Calumet Specialty Products Partners, L.P. (NASDAQ:CLMT) Q3 2023 Earnings Call Transcript

Calumet Specialty Products Partners, L.P. (NASDAQ:CLMT) Q3 2023 Earnings Call Transcript November 9, 2023

Calumet Specialty Products Partners, L.P. beats earnings expectations. Reported EPS is $1.26, expectations were $-0.03.

Operator: Good day, and welcome to the Calumet Specialty Products Third Quarter 2023 Results Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Brad McMurray, Head of Investor Relations. Please go ahead.

Brad McMurray: Thank you, Betsy. Good morning. Thank you all for joining us today for our third quarter 2023 earnings call. With me on today’s call are Todd Borgmann, CEO; Vincent Donargo, CFO; Bruce Fleming, EVP, Montana Renewables and Corporate Development; and Scott Obermeier, EVP, Specialties. I would also like to introduce David Lunin, who recently joined the company as our Incoming CFO, which will be effective January 1, upon Vince’s retirement from Calumet. You may now download the slides that accompany the remarks made on today’s conference call, which can be accessed in the Investor Relations section of our website at www.calumet.com. Also, a webcast replay of this call will be available on our site within a few hours.

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Turning to the presentation on Slide 2, you’ll find our cautionary statements. I’d like to remind everyone that during this call, we may provide various forward-looking statements. Please refer to the partnership’s press release that was issued this morning as well as our latest filings with the SEC for a list of factors that may affect our actual results and cause them to differ from our expectations. I’ll now pass the call to Todd. Todd?

Louis Todd Borgmann: Thanks, Brad, and welcome to Calumet’s third quarter 2023 earnings call. I’m sure many of you saw that Calumet issued two press releases this morning. One was our traditional earnings release and the other was an announcement that after a thorough and productive negotiation, our general partner and conflicts committee reached agreement that Calumet will be transitioning to a C-Corp. I’m going to start with the quarterly report, and we’ll transition to the conversion shortly thereafter. To do that, let’s turn to Slide 3. During the quarter, Calumet generated $75.5 million of adjusted EBITDA, and what was in many ways a tale of two halves. The period started strong with the July, the directionally represented what we expect out of Montana Renewables now that all units within the operation had been proven.

However, the second half of the quarter was driven by two specific transient operational issues at our largest plants in Shreveport and Great Falls. Our Shreveport plant is fully repaired, and the Great Falls drum replacement is on track to be completed in a week — in the next week. Let me begin with more detail on the progress at Montana Renewables. First in July, we demonstrated the financially representative result consistent with guidance. That was an important milestone as it marked the first full month that a majority of Montana Renewables feed was untreated. Specifically, 70% of our July throughput was local discounted untreated feedstock and MRL generated $14.2 million of adjusted EBITDA in the month. As mentioned, these results fell within our previous guidance of $1.25 to $1.45 per gallon on untreated feed and demonstrate the location and feedstock advantage that underpins Montana Renewables lasting competitive positioning.

Second, and unfortunately, as our August press release highlighted, we also found a crack in a steam drum that is a component of our renewable hydrogen plant. Our team developed a plan to repair the drum quickly on site. However, after removing 469 tubes and getting a closer look, we made a decision to replace the steam drum. This replacement is now installed and will be mechanically complete in the next few days. We’ve included in the appendix a few pictures of the steam drum repair, that might help put the event in perspective. Third, we demonstrated the site’s [indiscernible] redundancy, as we ran at reduced rates while the steam system was under repair. Given we were at reduced rates, we also took the opportunity to pull forward the catalyst change that was otherwise scheduled for April of next year.

We’re taking that catalyst change now. It’s worth noting that our next generation catalyst has performed well and nearly change is simply an economic optimization. We’d rather take a few extra days to complete the turnaround when we’re already cut back, then taking a full multi week shutdown this spring. This also sets us up to enter a strategically important first half of 2024 with a clean slate, no plan turnarounds. Turning to Shreveport, we also announced a few weeks ago that we had an operational issue that cost us roughly 300,000 barrels of specialty production during the quarter. The volume was limited primarily because of a P1LUGGED heater tube plug in our CDW unit. The plugging has been repaired and our Shreveport plant has been operating well for about a month now.

Because of the operational circumstances, the third quarter certainly resulted in lower capture of market opportunity. With Shreveport portfolio, Montana completing its steam drum next week, and its catalyst change by the end of this month, I have full faith that we’ll learn from this and reclaim the trajectory that we’ve come to expect. While the quarter was a setback, our strategy is robust and remains unchanged. I’ll take a few minutes to remind listeners of the strategic path we’re on as we’re deep into the plan. Our strategic transformation began 3 years ago in the depths of COVID. At that time, we determined that three things will be required to put our company onto a different financial trajectory, transform the business and ultimately unlock value for our shareholders.

First, we needed to transform our core specialty business. Second, we needed to fund construct and operate Montana Renewables. And third, we’d consider the structure of Calumet when the other two are behind us. In specialties, we made exceptional progress. As highlighted by last year’s record result, continual demonstration of commercial excellence and despite a couple quarters of operational setbacks in Shreveport, marked improvement in the operations of this business. At Montana renewables, in 3 years, we’ve turned an idea on a piece of paper into a leading business in renewable diesel and sustainable aviation fuel. MRL has been funded and constructed fully, demonstrated its operational and commercial leadership position, and has shown a glimpse of its economic potential.

Over time, our thesis at Montana Renewables is at or near the top of the renewable fuels competitive stack is based on five key pillars, which we believe are largely proven. First is the geographic advantage and flexibility the business has in product marketing. From the beginning, our offering was oversubscribed. And through the first few months of operations, we’ve demonstrated the ability to partner with leading companies to flexibly find the best markets. Most recently, we’ve seen this with over 60% of our products finding its way to Canada, which is fitting with our location less than 2 hours south of the Canadian border by truck. As we see reports of backups in the Panama Canal, extending supply chains in all industries, we are reminded how fortunate we are at Montana Renewables to be situated with direct rail access to critical markets.

I think we’re seeing well a steady margin theory applies to the industry as a whole, volatility can be driven by length of supply chain. In a declining feedstock price environment, margins in our industry will be higher for those with short supply chains. Over time, the industry’s volatility should balance out, and we simply would expect those with shorter supply chains to be more steady. Second is our feedstock advantage, which is underpinned by our geography and pretreatment capability. Montana Renewables is the nearest demand point for feedstock suppliers who collectively represent more than 10x our capacity, and our ability to competitively procure tallow, distillers corn oil, canola, and even camelina is well known. Our third competitive pillar is our SAF advantage.

Sustainable aviation fuel is arguably the fastest growing area in energy. And Montana renewables is the first mover here, it’s the largest SAF producer in North America. The great majority of the headlines we see of airlines buying SAF are originated in Great Falls, Montana. As most of you know by now, we believe that SAF represents our next transformational opportunity, as we look ahead to our MaxSAF expansion. Through these first three pillars, I characterize Montana Renewables as fully proven and the last few aren’t far behind. The fourth pillar is operational capability. We started renewable operations in Great Falls at about this time last year. The sequential commissioning of four major process operations over a 6-month period was success, starting with our renewable diesel unit last winter, and a catalyst that has proven to be robust.

Then the renewable hydrogen plant in the first quarter, and last our SAF unit and our pretreater in the second quarter. We learned a lot over the first few months of operations, including some expected early [indiscernible] things, and we have proven that each of our units and the technology works as expected. The last proof point is routine EBITDA generation, which is ultimately an outcome of the previous four items. We saw a glimpse of this in Montana Renewables generated over $14 million of adjusted EBITDA on July and only 70% untreated feed. But the crack in our steam drum has set us back a few months. We fully expect to resume demonstrating this final proof point in December and into 2024. Turning to potential monetization. We expect some duration of audited financials at steady state operating levels as an enabler to receive a proper valuation for this business.

We’ve said before that our goal is not to over optimize and play for the last dollar, but the difference between marketing a 100% proven business and a 90% proven business is enough to warrant pushing the expected timeline for potential monetization back a quarter, and mid fields — midyear feels like a reasonable timeline for potential next step. In parallel with taking this last step to complete the ultimate deleveraging of Calumet, we continue to be optimistic about the DOE process. We’re in the final stage of the process, and while we can’t say with certainty that will be successful, or on what timeline, our optimism continues to increase as time progresses that Montana Renewables with its unique renewable hydrogen system and first mover advantage in SAF is right down the fairway for the type of project the Department of Energy is looking for.

And last, we continue to progress engineering around our MaxSAF project. We’ve narrowed the field to a short finalist list of technology providers and general contractors and we expect to be in a position to fully launch this project as soon as we hear from the DOE that we’re cleared for financing. All signs continue to point towards this project being one that can more than double the steady state EBITDA potential of Montana renewables. We’ve discussed especially transformation [indiscernible] at Montana Renewables. I mentioned earlier that the third leg to deliver the shareholder value that we ultimately expect was to evaluate the structure of Calumet. This topic has received a lot of attention over the past few years and we believe that it was critical to address the fundamental business first.

We all were reminded of the unintended consequences of being a very thinly traded MLP recently, when a block sale of only 1.5% of our units had an outsized impact on our shareholders. We don’t believe that was a reflection on the fundamentals of the business. It was rather the reality that without a broad institutional investor base, most of whom can’t invest in MLPs, we have wild swings in our equity price. Well, this event served as a reminder, our General Partner and Conflicts Committee were willing to negotiations on the ultimate conversion of Calumet’s MLP into a C-Corp when it occurred. Calumet General Partner comprised of our founders and their families, has been an ardent supporter of Calumet since the beginning. If we back up a few years, when China was fighting for its survival, the General Partner didn’t waver.

With this transaction, the General Partner will absorb a meaningful tax bill. And as Amy mentioned, in this morning’s press release, they’re willing to lean in as they’re believers in Calumet’s growth vision, and see the significant value available to all unitholders. There’s no group more committed or financially aligned with the Calumet value unlock than our General Partner. And on behalf of the management and our unitholders, I think the Heritage Group, [indiscernible] Family and our Conflicts Committee for negotiating a transaction that is exceptional for all parties. I truly believe this is a foundational launching pad for the future of our company. Let’s flip to Slide 4 for more details on the transaction. We’re going to go over some detail here.

And we likely won’t be getting into any more detail on Q&A as this approval, it’s hot off the press. First, the corporate conversion will close within the next 9 months. We’ll begin to prepare the necessary document for the filing processing. From there we’ll file a Form S-4, hold the unitholder vote and prepare for the ultimate closing. Upon closing, the General Partner will exchange its existing IDRs and 2% General Partner interest, which is approximately 1.6 million units, for 5.5 million shares of common stock and 2 million warrants. These warrants will have a strike price of $20 a share and will expire 3 years from the date of issuance. This represents a dilution of 4.5% to our current shareholders, which is illustrated in the appendix on Slide 14.

This slide also highlights a few governance features, including a staggered Board which will be made up of a majority of independent members. It’s worth highlighting that upon conversion, there will be a single class of voting shares with economic interests fully aligned. As a management team, we look forward to getting out quickly to explain Calumet’s growth strategy and immense value proposition to a new group of institutional investors, but until now have not been able to invest in the company. With that, I’m going to turn the call over Vince to review the quarter. Vince?

Vincent Donargo: Thanks, Todd. Before I comment on our business segment, I would like to turn your attention to the RINs slides in the appendix. Our net income included a noncash gain of $173 million related to our RINs mark-to-market adjustment. We do not view these mark-to-market gains or losses as meaningful with respect to our business performance and our strategy regarding RINs remains unchanged. So let’s turn back to Slide 6. Our SPS business generated $38.7 million of adjusted EBITDA during the quarter. As Todd mentioned, we had a temporary operational issue at Shreveport that resulted in a loss of roughly 3,000 barrels of specialty product production. We purchased some third-party material where we could to ensure our long-term customers were kept hold [ph], while the operations team at the facility brought the affected units back to normal production levels, which has occurred.

The other notable item that impacted the quarter was a $19 per barrel increase in crude prices. Our commercial team implemented price increases that largely took effect on October 1. So we are seeing the benefit of the price increases this quarter. as crude has stabilized. We continue to be constructive on the margin environment going forward, although we’d expect normal seasonality late in the year. On the fuel side, both volumes and margins improved quarter-over-quarter. And while the winter is typically weak or seasonally, especially for gasoline, we continue to see strong distillate margins. Not only do we produce more diesel and gasoline, but our specialty business and Steve Bennett produce more diesel and gasoline but our specialty business tends to benefit from higher diesel prices as it’s an alternative for solvents and light lubes.

With product inventories at/or below their historical averages, the fundamentals continue to point to healthy margins in the near to medium term. Moving to Slide 8, our Performance Brands business had another solid quarter, generating $13.2 million of adjusted EBITDA. This was up $1 million from the previous quarter. We typically see some seasonality in this business as big box retailers manage year-end inventory levels. Our Performance Brands team is focused on continuing to manage our costs, deliver high-quality products to our customers, and optimize our product mix to find the highest net backchannels across our branded products. And we’re excited about the opportunities ahead to continue to improve this business as we have during the year.

Industrial demand that we’ve mentioned before, continues to be strong, especially in mining and marine applications. And we think these end users will continue to be tailwinds for this business. Moving to our Montana business, you can see on Slide 10, that we generated $38.2 million of adjusted EBITDA in the quarter. Operations at our legacy asphalt plant were excellent and we have seen heavy Canadian crude differentials widened near the end of the quarter and into the fourth quarter. We operated the plant at nearly 12,000 barrels per day of production, which has been fairly consistent after the large turnaround last year that separated our renewables business and legacy specialty asphalt business. At Montana Renewables, Todd spent a lot of time on the previously disclosed steam system.

And I will briefly touch on that again. We have four hydrogen plants at the Great Falls site that supply hydrogen to both the legacy plant and a renewable diesel plant. Three of those were preexisting, and we constructed the fourth as part of the MRL construction and conversion. This redundancy has been important, as we’ve been at least been able to run at reduced rates while the fourth plant has been down. With the steam drum replacement now mechanically complete, we expect to begin bringing that hydrogen plant back into service in about 1 week from now. We’re also on track to complete the turnaround that was pulled forward and we’re excited to pick up where we left off in July and fully demonstrating the uniqueness of Montana Renewables as we expect to run at full 12,000 barrels per day through December and going forward with most of that being untreated feed.

We’ll start with the untreated feed that was on the books for the past couple of months, and we expect to be back in the market in the New Year adding new regionally available supply. With that, I’ll turn it back to Todd for closing comments.

Louis Todd Borgmann: Thanks, Vince. Earlier this quarter, we announced that after a thorough search Vince and I found a successor CFO. And I’ll introduce David momentarily. But before that, I want to thank Vince for everything that he’s done over the past few years at Calumet. By the time of our next call, David will be in the seat. Vince joined Calumet in August of 2020. Our stock was around $2.50. We had a material weakness in our financial reporting, and we were only shortly removed from a troubling SAP implementation. Vince’s courage, tenacity and leadership were paramount in fixing all of the above. And he also led us through a re-segmentation which brought transparency to Calumet by aligning the way we report the business with the way we run it.

Vince and I co-develop the succession plan. And Vince is going to be with us through April as David takes the reins. David Lunin who joined in September has been working closely with Vince since day one. He brings 20 years of experience advising companies on corporate financial matters, including M&A and capital market transactions in relevant industries. David was most recently with Goldman Sachs and he has hit the ground running as he leads the exploration of potential MRL monetization and [indiscernible] prepares to step in fully as CFO on January 1. Vince, congratulations and thank you. And David, welcome to Calumet. With today’s news and game changing opportunities ahead of us, it’s an incredibly exciting time to be joining this company.

With that, I’ll hand the call back to the operator for questions. Operator?

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Q&A Session

Operator: Thank you. [Operator Instructions] The first question today comes from Roger Read with Wells Fargo. Please go ahead.

Roger Read: Yes, thank you. Good morning. Congratulations on the announcement of the conversion to the C-Corp. I think that’ll be something that’s been looked for, hoped for and will be well warmly received. On the operational side, the specialty margins you discussed in the presentation. And if you look at the chart, are we essentially seeing specialty margins normalize here? Is that the right way to think about it, plus or minus $60? Or should we read into further strength based on the crude price moves in the comment about October price increases?

Scott Obermeier: Hey, Roger, this is Scott. I would answer it with two parts. I think, overarching, we’ve seen some tapering and normalization of specialty margins that have come off all time records right over the past year. So there is some tapering down of specialty margins. I think what occurred though in Q3 was a little bit magnified on some margin compression as crude spiked up, and a lot of our operational issues created some additional headwind. So as we think about this quarter here in Q4, we’ve got a lot of our increases through depending on how crude shakes out, but we should see some improvement in fourth quarter to more normalized margins above Q3 results.

Roger Read: Okay. Thanks on that. And then on the MRL, the — kind of what happened in the third quarter, the drum issue and all, I was wondering if we could get a little more clarity on the period at which you did achieve $1.25 to $1.45 margin, sort of, like what did you see in there? How well did the unit run? And is there upside from there if you’re running really well, find the right markets, as you mentioned, whether it’s Canada or somewhere else, just try to help understand, like, the real performance of the business when it — isn’t dealing with startup issues?

Bruce Fleming: Hey, Roger, it’s Bruce. I think the July performance was representative, in terms of most of the things we look for, and we ran well. We didn’t run all the way full in July. So actually, as we get sped up again, you’re going to see that margin improved, because we’re going to spread the fixed costs on a unit basis, you’ll see the margin improved. And then in terms of the implied optimization, the way we’ve got our product supply agreements said, we’ve got a distribution optimization that the customers benefit from, in return, we’ve got a very fully priced product. So that’s kind of a synergistic partnership with them.

Roger Read: Okay. Appreciate it. I’ll turn it back. Thanks.

Operator: The next question comes from Neil Mehta with Goldman Sachs. Please go ahead.

Neil Mehta: Yes. Good morning and congratulations, David. Welcome. And congrats on the good news about the conversion. I think liquidity has been long been a focus area for investors around the stock. The first question is just building on the lost opportunity profit in the quarter. As you think about the downtime and if you were to build back some of these issues, give a sense of how much EBITDA would have been higher in the absence of those issues?

Louis Todd Borgmann: Yes, we said about a little more than $50 million is what we think we lost in the third quarter, Neil. This is Todd, by the way. Thanks for the question. The two events, 300,000 barrels in specialty, if you look at our margins, routine margins in specialty, that’s probably a little over $20 million of lost opportunity. And then the same thing for MRL, right, 2 months of cut back. So if we look at July and say that we should have had July going forward at a minimum, that’s where we get the other 30 plus so. In total $50 million of lost opportunity for the quarter which is disappointing, but also reminds us of the potential that we have ahead of us.

Neil Mehta: Thank you. I know it’s tricky to talk about the transaction, so [indiscernible] pass on this one, but I was just curious on tax implications to the extent you are at Calumet [indiscernible] MLP, it sounds like the way it’s designed you’ll — there won’t be a meaningful tax impact, but can you confirm that. And then as we think about you, as a cash tax payer, I would imagine the NOL will carry with this transaction, and therefore, I would imagine you’d be paying cash taxes for a while. But any thoughts on the tax side would be great and [indiscernible] understood.

Louis Todd Borgmann: No, I’ll comment on it a little bit. I’ll be careful, like normal year all over the topic. And I think you hit on a couple of the big ones. So, on the call, I mentioned the GPL make a meaningful tax cash payment. That depreciable basis step up actually gets shared across all shareholders. There’s some tax arbitrage as things like passive loss carryforwards, like you mentioned, will flow into investor basis conversion and [indiscernible] tax the capital gains rates rather than ordinary income. The other tax impact that it’s hard to quantify, but could be meaningful is the increase in price between now and conversion, as new investors enter will also result in a step up and depreciable tax basis that will be helpful to all investors. So I’ll probably stop there. But I think you’re right, as a whole to say, for most this should not be a negative tax event, in fact, should be very, very positive tax event for the great majority of our unitholders.

Neil Mehta: Okay, that’s great. Thanks, guys.

Louis Todd Borgmann: You bet. Thank you.

Operator: The next question comes from Manav Gupta with UBS. Please go ahead.

Manav Gupta: Good afternoon. Good morning guys. Help us understand a little bit about the restart process here. Looks like you’re firmly on course, to get the operations fixed at Montana. Should we assume that 1Q ’24 you run all out and that kind of gives us that $1.30 or $1.40 EBITDA per gallon margin? Should we be watching that as the quarter where everything comes together for you in terms of RD?

Bruce Fleming: Hey, Manav. It’s Bruce. We’re going to plan to be running full from, let’s just say, December 1, so that you get a solid month, another proof point and then we’ll stay fall. What we’ve got to do though the steam system repair work was an unplanned slowdown. So we’ve got a certain quantity of clean feeds still backed up in inventory that we’re going to have to pull through to the buck 25 to buck 45 guidance is for dirty feed. And we’ve got a blend situation for a little while.