Sprague Resources LP
Q1 2018 Earnings Call Transcript

Published: 12 May 2018

[Operator:]

Good day, ladies and gentlemen, and thank you for your patience. You've joined the Sprague Resources LP Q1 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference may be recorded. I would now like to turn the call over to your host, President and CEO of Sprague Resources, Mr. David Glendon. Sir, you may begin.

[David Glendon:]

Thank you, Latif. Good afternoon, everyone, and welcome to Sprague Resources First Quarter 2018 Conference Call. Joining me today are Gary Rinaldi, our Chief Operating Officer and Chief Financial Officer; John Moore, our Vice President and Chief Accounting Officer; and Paul Scoff, our Vice President and General Counsel. Some of today's call will include forward-looking statements, which we believe to be reasonable as of today's date. Actual results may differ significantly because of risks and uncertainties that are difficult to predict. Please refer to our 10-K for an extensive list of risk factors, which could impact performance. We also describe our business using certain non-GAAP financial measures. Reconciliations of those measures to comparable GAAP measures are available in our earnings press release, which is posted to the Investor Relations section of our website. Several of Sprague's recent strategic acquisitions deserve mention. The 5 acquisitions that closed last year are positioned to deliver a full year's contribution in 2018, as we continue to evolve our business model to generate more ratable cash flow in an expanded footprint. Our most recent acquisition, Coen Energy, is providing a solid platform for future growth as we're focusing on opportunities to leverage the energy field services business within both existing and adjacent footprints. Kildair delivered another exceptional quarter as it builds on the outstanding performance of last year and positions itself for sustained growth going forward. In March, Kildair transitioned their asphalt marketing business with the completion of an agreement to lease asphalt storage under a long-term throughput arrangement with take-or-pay minimums, which aligns closely with Sprague's asphalt handling model. This mirrors recent projects at the River Road and Providence terminals where we are finding ways to repurpose storage assets to generate more contract-based cash flows with reduced seasonality. Supported by our continuing growth, the board of our general partner recently increased their distribution for the 16th consecutive quarter. Although the markets are not currently rewarding distribution growth, our strong balance sheet and solid coverage ratio allows us to maintain our track record of internally funding growth initiatives, while growing distributions. Now I'd like to turn the call over to Gary for a detailed review of our first quarter results. Gary?

[Gary Rinaldi:]

Thank you, David, and good afternoon, everybody. I'm pleased to report Sprague's financial and operational results for the first quarter of 2018. As David mentioned, we are now realizing the full potential of our expanded platform, with the recent acquisitions contributing to year-over-year growth at levels in line with our expectations. Based on our performance in the quarter, we are confirming all guidance ranges provided in March and as published in our investor update. Adjusted gross margin of $109.5 million for the quarter improved by $19 million or 21% compared to the prior year. Both Refined Products and Materials Handling posted substantial gains relative to 2017 and were the primary drivers of the increase. Refined Products adjusted gross margin included $4 million related to the retroactive reinstatement of the biodiesel tax credit. This is offset below the adjusted gross margin line as a reduction to adjusted EBITDA in 2018. Adjusted EBITDA of $55.1 million grew by $7.4 million or 16%. The increase in adjusted gross margin was partially offset by higher OpEx and SG&A expenses of $6.4 million and $1.6 million, respectively, driven by costs associated with the recent acquisitions.Adjusted EBITDA for 2018 is expected to be between $120 million and $140 million.Cash interest of $8.4 million increased $2.4 million over the prior year. The increase was the result of higher borrowing costs, increased debt levels related to the acquisitions and higher commodity prices, partially offset by hedges on our floating rate debt. Cash taxes of $2.4 million reflected an increase of $1.5 million, primarily from the continued strong results in our Canadian operations at Kildair, where lower tax depreciation and other tax benefits were utilized in prior year periods. We expect cash taxes for the year to be approximately $6 million. Maintenance CapEx in the quarter increased to $2.3 million with dredging activity and asphalt tank upgrades at our Searsport terminal, comprising the majority of the $700,000 increase over the prior year.Driven by the strong performance in Refined Products and Materials Handling, distributable cash flow improved by 8% to $43.2 million, generating distribution coverage of 2.4 times for the quarter. Now for discussion of our business segments. Although the year began strong with the cold weather that arrived late in December and continued into early January, temperatures moderated later in the quarter. This resulted in the quarter being 7% warmer than normal or comparable to last year. Despite this, Refined Products sales volumes grew by 22% over the prior year as several factors combined to contribute to the increase, including the impact of the recent acquisitions. A number of our competitors experienced supply constraints and terminal outages early in the quarter leading to market share gains in several key markets. Supportive weather during the same period generated increased spot sales of distillates and heavy fuel oil into the power generation sector. These dynamics, coupled with the reinstatement of the biodiesel tax credit and the Coen Energy acquisition, led to a 17% improvement in unit margins. The uplift in volumes and unit margins combined to generate adjusted gross margin in Refined Products of $56.3 million, an increase of 43% over the first quarter of last year. In Natural Gas, sales volumes for the quarter were flat year-over-year, while adjusted gross margin declined by $600,000 or 2% to $37.9 million. This was driven by lower unit margins as pipeline restrictions limited optimization opportunities. This was partially offset by enhanced margin generation during periods of high volatility connected to the sustained cold weather early in the quarter. In Materials Handling, adjusted gross margin grew by $3.2 million or 32% to $13.1 million. Increased asphalt handling resulting from the expansion capital projects at our River Road and Providence terminals were material contributors to the increase. In addition, timing differences related to dry bulk handling and increased heavy lift activity also contributed to the strong results. Sprague's performance in the first quarter further supports our ongoing commitment to maintain a strong balance sheet and ample liquidity. During the quarter, permanent leverage declined to 3.1 times and the combined liquidity in our working capital and acquisition facilities exceeds $300 million with an additional $470 million available in accordions. This provides us with the flexibility to cease acquisition opportunities and finance near- to medium-term growth without the need to issue equity. At this point, I'd like to open up the call for questions. Thank you.

[Operator:]

Thank you, sir [Operator Instructions]. Our first question comes from the line of Justin Jenkins of Raymond James. Your line is open.

[Justin Jenkins:]

So just want to start here, maybe, David. Couple of questions to your thoughts on the product markets, especially on the distillate side. First question is how you see that market playing out may be into the shoulder season and beyond, if you got low inventories across the U.S. and especially so in the Northeast where your asset footprint is? Just curious if there are any pluses or minuses you see in that part of Sprague's business as we move through 2018?

[David Glendon:]

So first quarter and even early in the second quarter presented some interesting conditions in the distillate marketplace, as Gary referenced. The first couple of weeks were exceptionally cold and some very challenging supply conditions, which created some nice opportunities for us. And then, unfortunately, February decided to not show up this year. And then -- but as you probably observed, April has been actually almost as cold as February this year and certainly colder than normal, which has created some better conditions for us as well on the distillate side of the heating fuel side, in particular. The other thing you've got to balance is, there is a conversion of sulfur specifications in many of the Northeast states occurring in the June period of this year. So while we're trying to leverage the incremental sales opportunities we're seeing in the heating fuel, we're also in a point where we're trying to balance the transition to ultra-low sulfur heating fuels in many of the Northeastern states. So it's been a great -- some interesting dynamics kind of have been that presented up a little bit of incremental opportunity for us, but you don't see that much heating oil demand in the May-June time frame anyways, so.

[Justin Jenkins:]

Appreciate that, David, and your comments on transitioning sulfur markets in heating oil kind of plays into my question here. We've got IMO 2020 on the horizon, seems like we're all expecting a step change in diesel demand over the next 18, 24 months, and maybe, some challenges, to say the least, in the resid and high-sulfur fuel oil market. How does that impact Sprague? And what do you think these changes mean?

[David Glendon:]

Yes, we don't have much of a participation in the bunker fuels fills market today, Justin. We do minimal bunker fuel marketing in a couple of harbors. So I agree with you, we're going to see – we're on cusp of dramatic change in terms of demand for marine gas oil vis-à-vis the heavy sulfur fuel oil. I think it will play out closer to the 2020 transition rather than in the next year. So clearly, refiners are affected in the next year, but from a market's perspective, I think we'll see a closer to 2020 play out. And you're going to see huge spreads, I think, between higher sulfur fuel oil and the marine gas oil, which for a nimble competitor like us, candidly can present some opportunities as well.

[Justin Jenkins:]

No, that's great. Appreciate that color. And then, maybe you mentioned this in the answer a little bit, but I'm curious if there's been any change in terms of how you see the distribution and growth outlook you guys have provided markets rewarding different things like you mentioned. But that does that change the capital allocation process at all? You guys have been really consistent in terms of ratable growth, optimizing the asset base and opportunistic M&As. Is that still the right way to think about it?

[David Glendon:]

Yes, I think that's fair, Justin. Again, we, and I'm sure others, are frustrated by the lack of credit you get for any sort of distribution growth today. So it continues to be a board-level conversation. But as we've stated many times on this call, we believe in being consistent in doing, in executing on what we said we're going to do. So, and we do think that ultimately our strong performance over an extended time period will be rewarded.

[Operator:]

[Operator Instructions] Our next question comes from the line of Andrew Burd of JP Morgan. Your question please.

[Andrew Burd:]

First question regarding the five acquisitions last year, how those have been tracking relative to the expectations that were laid out when each of those was announced?

[David Glendon:]

Andrew, it's Dave. I would say, in general, they're tracking pretty much right on with the expectations in all cases. Some, up a touch. Some, down a touch. But generally speaking, the 5 are right on pace collectively with what we articulated at the front end, with one just note to make. I know we're clear about it at the outset, but the Capital Terminal acquisition was a little bit delayed in generating the cash flows. And we said, the ultimate EBITDA associated with that was a couple of years out in terms of the run rate. So we're still on track for that, but if you're just doing a simple math of adding up what we said each one will generate EBITDA, recall that capital was a delayed contribution.

[Andrew Burd:]

But achieving the full...

[David Glendon:]

But on track, yes.

[Andrew Burd:]

Run rate is essential that you expected. Yes. And then regarding those 5 terminals. I guess, first part of the question is you did mention the Coen acquisition, there is some attractive opportunities and maybe if you could expand on that. And then the second part of the question is have you incrementally seen any opportunities at those, at the other 4 acquisitions, whether it be Materials Handling or elsewhere?

[David Glendon:]

So Coen, the most recent one, you're right. And recall the primary business of Coen is energy field services business, which is providing fuel into the frac sites. And so we are seeing some consolidation in the customer marketplace there, which we think will provide incremental opportunity. We're also seeing, candidly, as I'm sure you're seeing, continued strong growth in the Marcellus, Utica, Natural Gas exploration and production activities. So it's doing what we thought it would do, and we're seeing that as opposed to a couple of years ago, where it might have been a little bit more of a Wild West phenomenon, you're seeing consolidation of the E&P activities, which we think will lead to consolidation opportunities for folks servicing those customers. So again, I think we see impressive growth opportunities there. On the others, there's been a couple of modest investments in, or incremental investments beyond the initial capital contribution for the acquisitions, but nothing material, Andrew. I think they're all on track for what we articulated at the front-end.

[Operator:]

Our next question comes from the line of Mike Gyure of Janney. Your line is open.

[Michael Gyure:]

Can you guys talk a little bit about your growth CapEx for the remainder of the year, and I guess, what you still have left to do may be in the different segments?

[Gary Rinaldi:]

As you know, last year, we had significant growth expansion CapEx of about $26 million, $27 million range in, with two large projects. One, relates to the Capital acquisition at East Providence, coupled with the Providence CapEx and the other is at Kildair with MGO. And also -- we also had asphalt expansion at River Road in, as I mentioned, Providence. 2018, we're projecting to be kind of back to where we historically have run, which is at the $5 million to $10 million range. And right now, we're expecting to be in around $8 million range. But we're always looking for additional growth expansion capital projects. So hopefully, that will actually increase as the year goes on. But right now, we're back to what our traditional run rate has been.

[Michael Gyure:]

And then I think you touched on it a little bit in the commentary about the Refined Products volumes. But I guess,, the volume increased about 22% year-over-year. How much of that is really acquisitions versus kind of the core business and kind of the segments? You kind of highlighted, I think, distillates was one and heating oil was probably other.

[Gary Rinaldi:]

A majority of the volume increase, Michael, is related to the acquisitions. Though in first quarter -- early in the first quarter, volumes were very strong as I mentioned in my comments, as it relates to constraints and terminal outages from some of our competitors.

[Operator:]

At this time, I'd like to turn the call back over to Mr. Glendon for any closing remarks. Sir?

[David Glendon:]

Thanks, Latif, and thanks to everybody for joining today. We look forward to seeing many of you later in the month at the MLPA Conference in Orlando as well. Thanks.

[Operator:]

Thank you, sir. And thank you, ladies and gentlemen. This does conclude your program. You may disconnect your lines at this time. Have a wonderful day.