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Executives

Christopher Castro

Phillip M. Anderson - President of Tesoro Logistics GP

Gregory J. Goff - Chairman of Tesoro Logistics GP LLC and Chief Executive Officer of Tesoro Logistics GP LLC

Analysts

Brian J. Zarahn - Barclays Capital, Research Division

TJ Schultz - RBC Capital Markets, LLC, Research Division

Sharon Lui - Wells Fargo Securities, LLC, Research Division

Jeremy B. Tonet - JP Morgan Chase & Co, Research Division

Richard Roberts - Howard Weil Incorporated, Research Division

Tesoro Logistics LP (TLLP) Q4 2013 Earnings Call February 6, 2014 12:00 PM ET

Operator

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2013 Tesoro Logistics LP Earnings Conference Call. My name is Ketina, and I'll be your coordinator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call, Mr. Chris Castro, Investor Relations Manager. Please proceed.

Christopher Castro

Good morning, everyone, and welcome to today's conference call to discuss our fourth quarter 2013 earnings. Joining me today are Greg Goff, Chairman and CEO; Phil Anderson, President; and Scott Spendlove, Vice President and CFO.

Yesterday we issued a press release announcing our full quarterly 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 statements 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. Please keep in mind that our reported fourth quarter financials include historical results of the Los Angeles Logistics assets that were acquired during the quarter, including periods in which we didn't own the asset.

We have provided additional information in our release that is comparable on a period-to-period basis, focusing on the results of operations of TLLP assets following their acquisition. For purposes of this call, we'll focus on results that include only TLLP's ownership of the assets and exclude predecessor results. Additionally, on a go-forward basis and within the fourth quarter results, we have consolidated the terminalling and storage revenues into the reporting of the terminalling business within the Terminalling and Transportation segment. We have updated prior period results within the supplemental data files located on the Tesoro Logistics website to reflect accordingly.

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

Phillip M. Anderson

Thanks, Chris. Good morning, and thank you for joining us on the call today. You have our earnings release. I'll go over the details of the results, and forward view the business, and Greg will conclude with a strategic update.

On January 22, we announced a cash distribution for the fourth quarter of $0.565 per limited partner unit, or $2.26 per unit on an annualized basis. This represents a 4% increase over the quarterly distribution paid in November of 2013, and a 20% increase over the last 4 quarters. As Chris said in his introduction, in order to satisfy GAAP requirements, TLLP's accounting statements include the period that Tesoro owned the assets that we acquired during the fourth quarter. The results of the period that TLLP owned the assets is broken out further in the release, and there are additional schedules on our website that breakout the predecessor from the partnership. The distribution is based on -- and the results we will discuss today are only those of the partnership.

Today -- I'm sorry, yesterday we reported distributable cash flow of $35.4 million for the fourth quarter, which was up 5% from the prior quarter, and adjusted EBITDA of $52.9 million. Adjusted EBITDA excludes $3.1 million of Northwest Products pipeline inspection and maintenance costs that were included in expenses, but paid with cash we retained from the purchase price reduction on those assets. Included within the adjusted EBITDA was approximately $2 million of transaction costs primarily related to the Los Angeles logistics assets acquisition and debt exchange costs.

Looking back at some of our quarterly accomplishments, on December 6, 2013, we closed the acquisition of the Los Angeles logistics assets from Tesoro for total consideration of $650 million. Included within the suite of assets that we acquired, were 2 marine terminals with expected throughput of approximately 285,000 barrels per day, over 100 miles of active crude oil and refined product pipelines with expected throughput of 550,000 barrels per day. Storage and refined product terminals with over 2 million barrels of storage capacity; and a coke handling and storage facility.

The acquisition price of $650 million included cash of $585 million and TLLP equity valued at approximately $65 million. The cash consideration was financed with cash on hand, borrowings of $250 million from the revolving credit facility, and net proceeds of approximately $310 million from the equity offering that we closed on November 22. That offering of 6.3 million common units represented limited partner interest at $51.05 per common unit.

On December 17, 2013, TLLP completed an offering of $250 million of notes that were an add-on to the 5 7/8% senior notes due 2020 that we issued on September of 2012. The proceeds from that offering were primarily used to repay amounts outstanding under the credit facility for the acquisition of the Los Angeles logistics assets. Our current level of debt puts us slightly above our conservative leverage target of 3x to 4x EBITDA, but we expect that ratio to decline over the next few quarters, as we see EBITDA growth from our organic projects.

Next, I'd like to provide a brief update on the Tioga, North Dakota crude oil pipeline release that occurred in September. The impacted segment of pipeline was repaired and placed into service on November 1. The site has been fully stabilized for winter, and we're currently working to establish a comprehensive remediation plan that we expect to review with regulators and the landowner during this quarter. In the fourth quarter, results included a combined impact of $1.7 million from lost revenue due to downtime on that segment, and additional costs for mine integrity testing.

Additionally, we were able to reverse $3 million of accrued site remediation expenses during the fourth quarter, with the expectation that our pollution liability insurance policy will cover the remediation costs in excess of the $1 million policy deductible, based on insurance recoveries of $1.5 million that we've received to date. The final remediation plans are still under development, but we expect the cost to be within our insurance policy limit.

Total capital expenditures in the quarter were $22.1 million. This includes $17.8 million of expansion capital and $4.3 million of maintenance capital. Approximately $600,000 of the maintenance capital was reimbursed by Tesoro.

For the first quarter, we expect capital spending, net of reimbursements, of approximately $20 million to $25 million, including expected maintenance capital of approximately $6 million. For the full year, we expect total capital spending of approximately $125 million, net of expected reimbursements. Of that total, our organic growth program for the year is expected to be approximately $100 million, which is consistent with our previously announced projects, primarily focused on growing our Crude Oil Gathering business and the Southern California Terminalling and Transportation business.

Turning to our operations. In our Crude Oil Gathering segment, we delivered about 88,000 barrels per day on our High Plains Pipeline during the fourth quarter. The quarter-over-quarter decrease in pipeline throughput is a direct result of the downtime on the segment of pipeline where the crude oil release occurred. Our goal to transport over 100,000 barrels per day on the pipeline looks to be within reach here in the first quarter, following the needed focus during the fourth quarter on the Tioga release. We've added new pumping capacity that is expected to come online in February, and that should allow us to sustain our goal of over 100,000 barrels per day on the system. Although, total trucking volumes were down, we had a record contribution from the trucking business as we captured efficiencies, and substantially reduced delivery costs within our expanded proprietary trucking fleet.

As we look beyond the first quarter, we expect to see significant upside in our Crude Oil Gathering business, as we progress on our High Plains Pipeline reversal project and the further development of our Bakken area storage hub. Upon completion of the reversal project, we expect to have the ability to grow pipeline volumes by 50,000 to 75,000 barrels per day, with direct access to our Bakken area storage hub location, where we have the potential to add up to 2.5 million barrels of commercial storage capacity. We've completed the first 120,000 barrel tank in December, and another 360,000 barrels of committed capacity is currently under construction and expected to be placed in service in the spring.

Moving to the Terminalling and Transportation segment. Within Terminalling, we reported volume of approximately 637,000 barrels per day. The increase was primarily due to the contribution from the Los Angeles logistics assets, acquired in the fourth quarter. Overall, volumes at our base terminals were lower quarter-over-quarter as extended refinery maintenance on the West Coast and regulatory maintenance down time at our Long Beach terminal adversely impacted our throughputs. Thus far, January volumes are in line with our expectations.

For the first quarter, we expect total terminalling volumes of 850,000 to 875,000 barrels per day. Our incremental throughput in the first quarter primarily reflects a full quarter's contribution from the LA terminals we acquired in December. Those are expected to have an average revenue of approximately $0.65 per barrel.

In conjunction with Tesoro, we've already begun the process of optimizing our Southern California product terminals as Tesoro moves its legacy volumes into our system. That process should continue over the course of this year, as we complete expansions and interconnections at a few of our terminals. Longer-term, we continue to see substantial opportunities to organically grow EBITDA contributions from our Southern California distribution system, as we invest to open it up to third-party business.

Additionally, we are seeing other significant opportunities for organic growth in that market that support improving the efficiency of crude oil deliveries, and improving the product value capture for refined products around Tesoro's Los Angeles refinery. Within pipeline transportation, we moved about 325,000 barrels per day in our systems in the quarter. The volume growth over the prior quarter was consistent with our expectations, and includes contributions from the Southern California pipelines that were acquired during the quarter.

For the first quarter, we expect to have pipeline throughput of 725,000 to 750,000 barrels per day, as a result of a full quarter's operation of the newly acquired Southern California pipelines. We expect revenue per barrel on that system of approximately $0.23 per barrel this quarter.

With that, I'll turn the call over to Greg to discuss our strategic outlook.

Gregory J. Goff

Thank you, Phil. At Tesoro's annual analyst and investor presentation, held in early December of 2013, we discussed Tesoro's strategic objective to grow the logistics business with TLLP, and how it plays a significant role in realizing Tesoro's value around our embedded logistics and enabling the ability to invest in new logistics capabilities to drive advantaged crude oil supply into Tesoro's refineries.

In conjunction with Tesoro, we've led industry efforts to gather and transport advantaged Bakken crude oil to the West Coast and see significant opportunities to capture additional value with the expansion of our high plains crude oil gathering business coupled with Tesoro's development of the Vancouver, Washington rails and marine terminals.

In addition to the Vancouver terminal, Tesoro identified 2 pipeline projects that are in development as potential future acquisitions by Tesoro Logistics. Those developments, which would safely and efficiently transport Uintah crude oil in Utah, and Cook Inlet crude oil in Alaska are currently in the engineering and design phase. Including these future developments and the right-of-first-offer assets that were initially identified as drop down candidates at IPO, Tesoro believes that there is at least $1.5 billion worth of potential logistics assets to be offered to TLLP over the next few years.

Let me point out that of the original 10 assets identified on the right-of-first-refusal offer list at IPO, only 2 assets, the Martinez and Long Beach marine terminals, have been acquired in the course of TLLP's 6 acquisitions. The remaining acquisitions have been new assets developed by Tesoro in the case of the Anacortes Rail Facility, transactions where we strategically partnered with Tesoro to acquire assets as we did in the Southern California transactions are direct third-party opportunities with the acquisition of the Northwest Product System.

As we turn the page on another year, we continue to have high expectations for our future growth prospects, and we'll remain focused on driving EBITDA growth and unitholder value through the delivery of our strategic initiatives.

That concludes my comments, and with that I'll turn the call back over to the operator for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Brian Zarahn representing Barclays.

Brian J. Zarahn - Barclays Capital, Research Division

I appreciate the color on the first quarter, and also on the drop in inventory, I guess trimming [ph] the drop downs, even though -- heavy activity in 2013 on acquisitions, would it be less likely to see a drop down in 2014?

Phillip M. Anderson

I don't think so. That's a process that we'll continue to work through probably fairly methodically.

Brian J. Zarahn - Barclays Capital, Research Division

And then, I guess, maybe can you provide a range for -- Greg mentioned the -- expect the assets to be dropped down over time, is there -- is this more of 3- or 5-year timeframe that would be considered?

Phillip M. Anderson

I think, 3 to 5 years is the right time to think about around the portfolio that Greg mentioned.

Brian J. Zarahn - Barclays Capital, Research Division

Okay. And turning to the High Plains expansion, can you provide a potential cost estimate for the project and would returns be expected at a similar multiple on previous organic projects?

Phillip M. Anderson

Absolutely, Brian. We've previously disclosed that the reversal project is about $35 million in total. The bulk of that spending will take place in 2014. And the return on that project, or the EBITDA estimate was $10 million to $15 million. So the other projects we have going on up there with the build-out of the BASH storage facility and a couple other gathering projects would be at similar returns.

Brian J. Zarahn - Barclays Capital, Research Division

In terms of the -- I was more referencing the open season you have, is there a potential cost estimate for that project?

Phillip M. Anderson

So in the open season, there's a reference to a Phase I and Phase II. Phase I is consistent with the reversal project. Phase II would be incremental to the reversal project, and based on the demand we get from the open season process we'll develop a final engineering estimate to complete that. But at this point, we don't have a firm estimate of what that would look like or the EBITDA necessarily.

Brian J. Zarahn - Barclays Capital, Research Division

Okay. And then, last question for me. Can you comment on how the integration of the Carson assets is progressing? You seem to have a variety of optimization opportunities. Is there anything particular that stands out that you see good growth potential for TLLP?

Phillip M. Anderson

I think, our integration process has gone consistently with what we hope to achieve. Operationally, we have integrated the assets very well into our overall systems, and as I said in the prepared remarks, the process of moving Tesoro's volumes in that market into our system continues at a pace that we really expected there.

Operator

Your next question comes from the line of TJ Schultz representing RBC Capital Markets.

TJ Schultz - RBC Capital Markets, LLC, Research Division

I guess, just on the Southern California assets to clarify. When you closed the second tranche, you identified, I think, up to $15 million of additional EBITDA beyond the first full year from some of the synergies. So just to clarify, is there some amount of CapEx that you're allocating now. It looks like in 2014, and if could you just give kind of an estimate of cost it will take to realize those synergies? And if that is still kind of the EBITDA estimate that you expect there?

Phillip M. Anderson

Sure, TJ. So the big upside that we've got on the second tranche of assets is really pipeline throughput through our pipeline system, as Tesoro integrates the 2 refining sites. That throughput is the primary source of that incremental, approximately $10 million of EBITDA. The CapEx for that, while we will show with -- in terms of gross CapEx spending, because the cost estimates were not complete on those projects, Tesoro agreed to reimburse us to complete those connections. So our net cash out the door to complete that is expected to be very minimal. And that was essentially baked into to the price of the deal.

TJ Schultz - RBC Capital Markets, LLC, Research Division

Okay, understood. High Plains, just near-term, before the reversal of project as you kind of ramp up to that 100,000 barrels a day. If you can just kind of clarify what you need to get done. It sounds like there is something in February that will get you kind of pump and throughput on that system?

Phillip M. Anderson

That's right, TJ. We needed more pumping capacity at a major origination point on the pipeline and that's Johnson's Corner, which is where we interface with Crestwood and Targa's systems in that area. That pump is required to get the volumes to where we need to go, the volumes are there, and the customers are ready to ship, as soon as we open that system up for nomination.

TJ Schultz - RBC Capital Markets, LLC, Research Division

Got it. And I guess, lastly, what was leverage during the quarter, and if you could give any expectation on kind of where you see leverage by mid-'14 and then by year-end?

Phillip M. Anderson

Our leverage, based on fourth quarter results, when you reflect a full quarter's operation of the acquired assets, I believe, was about 4.1x EBITDA. Our expectation is that will decline into the mid-3s later this year as the organic growth EBITDA comes online.

Operator

[Operator Instructions] Your next question comes from the line of Sharon Lui representing Wells Fargo.

Sharon Lui - Wells Fargo Securities, LLC, Research Division

Just wondering if you could give, I guess, a little bit more color on your growth CapEx budget of $100 million for '14 and '15. What projects are included in those numbers? Does it include, I guess, the Phase II of the open season and the additional storage project?

Phillip M. Anderson

Sure, Sharon. For this year, the $100 million of growth CapEx that we expect to spend net of reimbursements, primarily reflects the projects in the High Plains, and that's -- the reversal project and about 1 million barrels of incremental capacity at the Bakken Area Storage Hub. We've got a couple of modest gathering projects in some smaller expansions on the system that are included on that. The remainder of the organic growth is focused primarily in our Southern California assets, where we're expanding a couple of the terminals, and adding additive and blending systems to those terminals to enable some of the higher throughputs that we expect to bring into those terminals over time. At this point, we do not have an estimate on Phase II of the open season, pending receipt of the volume expectations from potential shippers. Once we have that, we'll determine the right size of pipes and pumps to put in to enable those volumes and finalize an engineering estimate. But that is more of a 2015 type spend at this point. And it would be this year. Our preliminary estimate, as we said at Tesoro's Analyst Day, is to spend about $100 million organically per year on this suite of assets that are in TLLP right now. And that Phase II would be part of our expected spend in 2015.

Sharon Lui - Wells Fargo Securities, LLC, Research Division

Okay, that's helpful. And could you quantify, I guess, what's the spending associated with the storage hub project?

Phillip M. Anderson

We have not broken that out. It will depend ultimately on how customers elect to go in terms of co-mingled versus segregated storage. And so, we've got an estimate included in our number for this year, but we'll finalize that again as we get that firm demand.

Sharon Lui - Wells Fargo Securities, LLC, Research Division

Okay. And then, I guess, in terms of the contribution in the fourth quarter from the drop-down, what was the EBITDA and was it -- has it been performing, I guess, in line with the acquisition economics?

Phillip M. Anderson

For the -- we have not broken it out, but the EBITDA contribution from the tranche 2 assets for the 26 days we owned it was almost exactly what we expected based on the guidance that we gave. And our expectation is the same for 1Q as well.

Sharon Lui - Wells Fargo Securities, LLC, Research Division

Okay. And I guess, the last question. Any impact, I guess, in the Bakken from weather-related disruptions in Q1?

Phillip M. Anderson

It really sort of started back in December. And I think, other folks have referenced it on their call, where sort of the early onset and sort of extreme weather that they've had up there this year did increase the complexity of some of the things we're doing. But we continue to deal with that. And our current plans are based on a typical North Dakota winter at this point.

Operator

Your next question comes from the line of Jeremy Tonet representing JPMorgan.

Jeremy B. Tonet - JP Morgan Chase & Co, Research Division

Sorry if I missed it, if you covered this earlier in the call, but I was just wondering if you could talk a bit about within the Terminalling and Transportation, some of the drivers for the EBITDA quarter-over-quarter, 3Q versus 4Q, what were some of the drivers there as far as the change in EBITDA?

Phillip M. Anderson

Sure. The key things for us around our base assets was there was a fair bit of downtime in the LA refining basin that impacted our throughputs through our product terminals and our marine terminals. Additionally, we had some regulatory downtime at our Long Beach terminal to do some required seismic work that caused us to miss out on nearly a month's worth of throughput through that facility. So far, as we've progressed into the first quarter, things are running as we would expect, and we don't see any continuation of those events.

Jeremy B. Tonet - JP Morgan Chase & Co, Research Division

Okay, that's very helpful. Could you give us any thoughts as what you think might be more of a normalized EBITDA run rate for the segment without some of that noise?

Phillip M. Anderson

As we look forward -- and we'll have a lot of things going on this year. So it's tough to say exactly what any one quarter is going to be, but when we look at that segment, I would say, $55 million to $65 million, depending on the of vagaries of demand and organic growth timing.

Operator

Your next question comes from the line of Richard Roberts representing Howard Weil.

Richard Roberts - Howard Weil Incorporated, Research Division

Just a couple of quick ones for me. For one, at the Analyst Day, back in December you talked about 2014 CapEx of around $160 million, and if I heard correctly, earlier you said about $125 million now for '14. So is there any shift in spending plans there? Or maybe is that just a higher level of reimbursements sort of driving the difference? And then secondly, just wanted to follow-up if you're still on track for 150,000 barrels a day on the High Plains System by 2014 with just a little bit of shift in timing on volumes here.

Phillip M. Anderson

Sure. So on the first one, on the capital, what you saw at Tesoro's Analyst Day was a gross number. And our net number is -- we reported on this call today is net of expected reimbursements from Tesoro. And the bulk of that difference, that's maybe a little different this year than past years, relates to those pipeline connections in LA that Tesoro will reimburse us for making during the course of the year. With regard to our targets on the High Plains System for this year, we do feel like we are on track with our target to increase throughputs on that system by 50,000 to 75,000 barrels per day by the end of the year. The reversal project is the key driver of that in the open season process that's underway now will help us get that demand firmly committed to that expansion.

Operator

With no further questions at this time. We've now approached the end of our question-and-answer session. Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

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