HIGHWATER ETHANOL LLC - Quarter Report: 2021 January (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


☒	Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

	For the quarterly period ended	January 31, 2021

	OR

☐	Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

	For the transition period from to .

	COMMISSION FILE NUMBER
	000-53588

HIGHWATER ETHANOL, LLC

(Exact name of registrant as specified in its charter)


Minnesota									20-4798531
(State or other jurisdiction of incorporation or organization)									(I.R.S. Employer Identification No.)


24500 US Highway 14,	Lamberton,	MN	56152
(Address of principal executive offices)			(Zip Code)

(507) 752-6160

(Registrant's telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None


Title of each class	Trading Symbol(s)	Name of each exchange on which registered

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

x Yes o No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

x Yes o No

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


Large Accelerated Filer	☐	Accelerated Filer	☐
Non-accelerated Filer	☒	Smaller Reporting Company	☐
		Emerging Growth Company	☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

☐ Yes x No

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date: As of March 10, 2021 there were 4,789 membership units outstanding.

INDEX


			Page Number
PART I. FINANCIAL INFORMATION			4
Item 1. Financial Statements			4
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations			19
Item 3. Quantitative and Qualitative Disclosures about Market Risk			27
Item 4. Controls and Procedures			28
PART II. OTHER INFORMATION			29
Item 1. Legal Proceedings			29
Item 1A. Risk Factors			29
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			29
Item 3. Defaults Upon Senior Securities			29
Item 4. Mine Safety Disclosures			29
Item 5. Other Information			29
Item 6. Exhibits			29
SIGNATURES			31

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

HIGHWATER ETHANOL, LLC

Condensed Balance Sheets


ASSETS	January 31, 2021		October 31, 2020
	(Unaudited)
Current Assets
Cash and cash equivalents	$	2,578,720	$	667,317
Derivative instruments	194,701		260,397

Accounts receivable	2,069,637		3,797,905
Inventories	13,057,960		10,677,970
Prepaids and other	390,495		301,747
Total current assets	18,291,513		15,705,336

Property and Equipment
Land and land improvements	12,836,332		12,836,332
Buildings	38,818,532		38,818,532
Office equipment	1,164,313		1,164,313
Plant and process equipment	79,324,311		79,087,375
Vehicles	123,779		123,779
Construction in progress	4,072,985		2,547,117
	136,340,252		134,577,448
Less accumulated depreciation	(84,159,996)		(81,868,902)
Net property and equipment	52,180,256		52,708,546

Other Assets
Investments	3,301,458		3,113,078


Right of use asset - operating leases	523,699		558,300
Right of use asset - finance leases	1,201,322		1,235,645
Other	1,583,332		—
Deposits	293,639		409,283
Total other assets	6,903,450		5,316,306

Total Assets	$	77,375,219	$	73,730,188


LIABILITIES AND MEMBERS' EQUITY	January 31, 2021		October 31, 2020
	(Unaudited)
Current Liabilities
Accounts payable	$	6,017,346	$	8,613,714
Accrued expenses	925,861		1,047,786

Current maturities of long-term debt	2,732,103		2,835,045

Current portion of operating lease liability	143,252		141,300
Current portion of finance lease liability	113,453		111,908
Total Current Liabilities	9,932,015		12,749,753


Long-Term Liabilities
Long Term Debt	16,242,684		9,845,051
Operating lease liability	380,447		417,000
Finance lease liability	1,126,150		1,155,099
Total Long-Term Liabilities	17,749,281		11,417,150

Commitments and Contingencies

Members' Equity
Members' equity, 4,792 and 4,798 units outstanding	49,693,923		49,563,285

Total Liabilities and Members’ Equity	$	77,375,219	$	73,730,188

Notes to Condensed Unaudited Financial Statements are an integral part of this Statement.

HIGHWATER ETHANOL, LLC

Condensed Unaudited Statements of Operations


	Three Months Ended
	January 31, 2021		January 31, 2020

Revenues	$	28,435,747	$	27,184,024

Cost of Goods Sold	28,146,929		28,659,348

Gross Profit (Loss)	288,818		(1,475,324)

Operating Expenses	825,910		1,020,521

Operating Loss	(537,092)		(2,495,845)

Other Income (Expense)
Interest income	3		2,412
Other income	100,291		15,536
Interest expense	(142,076)		(161,243)
Gain on debt extinguishment	712,200		—

Income from equity method investments	30,312		22,457
Total other income (expense), net	700,730		(120,838)

Net Income (Loss)	$	163,638	$	(2,616,683)

Weighted Average Units Outstanding	4,793		4,807
Net Income (Loss) Per Unit, Basic and Diluted	$	34.14	$	(544.35)
Distributions Per Unit	$	—	$	—

Notes to Condensed Unaudited Financial Statements are an integral part of this Statement.

HIGHWATER ETHANOL, LLC

Statements of Changes in Members' Equity (Unaudited)


	Members' Equity

Balance - October 31, 2019	$	55,984,451

Net loss for the three-month period ended January 31, 2020	(2,616,683)

Balance - January 31, 2020	$	53,367,768


	Members' Equity

Balance - October 31, 2020	$	49,563,285

Net income for the three-month period ended January 31, 2021	163,638

Member unit repurchase, 6 units	(33,000)

Balance - January 31, 2021	$	49,693,923

Notes to Condensed Unaudited Financial Statements are an integral part of this Statement.

HIGHWATER ETHANOL, LLC

Condensed Unaudited Statements of Cash Flows


	Three Months Ended
	January 31, 2021		January 31, 2020

Cash Flows from Operating Activities
Net income (loss)	$	163,638	$	(2,616,683)
Adjustments to reconcile net income (loss) to net cash used in operating activities
Depreciation and amortization	2,498,975		2,295,794
Distributions in excess of earnings from equity method investments	4,688		121,589
Gain on debt extinguishment	(712,200)		—
Non-cash patronage income	(193,068)		(398,812)



Changes in assets and liabilities


Accounts receivable	1,728,268		(125,078)
Inventories	(2,379,990)		(594,158)
Derivative instruments	65,696		60,827
Prepaids and other	26,896		(254,713)
Accounts payable	(2,653,640)		(201,356)
Accrued expenses	(121,926)		547,962
Net cash used in operating activities	(1,572,663)		(1,164,628)

Cash Flows from Investing Activities
Acquisition of property, equipment and other assets	(3,455,530)		(189,369)

Net cash used in investing activities	(3,455,530)		(189,369)

Cash Flows from Financing Activities
Proceeds from line of credit	—		—
Payments on long-term debt	(7,000,000)		(3,750,000)
Proceeds from long-term debt	14,000,000		5,000,000
Member unit repurchases	(33,000)		—
Payment on finance lease liability	(27,404)		(25,942)
Net cash provided by financing activities	6,939,596		1,224,058

Net Increase (Decrease) in Cash and Cash Equivalents	1,911,403		(129,939)

Cash and Cash equivalents – Beginning of Period	667,317		1,639,114

Cash and Cash equivalents – End of Period	$	2,578,720	$	1,509,175

Supplemental Cash Flow Information
Cash paid for interest	$	135,685	$	123,030

Supplemental Disclosure of Noncash Financing and Investing Activities


Capital expenditures included in accounts payable	$	113,643	$	87,026
Establishment of lease liability and right of use asset	$	—	$	2,064,994

Notes to Condensed Unaudited Financial Statements are an integral part of this Statement.

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The accompanying unaudited condensed interim financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted as permitted by such rules and regulations. The accompanying balance sheet and related notes as of October 31, 2020 are derived from the audited financial statements as of that date. These condensed financial statements and related notes should be read in conjunction with the financial statements and notes thereto included in the Company’s audited financial statements for the year ended October 31, 2020, contained in the Company’s Form 10-K.

In the opinion of management, the interim condensed financial statements reflect all adjustments, consisting of only normal recurring adjustments, considered necessary for fair presentation of the Company's financial position as of January 31, 2021 and the results of operations and cash flows for all periods presented.

Nature of Business

Highwater Ethanol, LLC, (a Minnesota Limited Liability Company) operates an ethanol plant near Lamberton, Minnesota. The ethanol plant was constructed as a 50 million gallon per year nameplate ethanol plant. The plant currently operates in excess of its nameplate capacity due to the approval of air permit by the Minnesota Pollution Control Agency which allows for 70.2 million gallons of denatured ethanol per 12-month rolling average. The Company produces and sells, primarily through third-party professional marketers, fuel ethanol and co-products of the fuel ethanol production process in the continental United States.

Accounting Estimates

Management uses estimates and assumptions in preparing these financial statements in accordance with generally accepted accounting principles. Those estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported revenues and expenses. The Company uses estimates and assumptions in accounting for significant matters, among others, the carrying value of property and equipment and related impairment testing, inventory valuation, and derivative instruments. Actual results could differ from those estimates and such differences may be material to the financial statements. The Company periodically reviews estimates and assumptions and the effects of revisions are reflected in the period in which the revision is made.

Revenue Recognition

ASC Topic 606, Revenue from Contracts with Customers, further details the Company’s requirement to recognize revenue of transferred goods or services to customers in an amount which is expected to be received in exchange for those goods or services. Five steps were required as part of the new guidance: 1. Identify the contract 2. Identify the performance obligations 3. Determine the transaction price 4. Allocate the transaction price to the performance obligation 5. Recognize revenue when each performance obligation is satisfied. The adoption of this new guidance did not result in any material changes to our revenue recognition.

The Company generally sells ethanol and related products pursuant to marketing agreements. The Company’s products are shipped FOB shipping point. The Company recognizes revenue when control of goods is transferred, which is consistent with the Company's previous policy where revenues were recognized when the customer has taken title and has assumed the risks and rewards of ownership, prices are fixed or determinable and collectability is reasonably assured. For ethanol sales by single manifest railcars and trucks, and distillers grains sales, control transfers when loaded into the rail car. Beginning December 15, 2020, for ethanol sales by unit trains, control transfers once the last railcar of the unit train has loaded.

In accordance with the Company’s agreements for the marketing and sale of ethanol and related products, marketing fees and freight due to the marketers are deducted from the gross sales price at the time incurred. Revenue is recorded net of these marketing fees and freight as they do not provide an identifiable benefit that is sufficiently separable from the sale of ethanol and related products.

The following is a description of principal activities from which we generate revenue. Revenues from contracts with customers are recognized when control of the promised goods or services are transferred to our customers, in an amount that reflects the

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021

consideration that we expect to receive in exchange for those goods or services.

•ethanol sales

•modified distillers grains sales

•dried distillers grains sales

•corn oil sales

Disaggregation of revenue:

All revenue recognized in the statement of operations is considered to be revenue from contracts with customers. The following table depicts the disaggregation of revenue according to product line for the three months ended January 31, 2021 and 2020:


	Three Months Ended January 31, 2021		Three Months Ended January 31, 2020
Revenue Sources	Amount		Amount

Ethanol Sales	$	21,096,669	$	21,355,975
Modified Distillers Grains Sales	1,062,859		1,293,345
Dried Distillers Grains Sales	4,762,051		3,683,362
Corn Oil Sales	1,514,168		851,342
Total Revenues	$	28,435,747	$	27,184,024

Contract assets and contract liabilities:

The Company had short term contract liabilities from contracts with customers of $8,139 at January 31, 2021 and $0 at October 31, 2020.

The Company receives payments from customers based upon contractual billing schedules; accounts receivable are recorded when the right to consideration becomes unconditional. Contract liabilities include payments received in advance of performance under the contract, and are realized with the associated revenue recognized under the contract.

Shipping Costs

Shipping costs incurred by the Company in the sale of ethanol, dried distillers 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.

Operating Segment

The Company uses the "management approach" for reporting information about segments in annual and interim financial statements. The management approach is based on the way the chief operating decision-maker organizes segments within a company for making operating decisions and assessing performance. Reportable segments are based on products and services, geography, legal structure, management structure and any other manner in which management disaggregates a company. Based on the "management approach" model, the Company has determined that its business is comprised of a single operating segment.

Derivative Instruments

Derivatives are recognized in the balance sheets and the measurement of these instruments are at fair value. In order for a derivative to qualify as a hedge, specific criteria must be met and appropriate documentation maintained. Gains and losses from derivatives that do not qualify as hedges, or are undesignated, must be recognized immediately in earnings. If the derivative does qualify as a hedge, depending on the nature of the hedge, changes in the fair value of the derivative will be either offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings.

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021

Contracts are evaluated to determine whether the contracts are derivatives. Certain contracts that meet the definition of a derivative may be exempted as “normal purchases or normal sales”. Normal purchases and normal sales are contracts that provide for the purchase or sale of something other than a financial instrument or derivative instrument that will be delivered in quantities expected to be used or sold over a reasonable period in the normal course of business. Contracts that meet the requirements of normal purchases or sales are documented as normal and exempted from accounting as derivatives, therefore, are not marked to market in our financial statements.

The Company enters into corn commodity-based and natural gas derivatives in order to protect cash flows from fluctuations caused by volatility in prices. These derivatives are not designated as effective hedges for accounting purposes. For derivative instruments that are not accounted for as hedges, or for the ineffective portions of qualifying hedges, the change in fair value is recorded through earnings in the period of change. Corn and natural gas derivative changes in fair market value are included in costs of goods sold.

Carrying Value of Long-Lived Assets

Long-lived assets, such as property and equipment, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require a long-lived asset group be tested for possible impairment, the Company first compares undiscounted cash flows expected to be generated by an asset group to the carrying value of the asset group. If the carrying value of the long-lived asset group is not recoverable on an undiscounted cash flow basis, impairment is recognized to the extent that the carrying value exceeds its fair value. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values and third-party independent appraisals, as considered necessary.

In accordance with the Company’s policy for evaluating impairment of long-lived assets described above, when a triggering event occurs management evaluates the recoverability of the facilities based on projected future cash flows from operations over the facilities’ estimated useful lives. In determining the projected future undiscounted cash flows, the Company makes significant assumptions concerning the future viability of the ethanol industry, the future price of corn in relation to the future price of ethanol and the overall demand in relation to production and supply capacity. The Company has not recorded any impairment as of January 31, 2021 and 2020.

Fair Value of Financial Instruments

The carrying value of cash and cash equivalents, accounts receivable, and accounts payable, and other working capital items approximate fair value at January 31, 2021 due to the short maturity nature of these instruments (Level 2).

Derivative instruments are carried at fair value, based on dealer quotes and live trading levels (Note 5).

The Company believes the carrying amount of the long-term debt approximates fair value due to a significant portion of total indebtedness containing variable interest rates and this rate is a market interest rate for these borrowings (Level 2).

Investments

The Company has a 5.6% investment interest in an unlisted company, Renewable Products Marketing Group, LLC (RPMG), who markets the Company’s ethanol. The Company also has a 7% ownership interest in Lawrenceville Tank, LLC (LT), which owns and operates a trans load/tank facility near Atlanta, Georgia. These investments are flow-through entities and are being accounted for by the equity method of accounting under which the Company’s share of net income is recognized as income in the Company’s statements of operations and added to the investment account. Distributions or dividends received from the investment are treated as a reduction of the investment account. The Company consistently follows the practice of recognizing the net income (loss) from equity method investments based on the most recent reliable data. Therefore, the net income (loss) which is reported in the Company's statement of operations for the period ended January 31, 2021 is based on the investee’s results of operations for the period ended December 31, 2020.

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021

Recently Issued or Adopted Accounting Pronouncements

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326). The ASU requires financial assets measured at amortized cost (including trade receivables) to be presented at the net amount expected to be collected, through an allowance for credit losses that are expected to occur over the remaining life of the asset, rather than incurred losses. The Company adopted this guidance, effective November 1, 2020. The Company evaluated the impact of the new guidance and determined that adoption of this guideline has no material impact on our financial statements.

2. UNCERTAINTIES

The Company derives substantially all of its revenues from the sale of ethanol, distillers grains and corn oil. These products are commodities and the market prices for these products display substantial volatility and are subject to a number of factors which are beyond the control of the Company. The Company’s most significant manufacturing inputs are corn and natural gas. The price of these commodities is also subject to substantial volatility and uncontrollable market factors. In addition, these input costs do not necessarily fluctuate with the market prices for ethanol and distillers grains. As a result, the Company is subject to significant risk that its operating margins can be reduced or eliminated due to the relative movements in the market prices of its products and major manufacturing inputs. As a result, market fluctuations in the price of or demand for these commodities can have a significant adverse effect on the Company’s operations, profitability, and availability of cash flows to make loan payments and maintain compliance with the loan agreement.

3. INVENTORIES

Inventories consisted of the following at:


	January 31, 2021		October 31, 2020

Raw materials	$	6,190,225	$	5,673,918
Spare parts and supplies	3,731,775		3,543,395
Work in process	864,277		804,455
Finished goods	2,271,683		656,202
Total	$	13,057,960	$	10,677,970

The Company did not record a lower of cost or net realizable value write-down on inventory at January 31, 2021 or October 31, 2020.

4. DERIVATIVE INSTRUMENTS

As of January 31, 2021, the Company had entered into corn and ethanol derivative instruments, which are required to be recorded as either assets or liabilities at fair value in the balance sheet. The Company uses these instruments to manage risks from changes in market rates and prices. Derivatives qualify for treatment as hedges when there is a high correlation between the change in fair value of the derivative instrument and the related change in value of the underlying hedged item. The Company may designate the hedging instruments based upon the exposure being hedged as a fair value hedge or a cash flow hedge. The derivative instruments outstanding at January 31, 2021 are not designated as hedges for accounting purposes.

Commodity Contracts

Management expects all open futures positions outstanding as of January 31, 2021 to be realized within the next twelve months.

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021

The following tables provide details regarding the Company's derivative instruments at January 31, 2021 and October 31, 2020:


Instrument	Balance Sheet location	January 31, 2021		October 31, 2020



Corn, natural gas and ethanol contracts
In gain position		$	93,147	$	—
In loss position		(556,708)		(889,750)
Deposits with broker		658,262		1,150,147
	Current assets	$	194,701	$	260,397

The following tables provide details regarding the gains (losses) from the Company's derivative instruments in the statements of operations, none of which are designated as hedging instruments:


	Statement of	Three Months Ended January 31,
	Operations location	2021	2020
Ethanol contracts	Revenues	—	$	61,271
Corn contracts	Cost of goods sold	(140,143)	38,355
Natural gas contracts	Cost of goods sold	—	6,321

5. FAIR VALUE MEASUREMENTS

The following table provides information on those assets (liabilities) measured at fair value on a recurring basis.


	Fair Value as of		Fair Value Measurement Using
	January 31, 2021		Level 1		Level 2		Level 3
Derivative instruments - commodities
In gain position	$	93,147	$	2,004	$	91,143	$	—
In loss position	(556,708)		(4,250)		(552,458)		—


	Fair Value as of		Fair Value Measurement Using
	October 31, 2020		Level 1		Level 2		Level 3
Derivative instruments - commodities
In loss position	$	(889,750)	$	(71,037)	$	(818,713)	$	—

The Company determines the fair values of commodities by obtaining the fair value measurements from an independent pricing service based on dealer quotes and live trading levels from the Chicago Board of Trade.

6. DEBT FINANCING

Long-term debt consists of the following at:

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021


	January 31, 2021		October 31, 2020
Term Revolving Loan	$	13,499,000	$	5,999,000

2020 Term Loan	5,500,000		6,000,000

PPP Loan	—		712,200

Total	18,999,000		12,711,200

Less Debt Issuance Costs	(24,213)		(31,104)

Less amounts due within one year	(2,732,103)		(2,835,045)

Net long-term debt	$	16,242,684	$	9,845,051

Bank Financing

The Company has a loan facility with Compeer Financial f/k/a AgStar Financial Services, PCA ("Compeer") that includes a $20,000,000 Term Revolving Loan and a term loan with an original amount of $6,000,000 (the "2020 Term Loan") to be used to fund certain improvements to the ethanol production facility. Our loan facility with Compeer is secured by substantially all business assets and also subjects the Company to various financial and non-financial covenants. On November 25, 2020, Compeer waived the Company's violation at October 31, 2020 of the minimum debt service coverage ratio.

Term Revolving Loan

The Term Revolving Loan is for $20,000,000 with a variable interest rate based on the 30-day LIBOR rate plus 325 basis points with no minimum interest rate. The applicable interest rate at January 31, 2021 was 3.40%. The Term Revolving Loan may be advanced, repaid and re-borrowed during the term. Monthly interest payments are due on the Term Revolving Loan. Payment of all amounts outstanding are due on January 22, 2023. The outstanding balance on this note was $13,499,000 at January 31, 2021. The Company pays interest at a rate of 1.50% on amounts outstanding for letters of credit which also reduce the amount available under the Term Revolving Loan. The Company has no letters of credit outstanding at January 31, 2021. The Company is also required to pay unused commitment fees for the Term Revolving Loan.

2020 Term Loan

The 2020 Term Loan is for up to $6,000,000 with a variable interest rate based on the Wall Street Journal's Prime Rate plus 45 basis points with no minimum interest rate. The applicable interest rate at January 31, 2021 was 3.70%. Beginning on January 1, 2021, monthly principal payments are due on the 2020 Term Loan of approximately $250,000 plus accrued interest with payments of all amounts outstanding due on September 14, 2022. The outstanding balance on this note was $5,500,000 at January 31, 2021.

Covenants and other Miscellaneous Terms

The loan facility with Compeer is secured by substantially all business assets. The Company executed a mortgage creating a first lien on its real estate and plant and a security interest in all personal property located on the premises and assigned all rents and leases to property, marketing contracts, risk management services contract, and natural gas, electricity, water service and grain procurement agreements.

The Company is also subject to various financial and non-financial covenants that limit distributions and debt and require minimum debt service coverage and working capital requirements. The debt service coverage ratio is no less than 1.25:1.00 measured annually by comparing adjusted EBITDA to scheduled payments of principal and interest. The minimum working capital is $8,250,000, which is calculated as current assets plus the amount available for drawing under the Term Revolving Loan and undrawn amounts on outstanding letters of credit, less current liabilities, and is measured quarterly.

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021

The Company is limited to annual capital expenditures of $5,000,000 without prior approval, incurring additional debt over certain amounts without prior approval, and making additional investments without prior approval of Compeer. The Company is allowed to make cash distributions to members as frequently as monthly in an amount equal to 75% of net income if working capital is greater than or equal to $8,250,000, or 100% of net income if working capital is greater than or equal to $11,000,000, or an unlimited amount if working capital is greater than or equal to $11,000,000 and the outstanding balance on the 2020 Term Loan is $0. As of October 31, 2020, the Company violated the debt service coverage ratio requirement of 1.25:1.00. On November 25, 2020, Compeer waived the Company's violation, at October 31, 2020, of the minimum debt services coverage ratio requirement of 1.25:1.00. The Company believes that it will be in compliance with its financial covenants for at least the next 12 months.

PPP Loan

In March 2020, Congress passed a stimulus bill called the CARES Act to provide economic relief related to the COVID-19 pandemic. One of the programs established by the Cares Act is the Paycheck Protection Program ("PPP"), authorizing loans to small business for use in paying employees that continue to work throughout the COVID-19 pandemic and for qualifying rent, utilities and interest on mortgages. Loans obtained through the PPP are administered by the Small Business Administration and eligible to be forgiven as long as the Company met the requirements and the proceeds are used for qualifying purposes and other conditions are met. On April 14, 2020, the Company was awarded a PPP loan in the amount of $712,200. In January 2021, the Company received notification from the Small Business Administration that all loan proceeds received by the Company were forgiven. Due to the forgiveness of the loan, the Company recorded on a gain on debt extinguishment in the statement of operations for $712,000 for the three months ended January 31, 2021.

The estimated maturities of the long-term debt at January 31, 2021 are as follows:


	Principal		Debt Issuance Costs		Total
January 2022	2,750,000		(17,897)		2,732,103
January 2023	16,249,000		(6,316)		16,242,684
Long-term debt	$	18,999,000	$	(24,213)	$	18,974,787

7. LEASES

The Company leases rail cars for its facility to transport dried distillers grains to its end customers. We classified these identified assets as operating leases after assessing the terms under lease classification guidance.

The Company has a contract for use of a natural gas pipeline which transports natural gas from the Northern Natural Gas pipeline to the Company’s facility. This natural gas line has no alternate use and is specifically for the benefit of the Company. The contract has minimum volume requirements as well as a fixed monthly fee. This contract meets the definition of a lease and is classified as a finance lease. Right of use assets and lease liabilities are recognized at commencement date based on the present value of lease payments over the lease term.

The discount rate used in determining the lease liability for each individual lease is the Company's estimated incremental borrowing rate. An incremental borrowing rate of 5.5% was utilized for each of the Company's leases.

The Company determines if an arrangement is a lease or contains a lease at inception. The Company’s operating and finance leases have remaining lease terms of approximately 4 years and 9 years, respectively. These leases include options to extend the lease. When it is reasonably certain the Company will exercise those options, the Company will update the remaining terms of the leases. The Company does not have lease arrangements with residual value guarantees, sale leaseback terms or material restrictive covenants.

The following table summarizes the remaining maturities of the Company’s operating and finance lease liabilities as of January 31, 2021:

HIGHWATER ETHANOL, LLC

Notes to Condensed Unaudited Financial Statements

January 31, 2021


For the Period Ending January 31,	Operating Leases		Finance Leases
2022	$	168,480	$	178,800
2023	168,480		178,800
2024	168,480		178,800
2025	70,201		178,800
2026	—		178,800
Thereafter	—		670,500
Totals	575,641		1,564,500
Amount representing interest	(51,942)		(324,897)
Lease liability	$	523,699	$	1,239,603


Lease Cost	Three Months ended January 31, 2021

Operating lease cost	$	42,120
Short term lease cost	19,088
Finance lease cost
Amortization of leased assets	34,323
Interest on lease liabilities	17,296

Net lease cost	$	112,827

8. COMMITMENTS AND CONTINGENCIES

Marketing Agreements

The Company has an ethanol marketing agreement with a marketer (RPMG) to purchase, market, and distribute the ethanol produced by the Company. The Company also entered into a member control agreement with the marketer whereby the Company made capital contributions and became a minority owner of the marketer. The member control agreement became effective on February 1, 2011 and provides the Company a membership interest with voting rights. The marketing agreement will terminate if the Company ceases to be a member. The Company will assume certain of the member’s rail car leases if the agreement is terminated. The Company can sell its ethanol either through an index arrangement or at an agreed upon fixed price. The marketing agreement is perpetual until terminated according to the agreement. The Company may be obligated to continue to market its ethanol through the marketer for a period of time. The amended agreement requires minimum capital amounts invested as required under the agreement. RPMG will also purchase, market, and distribute the Company's high purity alcohol.

The Company has a distillers grains marketing agreement with a marketer to market all the dried distillers grains produced at the plant. Under the agreement the marketer charges a maximum of $2.00 per ton and a minimum of $1.50 per ton using 2% of the FOB plant price actually received by them for all dried distillers grains removed. The agreement will remain in effect unless otherwise terminated by either party with 120 days notice. Under the agreement, the marketer is responsible for all transportation arrangements for the distribution of the dried distillers grains. The Company markets and sells its modified and wet distillers grains.

The Company has a crude corn oil marketing agreement with a marketer (RPMG) to market all corn oil to be produced at the plant for an initial term. Under the agreement, the Company must provide estimates of production and inventory of corn oil. The marketer may execute sales contracts with buyers for future delivery of corn oil. The Company receives a percentage of the F.O.B. sale price less a marketing fee, actual freight and transportation costs and certain taxes and other charges related to

the purchase, delivery or sale. The Company is required to provide corn oil meeting certain specifications as provided in the agreement and the agreement provides for a process for rejection of nonconforming corn oil. The agreement automatically renews for successive terms unless terminated in accordance with the agreement.

Construction Agreement

The Company entered into an agreement with a contractor for the installation of a system to produce 20MGY hydrous USP grade ethanol which is used in the sanitizer market. The agreement provides for a fixed price which includes design, engineering and construction management. Monthly applications for payment are issued based on progress and final payment is due upon final completion of the work. The agreement provides that the Company may suspend work for a period of not more than 60 days, subject to a potential adjustment in price and contract time, and may terminate for cause after notice and opportunity to cure. The contractor may stop work or terminate the agreement if work is suspended for more than 60 days or for payment default after notice and opportunity to cure. The remaining project commitment at January 31, 2021 is approximately $1,900,000.

Regulatory Agencies

The Company is subject to oversight from regulatory agencies regarding environmental concerns which arise in the ordinary course of its business.

Forward Contracts

In the ordinary course of business, we enter into forward contracts for our commodity purchases and sales. Forward contracts are as follows at January 31, 2021:


	Quantity	Average Price		Delivery Date

Purchase of corn (in bushels):
Basis Contracts	1,518,317			By 1/31/22
Priced Contracts	2,059,838	$	4.43	By 1/31/22
Total	3,578,155

Purchase of natural gas (in dekatherms):
Priced contracts	3,066,525	$	2.42	By 10/31/23
Total	3,066,525

Purchase of denaturant (in gallons):
Priced contracts	414,000	$	1.07	By 6/30/21
Total	414,000

Sales of dry distillers grains (in tons):
Priced contracts	7,082	$	215.52	By 3/31/21
Total	7,082

Sales of modified distillers grains (in tons)
Priced contracts	9,600	$	85.00	By 8/31/21
Total	9,600

Sales of corn oil (in pounds)
Priced contracts	768,000	$	0.41	By 2/28/21
Total	768,000

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

We prepared the following discussion and analysis to help you better understand our financial condition, changes in our financial condition, and results of operations for the three month period ended January 31, 2021, compared to the same period of the prior fiscal year. This discussion should be read in conjunction with the condensed financial statements and notes and the information contained in the Company's Annual Report on Form 10-K for the fiscal year ended October 31, 2020.

Forward-Looking Statements

This report contains forward-looking statements that involve future events, our future performance and our expected future operations and actions. In some cases you can identify forward-looking statements by the use of words such as “will,” “may,” “should,” “anticipate,” “believe,” “expect,” “plan,” “future,” “intend,” “could,” “estimate,” “predict,” “hope,” “potential,” “continue,” or the negative of these terms or other similar expressions. These forward-looking statements are only our predictions and involve numerous assumptions, risks and uncertainties. Many factors could cause actual results to differ materially from those projected in forward-looking statements. While it is impossible to identify all such factors, factors that could cause actual results to differ materially from those estimated by us include, but are not limited to:


			Changes in the availability and price of corn and natural gas;
			Reduction or elimination of the Renewable Fuel Standard;
			Volatile commodity and financial markets;
			Changes in legislation benefiting renewable fuels;
			Our ability to comply with the financial covenants contained in our credit agreements with our lenders;
			Our ability to profitably operate the ethanol plant and maintain a positive spread between the selling price of our products and our raw material costs;
			Results of our hedging activities and other risk management strategies;
			Ethanol and distillers grains supply exceeding demand and corresponding price reductions;
			Our ability to generate cash flow to invest in our business and service our debt;
			Changes in the environmental regulations that apply to our plant operations and changes in our ability to comply with such regulations;
			Changes in our business strategy, capital improvements or development plans;
			Changes in plant production capacity or technical difficulties in operating the plant;
			Changes in general economic conditions or the occurrence of certain events causing an economic impact in the agriculture, oil or automobile industries;
			Lack of transportation, storage and blending infrastructure preventing ethanol from reaching high demand markets;
			Changes in federal and/or state laws or policies impacting the ethanol industry;
			Changes and advances in ethanol production technology and the development of alternative fuels and energy sources and advanced biofuels;
			Competition from alternative fuel additives;
			Changes in interest rates and lending conditions;
			Decreases in the price we receive for our ethanol and distillers grains;
			Our inability to secure credit or obtain additional equity financing we may require in the future;
			Our ability to retain key employees and maintain labor relations;
			Changes in the price of oil and gasoline;
			Competition from clean power systems using fuel cells, plug-in hybrids and electric cars;
			International trade disputes and the imposition of tariffs by foreign governments on our products;
			Use by the EPA of small refinery exemptions; and
			A slowdown in global and regional economic activity, reduced demand for our products and the potential for labor shortages and shipping disruptions resulting from the COVID-19 pandemic.

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 are not under any duty to update the forward-looking statements contained in this report. Furthermore, we cannot guarantee future results, 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.

Available Information

Our website address is www.highwaterethanol.com. Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 (the “Exchange Act”), are available, free of charge, on our website at www.highwaterethanol.com under the link “SEC Compliance,” as soon as reasonably practicable after we electronically file such materials with, or furnish such materials to, the Securities and Exchange Commission. The contents of our website are not incorporated by reference in this Quarterly Report on Form 10-Q.

Overview

Highwater Ethanol, LLC (“we,” “our,” “Highwater Ethanol” or the “Company”) was formed as a Minnesota limited liability company organized on May 2, 2006, for the purpose of constructing, owning, and operating an ethanol plant near Lamberton, Minnesota. Since August 2009, we have been engaged in the production of ethanol and distillers grains at the plant. In October 2019, our air permit application to the Minnesota Pollution Control Agency to allow for 70.2 million gallons of denatured ethanol per 12-month rolling average was approved.

The ethanol industry experienced industry-wide record low ethanol prices throughout most of 2018 and 2019 due to reduced demand and high industry inventory levels. This continued into 2020 and the situation was compounded by the impact of the COVID-19 pandemic. In response to unfavorable operating conditions, we reduced our ethanol production levels by up to 25%. As conditions improved in June 2020, we began increasing production levels to an annual rate of approximately 65 million gallons.

On August 26, 2020, we entered into an agreement with Nelson Baker BioTech, Inc. to install a system which will allow us to produce hydrous USP grade ethanol for use in the sanitizer market. Construction began in November 2020 and we expect to complete the project during the second quarter of our 2021 fiscal year.

On September 26, 2013, we entered into a series of related definitive agreements with Butamax Advanced Biofuels, LLC ("Butamax") for the installation, leasing and license of a corn oil separation system and technology. On December 3, 2020, we entered into a Termination and Asset Purchase Agreement (the "Purchase Agreement") pursuant to which Butamax agreed to sell us the corn oil separation system and provide a license of the corn oil separation technology. In exchange for the purchase of the corn oil separation system and the license, we paid a one-time fee to Butamax. The Purchase Agreement also provided for the termination of related agreements between the Company and Butamax as of December 3, 2020.

On December 23, 2020, we executed a High Purity Alcohol Member Marketing Agreement (the “Agreement”) with RPMG, Inc. ("RPMG"). The terms of the Agreement were effective January 1, 2021. RPMG is currently our exclusive marketer and distributor of ethanol and corn oil. We are also an owner of Renewable Products Marketing Group, LLC (“RPMG LLC”), the parent entity of RPMG. The Agreement provides that RPMG will serve as our exclusive marketer of high purity alcohol excluding certain high purity alcohol marketed or sold under contracts already in effect. In exchange for the exclusive marketing services, we will pay a marketing fee to RPMG and RPMG will use commercially reasonable efforts to obtain the best price for all high purity alcohol conforming to certain specifications sold under the Agreement. RPMG shall purchase high purity alcohol at an amount equal to the FOB price less any applicable cost. The Agreement shall automatically terminate if we cease to be an owner of RPMG LLC, subject to the expiration of the initial term. In addition, upon breach by the other party, the Agreement may be terminated by either party after providing notice and expiration of the applicable cure period. RPMG may terminate the Agreement upon our insolvency, receivership, or bankruptcy or if we cease to produce high purity alcohol for thirty days or more. We may terminate the Agreement, following expiration of the initial term, upon notice and provided we deliver all high purity alcohol subject to confirmations of sale. We would also be obligated to accept assignment from RPMG of the lease of certain rail cars following termination.

We expect to fund our operations during the next 12 months using cash flow from our continuing operations and our current credit facilities. However, should we experience unfavorable operating conditions in the ethanol industry that prevent us

from profitably operating the ethanol plant, we may need to seek additional funding.

Results of Operations for the Three Months Ended January 31, 2021 and 2020

The following table shows the results of our operations and the approximate percentage of revenues, cost of goods sold, operating expenses and other items to total revenues in our unaudited statements of operations for the three months ended January 31, 2021 and 2020:


	2021				2020
Statements of Operations Data	Amount (unaudited)		%		Amount (unaudited)		%

Revenues	$	28,435,747	100.00	%	$	27,184,024	100.00	%
Cost of Goods Sold	28,146,929		98.98	%	28,659,348		105.43	%
Gross Profit (Loss)	288,818		1.02	%	(1,475,324)		(5.43)	%
Operating Expenses	825,910		2.90	%	1,020,521		3.75	%
Operating Loss	(537,092)		1.88	%	(2,495,845)		(9.18)	%
Other Income (Expense), net	700,730		2.46	%	(120,838)		(0.44)	%
Net Income (Loss)	$	163,638	0.58	%	$	(2,616,683)	9.62	%

The following table shows the sources of our revenue for the three months ended January 31, 2021 and 2020:


	2021				2020
Revenue Sources	Amount (Unaudited)		%		Amount (Unaudited)		%

Ethanol Sales	$	21,096,669	74.19	%	$	21,355,975	78.56	%
Modified Distillers Grains Sales	1,062,859		3.74	%	1,293,345		4.76	%
Dried Distillers Grains Sales	4,762,051		16.75	%	3,683,362		13.55	%
Corn Oil Sales	1,514,168		5.32	%	851,342		3.13	%
Total Revenues	$	28,435,747	100.00	%	$	27,184,024	100.00	%

Revenue

Ethanol

Our ethanol revenues were lower for the three months ended January 31, 2021, as compared to the three months ended January 31, 2020. Revenue from ethanol sales decreased by approximately 1.2% during the three months ended January 31, 2021, as compared to the three months ended January 31, 2020, due primarily to a decrease in the number of gallons of ethanol sold during the three months ended January 31, 2021.

The number of gallons of ethanol sold decreased by approximately 5.5% during the three months ended January 31, 2021, as compared to the three months ended January 31, 2020 due to reduced demand. Our ethanol production levels are currently at an annual rate of approximately 65 million gallons. Management anticipates that the amount of ethanol produced will remain relatively consistent in the future unless economic conditions worsen and we reduce ethanol production levels.

The average price per gallon of ethanol sold for the three months ended January 31, 2021 was approximately 4.7% higher than the average price we received for the three months ended January 31, 2020. Ethanol prices were negatively affected for an extended period by lower domestic demand resulting in part from the use by the Environmental Protection Agency ("EPA") of the small refinery exemption and a decline in ethanol exports due to trade disputes with foreign governments and the institution of a tariff by China on ethanol produced in the United States. Ethanol prices further decreased beginning in the second quarter of our 2020 fiscal year due to a collapse in both domestic and foreign demand as a result of restrictions put in place in response to the COVID-19 pandemic. As a result of poor economic conditions, many ethanol plants curtailed or stopped ethanol production. Although many plants have since increased production rates, industry-wide production overall has been lower which has had a positive effect on ethanol prices for the period. In addition, higher corn prices for the period have contributed to higher ethanol prices.

Ethanol prices will likely decrease as ethanol plants return to higher ethanol production levels. In addition, ethanol prices will continue to be negatively impacted by the COVID-19 pandemic until restrictions in the United States are lifted and domestic fuel demand fully returns. It is uncertain when this may occur. Continued declines in ethanol exports due to decreased global fuel consumption in response to the COVID-19 pandemic and trade disputes with foreign governments could also lead to an decrease in ethanol export demand and lower ethanol prices. Other factors likely to affect ethanol prices in the coming fiscal year include the recent election of President Biden in the United States, the EPA's use of the small refinery exemption, approval of the year-round sale of E15 and changes in domestic corn prices.

At January 31, 2021, we have no forward fixed price ethanol sales contracts.

We had gains related to ethanol based derivative instruments of $0 and $61,271 for the three months ended January 31, 2021 and 2020, respectively.

Distillers Grains

Revenue from distillers grains sales increased by approximately 17.0% during the three months ended January 31, 2021, as compared to the three months ended January 31, 2020. The tons of dried distillers grains sold during the three months ended January 31, 2021, decreased by approximately 1.6% as compared to the three months ended January 31, 2020 and the tons of modified distillers grains sold during the three months ended January 31, 2021, decreased by approximately 22.6% as compared to the three months ended January 31, 2020. Distillers grains produced decreased due primarily to higher corn oil production levels for the period. Management anticipates that the amount of distillers grains produced will remain relatively consistent in the future unless economic conditions worsen and we reduce ethanol production levels which would then have a corresponding effect on distillers grains.

For the three months ended January 31, 2021, the average price per ton of dried distillers grains sold was approximately 31.6% higher than the average price we received during the three months ended January 31, 2020, due to increases in the domestic prices of corn and soybeans for the period. For the three months ended January 31, 2021, the average price per ton of modified distillers grains sold was approximately 6.2% higher than during the three months ended January 31, 2020, due to increased demand and reduced production in our local area.

Distillers grains prices typically change in proportion to domestic corn prices and availability of corn. Domestic demand for distillers grains could decrease if corn prices decline and end-users switch to lower priced alternatives. Management anticipates that both domestic and foreign demand for distillers grains may be negatively affected by the COVID-19 pandemic. Other factors likely to affect distillers grains prices include the imposition by China of anti-dumping and anti-subsidy duties on distillers grains produced in the United States and other trade actions by the United States and foreign governments.

Corn Oil

Revenue from corn oil sales increased by approximately 77.9% during the three months ended January 31, 2021, as compared to the three months ended January 31, 2020. This is primarily the result of an increase in the price and the amount of corn oil sold during the three months ended January 31, 2021. The pounds of corn oil sold during the three months ended January 31, 2021, increased by approximately 23.6% as compared to the the three months ended January 31, 2020 due to an increase in the domestic prices of corn and soybeans for the period. The average price per pound of corn oil sold was approximately 45.5% higher during the three months ended January 31, 2021, as compared to the three months ended January 31, 2020. Factors likely to affect corn oil prices include biodiesel demand, prices of corn and soybeans, status of the biodiesel blenders' tax credit and fluctuations in supply resulting from some ethanol plants changing ethanol production levels in response to economic conditions.

The amount of corn oil sold increased due to improved efficiencies leading to increased production for the period. Management anticipates that the amount of corn oil produced will remain relatively consistent in the future unless economic conditions worsen and we reduce ethanol production levels which would then have a corresponding effect on corn oil.

Cost of Goods Sold

Our two largest costs of production are corn (75.2% of cost of goods sold for the three months ended January 31, 2021) and natural gas (5.6% of cost of goods sold for the three months ended January 31, 2021). Our total cost of goods sold was approximately 1.8% less during the three months ended January 31, 2021, as compared to the three months ended January 31, 2020.

Corn

Our average price per bushel of corn for the three months ended January 31, 2021 increased by approximately 5.1% per bushel, as compared to the three months ended January 31, 2020, due to increased export demand coupled with lower domestic corn production.

Management expects there to be an adequate corn supply available in our area to operate the ethanol plant. However, corn prices have been volatile and are likely to remain so in the future depending on weather conditions, supply and demand, stocks and other factors and could significantly impact our costs of production.

We used approximately 0.8% less bushels of corn in the three months ended January 31, 2021, as compared to the three months ended January 31, 2020, due to decreased ethanol production and improved efficiencies for the period.

At January 31, 2021, we have 1,518,317 bushels of forward fixed basis corn purchase contracts and 2,059,838 bushels of forward fixed price corn contracts valued at approximately $9,118,000 for various delivery periods through January 2022.

We had losses related to corn derivative instruments of $140,143 for the three months ended January 31, 2021. We had gains related to corn derivative instruments of $38,355 for the three months ended January 31, 2020.

Natural Gas

Our average price per MMBTU of natural gas was approximately 0.7% higher for the three months ended January 31, 2021, as compared to the three months ended January 31, 2020. Natural gas prices were higher due to new interim tariff rates levied by Northern Natural Gas effective January 1, 2020. Management anticipates that natural gas prices will continue at current levels unless the natural gas industry experiences production problems or if there are large increases in natural gas demand.

For the three months ended January 31, 2021, we purchased approximately 2.2% less natural gas as compared to the three months ended January 31, 2020. This decrease in natural gas usage is primarily due to a decrease in dried distillers grains production.

At January 31, 2021, we have 3,066,525 MMBTUs of forward natural gas purchase contracts valued at approximately $7,435,000 for various delivery periods through October 2023.

We had gains related to natural gas derivative instruments of $0 and $6,321 for the three months ended January 31, 2021 and 2020, respectively.

Operating Expense

We had operating expenses for the three months ended January 31, 2021 of $825,910, as compared to operating expenses of $1,020,521 for the three months ended January 31, 2020. Management attributes this decrease in operating expenses primarily to a decrease in professional fees for the three months ended January 31, 2021, as compared to the three months ended January 31, 2020. Management continues to pursue strategies to optimize efficiencies and maximize production. These efforts may result in a decrease in our operating expenses on a per gallon basis. However, because these expenses do not vary with the level of production at the plant, we expect our operating expenses to remain relatively steady.

Operating Loss

We had loss from operations for the three months ended January 31, 2021 of $537,092, which is approximately (1.9%) of our revenues, compared to a loss of $2,495,845, which was approximately (9.2%) of our revenues, for the three months ended January 31, 2020. This decrease in loss is primarily due to an increase in the price received for ethanol relative to the price we paid for corn.

Other Income (Expense)

We had total other income for the three months ended January 31, 2021 of $700,730, as compared to total other expense of $120,838 for the three months ended January 31, 2020. Our other income for the three months ended January 31, 2021, consisted primarily of gain on extinguishment of debt related to the forgiveness of the PPP loan partially offset by interest expense.

Changes in Financial Condition for the Three Months Ended January 31, 2021

The following table highlights the changes in our financial condition as of January 31, 2021 from our previous fiscal year ended October 31, 2020:


	January 31, 2021		October 31, 2020
Current Assets	$	18,291,513	$	15,705,336
Current Liabilities	9,932,015		12,749,753
Long-Term Liabilities	17,749,281		11,417,150

Current Assets

The increase in current assets is primarily the result of an increase in cash and cash equivalents and inventories which was partially offset by decreases in derivative instruments and accounts receivable at January 31, 2021, as compared to October 31, 2020.

Current Liabilities

The decrease in current liabilities is due primarily to a decrease in accounts payable and current maturities of long-term debt at January 31, 2021, as compared to October 31, 2020.

Long-Term Liabilities

Long-term liabilities increased at January 31, 2021, as compared to October 31, 2020, primarily due to increased borrowings on the Term Revolving Loan. This was partially offset by the forgiveness of the PPP loan on January 19, 2021.

Liquidity and Capital Resources

The ethanol industry experienced adverse conditions throughout most of 2018 and 2019 as a result of industry-wide record low ethanol prices due to reduced demand and high industry inventory levels. These adverse conditions continued into 2020 and were compounded by the COVID-19 pandemic. As a result of these factors, we have experienced negative operating margins, lower cash flow from operations and net operating losses. In response, we reduced our ethanol production levels by up to 25%. As conditions improved, we began increasing production levels to an annual rate of approximately 65 million gallons. We continue to monitor COVID-19 developments and the effect on demand for our products to make adjustments to production levels as warranted. Based on financial forecasts prepared by our management, we anticipate that we will have sufficient cash on hand, cash from our current credit facilities, and cash from our operations to continue to operate the ethanol plant for the next 12 months. We do not currently anticipate seeking additional equity or debt financing in the near term in order to fund operations. However, if market conditions worsen, we could be forced to make further reductions in ethanol production levels or even temporarily shut down ethanol production.

The following table shows cash flows for the three months ended January 31, 2021 and 2020:


	2021		2020
	(unaudited)		(unaudited)
Net cash used in operating activities	$	(1,572,663)	$	(1,164,628)
Net cash used in investing activities	(3,455,530)		(189,369)
Net cash provided by financing activities	6,939,596		1,224,058

Cash Flow From Operations

We used more cash for operating activities for the three months ended January 31, 2021, as compared to the same period in 2020. This increase was primarily due to changes in accounts receivables, accounts payable, inventories and accrued expenses for the three months ended January 31, 2021, as compared to the same period in 2020.

Cash Flow From Investing Activities

We used more cash in investing activities for the three months period ended January 31, 2021, as compared to the same period in 2020. This change was primarily due to an increase in capital expenditures due to our USP grade ethanol project during the three months ended January 31, 2021.

Cash Flow From Financing Activities

We had more cash provided by financing activities during the three months ended January 31, 2021, as compared to the same period in 2020. This increase in cash provided was primarily the result of increased net borrowings on long-term debt during the three months ended January 31, 2021, as compared to the same period in 2020.

Short-Term and Long-Term Debt Sources

Our loan facility with Compeer Financial f/k/a AgStar Financial Services, PCA ("Compeer") included a $15,000,000 Variable Rate Term Loan and a $20,000,000 Term Revolving Loan. On September 14, 2020, we amended our loan facility to add a term loan in the original amount of $6,000,000 (the "2020 Term Loan") to be used to fund certain improvements to the ethanol production facility. We paid $30,000 in commitment and amendment fees in connection with this loan. Our loan facility with Compeer is secured by substantially all business assets and also subjects the Company to various financial and non-financial covenants. Subsequent to our fiscal year end, on November 25, 2020, Compeer waived our violation at October 31, 2020, of the minimum debt service coverage ratio in our loan documents.

Term Revolving Loan

The Term Revolving Loan is for up to $20,000,000 with a variable interest rate based on the 30-day LIBOR rate plus 325 basis points with no minimum interest rate. The applicable interest rate at January 31, 2021 was 3.40%. The Term Revolving Loan may be advanced, repaid and re-borrowed during the term. Monthly interest payments are due on the Term Revolving Loan with payment of all amounts outstanding due on January 22, 2023. The outstanding balance on this note was $13,499,000 at January 31, 2021. We pay interest at a rate of 1.50% on amounts outstanding for letters of credit which also reduce the amount available under the Term Revolving Loan. We had no letters of credit outstanding at January 31, 2021. We are also required to pay unused commitment fees for the Term Revolving Loan

2020 Term Loan

The 2020 Term Loan has a variable interest rate based on the Wall Street Journal's Prime Rate plus 45 basis points with no minimum interest rate. The applicable interest rate at January 31, 2021 was 3.70%. Beginning January 1, 2021, monthly principal payments will be due on the 2020 Term Loan of approximately $250,000 plus accrued interest with payments of all amounts outstanding due on September 14, 2022. The outstanding balance on this note was $5,500,000 at January 31, 2021.

Covenants and Other Miscellaneous Financing Agreement Terms

The loan facility with Compeer is secured by substantially all business assets. We executed a mortgage in favor of Compeer creating a first lien on our real estate and plant and a security interest in all personal property located on the premises and assigned in favor of Compeer, all rents and leases to our property, our marketing contracts, our risk management services contract, and our natural gas, electricity, water service and grain procurement agreements.

We are also subject to various financial and non-financial covenants that limit distributions and new debt and require minimum debt service coverage and working capital requirements. Our debt service coverage ratio is to be no less than 1.25:1.00 measured annually by comparing our adjusted EBITDA to our scheduled payments of principal and interest. Our minimum working capital is $8,250,000, which is calculated as current assets plus the amount available for drawing under our Term Revolving Loan and undrawn amounts on outstanding letters of credit, less current liabilities, and is measured quarterly.

We are limited to annual capital expenditures of $5,000,000 without prior approval, incurring additional debt over certain amounts without prior approval, and making additional investments as described in the Amended and Restated Credit Agreement without prior approval of Compeer. We are allowed to make cash distributions to members as frequently as monthly in an amount equal to 75% of net income if working capital is greater than or equal to $8,250,000, or 100% of net income if working capital is greater than or equal to $11,000,000, or an unlimited amount if working capital is greater than or equal to $11,000,000 and the outstanding balance on the 2020 Term Loan is $0.

Presently, we are meeting our liquidity needs and complying with our financial covenants and the other terms of our loan agreements with Compeer except as to our violation, at October 31, 2020, of the minimum debt service coverage ratio requirement of 1.25:1.00 which was waived by Compeer on November 25, 2020. We will continue to work with Compeer to try to ensure that the terms of our loan agreements are met going forward. However, we cannot provide any assurance that our actions will result in sustained profitable operations or that we will not be in violation of our loan covenants or in default on our principal payments in the future. Should unfavorable market conditions result in our violation of the terms or covenants of our loan and we fail to obtain a waiver of any such term or covenant, Compeer could deem us in default of our loans and require us to immediately repay a significant portion or possibly the entire outstanding balance of our loans. In the event of a default, Compeer could also elect to proceed with a foreclosure action on our plant.

PPP Loan

In March 2020, Congress passed a stimulus bill called the CARES Act to provide economic relief related to the COVID-19 pandemic. One of the programs established by the Cares Act is the Paycheck Protection Program ("PPP"), authorizing loans to small business for use in paying employees that continue to work throughout the COVID-19 pandemic and for rent, utilities and interest on mortgages. Loans obtained through the PPP are administered by the Small Business Administration and eligible to be forgiven as long as the proceeds are used for qualifying purposes and other conditions are met. On April 14, 2020, we were awarded a PPP loan in the amount of $712,200. In January 2021, we received notification from the Small Business Administration that all loan proceeds received by the Company were forgiven. Due to the forgiveness of the loan, we recorded on a gain on debt extinguishment in the statement of operations for $712,000 for the three months ended January 31, 2021.

Capital Expenditures

On August 26, 2020, we entered into an agreement with Nelson Baker Biotech, Inc. to install a system which will allow us to produce hydrous USP grade ethanol for use in the hand sanitizer and sanitizer market. We commenced construction in November, 2020 and expect to complete the project during the second quarter of our 2021 fiscal year.

Critical Accounting Estimates

Management uses various estimates and assumptions in preparing our 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. Accounting estimates that are the most important to the presentation of our results of operations and financial condition, and which require the greatest use of judgment by management, are designated as our critical accounting estimates. We have the following critical accounting estimates:

Long-Lived Assets

We review long-lived assets for impairment whenever events or changes in circumstances indicate that the related carrying amounts may not be recoverable. Impairment testing for assets requires various estimates and assumptions, including an allocation of cash flows to those assets and, if required, an estimate of the fair value of those assets. Our estimates are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. These valuations require the use of management's assumptions, which do not reflect unanticipated events and circumstances that may occur. Given the significant assumptions required and the possibility that actual conditions will differ, we consider the assessment of carrying value of property and equipment to be a critical accounting estimate.

Inventory Valuation

We value our inventory at lower of cost or net realizable value. Our estimates are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. These valuations require the use of management's assumptions which do not reflect unanticipated events and circumstances that may occur. In our analysis, we consider corn costs and ethanol prices, break-even points for our plant and our risk management strategies in place through our derivative instruments. Given the significant assumptions required and the possibility that actual conditions will differ, we consider the valuation of the lower of cost or net realizable value on inventory to be a critical accounting estimate.

Derivatives

We are exposed to market risks from changes in interest rates, corn, natural gas, and ethanol prices. We may seek to minimize these commodity price fluctuation risks through the use of derivative instruments. In the event we utilize derivative instruments, we will attempt to link these instruments to financing plans, sales plans, market developments, and pricing activities. Such instruments in and of themselves can result in additional costs due to unexpected directional price movements.

We have entered into ethanol, corn and natural gas derivatives in order to protect cash flows from fluctuations caused by volatility in commodity prices. In practice, as markets move, we actively attempt to manage our risk and adjust hedging strategies as appropriate. We do not use hedge accounting which would match the gain or loss on our hedge positions to the specific commodity contracts being hedged. Instead, we use fair value accounting for our hedge positions, which means that as the current market price of our hedge position changes, the gains and losses are immediately recognized in our statement of operations. The immediate recognition of hedging gains and losses under fair value accounting can cause net income (loss) 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.

As of January 31, 2021, the fair values of our commodity-based derivative instruments are a net liability of approximately $464,000. As the prices of the hedged commodity moves in reaction to market trends and information, our statement of operations will be affected depending on the impact such market movements have on the value of our derivative instruments. Depending on market movements, crop prospects and weather, these price protection positions may cause immediate adverse effects, but are expected to protect the Company over the term of the contracts for the hedged amounts.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

We are exposed to the impact of market fluctuations associated with interest rates and commodity prices as discussed below. We have no exposure to foreign currency risk as all of our business is conducted in U.S. Dollars. We use derivative financial instruments as part of an overall strategy to manage market risk. We may 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.

Interest Rate Risk

We are exposed to market risk from changes in interest rates. Exposure to interest rate risk results primarily from our Term Revolving Loan and our 2020 Term Loan, each bearing a variable interest rate. As of January 31, 2021, we had $13,499,000 outstanding on the Term Revolving Loan and $5,500,000 outstanding on the 2020 Term Loan. Interest will accrue at the 30-day LIBOR rate plus 325 basis points for the Term Revolving Loan. The applicable interest rate on this loan at January 31, 2021 was 3.40%. The 2020 Term Loan is subject to a variable interest rate based on the Wall Street Journal's Prime Rate plus 45 basis points. The applicable interest rate on this loan at January 31, 2021 was 3.70%. If we were to experience a 10% adverse change in LIBOR, the annual effect such change would have on our statement of operations, based on the amount we had outstanding on our Term Revolving Loan and 2020 Term Loan at January 31, 2021, would be approximately $66,000. The specifics of each note are discussed in greater detail in “Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources.”

Commodity Price Risk

We expect to be 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 and the sale of ethanol and distillers grains. We may seek to minimize the risks from fluctuations in the prices of raw material inputs through the use of corn commodity-based and natural gas derivatives. These derivatives are not designated as effective hedges for accounting purposes. For derivative instruments that are not accounted for as hedges, or for the ineffective portions of qualifying hedges, the change in fair value is recorded through earnings in the period of change. Corn and natural gas derivative changes in fair market value are included in costs of goods sold.

In the ordinary course of business, we enter into forward contracts for our commodity purchases. At January 31, 2021, we have 1,518,317 bushels of forward fixed basis corn purchase contracts and 2,059,838 bushels of forward fixed price corn

purchase contracts valued at approximately $9,118,000. These purchase contracts are for various delivery periods through January 2022. At January 31, 2021, we have 3,066,525 MMBTUs of forward natural gas fixed price purchase contracts valued at approximately $7,435,000 for delivery periods through October 2023. In addition, at January 31, 2021, we have 414,000 gallons of forward fixed price denaturant purchase contracts valued at approximately $442,000 for delivery periods through June 2021.

In the ordinary course of business, we enter into forward contracts for our commodity sales. At January 31, 2021, we have 7,082 tons of forward fixed price dried distillers grains sales contracts valued at approximately $1,526,000 for delivery periods through March 2021. At January 31, 2021, we have 9,600 tons of forward fixed price modified distillers grains sales contracts valued at approximately $816,000 for delivery periods through August 2021. In addition, at January 31, 2021, we have 768,000 pounds of forward fixed price corn oil sales contracts valued at approximately $315,000 for delivery periods through February 2021.

These derivatives have not been designated as effective hedges for accounting purposes and are forecasted to settle within the next twelve months. We had losses related to corn derivative instruments of $140,143 for the three months ended January 31, 2021. We had gains related to corn derivative instruments of $38,355 for the three months ended January 31, 2020. We had gains related to ethanol based derivative instruments of $0 and $61,271 for the three months ended January 31, 2021 and 2020, respectively. We had gains related to natural gas derivative instruments of $0 and $6,321 for the three months ended January 31, 2021 and 2020, respectively.

As commodity prices move in reaction to market trends and information, our income statement will be affected depending on the impact such market movements have on the value of our derivative instruments. Depending on market movements, crop prospects and weather, these price protection positions may cause immediate adverse effects, but are expected to produce long-term positive growth for us.

A sensitivity analysis has been prepared to estimate our exposure to ethanol, distillers grains, corn and natural gas price risk. Market risk related to these factors is estimated as the potential change in income resulting from a hypothetical 10% adverse change in the average cost of our corn and natural gas prices and average ethanol and distillers grains prices as of January 31, 2021 net of the forward and future contracts used to hedge our market risk for corn and natural gas usage requirements. The volumes are based on our expected use and sale of these commodities for a one year period from January 31, 2021. The results of this analysis, which may differ from actual results, are approximately as follows:


	Estimated Volume Requirements for the next 12 months (net of forward and futures contracts)	Unit of Measure	Hypothetical Adverse Change in Price as of January 31, 2021		Approximate Adverse Change to Income
Natural Gas	1,493,000	MMBTU	10	%		$	383,701
Ethanol	66,000,000	Gallons	10	%		$	10,032,000
Corn	22,000,000	Bushels	10	%		$	11,308,000
DDGs	116,000	Tons	10	%		$	2,540,000

Item 4. Controls and Procedures

Disclosure Controls and Procedures

Our management is responsible for maintaining disclosure controls and procedures that are designed to ensure that information required to be disclosed in the reports that the Company files or submits under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. In addition, the disclosure controls and procedures must ensure that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required financial and other required disclosures.

Our management, including our Chief Executive Officer (the principal executive officer), Brian Kletscher, along with our Chief Financial Officer (the principal financial officer), Lucas Schneider, have reviewed and evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Exchange Act) as of January 31, 2021. Based on this review and evaluation, these officers have concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods required by the forms and rules of the

Securities and Exchange Commission; and to ensure that the information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to our management including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting during the three months ended January 31, 2021, which were identified in connection with management’s evaluation required by paragraph (d) of rules 13a-15 and 15d-15 under the Exchange Act, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

None.

Item 1A. Risk Factors

None.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

ISSUER PURCHASES OF EQUITY SECURITIES


Period	Total Number of Units Purchased	Average Price Paid per Unit $	Total Number of Units Purchased as Part of Publicly Announced Plans or Programs	Maximum Number of Units that May Yet Be Purchased Under the Plans or Programs
November 1, 2020 - November 30, 2020	4	5,500	—	—
December 1, 2020 - December 31, 2020		—	—	—
January 1, 2021 - January 31, 2021	2	5,500	—	—
Total	6	33,000	—	—

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosures

None.

Item 5. Other Information

None.

Item 6. Exhibits.

(a)The following exhibits are filed as part of this report.


Exhibit No.						Exhibit
31.1						Certificate Pursuant to 17 CFR 240.13a-14(a)*
31.2						Certificate Pursuant to 17 CFR 240.13a-14(a)*
32.1						Certificate Pursuant to 18 U.S.C. Section 1350*
32.2						Certificate Pursuant to 18 U.S.C. Section 1350*
101						The following financial information from Highwater Ethanol, LLC's Quarterly Report on Form 10-Q for the quarter ended January 31, 2021, formatted in XBRL (eXtensible Business Reporting Language): (i) Condensed Balance Sheets as of January 31, 2021 and October 31, 2020, (ii) Condensed Statements of Operations for the three months ended January 31, 2021 and 2020, (iii) Statements of Cash Flows for the three months ended January 31, 2021 and 2020, (iv) the Notes to Condensed Financial Statements and (v) Condensed Statements of Changes in Members' Equity for the three months ended January 31, 2021 and 2020.**

(+) Confidential Treatment Requested.

* Filed herewith.

** Furnished herewith.

SIGNATURES

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


		HIGHWATER ETHANOL, LLC

Date:	March 10, 2021	/s/ Brian Kletscher
		Brian Kletscher
		Chief Executive Officer
		(Principal Executive Officer)

Date:	March 10, 2021	/s/ Lucas Schneider
		Lucas Schneider
		Chief Financial Officer
		(Principal Financial and Accounting Officer)