Delek Logistics Partners, LP quarterly report, Q3 FY2013

Business context and reporting period

Delek Logistics Partners, LP’s unaudited Form 10-Q covers the quarter and nine months ended September 30, 2013. The partnership operates crude-oil and refined-products pipelines, storage and terminals, and wholesale marketing businesses, primarily supporting Delek’s refineries. The 2012 comparative results are those of predecessor businesses, retrospectively adjusted for the Tyler assets; changes in ownership, intercompany revenue recognition and business mix limit direct comparability.

Financial results and position

Amounts are in millions of dollars unless stated otherwise.

• Q3 contribution margin was $17.6 million versus $7.0 million; nine-month contribution margin was $47.2 million versus $23.0 million. Contribution margin is a company-defined measure of segment sales less cost of sales and operating expenses.
• Basic earnings per limited partner unit were $0.51 for Q3 and $1.49 for the nine-month period. Declared distributions were $0.405 per unit for Q3, or $1.62 annualized.
• Nine-month operating cash flow was $35.5 million, compared with cash used of $4.5 million in 2012. Investing used $13.6 million; financing used $38.6 million. Cash declined by $16.7 million to $6.7 million.
• At September 30, cash was $6.7 million; revolving-credit borrowings were $161.0 million, with approximately $225.5 million available under the $400 million facility after outstanding borrowings and letters of credit. Letters of credit totaled $13.5 million. The weighted-average borrowing rate was approximately 2.0%.
• Current assets were $63.2 million and current liabilities $54.9 million. Total assets were $287.4 million and total equity $60.1 million. The filing states the partnership was in compliance with its debt covenants.

Material changes versus the prior comparable period

• Sales fell 10.5% in Q3 and 11.5% for the nine months. Management attributed this mainly to stopping bulk-biofuel sales after the 2012 IPO and lower average gasoline selling prices; volumes increased in several operations.
• Despite lower sales, Q3 and nine-month contribution margin rose substantially, principally from higher fee rates under Delek commercial agreements, increased pipeline activity and new Tyler terminal and tankage fees. Wholesale marketing margins also benefited from ethanol blending over the nine-month period.
• Average East Texas Crude Logistics System throughput fell to 10,148 barrels per day in Q3 from 58,652 a year earlier. A third-party system began carrying most Tyler refinery crude requirements; Delek’s minimum-payment obligations provide contracted revenue protection, subject to agreement terms.
• Interest expense increased to $1.2 million in Q3 and $2.8 million for nine months, largely reflecting borrowing for the Tyler acquisition and financing costs. The partnership’s 2013 tax expense was substantially lower because it is generally treated as a partnership for federal income-tax purposes; predecessor comparisons included entity-level taxes.

Outlook, risks and unusual items

• Management said cash from operations, credit-facility borrowings and potential debt or equity issuance were expected to cover anticipated needs, including distributions, for at least 12 months. The filing does not provide earnings guidance.
• On July 26, the partnership paid $94.8 million cash to Delek for the Tyler terminal and 96 storage tanks, recorded at historical carrying value because the transfer was between entities under common control. The assets provide about 72,000 barrels per day of terminal capacity and 2.0 million barrels of tank capacity. A $5.7 million Hopewell Pipeline acquisition and a $5.0 million Little Rock terminal purchase announced October 24 also expand the asset base.
• Delek is a major customer and counterparty. Long-term agreements include minimum-volume commitments and shortfall payments, but may be affected by force majeure, asset-capacity failures, termination provisions or Delek’s ability to pay. The Tyler acquisition also increased related-party arrangements and raised the annual corporate-services fee to $3.0 million.
• Management expected the Big Sandy Terminal to return to operation in Q4 2013 after the Hopewell Pipeline connection. This was an expectation, not a reported completed outcome.
• A March 2013 crude-oil release at Magnolia Station did not interrupt pipeline service. Management considered costs immaterial and said Delek covers costs above $0.25 million under the omnibus agreement; discussions with Arkansas regulators about possible further soil monitoring or remediation remained ongoing.
• Pipeline rates are subject to FERC and state regulation; environmental and safety compliance may require future spending. Management reported no pending litigation expected to have a material adverse effect and no significant change in previously disclosed risk factors.
• The filing reports no outstanding commodity swap contracts at quarter-end. Variable-rate debt creates interest-rate exposure; a three-year $45 million LIBOR cap was in place.

Important facts for investors to verify

• Reconcile the large difference between consolidated net income and partner-attributable income, including the predecessor losses and common-control presentation.
• Assess Delek concentration, the enforceability and duration of minimum-volume commitments, and the counterparty and termination risks in related-party agreements.
• Track East Texas pipeline throughput, Delek’s minimum payments, and whether Big Sandy became operational as expected.
• Review debt covenant headroom, variable-rate exposure and funding needs alongside the rising distribution; distributions are not legally guaranteed.
• Confirm subsequent acquisition costs, capital-spending requirements, and the outcome of Magnolia environmental discussions. The filing presents different capital-spending measures, so their scope and reconciliation merit review.