TEXT-S&P raises SemGroup rating to 'B+'

Tue May 29, 2012 3:28pm EDT

Overview	
	
     -- U.S. midstream energy company SemGroup has reduced debt while
modestly improving its business risk profile, primarily through the sale of its 	
wholesale propane business.	
     -- We are raising our corporate credit rating on the company to 'B+' from 	
'B'. We are also raising our issue-level rating on the company's senior 	
secured revolving credit facility to 'BB-' from 'B' and revising the recovery 	
rating on this debt to '2' from '3'.	
     -- The stable rating outlook reflects our view that SemGroup will 	
maintain adequate liquidity, keep financial leverage below 4.0x, and continue 	
to successfully execute its organic growth projects.	
	
Rating Action	
On May 29, 2012, Standard & Poor's Ratings Services raised its corporate 	
credit rating on U.S. midstream energy company SemGroup Corp. to 'B+' from 	
'B'. The rating outlook is stable. At the same time, we raised our rating on 	
the company's senior secured revolving credit facility to 'BB-' from 'B'. We 	
revised the recovery rating on this debt to '2' from '3', based on recent 	
changes to the capital structure leading to a higher secured recovery value. 	
The '2' recovery rating indicates that secured lenders can expect substantial 	
(70% to 90%) recovery if a payment default occurs. As of March 31, 2012, 	
SemGroup had total balance sheet debt of about $124 million.	
	
Rationale	
The upgrade reflects SemGroup's lower financial leverage coupled with a modest 	
improvement in its business risk profile. The company paid off its $75 million 	
term loan A and $200 million term loan B with proceeds from the divestiture of 	
its SemStream assets (wholesale propane distribution) and the IPO of master 	
limited partnership (MLP) Rose Rock Midstream L.P. (Rose Rock).	
	
SemGroup's "weak" business risk profile under our criteria reflects the 	
company's small scale and modest commodity price exposure. In our view, the 	
company's formation of Rose Rock partially offsets the benefits it achieved 	
from deleveraging because the MLP is incentivized to pay out most of its cash 	
flow after maintenance capital spending to unitholders each quarter. SemGroup 	
owns 100% of the general partnership and 57% of the limited partnership 	
interest in Rose Rock. Further, we view the November 2011 sale of the 	
SemStream assets to NGL Energy Partners as credit enhancing due to the 	
commodity price sensitivity inherent in the wholesale propane distribution 	
business that makes it difficult to forecast future cash flows.	
	
In our base-case forecast, we assume margins associated with the SemGas and 	
Crude operations will remain strong due to favorable market conditions in the 	
Mid-Continent region. At the same time, we expect a 10%-15% drop in volumes at 	
the SemCAMS unit from 2011 as low natural gas prices leads to reduced demand 	
for sour gas processing services. As a result, we anticipate SemGroup's 2012 	
debt to EBTIDA and EBITDA interest coverage ratios to be conservative for the 	
rating, around 2.0x and 9.0x, respectively. However, we expect leverage to 	
gradually increase to about 3.5-4.0x as management pursues growth 	
opportunities over the next few years.	
	
SemGroup filed for bankruptcy protection in June 2008 after wrong-way trades 	
in crude oil hurt its trading operations, and the company was under 	
considerable pressure to post margin. SemGroup emerged from bankruptcy in 	
December 2009 after it retooled its business model to focus on fee-based 	
operations, and the successor company has virtually no financial exposure to 	
the ongoing bankruptcy proceedings. The new management team has stated that 	
the company will refrain from speculative-trading activity, and will use 	
financial derivatives solely to hedge underlying commodity exposure.	
	
SemGroup owns, operates, and develops midstream energy assets that provide 	
gathering, processing transportation, and storage services for natural gas, 	
natural gas liquids, and crude oil products. The company generates around 85% 	
of its gross margin from fixed-fee, predominantly volume-sensitive, contracts. 	
SemGroup operates in three commodity-driven businesses: NGL and natural gas, 	
crude oil, and products, which represent about 35%, 50%, and 15% of SemGroup's 	
2011 EBITDA, respectively.	
	
In December 2011, SemGroup contributed its Crude assets (excluding the White 	
Cliffs pipeline) to Rose Rock. The crude oil business generates relatively 	
stable cash flows mainly due to the take-or-pay nature of its pipeline and 	
storage contracts. We expect above-average operating performance in 2012 in 	
part as a result of the high price of crude, which benefits Rose Rock's 	
marketing efforts. In addition, we expect the company to realize cash flow 	
generated from 1.95 million barrels of oil (mmbbl) of new-build, 100% 	
contracted, Cushing-based crude storage by mid-2012. Finally, SemGroup has a 	
51% ownership interest in the White Cliffs pipeline, a 70,000-barrels-per-day 	
crude oil pipeline that the Federal Energy Regulatory Commission regulates. 	
The pipeline benefits from medium-term take-or-pay contracts, while the 	
Kansas- and Oklahoma-based gathering lines are subject to volume risk. The 	
company also uses a small amount of storage capacity for proprietary purposes, 	
allowing it to generate some profits during contango market conditions.	
	
Most cash flow in the natural gas liquids (NGL) and natural gas business comes 	
from the company's fee-based sweet and sour gas gathering and processing 	
services in Alberta. Although SemGroup benefits from a relatively entrenched 	
customer base that lacks alternatives, we expect cash flows to decline in 	
2012. When sour gas processing economics are weak, as in the current 	
environment, asset utilization levels tend to be low. In this business, 	
SemGroup also gathers and processes natural gas for producers in the 	
Mid-Continent region under mostly percentage-of-proceeds and 	
percentage-of-index contracts. We consider this aspect of SemGroup's business 	
to be the most volatile given that the company does not hedge its long 	
exposure to natural gas and NGLs. Therefore, these cash flows will fluctuate 	
as commodity prices change.	
	
In the product business, the company maintains 8.7 million barrels of 	
above-ground storage tanks in addition to two deepwater jetties in the U.K. 	
Refined products, including gasoline, jet fuel, and diesel, are delivered to 	
the tanks, stored, and redelivered via ships to Europe, the U.S., and Africa. 	
The business generates cash flows from volume-sensitive, fee-based contracts. 	
Recently, the high price of Brent crude and backwardated market conditions has 	
resulted in lower demand for storage, which will hurt the company's EBITDA in 	
the near to medium term. 	
	
Liquidity	
Liquidity is "adequate" under our criteria, with sources exceeding uses by 	
about 1.2x during the next 12 months. The company's primary sources of cash 	
include $80 million of forecast funds from operations (FFO), $100 million of 	
availability under SemGroup's $300 million revolver, and $100 million of 	
availability under Rose Rock's $150 million revolver. We expect SemGroup's 	
main use of cash will be for growth and maintenance capital spending between 	
$180 million to $200 million and distributions of around $25 million. SemGroup 	
has no significant debt maturities until the revolvers come due in 2016.	
	
Financial covenants on SemGroup's revolving credit facility include a minimum 	
interest coverage ratio of 2.5x and a maximum total leverage ratio of 4.5x. As 	
of March 31, 2012, SemGroup was in compliance with these covenant test levels, 	
and we expect the company to remain in compliance through 2012.	
	
Recovery analysis	
The rating on SemGroup's senior secured debt is 'BB-' (one notch above the 	
corporate credit rating), and the recovery rating is '2', indicating our 	
expectation that lenders would receive substantial (70% to 90%) recovery if a 	
payment default occurs. (For the recovery analysis, see the recovery report on 	
SemGroup to be published shortly.)	
	
Outlook	
The stable rating outlook reflects our view that SemGroup will maintain 	
adequate liquidity, with a ratio of debt to EBITDA below 4.0x, and will fund 	
growth projects in a balanced manner. We could consider an upgrade over time 	
if the company grows its size and diversity while maintaining current leverage 	
metrics. We could lower the rating if one or more of the company's business 	
segments underperforms, or if the company primarily uses debt to finance an 	
acquisition or growth-related capital spending, such that debt to EBITDA 	
exceeds 4.5x	
	
Related Criteria And Research	
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011	
     -- Rating Criteria For U.S. Midstream Energy Companies, Dec. 18, 2008	
Ratings List	
	
Upgraded; Recovery Rating Revised	
                                        To                 From	
SemGroup Corp.	
 Corporate Credit Rating                B+/Stable/--       B/Stable/--	
 Senior Secured                         BB-                B	
   Recovery Rating                      2                  3	
	
Not Rated Action	
                                        To                 From	
SemGroup Corp.	
 Senior Secured	
  US$200 mil sr secd term B bank ln     NR                 B 	
  due 06/17/2018                        	
   Recovery Rating                      NR                 3	
  US$75 mil sr secd term A bank ln due  NR                 B 	
  06/17/2016                            	
   Recovery Rating                      NR                 3
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