Sunoco LP (SUN) 2018 Q4 法說會逐字稿

Greetings, and welcome to the Sunoco Fourth Quarter 2018 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Scott Grischow, Vice President of Investor Relations and Treasury. Thank you, Mr. Grischow. You may begin.

Thank you. Before we begin our prepared remarks, I have a few of the usual items to cover, a reminder that today's call will contain forward-looking statements. These statements are based on management's beliefs, expectations and assumptions. They may include comments regarding the company's objectives, targets, plans, strategies, costs and anticipated capital expenditures. They are subject to the risks and uncertainties that could cause the actual results to differ materially, as described more fully in the company's filings with the SEC.

During today's call, we will also discuss certain non-GAAP financial measures, including adjusted EBITDA and distributable cash flow as adjusted. Please refer to this quarter's news release for a reconciliation of each financial measure.

A reminder that the information reported on this call speaks only to the company's view as of today, February 21, 2019. The time-sensitive information may no longer be accurate at the time of any replay. You will find information on the replay in this quarter's earnings release.

On the call with me this morning are Joe Kim, Sunoco LP's President and Chief Executive Officer; Tom Miller, Chief Financial Officer; Karl Fails, Chief Operations Officer; and other members of the management team.

I would like to start with a brief review of some of the partnerships, activities and accomplishments from the fourth quarter.

First, we completed 2 fuel distribution acquisitions with post-synergy multiples in the mid-single digits. On October 16, we purchased BRENCO Marketing Corporation's fuel distribution business. This business distributes approximately 95 million gallons annually across the wholesale account network in Central and East Texas. Then on December 18, we closed on the acquisition of the fuel distribution business from Schmitt Sales, Inc., which distributes approximately 180 million gallons to a network of dealer and commission agent locations, primarily in the New York and Pennsylvania markets. Importantly, this acquisition complements the Superior Plus acquisition, which we completed earlier this year, with the ability to leverage the terminals from that acquisition for incremental gallons of throughput.

In addition to the wholesale fuel distribution acquisitions, we also expanded our midstream business with the acquisition of 2 product terminals from American Midstream Partners, which closed on December 20. One of the terminals is located northeast of Dallas, Texas and the other is in North Little Rock, Arkansas, and both have pipeline access. This acquisition is consistent with our strategy of adding fee-based logistics assets to provide further portfolio diversification and income stability.

More recently, on January 29, we closed on the acquisition of 5 locations in New York State from Speedway LLC. We funded all acquisitions with cash on hand and amounts available on our credit facility. We expect all of the acquisitions to be accretive to our unitholders in the first year.

Finally, on January 18, we announced the execution of a definitive asset purchase agreement with Attis Industries, Inc. for the sale of our ethanol processing plant in Fulton, New York. Total consideration for the divestiture is $20 million, and we will use the proceeds to repay amounts outstanding on our revolving credit facility.

I will now turn the call over to Tom, who will cover this quarter's financial and operating results. Tom?

Thanks, Scott, and good morning, everyone.

We delivered strong financial and operational results again in the fourth quarter. In 2018, we completed the transformation of Sunoco from a retail-centric MLP to a partnership focused on fuel distribution and logistics.

For the quarter, the partnership recorded a net loss of $72 million, which includes a $135 million noncash inventory adjustment. As a reminder, this adjustment does not affect our adjusted EBITDA, DCF or cents per gallon. Adjusted EBITDA was $180 million compared to $158 million a year ago, driving our leverage ratio as defined by our credit agreement down to 4.16. This is down from last year's fourth quarter result of 5.58. Distributable cash flow, as adjusted, was $114 million. Our distribution coverage ratio for the quarter was 1.33 and 1.32 for the full year. In 2017, our coverage ratio was 1.15. We are delivering on the financial goals we outlined for you. On January 25, we declared an $0.8255 per unit distribution, the same as last quarter. We are confident in our ability to sustain this distribution. Our liquidity remains strong with approximately $800 million available on our revolving credit facility at year-end.

Looking at our operational performance. Total fuel volume in the fourth quarter was approximately 2 billion gallons, a slight increase from the third quarter and up 2.5% from a year ago, driven by the contribution from the 2018 acquisitions and other organic growth. The fuel margin environment was particularly strong across all channels in the fourth quarter, largely resulting from declining crude prices. This produced a $0.124 per gallon margin for the quarter and $0.114 for the year. As we've discussed, our strategy of managing multiple fuel distribution channels allows us to balance ratable income streams, such as the 7-Eleven take-or-pay contract and rental income with channels that generate higher margins in certain environments, such as the material and sustained drop in crude prices.

Turning to expenses. We were able to control expenses even with the 5 acquisitions we completed in 2018. G&A expense was $38 million in the fourth quarter and $141 million for the full year, in line with our $140 million annual guidance. Rent expense totaled $18 million for the quarter and $72 million for the year, just under the $75 million annual guidance. During the fourth quarter, other operating expense was $93 million and $363 million for the year. When you remove the $25 million of other operating cost we incurred in the first and second quarters to run the West Texas and FTC retail site prior to their conversion to the commission agent channel of trade, the full number was slightly higher than our 2018 annual run rate guidance. The timing of certain expenses within the operating category will result in quarterly fluctuations.

Moving to capital. We invested a total of $41 million in the fourth quarter, $26 million in growth and $15 million in maintenance capital. During 2018, we invested a total of $103 million, $72 million in growth and $31 million in maintenance capital.

In December, we provided guidance for 2019. I want to take a moment to review those items. We expect total fuel volumes to be between 8 billion and 8.2 billion gallons with annual margins in the $0.095 to $0.105 per gallon range. As we've stated in the past, fuel volume and margins should be evaluated collectively as total gross profit dollars, not individually. 2019 guidance reflects higher gross profit dollars from our fuel distribution business, driven by the impact of completed acquisitions and our profit optimization strategy.

We expect total operating expenses, including any incremental spend from acquisitions already completed, to be approximately flat to our 2018 guidance of $540 million. As a reminder, total operating expenses include G&A, rent and other operating expenses. Our 2019 capital program will increase modestly from 2018 levels.

We expect to spend $45 million on maintenance capital and $90 million on growth capital. Our total 2019 capital spend could exceed $90 million if we find additional organic investment opportunities. And as a reminder, our growth capital does not include third-party acquisitions.

Finally, we also provided you with an adjusted EBITDA range of $610 million to $650 million for 2019. That range includes all announced acquisitions. The anticipated divestiture of our ethanol plant that Scott discussed earlier does not impact this guidance range.

We are confident that this guidance demonstrates our ability over the long term to remain safely within our target leverage of 4.5 to 4.75 and maintain a coverage ratio of at or about 1.2.

I will now turn the call over to Joe for closing thoughts. Joe?

Thanks, Tom. Good morning, everyone. The fourth quarter capped a transformative year for Sunoco. We outlined a plan in late 2017, and we delivered on that plan in 2018. Now it's time to execute our focus on this year.

Our underlying business is strong, and we expect this to continue. First quarter results are meeting our expectations and reinforce our guidance for 2019. Our growth pipeline remains robust. First, we have positioned ourselves for additional acquisition opportunities, but we'll only execute on these opportunities if they meet all our financial criteria. We've also positioned ourselves for increased organic growth, having a combination of organic and acquisition opportunities increases our ability to grow in a consistent and balanced manner.

Let me close by stating that we have established a track record of delivering on our targets. We remain confident that we will continue to deliver in 2019 and beyond.

Operator, that concludes our prepared remarks. You may open the line for questions.

(Operator Instructions) Our first question comes from the line of Theresa Chen with Barclays.

First, just wanted to touch upon that margin optimization efforts you had previously laid out. Can you give us an update on how that's going? What inning we're in? And what do you see from there going forward?

Sure. Theresa, this is Karl. As we've shared our margin optimization effort, really kicked off, I'd say, mid-last year, and we've been focusing on trying to go channel-by-channel and site-by-site. As we've shared, we're continuing to make progress. We're partially through that process, and we are pleased with the results that we've seen. Our Q4 margin was strong, and that was one of the factors.

Got it. And then on the acquisition landscape, can you just give us some color on what you're seeing post -- having done 4 in 2018, but just what you're seeing for this year, maybe 2020, maybe touching on the acquisitions by channel or type of assets?

Sure. Theresa, it's Joe. I think that probably the best way to start off is to talk about what our goal is. Our goal is to become a larger, more diversified and more stable income MLP. And the way that we could do that obviously is through M&A activity and organic growth. I think that 2 sectors that makes the most sense for us is obviously the fuel distribution channel. We have incredible scale. And I think as we demonstrated last year, we bring material synergies, and we can purchase fuel distribution assets in a mid-single digit multiples and make it very accretive for us. But just as importantly, we want to focus also on the more traditional fee-based midstream assets. I think the 2 terminals that we acquired in December from American Midstream serves as a really good example. With all that said, I mentioned on our prepared remarks that we have a very robust pipeline, and what that does is puts us in position to capitalize on opportunities. But we'll be very selective. We'll make sure it meets the criteria of financially fit and also continues to improve our overall income portfolio, and the way that I would think about this is that there's no certain number we're trying to do in 2019. What we've done is we've created the pipeline so we're positioned to do as much as it makes sense for us to do.

Our next question comes from the line of Ben Brownlow with Raymond James.

On the Schmitt acquisition, you mentioned a mid-single-digit multiple. Is that -- I assume that's post-synergies. Can you just talk about kind of the ramp in synergies there?

Sure. This is Karl. Yes, it looks like mid-single digits post-synergy. And I'd say this acquisition is similar in synergy ramp-up to most of our acquisitions, where we target about half of those synergies by the end of year 1 and full run rate by the end of year 2.

Okay. And is that margin -- I know we shouldn't think specifically about the margin. But just directionally, I don't know, 180 million gallons, is that wholesale margin similar to the base business?

Yes, we don't -- it's in the range, generally. We don't give specifics to some of our different geographies. And channels might be higher than our average range, some might be lower. What I'd say is our synergies come from 2 main areas. The -- one of the big ones is on fuel margin, not being able to renegotiate purchase contracts and reduce the cost of goods sale there and expand the margin. And then there are -- depending on the acquisition, there are some expense savings that we receive as well.

Okay. That's helpful. And just one last one, if I could. The other OpEx line item, just -- I know you mentioned the timing of expenses is -- there's some variability around the quarters there. But anything specifically you could pull out that led to the jump-up quarter-over-quarter?

The other operating expense, as you did point out, is -- we would view it as onetime. And we're looking at the 2019 guidance remaining where it is. The onetime, which were both tax-related, one was a sales and use tax and the other was a property tax adjustment.

Ben, I think the one thing I would add to that is that Tom mentioned in his prepared remarks that we're -- even with the 5 acquisitions, we're -- our guidance -- and we want to reinforce that our guidance that we provided back in December, when it comes -- whenever you look at OpEx, G&A and rent expenses we're keeping that flat with our 2018 guidance that we provided at the beginning of 2018.

Our next question comes from the line of Patrick Wang with Robert W. Baird.

Going back to that gross margin optimization program. Can you discuss the impact of those gross margin optimization efforts in 4Q? You delivered both very healthy volumes in what's a normally seasonally lighter quarter, along with very strong margins, but would it be fair to say that margins could have been even more robust? Have you traded for lower volumes? Or were the commodity dynamics just that strong during the quarter?

Yes. Patrick, this is Karl. As you look at our gross profit, and there are a number of factors, the 2 biggest ones are obviously the margin we take and the volume. As we look at Q4 in general, the contributors to our higher-than-guidance range margin in that quarter were few. First, as we've added on these particular acquisitions, they were higher than average. It doesn't mean that every acquisition we do is going to be higher than average. Some of them will reduce our average, some will add to it, the margin volume optimization that you talked about. But then obviously, as in Q4, as you guys looked at the market, we have the tailwind of falling prices. Crude prices fell nearly $30, and RBOB futures fell almost $0.80 a gallon from the beginning of the quarter to the end of the quarter. We've stated that in our new strategy. We are not as exposed to those movements in commodity prices as we were when we were -- we had a large retail presence. But overall, it still was a contributor to our margin. You look at the 3 clean quarters that we put up in 2018. Q2, you had upward movements in prices; Q3 was pretty flat; and now Q4 was a large down movement. And you saw us put strong numbers up in all 3 quarters, but obviously, Q4 was aided by that.

Patrick, this is Joe, I have one additional comment to what Karl said. I think a good way -- we get this question quite a bit. I think a good way to think about this is fourth quarter has some, as Karl noted about, RBOB drop and crude drop. That was some tailwind for us. And as Karl noted, in the second quarter of last year, we saw crude prices and RBOB steadily go up, and we still threw up a very good quarter in the second quarter. But when it comes to the price volume optimization that we went through, I think a good way for The Street to think about this is when we provided guidance in 2000 -- late 2017, as you noticed in 2019 guidance, a year later, it went up about $0.01. A portion of that, I think just a way to think about it is minus any tailwinds or headwinds when it comes to RBOB drop, we're saying that through our price optimization, along with acquisitions that we've added where the margins of the acquisition is higher than our base layer, in combination, has given us a higher CPG on a going-forward guidance basis.

Got it. That makes a lot of sense. And then just bigger picture. Can you talk about your portfolio management process as you consolidate the fragmented fuel sector? Do you have a formalized program in place for not only the growth side but also the portfolio improvement side for any assets that you deem may be better off under another owner?

Yes. This is Karl again. I'd say, yes, we have a formal process that we're always going to look at a given site that we control, whether which channel is the best, and that's an ongoing process. We go through that process as we acquire things. At times -- we've exited the retail channel. But at times, we've made acquisitions where they had retail properties with them, and then we switch those over to one of our channels of wholesale business. The Speedway acquisition that we announced is an example of that. So -- but yes, we go through that process even in our base business on a regular basis.

Okay. Great. And then lastly, just to clarify, the 2019 OpEx guidance, that's inclusive of both announced M&A as well as incremental M&A at your normal cadence? Or would that -- or would the latter cause the OpEx to get higher?

So everything that's been announced is included in our operating cost estimates. If -- we obviously don't know what would be acquired in the future, so therefore, that's not included.

Our next question comes from the line of Shneur Gershuni.

I just wanted to go back to the margin optimization discussion that you've had with several prior questioners. You sort of make the point about regardless of higher or lower gasoline prices throughout the quarter, that overall, your trend seems to be up in terms of guidance. How much further can we go on with the optimization? Has it been rolled out to the entire footprint? Is there a next level of optimization that you're looking at more on the volume side versus the pricing side? Just kind of wondering if you can expand on it a little bit, how much you're keeping back in terms of calling it a trend versus your guidance.

Yes. This is Karl again. I would say that I would not expect a material upward trend going forward. As Joe mentioned, we factored in a lot of our acquisitions and our strategy around gross profit optimization into our guidance for 2019. So I'd refer back. We're comfortable with the -- both the EBITDA and the margin guidance we gave for 2019. At this point, remember, on the gross profit optimization, overall, that's trended our margin up and our -- and all things being equal, maybe the volume down. But there are some pockets of our business where the opposite is true, where to optimized gross profit, we might take less margin, we might take more volume. So I'd say it's more about the operational, making it -- that process consistent over time versus material upward trend on our margin.

Shneur, the one other that we do have some opportunities is on our base business, as Karl mentioned, there's -- I think the team has done a really good job of optimizing and growing our gross profit. Where the opportunities lies for us is we do an acquisition and we buy a set of asset. That's where as part of our synergies Karl talked about renegotiating deals to give better cost of goods. Then on the revenue side, we have the same opportunity that was reapplied to Sunoco over the last year, we can apply that same profit optimization to our acquired assets.

And to clarify, are you using data analytics for your optimization process?

That's correct.

And maybe just to transition. You brought up synergies with acquisitions and so forth. I was wondering if you can expand on the pipeline a little bit of where you see opportunities, and more importantly, where you expect to focus. Do you see more opportunity in smaller, bite-sized acquisitions, where the economic profit seems to be a much larger spread given where you trade versus what you would pay versus larger packages, where maybe that cost of capital advantage is a little bit smaller?

Shneur, this is Joe. I think there's a couple of ways to look at it. First of all, I'll reiterate what I said earlier. Our goal is to become a larger, more diversified MLP that has a increasingly more stable income profile. With that said, whenever you talk about bite-sized acquisition, I think we demonstrated pretty well last year that we did 5 acquisitions in a post-7-Eleven environment. So the pipeline is full. The opportunities are good. The financial attractiveness is high. But we're also balancing that with our overall goal for us to become a more diversified MLP. So even though there might be X amount of ample deals on the fuel distribution side, we're managing the overall portfolio. And I think that's where the American Midstream 2 terminal acquisitions plays into that, where it's at a higher multiple, but it also helps our income portfolio. As far as larger deals, smaller deals, of the 5 acquisitions that we did last year, 4 of them were off-market. This is through our relationships and us knocking on doors and establishing relationships. The fifth one, the American Midstream, we were in the process. We hit a limit. We stepped away from it. We saw an opportunity to come back in at the backside, at a better value. So we're -- we'll participate on every public process, but a lot of the stuff that we're working on is really more of a one-on-one relationship-type of deals.

And the knocking-on-doors approach, is that where you see the most depth in the pipeline right now?

You broke up. One more time on that as far as the knock on doors.

On the knocking-on-doors approach to your acquisitions, is that where you see the most depth in your pipeline right now?

I'll probably say so, yes. There's -- as far as announced auction processes, I guess, over the last year, those will probably slow down a little bit from our -- as far as the visibility that we had. But most of the pipeline we have are really nonauction process opportunity.

Our next question comes from the line of Jeremy Tonet with JPMorgan.

Just want to touch on the ethanol facility divestiture that you guys have done and just wondering if there's kind of other smaller assets within your portfolio that could be divestiture candidates and could be recycled into businesses, kind of more core to what you're looking to do.

Jeremy, it's Joe. First of all, our path is growth, not contracting. The ethanol plant was a one-off opportunity that we took advantage of. The ethanol plant didn't meet 2 very important criteria, growth and stable income. It was, by far, our most -- on the whole spectrum of stability, that was the worst one we had. So this is a one-off opportunity. We had an opportunity to divest a noncore asset, and we took advantage of it.

Got you. So it sounds like there isn't anything like that in your portfolio.

Nothing we see in the foreseeable future.

Our next question comes from the line of Chris Sighinolfi from Jefferies.

Two cleanup questions, if I could. Appreciate the walk you provide from GAAP net income to adjusted EBITDA. I'm just curious, if I want to reflect the income statement as an adjusted income statement. Just kind of 2 nitpicking questions about where some line items exist. It looks like inventory -- the inventory adjustments you guys see show up in the motor fuel gross profit. I wanted to confirm that. And then second, where does the mark-to-market fluctuations reside? Is that in operating cost -- other operating cost?

Chris, this is Scott. Yes, the lower cost to market or inventory adjustments do show up in fuel. And the mark-to-market adjustments, let me take that one off-line with you. I need to -- just to make sure I'm 100% accurate on that, but I'll follow up with you after this call.

Okay. And then, second, and, Tom, maybe this is for you. Just curious with -- you've been active on the acquisition front. That's been funded with cash on hand and revolver borrowings, see about $700 million drawn on the $1.5 billion facility. Just curious how we should think about how you think about terming that out, both time and nature of it. What are you comfortable sort of carrying drawn on that over time?

I would think that once you get to halfway, and you see that for a long period of time, you start looking for opportunities to take out a good portion of it. I want to say all of it, but a good portion. So it's something we constantly monitor.

And what -- obviously, you're closer to it than I am. But with the improvements you guys have made in the business post the retail divestiture with the margin improvement and the margin pickup you're getting from the acquisitions, just, I guess, how do you think the credit market views on at this point if you were to term out, let's say, 500 under 10 years? What sort of rate might we expect to see from you if you did that today?

So we issued that tenure last year at 5 7/8%. And last I checked, that bond at 9 years now was trading at 99. So -- and let's just put it at a little bit over 6%. I would hope that we would be able to be in that range if we chose to go out to a tenure. We certainly have other holes in our maturity profile.

(Operator Instructions) Our next question comes from the line of Spiro Dounis with Crédit Suisse.

Joe, you mentioned diversification a few times. Could you just maybe give a sense of what else would be interesting to you outside of fuels distribution and terminals? I think in the past, it was suggested that maybe you could get into longer-haul pipelines. Is that a strategic goal of yours, too?

Yes. I think on the overwriting strategy of more fee-based traditional midstream asset, pipelines obviously fit into the criteria. We just have to make sure that it is something that fits into our overall portfolio, and it's not a incredible one-off in some region that we have nothing else associated with it.

Got it. That's helpful. And then maybe 2 on gasoline. So I know you're not -- you're a little more detached now from the retail side. But could you just give us a sense of how you see overall gasoline demand shaping up so far this year? And I ask in the context of, I guess, what we're seeing in weaker refining cracks. And then second part is, do you see any risks or opportunities related to IMO as it relates to maybe that second derivative impact on gasoline supply later this year?

Yes, this is Karl. I'll hit the fuel demand first. If you look at 2018, despite the falling prices in Q4 for the full year on gasoline retail prices, we're up about 11% over '17, and demand was still flat. And if you look at diesel, diesel was up. It looks like it's going to end the year up nearly 7% over '17. So obviously, those numbers vary by geography, and how that translates to various channels can vary. But overall, still a supportive environment in the United States. Talking about IMO, we have diesel business. So obviously, we care about how the impact of IMO to the diesel markets will follow through. From a market view, there's clearly -- will be increased demand for lower sulfur distillate fuels and less demand from the higher sulfur fuel oils. But whether that's been fully priced into the markets or not, it kind of depends on your perspective, right? The refiners are talking about how there's going to be upward movement on the cracks, and then the ship owners and shippers are hoping that it's already priced in. So we're monitoring those and seeing how that impacts. To your point on whether pushing refiner utilization higher and you'll have an excess of gasoline as a result of that, to the extent that happens, that definitely is supportive of our strategy and is one of the reasons we like our ratable, consistent, short in the United States. So where there's excess gasoline, we benefit from that.

Our next question comes from the line of Dennis Coleman from Bank of America Merrill Lynch.

Was a lot of good color here on the M&A pipeline. I wonder if we could talk a little bit about CapEx. Pretty good, percentage-wise, an increment on the growth CapEx budget of $90 million that you gave. Any color you can give on sort of how that falls across the channels? Is it pretty even? Or does it direct towards one channel or another?

Yes. This is Karl again. On the growth side, as you think about our -- the $90 million and what we call our organic growth, we've really spent time and effort. I think Joe has talked about in the past how we were focused primarily, pre-7-Eleven divestiture, our capital and a lot of our time on our company-operated retail stores. And now over the last year, we built up this pipeline of being able to grow our wholesale businesses through the various channels. I don't know that it's specific to one of our channels over another. So most of that organic, that $90 million of growth capital, I would say is focused on signing up new customers or investing in sites that we control or operate and growing that business.

There are no further questions in queue. I'd like to hand the call back to Scott Grischow for closing remarks.

Well, thanks, everyone, for joining us on the call today. Please feel free to reach out to me with any follow-up questions. This concludes today's call.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day.