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Edited Transcript of SRLP earnings conference call or presentation 14-Mar-19 5:00pm GMT

Q4 2018 Sprague Resources LP Earnings Call

Portsmouth Apr 3, 2019 (Thomson StreetEvents) -- Edited Transcript of Sprague Resources LP earnings conference call or presentation Thursday, March 14, 2019 at 5:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* David C. Glendon

Sprague Resources LP - President, CEO & Director of Sprague Resources GP LLC

* David C. Long

Sprague Resources LP - CFO of Sprague Resources GP LLC

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Conference Call Participants

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* Charles W. Barber

JP Morgan Chase & Co, Research Division - Analyst

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Sprague Resources LP Q4 2018 Earnings Call. (Operator Instructions) I would now like to introduce your host for today's conference, Mr. Dave Glendon. You may begin, sir.

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David C. Glendon, Sprague Resources LP - President, CEO & Director of Sprague Resources GP LLC [2]

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Thank you, Demetrius. Good afternoon, everyone, and welcome to Sprague Resources Fourth Quarter 2018 Conference Call. Joining me today are David Long, our Chief Financial Officer; Kory Arthur, our Vice President and Chief Accounting Officer; and Paul Scoff, our Vice President and General Counsel.

Before providing our prepared remarks, I'd like to remind listeners that some of today's call will include forward-looking statements. These statements are based on our current expectations, which we believe to be reasonable as of today's date, and Sprague does not undertake any obligation to update any forward-looking statements to reflect new information or future events. Actual results may differ significantly because of risks and uncertainties that are difficult to predict. Please refer to our 10-K for a list of risk factors, which could cause our actual results to differ from anticipated results, and review our 10-Q, current reports and other filings with the SEC.

We also describe our business using certain non-GAAP financial measures. Reconciliations of those measures to comparable GAAP are available in our non-GAAP quarterly supplement and our fourth quarter earnings press release, both of which are posted to the Investor Relations section of our website.

First, I'd like to welcome our new CFO, David Long, to our quarterly earnings call. It's great to have Dave back at Sprague, and we look forward to benefiting from his financial expertise and in-depth knowledge of our business.

Before I turn the call over to David for a detailed review of our results, I'd like to briefly comment on some key developments in 2018 and our perspective on 2019 opportunities.

As we noted in our January press release, persistent headwinds in both Refined Products and Natural Gas resulted in lower adjusted EBITDA and distribution coverage than our previous guidance. In Refined Products, warmer December weather, a less supportive market structure and limited distillate blending opportunities led to the shortfall. Notably, we also experienced basis declines in distillate products, which is atypical for this higher demand period. Similarly, our Natural Gas business saw limited optimization opportunities late in the fourth quarter as Northeast gas price volatility was muted. Our Materials Handling business, however, continued to post strong margin growth, partially offsetting these declines.

In January, the board of our general partner, Sprague Resources GP LLC, made the decision to maintain our fourth quarter 2018 distribution at $0.6675 per unit. Given our estimates for 2019, which assume normal weather and market structure, we expect to maintain the current distribution level.

Our current plans for organic growth investments include a conversion of tankage to support an asphalt contract, the expected addition of a butane blending system to our Lawrence terminal as well as several IT investments to drive productivity growth. We're also expanding our activity in the solar sector. And in February, we announced our partnership with Picktricity LLC, a leader in thin-film solar installations, building on our long history of evolving to meet customers' changing energy needs. Sprague was the first to bring ultra- low sulfur diesel fuel to the Northeast in 2000, and the first BQ-9000 biodiesel certified marketer in the United States.

Our latest foray into solar offers a twofold benefit as the flexible solar panels are an excellent way for us to expand our sustainability efforts while leveraging our existing infrastructure to reduce operating expenses. With our pilot project generating the anticipated savings, we're excited to roll this out to additional Sprague facilities as well as generating sales to third parties.

In addition to our organic growth plans, we see opportunities to reduce our cost structure through asset sales, consolidation efforts and other cost management initiatives. Some of our smaller terminal facilities have higher and better alternative uses, and we see prospects for sales at attractive multiples of their current cash generation potential. We also expect to rationalize our network of third-party sales locations and continue our efforts to realize synergies as we integrate recent acquisitions.

Now I'll turn the call over to Dave for a more detailed review of our results. Dave?

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David C. Long, Sprague Resources LP - CFO of Sprague Resources GP LLC [3]

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Thank you, Dave, and good afternoon, everyone. As Dave mentioned, the fourth quarter was a challenging one for Sprague, but we continued to focus on driving incremental growth and cost management initiatives. Now let me review our 2018 fourth quarter and full year results.

Sprague's quarterly adjusted gross margin decreased by 17% or $13.7 million to $68.4 million as compared to the fourth quarter of 2017, while adjusted gross margin for the full year increased by 5% or $12 million to $274 million. The decline in our year-on-year quarterly result was attributable to weakness in our Refined Products and Natural Gas businesses, which were partially offset by strength in our Materials Handling business. For the full year, strong performance by Materials Handling, combined with an increase in Refined Products largely due to annualizing our Coen acquisition, led to a modest year-on-year increase despite weakness in our Natural Gas business. I'll provide more detail of the underlying results of each of these businesses shortly.

Operating expenses were flat in the fourth quarter relative to a year ago. Our total yearly operating expenses of $88.7 million reflects an increase of 23%, primarily due to annualizing Coen's operating expenses, increased boiler fuel and stockpile expenses associated with our Material Handlings business, and employee-related costs. SG&A expenses decreased in Q4 year and for the total year by 28% to $17.5 million and by 8% to $80.8 million, respectively. These year-on-year declines were primarily driven by reductions in incentive compensation and M&A costs and partially offset by increased expenses attributable to the Coen acquisition.

Net cash interest expense of $9.1 million for the quarter was 25% greater than fourth quarter of 2017, and cash interest for the year increased by 35% or $8.6 million to $33 million. The year-on-year increase in cash interest expense is principally attributable to additional debt levels related to financing the 2017 acquisitions and 2018 capital improvements and higher interest rates on our floating rate debt.

Maintenance CapEx for Q4 and full year decreased by $1.6 million or 41% to $2.3 million, and by $1.8 million or 15% to $10.6 million, respectively. Maintenance projects included upgrades to docks and storage tanks, IT applications and dredging activity.

Expansion CapEx for 2018 was $6.8 million compared to $26.9 million in 2017, with 2017 including a number of acquisition and growth -- organic growth projects, such as conversion of tanks, to support gas line throughput at our East Providence terminal. In 2018, we executed on a number of growth projects that included dock and tank work, additional equipment at Coen -- at our Coen business, development of new IT applications, additions to our ethanol and biodiesel blending abilities and improvements in our asphalt handling capabilities.

During the fourth quarter, distributable cash flow was negatively affected by lower adjusted gross margin performance and increased operating interest expenses. As a result, distributable cash flow for the fourth quarter decreased by 52% to $15 million. For the year, distributable cash flow year-on-year declined by 28% to $52.6 million. Our distribution coverage ratio was 0.9x for the fourth quarter and 0.8x for the trailing 12 months at December 31.

Now for a discussion of our business segments. Our Refined Products business demonstrated a decline in adjusted gross margin in Q4 relative to a year ago of 17% or $7.8 million, while full year results were up year-on-year by 6% or $8.5 million. Sales volume and adjusted gross margin increased both on a -- both a year-on-year quarterly and an annual basis as a result of higher discretionary sales, offset by less attractive market conditions, purchase and store Refined Products. Other significant full year factors in our Refined Products business include the transition of Kildair's asphalt business from direct sales to material handling as well as the impact of a full year of acquisitions, in particular the Coen Energy transaction completed in October 2017.

Our Natural Gas business adjusted gross margin for the fourth quarter and full year declined year-on-year by 43% or $8.8 million and 11% or $7.2 million, respectively. Despite sales volumes being relatively flat year-on-year, unit margins declined by 9%, given a combination of fewer pipeline capacity optimization opportunities, particularly in the fourth quarter of 2018, and increased competitive intensity in some of our key markets.

Our Materials Handling business delivered a solid increase year-on-year of 24% or $3 million in the fourth quarter and 24% or $11 million, overall, in 2018. The source of these year-on-year gains on a quarterly and annual basis is largely connected to Kildair's asphalt and liquid handling services, salt stockpiling activity in Q1 and Q4 2018 and heavy lift activity at our Searsport terminal, while the market for materials associated with paper production were weaker relative to 2017.

With regard to liquidity, as of year-end, Sprague had availability of $162 million in its working capital line and $174 million in its acquisition line, which we believe provides adequate borrowing capacity to finance near to medium-term growth without the need for additional sources of capital. At December 31, our permanent debt ratio, as defined in our non-GAAP supplement posted to our website, was 3.6x.

With regard to 2019 guidance, we are targeting full year adjusted EBITDA of $105 million to $125 million and intend to maintain distributions at their current level.

At this point, I'd like to open the call for any questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question comes from Jeremy Tonet with JPMorgan.

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Charles W. Barber, JP Morgan Chase & Co, Research Division - Analyst [2]

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This is Charlie on for Jeremy. I was wondering if you could talk a bit about the coverage for 2019, maybe trying to understand what you feel the right level is for Sprague for coverage but maybe more importantly, what avenues you might see if these market headwinds persist in the future. Are there things like asset sales or maybe IDR waivers that you would consider?

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David C. Glendon, Sprague Resources LP - President, CEO & Director of Sprague Resources GP LLC [3]

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So -- it's Dave Glendon. I will answer that and I think there is a lot embedded in that, but I'll try and be responsive to each part of it. Yes, we clearly understand that the market is seeking higher coverage levels and we intend to get higher coverage levels over time. We're not providing guidance for 2019 coverage levels. We're limiting it to EBITDA guidance. But yes, we anticipate expanding our coverage and growing our coverage. And as we've stated many times in the past, we believe that a coverage level of 1.2 or so is absolutely appropriate for -- from a long-term perspective for this business.

You may have noted that I did mention potential asset sales on the call today. There are a couple of our smaller locations where the convergence of sulfur specifications has enabled us to consider selling a couple of potential assets, which is one mechanism candidly on the IDR front. We've always said, at the appropriate time, we'd consider the elimination of the IDRs. At least in today's world, the math is very difficult to make work along those dimensions. If you look at any reasonable valuation of the IDRs relative to our current yield, that would be exceptionally difficult to swap IDRs for common unit. So I think that would be unlikely to be pursued at this time, but again, depending on how the units evolve, we do believe that that's an appropriate mechanism to deploy at some point in time.

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Charles W. Barber, JP Morgan Chase & Co, Research Division - Analyst [4]

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That's very helpful. And just another one. Kind of looking at operations on natural gas side, you mentioned fewer pipeline capacity optimization opportunities and some increased competitive intensity in your core market. Did one or the other drive the weakness more so? And then can you talk a bit more on the increased competition?

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David C. Glendon, Sprague Resources LP - President, CEO & Director of Sprague Resources GP LLC [5]

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Yes. So I'd say that the former drove it more, to be honest with you. I mean, what we saw in 2018 in particular was very heavy maintenance on the pipelines. So as some of the expansion projects for pipelines into the Northeast were not approved or were delayed, the pipelines did engage in very heavy maintenance, which just meant for more constrained operations over the course of 2018, particularly in the latter part of the year. So the level of competition for new accounts varies market-to-market, period-to-period, and so we episodically do see competitors being more or less aggressive in the pursuit of additional customers. We saw a little bit of that in the latter part of 2018, but it was lesser of an impact than the former factor, which we cited.

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Operator [6]

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(Operator Instructions) And we do not have any further questions in queue. I would now like to turn the call back over to Dave Glendon for any closing remarks.

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David C. Glendon, Sprague Resources LP - President, CEO & Director of Sprague Resources GP LLC [7]

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Thanks, again, Demetrius, and thanks, everybody, for making the time today. We look forward to keeping you updated on future conference calls.

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Operator [8]

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Ladies and gentlemen, thank you for attending today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.