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Tesoro Logistics LP (NYSE:TLLP)

Q1 2013 Earnings Call

May 7, 2013 8:30 AM ET

Executives

Chris Castro – Manager, IR

Phil Anderson – President

Scott Spendlove – VP and CFO

Rick Weyen – VP, Logistics

Analysts

Brian Zarahn – Barclays

TJ Schultz – RBC Capital Markets

Cory Garcia – Raymond James

Sharon Lui – Wells Fargo

Jeremy Tonet – JP Morgan

Operator

Good day, ladies and gentlemen, and welcome to the Q1 2013 Tesoro Logistics LP Earnings Conference Call. My name is Joe and I’ll be your operator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of this conference. (Operator Instructions). As a reminder, the call today is being recorded for replay purposes.

I’d like to turn the call over to your host Mr. Chris Castro, the Manager of Investor Relations. Please proceed, sir.

Chris Castro

Thank you, Joe. Good morning, everyone, and welcome to today’s conference call to discuss our first quarter 2013 earnings. Joining me today are Phil Anderson, President; Scott Spendlove, Vice President and CFO, and Rick Weyen, Vice President of Operations. We issued a press release yesterday announcing our results. That release, along with additional financial and operational information and reconciliations for non-GAAP financial measures, is available on our website at tesorologistics.com.

Please refer to the forward-looking statement in the earnings press release, which says statements made during this call that refer to management’s expectations and/or future predictions are forward-looking statements intended to be covered by the Safe Harbor provisions of the Securities Act, as there are many factors which could cause results to differ from our expectations.

With that, I’ll turn the call over to Phil.

Phil Anderson

Thanks Chris. Good morning, everyone, and thanks for joining us on the call today. You have our earnings release. Scott and I will go over some of the details of the results in a moment, but I’d like to start with some recent highlights. On April 18, we announced a cash distribution for the first quarter of $0.49 per limited partner unit or $1.96 per unit on an annualized basis. This represents a 4% increase over the quarterly distribution paid in February of this year and a 30% increase over the last four quarters.

Additionally, yesterday, we announced plans to reverse a key section of the High Plains pipeline to move crude oil from growing production areas in the southern counties of North Dakota to key rail and take-away pipeline destinations in the north. With that reversal, we expect to grow throughput on the northbound segment of the pipeline by 50,000 to 75,000 barrels per day. Our projected spending on the project is expected to be about $35 million, of which we expect $20 million to be spent this year.

Upon the completion of the project in mid-2014, we expect the High Plains pipeline reversal project to deliver an incremental $10 million to $15 million of annual EBITDA. We also shared additional details around a project to build a significant storage hub and the area of Tioga, North Dakota. Tioga sits at a key intersection of the High Plains pipeline with other regional pipelines and its location is and close proximity to multiple rail loading terminals.

Access to the strategically-located hub will significantly increase our ability to meet growing storage demand in the area and puts us in position to continue growing our fee-based stable revenues. We expect that the existing Plains capacity of approximately 480,000 barrels will be fully committed by Tesoro.

The facility itself has been designed to support a total potential capacity in excess of 1 million barrels. While we had a significant storage program in our original plans for 2013, we’ve increased the scope of that project to provide flexibility to expand in the future.

With that, I’ll turn it over to Scott to discuss our financial position and first quarter results.

Scott Spendlove

Thanks, Phil. When we’re discussing first quarter financial and operational metrics, we may at times make comparisons to fourth quarter results. As such, please keep in mind that fourth quarter results include the historical predecessor results of the Anacortes Rail Facility for the time prior to the Partnership taking ownership of the asset.

Therefore, for purposes of this call, when making comparisons to the fourth quarter, we will focus on TLLP’s ownership of the assets and exclude predecessor results. For your convenience, we’ve added supplemental financial schedules to the Tesoro Logistics’ website that clearly show the historical breakdown of predecessor results and the TLLP standalone results.

Now, turning to the quarter, for the first quarter, we had distributable cash flow of $23 million and EBITDA of $28.3 million. This includes $2.2 million of transaction costs, primarily related to the announced acquisition of the Chevron Northwest Products System. Excluding transaction costs from both periods, EBITDA is up $3.6 million. Distributable cash flow increased $3.4 million, or 18%, over fourth quarter results.

Turning to our segment results, total revenues were up $3.9 million from the prior quarter, driven predominantly by increased volumes within the Terminalling, Transportation and Storage segment. The increase was primarily the result of a full quarter’s operation of the Anacortes Rail Facility and the return to full utilization of the Long Beach terminal, after fourth quarter volumes were impacted by refinery maintenance in the area.

During the quarter, the Anacortes Rail Facility performed well, and its contribution to earnings was in line with our annual EBITDA guidance of $18 million. Operating and maintenance expense were lower quarter-over-quarter by $600,000. The decrease is primarily due to lower third-party trucking costs within the Crude Oil Gathering segment, a result of efficiencies gained from the continued expansion of our proprietary trucking fleet.

Total capital expenditures in the quarter were $10.2 million. This includes $8.3 million of expansion capital and $1.9 million of maintenance capital, of which $1.2 million was reimbursed. We expect total capital spending in the second quarter to increase to $20 million to $25 million, as our spend on growth projects within the High Plains Systems ramps up. Of that amount, we expect maintenance spending of $3 million to $5 million, about $2 million of should be reimbursed.

Including the increased capital from the new expansion plans, the full-year outlook for 2013 for our existing assets is approximately $90 million of capital spending, with maintenance capital representing about $14 million, $8 million of which, we expect to be reimbursed. During the first quarter, we upsized the revolving credit facility from $300 million to $500 million, as a ready funding alternative for the expected purchase of the first tranche of Carson logistics assets from Tesoro. We remain undrawn on this expanded facility.

We also raised net proceeds of $392 million through a very successful follow-on equity offering. We plan on using the net proceeds of that equity offering to fund the acquisition of the Chevron Northwest Products System. With the expansion of the revolver and proceeds of the equity offering, we believe we are in a strong and flexible financial position to close on the Northwest Products System acquisition and the first tranche of the Carson logistics assets when they’re offered to us, while maintaining an appropriate level of debt and equity on the balance sheet.

And with that, I’ll turn the call back over to Phil to discuss the business and our outlook. Phil?

Phil Anderson

Thanks Scott. In the first quarter, we continued to drive EBITDA growth across all aspects of our business, further demonstrating our commitment to increasing cash distributions to our unitholders and delivering $140 million of EBITDA from our existing assets in 2013.

Within the Crude Oil Gathering segment, our High Plains pipeline volumes were up sequentially, as we continued to see increased demand for third-party crude oil movements in the region. While we expect second quarter throughput on the High Plains System to be lower as a result of planned maintenance at Tesoro’s Mandan and Anacortes refineries, we anticipate offsetting any potential decrease in throughput with additional third-party movements on the system.

Later this quarter, we expect to complete a seven-mile pipeline lateral connecting our crude oil station in Lignite, North Dakota to Global Partners’ Basin Transload rail facility in Columbus, North Dakota. The volume associated with that outlet is expected to come online during the third quarter and is included in our expectations to drive throughputs on the High Plains System to 100,000 barrels a day in 2013.

Looking at trucking, compared to the prior quarter, our first quarter volumes were slightly lower as a result of normal demand fluctuations and some seasonal weather-related impacts. However, the key to increase contributions from our trucking business remains the expansion of our proprietary trucking fleet.

During the first quarter, we added approximately 5,000 barrels per day of hauling capacity on our proprietary trucks and expect to add about the same amount in the second quarter. The current expectation is to move about two-thirds of our trucking volumes on our proprietary trucks by the end of this year. Our internal cost advantage is approximately $0.75 to $1 per barrel.

Looking at the Terminalling, Transportation and Storage segment, our total throughput volume for the first quarter increased by nearly 30,000 barrels per day in line with expectations. For the second quarter, we expect an increase in terminalling throughput primarily driven by demand at our West Coast marine terminals.

In addition, we are currently completing the Stockton terminal expansion project and expect it to contribute an additional 9,000 barrels per day of terminalling throughput beginning later this quarter.

In summary, for the second quarter, we expect pipeline volumes to be relatively flat. But overall, the addition of new trucks to our proprietary fleet and increased throughput on our terminalling assets should add to additional EBITDA. As we move forward, we continue to work on completing the acquisition of Chevron’s Northwest Products System, which we anticipate closing later in the second quarter.

We expect that acquisition to add approximately $33 million of annual EBITDA and require about $4 million of annual maintenance capital. We are evaluating the impact of the Willard Bay spill on the future operations of the pipeline and expect to update our guidance as we get closer to closing that acquisition.

As Tesoro nears the completion of its acquisition of the Carson assets, we continue to work closely together to ensure the successful integration of the logistics business. We expect to be offered those assets in multiple transactions with a stated goal of completing the first transaction contemporaneous with Tesoro’s closing of the overall asset portfolio. As we look beyond 2013, we continue to see significant opportunities to expand our portfolio beyond the assets at Tesoro for which we hold the right of first offer.

On April 22, Tesoro issued a joint press release with Savage Companies announcing the formation of an equally owned joint venture to build and operate a new 120,000 barrel per day crude-by-rail unloading and marine loading facility at the Port of Vancouver, Washington.

While the project remains subject to approval, Tesoro has indicated that upon its completion, their interest in the assets would be a strong candidate for potential drop down to Tesoro Logistics.

The changing dynamics of the North American crude oil markets will continue to drive the need for new infrastructure to move new production to the existing refining centers. Our sponsor Tesoro has been the first to market with unit trains on the US West Coast, and consistent with the announcement of the Vancouver facility, we expect additional opportunities to be announced in the future.

With that, thank you again for joining us on the call, and I’ll turn it over to the operator for questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). Please standby for your first question. The first question comes from Brian Zarahn from Barclays. Please proceed, sir.

Phil Anderson

Good morning, Brian.

Brian Zarahn – Barclays

Good morning. On the Northwest Products pipeline acquisition and Carson, you mentioned a potential 2Q – late 2Q closing. Can you discuss a little bit delay in closing of the refined products pipe and then an update on when you think Carson will close?

Phil Anderson

Sure. Both of those acquisitions have been subject to extensive regulatory review. For the Northwest Products System, we’ve been dealing primarily with the Federal Trade Commission. And on Tesoro’s acquisition of the Carson assets, they’ve been dealing with the Federal Trade Commission and California AG. With regard to the Northwest Products System, it’s been a long process with the Federal Trade Commission.

We’re nearing the completion of that process, and we continue with our expectation that we’ll be in position to close that transaction here before the end of the quarter. With regard to the Carson assets, on Tesoro’s call last week, Greg Goff reiterated his view that Tesoro was nearing the end of its process with the FTC and he continued to be very confident that they would be able to close that transaction this quarter without any significant modifications.

Brian Zarahn – Barclays

Okay. And then can you elaborate on your comments about a potential change in guidance for the Northwest Products pipe?

Phil Anderson

Sure. We continue to work with Chevron with regards to the spill that they experienced at Willard Bay, Utah in March. There have been – there’s an order from FMCSA, the DOT agency that regulates these things, as well as the Utah Department of Ecology. Chevron is in the process of complying with those orders and there may be some impacts from that relative to the operations of the pipeline, and we continue to work with Chevron to understand the impact of that.

Brian Zarahn – Barclays

Would there be a potential change in the purchase price to adjust for these changes or no?

Phil Anderson

Again, we’re trying to understand fully the economic impact at this point. And if we get to a different position, that’s obviously something – but one lever to resolve any issues there.

Brian Zarahn – Barclays

Okay. And then on the Crude by Rail Project with the parent, can you talk about why doing a JV structure versus keeping it within the Tesoro family?

Phil Anderson

Sure. I can speak a little bit to that. I think for Tesoro, it was a matter of teaming up with Savage, who they already do business with. Actually, TLLP uses them as our – the operator of our Anacortes Facility, and Tesoro uses them in some of their other assets.

The combination of the two companies was really a powerhouse solution to what we believe the port was looking for in terms of a highly efficient rail operator, as well as an extremely confident marine operations company on the Tesoro side, as well as being aligned with a significant customer for that on the West Coast. So it was kind of an unbeatable combination.

Brian Zarahn – Barclays

Would you anticipate, I know it’s still at the parent level, but most of those volumes to be contracted with Tesoro or it remains to be seen?

Phil Anderson

I believe Tesoro has indicated that it will contract for 60,000 barrels a day through that facility, and I expect that there will be high demand for incremental capacity that likely would also be contracted. Ultimately, this facility could be expanded up to 280,000 to 300,000 barrels per day, if there was significant enough demand.

Brian Zarahn – Barclays

Okay. Last one for me, along those lines, can you discuss a little bit your plans for additional rail unloading terminals on the West Coast?

Phil Anderson

Sure. We do continue to work with Tesoro to look at rail alternatives to deliver alternative locations either in California or elsewhere. Obviously, Vancouver is our primary focus. It’s a very competitive solution that gives the customers there a lot of optionality in terms of being able to take the crude readily into facilities that have existing marine access. So, you can hit a lot of refineries from that one location, and it’s pretty competitive with direct rail into California overall.

Brian Zarahn – Barclays

Okay. Thank you, Phil.

Phil Anderson

Thanks, Brian.

Operator

Thank you for your question. The next question comes from TJ Schultz from RBC Capital Markets. Please proceed.

TJ Schultz – RBC Capital Markets

Hey guys, good morning.

Phil Anderson

Morning, T. J.

TJ Schultz – RBC Capital Markets

On the High Plains reversal, last quarter, you had indicated that you would begin making some northbound movements now on a limited basis. So can you discuss how we should view that ramp to get to the $10 million to $15 million of EBITDA by mid-2014? Is there some opportunity to capitalize sooner on the new barrels into the south side of the system?

Phil Anderson

I’m going to let Rick Weyen, our Head of Ops, discuss that.

Rick Weyen

Morning, T. J. Yeah, we are, actually this month starting for the first time, making small amounts of northbound movements from south of the lake to north of the lake, essentially using a reversed part of that pipeline. Without the project, we have limited capability of moving barrels. We’re kind of working our way slowly into the process to see how much of that we can capture before we get the project on.

Phil Anderson

And T. J., this is Phil. Just to expand on that, we do have the ability to do movements on a displacement basis. One of the beauties of this project is it will allow us to essentially flip-flop the flow of the pipeline to optimize where crude wants to go on the system on a net basis. So that’s – while we’re excited about the ability to physically flow north, this is really just giving us a whole bunch of flexibility.

TJ Schultz – RBC Capital Markets

Okay. But most of its limited, I guess, then until you go through this project that – the $35 million project that gets the main reversal going. Is that correct?

Rick Weyen

Yeah. We haven’t tested out the total capacity at this point, but we think we might be able to do as much as about 25,000 barrels a day before the project’s complete.

TJ Schultz – RBC Capital Markets

Okay.

Phil Anderson

So, T. J., I think to ultimately answer your question, we do expect incremental revenues probably to begin appearing this year from that.

TJ Schultz – RBC Capital Markets

Okay, great. The seven-mile lateral to Global’s Transload facility, can you quantify the impact that that will have on High Plains throughput?

Phil Anderson

The project itself was in our projections from the beginning of the year when we outlined capital, and it’s one of the keys to getting us to 100,000 barrels a day on the system. So that coming on online in the third quarter will be one of the key lynchpins to get us up to that mark. So, we know that there is an awful lot of demand to get from the area in the south called Johnson’s Corner, where we have some existing interconnections with a couple of large gathering systems, to get up north to not only Global’s facility, but you’ve got the energy facility, as well as a couple other large ones in that area. So we are seeing a significant amount of demand overall for those movements.

TJ Schultz – RBC Capital Markets

Okay, thanks. Just lastly the proprietary truck mix, what is that now? I know you want to get to two-thirds.

Phil Anderson

Right. So if you go back to the fourth quarter, it was about one-third. This quarter, it was about 50%-50%, and next quarter, it will be about two-thirds, assuming volume stays relatively flat. We don’t expect a big increase in trucking volumes next quarter.

TJ Schultz – RBC Capital Markets

Okay, great. Thanks.

Operator

Thank you. The next question comes from Cory Garcia of Raymond James. Please proceed.

Cory Garcia – Raymond James

Quick sort of follow-up to the Vancouver rail barge project, I know it’s still sort of early days, but – and obviously at the Tesoro level, parent level today. But just curious about the barging capacity in place today, if you’d be looking to sort of source some of those incremental barges, where that capacity stands today and sort of the potential drop-down opportunities for those into TLLP?

Phil Anderson

Sure. The TLLP does not handle the actual marine vessels. That would be the customers at the terminal. Our view of the West Coast and ultimately the US crudes coming through the facility, at this point, cannot be exported. So the marine movements will have to take place on Jones Act vessels.

Cory Garcia – Raymond James

Sure.

Phil Anderson

We expect the bulk of that to be really not on barges, but really more on a typical handy-size vessel or something like that. It’s – the Jones Act market is pretty tight. But we have good insight into at least Tesoro’s position there and they expect to have the capacity. And given some of the express demands, we believe other people will have capacity as well.

Cory Garcia – Raymond James

Okay. That’s helpful. And switching to the High Plains reversal, it seems like a very exciting opportunity for you guys. Just wanted to know – a little bit more color on where that crude system would terminate. Are we looking at – I’m really trying to get a visual on the 50,000 to 75,000, how it’s really going to move out of the basin for pipeline versus the flexibility to go by rail.

Phil Anderson

Sure. If you look at a map of the High Plains System, and we’ll have a nice pretty map when we go out to NAPTP. But right now, we make a big circuit loop around the south and then we have a straight run that runs up to the Canadian border. And what we’re reversing is really that straight line that runs from the Canadian border that presently run south down to an area called Johnson’s Corner. As I previously mentioned, we intersect with a couple large gathering systems at Johnson’s Corner, where there’s also just a lot of production growth in that area. So that crude wants to come up north.

And in the same area of Tioga, where we’re building the storage hub, we interconnect with the Enbridge System, with the energy pipeline and their rail facility. We’ll have the lateral to Global’s facility.

There is – Enbridge has a new rail facility at Berthold that this crude will be able to get to, and then there’s a couple proprietary rail facilities up in that area as well that a couple producers utilize. So ultimately our vision for the High Plains System is really to use it to move crude to various destinations. And ultimately, our capacity becomes the sum of all of the outlets to the system. And that’s been focus of our capital program this year, was to open up the inlets and create those outlets on the system to drive overall volumes.

Cory Garcia – Raymond James

Sure, sure. I appreciate the idea. Thank you, guys.

Operator

Thank you. The next question is from Sharon Lui from Wells Fargo. Please proceed.

Sharon Lui – Wells Fargo

Hi, good morning.

Phil Anderson

Good morning.

Sharon Lui – Wells Fargo

I guess back to the Port of Vancouver project, do you envision I guess additional expenditures to expand the High Plains System to accommodate that?

Phil Anderson

At this point, the theoretical max of the High Plains System probably remains well in excess of 200,000 barrels per day on the existing pipe. So, it’s a combination of where we expect that crude to be sourced.

We expect Vancouver to handle rail movements not only from the Bakken, but probably also from Niobrara, West Texas, as well as other locations. So ultimately, it will be a gauge of how all of that is going to link-up and what ultimately the demands are for rail over the Bakken, which continues to be the area of the highest growth in terms of moving crude out of that area.

Sharon Lui – Wells Fargo

Okay. Thank you.

Phil Anderson

Thanks Sharon.

Operator

Thank you. The next question comes from Jeremy Tonet from JP Morgan. Please proceed.

Jeremy Tonet – JP Morgan

Good morning.

Phil Anderson

Good morning, Jeremy.

Jeremy Tonet – JP Morgan

It seems like you guys have a good amount of attractive organic growth opportunities and drop down in the next – in the near-term, 12 to 18 months. But I was just wondering if you could talk a little bit about what’s happening upstairs at the Parent and their midstream growth plans, particularly around Uintah and Kenai. If you could talk a little about that, that would be great.

Phil Anderson

Sure. The Uintah Basin in Utah, which is the source of a lot of production growth of these waxy crudes, there is two refinery expansions going on in Salt Lake to handle incremental production. Tesoro’s is one of those, and presently all of that crude moves by truck. We are looking at a potential industry-level solution with other players in that market to build a pipeline to handle that crude.

Tesoro is participating in that look as well. That’s going to be a pretty big project, as you got to keep that crude flowing or warm. Otherwise, it sets up like a big candle. So there’s some technical hurdles that need to be overcome, but that continues to move along really on an engineering pace at this point.

And then up in Alaska, with the expansion of production in the Cook Inlet, we are working actively with producers up there to look at adding a pipeline connection from the production platform that sits in the Cook Inlet that presently is moving crude to Tesoro’s refinery by ship.

And so both of those projects would probably be later 2014, early 2015 type projects that ultimately, based on Tesoro’s statements, we believe would be highly likely candidates to be offered to TLLP.

So I think for Tesoro overall, as we deal with this changing nature of crude markets around the US and all of this advantage crude, it’s going to create lots of opportunities for logistics solutions. And it’s a wonderful thing to be aligned with a large significant customer for a lot of those projects that we expect to have access to.

Jeremy Tonet – JP Morgan

That’s very helpful. Thank you.

Operator

Thank you. There are no further questions at this time. (Operator Instructions). There are no further questions.

Phil Anderson

All right, thank you very much and we look forward to talking to you next quarter.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect.

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