Blueknight Energy Partners, L.P.
Q3 2017 Earnings Call Transcript

Published: 1 Nov 2017

[Operator:]

Good day. And welcome to the Blueknight Energy Partners Earnings Conference Call. All participants will be in listen-only mode [Operator Instructions]. After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Alex Stallings, Chief Financial Officer. Please go ahead.

[Alex Stallings:]

Thanks, Rachel, and good afternoon. It’s my pleasure to welcome you to today’s conference call where we will discuss Blueknight’s financial and operating results for the third quarter ended September 30, 2017. I’ll provide a brief update on financial results, and Mark Hurley, our CEO will update you on operational performance, our announcement regarding recent acquisitions, projects, opportunities and external factors influencing our business. I should also mention that Brian Melton, our Chief Commercial Officer is also joining us today. We will then take your questions after our prepared comments. Before we begin, I would like to remind everyone that information on this call may contain certain forward-looking statements. Statements included in this call that are not historical facts including, without limitation, any statements about future, financial and operating results, guidance projected or forecasted financial results, objectives, timing, project timing, expectations and intentions and other statements that are not historical facts, are forward-looking statements. Such forward-looking statements are subject to various risks and uncertainties. These risks and uncertainties include, among other things, uncertainties relating to the Partnership’s debt levels and restrictions in its credit facility, its exposure to the credit risk of our third-party customers, the Partnership’s future cash flows and operations, future market conditions, current and future governmental regulation, future taxation and other factors discussed in the Partnership’s filings with the SEC. If any of these risks or uncertainties materializes, or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those expected. The Partnership undertakes no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. Blueknight Energy Partners LP is a publicly traded master limited partnership with operations in 26 states. We provide integrated terminalling, storage, gathering and transportation services for companies engaged in the production, distribution and marketing of crude oil, asphalt and other petroleum products. We manage our operations through four reporting segments

[Mark Hurley:]

Thank you, Alex and thanks to everyone who dialed in today. I will begin my comments with our acquisition news from yesterday. We announced two acquisitions at the close of business. The first being the anticipated Ergon drop down that we originally signaled in 2016 when we completed the Ergon purchase of the GP. In this transaction, which is scheduled to be completed by December 1, we'll be acquiring their site in Bainbridge, Georgia. The site produces asphalt and emulsions sold into the Georgia, Florida and Alabama markets. The site includes 200,000 barrels of storage and is under contract to a larger creditworthy counterparty, well established in the asphalt business. It is also a new customer focus. So we are excited to be establishing a new business relationship that we hope to grow in the future. The second acquisition is a 245 acre site in Muskogee, Oklahoma. This site located on the Arkansas River includes 500,000 barrels of asphalt storage, and approximately 150 acres of undeveloped land. Blueknight will operate this site, which will be under long term leases with two asphalt customers, both of whom are highly creditworthy with a strong presence in the regional market. Of particular note is the 150 acres of available land, which we intend to develop for additional customers and products. The location of the site makes it a very attractive growth opportunity for us, for Blueknight, which we will begin marketing immediately after the close of the transaction. We're very excited about both of these transactions. And once closed, our asphalt footprint will grow to 56 terminals across 26 states, and we are not done. We continue to work on additional terminal acquisitions as well as some newbuild opportunities. As for asphalt business results year-to-date, we had another solid performance in the third quarter; although, we have been impacted by weather more this year than in recent years. We got off to a slower than usual start to the painting season in the second quarter and the bad weather followed us into Q3. The industry, however, has the capacity to catch up. And so we are seeing strong volumes through the first part of the fourth quarter. Operating margin in our asphalt segment was up 20% in the first nine months of 2017 as compared to the same period in 2016. Switching to the crude oil side, and starting with storage. Cushing inventories continue to remain well above the five year average, and we remain fully contracted. We see demand for storage remaining strong. However, the relatively flat forward price curve has impacted our terminalling and storage business segment during the first nine months of the year. Customers have been content to maintain barrels of storage, but have not been as active moving barrels through the terminal system. So we have seen less throughput revenue as a result. But as I said before, we have an excellent terminal, one with great connectivity and excellent blending capability. And we strive to provide customers with the best service they can get. For these reasons, we have an excellent track record of keeping our terminal fully contracted. The lower price crude oil environment has also had its impact on our crude oil transportation businesses. However, the recent price trend upwards has caused us to start seeing some increased demand for trucking services, particularly in the STACK region. Volumes have been increasing and we're starting to see some price support as well. We've downsized our fleet and the scope of our trucking business, over the past two years, to really focus on our core Oklahoma footprint. And I believe this will serve us well, going forward. Over to our pipeline business. Volumes on our Oklahoma mainline have remained steady, and I would expect to see some volume growth on this system, going forward. As we have mentioned previously, our second Oklahoma system is out of service and with this system down, we have seen lower crude oil transportation markets. However, we are progressing on our route that we have confidence in and expect to resume service during the second quarter of 2018. In addition to our efforts, the start of our condensate pipeline out of the SCOOP area, we're also concentrating on the STACK play for additional pipeline and transportation growth. Producer economics in the STACK are on a par with the Permian and we see long term sustained growth there. We also think the area needs additional pipeline capacity into Cushing, and we're working with producers and marketers in the area to develop a project. Finishing up, I would like to review our 2017 strategic objectives and check progress. We had three key objectives for the year; one, focus resources on the completion of our light crude oil pipeline project; and increase utilization of our crude transportation assets, both pipeline and trucking. We are expecting the light crude pipeline to be up in the next few months, and we have been working on a number of exciting potential opportunities are coming together quickly, as we approach year-end. We hope to be in a position to discuss these in more detail soon. We expect to ramp up volumes on both the Oklahoma pipeline systems in 2018. And as discussed above, we have seen trucking volumes stabilize and slightly increase as of now. Second objective was to continue to identify and execute strategic growth projects, including potential acquisitions of product terminals or synergistic crude oil pipeline assets. And as we announced yesterday, we've entered into agreements to acquire two asphalt facilities in Bainbridge, Georgia and Muscovy, Oklahoma. We also have additional terminalling projects we are working on that include asphalt, as well as other products. Third objective was to continue to maintain a solid financial position and balance sheet. As you know, the MLP market continues to be very challenged. We continue to stress the uniqueness of our asset portfolio, and believe it will continue to perform well. And we will be able to maintain a reasonable balance between growth and overall financial strength. Finally, our fully diluted distribution coverage for the third quarter of 2017 was 1.3 times versus the coverage of 1.49 times for the same quarter in 2016. Our leverage ratio for the third quarter was 4.38 times and we maintained our common unit distribution at $0.145 for the quarter. Rachel, I will now turn it back over to you for the Q&A session.

[Operator:]

Thank you. We will now begin the question-and-answer session [Operator Instructions]. The first question comes from Matt Schmidt with with Stephens. Please go ahead.

[Matt Schmid:]

Maybe on the storage rates, understanding that the future curve is flattening in and shifting a little towards backwardation. Moving forward, is it fair to expect closer to that $4 million operating margin, or just how should we think about that? What ultimately the impact could be of the monthly rates?

[Mark Hurley:]

We’ve seen the cycles over the last five to 10 years we know how to bracket the rates and what we expect to get out of our storage segment. What we’re really carried right now was a pretty flat curve, and it does impact the overall storage rates that you can get. It’s a little more complicated than that in terms of just looking at the spread, because we also have throughput revenue and we have a number of customers who are -- who really have more operational storage than those who just sit with play the contango market. So while the general trends will be rates being down and with a flat forward curve, it does, so like I said, more complicating than that and we get some more benefit from those throughput terminals or throughput and barrels through the tunnel. I want Alex to comment on the…

[Alex Stallings:]

I think, to Mark’s point, I mean really the margin that you see in Q3 is reflective of really two primary things; one is obviously rate; the other is throughput. That’s really where we generate our two revenues. And really what's interesting is and really through the third quarter, we’ve had less of an impact this year as a result of changes in rate. The larger impact has actually just been decreased throughput revenues, because people are just pretty much sitting on barrels of Cushing. And when we typically get -- once barrels leave our terminal, we’ll get a throughput fee and really what we seeing this year is that’s a little bit more dramatic of an impact and the rates that have on us this year. So overall, when we think about going forward and looking at ’18, I think that I would be fairly conservative on the forecast for 2018 in that segment. But I can’t tell you whether it’s because of a rate impact or whether it’s because of a throughput impact. My expectation is if prices continue to go up or you see it go a little bit more backward then we’ll have a pretty good pickup in throughput, even though you might have a decline slightly in storage rate. So I sure wouldn’t -- I wouldn’t move it very far off of what you saw for Q3. What I am saying is, I think that’s probably a decent run rate, just knowing it could go maybe up slightly from where it is right now in Q3.

[Matt Schmid:]

And then shifting over to the acquisition, it's good to see the third party acquisition. Maybe could you just give a little bit more color on the opportunities to further develop that acreage? You mentioned developing or potentially marketing potential additional terminals, so that’d be an asphalt terminal or any other type of product. And just potentially I know it’s very early stages the timeframe for that process.

[Mark Hurley:]

Well, great question. One of the things that really appeal to us about that acquisition was the fact that it came with so much land, and it’s in a fairly active part of the river there. It’s heavily industrialized, commercialized area right there. And so in doing our due diligence on the site, we did uncover some potential opportunities and some interest that others have had in doing something at that side with the previous owners. It didn’t happen to fit their business model they were much more interested in selling and developing. But it is one of the things that really appeal to us. Now, as far as what that could be, I don’t think there will be a lot more asphalt capacity because there is some there and we have another site, actually not too far from the site we’re acquiring that also has some asphalt capacity. So I think any asphalt expansion would be fairly minimal. However, it’s got obviously the access to the river, which is very active river there in Oklahoma. It has ability to bring in rail, so we’ll use it as very attractive site. And it could be any number of things. It could be both goods, it could be fertilizer, it could be pipe, it could be any number of things. And like I said, we know of some interest. And so it was one of the things that really appealed to us about site, and we will be getting after that as soon as we close.

[Operator:]

The next question comes from Tristan Richardson with SunTrust. Please go ahead.

[Tristan Richardson:]

Mark, if could you just give us maybe a commercial update on condensate line starting up in the next few months. Just curious commercial efforts and how that would suggest of timing of a ramp in terms of volumes on that line once you’re up and running?

[Mark Hurley:]

As far as the construction period, the project itself is actually very simple project. We have to do more across the river, that’s the most in ballpark of that project. And then there is some pipe work and some pump work. But it’s all pretty small scale. So it’s a very cheap project for us to do, it’s less than $5 million. That pipe originates in a town or area called Mayville, which sits right on the edge of SCOOP play in Oklahoma and right on the South edge of what they’re now calling merge, which is where the SCOOP and the STACK come together. And the merge is actually getting a lot of attention because the production economics there have been very favorable. So we think we’ve got a pipe that originates in a very favorable spot. Once operational, that pipe has a capacity of about 25,000 barrels a day. We see the volumes starting out in the 5,000 to 8,000 barrel a day range but in our models, getting up to the maximum over 12, 18, 24 month period. We have obviously kept into contact with the producers and marketers in the area. So we know there is an interesting getting that pipe up and running. We have not altered the process of contracting volume, simply because it's such a cheap project for us to do and we know the interest is there. And so we do think the volume will be there once we get operational.

[Alex Stallings:]

And then, Tristan, from a forecasting perspective, I’m really showing that becoming operational in the second quarter of 2018 and ramping up from there. But having said that, I think, we’re actually working on some other things to try to get some. We have a little bit of capacity to left on the Oklahoma system that is running. And so we’re also going to try to be focused on ramping up those volumes as well even prior to second quarter of 2018. But really with respect to the light crude with the condensate project, I’m forecasting start to begin ramping up after and really the second quarter of ’18.

[Tristan Richardson:]

And then, Alex, the leverage you mentioned and the availability on the revolver. Was that as of 9/30 or is that a pro forma for the announcement?

[Alex Stallings:]

No, the leverage I mentioned was actually at -- it was more bank covenant leverage and that was at -- its 9/30. Actually our debt that you’re seeing on our balance sheet or you will see on our balance sheet at the quarter, we’re actually -- our debt levels were actually down from where they were at 9/30. So I would expect that same leverage number to be about what we carry, maybe a point or two less as we get to year-end.

[Tristan Richardson:]

So said another way, even pro forma for the announced acquisitions, the covenant leverage should be flat with the amounts you announced or you talk about…

[Alex Stallings:]

Yes, flat or slightly down, yes, based on the way we’ve talked about financing the acquisitions.

[Tristan Richardson:]

And just last one for me. Alex, just on the maintenance CapEx budget, I know small but you kind of revise downward in terms of the amount you think you’ll need to spend this year implies maybe a lower number for 4Q than what you guys said previously. Curious so that's just the shift in schedule or if there's anything specific going on there?

[Alex Stallings:]

There really isn't. We're doing what we need to do, from a maintenance perspective. Some of it maybe timing, but we're actually pretty good on schedule with getting the projects that we had wanting to getting done this year, getting done this year. So we've had moved some projects up as some other projects maybe a slip. But we're going to try to do what we can to be pretty close to those amounts by year end. So we're actually trying to get a few more things done, maybe this year. And so we don't have to really do it next year.

[Tristan Richardson:]

And then just last one from me at a high level perspective of the sponsor, it's interesting to see them show some supportive moves, taking units in the transaction also, some of the insiders buying over the past several months. Curious just as you look into next year, how you see financing of the planned second terminal drop and then just prospects for potential of other assets down the road.

[Alex Stallings:]

We're taking opportunities where we can. But I mean the Ergon guys have been very supportive and very willing to take equity and will encourage you that, yes, I think the equity too at your current yield, which is not a bad statement, these are same statement. But I also think it sets us up for some optionality. I think, Mark, has alluded to the fact that we do have some projects that we're considering right now. And if you have to issue equity the most efficient way to do it is going to be with your sponsor, I mean, particularly when it's real tranches. So we look at this opportunity as we didn't have to issue equity but we chose to just go and do it, sponsor will take it, because we think it sets us up for little bit more optionality as we look into '18, because we have some things in progress that we just really want to be able to execute on and have some powder and not have to go back to the equity markets unless we have something of significant size. So it really was something that this provide us with little bit more optionality even though we didn't have to do it, because as you know, we've taken in some proceeds this year from some asset sales. And really I look at this is it's just really replacing those assets that we sold this year much better returns, but we did take an opportunity to really be mindful of our leverage and hopefully this provide us a little bit more optionality as we consider projects in '18. So that other drop down that we’ve talked about, which is the larger drop down than the one we're dropping down this year, I mean, it gives us some flexibility as to how we finance that transaction. We won't necessarily have to look to equity to do that.

[Operator:]

The next question comes from Mike Gyure with Janney. Please go ahead.

[Mike Gyure:]

Can you guys maybe talk a little bit, I guess longer term how you think of the acquisitions, and the asphalt business seems to be certainly where the acquisitions are today. I guess, do you view that business as continuing to grow or do you see the other parts of your business -- you're doing potentially acquisitions there to balance out the portfolio? Or I guess maybe just strategically what you're thinking there?

[Mark Hurley:]

So as you know, anyone who follows the company knows that our asphalt business has been a very strong part of our overall portfolio. We've got a unique place in the market. We've being an independent operator of these terminals, a number of highly creditworthy companies. We've been able to do acquisitions at fairly low multiples when you compare acquisitions that are being done in other places. The only downside to continuing down that path is that they tend to be limited in number. So as you look at the last three years or so, this is the third party acquisition that we've done or know that that is not Ergon acquisition that we've done. And it’s simply because they don't come along at a much faster frequency than at higher frequency than that. But we will continue to look for those. We're looking at another one out. We're also looking at a new build opportunity where we will build a terminal and operate it for a future customer. And we really like that project. But as the Company has evolved on the asphalt side and the crude oil side, we think we've got a real competency around terminalling, in general. And so, we have a number of people in the Company who have experience with products other than asphalt and crude oil. And so we really want to build on that competency and get into other product areas. And I think you might see us do that because we've got such a large footprint on the asphalt side that our management structure is now nationwide, and we can bring new assets into the company very efficiently. So we really -- one of the things we've done, from a strategic standpoint, is gotten much more aggressive at looking outside just the asphalt or crude oil window. As far as growth in other areas, we really want to build on our core business, our core crude oil business, in Oklahoma. We think we're lucky to be sitting on one of those -- two of the three most productive shale plays in the United States with the SCOOP and the STACK. The STACK has been getting a lot of attention here lately. We are very interested in doing something there and really expanding that Oklahoma footprint and making it a very-very strong growing business for us going forward. And so between expanding that terminalling network and growing that Oklahoma crude oil business, that's where our focus is right now. And once we get some -- see some more progress in those areas, we will start to possibly look outside at other shale plays and other opportunities, but we're seeing a lot of opportunities. And right now, we've got our hands full dealing with those. So that's our growth plan going forward.

[Mike Gyure:]

And then maybe one more on the acquisitions or the potential acquisitions here. I think you said one of them -- there was a new customer associated with the terminal and then the other one had two customers. Are those all new customers, or are there those existing customers as well?

[Mark Hurley:]

Two of those customers are new to us. Of the three customers involved in those two acquisitions, two of them are new to us and one is a company that we have been doing business with for a while.

[Operator:]

The next question comes from Josh Godin with J. P. Morgan. Please go ahead.

[Josh Godin:]

I have a question and I'm hoping that you can clarify. On the terminal business, for crude as well as asphalt, can you talk broadly and generally if you have any inflation step escalators and how those transpire as time goes on? Thank you.

[Mark Hurley:]

On the crude oil side and we talk a lot about this actually in our investor presentation. So if you haven’t seen it, you might want to go grab a copy and where we talk about differences in commercial structure. On the crude oil side, contracts tend to be shorter in duration, anywhere from say one to three to five years with the norm being probably in the two to three year range. And generally speaking, those contracts do not have escalators. However, they come up for renewal more frequently. On the asphalt side, those contracts do -- almost 100% have escalators built into storage rates and throughput rates and that sort of thing. And they also tend to be longer in duration, say five to 10 years in duration. So high level, those are the differences and that's how that works.

[Operator:]

The next question comes from David Rocksharp from Raymond James. Please go ahead.

[David Rocksharp:]

We've seen a few MLPs starting to cut their dividends here, especially this last year or so. I'm a retail broker. Are you guys reasonably comfortable where your distribution is at? I know you got some coverage here, but that's slipped a little. I guess on the same token, if you already have looked to see some increase in the distribution over the next year or two?

[Mark Hurley:]

You'll probably get both of us responding to that. Hopefully, we'll say similar things. Well, longer term, we definitely want to be in to a, grow the distribution mode. We like to get it balanced between working down our debt and increasing our distribution. We’ve done on a number of acquisitions here in the last say year and year and half and so we have elected to keep our distribution flat to help fund those acquisitions. One of the things we want to see in the market in general is that we like to see distribution increases get rewarded in the market. And what we -- three-four years ago, we used to see that. And I think over the last couple of years, we’ve seen company’s increased distribution and in some cases decreased distribution without much of an impact on unit price. And so -- but we do think that long term having good coverage, say 1.1 when a consistently increasing distribution and working down the debt is where we want to be and that’s how we are long-term playing. And so I’ll ask Alex to…

[Alex Stallings:]

That’s the same thing. I mean, what has been frustrating to Mark’s point is you haven’t seen much of an impact, whether people are increasing, decreasing, cutting significantly, it’s a little still curious as to why there is no seemingly no direct impact, maybe seeing people decreasing the growth and the dividend. So I think right now we feel comfortable where we are. But I don’t think they’ll see us to be really aggressive growing the distribution until such time as we get the coverage, to Mark’s point, about 1.1. We like the leverage somewhere in 37.5 to 38, 39 range. So those are really the two things we’re focused on. And then I think once we’re at those levels then we do consider growing the distribution again.

[David Rocksharp:]

Where is your leverage at currently?

[Alex Stallings:]

It’s currently, I think we said 4.38, is where it is. And that will trend a little bit down at year end as our debt number actually less than what you’ll see on the balance sheet today.

[David Rocksharp:]

Have you guys at all considered -- I agree with you. The market hasn’t rewarded the yield where you are at. Have you considered all retiring -- buying back some units on a small basis to cut the share count off?

[Mark Hurley:]

We think about that. You’ve seen a couple of companies go out there and do that. But right now, we still think we’ve got some projects that we can do at better than buying units back type of return. But I think it's consideration down the road. If we still don’t see any movement, we still see the yields where we are than we definitely -- we definitely kick that around from time-to-time but right now I think there’s better uses for that access flow.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Mark Hurley for any closing remarks.

[Mark Hurley:]

Well, first of all, I want to thank everyone for dialing in. We’re very excited about the acquisitions we did yesterday. We’ve got a number of those similar kinds of things we’re working on now, and we hope to be taking about those in upcoming earnings calls. So once again, thank you and we look forward to talking again soon. Thanks.

[Operator:]

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.