Greetings and welcome to the Energy Transfer Conference Call. At this time, all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. And as a reminder, this conference is being recorded. I'd now like to turn the conference over to Tom Long, Chief Financial Officer.
Thank you. Please go ahead.
Yes. Thank you, operator, and good morning, everyone, and welcome to our call. We really appreciate all of you joining us today. This morning, we will discuss yesterday's announcement whereby Energy Transfer Equity and Energy Transfer Partners have entered into a merger agreement, providing for the acquisition of ETP by ETE in a unit for unit transaction. I'm also joined today by Kelsey Warren, Matt Ramsay, John McReynolds, Tom Mason and other members of the senior management team who are here to help answer your questions after our prepared remarks.
I'll begin today with an overview of the transaction, one we are obviously very excited about as we combine ETE and ETP into one partnership. As a reminder, we will be making forward looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. These are based on our beliefs as well as certain assumptions and information currently available to us. Starting with an overview of the key terms of the transaction. ETE and ETP have entered into a merger agreement providing for the acquisition of ETP by ETE for $27,000,000,000 in ETE stock.
Current ETP holders will receive 1.28x ETE common units for each public ETP common unit, implying a price of $23.59 per unit based upon ETE's closing price immediately prior to the announcement of the transaction. This represents an approximately 11% premium to the previous day's ETP closing price and a 15% premium to the 10 day volume weighted average price. The transaction is expected to be immediately accretive to ETE's DCF per unit, and we expect to maintain ETE distribution per unit. This transaction is expected to significantly increase DCF coverage and retain cash flow. A little bit on the strategic rationale of this transaction.
This will create a more simplified ownership structure. With the simplification, we are eliminating the IDRs, which improves our overall cost of capital to facilitate continued growth. It also increases retained cash to accelerate deleveraging. We're expecting a DCF coverage ratio of 1.6 to 1.9x coverage, which equates to approximately $2,500,000,000 to $3,000,000,000 of annual retained cash. This greatly reduces our external common or preferred equity funding needs going forward.
And we do expect the pro form a partnership to be rated investment grade. Turning to a few more details on the structure of the transaction. The GP of ETE will be issued new Class A units of ETE such that the general partner and its affiliates will retain the current voting interest in ETE. We will talk a little bit more about this shortly. ETE does expect to refinance its term loan and revolver, at which point its senior notes become unsecured.
We anticipate the pro form a partnership launching an exchange offer whereby ETE noteholders could exchange their notes for ETP notes with similar economic terms. As you can see, this simplified financial structure greatly strengthens our balance sheet and credit profile and positions the company for future growth. Going forward, we will target a leverage ratio of 4x to 4.5x. Now I'm going to turn the call over to Tom Mason for an overview of the Class A units.
Thanks, Tom. Currently, I think as people know, Kelsey Warren and Ray Davis, John McReynolds and others own a significant amount of ETE outstanding common units, and the math shows it's about 31% of the outstanding units. So obviously, a very large block of voting control and interest in ETE. With the merger, there will be a significant number of ETE common units issued to the ETP holders, which effectively reduces that ownership level to about 13.5%, therefore, resulting in a significant dilution to the voting interest of this group. As you all know, prior to this transaction, ETP has been the entity that owns the operating assets for the Energy Transfer family, particularly the transportation midstream business, And therefore, it financed its projects through a combination of debt and equity issuances.
So therefore, the equity was being issued primarily at ETP. And as a result, ETE did not historically issue much equity. And therefore, the voting interest of the control group was not affected by the financing activities and particularly the equity issuances of The post merger, ETE will be the issuer of equity to finance its growth projects. As Sonlong discussed earlier, the new equity issuance of the VTE are not expected in the near term due to the levels of retained cash related to the expected cash distribution coverage levels. But over time, ETE will be issuing equity because there will be growth projects that will need to be funded through a combination of debt and equity.
So the boards of both ETE and ETP recognize this issue of potential dilution going forward at the ETE level. And they're very obviously cognizant of the successful track record of ETE's general partner, which is people know as LEGP, which Kelsey Warren controls. And therefore, both boards wanted to preserve the control of ETE's general partner. So the result of this thought process was the concept of the Class A units. And the other factor as part of this thinking was that the under the ETE's partnership agreement, the general partner of ETE, which again is LEGP, has a contractual right to purchase common units from ETE whenever ETE issues common units, so that LEGP can maintain the relative equity voting interest or interest equity interest percentage of ETE.
And it's an interesting concept because LEGP is the one who can exercise that right, but also the calculation is such that it can maintain only LAGP's interest, but that of its affiliates as well. So as I mentioned earlier, the LEGP and its affiliates currently own about 31% of the outstanding ETE common units and would be diluted down to about 13.5% after giving effect to the merger. So in lieu of exercising this right, and in fact, LAGP will agree to waive its preemptive right to purchase its kind of pro rata share of the additional ETE common units that would be issued in this merger, there will be a new class units called Class A units that will be issued to LAGP. These Class A units represent limited partner interest in ETE that will be not entitled to any cash distributions and will not have any other economic attributes. So they're purely voting interests.
The Class A units will be entitled to 1 vote per unit, and we'll vote together with the ETE common units as a single class on all matters that come before the ETE unitholders. As a result of this, the control group of LAGP and its affiliates will maintain their current combined voting interest. So pre merger and post merger, the percentage interest of voting will remain the same. And again, the boards believe that was important to preserve the long term continuity and successful track record strategy the existing overall management at the top of the family. So the and then just a twist to that is that so this will not last forever.
The well, there's a provision that future issuances of common units by ETE would also be subject to an anti dilution adjustment as well, so that ETE would issue additional Class A units. So in the future, it would the control group of LAGP and its affiliates would still retain the same relative voting interest as they have prior to closing of the merger. This anti dilution right for future issuances will continue as long as Kelsey is a Director or Officer of LAGP. So that's kind of it in a nutshell. And back to you, Tom.
All right. Yes. Thank you, Tom. That really concludes our prepared remarks. Operator, let's go ahead and open the call up for questions.
Certainly. Our first question comes from the line of Shneur Gershuni with UBS. Please go ahead.
Hi, good morning guys. Nice to finally have one entity. Just to start off, I was wondering if you can talk about your targeted leverage metrics. You're obviously directing some of the accretion towards debt pay down. Is there a leverage target you're trying to hit of say 4.75x or 4.5x or are you looking at it on trying to be a BBB mid?
I'm just trying to understand kind of what you're targeting. And then once you get there with the expectation that some of the accretion from the deal would then be directed towards unitholders?
Yes, it's actually a very, very good question. The target that we're going to go forward look at here is probably 4x to 4.5x in that range. And when you're a company of our size, you can appreciate and you have the mix of earnings that we have, meaning so much of ours are fee based, in that 85% range. That's obviously a very, very solid balance sheet when you look at that. And these are the same things we talked to the rating agencies about that we show them.
So I think it's the way you worded the last part of that question, it's probably a very fair statement that as we get to that 4%, 4.5% level and we're looking out at other factors like our capital, our CapEx spend, where the equity is, etcetera. I think you can see that we can fund pretty much most of our equity with the excess cash, the retained cash. So we'll navigate all those factors in determining the last part of your question on the distribution.
Okay, fair enough. And just a second question, you have a targeted coverage range of I think it was 1.6 to 1.9, I think you just mentioned. Can you walk us through what drivers get you to the higher end of the coverage range? Does this imply that 2Q was a fairly strong quarter? And then are there opportunities out there for you to invest to get to the top end?
Could we see CapEx be running at a similar pace that we've seen for the last 2 years?
Yes. Listen, I know we're having this call today and we're a week away from the earnings. So we're not going to get ahead of ourselves on that. So we'll stay away from the Q2. But I will tell you the range that we put out there, that $1.6 to $1.9 is what we've been looking at as we pull these 2 together, as we went through all the analysis and everything else.
And so that's where that's coming from, our numbers. And the other thing that I don't want to get in front of is the S-four. Obviously, whenever that comes out, we will then have more of the projections. You'll get see more of the coverage, etcetera. And rest assured, we're going to move expeditiously on getting that filed as soon as possible.
Great. Thank you very much, guys. I appreciate that. And I'll jump back in the queue.
Our next question comes from the line of Jeremy Tonet with JPMorgan.
Good morning. Congratulations. Certainly the transaction, the market has been eagerly awaiting, so congratulations there. Tom, I was just wondering if you could walk us through the conversations with the rating agencies and what were the key issues they were focused on? In particular, it looks like Moody's is looking for certain things before stabilizing the BAA3 rating.
Yes. No, you bet. Well, let's I mean, going back to probably a lot of our conversations that I know we've had over the last quarter's investor meetings, investor conferences, etcetera. I think all of you all know that we've been staying in close contact with the agencies, keeping them updated on projects. I would say that the projects are probably one of the key items.
We still feel good about all the guidance that we've given out on the projects. But likewise, as we look at the leverage metrics and you look at that coverage. I can't emphasize enough that when you combine the 2 companies and you have that coverage in the range that we're talking about right now And you see the financial stability that, that brings to the enterprise here. I would tell you that that's the primary points of conversation that we've had with them, all very compelling.
Great. So it sounds like some of these mega projects are really close to the final finish line here?
Yes. Yes. They're in line with what everything we've put out. So no updates on those right now, other than we feel good about them.
That's helpful. Thanks. And then just one last question. Does today's transaction kind of influence your thoughts on whether or not establishing a C Corp currency could make sense for the family and I guess just any updated thoughts on that point?
Jeremy, this is Kelsey. We're still very open minded to that. This does not preclude that at all. We've we're so much driven here by we just don't like paying tax if we can avoid it, as you know. And but to the extent that there was a compelling economic reason for us to form, let's say, an Up C or a Sidecar C, whatever, then we are certainly looking at that and we'll act upon that if we think that's in the best interest of our of all of our unitholders.
Our next question comes from the line of Harry Mader with Barclays.
Hi, good morning. Two questions. First, Tom, can you just talk a little bit about the mechanics of making the ETE and ETP bonds pari passu? I know you mentioned potential exchange offer for ETE bonds with new ETP bonds that have similar terms. But are you also going to look to put cross guarantees in place between the two boxes?
And listen, we're we've obviously put a lot of thought into this already. But like we've always done on all the consolidations we've done, we will tweak them as we move along. So please kind of take this answer as kind of what I laid out in the prepared remarks is that right now what we are looking at is obviously paying down the revolver up at the ETE level as well as that term loan. And that will then trigger the no security. So at that point, we're anticipating that we would look at an exchange offer to bring everything down to the ETP level.
So I don't know that there's really a lot of necessity when you talk about cross guarantees, etcetera, because of what we're doing and the way we're going to structure through this. But please take it that it's a little bit dynamic, but we wanted to thought it was important to go ahead and lay out that our what our current plans are.
Okay. And then, so in terms of refinancing the ETE term loan and revolver, would you do that with new ETP issuance?
Yes, that's the plans.
Okay. Thanks for that. And then second, the press release talks about some of the benefits of the deal, one of which is putting yourselves in a better spot to potentially pursue strategic M and A. When you think about the 4 to 4.5 times target leverage ratio, is that a target ratio you would like to hit before think about pulling the trigger on M and A? Or should we not view that as like a limiting factor in terms of the time when you guys could do something?
I think that's fair. The one thing I would add
to it is, as you
know, any of these transactions when you look at them, you always look at what the pro form a numbers look like with the transaction. And that 4% to 4.5% is what we're focused on.
And I would add, I think it's safe to conclude that if there is a very compelling M and A opportunity, we would certainly that might somehow be slightly negative towards that goal of a 4% to 4.5%. We would certainly meet with the rating agencies, get their opinions as to our the way we're doing things and our view on things as we have in the past. Every major acquisition we've done at Energy Transfer, we have conferred with the rating agencies. We will continue to do that. And so, are going to be smart about our M and A and careful.
So but the 4.5% like Tom said, 4% to 4.5% is very important to us.
Okay. Thank you, both.
Our next questions are from the line of Ross Payne with Wells Fargo.
Congratulations guys on the combination. Just kind of following up on Harry's refinance that? And thinking of issuing bonds to refinance that? And second of all, are future bonds going to be at ETE or ETP? I thought I heard ETP.
No, it would be first part of your question. It would be with issuing of bonds and they would be at ETP, which is where the assets, etcetera,
will be.
Okay. And then my second question is on the ratings. Do you anticipate stable outlooks out of S and P and Fitch? And second of all, for Moody's, do you have any timeline you think you might be able to get back to stable?
This is one of those that you don't ever want to get out in front of the rating agencies. We do expect to get investment grade. Obviously, that's we'll show them all of our credit metrics, etcetera. But I don't want to get out in front of the reports they'll come out with. Now, as you've seen, I think Moody's has already come out with theirs.
I think you could probably anticipate the other 2 coming shortly. And let's wait till those come out. And then it's also going to be waiting until the time that we close it on this thing, so.
Okay, great. All right. Thanks, guys. And again, congratulations.
Okay. Let me just add real quick. On the Moody's that just came out, they did say that they expected stable with that, just for the record.
Nice.
Okay.
Thank you.
Okay. Thank you. Our next question comes from the line of Keith Stanley with Wolfe Research.
Hi, good morning. I wanted to ask on the timing. So fairly accelerated here from what you saw earlier in the year when you talked about kind of second half of twenty nineteen. Can you just kind of go over what's changed, I guess, in the outlook and how you're thinking about things since earlier in the year? Are you expecting much better results sort of than you did 6 months ago?
Just thoughts on the timing being accelerated here.
Yes. Kind of going back, I think, to once again to all the communications that we've had with during these quarterly calls as well as investor meetings is, We've been I think we've been very, very clear on the fact that it was protecting the investment grade rating was the key factor. Likewise, we continue to just have dialogue, keeping the agencies updated on these projects. As you know, that was probably a real touch point. So I think it's this is something that we really wanted to do as soon as possible.
And if you looked at it, the reason why you would say into 2019, you would take the projects and then you would have each one of those ramping up over a 4 quarter period. But once again, I'm not going to get into giving any guidance or early results for the quarters or anything else. In fairness, we will have the call next week. But we likewise, when we get the S4 out there, I think we'll be able to talk even more about your question right now because it will have the projections in there and then we'll be able to talk in more depth.
Got it. Okay. And could you clarify the 1.6x to 1.9x coverage? What time frame should we assume for that? Is that a 2019 expectation, 2020?
Or how should we think about what that references?
It really kind of references at closing and going out. Once again, it will be in the S-four. But that's based upon the terms that we've got, the 1 point 2.8 exchange ratio distributions staying at where ETEs currently are. I guess what we're telling you is that that's where this is coming out. And then as these projects come on, I think you'll start seeing it stay within that range.
But we can talk more about that when we get the S-four and those projections out.
Great. And one other quick one just on M and A since you talked about it a little earlier. Just the press release notes an interest in having better equity currency both to make growth accretive and for strategic deals. Just any updated thoughts on level of interest and optimism on being able to execute on acquisitions over the next year, just what you're seeing in the market?
Yes. This is Kelsey. Well, first of all, probably you know this, Keith, a monkey could make money in this business right now. It's not hard. So there's kind of wrong time to be buying things really.
But we will there's some players that are not involved in basins that are on fire right now and yet have good assets and would be strategic fits for us. There are others that are involved in those basins. But typically those assets are just ridiculously priced and just will not make sense for us until the music stops. And so we would like to be very strategic. I don't think there's any bargains to be had right now.
And but we're going to we think M and A is very, very important for our unitholders that we maintain an aggressive M and A view and a smart approach to that. So we will continue to do that.
Our next questions are from the line of Michael Blum with Wells Fargo.
Hey, good morning, everybody. First question is on the leverage target of 4 to 4.5. When do you expect to hit that level? I guess that's really the first question.
Michael, as you know, we were targeting to get below 5 in order to be able to sit down with the agencies and protect our investment grade rating. I know we keep kind of touching upon the win part of it. The tough part is, is I really want that S-four to get out there and get their projections out. But and then we'll be able to
talk, like
I said, in more depth on it. But I think you can start seeing that tied to these projects as they start ramping up. Projects, obviously, we're very excited about. And so if you see Rover ME2, ME2X, etcetera, coming over that 'nineteen timeframe, you'll start seeing that come up. I think it's worth just reminding everyone once again that our deleveraging was occurring due to the projects, the EBITDA catching up with all the funding we've been doing over the last few years.
And we're seeing that now. We're starting to see that occur. So once we get these projects or get these S-four out and we get to walk through the projections a little bit more, I think you'll be able to see a little more detail as to when.
Okay, great. I appreciate that. And my next question is along the same line, so we'll see how much you'll answer. But just trying to get your thoughts on long term on how you're thinking about distribution growth at ETE relative to distribution coverage? And is this something where you want to get to that 4 to 4.5 leverage target before you would contemplate distribution growth?
Or any kind of thoughts you can share there would be helpful.
Yes, Michael, Kelsey, I think the latter part of your question is accurate. We would like to get to that level. We feel a responsibility. As you know, we've been saying we wanted to do this transaction as soon as we felt we would be maintained in investment grade. We certainly that matters greatly to us and we're going to conduct ourselves in a way that where we deserve that investment grade.
So yes, the second part of that question is we would like to get to those kind of 4.5 times. And then but then, Michael, we have a duty to our unitholders. I mean, that's what MLPs are supposed to do. I think most people have forgotten that. But we're supposed to reward our unitholders and increase our distributions.
We will, in fact, resume that at the appropriate time.
Great. That's really helpful. And my last question is, I guess, once you get through this transaction, what any new or different thoughts on what happens
to Sun?
Thanks. Well, Joe Kim is sitting here looking at me. So this we love Sun. And Sun, we view as a great opportunity for Energy Transfer. Sun has a different set of assets.
They've got fantastic management. They are they know that Sun really needs to reinvent themselves a little bit. They need to be more of a wholesaler. I'd love to see them be more of a pipeline or actually in refined products business terminal company. They would like to see them get more into the hard assets.
Joe knows that. And I'm very pleased with what I'm seeing coming from Sun and we're very patient with Sun assets and we have great expectations.
All right. Thank you, Kelsey.
Thank you.
Our next questions are from the line of Avaira Scotto with RBC. Hey, good morning. So just three quick one questions for me. So absent M and A, is the goal for energy transfer, pro form a energy transfer to be equity self funding over the long term?
That is the goal. That's a very it's a dynamic situation. As you look at all the great projects that the commercial team constantly have on the drawing board. So it's going to be a lot dependent upon the CapEx spend each year, organic CapEx spend. So it could be a little bit dynamic, but I think the goal is for the excess cash, let's call it the retained cash, is to be covering the equity side of the funding.
Thanks for that. And then, I think I know the answer to this, but will this transaction be a non taxable event to ETP unitholders?
That is correct.
Great. And then my final question, and I think you touched on this, but does this transaction have any impact on the ETP preferred?
No, it does not have any impact on the ETP preferred.
Great. Thanks. That's all I had. And our next question comes from the line of Jean Salisbury with AllianceBernstein.
Hi, good morning. I just have one and you've touched on it a bit, but if you are to have unexpected further delays on ME2 and Rover, should we worry that that could impact the Q4 timing?
I'm sorry, can you say the very last part? Should we be worried about what?
Should we worry that that could impact the 4th quarter timing, like you'd have to push it back if those two projects were to get significantly pushed back?
Yes. If you start let's break each of the projects down. As you know, Rover, we're already getting probably over 2 thirds of the demand charges on Rover. So it really comes down to, I think, what your probably question is on ME2. And yes, I mean, clearly, there could be some impact from that.
I think you well, once again, I'm trying not to get into the rest of the year any type of projections or forecast, but our overall base business is obviously doing very well. So I think that when you look out and you look at kind of look at the numbers, we've got a situation that's very manageable to be able to get these projects online and they're going to be such great projects in the way they're going to ramp up, etcetera, so.
Okay, great. That's the only one for me. Thank you so much.
And our next question comes from the line of Dennis Coleman with Bank of America.
Yes. Good morning and congrats from me as well. Just one for me as well, most have been asked and coming back to distribution policy, if I can, just to try and see how you're thinking about this. 1.6 to 1.9 coverage is a big move up and it's a lot of dollars as you pointed out. Was there any consideration of maybe having a one time boost to the Energy Transfer Equity distribution with this transaction to offset the cut at ETP at any time?
And is that was that ever part of the thinking?
Part of the thinking, yes. But again, we as everyone knows on this call, we've been saying for a while that we will it was time to do the consolidation of ETE and ETP. We also let the market know that we saw that transaction occurring as ETE buying ETP. But then we also said that until we get comfortable, and like Tom said earlier, we're going to see all the rating agency assessments, we believe, by today sometime. Once we get comfortable that we're going to maintain our investment grade, we will in fact go forward.
And so distribution increases right now really don't support what we're trying to do, which was our goal to do this sooner than later. And at some point going back to the previous questions, however, we do feel a duty to grow our distribution, but we'd like to see that occur after we get to 4.5x or less on leverage.
Okay. Yes, just trying to understand sort of the thinking there. So again, congrats.
That's it for me. Thank you.
Our next question comes from the line of Adam Bright with SunTrust.
Yes. Hi, good morning. One quick question, Tom, for you. 4 to 4.5 times leverage target, is that more of a rating agency adjusted number with proportionate JV debt? Or are you talking more about a credit facility adjusted number, which is a lot lower than that?
No. That's definitely rating agency. And as you know, there's slight differences as to how each one of them look at that. But that's definitely rating agency is what we're referring to.
Got it. Thank you.
Thank you. This concludes today's question and answer session. I'd like to turn the floor back to Tom Long for closing comments.
Well, obviously, I think as all of you all can see how excited we are about this transaction and getting to this stage of being able to bring these companies together and to be able to create approximately $90,000,000,000 enterprise under this simplified structure, also with this very enhanced financial stability that we've talked about here today, which all should come back to obviously a much lower cost of capital. So thank all of you again for joining us today and we look forward to any follow-up questions or conversations we will have with you all. Thank you.
This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.