The cautionary statements referred to in this section also should be considered in connection with any subsequent written or oral forward-looking statements that may be issued by us or persons acting on our behalf. We undertake no duty to update these forward-looking statements, even though our situation may change in the future. Furthermore, we cannot guarantee future results, events, levels of activity, performance, or achievements. We caution you not to put undue reliance on any forward-looking statements, which speak only as of the date of this report.  You should read this report and the documents that we reference in this report and have filed as exhibits completely and with the understanding that our actual future results may be materially different from what we currently expect.  We qualify all of our forward-looking statements by these cautionary statements.

Lake Area Corn Processors, LLC is a South Dakota limited liability company that owns and manages its wholly-owned subsidiary, Dakota Ethanol, LLC. Dakota Ethanol, LLC owns and operates an ethanol plant located near Wentworth, South Dakota that has a nameplate production capacity of 40 million gallons of ethanol per year. Lake Area Corn Processors, LLC is referred to in this report as "LACP," the "company," "we," or "us." Dakota Ethanol, LLC is referred to in this report as "Dakota Ethanol" "we" "us" or the "ethanol plant."

Our revenue is derived from the sale and distribution of our ethanol, distillers grains and corn oil.  The ethanol plant currently operates in excess of its nameplate capacity, producing approximately 50 million gallons of ethanol per year.  Corn is supplied to us primarily from our members who are local agricultural producers and from purchases of corn on the open market. We have engaged Renewable Products Marketing Group, Inc. ("RPMG, Inc.") to market all of the ethanol and corn oil that we produce at the ethanol plant. Further, RPMG, Inc. markets all of the distillers grains that we produce that we do not market internally to local customers.

On July 11, 2017, we made a $10 million investment in Ring-neck Energy & Feed, LLC. Ring-neck Energy & Feed, LLC plans to construct an ethanol plant in Onida, South Dakota. We are inwill have the processright to appoint a member of expanding our railroad siding to accommodate shipping unit trains. The project reached substantial completion during the third quarterRing-neck Energy & Feed, LLC's board of 2016. We are using cash from our continuing operations and amounts we have available to borrow on our long-term revolving debt to finance this capital project which is expected to cost approximately $7 million.managers.

On September 23, 2016,August 1, 2017, we executed an amendment to our credit agreement with Farm Credit Services of America to create a new $8 million term loan which we used to finance a portion of our investment in Ring-neck Energy & Feed, LLC. We agreed to make annual principal payments of $1 million plus accrued interest starting on August 1, 2018 and annually thereafter until the Chinese government instituted a 33.8% anti-dumping dutymaturity date on all distillers grains producedAugust 1, 2025.

In recent years, the ethanol industry in the United States has increased exports of ethanol and exported to China.distillers grains. In January 2017, the Chinese issued final tariffs on U.S. distillers grains. The Chinese claimed that ethanol producers in the United States were unfairly benefiting from subsidies which artificially lowered the price of distillers grains. China is the world's top buyer of dried distillers grains anti-dumping tariffs range from 42.2% to 53.7% and nearly allthe anti-subsidy tariffs range from 11.2% to 12%. In addition, the Chinese government increased its ethanol import tariff from 5% to 30% as of the distillers grains China purchases come from the United States. This trade dispute has resulted in fewer exports of distillers grains to China which hasJanuary 1, 2017. These tariffs have had a negative impact on market ethanol and distillers grains prices received by ethanol producers in the United States. Further, the Chinese duty is preliminary and it is possible that the final duty could be higher, further impacting distillers grains demand and prices. Management believes that this trade dispute has negatively impacted our profitability which could continue.

 

Our credit facilities with FCSA are subject to various loan covenants. If we fail to comply with these loan covenants, FCSA can declare us to be in default of our loans. The material loan covenants applicable to our credit facilities are our working capital covenant, local net worth covenant and our debt service coverage ratio. We are required to maintain working capital (current assets minus current liabilities) of at least $6 million. We are required to maintain local net worth (total assets minus total liabilities minus the value of certain investments) of at least $18 million. We are required to maintain a debt service coverage ratio of at least 1.25:1.00.

Management uses estimates and assumptions in preparing our consolidated financial statements in accordance with generally accepted accounting principles. These estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported revenues and expenses. Of the significant accounting policies described in the notes to our consolidated financial statements, we believe that the following are the most critical:

We enter into short-term forward, grain, option and futures contracts as a means of securingfor ethanol, corn and natural gas for the ethanol plant andas a means of managing exposure to changes in commodity and energy prices. We enter into short-term forward, option and futures contracts for sales of ethanol to manage exposure to changes in energy prices. All of our derivatives are designated as non-hedge derivatives, and accordingly are recorded at fair value with changes in fair value recognized in net income. Although the contracts are considered economic hedges of specified risks, they are not designated as and accounted for as hedging instruments.

As part of our trading activity, we use futures and option contracts offered through regulated commodity exchanges to reduce our risk and we are exposed to risk of loss in the market value of inventories. To reduce that risk, we generally take positions using cash and futures contracts and options.

Unrealized gains and losses related to derivative contracts for corn and natural gas purchases are included as a component of cost of revenues and derivative contracts related to ethanol sales are included as a component of revenues in the accompanying financial statements. The fair values of derivative contracts are presented on the accompanying balance sheet as derivative financial instruments.

We record as goodwill the excess of purchase price over the fair value of the identifiable net assets acquired. Annually, as well as when an event triggering impairment may have occurred, the Company performs an impairment test on goodwill. The first step tests for impairment, while the second step, if necessary, measures the impairment. We perform our annual analysis on December 31 of each fiscal year.

Inventories are generally valued using methods which approximate the lower of cost (first-in, first-out) or net realizable value. In the valuation of inventories and purchase commitments, net realizable value is based on estimated selling prices in the ordinary course of business less reasonably predictable costs of completion, disposal and transportation.

Revenue from the production of ethanol and related products is recorded when title transfers to customers. Generally, ethanol and related products are shipped FOB shipping point, based on written contract terms between Dakota Ethanol and its customers. Collectability of revenue is reasonably assured based on historical evidence of collectability between Dakota Ethanol and its customers. Interest income is recognized as earned.

Shipping costs incurred by the Company in the sale of ethanol, dried distiller'sdistillers grains and corn oil are not specifically identifiable and as a result, revenue from the sale of those products is recorded based on the net selling price reported to the Company from the marketer.

We are exposed to the impact of market fluctuations associated with commodity prices and interest rates as discussed below.  We have no exposure to foreign currency risk as all of our business is conducted in U.S. Dollars. We have loans that are subject to variable interest rates. We use derivative financial instruments as part of an overall strategy to manage market risk. We use cash, futures and option contracts to hedge changes to the commodity prices of corn and natural gas. We do not enter into these derivative financial instruments for trading or speculative purposes, nor do we designate these contracts as hedges for accounting purposes.

We are exposed to market risk from changes in commodity prices.  Exposure to commodity price risk results from our dependence on corn and natural gas in the ethanol production process.  We seek to minimize the risks from fluctuations in the prices of corn and natural gas through the use of hedging instruments.  In practice, as markets move, we actively manage our risk and adjust hedging strategies as appropriate.  Although we believe our hedge positions accomplish an economic hedge against our future purchases, they are not designated as such for hedge accounting purposes, which would match the gain or loss on our hedge positions to the specific commodity purchase being hedged.  We are marking to market our hedge positions, which means as the current market price of our hedge positions changes, the gains and losses are immediately recognized in our cost of revenues.

The immediate recognition of hedging gains and losses can cause net income to be volatile from quarter to quarter due to the timing of the change in value of the derivative instruments relative to the cost and use of the commodity being hedged.  We recorded a combined increase to our cost of revenues of approximately $382,000 related to derivative instruments for the quarter ended September 30, 2017. We recorded a combined decrease to our cost of revenues of approximately $529,000 related to derivative instruments for the quarter ended September 30, 2016. We recorded a combined decrease to our cost of revenues of approximately $242,000 related to derivative instruments for the quarter ended September 30, 2015. There are several variables that could affect the extent to which our derivative instruments are impacted by price fluctuations in the cost of corn or natural gas.  However, it is likely that commodity cash prices will have the greatest impact on the derivatives instruments with delivery dates nearest the current cash price.