This week at Durig Fixed Income 2 (FX2) we look again to a company that provides essential heating to many rural households across the U.S. We first reviewed Ferrellgas in September 2015 and again in September 2016 and most recently in May 2017. The company’s fiscal Q3 results were recently posted and reveal a company who continues to make headway, in spite of its misgivings with Mother Nature.
Revenues increased (albeit slightly) in its latest quarter, despite the winter season being 20% warmer than normal.
While total revenues increased, expenses decreased – from 9% to 18% – over the previous year’s period.
Q3 interest coverage came in a 1.8x.
- The company continues to grow through accretive acquisitions of smaller, regional suppliers.
Jim Ferrell, one of the members of the company’s founding family, continues to head up the country’s second largest propane supplier, and under his direction, the company has refocused on its core strengths again and is executing well. Ferrellgas 2020 bonds, couponed at 8.625, mature in a short 34-months and have a yield-to-maturity of over 13%. For investors who are prepared for the seasonality in revenues, these bonds make an excellent addition to a diversified portfolio. We have marked these bonds for additional weighting in our Fixed-Income2.com (FX2) global high yield income portfolio. The most recent performance of our managed FX2 portfolio is shown below.
An Update Since Our Last Review
Our last review of Ferrellgas Partners was in May 2017, which included the company’s fiscal Q2 quarterly results for the three months ending January 31, 2017. Since that time, the company has released its fiscal Q3 results for the three months ended April 30, 2017. The good news is that Ferrellgas grew revenues year over year. Total revenues for fiscal Q3 were $538.1 million versus $509.5 million in the prior year period. This is great news, especially considering the the fact that this past winter season in the United States was 20% warmer than normal.
In addition to increased revenues, Ferrellgas also successfully reduced its operating expenses as well as its general and administrative expenses. Operating expenses for the quarter were $104.7 million versus $115.1 million, a decrease of $10.4 million or 9%. General and Administrative expenses also decreased from $12.3 million a year ago to $10 million in the current quarter – a decrease of 18.6%.
Although Ferrellgas has had challenges the past few years due in large part to the warmer winters in the United States, the fact that the company is still increasing revenues and become more operationally efficient is a testament to solid management.
Continued Growth Through Smart Acquisitions
In its 80-year history, Ferrellgas has grown significantly through acquisition. The propane dealer space has many small regional dealers that have solid and repeating business from their customers. Ferrellgas’ acquisition of these types of smaller retailers has been a key element of its growth. The company has done a masterful job integrating the newly acquired suppliers into their overall company structure, controlling costs and applying company synergies quickly and effectively. The company has continued this strategy in 2017, acquiring at least three additional regional suppliers – two in Tennessee and one in Southern California. These acquisitions have been immediately accretive for the company, with the newly acquired dealers contributing additional revenues from the date of acquisition.
About the Issuer
Ferrellgas is a leading U.S. distributor of propane and propane related equipment. The company is based in Overland Park, KS and currently employs nearly 4000 people nationwide. In Ferrellgas’ 80-year history, the company has grown primarily through acquisitions, purchasing more than 240 businesses. The company also provides oil and gas midstream services to major energy companies in the United States through its two midstream segments, Sable Environmental (acquired in May 2014) and Bridger Logistics (acquired June 2015). The company also generates sales from portable tank exchanges, nationally branded under the name Blue Rhino, through a network of independent and partnership-owned distribution outlets. Its residential and agricultural customers generally live in rural areas, whereas its industrial/ commercial and tank exchange customers generally reside in more urban areas.
The Propane Industry
Presently, the propane industry is made up of a few big players and many smaller players, mostly small, regional suppliers. Today, Ferrellgas comes in as the second largest propane distributor in the United States, with operations in all 50 states. Propane has a wide range of uses beyond what most people consider – backyard grilling and portable cook stoves. Farmers use propane for irrigation pumps, grain dryers, standby generators and other farm equipment. It is an essential fuel for crop drying, flame cultivation, fruit ripening, space and water heating and food refrigeration. Millions of families nationwide also use propane daily for furnaces, water heaters, cooktops, outdoor grills, fireplaces, generators, and other appliances. In rural areas of the country, propane distribution, by nature, is usually a geographic monopoly, meaning there is usually only one distributor in an extended rural area. Ferrellgas has used this to its advantage, actively acquiring and continuing to solicit regional propane suppliers / distributors who might be interested in selling their operations. This strategy has paid off, making Ferrellgas the second largest propane distributor in the nation.
(Source: LPGasMagazine.com- partial list of Top 50 Propane Retailers)
Staying the Course on Bridger
Ferrellgas’ entered into the midstream oil and gas services in 2015 with its acquisition of Bridger Logistics. This ultimately resulted in a large impairment charge when a key contract was written off by Ferrellgas last year. Fast forward to the present day, and Ferrellgas continues to uphold its commitment to Bridger Logistics. In its latest earnings call, Jim Ferrell, Chairman of Ferrellgas indicated that in the Permian Basin (Texas), that Bridger is “probably the largest trucking hauler” but also acknowledged the intense competition in that space. He also reiterated his support of the management team at Bridger as they work diligently to put idle assets back to work.
Interest coverage is of particular interest for a company’s bondholders as it indicates the company’s ability to pay bond interest when payments come due. For its latest reported quarterly results (for the three months ended April 30, 2017), Ferrellgas had operating income of $71.9 million (without non-cash Depreciation and Amortization expense). The company’s interest expense for the quarter was $39.9 million for interest coverage of 1.8x
Ferrellgas has also continued to pay its unitholders a quarterly distribution. The company recently declared a Q3 cash distribution of $0.10 per common unit. While these distributions do not affect bondholders, bondholders should be encouraged as this dividend level provides an extra cash cushion in the event the company experiences quarterly volatility in its cash flows.
The default risk for bondholders is directly related to Ferrellgas’ ability to grow the company and increase revenues in spite of the warmer winters the U.S. has experienced the past few years. On the positive side, total revenues increased in this latest quarter, despite the warmer winter weather. Another positive is the company’s increasing efficiencies, evident by its reduced expenses. The company also has solid interest coverage for its bondholders, as well as a continued quarterly distribution which is an extra cash cushion for bondholders if cash flows from operations decreased sufficiently. Given these factors, the excellent 13+% yield-to-maturity on these June 2020 bonds appears to outweigh the risks identified.
Ferrellgas’ revenue stream from the sale and distribution of propane varies throughout the year due to seasonal temperature changes. There is increased demand during the winter months (for heating residential and commercial buildings). As a result, the company’s revenues are higher during the second and third fiscal quarters (which occur during peak winter months). One of the ways Ferrellgas levels these revenues during other times of the year is through its portable tank exchange propane sales through its Blue Rhino division. These sales provide increased operating profits during the company’s first and fourth fiscal quarters due its counter-seasonal business activities.
In general, bond prices rise when interest rates fall and vice versa. This effect tends to be more pronounced for lower couponed, longer-term debt instruments. Any fixed income security sold or redeemed prior to maturity may be subject to a gain or loss. Higher yielding bonds typically have lower credit ratings, if any, and therefore involve higher degrees of risk and may not be suitable for all investors.
Summary and Conclusion
Many rural homes across the country still rely on propane gas for their heating needs during the winter months. Although Ferrellgas’ revenues reflect this seasonality, this is still an essential need for those families and farms that rely on propane during the winter months. The fact that Jim Ferrell has stayed on at the helm for almost the past year is also a positive for the company. Under his direction, the company has increased its operating efficiencies, as evidenced by its expense reductions in this latest quarter. The company’s 2020 bonds are currently selling under 90, indicating a current yield to maturity over 13%. For investors who can appreciate the essential service provided by Ferrellgas, these bonds offer both great cash flow and high yield to maturity. Therefore we are targeting these bonds for additional weighting in our FX2 high yield fixed income portfolio.
Issuer: Ferrellgas Partners LP
Ratings: Caa2 / CCC+
Yield to Maturity: ~13.07%
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Disclosure: Durig Capital and certain clients may have positions in Ferrellgas 2020 bonds.
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