Calumet Specialty Products Partners, L.P. (CLMT 1.03%) is attempting to shift gears as it refocuses around higher-margin refined chemicals products. The plan sounds good on paper, and the independent refiner appears to be making progress. However, after a doubling of the price over the past year, most investors need to think carefully before jumping on this bandwagon. Here's why.
A work in progress
Calumet's refining business makes commodity fuel products like gasoline and jet fuel (roughly 40% of its adjusted EBITDA in 2017) and specialty chemicals (60%). The long-term goal is to shift more toward the specialty side of the equation, and for good reason...the gross profit per barrel on the specialty side of the business was just under $34 in 2017 compared to a far more modest $4.61 on the fuel side of the business.
However, there are other reasons to like the direction the partnership is heading. For example, the 2017 results on the fuel side were actually a vast improvement over the last few years. That segment had negative adjusted EBITDA in 2014, 2015, and 2016. The specialty chemicals business had positive adjusted EBITDA throughout that span. Clearly, Calumet's fuels business is doing much better than it had been, but it also isn't as stable as the specialty chemicals side of the partnership.
Overall, 2017 was actually a pretty good year for the refiner as it shifts gears. For example, it posted positive year-over-year earnings comparisons each quarter. In addition, it was able to sell some non-core assets, including an oilfield services business that didn't fit well with the current long-term plan. The market has taken notice of the overall progress in the business, pushing the units up over 100% in the past year.
The fly in the ointment
There's only one big problem that is still a lingering issue: debt. Long-term debt made up over 90% of Calumet's capital structure at the end of 2017. That's a huge number, even taking into consideration the capital intensive nature of owning and operating large and complex refining facilities. And that's after reducing long-term debt by roughly 18% in 2017.
Debt to EBTIDA, meanwhile, was a high 6.5 times last year. Again, an improvement, but still a concerning figure when you compare it to a refiner like Delek US Holdings (DK 1.33%), where debt to EBITDA is a far more manageable 2 times. For reference, Delek's long-term debt makes up around 30% of its capital structure. The debt issue was a key reason for Calumet's decision to eliminate its distribution in mid 2016.
Clearly, Calumet is aware of the problem, noting the 2017 debt reduction. And in early 2018, it made further progress on the debt front, calling in some high-interest debt and announcing the extension of a credit facility. However, even assuming all $400 million of the debt it called gets retired and not refinanced at a lower rate, the debt overhang still remains a huge hurdle at the partnership, with long-term debt continuing to make up roughly 90% of the capital structure. In other words, Calumet still has a lot of work ahead of it on the balance sheet.
Not worth the risk
At the end of the day, Calumet is a highly leveraged partnership trying to turn its business around. It's making notable progress and appears to be doing the right things. But after a huge share price advance over the past year, the risks appear to outweigh the rewards right now since debt remains a huge financial burden. Until management has made further progress on the balance sheet, most investors should sit on the sidelines.