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