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Delek Logistics Partners, LP (NYSE:DKL)

Q2 2013 Earnings Conference Call

August 7, 2013 10:00 ET

Executives

Keith Johnson - Vice President, Investor Relations

Uzi Yemin - Chairman and Chief Executive Officer

Assi Ginzburg - Chief Financial Officer

Danny Norris - Vice President, Finance

Fred Green - Executive Vice President and Director, General Partner

Analysts

Michael Blum - Wells Fargo

Steve Sherowski - Goldman Sachs

Cory Garcia - Raymond James

Mark Reichman - Simmons

Operator

Good morning. My name is Laveriel, and I will be your conference operator today. At this time, I would like to welcome everyone to the Delek Logistics Partners’ Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) Thank you. Mr. Keith Johnson, Vice President of Investor Relations, sir you may begin your conference.

Keith Johnson - Vice President, Investor Relations

Thank you, Laveriel. Good morning. I would like to thank everyone for joining us on this webcast to discuss Delek Logistics Partners’ second quarter 2013 financial results. Joining me on today’s call will be Uzi Yemin, our General Partners, Chairman and CEO; Assi Ginzburg, our CFO; Danny Norris, VP of Finance, and other members of our management team.

As a reminder, this conference call may contain forward-looking statements as that term is defined under federal securities laws. For this purpose, any statements made during this call that are not statements of historical fact maybe deemed to be forward-looking statements. Without limiting the foregoing, the words believes, anticipates, plans, expects, and similar expressions are intended to identify forward-looking statements. You are cautioned that these statements may be affected by important factors set forth in our filings with the Securities and Exchange Commission and in our latest earnings release. As a result, actual operations or results may differ materially from the results discussed in the forward-looking statements. We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events, or otherwise.

Today’s call is being recorded and will be available for replay beginning today and ending November 7, 2013 by dialing 855-859-2056 with a confirmation ID number 21216298. An online replay may also be accessed for the next 90 days at the partnership’s website at deleklogistics.com.

As you may know, Delek Logistics commenced operations on November 7, 2012, upon successful completion of its initial public offering. Operations prior to November 7, 2012 include the results from assets and entities comprising Delek Logistics Partners LP predecessor. Because management believes that results presented from the prior periods are not generally comparable, this earnings call will focus on results for the second quarter of 2013.

Last night, we distributed a press release that provides the summary of our second quarter 2013 results. This press release is available on our corporate website and through various news outlets. On today’s call, Assi will begin with a few financial comments and Danny will review our financial performance, then Uzi will offer a few closing strategic remarks.

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

Assi Ginzburg - Chief Financial Officer

Thank you, Keith. Delek Logistics performed well during the second quarter. Our DCF of $12.8 million was approximately 18% ahead of our IPO forecast. EBITDA was $15 million for this quarter and $30.5 million year-to-date. Based on our strong performance, we are pleased to be able to increase our quarterly distribution by 2.6% from our previous distribution of $38.05 per unit for the quarter ended June 30, 2013. This is our second increase in 2013 and is 5.3% increase above our equity. In early July, our revolving credit facility was amended to increase lender commitment to $400 million from $175 million improving our financial flexibility to support future growth initiatives. In the second part of July, we completed our first purchase of assets from Delek US Holdings for $94.8 million. In addition, we acquired from a third-party the Tyler-Hopewell pipeline which will enable us to transport refined products to our Big Sandy terminal from Delek’s Tyler refinery.

Now, I will turn the call over to Danny to discuss the financial results.\

Danny Norris - Vice President, Finance

Thank you, Assi. For the second quarter 2013, Delek Logistics reported net income of $11.8 million, or $0.47 per diluted limited partner unit. Revenues during the second quarter were $230.1 million and contribution margin was $16.1 million. Total operating expenses of $6.1 million were higher than expected due to outside services and tank maintenance related expenses.

General and administrative expenses of $1.1 million were below expectations. Now I will spend a few minutes discussing our two reporting segments. For the second quarter of 2013, our pipeline and transportation segment performed well as it benefited from elevated throughput of approximately 22,660 barrels per day in the SALA gathering system which compares to 19,500 barrels per day included in the IPO forecast.

During the second quarter 2013 crude volume of the Lion Pipeline system was approximately 49,270 barrels per day which was above minimum commitment levels of 46,000 barrels per day. During the second quarter of 2013 volumes on the Lion Pipeline system penetrated from improved third party pipeline access to our Magnolia Pipeline and the connection to the rail offloading operation at Delek US’s El Dorado refinery. Our East Texas Crude Logistics System delivered approximately 11,470 barrels per day during the quarter. As anticipated, volumes transported on the East Texas System decreased below the minimum volume commitment level of 35,000 barrels per day in April 2013, when a third-party pipeline was reconfigured to supply crude to Delek US’s Tyler, Texas refinery.

Performance in our Wholesale Marketing and Terminalling Segment benefited from higher volumes and ongoing blending activities. Under our East Texas marketing agreement, approximately 64,970 barrels per day of refined products were marketed from our Delek US’s Tyler, Texas refinery. This was better than the 52,000 barrels per day included in the IPO forecast due to increased throughput at that facility. Also volume in our West Texas wholesale operation increased approximately 14% on a year-over-year basis to approximately 19,100 barrels per day. As in previous quarters demand for refined products in West Texas remained robust as oil drilling activity in this region has increased economic activity.

The gross margin of $2.20 per barrel in the second quarter compares to $1.52 per barrel in the prior year period. The margin per barrel included approximately $2.1 million or $1.23 per barrel from RINs generated in our ongoing ethanol blending activities during the second quarter of 2013. Ethanol RIN values increased from approximately $0.04 per RIN in the fourth quarter of 2012 to an average of approximately $0.83 per RIN in the second quarter of 2013.

Market prices for RINs continued to increase and were trading for approximately $1.07 per RIN at the end of July. Early in the second quarter of 2013 a decline in fuel prices from March through April negatively affected margins. However, margins in West Texas improved as fuel prices stabilized in the second half of the quarter. As of June 30, 2013 the Delek Logistics had a cash balance of $27.3 million and total debt was $90 million. As mention by Assaf during July we amended our credit facility and expanded our borrowing capacity to $400 million from $175 million.

Capital expenditures were approximately $1.1 million of which $153,000 was reimbursed under our Omnibus agreement with Delek US. Maintenance capital expenditures were approximately $859,000 in the second quarter of 2013. Total capital expenditures for 2013 are now expected to be $10.2 million compared to our previous estimate of $8.8 million. This increase is associated with additional tank maintenance work. Approximately $5.8 million will be reimbursed under oiur agreement with Delek US.

Before turning the call over to Uzi I want to review the acquisitions we completed in July. On July 26th, we purchased the Tyler Texas storage tanks and product terminal for $94.8 million in cash. These assets will continue to support Delek US’s Tyler, Texas refinery and are expected to contribute approximately $10.5 million of EBITDA annually.

On July 19, we acquired the Hopewell-Tyler products pipeline. This pipeline will allow our Big Sandy terminal to become fully operational and be served directly by Delek US’s Tyler Texas refinery. We expect to spend approximately $1.3 million to refurbish this pipeline over the next few months before it’s fully operational. We expect approximately $700,000 of annual EBITDA from this acquisition.

With that, I will turn the call over to Uzi for his closing comments.

Uzi Yemin - Chairman and Chief Executive Officer

Thank you, Danny. We remain focused on our strategy of providing growth and value for our unitholders as demonstrated by the recently completed Hopewell Pipeline acquisition and the Tyler dropdown. Additional growth can be created through future dropdowns of Logistics assets from our sponsor Delek US and through our focus on third-party acquisition. We believe that over the next 18 months those dropdowns have the potential to create additional $15 million to $20 million of EBITDA. This should provide Delek Logistics a solid foundation for creating value for our unitholders.

With that, would you please open the call for questions?

Question-and-Answer Session

Operator

(Operator Instructions) And your first question comes from the line of (Theresa Chin).

Unidentified Analyst

Hi there. How are you?

Uzi Yemin

Good morning. How are you?

Unidentified Analyst

I am doing well. Thank you. I just wanted to get just a little bit more color on the volume increases in the wholesale marketing segment, how long do you think these growth rates can persist?

Uzi Yemin

Well, these volumes are impacted by mainly the activity in the drilling around the Midland Odessa area. So, as long as that activity continues, we feel comfortable that the volumes should continue to increase. This was obviously a great quarter. And in the winter, activities go down a little bit, but going into the third quarter, we don’t see any reason why the volume will go down.

Unidentified Analyst

Great. And then also in terms of future dropdowns within that 18-month period, do you think we will see anymore within this year?

Uzi Yemin

I will let Assi take it.

Assi Ginzburg

As probably most of you remember, some of the dropdowns, we need to get bank’s approval in order to release liens that these assets are currently have liens to. And there is a potential that there will be more dropdowns this year. It’s easier on spreadsheet to do the dropdown, it’s much harder to do them in reality, and we are pushing to complete it.

Unidentified Analyst

Great. And also on the gross margins for the West Texas marketing, so excluding the benefit of a $23 from Brent that would have been down pretty significantly year-on-year, right? And was that just as a result of depressed wholesale fuel prices in the beginning of the quarter?

Uzi Yemin

That is exactly right. That’s exactly the point. When the prices went down in April, we were preparing ourselves for the summer. We had inventory and the markdown of that inventory resulted in the dollar margin. Obviously, we benefit dramatically when prices go up.

Unidentified Analyst

Perfect, thank you very much.

Uzi Yemin

Thank you.

Operator

And your next question comes from Michael Blum with Wells Fargo.

Michael Blum - Wells Fargo

Hi, good morning everybody.

Uzi Yemin

Good morning Michael.

Michael Blum - Wells Fargo

Couple of questions from me. One, any update that you can provide on the Paline Pipeline and any potential there to renegotiate that tariff ahead of its expiration of the contract?

Uzi Yemin

Well, we continue to work – first of all, good morning, Michael, thanks for the question. We continue to work with several interested parties and we will provide some color when something is completed, but we do work on this asset we feel that it’s under – I shouldn’t say undervalued but we don’t collect as much as we should collect as of this asset and we feel confident that what we are going to collect will be increased.

Michael Blum - Wells Fargo

Okay, great. And then I would wonder if you can just from a high level talk about the impact to your business of obviously we have seen TI Brent spreads come in and other locational spreads have narrowed pretty substantially, can you just talk about how that’s impacting flows across your asset and just generally the impact to your business?

Uzi Yemin

Well, through the logistics assets obviously we have exposure with our refiners through the TI Brent spread, but from a logistic standpoint, we don’t see significant change so far in regard to the asset that we operate and because of the spread coming down.

Michael Blum - Wells Fargo

Okay, and then the last question from me is, so you had in wholesale division you had this drop in wholesale fuel prices, you had some inventory. Is there anything you can do from a hedging perspective or just otherwise operationally to mitigate those type of swings based on movements in price?

Uzi Yemin

The answer for both questions is yes. However, we for the most part we don’t hold much inventory unless we feel that demand is increasing that’s problem number one and second we were expecting prices to go up in the summer, which they usually do. That’s the reason we didn’t hedge, but the answer is yes of course we can hedge or of course we can minimize the inventory. If you take into account what the things that are happening in July, obviously that strategy paid off big time, you don’t see the numbers, but you just can see prices going up immediately we will benefit from that or we already benefited from that in July.

Michael Blum - Wells Fargo

Okay, great. I got it. Thank you very much. I appreciate it.

Uzi Yemin

Thank you.

Operator

And your next question comes from Steve Sherowski with Goldman Sachs.

Steve Sherowski - Goldman Sachs

Hi, good morning following your first dropdown how should we think about your distribution growth trajectory going forward, and how do you – I guess how should we think about that versus paying down debt?

Uzi Yemin

Well, we during the IPO we said all along that we want to be very sustainable not to be jumpy and not to change strategy based on quarter or bad quarter. These quarters are very good. So, there is no reason to believe that we will not continue to increase our distribution, but we want to do it in a very steady very stable way versus of going up and then going down. We increased it by $0.01. There is no reason to believe that we will not continue increasing distribution in next coming quarters.

Steve Sherowski - Goldman Sachs

Okay, thank you and just on the acquisition front what should be the modeling for maintenance CapEx on the two assets that you recently acquired of that number?

Uzi Yemin

Those numbers are extremely minimum.

Steve Sherowski - Goldman Sachs

Okay.

Uzi Yemin

You won’t see a big change in our focus.

Steve Sherowski - Goldman Sachs

Okay, that’s it from me. Thank you.

Uzi Yemin

Thank you.

Operator

And your next question comes from Cory Garcia with Raymond James.

Cory Garcia - Raymond James

Good morning fellows. One quick housekeeping I believe you guys said during your last call that ethanol blending volumes were like 5000 or 6000 barrels per day, do you have any updated figure for this quarter and how do you guys sort of expect that trend through the back half of this year?

Uzi Yemin

We still see around 700 barrels of ethanol that are being blended out of the gasoline that we are selling. And we expect that to be stable to growing and as you know if you look at Q3, it may give a lot of sense to blend any barrels that exist, RINs are up. If you look at the average of Q2 and the average of Q3 so far, rates are up, so we are very positive on ethanol blending in the wholesale business.

Cory Garcia - Raymond James

Okay, that’s helpful thanks. And also just taking a step back and looking at sort of the organic growth opportunities that may be out there for you guys with the start up of Keystone XL’s, Gulf leg little bit later this year and given the fact that it essentially crosses a portion of your East Texas crude system, how should we be thinking about the opportunity to maybe tie into that line, pull some barrels off and get through your guys’ system.

Fred Green

This is Fred, I will take that one. I think other than timing I think it’s fair to assume that at some point our system would connect with Houston. We own the land where the lines intersect and there is sufficient property there for building a receipt facility and pumping back into the Nettleton line. So, I think it’s attractive and it’s probably more a question of when than if.

Cory Garcia - Raymond James

Okay it sounds like as you’ve pretty low CapEx requirement on your end am I reading that right?

Fred Green

I don’t know if I would say that just because of the difference in the size of our system versus XL. There is some tankage that would be required that would be the primary investment.

Cory Garcia - Raymond James

Okay, perfect thanks for the color.

Uzi Yemin

Thank you.

Operator

And your next question comes from Mark Reichman with Simmons.

Mark Reichman - Simmons

Yeah, just two quick questions, first on the products terminal that was acquired, the total throughput on I believe was 55,000 barrels per, day is that a good run rate, I thought it was little higher than that in the 2011. And then my second question is just on the G&A, which came in a little later than expected. I thought the run rate on G&A was expected to be about $1.9 million and just wanted some clarification on reason for the lower G&A this quarter?

Uzi Yemin

To answer your first question, due to the run rates that we had in 2012 so the pro forma is based on historical run, we will tell you that if you look at the throughputs of the Tyler refinery of what we sold light product on the East Texas marketing agreement you will see that those numbers are much higher today probably 10% to 20% higher. So, the pro forma numbers were $10.5 million EBITDA. If Tyler will continue to run at these levels the numbers will be much higher. Second, on the G&A front, the $0.8 million missing in the G&A, it’s actually $0.8 million that were added to the operating costs. We basically determined that some of the G&A costs were actually operating costs and that’s why you see slightly higher OpEx and slightly lower G&A compared to the forecast.

Mark Reichman - Simmons

Okay, great thank you.

Operator

(Operator Instructions) And there are no additional questions at this time.

Uzi Yemin - Chairman and Chief Executive Officer

Well, I would like to thank everybody here on the table, all our employees, our unit holders, the people that believe in us. That was a great quarter and third quarter started very well. So, we will talk to you soon. Have a great day.

Operator

Ladies and gentlemen, this does conclude today’s conference call. You may now disconnect your lines.

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