Edited Transcript of BKEP earnings conference call or presentation 7-May-20 3:00pm GMT

In regards to the economic impact of COVID-19, we have all witnessed a sudden falloff in demand across sectors, including energy as many states enacted stay-at-home policies. In addition, on the supply side, many businesses were forced to remain closed during that time. On the other hand, Blueknight, due to its essential designation of assets in the markets we serve, has fared much better. In asphalt terminalling, which represented 80% of our 2019 operating margin, volumes over the first quarter 2020 were up 17% year-over-year. Although this doesn’t necessarily translate into higher revenue this early in the year, since we haven’t reached minimum throughput guarantees, it does further support our comments on the last call that our customers expect a strong asphalt year due to more favorable asphalt pricing and states wanting to accelerate road construction activities since overall traffic volume is down

In crude oil terminalling, which represented approximately 15% of our 2019 operating margin, third-party contracted storage increased to 5.8 million barrels as of May 1. It’s the highest level since 2017. Our Cushing crude oil storage business has benefited from a strong contango market, where we’ve seen a record demand for storage and pricing that is about 2 to 3x higher than earlier in the year. As a result of these factors and over 95% of our business outlook being solid, and in some cases stronger in this environment, we did not seek any support from the federal loan program intended for businesses like ours that needed assistance to manage through this market uncertainty. Consistent with our message of acting in the best interest of our employees, stakeholders and the communities we serve, we wanted to do our part and make sure those funds go to the businesses needing that protection.

Now I’ll turn to our financial highlights. As we communicated last quarter, our 2020 guidance is adjusted EBITDA in line with 2019, coverage on all distributions greater than 1.2x, and leverage between 4.0 and 4.25x. With the first quarter of 2020 complete, we continue to track well against that guidance. Compared to the same period last year, adjusted EBITDA was higher, distributable cash flow was greater by more than 20%, first quarter coverage was higher at 1.25x and leverage was lower at 4.27x. As I’ve stated previously, the first quarter tends to generate lower earnings than the remaining quarters in the year due to the seasonality of our asphalt terminalling business. In our new investor deck, we have a table that shows, on average, our asphalt earnings during the first quarter is approximately 22% of the total in any given year. In addition to this, maintenance capital also tends to be higher in the first half of the year since we try to complete most of our work ahead of the summer months when asphalt activity and the use of our facilities is high. As a result, historically, we tend to report coverage below 1.0x in the first quarter. Coverage of 1.25x on all distributions in the first quarter of 2020 is a significant achievement. And as I walked through the math last quarter for each of our securities, this translates into a preferred coverage ratio of approximately 1.59x and remaining common coverage ratio of 2.25x. This improvement in coverage during the first quarter is a testament to how we’re better managing our business along with our improved financial principles for allocating capital and returning cash flow to our investors in a sustainable way.

I’ll let Andy go into more details on our financial metrics. But I will end by saying that I’m very pleased with our overall financial performance this quarter and the progress we continue to make.

Now let me turn to our operational performance for the first quarter of 2020. I will start with our biggest segment, asphalt terminalling. As stated before, 95% of the revenue in this business is supported by take-or-pay agreements with well over 50% of the revenue from investment-grade counterparties. As of April 2020, Ergon is now the customer at 28 of our 53 facilities after its recent acquisition of one of our prior customers. Our asphalt terminalling business is largely driven by infrastructure and roadway construction trends at the federal, state and local levels, in states in which we operate. We continue to see a strong market backdrop overall, as I noted earlier on this call. Volumes over the quarter through our terminalling sites were up 17% year-over-year, with a large portion in the month of March when asphalt pricing on a per ton basis began to fall, along with the price of crude oil and other refined products. In addition, states have designated our facilities and the corresponding construction activity as essential during the coronavirus pandemic, with traffic volume down as much as 60%. In some places, construction activity is expected to pick up.

As I noted already, the volume increase doesn’t necessarily translate into immediate earnings this early on. But if this trend continues, we’ll begin to see improved earnings after sites achieve their minimum throughput guarantee. And of course, the earlier we reach that point in a year, the better.

I will now turn to our crude oil storage business, which includes approximately 6.6 million barrels of crude oil storage. As I mentioned on our last call, as of March 23, our facility was deemed fully contracted at approximately 5.5 million barrels. I’m happy to say, since then, our team has done a fantastic job optimizing the system and freeing up additional storage for lease. This additional storage is shorter-term due to the type of tanks and where they are on our system. However, it comes at very attractive pricing, especially when you see the positive spreads in the forward months. With that additional storage, we are now sitting at 5.8 million barrels of contracted storage, which is about 900,000 barrels higher than the average first quarter 2020 levels. In some cases, the current contango market supported a 2 to 3x increase in rates versus what we saw at the beginning of the year. We expect to see incremental revenue starting in the second quarter, but I do caution investor expectations that they will not see full earnings potential immediately since the majority of our storage was contracted ahead of the market shifting to a strong contango. It will likely be more of a gradual increase throughout the year as previous lower rate contracts roll off each quarter. The prior contango market lasted roughly 3 years. And due to the strength of the current cycle, we believe we may see good results in this segment well into 2021 and even 2022.

Moving now to our crude oil transportation segments, which includes both pipeline and trucking services. As a reminder, these businesses represent less than 5% of our total 2019 operating margin. These businesses continue to be significantly challenged in today’s commodity environment. And although a small portion of our total earnings, we’re staying active to best manage our operations through this ever-changing environment. We are experiencing more producer shut-ins in the area, and we’ve had one customer place a cancellation notice in trucking during the second quarter. Although a small portion of our total earnings, we are staying very active to best manage this business through this volatile crude oil environment and moving to reduce costs quickly where we can.

As we mentioned on the last call, we’re undergoing a review of strategic options for the business, which may include a potential joint venture or sale. There are a few likely candidates that may have strategic interest in these assets for their integrated operations. However, we do feel it’s most appropriate to launch a broad process and hire a bank to best understand the full potential of these assets and gauge interest from a wider audience. We’ll continue to keep our investors apprised of that process and once again ask everyone to remain patient, especially during a rather challenging market environment.

Finally, we’re progressing down the path of becoming a pure-play terminalling company focused on serving tomorrow’s infrastructure and transportation end markets. I encourage you once again to visit our website and review our newly refreshed Investor Relations presentation, detailing the highlights of our position in the market and new long-term Blueknight strategy.

With that, I will now turn the call over to Andy Woodward, our Chief Financial Officer. Andy?

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D. Andrew Woodward, Blueknight Energy Partners, L.P. – CFO of Blueknight Energy Partners G.P., L.L.C. [4]

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Thanks, Mark. Similar to our last call, I would like to remind our investor community that we changed our adjusted EBITDA and DCF definitions to now exclude noncash gains or losses from asset sales. As I mentioned before, we believe this change better reflects the ongoing cash operations of our business and should help our investors best assess our results.

Now on to our financial performance during the quarter. Yesterday, we reported financial results for the 3 months ended March 31, 2020. Adjusted EBITDA was $15 million for the first quarter, an improvement over last year, driven by stable total operating income, higher income related to insurance recoveries and improvements in corporate expenses. Please note, as we guided to on the last call, we did have a noncash impairment during the first quarter of approximately $5.1 million. Of that, $4.9 million was due to marking down our crude oil pipeline line fill on our balance sheet due to the significant drop in crude oil prices starting in the month of March. We mark-to-market our line fill inventory at the end of the quarter, the prices are below our previous cost basis, which occurred during this quarter. The balance of the line fill as of March 31, 2020, was approximately $4 million. Again, this is a noncash impairment that does not impact adjusted EBITDA or our leverage covenant calculations.

Distributable cash flow for the first quarter was $10.2 million as compared to $8.2 million for the same period in 2019, an increase of 23% year-over-year. These figures are a considerable improvement over the prior year and further supports management’s disciplined approach to better managing maintenance capital and lowering debt costs. Interest payments alone were approximately $1 million less than the prior year due to improved interest rates under our credit facility. Adjusted EBITDA and distributable cash flow, including a reconciliation of such measures to net income, are explained in the non-GAAP financial measures section of the earnings release issued yesterday. Additional information regarding the partnership’s results of operations will be provided in the partnership’s quarterly report on Form 10-Q for the 3 months ended March 31, 2020, to be filed today with the SEC.

I’ll now go into a few highlights for each segment. Within asphalt terminalling, total operating margin, excluding depreciation and amortization for the first quarter was $13.7 million and slightly higher than the prior year. Revenue net of reimbursables was higher due primarily from CPI rate increases, which was offset by higher expenses related to maintenance versus the prior year. As Mark noted, volumes were up 17% versus the same period in 2019. But again, it’s too early in the year for those volume increases to impact revenue until minimum throughput guarantees are met. Nonetheless, we remain very encouraged by those higher volumes for the full year.

Moving to crude oil terminalling. Total operating margin, excluding depreciation and amortization was $2.5 million for the 3 months ended March 31, 2020, and fairly in line versus the prior period despite lower contracted storage at the beginning of 2020. Throughput and blending at our Cushing facility remained strong and in line with the prior year as well. Echoing Mark’s comments, we do expect a gradual increase in earnings over the course of the year in this segment starting in the second quarter due to the more contracted storage at favorable pricing. The increase we should see in our crude oil terminalling segment will help offset the expected challenges within our crude oil pipeline and trucking segments. Total operating margin for these 2 segments, excluding depreciation and amortization, combined for the first quarter of 2020 was $1.7 million, slightly lower by less than $0.1 million versus the prior year. As Mark noted, we are expecting lower volumes to continue in these segments as producers scale back production and drilling due to the lower crude oil pricing environment.

I’ll now move on to our key financial metrics and liquidity position. As noted earlier, distributable cash flow was up considerably year-over-year, generating strong first quarter coverage on all distributions at approximately 1.25x, which is already ahead of our full year 2020 guidance and one of our best first quarter coverage periods on a record. Our debt balance at the end of the first quarter 2020 was $272.6 million and leverage was 4.27x. As we mentioned on our last call, we satisfied the Ergon put payment in full during the first quarter for $12.2 million. Our current debt balance as of May 1 remains unchanged. We ended the quarter with availability under our credit agreement, subject to covenant restrictions of approximately $30 million.

As for our capital investments, net capital expenditures were $2.7 million for the first quarter, which included $1.7 million of net maintenance capital. We are expecting higher net maintenance capital spend in the second quarter to address work prior to a busy summer for asphalt. But as mentioned on the prior call, we do expect total capital spend in 2020 to be lower by approximately 20% over the prior year. As for our remaining 2020 guidance, we are tracking well, as Mark noted. Adjusted EBITDA remains ahead of last year, and the improvements we’re seeing in crude oil storage is offsetting potential challenges we see in pipeline and trucking as we continue to evaluate those businesses strategically. Asphalt terminalling is showing signs of a potentially strong year, and will continue to make progress in our overall corporate expense category.

As for our financial metrics, distribution coverage for the quarter reached one of its highest levels for this time of year and ahead of our 2020 guidance. And then finally, our current leverage ratio is just slightly outside of our target range that we guided to for the end of 2020.

In summary, we had a very good quarter and remain excited for Blueknight this year and over the long-term as we continue to execute our new and refined strategy. And on that note, I do encourage you all to please check out our new investor presentation on our website, detailing our investment highlights and long-term strategy to grow and create value for all of our investors.

Operator, that concludes our prepared remarks. I will now turn the call over for Q&A.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Jeffrey Doppelt with Merrill Lynch.

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Jeffrey Doppelt, [2]

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I’m just curious, I’m pleased to see that everything is going well, and the dividends are being paid. But the pipeline that we [expanded] last year, are we fully — is that fully behind us? Are we still paying any debt on that?

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Mark A. Hurley, Blueknight Energy Partners, L.P. – CEO & Director of Blueknight Energy Partners G.P., L.L.C. [3]

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Yes, that’s fully behind us. We paid that off in January in full. So it’s not something we’ll be dealing with in the future.

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Operator [4]

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(Operator Instructions) The next question is from [Matt Stuart] with MAS Capital.

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Unidentified Analyst, [5]

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Great results, and I love the new strategic direction. I’ve had a chance to review the presentation, you really put that together well. I just had one question about the strategy and the focus. So considering strategic alternatives for the pipeline in trucking, when I look at Cushing right now and using kind of a comp transaction for 2019, to me, the current environment is really highlighting the Cushing’s value. When I look at the core of your earnings and really where I think the investor interest is, I believe it’s mostly the asphalt terminals, which to me is an excellent business. So I kind of wonder is there any consideration of strategic options for Cushing? Or is that considered a real core part of your operation? Because what I kind of see as you use those proceeds to pay down a tremendous amount of debt and be really well positioned to make acquisitions and terminals. Any thoughts on that? Or is that kind of not really under consideration?

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Mark A. Hurley, Blueknight Energy Partners, L.P. – CEO & Director of Blueknight Energy Partners G.P., L.L.C. [6]

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Well, thank you, [Matt.] First of all, it’s a great question. It’s one we ask ourselves all the time as well. And what I’ll tell you is right now, the primary focus is on the transportation assets, which are pipeline and trucking. And because those are the ones that are obviously most tied to wellhead. However, we keep our options open, and we’ve talked about doing some things around storage, but not front and center right now.

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Operator [7]

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The next question is from [Bryce Daniels with Talkot Capital.]

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Unidentified Analyst, [8]

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Great numbers. Good to see. It’s been good to kind of watch the company over the last year transition into a good place. Just kind of one nitty-gritty question and then maybe one strategic. Any color on when in this year you start to get past the minimum throughput at the asphalt terminals? When you start getting into that kind of excess volume fee?

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D. Andrew Woodward, Blueknight Energy Partners, L.P. – CFO of Blueknight Energy Partners G.P., L.L.C. [9]

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[Bryce,] appreciate the question. Typically, we see those volumes uplift, really sort of in third quarter. And this year, as we noted, we’re tracking ahead of that. So you might begin to see some of that in the second quarter, towards the latter half. But — and we remain very optimistic about that. But outside of that guidance, that’s probably the best answer we can give at the moment. The one thing I would say, similar to Mark’s comments, is take a look at our investor presentation. We have a nice chart in there that shows that first quarter tends to be about 22% of our earnings in total for asphalt.

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Unidentified Analyst, [10]

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Got it. Yes, that’s helpful color. And then given kind of where you are today and a unique position, I think, given in the market, especially kind of the MLP infrastructure market, any kind of more strategic thoughts beyond kind of divestiture? Anything with the cap structure expansion into kind of other specialty terminals? I know that’s something we’ve talked about on these calls in the past. Just any more high-level thoughts that we should think about?

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Mark A. Hurley, Blueknight Energy Partners, L.P. – CEO & Director of Blueknight Energy Partners G.P., L.L.C. [11]

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Well as far as our assets in the business is concerned, of course, we’ve mentioned here a couple of times doing something strategic on the pipeline and trucking assets. And that — if we do something there, puts us in a better position to get back into an acquisition mode. And we’ve been able to do some asphalt terminal acquisitions over the last 5 years, and those have been really nice transactions for us. We’d love to do more of that. And we’ve got some things under consideration and some discussions, but nothing imminent. And as we have mentioned, we — since we have a large terminal footprint that we can build upon, we’d like to get some additional products into that network, particularly the products that are more high-growth into the future, renewable diesel and that’s — those sorts of things. So that’s where our future direction is headed, and we’re putting a lot of emphasis right now on the strategic assets for crude oil transportation and then really what comes next after that. And so we’re very excited about that. We think it’s the right direction for this company. And we hope to do some real positive things in that area going forward. You want to talk capital structure, Andy?

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D. Andrew Woodward, Blueknight Energy Partners, L.P. – CFO of Blueknight Energy Partners G.P., L.L.C. [12]

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Yes. The only thing — this is Andy. The only thing I would add to that is, in a way, echoing a lot of what Mark said. But we’re looking at this market and our position as a chance for us to be on the offense, while we know other companies similar to us or within the midstream space aren’t as fortunate to be able to play from that stance. So in doing so, as Mark mentioned, we look at it as operating in parallel on a lot of these things, not one versus the other. And that’s what we’re doing. We’re staying active on all those items that Mark mentioned, including capital structure. It’s just — as you know, [Bryce,] clearly, from a capital standpoint, if we can raise some funds here through some noncore monetization, we’ll be in a much better position to be offensive in this market.

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Operator [13]

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(Operator Instructions) The next question is from [Tom Ford,] a private investor.

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Unidentified Participant, [14]

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Yes. I have a 2-part question here. Would you have an estimated liquidation value of your assets? On a per share basis, it seems like it must be quite a bit higher than current trading price. And part 2 to that question, wouldn’t it make sense to use excess cash to buy units in order to increase distribution coverage?

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D. Andrew Woodward, Blueknight Energy Partners, L.P. – CFO of Blueknight Energy Partners G.P., L.L.C. [15]

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So Tom, I can take that question. I mean just principally, I don’t look at liquidation value when it comes to valuation. I’m happy for you to do that, but I look at the market and I certainly think our assets are as high-quality as really you can find out there. If you just look at our asphalt business alone, again, just high level. It’s 95% take-or-pay. And these — the average weighted contract there is approximately 5 years. And the customer base is high quality, investment-grade customer base. Those are as high-quality as it gets in the infrastructure midstream space. And so multiple wise, you can — one could certainly argue that we’re at the — it should be at the higher end of those multiples. So that’s how I would address your first question. Your second question is, when it comes to buybacks. And we noted this in our investor presentation, so I encourage you to take a look at that and — under the financial section where we talk about just our financial principles and disciplined approach to running our business from a capital structure standpoint. And what we said there is we may pursue opportunistically preferred buybacks when our target leverage is met. And that’s how we would prioritize that investment or that use of excess cash versus other uses. And to remind everybody, our target leverage is approximately 3.5x.

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Operator [16]

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This concludes the question-and-answer session. I would like to turn the conference back over to Mark Hurley for any closing remarks.

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Mark A. Hurley, Blueknight Energy Partners, L.P. – CEO & Director of Blueknight Energy Partners G.P., L.L.C. [17]

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Well, first of all, thank you all for dialing in today. I appreciate your interest in Blueknight. And as always, Andy and I are available to take any follow-up questions and trying to be available for investors in general on a pretty frequent basis. So again, we had what we thought was a very good quarter. We feel good about the rest of the year, and really look forward to further implementing the strategy that we’ve talked about and getting some growth going behind the current strategic options that we’re looking at. So again, thank you all for dialing in, and stay safe.

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Operator [18]

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This concludes today’s conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.