KNOT Offshore Partners LP (KNOP) Q2 2021 Earnings Report, Transcript and Summary

Good day, and welcome to the KNOT Second Quarter 2021 Earnings Results Conference Call. All participants will be in a listen-only mode. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Gary Chapman, CEO. Please go ahead.

Thank you, and welcome, everybody, to our second quarter earnings call for 2021. As always our earnings release and this presentation are also available on our website at knotoffshorepartners.com. I have to remind you that our call includes mention of certain non-U.S. GAAP measures of distributable cash flow and adjusted EBITDA, although our earnings release does include a reconciliation of those non-GAAP measures to the most directly comparable GAAP measures. This presentation and our other publicly available information contain forward-looking statements and as such statements made during today's call are subject to risks and uncertainties. Actual events and results could materially differ from those statements and the partnership does not have or undertake a duty to update any forward-looking statements. Please refer to Slide 2 and our annual and quarterly SEC filings for further details. Straight on to Slide 3, we are reporting another strong set of quarterly results. Total revenues in the second quarter were $70.9 million, an operating loss of $1.2 million and a net loss of $10.9 million. The losses arise as a result of recording a non-cash write-down in the carrying value of the Windsor Knutsen. Adjusted EBITDA was $52.1 million, distributable cash flow was $24.0 million, and our coverage ratio is 1.32. We announced our 24th consecutive quarterly distribution of $0.52 per common unit. Available liquidity at 30 June was $101.6 million, which included cash and cash equivalents of $51.6 million and the average margin paid on our debt in the quarter was 2.04%. Scheduled fleet utilization was 96.9% in the second quarter, including the Windsor Knutsen, for the time of vessel received insurance proceeds equivalent to hire during the quarter. And at the end of the quarter, the partnership had 642 million of remaining firm contracted forward revenue, excluding options held by our customers. We're very pleased to be able to announce that we have entered into a new senior secured credit facility to refinance the existing term loans related to the Tordis, Vigdis, Lena, Anna, and the Brasil Knutsen vessels. The term loans for these vessels otherwise expired between November 21 and July 22. The new facility has a balloon payment of $219 million debt maturity in September 2026 and that LIBOR -- interest at LIBOR plus the margin of 2.05%. And we expect to close the new credit facility in September 2021 next month. In the quarter, we also extended our $25 million unsecured revolving credit facility with NTT Finance Corporation at August 2023 on the same terms. And as a result of these refinancings, we now have no further significant refinance due until the third quarter of 2023. The partnership has also entered into a sales agreement with B. Riley Securities for an ATM program, whereby the partnership may offer and sell up to $100 million of common units from time to time. Such a program is a common tool that many companies have in place on which for KNOP gives extra flexibility and another option under which we may raise growth capital for an accretive acquisition in the future. For more details, I will refer you to the relevant documents that were filed today. Slide 4. In respect to the Windsor Knutsen, you may recall we explained previously that the vessel was found to have a crack in the main engine block back in December 2020. The vessel was repaired and returned to service on 10th of June, and we can confirm that the partnership's insurance is covering the cost of repairs and provided lots of higher income at approximately the level earned during the vessels’ prior long-term charter, accepting the deductibles under the policy shown on the slide here. As we announced last quarter, we have agreed on the commercial terms for a one-year fixed time charter contract for the Windsor Knutsen with owner’s option to substitute and with the charters options to extend the charter by one, one-year period and then one, six-month period, with a major oil company and we expect this will commence in September 2021. As mentioned earlier, we recorded a non-cash write-down in respect to the Windsor Knutsen of $29.4 million at 30th of June to bring the carrying value of the vessel down to its fair value in our accounts. This principally arose as a result of the vessel’s unusually higher carrying value, which in turn, is the result of it being the sum of both the purchase cost and the cost of conversion of the vessel to a shuttle tanker from a conventional tanker. There are no other similar converted vessels in the partnership's fleet and therefore, we don't anticipate this particular issue recurring. For the Bodil Knutsen, in May 2021, the partnership agreed a new time charter contract for the vessel with a major oil company to commence in the fourth quarter of 2023 over the first quarter of 2024 for a fixed period of either one year or two years and in either case with options to extend the charter by two further one year periods. Also, in May 2021, as we reported last quarter, the partnership reached an agreement with the VOC Industry Corporation Norwegian sector or VOCIC Norway, whereby VOCIC Norway agreed to fund loss of hire at a reduced rate during and costs related to the installation of a VOC or a volatile organic compound recovery plant on Bodil Knutsen. The work is expected to be carried out in the third or fourth quarter of 2021 and take around one month. This will be the second material improvement made to the vessel in 2021 after the addition of the ballast water treatment system. The VOC system will significantly improve the operation attractiveness of the vessel in the North Sea and Norwegian sectors going forward as well as virtually eliminate the non-methane VOC released into the atmosphere arising from the vessel's cargo. We're continuing to market the vessel for new time charter employment, but in the meantime to provide support to the partnership, our sponsor, KNOT, has agreed to time charter the Bodil Knutsen, initially on a three-month basis and then on a rolling one-month basis possibly for the remainder of 2021. Slide 5. During July 2021, the Vigdis Knutsen went off hire for 17 days due to an outbreak of COVID on board. Thankfully, this was quickly contained and with no serious ill health close to any of our crew and passengers affected. The Tordis Knutsen is due to undergo her first planned five-year special survey dry docking in the fourth quarter of 2021 and this is expected to be carried out in Europe. The vessel may be off hire for approximately 50 to 55 days, including mobilization to and from Europe, and this is expected to have a scheduled impact on our fourth quarter earnings. Then finally, whilst not impacting on the cash flow of the partnership, to reflect prevailing longer-term market trends, we changed the accounting useful life estimate of our fleet from 25 years to 23 years with effect from 1st of July this year. The non-cash accounting depreciation charge in our future quarters, beginning in the third quarter of 2021, will therefore increase. But if this change does not prevent our vessels from being utilized beyond 23 years, we do not anticipate that this change will have a material impact on our future revenue or cash flow from operations. Slide 6 through 9 are our main financial results and I'll just highlight a few relevant points. For the first quarter of 2021, we were able to maintain revenues broadly in line with previous quarters at $70.9 million. Vessel operating expenses for the quarter were improved compared to the first quarter in which the Bodil Knutsen had its dry dock. Our crew and associated costs such as travel and logistics remain slightly elevated overall due to COVID-related issues, but we continue to expect some of this will fall back over the course of the full year. Adjusted EBITDA on Slide 7 was $52.1 million, another very consistent quarter. In fact, we have reported adjusted EBITDA in the range $50 million to $56 million in every quarter since the beginning of 2018. Prior to that, it is arguable that it was only lower as our fleet was smaller. Distributable cash flow on Slide 8 was a solid 1.32 times in the quarter, and we continue to target stability in our results and in our distribution and our coverage gives us room to maneuver. On Slide 9, I would just note here that now we have entered into our new secured credit facility once this closes, which we anticipate will be in September, then our current liabilities should settle back to a more comfortable figure. Otherwise, we're comfortable with our balance sheet position overall. Slide 10 gives an update on our contracted revenue and charter portfolio. At the end of the second quarter, we had 642 million of contracted forward revenue remaining, excluding options held by our customers. And average remaining charter period of 2.3 years and our customers have options to extend these charters by a further 2.8 years on average. For the Windsor Knutsen, we have seen some unemployment at the vessel in the second quarter, where we are expecting a new charter to commence in September 2021 as outlined above. For Bodil Knutsen we are showing the time charter to KNOT, which is on a rolling basis to allow flexibility for when a third party charter is found and we have introduced here the new charter that is to commence in either fourth quarter of 2023 or the first quarter of 2024. Thereafter, you will see that our remaining fleet is contracted for the remainder of the year. As mentioned the Tordis Knutsen is scheduled for its first planned five-year special survey dry docking in the fourth quarter. We are, of course already discussing with our customers to fill the other gap periods between charters beginning with the Tordis Knutsen, however, we wouldn't necessarily expect to have firm contracts in place at this time. Slide 11, our sponsor KNOT continues to have six vessels that could be acquired by the partnership with an average fixed contract period of 5.3 years and with an average of a further 7.3 years extension options. We have continued to see some robustness in our unit price in recent months, but still today we have no firm plans for acquiring another vessel at this time. However, we are continuing to actively consider our options for later in the year, and our new ATM facility gives us further flexibility for considering accretive acquisitions. And as always, the acquisition by KNOP of any drop down vessels in the future would be subject to the approval of our independent conflicts committee as well as the Board of Directors of each of KNOP and our sponsor KNOT. Slide 12, we have included this graphic previously, but we think it remains informative towards the outlook for our shuttle tanker business in Brazil. And in addition, we have added just a few points that help to demonstrate why we think this growth will arrive. Strong contracted FPSO activity, low breakeven prices, low lifting costs, the strategic focus by our customers on deep water pre-salt areas that require shuttle tanker operations, and importantly but slightly differently, due to the increase in vessel ordering across all elements of shipping recently, this has increased the price of all new build ships, which is favorable for us when offering our existing ships to our customers for re-chartering. Slide 13, this presentation is not really the place for a long educational piece on shuttle tankers, but I always like to put something in here to increase knowledge around what KNOP does and its wider market. This slide is very simple, but I think powerful. You can read for yourself the words issued by Petrobras in May this year, but the opportunities that we expect will come from Brazilian production on many. The Búzios field is one of several developments that are either already in production and/or are scheduled to materially grow their production in the coming years. Slide 14, ESG. Just to note that in the coming days, we will publish our second annual ESG report where much more information will be available. The installation of ballast water treatment systems on board our vessels, the VOC plant to be installed on Bodil Knutsen, or the LNG field shuttle tankers ordered by our sponsor are just a few significant examples of the work we pursue. But we always consider ways in which we can improve our contribution to all the ESG matters, whether it's operations in vessel design in the office or imports, larger or small and we take our responsibilities to ESG seriously. We recognize our impact and work hard with and across a number of networks, organizations, and other entities to not only comply with rules, but steer and lead in areas where we can and target to be best in class, importantly not just on paper, but in real life operational environments. It remains the case that throughout 2020 and to date in 2021, our fleet experienced no serious incidents or casualties. And we review all of our government documents at least annually to ensure they remain fit for purpose and effective. As an MLP we understand the importance of this. Slide 15, our near term priorities for this quarter are to continue to operate our vessels safely and efficiently and look after our offshore and onshore stuff of course, with particular regard as to how the COVID pandemic and vaccination programs develop. We continue to target stability in our results and in our distribution and focus our efforts on securing new near-term charter contracts for the Bodil Knutsen. We're continuing to study the options and possibilities for a further internally financed drop downs later in 2021. As mentioned, we expect to publish our 2020 ESG report shortly. We're preparing for the dry docking of the Tordis Knutsen and of course, we continue our closed dialogue with customers concerning operations and chartering and rechartering to ensure we can respond flexibly to demand opportunities as they arise. Slide 16, so in summary, we have reported another strong and stable quarter with utilization of 96.9% for scheduled operations if Windsor Knutsen is included. Distributable cash flow of 24 million and a coverage ratio of 1.32. We paid a quarterly distribution of $0.52 for the 24th consecutive quarter. We had $642 million of remaining contracted forward revenue excluding options at the end of June. And with strong support from our lenders, we now have no significant refinance due until the third quarter of 2023. We're not going to expose to short-term fluctuations in oil price, volume of oil transported, or the global oil storage capacity and most of the recent effects of COVID on our customers CAPEX schedules have created headwinds for shuttle tanker demand. Other than Windsor Knutsen, Bodil Knutsen, Tordis Knutsen, our fleet remains fully contracted for the remainder of 2021. We continue to firmly believe that in the mid to long term, oil production in Brazil and the North Sea from shuttle tanker service fields will grow significantly. And though we expect to continue to face softness in 2022, the shuttle tanker market’s fundamentals and growth prospects, our liquidity, and our market leading position allows us to remain optimistic for the future. Thank you for listening. That concludes the formal presentation, and I'll be very happy to take any questions.

We will now begin the question-and-answer session. [Operator Instructions]. The first question comes from Liam Burke with B. Riley. Please go ahead.

Thank you. Hi Gary, how are you?

I am very well, Liam. How are you? Nice to hear you.

Fine, thank you. Gary, you've got three vessels in 2022 that are coming off long-term charters that will be rechartered on a longer-term basis. But how do you feel about the near-term charter market for those three vessels as you move into 2022?

Yes. Look, we've already started talking to a number of potential customers for those vessels and some of those discussions have moved past a very light touch. But we're certainly not in a position to say anything firm at the moment. But we're not concerned right now, there's still time. We wouldn't necessarily expect to have contracts in place for those vessels at this moment in time. Obviously, there’s - it's a jigsaw puzzle of fitting our vessels in with what our customers want and need. But yes, at the moment, we're confident that we can find employment for those vessels. It may not be a perfect fit for those periods of time. But yes, we've got inquiries ongoing at the moment.

Great. And you mentioned that you have potentially one drop down in 2021. Again 2022, lots of potential acquisitions from the sponsor. How do you look at the acquisition if any -- if at all the acquisition cadence?

Yeah. I think we managed to do the Tove Knutsen last December. I think at the moment, we would like to be able to do one more vessel either similarly or in a different way by the end of this year if we can. We obviously, as I've said many times before, we won't put the wider business at risk just for a drop, a single vessel drop down or any drop down. And I think we put the ATM in place now, which gives us an extra tool to use if that becomes helpful. And we're also studying whether or not we can in a way replicate what we did for the Tove Knutsen last year with possibly a sale of leaseback of one of our vessels or potentially if the unit price increases there may be an equity opportunity for us to go into the market if the acquisition is accretive. So, we've got a few options. But you're right, in 2022, we - there are more vessels there. I think what KNOP has always been is patient, and I think we have an existing fleet that we need to look after and we will do that first and foremost. And there is no necessity to drop down, although obviously from an evaluation perspective, that's what we'd like to do as an MLP. But I think patience is the key. We've been patient for a few years already, and we managed to do one vessel. Hopefully, we'll do at least one more and then we just take it from there. We see what 2022 brings.

Great. Thank you very much, Gary.

Thank you, Liam.

The next question comes from Richard Diamond with Castlewood. Please go ahead.

Yes. Good morning, Gary, or good afternoon.

Yes. Hi, Richard.

We assume that the increase of 12% in the cost of a tanker new building is also applicable to new shuttle tankers or could the price of a new shuttle tanker even be higher?

I think you could probably read across from tankers into shuttle tankers. I think there have been no new orders placed recently. And actually, there are hardly any slots available now for at least a couple of years delivery. So -- but no, you're right. I think the cost of a newbuild shuttle tanker would read across from the general market.

Secondly, do you have any updates on a potential investor meeting in 2021 or early 2022?

Yes. We've got a tentative date in early October penciled in. And I hope once we've got this Q2 out of the way and finished that we will be able to turn our attentions to that and get something out there in terms of notice to period -- to people very shortly. So yes, watch this space, we are hoping for -- we're targeting for October.

Well, and lastly, one of your competitors has challenges from -- in their business model, not from their shuttle tankers, but from their SFOs that are problematic. Does that impact the competitive dynamics in the marketplace at all?

Yeah, that's a very good question. I would say not. I think at the moment, I don't see that happening, I don't see that impacting our market dynamic too much. I think, obviously, volatility around our industry and around our business is actually not good for anybody. But no, I think at the moment, we wouldn't necessarily expect that to have an impact on our business.

Thank you very much, Gary. You had solid quarter and you have KNOP always seems to deliver. Thank you.

Yes. Thank you, Richard.

The next question comes from Jim Altschul with Aviation Advisory Service. Please go ahead.

Good afternoon.

Hi, Jim.

Thanks for taking my question. Couple of questions. First of all, excuse me, one minute. Sorry, I got a little something in my throat. The first question I was asking about [Technical Difficulty]. But looking at the chart, it seems that all the ships for which the firm charter period ends next year, except for those going to go into dry dock, there is an option period for the charter. Are you in discussions both with the current charters have the option and other potential customers if the current charter chooses not to exercise the option?

Yeah, very much said, Jim. I mean, our market is very small. There's probably three suppliers and maybe a dozen customers. It's quite a well-known market to those players involved. And it's a moving target all the time. So where customer doesn't want a vessel one week, you may go back the next week and their trading strategy or they've had a problem on another vessel and suddenly they do want the vessel. So it's a moving target. But in terms your question, we are talking with all of our customers all of the time.

Okay. Next, if I am reading this chart correctly I guess, next for all or part of next year, you'll have four ships in dry dock. Am I reading that right, Bodil, Tordis, Vigdis?

Yes.

Is that kind of, what kind of an impact is that going to have on your results?

Well, those…

You may have asked this question, anyway.

Yeah, no. It is a fair question and the dry dock does have an impact and definitely, obviously there's enough higher period. The cost is sort of built up in advance so that we've got cash to pay for that dry dock, but it does impact our revenue to a degree because of the fact that the vessel is off hire for a period of time. So, I think it's scheduled, that obviously has to be done. The work has to be performed for the vessel to remain functioning. So I think yes, it will have an impact, but like with all of our dry dock it sort of skims off the top a little bit, it doesn't sort of exposes to crazy losses or anything. It's usually -- if the dry dock is in Europe and it is a Brazilian vessel then it is 50, 55 day off high period?

Okay. And one more if I may. Looking at the distributable cash flow sure, in the first half of this year, first two quarters, the estimated maintenance and replacement capital expenditures are significantly not dramatically but significantly higher than the last three quarters of last year. Why was that and do you have any outlook as to what the trends like to be in those expenses?

Yes. That line in the distributable cash flow it depends on there are two main drivers there, underneath that number or probably three main drivers. The first one is the original vessel costs, the second one is the average age of the fleet, and the third one is interest rates because actually it's an annuity discount calculation underlying that number. So you will generally find that as the fleet ages, that number goes up. So I think what you're seeing there between 2020 and 2021 is the aging of the fleet. We recalculate once a year but also, as I mentioned the preferred element there is vessel cost and obviously in 2021, we've got one extra vessel as well.

Okay. This has been very helpful. Thank you very much.

No problem, Jim. Thank you.

[Operator Instructions]. The next question comes from Robert Silvera with R.E. Silvera & Associates. Please go ahead.

Thank you Gary for taking my call. The first item I'd like to talk about is on your total operating expenses. I am right I think in assuming that the comp write down of 29 million for 2021 [ph] is included in that top total operating expense number for the quarter -- up 44 million to 72 million, it is approximately 30 million so, I assuming that that write down is included in that total operating expense number.

Correct, yes, yes. The 29,421 is included in the 72,138.

Okay, that makes more sense then. And the second question I had is, could you give us some more color on why you play in place this ATM for about 100 million and the reason I say that is, if you were to sell 100 million of units and assume $18 sale price, which is approximately where we are now, you would in effect be paying 12% for that money because for every share, obviously that you sell, you're going to have $2.08 of dividend cost. And so could you give me some reason why with a 1.32 cover you feel the need to put that 100 million in place?

Yes, I mean just bear mind Robert, first of all, I need to direct you to the filings. But the 100 million isn't actually drawn equity. It's just a facility. It's a potential for us to issue units.

Yeah, I know but you'd be selling at an $18 price. You'd be selling sufficient numbers of units to get to the 100 million, correct?

I think we've put in place is a facility like where we today we haven't sold into the facility. And we won't do so unless it makes sense to do that. So I think that's probably the short answer to what you're saying. Well, the reason we've done it is because it gives us extra flexibility if in the future we do want to raise equity finance through the market.

So, it's just in case you find a good reason…

Yes, that's right.

Now you've been talking about possibly at the end of the year getting another drop down. Would this be employed to pay for the drop down, something like that?

Only if the numbers work. We know we put the item in place as a tool and to give us optionality but we're not making any comment about whether we will or won’t use it.

Very good. But it hangs like a kind of Damocles sword over the price of the stock. In any case…

I would just say Robert that lots peers have got these in place, and it's really just as I say, it gives you the option. It's no more than that.

Yes. I understand. But when those options are exercised then the share count goes up and can be significant at times and affects the overall depending on the condition in terms of the business at the time, it can affect the price of the stock in the marketplace. But anyhow as far as…

It can, but I think just to be clear, we will only be doing something regardless of whether it's through an ATM or not, we would only be doing something if it was accretive.

Okay, good. I trust you, that's what you've done in the past. So, anyhow I needed a little clarity on that. Now, as far as the common units are concerned, quarter-over-quarter, you went up by about 90,000 common units. And can you give us a little clarity without me digging deeply into your 10-Q, where those shares came into existence, for what purpose, were they options exercised or…?

It was one of our private preferred unit holders converted some of our units into common units. That’s why preferred number of common units have gone up.

And that's coming from those convertible preferred?

Yes. So you'll see the number of preferreds have going down and the number of common has gone up.

Just out of curiosity, I can't look at it right now, but how many of those do we have left, the preferreds?

Sorry. The number I don't have, sorry, give me one minute and I will tell you. Yeah. Sorry, Robert I don't have that number to hand, but I can send it to you. I can let you know.

Well, okay. Obviously, they feel good about this, security of the dividends if they want to go from the preferred to the common units. In case now, the other question I have is, we have 1.32 coverage ratio, which dropped a little bit from the past because we were up 1.5 in the past. Have you thought about eliminating at a more rapid pace some of the debt rather than increase the dividend, which I think is great idea, you just keep it where it is, but take this extra coverage and accelerate debt reduction because LIBOR and those kinds of things at some point, depending on what this crazy United States is doing with its dollar interest rates may just absolutely have to go up unless we turn into a republic [ph]. So I think anticipating in the future that interest rates could rise significantly, reducing debt would seem to me a very smart move relative to extra coverage money, what do you have to talk about that?

I mean at the moment we quite like our coverage. It gives us the flexibility quarter-by-quarter to the extent we have any off hire for vessels, etcetera. And the distribution that we're paying we think is a fair rate today. We like [Multiple Speakers]. But no, I think we already pay down our debt pretty quickly, actually. And at the moment, we're not really looking at accelerating that any further.

Are we ahead of depreciation rate? Well ahead of depreciation rate and paying down debt?

It's not a simple question to answer but a little bit yes. Yes. We tend to have 20 year tenants on our debt. And obviously, our useful life depreciation is now 23 years.

Okay. Thank you Gary. Good job. [Multiple Speakers]. Okay, thank you.

We will get through. Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Gary Chapman for any closing remarks.

Thank you everybody for listening to the call and being interested in KNOP, and I wish you a very good day. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.