SM Energy Q1 2023 Prepared Remarks Earnings Call Transcript

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April 28, 2023

There are 3 speakers on the call.

Operator

Good afternoon, and welcome to SM Energy's First Quarter 2023 Results Webcast. Before we get started on our prepared remarks, I remind you that our discussion today will include forward looking statements. I direct you to slide 2 of the accompanying slide deck, Page 5 of the accompanying earnings release and the Risk Factors section of our most recently filed 10 ks, which describe risks associated with forward looking statements that could cause actual results to differ. We will also discuss non GAAP measures and metrics, definitions and reconciliations of non GAAP measures and metrics to the most directly comparable GAAP measures and discussion of forward looking non GAAP measures can be found in the back of the slide deck and earnings release. Today's prepared remarks will be given by our President and CEO, Herb Vogel and our CFO, Wade Purcell.

Operator

I will now turn the call over to Herb.

Speaker 1

Thank you, Jennifer. Good afternoon and thank you for your interest in SM Energy. Turning to Slide 5. We are off to a solid start in 2023. I'm pleased to report that Q1 results demonstrate progress on all our core objectives.

Speaker 1

Our discussion today is relatively brief as we are delivering exactly what we said we'd do. Our first strategic objective is to deliver an increased return of capital to stockholders. We repurchased 1,400,000 shares during the Q1. If I add share repurchases to dividends paid, the total capital return to stockholders amounted of $58,000,000 during the quarter. This is 116% of adjusted free cash flow as we took advantage of share price volatility and what we believe to be a notably undervalued stock.

Speaker 1

We announced our increased dividend and share repurchase program last September and since that time have returned a total of $134,000,000 to stockholders, an approximate 4% yield of market cap paid out over about 8 months. Our second strategic objective is operational execution. Production exceeded guidance primarily due to outperformance in South Texas, including a 7 well pad that came on early and came on strong. Excellent execution includes advancing our ESG initiatives and one example is reduction in flaring. I'll highlight some of what we're doing operationally in a few minutes.

Speaker 1

Our third objective is replacing and building our inventory. I will reiterate that SM has among the highest quality and longest duration inventory among similar sized peers. So we pursue inventory growth organically and cost effectively. During the quarter, We added about 6,300 net acres in the Midland Basin through a couple of transactions that totaled around $10,000,000 And in addition, our geosciences team continues to evaluate new zones and new ideas. I will now turn it over to Wade to highlight some of our Q1 results.

Speaker 1

Wade? Thanks, Herb, and good afternoon.

Speaker 2

I'll start on Slide 6 and hit the highlights. 1st quarter results overall were better than expectations. Oil production and total production exceeded the high end of guidance, fueling a very solid quarter. Other light items were generally as expected with the exception of capital expenditures, which came in less than guidance. This was predominantly due to timing, including the ability to modify the South Texas program to extend the lateral length of 4 wells.

Speaker 2

Our overall inflation assumptions were in line with our expectations. We're seeing certain costs improve such as diesel And seeing other costs flattening out. There appears to be a slight decline in industry activity rigs, down 3.3% since year end, driven by Haynesville down 11% and rigs seem to be plateauing. On the pressure pumping side, activity seems to be stable in the Permian with evidence that the frac spread count is declining in the Haynesville. We modified the plan in South Texas to now drill 4 wells averaging 11,700 foot laterals instead of 4 previously planned 5,000 foot wells to better optimize capital efficiency.

Speaker 2

While notably improving capital efficiency, it changes timing in the drilling to longer laterals will take into the 2nd quarter. As Herb mentioned, capital also included $10,000,000 for acquisitions of Midland Acreage. This aligns with our efforts in the Rockstar area where we have successfully made acreage trades and bolted on positions that significantly increased our working interest from around 65% back in 2016 to 85% currently, and we will continue to look at these opportunities. We generated $50,000,000 in adjusted free cash flow Despite a notable decline in natural gas prices, supported by about 60% liquids production and 33% of natural gas volumes hedged in the quarter. And as Herb said, we returned $58,000,000 to stockholders during the quarter.

Speaker 2

We have emphasized that our capital return program was designed to offer Sustainable fixed dividend, which is now about 2% yield with upside through share repurchases. This structure enables us to have flexibility to take advantage of stock price movements, which we did in the Q1. Skipping to Slide 8, this flexibility is further supported by our low leverage and strong cash position. At quarter end, net debt to adjusted EBITDAX was flat at 0.6 times and net debt was $1,100,000,000 including nearly $500,000,000 cash after returning $58,000,000 to stockholders. Moving to slide 9, overall liquidity was reinforced by our bank group In the spring redetermination of our credit facility, our borrowing base was reaffirmed at $2,500,000,000 With commitments maintained at $1,250,000,000 This was despite the banks using significantly lower commodity prices than those used 6 months ago for the last redetermination, which speaks to the very high quality of our assets.

Speaker 2

So I would say that we're very well positioned to deliver a solid yield to our stockholders through the coming year, which brings me to guidance on Slide 10. We're on track for our full year plans and have no changes to guidance. In maintaining our full year capital guidance, we are assuming lower first quarter capital, which predominantly related to timing And we are keeping our inflation assumptions in place. We are proactively working with providers across components to take advantage of improved cost when and where we can, while at the same time maintaining our high quality equipment and crews. For those of you looking by quarter, Slide 11, We expect to see a small uptick in total production in the 2nd quarter from the Q1 to 13,300,000 to 13,500,000 BOE or 146,000 to 148,000 BOE per day.

Speaker 2

Capital is expected to include 17 net wells drilled and 22 net flowing completions with expected capital spend to range between $295,000,000 to $315,000,000 As mentioned last quarter, capital is weighted more heavily to the first half of the year. LOE ran under guidance in the Q1. We expect 2nd quarter to track with the guidance range as we anticipate more workovers I would keep an eye on Permian natural gas prices. April averaged less than $1 per MMBtu for the month. May June are also trading around $1 per MMBtu.

Speaker 2

Couple of things to note, nearly 20% of our Midland gas in the 2nd quarter is hedged to the regional price point and Midland Gas accounted for only 9% of revenue in the Q1. I would summarize all of this by saying again that despite the fall in commodity prices, especially natural gas, excellent execution resulted in $401,000,000 of EBITDAX, $50,000,000 of adjusted free cash flow, dollars 1.33 per diluted common share adjusted EPS and $58,000,000 returned to stockholders. This is clearly a result of having top tier assets, which again were confirmed by our bank group during the quarter with their agreement to maintain our borrowing base at $2,500,000,000 Despite the large decline in commodity prices from their last redetermination 6 months ago. So with that, I'll now turn it back to Herb to walk through a few highlights from the field. Herb?

Speaker 1

Thank you, Wade. I'd like to walk through a couple of slides for each of the Midland Basin and South Texas with a light touch that underscore the quality of our assets and some of the great work our team is doing. Skipping to Slide 14. The chart on the left updates a slide we presented last quarter that compares Average oil production performance in Howard County to that of our peers. The chart represents wells completed between January 2021 January 2023.

Speaker 1

The lower black line represents the average cumulative oil performance from the peer group of 15 operators in Howard County with 10 or more completions and the upper blue line is the average of SM wells. The SM average outperforms the peers assuming normalized lateral lengths producing 32% more oil as updated through the 1st 20 months on production. Similarly supporting the strong outperformance of SM Wells It's the chart on the right based on RISAT data that indicates SM has the lowest average breakeven price among 12 Permian peers presented in the data. Combined, these figures simply reinforce what we have talked about in the past, How our data driven and advanced analytical approach delivers optimized well performance. Our team's focus on co development via horizontal and vertical spacing and best in class completion designs does pay off well as you can see here.

Speaker 1

Turning to Slide 15. During the Q1, we drilled a 5 well pad located in Swadipek with average 15,000 foot laterals, co developing the Middle Spraberry, Lower Spraberry, Dean and Wolfcamp B. In this case, we drilled approximately 75,000 feet of laterals 20 days faster than planned, resulting in $1,600,000 in savings. In January, we also finished drilling 2 pads for a total of 5 wells located in the Marico MAX area. These 5 wells totaled 89,500 lateral feet and co developed the Lower Spraberry and Wolfcamp Bay.

Speaker 1

In this case, we drilled these 5 approximate 18,000 foot lateral wells in 73 days versus planned at 85 days and saved nearly $1,000,000 Of note, these are among the longest laterals drilled and completed in the entire Midland Basin, but not quite as long as our nearly 4 mile Texas record lateral that we drilled and completed in early 2021. On Slide 16, we continue to drive ways in which we can reduce emissions. We have increased the number of gas interconnects between the midstream partners who gather our gas. This has been a particularly effective way of avoiding flaring when a downstream partner has a downstream curtailment event. Offloads refer to secondary physical connections that enable alternative processing in the event the primary connection is unable to take production.

Speaker 1

In 2022, our marketing team further extended our offload capacity, allowing us to sell those gas volumes rather than shut in wells or flare. This resulted in a substantial reduction in flaring from our Midland Basin operations and brought in $18,000,000 in revenue from the gas sales. In our view, part of being a premier operator is outstanding environmental stewardship And this is a great example. Turning to South Texas, Slide 17. On the right, we updated a slide presented last quarter as a reminder that the liquids content differs across our position with wells to the north having up to 60% oil and 80% liquids, while the wells to the south have greater EURs in BOE terms, but with higher gas content.

Speaker 1

We see continued high returns, But simply comparing cumulative production curves does not tell the full story about value. On the left side, During the Q1, we highlight 7 new South Texas wells on 3 pads that reached peak IP30 located across the position as indicated by the blue stars. These wells averaged peak IP30 production rates of nearly 2,000 BOE per day with 73% liquids. Excellent results. And turning to Slide 18, it is important to recognize the quality and duration of our Austin Chalk inventory in South Texas, especially relative to peers.

Speaker 1

This chart, which is based on Enbros data, shows SM's remaining inventory at nearly 400 locations that breakeven at $55 oil or less, assuming 20:one gas. We see this as high quality, long duration inventory. Turning back to ESG on Slide 19, We provide certain 2022 metrics, which put us well on our way to meeting our short to medium term emissions targets as well as noting our recently received CDP Supplier engagement score of A-. Let me close by reinforcing our belief that SM Energy presents a sustainable and repeatable business model that is characterized by outstanding operations, a strong balance sheet, growing return of capital stockholders and strategic inventory growth. Thank you for your interest in SM Energy.

Speaker 1

I look forward to our Q and A call tomorrow.

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