Suburban Propane Partners LP (SPH) 2017 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Suburban Propane Second Quarter 2017 Financial Results Conference Call. (Operator Instructions)

And now I will read the safe harbor statement. This conference call contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, relating to the partnership's future business expectations and predictions and financial condition and results of operations. These forward-looking statements involve certain risks and uncertainties. The partnership has listed some of the important factors that would -- could cause actual results to differ materially from those discussed in such forward-looking statements, which are referred to as cautionary statements in its earnings press release, which can be viewed on the company's website. All subsequent written and oral forward-looking statements attributable to the partnership or persons acting on its behalf are expressly qualified in their entirety by such cautionary statements. I would now like to turn the conference over to the -- to Davin D'Ambrosio. Please go ahead, sir.

Second Quarter's Earnings Conference Call. Joining me this morning is Mike Stivala, President and Chief Executive Officer; Mike Kuglin, Chief Financial Officer and Chief Accounting Officer; and Steve Boyd, our Senior Vice President of Operations.

Purpose of today's call is to review our second quarter financial results, along with our current outlook for the business. As usual, once we've concluded our prepared remarks, we will open the session to questions. However, before getting started, I would like to briefly reemphasize what the operator has just explained about forward-looking statements. Additional information about factors that could cause actual results to differ materially from those discussed in forward-looking statements is contained in the partnership's SEC filings, including its Form 10-K for the fiscal year ended September 24, 2016, and its Form 10-Q for the period ended March 25, 2017, which will be filed by the end of business today. Copies of these filings may be obtained by contacting the partnership or the SEC.

Certain non-GAAP measures will be discussed on this call. We have provided a description of those measures as well as a discussion of why we believe this information to be useful in our Form 8-K furnished to the SEC this morning. The Form 8-K can be accessed through a link on our website at suburbanpropane.com. At this point, I will turn the call over to Mike Stivala for some opening remarks. Mike?

Great. Thanks, Davin, and thank you all for joining us this morning. The fiscal 2017 heating season as a whole shaped up to be essentially comparable to last year's record warm winter. And in many parts of the country, average temperatures were significantly warmer than last year. Looking at our first and second quarters combined, the heating degree day index was reported at 14% warmer than normal, and that compares to the prior year which was 18% warmer than normal. However, the weather pattern in this year's heating season was much more challenging than last year. The 2016-2017 heating season consisted of record warm temperatures in each of the first 2 months of the first and second quarters and 2 separate 3-week stretches of cold weather towards the end of both December and March. The second quarter itself was reported at 15% warmer than normal and 2% warmer than the prior year second quarter. And in some of our service territories, particularly in the Midwest and Southeast, average temperatures were as much as 30% warmer than normal and 16% warmer than the prior year. This 2-year stretch of record warm weather has been an unprecedented period for the industry, and has had an obvious effect on customer demand for heating purposes. As we've stated throughout this extended stretch of record warm temperatures, the fundamentals of our business continue to be sound. Meaning, we have a flexible operating model, which allows us to be nimble. We continue to manage and control our costs and capital spending, our field personnel have done an excellent job managing margins during the volatile commodity price environment and our customer base has benefited from our growth and retention initiatives.

In fact, with the short burst of colder weather experienced in the latter parts of December and March, our volumes and earnings responded strongly as expected, which is a testament to the strength and readiness of our platform. All that being said, we are pleased to report an improvement of $10 million or nearly 5% in adjusted EBITDA for the first half of fiscal 2017 compared to the prior year, despite the more challenging weather scenario.

Let me make a few comments on our balance sheet liquidity. Certainly, this unprecedented back-to-back record warm winter scenario has stretched our balance sheet temporarily due to lower earnings coupled with higher borrowings to fund our cash needs. Nonetheless, conservative balance sheet management has always been a core philosophy of ours. One that has served us well in managing through challenging environments in the past as well as through this prolonged stretch of record warm weather. We are committed to maintaining a strong balance sheet. And let me highlight a couple of proactive steps we have already taken to reduce interest costs and provide added flexibility.

First, during the quarter, we took advantage of the continued low interest rate environment to refinance our previous 7 3/8% senior notes which were due to mature in 2021 with a new issuance of 5 7/8% senior notes due 2027. This refinancing extended the maturity on $350 million of senior debt by nearly 6 years and reduces our annual interest cost by approximately $5 million.

Second, as announced in our press release this morning, we proactively worked with our bank group to amend our revolving credit facility to drive -- provide ourselves with added flexibility for the next 15 months in managing our leverage and liquidity. We received strong support from our bank group, which is a testament to their confidence in our operating philosophy and business fundamentals. The amendment provides added cushion under the consolidated leverage test by increasing the maximum leverage threshold from the current level of 5.5x to 5.95x starting with the fiscal quarter ending June, 2017, through each of the fiscal quarters ending June 2018, stepping down to 5.75x for the quarter ending September 2018, until returning to the current threshold commencing with the quarter ending December 2018.

Now let me emphasize, this amendment was not necessary in order for Suburban Propane to remain in compliance with our current covenant threshold based on our outlook for the business. Nonetheless, we felt it was a prudent measure that will give us added flexibility to support our cash needs through the remainder of this fiscal year, provide us with added liquidity to continue to invest in the long-term growth of Suburban, and allow us to gain visibility into next year's heating season, at added flexibility that makes good sense and didn't cost us much.

In a moment, I'll come back for some closing remarks, however, at this point I'd like to turn the call to Mike Kuglin to discuss our second quarter results in some more detail. Mike?

Thanks, Mike, and good morning, everyone. Now let me start by providing the details of our second quarter results, and then add a little context to the year-to-date results that Mike referenced in his opening remarks. To be consistent with previous reporting, as I discuss our second quarter results, I'm excluding the impact of unrealized noncash mark-to-market adjustments on derivative instruments used in risk management activities which resulted in unrealized loss of $2.5 million in the second quarter of fiscal 2017 compared to an unrealized loss of $739,000 in the prior year. Additionally, net income and EBITDA for the second quarter of fiscal 2017 include a loss on debt extinguishment of $1.6 million associated with refinancing of our 2021 senior notes, compared to a $292,000 loss on debt extinguishment in the prior year, associated with the refinancing of our revolving credit facility.

Excluding these items, net income for the second quarter of fiscal 2017 would have amounted to $87.9 million or $1.44 per common unit, compared to net income of $93 million or $1.53 per common unit in the prior year second quarter. Adjusted EBITDA for the second quarter of fiscal 2017 amounted to $138 million compared to $145.1 million in the prior year. As Mike indicated, record warm weather was once again the story for both the first and second quarters of fiscal 2017. In fact, the 2016-2017 winter is now considered the second warmest on record. As a result of this challenging weather pattern and resulting lack of customer demand for heating purposes, retail propane gallons sold in the second quarter of fiscal 2017 of 153.9 million gallons, decreased 7.7 million gallons or 4.8% compared to the prior year. Sales of fuel oil and other refined fuels in the second quarter of fiscal 2017 of 13 million gallons decreased 2.3% compared to the prior year.

Similar to the first quarter, the first 2 months of the second quarter were reported as record warm. And in certain markets, temperatures were dramatically warmer than normal. Only our Northeast and West Coast regions experienced somewhat favorable weather for the quarter compared to the prior year. Overall, average temperatures across all of our service territories for the second quarter of fiscal 2017 were 15% warmer than normal and 2% warmer than the prior year. When colder temperatures arrived in mid-March and lasted through the end of the quarter, our volumes responded strongly.

In the commodity markets, the rallying propane prices that started in the first quarter continued into the early part of the second quarter, and created a volatile and challenging environment. Posted prices based on Mont Belvieu reached a high of $0.93 per gallon in early February, before settling back down around $0.61 per gallon at the end of the quarter. The average posted price for the quarter was $0.72 per gallon compared to $0.38 per gallon in the prior year second quarter, an increase of nearly 85%.

Total gross margins of $260.6 million for the second quarter of fiscal 2017 were $7.2 million or 2.7% lower than the prior year, primarily due to lower volumes sold. Unit margins for the second quarter were flat to the prior year.

With respect to expenses, combined operating and G&A expenses of $122.6 million were essentially flat to the prior year. Savings from the initiatives taken last year to reduce our fixed costs, excluding reduced payroll and vehicle count, were offset by higher reserves associated with our general insurance, higher fuel costs to operate our fleet and higher bad debt expense as a result of higher commodity prices.

Net interest expense of $17.5 million for the second quarter of fiscal 2017 decreased $1.4 million, primarily due to savings from the refinancing of the partnership's previously outstanding 2021 senior notes that Mike mentioned earlier.

Total capital spending for the second quarter of fiscal 2017 amounted to $10.4 million, including $3 million of maintenance capital, compared to total CapEx of $11.8 million in the prior year.

Looking at the year-to-date performance, as Mike mentioned, 4 of the 6 months were reported as record warm. Despite a more challenging weather pattern, propane volumes of 272.5 million gallons were slightly ahead of prior year; gross margins of $459.3 million or $6.9 million were 1.5% higher than the prior year; plant operating and G&A expenses of $237 million were 1.3% below the prior year. Adjusted EBITDA for the first half was $222.3 million which was $10 million or nearly 5% higher than the prior year. In addition to the improvement in adjusted EBITDA, our distributable cash flow in the first half of fiscal 2017 benefited from savings and interest expense of $1.4 million and from lower capital expenditures which were $7.5 million or 30% less than the comparable period in the prior year.

Turning to our balance sheet. We've now moved through our historically high period of seasonal working capital needs. And during the second quarter, we funded working capital, capital expenditures and costs associated with our senior notes refinancing from operating cash flow and $26.4 million of borrowings under our revolver. We ended the second quarter with total borrowings of $129.3 million under our revolver, which includes the typical $100 million that we've historically held outstanding. Mike has already addressed the proactive amendment to our revolving credit facility. So I won't comment further on that other than to once again say thank you to our bank group for the full support provided. While our leverage profile continues to be elevated compared to our historical range given the impact on earnings from the sustained record warm temperatures, our outlook for the current year leads us to believe that we are to continue to be within the covenant threshold in effect prior to the amendment. To repeat what Mike has already said, this amendment provides us with added cushion, flexibility and liquidity. Back to you, Mike.

Thanks, Mike. As announced in our April 20 press release, our Board of Supervisors declared our quarterly distribution of $0.8875 per common unit in respect of our second quarter of fiscal 2017. That equates to an annualized rate of $3.55 per common unit. The quarterly distribution will be paid on May 9 to our unitholders of record as of May 2.

There's no doubt that this unprecedented back-to-back stretch of record warm weather has presented many challenges for operating personnel, and has stretched our balance sheet. However, our operating -- our flexible operating model, unwavering focus on delivering exceptional customer service and the strength of our balance sheet coming into this 2-year period, when our consolidated leverage was at 3.6x based on the level of earnings for fiscal 2015, these are all attributes that have helped us navigate the challenges. As we have stated in the past, a return to a more normal weather pattern would increase customer demand, improve our earnings profile and naturally begin to bring our leverage metrics closer to our target levels. This was evident when we did experience some amount of normal weather in the latter parts of both December and March of this fiscal year as customer demand surged and our earnings responded. We are also proud of our ability to improve our adjusted EBITDA on a year-to-date basis in what was considered an even less favorable weather pattern compared to last year. And believe that the amendment to our revolver is a prudent step in giving us added flexibility and liquidity. We've always been known for our conservative approach to managing our balance sheet. And as I stated in my opening remarks, we remain committed to maintaining a strong balance sheet. Over the course of the next several months, as we prepare our business for next year's heating season, we will be challenging ourselves to think about our business a little differently. Particularly, as we look to gauge customer demand in light of the recent warm weather trends. And not just the past 2 winters but a warming trend that we've experienced over the last decade. All with the goals of providing adequate cushion against the potential for future weather-driven demand softness and adding flexibility for continued investment in our long-term growth initiatives. Beyond the steps already taken to help improve earnings and provide added liquidity, we will be evaluating additional measures to help restore our balance sheet strength, improve our distribution coverage and further enhance our liquidity position. We continue to manage this business for the long term and balance sheet strength is key to our long-term success.

Finally, let me take this time to thank the more than 3,400 employees of Suburban Propane for maintaining their focus on the safety and comfort of our customers, on our customer base growth and retention initiatives and on managing the things they can control throughout this extended challenging operating environment. And as always, we appreciate your support and attention this morning. And we'd now like to open the call up for questions. And David, if you wouldn't mind helping me with that.

(Operator Instructions) And our first question comes from the line of Gabe Moreen with Bank of America.

Mike, maybe I can follow up on the last comments you just made in terms of thinking about the business differently and giving yourself more cushion. Can you just talk about, I guess, in terms of priorities, does that mean capital raise? Does that mean reevaluating distribution? Cost savings are scaling the business. Can you just maybe talk about, I guess, ranking those in sort of order that you're looking at things?

Yes. Thanks, Gabe. Look, we've always had a reputation for being excellent and efficient operators in the industry. And obviously, you know that we've always been good stewards of our balance sheet. And the fundamentals of this business continue to be sound. So the challenges that we've had in the past 2 years have certainly caused us to step back and think about our business. For example, what are the expectations for demand in light of the recent weather trends? To the extent of continued warm weather, what should our operating model and our cost structure look like to balance flexibility while ensuring our platform continues to be able to deliver the high level of service that our customers deserve? What's the right target leverage? What's the right target distribution coverage to provide adequate cushion to space the potential for further softness in demand? Are there nonstrategic assets that could make sense to monetize? That's all part of just running a business for the long term. These are the obvious questions that we should be asking ourselves. You touched on all of them. So, I guess, clearly, the most important thing would be is if we can get a return to more normal weather that would help increase customer demand, improve the earnings and naturally begin to reduce leverage to the end the strong balance sheet supports our growth and helps insulate the business from weather-driven demand volatility. And so there's a number of things that we can do to help achieve our long-term objectives. And as you stated -- you rattled off a bunch of things and I think we'll be evaluating all aspects of our business to help improve all of our key performance metrics.

Mike, do you think you need to do that? You've obviously with the credit covenant, even if you don't think you need it, you've given yourself breathing room. I think in terms of maybe getting yourself to next winter to see if you actually get some semblance of weather showing up. Do you think you need to reevaluate things before you get to next winter? Or you're willing to say, hey, let's get to next winter and maybe, hopefully it won't be an unprecedented third in a row of really warm weather?

Well, certainly a third in a row weather changes a lot of things in terms of demand. And I think the whole industry would have to sort of step back and reevaluate the weather demand. So for us, I think we take a hard look at our business every year at this time, okay? This is our budget season. We take the summer and step back and reevaluate the business. So I don't think this is anything overly new, Gabe. I think, as you said, that the revolver amendment that we did certainly provides a lot of flexibility to gain visibility into next year's heating season. But we're going to be going through all of this over the course of the next several months, just so that we're prepared. And it's not a reactive move just because weather didn't show up. We want to be proactive and be prepared for, call it, the worst-case scenario, which we thought last year worst case scenario was a repeat weather. Well now, we've lived through that. And frankly, we are extremely proud of our performance through that, okay? If you look at our metrics through this prolonged stretch, to be able to report a modest increase in volumes sold year-over-year through the first half of the year and a 5% improvement in adjusted EBITDA in what we consider to be a more challenging environment. I think that speaks to the quality of our people and the quality of our operating platform. And frankly, that our customer base continues to be well intact. So we're built for the long term, we have many opportunities for further growth ahead of us. We are going to continue to position the balance sheet for the next phase of growth. And as I mentioned in the opening remarks, we will think about our business a little bit differently so that we are prepared to be proactive as opposed to reactive as the new heating season approaches.

And then sort of related to that, when you think about building inventory going into next season. Can you just talk about -- or help us frame, are you going to be trying to build less inventory? What do you think you may need to draw and use from a working capital perspective kind of going into next winter heating season?

No, I don't think we're going to look at the preparation for next year's heating season from a supply perspective any differently than we always do. We contract for annual contracts with our suppliers. We have excellent relationships with all of our suppliers. And we generally take delivery of the product and price the product at the time of delivery. We will typically contract, as we've always said, about 70% of our annual needs under our 1-year supply arrangements. So I don't expect that, that will change dramatically. Certainly, we're sort of in a period right now where the overall inventory levels of propane in the country are sort of well below, about 20% below the 5-year average for this time of year. So I think the -- if we start to see a significant increase in weather demand, weather-driven demand next heating season, if we go in with lower inventories in the country, you could be in for some price shocks, if you will. So we'll be thinking about that and what the impact that, that might have on customer demand just from a conservation perspective. But other than that, planning for our supply isn't going to change. Working capital needs and liquidity, we don't have any concern with that, particularly with the cushion that we just gave ourselves with this revolver. So nothing dramatic, Gabe.

Our next question comes from the line of Brian Brungardt of Stifel.

I guess to keep on this credit facility. Could you provide some color as to what led to the draw of $26 million in the quarter? As if memory serves me correctly, you did not draw on the revolver this time last year and volumes sold modestly declined year-over-year.

Yes, Brian, it's Mike Kuglin. So we drew about $30 million during the first half of the year. Of the $30 million, $17 million was used to fund the refinancing of the 2021 senior notes. And the remainder was used to fund working capital and CapEx. If you look at the working capital, year-over-year, our working capital increased about $11 million year-over-year, as a result of the rising commodity prices. As I mentioned earlier, propane prices were up 85% year-over-year. So that gave rise to an increase in the investment in working capital. So those are the piece parts to the $30 million.

Got it. And then, switching gears here a little bit. Following the second consecutive record warm winter here. Just curious on where you see the competitive landscape. A peer reviewer has recently discussed targeting market share at expense of pricing potentially. Meanwhile, I imagine there are some competitors which may be facing more difficult decisions than perhaps you guys following this most recent winter.

Yes, I think for us, we control what we can control. And that's what I talked about is -- we know how to manage the business and run the business for the long term. We're a value-driven supplier to our customers and our key go-to-market strategy is to make sure that our customers understand the value proposition that we bring to them. And we are not necessarily going to compete on price. You're right, I think in this industry, generally, what -- when you see this kind of demand destruction from weather, historically a lot of players in the industry sort of revert to price just to bring volume back in. And so that's nothing new that this industry hasn't experienced for decades. And so, I think what I mentioned earlier about our customer base remaining intact is really a testament to all of the investments that we've made in technology, and in training our personnel to interface with our customer base in a positive way so that when those price challenges come to the forefront, we're very well positioned to be able to defend our value proposition and continue to keep our customers happy. And frankly, to grow our customer base. So look, we prefer that price competition wasn't so stringent in that regard, but we are very, very well prepared for it. And we're confident in our value proposition.

(Operator Instructions) Our next question comes from the line of Mike Gyure with Janney Montgomery Scott.

Can you guys talk a little bit on your capital spending for maybe the back half of the year and kind of what you're looking at as far as maintenance and on the growth side and maybe specifically on the growth side what projects you're looking at? I assume they're in propane but maybe just expand on that a little bit.

I would say there's nothing significant. If you were to look at the first half of the year, it's probably fair indication as to what you could expect for the back half of the year.

And from a growth perspective, most of our growth comes from new customer activity. So that's really just going to depend on that activity. And I expect to see something comparable to as Mike said to what we experienced in the first half.

Great. And then maybe -- I know you don't talk a whole lot about the natural gas and electricity side of your business. But that looked like a good quarter there. Can you talk maybe about the trends you're seeing in that business? And I guess, what are you thinking maybe longer term?

Yes, we've done a really nice job of growing that business. Part of that is expanding into new markets. We've always been a marketer in New York and Pennsylvania, stronger in New York or bigger in New York, if you will, than in Pennsylvania but we've been in Pennsylvania since we started this business couple decades ago. And we are now expanding into more utility territories in Pennsylvania. And that has generated customer growth. We're also a pretty unique marketer in that space in both New York and Pennsylvania, in terms of our value proposition, and the value-added services that we provide to our customers. And so, that has served us well in continuing to maintain and, in some instances, do a nice job growing our customer base. So as we get into the summer, that business also has some counter seasonality because of the electricity side of the equation. So if we get a warm summer, I guess, you could expect more activity for cooling.

Our next question comes from the line of Sharon Lui with Wells Fargo.

So I guess, similar to your competitor, higher vehicle fuel cost impacted OpEx during the quarter. Just wondering if you can just touch on your approach of managing such costs, especially in a warm weather environment?

Yes, we don't have a specific hedging program in place to hedge our diesel for our trucks, Sharon. So what we do, as most trucking companies, if you will, or distribution companies and the majority of our competitors in the industry, we do have a fuel surcharge that helps us recover some of the incremental impact from that in our business. So when you're looking at the CapEx line, that you're seeing an increase in there. But there's also some revenue from fuel surcharges as well.

Okay. And then I guess, with regards to the credit facility, how should we factor in, I guess, the incremental cost for the amendment? And maybe if you could just touch on what your leverage metrics were for the quarter?

Sure. With respect to the cost. We did add an additional tier for when -- for if the leverage ratio gets above 5.5x, which we're currently not modeling. So I would not expect a significant increase or an increase at all, if you will, with respect to the call. Certainly, it's going to depend on the amount of borrowings that we have outstanding. But the savings that we just realized resulting in the refinancing of the 2021 senior notes would certainly more than offset any incremental costs associated with elevated levels of borrowings.

Yes, and I think that was a great indicator from our banks that this was a fairly simple amendment. There was no pushback that we needed to increase the adders to LIBOR for our current leverage thresholds, other than if we do get to a point where we exceed our 5.5x threshold, which is what our current maximum requirement was. That's the only time that higher costs kick in. And our current -- we ended the quarter with about 5.2x leverage so we have plenty of cushion to our threshold of 5.5x anyway. And that was a slight increase from where we were last year, which was around 5.1x.

Okay. Great. And I guess the last question. Just an update on views on M&A appetite for acquisition?

Yes. Look, this year has been challenging in the sense that it's challenging to manage through that kind of a business and the impact that, that has on stretching the balance year. But that's not changed our focus on continuing to look for growth opportunities and in particular acquisition opportunities. We have a couple of things that we're continuing to look at right now in the propane space. And I think that's another reason why the added liquidity and flexibility under the revolver will help. Because as I said a couple of times this morning, this environment has unfortunately stretched the balance sheet, but it hasn't changed the -- our focus. So, that's all I have to say there.

And there are no further questions.

All right, great. Well, thank you, David, for your help this morning, and thank you all for joining us again. And we look forward to our discussion again in August following our third quarter results.

Ladies and gentlemen, this conference will be available for replay today, beginning at 11 a.m. You may access this replay by dialing 1 (800) 475-6701 or for long distance (320) 365-3844. The access code to listen to the replay is 422527. And the primary phone number to access the replay is 1 (800) 475-6701. That does conclude our conference for today. Thank you, again for using the AT&T executive teleconference service. You may now disconnect.