Sprague Resources LP
Q3 2014 Earnings Call Transcript

Published: 12 Nov 2014

[Operator:]

Good day ladies and gentlemen and welcome to the Third Quarter 2014 Sprague Resources Earnings Conference Call. My name is Lisa and I will be your operator for today. At this time all participants are in listen-only mode, later we will conduct a question-and-answer session. (Operator Instructions). As a reminder this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today Mr. David Glendon, President and Chief Executive Officer. Please proceed sir.

[David Glendon:]

Thank you Lisa. Good morning everyone and welcome to the Sprague Resources third quarter 2014 earnings conference call. Joining me today are Gary Rinaldi, our Chief Operating Officer and Chief Financial Officer; Paul Scoff, our Vice President and General Counsel; and John Moore, our Vice President and Chief Accounting Officer. Following my introductory remarks, Gary will review our financial results. We'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 hedge our Refined Products and Natural Gas inventory and transportation capacity with the best available derivative instruments to minimize commodity price risk. Since derivative gains and losses are reflected in our GAAP financials without the accompanying offset for physical positions, our GAAP reported net income will often experience large swings. Periods of market price increases can be associated with net losses related to our derivative hedges and have a resultant negative impact on our GAAP earnings. We believe it is important for our unit holders to understand how Sprague's underlying business is performing regardless of which way commodity markets move. Therefore we adjust our 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 Web-site, www.spragueenergy.com. Dave?

[Dave Glendon:]

Thank you, Paul. Welcome once again to Sprague Resources third quarter 2014 conference call. Please be reminded that the figures provided on this call excludes the impact of Kildair on our third quarter 2013 results in order to make year-over-year comparison more meaningful. Tables which include historical Kildair results can be found accompanying this morning's press release on our Web-site. It's an exciting time at Sprague. We successfully completed our initial public offering of little more than a year ago. And in the short-term sense, have accomplished a great deal. Our operating results have been strong, we've delivered on our guidance of steady distribution growth and we have executed on multiple transactions that each have the potential to meaningfully drive future distribution growth, all while preparing for the anticipated drop down of Kildair. In the 144 year history of Sprague, you'd be hard pressed to find the time period with these many exciting changes. First, Sprague's strong third quarter results were realized across all business segments and point towards 2014 being one of the best years we've ever hard. Adjusted gross margin for the third quarter was $34.2 million and adjusted EBITDA was $9.3 million Sprague generated distributable cash flow of $6.2 million for the third quarter of 2014 compared to $1.9 million on a pro forma basis for the third quarter of 2013. This represents a distribution coverage ratio of 0.7 times for the third quarter of 2014 and 2.1 times for the first nine months of the year. Sprague's year-to-date performance measures continue to significantly outperform relevant 2013 figures. Adjusted gross margin is running $35.1 million or 31% ahead of last year. Adjusted EBITDA for the first three quarters is 49% higher than the same year ago period and distributable cash flow at $53.7 million is almost 2.5 times our pro forma results in the first nine months of 2013. Second, these excellent results have already translated to solid distribution growth for unitholders. On October 29, Sprague's Board of Directors raised its distribution for the second consecutive quarter by 3.5% to $0.4425 per unit or a $1.77 on an annualized basis. Delivery unitholders of 7.3% distribution increase since our initial public offering in line with our previously issued guidance. The distribution will be paid on November 14, to unitholders of record as of November 10. In light of our performances through September, we are raising our full year 2014 adjusted EBITDA guidance to between $75 million and $85 million and expect distribution coverage for the year to be materially above our long-term target of 1.2 times. Third, Sprague is finding strategic non-auction transactions that provide outstanding growth potential. Listeners will recall that we completed our first acquisition that has commercial fuels contracts at the end of 2013. In immediately accretive deal that has played a major role in our refined products second and third quarter results. The inclusion of those customers was followed in the spring and summer by two new exclusive refined products terminal leases that improved our competitive positioning in the Providence and New Haven markets and will allow for a supply and logistics teams to more fully leverage their expertise managing our physical inventories. Finally in the past 60 days, we have announced two transactions that are not yet reflected in our results but will have significant impact on performance in the quarters ahead. I will begin with the successful purchase of Metromedia Energy on October 1.This business brought with it over 8,500 natural gas customer accounts. A service territory expansion into Maryland, Virginia and the District of Columbia and an electricity brokerage business with a national footprint. With this acquisition, Sprague's natural gas customer account total has more than doubled to over 14,000 with an expected 30% volume growth. Additionally, we will now assist more than 7,000 commercial and industrial customers in diverse markets across the United States by brokering over a 150 megawatts of their annual power demand. The strategic fit between the two companies has already proven to be strong. Metromedia Energy's customer base is largely comprised of the smaller commercial accounts that out team's growth plan has been focused on. Additionally, Sprague's natural gas supply and logistics team will now have a larger pool of account demand to manage, offering even more opportunities to optimize gas logistics to customer burner tips and earn incremental margin. Our natural gas commercial and supply teams have been integrating the new business and preparing to serve our new customers. In our refined products business. Last week we announced the signing of a purchase agreement to the assets of Castle Oil Corporation in the Bronx, New York. Castle's Port Morris terminal, strategically located on the East River with over $900,000 of distillate residual fuel and asphalt storage is New York city's largest deepwater petrol and products terminal. Pending regulatory approval and successful closing Castle Oil increased Sprague’s storage capacity by 8% and provide and outstanding platform for Sprague to solidify and grow its New York metro area refined products business. Sprague is long sought a stronger asset position in the city and we are looking forward to making the terminal a successful addition to our asset network. We are working on an integration plan and anticipation of a December close and I look forward to reporting more positive news related to this transaction in future quarters. Relative to our introductions at the public market last October and even more bullish today of Sprague’s prospects for long-term success. As we move forward into 2015, I’m confident Sprague’s team will continue to execute on our strategy of leveraging terminal assets, supply logistics expertise and our marketing capabilities in delivering a more compelling offering beyond just the commodity for our customers. Ultimately delivering long-term distribution growth for unit holders. Now I’d like to turn the call over to Gary for more detailed review of our results.

[Gary Rinaldi:]

Thank you David and good morning everybody. I’ll now provide some additional detail on Sprague’s third quarter results. Sprague’s performance year-to-date remains strong and we continue to expect outstanding results for 2014 as a whole Sprague adjusted gross margin was $34.2 in the third quarter of 2014, compared to $28.8 million for the year ago quarter, an increase of 19%. Adjusted EBITDA totaled $9.3 million a $1.5 million increase compared to the third quarter last year and distributable cash flow increase by $4.3 million. For the nine months ended September 30, Sprague’s adjusted gross margin was $148.7 million a $35.1 million or 31% increase versus 2013. And adjusted EBITDA was $62.5 million, a 49% increase over the nine months ended September 30 last year. Distributable cash flow for the first three quarter of 2014 increased by $31.8 or 145% compared to the same period a year ago. Sprague’s operating expense increased to 11% or 1.1 million to $11.6 million during the third quarter of 2014 relative to the third quarter last year. The increase is primarily attributable to higher cost relating to bulk handling activities in our material handling business due to vessel timing differences. As well as operating expenses associated with our Bridgeport terminal which was acquired in the third quarter of 2013. Sprague’s SG&A cost increased $3.1 million in the third quarter of 2014 compared to 2013. The increase was primarily related to higher incentive compensation in associated employee benefit accruals as well as sales commission at a higher gross margin. In addition, there was an increase in professional fees associated with being a public company M&A expenses relative to Metromedia in capital acquisitions. Now turning to our business segments. Sales volumes and our refine product business increased 3.8 million gallons or 2% compared to the third quarter of 2013. Net sales decreased 3% to $666.5 million as a result of lower sales prices year-over-year. The increase in total volume was primarily due to higher distillate sales totaling 21.5 million gallons period-over-period. As a significant gain in ratable diesel volume associated with contracts acquired from Hess at the end of 2013. More than offset our modest reduction in heating oil sales volume. Gasoline sales volume were lower compared to the third quarter of 2013 due to competitive pricing pressure and residual fuel oil sale declined year-over-year absent incremental utility demand we often see during the summer season. Refined product adjusted gross margin increased $4.7 million to $21.7 million in the third quarter as higher diesel sales volumes outweigh the impact of lower residual fuel oil volumes. For the nine months ended September 30, 2014 Sprague’s refined product business generated in adjusted gross margin with $81.1 million an increase of 30% versus the first nine months of 2013. In our natural gas business, third quarter volumes were 3% higher than last year and average selling prices were 5%. Combining to drive net sales to $53.4 million, an 8% increase relative to the year ago quarter. Natural adjusted gross margin increased $200,000 to $4.6 million in the third quarter compared to the prior year. For the first three quarters of 2014 Sprague’s natural gas business generated an adjusted gross margin of $42.6 million an increase of 50% over 2013. Finally, materials handling gross margin increased $600,000 or 8% to $7.8 million in the third quarter versus last year. Results were driven by higher year-over-year handling revenue from dry bulk customers particularly furnace led and gypsum as well as increased new sprint break bulk revenues. This was partially offset by lower pulp export volumes and timing difference in liquid bulk vessels. For the nine months ended September 30, 2014 Sprague’s material handling business was generated gross margin of $24.2 million an increase of 1% relative to the first nine months to 2013. With respect to liquidity, Sprague ended the third quarter with $261.9 million borrowed under the working capital facility and $129.9 million outstanding against the acquisition line. Sprague’s available liquidity into acquisition line was a $120.1 million at the end of the third quarter which can be further expanded by accessing according upto an additional $200 million providing strong liquidity and capacity for expansion capital and acquisitions. At the end of the third quarter, Sprague’s permanent leverage ratio was 1.6 times adjusted EBITDA on a trailing 12 months basis. Well below our long-term target range of between two and three times leverage. Please note that the 1.6 times permanent leverage ratio includes the purchase of Metromedia energy funded on September 30. Our acquisition line liquidity is more than adequate to cover the expected cash payments for Castle of $45.3 million at closing and $5 million over the next three years. Turning briefly to capital expenditure, Sprague’s maintenance CapEx $1.8 million for the third quarter a $100,000 increased from the third quarter of 2013. Maintenance CapEx in the fourth quarter is expected to be higher in the previous three quarters in 2014 and remains in line with our total year maintenance CapEx guidance. Sprague’s third quarter performance resulted in distributable cash flow of $6.2 million compared to $1.9 million for the third quarter of 2013. Sprague’s distributable cash flow represents distribution coverage of 0.7 times for the quarter and on a trailing 12-month basis Sprague’s performance and distribution covers was strong 2.1 times. Distributable cash flow for the first three quarters of 2014 was $53.7 million resulting in distributable coverage of 2.1 times for the period and 1.5 times or estimated full year 2014 distributions. Compared to the first nine months of 2013, Sprague’s distributable cash flow increased more than 145% year-over-year. As David mentioned, our strong results on the first three quarter have allowed us to increase our full year 2014 adjusted EBITDA guidance to between $75 million and $85 million which does not include the impact of the Metromedia and cash flow acquisitions or the anticipated drop down of Kildair. We expect 2014 maintenance CapEx to total between $6.5 million and $7 million and we continue to target annual distribution growth of 6% to 8%. Please note that this guidance is based on assumptions plus a demand for our products and services, weather and changes in market structure. We are proud to report that Kildair has safely loaded its first two vessels in the third quarter with inland crude oil received by rail. I want to specifically recognize the hard work and dedication accept by Kildair staff to make the $30 million crude stores and handling projects with success. With operations beginning ahead of schedule on June 1, 2014. Kildair still expects to achieve an adjusted EBITDA between $18 million and $21 million for 2014 which will include seven months of crude stores and handling operations. Kildair’s maintenance CapEx is being manage in the similar fashion described current asset based a long term annual target of approximately 8% to 10% of adjusted EBITDA. Like Sprague, Kildair’s guidance is based on assumptions which include demand for its products and services, weather and changes the market structure. Regarding the aspect to drop down of Kildair, on October 2 has sponsored made a formal offer to sell Kildair to Sprague. Our independent directors are now in the process to review post transaction and provide their evaluation of the offer to the board. Our sponsor expectations is at the transaction may occur year end. I’d like to end my comments this morning with a couple of specific recognitions within our terminal operations group. During the third quarter, two of our terminal reached significant safety milestone in August insular New York terminal surpassed 5,000 thousand days work injury free and the September upper Massachusetts terminal is recognized our 2,500 days work injury free. David and I applaud to work being done to drive continuous safety improvement throughout our fiscal system and showing the safest possible work environment for our employees and supporting the operational excellence that drives results for our units holder. This concludes my remarks and David would like to wrap with some final comments before we take questions. David?

[David Glendon:]

Thank you, Gary. Before taking questions, I want to close today’s call by thanking every Sprague employee for their dedication and efforts that made Sprague’s first year as a public company such a resounding success. Their hard work uncovered many opportunities we are able to take advantage of. And I am confident the future will hold many more possibilities to deliver value for our customers and unit holders. Thank you I’d like to now open the call for questions.

[Operator:]

(Operator Instructions) And your first question comes from the line of Darren Horowitz with Raymond James. Please proceed.

[Darren Horowitz:]

Good morning guys couple of quick question but first if I could Dave with regards to the refine product segment and cash specifically and I realize you are early in the integration process but could you give us a little bit more color on which you think the future opportunity could be from leveraging this asset. You mentioned that you've always wanted to be in the New York city and that it provides an excellent platform to kind of leverage your existing expertise. And I am just wondering from an operational and commercial synergistic perspective what you see evolving from this asset, maybe some more downstream opportunities to get further integrated in that market and how you see this specific move evolving over the next couple of years.

[David Glendon:]

Sure, Darren good question and just to acknowledge, we are quite excited about bringing the Castle Terminal asset itself and the commercial business into the fold. As I think you are aware we've had a very successful commercial New York city based fuels business but we've had to do so with limited asset positions. So we’ve had our own small terminal in Mount Vernon which is a nice facility but clearly very small and not very proximate to New York City. And then we view third party facilities to manage our commercial business out of. And candidly that always comes with summary, it's particularly when you are approaching long-term contracts like the ones we hold in New York city. So we are very confident now with a permanent asset home that it makes it that much easier to go after some of these long-term contractual obligations and again we have been successful serving overtime but doing so through a variety of third party facilities. We do the see Castle facility as a single best deepwater terminal asset in the New York city metropolitan area. It's got a great storage position, outstanding blending capabilities and 30 rack positions which allows for a lot of volume to go through there particularly during the cold winter days that are upcoming. And then I will say the Castle business itself comes with a very successful commercial fuels delivery business that goes from large commercial accounts all the way down to smaller buildings in New York City on both diesel fuel and residual fuel. So as you point out, it is a little bit early in the integration process, we are still waiting on final regulatory approvals but we've been engaged with the Castle management team, we've got people on the ground already that are working hand-in-hand with them on our plans to optimize this asset going forward. So, again, I am quite excited about the medium to long-term prospects there.

[Darren Horowitz:]

Okay. And then -- I appreciate that shifting is over to Kildair and congratulations on getting that up and running safely loading those first two vessels. I know that that was something that you've been working on for a while. But I am just curious as you are thinking about that asset in particular. I know that you would look at additional material handling opportunities and when we think about kind of the composition of that asset, and I am thinking about the conversion of heavy oil and that asphalt terminal to offloading and I know that you were doing up to 60 railcars a day, but I thought only about a third of that terminal storage capacity have been upgraded and more importantly when you think about converting additional storage either on a consignment basis for refiner or what have you in order to increase the amount of fee-based cash flow, what's the next step for Kildair?

[Gary Rinaldi:]

Hi, Darren, thank you. This is Gary. Just a couple of comments regarding the next steps. You'd probably recall that we've converted 1.1 million barrels of excess storage capacity to handle crude. There is an additional 428,000 barrels of storage capacity that can be utilized for material handling and fee-based business be it crude or other products, we have been in discussions with our current customer as well as other customers. In addition to that, we have additional real estate for laydown space for dry bulk material handling opportunity similar to the business model that Sprague has as it relates to the utilization of all available capacity and real estate. So and also looking at the heavy fuel oil tanks, there is some additional capacity that we reconfigure the tanks to move towards to more fee-based business, but that's a longer term depending on the heavy fuel oil market.

[Darren Horowitz:]

Okay. And then final question Gary just from a financing perspective obviously there has been a lot of volatility in the market and from cost-to-capital standpoint, things didn't changed specifically on the equity side. Has there been any shift in your thought process with regard to the financing structure of Kildair or how you would best look to maximize accretion go the LP unitholders?

[Gary Rinaldi:]

Fair question. Number one, our balance sheet is very strong. As I mentioned in my comments our permanent leverage ratio is 1.6 times which includes the Metromedia acquisition in that number. We are currently in the process of materially upsizing our credit facility moving our acquisition lines of $400 million with a $200 million quoting on top of it for $600 million. We have plenty of capacity to fund all three acquisitions with that and that's what we intend to do. And longer term however, managing to leverage, expected leverage of two to three times as well as the capital structure longer-term we would be raising new equity I'm sure. And also I would just want to mention that today; we are filing and S-3 for a $1 billion self-registration for both debt and equity for the next three years just to be in a position.

[Operator:]

(Operator Instructions). Your next question comes from the line of [Lin Chen] with [indiscernible]. Please proceed.

[Unidentified Analyst:]

Actually my questions have been answered. Thank you.

[Operator:]

Ladies and gentlemen that now concludes the question and answer session of today’s presentation. Thank you for your participation. You may know disconnect. Have a great day.