STAR GROUP, L.P. quarterly report, Q3 FY2011

Star Gas Partners, L.P. — Form 10-Q Summary

Business context and reporting period

Star Gas Partners, L.P. and Star Gas Finance Company filed a joint Form 10-Q for the fiscal quarter and nine months ended June 30, 2011. The Partnership distributes home heating oil, propane and other petroleum products and provides installation, maintenance and ancillary services, primarily in the Northeast and Mid-Atlantic. At June 30, 2011, Petro served approximately 407,000 full-service residential and commercial heating customers, plus approximately 40,000 delivery-only customers and 11,000 ancillary-service customers.

The business is highly seasonal: approximately 80% of annual heating-oil and propane volume is typically sold during the first two fiscal quarters. The June quarter generally produces a loss and is not indicative of full-year results.

Financial performance and key metrics

Metric	Three months ended June 30, 2011	Three months ended June 30, 2010	Nine months ended June 30, 2011	Nine months ended June 30, 2010
Total sales	$246.8 million	$176.8 million	$1.438 billion	$1.077 billion
Operating income (loss)	$(28.3) million	$(13.9) million	$103.3 million	$87.9 million
Net income (loss)	$(18.2) million	$(10.0) million	$51.0 million	$42.5 million
Limited-partner income (loss) per unit	$(0.27)	$(0.14)	$0.66	$0.53
Adjusted EBITDA	$(7.5) million	$(7.5) million	$106.2 million	$93.3 million
Net cash from operating activities	Not separately reported for the quarter	Not separately reported for the quarter	$(19.1) million	$14.2 million

Nine-month sales increased 33.5%, while operating income increased 17.6% and net income increased 20.0%. Approximate nine-month operating margin was 7.2%, compared with 8.2% in the prior year; net margin was approximately 3.5%, compared with 3.9%.

Third-quarter product sales increased 52.5% to $198.5 million, reflecting higher selling prices and 26.2% higher heating-oil and propane volume.
Nine-month heating-oil and propane volume increased 16.3% to 335.8 million gallons, primarily from acquisitions and colder weather.
Nine-month product gross profit increased $41.6 million to $314.7 million, but heating-oil and propane gross margin declined to $0.9125 per gallon from $0.9211.
Third-quarter operating results were reduced by a $16.3 million unfavorable change in derivative fair value, compared with a $2.3 million charge in the prior-year quarter. The nine-month derivative adjustment was a $10.8 million credit, compared with a $5.8 million credit in the prior year.
Nine-month delivery and branch expense increased 18.8% to $201.8 million, reflecting acquisitions, higher delivery costs, bad-debt and credit-card costs, and increased insurance claims.

Liquidity, cash flow and capital structure

Cash and cash equivalents were $50.5 million at June 30, 2011, compared with $61.1 million at September 30, 2010.
Receivables increased to $153.8 million from $70.4 million, and days sales outstanding increased to 60 days from 57 days at June 30, 2010. Management attributed the increase to higher prices, colder weather, acquisitions and budget-plan customer balances.
Nine-month operating cash flow was negative $19.1 million, compared with positive $14.2 million in the prior year, principally because accounts receivables absorbed $92.1 million of cash and customer credit balances declined by $45.5 million.
Capital expenditures were $3.8 million and acquisition spending was $6.3 million during the nine months. Net investing cash use was $10.0 million.
Long-term debt was $124.2 million at June 30, 2011, compared with $82.8 million at September 30, 2010. The balance consisted of 8.875% Senior Notes due 2017; no revolving-credit borrowings were outstanding.
The Partnership issued $125.0 million of 8.875% Senior Notes and redeemed $82.5 million of 10.25% Senior Notes due 2013, recording a $1.7 million loss on redemption.
The amended revolving credit facility matures in June 2016, provides commitments of up to $250 million, or $300 million during the heating season, and had $155.9 million of availability at June 30, 2011. Letters of credit outstanding totaled $46.7 million.
Management reported compliance with the facility’s fixed-charge coverage requirements. Distributions require at least $52.5 million of excess availability and a 1.15x fixed-charge coverage ratio.

Material changes versus the prior comparable period

Revenue growth was driven by higher commodity prices, acquisitions and colder weather, but higher product costs constrained per-gallon margins.
Third-quarter operating loss expanded to $28.3 million from $13.9 million because of the larger derivative-market charge and higher operating expenses.
Nine-month profitability improved despite higher expenses, supported by increased volume, acquisitions, product gross profit and the favorable derivative adjustment.
Customer attrition was 13,000 accounts, or 3.1% of the customer base, compared with 13,100 accounts, or 3.4%, in the prior-year period. Natural-gas conversions represented 1.0% of accounts, compared with 0.9%.
The Partnership completed three acquisitions for $6.3 million and added approximately 6,700 heating-oil and propane accounts during the first nine months of fiscal 2011.
Fiscal 2011 unit repurchases were suspended; 5.803 million units remained authorized for repurchase under Plan II at June 30, 2011.

Outlook, commentary, risks and unusual items

No formal earnings or revenue guidance is provided. Management expects near-term capital needs to be funded through operating cash flow, cash on hand and the revolving facility, with potential use of a $250 million shelf registration if necessary.
Management estimated approximately $1.0 million to $2.0 million of maintenance capital expenditures, $1.4 million of additional pension contributions and $5.5 million of senior-note interest payments for the remainder of fiscal 2011. Maintaining the current distribution rate would require approximately $5.3 million of additional distributions.
A fiscal 2012 weather hedge provides $35,000 per heating degree-day when covered heating degree-days are below 92.5% of the 10-year average, subject to a maximum payout of $12.5 million.
Higher wholesale heating-oil prices may compress margins, increase bad debt and financing needs, reduce customer renewals and increase attrition. Approximately 76% of price-protected customers renew between April and November, and management warned that higher renewal prices could reduce acceptance.
Derivative instruments are not designated as accounting hedges; therefore, unrealized market-value changes flow through earnings and can create significant period-to-period volatility. A hypothetical 10% increase in product cost would increase derivative fair value by approximately $7.7 million; a 10% decrease would reduce it by approximately $5.2 million.
Remaining Federal net operating losses were estimated at $16.4 million at December 31, 2010. Management expects to use substantially all remaining unlimited Federal NOLs during calendar 2011, which would increase future cash taxes and reduce cash available for distributions.
The Partnership is considering an election to be taxed as a corporation, but stated that the timing and whether the election will be made are undetermined.
Management reported no litigation expected to have a material adverse effect, but the business remains exposed to environmental, operational, insurance, weather, commodity-price, customer-credit, counterparty and regulatory risks.
A quarterly distribution of $0.0775 per common unit was declared July 14, 2011, payable August 12, 2011.

Most important facts for investors to verify

Whether receivables and days sales outstanding normalize during the fourth fiscal quarter and whether operating cash flow turns positive.
Compliance with revolving-credit availability and fixed-charge coverage requirements, particularly before future distributions.
Renewal rates for price-protected customers and the effect of higher wholesale prices on margins, attrition and bad debt.
The magnitude and timing of future derivative fair-value gains or losses and their distinction from realized product margins.
Future cash-tax obligations as Federal NOLs are exhausted.
Debt-service requirements, distribution capacity and any potential use of the shelf registration.
The filing identifies the registrant as Star Gas Partners, L.P.; investors should verify the requested company name “STAR GROUP, L.P.” against the underlying issuer and ticker.