Blueknight Energy Partners, L.P.
Q1 2016 Earnings Call Transcript

Published: 7 May 2016

[Operator:]

Good day everyone and welcome to the Blueknight Energy Partners earnings conference call. All participants will be in a listen-only mode. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions]. Please also note, today's event is being recorded. At this time, I would like to turn the conference call over to Brent Gooden, Blueknight Media Relations. Please go ahead.

[Brent Gooden:]

Hi. Thank you very much and good afternoon to everyone. It is my pleasure to welcome you to today's conference call, where we will discuss the Blueknight's financial and operating results for the first quarter ended March 31, 2016. On the call today will be Alex Stallings, our Chief Financial Officer. He will discuss our financial results. And joining him will be Mark Hurley, our Chief Executive Officer. Mark will update you on our operational performance, projects, opportunities as well as external factors influencing our business. And after their prepared remarks, Mark and Alex will be delighted to take your calls or your questions. Before we begin, I would like to remind everyone that information in this call may contain certain forward-looking statements that are subject to various risks and uncertainties. These risks and uncertainties include, among other things, uncertainties relating to the partnership debt levels, restrictions in our credit facility, our exposure to credit risk of our fourth-party customers, the partnerships' future cash flows and operations and future market conditions, current and future governmental regulation, future taxation and other factors. If any of these factors or uncertainties materialize or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those expected. Please refer Blueknight's SEC filings for a description of these and other risks and uncertainties that could affect our actual results. Blueknight undertakes no obligation to update or revise any forward-looking statements contained in this call, 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 24 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 operating segments, one asphalt terminalling services, crude oil terminalling and storage services, crude oil pipeline services and crude oil trucking and producer filled services. Now I am pleased to turn the call over to CFO, Alex Stallings. Alex?

[Alex Stallings:]

Thanks, Brent. Yesterday we reported financial results for the first quarter ended March 31, 2016. BKEP's adjusted earnings before interest, taxes, depreciation and amortization, EBITDA increased to $13.6 million for the first quarter of 2016, which was up from $12.9 million for the same period in 2015. Our distributable cash flow was $8.6 million for the three months ended March 31, 2016 as compared to $11 million for the three months ended March 31, 2015. Our fully diluted distribution coverage for the first quarter, typically our lowest quarter due to the seasonality of our asphalt terminalling segment, was 0.81 times versus a coverage of 1.07 times for the same quarter in 2015. Distributable cash flow and fully diluted distribution coverage were both impacted by $2.3 million of cash proceeds received in the first quarter of 2015 related to the sale of common units received in connection with the settlement of a 2008 claim with the previously related entity, as well as increased interest expense and the timing of maintenance capital expenditures in the first quarter of 2016. The partnership reported net income of $0.7 million on total revenues of $41 million for the three months ended March 31, 2016 versus net income of $1.6 million on total revenues of $42.4 million for the same period in 2015. BKEP previously announced a first quarter of 2016 cash distribution of $0.145 per common unit which is equal to the previous quarter's distribution and a 3.9% increase over the first quarter 2015 distribution. The partnership also announced a $0.17875 cash distribution per preferred unit. Additional information regarding the partnership's results of operations will be provided in the partnership's quarterly report on Form 10-Q for the quarter ended March 31, 2016 to be filed with the SEC later today. A few highlights for each of our segments. Asphalt terminalling services. The asphalt terminalling services segment had another strong quarter. The segment reported $11.2 million of operating margin excluding depreciation and amortization for the first quarter of 2016 which compares to $8.6 million for the first quarter of 2015 or an increase of 30% year over year. The increase was due to annual contract escalations and the acquisition of one terminalling facility in May of 2015 and two asphalt terminalling facilities in February of 2016. Crude oil terminalling and storage. This segment also had a very strong quarter as compared to the first quarter of 2015 and as compared to the fourth quarter of 2015. Operating margin excluding depreciation and amortization increased to $5.2 million for the three months ended March 31, 2016 as compared to $4.1 million for the first quarter of 2015 and $4.7 million for the fourth quarter of 2015. This performance represents a 27% year over year and an 11% increase over the fourth quarter of 2015. As discussed in previous quarters, our operating margin is impacted by the timing of storage contract renewals. Average storage rates during the first half of 2015 were lower than the average storage rates for the second half of 2015 which have continued into 2016. As contracts expired in 2015, we were able to increase storage rates to better reflect current market rates, increased demand and the change from the backwardated crude market curve which favors transportation to a contango market curve which favors storage. The transition of the slope of the curve took place in late 2014. Operating expenses in this segment for the first quarter of 2016 are lower as compared to the same period in 2015 primarily as a result of the timing of tank inspections and related maintenance and repair expense. Crude oil pipeline. Even though the total number of barrels transported on our pipeline systems increased 16% quarter-over-quarter, our pipeline segment's margin decreased to $2.1 million for the three months ended March 31, 2016 as compared to the three months ended March 31, 2015. The reason for the quarter-over-quarter decrease is that the first quarter of 2015 included $2.2 million of revenues related to a one-year temporary tariff that was being charged from June 2014 through May 2015 on certain barrels transported on our East Texas pipeline system under a throughput and efficiency agreement. The tariff returned to a lower rate in June of 2015. Crude oil trucking and producer field services. Operating margin decreased approximately $1 million for the first quarter of 2016 as compared to the first quarter of 2015. As discussed previously, this segment continues to experience great pressure from customers due to the decline in crude oil prices and volumes are challenged due to decreased drilling. Our aggressive cost cutting strategy and drive for efficiency did return this segment to profitability during the quarter ended March 31, 2016. Couple of other items I have mentioned, general and administrative expenses. G&A were $4.7 million for the quarter ended March 31, 2016 which compares to $5 million for the same period in 2015, which is a decrease of 5%. Asset impairment expense during the first quarter of 2016, we recorded a non-cash impairment charge of $0.3 million related to the recognition of the difference between the carrying value and fair value of excess equipment that is classified as held for sale at March 31, 2016 and was subsequently sold in April 2016. From a liquidity perspective, our consolidated total leverage was 4.2

[Mark Hurley:]

Yes. Thank you very much, Alex. I am going to spend a few minutes today on our overall results for the quarter and will then turn to current operations and our thoughts for the remainder of 2016. With respect to our quarterly results, we were very pleased with the report of a year-over-year increase in adjusted EBITDA. As Alex mentioned, adjusted EBITDA increased to $13.6 million for the first quarter of 2016 as compared to $12.9 million for the same quarter in 2015, which represents a 3% increase year over year. And while a 3% increase is typically not anything to get excited about, it does come at an extremely challenging time for the midstream industry. We believe this is a reflection of both our balanced asset portfolio coupled with recent investments we have made in additional fee-based terminal businesses and we believe this strategy will be our best avenue for future growth. I am extremely proud of our asphalt and crude oil terminalling segments, which have each increased operating margin more than 25% quarter-over-quarter. Our investments in the three asphalt terminals are helping to grow this segment and to-date these investments have performed above our expectations. Our asphalt terminalling benefited from annual contract escalations and the three asphalt terminal acquisitions made in 2015 and 2016. The crude oil terminalling and storage segment continued to benefit from the renegotiated contracts we put in place in the second half of 2015. We are very optimistic about the performance of the asphalt business going forward. The fundamentals are positive in this business and we believe this will lead to increased throughput at our facilities. We are seeing strong interest from current customers and potential new customers to increase capacity and we continue to look at acquisition opportunities. We are now looking at several possibilities and we are optimistic some of these will work out. The operating margin of this business has grown over 35% in the last three years, again proving to be an excellent hedge in the low-price crude oil environment. Turning to pipelines. Total volumes on our pipeline systems increased 16% quarter-over-quarter, which is another positive in this challenging market. Of particular note is the fact that volumes on our Oklahoma system, which transports crude from Southern Oklahoma to Cushing, increased year-over-year. However, the first quarter of 2015 did include $2.2 million in revenues attributable to a one-year increased tariff on our East Texas pipeline system that was in effect from June 2014 through May 2015. The tariff associated with this pipeline returned to a base rate beginning in June of last year. We continue to make progress on our Southern Oklahoma condensate project and expect this system to come online in fourth quarter of this year. We do want to point out, as mentioned in our upcoming 10-Q filing, that in late April we suspended service on our Mid-Continent pipeline system due to the discovery of a pipeline exposure caused by recent heavy rains and erosion of a riverbed in Southern Oklahoma. There was no failure of pipe or release of product. So this action was taken as a precaution until repairs could be put in place. Our operations group did an excellent job in responding to this situation. We have taken action to mitigate the service suspension and are working with customers to divert volumes. Our preliminary estimate of the financial impact for the remainder of 2016 is between $0.5 million and $1 million. As we have reported previously, our trucking and field services businesses are the most impacted by the downturn in crude prices and a reduction in drilling activity. Volumes and operating margins for our trucking and field services segment continue to be pressured as a result of the current market. But our organization has done a commendable job of managing costs in this area of our business while maintaining a high level of services. As we look forward, our goals for the rest of the year are very, very clear. We want to number one, maintain our balance sheet, number two, keep a laser-like focus on cost control, number three, successfully renegotiate our contract expirations coming at the end of this year and number four, continue to look for accretive acquisitions similar to the deals we have done over the last 12 months. Looking ahead, while cautious for the remainder of the year, our guidance for 2016 remains unchanged with adjusted EBITDA in the mid-60s. In addition, we remain committed to maintaining our 2016 distribution coverage above one. We will continue to evaluate our dividend on a quarter-to-quarter basis based on information available to us at the time, but we are committed to growing the distribution on a longer-term basis. Amy, that is the end of my prepared comments and we will now open it up for the Q&A.

[Operator:]

[Operator Instructions]. Our first question today comes from Tristan Richardson from SunTrust. Please go ahead with your question.

[Tristan Richardson:]

Good afternoon guys.

[Mark Hurley:]

Hi Tristan.

[Tristan Richardson:]

Just curious on the crew terminals space. I thank you for giving us a little bit in terms of contract expirations upcoming. Could you talk a little bit about in the out-years in terms of percentages of your capacity currently contracted either into 2017 or beyond? Is that something you can share?

[Mark Hurley:]

Yes. We are almost fully contracted through the end of this year. We have one smaller contract coming up for expiration in the fourth quarter. But then we do have several contracts that expire between the end of this year and mid-2017 and we are working on those as we speak.

[Tristan Richardson:]

Okay. That's helpful. And then just directionally, where you are seeing rates re-contracting now versus in mid-2015 when we saw that strongest period at contango?

[Mark Hurley:]

Rates are a tricky thing because rates vary depending on the volume of customer contracts and the duration and that sort of thing. So we try to get away from quoting rates. But I would say we are kind of at an average period. Over the last several years, we are in the middle-of-the-road as compared to the past. And so obviously, the contango affects the rates to a certain extent, but I would say we are in an average period compared to the past.

[Tristan Richardson:]

That's helpful. And then just one last one, in terms of M&A opportunities on the asphalt side. I know some of those are hard to find and you guys have had a lot of success over the past 12 months. Are there still opportunities out there? Are they easy assets to find?

[Mark Hurley:]

I think the model and the execution of the transactions that we had done in the last year have caught the eye of a lot of folks, existing people, existing customers or potential customers in the industry and I have been really pleasantly surprised by the receptivity to talking about similar deals going into the future. I think a year ago, we would have said these are pretty rare finds and so you have to look really hard. But if anything, in the last three to six months, I think we have seen an increase in interest in doing deals like this. So I am pretty optimistic actually. I think we have put a model out there that people are really opening up to and will be more receptive to in the future.

[Tristan Richardson:]

That's great. Thanks Mark. I will get back in queue.

[Mark Hurley:]

Yes. Thanks Tristan.

[Operator:]

Our next question comes from Matt Schmid from Stephens. Please go ahead with your question.

[Matt Schmid:]

Hi. Good afternoon guys.

[Mark Hurley:]

Hi Matt.

[Alex Stallings:]

Hi Matt.

[Matt Schmid:]

Just thinking about the pipeline segment, I guess even before the impact of the suspension of service in the Mid-Con, how should we think about a run rate there on operating margin? Is it sort of similar levels to 1Q before accounting for this suspension? Would that be fair in the near term?

[Alex Stallings:]

I think in the near term, that's probably right, Matt. I also think though that, remember last year we did not have any sales of pipeline loss allowances and so we do anticipate some of those this year that will probably occur in the second and third quarters of this year. So I do think you will see some of that. And beyond that, really our focus in the pipeline segment this year is to get our condensate project up and running and so we are spending some capital to reverse one of our systems. And so we do think that that has some potential upside out in the future, but I think in terms of base business, I think you are probably right to probably assume it's about the run rate that we experienced in Q1. But just know that that will be probably supplemented by some sales of PLA as we go over later into this year. And then again as we focus on late this year into 2017, we are looking at some other projects that we think will help drive additional margin to that segment.

[Matt Schmid:]

Okay. Thank you. That's helpful. And then as Tristan touched on too, the M&A activity has been very beneficial. It looks like these asphalt acquisitions have certainly been good to-date. Maybe Mark, could you outline potential future funding options and just the potential for additional general partner support?

[Mark Hurley:]

Yes. I think that the acquisitions that we have done previously we did within the credit facility and we had room to do that. And so we would look to fund any and these are relatively small and sub-$20 million kind of acquisitions and so we would look to fund as much as we possibly could or if we are comfortable funding within the credit facility. They are immediately accretive and with the economics that we execute these deals at. In the event we needed any GP support, I have no doubt they would help us out. Typically, these are not large enough to really need an equity raise, a public equity raise or anything. But I feel very confident we could get the funding through one avenue or another to do these.

[Matt Schmid:]

Okay. Great. That's all I had. I appreciate the color.

[Mark Hurley:]

Okay. Great.

[Operator:]

Our next question comes from Elliott Miller. Please go ahead with your question.

[Elliot Miller:]

Yes. I have two quick questions. Number one, what is the extent of the current unused capacity in both asphalt and crude storage?

[Mark Hurley:]

Right now in crude storage, we are fully utilized. We have all of our available tankage leased that we can lease. We typically don't have a tank out of service for routine maintenance and inspection and that sort of thing. But right now we have all of our tanks leased, all of our storage leased. In terms of asphalt, that's a tricky one because asphalt plants typically can ramp up volume pretty easily just by adding operating hours and staff and so it's hard to really identify what a nameplate capacity would be in the asphalt business. But we certainly have room to grow at existing facilities and that's good news for us because we think the market is very favorable for additional infrastructure and throughput. And so we can easily accommodate that existing throughput at the facilities that we have and we expect a pretty strong year in that regard.

[Alex Stallings:]

But all of our asphalt facilities, we have 45 asphalt facilities and they are all under contract. So they are all in use today and like Mark said, we do have the ability to run incremental product through there, but typically it's going to be leased. It's going to be a one customer per terminal type of the business versus the crude business, where you end up commingling a lot of product. There are a couple of exceptions to that but not many. But for the most part, we are fully leased or fully contracted on those as well.

[Elliot Miller:]

That's very helpful. The second quick question is, I noticed that your guidance for DCF coverage for the year is hopefully above one time. I was wondering in which quarters will the coverage pick up to make up for the first-quarter deficiency?

[Mark Hurley:]

Second and third is typically, it always depends on when the asphalt season really starts kicking in. But typically, I would tell you it's the second and third quarters. Sometimes it can be the third and the fourth quarters but typically it's going to be the second and third quarters depending on weather and just kind of the seasonality of that business. But it can be a little bit earlier than that or it can come a little bit later than that. But typically it's in two and third quarters.

[Alex Stallings:]

Yes. And I would like to emphasize that point for you, Elliott and others on the call, especially for those who haven't been following the story for very long. Ours is very seasonal business due to the asphalt segment. And so it is very common for the first quarter to be under a 1.0 coverage. I think if you exclude that legal settlement that we had last year, our coverage this year was almost identical to the coverage we had last year. And then we typically go well above one in the second and third quarters and then back down in the fourth quarter and that's a very common pattern for us. In fact, it is the pattern for us. And so it's important to note. We emphasize that a lot as we explain the company to investors.

[Elliot Miller:]

That's very helpful. Thanks very much.

[Operator:]

[Operator Instructions]. Our next question comes from Edward Spilka from Praxis Foundation. Please go ahead with your question

[Edward Spilka:]

Thanks for taking the question, guys. I have got a question about the terminalling. Could you give us a sense of the earnings impact if you could lock in the current rates on that portion of your portfolio that's going to be rolling over into the first half of 2017?

[Mark Hurley:]

The impact would be pretty close to what we are currently running at or maybe just a little bit less. Probably if you were to go back and look at Q4 of 2015 and look at that run rate, that's probably going to be a bit more typical of what it would be. That's just probably the best way to explain it.

[Edward Spilka:]

That reflects the pricing also though?

[Mark Hurley:]

That would reflect just a consistent amount of storage that's under contract at those average rates.

[Edward Spilka:]

Those average rates being what you are seeing in the marketplace right now.

[Mark Hurley:]

Yes.

[Alex Stallings:]

I think, to Mark's point, we really haven't seen a lot of change in the overall market rates, at least as compared to our overall weighted average rate.

[Edward Spilka:]

Okay. Thank you.

[Mark Hurley:]

Thank you.

[Operator:]

[Operator Instructions]. Our next question comes from Will Hardy from RBC.

[Will Hardy:]

I have got a question, if you don't mind elaborating more on the asphalt market. And is this going to be an exceptional year? Was last year an exceptional year? What do you see developing out there? Is it due to the National Transportation Bill or anything of that nature or none of the above?

[Mark Hurley:]

I think we are in the middle of a multiyear trend actually. We have seen volumes and the strength of the business pick up over the last two years. I think this year will be a very strong year as well. And it's really driven by a couple of things. One, obviously infrastructure spending that drives a lot of real construction and that sort of thing and that is generally picking up and particularly picking up in areas where we do business, the South, the Midwest and out West. We are seeing very strong markets there. A lower crude price really helps this business because it lowers the price of the raw material or of the asphalt itself and so states and contractors can afford to buy more product, which increases throughput through our facilities and part of our revenue is driven by that throughput. And so we think we are in a multiyear trend of improving business. How long could it last? Two, three, four or five years, would not be a surprise. So we think we are in a very, very good place and it's why the business has performed well and it's why we have a real priority to try and increase our presence in this business.

[Will Hardy:]

Thank you.

[Mark Hurley:]

Sure.

[Operator:]

Ladies and gentlemen, I am showing no additional questions. I would like to turn the conference call back over to management for any closing remarks.

[Mark Hurley:]

Okay. Well, thank you very much. We appreciate everyone calling in. We appreciate your interest in Blueknight. We feel very good about where we are in a very tough environment. So we think we have got a good story here and again appreciate your interest and if you have any follow-up questions after the call or in the next few days, please feel free to contact Alex and myself. So again, thanks.

[Operator:]

Ladies and gentlemen, that does conclude today's conference call. We do thank you for attending. You may now disconnect your lines.