NGL Energy Partners LP

Ladies and gentlemen, thank you for standing by and welcome to the third quarter fiscal year 2020 NGL Energy Partners LP earnings conference call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 on your telephone. Please be advised that today's conference is being recorded. For instance, please press star 0. It is now my pleasure to hand the conference over to CFO Trey Karlovich. All right. Thank you and welcome, everybody.

As a reminder, this conference call includes forward-looking statements and information, words such as anticipate, project, expect, plan, goal, forecast, intend, could, believe, may, and similar expressions and statements are intended to identify forward-looking statements. While NGOs... is that its expectations are based on reasonable assumptions that can be no assurance that such expectations will prove to be correct. A number of factors could cause actual results to differ materially from the projections, anticipated results, or other expectations included in the forward-looking statements. These factors include prices and market demand for natural gas, natural gas liquids, refined products, and crude oil, level of production of crude oil, natural gas liquids, and natural gas, Natural Gas and Natural Gas Liquids, and the ability to successfully identify and consummate growth opportunities and strategic acquisitions at costs that are accretive to financial results and to successfully integrate and operate assets and businesses that are built or acquired. Other factors that could impact these forward-looking statements are described in risk factors in the Partnership's annual report on Form 10-K, quarterly reports on Form 10-Q, and other public filings and press releases. NGL Energy Partners undertakes no obligation to publicly update or revise any forward-looking statements as a result of new information, future events, or otherwise. This conference call also includes certain non-GAAP measures namely EBITDA, adjusted EBITDA, and distributable cash flow which management believes are useful in evaluating our financial results. Please see the partnership's earnings releases, investor presentations, and annual and quarterly reports on Form 10-K and Form 10-Q on our website at www.ngoenergypartners.com under the Investor Relations tab for more information on our use of non-GAAP measures as well as reconciliations of differences between any non-GAAP measures discussed on this conference call to the most directly comparable GAAP financial measures. I will now turn the call over to our CEO, Mr. Mike Krimbill.

Thanks, Trey. This is a historic quarter with record-adjusted EBITDA in excess of $200 million, at least 20% higher than any retail analyst's projection. Our month trailing coming year coverage ratio skyrocketed from 1 times to 1.5 times. During the quarter, we closed the Hilson acquisition, which we previously discussed. and exited additional small to refined products businesses, further reducing volatility and working capital indebtedness. The quarter benefited from the diversity of our business units with crude oil and MGL logistics, achieving record-adjusted EBITDA results. Our water volume projections are provided by our producers. We do not make these up. You can read earnings transcripts and presentations from our customers to determine the exciting future rather than looking in the rearview mirror. For instance, a super major customer has only developed 3% of its position in the Delaware. Our water future is bright. First, I'd like to address some of these research reports. that have recently been published that provide advice, promote a scorecard approach, and ask questions which are correct in many cases but misguided in others. First, is MGL focused on rateable, predictable cash flows? Obviously, yes. We've exited the two business units that were most volatile. Our food segment remains highly contracted with long-term MVCs. and our liquids business is asset heavy with 27 terminals and 5,000 rail cars. We have substantially grown long-term contracted water revenues with acreage dedications and MVCs. And we have significantly increased these long-term contracts with investment grade customers. Second, is NGO increasing its financial discipline? Again, yes. We have been decreasing indebtedness to asset sales, preferred equity issuances, and Working Capital Reductions. We are dramatically reducing CapEx in fiscal 2021 beginning this April. We are approaching free cash flow positive status net of internal growth CapEx during fiscal 2021 as a result of lower CapEx. Is MGL management aligned with common unit holders? The answer clearly is yes, more so than most. Thank you. Thank you. We have defended our $1.56 unit distribution and refused to reduce it, even though our yield has increased to as high as 15% of times. We now have a common coverage ratio of 1.5 times and increasing, so we are comfortably earning our $1.56. Four, should NGL eliminate IDRs? The answer is yes, but how best to accomplish it without impacting the common unit holder? Most eliminations involved a significant dilution to the common unit holder and a unit price decline. We are taking our time in purchasing IDRs for cash at any future dilution. There is no difference between an MLP with no IDRs and an MLP with the IDRs that is distributing nothing to the GP owners while it purchases the IDRs. Research makes no sense when analysts place NGL in the penalty box because we have IDRs but pay nothing, and they have no distribution increases projected. Fifth, should NGL convert to a C-Corp? C-Corp conversions or simplifications were disguised common unit distribution cuts. These conversions often resulted in large tax gains to the common unit holder. These C-Corps will eventually become taxable and have the added risk of rising future corporate income tax rate. NGL is aligned with the communion holder. We will not convert. We will not stick our communion holders with a large tax gain. One reason given to convert is that C-Corps returned 25% in 2019 and MLPs lost 2%. These returns are correct, but we must scratch the surface to determine why. The LP returns were down due to significant decline in the G and P sectors. During 2019, NGL actually provided a 35% total return, better than the C-Corp average. Looking ahead, we asked ourselves where the NGL commonly in order to provide a 25% annual total return for each of those five years. The answer is approximately $21, or only a $2 per year increase in the common unit price. NGL should not be penalized because it's not a C-Corp. It should not be penalized because it has IDRs that pay nothing to the owners. NGL should be embraced for successfully completing its transformation, looking out for the common end holder, and creating the attractive value proposition going forward. So finally, our focus for the future. What is it? One, self-funding. Two, continued deleveraging. These two are now possible with a 1.5-community coverage and decreasing growth CapEx requirements. Three, we're increasing ACRE's dedications, MVCs, and extending tenor of existing contracts. And fourth, turn invest rate financial metrics and credit rating. So with that, Trey, turn it back to you.

Great. Thanks, Mike. A lot to be excited about with NGL right now and in the future. Let's talk about the quarter. We had a very strong quarter financially, and we have made significant progress in simplifying our business. The highlights of the quarter from a financial perspective includes the sustained, strong performance of our crude logistics business, driven by volumes on Grand Mesa Pipeline, a record quarter from our liquid segment, which benefited from lower commodity prices for propane and butane, contributing to very strong demand for products, continued growth of our water solutions volumes, along with the full integration of Mesquite and now Hillstone assets into our Delaware Basin system, and a further reduction in our refined product segment where we completed the wind down of our mid-continent business and streamlining of our remaining businesses. All of these items contributed to adjusted EBITDA of over $200 million for the quarter, well above industry analyst expectations and a raise of our annual guidance. We have met our financial target for distribution coverage, as Mike mentioned, with a current quarter coverage of two and a half times and an LTM coverage ratio of about 1.5 times. We expect to remain above our target coverage for the foreseeable future. Our LTM pro forma adjusted EBITDA at 1231.19 is approximately $660 million as calculated for our debt covenant compliance purposes. This includes our historical adjusted EBITDA from continuing operations and pro forma additions for a full year of the acquisitions, primarily Mesquite and Hillstone, along with credit for organic capital expenditures subject to certain limitations. We funded the Hillstone acquisition during the quarter through the issuance of an additional $200 million of Class D preferred units and the remaining purchase price borrowed under our revolving credit facility. We also closed a small joint venture in Lake County, New Mexico during the quarter and utilized approximately $55 million to complete that transaction. The continued wind-down of our fine products business, along with earnings in excess of distributions for the period, contributed to a significant reduction in borrowings under the credit facility. Total debt outstanding at 1231.19 totaled just under $3.1 billion, resulting in our total leverage at five times as calculated under our credit facility, which is expected to stay around this level for the next couple of quarters while we continue to eliminate working capital, integrate Hillstone, and grow produced water volumes. Thank you for joining us. Thank you for joining us today. Adjusted EBITDA excluding discontinued operations totaled approximately $200 million for the quarter and almost $428 million year-to-date. Discontinued operations includes the historical results of the TIPSL and Mid-Continent businesses, which have been liquidated, along with the results of our glass blending business, which we are in the process of liquidating as well. We would like to note that the current quarter discontinued operations also includes TIPSL's $17 million share of fuel tax credits, which NGL retained in the sale of that business and will receive the benefit. The remaining $14 million benefit from these credits is recognized in the continuing operations of the refined products segment. As a reminder, while I cover each segment, adjusted EBITDA is a non-gap measure that we reconcile in our earnings release, investor presentations, and quarterly reports to operating income, which is a gap measure for each segment. Looking at the crude oil division, the crude segment continues to show steady performance and generate approximately $56 million of adjusted EBITDA this quarter and $162 million year-to-date. This is in line with the upper half of our original 2020 adjusted EBITDA guidance range, so we are raising and tightening our range to $215 million for this segment for the full year. Grand Mesa volumes averaged Thank you for joining us. This business continues to see very little earnings volatility despite the changes in crude prices as there remains very little direct commodity exposure in this segment. Jumping to water, water adjusted EBITDA was $62 million for the quarter and has totaled $160 million year-to-date. The current quarter of Hillstone, which closed on October 31st. Total disposal barrels were almost 1.6 million barrels per day during the quarter. This is adjusted to account for only 61 days of the Hillstone assets. The increase in volumes over the prior quarter was primarily driven by strong growth behind the Mesquite assets, which averaged almost 475,000 barrels per day during the quarter, and Hillstone, which contributed approximately 270,000 barrels per day for the quarter, again adjusted for 61 days. The growth in volumes in the Delaware Basin were partially offset by declines, mostly in the Eagleford as rig counts have declined, but also in the DJ Basin, which we believe was mostly weather and timing related during the quarter. Approximately 67% of the disposal volumes were delivered via pipeline during the quarter, and we exited the quarter with over 70% of volumes on pipe. We are expecting pipe volumes to continue to increase on our existing systems as our volume growth is focused on the Delaware Basin gathering systems. Thank you for joining us. Thank you for joining us. Our skim oil volumes total approximately 3,400 barrels per day during the quarter and realized skim oil revenues after hedges total approximately $56.90 per barrel with an average skim oil cut of 21 basis points. We are well hedged for calendar 2020 with approximately 3,700 barrels per day hedged at an average price just over $56 per barrel. We also have hedges in place through calendar 2021 at approximately $55 per barrel. Freshwater sales increased this quarter as well. As a reminder, we have freshwater agreements in place supporting a significant amount of our New Mexico permitted volumes for calendar 2020. Our Carn City solids facility in the Eagleford came back online during the quarter and drove the slight increase in solids volumes. The work performed on this facility, as well as certain well workovers, pump replacements and upgrades, drove our maintenance capital expenditures so far this year. Operating expenses were $0.42 per barrel for the quarter, adjusted for the partial quarter for Hillstone, compared to $0.40 per barrel year-to-date. The increase is mostly related to the integration of systems acquired and not yet realizing certain synergies. OpEx remains higher than budget as we work to automate facilities, increase utilization, integrate acquisitions, and streamline operations. We are also continuing to move facilities from high-cost diesel generators as we connect them to the electric power grid. We continue to focus on reducing disposal operating expense across the system with a target of $0.30 per barrel. Based on results to date, along with the updated timing from producers on expected volume increases, we currently expect to be below the low end of our previous adjusted EBITDA guidance range for fiscal 2020. Thank you for joining us today. Thank you for joining us. Thank you for joining us. Wholesale propane started the winter season with strong demand from late season crop drying and a cold November, and margins benefited early in the quarter. We have seen the forecast warm up for the remainder of the winter in certain operating areas. We are well positioned from an inventory standpoint to manage a potentially warmer season from a margin perspective, however volumes could be impacted. Potentially lower propane volume was factored into our updated guidance for this segment. Finally, refined products. Our remaining refined products business will primarily consist of our rack marketing business, which carries minimal inventory and third-party terminals across the United States, and our renewables business, which is centered around biofuels marketing. Those divisions are reflected in our continuing operations, while the remaining divisions have been removed and are now carried in our discontinued operations. The segment adjusted EBITDA for continuing operations was $24 million for the quarter, and has been $34 million year to date above the high end of our adjusted EBITDA guidance range as a result of the biofuel tax credits. We realized the benefit for the 2018 and 2019 biofuel tax credits during the quarter with a portion associated with our continuing business totaling approximately $14 million, which is reflected in this segment. We do not expect the biofuel market to generate the type of volatility we have seen in recent years as the credit is now in place through 2022. Our continuing businesses have been more stable, predictable, and carry much less inventory and therefore working capital requirements compared to the businesses we have exited. Based on our restructuring of this business and the results year-to-date, including the benefit from the tax credits, we are also increasing our adjusted EBITDA guidance range for this segment to $35 to $40 million. Thank you. Thank you. Thank you. Thank you. As a reminder, ladies and gentlemen, to ask a question, you will need to press star 1 on your telephone.

To withdraw your question, please press the pound key. Please stand by while we compile the Q&A roster. And our first question comes from the line of TJ Schultz with RBC Capital Markets.

Hey, guys. Good morning. Hi, TJ. Just first on the water volumes, I think you said about kind of three months behind schedule. Does that kind of push that exit rate that you had indicated before of, I think, 1.8 to 2 million barrels a day into June, or did that range that you gave for March not include Poker Lake? So maybe if you can just give some expectation on what exit rate would be for the end of this calendar year after Poker Lake.

So I'll start, TJ. So we were at about 1.6 million barrels for the quarter. That includes the two months of Hillstone. We are seeing volumes grow this quarter. I think we'll be at the low end of that range, heading into the exit for Q. But again, what we're seeing is a delay in volumes. Poker Lake is not expected to come on at all. So we are not factoring Poker Lake into our exit rate for the fourth quarter.

Okay, that makes sense. And then I think XCO has some pretty sizable units to the north of Poker Lake. If I look at maps that it's published that includes like James Ranch and Big Eddie, have those water rights been dedicated yet? They have not. They have not. Okay. No. Go ahead. All right. That's fine. Is that something that you would expect? They'd look at dedications this year? I don't know.

Doug, do you have any thoughts on that, what timing might be? Mike, I would say we cannot speak to that publicly at this time.

Okay. Good enough. Okay. That's fine. I'll just leave it there. Thanks, guys.

Thanks, TJ. Thank you. And our next question comes from the line of Schnoor Gershani with UBS.

Hi. Good morning, everyone. I was wondering if we could start off talking about the water business. You know, I recognize the delay with one of your producers and so forth, but I kind of wanted to focus actually on the margin side of it. You've done a lot of acquisitions, expansions over the last couple of years and so forth. When we think about the margin that you're achieving in the water business, is this quarter representative of what it's going to be on a go-forward basis? I was wondering if you can also talk to, maybe it's a second question, but if you can talk to the SCIM impacts. When you first started this years ago, The skim was a big deal. I thought with all the investments that were supposed to come down, if you can sort of give us some color with respect of how much of a percentage of the business it is or of the margin impact and how we should think about it on a normalized basis.

Thanks, Shane. To start on the margins, I'm going to say no. This is not what the expected margins would be. We do expect our net margin to be larger on a go-forward basis. If you look year-to-date, our disposal fee has been very consistent at about $0.62 a barrel. That rate may come down slightly as we prepare barrels on type, but I think that's a pretty consistent number to use. Our skim oil is generated at about 14 cents a barrel. Thank you for joining us. The acquisitions, we have not been able to bring all of our disposal facilities onto electrical power. We're still working to tie everything in on pipe. So our off-ex is running higher per barrel. Additionally, I'll point out that our operating expenses right now also include ancillary expenses related to fresh water, solids, the management of the ranches in southern New Mexico. That's something that we will look to break out. We are expecting that operating expenses will come down significantly. For disposal alone, our target is $0.30 a barrel, and we believe that is absolutely achievable. So that's where you get the large benefit from the reduction of operating costs.

Okay, and just a quick follow-on specifically on the topic. So with Poker Lake, will it have the same margin as everything that you've got on a go-forward basis, or is it a higher margin or lower margin relative to what you have right now?

We can't talk about the specific rates, but what I would indicate is Poker Lake is all delivered at one point, so very little operating expenses expected from the Poker Lake volumes.

Okay, cool. and maybe it's a phone.

Sorry, yeah? Well, your follow-up, your other question was around skim oil. As we bring more volumes on pipe, the skim oil percentage compared to disposal volume does come down. And we have been guiding that way. For this quarter, we were at 21 basis points. Again, as we continue to add volumes on pipe, that number will most likely be lower than what we have seen historically when we were primarily trucked volumes. So we will continue to update our expectations as we start from a skim oil perspective.

Okay, definitely helpful. Maybe a question for Mike. In your prepared remarks, you talked about Lower CapEx going forward and being able to pay down leverage and so forth. Can you give us a sense of the rate of decline that you're expecting in terms of CapEx? And then does a pause on acquisitions factor into that as well? You've acquired enough specifically in the water business to achieve the scale that you were originally looking for when you embarked on this and Thank you for joining us.

Total capacity, permit capacity. So there's plenty of room there, and we've completed our LEX, and 24-inch, our Poker Lake 30-inch will be complete, I think, around June 30, and then we just have the Orla 24-inch remaining. CapEx. We haven't come up with a number yet, but I can say we've batted around $100 million for water, which is going to be mostly just remaining pipe.

All right. I guess that makes sense. Perfect. Thank you very much, guys. Appreciate the color.

Thank you. And our next question comes from the line of Pierce Hammond with Simmons Energy.

Good morning and thank you for taking my questions. First question pertains to the water business and just following up on the color that you just provided on some questions related to that. But if you were to think about the adjustment in the EBITDA for the water business in three buckets, and the buckets being volumes, and like you said, the volumes are coming in, they're coming, but they're just coming in at a slower pace than what you're expecting. Revenues, and then operating expenses. Where do you think the majority of that adjustment is coming from within those three buckets?

So, Pierce, volumes and OpEx are going to be the two drivers, right? One, as we get more volumes, you are going to naturally bring down your operating expense per barrel as we get higher utilization of facilities. This is a volume game. I think the dedications that we've been able to acquire, the long-term dedications and the MVCs, allow us to capture a significant amount of the volumes in our core focus area, which we think is the best place to be in the country. Thank you for joining us.

What's the environment like right now? How competitive is it? Just some color around that would be great.

Hey, Doug, could you cover that one?

Sure. Focus being the Delaware Basin, there really are not a lot of acreage dedications or MVCs available. Through Hillstone, Mesquite, Legacy NGL, We have a very large share of the commitments in the Delaware. And then obviously some of our competitors, they have their dedications as well. So from a competitive basis, much of the opportunity for others to come in and greenfield or start competing, it's very tough for that environment due to the fact that a lot of the long-term dedications have already been inked. and that's why it's a perfect opportunity for us to now focus on fold-ins as far as folding in our contracts into our sub-regions within the Delaware, into our growth pipes and existing online capacities. It remains, but A large amount of the contracts and dedications have already been wrapped up in the basin.

Okay, thank you very much.

Thanks, Peter. Thank you. Our next question comes from the line of Spiro Donis with Credit Suisse.

Hey, morning, gentlemen. Mike, appreciate your comments around some of the qualitative attributes being cited as an overhang, but I guess I'd still argue that strong enough fundamentals should be able to overcome and many more.

Sure. As Trey went to what we call underperformance here in this quarter, a material amount, about a third of our MISTA budget, was related to generators and diesel, unbudgeted. The driver in the Delaware, especially the New Mexico portion, the provider there, there's plenty of generation in the area. There is a dearth of distribution. So their execution on their end to actually get the power distributed to this area has been a very big struggle for them, which creates, obviously, a hangover. So we come out of the woods. We took about a third of our generators offline in January, which is great news. We finally got on station power. and then by mid to late summer our expectation is to have most of the remaining generators offline and on online power. So that is coming. That's going to be a material gain for us on the EBITDA side. As far as volumes go, like Mike said, we receive the forecast directly from our customers and that's what we forecast off of. Interestingly enough, Those were lower than what they forecasted, but now we've turned the corner into February and it has gone completely the other direction and we're scrambling to say, oh my gosh, look at all this water. Good problem to have, right? There's a lot to make up, but we're seeing that turn in the strength of those forecasts coming back and actually those forecasts are outpacing... were previously forecasted. So if you take volumes and OPEX, obviously the integration side of things with Mesquite and Hillstone, we're very busy reducing OPEX and meeting those synergies that we had modeled. Those are in play. A lot of the Hillstone assets contained rental injection pumps. and other rental equipment that NGL purchases on a capital purchase. Those are being changed over and there were some of them in January, certainly in Feb to March this last quarter. We'll be seeing those expenses come off of the books. Mesquite is going very well on the integration side. We're enhancing how that business is being run and and working on OpEx on that side. So hopefully that answers your question. It's a transition. It's a new basin. Like Mike said, one of our largest customers is only 3% developed in their area. There's a lot of midstream development to happen on our end, but there's also a lot of support development around infrastructure such as power that is happening as well. And frankly, we're going to come out of the woods on a lot of that This fiscal Q4 and then Q1 of 21.

Yeah, very helpful. Thanks, Doug. Second question maybe for you, Trace, on Grand Mesa. Performing really well this year. It looks like that should continue based on the outlook. I'm just curious how you're thinking about maybe some of the credit risk right now. I think some of your major customers are seeing some of their bonds trade a little bit lower here. Yeah. Thank you for joining us.

Thank you for joining us. The volumes have remained strong, so we feel good about where things stand. It's something that we will obviously pay very close attention to, but Grand Mesa was built for these particular producers. We're a strong partner with these producers, and we will continue to partner with these producers on a future basis. Even under long-term contracts, there's still a lot of work between... These are customers in the pipeline to make sure that we're meeting each other's needs. Very helpful.

Thank you, gentlemen. Thanks, Bureau. Our next question comes from the line of Michael Bloom with Wells Fargo.

Maybe just to stay on Grand Mesa for a second. So I noticed in the quarter you talked about purchase of third-party volumes. I just want to understand, is that your marketing company business? Thank you very much.

Michael, yes, that's consistent with how the pipeline is operated from day one. Any loss that crude logistics may take into what we report. So that has been consistent since the start of the pipeline. The margin that crude logistics can generate is generally in line with the differential out of the basin. So I think I've seen some reports recently. Okay. I think that's consistent with what we would expect right now as well.

Great. And then my second question was just you recently hired an executive VP of strategic initiatives, and I just wondered maybe if you could just talk a little bit to that and what's that role going to entail, and especially I guess in light of the fact that it sounds like you've kind of done the heavy lifting on M&A in terms of the acquisitions you wanted to do. I just wanted to get a sense of that. Thanks.

This is John Seolick, Executive Vice President of Strategic Initiatives. I think that the role here is really to make sure that we, number one, don't miss any opportunities from a strategic acquisition or divestiture standpoint. And then I think that there's also a number of other important initiatives that the company is focused on, including ESG, importantly, but also to looking forward to Thanks, Michael.

Thank you, and I'm showing no further questions at this time. I will now turn the call back over to CEO Mike Krimbill for closing remarks. Well, thank you for joining, and we'll talk to you in a few months. Ladies and gentlemen, this concludes today's conference call. Thank you for participating, and you may now disconnect.