Enviva Inc (EVA) 2015 Q3 法說會逐字稿

Good day, and welcome to the Enviva Partners third quarter 2015 earnings conference call and webcast. All participants will be in listen-only mode. (Operator instructions). Please note that this event is being recorded. I would now like to turn the conference over to Mr. Ray Kaszuba, Vice President and Treasurer of Enviva Partners. Please go ahead.

Thank you. Good morning, and welcome to the Enviva Partners, LP third quarter 2015 financial results conference call. We appreciate your interest in Enviva Partners and thank you for participating today. On this morning's call we have John Keppler, our Chairman and CEO, and Steve Reeves, Chief Financial Officer. Our agenda will be for John and Steve to make some brief remarks on our recently announced distribution increase, discuss our financial results for the third quarter released this morning, and provide an update on our current business outlook. We will then open the phone lines up for questions.

Before we get started though, a few housekeeping items. First, please keep in mind that during the course of our remarks and the subsequent Q&A session, we will be making some forward-looking statements and we will refer to certain non-GAAP measures. Our forward-looking statements or comments about future expectations are subject to a variety of business risks. Information concerning the risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements can be found in our press release which was issued this morning and is posted on the Investor Relations section of our Web site, www.Envivabiomass.com, as well as our final IPO prospectus filed with the SEC on April 29, 2015 and our recent filings with the SEC.

We assume no obligation to update any forward-looking statements to reflect new or changed events or circumstances. Reconciliations of non-GAAP measures to GAAP measures also may be found in this morning's press release.

I would now like to turn it over to John.

Thank you, Ray. And, hey everybody, good morning, and thank you for joining us on this morning's call. To kick it off, I'd like to provide a few quick comments on Enviva's performance and our strong growth potential.

As we announced last week, we increased our distribution substantially for the third quarter and will make a $0.44 per unit distribution on November 27th. The $0.44 represents an approximate 7% increase from the minimum quarterly distribution of $0.4125 cents which was the implied distribution rate we paid for the previous quarter, assuming we had been public for the full quarter which was our first as a public company.

Steve will go into more details on the quarter's financial results, but the headline here is that the operational performance and cash flow generation of our current business gave us the ability to confidently increase the distribution and maintain coverage at a solid 1.21 times. Our growth expectations provide the opportunity for further increases going forward.

As a newly public company, we get a lot of questions about our growth opportunities and anticipated growth and distributions, so let me start by saying we intend to be a company that increases its distribution quarter over quarter. We plan to do this by safely and sustainably generating stable, growing cash flows. As we think about this business, we see this growth coming from three buckets. Organic growth within the business, drop downs from our sponsor, and opportunistic third party acquisitions.

Organic growth within our portfolio of contracted plant and terminal assets is the first bucket. We are the largest supplier in an industry that, unlike much of the broader MLP sector, is growing rapidly and is by design insulated from broader commodity or oil exposure. Our scale and contracted position enable us to continue to optimize and debottleneck our facilities as well as to invest modest amounts of capital in growth projects which can sustainably increase cash flow from our portfolio of assets. Notwithstanding the modest seasonality within our business, we believe the organic growth opportunities within the business will continue to enable increases in our per unit distributions over time.

The second bucket of growth we think about in the business is drop downs from our sponsor. For our first drop, the process for which we announced during our last earnings call, our expectation continues to be that we will acquire the fully operational and contracted 510,000 metric ton per year Southampton plant in the fourth quarter of this year. Management and the conflicts committee are evaluating the transaction and associated financing with the objective of maximizing value to our unitholders. When the Southampton plant is acquired from our sponsor, along with its 500,000 ton per year 10-year offtake, take or pay contract, we expect the business to continue to increase EBITDA by approximately $20 million annually. And with that, we expect to be able to materially increase our per unit distribution further. As our first drop, we recognize this process will be precedent setting, so we are proceeding through it in an appropriate, measured way.

Additional wholly financed and contracted assets held in our sponsor's visible drop down inventory include the plants and port in what we call the Wilmington cluster. Here, construction continues at the 515,000 metric ton per year Sampson plant and the Wilmington, North Carolina deep water marine terminal, with each expected to commence operations by the end of the first quarter in 2016. We expect to have the opportunity to acquire the plant along with a long term offtake agreement in late 2016 and the port in 2017.

In contrast with many other MLPs, we do not expect to approach the public market for equity financing until late 2016. However, we do continue to believe that even in the kind of market environment we have seen lately, that the fundamentals of our sponsor's development profile will lead to executable, accretive drops that will benefit all unitholders. Having a strong sponsor supports our confidence in the long term outlook at Enviva.

Finally, the third bucket of growth opportunities is potential third party acquisitions. Here, we continue to evaluate potential opportunistic acquisitions and investments in the wood pellet space as well as in terminals and other areas of our supply chain. So when we combine the stable underlying cash flow of our contracted asset base and the ability to drive sustainable growth through first, organic increases in our contracted cash flows, second, drop downs from our sponsor, and third, potential third party acquisitions, we feel pretty good about further significant increases in our distribution going forward.

With much of the MLP and broader energy and YieldCo space facing challenging growth opportunities, volatile cash flows, and reduced or even negative distribution growth rates, we expect to continue to execute on our growth plans and differentiate Enviva from the rest of the pack.

I would now like to hand it over to Steve to drill into the third quarter financial results and provide our guidance for the fourth quarter.

Thanks John. The third quarter's strong operating performance drove solid financial results for the business. On sales of 602,000 metric tons of pellets, net revenue for the third quarter of 2015 was $116 million, representing an increase of 53% over the corresponding quarter of 2014. We sold approximately 205,000 metric tons of pellets more than third quarter of 2014 primarily as a result of increased contracted sales volume and higher production at our facilities.

While the absolute gross margin increase was driven principally by the higher volumes sold, adjusted gross margin per metric ton also improved relative to the corresponding quarter of 2014 from $32.32 per ton to $33.80 per ton. The improvement was driven by customer mix, lower shipping costs, increased plant utilization, and decreased wood costs at our existing plants. This was partially offset by an increase in the cost of purchased pellets under the biomass purchase agreement for pellets produced by the Southampton plant. You will recall that in the corresponding period of 2014, we owned the Southampton plant and captured the full benefit of the manufacturing margin on those pellets, and this benefit will accrue to the partnership upon acquisition of the Southampton plant from our sponsor.

On net income of $6.4 million, adjusted EBITDA improved to $15.9 million for the third quarter of 2015 from adjusted EBITDA of $10 million for the corresponding quarter of the prior year, a 59% increase. The increase was the result of higher volumes sold and improved adjusted gross margin per metric ton already discussed. Higher G&A expenses, mainly due to associated costs of being a public company, primarily offset some of that improvement. Third quarter 2015 adjusted EBITDA is consistent with second quarter on slightly revenues. The benefit of higher revenues and cost improvements in the current quarter largely matched the margin contribution of the acquired third party ship in the second quarter.

After maintenance capital expenditures of $700,000 and interest expense net of amortization of debt issuance cost and original issue discount of $2.5 million, distributable cash flow for the third quarter of 2015 was $12.6 million which covered the $0.44 distribution we announced this week to 1.12 times.

From a liquidity perspective we closed the quarter with $75 million of cash on hand that is available for general purposes including potential acquisitions. In addition, we have $20 million of undrawn available capacity on our revolver after reserving $5 million to support letter of credit commitments.

During the quarter we also brought online the first of a few modest capital growth investments at our existing facilities designed to expand margins either through increased production volumes or reduced costs. For example, this quarter we, with an approximately $1 million investment, we installed and commissioned a new truck unloading facility at our new Cottondale plant that we expect will drive $1 million in cost savings annually commencing in 2016 by enabling access to new lower cost raw material sources and providers.

As you saw in our press release, we are providing guidance for the fourth quarter of 2015. Just for clarity, it should be noted that all amounts reflect the base business and do not give effect to any potential drops or other acquisitions occurring this year, not even the Southampton plant we expect to drop in the fourth quarter.

On this basis, for the fourth quarter of 2015, we project to earn income in the range of $5.6 million to $6.6 million with associated EBITDA of -- associated adjusted EBITDA of between $14.8 million and $15.8 million. We expect maintenance capital expenditures to be between half a million and $1 million and interest less amortization of debt issuance costs and original issue discount for the same period to be $2.5 million.

As a result, the partnership expects to generate distributable cash flow of $11.3 million to $12.3 million for the fourth quarter. This guidance is in line with the guidance we previously provided for the second half of 2015. You may, however, notice that the adjusted EBITDA expected in the fourth quarter is slightly below the run rate of prior quarters. From quarter to quarter some variability is of course typical as our cash flow is subject to contractual mix, shipping timing and seasonal periods of colder winter weather, but tends to smooth out over the year and settle into a $15 million to $16 million per quarter run rate as we have discussed previously.

As you saw in our press release, we will fulfil an unfavorable contracted shipment, one of two inherited as part of the acquisition of the Cottondale facility. And we expect to receive a utility refund that will partially offset the impact of the shipment. So again, fourth quarter is shaping up in line with our previous guidance.

Now I would like to turn it back John to discuss the broader market activity.

Thanks, Steve. I want to take just a few minutes to provide an update on the markets we serve as there has been a lot of activity and news since our last call. Not only in our core European power generator segment, but around the world and in other wood pellet sectors as well. First off, I am pleased to see policy makers and capital markets participants beginning to discuss the cost effectiveness of renewable energy generation on a total cost basis. Appropriately including the additional cost of back up generation, balancing services, and transmission enhancements needed for intermittent generation like solar and wind.

On this basis, biomass is even more cost effective relative to other options, an especially important point during a time of austerity. As regulators around the world evaluate options to quickly meet renewable targets and carbon emissions reductions in a sustainable manner, while maintaining grid stability and keeping electricity builds as low as possible, biomass has the potential to continue to be at the top of the list.

The market was reminded of this yesterday and reinforced the importance of stable, base load power generation, reinforcing the need to look at renewable power options of a total cost basis. You may have seen the Financial Times coverage that the UK National Grid had to take significant actions yesterday to balance the power grid after a relatively small amount of generation unexpectedly went offline and wind output was low. Particularly noteworthy is that this occurred on a mild autumn day. Prices spiked to 2,500 pounds per megawatt hour. Contrast that to the 100 pound per megawatt hour contract for differences awarded for stable baseload renewable power fired with biomass, and I think we can see some interesting opportunities ahead as the UK looks to further shut down its coal fleet. And winter is coming, when the UK power reserve margin is expected to be at its tightest.

So given the substantial benefits of biomass, several major coal to wood pellet conversions in Europe are proceeding as expected. DONG Energy continues to migrate its coal fired generation fleet to biomass with the conversion of its 360 megawatt Studstrup unit and expansion of its 250 megawatt Avedore unit one on track. These units are expected to require around 1 million tons of pellets annually starting in 2016 in addition to the demand derived from DONG's existing biomass facilities. As a reminder, our sponsor already has a 420,000 ton 10-year offtake agreement with an affiliate of DONG Energy that commences in 2016.

In addition, E.ON has announced the sale of its 556 megawatt Langerlo facility. The buyer is expected to convert he facility to wood pellet fuel and require more than 1.5 million tons annually starting in 2017.

Separately, the financing for the Macquarie-backed 299 megawatt MGT Teesside plant is progressing towards financial close in early 2016 and its selection of lenders has commenced. This project has already received EU state aid approval for its contract for difference and is expected to need more than 1 million tons of pellets annually starting in 2019.

Drax's third 660 megawatt biomass unit is now operational and ramping up towards full capacity and that unit is expected to consume more than 2 million tons of pellets annually. In addition,

RWE's Lynemouth facility is expected to command more than 1.5 million tons of wood pellets annually. Both facilities have received confirmation from the UK government that they can move forward under the Renewable Obligation Certificate, or ROC incentive, should their contracts for difference, which have been granted by the UK government, not receive the pending EU state-aid approval process for some reason.

In the Netherlands, the Minister of Economic Affairs stated in a letter to Parliament his plan to significantly increase the budget for the renewable incentive program from 3.5 billion Euros in 2015 to 8 billion Euros in 2016 to help meet the binding renewable targets which the country is currently well short of. This large increase is consistent with the report from the Dutch Court of Audit that the budget needed to be increased to meet that binding goal. Our customers expect several power and industrial heating projects to be awarded incentives next year.

Because of the observable plant conversions, market expectations in the Netherlands for 2016 as well as other activity, the European industrial pellet demand is expected to increase to nearly 23 million tons by 2019, up from about 9 million tons at the end of 2014. With much of that demand not yet contracted, and power generators and their investors seeking long term reliable fuel supply, Enviva is well positioned as the largest producer in the market with an outstanding reliability record. Although we still have considerable duration left on our current contract portfolio, with a weighted average tenor of 5.2 years, as a proven critical supply partner in this industry, we and our sponsor remain on track with active negotiations for additional fuel supply contracts, principally for the next major transfers of utility conversions for which deliveries will begin in the late 2017 timeframe.

While we expect to benefit from the strong growth in our core European utility market segment, we are evaluating opportunities elsewhere was well. The adjacent heating pellet market in the US and abroad is currently larger than the industrial pellet market and also expected to grow rapidly in the near term with forecast 9% annual growth through 2019 next to the 20% annual growth expected in the worldwide industrial market. We serve this market modestly today, and given the largely fungible nature of wood pellets between the industrial and heating markets, we will continue to benefit from growth of heating demand both directly by supplying that market, but also indirectly as demand for wood pellets for heating purposes pulls already scarce supply away from industrial use. In addition, we expect there to be industrial demand opportunities in Asia as well as in the United States as the clean power plan potentially comes into effect.

In an industry where defined market segments are growing by as much as 20% per year and new markets and geographies continue to open, we expect to not only re-contract the volumes within our portfolio, but also for our sponsor to enter into material additional volumes that underpin its capacity of development activities and provide a foundation and opportunity for longer term growth for the partnership. And while we are determined to realize topline growth opportunities, we certainly have not lost sight of the importance of operational excellence, maximizing the production at our strategically located plants, and focusing on safety and reducing costs.

For the two quarters since our IPO, we have demonstrated the durability of our underlying cash flows and because of the highly visible growth in front of us, I'm excited about the opportunities to continue to increase the distribution going forward. Thank you all for listening. As we close, I would like to thank all of the dedicated Enviva associates for their hard work which resulted in another solid quarter. I'd like to turn it over to Ray now.

Thanks, John. Quickly before we open the lines up for questions, I just wanted to point out the investor presentation we posted on our Investor Relations site a few weeks ago. Our plan is to periodically update this presentation and I hope you find it useful.

Operator, can you please open the line up for questions now?

(Operator Instructions). Mike Hatka, Barclays.

John, Steve, good morning. I appreciate your comments about the first drop down being precedent setting. I was wondering if you could talk a bit more about how you're thinking about purchase multiples given that the first will likely be financed with a larger portion of cash on hand versus the second which will require more public equity which is obviously traded off since the IPO.

Sure, thanks. This is Steve. While we can't necessarily comment on ongoing negotiations, we have previously indicated that kind of the comparable transactions, albeit in different market conditions and perhaps with a different set of facts, have executed in the 6.5 to 7 times range including our acquisition of the Cottondale facility. The multiple is a factor of the facts on hand as well as the feedback that the market is giving us currently. So we're still in those negotiations and can't comment on specifics, but that's the guidance we've provided previously.

Okay, got it. And then if some of the coal to biomass conversions you guys have discussed proceed, what kind of timing should we be looking for, for contracts being awarded? I'm just trying to kind of level set expectations in terms of when we should be realistically looking for announcements from you guys about additional capacity being contracted.

That's a great question. What I would say is that we expect to enter into additional contracted positions by early 2016 if not before the end of this year for some of the open position, which I'd remind everybody is still about 2 years way.

Okay, great. That's all for me. Thank you.

Brian Yu, Citi.

Thanks. Good morning, and good quarter, John and Steve. Steve, first question is kind of related to the other one about contract positions. What percentage of your volumes are contracted for next year? And for Southampton, I think earlier you mentioned that the sponsor had 400,000 tons contracted. Is that all of it or is that just one of the contracts that's 400,000 tons?

Yeah. No, two good questions there. So for next year we're 100% contracted of our current capacity. And with the Southampton drop, the Southampton asset will come down with a 500,000 ton per year 10-year offtake agreement.

Okay. And somewhat related to it, you mentioned about opportunities in the US heating market. If you're fully contracted, how are you going to be able to take advantage of that? Is that by buying in third party pellets and then reselling it?

Well I think the US heating market I think is like all heating markets, right? And today, as I mentioned, some of our production today ultimately migrates to the European heating market as well. We do not currently today serve the US market. But it's something that we're taking a look at. Certainly within each of our facilities, as you 've seen sort of quarter on quarter, year on year, modest capacity growth, some of which we've talked about explicitly, we do see the opportunity to leverage modest capital investments, increasing production, and I would say that as and when we have the right opportunity to enter the US market, under the right conditions, that that capacity would most likely come from our own facilities.

But that's not a 2015 /16 season, that's probably the following winter season.

Got it. And if I could just sneak one more in, there's been a lot of talk about el Ni?o and this isn't necessarily a weather question, but let's say we do get quite a bit more rainfall. Is this something that you guys can do within your operation to try to minimize the drying costs for input? Or is it not a significant operating issue that you guys would consider?

Good question. Look, the weather can be a factor and if we don't operate with operational excellence, we wouldn't be doing our job. But I can give you a good example that Joachim, certainly Hurricane Joachim was a pretty significant weather event for the southeast US as it came through last month or so. We didn't see a material degradation of our activities. Facilities as you saw in the quarter performed extremely well and that's because of the great operations work our team undertakes.

Okay, thanks.

(Operator Instructions). James Jampel, HITE.

Thanks for taking the question. Could you talk a little bit about potential response on the supply side by your competitors? Certainly things look good on the demand end, but when might we expect to see pricing pressure from increased competition for wood pellet supply?

Well I think there's a couple of things that go on there, right? Certainly the broader utility conversions that we've outlined will continue to increase the supply side pressure. And against that scarcity, one could draw the conclusion that prices would rise. I think a cold winter in Europe and the US will continue to pull volumes that are already scarce away from the utility set and should provide additional pricing pressure. We have not yet seen material supply side increases throughout certainly our Babur basins or the areas in which we operate. But again, we do look forward to continuing to see our colleagues at Rentek and at Drax as their facilities continue to come out of the ground and are commissioned and further operating.

What in your view is causing the relatively slow supply side response? Is it that you guys are seeing something others aren't or they just can't get their act together, or lack of capital? What might it be?

Well I think when you look at when the next major tranches of utility demand come online, which is really the second half of 2017 as we talked about, that run up to meeting that tranche of demand is probably when we will expect to see further supply side response. I mean as we've talked about, our own sponsor's led development pipeline with the Wilmington cluster, our sponsor's Hamlet facility, you'll see those additional facilities come online commensurate with the demand pull. And when those major facilities in somewhat a lumpy fashion begin to draw demand, or rather draw supply.

So you don't see any major new sources of supply coming on in advance of that second half of 2017 utility demand?

I think it would be a largely speculative investment for people to be making to seek to enter a merchant type series of volumes. And that I think is a challenging position from anyone who's looking to finance that. Certainly we do see plants under construction and some of which are going through our sponsor's terminal in the Port of Wilmington, Colombo Energy out of South Carolina. So there are pockets of this. I think they are just more closely tied to the next major tranches of contracted demand. Again, this is an infrastructure business. We build our business on the backs of long term contracted offtake that give us the certainty of cash flows.

All right, thank you.

Pavel Molchanov, Raymond James.

Hey, guys, thanks for taking the question. Two kind of macro topics if I may. In the UK, some speculation in the media that the government may announce a full phase out of all coal fired generation by 2023. Have you kind of done the math on what that theoretically would do to the addressable market if all the plants had to switch to pellets?

We're taking obviously an informed look at that driven principally by our customers who have the existing coal fired, and potential customers, of the existing coal fired generating assets. Again, look at yesterday in the UK, right? The small amount of capacity goes offline, wind is low, reserve margin already short, but boy, it was just a mild autumn day. So you're right, Pavel, you roll that forward and you think, okay, cold winter, the end of coal as the UK knows it, and boy, the upside to our estimate is pretty dramatic.

Okay. And kind of similar one, again, maybe a longer term opportunity. What are you looking for from these state level plans that everybody will be filing with the EPA over the next I think 24 months? Are there particular geographies that you're focusing on to give you a sense of is there going to be a domestic demand profile for pellets?

Pavel, again, good question. What I would say is, it's early going, right? The clean power plant I think is a robust piece of legislation and the regulatory framework it provides, not surprisingly, already been challenged by 26 states. And I was interested to see that 18 states are looking to intervene in defense of the plan. So I think there is some wood chop, no pun intended, between here and an actual enforceable regulatory framework, but what I will tell you is that because the clean power plan provides some interesting incentives to accelerate adoption, that's where I think some of the early opportunities for biomass can be a bit promising. Because it is so quick and easy to either convert or co-fire an existing coal fired asset. So we're underway with the analysis, taking a good long look at where those plant specific opportunities may be attractive in states that are facing some pretty aggressive renewable targets. And frankly that match of existing assets, states that are pretty short against their targets, as well as the opportunities from some of these specific plants, we're optimistic, but some ways to go.

Right. So I guess would it be for sort of West Virginia, Kentucky, Tennessee, the really coal heavy states that you would rely on? Because these are obviously not the guys that have the aggressive renewable legislation as they stand today.

Well I think it's a bit early to tell. Certainly folks are challenging the plan today, so I think it's a bit early to tell. But believe me, Pavel, we're deep into the analytics of which will be the most promising opportunities. And frankly, as we have the chance to be able to communicate directly on those, we certainly will.

All right. Appreciate it, guys.

(Operator Instructions).

This is Ray Kaszuba. And again, for everybody, if you have any questions that come up after the call, feel free to reach out to me.

Yes. Thanks for your interest in EVA. We look forward to chatting next quarter.

Ladies and gentlemen, the conference has now concluded, thank you for attending today's presentation, you may disconnect your telephones. Thank you.