KNOT Offshore Partners LP Common Units representing Limited Partner Interests

Good morning and welcome to the KNOT Offshore Partners first quarter 2020 earnings results conference call. All participants will be in listen-only mode. Should you need assistance, please signal conference specialists by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touchtone phone. To withdraw your question, please press star then two. Please note this event is being recorded. I'd now like to turn the conference over to Gary Chapman. Please go ahead.

Thank you and welcome, everybody. As always, the earnings release and slide presentation are both available on the investor relations section of our website. For those that don't know, K&OT Offshore Partners, K&OP, focuses on the shuttle tanker segment where our ships transport oil from offshore production units to shoreside and are an essential part of the supply chain for our customers. Our call today will include the non-US GAAP measures of distributable cash flow and adjusted earnings before interest tax depreciation and amortization, EBITDA. The earnings release includes a reconciliation of these non-GAAP measures to the most directly comparable GAAP financial measures. And please remember that any forward-looking statements made during today's call are subject to risks and uncertainties. These are discussed in our annual and quarterly SEC filings. Actual events and results can differ materially from those forward-looking statements, and the partnership does not undertake a duty to update any forward-looking statements. And I refer you to slide two in our recently filed 2019-20F for further details. So slide three, quarter one 2020 financial highlights and recent events. Despite the continuing impact of COVID-19 on global economic activity and the decline in volatility we've seen in oil prices, K&OP is today reporting good first quarter results in line with expectations. Equally, as the partnership's operations are not exposed to short-term fluctuations in oil prices, volume of oil transported or global oil storage capacity, we have so far been able to avoid any material disruption to our operations or charters. Total revenue of £67.8 million, operating income of £28.4 million and a net loss of £6.1 million, which is after taking into consideration the unrealised mark-to-market positions on our interest rate swaps where we don't apply hedge accounting, and, more comparably, quarter by quarter, adjusted EBITDA of 50.8 million. Distributable cash flow generated of 23.9 million, giving a distribution coverage ratio at the end of the quarter of 1.33 times, and a continuation of the cash distribution of 52 cents per unit, returning an annual yield of around 14% based on a $15 unit price. During the quarter, the fleet operated with 99.6% utilization for scheduled operations and 95.2% utilization taking into account the planned dry docking of the Raquel Knudsen. The Raquel returned to service on March 5th, 2020 after a successful dry dock and there are no more dry docks planned in 2020 across our fleet. On April 20, 2020, E&I Trading and Shipping exercised two of its one-year options to extend the time charter of the Toril Knutson until November 2022 at a rate that was in line with the partnership's expectations. In connection with this early exercise by E&I, the partnership granted E&I a further option to extend the time charter by one additional one-year period, such that E&I now has the option to extend the time charter by two one-year periods until November 2024. We believe this early declaration and agreement with E&I further strengthens the partnership's contracted revenue streams and validates our belief that our vessels remain an essential part of our customers' supply chains. And while other vessel charters will naturally come up for renewal in the coming years, we believe that our strategy, our industry-leading position and the forecast demand and supply for shuttle tankers leaves us very well placed. On slide four, the income statement. For this first quarter of 2020, we recorded total revenues of 67.8 million compared to 70.1 million for the fourth quarter of 2019. The decrease almost entirely relates to Raquel Knutson's scheduled dry dock time off hire, which was planned. Vessel operating expenses for the first quarter of 2020 were 15.6 million, an increase of 0.2 million over the fourth quarter of 2019. This increase was the net result of bunker costs incurred in relation to Raquel Knutson's dry dock, offset by there being one less calendar day in the first quarter and, on average, lower operating expenses across the fleet. Depreciation was slightly down by 0.2 million at 22.4 million compared to fourth quarter 2019 as a result of the early commencement of the Raquel Knutson dry dock in December 2019. Admin and general expenses were slightly up in this first quarter by 0.2 million at 1.4 million compared to the fourth quarter 2019, principally as a result of the higher accounting, tax and legal fees related to the 2019 year-end close. Overall, this caused operating income to fall to 28.4 million in the first quarter compared to 31 million in the fourth quarter of 2019. Interest expenses for quarter one was 10.5 million, a decrease of 0.9 million from 11.5 million in quarter four, the decrease being driven by lower LIBOR on average across all credit facilities that are not hedged. Realised and unrealised losses on derivative instruments were 23.7 million in the first quarter compared to a gain of 4.2 million in the fourth quarter. The realised non-cash element of the mark-to-market loss was 23.9 million for the first quarter of 2020 compared to a gain of £4.9 million for the fourth quarter of 2019. Of the unrealised loss for the first quarter of 2020, £23 million is related to a mark-to-market loss on interest rate swaps due to a decrease in the US swap rate, and £0.9 million is related to foreign exchange contracts. Slide 5, adjusted EBITDA. In quarter one, KNOP generated adjusted EBITDA of 50.8 million, compared to 53.6 million in the fourth quarter. Adjusted EBITDA is a proxy for cash flow, referring to earnings before interest, tax depreciation, amortization, and other financial items. Please do refer to the notes at the bottom of the slide. Slide six. Distributable cash flow, or DCF, is another non-US GAAP financial measure. DCF was 23.9 million in the first quarter, in comparison to 26.4 million in the fourth quarter, and the distribution cover at the end of the quarter was 1.33. In the quarter, we again maintained our distribution level at 52 cents per unit, equivalent to an annual distribution of $2.08. And again, please do refer to the notes at the bottom of the slide. The decrease in distributable cash flow is mainly attributable to the reduction reduced earnings from the Raquel Knudsen due to its scheduled dry docking, and one less operational earning day in the first quarter, and an upward adjustment made to the annual estimated maintenance and replacement capital expenditures. Slide seven, balance sheet. At the end of the first quarter, the partnership had 72.9 million in available liquidity, which consisted of cash and cash equivalents of 44.2 million, and £28.7 million of capacity under its revolving credit facilities. The revolving credit facilities mature in August 2021 and September 2023, and otherwise, KNOP has no other refinancing falling due until the end of 2021. The Partnership's total interest-bearing debt outstanding as of March 31, 2020, was £984 million, down from £1.002 billion at the end of the fourth quarter of 2019, and the average margin paid on the partnership's outstanding debt in this quarter stayed the same as last quarter, at approximately 2.1% over LIBOR. At the end of the first quarter, the partnership had entered into various interest rate swap agreements for a total notional amount of £634 million, up from £562 million at the end of the last quarter, to hedge against the interest rate risks of its variable rate borrowings. Based on this in the quarter, we received interest based on three or six-month LIBOR and paid a weighted average interest rate of 1.75% under the interest rate swap agreements, which have an average maturity of approximately 3.9 years. As mentioned above, we don't apply hedge accounting, so our financial results are impacted by changes in the market value of these financial instruments. However, cash flow is stabilised, mitigating interest rate risk on distributable cash flows. Slide 8, an update on our long-term contracts. For Windsor Knutson, the partnership's previous agreement with Shell as charterer to suspend the vessel's time charter contract, ultimately at no cost to the partnership, has now ended and the vessel is back on its normal time charter. The vessel is fixed until October 2020, and we're in discussion with Shell about the vessel's next option period. And at this stage, we have no indication that the option will not be taken. Bodal Knudsen is our largest shuttle tanker operating in the North Sea and is on charter to Equinor until May 2021. Equinor then have three further one-year annual extension options. Toral Knudsen and Hilda Knudsen both operate on the Goliath Field in the Barents Sea. After initial five-year terms on both vessels, the Hilda time charterer extended for four more years to 2022 and then has further options to extend the charter by three more one-year periods until 2025. And as explained earlier, the charterer of Toril has just taken two of its one-year options to extend the time charter until November 2022 and then has further options to extend the charter by two more one-year periods until 2024. Dan Sabia, Fortaleza and Recife Knutson remain on long-term bareboat charters through to 2023 with Petrobras Transpetro. Carmen Knutson and Raquel Knutson are on charter to Repsol Sinopec until 2023 and 2025, respectively, and with options to extend until 2026 and 2030 also, respectively. The Ingrid Knutson is on time charter until 2024 with Var Energi. with charterer's options to extend by up to five more one-year periods. Cordis, Vignes and Lena Knudsen are on five-year charters to Brazil Shipping, a subsidiary of Shell. These will expire in 2022 and the charterer has options to extend for up to a further 10 years on each vessel. The Brazil and Anna Knudsen are on charter to GALT Energy until 2022, with charterer's options to extend up to 2028. At March 31, 2020, the K&OP fleet had an average remaining fixed contract duration of 2.7 years and an additional 4.2 years on average in chartered options, as you can see, all with strong credit counterparties. As I've said in previous calls now, I would like to again point out that these charter renewal decision points, as firm fixed periods come to an end, should be thought of as a natural part of K&OP's business. Typically, A new-build vessel charter contract will contain a fixed charter period of between 5 and perhaps 10 years, plus charterer's options for additional periods of, say, 5 to 15 years, depending on the charterer's production profile, volumes, etc. This allows the charterer to control access to the vessel for a long period of time, which is important given that typically there is no surplus supply of shuttle tankers in the market, but whilst potentially giving them balance sheet and some operational flexibility. These option renewals are hence a normal part of our business and the gradual reduction of the average fixed contract period, today at 2.7 years, should be expected. Nonetheless, we do have several important elements that we believe differentiate us from other more typical and often volatile types of shipping and which provide us with more stability and more comfort. These include our customers' essential need for these assets as part of their supply chain, the niche market, there are only three main operators, Our customer relationships developed over many years, our operating record, the age of our fleet and its DP2 technology, the supply-demand balance of shuttle tankers, plus our willingness and ability to be very flexible for customers' needs. We believe we're in a strong position to see the options on our vessels taken up as they fall due, or to find alternative employment with a new shuttle tanker charterer, or, worst case, by entering a vessel into the conventional tanker market. There are other factors, for example, that only certain vessels are equipped for and can service certain fields, giving us more assurance that those vessel options will be taken up. Of course, we never give guarantees, and the time charter rate for a charterer's option is sometimes open for a level of negotiation. But we want to keep making the point that we believe KNOP's risk profile is not the same as a typical ship owning company. On slide nine. At this time, the sponsor KNOT has five vessels that could be dropped into the MLP beginning from around Q3 2020. These have an average fixed contract period of 5.8 years with an average of a further 9.2 year extension options. The acquisition by KNOP of any drop down vessels in the future is subject to the approval of the Board of Directors of each of KNOP and KNOT and there can be no assurance that any potential drop downs will actually occur. Given these opportunities, we continue to look at all options as to how KNOP might finance the purchase of these assets as they come on stream, given we are reducing our leverage each quarter and maintaining strong coverage, assuming it makes sense for our unit holders. However, given the turmoil in the world in the past weeks and now months, we hope to be able to give more guidance at the end of the second quarter as to our evaluation of the market and potential timing. which could now be in the fourth quarter of this year. Slide 10. As regular attendees of the call will know, each time we try to provide just a little extra information around our service and markets. And today, I have a few slides related to Brazil, which is, of course, our main market. In fact, 13 of the partnership's 16 vessels are trading in Brazil. And this is also where we see our future growth being strongest. The following four slides come directly from Restat Energy, an independent energy consulting firm that the partnership uses, so these are not internally generated. First, it's important to say that these slides focus on the Brazilian oil market, and as K&OP is not contractually exposed to oil price, volume or storage risks in our charters, these slides are more looking from the perspective of our customers, and hence the long-term demand for shuttle tankers, and why we believe the shuttle tanker market remains strong and attractive into the future. We have to start with the current oil market troubles driven by the global supply-demand problems we've seen. And although we think we may see a short-term reduction in oil production in Brazil, shown by the gray here, we do not anticipate this materially impacting those fields where our tankers operate. One example for our reasoning here is Petrobras' latest first quarter results, where Petrobras, of course, still dominate Brazilian production, show that lifting costs in the pre-salt areas as being $4.52 per barrel before taxes and lease costs. And this has been coming down quarter by quarter, mainly due to economies of scale in the sizes of the producing fields, but partly as well as from the devaluation of the Brazilian currency against the US dollar. And while, of course, this is just one statistic, it does support what we're seeing on the ground. Much is, of course, also made as to whether oil demand will bounce back And Petrobras, on their recent first quarter earnings call, already reported an oil export record, with a marked upturn in demand from China, who maybe are coming out of lockdown earlier than most. Slide 11 shows the short-run marginal cost of all current Brazilian production, which includes the more expensive shallow water and onshore oil. Today, Brazil produces around 2.8 million barrels per day, and you can see that that production is economic right down to around $25 per barrel. On slide 12, this shows the expected break-even oil price for future Brazilian projects. Brazil has strong ambitions to grow its production, and you can see that it can add more than an extra 1.5 million barrels per day at a longer-term average oil price down to $40. Most analysts Energy experts and companies all have their long-term estimates for oil prices sitting well above $40 today. On slide 13. Then whilst we've so far focused on the position today, Brazil is not immune to the reductions in capex spend we've seen announced and some future projects, perhaps those programmes that don't yet have a contracted rig, may be delayed. However, given the fundamentals and cost base I've mentioned above, we don't think such projects will be cancelled. E&P companies have spent $11 billion in signature bonuses to acquire blocks in the Campos and Santos basins in the last three years, and we think there remains a strong outlook for growth in Brazil, despite the capex cuts announced in response to the current global economic crisis. In addition, and to show support, it is reported that the Brazil's National Petroleum Agency, ANP, is working to extend the duration of exploration contracts, which would give operators breathing space to fulfil their commitments. So overall, our message is that we believe Brazil remains well-placed in terms of its oil production going forward due to its relatively cheap costs of production and there being very sizable resources still to be extracted. Most of these resources are located in the Santos Basin, where typically shuttle tankers with DP2 technology are needed. Between KNOT and KNOP, we also have around eight different customers in Brazil and know the market very well. And by not having any oil price risk in our contracts, we're focused only on future production and transportation requirements. Slide 14. So in summary, we've reported another strong and stable performance in this first quarter of 2020, with good cash flow and coverage. We extended the charter of the Taral Canutsum for two more years, and we maintained our distribution. And despite coronavirus and the continuing turmoil in global markets, In part, as the partnership's operations are not exposed to short-term fluctuations in oil prices, volume of oil transported or global oil storage capacity, we've so far been able to avoid any material disruption to our operations or charters. Of course, a long-term or permanent market shift could still affect the number of new offshore projects and the overall production of oil, which could eventually and in turn impact the demand and pricing for shuttle tankers. But we believe the shuttle tanker market remains strong today and we think it remains an attractive proposition into the future. That concludes the presentation, and I'll be happy to take any questions.

We will now begin the question and answer session. To ask a question, you may press star then 1 on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then 2 At this time, we will pause momentarily to assemble our roster. Our first question will come from Igor Levi with BTIG. Please go ahead.