Holly Energy Partners, L.P. (HEP) Q3 2018 Earnings Conference Call Transcript

Holly Energy Partners, L.P. (HEP)
Q3 2018 Earnings Conference Call
Oct. 30, 2018, 4:00 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good afternoon and welcome to the Holly Energy Partners third quarter 2018 conference call and webcast. At this time, all participants have been placed in a listen-only mode. The floor will be open for your questions following the presentation. If you would like to ask a question at that time, please press * then the number 1 on your touchtone phone.

And if it at any point your question has been answered, you may remove yourself from the queue by pressing the # key. If you should require operator assistance, please press *0. We ask that you would please pick up your handset to allow optimal sound quality. Please note that this conference is being recorded. It's now my pleasure to turn the floor over to Jared Harding. Jared, you may begin.

Jared Harding -- Investor Relations

Thanks, Adam. And thank you all for joining our third quarter 2018 earnings call. I'm Jared Harding with Investor Relations for Holly Energy Partners. Joining us today are George Damiris, President and CEO, and Rich Voliva, Executive Vice President, and CFO. This morning we issued a press release announcing results for the quarter ending September 30th, 2018. If you'd like a copy of today's press release, you may find one on our website at hollyenergy.com.

Before George or Rich proceed with their remarks, please note the Safe Harbor disclosure statement in today's press release. In summary, it says statements made regarding management expectations, judgments, or predictions are forward-looking statements. These statements are intended to be covered under the Safe Harbor provisions of federal securities laws. There are many factors that can cause results to differ from expectations, including those noted in our SEC filings.

Today's statements are not guarantees of future outcomes. Also, please note the information presented on today's call speaks only as of today, October 30th, 2018. Any time-sensitive information provided may no longer be accurate at the time of any webcast replay or reading of the transcript. Finally, today's call may include discussion of non-GAAP measures. Please see today's press release for reconciliations to GAAP financial measures. And with that, I'll turn the call over to George.

George Damiris -- President and Chief Executive Officer

 Thanks, Jared. And thanks to each of you for joining the call this afternoon. HEP generated solid results in the third quarter allowing us to continue our track record of distribution growth, increasing our distribution to $0.665 per unit. This distribution marks the 56th consecutive increase since our IPO in 2004. Despite the typical seasonality of UNEV and lower than normal volumes in and around HollyFrontier's Woods Cross refinery. Third quarter financial results highlight the cash flow stability of HEP's business model, which is underpinned by long-term minimum volume commitments.

During the quarter, we continue to make progress on our previously announced organic growth projects. Construction of our diesel truck loading rack in Orla, Texas remains on budget and we now expect this rack to be operational early next year. We also continue to pursue opportunities to expand the capacity of our crude gathering system in the Permian where we currently gather between 130-140,000 barrels per day. Several small projects in the aggregate will expand together capacity by approximately 25,000 barrels per day. These projects require small capital and have strong return profiles and are expected to be completed by the end of the year. And with that, I'll turn the call over to Rich.

Rich Voliva -- Executive Vice President and Chief Financial Officer

Thank you, George. As George mentioned, on October 19th, Holly Energy Partners announced the quarterly distribution of $0.665 per LP unit, which represents a 3.1% increase over the distribution for the third quarter of 2017. The distribution scheduled to be paid on November 8th to unitholders of record as of October 29th. During the third quarter, HEP generated distributable cash flow of $67 million, $7 million higher than the same period last year. This is primarily due to the acquisitions of the remaining interests in the FLC and Frontier pipelines as well as higher crude gathering volumes in the Permian Basin. Our distribution coverage ratio was 0.98 for the quarter.

Coverage was adversely affected by HollyFrontier's Woods Cross refinery running at reduced rates as well as the typical seasonal factors around the unit pipeline during the quarter. We anticipate higher earnings in the fourth quarter and continue to expect the coverage ratio to be one times for the full year of 2018. Capital expenditures for the quarter were $10 million including approximately $3 million in maintenance capex and $2 million in capex reimbursed by HollyFrontier. For the full year of 2018, we are forecasting total capital between $45-55 million, which includes $9 million of maintenance capex and $7 million of reimbursable capex.

The third quarter of 2018 we recognized $40,000 of deferred revenue from prior shareholders to shippers. And as of September 30th, HEP carried $5.7 million in deferred revenue on our balance sheet. In the fourth quarter of 2018, we anticipate recognizing $3.6 million of deferred revenue. Interest expense increased $4 million compared to the third quarter of 2017, primarily due to the tack-on offering of an additional $100 million of our 6% senior notes completed in the third quarter of 2017 coupled with both higher average revolver balances and the higher interest rate on those balances.

As of the end of the third quarter, leverage was just under 4.2 times debt to trailing 12 month adjusted EBITDA and we now expect to reach four times in early 2019. Including cash and revolver availability, our liquidity is roughly $500 million. We are confident that our strong liquidity will enable us to achieve our planned organic growth despite the absence of an MLP acqui-market. And with that, I'll turn the call over to Adam for questions.

Questions and Answers:

At this time, I'd like to remind everybody, if you do want to ask a question, just press * then the number 1 on your telephone keypad. And your first question comes from Spiro Dounis from Credit Suisse. Spiro, your line's open.

Spiro Dounis -- Credit Suisse -- Analyst

Hey, good afternoon, guys. Thanks for taking the question. Just wanted to start off on capex. And good to hear the truck racket is still online for early next year. But just maybe looking past that, could you just give us any sense for what the backlog could look like on the organic capex side? Even if you can't point to discrete projects, just how you're thinking about how you're gonna allocate or how you would like to allocate capital next year and in 2020?

Rich Voliva -- Executive Vice President and Chief Financial Officer

I think we've historically run sort of $30-50 million of organic capital HEP. We're obviously a little bit elevated this year. I think we'll be elevated again next year. To your point, we are seeing a number of smaller projects that we can go ahead and do to grow the system, particularly in the Permian. So I think we do see some more of those. No one of them really is so large to call out but I think again we'll be running an elevated number next year. Does that help?

Spiro Dounis -- Credit Suisse -- Analyst

Yes. That's appreciated. The second one, I'm sure someone was gonna ask at some point but I'll just get it out of the way. I guess just in light of the recent fold-in on one of your refining MLP peers, could you guys just remind you where you stand on the whole MLP structure? I know you and others understand they've been pretty frustrated with capital markets. But does a roll-up of MLP into HFC become a viable option at some point or is it not on the radar?

George Damiris -- President and Chief Executive Officer

We're trying to create as much value for our unitholders as possible. To your point, there's no MLP equity market today. It's closed. In the past three years, we've grown our distribution 20% and our equity's declined 14-15% and unfortunately, we're not alone there and the Alerian's down roughly 25% at the same time period. So then at the same time, we've got this complete disconnect between the public and private markets in the midstream space. So we're in a tough spot. We don't know how, whether the current state of this equity market is transitory or if it's permanent. We don't know how it will interact with the private market eventually. I don't know how this is gonna resolve itself. It has to but how it's gonna happen.

So a very longwinded way of saying there's no obvious strategic or corporate action to us at the moment. In the near term, we'll continue to look at all the options to your point there. We've seen some folks do different things. So we're watching to see how that works and how well that works. And we'll continue to focus on our organic growth we see. Try and continue to reduce our leverage and expect to maintain a long-term coverage ratio of one times.

Spiro Dounis -- Credit Suisse -- Analyst

Got it. Appreciate that color. Thanks, guys.

Operator

And I would just like to remind you if you do have a question, press *1 on your telephone keypad. And if it at any point your question has been answered, you can remove yourself from the queue by pressing the # key. And our next question comes from Jeremy Tonet from JP Morgan. Jeremy, your line's open.

Jeremy Tonet -- JP Morgan -- Analyst

Hi, this is John for Jeremy. Thanks for taking a question. I just wanted to ask on the feasibility study for the refined products pipeline you announced in July. I wanted to see how that's progressing and if the capacity you talked about earlier in the conference call was related to that or different?

George Damiris -- President and Chief Executive Officer

Jeremy, we continue to evaluate other options to supply the Permian with diesel fuel. Going all the way to Midland is one option. There are another series of options that we're pursuing and we'll make a decision when the time is right for us.

Jeremy Tonet -- JP Morgan -- Analyst

Thanks. And then maybe another one around turnarounds and what you're expecting for the fourth quarter. I know on last quarter's conference call, you mentioned a turnaround in El Dorado. It looked like that has some effect in the third quarter as well. Is that -- you expect to see effect moving on into Q4?

George Damiris -- President and Chief Executive Officer

Yeah, El Dorado came down like you said near the end of September and was planned to be down all of October and the early part of November. So you'll see that flow through in the next quarterly results.

Rich Voliva -- Executive Vice President and Chief Financial Officer

Just to add some color, that's not a huge impact. We are continuing to see some lower volumes in and around Woods Cross and we expect to see that through the rest of the year just to the crude supply. So that will come through on both the crude side and UNEV a little bit.

Operator

And we do have another question from Spiro Dounis from Credit Suisse. Spiro, your line's open.

Spiro Dounis -- Credit Suisse -- Analyst

Hey, thanks again for taking me again. Just had one more. Just curious; taking out the remaining interests of SLC and Frontier seem to have been a pretty good move, has been working out for you guys. And I believe you have two other pipelines, Osage in Cheyenne. Just curious if there's an option there and ability for you guys to take on additional interest in those pipelines as well?

George Damiris -- President and Chief Executive Officer

That's always a possibility but obviously, our partners would need to make a decision that they're willing to sell. There is interest in potentially expanding the line out of Guernsey to Cheyenne. So very early stages there. Evaluating that project. But as far as the acquisition itself, nothing imminent.

Operator

We do have another question from Chris Sighinolfi from Jefferies. Chris, your line is open.

Chris Sighinolfi -- Jefferies -- Analyst

Hey, thanks a lot. Rich, just had a question on the credit facility borrowings. I know you talked about how equity markets are closed. You've been carrying a balance on that. I'm assuming that's still the lowest cost debt option for you. But just curious of your thoughts on terming that out at any point and just views around that.

Rich Voliva -- Executive Vice President and Chief Financial Officer

To your point, that is our lowest cost source of financing right now. Obviously, with interest rates rising it's not as attractive as it was a year ago but it's far more attractive than the next best alternative. So we feel given the strong underpinning of minimum volume commitments at HEP we feel really comfortable holding a higher floating rate debt balance than you might typically see. So I think you'll see that position stay pretty stable. No intention to term anything else in the short-term.

Chris Sighinolfi -- Jefferies -- Analyst

Okay. And can you remind us, is that just a LIBOR-linked rate?

Rich Voliva -- Executive Vice President and Chief Financial Officer

Yes.

Operator

If there are no further questions, I'll turn the floor back over to Jared for closing remarks.

Jared Harding -- Investor Relations

Thanks, Adam. And thanks to everyone for joining the call today. Feel free to reach out if you have any follow-ups.

Operator

This does conclude today's conference call. You may now disconnect. Thank you for joining and have a great day.

Duration: 15 minutes

Call participants:

Jared Harding -- Investor Relations

George Damiris -- President and Chief Executive Officer

Rich Voliva -- Executive Vice President and Chief Financial Officer

Spiro Dounis -- Credit Suisse -- Analyst

Jeremy Tonet -- JP Morgan -- Analyst

Chris Sighinolfi -- Jefferies -- Analyst

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