Sprague Resources LP
Q3 2017 Earnings Call Transcript

Published: 7 Nov 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to the Sprague Resources LP. Q3, 2017 Earnings Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and our instructions will follow at that time. [Operator Instructions]. I would now like to introduce your host for today’s conference Mr. David Glendon, Sprague Resources, President and CEO. Mr. Glendon, you may begin.

[David Glendon:]

Thank you, Shirley [ph]. Good afternoon, everyone, and welcome to Sprague Resources third quarter 2017 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. While Sprague believes these statements to be reasonable as of today's date, future results are subject to many risks and uncertainties that are difficult to predict and outside of management's control. Any forward-looking statements we make are qualified by the risk factors in our most recently filed SEC Form 10-K and future filings with the SEC. Sprague Resources LP undertakes no obligation to publicly update or revise any forward-looking statements as a result of new information, future events or otherwise. You can find a discussion of our use of non-GAAP measures as well as reconciliations between these measures and their most comparable GAAP figures in our earnings press release on Form 8-K with the SEC as well as additional disclosures and reconciliations in the Investor Relations section of our website. While conditions in our refined products business were challenging in the third quarter, I’m nonetheless pleased with Sprague’s ability to leverage our solid balance sheet to fund organic and acquisition growth, both of which are expected to continue our track record of delivering strong returns to unit holders. Our recent investments will increase ratable cash flow and lessen the impact of weather and distillate market structure which of these presented headwinds this year. Notably, our acquisitions of the Carbo’s Capital terminals primarily generate throughput fees from committed gasoline tenants. In the case of capital, while conversion activities were delayed, we start earning throughput income this month. At Carbo, we’ve recently identified additional investment projects to further grow cash flows of the facility above our original business case. I’m especially jazzed about a recently closed Coen Energy transaction. Not only does the purchase significantly expand our geographic footprint, but it greatly enhances our commercial fueling capabilities. Coen is continuing to experience strong growth in serving the natural gas exploration and production activities of the Marcellus and Utica regions of P Pennsylvania, Ohio and West Virginia. Our teams provide specialized on-site fueling to drilling equipment on the pads, a trusted task earned through Coen’s outstanding service and safety record. This business benefits from strong customer loyalty, and demonstrates a demand profile tied to drilling activity levels rather than heeding degree days, supporting our push towards more ratable cash flows. Just one month into our ownership experience we’ve already identified promising additional growth projects. While we expect acquisition activity to slow somewhat from this years space, our pipeline remains active. Sprague’s balance sheet ample liquidity and low permanent leverage positions us for continued growth, and we don’t anticipate a need to issue additional equity anytime soon. Finally Sprague remains committed to growing distributions to unit holders by $1.05 per unit per quarter at least until the end of 2019. In line with this guidance our general partner recently declared a third quarter distribution of $62.25 per unit, representing 11% increase over the distribution paid for the third quarter of the prior year. As of the end of the third quarter, our trailing 12-month coverage was a solid 1.1 times. Given the anticipated impact of our recent acquisitions, combined with prospects for more normalized degree days, during the upcoming heating season, we expect full year 2017 coverage to increase to between 1.2 to 1.3 times. I’ll now turn the call over to Gary for a review of our third quarter results. Gary?

[Gary Rinaldi:]

Thank you, David, and good afternoon, everybody. Adjusted gross margin and adjusted EBTIDA for the third quarter were down $6.3 million and $5.2 million respectively. The reductions were driven by a decline in our refined products segment, increased operating expenses in M&A costs related to the recent acquisitions, partially offset by lower SG&A expenses. Sprague’s operating expenses of $16.9 million increased by $1.2 million compared to the prior year, primarily due to the recent acquisitions. Reductions in stockpile expenses in our Materials Handling business and boiler fuel expense across our terminal network were partially offset by increased repairs and maintenance costs, insurance and utilities. Full year OpEx is expected to be within our previously issued guidance of $69 million to $74 million. SG&A expenses for the third quarter decreased $2.2 million and $17.6 million. Reductions in incentive comp and professional fees were partially offset by increased expenses related to the five acquisitions, including M&A cost which exceeded $700,000 for the quarter. On a year-to-date basis, M&A related expenses are $1.7 million driven by the increased acquisition activity this year. For the year, we expect SG&A expenses to total between $87 million and $92 million reflecting a $3 million decrease to both ends of the range. Cash interest of $5.4 million declined slightly due to lower working capital that partially offset by higher interest rates Cash interest for the year is expected to be at below end of the $25million to $29 million range. Maintenance CapEx for the third quarter of $4.3 million increased by $1 million driven primarily by terminal activity as well as IT system upgrades. As we indicated last quarter, full year 2017 maintenance CapEx is expected to be at below end of the $14 million to $17 million guidance range and maybe below depending on the timing of certain material capital projects at year end. Distributable cash flow for the third quarter was $4.3 million, a decline of $6.7 million dollars year-over-year. The decrease reflects lower adjusted EBTIDA as well as increases in maintenance CapEx and cash taxes. Distribution coverage on a trailing 12-month basis remains at 1.1 times and as David indicated, we expect coverage for the full year to be at 1.2 to 1.3 times. Although performance for the quarter fell short of expectations, our second and third quarter results often experience magnified changes relative to the prior year, due to seasonally low activity levels. Having said that our focus continues to be on the execution of the strategies that have driven our growth in recent years. In refined product, sales volumes for the third quarter were up 6% compared to the prior year with notable gains in distillates, heavy fuel oil and asphalt. At Kildair, we continue to see positive results from last years conversion of heavy fuel oil capacity to distillate stores supporting our marine diesel and bunker fuel business. These overall volume gains were partially offset by lower gasoline volumes in a difficult environment for unbranded marketers like Sprague. Refined products and adjusted gross margin for the third quarter of $32 million declined $6.7 million or 17% as our volume metric increase was more than offset by a weaker environment for carrying inventory, lowering adjusted unit margins. Positive results at Kildair including an uplift in the asphalt adjusted gross margin partially offset the decline. In our natural gas segments, volumes for the third quarter were down 7% to 11 billion cubic feet with a few large volumes, low margin customers accounting for more than half of the volume decrease. Natural gas adjusted gross margin for the quarter, still improved by 15% to $3.2 million. This increase was primarily the result of basis gains partially offset by reduced supply optimization opportunities. Next in our Materials Handling business, adjusted gross margin of $11.4 million improved marginally, increasing 1% relative to the prior year. Increased handling and throughput volumes at Kildair, as well as higher pulp handling activity at Portland were offset by resupply of timing differences related to the soft handling across multiple terminals. As we have indicated consistently, Sprague has a two-pronged growth strategy. We grow our business through acquisitions as well as organically by identifying and executing on optimization opportunities within our existing terminal network. This year we have done both in a material way. In addition to the five acquisitions already closed this year, a number of expansion capital projects have been completed and brought online with others targeted for completion before year-end or positively impacting 2018 on a full year basis and beyond. Several of the large projects will generate additional returns by repurchasing access distillate and heavy fuel oil storage to more productive and profitable asphalt and gasoline storage, backed by long-term throughput agreements. These are just a few of the many expansion capital projects completed or underway this year, with a number and scale of the projects including increased capital requirements of Providence and East Providence as well new projects at Carbo and the recently completed

[David Glendon:]

Thanks, Gary. I’d like to close with an exciting customer experience development. In volatile markets, pricing movements and the timing of order execution can have a dramatic impact on our customers’ profitability. In 2003 Sprague became the first wholesaler in the Northeast to offer dynamic online pricing to the Sprague real-time platform, enabling customers to reduce risk and enhance profitability. In 2011, we expanded SRTs functionality providing the best-in-class online experience in the industry. Last month, we broke the mold again with the launch of a mobile app allowing customers to access SRT at any time from any mobile device, a critical feature to many of our owner operator customers, who are often out making deliveries. Customer adoption of the mobile app has been robust. During the month that SRT mobile has been available customers have logged into the mobile app thousands of times to receive market updates and purchase products. And nearly 10% of our wholesale customer base have already executed purchases on the app. The successful launch of SRT mobile demonstrates the ongoing drive of the Sprague team to innovate, which is embodied in a new tagline, our energy makes the difference. Now, I’d like to open the call for questions.

[Operator:]

Thank you. [Operator Instructions] Our question comes from Justin Jenkins with Raymond James.

[Justin Jenkins:]

Great. Thanks. Good afternoon, guys. I guess if I could maybe start with the strategic question. You mentioned in your prepared remarks David that – and you guys are certainly been clear over time about the distribution growth profile over the next couple years, but I'm curious as to how you way that strong growth outlook with the market that unfortunately doesn’t seem to be giving credit for that growth slightly. I guess any high level thoughts that you can provide on the balance of that growth versus higher coverage over time?

[David Glendon:]

Yes. Good question, Justin. I’ve certainly seen others certainly making note of that, right, that the markets not rewarding growth. Our perspective is decidedly a long-term one which is to be consistent over time and meet the expectations we set out first. So we’re not candidly having lots of conversations quarterly as to whether we should be continuing that practice or not. It's based on long-term belief system that slow and steady with the race and that practice will be rewarded over time. So, we might reach at point at which I come back with different guidance. But I don’t think so. Again, we think that that's – that will be ultimately recognized by investors.

[Justin Jenkins:]

That’s great. David, appreciate the response. And then maybe shifting gears, certainly we’ve seen a lot of changes in the refine products market over the past couple months, some big prices, some shifts in the forward curve and especially so on the distillate front inventories are as tight as we’ve seen and in a few years. Just curious on your thought of set up to winter and how maybe a tight inventory picture could exacerbate volatility which tends to be good for you, guys?

[David Glendon:]

Very good question Justin, as your point out, the market has shifted quite a bit from – it had been a very modest contango throughout most of this year to a slight and potentially larger backwardation. You’re right, distillate inventories now in the north-eastern, where 35 million barrels which is 70 million barrels lower than last year at this time, so that's pretty dramatic. And so that tightness is set up to if and when and obviously October wasn’t a good start to the winter, but if and when we get some real demand profile we do expect to see material volatility in the Northeast distillate markets. So candidly we welcome the backwardation we’re seen coming into play because it means that logistics expertise such as his resident here has real value in that environment as opposed to a modest contango environment where everybody sitting at inventory and willing to move it at relatively low margins which is what we've experienced over the last six months or so.

[Justin Jenkins:]

Perfect. Okay. Thank you.

[David Glendon:]

So it still need weather, Justin but its common. Today's the first time, I think, we had to wear jacket in the Northeast the Northeast, so we’re optimist.

[Justin Jenkins:]

And then Gary, I think you hinted that this maybe in your ending prepared remarks, but just curious on if you could provide maybe any initial color on the 2018 outlook or maybe ask different way, what we might think of is kind of “normalized” full year run rate of EBITDA given the number of transaction you’ve completed in the growth projects based in our service?

[David Glendon:]

Well, Justin, yes. Good question. We’re going to be prepared to provide guidance for 2018 in the next call, okay, the first quarter. We’ll get through kind of 2017. There is – we’ll see how year closes out. We’ll have a full year of the five acquisitions and we just have the recent coal [ph] and energy acquisitions in the fourth quarter. So the full year of the five acquisitions and you know with the normal weather forecast in our EBITDA run rate we’ll be better prepared to talk about it on the next call. Okay, we’ll provide guidance on the next call.

[Justin Jenkins:]

Fair enough. I appreciate the responses guys.

[David Glendon:]

Thanks, Justin, appreciate the questions.

[Operator:]

Thank you [Operator Instructions] Our next question comes from Mike Wire [ph] with [Indiscernible]

[Unidentified Analyst:]

Yes, good afternoon guys. Can you talk a little bit about I guess the Coen acquisition and maybe the potential growth projects you see coming in that business and specifically I guess what you are thinking about changing there or just growing our sort of what the opportunities are there?

[David Glendon:]

Yes, good question, Mike. And just to step back a little bit. Sorry, I’m getting a little bit of background noise, but I’ll presume that you are not getting that. The current transaction we were excited about because of a few factors. One, we are expanding into adjacent geographies as we’ve mentioned in the past, that’s been an objective of ours and reducing exposure to heating degree days with this acquisitions. We’re also able to leverage our logistics expertise through this acquisition given that a lot of the activities are in commercial fueling and fueling on the frac pads and particularly the benefit from that logistics expertise, so we are quite excited about the potential there. Coen has been growing rapidly in the Marcellus and Utica formation kind of piggy backing on the underlying growth in the E&P activities in that area, sorry for – I’m getting real echoes here, so if I’m getting a little bit thrown, please accept my apologies. So what we are seeing there now is really they are establishing a franchise with the E&P companies in the region and gaining share based on their ability to operate safely and efficiently on the pads, which is of utmost importance to the operators of the fracking equipment. So when I mentioned the growth activity it’s really continuing to gain opportunities to go onto additional fracking sites and participate on side their customers there.

[Unidentified Analyst:]

Great. Thanks very much.

[David Glendon:]

You’re welcome, Mike.

[Operator:]

Thank you. Ladies and gentlemen, thank you for participating in today’s question and answer session portion of the call. I would now like to turn the call back over to management for any closing remarks.

[David Glendon:]

No particular closing remarks. We appreciate making the time to join us today and look forward to updating you in the future. Thank you.

[Operator:]

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program. You may all disconnect and have a wonderful day.