Sprague Resources LP
Q4 2015 Earnings Call Transcript

Published: 10 Mar 2016

[Operator:]

Good day, ladies and gentlemen and welcome to the Sprague Resources' Fourth Quarter and Year End 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 be given at that time. [Operator Instructions]. As a reminder, this call is being recorded. I'd now like to introduce your host for today's conference, David Glendon, President and CEO. Please go ahead.

[David Glendon:]

Thank you, Kath. Good afternoon everyone and welcome. 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. We'll then open the call to questions. But first, 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 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. Today I am pleased to announce that Sprague has posted outstanding full year financial results and enters 2016 in a very strong position. Despite declining commodity prices throughout the year and warm weather during the fourth quarter Sprague continues to check the box on every metric MLP investors find important, whether it is outstanding operating results generating above average distribution growth, a cushion of high coverage, a strong balance sheet with declining leverage from already modest levels or completing strategic acquisitions without the need to access public capital markets, Sprague has met those tests in style. Sprague remains active in the pursuit of compelling growth and continues to see opportunities in each of the business segments. 2015 was Sprague's best year ever. Outstanding execution by our teams combined to produce a 13% increase is Sprague's adjusted gross margin to $276 million, boosted adjusted EBITDA by $5 million to $110 million and generated distributable cash flow of $90 million, 20% above 2014's total and a record for Sprague. The strong cash flows provided for our seventh consecutive quarter of distribution growth, a 13% increase over the distribution announced one year ago, consistent with our stated guidance and nearly double the pace we expected to generate when we first became a publicly traded partnership in late 2013. Even more compelling, however is the fact that we've grown the distribution, while simultaneously keeping coverage materially higher than our long-term target of 1.2 times. On December 31st, our trailing 12 month distribution coverage was 2.1 times. Each of Sprague's business segments are contributing to our success. For example, Sprague's Materials Handling business produced 21% higher adjusted gross margin in 2015 by leveraging our existing assets and making smart CapEx investments at compelling return multiples. This outperformance was driven by the full year of crude storage revenues at Kildair as well as handling an increased number of windmill components in Searsport. Both of these results were only made possible by the creative thinking of our commercial teams and the operational excellence of our terminal operators. 2016 will bring even more examples of investing in and evolving our terminal assets to support new service offerings. At River Road we will invest $1.6 million to streamline our offloading operations in order to offer customers new vessel unloading capabilities. At Kildair we will complete the $4.5 million overhaul of two storage tanks and return them to distillate service. I am consistently impressed with the ability of this business to find innovative uses for our terminal assets and produce ratable cash flows, which diversify our overall results. In our natural gas business we continue to grow our footprint in product offerings while leveraging our logistics and scheduling expertise over larger customer base. While cash market volatility was more muted in 2015 compared to 2014, our overall adjusted gross unit margins for the year still finished at $0.90 per dekatherm more than 15% higher than 2013 highlighting the progress we've made in executing our down market growth strategy with smaller commercial users of natural gas. As we begin this year, our efforts are focused on integrating our most recent acquisition of approximately 1,000 new natural gas customers from Santa Buckley Energy. We expect that purchase which includes many marquee institutional and government accounts within our core footprint will provide solid cash flows in the coming year and lower the realized multiple paid on the transaction, as we displace their previous dependence on outsource supply and logistics. For Refined Products 2015 produced adjusted gross margin of $170 million, a record for this segment and a substantial 17% increase over 2014 results, primarily due to the 2014 purchase of the former Castle business. Last winter we were able to serve our customers with uninterrupted supply during an unprecedented number of natural gas interruptions and the Bronx terminal has certainly proven to be the local operational base we always sought to support our extensive transportation fuel contracts throughout the Tri-State area. At the end of the year we went live with an extensive rack upgrade and automation project at the terminal and we're confident will result in more customer business in the years ahead. For the second year in a row Sprague sold more than 10 million barrels of contracted products to our customers over our proprietary real-time marketing platform and we continue to make investments in the platform to increase that total. In what may turn out to be a lower for longer environment for energy prices, is value in Sprague's ability to fuel the growth of commercial and industrial businesses. The assets and expertise needed to meet this energy demand are only becoming more complex, which I believe affords Sprague an even larger competitive advantage in the future. Gary?

[Gary Rinaldi:]

Thank you David and good afternoon everyone. I'm pleased to be reviewing Sprague's outstanding performance with you today. As David mentioned Sprague has never produced more adjusted gross margin, adjusted EBITDA and distributable cash flow than it did in 2015. Our distributions are growing by double-digit percentages annually, coverage remains well above our long-term target, our balance sheet is strong and growing stronger as we financially delever with excess operating cash flows. We have continued to show an ability to find meaningful acquisitions outside of the public auction process. And we have successfully integrated the three acquisitions made in the fourth quarter of 2014. Sprague's fourth quarter results were strong despite a warm November-December impacting heating oil and natural gas volumes in our core operating footprint. Sprague's total adjusted gross margin was $70.8 million for the fourth quarter marginally higher than a year ago. For the full year Sprague's adjusted gross margin was $276 million, 13% higher than 2014 and a record for the company, as higher Refined Products and Materials Handling results offset lower margins in our natural gas business. Fourth quarter adjusted EBITDA was $30.3 million, 1% above the year ago, while full year adjusted EBITDA set a record of $110 million, 5% higher than 2014's total and well within our guidance range that we provided last March. Sprague's operating expenses increased $700,000 quarter-over-quarter to $17.1 million during the fourth quarter and was $8.5 million or 13% higher for the full year. Our acquisition of the Bronx terminal in late 2014 was responsible for the majority of the increase, partially offset by lower operating expenses at Kildair and decreased utility maintenance insurance expenses across our terminal network. Sprague's SG&A costs increased a nominal $250,000 in the fourth quarter compared to a year ago, as higher costs related to the Castle acquisition in the fourth quarter of 2014 and certain employee related costs were offset by significantly lower M&A insurance expenses. SG&A expenses were $18 million higher than 2014, primarily due to our three acquisitions, professional service expenses associated with them and higher employee related costs. Finally Sprague posted a 2.5 times coverage ratio in the fourth quarter by generating $28 million of distributable cash flow, a 32% -- 30% more than a year ago set a record for the year by generating $89.7 million of distributable cash flow 20% higher than 2014. Including increasing our distributions to unitholders by 13% Sprague still managed to end the year with a trailing 12 month distribution coverage of 2.1 times, slightly higher than last year's strong coverage. This accomplishment was made possible by the distributable cash flow generated from each of our strategic 2014 acquisitions. In addition to Sprague managing maintenance CapEx and cash interest expenses well within our guidance ranges. In an environment with increased emphasis on balance sheets, Sprague's financial foundation is strong as a result of our operating results. We're not dependent on capital markets to achieve meaningful distributable cash flow growth. We have demonstrated our ability to fund organic growth projects many times over and our permanent leverage continues to decline from already modest levels. While components of our business certainly are weather sensitive and have a seasonal cash flow profile, we have nonetheless delivered two consecutive years of double-digit distribution growth while maintaining greater than 2 times coverage. Far from sacrificing distribution growth or balance sheet health Sprague is actually delivering both to its unitholders. Sprague's permanent leverage was 2.5 times, our trailing 12 month adjusted EBITDA down 11% from the end of the third quarter and at the low end of our long-term target of 2.5 to 3.5 times. We have achieved lower leverage financially delevering our balance sheet with excess operational cash flows not through equity issuance. Between December 2014 and the end of 2015 Sprague had paid down $57 million of acquisition debt. In February of this year we paid down an additional $36 million from excess cash flows. Please note that $93 million of the permanent debt pay down in little more than 14 months, essentially covers the purchase price for each third-party acquisition we have made since our IPO. We are now positioned to redeploy that capital into additional growth opportunities. Sprague's working capital liquidity was $187 million as of December 31st and $117 million remains available in our acquisition line. I'm pleased to announce that this morning we have finalized the concerted effort with our lending syndicate to increase the liquidity available to us in our acquisition line by invoking $150 million accordion. This increase supports Sprague even more capacity to fund meaningful acquisition growth in 2016 and in addition modified certain conditions in our credit facility to provide additional flexibility and reflect our recent growth strategies. I view the support we receive from our syndicate as a strong show of confidence in our business model and capabilities which stands in stark contrast to the energy news headlines we have seen crude prices began to fall. Now turning to our business segments. In our Refined Products business fourth quarter adjusted gross margin increased $2.2 million to $46.3 million, 5% higher than the fourth quarter of 2014 reflecting a full quarter uplift from the acquisition of Castle, the retroactive reinstatement of the biodiesel blenders tax credit and a more favorable market structure for heating oil and heavy fuel oil. These results were partially offset by fourth quarter sales volumes compared to a year ago. While warmer temperatures in the Northeast reduced the amount of distillate heating fuel sold, the majority of the volumetric variance was a combination of lower heavy oil exports from Kildair, reduced sales of residual fuel to New England power plants ahead of winter and lower gasoline sales. For the full year of 2015 Sprague's total Refined Products sales volume was essentially flat at 1.7 billion gallons, as higher distillate fuel volumes associated with our purchase of Castle offset reductions in our sales of heavy oil and gasoline. As I have mentioned before, weaker heavy oil demand in not surprising and we are not in the habit of chasing unprofitable gasoline sales simply to boost volume totals. We are pleased with the ability of our distillate sales to more than offset those declines. Higher distillate volumes have been driven by last year's acquisition of the Castle business, and a positive customer response to our wholesale offerings of ultra low sulfur heating and transportation fuels at our Bronx facility as well as our expansion into the locally delivered building management market. For the year our Refined Products adjusted gross margin rose by $24.4 million to a record $170 million a 17% increase compared to 2014. Adjusting net margins rose 15% to average more than $0.10 per gallon for the year, proving once again our belief that our marketing business model built on strategically located assets, supply and logistics expertise and the culture of product and service innovation generate superior returns versus a tolling throughput model over time. In natural gas adjusted gross margin for the fourth quarter decreased $2.5 million to $10.4 million as a lack of heating degree days drove a 12% reduction in sales volumes and unit margins for the quarter declined by 8%. Volumes for the year however increased 2.5 billion cubic feet or 5% to 56.9 billion cubic feet as incremental volumes from our Metromedia acquisition and colder weather in the first quarter were to enough to counter the fourth quarter's warmer weather and the loss of a few larger volume but lower margin customers. We believe 2015 was an excellent year despite $4.5 million increase in adjusted gross margin and would have been a record for our natural gas business if not for the comparison to results from 2014 which benefited from significant cash market volatility early in the year. We continue to grow our customer count in 2015 while executing successfully on our longer-term down market strategy of supplying smaller commercial accounts and our full year adjusted unit margins were in line with our expectations. 2015 adjusted unit margin of $0.90 per dekatherm was 15% higher than it was in 2013, a more normal weather year and its double unit margin our natural gas business earned in 2011. However this year's modest decline in the segment's unit margin is predominantly the result of a return to more normal cash market volatility, with fewer associated opportunities to optimize the transportation and storage assets. As we did with the customer accounts purchased from Metromedia Energy, we are now focused on quickly integrating new customers from this winter Santa Buckley acquisition into our own back office systems and utility pools enabling Sprague to capture savings from our own supply and logistics capabilities and lowering the effective multiple paid for those contracts. Finally Materials Handling adjusted gross margin increased in the fourth quarter by $740,000 or 7% to $11.7 million compared to the fourth quarter of 2014. Higher salt handling activity and the continuation of windmill component arrivals were both key drivers of the increase as for our customers moved aggressively to catch up and top offavailable pad storage space going into the winter months and developers of utility scale wind power projects continue to find value in accessing Sprague's handling expertise, specialty equipment and expanded lay down space at our Searsport terminal. In addition I'm happy to report that we also accommodated a salt ship with our gypsum unloading system at River Road for the first time and exported the first cargo of scrap metal for a customer from our Searsport terminal during the quarter. For the year Materials Handling adjusted gross margin rose 21% to a record $45.6 million as a full year of crude storage and handling revenues and an increase in windmill component handling were modestly offset by lower annual revenues in our dry and liquid bulk segments. Sprague also benefited from this year's inclusion of asphalt handling at the Bronx terminal resulting from our 2014 acquisition of the business. Looking at the results we achieved so far in the first quarter of 2016, including warmer temperatures compared to a year ago, our expectation for the remainder of the year, we're issuing full year 2016 adjusted EBITDA guidance between $105 million and $120 million. We plan to manage total 2016 maintenance CapEx to between $8 million and $11 million and if energy commodity prices remain at their current levels we believe our full year cash interest expense will range between $22 million and $25 million. We also continue to discuss the pace of distribution growth over time with our Board and they remain supportive of our near-term guidance of $1.50 per unit quarterly increases as well as our longer-term guidance that Sprague will deliver unitholders double-digit percentage annual distribution growth over time. Please note that this guidance is based on assumptions of normal weather and market structure conditions for the remainder of the year and does not include any contribution from possible acquisitions. This concludes my remarks. I will David wrap up before we take questions. David?

[David Glendon:]

Thank you Gary. I want to thank every Sprague employee for their hard-work in 2015 and the progress they've made advancing our safety culture when integrating new assets, responsibilities and people into our organization. Our teams have worked hard over the last year to enhance weekly safety calls, monthly reporting metrics and management systems to drive continuous improvement and deliver a clear and consistent message on the importance of safety across all Sprague departments, new and old. We are confident these efforts will continue to improve safety performance and support our company's overall success. I'd also note that today our fleet was awarded the first place safety award in our class by the New York State Motor Truck Association for the third consecutive year. Congratulations to everyone involved in our fleet operations. We are now happy to answer any questions on the call.

[Operator:]

Thank you. Ladies and gentlemen [Operator Instructions]. Our first question comes from the line of Justin Jenkins with Raymond James. Your line is open. Please go ahead.

[Justin Jenkins:]

Good morning, guys. Appreciate all the time and color this morning. I guess I'll start on the M&A front. David, your commentary last quarter was that multiples were still pretty high, but it looks like the January acquisition was done at a pretty attractive figure. So is the deal flow starting to materialize to a better degree and maybe at a better price than what we've seen thus far in the down cycle?

[David Glendon:]

Good question. I'd characterize there being a pretty strong distinction between public auction processes and kind of proprietary deals that we've been able to source historically, so you are correct, that the multiple on the January transaction was relatively lower, certainly lower relative to what we have seen in the public auction space. I haven't seen a material change in that, Justin to this point in time that things that are still out in public auction remain at what we perceive to be relatively high multiple. So clearly more of our time and attention is spent sourcing and negotiating private transactions where we think the value is going to be more appropriate.

[Justin Jenkins:]

Okay, that's helpful. And we touched on this last quarter, but on the distillate front, it looks like a warmer than hoped for winter outside of a couple of weeks so far in 1Q. And, Gary, you touched on this somewhat in the prepared remarks, but is there a way we should be thinking about margins such that you could see contango help, at least to a degree, offset the headwind from weather? And I'll leave it there. Thanks.

[David Glendon:]

I think you did see a little bit of that Justin in the fourth quarter, where candidly we had the warmest November and December on record in the Northeast and unfortunately that's largely persisted through Q1 although as you know there are two or three cold days in the mix there. As we have talked a little bit in the past, it's exceptionally difficult to isolate just weather on unit margins given the other factors at play. And you correctly point out that the distillate market structure in a reasonably attractive contango, which does provide some offset to the volume decline associated with weather.

[Justin Jenkins:]

Okay. Appreciate it guys, thank you.

[David Glendon:]

Sure thanks.

[Operator:]

Thank you. Ladies and gentlemen [Operator Instructions]. Our next question comes from the line of Nathan Judge with Janney Montgomery Scott. Your line is open. Please go ahead.

[Nathan Judge:]

I just wanted to kind of explore the forecast that you have provided a little bit more. Just on the EBITDA guidance, if you look at it, it's exactly where you provided 2015 guidance. And you've obviously done acquisitions. I'm just trying to get a sense of some of your gives and takes as you see the positives to the negatives looking out to 2016. And any commentary, as you have said about the first quarter, obviously, we've seen very warm weather; so how does that play into it as well?

[Gary Rinaldi:]

Nathan this is Gary. The guidance we provided for '16 obviously is a $15 million range there, so it is quite wide and that's taking into account the upside related to the Santa Buckley acquisition on February1st and is offset by the warm first quarter to start. And for the remainder of the year we are forecasting just normal weather particularly in the fourth quarter. So we still believe that we fall within the new guidance we are providing with the $15 million range taking into account the weather and the acquisition.

[Nathan Judge:]

I think, Gary, you mentioned that there was an operating expense number that we were expecting, I believe, right before you mentioned the cash interest. Could you remind us what that was? I missed it, sorry.

[Gary Rinaldi:]

Sorry Nathan you are breaking up a little bit.

[David Glendon:]

I think what Gary referred to, we gave you a maintenance CapEx and an interest cost assumption in the guidance, Nathan. We didn’t have any assumption on operating expenses.

[Gary Rinaldi:]

Right, maintenance CapEx.

[Nathan Judge:]

What was maintenance CapEx for instance?

[Gary Rinaldi:]

Maintenance CapEx, the guidance we have given you is $8 million to $11 million for 2016 and cash interest from $22 million to $24 million.

[Nathan Judge:]

Thank you. I apologize; I just had missed it. So as we think about debt with 2.5 times permanent debt leverage ratio, I guess you're obviously producing excess cash above what you're paying out in your distribution. And you -- clearly 2.5 times is not that leveraged, but you're not paying that much in interest, either. Where do you see that cash going for the next 12 months? And any idea as it relates to acquisitions?

[Gary Rinaldi:]

So one, we are going to continue as discussed maintaining our distribution growth at $1.50 per unit per quarter which is about 11% to 12% increase in '16. Two, we paid down almost $100 million of our acquisition line in the last 14 months with the excess cash flow. We are doing that to provide additional capacity and leverage for what we plan to execute on -- our -- the growth opportunities in '16 for potential acquisitions and we are going to continue down that path. We think it's important to have the capacity -- especially in this environment to have the capacity to execute on the growth opportunities that we think will present themselves.

[Nathan Judge:]

Where would a share buyback stand in that analysis?

[David Glendon:]

Right now, Nathan, this is David, we believe there are attractive opportunities on the acquisition front and they are likely to emerge additional opportunities there. So our strong bias at this point in time is to reinvest that available capacity into growth opportunities.

[Nathan Judge:]

Okay, great. Just as far as the upsizing of the credit facility, what drove that, in particular?

[Gary Rinaldi:]

I mean as you know, the equity markets and capital markets are essentially closed. We do have good liquidity, leverage is as low as you have mentioned, coverage is really high and frankly this provides us more optionality to fund acquisitions in 2016. And I didn't, frankly -- I didn't want to wait until we had an acquisition to test what the debt markets were going to be at that time. So we got out in front of it.

[Nathan Judge:]

Fair enough. Thank you very much for your time.

[David Glendon:]

Thank you Nathan.

[Operator:]

Thank you. And at this time I am showing no further questions. That does conclude today's Sprague Resources conference call. I'd like to thank you all for participating in today's conference. You may now disconnect. Everyone have a great day.

[David Glendon:]

Thank you.