LSB INDUSTRIES, INC. (LXU) FY 2023 MD&A

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following MD&A should be read in conjunction with the consolidated financial statements and related notes included in Item 8. Financial Statements and Supplementary Data. Notes referenced in this discussion and analysis refer to the notes to consolidated financial statements that are found in Item 8. Financial Statements and Supplementary Data—Notes to Consolidated Financial Statements. Certain statements contained in this MD&A may be deemed to be forward-looking statements. See “Special Note Regarding Forward-Looking Statements.”

Overview

LSB is headquartered in Oklahoma City, Oklahoma and we manufacture and sell chemical products for the agricultural, mining, and industrial markets. We own and operate three multi plant facilities in Cherokee, Alabama, El Dorado, Arkansas and Pryor, Oklahoma, and operate a facility on behalf of Covestro in Baytown, Texas. Our products are sold through distributors and directly to end customers, primarily throughout the U.S. and other parts of North America.

Key Operating Initiatives for 2024

We expect our future results of operations and financial condition to benefit from the following key initiatives:

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Investing to improve Environmental, Health & Safety and Reliability at our Facilities while Supplying our Customers with Products of the Highest Quality.

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We believe that our operational progress over the past several years represents proof that high safety standards not only enable us to protect what matters, which is the well-being of our employees, but also translates into improved plant performance. In 2023 our Total Recordable Injury Rate was 0.33, a significant improvement from previous years. In 2024, we remain focused on our efforts to further the progress we have made with our safety programs to move closer to attaining zero injuries. We have been investing and plan to continue to invest additional capital at all three of our facilities during 2024 to build upon the success we have had in implementing enhanced safety programs during the last several years.

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We have multiple initiatives currently underway focused on continuing to improve the reliability of our plants as we advance towards our 95% ammonia on-stream operating rate goal and increase our production volumes of downstream products. Progress towards these goals would enable us to produce greater volumes of product for sale while lowering our unit cost of production thereby increasing our overall profitability. Additionally, our product quality program continues to focus on providing products to our customers that meet our quality standards.

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Continue Broadening the Distribution and Optimization of our Product Mix. In January of 2023, we took over direct distribution of our Pryor facility’s UAN production, and in July 2023 we did the same for our Cherokee facility’s UAN production, following several years of working with third parties to sell the product. We believe that this, combined with continued expansion of our customer relationships, the robust market analysis capabilities we have developed, and the establishment of in-market tank storage and distribution terminals, will make us more effective in identifying and capitalizing on the most profitable distribution opportunities for our products. Additionally, we are advancing several capital improvement projects with the intention of increasing our sales volumes of higher value downstream products resulting in improvements in our overall profit margins.

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Development of Low Carbon Ammonia and Clean Energy Projects. The reduction of greenhouse gas emissions, particularly related to carbon dioxide, has been and we expect will increasingly become a global environmental priority. Ammonia has continued to emerge as one of the more viable alternatives to serve as a hydrogen-based energy source for a variety of applications due to its higher energy density and ease of storage relative to hydrogen gas. Low-carbon ammonia can be used as a coal and natural gas substitute in power generation, a zero-carbon fuel in the maritime sector, and as a carbon free fertilizer. If ammonia were to be adopted for these and other energy needs globally, some studies have indicated that future demand could increase from current levels of global annual production of ammonia.

As a result, we are currently evaluating and developing projects that could enable us to become a producer and marketer of low-carbon ammonia and other derivative products. These include a low-carbon ammonia project at our El Dorado facility in collaboration with Lapis Energy, a low-carbon ammonia project on the Houston Ship Channel in conjunction with INPEX Corporation (“INPEX”), Air Liquide Group (“Air Liquide”) and Vopak Moda Houston LLC (“Vopak Moda”) and a green ammonia project at our Pryor Facility. Low-carbon ammonia is produced using natural gas and conventional processes but includes an additional stage where the carbon dioxide emissions are captured and permanently stored in deep underground rock formations. The resulting low carbon emission product, we believe, can be sold at a premium to power generation, marine, industrial, mining and agricultural customers seeking to reduce their carbon footprint and potentially capitalize on government incentives. Green ammonia is ammonia produced using renewable energy to power electrolyzers that extract hydrogen from water, resulting in zero-carbon production of ammonia, which we believe can also be sold at a premium to a variety of customers and industries around the world.

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We believe we are well-positioned to capitalize on this opportunity and become a market leader given our potential to retrofit our existing plants, which we believe can reduce our time to market for low-carbon ammonia and also reduce the upfront capital expenditures necessary to enable us to produce this product. Additionally, we are collaborating with other energy-related companies to develop greenfield projects where we expect to mitigate risk through shared investment of capital as well as by negotiating potential offtake agreements from customers for the output of these plants.

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Evaluate and Pursue Organic Capacity Expansion. We have been evaluating opportunities across all our facilities to increase production capacity through the implementation of several potential debottlenecking projects, particularly at our El Dorado facility. Initial feasibility studies have pointed to potentially attractive returns for some of these projects. However, given the current high-cost environment and limited resources, coupled with our outlook for moderating selling prices during 2024, we have elected to put the El Dorado expansion projects on hold for the current year and will reevaluate the prospects of moving forward with one or more of them in 2025.

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We have several smaller, more near-term projects currently underway that we expect to enhance our profitability beginning in the second half of 2024 with relatively minimal capital investment. These projects include:

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Expansion of our urea capacity at our Pryor facility, to enable to use a portion of the facility’s ammonia output to upgrade to approximately 75,000 additional tons of UAN per year;

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Construction of 5,000 tons of additional nitric acid storage at our El Dorado facility to help us optimize our product sales mix; and

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Construction of additional AN solution storage and new AN solution rail loading capability at our El Dorado facility to significantly increase the volume of AN solution sales and increase product optionality at the site.

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Evaluate Acquisitions of Strategic Assets or Companies. We may evaluate opportunities to acquire strategic assets or companies where we believe those acquisitions will enhance the value of the Company and provide attractive returns. We may consider assets and companies that can provide us with geographic expansion, extend an existing product line, add one or more new product lines, leverage our existing ammonia production capabilities, or complement our existing business lines, among other accretive opportunities.

Recent Business Developments

Advanced Low-Carbon Ammonia Initiatives

In October 2023, we announced a collaboration with INPEX, Air Liquide and Vopak Moda to conduct a pre-FEED for the development of a large-scale, low-carbon ammonia production and export project on the Houston Ship Channel. If the development proceeds, the project’s first phase is targeted to produce more than 1.1 million metric tons per year of low-carbon ammonia by the end of 2027, with options for future production expansions.

The parties completed a feasibility study on the project earlier this year and the preferred facility’s location on the Houston Ship Channel, the second largest petrochemical corridor in the world, leverages existing infrastructure assets. Vopak Moda has invested in storage and handling infrastructure for bulk liquid products and currently operates an ammonia terminal that includes storage tanks and a newbuild dock with multiple deep-water berths. The project also has access to utilities and would be near multiple pipelines that could supply raw materials like natural gas and water.

The project partners will bring complementary expertise to the production, operation, storage and export for the advancement of low-carbon ammonia production in the US:

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Air Liquide, a world leader in industrial gas production, and INPEX, Japan’s largest energy exploration and production company, would collaborate on low-carbon hydrogen production. Air Liquide would supply its Autothermal Reforming (“ATR”) technology, an ideal solution for large-scale hydrogen production projects, combined with its proprietary carbon capture technology. The combination of ATR technology with carbon capture aims to capture at least 95% of direct CO2 emissions from hydrogen production with approximately 1.6 million metric tons per year of CO2 captured and permanently sequestered from this project. Air Liquide would be responsible for onsite nitrogen and oxygen production, using its proprietary Air Separation Unit technology.

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INPEX and LSB would collaborate on low-carbon ammonia production. We led the selection of KBR as the ammonia loop technology provider, and will lead the pre-FEED, engineering, procurement and construction of the facility. We would also be responsible for the day-to-day operation of the ammonia loop.

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INPEX and LSB would sell the low-carbon ammonia and finalize off-take agreements with the numerous parties that have expressed interest and could also further partner in the project. The majority of the product would be used for power generation in Asia with some volumes going to Europe and the U.S. INPEX, with stakes in both hydrogen and ammonia

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production, will likely be the largest investor in the overall project across the entire value chain, from production to export.

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Vopak Moda currently operates ammonia storage and handling infrastructure from its Very Large Gas Carriers-capable deepwater berth located in the deepest part of the Houston Ship Channel. Vopak Moda will maintain its ownership of the existing infrastructure and plans to build additional storage capacity as required to handle the low-carbon ammonia production of the proposed new facility.

In May 2023, we entered into a non-binding memorandum of understanding (the "MOU") with Amogy Inc. (“Amogy”) aimed at developing the adoption of low-carbon ammonia as a marine fuel, initially for the U.S. inland waterways transportation sector. Through joint efforts, we and Amogy will focus on advancing the understanding, utilization, and advocacy of low-carbon ammonia as a sustainable fuel. Pursuant to the MOU, the companies will collaborate on the evaluation and development of a pilot program that integrates our low-carbon ammonia and Amogy’s ammonia-to-power solution. Upon successful completion of the evaluation and pilot program, the companies expect to further collaborate at a larger-scale, including exploration of opportunities for development of an end-to-end supply chain of low-carbon ammonia and deployment of Amogy technology across multiple applications, including maritime vessels. The evaluation and pilot program includes potential engagement with other parties across the ammonia value chain. We will also collaborate on various advocacy, education, and outreach efforts regarding the use of ammonia as a fuel.

In May 2022, we entered into agreements with Thyssenkrupp Uhde USA, LLC and Bloom Energy Corporation, to develop a project to produce approximately 30,000 metric tons of zero-carbon or “green” ammonia per year at our Pryor, Oklahoma facility. The green hydrogen produced from the electrolyzers could qualify for federal incentive programs such as the production and tax credit under Internal Revenue Code Section 45V. In November 2023, the uncertainty of the Internal Revenue Code Section 45V tax credits combined with the project’s current capital costs, caused us to place this project on hold. In December 2023, the 45V tax credit guidance was released requiring renewable electricity input consumption to be strictly matched to the hydrogen production output on an hourly basis. This requirement deems the design of our green ammonia project, as initially contemplated, economically unfeasible. We continue to have discussions with potential partners to redesign the project so that it qualifies for the recently released 45V tax credit guidance.

In April 2022, we entered into an agreement with Lapis Energy to develop a project to capture and permanently sequester CO2 at our El Dorado, Arkansas facility. Lapis, backed by Cresta Fund Management, a Dallas-based middle-market infrastructure investment firm, will invest the majority of the capital required for project development. The project is expected to be completed by 2025, subject to the approval of a Class VI permit, at which time CO2 injections are expected to begin. Once operational, the project at the El Dorado site will initially capture and permanently sequester more than 450,000 metric tons of CO2 per year in underground saline aquifers. The permanently sequestered CO2 generated from the facility’s ammonia production is expected to qualify for federal tax credits under Internal Revenue Code Section 45Q, which are $85 per metric ton of CO2 captured and pay us a fee for each ton of CO2 captured and permanently sequestered beginning in 2026. Once in operation, the sequestered CO2 is expected to reduce our scope 1 GHG emissions by approximately 25% from current levels. In addition, sequestering more than 450,000 metric tons of CO2 annually is expected to enable LSB to produce over 375,000 metric tons of low-carbon ammonia annually, a product that could potentially be sold at higher price levels than conventional ammonia. In February 2023, we achieved a key milestone in the advancement of our low-carbon ammonia project at El Dorado by filing a pre-construction Class VI permit application with the U.S. Environmental Protection Agency (the “EPA”). The EPA recognized our application as complete in March 2023 and is currently in the review process.

Lower Product Selling Prices Partially Offset by Stronger Sales Volume

Sales volumes of our products increased in 2023 as compared to 2022 during which we performed Turnarounds on our Pryor, Oklahoma and El Dorado, Arkansas facilities while we had no significant Turnarounds during 2023. In 2024, we have Turnarounds planned to take place during the third quarter at our Pryor, Oklahoma and Cherokee, Alabama facilities.

With respect to our 2023 profitability, higher sales volumes were more than offset by the impact of lower selling prices relative to the very high pricing levels of 2022. The decline in fertilizer prices was the result of a variety of domestic and international factors. A key factor in the weakening of nitrogen fertilizer prices through the first half of 2023 was the decline in natural gas costs in Europe. Natural gas is the primary feedstock for the production of ammonia. Natural gas prices in Europe dropped due to a reduction in demand primarily related to warmer than expected temperatures throughout Europe during the 2023 winter combined with ample supply and high storage inventories resulting from imports of liquified natural gas from the U.S. After having production largely curtailed for much of 2022, lower natural gas costs enabled a majority of European ammonia facilities to resume operations over the course of 2023, increasing global supply for nitrogen products. With that said, natural gas costs in Europe remain higher than those in the U.S. and European operators remain the high cost, or marginal producers, with production costs at levels above those in the U.S.

A slowdown in Far East Asian industrial activity combined with lower demand for phosphate products also contributed to lower nitrogen prices during 2023. Ammonia is a feedstock for various downstream chemicals that are produced in Asia, such as caprolactam and acrylonitrile, and markets for these products continue to be weak, resulting in reduced ammonia demand.

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Nitrogen pricing increased during the second half of 2023, rebounding from July lows, driven by a combination of global factors including production outages at several large international ammonia plants, low inventory levels as a result of de-stocking throughout the nitrogen distribution channel, and the delayed start-up of new production capacity. During 2024, we expect ammonia pricing to moderate from late-2023 levels for a variety of reasons, including: heavy ammonia application by U.S. farmers during the Fall of 2023; natural gas prices in Europe are currently near their lowest levels since 2021 and appear unlikely to rise significantly in the coming months; and global industrial sector demand for nitrogen products remains depressed. Upside to our 2024 pricing expectations could be driven by a variety of factors, including: an increase in energy prices, various global geopolitical disruptions to trade flows, a strengthening industrial environment in China, delays in new production capacity coming online and supportive weather dynamics.

We believe that while prices for ammonia are anticipated to moderate, prices for other nitrogen products such as urea and UAN could see improvements due to Chinese urea export limitations in the first half of 2024, which should support urea prices and indirectly support UAN prices through the Spring 2024 planting season. Fertilizer prices, however, should remain attractive to retailers and farmers during the 2024 planting season which, combined with anticipated high planting levels in the U.S., should lead to healthy demand for nitrogen fertilizers. Additionally, we believe that corn prices will remain at a level that will further support demand for fertilizers during 2024.

Despite global economic challenges, our industrial business has been solid and demand for our products is steady, supported by the resilience of the U.S. economy. Nitric acid demand has remained stable as global producers have shifted production from international facilities to their U.S. operations in order to take advantage of lower domestic input costs. Demand for AN for use in mining applications is steady due to attractive market fundamentals for quarrying and aggregate production and U.S. metals offsetting any reductions resulting from lower coal production. While economic concerns persist, we believe that we have a meaningful degree of downside protection from the potential impacts of a recession given our diverse customer base, the nature of our contracts and our ability to shift our production mix to products where demand and pricing are strongest.

See a more detailed discussion below under “Key Industry Factors.”

Key Industry Factors

Supply and Demand

Fertilizer. The price at which our agricultural products are ultimately sold depends on numerous factors, including the supply and demand for nitrogen fertilizers which, in turn, depends upon world grain demand and production levels, the cost and availability of transportation and storage, weather conditions, competitive pricing and the availability of imports. Additionally, expansions or upgrades of competitors’ facilities and international and domestic political and economic developments continue to play an important role in the global nitrogen fertilizer industry economics. These factors can affect, in addition to selling prices, the level of inventories in the market which can cause price volatility and affect product margins.

From a farmers’ perspective, the demand for fertilizer is affected by the aggregate crop planting decisions and farm economics, weather and fertilizer application rate decisions of individual farmers. Individual farmers make planting decisions based largely on prospective profitability of a harvest, while the specific varieties and amounts of fertilizer they apply depend on factors such as their financial resources, soil conditions, weather patterns and the types of crops planted.

Additionally, changes in corn prices and those of soybean, cotton and wheat prices, can affect the number of acres of corn planted in a given year, and the number of acres planted will drive the level of nitrogen fertilizer consumption, likely effecting prices.

According to the February Report, farmers planted approximately 94.6 million acres of corn in 2023, up 7% compared to the 2022 planting season. According to the February Report, the USDA estimates the U.S. ending stocks for the 2023 Harvest will be approximately 55 million metric tons, an almost 60% increase from the 2022 Harvest. The USDA also raised the expected yield for the 2023 Harvest, up approximately 2% from a year ago.

The following February 2024 estimates are associated with the corn market:

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(1)
Information obtained from WASDE report dated February 8, 2024 (“February Report”) for the 2023/2024 (“2024 Crop”), 2022/2023 (“2023 Crop”) and 2021/2022 (“2022 Crop”) corn marketing years. The marketing year is the twelve-month period during which a crop normally is

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marketed. For example, the marketing year for the current corn crop is from September 1 of the current year to August 31 of the next year. The year begins at the harvest and continues until just before harvest of the following year.

(2)
Represents the percentage change between the 2024 Crop amounts compared to the 2023 Crop amounts.

(3)
Represents the percentage change between the 2024 Crop amounts compared to the 2022 Crop amounts.

According to the February Report, the USDA corn outlook for the U.S. is for lower food, seed, and industrial use and larger ending stocks. Corn used for glucose and dextrose was reduced 10 million bushels based on indicated usage to date. With no other use changes, U.S. corn ending stocks are up 10 million bushels from the previous month report. From a demand perspective, we believe that corn prices will remain at a level that will further support demand for fertilizers during 2024.

Industrial and Mining Products. Our industrial products sales volumes are dependent upon general economic conditions primarily in the housing, automotive, and paper industries. According to the American Chemistry Council, the U.S. economic indicators will remain mostly unchanged year over year in 2024 before ramping up to a growth rate of 3%–4% annually in 2025–2026. Our sales prices generally vary with the market price of ammonia or natural gas, as applicable, in our pricing arrangements with customers.

Our mining products are LDAN and AN solution, which are primarily used as AN fuel oil and specialty emulsions for usage in the quarry and the construction industries, for metals mining and to a lesser extent, for coal. Demand for AN for use in mining applications is robust due to attractive market fundamentals for quarrying and aggregate production and U.S. metals.

While economic concerns persist for 2024, we believe that for both our industrial and mining products we have a meaningful degree of downside protection from the potential impacts of a recession given the nature of our contracts and our ability to shift our production mix to products where demand and pricing are strongest.

Natural Gas Prices

Natural gas is the primary resource for conversion and manufacturing production of our nitrogen products. In recent years, U.S. natural gas reserves have increased significantly due to, among other factors, advances in extracting shale gas, which has reduced and stabilized natural gas prices, providing North America with a cost advantage over certain imports. As a result, our competitive position and that of other North American nitrogen fertilizer producers has been positively affected.

We historically have purchased natural gas either on the spot market, through forward purchase contracts, or a combination of both and have used forward purchase contracts to lock in pricing for a portion of our natural gas requirements. These forward purchase contracts are generally either fixed-price or index-price, short-term in nature and for a fixed supply quantity. We are able to purchase natural gas at competitive prices due to our connections to large distribution systems and their proximity to interstate pipeline systems. As of December 31, 2023, we do not have any natural gas forward contacts outstanding. The following table shows the annual volume of natural gas we purchased and the average cost per MMBtu:

Transportation Costs

Costs for transporting nitrogen-based products can be significant relative to their selling price. We continue to evaluate the recent rising costs of freight domestically. As a result of increases in demand for available rail, truck and barge options to transport product, primarily during the spring and fall planting seasons, higher transportation costs have and could continue to impact our margins, where we are unable to fully pass through these costs to our customers. Additionally, continued truck driver shortages could impact our ability to fulfill customer demand. As a result, we continue to evaluate supply chain efficiencies to reduce or counter the impact of higher logistics costs.

Key Operational Factors

Facility Reliability

Consistent, reliable and safe operations at our chemical plants are critical to our financial performance and results of operations. The financial effects of planned downtime at our plants, including Turnarounds is mitigated through a diligent planning process that considers the availability of resources to perform the needed maintenance and other factors. Unplanned downtime of our plants typically results in lost contribution margin from lost sales of our products, lost fixed cost absorption from lower production of our products and increased costs related to repairs and maintenance. All Turnarounds result in lost contribution margin from lost sales of our products, lost fixed cost absorption from lower production of our products and increased costs related to repairs and maintenance, which repair and maintenance costs are expensed as incurred.

Our Cherokee Facility is currently on a three-year ammonia plant Turnaround cycle with the next ammonia plant Turnaround planned in the third quarter of 2024. Our El Dorado Facility is currently on a three-year ammonia plant Turnaround cycle with the next ammonia plant Turnaround planned in the third quarter of 2025. Our Pryor Facility is currently on a two-year ammonia plant Turnaround cycle with the next ammonia plant Turnaround planned in the third quarter of 2024.

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Ammonia Production

Ammonia is the basic product used to produce all of our upgraded products. The ammonia production rates of our plants affect the total cost per ton of each product produced and the overall sales of our products.

Total ammonia production in 2023 was 816,000 tons. For 2024, we are targeting total ammonia production of approximately 790,000 tons to 810,000 tons. Ammonia production is expected to be lower in 2024 as a result of planned Turnaround activities at the Pryor Facility and the Cherokee Facility in the second half of the year.

We believe that our focus on continuous improvement in reliability as discussed in our key operating initiatives underscores our focused goal of achieving a 95% ammonia on-stream operating rate goal and increasing our production volumes of downstream products.

Forward Sales Contracts

In certain instances, we may use forward sales of our fertilizer products to optimize our asset utilization, planning process and production scheduling. These sales are made by offering customers the opportunity to purchase product on a forward basis at prices and delivery dates that are agreed upon, with dates typically occurring within 12 months. We use this program to varying degrees during the year depending on market conditions and our view of changing price environments. Fixing the selling prices of our products months in advance of their ultimate delivery to customers typically causes our reported selling prices and margins to differ from spot market prices and margins available at the time of shipment.

Consolidated Results for 2023

Our consolidated net sales for 2023 were $593.7 million compared to $901.7 million for 2022. Our consolidated operating income for 2023 was $51.8 million compared to $308.4 million for 2022. The items affecting our operating results are discussed below and under “Results of Operations.”

Items Affecting Comparability of Results

Selling Prices

Our 2023 average selling prices for our ammonia, AN & Nitric Acid, and UAN decreased compared to 2022. As discussed above under “Recent Business Developments,” declining European natural gas prices resulted in ammonia production costs in Europe declining substantially, translating into increased global supply and lower selling prices for ammonia and ammonia derivative fertilizers.

Our 2023 average industrial selling prices for most of our products were also lower compared to the same period of 2022, primarily driven by the $655 per metric ton decrease in the average annual Tampa Ammonia benchmark price, as many of our industrial contracts are indexed to the Tampa Ammonia benchmark price.

Other Income from Railcar Sublease

During 2023, we subleased on a short-term basis certain railcars and recognized the corresponding revenue as a component of "Other (income) expense, net" in our consolidated statement of operations, which we discuss in Note 14 – Leases.

Gain on Extinguishment of Senior Secured Notes

During the second quarter of 2023 we repurchased $125 million in principal amount of our Senior Secured Notes for approximately $114.3 million. Including our write-off of the associated remaining portion of unamortized debt issuance costs, we recognized a gain on extinguishment of approximately $8.6 million.

Settlement of Life Insurance (2022 only)

In the second quarter of 2022, we recognized a $3.0 million settlement on our company owned life insurance resulting from the approval by our insurer of a death benefit relating to the death of J. Golsen as discussed in Note 10 – Employee Savings and Stock Purchase Plans, Collective Bargaining Agreements and Executive Benefit Agreement. Upon receipt of the settlement, we paid $2.5 million to the designated beneficiary pursuant to a death benefit agreement with J. Golsen. The amount paid was accrued prior to 2022.

Turnaround Activities (2022 only)

When a Turnaround is performed, overall results for the period are negatively impacted. This impact includes lost contribution margin from lost sales, lost fixed cost absorption from lower production, and increased costs associated with repairs and maintenance. No ammonia plant Turnarounds were performed at any of our facilities during 2023. The effects of our ammonia plant Turnaround activity during 2022, excluding the impacts on downstream production from lost ammonia, are shown below and do not reflect all Turnaround activity during 2022:

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Results of Operations

The following Results of Operations should be read in conjunction with our consolidated financial statements for the years ended December 31, 2023 and 2022 and accompanying notes and the discussions under “Overview” and “Liquidity and Capital Resources” included in this MD&A. You should carefully review and consider the information in the MD&A of our 2022 Form 10-K, filed with the SEC on February 23, 2023 for an understanding of our results of operations and liquidity discussions and analysis comparing 2022 to 2021.

We present the following information about our results of operations. Net sales to unaffiliated customers are reported in the consolidated financial statements and gross profit represents net sales less cost of sales. Net sales are reported on a gross basis with the cost of freight being recorded in cost of sales.

Year Ended December 31, 2023 Compared to Year Ended December 31, 2022

The following table contains certain financial information:

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N/M Not meaningful.

(1)
Represents a non-GAAP measure. The amounts exclude unallocated depreciation and amortization and Turnaround expenses which we believe are not reflective of our operating performance in a given period.

(2)
Represents amount classified as cost of sales.

(3)
As a percentage of total net sales.

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The following tables provide key operating metrics for the fertilizer and major industrial and mining products:

Net Sales

As noted in the table above, we recorded net sales of $593.7 million in 2023, compared to $901.7 million for the same period in 2022, or a $308.0 million reduction. Net sales of our primary products decreased during 2023 compared to 2022 driven by the impact of lower selling prices relative to 2022 for all of our products and lower AN and acids sales volumes. Partially offsetting weaker pricing was an increase in sales volume of agricultural products driven largely by stronger production at our facilities as we returned to a typical level of planned maintenance activities compared to 2022 and also reflecting the investments made in plant reliability over the past several years.

Demand for our industrial and mining products remains stable despite growing global recessionary forces. Our contractual agreements with industrial customers that specify minimum volumes and our product mix flexibility helps us mitigate the impact of a reduction in demand from certain end markets by shifting production to products with stronger demand.

Gross Profit

As noted in the table above, we recognized a gross profit of $86.3 million for 2023 compared to $348.4 million for the same period in 2022, or a $262.1 million reduction. Overall, our gross profit percentage was 15% for 2023 compared to 39% for 2022. Our adjusted gross profit percentage decreased to 27% for 2023 from 49% for 2022.

The decrease in gross profit was primarily driven by lower sales prices for our products partially offset by higher volumes for our agricultural products and lower natural gas costs during 2023 compared to 2022. Gross profit was also negatively impacted by higher natural gas costs in our beginning inventory produced and higher plant fixed costs.

Selling, General and Administrative

Our SG&A expenses were $36.6 million for 2023, a decrease of $2.8 million compared to the same period in 2022. The net decrease was primarily driven by higher costs in the prior year of approximately $2.2 million of expense relating to nonrecurring transaction fees and $2.7 million in other professional fees, depreciation and amortization and other miscellaneous expenses partially offset by an increase for compensation and benefits related items in the current year of $2.0 million.

Other (Income) Expense, net

Other income, net for 2023, primarily relates to rental income we received on railcar subleases (discussed in Note 14 – Leases) partially offset by asset write-downs related to disposals, abandonment and impairment.

Interest Expense, net

Interest expense for 2023 was $41.1 million compared to $46.8 million for 2022. The decrease was driven by the repurchase of $125.0 million in principal value of Senior Secured Notes during the second quarter of 2023, a lower outstanding principal balance on our Secured Financing due 2025 and the reversal of damages accrued from a previous judgment awarded to Global in the litigation discussed in Note 7 – Commitments and Contingencies, which included an interest component.

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Gain on Extinguishment of Debt

During the second quarter of 2023, we repurchased $125.0 million of our Senior Secured Notes through open market transactions for approximately $114.3 million. As a result, we recognized a gain on extinguishment of debt net of issuance costs of approximately $8.6 million.

Non-operating Other Income, net

Non-operating other income for 2023 was $14.6 million, primarily relating to interest income from our short-term investments. For the same period of 2022, we had non-operating other income of $8.1 million, primarily relating to a $3.0 million recognized settlement on our company owned life insurance resulting from a death benefit from an insurer relating to the death of J. Golsen as discussed in Note 10 – Employee Savings and Stock Purchase Plans, Collective Bargaining Agreements and Executive Benefit Agreement and approximately $5.3 million in interest income primarily from our short-term investments.

Provision for Income Taxes

The provision for income taxes for 2023 was $6.0 million compared to $39.2 million for 2022. The resulting effective tax rate for 2023 was 17.7% on pre-tax income compared to 14.6% for 2022 on pre-tax income. For 2023, the effective tax rate is less than the statutory rate primarily due to the impact of state tax law changes and the remeasurement of state deferred balances. For 2022, the effective tax rate is less than the statutory rate primarily due to the impact of valuation allowances releases. Also see discussion in Note 6 – Income Taxes.

Liquidity and Capital Resources

The following table summarizes our cash flow activities for 2023 and 2022:

Net Cash Flow from Operating Activities

Net cash provided by operating activities was $137.5 million for 2023 compared to $345.7 million for 2022, a decrease of $208.1 million. The decrease was a result of a reduction in net sales partially offset by lower cost of sales, higher interest income from short term investments, sublease income received in the current year, and working capital changes.

Net Cash Flow from Investing Activities

Net cash provided by investing activities was $57.4 million for 2023 compared to $369.7 million used for 2022, a change of $427.1 million.

For 2023, the net cash provided primarily relates to proceeds from maturities of short-term investments of $389.9 million, partially offset by purchases of short-term investments of $264.4 million and expenditures for PP&E of $67.6 million.

For 2022, net cash used primarily relates to purchases of short-term investments of $486.1 million and expenditures for PP&E of $45.8 million partially offset by short-term investment maturities of $158.9 million.

Net Cash Flow from Financing Activities

Net cash used by financing activities was $157.7 million for 2023 compared to $5.7 million provided in 2022, a change of $163.4 million.

For 2023, the net cash used primarily consists of repurchases of our 6.25% Senior Secured Notes of $114.3, payments on other long-term debt and short-term financing of $30.1 million, payments of $28.3 million for the purchase of treasury stock and other payments of $2.8 million partially offset by proceeds from short-term financing of $17.8 million.

For 2022, net cash provided primarily consists of proceeds of $200 million from the New Notes and $20.1 million from short-term financing partially offset by payments of $179.0 million for the purchase of treasury stock, payments of $30.5 million on other long-term debt and short-term financing, and payments of $4.9 million for debt-related costs.

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Capitalization

The following is our total current cash, cash equivalents and short-term investments long-term debt and stockholders’ equity:

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(1)
See discussion below under “Loan Agreements" relating to the debt agreement.

(2)
Debt issuance costs of approximately $0.5 million relating to our New Revolving Credit Facility are not included in Unamortized discount and debt issuance cost. They are included in our consolidated balance sheet in Intangible and other assets, net.

Credit Facility – On December 21, 2023, we entered into a secured revolving credit facility (the “New Revolving Credit Facility”) with the lenders identified on the signature pages thereof and JPMorgan Chase Bank, N.A, as administrative agent. The New Revolving Credit Facility provides for borrowings up to an initial maximum of $75 million, with an option to increase the maximum by an additional $25 million (which amount is uncommitted). Availability under the New Revolving Credit Facility is subject to a borrowing base and is subject to an availability block of $7.5 million which is applied against the $75 million initially reducing the maximum (which can be removed by us at our sole discretion, subject to the satisfaction of certain conditions) (the “Availability Block”). The New Revolving Credit Facility provides for a sub-facility for the issuance of letters of credit in an aggregate amount not to exceed $10 million, with the outstanding amount of any such letters of credit reducing availability for borrowings. As of the closing of the New Revolving Credit Facility, no amounts were drawn by us. The facility remains undrawn as of December 31, 2023, while availability under the facility was $44.5 million on that date. See Note 5 for further discussion on the facility. In connection with the entry into the New Revolving Credit Facility, effective as of December 21, 2023, we satisfied and discharged all obligations under, and terminated all commitments under, our then existing $65 million secured revolving credit facility (the “Prior Revolving Credit Facility”) except for obligations expressly contemplated to survive payment of the obligations thereunder (including certain existing letters of credit and bank product obligations, all of which were fully cash collateralized at the closing of the New Revolving Credit Facility using cash on hand by us.). We incurred no termination penalties in connection with the early termination of the Prior Revolving Credit Facility.

The New Revolving Credit Facility contains a financial covenant (the “Financial Covenant”), which requires that, solely if we elect to remove the Availability Block, then the Borrowers must maintain a minimum fixed charge coverage ratio of not less than 1.00:1.00. The Financial Covenant, if triggered, is tested monthly. The Financial Covenant was not triggered as of December 31, 2023.

Senior Secured Notes due 2028 – LSB has $575 million outstanding in aggregate principal amount of the Senior Secured Notes, which originated from the issuance at par of two tranches of $500 million and $200 million in aggregate principal of such notes in October 2021 and March 2022, respectively. During the second quarter of 2023 we repurchased $125 million in principal amount of our Senior Secured Notes for approximately $114.3 million, which was accounted for as an extinguishment of debt. Including our write-off of the associated remaining portion of unamortized debt issuance costs, we recognized a gain on extinguishment of approximately $8.6 million. The Senior Secured Notes have an interest rate of 6.25%, to be paid semiannually in arrears on May 15th and October 15th, and matures on October 15, 2028.

Secured Financing due 2025 – El Dorado Ammonia L.L.C. (“EDA”) is party to a $30 million secured financing arrangement with an affiliate of Eldridge. Principal and interest are payable in 60 equal monthly installments with a final balloon payment of approximately $5 million due in August 2025.

Finance leases – Our finance leases consist primarily of leases on railcars. Most of our railcar leases are classified as operating leases.

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Capital Expenditures – Our capital expenditures during 2023 relating to PP&E were $67.6 million. The capital expenditures were funded primarily from cash and working capital. We expect capital expenditures to be approximately $60 million to $80 million for 2024.

Liquidity – We believe that the combination of our cash and cash equivalents, short-term investments, the availability on our New Revolving Credit Facility and our cash flow from operations will be sufficient to fund our anticipated liquidity needs for the next twelve months.

As of December 31, 2023, we have approximately $305.9 million of cash and short-term investments. Our capital allocation strategy includes, from time to time, seeking to deploy capital through additional share repurchases or the retirement or purchase of outstanding debt. Such repurchases, those of which we describe below for 2023, may be made in open market purchases, privately negotiated transactions or otherwise and will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors.

Equity and debt repurchases – In May 2023, our Board authorized a $150 million stock repurchase program. The program is intended as a means to maximize shareholder value by returning capital to shareholders. Under the repurchase program, we are authorized to purchase shares from time to time through open market or privately negotiated transactions. Such purchases may be made pursuant to Rule 10b5-1 plans or other means as determined by our management and in accordance with the requirements of the SEC. The repurchase program does not obligate us to purchase any particular number or type of securities. During 2023, we repurchased approximately 3.1 million shares of common stock at an average cost of $9.21 per share for a total of $28.5 million. During our fiscal quarter ended December 31, 2023, we repurchased approximately 1.2 million shares at an average cost of $8.64 per share. Total repurchase authority remaining under the repurchase program was $121 million as of December 31, 2023. The repurchase program may be suspended, terminated or modified at any time for any reason.

During 2023, we repurchased $125 million in principal value of our Senior Secured Notes for approximately $114.3 million. The debt repurchase was intended as a means to deleverage our balance sheet and reduce future interest costs while maintaining a balanced capital allocation strategy that provides an appropriate level of liquidity to fund our operations and future growth opportunities.

Expenses Associated with Environmental Regulatory Compliance

We are subject to numerous federal, state and local laws and regulations, including matters regarding environmental, health and safety matters. As a result, we incurred expenses of $4.3 million in 2023 in connection with environmental projects, compared with $3.9 million in 2022. For 2024, we expect to incur expenses ranging from $3.9 million to $4.5 million in connection with additional environmental projects. However, it is possible that the actual costs could be significantly different than our estimates.

Dividends

See discussions under Note 1 – Summary of Significant Accounting Policies regarding the common stock Special Dividend completed in 2021.

We have not paid cash dividends on our outstanding common stock in many years, and we do not currently anticipate paying cash dividends on our outstanding common stock in the near future. Our Board has not made a decision whether or not to pay dividends on our common stock in 2024.

See discussion under Note 11 – Related Party Transactions regarding the conversion and payment of the accumulated dividends during 2021 relating to the Series D 6% cumulative convertible Class C preferred stock (the “Series D Preferred”) and Series B 12% cumulative convertible Class C Preferred Stock (the “Series B Preferred”).

Seasonality

We believe fertilizer products sold to the agricultural industry are seasonal while sales into the industrial and mining sectors generally are less susceptible. The selling seasons for agricultural products are primarily during the spring and fall planting seasons, which typically extend from March through June and from September through November in the geographical markets we distribute the majority of our agricultural products. As a result, we typically increase our inventory of fertilizer products prior to the beginning of each planting season in order to meet the demand for our products. In addition, the amount and timing of sales to the agricultural markets depend upon weather conditions and other circumstances beyond our control.

Performance and Payment Bonds

We are contingently liable to sureties in respect of insurance bonds issued by the sureties in connection with certain contracts entered into by subsidiaries in the normal course of business. These insurance bonds primarily represent guarantees of future performance of our subsidiaries. As of December 31, 2023, we have agreed to indemnify the sureties for payments, up to $9.7 million, made by them in respect of such bonds. All of these insurance bonds are expected to expire or be renewed in 2024.

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Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of Regulation S-K under the Securities Exchange Act of 1934.

Aggregate Contractual Obligations

As of December 31, 2023 our aggregate contractual obligations are summarized in the following table:

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(1)
The estimated interest payments are all based on fixed interest rates. As of December 31, 2023, we do not have any outstanding borrowings based on variable interest rates.

(2)
Our proportionate share of the minimum costs to ensure capacity relating to a gathering and pipeline system.

New Accounting Pronouncements

Refer to Note 1 – Summary of Significant Accounting Policies for recently adopted and issued accounting standards.

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Critical Accounting Policies and Estimates

The preparation of financial statements requires management to make estimates and assumptions that affect the reported amount of assets, liabilities, revenues and expenses, and disclosures of contingencies and fair values. It is reasonably possible that the estimates and assumptions utilized as of December 31, 2023, could change in the near term. The more critical areas of financial reporting affected by management's judgment, estimates and assumptions include the following:

Contingencies – Certain conditions may exist which may result in a loss, but which will only be resolved when future events occur. We and our legal counsel assess such contingent liabilities, and such assessment inherently involves an exercise of judgment. If the assessment of a contingency indicates that it is probable that a loss has been incurred, we would accrue for such contingent losses when such losses can be reasonably estimated. If the assessment indicates that a potentially material loss contingency is not probable but reasonably possible, or is probable but cannot be estimated, the nature of the contingent liability, together with an estimate of the range of possible loss if determinable and material, would be disclosed. Estimates of potential legal fees and other directly related costs associated with contingencies are not accrued but rather are expensed as incurred. Loss contingency liabilities are included in current and noncurrent accrued and other liabilities and are based on current estimates that may be revised in the near term. In addition, we recognize contingent gains when such gains are realized or realizable and earned.

We are involved in various legal matters that require management to make estimates and assumptions as discussed in Note 7.

It is reasonably possible that the actual costs could be significantly different than our estimates.

Regulatory Compliance – As discussed under “Government Laws and Regulations” in Item 1 of this report, we are subject to numerous federal, state, and local laws and regulations, including matters regarding environmental, health and safety matters. We have developed policies and procedures related to regulatory compliance. We must continually monitor whether we have maintained compliance with such laws and regulations and the operating implications, if any, and amount of penalties, fines and assessments that may result from noncompliance. We will also be obligated to manage certain discharge water outlets and monitor groundwater contaminants at our chemical facilities should we discontinue the operations of a facility. However, certain conditions exist which may result in a loss, but which will only be resolved when future events occur relating to these matters. We are involved in various environmental matters that require management to make estimates and assumptions, including matters discussed in Note 7 – Commitments and Contingencies. As of December 31, 2023 and 2022, liabilities totaling $0.4 million and $0.5 million, respectively, have been accrued relating to these matters. It is also reasonably possible that the estimates and assumptions utilized as of December 31, 2023 could change in the near term. Actual results could differ materially from these estimates and judgments, as additional information becomes known.

Income Tax – As discussed under “Income Taxes” in Note 1 – Summary of Significant Accounting Policies and in Note 6 – Income Taxes, income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those differences are expected to be recovered or settled. We establish valuation allowances if we believe it is more-likely-than-not that some or all of deferred tax assets will not be realized. Significant judgment is applied in evaluating the need for and the magnitude of appropriate valuation allowances against deferred tax assets. As of December 31, 2023 and 2022, our valuation allowance on deferred tax assets was $15.2 million and $14.9 million, respectively.

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