Earnings Call: Q1 2018

May 9, 2018

Good morning. My name is Lisa, and I will be your conference operator today. At this time, I would like to welcome everyone to the Keyera Corp. 1st Quarter 2018 Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session. Thank you. Lavonne Zdunik, you may begin your conference. Thank you, and good morning. It's my pleasure to welcome you to Keyera's Q1 conference call. With me is David Smith, President and CEO Steven Kroeker, Senior Vice President and CFO Brad Locke, Senior Vice President of the Gathering and Processing Business Unit and Dean Setiguchi, Senior Vice President of the Liquids Business Unit. In a moment, David will provide an overview of the quarter, followed by an operational update from Brad and Dean. Stephen will provide additional information about our financial results. We will open the call for questions once we complete our prepared remarks. Before we begin, I would like to remind listeners that some of the comments and answers that we will be providing today speak to future events. These forward looking statements are given as of today's date and reflect events or outcomes that management currently expects to occur based on their belief about the relevant material factors as well as our understanding of the business and the environment in which we operate. Because forward looking statements address future events and outcomes, they necessarily involve risks and uncertainties that could cause actual results to differ materially. Some of these risks and uncertainties include general economic market and business conditions fluctuations in supply demand, inventory levels and pricing of natural gas, NGLs, isooctane and crude oil the activities of producers and other industry players, including our joint venture partners and customers our operating and other costs the availability and cost of materials, labor, equipment and other services essential for our capital projects contractor performance, counterparty risk, governmental and regulatory actions or delays, competition for, among other things, business opportunities and capital and other risks as are more fully set out in our publicly filed disclosure documents available on our website and SEDAR. We encourage you to review the MD and A, which can be found in our 20 18 Q1 results published yesterday and is available on our website and on SEDAR. With that, I'll turn it over to David Smith, our President and CEO. Thank you, Lavonne. Thank you, Lavonne, and good morning, everyone. Keyera recorded strong financial results in the Q1 of 2018 with solid performance from all three of our reporting segments. Adjusted EBITDA was $189,000,000 an increase of 28% over the same period last year. Distributable cash flow was $0.75 per share, which represents a 15% increase over the Q1 of 2017. Our quarterly performance was driven by record processing volumes in our Gathering and Processing business unit and the contributions from recently completed growth projects in our Liquids business unit. Yesterday, we announced that we are proceeding with an expansion of the Simonette gas plant to accommodate the continued growth in throughput volumes. With this investment, along with the Wapiti plant currently under construction and the recently announced Pipestone plant, Keyera is significantly growing its position in the liquids rich Montney and Duvernay development in this area of Northwestern Alberta, which provides a great platform for future growth. In 2018, we plan to invest between $900,000,000 $1,000,000,000 in growth capital projects By maintaining a conservative financial strategy with a low payout ratio and strong balance sheet, we are well positioned to fund this program and position the company for future growth. With that, Brad Lach will now discuss our Gathering and Processing business unit. Thanks, David. The Gathering and Processing business unit delivered an operating margin of $71,000,000 in the Q1 of 2018 as gross processing throughput reached a new record averaging 1,590,000,000 cubic feet per day. This represents a 12% increase over the same period in 2017 and a 4% increase compared with the Q4 of last year. This was our 5th consecutive quarter of increased processing volumes through our gas plants as new well tie ins at Stracon and the Simonette facilities contributed to the volume growth. As prices for crude oil and natural gas liquids have strengthened over the past year, producers remain focused on the liquids rich areas of the Western Canadian Sedimentary Basin, most notably in the Duvernay and Montney geological zones in Northwest Alberta. In April, Simonette achieved record processing volumes. To meet the growing needs of producers in the area, we are expanding the processing capacity of Simonette by 150,000,000 cubic feet per day, which will increase the plant's total capacity to 450,000,000 cubic feet per day. The expansion is expected to be completed in late 2019 for approximately $85,000,000 At Simonette, we recently completed and have commissioned our liquids handling expansion, allowing the plant to process up to 27,000 barrels a day of condensate. We continue to increase the inlet liquids handling capacity of the facility and are adding acid gas injection facilities to support the volume growth. Our goal with projects like these is to maximize producers' netback and in turn provide long term opportunities for Keyera. In the Wapiti area, northwest of Simonette, we continue to progress Phase 1 of our Wapiti plant and the North Wapiti pipeline system, both of which are expected to be completed in 2019 based on our current construction schedules. The contracted volumes for the plant and pipeline system provide the foundation for Keyera to sanction the 2nd phase of our Wapiti plant in the future. The 2nd phase, if sanctioned, would add an additional 150,000,000 cubic feet per day of processing capacity, and we continue to have discussions with producers in the area to understand the timing of their development plans. To further strengthen our presence in this area, we recently announced a 20 year infrastructure development with Encana to support its condensate focused Montney development in the Pipestone area near Grand Prairie, Alberta. In a joint effort, Keyera and Encana will develop a liquids hub and a natural gas processing and liquid stabilization plant with acid gas injection capability and condensate processing capacity. Keyera will own the infrastructure and provide processing services to Encana under a long term fee for service arrangement. We are pleased to add the Pipestone project to our portfolio given the strong geology and the number of producers in the area along with Encana's area dedication and modest revenue guarantee backing the project. These projects demonstrate our ability to execute on our strategy of growing our infrastructure and services in the liquids rich Montney and Duvernay regions. I will now turn it over to Dean to discuss the Liquids business unit. Thanks, Brad. We're very pleased with the performance of the Liquids business unit in the Q1 of 2018 with solid results from our Infrastructure and Marketing segments. Operating margin in the Liquids Infrastructure segment was $82,000,000 up 27% over the same quarter last year, primarily due to contributions from the Norlite pipeline and the first four tanks at the baseline terminal. We have a number of projects recently completed or nearing completion that will continue to add to our fee for service cash flow growth. The Norlite Dilawind pipeline, a joint venture with Enbridge, is backed by long term take or pay agreements with owners of the Fort Hills oil sands project. The pipeline was built with extra capacity to transport additional volumes with little or no capital investment. In 2018, we have successfully added 2 new shippers on this pipeline and are working to add others. Our South Grand Rapids diluent pipeline project is expected to be finished by mid year, providing Keyera with additional diluent transportation capacity between Edmonton and Fort Saskatchewan. This project allows us to meet our long term commitments with our oil sands customers. At the baseline terminal, 6 of the 12 above ground crude oil storage tanks are now in service and we expect to complete and commission the remaining tanks in the 3rd and 4th quarters of this year. This project is a joint venture with Kinder Morgan and is fully contracted by 8 customers with take or pay contracts up to 10 years in length. Our KeyLink NGL gathering pipeline system was recently completed, connecting 8 of our gas plants in West Central Alberta into our Rimbey gas plant for fractionation and marketing. The Rimbey gas plant is pipeline connected to Keyera's Edmonton Terminal and Fort Saskatchewan fractionation storage complex, which enhances our integrated service offering to Keeling customers. I'm pleased that we completed the project on time and under budget. We continue to look for other opportunities to attract NGL volumes to the pipeline and are currently advancing work to connect a producer owned gas plant to KeyLink. Our Hull Terminal pipeline system is ready for commissioning, connecting Keyera's Hull Terminal in Texas to Mont Belvieu, which is North America's largest NGL hub. This pipeline will allow Keyera to transport NGLs in and out of Mount Bellevue and provide commercial opportunities for our marketing business. We're also considering a number of other future growth opportunities that align with our business strategy. Turning to our marketing segment, we generated a realized margin of 57,000,000 dollars in the Q1 compared to $33,000,000 in the same period last year. Even though intermittent rail service caused production curtailments, our AEF facility operated near its nameplate capacity resulting in another good quarter of iso octane sales and margins. As anticipated, strong margins were generated from propane in the Q1 as we are able to utilize our storage and transportation assets to take advantage of seasonal demand and pricing. With that, I'll turn it over to Stephen to discuss the financial results in more detail. Thank you, Dean. As mentioned earlier, we had a successful quarter with all three business segments delivering solid results. Adjusted EBITDA and distributable cash flow both increased 28% over the same period last year, while distributable cash flow per share increased 15%. Net earnings were $88,000,000 for the Q1 and $9,000,000 lower than the same period last year. The decrease is partly due to higher depreciation and taxes and partly due to a non cash net foreign currency loss on U. S. Debt. Looking to the remainder of the year, we expect incremental cash flow from several recently commissioned projects, including the Baseline Terminal, the Liquids Handling expansion at Simonette and the KeyLink and Hull Terminal Pipeline Systems. We continue to expect maintenance capital to range between $40,000,000 $50,000,000 This includes approximately $24,000,000 for maintenance turnarounds planned for our Stracon, Nevis and Brazo North gas plants in the 2nd quarter. Our cash taxes are estimated to continue to be in the range of $40,000,000 $45,000,000 for 20.18. As David mentioned earlier, we plan to invest between $900,000,000 $1,000,000,000 in 20.18 as we continue to progress several projects that will come into service at varying times over the next few years. This represents our largest ever annual capital investment program, and we are well positioned to fund this growth program. This amount includes the acquisition of 50% of the South Grand Rapids diluent pipeline once construction is complete. We have a strong balance sheet reflected by our net debt to EBITDA multiple of 2.3 times, a low quarterly payout ratio of 56% and additional financial flexibility given our 2 investment grade corporate credit ratings. That concludes my remarks. David? Thanks, Stephen. As our Q1 results demonstrate, demand for Keyera's products and services continues to be strong. I am confident in our business and our ability to execute on our strategy. We are focused on maximizing cash flow from our existing assets, building a strong footprint in the liquids rich Montney and Duvernay developments in Northwestern Alberta and pursuing opportunities to expand and integrate our value chain. On behalf of Keyera's directors and management team, I would like to thank our employees, customers, shareholders and other stakeholders for their continued support. We remain committed to our business strategy and to delivering long term shareholder value. With that, I'll turn it back over to the operator. Please go ahead with questions. Thank you. Securities. Your line is open. Thank you. I'm wondering if you could just kind of help us understand some of the curtailments. I know there was an ethane curtailment at Rimbey, some rail impact as well in terms of disruptions there. Is it possible to kind of quantify that and discuss kind of the outlook, including potentially this summer, the potential for any sort of natural gas pipeline constraints as well on your business? Your question touches on a bunch of different areas, Linda, so I'll take a shot at it. I think we did quantify, I think, the impact of the ethane shortfall at Rimbey. With respect to the rail curtailments in the Edmonton Fort Saskatchewan area, it affected both our propane and iso octane shipments throughout both the Q4 and Q1. The as I think we disclosed in our February release, we did curtail production at AEF in February. It turned out to be thankfully, it turned out to be not a huge impact, but those are volumes that we really can't get back, just because of the fact that the plant is generally running flat out. With respect to propane volumes, we will catch up on those shipments eventually. But as you can appreciate, it's more lucrative to be moving railcars of propane in January February than it is in May June. So when you roll all that together, I don't think the curtailments are what I would describe as material. But certainly it was a disappointment and we're working very hard with the parties involved to try and make sure that we have contingency plans in place for next winter. I guess the other thing that I should mention is that you probably saw that CN has announced a significant capital expenditure focused on the Scotford area of their system. And we believe that, that will have a significant positive impact on the business that they do for us next winter. You asked about the TransCanada curtailments. I think we've already seen the effect of that a little bit this month. I might ask Brad to comment further. Yes. We've certainly not so much driven by curtailments at our plants, but certainly as commodity prices have sagged for AECO Gas, we've seen some curtailments behind our plants and we continue to monitor those. And they tend to be variable on a daily basis as producers react to pricing. So we continue to be attentive to that, but work with producers to keep as much gas flowing as we can. Would you expect any sort of impact this summer to be, at most similar to last year or less or? I think it's hard to predict. I think we're certainly thinking it could be a similar result to last year, but we remain optimistic that there's a chance it could be not as impactful. Last year, the impact was relatively modest when you look behind our plants. So that same result would probably have not too much of an impact on our financial results. That's helpful. Maybe you can elaborate from a bigger picture perspective on your U. S. Strategy around the Hall terminal. You have a pipe connection now to Mont Belvieu for NGLs, which could be very strategic. How might we see that contributing to not just the bottom line, but also other business development potential going forward that you might be working on? Linda, it's Dean. First of all, before we, I guess, advance any other future development on that project, obviously, we're going to try to create as much business for the pipeline and for the whole terminal that will be in place and in service here very quickly. We handle propane, butane, isobutane and also the capability to handle NGL or what they call it Y grade down there as well. There's certainly different sources of those products that are we call stranded. So they're not necessarily pipeline connected. So they have to move to market by truck or rail. So those are some of the volumes that we want to handle and we're contracted to handle through that facility. And also I would say that it also gives us a great outlet for our propane as well here another outlet. And if you look at the spreads between Conway and Mont Belvieu, summer spreads are in that $0.09 to $0.10 per gallon range. It helps us access sort of a premium market for propane as well. So those are sort of some of the ways that we are looking to generate business and earn cash flow down in Hall, Texas. Helpful. Thank you. Our next question comes from the line of Rob Hope from Scotiabank. Your line is open. Good morning, everyone. Just want to follow-up on David's comments about extending the value chain. The KeyLink pipeline is an interesting solution that you came up within the Deep Basin. Just want to get a sense of if there's any other potential for a similar NGL or condensate line from the Wapiti or even the Pipestone region? Yes, Rob. First of all on KeyLink, I think it's a very exciting example for us of how we can integrate our value chain. Chain. Our position as you can appreciate in West Central Alberta is a little different than it is up around Grand Prairie because we have a dozen different plants in that area. So being able to link them together with an NGL gathering system, a very low cost NGL gathering system, I might emphasize, is something that made tremendous economic sense for us. When you go up to the Grand Prairie area, obviously, the situation is a little different. You're talking about much larger distances, much more significant capital cost. The producers in that area have expressed to us that they see a need for more capacity and they would like to have a competitive alternative to the one company that owns all the liquids egress in that area. And we would like to be the provider of that solution. It's just going to take some time to get to a point where we've got something that's commercially viable. All right. Thank you for the color. And then even moving further northwest with Pipestone and Wapiti, your asset base creeps northwest into the Montney. Any thoughts on further expanding into Northeast BC if some large packages come for sale? Well, as far as acquisitions are concerned, we make it a point of not commenting on any acquisition possibilities that are out there. I think we're very happy with the footprint that we have in the area around Grand Prairie with the liquids content and the well results that the producers are generating in that area, it's clearly some of the best, most attractive geology in North America. So focusing on that area for now is something that we think makes sense. And we've got a lot on our plate. And so executing on the initiatives that we have in front of us, I think, is our first priority right now. Obviously, we will always look at opportunities to further extend the portfolio. All right. I appreciate the color. Thank you. Our next question comes from the line of Robert Catellier from CIBC. Your line is open. Hi, good morning. I just wanted to follow-up on Pipestone a little bit. Can you give us an update on the status of permitting of that project? And how does the permitting risk compare to other projects you've undertaken? So Rob, this is Brad. The permits or the applications for the major facilities are in the process of being compiled right now. So they haven't actually been submitted. There's been some licensing of disposal wells and some pipelines to support. That being said, there's been we have in preparation for that done a lot of ongoing discussion with landowners or residents in the area, and I think we've been encouraged by the progress that we've been making there. So those are all good signs. And I think we've built we certainly built some flexibility in the schedule to be able to deal with the hull how and maybe you can describe what you see as your opportunity or ability to increase your position there and enhance that suite of assets. It looks like MLPs have suffered another setback. So maybe there's opportunities along that line? Rob, it's Deane. We see a lot bolt on opportunities down there. What we're trying to do is expand some of the services that we provide on the liquid side of our business here in Alberta applied down there. There is some link as I mentioned in terms of being able to move some propane down that way and accessing the strong Bellevue markets that we are seeing. But we just want to start with the base. We think it's very good. I mean we are very good terminalling in terms of truck and rail. We like the access in the Mont Belvieu, which is the largest NGL hub in North America. That gives us good access into the market. And we do see other opportunities. I mean, not really want to Okay. Okay. And then my final question, I guess, is for Steve or David Smith. You've added a number of assets recently that I would say are probably more stable over risk. You're increasing your exposure to higher quality basins. So these elements speak to a lower business risk profile. At what point does it make sense to increase your tolerance for leverage over the longer term? Thanks, Rob. Stephen here. Yes, those are fair observations, fair comments. We have invested quite a bit in the last few years and are currently undertaking projects that are quite significant in fee for service. I guess from our point of view, we're always a bit cautious talking about whether the overall fee for service percentages is increasing materially from the past. The reality is our commercial folks always have the ability to seem to find additional cash flows around various assets. And so that would be the one comment I would make. Secondly, I guess I would still look at the overall tone in the marketplace and just observe that I would from what I see, there seems to be more pressure on other companies to bring down their leverage ratio. So we're always conscious of whether we can live at a higher leverage ratio. And again, historically, we're in that 2 to 3 times kind of range. We still think that's an appropriate range on a go forward basis. At times, you may be willing to go above 3 a little bit if you saw projects easing off and EBITDA coming in, etcetera. But from our point of view, we continue to plan on having a robust capital program going forward. And so we do think we want to continue to be prudent about the balance sheet there. Yes. That was the answer I was hoping for. Thanks. Our next question comes from the line of Robert Kwan from RBC Capital Markets. Your line is open. Good morning. If I can kind of come back to the whole discussion, just as you initially see that being in service with the terminal now and with the pipe. Do you kind of see with your business, is it more about trying to move more volume out of Western Canada having that connectivity? Or do you see the upside at this point on the front end being better price realizations just given Bellevue premiums? It's a little bit of both, but we certainly believe we can build a lot more U. S. To U. S. Business down in that region. I mean, as you can imagine, there's a lot of production growth in the U. S. Not all of that is pipeline connected. And it just provides opportunities for facilities like we have down at the hole where, again we can rail or truck in some of those stranded barrels and access again the market hub very efficiently with our pipe into Mont Belvieu. Okay. And then you sorry, go ahead. So yes, I mean the possibility or the link between our Canadian business, particularly on the propane side exists, but really a lot of the growth that we're trying to drive down there is U. S. To U. S. Business. Got it. You talked about bolt on opportunities. Do you see those more as projects building out around the Hull Terminal? Or do you see equal opportunities or better opportunities for that matter of bolt on acquisitions to kind of build out the infrastructure there? I would say it's a little bit of both. I mean, no different than we approach our business here. We're very opportunistic. And things that we can do to enhance and integrate our business, we're always very interested in and some of those may come via acquisition. And the pipelines that we just acquired that we're just tying in now, again, those were acquired. So as was the terminal to begin with. So we just see a combination of maybe a little bit of organic projects where we may tack on a few opportunities with additional assets or we may acquire and piece together that integrated system down there as well. Got it. And then if I can just finish with some questions on AEF. Just with some of the rail constraints yet you're producing quite well. Did that just go into inventory? And I guess should we be expecting a pickup in sell through volumes, whether it's this quarter or into Q3? Well, what happened was when we experienced the rail service issues, we basically took our inventory in Edmonton to maximum levels, which resulted in us, as David mentioned, having to curtail the production at the AEF facility. Thankfully, the people at AEF have been debottlenecking that facility over time. So we actually have the ability to produce that facility or run that facility at slightly higher than nameplate capacity. So overall, we averaged in that 97% range, which was very good. So today, our inventory levels would be sort of at the lower range in Edmonton, and we're moving that product pretty ratably today. Okay, great. And then just I don't know if you can you give some comments directionally at least on what you're seeing in the isooctane market. We've seen RBOB prices be quite strong. And then I'm not sure there's been or have you seen any impact with the Texas City fire? And I think it impacted the Elkie unit down there. Yes. I mean, so far, I mean, I think our business is pretty strong. Again, RBOB is always a good indicator of the strength of our business. WTI prices obviously help as well. And the butane curve is actually at a pretty good level in terms of our feedstock cost. So all those three components certainly help our octane business and our results, which partially offsetting that was maybe some of the hedges that we put in place to protect the value of the margins are a bit underwater. So that might offset some of those current gains that we're seeing. Got it. And were you protecting the inventory or are you protecting future production in terms of I think is the $15,000,000 embedded loss in the hedges right now? Yes. I mean it's a lot of it is our future sales is what we're protecting. So we're hedged more on the front end, in the front months and that tapers off as you go further out. Yes. Robert, our approach on hedging iso octane is generally focused on both the RBOB spread as well as the underlying WTI. And we our approach is to generally layer those hedges in out to as much as a year or 15 months ahead. And I think we're probably a little bit underwater on both. But what I would say is I think the isooctane business as we see it right now is setting up to have a pretty good year in 2018. So potentially looking a little bit more, maybe not quite as good as 2015, but more like 2015 than say last year? Yes. I'm not going to get try and provide too much guidance. Okay. I had to try. Thank you. Our next question comes from the line of Patrick Kenny from being aggressive on fractionation rates paid off. Being aggressive on fractionation rates paid off, albeit with some added seasonality. But I know it's more of a rinse repeat type strategy for 2018, 2019. But just curious if you see any room for improvement on perhaps hedging strategy going forward and which might provide some upside to next year's results? Pat, I think with respect to propane specifically, I think as we sit right now, we're probably expecting 2018 to look pretty similar to 2017. My view and this is just my crystal ball as I sit here today is I think that on some of the other products, we could end up doing a fair bit better. I just mentioned that isooctane is looking like better fundamentals right now than where we were sitting a year ago. But with respect to propane specifically, which is where most of the seasonality is, it's looking quite similar. So similar fundamentals on that side, but would you say there was anything left on the table just from a hedging standpoint and anything you can change going forward or are we pretty happy with the results there? I think we're pretty satisfied with the way it all played out last year. I don't know that obviously it's a kind of business where you have be paying attention to fundamentals every day. And it's perhaps a little early in the cycle to judge what the coming 12 months is going to look like. But I think as much as I could say right now is that we see it setting up kind of similarly. Okay, great. And then what I would say is that the cold winter that we've just come through has created a situation in the U. S. Specifically where the inventories are at a fairly low level for propane. And so that would argue for some pretty strong seasonality going into Q4. On the flip side though is that we're seeing stronger production volumes coming out of the U. S. From a supply point of view. Right. Okay. That's perfect. And then just maybe your thoughts on the Edmonton infrastructure and the impacts operationally, financially, if the Trans Mountain expansion does not go ahead? The Trans Mountain expansion does not go ahead? Is that a possibility you think we should consider? You tell me. I mean, I think one of the direct impacts, I mean, maybe to our businesses is that I think with Trans Mountain, we would see more demand for above ground storage. So that would have maybe been a more of a direct link to us expanding or having the demand to expand our baseline terminal facility. But otherwise, keep in mind that all that is fully contracted already up to 10 years in length. So it doesn't really affect that sort of business short term. I think for the industry in general, it's good for activity to have obviously more egress for crude oil and refined products. And with that, generally enhances or incentivizes more development, particularly on the oil sand side of our business. So I think it would infect us indirectly in terms of maybe the growth wouldn't be as robust on our oil sand services if Trans Mountain or Keystone or Enbridge Line 3 didn't go forward. We certainly believe we'll see some expansion and whether it's 1 or all 3, I guess that remains to be seen. But we certainly believe we'll see some expansion at some point. And again, that will be positive for oil sands and positive for our business. Okay, great. Thanks, Dean. And then lastly, guys, also just wanted to get your comments on with Wapiti Phase 2 still progressing towards being sanctioned. Yet you've gone ahead and announced the Pipestone deal, now the Simonette expansion. So just wanted to confirm that those expansions, those projects don't cannibalize Wapiti Phase 2 at all? No. I think they're certainly complementary to Phase 2. Phase 2 is really just working with our producers to understand their timings for volume growth. The commitments we've got today fit within Train 1. So once we get the producer support to drive that expansion, we will drive it forward. Okay, great. That's it for me guys and thanks. We have no further questions in queue. I'll turn the call back to the presenters. Thank you everyone for joining on our Q1 conference call. If you have any questions, feel free to give either myself or Kelvin a call. Thank you for listening and have a good day.