Knot Offshore Partners LP (KNOP) 2017 Q2 法說會逐字稿

Good afternoon and good morning. Welcome to the KNOT Offshore Partners LP Second Quarter 2017 Earnings Results Conference Call. (Operator Instructions) Please also note that today's event is being recorded.

At this time, I'd like to turn the conference call over to Mr. John Costain, CEO. Sir, please go ahead.

Thank you. If any of you have not seen the earnings release or slide presentation, they're both available on the Investors section of our website.

On today's call, our review will include non-U. S. GAAP measures such as distributable cash flow and adjusted EBITDA. The earnings release includes a reconciliation of these non-U. S. GAAP measures to the most directly comparable GAAP financial measures.

A quick reminder that any forward-looking financial statements made during today's call are subject to risks and uncertainties, and these are discussed at length in our annual and quarterly SEC filings. As you know, actual events and results can differ materially from those forward-looking statements. The partnership does not undertake the duty to update any forward-looking statements.

And now onto the presentation. KNOT Offshore Partners, KNOP's focus is on the shuttle tanker segment. The asset is still specific and an integral part of the logistics supply chain. It provides a vital service, transporting oil from the offshore oil production unit to shore side, in essence, a midstream mobile pipeline business.

Shuttle tankers operate in a space which will see substantial oil production growth in the coming years. The vessels are built to charterers' requirements and used on specific oil fields. They attract contracts which give them long-term nonvolume-based revenue streams.

Although our MLP is young, our sponsor is very experienced operator, having been involved in the design and construction of this type of vessels for over 30 years. Today, the Knutsen Group has more than 30 of these high-specification tankers, building the fleet organically during this period. In our niche sector, there has been no speculative ordering, so the partnership should yield both stable and sustainable revenues longer term.

Following on from the recent acquisitions of Raquel in 2016, Tordis in quarter 1, Vigdis in quarter 2, we are pleased to announce a further addition to the MLP fleet, the Lena Knutsen for an acquisition price of $142 million. The vessel was delivered in June 2017 and should commence 5-year charter to Royal Dutch Shell in September 2017. The acquisition by the MLP should then occur at the start of October 2017.

Our sponsor, Knutsen NYK, is accordance with Clarkson Platou Research, part of the largest shipping group in the world. And NYK is a major company in the Mitsubishi family. At the end of the second quarter of 2013, just after the IPO, we had a fleet of 4 vessels with an average age of 3.25 years. In the space of 4 short years, the fleet will have grown 250% to 14 vessels with an average age of about 4.25 years.

Now turning onto the presentation. Slide 3, the financial highlights. The partnership generated its highest-ever quarterly revenues of $54.4 million, operating income of $26.1 million and net income of $16.9 million. It generated its highest adjustable -- adjusted EBITDA of $43.5 million, distributable cash flow of $23.4 million, and we also report our highest-ever distribution coverage ratio of 143%. The fleet operated with a 100% utilization for scheduled operations, including insurance receipts for the Raquel off-hire this quarter.

On the 15th of August 2017, the partnership will pay a cash distribution of $0.52 per common unit with respect to Q2. The distributable cash flow of $16.6 million, we made a record $17.4 million distribution payment, including the recent common and preference units. Since our initial public offering over 4 years ago, we have declared and paid common unit distributions of $8.22, so our initial investors will have received a total return of 39%. Our current yield is stable distribution of around 9%.

Slide 4, other events. On August 15, the partnership entered into an agreement, as previously stated, to purchase the shares of the company which owns the shuttle tanker, Lena Knutsen, from Knutsen NYK Offshore Tankers. Knutsen NYK, our sponsor.

On the 1st of June 2017, the partnership completed the acquisition of the entity that owns the Vigdis Knutsen. Completed the successful refinancing of the credit facility secured by Hilda Knutsen. The Hilda refinancing removed the next repayment that fell due in August 2018.

At the same time, we raised an initial $25 million, reducing the loan margin by 30 basis points. The cost of the facility was 1%. We entered into an agreement for a new $25 million unsecured revolving credit facility in order to further strengthen the balance sheet and increase financial flexibility.

On June 30, KNOT successfully completed a private placement of 1.66 million additional Series A preferred units at a price of $24. The net proceeds were around $38.8 million. Subscribers to the instruments are large international funds located in 3 different continents. The placement will enable the partnership to acquire the Lena Knutsen on the 1st of October, subject to a satisfaction of a lease hold to Shell.

There are no preemptive rights with this preference issue, which are quite common to such agreements, and this is to the detriment of the issuer. The expansion of the issue is evidence that KNOT is proactive in finding other sources of capital-accretive terms when constrained by our equity markets.

The private preferred perpetual convertible equity instruments carries a fixed coupon of 8%, allowing KNOT to continue to grow through accretive acquisitions. It is not subject to adjustments and is convertible into common equity after 2 years and adjustable strike price, which is dependent upon the development of the book value of the partnership. The initial issue had a strike price of $24 and today the variation is less than [quarter 1%].

On 5th July 2017, Knutsen NYK acquired from Chevron the Brazil Voyager, a DP2 Suezmax class shuttle tanker built in 2013. The vessel, which is located in Brazil, is not currently under contract. The vessel has been renamed Brasil Knutsen, and Knutsen NYK is seeking to secure a long-term time charter for it with a view to placing it in the MLP.

Slide 5, income statement. Total revenues were $54.4 million for the 3 months ended June 30, 2017 compared to $45 million for the 3 months ended March. Q2 revenues were positively impacted by increases in time charter earnings. These were positively affected by: one, Windsor Knutsen being fully back on hire after completing its 10-year special survey and dry dock in Brest yard, France during the first quarter.

Raquel Knutsen being fully back on hire following completion of repairs to its controllable pitch propeller. Tordis Knutsen being included in the results of operations from 1st March 2017, and the Vigdis Knutsen being included in the results of operations from 1st June 2017.

Vessel operating expenses in the second quarter were $9.4 million, a reduction of $900,000 from $10.3 million in the first quarter. The reduction was mainly due to the Raquel Knutsen claim adjustments in the second quarter and also some savings on OpEx, driven by foreign exchange savings. The NOK was low compared to the U.S. dollar. General and administrative expenses of $1.5 million in Q2 were in line with the previous quarter.

Interest expense for Q2 was $7.3 million compared to $6.2 million for Q1. The increase was mainly due to additional debt incurred with the acquisition of the vessels, Tordis and Vigdis Knutsen. A higher LIBOR rate has also had a small impact. Interest rate swap agreements totaled $536.7 million. The partnership received interest based on LIBOR and paying a weighted average interest rate of 1.65% with an average maturity on these instruments of 4.1 years.

We also have foreign exchange forward contracts. These are economic hedges, vessel operating cost and total $40 million against the NOK at an average rate of NOK 8.31 per USD 1. The financial results are impacted by the changes in the market value of these instruments. And realized and unrealized losses in Q2 were $1.5 million compared to a gain of $0.5 million in Q1. As a result, net income for Q2 was $16.9 million compared to $11.4 million for Q1.

Slide 6, adjusted EBITDA. In Q2, the partnership generated adjusted EBITDA of $43.5 million. It compares to $33.2 million for Q1. Adjusted EBITDA refers to earnings before interest, taxation, depreciation and amortization. It provides a proxy for cash flow. Adjusted EBITDA is a non-U. S. GAAP measure used by our investors to measure the partnership's financial performance.

With a wasting asset like our vessel, younger fleets, in theory, should produce lower EBITDAs for every dollar invested. The annuity effect reduces the value lost in the early years, which is factored into the replacement CapEx calculation for the distributable cash flow. At the end of Q2, the KNOT fleet of 13 vessels had an average age of 4.3 years compared to the rest of the industry average for shuttle tankers, including KNOT, of around 12 years.

In general since the formation of the MLP, we have had very high levels of vessel utilization, on average, around 99.7% of the scheduled operations. Financially, this translates into continually high and increasing predictable revenue, adjusted EBITDA and discounted cash flow as more vessels are added to the fleet.

Slide 7, distributable cash flow, another non-U. S. GAAP measure to estimate distribution sustainability. Today, we report our highest-ever quarterly distributable cash flow of $23.4 million in Q2. This compares to $15.6 million in Q1. We maintain our distribution level for Q2 of $0.52 per unit, equivalent to an annual distribution of $2.08.

The distribution coverage ratio for the quarter is again our highest-ever reported at 1.43x. The coverage ratio has increased primarily due to the equity overhang being removed. The common unit issuance, 54.9 million and the preference unit, 48.6 million made on first quarter from the acquisition of Tordis and Vigdis on June 1. The preference issued 38.8 million approximately in the second quarter will be used to help finance the equity required for the Lena acquisition on the 1st of October.

The outlook for the third quarter should improve further as the Vigdis Knutsen will be on hire in the third quarter. The MLP has an elevated yield compared to most MLPs, and therefore, we have rather focused on firstly building coverage and then deleveraging when not making accretive investments. There is little benefit to this MLP in the short term hanging much over 9%.

We have raised funds of between $21 and $29 per unit. And many of our common unit holders have remained loyal, so we do not want to dilute them. We see double-digit distributions as a signal that investors would rather prefer increased coverage from investments, and secondly, deleveraging rather than increasing dividends. The coverage ratio of 1.43x in Q2 gets flexibility with regard to our capital base and also there is room for an increase in the distribution.

Slide 8, balance sheet. At the end of Q2, we had a very solid liquidity position of cash and cash equivalents of $64.5 million and an ongoing undrawn credit facility of $5 million. The credit facility is available until June 2019. In addition, the partnership have accepted an offer of an unsecured revolving credit facility from NTT Finance in Japan. The amount is for $25 million for a period of 2 years from 30th of August 2017, a margin of LIBOR plus 180 basis points with a commitment fee of 50 basis points. There is no arrangement fee.

We have a predictable cash flow and we do not have any loan maturities before the second half of 2018, for primarily the Torill Knutsen with currently $75.6 million outstanding. We are looking at this with a view to refinance before the end of the year.

The total interest-bearing debt outstanding was $906 million. This has increased due to the acquisition of Tordis and Vigdis Knutsen. Annually, we currently have scheduled repayments of $65 million. This compares to our current annualized replacement and maintenance capital expenditure charge of $40 million when computing distributable cash flow.

Slide 9, pending the Lena drop-down. We announced the latest addition to the MLP fleet. Built by Hyundai Heavy Industries in Korea and delivered in June of 2017, the Lena Knutsen, sister to Tordis and Vigdis, is a Suezmax class enhanced DP2 shuttle tanker, operating under a time charter that expires in the second -- in the third quarter of 2022 with Royal Dutch Shell in Brazil. There will be options to extend until 2032.

We have agreed with our sponsor, Knutsen NYK, to acquire the vessel for $142 million with delivery effective from the start of October 2017. The purchase price for Lena is $142 million, which is slightly less than the purchase price for Tordis and Vigdis, the sister vessels. This is despite the vessel being a bit younger than the other 2 vessels are drop-down.

The 3.4% lower purchase price reflects the reduced rate of about 3.4% over her sister vessels, Tordis and Vigdis. When the Lena time charter has ended, the interest rate levels were a bit lower and U.S. dollar bit stronger compared to the NOK, which gave a benefit on the future capital and operating costs. These were passed onto the charterer. The purchase price therefore reflects a slightly lower present value of Shell charter compared to Tordis and Vigdis. The vessel is a sister with the same technically advanced features.

The vessel will be part financed by a commercial debt of around $92 million and partly with cash from the preference equity of around $39 million. The senior loan has a margin of 190 basis points with an annual repayment of $5 million. The net charter rate will yield around $7 million in net income and approximately $15.8 million of EBITDA for the first year from October 2017. The chart has an escalator of about $600 per day applicable annually, $200,000 on the EBITDA.

As with the other sister vessels, the vessel comes with an attractive loan, a 19-year profile and a margin of 190 basis points above LIBOR. With this acquisition, which again demonstrates our sponsor's strong support and commitment to the MLP, our fleet will have grown 250% since the IPO in April 2013.

Slide 10, long-term contracts backed by leading energy companies. The Windsor Knutsen has been on a 2-year contract from 13th of October 2015 with Brazil Shipping 1, a subsidiary of Royal Dutch Shell, with a further 6 years of extension options. In July in '17, the first option is lifted, taking the term charter period through to October 2018.

The Bodil Knutsen, the largest shuttle tanker operating in the North Sea, is ice class and on chart to Statoil until May 2019. There are further 5 single-year options to extend. Four of our vessels are on long-term bareboat charter to 2023 with Petrobras Transporte. These vessels are amongst the youngest in the Petrobras fleet being delivered between 2011 and 2012 and are heavily utilized. Dan Sabia and Dan Cisne are of a unique size, and Fortaleza and Recife Knutsen have shallow drafts with lots of thruster capacity.

Delivered in 2013, the Carmen Knutsen is on charter direct to Repsol Sinopec until 2023.

The Ingrid Knutsen was delivered in December 2013 and is operating in the North Sea on time charter to Standard Marine Tønsberg, a Norwegian subsidiary of ExxonMobil. This will expire in the first quarter of 2024. The charterer has options to extend the charter for 5 1-year periods.

The Raquel Knutsen was delivered in March 2015, and it operates under a time charter that expires in the first quarter of 2025 with Repsol Sinopec in Brazil. There are options to extend until 2030.

The Tordis Knutsen is on a 5-year time charter to Brazil Shipping 1, a subsidiary of Shell. This will expire in the first quarter in 2022. The charterer has options to extend with 2 additional 5-year options total 15 years.

The sister ships of Tordis, the Vigdis and Lena Knutsen, are on a similar time charters to Shell expiring in the second and third quarters of 2022, again with options to extend a further 10 years.

Slide 11, significant growth since the IPO. With the latest acquisitions, which again demonstrates our sponsor's support and commitment to the MLP, we have an already added 9 suit in 10 ships to the fleet since the IPO. This represents a 250% increase in our 4.5 years.

Summary. KNOT Offshore Partners is, in essence, a midstream of our pipeline business with fully contracted revenue streams. Since being awarded its first 2 contracts in 1984, Knutsen has grown organically for over 30 years as the business has been built into a sizable fleet of these tankers, currently 31 units including orders. We have a solid and highly profitable contract base generated by our modern fleet, which, by the end of June, will have an average age of 4.25 years. The fleet has delivered the MLP's best-ever performance for EBITDA, distributable cash flow and distribution coverage ratio. Since the formation of KNOP, we have a very high level of vessel utilization. On average, around 99.7%. Financially, this transforms into high and increasing predictable revenue streams, adjusted EBITDA and discounted cash flow as more vessels are added to the fleet. This year, we have so far completed the acquisitions of Tordis and Vigdis Knutsen and have entered into a share purchase agreement to acquire the Lena Knutsen.

In the year-to-date to finance for growth acquisitions, we have raised both $145 million of new equity and $100 million of long-term debt, together with $25 million of credit facilities all on attractive terms. No one has more experience in operating these sophisticated shuttle tankers than Knutsen Offshore, and we operate these vessels with real expertise.

Today, supply is timing, and the market is expanding. And with tenders back soon, the sponsor expects to build a further drop-down inventory. We have a supportive sponsor, and we remain an attractive value proposition with a quarter distribution of $0.52 per unit, around 9% distribution.

Thank you, and if anyone has any questions, I'm happy to take them now.

(Operator Instructions) And our first question today comes from Hillary Cacanando from Wells Fargo.

Recently, one of your competitors ordered 2 DP2 shuttle tanker newbuilds with LNG propulsion technology. I was just curious, is this technology, I guess, to be able to use LNG as a fuel, something that you expect will be included in shuttle tanker newbuilds going forward? Would this be a normal kind of like a one-off you think?

I think with the North Sea slightly more prevalent because there are initial criteria that are basically restricting the greenhouses gases in that area of operation. So I think it's quite prudent for to do that. But looking at the schedule of legislation going forward and they're replacing. But it's not really -- it's down to what the charterer, say, a lot of the charterer specifies when they order the vessel as to what we build. And generally in Brazil, there's no requirement to build local ships and they are more expensive and probably Øystein can manage it and talk to you about it. But basically, we will build to what the charterer requirements are, not what we think we need to do. It's down to the charterer to make the decision on how he designs the vessel to that level because basically they appointed your system that means significant additional expense.

Okay, got it. That's helpful. And then just -- I know you're next -- I think your next maturities are, I guess, due in October 2018 and December of next year. And I know you've been able to tap attractive bank financings. But I was just curious, just wanted to get your thoughts on your capital structure plans. Would it look fairly traditional with bank finance, bank refinancings or would you look at different refi options? I know we've seen a lot of like sale-leaseback transactions and stuff at different MLPs as well. So just wanted to get your thoughts on your capital structure plans.

Do you want me to jump in?

Yes, you can do, Øystein, why not?

Just to mention on the refinancing. Of course, we've taken out the first facility the materials was Hilda Knutsen, and of course, (inaudible) sister vessel, so we are looking into doing something similar in terms of financing Torill Knutsen. And as John mentioned in his presentation, we aim to put something in place by year-end before the loans go into our current portion and our balance sheet. And then, of course, there are also a maturity on the Ingrid loan, but that is a very small loan because most of that loan is actually export credit loan that matures in 2025 and it's only a small commercial bank terms that matures at end of 2018. But in that way, we'll also refinance so we will see whether we fit that together with some other vessel or all we actually do it. When you do have a time charter with Exxon until 2024, that's not really an issue during the refinancing. So it's more about finding the ultimate solution. When it comes to sale leasebacks, it could be feasible, but we do think that we have solid access to bank financing that -- going to some other leasing company in order for them to kind of finance it through the banking system. Also, make that much sense for us because we have a very good access to bank financing. So our plan is to do this fairly simple finance our vessel with mostly bank financing. And then, of course, relying on the equity market for the risk capital. And so far, we haven't done any bonds and the reason is the fact that we have a lot of new fleet, and we have a good backlog so that gives us good access to bank financing. And rather than doing bonds, we have decided to do the preferred equity. We think that is more financially prudent. We have our perpetuity tender on that instrument then we have the take option. And it has a fixed yield of 8%. And if you're doing a bond, it wouldn't be that much steeper, and you would probably have a 5- to 7-year tenure on those loans. So we think -- but of course, we are flexible. If there are some good financing opportunity, we might take benefit of it. And I think we just proved that with the facility we did with Nippon telecom in this quarter that we are open to look at all those opportunities if we find them attractive. And of course, our unsecured loan at LIBOR plus 180, we do think it's very effective. Just to mention also when it comes to this LNG fuel, of course, the 2 Statoil vessels are the first to be built with LNG propulsion. In the shuttle tanker market, this is not only the latest 2 shuttle tankers. You see the same discussion in the container segment, where also people are considering whether to go for LNG fuel or scrubber. So this is something we will, of course, monitor. I think for the Statoil vessels, they were highly specialized with a contract length of up to 20 years. And of course, with Total, then maybe sticking with this vessel until 2029. I do think that they want to have the security of having the right kind of technology in terms of the propulsion system here so. And also it's related to the emissions systems in the Norwegian sector. So -- but of course, it's costly so it can typically cost $10 million, $15 million extra to add this feature to the vessel.

(Operator Instructions) Our next question comes from Nick Raza from Citi.

Really quick, John mentioned new tendering activity and the potentially -- or the possibility of rebuilding the backlog. Could you speak a little bit more about where this tendering activity is, North Sea versus Brazil? And then how the new tendering activity is coming out in terms of rates? Just give us your initial thoughts on that.

Of course, there are -- predominantly, the need for shuttle tankers are in Brazil. But right now, of course, we've seen tall orders this year and all of them are for North Sea. And of course, 2 of them are specialized for the Statoil fields in the Barents Sea. And then, of course, Teekay, when they have resolved their financial situation, they are finally now in a shape to renew their (inaudible) fleet, which is -- have aged quite a lot lately. But -- so in general, I think, going forward, I think we would see more activity from Brazil. In terms of states, they are fairly stable. They are a bit dependent on the interest rate level, the off course, and then, of course, the specification of the vessels. But from the sponsor side, we have just acquired our vessel without any contract attached to it. And the reason for this is that we do see that there is pent-up demand for vessels, and we want the position ourself for some of these charters. John, maybe you have something to add?

No, that's pretty comprehensive. I think we'd like to see a bit more growth in Brazil. It's been a bit slower. We expect it to have picked up more by now. And obviously, Teekay, I mean, I shouldn't mention them by name, no one else seems to do, but they obviously have requirements to renew their fleets and just ordering on a basis they're in a position to now. And it's good to see that the orders are going in for (inaudible) again. So we expect the market to pick up, but it hasn't done yet. It's not evolved quite as quickly as we expected to but that's just how it is.

Okay. And then, I guess, in terms of the new vessel acquired by the sponsor and then do you sort of have a sense of timing in terms of when it gets chartered and what the drop would look like?

Of course, it's more -- we can get shorter contracts, but of course, if we -- after (inaudible) into the MLP, we probably need a longer contract. So it's a bit early to say how and when it might be feasible. We just took over the vessel. So I think we will revert on the matter and the status of that contract when and if anything happens.

And it can require some type of a modern charter-free ship that can be a bit of flexibility when negotiating with the clients about tonnage requirements. We've seen in the past where we've had to provide an intermediary solution before we can place an order and get a delivery because it's quite a long lead time with these tankers. And sometimes, they may come to you and require a unit early, and it gives you quite a lot of flexibility if you've got 1 or 2 spare tankers around. It basically gives you a competitive advantage.

I got you, okay. And then in terms of the distribution, I mean, obviously, you guys have used preferred equity in the recent past to sort of facilitate the drop-downs. And they seem to be somewhat slightly accretive to right about net even. But I mean, in terms of what the equity investor can expect going forward in terms of distribution growth, John, I don't know, we've spoken about this in the past and we've discussed the difficulty of raising the distribution briefly. But any sort of color on that now that the shuttle tanker market is getting a little tighter? You might have tendering opportunities in the backlog.

Yes. I obviously think, when we have vessels and eventually, we want to raise a little capital distribution that will actually go up. Today, it's -- we can elect to increase or keep it as it is. But it gives us rather more flexibility if we don't increase the distribution. It's not really my decision. Obviously, we have the capacity to do it, do increase distribution, but we've obviously been refinancing and still refinancing ships. We're doing charter renewals and we just want to see how things fall out a little bit. But obviously, it does help to get interest in the unit by increasing distribution. And a normal MLP, you would expect and we would expect to run this way. You'd expect a 2% to 3% distribution increase per year because I guess an MLP is a bit like a pension for a lot of people. But the reality is, today, 9% and the unit price is not going up too much. We're comfortable with the distribution level. If the unit went up to $25, $26 then obviously, we would definitely increase distribution. I'm sure we would because it would be -- we have to have a sensible yield on it to make it attractive to people purchase the units. But today, I feel the unit price is -- it's a bit of a chicken and egg, as you've known yourself, but you don't want to lower the distribution too much if you haven't got unit prices to support it. I think the numbers are common to you anyway. If we keep the cover, we don't need to raise quite so much equity and the MLP naturally strengthens over time.

(Operator Instructions) And at this time, I'm showing no additional questions. I'd like to turn the conference call back over to management for any closing remarks.

Thank you for your interest and comments for the conference call and the questions we had were very good as usual. Appreciate the time you've taken. And if you like the sound of our story, go out and buy the unit. Thank you.

Ladies and gentlemen, that does conclude today's conference call. We do thank you for attending. You may now disconnect your lines.