Robert Karlovich - Chief Financial Officer Michael Krimbill - Chief Executive Officer

Ujjwal Pradhan - Bank of America Merrill Lynch

Good day, ladies and gentlemen, and welcome to the Q2 2019 NGL Energy Partners LP Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to introduce one of your hosts for today's conference, Trey Karlovich, Chief Financial Officer. You may begin.

Thank you and welcome everybody. This conference call includes forward-looking statements and information. Words such as anticipate, project, expect, plan, goal, forecast, intend, could, believe, may and similar expressions and statements are intended to identify forward-looking statements. While NGL Energy Partners believes that its expectations are based on reasonable assumptions, there can be no assurance that such expectations will prove to be correct. A number of factors could cause actual results to differ materially from the projections, anticipated results or other expectations included in the forward-looking statements. These factors include: prices and market demand for natural gas, natural gas liquids, refined products and crude oil; level of production of crude oil, natural gas liquids and natural gas; the effect of market conditions on demand for oil, natural gas and natural gas liquids; and the ability to successfully identify and consummate growth opportunities and strategic acquisitions at costs that are accretive to financial results and to successfully integrate and operate assets and businesses that are built or acquired. Other factors that could impact these forward-looking statements are described in the Risk Factors in the partnership's Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and other public filings and press releases. NGL Energy Partners undertakes no obligation to publicly update or revise any forward-looking statements as a result of new information, future events or otherwise. This conference call also includes certain non-GAAP measures, namely EBITDA, adjusted EBITDA and distributable cash flow, which management believes are useful in evaluating our financial results. Please see the partnership's earnings releases, investor presentations and annual and quarterly reports on Form 10-K and Form 10-Q on our website at www.nglenergypartners.com under the Investor Relations tab for more information on our use of non-GAAP measures as well as reconciliations of differences between any non-GAAP measure discussed on this conference call to the most directly comparable GAAP financial measures. At this time, I’ll now turn the call over to our CEO, Mr. Mike Krimbill. Mike?

Thanks Trey, and welcome everyone. We are reporting record adjusted quarterly EBITDA for the second time this fiscal year. Crude Oil Logistics generated nearly $50 million of EBITDA this quarter, volumes on Grand Mesa continued to increase. Water Solution volumes for the quarter exceeded the prior year by 350,000 barrels per day. We expect to dispose approximately 1.3 million barrels a day by the end of the fiscal year. We experienced a disappointing skim oil result due to lower than expected volumes and prices. We are currently working to correct that. As the liquid logistics has turned around from last year with both increased volumes and margins as well as railcars – all railcars being utilized, which is I think the first time in three years. Refined Products profitability has shifted to the second half of the year, but has not disappeared. Second, over the last 12 months, we have raised about $1.5 billion from asset sales at multiples exceeding 10x. The proceeds were utilized to reduce debt and leverage, while focusing on growing our Water Solutions business, such that our partnership adjusted EBITDA is expected to increase over the prior year in spite of the sales. NGL was not shrinking; instead we have repositioned our businesses and are growing again with a much stronger balance sheet. Third, we are implementing our Water Solutions growth strategy. We now have over 3 million barrels per day of disposal capacity with more than 1 million barrels a day already in the Delaware Basin from Loving, New Mexico, to South of Pecos, Texas. Several large water pipelines are currently being constructed. We are connecting all of our Delaware SWDs to a couple of these pipelines to provide producers redundancy and efficiently move water throughout the basin utilizing our capacity. Contract terms are improving with MVCs and acres dedications becoming commonplace, which will allow NGL to commit the capital to build the large infrastructure that guarantees producers that disposing of their wastewater will not be an issue. Our Water Solutions business is moving toward a combination of a GMP model and large diameter pipeline transportation model. Fourth, with respect to our common unit price and yield, it is disappointing to see the disconnect between the current performance, our growth opportunities, and the price. As we have stated previously, it does not make sense to raise our distribution at a time when we are yielding an excess of 10%, and we have no intention of reducing it. Investors in NGL are better served by further debt reduction, self-funding attractive internal growth projects, and purchasing our own common units. To that end, our Board of Directors has approved NGL seeking the consent needed from the banks in our credit facility to undertake a $150 million common unit repurchase program. All such discussions have commenced, no assurance can be given that such a consent will be ultimately granted. Looking at the remainder of this fiscal year, we remain confident in achieving our $450 million EBITDA guidance and leverage at or under 3.25x assuming no acquisitions. This will happen no later than March 31 of 2019, which is our fiscal year end. We continuously review our assets and prune appropriately where we see greater value to be created for our unitholders. And I thank you much for your confidence and support. Back to you Trey.

Thanks Mike. I'll go over our financial results for the second quarter and year-to-date as well as our expectations for the remainder of this year for each of our businesses. Our second quarter results were highlighted by the following: adjusted EBITDA totaled $95.5 million for the quarter and $175.7 million year-to-date. Water Solutions volumes continue to grow steadily with over 1 million barrels per day disposed during the quarter. Grand Mesa continues to perform above expectations with an average of 110,000 barrels per day this year and the step up in MVC is on November 1 will benefit the remainder of the year. Crude marketing reported a positive quarter with the benefit of higher margins due to the basin differentials during the quarter and most notably in the Permian. The Liquids business reported strong volumes and margins benefiting from strong demand, supply of products in the Northeast. The spreads between Conway and Mt. Belvieu and our new lower cost structure from pure leased rail cars and reduced storage costs. The Refined Products segment continues to be challenged while managing inventories through backwardated market. However, the gasoline curve is in contango for the remainder of our fiscal year, which should benefit this business over the next two quarters. We also recognized the gain of over $400 million for the sale of Retail Propane which closed during the second quarter. Our earnings remain on track for this year and our targeted adjusted EBITDA for the fiscal year remains unchanged at $450 million. We have updated some of our guidance ranges for each segment based on year-to-date results and current expectations, which I will cover as I discuss each business segment. Now touching on some of those specifics. The Crude segment generated approximately $48.5 million of adjusted EBITDA this quarter with Grand Mesa contributing approximately $42 million on a net basis for the period. The remainder of the Crude Logistics segment reported $6.5 million in EBITDA as marketing margins improved in almost every basin, most significantly in the Permian where we benefited from double-digit spreads during the quarter. The spreads has decreased in September. However, other basin differentials are improving as well and we do expect our crude marketing business to operate with positive earnings to remainder of this year. Financial volumes on Grand Mesa averaged about 109,000 barrels per day for the quarter and have been at 110,000 barrels per day year-to-date which is right in line with out forecast. We continue to extract volumes averaged $115,000 barrels per day for the year as we expect production growth to continue in the DJ Basin over the next several quarters, and our MVCs increased as well. Year-to-date, the crude business has performed very well with approximately $79 million in adjusted EBITDA. Based on these results, we are increasing our adjusted EBITDA guidance range for the crude logistics business to a range of $165 million to $175 million. Water Solutions' adjusted EBITDA was $39 million for the quarter, which included a realized loss on skim oil hedges of approximately $5.3 million. Water volumes averaged 1 million barrels per day this quarter with quarter-over-quarter increases in every basin we operate other than Eagle Ford which was still 29% higher than the same period last year. Our water volumes are on track with our original guidance. Skim oil production was approximately 3,300 barrels per day during the quarter with an average crude cut of 0.33%. We're realizing a lower skim oil cut on pipeline volumes compared to truck volumes. Expectations are that the skim oil will increase over the next six months due to seasonality and improved measurement and recovery procedures. We are also negatively impact by the basin differentials on the sales price of our skim oil primarily in the Permian. The pricing differential was more than offset in our Crude Logistics segment, which is a natural offset because of this natural hedge, we do not put basis hedges in place for our skim oil production in the Water segment. We have hedged approximately 5,000 barrels per day for the remainder of this fiscal year at an average price of approximately $57 per barrel. We have hedged approximately 2,200 barrels per day for fiscal 2020 at an average price of approximately $59 per barrel. We also now have hedges covering approximately 2,000 barrels per day for the first three quarters of fiscal 2021 at approximately $62 per barrel. We have invested approximately $370 million in our Water business during the first half of this fiscal year, which includes over 230 million in acquisitions and almost $140 million in organic capital. This includes the New Mexico ranches, which we acquired during the quarter, initial build out of the Western Express Pipeline, completion of the New Mexico disposal facilities, additional disposal wells, mostly in the Delaware Basin and upgrades to our existing facilities. We're expecting to invest an additional $100 million to $125 million in this business for the remainder of this fiscal year, which we expect to finance through additional borrowings on our credit facilities and proceeds from certain non-core asset sales, which we are currently pursuing. The benefit from this capital investment will be realized in our next fiscal year. Based on our second quarter results, updated expectations on skim oil recoveries and current West Texas crude oil price differentials, we are reducing our adjusted EBITDA range for the Water Solution segment to between $180 million and $200 million in fiscal 2019, which is still over 56% growth from prior year. Moving to the Liquids segment, adjusted EBITDA for Liquids totaled $20 million this quarter and over $31 million year-to-date. As we discussed last quarter, our margins have improved with fewer railcars and lower average rail car lease costs. We have also lowered our cost through the reduction in lease storage and increased our railcar utilization percentage during the quarter. Additionally, we have benefited from strong supply demand for NGLs, which have allowed us to market additional volumes with improved margins. We have benefited from some dislocation in the market including the Northeast as the market away certain pipeline capacity to come online. We believe we are well positioned going into the heating season on propane and continue to target new customers as well as growing volumes with existing customers. Our fiscal year guidance range is increasing for the Liquids business and adjusted EBITDA is expected to be between $60 million to $75 million for the year. For Refined Products, we reported a slight loss for this quarter, which has been about breakeven year-to-date. We continue to face the challenges with hedging our gasoline inventory into a backwardated market. However, the market is now in contango for the remainder of our fiscal year, which should benefit our third and fourth quarters respectively. Gasoline and diesel margins, excluding hedge losses are in line with our expectations. Volumes are higher with the addition of our blending business and more bulk sales. There were no market disruptions during the period that would have impacted our business either positively or negatively. For FY 2019 guidance range for Refined Products, it remains at $55 million to $80 million. However, we would most likely require some changes in the market to exceed the lower end of this guidance range. Our corporate costs were $10 million this quarter, which included approximately $2 million in non-recurring legal costs primarily associated with the EPA case, which we settled in August. Our year-to-date corporate and other expense is approximately $14 million. We continue to expect corporate and other to be between $25 million to $30 million of net expense, which includes the net benefit of $5 million from Retail Propane from the first quarter. Maintenance CapEx was $15 million this quarter with approximately $13 million in the Water segment. A portion of these costs are associated with lighting strikes and adding lightening prevention equipment to certain facilities. We have also incurred cost to replacing tubing and pumps at some of our legacy facilities to appropriately manage the volumes we are expecting going forward. Maintenance CapEx is continued to trend higher than our expectations as we have sent $28 million year-to-date, although $4 million was related to Retail Propane. We are now expecting $40 million to $45 million in total maintenance CapEx for this fiscal year. We declared a $0.39 per unit, $1.56 annualized distribution for the quarter and our TTM distribution coverage remains at approximately 1.0x. We continue to target 1.3x coverage or better on a trailing 12-month basis and expect improvements to our trailing 12-month coverage over the remainder of this fiscal year and beyond. Leverage and interest coverage have improved significantly following the Retail Propane sales. We redeemed the 2021 notes in October, but because we provided an irrevocable notice in September, we are receiving credit for that redemption and our compliance ratios at September 30. Our compliance leverage ratio is 3.7x and interest coverage is around 2.7x both significant improvements and moving closer to our targets. We expect to be at or below our compliance leverage target of 3.25x by the end of this fiscal year, again assuming no acquisitions. In summary, we are having a very good year and have made significant progress in reshaping our balance sheet, improving our credit metrics, streamlining our business and capturing value for our partnerships. We have recently received positive revisions to our credit ratings from both S&P and Fitch and analysts have raised price targets following the defeat of Proposition 112 in Colorado. We are excited about the remainder of this fiscal year and we have many opportunities for fiscal 2020 and beyond. We believe the market is not fully appreciated, the steps we have taken and the growth we have embedded in our businesses. We are continuing to execute on our strategies across each of these operating segments. Thank you for your continued interest in the partnership. We'd now like to open the line for questions.

[Operator Instructions] And our first question comes from TJ Schultz with RBC. Please proceed.

This is [Reynold] on for TJ. Hey, Trey. So in the Water segment, I understand the impact from skim oil, but in order to get to your targeted cash flow this year, what is your expectation on signing up new customers for water disposal over the next few months? And can you just provide more details around conversations with potential customers?

Sure. So part of our strategy was the acquisition of these branches in New Mexico. There are over 20 rigs running on these ranches from various large customers. We're in conversations with all of those customers. The opportunity or strategy is to leverage freshwater sales to get longer term commitments for disposal volumes. We are in process of working on that. We are also working with customers, existing customers and producers that are in proximity to our disposal facilities in Texas as well. The goal here is to, as Mike mentioned, to move that business to more of a gathering and processing longer term contracted pipeline business. And we don't have anything specific to announce at this point in time, but we do have a lot of opportunity. Mike, I don't know if you want to add anything to that.

I think you're right. We said earlier on the call we think will be around 1.25 million, 1.3 million barrels a day by March. So that's another 300,000 a day over where we – I think the average was for the second quarter. There’s a lot of activity in New Mexico, a lot of our piece out there. So we just need to sign them up with long-term contracts and increase our crude oil, skim oil content I think will be in good shape.

Great. Thanks. And on that topic of the ranch acquisition, so if you get customer support for disposal, what will drive the sort of the decision to move barrels each into Texas Panhandle or compared to moving them south and connecting to your larger pipeline system? And around that system, it's clearly competitive for water in the Permian, right? So I mean what gives you some advantages to hit growth target?

Mike, you want to start with that one? Or do you want me to?

Go ahead.

Okay. So I mean initially, it will be based off of needs. So we do expect to drill some New Mexico wells. So we will have stuff. We already have a few disposal facilities in New Mexico. We do expect to add some facilities in New Mexico to manage the current need for disposal. However, the economic support moving the majority of those barrels out of New Mexico into our facilities in Texas. That will start with the Western Express Pipeline, but we also have plans to do additional pipelines out of New Mexico to either new or existing facilities. It will be driven by commitments. So before we complete those pipelines, we would have to have the volumes committed either an acreage dedication in MVC to support those projects. But it will be strict primarily driven by the economics. The cost of drilling a disposal facility – a disposal well on New Mexico is anywhere from $8 million to $10 million versus $1.5 million to $2 million in Texas, and the Texas capacity, it generally greater than what a well in New Mexico is as well. So we believe that makes a lot of sense for a lot of different reasons. But you do have to cover the cost of the pipe, so making sure we have those volumes committed is important, other than the Western Express, which we're already working on to tie in as we have those volumes and that waste all of our disposal facilities along Highway 285 together.

Got it. Thanks,

Can I just add a little bit to that? And that is, these pipelines are really a function of the geography where the Water is. So clearly an Eddy County and make sense to go down to Western Express. The pipelines you really don't want to build one that's longer than say 20 miles. They cost about 1 million a mile for these 24-inch foot lines. So we also have plans south – several lines south, out of Lee County and east out of Lee. And it will just be a function of how quickly we can get commitments that we're already working in at most of the right of way.

Got it.

Okay. Thank you. [Operator Instructions] Our next question comes from Dennis Coleman with Bank of America Merrill Lynch. Please proceed.

Hey, guys.

Good morning.

Good morning. This is Ujjwal Pradhan for Dennis Coleman. I just had a question on your CapEx budget for the year. So to start this fiscal year and got started with $250 million to $275 million including the planned acquisition. And I think year-to-date, we are already close to approaching $400 million. And you just mentioned we have an additional $125 million in additional CapEx in Water. So is that all of the growth CapEx for this year, relating to acquisitions? And would you care to comment on how you're thinking about CapEx beyond this year?

Sure, Ujjwal. So you are correct, incremental to our original guidance, we did not include in that guidance the ranches that we acquired in New Mexico. So that was over a little over $90 million that was added during the quarter. That is in our reported a growth capital number. We also have accelerated the Western Express Pipeline as well as some disposal facilities to make sure that those are completed going into next fiscal year. That's really where the 100,000 and 125 million incremental comes into our expectation. We're not expecting anything additional from that at this point in time that everything we know of in anticipate. It's primarily focused in the Water business. We have very little capital that we've invested in other businesses. That being said, there are opportunities primarily in crude as well as a, I'm looking at some opportunities in our liquids and refined products business that we believe would be a highly creative. Those opportunities have not gotten to the point of putting the capital commitment in place at this time. Most of those would be late this year for fiscal 2020. Obviously with Grand Mesa and expectations in Colorado, we've been looking at opportunities there with the defeat of 112. I think that comes back on the table. That's something that will obviously be paying close attention to. We don't have a number to give you or an expectation for fiscal 2020 or beyond at this point in time. But we do know we'll continue to invest in the Water Solutions business and then there are a number of opportunities across the rest of the segments as well. Mike, I don’t know if you want to add anything to that.

No, I agree with you.

Thanks for that. And just a quick follow-up on the economics of your crude marketing versus skim oil and the impact on that from basin price differentials? Can you comment on how much they offset each other at the preventive stage? After thinking about the hedges you have in place as well?

Sure. So we are marketing more barrels out of the Permian than we are selling skim oil out of the Permian. That number does vary month-to-month and period-to-period. But out of the barrels that were marketing out of the – or the skim oil barrels that were selling out of the Permian. It's around 2,000 to 2,500 barrels per day based off of the skim oil kind and the volumes that obviously is expected to grow. However, our crude oil business markets significantly more barrels. So that differential, we would rather that differential be as a company be wider to benefit the crude business more so than the benefit we would see from the Water Solution segment, which is why we have not moved the crude business up any higher than what we did for this quarter. The increased we believe is more to based off of what we realized year-to-date and the current differential which has come back down significantly from where it was during the last quarter.

Got it. Thank you. End of Q&A

Thank you. And I’m seeing no questions. Thank you. I'd like to turn the call back over to CEO, Michael Krimbill for further.

Well, we appreciate your investment in time and we'll see you at the end of the next quarter. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect. Everyone have a great day.