Sprague Resources LP
Q2 2015 Earnings Call Transcript

Published: 9 Aug 2015

[Operator:]

Good day, ladies and gentlemen, and welcome to the Sprague Resources Second Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded. I’ll now like to turn the conference over to your host, Mr. David Glendon. Please go ahead.

[David Glendon:]

Thank you, Stephanie. Good morning everyone and welcome to the Sprague Resources second quarter 2015 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. Following my introductory remarks, Gary will review our financial results. I'll then open the call to questions. But first, I'd like Paul to provide our forward-looking statement disclaimer and discuss our use of non-GAAP measures.

[Paul Scoff:]

Thank you, Dave. As a reminder, 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. I would also like to remind listeners that we adjust our GAAP results for the unrealized portion of our derivative hedges and report adjusted EBITDA and adjusted gross margin. You can find a discussion of our use of these non-GAAP measures as well as reconciliations between these non-GAAP measures and their most comparable GAAP figures in our press release in the Investor Relations section of Sprague's website. Dave?

[David Glendon:]

Thank you, Paul. Sprague's second quarter results reflected solid operating performance and cemented a strong first-half of 2015. Refined Products' adjusted gross margin and distillate volumes continued to increase in the second quarter and for the first six months of the year Refined Products adjusted gross margins was up 32% versus 2014. Natural gas volumes rose this quarter and were 15% higher than in the first hour of 2014. Materials Handling delivered outsized performance in the second quarter as well thanks to our unique ability to leverage our terminal asset base in ways other traditional mainstream operators do not. For the six months ended June 30 Materials Handling adjusted gross margin was 28% higher year-over-year. We believe that our diversified midstream business model continues to offer compelling value proposition to MLP investors, especially in a volatile energy price environment. Collectively, Sprague's businesses are generating results well above last year's pace. Adjusted gross margin in the first half of 2015 was 22% above its comparable 2014 period. Adjusted EBITDA was 19% higher and distributable cash flow is $7 million or 15% higher than it was for the same period in 2014. Assuming normal market conditions for the remainder of the year we are reconfirming full-year 2015 adjusted EBITDA guidance between $105 million and $120 million and believe full year coverage will be well above our long-term target of 1.2 times. As a reflection of Sprague's performance year-to-date and in line with our previously issued guidance, we've raised our declared distribution to $0.4875 per unit, a 3.2% increase over the distribution paid in the first quarter and 14% above the year ago quarter, a pace is roughly double the distribution growth guidance we issued one year ago. Sprague continues to benefit from the acquisitions we made in the second half of 2014 and we are busy capitalizing on opportunities each one of them presents. Our teams are integrating systems and preparing to leverage their capabilities across wider customer bases, while also collaborating to take advantage of new assets and skill sets to cross-sell services. All this will deliver on Sprague's vision of being the energy supplier of choice to commercial and industrial customers. In addition, we are executing on several organic growth projects across our terminal network, including loading rack [ph] improvements at the Bronx, increased laydown space in Searsport and options for excess tankage at Kildair. Finally, our business development team is evaluating multiple potential transactions in both the public auction process as well as pursuing opportunities privately. Now I'll turn the call over to Gary for a more detailed review of our results.

[Gary Rinaldi:]

Thank you, David and good morning everyone. Sprague's second quarter results were in line with the expectations underlying our previously issued annual guidance and we remain pleased with our ability to generate strong year-to-date performance at high coverage while simultaneously keeping leverage within our long-term target range. Sprague's adjusted gross margin was $40.6 million in the second quarter of 2015, an increase of 30% compared to the year ago quarter. In the first six months of 2015, Sprague's business segments have produced $155 million of adjusted gross margin which is 2% higher than the comparable 2014 period. Second quarter adjusted EBITDA was $4 million a decrease of $700,000 year-over-year while year-to-date adjusted EBITDA has increased $10.8 million or 19% compared to the first half of 2014. And while distributable cash flow for the quarter was negative $4.1 million due primarily to CapEx project timing differences and treatment of incentive compensation that I will discuss later, out distributable cash flow in the six months period ended June 30, increased by $7 million or 15% to $54 million a record for Sprague. Sprague's operating expenses increased 15% to $2.3 million year-over-year to $17.6 million during the second quarter. The year-over-year increase was entirely due to operating expenses for our Bronx, New York terminal acquired in the fourth quarter of 2014. Sprague's SG&A cost increased $7.8 million in the second quarter of 2015 primarily due to the Castle and Metromedia acquisitions in the fourth quarter, increased professional service expenses associated with being a public company and the recent acquisitions and to a lesser extent, employer related costs. Now turning to our business segments. Refined product sales volumes decreased $17 million gallons or 6% compared to the second quarter of 2014. Net sales decreased 36% to $579 million as a result of lower volumes and commodity prices year-over-year. The decrease in total volume was primarily attributable to lower residual fuel export cargo volumes at Kildair and to a lesser extent lower wholesale gasoline volumes. In contrast to these declines Sprague's distillate volumes were higher versus the year ago quarter due to sales from our Bronx terminal. Refined products' adjusted gross margin increased $7.8 million or 43% to $25.9 million. Results were higher due to contribution from the Castle acquisition, improved margin performance in Kildair's refined products business and a more favorable market structure for holding inventory at our terminals compared to the end of last winter. For the first half of 2015 Sprague's refined products business segment has achieved 32% increase in total adjusted gross margin over the prior year. In our national gas business second quarter volumes were 6% higher than last year primarily as a result of the Metromedia acquisition or average selling prices were approximately 7% lower resulting in a decrease of net sales to $67 million 1% lower than the year ago quarter. Natural gas adjusted gross margin decreased to $1.4 million in the second quarter compared to the prior year. A combination of widening credit spreads on forward contracts and fewer optimization opportunities early in the second quarter out-weight the incremental adjusted gross margin earned on increased sales volumes. Finally, Materials Handling adjusted gross margin increased $2.7 million or 30% to $11.7 million. A major uptick in windmill component handling activity due to the reinstatement of a producer tax credit was responsible for the majority of the increase offset slightly by dry and liquid bulk stressful timing differences. Asphalt handling activities at our new Bronx, terminal and a full quarter of Kildair crude starts and handling revenue also contributed to the year-over-year quarterly gains. Turning to our balance sheet. Sprague's permanent leverage of 2.7 times or trailing 12-month adjusted EBITDA remains within our long-term target of between 2 to 3 times despite executing five transactions in 2014. Sprague's available working capital liquidity was $179 million as of June 30, which is traditionally when Sprague's refined products inventories and accounts receivable are the lowest. In the acquisition facility Sprague had $88 million of capacity at the end of the second quarter. In the fourth quarter of 2014 we paid down a portion of our acquisition facility with excess distributable cash flow and expect to do so again this year creating additional liquidity to finance growth opportunities. Sprague's distributable cash flow was negative $4.1 million compared to positive $3.5 million in the second quarter of 2014. Two factors were primarily responsible for the decrease. First, Sprague's second quarter maintenance CapEx was $3.2 million this year compared to $800,000 in 2014. Tank upgrades and dredging activity were responsible for the majority of this year's increase. You may recall from our remarks last year that extreme winter weather and other factors outside our control resulted in the delay of capital projects to the back half of 2014, understating 2014 second quarter maintenance CapEx compared to most years. Second, the board approved changes to Sprague's long-term compensation plan in the second quarter of 2014 which resulted in a one-time catch-up positively impacting distributable cash flow accounting for nearly all of this quarter's $3.6 million year-over-year variance. Please note that on a year-to-date basis, Sprague's incentive compensation expected to be paid in units remains in line with last year. While our second quarter coverage ratio was slightly negative, Sprague's distributable cash flow for the first half of 2015 by itself was equal to 1.3 times our expected full year distribution. And on a trailing 12-month basis Sprague's distribution coverage was a strong 2.1 times. Despite the year-over-year timing differences that I mentioned previously, this quarter is a good opportunity to remind everyone that the seasonal nature of Sprague's business is suspected to result in coverage ratios lower than one times in the second and third quarters. In addition, work on capital projects at our terminals which is typically focused in the non winter months is capable offsetting a healthy, but seasonally reduced operating results in the second and third quarters. Sprague's performance in the first six months of the year has matched our expectations and we are reconfirming our previous full year adjusted EBITDA guidance between $105 million and $120 million. We still expect maintenance CapEx to total between $7 million and $10 million for the year and assuming oil prices remain in the current range we believe our cash interest expense will range between $23 million and $26 million. As for distribution growth, we continue to discuss quarterly increases with the board and they remain supportive of our existing guidance to target one and a half cent in increases for the next 12 to 24 months. Please note that this guidance is based on assumptions such as demand for our products and services, weather and changes in market structure and does not include any contribution from possible acquisitions. Before concluding, I'm pleased to announce that during the second quarter two of our facilities reached significant milestones in continuous safer work days. Our Mount Vernon terminal reached 5000 days and our Twin Rivers facility accumulated 7500 continuous days of safe work. While the most important statistic is the safe work accomplished by each employee each day, these accumulated milestones reflect a safe work culture that is a credit to all of our operators, drivers and service technicians as well as to our field managers who provide the leadership that enables the crews to meet such high standards. The second quarter also provided insight into the decree that safe work also impacts efficiency as our Searsport terminal set new records to the amount of windmill components handled. In total 48 windmills consisting of 336 separate heavylift components were safely offloaded from ships, rail cars and trucks. 23 of those complete units were in turn loaded on to trucks for their destination atop mountain ridges in Maine. The Searsport crew also handled 122 natural gas pipes resulting in a total of $619 heavylifts during the quarter all safely completed in addition to the typical liquid and dry bulk cargo duties. I congratulate the Searsport crew for their dedication and commitment to safe work through the high operational demands of the second quarter. This concludes my remarks. I'll let David wrap up before we take questions. David? David Glendon Thank you, Gary. I'd like to thank all of the employees who have made the first half of this year successful and our unit holders for their support. I look forward to seeing many of you at our inaugural Analyst Day in September and I am happy to now open the call for questions.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from Dan Shin [ph] with MOV and Company. Your line is open.

[Unidentified Analyst:]

Hi good morning, guys. Just real two quick questions for you. First, I was kind of curious about the reduction in residual fuel exports at Kildair, I was wondering if you can give us some color on that and if it is something you expect long term?

[David Glendon:]

Sure sir, thank you. First the Kildair's heavy fuel business segment is made up of three separate business segments, one is the local and trade, two is submarine bunker, and three is the export business which is really incremental. We look at it that way. It is primarily tied to a consignment contract we've got with a major refiner where the Kildair is the op-taker for heavy fuel oil. So it's lumpy as far as the volumes are concerned. The first quarter volumes were way ahead of last year. The second quarter volumes were down. It is tied to the refinery run rates turnaround, but/or the crew slate that's been around and it will be up and down throughout the year. So it is not an indication of forward volumes.

[Unidentified Analyst:]

Great, now that's helpful. And just real quick, I was looking at your material handling, the first half you guys had some pretty strong numbers there and if you apply that to the second half of the year you kind of exceed that $30 million to $35 million run rate you have for that segment for gross margin. I am kind of curious, do you think we see a drop off as we get kind of in the winter months?

[David Glendon:]

Well, the second half of 2015 for material handling the run rate will be slightly below what the first half run rate is and so those should be a material change there.

[Unidentified Analyst:]

Okay and a total year basis, I mean do guys think you exceed that 30 to 35 or do you think you kind of…?

[David Glendon:]

No, we're right in line with that. We expect to be right in line with that.

[Unidentified Analyst:]

Okay, now that's helpful. Great, that's all I have, thank you.

[David Glendon:]

Thank you.

[Gary Rinaldi:]

Thank you, Dan.

[Operator:]

Our next question comes from Nathan Judge with Janney. Your line is open.

[Nathan Judge:]

Hi all, just wanted to kind of get an update on your backlog of acquisitions as you see in the market today given some of the pullbacks in prices and valuations. Is the market still robust, are you seeing still plenty of opportunities or as people kind are kind of shell-shocked up to side you outlined here a little bit?

[David Glendon:]

Nathan, this is Dave. We still see an active M&A market on both public auction processes and private transactions, hard to tell whether the – given the way the pullback of the last couple of days has led to some shell-shock or not, but we continue to have the same level of activity we have experienced over the last couple of years and we see candidly in the public process still that multiples remain pretty high.

[Nathan Judge:]

There have been some comments out by some of the larger cap companies about a lot of private equity capital being in the markets and perhaps anticipated given the work, the access to capital is generally, are you seeing that in the markets, I mean as it pertains to I think a lot of your activity acquisitions have been more, less out of auction and more one-on-one, but just a comment on what you are seeing there would be helpful? Thank you.

[David Glendon:]

I think you have seen some strong activity from private capital or private equity players in the markets in which we participate, most notably at least for us. Two major Northeast based terminals and marketing businesses have recently gone to private equity buyers despite active participation from MLPs and integrated majors in those processes. So yes, we have seen that transpire again certainly in the six months or so, Nathan.

[Nathan Judge:]

Thank you and just finally on your natural gas margins, obviously last year you had the polar vortex and things that were quite conducive for volatility, but as looking forward how would we think about this second quarter relative to normal I guess as a normal run rate?

[Gary Rinaldi:]

Yes, Nathan, Gary. Second quarter financial gas, from a commercial and operating standpoint the results were in line with what our expectations were, but there were a couple of things that impacted the results in the second. One is, as I mentioned in my comments, the widening credit spreads and the forward contracts particularly smaller customers, two AA rated customers and this relates for the comments out there ASC 820/FAS 157 were discounting forward contracts as the credit spreads have widened by about 2%. Okay, so that was the majority of the quarter-over-quarter change in the overall margin generation. And that should come back to us in future quarters as the contracts settle assuming no bad debts. The second thing was the strong winter of 2014 actually lingered into April and early May and so there was much less optimization opportunities cash out stature [ph] like we had the year before. So those were two big impacters to the margins.

[David Glendon:]

Yes, and Nathan just to add to that, so the business itself on an operational level as Gary indicated continues to perform as expected, customer count increasing, unit margins continuing to trend in the aggregate on an annual basis upwards.

[Nathan Judge:]

Sorry, just a followup on that again, as it relates to normal longer term is this kind of a new what we would think of a normal base or is this, it sounds like you are a bit more optimistic that will improve going forward or am I reading that wrong?

[David Glendon:]

No, well I think if you look the – if you calculate adjusted unit gross margins for the second quarter we don’t believe that's indicative of what to expect from that business going forward again given the accounting adjustments that Gary noted, the kind of core base margin in the contracts continues to trend in the appropriate direction.

[Nathan Judge:]

Got you, that's what I thought, thank you.

[Operator:]

And I'm showing no further questions. Thank you, ladies and gentlemen; that does conclude today's conference. You may all disconnect and everyone have a great day.