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Semgroup Corp (NYSE:SEMG)
Q2 2019 Earnings Call
Aug 9, 2019, 11:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to the SemGroup's Second Quarter 2019 Earnings Conference Call. [Operator Instructions] I would now like to turn the conference over to SemGroup's Director of Investor Relations, Kevin Greenwell. KG, please go ahead.

Kevin Greenwell -- Director of Investor Relations

Thank you, Chuck. Good morning, everyone. Our call today will be hosted by Carlin Conner, our CEO; and Bob Fitzgerald, our CFO. Before we begin, I would like to remind you that our earnings release and presentation for today's call include projections, forward-looking statements and certain non-GAAP financial measures.

We encourage you to read our full disclosures in our latest press release, slide presentation and SEC filings for a discussion of those items, including reconciliations to GAAP financial measures. With that, I will turn it over to Carlin.

Carlin Conner -- President and Chief Executive Officer

Thank you, KG, and good morning, everyone. We appreciate your interest in our second quarter financial report and look forward to providing an update on our strategic initiatives. Starting on Slide 4, second quarter earnings were generally in line with expectations, primarily driven by the strong performance of our Canadian segment, as volumes continued ramping at our newly commissioned Wapiti Plant and recently acquired Patterson Creek facility.

This growth in Canada, along with the investment to expand our Houston terminal contributed year-over-year earnings growth. Bob will provide more color on our second quarter financials in a moment, but first I would like to provide an update on our balance sheet goals and highlight some success on the commercial front as we continue to execute our long-term strategy. 2019 continues to play out as a pivotal year as we manage the tension between completing key growth projects, while also working toward our deleveraging goal. We have made significant progress, but recognize there is more work to be done to improve our financial flexibility. Based on the strength of our contracted asset-dependent cash flows, we are setting our longer-term target for consolidated leverage at 4.5x or lower.

As we commit to this lower leverage goal, we continue to evaluate a number of options to strengthen the balance sheet while maintaining growth optionality. This deleveraging strategy remains a top priority, and we expect to provide more details when appropriate, but prior to year-end. From a commercial perspective, it was a successful quarter. In Canada, our recently announced liquids pipeline joint venture, KAPS, received additional shipper commitments and is now 70% contracted.

This liquids takeaway pipeline development coupled with the growth in our gas processing system underscores our view that our Canadian footprint will continue to provide organic growth optionality. The outlook is strong as we remain very active in our U.S. Liquids segment. In the DJ Basin, we're pleased to announce that we have secured a 5-year contract for 20,000 barrels per day on our White Cliffs crude line. Additionally, we have increased our uncommitted rate by 25% to $2.20 per barrel, which went into effect July 1. Demand remained strong for transportation service out of the basin and pipe capacity remains tight, which will support our recontracting efforts.

One of our key de-risking projects this year, the conversion of one of the White Cliffs crude lines to NGL service remains on track to come online late in the fourth quarter. We recently completed an open season for this line due to additional shipper interest and based on ongoing discussions, continue to believe demand for NGL service out of the DJ will remain strong. Also in the DJ, we continue to improve the quality of our cash flows with the execution of a long-term refinery facing contract to deliver crude from our Platteville hub to the local Suncor refinery system.

This demand-driven, low-multiple project enhances our Platteville crude hub position and supports our capital discipline focus. The pipeline is expected to be completed in the third quarter of 2020. To be clear, this capital project is included in our 2019 capital guidance. On the Gulf Coast, our Moore Road Pipeline remains on track to come online late this year. This critical project has long-term implications as it will expand and improve existing access to and from our Houston terminal resulting from in higher system throughput. As implementation of IMO 2020 approaches, heated storage demand remains high for our tankage.

Since the regulation was first announced, we have maintained 100% commercial utilization and have upgraded a number of our contracts with major refiners that have a long-term interest in these assets. This recontracting success highlights the stability and value of our heated oil storage and infrastructure. I would now like to spend the next 2 slides revisiting our strategy. Slide 5 depicts our North American liquid strategy. Our goal is to develop a competitively advantaged integrated system that drives barrels from the top North American basins to our assets in the DJ, the Mid-Con and the Gulf Coast. We have been very deliberate in executing our strategy over the last 3 to 4 years by divesting noncore assets, selectively growing our footprint and responding to customer needs, while most importantly capturing a game-changing foothold on the Gulf Coast. This strategic asset has the ever-changing crude oil landscape, continues to drive volumes toward the Gulf Coast.

As the math illustrates, we are uniquely positioned to provide transportation and storage services to every major crude production basin in North America. It is not only the Rockies and Permian barrels seeking access to the Gulf Coast market, growing Canadian crude suppliers will also be landing on the coast. The common need for the market players that control these barrels is that -- is they want the optionality to be delivered to multiple markets, including local refineries and exports.

The bottom line is that our Houston terminal, we have secured the most critical piece to unlock value throughout our portfolio. I'm excited about the capital-efficient growth to follow that will further enhance our strategic investment and create long-term shareholder value. Turning to our Canadian operations on Slide 6. We have had a very eventful 2 years of development around our Alberta footprint, which stretches approximately 300 miles from Grand Prairie in the north to Edmonton in the south. Our legacy system is creating organic demand-driven opportunities as Canadian producers ramp production of [Indecipherable] liquids driven by the current oil sands' need for diluent.

The massive resource potential in Canada supports our goal to build a fully integrated midstream company. Our strategic partnership with KKR as well as the JV with Keyera to build the KAPS liquids pipeline demonstrate capital efficient and de-risking solutions to allow us to grow our position. We look to leverage our existing competitive advantages to capture additional service offerings along the full midstream value chain. Turning to Slide 7, this slide illustrates how our portfolio transformation has positioned us with an asset mix that is generating an increasing amount of secure contracted cash flows. We are a very different company than we were 3 years ago. More than 95% of our total gross margin comes from fee-based cash flows.

Our contracted take-or-pay percentage is close to 60%. What's driving this, the focus growth of our U.S. Liquids segment, which is 80% -- 87% take-or-pay cash flows. This stability along with continued execution on the commercial front gives us the confidence to continue our strategy, extracting additional value out of these assets as we capture additional contracted demand-driven opportunities.

With that, I'll hand it over to Bob to provide more detail on our second quarter financial results.

Robert Fitzgerald -- Executive Vice President And Chief Financial Officer

Thanks, Carlin. Starting on Slide 8 with our second quarter 2019 consolidated results. SemGroup reported a net loss of $12.9 million in the second quarter, over $9 million less than the prior quarter due to impairments recorded in our U.S. Gas segment. Second quarter adjusted EBITDA was $105.5 million compared to $103 million in the first quarter of 2019. Our cash available for dividends was $43.7 million for the quarter resulting in a 1.2x coverage ratio. Turning to Slide 9 for segment profit results.

Total segment profit was up slightly from the first quarter as increased earnings in Canada in crude marketing were somewhat offset by lower crude transportation volumes and gas margins. Slide 10 provides highlights for our U.S. Liquids segment, which reported segment profit of $85.2 million for the quarter, a decrease of 5% compared to the first quarter. However, when normalizing the results for a onetime item related to an insurance claim recovery in the first quarter and the timing of increased property tax accrual in the second quarter, the sequential performance was slightly favorable.

Our marketing business contributed to our U.S. Liquids segment profit during the quarter, partially related to inventory timing, which will flow into the third quarter. Overall, we continue to expect marketing to be breakeven or come in slightly positive for the year. Planned inspections at the Cushing Terminal drove lower storage volumes for the quarter resulting in total utilization of 90%. However, it should be noted that available storage capacity remained 100% leased.

White Cliffs transportation volumes were down quarter-over-quarter, reflecting the planned conversion of 1 of the 2 White Cliffs Pipeline to NGL service. That project began in May and is expected to be commissioned in the fourth quarter. For U.S. Gas segment, on Slide 11, we reported segment profit of $11 million, down $1 million from the previous quarter, reflecting lower margins due to NGL and residue prices. Overall, volumes increased with expected improvements in STACK volumes somewhat mitigated by lower Mississippi Lime volumes.

Recent developments in our U.S. Gas and Liquids segments include the sale of 2 small noncore assets. During July, we signed agreements to sell our Sherman, Texas gas plant and our South Texas crude trucking business. The combined sales generated approximately $11 million in net cash proceeds. On Slide 12, segment profit at our Canadian business was $29.7 million for the quarter, up 31% compared to the previous period. This increase was due to full quarter contributions from our Patterson Creek and Wapiti plants, along with ramping volumes.

In summary, looking at the full year, we are maintaining our original financial guidance published earlier this year as the first half results were in line with expectations, and we expect second half improvements to be driven primarily by growing Canadian volumes.

Now I'll turn the call back over to Carlin for some closing comments.

Carlin Conner -- President and Chief Executive Officer

Thanks, Bob. In closing, I want to thank our teams in the U.S. and Canada for a good quarter of operations and for their continued commitment to safe, reliable and environmentally responsible service. With that, I will now turn the call over for questions. Operator?

Questions and Answers:

Operator

[Operator Instructions] The first question comes from Tristan Richardson with SunTrust. Please go ahead.

Tristan James Richardson -- SunTrust Robinson Humphrey -- Analyst

Hey good morning guys. Appreciate the update on the strategic priorities and the long-term leverage target. It seems as though you've got some things percolating that could materialize this year, would you characterize the divestiture program or things that you're looking at something that could be transformational from a leverage perspective or more of a modest streamlining of the portfolio similar to the recent businesses that you saw in the current quarter?

Carlin Conner -- President and Chief Executive Officer

Thanks, Tristan. This is Carlin. I believe we are working on several levers, and I think they could run the gamut from transformational to more modest, but most important thing is that we are attacking it and we hope to have an update fairly soon.

Tristan James Richardson -- SunTrust Robinson Humphrey -- Analyst

Helpful. And then your comments on strong demand for NGL service out of the DJ, just to clarify the open season, is that contemplating the expansion from the initial 90 a day to the 120 potential you've talked about in the past? And then is it possible or feasible on the existing pipe to go above 120 type of capacity?

Robert Fitzgerald -- Executive Vice President And Chief Financial Officer

Tristan, this is Bob. Right now, our focus is to currently fill up, up to the 90. So it's not going to be an expansion of that at this stage, although we're certainly working through the commercial aspects of it. What we've been able to do is lock up on a firm de-risk basis some additional commitments on to the pipe. And that process is ongoing. Even though the open season closed, there is still a lot -- quite a bit of interest out there.

Tristan James Richardson -- SunTrust Robinson Humphrey -- Analyst

Appreciate it. Thank you guys very much.

Operator

The next question comes from Kyle May with Capital One Securities. Please go ahead.

Kyle May -- Capital One Securities -- Analyst

On the White Cliffs Crude Pipeline, can you walk us through the contracts that are rolling off in the second half of the year? And how we should think about the mix between contracted and walkup volumes and the rate going forward?

Robert Fitzgerald -- Executive Vice President And Chief Financial Officer

Okay, Kyle, this is Bob. With regard to the contract timing, I mean we're in the middle of commercial negotiations right now. So we don't want to be specific on exactly what's going on. As you know, we have 72,000 barrels a day that have been committed to the pipeline for a number of years going on to the 4, 5 years right now. Some of that is going to be rolling off this year, and we did, as we announced, recontract part of that going forward to 20,000 barrels a day.

There is going to be another chunk that comes off late next year, third, fourth quarter of 2020, and we'll be working on those concurrently. The rate structure itself, as you pointed out in your note actually this morning, the current agreement that we have posted with the FERC is for 20,000 to 30,000 barrels a day at $2 a barrel. So anybody who want to sign up for that is eligible to do that during this open season. We will likely follow up with some additional maybe tiering structures into the future so that option is still available to us.

Kyle May -- Capital One Securities -- Analyst

Got it. That's helpful. And maybe looking at the U.S. Gas segment, can you give us an update on what you're seeing in the Mid-Con and thoughts about U.S. Gas for the remainder of the year?

Robert Fitzgerald -- Executive Vice President And Chief Financial Officer

Sure. We're continuing to monitor producer activity in the Mississippi Lime and the STACK. We have good line of sight to increasing volume in our STACK position, but we have less volatility and visibility in the Mississippi Lime play. But as you may know, Amplify completed the merger of Midstates Petroleum earlier this week. So it's still early days for us to get a good read on what if any incremental drilling Amplify may do during the second half.

At this point, we're assuming that there will be some additional drilling -- workover drilling, in particular, going on. Mach Resources is a big Mississippi Lime player, they are also continuing drilling during the quarter. But given where we're out right now, we do see that the STACK volumes will be increasing going into the second half, that's pretty clear for us right now. But it's just a little unclear to us exactly how much incremental drilling we'll see out of the Mississippi Lime, and that provides a little bit of headwind into our forecast for the year for gas.

Kyle May -- Capital One Securities -- Analyst

Okay got it. Thanks I'll jump back in queue.

Operator

The next question comes from Shneur Gershuni with UBS. Please go ahead.

Shneur Z. Gershuni -- UBS Investment Bank -- Analyst

I was just wondering if we can start off on the levers that you can pull around bringing down leverage to achieving your goals. First, if you can talk about how the Board is considering the dividend? Clearly that's a lever that can be pulled, that can certainly avoid equity or reduce any equity needs over time. And just wondering if they have also hired any. [Technical Issues]

Carlin Conner -- President and Chief Executive Officer

Shneur, was that the end of it? You fell off at the end.

Operator

I think he hung up. He is no longer in the queue. [Operator Instructions]

Carlin Conner -- President and Chief Executive Officer

Let me go ahead and answer Shneur's question, assuming he is listening. Yes, so with respect to the dividend and leverage interplay, let me first address that, we regularly assess the policy, the dividend policy, and we'll continue to do that throughout the remainder of the year. Given the current dividend yield and market trends, we understand the scrutiny of our policy, while the implied cost of the capital is high and this is a very important consideration.

There are also a number of other factors that we look at. We hope to provide some more clarity as soon as appropriate on those capital allocation priorities. As far as how we deal with the leverage, we continue to look at opportunities that we've been identifying now for over 2 years. We feel like that there is opportunity to transact and execute around those ideas that we've already shared numerous times. With respect to an advisor, we've had advisors working for us for over 2 years, working on capital raise initiatives, and we continue to have that good support and we appreciate their hard work.

Operator

The next question comes from Josh Gordon with JPMorgan. We have Mr. Shneur back with us. Shneur Gershuni with UBS. Please go ahead.

Shneur Z. Gershuni -- UBS Investment Bank -- Analyst

Sorry about that guys. I'm not even sure if you heard my question before we got disconnected. But my question was really about how the Board is weighing the benefit of the dividend on a go-forward basis as a lever and whether the Board has hired any advisors to help you with this process of achieving the leverage targets that you've outlined?

Carlin Conner -- President and Chief Executive Officer

Yes. We did answer your question, maybe you didn't hear. But, well, let me kind of clean it up a bit. We have hired advisors, but we've had advisors for over 2 years working with us on capital raise initiatives. And the management team and the Board clearly understand the interplay between the dividend and leverage, and we'll continue to monitor our developments and hopefully we'll have some clarity on our capital allocation priorities real soon.

Shneur Z. Gershuni -- UBS Investment Bank -- Analyst

Okay. As a follow-up, one of your peers, I believe, actually your partner DCP noted on its recent call that it was embarking on a significant cost-reduction exercise. Is SemGroup also looking to do something similar as part of the review process that you're looking at right now?

Carlin Conner -- President and Chief Executive Officer

Ongoing observation of our G&A and our cost structure is something that we obviously manage, I would say, with capital allocation and really trying to figure out how we work through some of the challenges we have ongoing, it clearly becomes an area that we have to be very focused on.

Shneur Z. Gershuni -- UBS Investment Bank -- Analyst

Okay. And one final question, you've given time line on the IPO of the Canadian business, I think you had said earlier in the year that you were looking to potentially IPO this business, if that has been accelerating or delayed at all?

Carlin Conner -- President and Chief Executive Officer

We're really excited about the developments in Canada, it continues to develop as we had hoped. What we have said previously is that the business itself probably wasn't quite seasoned enough to be an IPO candidate. And we also do not believe the Canadian equity markets are available yet to us. So we continue to work hard creating the secured cash flows that we think will be highly valuable for an IPO sometime in the future. I think we said 12 to 36 months, and we're probably in month 6.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Carlin Conner for any closing remarks. Please go ahead.

Carlin Conner -- President and Chief Executive Officer

Thank you all very much for joining us today. We appreciate your continued interest and support. Have a good day.

Operator

[Operator Closing Remarks]

Duration: 24 minutes

Call participants:

Kevin Greenwell -- Director of Investor Relations

Carlin Conner -- President and Chief Executive Officer

Robert Fitzgerald -- Executive Vice President And Chief Financial Officer

Tristan James Richardson -- SunTrust Robinson Humphrey -- Analyst

Kyle May -- Capital One Securities -- Analyst

Shneur Z. Gershuni -- UBS Investment Bank -- Analyst

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