Sprague Resources LP

Ladies and gentlemen, thank you for standing by, and welcome to SPREG Resources LP fourth quarter 2020 earnings conference call. At this time, all participant lines are in a listen-only mode. After the speaker's presentation, there'll be a question and answer session. To ask a question during the session, you will need to press star then one on your telephone. Please be advised that today's conference may be recorded. If you require any further assistance, please press star then zero. I would now like to hand the conference over to your speaker today, David Linden, President and CEO. Please go ahead.

Thank you, Sarah. Good afternoon, everyone, and welcome to Sprague Resources' fourth quarter 2020 conference call. Joining me today are David Long, our Chief Financial Officer, and Paul Scoff, our Vice President and General Counsel. 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 SPRAG 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-K, 10-Q, current reports, and other filings with the SEC. We also describe our business using certain non-GAAP financial measures. Reconciliations of these measures to comparable GAAP measures are available in our non-GAAP quarterly supplement in our earnings press release, both of which can be found in the investor relations section of our website. I'd like to start today's call by recognizing the outstanding efforts by coworkers throughout the company at maintaining a safe and healthy environment while providing essential fuel and services to our customers. While we have seen isolated COVID-19 cases in various locations, we have avoided any transmission among employees due to stringent health and safety protocols. This increased attention to safety has yielded improvements on virtually all traditional HSE metrics as well, with performance above industry standards. I'm confident that our commitment to one another's wellbeing will enable us to maintain our impressive safety track record while delivering strong results. Before David provides a detailed review of our results, I'd like to offer some commentary on developments in 2020 and remind listeners of the core tenets of our business model. Our base business has generated a consistent distribution margin on the sale or handling of essential products to commercial and industrial customers in the Northeast. On top of the baseline margin, we often capture significant margin uplift when environmental or market factors leverage our advantage assets and logistical capabilities. In refined products, this materializes when cold weather related demand stress translates to higher margin realization or a contango market structure enables us to capture the value of our extensive storage assets. In natural gas, colder weather and cash market volatility generate logistical optimization opportunities given our extensive customer franchise. Our materials handling business, on the other hand, has been extremely rateable, underpinned by long-term contracts and healthy minimums. Our 2020 results highlight the potential for an outsized contribution from just one of these factors, as our storage assets generated considerable gains with a contango structure in place for most of 2020. This more than offset the much warmer conditions that persisted throughout 2020, as well as the substantial COVID-related demand weakness in transportation fuels and natural gas, as commercial activity in the Northeast was curtailed in an effort to limit community spread. Our supply and logistics teams did an outstanding job of capitalizing on opportunities while responding to shifting demand patterns caused by the virus. Our focus in 2020 also turned to opportunities to rationalize our asset base as demand patterns evolve and some locations exhibit better alternatives for the real estate. At the end of 2020, we closed on the sale of our Mount Vernon, New York terminal for conversion to a renewable natural gas facility. The sale was consummated at an attractive price and also offers potential for marketing the output of the facility once it's operational. complementing our expanding portfolio of renewable energy offerings. We see additional opportunities for asset sales and repurposing in 2021. Throughout our 150-year history, Sprague has successfully served the evolving energy needs of commercial customers across business conditions, political and social climates, and commodity markets, and I'm confident that our team will successfully navigate the current dynamics. Clearly, There's increased attention and pressure on the carbon intensity of fuels at both the federal and state level, and we expect those trends to continue. Sprague has long been a leader in the introduction of clean fuels into the Northeast markets, and we're committed to expanding that position in the coming years. Whether it comes in the form of embedded carbon offsets, higher biodiesel blends, renewable diesel, or our recently signed agreement with Biofine, to exclusively distribute their negative carbon liquid fuel as they ramp up production. We believe that renewable liquid fuels offer far greater efficacy as a heat source versus electric heat pumps, given the dramatically lower capital costs for consumers from the drop-in functionality. We continue to innovate with our solar tank program and expect to go live this quarter on an installation at our Albany facility. which is expected to provide 100% of our power needs at that terminal. Finally, at our Searsport main facility, our strong position in handling windmill components is expanding in order to keep up with the demand associated with the promise of northeastern offshore wind projects. While these exciting clean fuel development initiatives each offer compelling prospects for Sprague and our customers, It's a steady investment in innovation in our core business that will drive the return profile in 2021 through productivity growth and new margin opportunities. Our natural gas team continues to win new accounts, and our refined products team was a successful bidder on 25 new accounts in 2020, representing over 30 million incremental gallons. We recently completed the expansion into heating oil sales at our Searsport terminal, leveraging the return of storage in that facility funded by the Contango opportunity in 2020. At Kildare, the expiration of a major crude handling contract was mostly offset in 2020 by growth in other third-party storage business. Finally, we completed the conversion of storage tanks in the Bronx to long-term asphalt contracts and started handling baled plastics at Searsport in our materials handling business. In January, the board of our general partner declared a distribution of 66.75 cents per unit for the fourth quarter of 2020, which is flat to the previous quarter. Now we'd like to turn the call over to Dave Long for a detailed review of our fourth quarter and full year results.

Dave. Thank you, Dave, and good afternoon, everyone. I'm pleased to report Sprague's financial and operating results for 2020. As Dave mentioned, Sprague is able to deliver strong results despite warmer than average weather conditions and headwinds associated with the COVID-19 pandemic. Additionally, we made progress in 2020, driving higher process efficiencies in our business through targeted cost management initiatives. Now let me review our 2020 fourth quarter and full year results. Sprite's quarterly adjusted gross margin decreased by 4%, or $2.6 million to $69.9 million, as compared to the fourth quarter of 2019. While adjusted gross margin for the full year increased by 3%, or $6.8 million, to $274.8 million. The increase in our year-over-year result was attributable to supportive storage dynamics in our refined products business, which was partially offset by declines in our natural gas and material handling businesses. I'll provide more detail on the underlying results of each of these businesses shortly. Sprague's fourth quarter adjusted EBITDA of $26.1 million decreased by $5 million or 16% below the prior year. While adjusted EBITDA for the full year of $116.7 million increased by $11.2 million or 11%. Operating expenses for the fourth quarter decreased by 2% or $0.3 million to $19.3 million and for the full year decreased 9% or $7.9 million to $77.1 million. The year-over-year annual decline was primarily driven by a decrease in employee-related expenses, utilities, and boiler fuel expenses. SG&A expenses increased for the quarter and full year by 12% or $2.7 million and 4% or $3.4 million, respectively, primarily due to higher incentive compensation. which was partially offset by corporate overhead items related to the impact of COVID-19, reduction in our accretion expense, and a decrease in other employee-related expenses. Below the EBITDA line, SPREG's net cash interest expense declined on a quarterly and annual basis by 21% to $7.7 million and 9% to $33.9 million, respectively, principally due to lower net borrowing rates. Sprague's cash tax of $1.4 million for the quarter and $7.8 million for the year were higher by 33,000, or 2%, and higher by $3 million, or 61%, respectively. Maintenance capex for the fourth quarter and the full year decreased by $0.1 million, or 5%, to $2.1 million, and by $1 million, or 11%, to $8.3 million, respectively, and included projects to upgrade storage tanks, docs, and IT applications. Expansion capex decreased year-over-year by $2.7 million to $3.8 million. Distributable cash flow for the fourth quarter decreased by 15% to $17 million, while full-year results were higher by 27% to $71.4 million. Sprague's distribution coverage ratio was one times for the fourth quarter and one times for the trailing 12 months at December 31st. At the end of the fourth quarter, SPREG's permanent leverage was slightly below 3.5 times, while our borrowing capacity under our working capital and acquisition lines was $104 million and $32.2 million, respectively, which we believe provides ample borrowing capacity to finance our near-term operating and growth needs. In terms of 2021 guidance, SPREG is targeting a full-year adjusted EBITDA of $105 million to $120 million. Now for discussion of our business segments. In refined products, Sprague's fourth quarter adjusted gross margin of $42.5 million decreased by 4% or $1.8 million, while full year results of $171.6 million increased year over year by 14% or $21.5 million. Sales volumes decreased by 15% from $65.7 million to $374.2 million for the fourth quarter, while the full year it decreased 11%, $165.9 million to $1.4 billion. The primary driver for the higher year-over-year adjusted gross margin was the improved market structure to purchase, store, and hedge inventory, It presented itself in early 2020, given a surplus supply and weakened demand environment, which more than offset the decline in volume associated with the warmer weather conditions and the COVID-19 economic slowdown. In natural gas, our adjusted gross margin decreased by 8%, or $1 million, to $12.6 million for the fourth quarter, while for the full year it decreased by 25%, or $13.5 million, to $40.7 million. Volumes for both the quarter and the year were down by 8% and 10%, respectively. The declines reflect several market dynamics, including the economic slowdown due to the COVID-19 pandemic, particularly in the hospitality sector, warmer weather, and limited supply optimization opportunities, given a weak and low volatile price environment. Despite these business challenges in 2020, we believe the natural gas business is well positioned as market conditions improve. which is further supported by continued growth in its customer base. In materials handling, Sprague's fourth quarter adjusted gross margin of $13.9 million was 9% or $1.2 million higher than the same period a year ago, while full year results of $56.2 million decreased by 1% or $0.4 million. This modest year-over-year decrease was primarily attributable to a decline in Kildare, given the expiration of the Crew-by-Rail Handling Agreement at the end of May 2019, which was partially offset by additional throughput activity with our customers. Sprague's US-based operation was up modestly given additional handling activity from the windmill components in Maine, while business associated with the paper and pulp industry declined in 2020. At this point, I'd like to open the call for questions.

Thank you. To ask a question, you would need to press star then one on your telephone. To withdraw your question, please press the pound key. Please stand by while we compile the Q&A roster. Our first question comes from the line of Andrew Phillips with RGO Capital. Your line is now open.

Hi. Just a couple quick questions. What was your inventory at the end of the Q in dollars?

Show this one second, just one moment. Inventories at the end of December 31st, 2020 were $255.5 million.

Okay, and the heating degree days in the Q? Q4.

Not sure we have that exactly in front of us right now, but Q4 was... warmer than normal modestly. Again, we'd have to get back to you on the specific degree day calculation, but it was warmer than normal and slightly warmer than last year when we had a cold November in the previous year.

Sure. Just a question about the Searsport, the windmill materials handling. Is that the lone sort of, we'll call it large import materials handling facility in New England or are there other places?

That's the only current location where windmill components are being offloaded and stored. There are a number of initiatives in Massachusetts that are aiming to support the offshore wind efforts there, but there aren't any current active terminals providing those services today.

So if you were to build an offshore windmill facility, for instance off Cape Cod, Because right now, would you import it in Maine and drive it down 95, for lack of a better word, or put it on a train? How does that work? No, you wouldn't.

So the ones that are expected to be built in the Massachusetts waters, I think it's certainly Massachusetts hopes that those services will be provided by facilities in Massachusetts. We would participate in any Gulf of Maine activities that are constructed. So our efforts... to date have been oriented around supporting the efforts in the Gulf of Maine, not necessarily the Massachusetts wind initiatives.

Okay, one last question. You mentioned in your remarks the embedded carbon offsets in your business. I don't quite understand.

Yeah, so just in the latter part of 2020, we just started offering the ability for our customers to purchase embedded carbon offsets as part of either their refined product purchase or their natural gas purchase. So just making a one-step transaction for customers who wish to utilize carbon offsets.

So if I were a customer and bought offsets, would that mean you in turn would be, I don't know, supporting trees being planted somewhere? Yeah, exactly.

Well, we'd go through an established industry standard program where there are certified offsets, but we'd be essentially handling the transaction for you to make it seamless to you if you were wishing to offset the emissions of the product you purchased. We could do that as part of the transaction.

I'll go ahead. No, that's fine. So you go to a third party entity, right? And just the guidance, the EBITDA guidance, as I don't have the correct terminology, but you typically say it's assuming normal weather and normal market patterns. But the curve, the forward curve is backward dated now. I believe. And historically, the contangled curve is better for you all. When you say your guidance is consistent, that range is with a normal market pattern, is that a flat curve or slightly backward dated or slightly contangled?

Yeah, it obviously varies considerably. And usually within the period of a year, you get periods, you know, slight backwardation or slight contango, we certainly did not expect a repeat of the 2020 contango opportunity that emerged earlier in that year. But, you know, what we see in front of us today is what I'd characterize as a normal curve. It's got a few months in which there's very mild backwardation and a few months in which there's very mild contango. So, you know, in the aggregate, it's a pretty flat forward curve today.

Okay. Sorry, one last question comes to mind. The repurposing of some assets you sold in Q4, and that unusual gain, I think it was around $8 million, was that solely due to that? So what was the book value of those assets?

The book value of the assets was about $1 million or so. And then we had some expenses associated with cleanup and, you know, some – remediation obligations that we needed to complete as part of a sale.

And you think there are other opportunities out there not dissimilar to that one?

Yeah, we've got several things we're working on currently and expect to complete at least one in the near term. All right. Thanks for your time.

You're welcome.

Thank you. As a reminder, to ask a question, you would need to press star then one on your telephone. One moment for questions. There are no further questions. Ladies and gentlemen, this concludes today's conference call. We thank you for your participation. You may now disconnect. Everyone have a great day.