MGP Ingredients(MGPI) - 2018 Q4 - Annual Report

Part I ITEM 1. BUSINESS MGP is a leading producer of premium distilled spirits and specialty food ingredients, operating through two core segments - MGP Ingredients, Inc. was incorporated in Kansas in 2011, continuing a business founded in 1941[11] - The company operates two reportable segments: distillery products and ingredient solutions[16] - Distillery products include premium bourbon and rye whiskeys, grain neutral spirits (vodka, gin), and high-quality industrial alcohol; co-products include distillers feed, fuel grade alcohol, and corn oil[15][17][19] - Ingredient solutions consist of specialty wheat starches and proteins, and commodity wheat starches and proteins, providing functional, nutritional, and sensory benefits for packaged goods[15][24] - In 2018, the five largest distillery products customers accounted for 22.8% of consolidated net sales, and the five largest ingredient solutions customers accounted for 10.5% of consolidated net sales[17][24] - The company's principal raw materials are corn and other grains for distillery products, and wheat flour for ingredient products, with these costs subject to substantial fluctuation[38] - MGP had 332 employees as of December 31, 2018, with collective bargaining agreements covering 105 employees at Atchison (expires August 31, 2019) and 64 employees at Lawrenceburg (expires December 31, 2022)[43] - The company is subject to extensive federal, state, local, and foreign laws and regulations, including those from TTB, OSHA, FDA, and EPA, covering all aspects of operations and products[44] Available Information MGP provides its SEC filings, including 10-K, 10-Q, and 8-K, free of charge on its website and the SEC's website - MGP makes its SEC filings (10-K, 10-Q, 8-K, etc.) available free of charge on its website (www.mgpingredients.com) under 'For Investors' and on the SEC's website (http://www.sec.gov)[12](index=12&type=chunk)[13] Method of Presentation All financial amounts in the report are presented in thousands, unless otherwise specified for specific units - All amounts in the report, except for specific units like shares, bushels, gallons, etc., are shown in thousands, unless otherwise noted[14] General Information MGP is a leading producer of premium distilled spirits and specialty food ingredients, including bourbon, rye whiskeys, and wheat-derived products - MGP is a leading producer and supplier of premium distilled spirits and specialty wheat protein and starch food ingredients[15] - Distilled spirits include premium bourbon and rye whiskeys and grain neutral spirits (vodka and gin)[15] - The company also produces high-quality industrial alcohol and protein/starch food ingredients derived from corn/grains and wheat flour, respectively[15] Information About Segments MGP operates through Distillery Products and Ingredient Solutions segments, each with distinct product offerings and market focuses Distillery Products Segment The Distillery Products segment processes grains into food-grade and industrial alcohol, co-products, and offers warehouse services - Processes corn and other grains into food grade alcohol and distillery co-products (distillers feed, fuel grade alcohol, corn oil)[17] - Provides warehouse services including barrel put away, storage, and retrieval[17][23] - Own branded alcohol products include TILL® American Wheat Vodka, George Remus® Straight Bourbon Whiskey, Remus Repeal Reserve® Straight Bourbon Whiskey, Tanner's Creek® Blended Bourbon Whiskey, Rossville Union® Master Crafted Straight Rye Whiskey, and Eight & Sand Blended Bourbon Whiskey[17] - Food grade alcohol for beverage applications includes premium bourbon and rye whiskeys ('brown goods') and GNS ('white goods')[19] - Food grade industrial alcohol is used in foods, personal care products, cleaning solutions, and pharmaceuticals[20] - Fuel grade alcohol is a co-product used for blending with gasoline to increase octane and oxygen levels[21] Ingredient Solutions Segment The Ingredient Solutions segment provides specialty and commodity wheat starches and proteins for diverse food applications - Consists primarily of specialty wheat starches, specialty wheat proteins, commodity wheat starches, and commodity wheat proteins[24] - Specialty wheat starches are marketed under trademarks like Fibersym® Resistant Starch, FiberRite® RW, Pregel® Instant Starch, and Midsol® Cook-up Starch, used to improve nutritional profile, texture, and stability in food products[27] - Specialty wheat proteins, including Arise® and TruTex® lines, are derived from vital wheat gluten and offer clean label, Non-GMO options for food applications[29][30] - Commodity wheat protein (vital wheat gluten) is used in baked goods, pet foods, and cereals to improve nutritional content, texture, and volume[33] - Specialty wheat starches compete with corn starch, while specialty wheat proteins compete with other modified proteins like soy proteins[28][31] Competitive Condition MGP's product markets are highly competitive, with competition based on innovation, functionality, price, service, and quality - The markets for MGP's products are highly competitive, with competition based on product innovation, characteristics, functionality, price, service, and quality[34] Patents, Trademarks, and Licenses MGP engages in patent-related activities, primarily in its ingredient solutions segment, to protect inventions and processes - MGP is involved in patent-related activities, primarily in its ingredient solutions segment, to protect inventions and processes[35] Seasonality The company's sales are generally not seasonal - The company's sales are generally not seasonal[36] Transportation Products are transported to customers primarily by truck and rail through common carriers and third-party companies - Products are transported to customers by truck and rail, primarily through common carriers and third-party transportation companies[37] Raw Materials, Packaging Materials, and Food Grade Alcohol Principal raw materials include corn, other grains, and wheat flour, with costs subject to substantial fluctuation - Principal raw materials are corn and other grains for distillery products, and wheat flour for ingredient solutions, with costs subject to substantial fluctuation[38] - Grain requirements are primarily purchased from Bunge Milling, Inc. (contract expires Dec 31, 2021) and Consolidated Grain and Barge Co. (contract expires Dec 31, 2020)[39] - Wheat flour is supplied through a contract with Ardent Mills (expires August 20, 2023)[39] - Oak barrels are the principal packaging material for distillery products, purchased from multiple suppliers[40] - Food grade alcohol is also sourced from Pacific Ethanol Central, LLC[41] Energy Natural gas is a key input cost, procured from the open market, with a risk management program for future delivery contracts - Natural gas is a key input cost, procured from the open market, with a risk management program for future delivery contracts[42] Employees MGP had 332 employees as of December 31, 2018, with collective bargaining agreements covering a significant portion - As of December 31, 2018, MGP had 332 employees; collective bargaining agreements cover 105 employees at Atchison (expires Aug 31, 2019) and 64 employees at Lawrenceburg (expires Dec 31, 2022)[43] Regulation The company is subject to extensive federal, state, local, and foreign laws and regulations across its operations - The company is subject to extensive federal, state, local, and foreign laws and regulations, including those from TTB, OSHA, FDA, and EPA, covering production, storage, distribution, marketing, and environmental matters[44] Equity Method Investments MGP previously held equity method investments in ICP and DMI, both of which have since been terminated Illinois Corn Processing, LLC ("ICP") MGP sold its 30% equity ownership in ICP to Pacific Ethanol in July 2017, resulting in a gain on sale and termination of the investment - MGP sold its 30% equity ownership interest in ICP to Pacific Ethanol on July 3, 2017[46] - As of December 31, 2018, MGP had no equity method investments[261] D.M. Ingredients GmbH ("DMI") MGP's joint venture with D.M. Ingredients GmbH terminated in June 2015, with the investment fully returned by December 2016 - The DMI joint venture terminated on June 30, 2015, with investment returned on December 23, 2016[47] Executive Officers of the Registrant This section lists the executive officers of the registrant as of December 31, 2018, detailing their roles and experience Executive Officers as of December 31, 2018 | Name | Age | Principal Occupation and Business Experience | | :--- | :--- | :--- | | Augustus C. Griffin | 59 | President and Chief Executive Officer since July 2014 | | Thomas K. Pigott | 54 | Vice President, Finance and Chief Financial Officer since September 2015 | | Stephen J. Glaser | 58 | Vice President, Production and Engineering since October 2015 | | David E. Dykstra | 55 | Vice President, Alcohol Sales and Marketing since 2009 | | Michael R. Buttshaw | 56 | Vice President, Ingredient Sales and Marketing since December 2014 | | David E. Rindom | 63 | Vice President and Chief Administrative Officer since December 2015 | | Andrew P. Mansinne | 59 | Vice President, Brands since November 2016 | ITEM 1A. RISK FACTORS MGP's business is subject to various risks, including operational, commodity, market, and supplier dependencies - Operational interruptions or catastrophic events at facilities could negatively affect business, especially for value-added products with unique processes[50] - Profitability is significantly affected by the fluctuating costs of grain, wheat flour, and natural gas, which may not always be recovered through increased selling prices[54][55] - High concentration of raw material purchases from a limited number of suppliers (Bunge, CGB for grain; Ardent Mills for wheat flour) exposes the company to supply interruption and price risks[56] - The markets for MGP's products are highly competitive, with larger competitors having substantial resources, potentially impacting margins and market share[57][58] - Loss of key management personnel could hinder strategic plan implementation and impact internal controls[60][61] - Product recalls or liability claims due to contamination, spoilage, or tampering could result in significant losses and damage reputation[63][64] - Extensive regulation and taxation, including environmental and beverage alcohol laws, may require substantial expenditures and non-compliance could lead to penalties[65][66] - Failure of IT systems or cybersecurity breaches could disrupt operations, lead to data loss, and incur significant financial and reputational damage[67][68] - Damage to the company's or its customers' brands' reputation, including negative media or social media commentary, could adversely affect business performance[69] - Inability to adequately protect intellectual property rights or accusations of infringement could lead to competitive disadvantage, litigation, and financial costs[70][71] - Climate change, or measures to address it, could negatively affect agricultural productivity and water scarcity, impacting production costs and capacity[72][73] RISKS THAT AFFECT OUR BUSINESS AS A WHOLE Risks affecting MGP's entire business include operational interruptions, commodity price volatility, and intense market competition RISKS SPECIFIC TO OUR DISTILLERY PRODUCTS SEGMENT Specific risks for the Distillery Products segment include grain price fluctuations, inventory management, and challenges with own brand development - Fluctuations in the price of grain relative to distillery co-products (distillers feed, fuel grade alcohol, corn oil) can significantly impact profitability[74] - Significant investment in aging barreled distillate carries inherent risks due to changes in consumer demand, pricing, and new brand launches, potentially leading to inventory surplus or inability to meet future demand[75] - Risks associated with developing own brands include limited brand recognition, dependence on independent distributors, competition for shelf space, and potential litigation against the beverage alcohol industry[76][77][78] - Changes in public opinion about alcohol, leading to more restrictive regulations, higher taxes, or negative publicity, could reduce demand for products[79] - Shifts in consumer preferences, particularly away from spirits like bourbon and rye whiskeys, could adversely affect business results[80] RISKS SPECIFIC TO OUR INGREDIENT SOLUTIONS SEGMENT Specific risks for the Ingredient Solutions segment include reliance on specialty ingredients, regulatory recognition, and adverse public opinion - Focus on higher-margin specialty ingredients increases reliance on fewer, more profitable customer relationships, making the business vulnerable if customers reduce new product development or cease using MGP's unique ingredients[81] - Failure to receive FDA recognition of Fibersym® resistant starch as a dietary fiber under new food labeling laws could decrease sales volume, pricing, and profitability[82] - Adverse public opinion about specialty ingredients, such as shifting preferences regarding gluten or 'clean label' products, could reduce demand[83] RISKS RELATED TO OUR COMMON STOCK Common stockholders have limited rights due to preferred stock control over director elections and major corporate actions - Common Stockholders have limited rights under the Articles of Incorporation, with Preferred Stockholders electing five of nine directors and having voting control over certain major corporate actions[84] - A single individual beneficially owns the majority of outstanding Preferred Stock, effectively controlling the election of five directors[85] ITEM 1B. UNRESOLVED STAFF COMMENTS The company reported no unresolved staff comments from the SEC - There are no unresolved staff comments[86] ITEM 2. PROPERTIES MGP operates four primary locations in Kansas, Indiana, and Kentucky, including facilities for grain processing, distilleries, and offices - MGP has four primary locations: Atchison, Kansas (28.5 acres), Lawrenceburg and Greendale, Indiana (78 acres), Williamstown, Kentucky (33 acres), and Sunman, Indiana (36.5 acres, not yet in service)[87] - Facilities include grain processing, distillery, warehousing, research and quality control laboratories, principal executive offices, and a technical innovation center[87] - All production facilities, executive office building, and technical innovation center are owned and generally in good operating condition, subject to mortgages[88] ITEM 3. LEGAL PROCEEDINGS The company reported no legal proceedings - There are no legal proceedings[89] ITEM 4. MINE SAFETY DISCLOSURES The company stated that mine safety disclosures are not applicable - Mine Safety Disclosures are not applicable[90] Part II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDERS MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES MGP's Common Stock is traded on NASDAQ, with performance data and issuer purchases for employee tax withholding - MGP's Common Stock is traded on the NASDAQ Global Select Market under the ticker symbol MGPI[93] - As of February 21, 2019, there were approximately 394 holders of record of Common Stock[93] - The average daily trading volume of Common Stock (excluding block trades) ranged from 35,400 to 2,603,900 shares during 2018[93] Stock Performance Graph The report includes a graph comparing MGP's Common Stock cumulative total return against various market indices - The report includes a graph comparing the cumulative total return of MGP's Common Stock against the S&P 500, Russell 3000 - Beverage and Distillers, and Russell 2000 - Consumer Staples for the five-year period ended December 31, 2018[94] Purchases of Equity Securities by Issuer The company's equity security purchases primarily cover employee withholding taxes on vested share-based compensation - The company did not sell equity securities during the quarter ended December 31, 2018[96] Issuer Purchases of Equity Securities (Q4 2018) | Period | Total Number of Shares (or Units) Purchased | Average Price Paid per Share (or Unit) | Total Number of Shares (or Units) Purchased as Part of Publicly Announced Plans or Programs | Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet Be Purchased Under the Plans or Programs | | :--- | :--- | :--- | :--- | :--- | | October 1, 2018 through October 31, 2018 | 1,468 | $74.49 | — | 1,408,969 | | November 1, 2018 through November 30, 2018 | — | — | — | — | | December 1, 2018 through December 31, 2018 | — | — | — | — | | Total | 1,468 | | — | | - The purchases were for vested RSU awards under the 2014 Plan to cover employee withholding taxes[97] ITEM 6. SELECTED FINANCIAL DATA This section presents a five-year summary of selected consolidated financial data, highlighting trends in key financial metrics Selected Consolidated Financial Data (2014-2018) | Year Ended December 31, | 2018 | 2017 | 2016 | 2015 | 2014 | | :--- | :--- | :--- | :--- | :--- | :--- | | Consolidated Statements of Income Data: | | | | | | | Net sales | $376,089 | $347,448 | $318,263 | $327,604 | $313,403 | | Income before income taxes | $48,980 | $52,758 | $44,717 | $38,418 | $25,940 | | Net income | $37,284 | $41,823 | $31,184 | $26,191 | $23,675 | | Basic and Diluted Earnings Per Share ("EPS") | $2.17 | $2.44 | $1.82 | $1.48 | $1.32 | | Dividends and Dividend Equivalents Per Common Share | $0.32 | $1.01 | $0.12 | $0.06 | $0.05 | | Consolidated Balance Sheet Data: | | | | | | | Total assets | $277,892 | $240,328 | $225,336 | $194,310 | $160,215 | | Long-term debt, less current maturities | $31,628 | $24,182 | $31,642 | $30,115 | $7,286 | - Net income for 2017 included a gain on sale of equity method investment of $11,381 (before tax) from the sale of ICP[101] - The Tax Cuts and Jobs Act (2017) resulted in a provisional discrete net tax benefit of $3,343 in 2017, which was finalized in 2018[102] - Net income for 2016 included a legal settlement agreement and a gain on sale of long-lived assets of $3,385 before tax[101] ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This section provides management's perspective on MGP's financial condition and results, covering operations, cash flow, and new accounting pronouncements - MGP's MD&A is structured into seven sections: Overview, Results of Operations, Distillery Products Segment, Ingredient Solutions Segment, Cash Flow, Financial Condition and Liquidity, Off Balance Sheet Obligations, and New Accounting Pronouncements[106] CAUTIONARY NOTE CONCERNING FACTORS THAT MAY AFFECT FUTURE RESULTS The report contains forward-looking statements subject to risks and uncertainties that could cause actual results to differ materially - The report contains forward-looking statements subject to risks and uncertainties that could cause actual results to differ materially[105] - Forward-looking statements are identified by words like 'intend,' 'plan,' 'believe,' 'estimate,' 'expect,' and are based on current expectations and assumptions[105] OVERVIEW MGP aims to deliver superior financial results by fully participating in both alcohol and food ingredient segments through its strategic plan - MGP's mission is to secure its future by consistently delivering superior financial results through full participation in alcohol and food ingredients segments[107] - The strategic plan leverages the company's long history in distilling (Lawrenceburg facility founded 1847, Atchison facility opened 1941) and food ingredients (over 60 years)[108] - The strategic plan is built on five key growth strategies: Maximize Value, Capture Value Share, Invest for Growth, Operational Excellence, and Build the MGP Brand[109] - Accomplishments in 2018 included double-digit sales growth for premium bourbon and rye whiskeys, 8.4% growth in specialty wheat proteins, and 28.3% increase in gross profit for ingredient solutions[115] - New brand launches in 2018 included Rossville Union® Rye Whiskey and Eight & Sand Blended Bourbon Whiskey, expanding market presence[116] - Invested over $18 million in warehouse expansion in 2018, totaling approximately $44 million since inception, to support American whiskey growth[117] - Increased premium bourbon and rye whiskey inventory by $10.6 million in 2018 to support own brands and industry growth[117] - Achieved Grade AA rating in British Retail Consortium (BRC) audits for both Atchison and Lawrenceburg facilities in 2018, with zero non-conformances at Atchison[121] - Committed to renewable energy through Westar Wind and eliminated styrofoam and single-use plastics at facilities in 2018 as part of sustainability initiatives[124] Our Mission MGP's mission is to secure its future by consistently delivering superior financial results across its segments Our Strategic Plan MGP's strategic plan leverages historical strengths and positive macro trends through five key growth strategies Maximize Value This strategy focuses on maximizing value across MGP's product portfolio and operations Capture Value Share This strategy aims to capture increased market share and value in key product categories Invest for Growth This strategy involves investing in capacity expansion and product development to support future growth Operational Excellence This strategy emphasizes achieving high standards in operational efficiency, quality, and sustainability Build the MGP Brand This strategy focuses on strengthening and expanding MGP's own branded alcohol products in the market RESULTS OF OPERATIONS MGP reported increased net sales and gross profit in 2018, with operating income rising despite a net income decrease from prior-year gains Consolidated Results (2016-2018, in thousands) | Metric | 2018 | 2017 | 2016 | 2018 v. 2017 % Change | 2017 v. 2016 % Change | | :--- | :--- | :--- | :--- | :--- | :--- | | Net sales | $376,089 | $347,448 | $318,263 | 8.2% | 9.2% | | Cost of sales | 292,490 | 271,432 | 252,980 | 7.8% | 7.3% | | Gross profit | 83,599 | 76,016 | 65,283 | 10.0% | 16.4% | | Gross margin % | 22.2% | 21.9% | 20.5% | 0.3 pp | 1.4 pp | | SG&A expenses | 33,451 | 33,107 | 26,693 | 1.0% | 24.0% | | Operating income | 50,148 | 42,909 | 41,975 | 16.9% | 2.2% | | Operating margin % | 13.3% | 12.3% | 13.2% | 1.0 pp | (0.9) pp | | Gain on sale of equity method investment | — | 11,381 | — | (100.0)% | N/A | | Equity method investment earnings (loss) | — | (348) | 4,036 | 100.0% | (108.6)% | | Income before income taxes | 48,980 | 52,758 | 44,717 | (7.2)% | 18.0% | | Income tax expense | 11,696 | 10,935 | 13,533 | 7.0% | (19.2)% | | Effective tax expense rate % | 23.9% | 20.7% | 30.3% | 3.2 pp | (9.6) pp | | Net income | $37,284 | $41,823 | $31,184 | (10.9)% | 34.1% | | Net income margin % | 9.9% | 12.0% | 9.8% | (2.1) pp | 2.2 pp | | Basic and diluted EPS | $2.17 | $2.44 | $1.82 | (11.1)% | 34.1% | Consolidated results This section provides an overview of MGP's consolidated financial performance for the reported periods Net sales Net sales increased by 8.2% in 2018, driven by growth in both distillery products and ingredient solutions segments - Net sales for 2018 increased 8.2% to $376,089 thousand, driven by increases in both segments[126] - Distillery segment net sales were up 7.9%, with premium beverage alcohol increasing 5.9% and industrial alcohol increasing 5.2%[126] - Ingredient solutions net sales increased 9.9%, primarily due to higher sales in commodity wheat proteins and specialty wheat proteins[126] - Net sales for 2017 increased 9.2% to $347,448 thousand, also due to increases in both segments[127] - In 2017, premium beverage alcohol sales grew 18.4%, and ingredient solutions sales grew 6.5%[127] Gross profit Gross profit increased by 10.0% in 2018, with improved gross margin, attributed to both segments and a shift to higher-margin products - Gross profit for 2018 increased 10.0% to $83,599 thousand, driven by both segments[128] - Distillery products segment gross profit grew 7.4%, and ingredient solutions segment gross profit grew 28.3% in 2018[128] - Gross profit for 2017 increased 16.4% to $76,016 thousand, with distillery products growing 17.6% and ingredient solutions growing 8.9%[129] SG&A expenses SG&A expenses saw a modest increase in 2018, primarily due to continued investments in the MGP brands platform - SG&A expenses for 2018 increased 1.0% to $33,451 thousand, mainly due to investments in the MGP brands platform[130] - SG&A expenses for 2017 increased 24.0% to $33,107 thousand, primarily due to MGP brands platform investments and increased incentive compensation[130] Operating income Operating income increased by 16.9% in 2018, driven by gross profit growth, partially offset by higher SG&A expenses Operating Income Year-versus-Year Change (in thousands) | Metric | 2018 Operating Income | % Increase (Decrease) | 2017 Operating Income | % Increase (Decrease) | | :--- | :--- | :--- | :--- | :--- | | Operating income for 2017 and 2016 | $42,909 | | $41,975 | | | Increase in gross profit - distillery products segment | 4,976 | 11.6 pp | 9,981 | 23.8 pp | | Increase in gross profit - ingredient solutions segment | 2,607 | 6.1 pp | 752 | 1.8 pp | | Change in SG&A expenses | (344) | (0.8) pp | (6,414) | (15.3) pp | | Change in other operating income, net | — | — | (3,385) | (8.1) pp | | Operating income for 2018 and 2017 | $50,148 | 16.9% | $42,909 | 2.2% | - Operating income increased in 2018 due to gross profit growth in both segments, partially offset by increased SG&A[131] - Operating income increased in 2017 due to gross profit growth, partially offset by increased SG&A and a decrease in other operating income (which included a legal settlement and asset sale gain in 2016)[132] Gain on sale of equity method investment MGP recorded no gain on sale of equity method investment in 2018, contrasting with a significant gain in 2017 from the ICP sale - No gain on sale of equity method investment in 2018, compared to $11,381 thousand in 2017 due to the sale of ICP[133] - The sale of 30% equity interest in ICP on July 3, 2017, resulted in total transaction proceeds of $22,832 thousand and a gain on sale of $11,381 thousand (before tax)[134] Equity method investment earnings (loss) Equity method investment earnings improved to zero in 2018, following a loss in 2017 due to the ICP sale - Equity method investment earnings were $0 in 2018, an improvement from a loss of $348 thousand in 2017, due to the sale of ICP[135] - Equity method investment earnings decreased to a loss of $348 thousand in 2017 from earnings of $4,036 thousand in 2016, primarily due to the ICP sale and lower operating results[136] Income tax expense Income tax expense increased in 2018, with a higher effective tax rate due to deferred tax adjustments and other factors - Income tax expense for 2018 was $11,696 thousand, with an effective tax rate of 23.9%[137] - Income tax expense for 2017 was $10,935 thousand, with an effective tax rate of 20.7%[137] - The 3.2 percentage point increase in effective tax rate from 2017 to 2018 was due to deferred tax asset/liability re-measurement, reduced tax impact of share-based awards, loss of Domestic Production Activities Deduction, increased valuation allowance, and lower state income tax credits, partially offset by the Tax Act's rate reduction[137] - The Tax Cuts and Jobs Act (2017) reduced the federal corporate income tax rate to 21% and resulted in a provisional discrete net tax benefit of $3,343 thousand in 2017, which was finalized in 2018[138] - The 9.6 percentage point reduction in effective tax rate from 2016 to 2017 was due to the provisional re-measurement of deferred tax assets/liabilities under the Tax Act, adoption of ASU 2016-09, and state tax planning[139] Basic and diluted EPS Basic and diluted EPS decreased in 2018, primarily due to the absence of a significant prior-year gain on asset sale Change in Basic and Diluted EPS Year-versus-Year | Metric | 2018 Basic and Diluted EPS | % Increase (Decrease) | 2017 Basic and Diluted EPS | % Increase (Decrease) | | :--- | :--- | :--- | :--- | :--- | | Basic and diluted EPS for 2017 and 2016 | $2.44 | | $1.82 | | | Change in operating income: Operations | 0.27 | 11.1 pp | 0.17 | 9.3 pp | | Change in operating income: Other operating income, net | — | — | (0.13) | (7.1) pp | | Gain on sale of equity method investment | (0.44) | (18.0) pp | 0.44 | 24.2 pp | | Change in equity method investment earnings (loss) | 0.01 | 0.4 pp | (0.17) | (9.3) pp | | Change in income attributable to participating securities | 0.02 | 0.8 pp | — | — | | Change in weighted average shares outstanding | (0.01) | (0.4) pp | (0.02) | (1.1) pp | | Tax: Effect of Tax Act on deferred tax attributes | (0.19) | (7.8) pp | 0.19 | 10.4 pp | | Tax: Change in discrete items (excluding effect of Tax Act) | (0.30) | (12.3) pp | 0.11 | 6.0 pp | | Tax: Change in effective tax rate (excluding tax items above) | 0.37 | 15.1 pp | 0.03 | 1.7 pp | | Basic and diluted EPS for 2018 and 2017 | $2.17 | (11.1)% | $2.44 | 34.1% | - EPS decreased in 2018 primarily due to the gain on sale of equity method investment in 2017, partially offset by improved operational performance[143] - EPS increased in 2017 due to the gain on sale of equity method investment, the Tax Act's effect on tax expense, improved operations, and the tax effect of ASU 2016-09, partially offset by decreased equity method investment earnings and other operating income[144] DISTILLERY PRODUCTS SEGMENT The Distillery Products segment saw increased net sales and gross profit in 2018, driven by premium beverage alcohol and co-products Distillery Products Net Sales (2017-2018, in thousands) | Product Category | 2018 Amount | 2017 Amount | $ Change | % Change | | :--- | :--- | :--- | :--- | :--- | | Brown Goods | $125,857 | $113,413 | $12,444 | 11.0% | | White Goods | 62,574 | 64,585 | (2,011) | (3.1)% | | Premium beverage alcohol | 188,431 | 177,998 | 10,433 | 5.9% | | Industrial alcohol | 80,650 | 76,636 | 4,014 | 5.2% | | Food grade alcohol | 269,081 | 254,634 | 14,447 | 5.7% | | Fuel grade alcohol | 6,347 | 6,368 | (21) | (0.3)% | | Distillers feed and related co-products | 25,698 | 19,332 | 6,366 | 32.9% | | Warehouse services | 12,929 | 10,674 | 2,255 | 21.1% | | Total distillery products | $314,055 | $291,008 | $23,047 | 7.9% | | Gross profit | $71,793 | $66,817 | $4,976 | 7.4% | | Gross margin % | 22.9% | 23.0% | (0.1) pp | | - In 2018, total net sales of distillery products increased 7.9% due to strong demand for premium beverage alcohol (11.0% increase in brown goods) and distillers feed (32.9% increase)[146] - Gross profit for the distillery segment increased 7.4% in 2018, primarily from brown goods, distillers feed, and warehouse services, offset by increased input costs and lower gross profit on white goods, industrial, and fuel grade alcohol[148] Distillery Products Net Sales (2016-2017, in thousands) | Product Category | 2017 Amount | 2016 Amount | $ Change | % Change | Volume % Change | | :--- | :--- | :--- | :--- | :--- | :--- | | Premium beverage alcohol | $177,998 | $150,364 | $27,634 | 18.4% | | | Industrial alcohol | 76,636 | 77,290 | (654) | (0.8)% | | | Food grade alcohol | 254,634 | 227,654 | 26,980 | 11.9% | | | Fuel grade alcohol | 6,368 | 7,372 | (1,004) | (13.6)% | | | Distillers feed and related co-products | 19,332 | 21,780 | (2,448) | (11.2)% | | | Warehouse services | 10,674 | 8,437 | 2,237 | 26.5% | | | Total distillery products | $291,008 | $265,243 | $25,765 | 9.7% | 9.2% | | Gross profit | $66,817 | $56,836 | $9,981 | 17.6% | | | Gross margin % | 23.0% | 21.4% | 1.6 pp | | - In 2017, total net sales of distillery products increased 9.7%, driven by 18.4% growth in premium beverage alcohol sales and 26.5% growth in warehouse services revenue[152] - Gross profit for the distillery segment increased 17.6% in 2017, primarily due to increased sales of higher-margin premium beverage alcohol products, a net decline in input costs, and increased warehouse services revenue[153] 2018 compared to 2017 This section details the Distillery Products segment's performance in 2018 compared to 2017, highlighting key revenue and profit drivers 2017 compared to 2016 This section details the Distillery Products segment's performance in 2017 compared to 2016, highlighting key revenue and profit drivers INGREDIENT SOLUTIONS SEGMENT The Ingredient Solutions segment experienced significant growth in net sales and gross profit in 2018, led by wheat proteins Ingredient Solutions Net Sales (2017-2018, in thousands) | Product Category | 2018 Amount | 2017 Amount | $ Change | % Change | | :--- | :--- | :--- | :--- | :--- | | Specialty wheat starches | $28,594 | $28,092 | $502 | 1.8% | | Specialty wheat proteins | 21,098 | 19,458 | 1,640 | 8.4% | | Commodity wheat starches | 9,223 | 8,288 | 935 | 11.3% | | Commodity wheat proteins | 3,119 | 602 | 2,517 | 418.1% | | Total ingredient solutions | $62,034 | $56,440 | $5,594 | 9.9% | | Gross profit | $11,806 | $9,199 | $2,607 | 28.3% | | Gross margin % | 19.0% | 16.3% | 2.7 pp | | - In 2018, total ingredient solutions net sales increased 9.9%, driven by higher sales across all product categories, with significant increases in commodity wheat proteins (418.1%) and specialty wheat proteins (8.4%)[158] - Gross profit for the ingredient solutions segment increased 28.3% in 2018, primarily due to higher gross profits on specialty wheat proteins and starches, commodity wheat proteins, and improved plant efficiencies[159] Ingredient Solutions Net Sales (2016-2017, in thousands) | Product Category | 2017 Amount | 2016 Amount | $ Change | % Change | Volume % Change | | :--- | :--- | :--- | :--- | :--- | :--- | | Specialty wheat starches | $28,092 | $26,803 | $1,289 | 4.8% | | | Specialty wheat proteins | 19,458 | 18,211 | 1,247 | 6.8% | | | Commodity wheat starches | 8,288 | 7,002 | 1,286 | 18.4% | | | Commodity wheat proteins | 602 | 1,004 | (402) | (40.0)% | | | Total ingredient solutions | $56,440 | $53,020 | $3,420 | 6.5% | 13.3% | | Gross profit | $9,199 | $8,447 | $752 | 8.9% | | | Gross margin % | 16.3% | 15.9% | 0.4 pp | | - In 2017, total ingredient solutions net sales increased 6.5%, primarily driven by increased sales of specialty wheat starches, commodity wheat starches, and specialty wheat proteins[163] - Gross profit for the ingredient solutions segment increased 8.9% in 2017, mainly due to a net decline in input costs, partially offset by a lower average selling price[164] 2018 compared to 2017 This section details the Ingredient Solutions segment's performance in 2018 compared to 2017, highlighting key revenue and profit drivers 2017 compared to 2016 This section details the Ingredient Solutions segment's performance in 2017 compared to 2016, highlighting key revenue and profit drivers CASH FLOW, FINANCIAL CONDITION AND LIQUIDITY MGP maintains strong financial condition with adequate operating cash flow and capital access for operations and investments - MGP's financial condition is strong, with adequate operating cash flow and access to capital[166] - Operating cash flow and debt (Credit Agreement and Note Purchase Agreement) are primary sources of cash for operations, capital expenditures, and shareholder dividends[167] - The company expects to use cash to implement its 'invest to grow' strategy, particularly in the distillery products segment[167] Cash Flow Summary Cash from operations remained consistent in 2018, while investing activities shifted to a cash user due to increased capital expenditures Cash Flow Summary (2016-2018, in thousands) | Cash Flow Activity | 2018 | 2017 | 2016 | 2018 vs. 2017 Change | 2017 vs. 2016 Change | | :--- | :--- | :--- | :--- | :--- | :--- | | Net cash provided by operating activities | $33,481 | $33,471 | $19,721 | $10 | $13,750 | | Net cash provided by (used in) investing activities | $(31,046) | $1,777 | $(17,683) | $(32,823) | $19,460 | | Net cash used in financing activities | $(494) | $(33,733) | $(1,216) | $33,239 | $(32,517) | | Increase in cash and cash equivalents | $1,941 | $1,515 | $822 | $426 | $693 | - Cash provided by operating activities was consistent year-over-year at $33,481 thousand in 2018 and $33,471 thousand in 2017[170] - Cash used in investing activities increased by $32,823 thousand in 2018, primarily due to the absence of proceeds from the ICP divestiture in 2017 and increased capital expenditures[171] - Cash used in financing activities decreased by $33,239 thousand in 2018, mainly due to higher net proceeds from debt, a decrease in dividends, and decreased purchases of treasury stock for tax withholding[172] Capital Spending Capital expenditures increased in 2018, primarily for warehouse expansion supporting American Whiskey growth, with significant future investment planned Total Capital Expenditures (in thousands) | Year Ended December 31, | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Total Capital Expenditures | $28,913 | $21,213 | $20,502 | - The warehouse expansion project, supporting American Whiskey growth, was expanded to approximately $51,800 thousand, with $44,000 thousand incurred by December 31, 2018[178] - Expected capital expenditures for 2019 are approximately $23,000 thousand for facility improvement, expansion, sustenance, and environmental health and safety projects[177] Treasury Purchases MGP purchased treasury stock primarily to cover employee withholding taxes on vested share-based compensation Treasury Stock Purchases for Tax Withholding (in thousands) | Year Ended December 31, | Shares Purchased | Value | | :--- | :--- | :--- | | 2018 | 27,214 | $2,324 | | 2017 | 74,132 | $4,663 | | 2016 | 40,870 | $1,518 | - Purchases were made to cover employee withholding taxes on vested RSU awards[179] Long-Term and Short-Term Debt Total debt increased in 2018 due to net borrowings on the Credit Agreement, with the company remaining compliant with all debt covenants Total Debt (Net of Loan Fees, in thousands) | As of December 31, | 2018 | 2017 | | :--- | :--- | :--- | | Total debt, net | $32,014 | $24,554 | Net Borrowings / (Payments) on Debt (in thousands) | Debt Type | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Credit Agreement | $7,702 | $(30,955) | $4,828 | | Long-term debt | $(372) | $19,642 | $(2,346) | | Total Debt | $7,330 | $(11,313) | $2,482 | - The company was in compliance with all financial covenants and restrictions under its Credit Agreement and Note Purchase Agreement at December 31, 2018[186] Dividends and Dividend Equivalents MGP declared quarterly dividends of $0.08 per share in 2018, a decrease from 2017 which included a significant one-time dividend Dividends and Dividend Equivalents Per Common Share and Unit (2016-2018) | Year | Declared Per Share/Unit | Total Payment (in thousands) | | :--- | :--- | :--- | | 2018 | $0.32 | $5,500 | | 2017 | $1.01 | $17,380 | | 2016 | $0.12 | $2,066 | - On February 25, 2019, the Board declared a quarterly dividend of $0.10 per share and per unit, payable on March 29, 2019[184] Financial Condition and Liquidity MGP maintains strong short-term liquidity with current assets exceeding liabilities and significant available credit for future needs - At December 31, 2018, current assets exceeded current liabilities by $117,160 thousand, with inventories at $108,769 thousand[187] - Cash balance was $5,025 thousand at December 31, 2018, with $139,000 thousand available for additional borrowings under credit agreements[187] - The company anticipates supporting short-term liquidity and operating needs primarily through cash generated from operations[187] OFF BALANCE SHEET OBLIGATIONS MGP has off-balance sheet obligations primarily related to operating leases and an industrial revenue bond for property tax abatement Contractual Obligations at December 31, 2018 (in thousands) | Obligation | Total | 2019 | 2020-2021 | 2022-2023 | After 2023 | | :--- | :--- | :--- | :--- | :--- | :--- | | Long term debt | $32,594 | $386 | $2,416 | $17,792 | $12,000 | | Interest on Long term debt | 4,180 | 759 | 1,466 | 1,108 | 847 | | Operating leases | 6,952 | 2,224 | 3,215 | 1,458 | 55 | | Post-employment benefit plan obligations | 3,049 | 467 | 877 | 778 | 927 | | Purchase commitments | 133,029 | 129,734 | 3,251 | 43 | 1 | | Total | $179,804 | $133,570 | $11,225 | $21,179 | $13,830 | Operating Leases MGP leases railcars and other assets under operating leases, with annual commitments totaling $6.9 million for the next five years - MGP leases railcars and other assets under operating leases, with rental expenses of $2,081 thousand in 2018[188] - Annual commitments under non-cancelable operating leases total $6,897 thousand for the next five years ending December 31, 2023[188] Industrial Revenue Bonds MGP closed an industrial revenue bond transaction in 2018 for a 30-year property tax abatement on warehouses, netted on the balance sheet - In October 2018, MGP closed an industrial revenue bond transaction for $10,000 thousand with the City of Williamstown, Kentucky, to receive a 30-year real property tax abatement on warehouses[189] - The capital lease obligation is netted with the bond asset on the Consolidated Balance Sheet because MGP owns all outstanding bonds and intends to set-off payments[190] Contractual Obligations This section details MGP's contractual obligations, including long-term debt, interest, operating leases, and purchase commitments NEW ACCOUNTING PRONOUNCEMENTS The company refers to Note 1 for information on recent accounting pronouncements and their impact on consolidated financial statements - Information on recent accounting pronouncements and their impact is detailed in Note 1[192] ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK MGP is exposed to commodity price and interest rate market risks, which it manages through a risk management program and supply contracts - MGP is exposed to commodity price and interest rate market risks, managed through an overall risk management program[194] Commodity Costs Commodity price risk from grain, wheat flour, and natural gas is managed through supply contracts for future delivery - Commodity price risk from grain, wheat flour, and natural gas is managed through supply contracts for future delivery (1 to 24 months)[195] Interest Rate Exposures MGP is exposed to interest rate risks on variable-rate debt, with a 100 basis point increase estimated to raise annual interest expense by $268 thousand