Earnings Call: Q2 2018

May 10, 2018

Ladies and gentlemen, thank you for standing by. Welcome to Suburban Propane's Second Quarter 2018 Financial Results Conference Call. At this time, all participant lines are in a listen only mode. Later, there will be an opportunity for your questions. Instructions will be given at that time. As a reminder, today's conference call is being recorded. I would like to start the conference with the forward looking statement. This conference 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 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. And at this time, I would now like to turn the conference over to the Vice President and Treasurer, Davin D'Ambrosio. Please go ahead. Thank you, Leah, and good morning, everyone. Thank you for joining us this morning for our fiscal 2018 Q2 earnings conference call. Joining me this morning are Mike Stivalop, our President and Chief Executive Officer Mike Kuglin, Chief Financial Officer and Chief Accounting Officer and Steve Boyd, our Chief Operating Officer. This morning, we will review our Q2 financial results along with our current outlook for the business. As usual, once we concluded our prepared remarks, we will open the session to questions. However, before getting started, I'd 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 ks for the fiscal year ended September 30, 2017 and its Form 10 Q for the period ended March 31, 2018, 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 in 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 ks furnished to the SEC this morning. Form 8 ks can be accessed through a link on our website at suburbanpropane.com. At this point, I would like to turn the call over to Mike Stivala for some opening remarks. Mike? Thanks, Davin, and thank you all for joining us this morning. Building off of the momentum from our strong first quarter performance, colder average temperatures provided support for increased customer demand in the 2nd quarter. As a result, we are very pleased to report an improvement of $24,100,000 or 17.5 percent in our adjusted EBITDA for the Q2 of fiscal 2018 compared to the prior year. Our operations personnel did an outstanding job meeting the increased demand with an intense focus on all aspects of our business, delivering exceptional service, solid margin management and effectively managing costs and operating efficiencies. While the quarter presented some extreme weather variability, heat and degree days were reported as 9% cooler than last year's Q2, yet 6% warmer than normal. And our propane volumes increased by more than 10%. As we indicated at the start of this fiscal year, coming off back to back record warm temperatures in fiscal 20 sixteen-seventeen's heating season, we were taking a very different approach to estimating customer demand and for developing our manpower plan and our cost infrastructure. In fact, we developed our business plans for fiscal 2018 based on customer demand expectations assuming a weather pattern that would be more reflective of the 10 year average heating degree days or 7% warmer than the 30 year average, which has traditionally been considered to be normal. Now that we are through the first half of fiscal twenty eighteen, the heart of the heating season, weather was effectively in line with that 10 year average and 7% cooler than the comparable prior year period. Our propane volumes responded accordingly with an increase of more than 8% versus the 1st 6 months of last year. Therefore, through the first half of fiscal twenty eighteen, our adjusted EBITDA increased $33,000,000 or nearly 15% compared to the prior year. With the improvement in earnings and cash flows, we are also making significant strides in our stated goal to restore our financial strength following the past 2 consecutive years of record warm temperatures. We used excess cash flow to reduce indebtedness during the Q2 and combined with the higher earnings, our leverage ratio improved to 4.58 times at the end of March 2018. Our distribution coverage on a maintenance CapEx basis has also meaningfully improved to nearly 1.3 times based on trailing 12 month distributable cash flow compared to our pro form a cash distributions at the current annualized distribution rate of $2.40 per common unit. And with the extended cold temperatures across the majority of our service territories from mid March through the end of April, we have also seen higher customer demand continue in the early part of our fiscal Q3, which has set up a great start to our second half performance. In a moment, I'll come back for some closing remarks. However, at this point, I'd like to turn the call over to Mike Kuglin to discuss our Q2 results in more detail. And Mike? Thanks, Mike, and good morning, everyone. As Mike indicated in his opening remarks, we reported another solid improvement in earnings compared to the prior year. Our earnings benefited from a combination of higher volumes sold, higher unit margins and continued savings from operating efficiencies that helped partially offset higher variable operating costs resulting from higher customer demand. To be consistent with previous reporting, as I discuss our Q2 results, I'm excluding the impact of unrealized non cash mark to market adjustments on derivative instruments used in risk management activities, which resulted in an unrealized loss of $3,700,000 in the Q2 of 2018 compared to an unrealized loss of $2,500,000 in the prior year. Additionally, net income and EBITDA for the prior year include a loss on debt extinguishment of $1,600,000 associated with refinancing of our 2021 senior notes. Excluding these items, net income for the Q2 of fiscal 2018 increased to $110,500,000 or $1.80 per common unit compared to net income of $87,900,000 or $1.44 per common unit in the prior year. Adjusted EBITDA for the Q2 of fiscal 2018 amounted to $162,100,000 an increase of $24,100,000 or 17.5% compared to the prior year. Retail propane gallons sold in the Q2 of fiscal 2018 of 169,700,000 gallons increased 15,800,000 gallons or 10.3% compared to the prior year. Sales of fuel oil and other refined fuels of 13,600,000 gallons increased 5% compared to the prior year. Our volumes benefited from cooler temperatures experienced throughout the majority of our service territories which contributed to an increase in customer demand for heating needs. The year over year increase in volumes sold slightly outpaced the increased heating degree days which were 9% cooler than the prior year in our service territories. The heating degree days for the quarter were concentrated in January March as average temperatures for those months were at or near normal levels. However, average temperatures for the month of February were 16% warmer than normal and only slightly cooler than a record warm temperatures in February 2017. In the commodity markets, the price of propane gradually decreased during the quarter which provided a slight tailwind for margin management. The price of propane basis Mont Belvieu steadily dropped from $0.97 per gallon at the beginning of the 2nd quarter to $0.80 per gallon at the end of the quarter. Although prices generally declined from January to March, average wholesale prices for the quarter were still 18% higher than Q2 of last year. Total margins of $293,300,000 for the Q2 of fiscal 2018 increased $32,700,000 or 12.6% compared to the prior year primarily due to higher volume sold and higher average unit margins. With respect to expenses, while volumes sold increased more than 10% year over year, combined operating and G and A expenses increased 7% compared to the prior year. This increase reflects higher variable operating costs attributed to an increase in deliveries and other operational activities to support higher demand as well as higher variable compensation associated with higher earnings. And I'd also point out that our G and A expenses for the prior year Q2 included a credit of $2,000,000 as a result of reversing accruals for variable compensation to reflect estimated amounts earned at the end of last year's Q2. Net interest expense of $19,400,000 for the Q2 of fiscal 2018 increased $1,900,000 or 11% compared to the prior year primarily due to a higher level of outstanding borrowings on the revolving credit facility. Total capital spending for the quarter total capital spending in the Q2 of 2018 amounted to $9,600,000 compared to $10,400,000 in the prior year. At the beginning of Q3, we closed on the acquisition of a propane operation strategically located in our Florida market for a total purchase price of $11,900,000 And now looking at our year to date performance, as Mike indicated, adjusted EBITDA for the first half of fiscal twenty eighteen increased $33,000,000 or nearly 15% compared to the prior year. Our earnings benefited from an 8% increase in propane volume sold on temperatures that were 7% cooler than the prior year in our service territories as well as higher average unit margins and continued operating efficiencies that will partially offset higher variable operating costs. And turning to our balance sheet, we have now moved through our historically high period of seasonal working capital needs and during the Q2 we funded our working capital and capital expenditures and also paid down revolver borrowings by roughly $36,000,000 from operating cash flow. The combination of the increase in earnings and debt repayment during the Q2 results in our consolidated leverage ratio improving to 4.58 times at the end of Q2. We are well within our debt covering requirements and remain focused on restoring our balance sheet strength which includes achieving a target leverage profile in the mid to upper 3 times. Back to you, Mike. Great. Thanks, Mike. As announced in our April 26 press release, our Board of Supervisors declared our quarterly distribution of $0.60 per common unit in respect of our Q2 of fiscal 20 18 and that equates to an annualized rate of $2.40 per common unit. The quarterly distribution will be paid on May 15 to our unitholders of record as of May 8. So just a few final remarks. Heading into fiscal 2018, our people and our operating platform were well prepared to respond to a return of a closer to normal weather pattern. During some very harsh weather conditions this winter, our people worked tirelessly to serve our customers and local communities, maintaining their focus on the safety and comfort of our customers. At the same time, we continue to deliver on our customer base growth and retention initiatives. So we developed a good operational plan for fiscal 2018. Our volumes responded to the improvement in weather. We continue to manage costs with just a modest increase despite the higher operational activities. Our earnings and cash flows are in line with our expectations through the first half and our financial metrics continue to get stronger. In fact, our leverage is trending toward our target range of below 4 times. The excess cash flow generated is helping accelerate our debt reduction efforts and we have dramatically improved our distribution coverage. We are very well positioned operationally and financially to continue to pursue our strategic growth initiatives. One additional comment, 2018 marks a significant milestone for Suburban Propane. We are celebrating our 90th year as a leader and innovator in the propane industry. We are very proud that our roots date back to the very beginning when our founder in 1928 set out to solve a problem to bring propane gas delivery to the home. From a garage in the small town of West Orange, New Jersey, Suburban Propane has grown to be a nationwide retail distributor in 41 states and our more than 3,200 employees have maintained their commitment to supporting and meeting the energy needs of our customers in every local community we serve. I just want to once again take this opportunity to thank all of the employees of Suburban Propane for their efforts and continuing to remain focused on providing exceptional service to our customer base during a very challenging winter. As always, we appreciate your support and attention this morning. And now we'll be happy to open the call up for questions. And Leah, would you mind helping us with that? Thank you. And our first question is from the line of Mirek Zak with Citigroup. Please go ahead. Hi, good morning everyone. Good morning, Mirek. So can you comment on attrition rates this year and if you've seen any uptick in churn relative to prior years maybe due to increased competition or via from either other operators or alternative fuels? I think as I mentioned in my opening remarks, we have a very intense focus on customer base growth and retention and our people are doing an outstanding job delivering on those initiatives. And in fact, every quarter, every year we're continuing to see that trend improve. So yes, there's always competition in this industry. It's a very fragmented industry, but suburban offers a great value proposition and we've been executing on delivering the highest quality service to our customer base. And in times like we just experienced this past winter where you do experience some stress in the system, that's when suburban propane shines the most. And I think we did an outstanding job meeting the demand this year and delivering in some very harsh conditions, whether it be bad snowstorms, ice conditions, we're there to meet the needs of our customers. And even when supply gets a little tight, our relationships and our logistics personnel do an outstanding job getting product where it needs to be. So I'm extremely proud of what we've accomplished with our customer base. And so we haven't seen attrition deteriorate. In fact, we've done an even better job with our customer base year in and year out. Okay, great. And just one more on the M and A front. Have you seen an increase in the number or size of operators or assets coming to market versus prior years? And on those lines, are you open to acquisitions of either players larger than mom and pops or customer or asset packages at this time? As far as your first question, think the amount of businesses is pretty much the same as history. There's always going to be a list of potential businesses for sale. We did close as Mike mentioned in his opening remarks, we closed on a nice business that we had our eye on in Florida. We did that in April and it fits perfectly into our footprint down there. It's the 2nd decent size acquisition in that Florida market that we've been able to do in the past 3 years. So I think we're proving that we're open to doing acquisitions. And to your point about size, absolutely. I think if there was a good regional sized player that became for sale, I think we would be a very logical acquirer and we take a hard look at it. The reality is those businesses don't come to market all that often and but we'll see. We'll see what happens. Okay, great. Thank you. That's all for me. Thanks, Mirek. We have a question from the line of Ben Brownlow with Raymond James. Please go ahead. Hi, good morning. Good morning, Ben. Congrats on the quarter. I'm sure it's nice to have a little bit more normalized weather. On the OpEx and G and A and that was good leverage combined up 7%. And you mentioned the $2,000,000 within G and A last year. But if you adjust for that, it was up around, I guess, around 30% year over year. First did I hear or is that correct? And then how should we think about kind of separating the 2, just the divergence and the growth between those two metrics of OpEx and G and A, how should we think of that run rate on G and A? Yes. So the driver for the G and A was essentially variable compensation. Given the seasonal nature of the business, the expenses for our annual compensation are heavily weighted towards the first half of the year. So if you look at G and A for the first half, it's up little less than $8,000,000 which is probably a fair expectation for G and A on a full year basis. Of course, operating expenses are going to follow that of customer demand, but operating expenses for the first for the Q2 were only up about 2% on volumes that were 10% higher. On a year to date basis, our operating expenses were only up a little more than 1% on volumes, over 8% higher. Yes. And Ben, remember, we've always talked about the flexible nature of our cost structure and these couple of extreme years is a perfect example of that where we have a highly paid for performance structure here which does allow us to ratchet back our expenses dramatically when the earnings aren't there because of weather. And so this year obviously the earnings are significantly improved And as a result, we'll have more variable compensation for all of the employees that are earning it in the company throughout the company. So it's and yet even with funding that incremental variable compensation, the earnings are up dramatically. So it's something that we've talked about for years. It's a significant component of our cost structure that allows us to flex up and down with when weather cooperates or doesn't cooperate. Okay. So that's okay. So just thinking around the second half that would be $8,000,000 growth in the second half or 50%, 30%. That's not sort of the norm. The 8% increase in the first half, I would not say would be replicated in the second half. Okay. That's helpful. The first half is roughly equivalent to the full year increase. Okay. That makes sense. And you mentioned April volume kind of weather driven volume. Can you quantify what the volume growth? And is it fair to think about April historically? Obviously, that's going to be quite variable depending on weather, but historically April being around 2 thirds of the fiscal Q3 volume? Yes. I think as far as April goes, historically being 2 thirds of the 3rd quarter volume, that's probably close this year. April has really provided a strong tailwind for the quarter. So we don't give guidance. So I won't give you exactly what that is other than to say you could see you saw the weather pattern. It was April itself was about 15% colder than normal throughout most of the country. And actually when you look at the weather pattern this year, yes, as Mike pointed out February was a little was close to record warm. But the momentum that came out of January helped support February volumes and then the March volume, the March weather and then carrying that into April has really made this year look exactly like what we expected it to be, which was close to that 10 year average. And yet that's not necessarily true in all of our service territories either. So the West Coast actually didn't really get weather at all until the March timeframe. So when you look at this year and the volume performance given the way the weather played out, it didn't play out the same in every location. And yet when you bring it all together as an average it's going to be right in line with our expectations. So we're really pleased with this year and it wasn't a perfect weather pattern, but it was right in line with what we expected. Great. Thank you for the color and congrats again. Great. Thanks, Ben. Next we go to the line of Mike Geer with Janney Montgomery Scott. Please go ahead. Can you guys talk a little bit about the fuel oil and refined fuels business and natural gas and electricity businesses and maybe how those are performing? And then I guess how you see those fitting in the portfolio longer term, if you guys are pursuing acquisitions in those areas or if you just sort of view those as some diversified businesses in the short term or I guess how you're looking at them in general? Yes. There's 2 different answers there Mike. One is fuel oil business it's part of our platform. It was something that we acquired when we bought Ag Way back in 2003. And what we have, it's a more competitive market than propane. What we have today is pretty sustainable. We've stabilized that customer base. The customer base is highly complementary of our propane customer base. We frankly don't have any desire to seek acquisitions, I would say. I mean, I guess if there was a business that had a good sized propane business and it came with fuel oil, then we wouldn't snub our nose at it, if you will. But we're not looking to grow that business and we make a decent operating income off of that business. The natural gas and electric business is a nice little niche business for us in New York and Pennsylvania. It's a good contributor to EBITDA and it's really a marketing business where we don't take any commodity risk. We back to back the product to the customer. We're a these are deregulated markets where we provide an alternative to the customer base versus doing business with the utility and we have a unique value added product that our customers really appreciate that we offer and so we've been very successful just organically growing that business And so there's not a lot of acquisition opportunities in that space, but what there is, is opportunities to expand in other parts of the country that deregulation in the energy in the natural gas and electricity markets is embraced. So for instance, Maryland is the next territory that we have actually recently applied to do business in and we'll be starting to market in Maryland shortly. New Jersey is another state that is embraces deregulation. We're not actively marketing in New Jersey yet, but I would say that that's probably a target market for us. So I think we have some really good opportunities organically and it's a nice little business for us. Great. And then maybe you can touch on just in general your growth capital projection spending for maybe the rest of the year, you mentioned the acquisition. I guess you view more spending coming or just kind of smaller, just growth projects? I would say consistent to what we talked about coming into the year, we're targeting our total CapEx to be around $35,000,000 split between maintenance growth $15,000,000 $20,000,000 that excludes acquisitions. So the acquisition that we disclosed on the beginning Q3 is roughly $12,000,000 so that would certainly be incremental to that those CapEx numbers. Thanks. Thanks Mike. And there are no other questions. You may continue. Okay, great. Thanks, Leah, for your help today and thank you all for your time and attention this morning. We look forward to speaking with you again following our Q3 results in early August. Thank you. And ladies and gentlemen, this conference is available for replay after 11 am Eastern Time today through midnight tomorrow. You may access the replay service at any time by calling 1-eight hundred-four seventy five-six thousand seven hundred and one and enter the access code of 44 7,739. That does conclude your conference for today. Thank you for your participation and for using AT and T teleconference. You may now disconnect.