SPH - Suburban Propane: M&A Rumors Boost Stock Price Maintain Hold

2023-11-16 06:29:04 ET

Summary

• Suburban Propane Partners' business fundamentals continue to be weak, with dil. EPS declining 12% YoY.
• The stock's recent surge could be due to unsubstantiated rumours of a potential M&A transaction with another large industry player.
• Without any concrete news on the M&A front and the potential for another warm winter, I remain cautious on Suburban and maintain my hold rating.

In September, I downgraded Suburban Propane Partners L.P. (SPH) after reviewing the company's fiscal third quarter results. Operating cash flows for Suburban had declined significantly since I first covered the company, from $3.58 / share in 2021 to $3.31 / share in the last twelve months to June 30, 2023, as SG&A crept higher and the company had to fund a money-losing renewable natural gas ("RNG") business.

In hindsight, my downgrade was ill-timed, as the company promptly rallied higher by ~20% after my downgrade (Figure 1).

With the company recently reporting its fiscal year-end results, I wanted to take the opportunity to review Suburban's financials and recent developments to see if there was something I missed that led to the surge in the stock price.

Brief Company Overview

Suburban Propane Partners, L.P. ("Suburban") is a Master Limited Partnership ("MLP") that operates in the marketing and distribution of propane, renewable propane, renewable natural gas ("RNG"), fuel oil, and other refined fuels to retail and wholesale customers. Suburban operates in 41 states and serves more than 1 million residential, commercial, industrial and agricultural customers through approximately 700 locations.

The propane marketing and distribution business is highly fragmented with over 5,000 independent propane retailers. Suburban, through its vast network of branches and delivery trucks, commands a 4% market share, good for a 3rd place in the industry (Figure 1).

Readers who want to learn more about the propane distribution industry should consult my initiation article or Suburban's latest 10K report.

Could M&A Be The Reason For Stock Pop?

When I saw Suburban's stock rocket higher in late September / early October, my initial thought was that the company was involved in an M&A transaction, or the company's fiscal fourth quarter results were leaked.

On the M&A front, the only news I could find was that UGI Corporation (UGI), a Marcellus-based midstream company, was conducting a strategic review of its troubled AmeriGas subsidiary. From Figure 1 above, we can see that AmeriGas is the largest propane distributor in the U.S. by a wide margin. If AmeriGas is in play, then it is reasonable to expect top industry players like Suburban and Brookfield-backed Superior Plus (SPH:CA) to be interested.

However, to date, nothing has been announced by UGI or Suburban, so it is just unsubstantiated rumors at this point.

Financials Continue To Be Soft

With respect to Suburban's financials, the fiscal fourth quarter was seasonally soft, inline with the rest of 2023's results, and was not supportive of the stock's surge.

Total revenues for fiscal 2023 declined 4.8% to $1.43 billion (Figure 2).

Retail propane gallons sold declined 1.2% YoY to 396.4 million gallons, primarily on the back of unseasonably warm temperatures during the winter heating season. However, total gross margins increased 6.3% YoY to $839.0 million in fiscal 2023 after adjusting for the impact of derivatives used for hedging purposes.

Unfortunately, higher gross margins was not able to fully offset the step-up in operating and G&A expenses, which caused adjusted EBITDA to decline 5.5% YoY to $275.0 million. Diluted EPS likewise declined 11.9% YoY to $1.92 / share for fiscal 2023.

As we have highlighted in our prior article, the main driver of lower operating income for Suburban in 2023 has been the runaway growth in expenses, with operating expenses growing 8.1% YoY to $478.1 million while G&A expenses grew 12.0% YoY to $91.6 million.

This is mainly because Suburban acquired a nascent RNG business in December 2022. As revenues have yet to ramp up but employees have to be paid, the result has been a drag on Suburban's financials in fiscal 2023.

Distribution Maintained But Coverage Weakened

For the 10th quarter in a row, Suburban's quarterly distribution has been maintained at $0.325 / share, which annualizes to a 7.7% forward yield. Suburban's distribution was cut in the early days of the COVID pandemic and has not been restored to its previous level (Figure 3).

However, investors should note that YoY, Suburban's earnings coverage of its distribution has weakened, as dil. EPS has declined to only $1.92 / share.

Are We In For Another Mild Winter?

As the author can personally attest, Fall 2023 has so far been extremely mild, with temperatures far warmer than seasonal for October and now early November.

North Americans can thank the current El Niño effect for our nice Fall weather, as El Niño tends to cause areas in the northern U.S. and Canada to be dryer and warmer than usual (Figure 4).

According to the National Weather Service , "temperatures through the month of October [for the U.S.] were around a half degree above normal. Precipitation through the month of October was around an inch and a half below normal" (Figure 5).

If this weather pattern persists into the winter, Suburban could be looking at yet another warmer than seasonal winter heating season, which could translate into lower propane sales volumes.

Conclusion

Overall, I continue to rate Suburban Propane a hold due to the deteriorating business fundamentals from higher expenses and the potential for a warmer than seasonal winter heating season. Suburban's 7.7% distribution yield looks attractive, but SPH's earnings coverage is significantly weaker with a YoY decline in earnings.

While the prospect of a potential M&A deal with AmeriGas is intriguing, so far we have only seen unsubstantiated rumors and a run-up in Suburban's stock price. There is simply not enough information for investors and analysts to hang their hat on.

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