUTION. If the Common Stock issuable upon conversion of the Series A Preferred Stock shall be changed into the same or a different number of shares of any other class or classes of stock, whether by capital reorganization, reclassification or otherwise (other than a subdivision or combination of shares provided for above), the Conversion Price shall, concurrently with the effectiveness of such reorganization or reclassification, be proportionately adjusted such that the Series A Preferred Stock shall be convertible into, in lieu of the number of shares of Common Stock which the holders would otherwise have been entitled to receive, a number of shares of such other class or classes of stock equivalent to the number of shares of Common Stock that would have been subject to receipt by the holders upon conversion of the Series A Preferred Stock immediately before that change.

 

(v) ADJUSTMENTS FOR MERGER, SALE, LEASE OR CONVEYANCE. In case of any share exchange, reorganization, consolidation with or merger of the Corporation with or into another corporation, or in case of any sale, lease, conveyance or disposition to another Corporation of the assets of the Corporation as an entirety or substantially as an entirety, which is not treated as a liquidation, dissolution or winding up pursuant to Section 4(d) above, the Series A Preferred Stock shall after the date of such share exchange, reorganization, consolidation, merger, sale, lease, conveyance or disposition be convertible into the number of shares of stock or other securities or property (including cash) to which the Common Stock issuable (at the time of such consolidation, merger, sale, lease, conveyance or disposition) upon conversion of the Series A Preferred Stock would have been entitled upon such share exchange, reorganization, consolidation, merger, sale, lease, conveyance or disposition; and in any such case, if necessary, the provisions set forth herein with respect to the rights and interests thereafter of the holders of the Series A Preferred Stock shall be appropriately adjusted so as to be applicable, as nearly as may reasonably be, to any shares of stock or other securities or property thereafter deliverable on the conversion of the shares of Series A Preferred Stock.

 

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(vi) FRACTIONAL SHARES. If any adjustment under this Section 5(d) would create a fractional share of Common Stock or a right to acquire a fractional share of Common Stock, such fractional share shall be rounded to the nearest whole number of shares with one-half share being rounded up.

 

(vii) NOTICE OF ADJUSTMENT. Concurrent with any adjustment pursuant to this Section 5(d), the Corporation shall provide prompt notice to the holders of Series A Preferred Stock notifying such holders of any such adjustment.

 

Section 6. VOTING RIGHTS. Except to the extent otherwise expressly provided by law and in Section 7, the Series A Preferred Stock shall vote together with all other classes and series of voting stock of the Corporation as a single class on all actions to be taken by the stockholders of the Corporation. Each share of Series A Preferred Stock shall entitle the holder thereof to the number of votes equal to the number of shares of Common Stock into which each share of Series A Preferred Stock is convertible (determined without regard to Section 5(c)(iv)) on all matters to be voted on by the stockholders of the Corporation; provided however that, solely for purposes of this Section 6, the number of votes for each share of Series A Preferred Stock shall not exceed the number of shares of Common Stock into which each share of Series A Preferred Stock would be convertible if the applicable Conversion Price were $8.99 (subject to appropriate adjustment for stock splits, stock dividends, combinations and other similar recapitalizations affecting such shares).

 

Section 7. PROTECTIVE PROVISIONS. The Corporation shall not, without first obtaining the written consent of the holders of at least a majority of the then outstanding shares of Series A Preferred Stock voting as a separate class:

 

(i) increase or decrease the total number of authorized shares of Series A Preferred Stock or the authorized shares of Common Stock reserved for issuance upon conversion of the Series A Preferred Stock (except as otherwise required by the Charter or this Certificate of Designations);

 

(ii) increase or decrease the number of authorized shares of Preferred Stock or Common Stock (except as otherwise required by the Charter or this Certificate of Designations);

 

(iii) alter, amend, repeal, substitute or waive any provision of the Charter or the Corporation's bylaws, so as to affect adversely the voting powers, preferences or other rights, including, without limitation, the liquidation preferences, dividend rights, conversion rights, redemption rights or any reduction in the stated value of the Series A Preferred Stock, whether by merger, consolidation or otherwise;

 

(iv) authorize, create, issue or sell any Senior Securities or any Parity Securities or securities that are convertible into Senior Securities or Parity Securities with respect to voting, dividend, liquidation or redemption rights, including subordinated debt;

 

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(v) authorize, create, issue or sell any Junior Securities other than Common Stock or securities that are convertible into Junior Securities other than Common Stock with respect to voting, dividend, liquidation or redemption rights, including subordinated debt;

 

(vi) authorize, create, issue or sell any Series A Preferred Stock other than the Series A Preferred Stock authorized, created, issued and sold pursuant to the Purchase Agreement and Series A Preferred Stock issued in accordance with Section 3(a) and Series A Preferred Stock issued in replacement or exchange therefore;

 

(vii) engage in a Transaction which would result in an Internal Rate of Return to holders of Series A Preferred Stock of less than 25.00%;

 

(viii) declare or pay any dividends or distributions on the capital stock of the Corporation in a cumulative amount in excess of the dividends and distributions paid on the Series A Preferred Stock in accordance with this Certificate of Designations;

 

(ix) authorize or effect the voluntary liquidation, dissolution, recapitalization, reorganization or winding up of the business of the Corporation;

 

(x) purchase, redeem or otherwise acquire any capital stock of the Corporation other than Series A Preferred Stock, or any warrants or other rights to subscribe for or to purchase, or any options for the purchase of, capital stock of the Corporation or securities convertible into or exchangeable for capital stock of the Corporation;

 

(xi) change the number of members of the Board to be more than nine members or less than seven members;

 

(xii) effect any material change in the industry focus of the Corporation and its subsidiaries, considered on a consolidated basis;

 

(xiii) authorize or engage in, or permit any subsidiary of the Corporation to authorize or engage in, any transaction or series of transactions with a current or former officer, director or member of the Corporation or any of its subsidiaries with value in excess of $100,000, excluding compensation or the grant of Options approved by the Board; or

 

(xiv) authorize or engage in, or permit any subsidiary of the Corporation to authorize or engage in, any transaction with any entity or person that is affiliated with any current or former director, officer or member of the Corporation or any of its subsidiaries, excluding any director nominated by the initial holder of the Series A Preferred Stock in accordance with the Registration Rights Agreement.

 

Section 8. STATUS OF CONVERTED STOCK. In the event any shares of Series A Preferred Stock shall be converted pursuant to Section 5 hereof, the shares so converted shall be canceled, shall return to the status of authorized but unissued Preferred Stock of no designated series, and shall not be issuable by the Corporation as Series A Preferred Stock.

 

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Section 9. PREEMPTIVE RIGHTS. (a) The Corporation shall not issue, sell or exchange, agree to issue, sell or exchange, or reserve or set aside for issuance, sale or exchange, (i) any shares of the capital stock of the Corporation, (ii) any option, warrant or other right to subscribe for, purchase or otherwise acquire any capital stock of the Corporation, or (iii) any securities convertible into capital stock of the Corporation (collectively, the "Offered Securities"), unless in each such case the Corporation shall have first complied with this Section 9. The Corporation shall deliver to each holder of the Series A Preferred Stock a written notice of any proposed or intended issuance, sale or exchange of Offered Securities (the "Offer"), which Offer shall (i) identify and describe the Offered Securities, (ii) describe the price and other terms upon which they are to be issued, sold or exchanged, and the number or amount of the Offered Securities to be issued, sold or exchanged, (iii) identify the persons or entities (if known) to which or with which the Offered Securities are to be offered, issued, sold or exchanged, and (iv) offer to issue and sell to or exchange with such holder of the Series A Preferred Stock (A) a pro rata portion of the Offered Securities determined by dividing (x) the aggregate number of shares of Common Stock then held by such holder of the Series A Preferred Stock (giving effect to the conversion of all shares of convertible preferred stock then held by such holder) by (y) the total number of shares of Common Stock then held by all holders of the Series A Preferred Stock (giving effect to the conversion of all outstanding shares of convertible preferred stock then held by such holders) (such pro rata portion of the Offered Securities, the "Basic Amount"), and (B) any additional portion of the Offered Securities attributable to the Basic Amounts of other holders of the Series A Preferred Stock as such holder shall indicate it will purchase or acquire should the other holders subscribe for less than their Basic Amounts (the "Undersubscription Amount"). In the case of a public offering of Common Stock of the Corporation for a purchase price of at least $12.00 and a total gross offering price of at least $50,000,000.00, the rights of the holders of the Series A Preferred Stock shall be limited to 50% of the Offered Securities.

 

(b) To accept an Offer, in whole or in part, a holder of the Series A Preferred Stock must deliver a written notice to the Corporation prior to the end of the 30-day period of the Offer, setting forth the portion of the holder's Basic Amount that such holder elects to purchase and, if such holder shall elect to purchase all of its Basic Amount, the Undersubscription Amount (if any) that such holder elects to purchase (the "Notice of Acceptance"). If the Basic Amounts subscribed for by all holders of the Series A Preferred Stock are less than the total of all of the Basic Amounts available for purchase, then each holder who has set forth an Undersubscription Amount in its Notice of Acceptance shall be entitled to purchase, in addition to the Basic Amounts subscribed for, the Undersubscription Amount it has subscribed for; provided, however, that if the Undersubscription Amounts subscribed for exceeds the difference between the total of all of the Basic Amounts available for purchase and the Basic Amounts subscribed for (the "Available Undersubscription Amount") each holder of Series A Preferred Stock who has subscribed for any Undersubscription Amount shall be entitled to purchase only that portion of the Available Undersubscription Amount as the Undersubscription Amounts subscribed for by such holder bears to the total Undersubscription Amounts subscribed for by all holders of the Series A Preferred Stock, subject to rounding by the Board to the extent it deems reasonably necessary.

 

(c) The Corporation shall have 90 days from the expiration of the period set forth in Section 9(b) to issue, sell or exchange all or any part of such Offered Securities as to which a Notice of Acceptance has not been given by the holders of the Series A Preferred Stock (the "Refused Securities"), but only to the offerees or purchasers described in the Offer (if so described therein) and only upon terms and conditions (including, without limitation, unit prices and interest rates) which are not more favorable, in the aggregate, to the acquiring person or persons or less favorable to the Corporation than those set forth in the Offer.

 

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(d) In the event the Corporation shall propose to sell less than all the Refused Securities (any such sale to be in the manner and on the terms specified in Section 9(c)), then each holder of the Series A Preferred Stock may, at its sole option and in its sole discretion, reduce the number or amount of the Offered Securities specified in its Notice of Acceptance to an amount that shall be not less than the number or amount of the Offered Securities that the holder of the Series a Preferred Stock elected to purchase pursuant to Section 9(b) multiplied by a fraction, (i) the numerator of which shall be the number or amount of Offered Securities the Corporation actually proposes to issue, sell or exchange (including Offered Securities to be issued or sold to Purchasers pursuant to Section 9(b) prior to such reduction) and (ii) the denominator of which shall be the original amount of the Offered Securities. In the event that any holder of the Series A Preferred Stock so elects to reduce the number or amount of Offered Securities specified in its Notice of Acceptance, the Corporation may not issue, sell or exchange more than the reduced number or amount of the Offered Securities unless and until such securities have again been offered to the Purchasers in accordance with Section 9(a).

 

(e) Upon the closing of the issuance, sale or exchange of all or less than all of the Refused Securities, the holders of the Series A Preferred Stock shall acquire from the Corporation, and the Corporation shall issue to the holders of the Series A Preferred Stock, the number or amount of Offered Securities specified in the Notices of Acceptance, as reduced pursuant to Section 9(d) if the holders have so elected, upon the terms and conditions specified in the Offer. The purchase by the holders of the Series A Preferred Stock of any Offered Securities is subject in all cases to the preparation, execution and delivery by the Corporation and the holders of a purchase agreement relating to such Offered Securities satisfactory in form and substance to the holders of the Series A Preferred Stock and their respective counsel.

 

(f) Any Offered Securities not acquired by the holders of the Series A Preferred Stock or other persons in accordance with Section 9(c) may not be issued, sold or exchanged until they are again offered to the holders of the Series A Preferred Stock under the procedures specified in this Section 9.

 

(g) The rights of the holders of the Series A Preferred Stock under this Section 9 shall not apply to Preemptive Rights Excluded Securities.

 

(h) The failure of any holder of Series A Preferred Stock to exercise its rights under this Section 9 shall not be deemed to be a waiver of its rights hereunder in connection with any subsequent issuance, sale or exchange, agreement to issue, sell or exchange, or reservation or setting aside for issuance, sale or exchange of Offered Securities.

 

Section 10. RESERVATION OF STOCK. The Corporation shall at all times reserve and keep available out of its authorized but unissued shares of Common Stock, solely for the purpose of effecting the conversion of shares of Series A Preferred Stock issued or issuable to the holders, such number of shares of Common Stock as shall from time to time be sufficient to effect the conversion of all outstanding shares of Series A Preferred Stock; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect the conversion of all then outstanding shares of Series A Preferred Stock, in addition to such other remedies as shall be available to the holder of Series A Preferred Stock, the Corporation shall take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number as shall be sufficient for such purposes, including, without limitation, using best efforts to obtain stockholder approval of any necessary amendment to the Charter.

 

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Section 11. REDEMPTION RIGHTS. The holders of the Series A Preferred Stock shall have redemption rights as follows:

 

(a) Upon the occurrence of a Redemption Event, the Series A Preferred Stock shall be subject to redemption, at the option of the holders of 66 2/3% of the then outstanding shares of Series A Preferred Stock, on the date specified by the holders of Series A Preferred Stock exercising such option (the "SERIES A REDEMPTION DATE"). The number of shares of the Series A Preferred Stock to be so redeemed shall be obtained by multiplying the number of shares of Series A Preferred Stock then outstanding by a fraction, the numerator of which is the Restricted Cash Amount and the denominator of which is $80,000,000.00. The redemption price for shares of Series A Preferred Stock subject to such redemption shall be equal to the Series A Issue Price (as adjusted for any stock splits, combinations, recapitalizations involving a change with respect to the Series A Preferred Stock) per share plus any accrued but unpaid dividends plus an amount sufficient to yield an Internal Rate of Return of 5.00%, payable in immediately available funds. If less than all of the shares of the outstanding Series A Preferred Stock are to be redeemed pursuant to this Section 11(a), such shares shall be redeemed pro rata from the holders

thereof in proportion to the number of shares held by such holders (with adjustments to avoid redemption of fractional shares).

 

(b) The funds legally available to the Corporation for the payment of the redemption price of any Junior Securities shall be used first to pay the redemption price of Series A Preferred Stock on the dates established for redemption pursuant to Section 11(a) and no such funds shall be used (or will be required to be used) to pay the redemption price of any Junior Securities unless the Corporation has paid, or reserved funds sufficient to pay, the entire redemption price of Series A Preferred Stock. If the funds legally available to the Corporation for the payment of the redemption price of the Series A Preferred Stock are not sufficient to redeem all of the shares of the Series A Preferred Stock required to be redeemed on any date, such funds shall be used to redeem the number of shares of Series A Preferred Stock which may be redeemed from such amount on a pro rata basis. If additional funds become available for the redemption of additional shares of Series A Preferred Stock required to be so redeemed, the Corporation shall immediately use such funds to redeem shares of Series A Preferred Stock until such time as all of the shares of Series A Preferred Stock required to be redeemed pursuant to this Section 11 have been redeemed.

 

(c) If, on the dates established for redemption pursuant to Section 11(a), all of the shares of Series A Preferred Stock to be redeemed on each such date are not redeemed in full, all rights in respect of such shares of Series A Preferred Stock that have not been redeemed, including the right to receive the applicable redemption price, plus accrued and unpaid dividends, shall continue to be outstanding as evidenced by the certificates representing such shares. The exercise by the holders of the option to redeem any shares of Series A Preferred Stock which were not redeemed on the dates established for redemption pursuant to Section 11(a), may be rescinded by such holders at any time following the date established for such redemption by written notice to the Corporation. All shares of Series A Preferred Stock redeemed pursuant to Section 11(a) shall be retired and shall be restored to the status of authorized and unissued shares of Preferred Stock, without designation as to series or class and may thereafter be reissued, subject to compliance with the terms hereof, as shares of any series of Preferred Stock other than shares of Series A Preferred Stock.

 

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(d) (i) If the Corporation is unable to make any such payment of the redemption price after redemption was required to be paid pursuant to Section 11(a) a default in the payment of the redemption price for the purpose of this section shall be deemed to have occurred, and having so occurred, such default shall be deemed to exist thereafter until, but only until, all amounts payable pursuant to this section have been paid. If and whenever a default in the payment of the redemption price shall occur, and in addition to any other remedies available at law, a special meeting of shareholders of the Corporation shall be held for the purpose of electing directors upon the written request of the holders of at least 10% of the total number of shares of Series A Preferred Stock then outstanding. Such meeting shall be called by the secretary of the Corporation upon such written request and shall be held at the earliest practicable date upon like notice as that required for the annual meeting of shareholders of the Corporation and at the place for the holding of such annual meeting. If notice of such special meeting shall not be mailed by the secretary within thirty days after personal service of such written request upon the secretary of the Corporation or within thirty days of mailing the same in the United States of America by registered mail addressed to the secretary at the principal office of the Corporation, then the holders of at least 10% of the total number of shares of Series A Preferred Stock then outstanding may designate in writing one of their number to call such meeting and the person so designated may call such meeting upon like notice as that required for the annual meeting of shareholders and to be held at the place for the holding of such annual meeting. Any holder of Series A Preferred Stock so designated shall have access to the stock books of the Corporation for the purpose of causing a meeting of shareholders to be called pursuant to the foregoing provisions of this subdivision.

 

(ii) At any such special meeting, or at the next annual meeting of shareholders of the Corporation for the election of directors and at each other meeting, annual or special, for the election of directors held thereafter (unless at the time of any such meeting such default in the payment of the redemption price shall no longer exist), the holders of the outstanding shares of Series A Preferred Stock, voting separately as a class, shall have the right to elect the smallest number of directors which shall constitute at least a majority of the total number of directors of the Corporation, or two directors, whichever shall be greater, and the holders of the outstanding shares of Common Stock, voting as a class, shall have the right to elect all other members of the Board, anything herein or in the bylaws of the Corporation to the contrary notwithstanding. The terms of office, as directors, of all persons who may be directors of the Corporation at any time when such special right to elect directors shall become vested in the holders of the Series A Preferred Stock shall terminate upon the election of any new directors to succeed them as aforesaid.

 

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(iii) At any meeting, annual or special, of the Corporation, at which the holders of Series A Preferred Stock shall have the special right to elect directors as aforesaid, the presence in person or by proxy of the holders of a majority of the total number of shares of Series A Preferred Stock then outstanding shall be required to constitute a quorum of such class for the election of directors, and the presence in person or by proxy of the holders of a majority of the total number of shares of Common Stock then outstanding shall be required to constitute a quorum of such class for the election of directors; provided, however, that the absence of a quorum of the holders of shares of any such class shall not prevent the election at any such meeting or adjournment thereof of directors by the other class, if necessary quorum of the holders of such other class shall be present at such meeting or any adjournment thereof; and provided further, that in the absence of a quorum of holders of shares of any class, a majority of the holders of the shares of such class who are present in person or by proxy shall have power to adjourn the election of the directors to be elected by such class from time to time, without notice other than announcement at the meeting, until the requisite quorum of holders of such class shall be present in person or by proxy, but no such adjournment shall be made to a date beyond the date for the mailing of the notice of the next annual meeting of shareholders of the Corporation or special meeting in lieu thereof.

 

(iv) So long as a default in the payment of the redemption price shall exist, any vacancy in the office of a director elected by the holders of the Series A Preferred Stock may be filled at any meeting of shareholders, annual or special, for the election of directors held thereafter, and a special meeting of shareholders, or of the holders of shares of the Series A Preferred Stock, may be called for the purpose of filling any such vacancy. So long as a default in the payment of the redemption price shall exist, any vacancy in the office of a director elected by the holders of the Common Stock may be filled by majority vote of the remaining directors elected by the holders of the Common Stock.

 

(v) If and when the default in the payment of the redemption price which permitted the election of directors by the holders of the Series A Preferred Stock shall cease to exist, the holders of the Series A Preferred Stock shall be divested of any special right with respect to the election of directors, and the voting power of the holders of the Series A Preferred Stock and of the holders of the Common Stock shall revert to the status existing before the first dividend payment date on which dividends on the Series A Preferred Stock were not pain in full, subject to revesting in the event of each and every subsequent like default in preferred dividends. Upon the termination of any such special right, the terms of office of all persons who may have been elected directors by vote of the holders of the Series A Preferred Stock pursuant to such special right shall forthwith terminate, and the resulting vacancies shall be filled by the majority of the remaining directors.

 

Section 12. DEFINITIONS. As used in this Certificate, the following capitalized terms have the following meanings.

 

"ANTI-DILUTION EXCLUDED SECURITIES" mean any of the following securities: (1) securities issued to employees, officers or directors of the Corporation or options to purchase Common Stock granted by the Corporation to employees, officers or directors of the Corporation pursuant to any option plan, agreement or other arrangement duly adopted by the Corporation and the grant of which is approved by the compensation committee of the Board; (2) the Series A Preferred Stock and any Common Stock issued upon conversion of the Series A Preferred Stock; (3) for the avoidance of doubt, securities issued on the conversion of any Convertible Securities or the exercise of any Options, in each case, outstanding on the date of the first filing of this Certificate of Designations; and (4) for the avoidance of doubt, securities issued in connection with a stock split, stock dividend, combination, reorganization, recapitalization or other similar event for which adjustment is made in accordance with Section 5(d)(iii) or (iv).

 

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"DEPOSIT AGREEMENT" means that certain Deposit Agreement, dated on or about the date hereof, between the Corporation and a bank or trust company, entered into pursuant to the Purchase Agreement.

 

"INTERNAL RATE OF RETURN" means the discount rate that makes the net present value of all cash payments equal zero. In determining the Internal Rate of Return, the initial investment of the holders of the Series A Preferred Stock shall include all t