Sprague Resources LP
Q4 2014 Earnings Call Transcript

Published: 13 Mar 2015

[Operator:]

Good day ladies and gentlemen and welcome to the Fourth Quarter 2014 Sprague Resources Earnings Conference Call. My name is Denise 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 will now like to turn the conference over to Mr. David Glendon, President and Chief Executive Officer. Please proceed sir.

[David Glendon:]

Thank you, Denise. Good morning everyone and welcome to the Sprague Resources Fourth Quarter 2014 earnings 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. 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 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 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 Web-site, www.spragueenergy.com. Dave?

[David Glendon:]

Thank you, Paul. I would like to begin our call today by informing listeners that Sprague informing listeners that Sprague drop down of Kildair in December was considered for accounting purposes to be a transfer of an entity under common control of Sprague's majority owner. As a result, the following discussion of financial results the tables accompanying the this morning's press release on our web site and Sprague's Form 10K to be filed with the SEC shortly have been recast by including the historical financial results of Kildair for all periods that were under common control. I am thrilled the share’s strong, continued financial performance today. As a first full year as a public company, we exceeded our guidance for strong distribution growth while achieving over 2.1 times coverage for the year. Our employees delivered exceptional results that made 2014 one of the best years in our company’s 145 year history from completing the Hess’ Commercial contract acquisition last winter, to closing on Metromedia Energy and Castle Oil in the fourth quarter, Sprague’s customer base has grown substantially enabling us to serve even more energy and material handling needs with an expanded footprint. In addition, we welcome Kildair back to the Sprague family with a successful business model transformation leaving the strong and more ratable cash flows and growth opportunities in new market segments. Last winter prove the value of our asset platform, marketing capabilities and physical supply and logistics expertise provides when customers need energy the most. The fact that our teams met customer needs while simultaneously maintaining cost discipline and achieving outstanding safety results speaks volumes for the organization and its ability to deliver solid distribution growth in the future. Today, our teams are working with customers to meet this winter's demands in addition to successfully integrating each of Sprague’s 2014 acquisitions. I look forward to sharing the results of those efforts in the months ahead. Our fourth quarter results were an outstanding capstone to the year. Each of Sprague’s key metrics increased relative to the fourth quarter of 2013 and materially outperformed for the full year. Fourth quarter adjusted gross margin was 22% higher than the year ago quarter an increase $55.9 million or 30% for the full year. Sprague’s adjusted EBITDA was 5% higher in the fourth quarter, compared to 2013 propose to the 38% increase for the year on a pro-forma basis, coming in at $105.3 million. Finally, Sprague generated distributable cash flow of $21.2 million for the fourth quarter of 2014, compared to $18.2 million on a pro-forma basis for the fourth quarter of 2013. For the full year Sprague’s distributable cash flow was $74.9 million, an increase of 87% compared to 2013 on a pro-forma basis and representing a distribution coverage ratio of 2.2 times for the fourth quarter and 2.1 times for the year. In light of our financial performance on January 28th, Sprague’s Board of Directors approved our third consecutive distribution increase and declared a cash distribution of $0.4575 or $1.83 on an annualized basis. The announcement represented a one-year distribution growth rate of 10.9% for unitholders, well above our previously communicated long-term target. On our conference call November, I shared my increasingly bullish outlook for Sprague’s long-term prospects, at times that happened to coincide with the beginning of oil steep price decline. My outlook for Sprague continues to be just as bright and while the market may discount our business model at times for its logistics and marketing emphasis, I think periods of volatility like these highlight while Sprague has stood the test of time, regardless of where commodity prices happen to be trading. Whether the crude oil prices are trading at a $100 or $50 a barrel, customer demand for energy to fuel their business growth and solve their logistical challenges has been and will remain a constant source of growth opportunities for our company. At the same time, the assets and physical market expertise necessary to meet the demand throughout the Northeast and beyond continues to become more complex, affording Sprague a strategic competitive advantage through its irreplaceable terminal network and natural gas pipeline capacity. When that network and its associated expertise is combined with an inclination towards marketing versus total taking, Sprague occupied a unique and valuable position in a fragmented supply chain, a customer focused supplier with the physical ability and expertise to deliver/ Beyond meeting today's market needs, we are actively finding ways to grow. Our purchases of Metromedia Energy, Castle Oil and Kildair each took time to develop but they are worked away giving their own trade to new customer bases with needs and opportunities our teams are only beginning to leverage. Our access to the public market is now enhanced for these growth efforts and we continue to see a large opportunities that in front of us. I believe today's combination of shifting customer needs, our physical asset network, our occupation of unique space in the supply chain and ready access to capital markets to fund growth makes Sprague a compelling combination of yield and growth, even in the midst of a volatile energy prices environment. 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, everyone. Before I begin a deeper review of our results, I want to remind listeners that are fourth quarter and full year 2013 and 2014 financial now include the results of Kildair. In addition, a full quarter of Metromedia results and approximately three weeks of contribution from Castle Oil are reflected in our fourth quarter figures. Sprague continue to deliver strong results in the fourth quarter despite Northeast weather that was warmer relative to two year ago. Sprague’s adjusted gross margin was $69.7 million in the fourth quarter of 2014, compared to $57 million for the year ago quarter, an increase of 22%. Adjusted EBITDA totaled $30 million, a $1.4 million increase compared to the fourth quarter last year on a pro-forma basis. And distributable cash flow increased by $3 million to $21.2 million. For the twelve months ended December 31st, Sprague’s adjusted gross margin was $245 million, a $55.9 million or 30% increase versus 2013 and adjusted EBITDA was $105.3 million, a 38% increase over the 12 months ended December 31st 2013. Distributable cash flow for 2014 increased by $34.8 million or 87% compared to 2013. Sprague’s operating expenses increased 34% or $4.4 to $17.2 million during the fourth quarter of 2014 relative to the fourth quarter last year. The increase was primarily attributable to higher costs related to bulk-handling activities in our material handling business which is more than offset in gross margin as well as operating expenses associated with the acquisition of Castle Oil. Sprague’s SG&A cost increase $6.6 million in the fourth quarter of 2014 compared 2013. The increase was primarily related to higher incentive compensation and associated employee benefit accruals prior to the strong financial results and significant acquisition related costs for Metromedia Energy, Castle Oil and Kildair which are added back to distributable cash flow. In addition, cost related to being a public company contributed to the SG&A increase. Now turning to our business segments, refine product sales volumes which include Kildair full quarter volumes for both 2013 and 2014 and three weeks of Castle Volumes in 2014 increase 75.9 million gallons or 19% compared to the fourth quarter of 2013. Net sales decreased 9% to $1.1 billion as a result of lower commodity prices year-over-year. The increase in total volume was driven by higher diesel sales associated with contracts acquired from Hess again of 2013, in addition to the contract service by Castle Oil. Gasoline and residual fuel oil volumes were also higher in the fourth quarter offset by modestly weaker heating oil sales and as a result of warmer weather. Refined products adjusted gross margin increased $8 million to $44.2 million in the fourth quarter at higher volumes and stronger unit margins, particularly in diesel fuel and the residual fuel oil offset the impact of weaker gasoline unit margins. For the 12 months ended December 31st, 2014, Sprague’s refined products business generated adjusted gross margin of a $146 million, an increase of 27% versus 2013.Gains from cold weather, the Hess commercial contract assumption and the Castle Oil and Kildair acquisitions contributed to the increase in adjusted gross margin. It is worth noting that distillate gasoline a residual fuel are contributed, as Sprague’s marketing team finally captured higher volumes but increased unit margins. In our natural business which includes a full quarter contribution from Metromedia Energy, fourth quarter volumes were 18% higher than last year and average selling prices were 8% higher combining to drive net sales to $104.9 million, a 28% increase relative to the year ago quarter. Natural gas adjusted gross margin increased to $1 million to $12.9 million in the fourth quarter compared to the prior year. For the full year of 2014, Sprague’s natural gas business generated a record adjusted gross margin of $55.5 million an increase of 38% over 2013. These outstanding results were attributable to higher volumes and the ability to optimize pathways to customer burner tips due to cold weather in the first quarter, the inclusion of Metromedia Energy results in the fourth quarter and the continued transition to Sprague’s customer base towards smaller, commercial and industrial end-users with higher units margin. Finally, material handling adjusted gross margin increased to $4.2 million or 62% to $10.9 million in the fourth quarter versus last year. Results were driven higher by the initiation of Kildair’s crude storage and handling activities and increased bulk handling volumes of asphalt, gypsum and new sprint. For the full year, Sprague’s material’s handing business generated a record adjusted gross margin of $37.8 million, an increase of $9.4 million or 33% over 2013 results. The start up of Kildair’s crude storage and handling operation in June, as well as increased demand for our dry bulk handling services, each contributed to the overall significant margin increase in 2014. I want to mention that Kildair achieved an adjusted EBITDA of $21.4 million for the full year 2014 at the high-end of our previously issued guidance. Kildair’s contributions are now included in three of Sprague’s business segment categories

[David Glendon:]

Thank you, Gary. I repeat myself by saying that I am proud as Sprague’s exceptional 2014 both operationally and financially. These outstanding results were made possible by the combination of supportive market conditions and our strategic expertise in supply, logistics, and marketing. In addition, the three acquisitions our team completed in the final 90 days of the year, each independently add significantly to Sprague’s growth prospects going forward. As we enter Sprague’s 145th year, I look forward to sharing even more good news with customers, employees and investors. Thank you. I would like to now open the call for questions.

[Operator:]

[Operator Instructions]. Our first question comes from Nathan Judge with Janney. Please proceed.

[Nathan Judge:]

Good morning, I just wanted to ask if you could repeat the commentary about the distribution growth. I think you said you are going to continue this current trajectory?

[Gary Rinaldi:]

Yes. That’s correct Nathan.

[Nathan Judge:]

So does that mean $0.15 a quarter or it could just be…

[Gary Rinaldi:]

Last three quarters, we increased our distribution at $0.15 per unit and that we are expecting to continue that for the foreseeable future.

[Nathan Judge:]

Let me come back to, just quickly on that though, does that mean that you are looking for growth rate that would be above the 6% to 8% that you had historically right?

[Gary Rinaldi:]

That’s correct.

[Operator:]

Our next question comes from Lin Shen, with HITE, please proceed.

[Lin Shen:]

I just want to clarify that you just said expect to increase the distribution by $0.15 cents each quarter for next year or so. So, how should we think about your distribution coverage?

[Gary Rinaldi:]

We are targeting the distribution coverage for 1.2 times, however the expected distribution increase as we just discussed, will be going to—will likely to be above that target which will use to pay down our acquisition line that creates more capacity for further financing of growth opportunities and acquisitions.

[David Glendon:]

Just to clear, we have discussed with the Board maintaining that $0.15 per unit per quarter increase for the foreseeable future. So it’s not just a 2015 forecast for this point in time.

[Lin Shen:]

And also year 2014 result, does that EBITDA of 105 million include Kildair for whole year or just for the after the acquisition?

[Gary Rinaldi:]

The EBITDA for 105.3 million includes Kildair for the full year of 2014 due to the as if pooling accounting, because Kildair was controlled entity. So we had to adjust our GAAP numbers to include the full-year of Kildair.

[Lin Shen:]

Got it. And then you talk about 2015 guidance between 100 million and 150 million EBITDA range, can you talk about that sector by sector like which sector do you see growing performance, which sector you see may be declining volume?

[Gary Rinaldi:]

We don't break out the forecast on a sector by sector basis. The point I would note about the forecast though that it is based on expectations for both normal weather and normal market structure. So again, it assumes that weather is standard 30 or weather patterns in that market structure is consistent with past periods. So there is, from our perspective potential upside associated with the forecast for more supportive weather or market structure conditions.

[David Glendon:]

Which we will report on obviously in the May conference call after first quarter results, after the first full quarter including the impact of the fiscal 2015’s winter. And we will update the guidance.

[Lin Shen:]

Okay great and also, can you also talk about the current contango market, any effect on your business?

[David Glendon:]

You have seen obviously the contango returned to the crude market in style over the last several months or so and if you look at the backend of the distillate market curve, it is showing a modest contango. So that that would create if we chose to layering in additional inventory and roll the hedges month-to-month that would create some upside for us, with the change in the contract however to low sulfur distillate contract layering in high sulfur heating oil earlier in the season would expose us to some degree of basis risk. So we got to take those dynamics into account as well.

[Lin Shen:]

Okay, great. A last question from is that given, you have high coverage and also liquidity, do you expect to finance part of your CapEx by equity this year or you think of having capacity to finance that?

[Gary Rinaldi:]

We have enough capacity to finance our CapEx of course, I mean our CapEx is round 8% or 9% of our EBITDA. As we reported our current permanent leverage ratio is three times, which includes the financing of three acquisitions with our temporary step up in our covenants to 4.5 times which is set back down July 1st, 2015 at 3.75 times, even at the 3.75 times our base level, we have plenty of room with our covenant. We also got that the liquidity is reported $88 million in acquisition lines but with the $200 million accordion and having said that we are managing our permanent leverage long term to two to three times and with that high end of that range right now so we will be communicating with the Board and discussing our options going forward and will obviously talk about in future earnings calls.

[Operator:]

[Operator Instructions] we have a follow up question from Nathan Judge with Janney. Please proceed.

[Nathan Judge:]

Just a follow-up, kind of question about the margins, it was a very strong quarter how do we think of margins going forward, there has been a lot of moving parts whether acquisitions, et cetera. When we look forward on about a normalized basis, are these peak margins and are they going to return to lower level, I guess just more broadly, how do we think about each segments as it falls into your guidance of EBITDA 100 million to 150 million?

[David Glendon:]

In terms of the guidance Nathan, it does kind of revert to more normalized margin structures in each of those businesses, to be absolutely candid we think about margin structure on a daily basis and market specific. So when we are setting prices in providence it’s different than setting prices in Portland than New Hampshire than New York Harbor every day depending on what’s happening in the competitive marketplace. So I acknowledge that it’s a very difficult things for you guys to model given there is so volatile and changing in response to a lot of factors. But in terms of the guidance, we have set, it is kind of reversion to the mean, if you will of a normalized margin structure in each of the core businesses.

[Nathan Judge:]

Is there a way to think of, I don’t know a segmentation of your guidance by business, if we can think about what growth is going to come from each part of the business especially with the Kildair now being in each?

[David Glendon:]

I would say historically, that natural gas was clearly the growing business of our segments from an organic perspective and that still largely the case. Although as you have seen the acquisitions until there contributes to both material family fun products and obviously the capital acquisition Kildair contributes to both material handlings and refined products and obviously the Castle Oil acquisition contribute significantly to refined products growth. I hesitant to say Nathan that there very straightforward and simple way to think about the inherent growth prospects in each of those businesses and clearly they will be influenced by future acquisitions we make over the course of the next couple of years.

[Gary Rinaldi:]

So Nathan you mentioned, Kildair as far as future growth I think you aware that we have got 420,000 barrel excess of storage capacity unutilized that Kildair currently even after the crude storage and handling projects that we executed on last year. So there's material handling uplift potential related to that unutilized capacity and we are in early stages of discussions with counter parties to utilize that capacity for crude or other products.

[Nathan Judge:]

Do we have an idea when that could potentially be a contract related to those expansions?

[David Glendon:]

Unlike may be in our refined products and natural gas business where contracts are daily and quick, materials handling has a long lead time. So I am sure we are expecting to execute on something where our objective is to execute on something by the end of the 2015.

[Operator:]

We have no further questions. I will now return the call back over to management for any closing remarks. Please proceed.

[David Glendon:]

Thanks again Denise and thanks everybody for taking the time today and for the questions. We look forward to further interactions with all of you in future conference calls. Thanks again.

[Operator:]

This concludes today’s conference. You may now disconnect. Have a great day everyone.