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Hoegh LNG Partners LP (NYSE:HMLP)
Q2 2018 Earnings Conference Call
Aug. 23, 2018 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, and welcome to the Hoegh LNG Partners second-quarter 2018 results conference call. All participants will be in listen-only mode. [Operator instructions] After today's presentation, there will be an opportunity to ask questions. [Operator instructions] Please note this event is being recorded.

I would now like to turn the conference over to Richard Tyrrell, chief executive officer and chief financial officer. Please go ahead.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Thank you, Drew, and good morning, ladies and gentlemen, welcome to the Hoegh LNG Partners second-quarter 2018 results call. For some forward-looking statements on Page 2 and Page 3 has the glossary, as ever. So may -- first, I ask that you turn to Page 4 where HMLP second-quarter highlights are listed. Firstly, HMLP's assets all performed according to contract in the second quarter.

Total time charter revenue for the quarter reached $35.5 million, compared to $35 million in the same quarter of 2017. The accounts are directly comparable because of the full consolidation of the Hoegh Grace in both periods. The improvement between 2018 and 2017 is primarily down to 100% availability and low-maintenance downtime in the quarter on Gallant, where we typically see a few days maintenance downtime because of the high utilization on that asset. The strong top line flowed into the highest quarterly segment EBITDA and distributable cash flows reported to date.

The distributable cash flows equated to a coverage of 1.2 times, a level of coverage strength from which the balance sheet genuinely benefits. We have no notable news items in the quarter, but that's not to say the LNG market was quiet: several long-term supply contracts were announced and a number of FSRU projects have good traction. After the quarter-end, HMLP paid its $0.44 per common share distribution for the quarter and just under $0.55 per preferred unit distribution for the period that was due. The partnership also repaid an additional $6 million on its revolving credit facility.

That adds to the $11.5 million repays during the quarter. Page No. 5 puts numbers along the quarter. The actual headline revenue was $36.6 million, which is higher than the $35.5 million time charter revenues I referred to in my opening remarks due to the receipt of some insurance premiums -- premiums -- insurance proceeds that date back to a mortgage-related claim in 2014.

But since these will be repaid to HLNG under the terms of the indemnity payments previously received by HMLP, I view the $35.5 million as being more representative of the underlying performance. Reported operating income for the quarter increased to $28.9 million from $23.1 million this time last year. Net income on limited partners' interest and net income also increased for the quarter to $19.9 million from $12.2 million in the case of net income, and $16.9 million from $9.4 million in the case of limited partners' interest in net income. The year-on-year comparison at the net income level reflects the inclusion of 100% of the Hoegh Grace in 2018, compared to 51% in 2017.

Like in the first quarter and contrary to the same quarter last year, the income measures are positively affected by interest rate swaps on our joint ventures that are accounted for according to the equity method above the operating line. Excluding the effect of these, operating income increased to $25.9 million from $23.9 million and limited partners' interest in adjusted net income increased to $13.6 million from $10.9 million, increases of 8.4% and 25%, respectively. Segment EBITDA, which includes HMLP's proportional share of EBITDA from the assets in which it does not own on a 100% interest, i.e. the Neptune and the Cape Ann joint ventures, and again you see a rise with segment EBITDA increasing to $36.9 million for the second quarter of 2018 from $29.6 million in the second quarter of 2017.

The lines below segment EBITDA show reoccurring cash flow items that were excluded from the P&L contributes further to our distribution capacity. And on Page 6 the dashboard slide, and this is where we track the performance of our long-term contracts and it's where you can see the stability of HMLP's cash flows. The partnership recorded record quarterly EBIT -- segment EBITDA as can be seen on the top left-hand chart. And if you take that back across all the charts, I think stability is clear and it's that stability which is -- which should backed by our long-term contracts to support our distributions.

Another important takeaway from this page is in the bottom left chart where you see the distribution coverage increasing to 1.2 times. We have achieved the steady improvement in coverage by growing the partnerships distribution in a conservative manner that prioritize with balance sheet strength. In fact, we are now at under 4.5 times net debt to EBITDA, including relatively highly levered joint ventures, on a proportional-ownership basis and under 3.5 times net debt to EBITDA on a consolidated basis. The positive effect of our asset level debt amortizing in this way is that it frees up capacity that becomes available for future acquisitions.

To access -- the access to such capital, access to the preferred market and our ATM program provide confidence around the availability of future funding for drop-downs and associated growth when they come along. Based on the presentation of these current platform of five modern high-quality assets, our customers for the Neptune and Cape Ann has become Total after its acquisition of GDF Suez LNG assets, Total is the second-largest global LNG player among the majors with the worldwide market share of 10%. The Hoegh LNG Group has a long-standing relationship with Total and look forward to this additional custom. The GDF Suez Cape Ann is currently in drydock in advance of serving in India.

Now remember, she was previously in China. For this reason, there is some volatility in the JV accounts as associated costs run through. And generally speaking, drydocking costs are for the charters' account and reimbursed through revenue. However, certain upgrades are elective and not reimbursable.

The partnership share of this cost will be approximately $1.7 million in 2018, of which approximately $220,000 flowed through in the second quarter. Neptune will incur a similar cost because of approximately $1.2 million when its next scheduled to be drydocked in 2019. Elsewhere in the fleet, meetings are taking place with respect of the Hoegh Gallant's future in Egypt, as highlighted previously. Mutual consent of both parties which is required to make any changes and of course, HMLP has the downside protection of 90% of the current charter rate.

Lampung Indonesia and Höegh Grace in Colombia makes up the balance of the portfolio. Page 8 provides additional color on the existing contracts and updates the picture of the HLNG level. HLNG has been successful putting its newbuild FSRUs to work on shorter-term contracts with Naturgy and CNOOC. HLNG's assets need longer contracts to be MLP-ready, however.

And these are things that are being actively sort both in coordination with and independent of the existing charters. The CNOOC contract in China, I think, is notable for its strategic relevance, as it's an exciting market for FSRUs. And certainly looking forward to longer-term FSRU contracts rebuilding the drop-down pipeline. But in advance of this, I'd like to highlight the success at which HLNG is finding work for its FSRUs as either LNGCs -- LNG carriers that is or in hybrid rails.

In addition to being -- in addition to the LNGC option being a nice fallback for FSRUs in general, CNOOC's contract shows how a single customer can use the asset in regas or transportation mode, depending on factors such as seasonal demand for gas and its need for transportation for other LNG volumes that are part of this portfolio. Portfolio players, I think, really value FSRUs on this basis and obviously, CNOOC is only one of many portfolio -- portfolio gas players to whom FSRUs are relevant. HLNG's conditional Chilean project is now off the agenda, unfortunately. And in addition to the environmental delays -- in addition to environmental delays, the gas and power markets haven't developed as the customer projected and with further delays expected the projects the lapsed.

Page No. 9 provides an update on FSRU demand and the competitive environment. It is a highly competitive market for new business. And as a result, I think some softness in the rates shouldn't be expected on near-term contract awards.

HLNG did miss a piece of business in Brazil, which was disappointing, but elsewhere the activity is coming along nicely. Even though the four projects is listed in Australia -- even though there are four projects listed in Australia, only one or possibly two are likely to become reality. And however, as recently reported in the press, HLNG have won the tender and secured exclusivity with Australian International Energy, or AIE, which is one of the leading contenders. The AIE project has excellent potential.

It is in Port Kembla close to the New South Wales, Victoria border and this enables its -- both markets. HLNG has also been shortlisted for another of the leading project in Australia, one that is situated in Victoria. Page No. 10 shows the income statement for the quarter from our 6-K.

The effect on revenue from the insurance proceeds is broken out. Underneath this you can see the costs lines that are slightly improved this time last year as a result of the quarter being highly stable from operating point of view. Financing costs are trending down as debt amortizes with details on the subsequent slide. Income tax of $1.9 million is slightly below last year's $2 million.

But please remember, only a fraction of it is current tax, $220,000 to be precise, with the remainder being deferred reimbursable under our contracts and recordable as revenue once it is paid. Preferred unit holders interest in net income appears in this quarter as a result of the offerings that was used to fund last year's acquisition of the remaining 49% to Hoegh Grace, a transaction that's closed in the fourth quarter. There's also some additional pref issuance that is driving these numbers. And that '17 of the financials has the preferred and common unit counts as of June 30, for those looking to update their models.

Page 11 provides additional financial income and expense information. The main purpose for me including this page is to highlight some of the noncash amortization elements within interest and also highlight the other items, which includes foreign exchange effects between realized and unrealized and withholding tax, an amount that is payable in cash. Reasonable consistency there across the board with the interest expense coming down as you'd expect given the amortization of the debt. Turning to Page 12, the segment reporting tables and here the comparison on Page 13.

We break out how the assets have performed in more detail. The overall picture is one of a strong quarter from an operational standpoint, with the main driver being the 100% availability of the Gallant as it shows up in the majority held column. Our costs in this segment and in the other segments are also lower than in 2017. In the case of the other category, which is mainly corporate overhead, we've seen a benefit from lower year-end related costs, obviously, in the second quarter compared to the first, and also the absence of any capital markets activity.

Some volatility in the costs can be seen at the JV level, and this is partly down to the, first, of the upgrade costs on the Cape Ann referred to previously and partly down to an elevated level of project costs related to the assets moved to India. Overall, segment EBITDA came to $36.9 million and even without the insurance proceeds this would be a pleasing $35.8 million. I'm now going to jump a couple of pages from Page 12 at least to the balance sheet on Page 14. And what I would like to highlight here is the consistency of the year-end 2017 balance sheet was after the closure of the remaining 49% of Hoegh Grace, and as you'd expect there have been no major changes since this time.

What it does show is the steady deleveraging of the balance sheet look to the long-term debt on the revolving credit facility lines of how this is progressing, and note that the balance on the revolving credit facility line will be further reduced in the next quarter as a result of $6 million repayment that followed the end of Q2. Page 15 is reconciliation of distributable cash flow and it, obviously, excludes $1.1 million of insurance proceeds that will be returned to HLNG into the indemnity of the amount that were previously paid to the partnership. It comes to a sum of $18 million in distributable cash flow, which equates to the aforementioned distribution coverage of 1.2 times, which is the highest level achieved by the partnership since IPO and something that we're obviously looking to build and sizing our distribution increase accordingly. With that, I'll turn to the Hoegh LNG Partners investment thesis which, well, I think, is a little bit slow on the business development side, is very much intact from an assets point of view, certainly from the standpoint of our existing assets.

And with that, I'll open it up to questions. Thank you, Drew.

Questions and Answers:

Operator

We will now begin the question-and-answer session. [Operator instructions] The first question comes from Chris Wetherbee of Citi. Please go ahead.

Analyst -- Citi

Hi, James Vonegan [ph] on for Chris. I had a question about the boil-off plan, the 50%, $11.9 million. Just wanted to see if I can get some additional detail around that and also to sort of gauge what might have costed it and sort of the possible upside to that $11.9 million?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Yeah. Sure. I mean, firstly, the $11.9 million that you referred to is the reason for the -- well, it's pink on my page at least, a bar on the dashboard page. And it's -- the reason why it's pink is that although it flowed through the accounts, it is an amount that will be indemnified by the parent once -- assuming it is settled at some level.

Now the claim dates back to the performance of the assets, all that rushes to the assets because it's applied to the Cape Ann and to the Neptune, where they're operating as an LNG carrier or LNG carriers, and that was before the IPO of the MLP and hence the indemnity. So I just wanted to be clear on that. What it is is that the assets depending on how you interpret the contract, sets have potentially, obviously, boiled off more than what they -- they were supposed to, and that's now up for debate. The process has been a bit in limbo during the transition between LNG and Total.

But I think, now, Total have closed that transaction. We should be able to come to some kind of agreement on that in a relatively short order. But just repeat again, it's not something that has an impact on the MLP.

Analyst -- Citi

All right. And is the insurance receipts that were also listed, were these related to this particular claim or a different one?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

No. Actually, it's different. Those are related to the Mooring which was, again, a legacy asset, which just flows through the MLP's account because it's within existence before the MLP was formed, it was actually something that we sold to the customer and there's an associated claim. So there is an associated cost of fixing some damage and then there's an associated claim.

So when the cost was incurred, that was indemnified by HLNG and since it have been successful in the claim. Yes, so you're right that that money gets returned.

Analyst -- Citi

Got it. And circling back to the boil-off claim. Do these vessels now have regasification units or any sort of upgrade to them that would prevent this moving forward or essentially this is not really a risk given their current type of service?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Well, I mean, it's a bit of both. I mean, we'll be out there and we are going to fix -- its a relatively straightforward fix. It's not particularly expensive to fix either. So that's in hand, but it's not something -- it's not a loss that you incur when you're operating in [indiscernible] which the assets are currently doing.

Analyst -- Citi

Great. And when you said it's not particularly expensive, could you just give like a quantum how expensive it would be in terms of like dollar amount?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

It's -- well, it's a small part of the amount, which I referred to earlier as being sort of the discretionary spend on the Cape Ann and Neptune. But it's actually only a small part because it's not the only thing that we're doing on a discretionary basis.

Analyst -- Citi

All right. Got it. And I also saw -- or within it, within the press release, you also highlight lower opex. Just wanted to get a sense of what might have caused that and how much it might continue?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

You know, I think I wouldn't call it particularly material. And I think it's a bit of kind of a betting down effect because these assets now have been in operation for quite a while. So there's kind of fewer start-up related costs these days and perhaps there were when they assets first started operations. With opex, there are some FX effects because the cruise are typically based in euros, for example.

So I think the euro is quite weak at the moment, so it's not -- it will be part of it as well. And it's something that won't be necessary, something that will reoccur. So it's a whole -- it's a whole mix of things, but you know, in general we've got a big initiative internally to try and try to get costs down, obviously, without impacting the levels of service or maintenance -- maintenance or anything, and it's also slightly the fruits of that program.

Analyst -- Citi

Got it. And then just one more looking forward. What is the particular outlook on off-hire?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

On off-hire, it's -- well, the only assets where we've really had any off-hire has been in the Gallant. And it's -- it's been a function of that being limited flexibility in that contract and the fact it's operating at very close to maximum utilization at all times. So that's -- it's what's driven it. It's typically been 15 days a year on that one asset, elsewhere we haven't had any off-hire.

But still if you're looking at that and the next 13 days is coming up in a particular quarter, then -- well, I think in the first quarter we had nine days and the hit was about $1 million. So it has an effect and obviously, the second quarter wasn't hit by such an effect and as a result it's pretty decent.

Analyst -- Citi

All right. Thank you.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

You're welcome. Thank you.

Operator

The next question comes from Melvin Shieh of Bank of America Merrill Lynch. Please go ahead.

Melvin Shieh -- Bank of America Merrill Lynch -- Analyst

Hey, Richard, I just had a quick question on the Gallant, could you give us an update on negotiations with EGAS, perhaps timing around decision? And then more broadly, assuming it falls through views on supply and demand of FSRUs and possible reconstructing ops?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Sure. I -- I'd say that at least for the moment these discussions are quite good spirited, and I'm sure we'll come to something, some kind of agreement. I mean they -- I do want to pick -- and for one FSRU that was clear that they have a lot of gas coming online, so that's their need. And we obviously got a contract in place so the question is more one of how they can sort of subsidize the liabilities and -- it's difficult to see a sort of immediate FSRU project since that asset can go to and obviously there are other FSRUs available in the market that we'd also be competing for a project of that nature.

But the LNG carrier fallback option for FSRUs is obviously not a great option, but it's not a bad option in this LNG carrier market, and that's obviously helpful.

Melvin Shieh -- Bank of America Merrill Lynch -- Analyst

Got it. Great. And then just quickly -- I'm sorry, I got cut out for a little bit. What page did you say the updated unit counts were located on?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Oh, it's -- what did I say? It's in the financials and it is note 17. Do a search and then you'll find them.

Melvin Shieh -- Bank of America Merrill Lynch -- Analyst

Great. Thank you, Richard.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

[Inaudible] You're welcome.

Operator

The next question comes from Fotis Giannakoulis of Morgan Stanley. Please go ahead.

Fotis Giannakoulis -- Morgan Stanley -- Analyst

Yes. Hi, and thank you. I want to follow up on the Gallant and can you remind us there is a guarantee from the parent after the expiration of contract with EGAS. And do you think that this guarantee is solid and it will be paid in cash or are there any discussions of potential renegotiating the terms of this contract with the parent?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

No. That-- that is solid. I think the option kind of comes into play if the contract is terminated or the end of the contract, which -- so it's not quite clear exactly when that option will become applicable. I think, obviously, the latest it will become applicable is at the end of the contract, which is in April 2020.

And I think I would certainly assume that the MLP would exercise that based upon the current market rates for FSRUs. I think even with a 10% hit, it's still going to be an improvement on the next rate for that asset we'll be getting. So that's how I see it, but there's no question of renegotiating it or anything like that. I mean, that was sort of a major part of the deal and it was the reason why the MLP would have to pay what it did for that asset.

Fotis Giannakoulis -- Morgan Stanley -- Analyst

Thank you very much, Richard. And I want to ask you about, are there any potential drop-down opportunities right now? I understand that the independents have the -- this difficult legal structure that makes it very hard to drop it down, but is this something that could potentially be resolved? Any other opportunities for drop-downs that you can point out?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

There's certainly a few possibilities, which, that are ready to go, they're not fully baked at this stage, which I think certainly means it's difficult to see another drop-down this year, not impossible but difficult. Beyond that, we're obviously working very hard to make a few things come together. The independents is a possible. The projects in Australia, which the parents have been working on, that one if it solidifies is a possible, and then there's also a few other things out there which aren't in the public domain but also would be possible.

Fotis Giannakoulis -- Morgan Stanley -- Analyst

So [Inaudible] And can you also comment about the recent discussion about the Chinese tariffs on U.S. LNG. Do you think that this is going to have any direct impact on demand for FSRUs and how it -- what would be the indications for your sector? Do you see less volume already out of the U.S. toward China? Are there any takeaways from the way that you see the markets?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

I honestly think it's too early to tell. Any kind of noise of this nature is not great, clearly, and it could have longer-term consequences. But if you look at how the Chinese are going to deal with this, in the short term, they have the option to swap cargoes, but they have to take cargoes from the U.S., those cargoes are going to Japan and the Chinese can take the Japanese cargo. So I think the real question is how this type of noise impacts the wider energy policy and their interest in gas.

And there are some pretty strong forces, which are in gas' favor, which relates to the environment, they relate to its availability. And also, when it comes to the U.S. gas, it's still clearly the best way for the Chinese to have an impact on the trade imbalance with the U.S. So it's something that makes sense for China on a stand-alone basis, and then notwithstanding all this noise could even be a part of the solution.

Fotis Giannakoulis -- Morgan Stanley -- Analyst

Thank you so much for your service.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Thank you, Fotis.

Operator

[Operator instructions] The next question comes from Greg Lewis of BTIG. Please go ahead.

Greg Lewis -- BTIG -- Analyst

Hey, thanks, and good afternoon.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Hey, Greg, how are you doing?

Greg Lewis -- BTIG -- Analyst

I'm doing great. Hey, Richard, so you didn't mention the Esperanza, which recently got its three-year contract, it's a potential target. As we think about what type of contract coverage is required to make it an asset drop-down, is there any kind of hurdle rate we need to think about in terms of whether you think about the backlog or a contract coverage that's needed to make it a real target?

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

I'm like, five years. Of course, you can always say that it depends on price as well, because you can potentially adjust -- adjust [Inaudible] downwards to make things work and we do have scope for that without necessarily taking a bath on the drop-down. So I wouldn't say five year is a hard and fast rule, but in general, I think that's what's appropriate for the MLP structure.

Greg Lewis -- BTIG -- Analyst

OK. And just in conversations you're still having with customers, I mean, it just seems like there's a lot of FSRUs in the market, it seems like the contracts are maybe not -- it seems like there's a lot more opportunities to do shorter-term contracts based on conversations you're having. It still seems like there is this more kind of, call them, five-plus-year type contracts out in the market. I mean, realizing that we're in a soft period in the market.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Yes. I mean, I think some of these shorter-term contracts have been sort of opportunistic. I think HLNG has been playing defense a little bit on those and obviously, the fact that there's demand for LNG carriers at a decent pricing and some of these portfolio players view the FSRU optionality as being a nice optionality to have is good. But for the core business, the course of FSRU projects, that generally is longer term.

And it goes all the way from a 20-year type project, where that's backed by a 20-year PPA, through to the projects which are a bit shorter term because they're more bridging other things coming online in nature. So you'll always get a range of a project duration, but I wouldn't say for the real proper FSRU projects, there's been a major shift in the market at all.

Greg Lewis -- BTIG -- Analyst

OK. Perfect. Hey, thanks very much for the time.

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Thank you very much for the question.

Operator

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

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Well, thank you, ladies and gentlemen, for joining the call. I appreciate it. I know it's still the holiday season. And all I've got to leave you with is say all the best for the rest of the summer.

Thank you very much.

Operator

[Operator signoff]

Duration: 36 minutes

Call Participants:

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Analyst -- Citi

Melvin Shieh -- Bank of America Merrill Lynch -- Analyst

Fotis Giannakoulis -- Morgan Stanley -- Analyst

Richard Tyrrell -- Chief Executive Office and Chief Financial Officer

Greg Lewis -- BTIG -- Analyst

More HMLP analysis

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