Plains All American Pipeline LP Q2 FY2020 Earnings Call

Good day, and welcome to the PAA and PAGP Second Quarter 2020 Earnings Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Roy Lamoreaux. Please go ahead, sir. Thank you, Dan, good afternoon, and welcome to Plains All American second quarter earnings conference call. Today's slide presentation is posted on the Investor Relations News and Event section of our website at plainsallamerican.com, where an audio replay will also be available following our call today. Later this evening, we plan to post our earnings package to the investor kit section of our IR website, which will include today's transcript and other reference materials. Important disclosures regarding forward-looking statements and non-GAAP financial measures are provided on Slide 2 of today's presentation. Condensed consolidating balance sheet for PAGP and other reference materials are located in the appendix. Today's call will be hosted by Willie Chiang, Chairman and Chief Executive Officer; and Al Swanson, Executive Vice President and Chief Financial Officer. Additionally, Harry Pefanis, President and Chief Commercial Officer; Chris Chandler, Executive Vice President and Chief Operating Officer; Jeremy Goebel, Executive Vice President, Commercial; and Chris Herbold, Senior Vice President and Chief Accounting Officer; along with other members of our senior management team are available for the Q&A session of today's call. With that, I'll turn the call over to Willie.

Thanks Roy. Good afternoon to everyone, and thank you for joining us. I hope that you and your families are safe in what seems like a new normal environment for all of us. At PAA, our organization has adapted to additional COVID protocols in the field, social distancing and working remotely for those that can. We continue to operate safely, reliably, and I'm very proud of our team, as we are having our best year-to-date safety metrics as measured by total recordable injury rate, and we are achieving levels that are better than half of where we were five years ago both in safety and key environmental metrics. This afternoon, we reported second quarter adjusted EBITDA of 524 million. These results reflect slightly favorable performance in our fee-based and Supply and Logistics segments, relative to the revised full year guidance we furnished in May. A summary of our performance and an overview of our call is reflected on Slide 3. Al will discuss our results in greater detail during his section. I wanted to take a few moments to provide context for today's call and to discuss our updated guidance. I also want to highlight our progress on increasing profitability and free cash flow through reducing costs, executing key projects, and further optimizing our capital program. We continue to believe that long-term energy fundamentals are constructive. That being said, as illustrated on Slide 4, in the near term, this continues to be a dynamic and unprecedented environment for our industry. As anticipated, in response to COVID-induced demand destruction in the weeks following our first quarter earnings call in May, North American producers responded aggressively by shutting in significant levels of production, limiting the amount of storage builds, and mitigating the risk of testing storage maximums, while refinery utilization gradually began to increase. The previously steep contango market structure tempered and crude oil prices improved to levels that supported producers' ability to bring previously shut-in production back online in June. However, the U.S. Lower 48 horizontal rig count continues to decline and currently sits approximately 20% of 2019 peak levels. Our current expectation is that production will continue to slowly recover from the trough in May through year-end, as shut-in production comes back online and some completions continue. We forecast the Permian to end the year at approximately 4.1 million barrels a day, slightly better than our expectations earlier this year. I would highlight that we expect the market to continue to be dynamic in the near term influenced by multiple factors of uncertainty, including the pace of demand recovery due to potential COVID resurgence and geopolitical developments. Our return to longer-term sustainable production growth ultimately remains a function of the timing and the pace of demand recovery as illustrated by various third-party estimates of demand recovery reflected in Slide 5. Despite the near-term uncertainty, we remain constructive in our long-term view of global energy demand. We believe the world needs U.S. energy, the Permian Basin is critical, and our positioning supports a positive and constructive outlook for our business. As Al will discuss in further detail this afternoon, we increased our 2020 adjusted EBITDA guidance by 75 million or 3% to plus or minus $2.5 billion with all three segments contributing to the increase. We are squarely focused on increasing our free cash flow with the expectation of generating meaningful free cash flow after dividends and enhancing our financial and operating position. You will note a new free cash flow disclosure in this quarter's update, which Al will also comment on. In addition to increasing guidance for our adjusted EBITDA, we have further reduced our 2020 and 2021 CapEx program by an additional $100 million. I would note that our capital investment is coming down meaningfully in the second half of the year, as we complete and put key projects in service. As reflected on Slide 6, we invested approximately 650 million in expansion capital in the first half of 2020, and we expect to invest approximately 350 million in the second half of the year. In 2021, we currently estimate approximately 450 million of expansion capital investment, as we complete our investments in the Wink to Webster and Diamond/Capline projects. We expect to further lower levels of capital investment moving forward, as we focus on smaller projects that connect production and improve returns across our system. Project updates are outlined on Slide 18 in the appendix, and I highlight the following. We placed our Marten Hills terminal expansion in Canada into service during the quarter. Our Red River, Saddlehorn, and St. James expansions are on track to be in service by year-end. The Wink to Webster joint venture continues to progress. The joint venture's throughput agreements are expected to become effective and the full joint venture systems entered service, which is now expected in the second half of 2021, with the potential for partial early service in the second quarter of 2021. The Diamond and Capline projects remain on budget with both projects expected to be in service late 2021. As summarized on Slide 7, we continue to advance initiatives to optimize our asset portfolio and streamline our business. With respect to portfolio optimization, we have closed or contracted for approximately 440 million in asset sales year-to-date, which includes 190 million expected to close before year-end. We continue to advance a 160 million or more of additional divestiture opportunities, some of which could be more challenging to achieve in the current environment and will likely extend into 2021. With respect to optimizing our business, we continue to streamline and drive efficiencies across all aspects of our business. In May, we estimated the benefit of this process to result in 50 million to 100 million of cost savings for 2020. Based on our progress to date, we are on track to achieve the higher end of our range, which is reflected in our updated guidance. We also expect a significant portion of our savings to endure in future years, as we continue to reduce our cost structure. Additionally, our 2020 guidance for maintenance capital remains unchanged at 215 million. With that, I'll turn the call over to Al.

Thanks Willie. During my portion of the call, I'll recap our second quarter results, discuss our 2020 guidance and review our current capitalization liquidity and leverage metrics. As shown on Slide 8, in the second quarter, we generated fee-based adjusted EBITDA of 520 million. Transportation segment results were generally in line with our expectations, but due to the impact of producer shut-in, tight regional basis differentials and the timing of shipper deficiency payments reflect quarterly sequential and year-over-year declines. We expect to collect the second quarter shipper deficiency payments in the second half of 2020. Second quarter Facilities segment results exceeded expectations primarily due to operational cost savings and higher than expected throughput at certain of our Mid-Continent terminals. On a comparative basis, the segment was in line with second quarter 2019 despite the impact of asset sales and down sequentially, as a result of a multiyear deficiency payment received in the first quarter, as well as the impact of asset sales. Supply and Logistics results of 3 million exceeded our expectations, as contango-based margin opportunities and more favorable NGL margins offset the impact of shut-in driven volume shortages, timing of inventory costing, and the typical NGL seasonal dip that occurs in the second and third quarters. Now, I will shift to a discussion of our 2020 guidance, which is reflected on Slide 9. As Willie mentioned, our revised 2020 adjusted EBITDA guidance of plus or minus 2.5 billion, is 75 million or 3% above our guidance provided in May and reflects an increase in all three segments. For the Transportation segment, we have revised down our expected average daily volumes by 4%, reflecting second quarter actual volumes, our current views of anticipated throughput on our system in the second half, as well as shipper minimum volume commitments. Unit margins have improved reflecting higher expected average tariff rates and our continued focus on reducing operating costs. I'll note that our updated guidance incorporates a shift between quarters of earnings related to the timing impact of minimum volume commitments relative to billing cycles and the deficiency payments are also contributing to the higher average tariff rate for 2020. With respect to the Supply and Logistics segment, the guidance increase reflects our second quarter performance plus the benefit to the second half of the year from contango opportunities captured to date, as well as a stronger than anticipated NGL and crude oil margins. Moving to our capitalization and liquidity, a summary of key metrics is provided on Slide 10. Our reported long-term debt to adjusted EBITDA ratio of 3.2 times benefited from trailing 12-month Supply and Logistics results of almost 500 million. As noted on the slide, the leverage ratio would be 3.7 times if normalized using our initial 2020 Supply and Logistics adjusted EBITDA guidance reflecting the leverage slightly above the high end of our target level, thus underpinning our focus on reducing leverage. In June, we completed a 750 million 10-year debt offering at 3.8%, which will be used to repay our 600 million February 2021 maturity via the par call option during the fourth quarter. We have no other near-term maturities. In terms of liquidity at quarter end was 2.9 billion. As a result, we do not expect to access the capital markets for the foreseeable future. As Willie stated earlier in the call, improving our free cash flow is a key objective and to the extent it exceeds distributions, it will be used to reduce debt in the near term. As shown on Slide 11, our free cash flow through the first six months of the year is a positive 122 million, and free cash flow after distributions was a negative 370 million. Absent short-term changes in working capital associated with hedged inventory storage, we expect our cash generation combined with lower capital investment to benefit free cash flow for the balance of the year and into 2021 and beyond. With that, I'll turn the call back over to Willie.

Thanks Al. As discussed throughout the call, I want to reinforce that we remain on track with our revised expectations articulated in May, and we are intensely focused on execution during what remains to be a very dynamic and challenging environment. We remain constructive on long-term energy demand as population growth and the quest for better living conditions will drive global energy demand in the years to come. Ultimately, the world needs North American energy and as the largest and one of the most economic producing regions, we expect that the Permian will ultimately lead in North American recovery. Given the critical nature of our integrated crude infrastructure system in key North American basins and our large Permian position, which is underpinned by significant volume commitments in more than 2.5 million dedicated acres and facility dedications, we believe we are very well positioned over time. Additionally, we are taking the right steps to further streamline our business to lower our costs, improve free cash flow generation, reduce leverage and return cash to our unitholders after reaching our leverage targets. These actions make us a stronger company and position us well for the future. Before I open the call up for questions, I do want to acknowledge and thank all of our PAA team members for their hard work, their commitment and dedication, as our workforce continues to operate in a socially distant world. We remain laser-focused on safe, reliable, and responsible operations and managing our business for the long term. A summary of our takeaways from today's call is outlined on Slide 12. With that, we'll look forward to sharing additional updates on our third quarter earnings call in November. I'll turn the call back over to Roy.

Thanks Willie. As we enter the Q&A session, please limit yourself to one question and one follow-up question, and then return to the queue, if you have additional follow-up. This will allow us to address the top questions from as many participants as practical in our available time. Additionally, our IR team plan to be available this evening and in the balance of the week to address additional questions. Dan, we're now ready to open the call for questions.

This is Shneur Gershuni, UBS. Interesting points and up-to-date. Hopefully, all is well. Maybe to start off a little bit here, just I would like to start off, I guess a little bit bigger picture. When you last gave guidance on the last earnings call, you know when rig counts were bottoming so forth, and you had a fairly ominous view as kind of - an exit rate for the Permian for this year. You've sort of moved the goalpost a little bit with this call today? I was wondering if you can share with us what are the key signpost that you're watching - are you looking at completion crews as a leading indicator, are you waiting for sustainable increases in rig counts, shutting reversals, crude differentials, just kind of wondering what are the things that you're looking at. Could it be something like efficiencies like we saw in the last call from an E&P breakeven perspective? Just I was wondering if you can sort of talk of the input or to come up with your view?

Shneur, let me start, and then Jeremy Goebel will give you his insights on this. Generally speaking, the guidance that we thought on the Permian specifically, where we are right now is pretty much, it's pretty close to expectations when you think about everything else. The difference is the slope of the curve and how quickly it happened and potential recovery curve, which I think Jeremy can cover, as well as some of his observations on the other things that we're looking at. Jeremy?

Shneur hi, it's Jeremy Goebel. So we basically came out of a frac holiday, but the shut-ins and curtailments happened very quickly. So end of May, we're rebalancing towards the second half of June. So you think about it, it was steeper, but it recovered quicker. And if you think about, there are three components, those barrels either went into storage, those barrels didn't get produced because of curtailment or those barrels were just lost because of natural declines, lack of completions. So across the system, we see producers now getting into starting to stabilize production. So I think our exit rate is plus or minus 100,000 barrels a day. There were some movements in between. I'd say volumes now, recoveries, curtailments came back quicker than we thought, but you're going to experience declines. So I think people are getting back to work slowly, but you're going to have a significant inventory of DUC (drilled but uncompleted) barrels. So we're going to manage complex completions. We're going to watch rigs. But I think in general, you see maintenance capital and articulated by all the upstream producers everyone is looking to stabilize production toward the end of the year and maintain production until we see higher prices. So I think everyone's articulated what their plans are going to be, and we see that across our system, as volume stabilizing, as opposed to the volatility we saw in May and June.

Yes. So the other thing...

Go ahead, Harry.

Yes, the other thing is, all this is based on kind of plus or minus $40 crude oil price. It's really stabilized in here. It seems a bit want to stay in this range, but all those assumptions are based on this type of pricing.

Yes, I think a big difference, what we thought may happen is because of the proactive nature of the producer shutting in - we were able to avoid this filling up of storage, which would have created a knee-jerk reaction across the system, which would have been more severe than what's happened. So I think the crude oil prices where they are has helped that and the proactive - or the proactive nature of what the producers did helped the crude oil price and helped the - kind of avoid a containment problem.

Maybe as a follow-up question - CapEx again and just wanted to focus specifically on the $100 million reduction. Is this just you're finding ways to do the same things for less and that you've - and things are just causing less and nothing is really changing in terms of what you're putting in place in terms of assets or have you scaled back some projects a little bit as well? So I'm just trying to understand if there is kind of an impact in terms of output for 2021 and 2022 and beyond or if things are just costing $100 million less than what you previously thought?

Well Shneur, I'll start again. Clearly, we've said over and over again, we're focused on improving our cash flow. And CapEx spend, any spend we got is precious and we've got an intense focus and laser on how we avoid spending CapEx. We have an internal term that we use. It’s must-do and no-regrets CapEx, right. So to answer your question, it's really a little bit of all the above. But I'll ask Chris Chandler to comment.

Yes, thanks Willie. This is Chris Chandler. We're always looking for ways to optimize scope and improve execution, efficiency on our projects. We have seen some material and labor cost deflation. And of course, with the slowdown in upstream development, we're able to execute projects more efficiently without paying expedited equipment or material or paying over time to complete work. We've also been successful in optimizing the scope of our larger projects including Wink to Webster and Diamond/Capline. This might be things like the number of tanks or size of tanks at origin or destination facilities. And finally, we have deferred several projects in Canada till beyond the 2021 timeframe. So it's really a combination of a number of efforts like Willie mentioned to continue bringing down our capital spend.

And maybe just a little bit about 2022 beyond Shneur, we guided to $450 million of CapEx in 2021. Just a little bit more than a third of that is on Wink to Webster and our Capline and Diamond project. So when you think about that and you think about 2022, it really sets us up to be able to lower our expectations of what we're going to spend on capital in 2022.

Perfect, that makes a ton of sense. Really appreciate the color, guys. I have some more questions, but I'll jump back in the queue. Have a great and safe day.

Thanks, Shneur.