Inter Pipeline Ltd (IPPLF) Q4 2014 Results Earnings Conference Call February 19, 2015 4:30 PM ET
Executives
Jeremy Roberge - VP-Capital Markets
Chris Bayle - President and CEO
Brent Heagy - CFO
Analysts
Carl Kirst - BMO Capital Markets
Robert Hope - Macquarie Research
Robert Kwan - RBC Capital Markets
Steven Paget - FirstEnergy
Paul Lechem - CIBC World Markets
Operator
Good afternoon, ladies and gentlemen. Welcome to the Inter Pipeline Limited 2014 Year End Conference Call and Webcast.
I would now like to turn the meeting over to Mr. Jeremy Roberge. Please go ahead, sir.
Jeremy Roberge
Thank you, Mark, and good afternoon everyone. Welcome to our conference call. Joining me today are Christian Bayle, Inter Pipeline's President and Chief Executive Officer; and Brent Heagy, our Chief Financial Officer.
Today we will discuss our fourth quarter and full year financial and operating results and provide an update of other corporate activities.
To start, I'd like to remind you that certain information in this conference call may contain forward-looking information that involves risks, uncertainties and assumptions. Such information, although considered reasonable by Inter Pipeline at this time, may later prove incorrect and actual results may differ materially from those stated or implied by our comments today. Undue reliance should not be placed on such information. A discussion of the related risk factors, uncertainties and assumptions is available on our year end MD&A, which you can find on our website at www.interpipeline.com or at www.sedar.com.
We are pleased to present a record year of financial and operating results. In 2014, we generated the highest annual level of funds from operations in our history and moved record volumes on our pipeline systems.
We invested over $1 billion on growth projects as part of our current multi billion dollar pipeline expansion program. Our strategic capital investments, strong financial performance and high standards of operations led to a largest annual dividend increase and a total return to shareholders of 44%.
At this point I'm going to turn things over to Chris to provide more on the year's highlight and then on to Brent for more context around our operating results. I will wrap-up the formal portion of the call with a focus on the financial results before opening the call to questions.
Over to you Chris.
Chris Bayle
Thanks Jeremy, and good afternoon everyone. We are pleased to report another successful year for Inter Pipeline. We transported over 1.1 million barrels per day on our oil sands and conventional gathering systems establishing a new record for the fifth consecutive year.
These strong throughput levels and commencement of services on the players expansion were largely responsible for Inter Pipeline's record annual funds from operation and our largest ever dividend increase of $0.18 per share to a $1.47 per share on an annualized basis.
For the past few years, Inter Pipeline has been focused on the largest pipeline construction project in our history with a $3 billion expansion of the Cold Lake and Polaris pipeline systems.
We are very pleased to place the first major phase of the Polaris pipeline system expansion into service in July 2014.
Two additional phases on the Cold Lake and Polaris system were successfully completed and placed into commercial service in January of this year. In aggregate, these projects represent roughly 2.6 billion of capital and currently generate 255 million of annual EBITDA to Inter Pipeline.
Ultimately Inter Pipeline expects to generate approximately 330 million in long term EBITDA per year from the integrated expansion of its Cold Lake and Polaris pipeline systems.
We are very proud of our staff for delivering these projects on time and with an exemplary safety record. The new pipeline segments significantly strengthen our oil sand system franchise and position us well for future growth.
We have positive news to report in our other business segments as well. Our conventional oil pipeline systems continue to show notable volume growth and we are currently moving the highest average throughput since 2007.
In our European bulk liquid storage business, market conditions have improved considerably over the past few months. A decline in crude oil price environment is actually positive for our storage operations. We have seen the emergence of contango in futures markets for certain petroleum products, which has driven utilization rates in this segment to 90% at year end.
We continue to secure new storage contracts and enter 2015 with a positive outlook for storage demand at our facilities.
Underlying our operation and key to our success, is an uncompromising focus on environmental health and safety performance. 2014 was a very positive year in this front with no major incidents to report.
Our ability to construct and operate large scale energy infrastructure projects on schedule with such a strong overall safety environmental record will always remain a focus area at Inter Pipeline.
Consistent with previous years, our positive operational and financial results have enabled us to boost our multi dividends for the fourth consecutive time. The $0.18 per share annual increase we announced in November, result in a five compound annual dividend growth rate of 10%. This is the metric that I am very pleased to report and one that sets in our pipeline apart for many of our peers.
With the commencement of additional cash flow from our major oil sands expansion projects, Inter Pipeline continues to be well-positioned to extend our record of increasing dividend levels to shareholders.
Of course the energy industry is facing many challenges today. The drastic changes in petroleum commodity pricing are affecting Inter Pipeline, our customers, and the people of Alberta and Canada. This said, we have confidence in our business today and for the long term.
We have diligently worked for many years to build a stable and predictable business. We own and operate strategic energy infrastructure assets, the majority of which are underpinned by stable cost to service revenue.
We have visible long term growth and a strong balance sheet. We are well-positioned to continue to prosper for many years to come.
On that positive note, I will now turn things over to Brent for additional commentary on 2014 results.
Brent Heagy
Thank you, Chris, and good afternoon, everybody.
Operationally, 2014 was a record year for Inter Pipeline. We set new throughput records on our pipeline systems as a result of strong production growth that benefit both the oil sands and conventional segments.
On a combined basis, total throughput volumes averaged 1.1 million barrels per day which is a 10% increase over the prior year with 913,000 barrels per day on the oil sand side and 205,000 per day on the conventional side.
Our Inter Pipeline remains focused on executing our 400 million capital program for 2015. Over 90% of plan growth capital will be directed towards our oil sands and conventional pipeline business segments.
Oil sands capital will be directed towards pipeline construction and pump station work as well as completing diluent connections on the Polaris pipeline system.
The bulk of the multi-year is $3 billion investment program which is centered on the expansion and integration of the Cold Lake and Polaris pipeline systems being constructed to meet growing production forecast in the Cold Lake and Athabasca oil sands regions is now complete and in service with approximately 90% of the capital incurred. Remaining capital for the expansion project primarily relates to the Narrows Lake connection.
We are also in the middle of a significant expansion of our Mid-Saskatchewan pipeline system in the conventional pipeline segment. Our new mainline segment will more than double total throughput capacity.
Drilling activity in the Viking formation that underlies region surrounding the Mid-Saskatchewan pipeline system remains strong and is driving $100 million extension to handle the growth.
We continue to see volume growth and increased demand for transportation services which has led to the highest throughput levels in several years and to record cash flows in this segment.
As with oil sands developments, the extension includes spare capacity on the system to accommodate future growth and capture additional third party transportation opportunities.
Our NGL extraction business had lower financial results in the year compared to 2013. Weaker frac-spread pricing in the fourth quarter and reduced throughput levels were the primary reasons for the decrease with lower natural gas throughput levels impacting NGL production.
The Empress II facility did not process any gas during the year which had no material impact to our financial results due to the cost of service nature of our contracts at that facility.
In Europe, our bulk liquid storage business generated consistent results year-over-year. As Chris mentioned in the later part of the year, we were pleased to see contango pricing relationships return to certain petroleum product markets. This dynamic positively impacted utilization rates at our large Gulfhavn facility in Denmark.
At year end, this facility was almost full, which contributed to average utilization rates for this business improving to 84% in the fourth quarter up from 78% at the end of Q3.
Inter Pipeline has also recently completed a reorganization of a bulk liquid storage business. All European storage operations have been rebranded now as Inter Terminals Limited, which is expected to provide a more integrated and cost effective structure.
So in summary, 2014 was a record breaking year for Inter Pipeline and our outlook remains positive. We will continue to develop and expand our high quality energy infrastructure asset base and seek to capture new business opportunities.
So now, I will turn things over Jeremy for a more detailed look at our financial results.
Jeremy Roberge
Thank you, Brent.
Our strong operational performance helped to generate record financial results both for the full year and in the fourth quarter of 2014. It is also worth noting that the percentage of cash flow that originates from highly stable cost-of-service contracts, continues to grow as our large capital investment projects enter commercial service. This growth has also led to a significant increase in our enterprise value which is increased roughly $4.4 billion over the year to $16.3 billion at year end.
Now for bit more detail on our full year and fourth quarter financial results. In 2014, funds from operations hit a record $564 million representing an increase of 19% over 2013 levels. The strong financial results kept our payout ratio at an attractive 77% even with the $0.18 per share dividend increase that Chris discussed.
Net income for the year was $349.5 million, an increase of $47.9 million over 2013s normalized net income. Current income tax expense for the year was reduced by approximately $10 million as a result of roughly $1 billion of fully expansion capital becoming available for use, for tax purposes at the end of the year.
Funds from operations in the fourth quarter set a new quarterly record of $159.7 million, representing an increase of 19% or 25 million over 2013 levels. Financial results improved primarily due to gains in the oil sands transportation segment, where incremental revenue was largely generated from new pipeline segments and facilities entering commercial service.
FFO from our oil sands business improved more than 50% to $97 million in Q4 2014 compared to $64 million in Q4 2013. NGL extraction results for down ending quarter as a result of lower frac-spread pricing and reduced natural gas volumes at the Cochrane NGL extraction facility.
For the year, dividend payments to shareholders increased by $84.9 million to $423.1 million. In the fourth quarter dividend payments increased by $16.3 million to $114.9 million. Dividend payments increased substantially in 2014 due to dividend increases in June of 2013, September 2013 and November of 2014, also due to a larger number of shares outstanding.
In 2014 Inter Pipeline successfully raised $1.5 billion of capital to successfully finance large capital expenditure program and to strengthen their balance sheet. At year end, our recourse debt-to-capitalization ratio was 54.2% which is similar to the 52.8% calculated at year end 2013 and within our targeted range of 50% to 55%.
Overtime Inter Pipeline's cash flow profile has become more stable and predictable. The 2014 multi billon dollar capital program was primarily supported by cost-of-service type transportation contracts that are not subject to commodity price or throughput volume risk.
In 2015, the majority of our cash flow will be underpinned for this type of contractual arrangement thereby providing further stability to our cash flow base.
In 2014, adjusted EBITDA totaled $696 million which can broken down by contract type, as 50% from cost-of- service agreements, 35% from fee-based contracts with no commodity price risk, and 15% from commodity based agreements that are subject to both commodity price and volume risk. For the year, 85% of EBITDA originated from cost-to-service or fee based contracts.
For the fourth quarter, adjusted EBITDA totaled $183 million. By contract type, 60% was cost-of-service, 31% fee-based and 9% was derived from commodity based agreements.
In aggregate, over 90% of Inter Pipeline's EBITDA was derived from cost-of-service contracts or fee-based contracts which further demonstrates the growing stability of our cash flow stream.
With the changing cash flow profile, Inter Pipeline has become less reliant on cash flow exposed to commodity price fluctuations and therefore has no frac-spread hedges in place at this point. We will continue to monitor forward commodity markets and may enter hedging positions in the future.
This concludes the formal portion of the conference call. I would now like to turn the meeting back to Mark, to open the floor for questions. Thank you.
Question-and-Answer Session
Operator
[Operator Instructions] Our first question is from Carl Kirst from BMO Capital. Please go ahead.
Carl Kirst
Thank you. Good afternoon, everybody. Chris, could I ask, you guys have been kind of an increasingly more open about look at downstream initiatives, downstream opportunities, I think previously you've talked maybe about perhaps seeing something as much as CAD500 million in potential development.
I was just hoping you could give us an update as far as what are you seeing today? Are you seeing those opportunities increase in the current market or more kind of going back more towards a simmer? Just trying to get a sense of how accelerated you guys are getting more into that space could be.
Chris Bayle
Sure Carl, by downstream, do you mean by trembling and storage -
Carl Kirst
Yes, sorry.
Chris Bayle
Our outlook is really unchanged today versus even a year ago. We are still pursuing the same project that we are pursuing in the past on the same time frames that we discussed previously. So I'd say it's more of a status quo situation.
Carl Kirst
Okay. Appreciate that. And then one question, if I could for Brent. It is a little bit of the timing with Cold Lake and Polaris coming in on January. Does that impact your tax pools for 2015 or should we see the deferred tax benefit really come more 2016 or maybe a better question is what do you expect your cash taxes to be in 2015 and 2016?
Brent Heagy
Well, I can tell you for 2015 we would expect our cash taxes to come in around, let's say around $60 million, just rounding Carl. Really as far as the tax pools and I think Jeremy noted in his comments really what we were able to do is, when we reviewed particularly the Cold Lake capital and deeming it when it is to be in service, for tax purposes, we were able to determine that we were able to give that designation in December of 2014.
So it's just really more of a timing issue and a shift of when we're able to deduct the pools for tax purposes and I think as we mentioned before, in our average CCA rate we still see being around 9% or so.
Carl Kirst
Excellent. And the number of that - sorry, Jeremy was referring to that, that's the $1 billion, was that that $1 billion?
Brent Heagy
That's the $1 billion that we were able to - we're still subject to the half year CCA rule in 2014 but it's about $1 billion of pools coming. So it ends up coming around to $10 million savings or the impact is about $10 million in lower current taxes in 2014.
Carl Kirst
Excellent. Thank you, guys.
Operator
Thank you. Our next question is from Rob Hope from Macquaire. Please go ahead.
Robert Hope
Good afternoon. Maybe just some questions on the expected EBITDA ramp-up of your larger oil sands pipelines, especially the ones that just entered service in January. Will there be a relatively quick ramp-up to long-term EBITDA there, or should we assume a few quarters?
Jeremy Roberge
We should be relatively quick.
Robert Hope
All right. That's good. And then another question, just in terms of how are your discussions going with producers for additional volumes for your existing pipelines, given the commodity price environment?
Jeremy Roberge
Very good questions. It really is very producer specific. Clearly there has been a - some producers have step back in terms of the timing of their projects although we still are in active discussions with several producers about accessing the current surplus capacity, we haven't both Polaris and Cold Lake.
I can't of course comment on specific timing on when a deal might be announced but we are pursuing several.
Robert Hope
All right. But fair to say things have been pushed out a bit?
Jeremy Roberge
On certain project, yes. Other projects, no.
Robert Hope
All right. Thank you.
Operator
Thank you. Our next question is from Robert Kwan from RBC Capital Markets. Please go ahead.
Robert Kwan
Good afternoon. If I can just follow up first on Carl's question around the cash taxes. So I guess there was no planning when you deemed Cold Lake in service, what happened in the fourth quarter is because you were able to use it, you reversed the prior quarter accruals which is why cash taxes had a recovery in the fourth quarter?
Brent Heagy
Yeah. That's essentially the case.
Robert Kwan
Okay. I guess let's just turn to the conventional side. Do you have what the midstream margin was referring and what your outlook is for midstream just with the way credit streams have been moving around?
Brent Heagy
Sure. The midstream marketing well in Q4, the EBITDA was about 6 million. On a year-to-date basis it was approximately 30 million. And for 2015, Robert, I think it would be fair to say that we are expecting between 20 million or 25 million but obviously what the cost and the actual result are going to depend significantly on the volumes and also the crude oil price differentials.
Robert Kwan
Okay. I guess this is somewhat related to volumes on conventional. Just wondering what the tone is right now as you're having the discussions with Viking producers for mid-Saskatchewan, especially with the drilling budget cuts that we've seen.
Chris Bayle
Yeah. It is really interesting dynamic right now Robert. The Viking play, I guess we - obviously we have somewhat of a bias in our opinion but it is likely one of the most profitable place still in the Western Canadian sedimentary base even at these price levels.
And we are still seeing record throughputs in our Mid-Saskatchewan on the light system, back the system is still full pay.
So there is variety of things that are going on right now. Producers seem to be targeting those that have money to spend. Seem to be targeting the Viking play. New drilling is currently happening today with some producers. Other producers are cutting back.
Another interesting dynamic that's going on right now is with the narrowing of the Edmonton price to Brent price. Rail has become very unattractive. I'm sure you've heard that from a number of people that you monitor which is actually pushing crude, which has been on rail for quite some time, back onto pipe.
So, we’re actually seeing some volume increases from that perspective.
Robert Kwan
Okay. I guess I'm wondering as well though, as you're having discussions about trying to contract more of the future expansion, has the pace or the tone of that -- those discussions waned a little bit here?
Jeremy Roberge
On the fringes, yes. If we have -- we have a basket of new connections that we were targeting in our plans say 6-8 months ago, the vast majority of them are still underway but some of them have fallen off.
Robert Kwan
Okay. That's great. Thank you very much.
Operator
Thank you. Our next question is from Steven Paget from FirstEnergy. Please go ahead.
Steven Paget
Thank you and good afternoon. At your investor day last fall or last winter, you talked about Gulfhavn maybe having a long-term contract opportunity. Any chance you might take that up or are you thinking things -- times are good again?
Chris Bayle
Yes, a lot has changed in the last few months. We had a hard time getting anybody to give us a call come last summer when it came to our contango related storage and now the phone is ringing off the hook.
We are essentially full at Gulfhavn and that all happened the very latter part of 2014. So business is very good in the storage business what we are being cautious on is term, like for new contracts that we are entering into today.
Because we want to see the storage rate that we can charge to also rise now that a lot of the available capacity has been taken off the market. And then we will target longer term contracts for the business versus shorter term.
Steven Paget
Excellent. That answers my first question. You talked a little bit about maybe even increasing your corporate line debt with so much of your EBITDA coming from cost of service. Any thoughts on that regard?
Brent Heagy
Still, I think we are targeting the 50% to 55% range on a recourse debt to total cap basis. So nothing has really changed, you can see right now, I think Jeremy mentioned its about 54%.
So its pretty well in line right now Steven, with where we would like to be.
Steven Paget
Thank you, Brent, Chris. Those are my questions.
Operator
[Operator Instructions] Our next question is from Paul Lechem from CIBC. Please go ahead.
Paul Lechem
Thanks. Good afternoon. First on the -- continuing with some of the questions that have been asked previously. On the Narrows Lake expansion that you have planned for the Cold Lake and Polaris systems, that seems to have been put on hold from the producer's standpoint. What are your discussions with them at this point in terms of delaying your expansion of your system to reach out to Narrows Lake?
Brent Heagy
Sure Paul. Maybe I’ll handle that one. I can only speak very generally to Narrows Lake right now. What I can tell you is that both FCCL and Inter Pipeline have, call it certain rights and obligations related to the timing of future cash flows from a Narrows Lake connection.
So generally if our assessment of Narrows Lake timings changes relative to our current disclosure, then we will update the market at that time. But there are confidentiality provisions related to these rights and obligations that we are going to respect within the agreement. That's really all I can comment on today.
Paul Lechem
Okay. Fair enough. Jeremy mentioned that when he gave the broke down of EBITDA by revenue -- or I guess by type of service, there's no frac-spreads on your NGL extraction business at present. But he opened the door to the fact you might review that policy. Can you give us a sense of what will it take for you to change that policy? Or are you willing to let it go fully spot at this point?
Jeremy Roberge
Right now we are certainly contend with going fully spot. Current US gallon frac-spread pricing is about $0.42 and you’re looking at a forward curves going out to 2017 about $0.45. So there is not really a lot of incentive to lock-in rates at the $0.45 level.
Paul the reality is that when we bought this business, we were expecting a $0.25 frac spread and so we are still almost double of what we expect. We are quite at these levels and certainly still making money but we are not in any position to change our hedging philosophy, NSGs prices shows significant improvement in a forward markets.
Paul Lechem
Last question. Just on the acquisition strategy. I know you guys have mentioned in the past, that maybe you'd look up more European storage. Is that still on the table? Or are you still -- are you now focusing -- refocusing back at Alberta and on the storage and terminaling opportunities?
Brent Heagy
Well when it comes to storage, we're focusing on both. We are actively looking at opportunities in Europe as well as pursuing organic development within Alberta and Saskatchewan.
Paul Lechem
What are the scale of the opportunities still to be acquired in Europe?
Brent Heagy
It ranges from as small as $100 million Canadian dollar to as big as $500 million. But I will just reiterate, our - call it soft target, within our overall asset portfolio is somewhat between 15% and 20% of our EBITDA to come from storage. That size keeps us relevant but not too big and we like it that way.
Paul Lechem
Great. Thanks a lot guys.
Operator
Thank you. We have no further questions. At this time I would like to return the meeting back to Mr. Roberge.
Jeremy Roberge
Okay, thank you very much for everyone participating on this call. We look forward to discussing our first quarter 2015 results at our next scheduled conference call which is currently set on May 4, 2015. Thanks everyone.
Operator
Thank you. The conference call has now ended. Please disconnect your lines at this time. And we thank you for participating.
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