Recently, I wrote a series of articles detailing why I think that Calumet Specialty Products Partners (NASDAQ:CLMT) is a standout in the refining industry and worthy of a long-term investment. The first article explained even if a distribution cut was necessary, it would only be a short-term blip on the way to higher distributions in the future. The second article analyzed the Q4 2013 earnings call to try to predict the actual likelihood of a distribution cut. It concluded that a distribution cut was unlikely unless management decided to continue to acquire other specialty petroleum companies.
Well, on February 28 Calumet announced the acquisition of United Petroleum Company, its second in two months. This article is designed to analyze the two most recent acquisitions and their likely affect on Calumet's current liquidity, 2014 Adjusted EBITDA, Distributable Cash Flow [DCF] and the safety of the distribution.
First let's look at the latest addition to Calumet's growing empire:
Founded in 2011, United currently sells more than 160 Quantum-branded products through more than 50 distributors with sales in 35 states nationally. Through its Quantum brand, United sells products into the passenger car, heavy duty truck, farming and industrial end-markets through its distribution partners.
Now the key question for Calumet unitholders is how much did the company pay for both of these companies and how does this affect the partnership's liquidity? To answer this, let's look at the Royal Purple Acquisition.
I'll use this P/S ratio to approximate how much Calumet paid for Bel-Ray and United Petroleum. First, I must make a correction to my earlier article in which I stated that Bel-Ray had revenues of $32 million. It turns out its sales are $59.2 million. United Petroleum is a tiny enterprise that has just $1.4 million in revenues. Together these two acquisitions total $60.6 million in revenue. Using the P/S ratio of .78, I estimate Calumet paid $47.3 million for both companies.
However, what is also of note is that during the Q4 earning call, management said they paid 7-9x EBITDA for Bel-Ray. If we assume this was also the approximate valuation paid for United, then we get an annual Adjusted EBITDA of $7.58 million to be added to our 2014 AEBITDA tally. This will come in handy later for calculating the DCF and distribution coverage ratio.
Another correction needs to be made to my previous figures. In my second article, I modeled $6.8 million in additional AEBITDA due to the Bel-Ray acquisition, Royal Purple expansion into Wal-Mart (NYSE:WMT) and expanded Asphalt operations. With the new information received in the last earnings call, I can now model $7.6 million in AEBITDA from the two latest acquisitions. The previous estimate of $2.2 million in AEBITDA from Bel-Ray must be subtracted and the $7.6 million figure added. This brings the new AEBITDA addition to $12.2 million to the $360 million in annual AEBITDA for 2014.
This figure is what I model as "the new normal", the standard Calumet business, minus any of the cap-ex investments, acquisitions and assuming that the current low margins remain for 2 years. To this figure, I need to add the $12.5 million in EBITDA that is contributed by the expansion of the San-Antonio refinery, (just completed) as well as the $12.2 million EBITDA just calculated above. Again, that figure is from the Royal Purple expansion in Wal-Mart, Asphalt initiatives and the most recent 2 acquisitions. Finally, there is one more addition to make to this estimated AEBITDA.
In my previous article I modeled $90-$95 million in RIN costs. As several readers pointed out, management was talking about 90-95 million credits, not dollars. Each credit averaged $.3 in Q1, though recently the cost jumped to $.5. This means that my model overestimated the RIN expenses by $45-$68 million.
Taking these things into account, I project full year 2014 AEBITDA of $429.7-$452.7 million. Using the historical DCF/AEBITDA conversion of 60-63% results in $257.8-$285.2 million of DCF. This results in a distribution coverage ratio of 122.8-135.8% and ensures the integrity of the distribution and even allows for a potential increase later in the year, (perhaps the 4th quarter).
What about the liquidity position? Again, from my second article:
Using the $594 million liquidity and backing out $116 million for interest and $340-$385 million in cap-ex, we get a remainder of $93-$138 million to either pay the distribution or for new acquisitions.
Now we see what I believe to be $47.3 million in acquisitions which lowers the liquidity to $45.7-$90.7 million. This is the company's reserve, from which it will have to pay for acquisitions and any shortfall in the DCF when it comes to paying the $210 million in annual distribution cost. In 2014, DCF is at least $164.3 million. Then, assuming no further acquisitions, the distribution coverage ratio is 100% and no distribution cuts are necessary. As I've stated above, I believe that not only will the DCF cover the current distribution, but it will add an additional $47.8-75.2 million in liquidity.
This will be useful to management should they wish to make further acquisitions this year without issuing a secondary offering. With the new liquidity estimates of $93.5-$165.9 million, management could make acquisitions with annual revenues of approximately $119.9-$212.7 million, assuming the same P/S as Royal Purple.
In conclusion: Given new information that has become available, as well as the two most recent acquisitions I am adjusting my model as follows:
- Adjusted EBITDA: $429.7-$452.7 million
- Distributable Cash Flow: $257.8-$285.2 million
- 2014 Distribution Coverage Ratio: 122.8-135.8%, distribution safe
- Adjusted 2014 liquidity: $93.5-$165.9 million, no need for secondary offering unless management desires another major purchase.
My long-term model now looks like this:
2016 Projections: assumes historical 13.1% EBITDA growth rate. Distribution growth rate is half this due to IDR at 50%.
- 2016 Adjusted EBITDA (after all cap-ex investments completed): $629.7-$652.7 million.
- 2016 DCF: $377.82-$411.2 million.
- 2016 Distribution, (assuming distribution coverage ratio of 120-130%): annual distribution/unit of $3.79-$4.48.
- 2016 Price target: (assuming historical 9.5% yield): $39.89-$47.12.
- Cumulative distribution received: $5.49-$6.49
- Total 2016 unit value: (unit price+cumulative distributions received): $45.38-$53.61.
- Fair Value (discounting by 1871-2013 stock market 9% CAGR): $35.04-$41.4.
- Discount to Fair Value: 27.9%-39%
- Anticipated Total Returns (CAGR, assuming dividend reinvestment): 23.6%-28.49%
2018 Projections: assumes EBITDA growth slows to 10% for next 5 years. Distribution growth is 5%.
- 2018 Adjusted EBITDA (after all cap-ex investments completed): $805.5-$834.9 million.
- 2018 DCF: $483.3-$525.99 million.
- 2018 Distribution (assuming distribution coverage ratio of 120-130%): $4.31-$5.39/unit/year
- 2016 Price target: (assuming historical 9.5% yield): $45.43-$56.81.
- Cumulative distribution received: $18.1-20.59
- Total 2018 unit value: (unit price+cumulative distributions received): $63.53-$77.4.
- Fair Value (discounting by 1871-2013 stock market 9% CAGR): $41.28-$50.29.
- Discount to Fair Value:39.5%-49.8%
- Anticipated Total Returns (CAGR, assuming dividend reinvestment): 22.2%-27.5%
2023 Projections: assumes EBITDA growth slows to 10% for next 5 years. Distribution growth is 5%.
- 2023 Adjusted EBITDA (after all cap-ex investments completed): $1,297.2-$1.3446 Billion.
- 2023 DCF: $778.3-$847.1 million.
- 2023 Distribution (assuming distribution coverage ratio of 120-130%): $5.5-$6.5/unit/year
- 2023 Price target: (assuming historical 9.5% yield): $57.97-$68.51.
- Cumulative distribution received: $43.09-$50.11
- Total 2023 unit value: (unit price+cumulative distributions received): $101.06-$118.62.
- Fair Value (discounting by 1871-2013 stock market 9% CAGR): $42.64-$50.05.
- Discount to Fair Value:40.7%-49.5%
- Anticipated Total Returns (CAGR, assuming dividend reinvestment): 16.3%-18.3%
Despite the recent weakness in the unit price and the difficulties experienced by Calumet due to margin compression, my model indicates that the partnership's business is on sound long-term financial footing and the distribution is safe. Lest margins deteriorate even further (management indicated that margins have improved 25% through February 20) or management wishes to pursue a large acquisition, the distribution will not be cut, nor will a secondary offering occur in 2014.
The current fear, uncertainty and doubt regarding the margins and safety of the distribution has left the units trading at a 45% discount to the 10 year fair value. This means that long-term investors can anticipate about 17.3% CAGR with dividend reinvestment over this period. Calumet Specialty Product Partners remains a strong buy now, but only for those with an iron stomach to tough out what is sure to be a bumpy ride over the next few quarters.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.