Antero Midstream - Earnings Call - Q4 2020

Transcript

Speaker 0

Greetings, and welcome to the Antero Midstream Fourth Quarter twenty twenty Earnings Conference Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. Please note that this conference is being recorded. I will now turn the conference over to our host, Michael Kennedy, Senior Vice President, Finance and Chief Financial Officer.

Thank you, sir. You may begin.

Speaker 1

Thank you for joining us for Antero Midstream's fourth quarter twenty twenty investor conference call. We'll spend a few minutes going through the financial and operating highlights, and then we'll open it up for Q and A. I'd also like to direct you to the homepage of our website at www.anteromidstream.com, where we have provided a separate earnings call presentation that will be reviewed during today's call. Before we start our comments, I would first like to remind you that during this call, Antero management will make forward looking statements. Such statements are based on our current judgments regarding factors that will impact the future performance of Antero Resources and Antero Midstream and are subject to a number of risks and uncertainties, many of which are beyond Antero's control.

Actual outcomes and results could materially differ from what is expressed, implied or forecast in such statements. Today's call may also contain certain non GAAP financial measures. Please refer to our earnings press release for important disclosures regarding such measures, including reconciliations to the most comparable GAAP financial measures. Joining me on the call today are Paul Rady, Chairman and CEO of Antero Resources and Antero Midstream and Glenn Warren, President and CFO of Antero Resources and President of Antero Midstream. With that, I'll turn the call over to Paul.

Thanks, Mike. I'd like

Speaker 2

to start by discussing the significant steps AR has taken to improve the balance sheet and senior note term structure on Slide three. Since embarking on the asset sale program just over a year ago, AR has successfully executed on $751,000,000 of asset sales, which allowed it to access the senior unsecured market several times in 2020 and 2021, raising $1,500,000,000 in proceeds. Antero has also raised $1,100,000,000 of committed capital through the creative financings, which included a volumetric production payment and overriding royalty transaction and now a drilling partnership. This level of counterparty support is a strong endorsement of Antero's assets and operations. These proactive steps allowed AR to eliminate approximately $2,300,000,000 of near term maturities.

As depicted on the slide, AR has completely eliminated its 2021 and 2022 maturities through a combination of open market purchases and early redemptions. Looking forward, AR expects to generate over $1,500,000,000 of cumulative free cash flow through 2025 to repay long term maturities in addition to the ability to access the senior unsecured markets to refinance. In summary, we've made tremendous strides to improve the financial strength of AR and to rightsize the balance sheet and maturity schedule. Now let's turn to Slide number four to discuss AR's formation of a drilling partnership. Under the agreement, QL Capital, an affiliate of Quantum Energy Partners, will fund 20% of drilling and completion capital in 2021 and between 1520% of total drilling and completion capital in 2022 through 2024 in exchange for a proportionate working interest percentage in each well spud.

QL will participate in every well that Antero drills in the Appalachian Basin over the next four years starting with wells that spud as of this last January year. As you can see on the lower right hand side of the slide, we will drill and complete over 300 wells over the next four years together. The result is an incremental 60 wells being drilled through 2024 as compared to our initial base development plan. On a net basis, AR's net capital spending and production will remain unchanged from our prior maintenance capital program. However, the incremental drilling partnership completions are expected to drive incremental gross production growth, benefiting both AM's gathering and processing and water businesses.

Slide number five illustrates how Antero is in a unique position to benefit from a drilling partnership. First, AR has over 2,000 premium undeveloped core drilling locations in the Marcellus and Ohio Utica and a contiguous acreage footprint that delivers efficient development. Second, since over 1,400 of AR's 2,000 plus premium undeveloped core locations are liquids rich, AR is well positioned to take advantage of the strong NGL prices. Based on our recent basin wide study of the remaining undeveloped locations in Appalachia, we estimate that these 1,400 AR locations represent approximately 38% of the remaining liquids rich core locations in Appalachia. Third, AR has unutilized firm transportation to premium markets that supports the incremental gross gas production from the drilling partnership.

This allows AR and its partner to deliver gas to NYMEX base indices unlike many Northeast producers that experience frequent basis blowouts and often have to shut in supply. Lastly, AR and its partner are able to quickly develop the resource given the integrated nature and flexibility of Antero Midstream. These factors, all of which are unique to AR, drive the substantial increase in AR's free cash flow profile over the next several years as detailed on Slide six titled AR Free Cash Flow Enhancement. As depicted by the red box on the left hand side of the page, the drilling partnership allows AR to fill unutilized premium firm transportation and reduce net marketing expenses by approximately $260,000,000 over the next five years or approximately $65,000,000 per year beginning in 2022. Driven by the throughput growth on AM dedicated acreage, we now expect

Speaker 0

AR to achieve additional low pressure gathering earnouts totaling approximately $75,000,000 through 2023 when the earnout program expires.

Speaker 2

It's important to note that the incremental AM AM freshwater EBITDA from the additional completions more than offsets the additional earn outs paid by AM in addition to the benefit AM receives through the increase in gathering, compression, processing and fractionation throughput. Lastly, we assume that AR will receive a delayed carry on the drilling partnership in the form of one time payments per tranche that total approximately $50,000,000 by achieving certain IRR thresholds. In total, as depicted by the green bar, the drilling partnership increases AR's free cash flow by approximately $400,000,000 through 2025. Importantly, the drilling partnership also enhances AM's free cash flow profile as detailed on Slide seven. As depicted in the blue box, the incremental completions over the next five years serviced by AM's freshwater delivery assets results in approximately $150,000,000 of incremental freshwater EBITDA compared to the AR maintenance capital plan.

In the gray bar, you can see we expect a low single digit annual throughput to drive approximately $225,000,000 of incremental gathering and processing EBITDA, net of the $75,000,000 of additional low pressure earn outs under the gross incentive fee program. After netting out the $175,000,000 of additional capital, most of which is an acceleration of capital, we are forecasting $200,000,000 of incremental cumulative free cash flow after dividends through 2025 compared to the AR maintenance capital base plan. With that, I will turn it over to Mike.

Speaker 1

Thanks, Paul. I'll begin my AAM comments with fourth quarter operational results beginning on Slide number eight titled Year over Year Midstream Throughput. Starting in the top left portion of the page, low pressure gathering volumes were 3.1 Bcf per day in the fourth quarter, which represents a 16% increase from the prior year quarter and flat sequentially. Compression volumes during the quarter averaged 2.9 Bcf per day, an 18% increase compared to the prior year. Our fifty-fifty joint venture gross processing volumes averaged 1.5 Bcf per day, a 26% increase compared to the prior year quarter.

Processing capacity was over 100% utilized during the fourth quarter. JV gross fractionation volumes averaged 40,000 barrels per day, a 22% increase from the prior year. JV fractionation capacity was 100% utilized during the quarter. Throughput volumes were ahead of expectations due to the acceleration of well turn in lines and outperformance of recent pads turned to sales. Freshwater delivery volumes averaged 43,000 barrels per day, a 71% decrease from the prior year quarter, driven by lower completion activity by Antero Resources as expected.

Before moving on to our full year 2020 achievements, I wanted to briefly touch on our balance sheet and liquidity. As of 12/31/2020, Antero Midstream had $613,000,000 drawn on its $2,130,000,000 revolving credit facility, resulting in approximately $1,500,000,000 of liquidity. AAM's total debt and leverage were both flat for the third consecutive quarter at $3,100,000,000 and respectively. Now let's move on to full year 2020 achievements on slide number nine. Adjusted EBITDA for the full year 2020 was $850,000,000 a 3% increase year over year and $10,000,000 above the midpoint of our guidance.

Capital expenditures were $2.00 $7,000,000 a 68% decrease year over year and in line with guidance. AM's EBITDA growth and declining capital generated a company record $498,000,000 of free cash flow before dividends in 2020 compared to just $62,000,000 in the prior year. Importantly, we generated a return on invested capital of 17% in 2020, a four point increase compared to the prior year, highlighting the benefits of our just in time capital philosophy and high asset utilization rates. Slide 10 illustrates our capital budget and reallocation of capital to fund the 2021 capital budget. As detailed on the left hand side of the page, our prior capital target supporting AR's maintenance capital base plan was $185,000,000 With the announcement of the drilling partnership, AM expects to accelerate approximately $65,000,000 of capital into 2021, bringing the revised capital budget to $2.40 $60,000,000 Over the next five years, AM expects to invest an incremental $175,000,000 to support the additional activity and throughput growth from the drilling partnership.

In order to finance the incremental capital investment, we announced a reduction in AAM's dividend to $0.90 per share beginning in the 2021. This reduction allows us to allocate capital toward the highest rate of return project and AM's expanded portfolio as a result of the drilling partnership development plan. As depicted on the right hand side of this page, this allows AM to internally fund both its return of capital to shareholders and capital investments in 2021 based on the midpoint of guidance. We believe this transition to a self funding C Corp significantly de risked AAM business model so that no longer requires incremental outside capital to deliver on this organic growth program. In addition, AM expects to delever to three times or less over the next five years.

Slide number 11 illustrates the five year outlook for AM from 2021 through 2025 based on the drilling partnership announcement. Driven by the throughput growth from the drilling partnership, we are forecasting low single digit annual growth in EBITDA through 2025, which results in cumulative EBITDA of $4,500,000,000 to $4,600,000,000 from 2021 through 2025. As you can see, this fully funds our return of capital to shareholders in purple, an organic project backlog of $1,050,000,000 to $1,150,000,000 over the next five years. Remaining excess free cash flow after dividends, depicted in orange, totals approximately $500,000,000 over the next five years. This excess free cash flow will be utilized to reduce debt and opportunistically repurchase shares under our share repurchase program, which we have extended an additional two years to 06/30/2023.

As a reminder, we have previously utilized $150,000,000 of the $300,000,000 share repurchase program capacity, repurchasing 31,000,000 shares at an average price of $4.88 per share, leaving $150,000,000 of remaining capacity. I'll finish my comments with Slide number 12 titled Antero Midstream Outlook Summary. This slide illustrates the benefits to AM from the drilling partnership compared to the previous outlook based on an AR maintenance capital base plan. With the drilling partnership, Antero Midstream expects a low single digit annual EBITDA growth through 2025 compared to a flat EBITDA profile previously. The drilling partnership also increases AAM's organic project backlog from $925,000,000 at the midpoint to $1,100,000,000 from 2021 through 2025 or $175,000,000 increase.

These organic projects are forecast to result in $200,000,000 of incremental free cash flow after dividends over that timeframe compared to the previous maintenance capital plan. Due to the upfront acceleration of projects, we expect 2021 and 2022 to be approximately free cash flow breakeven after dividends and then for AM to generate $500,000,000 of cumulative free cash flow after dividends after those projects are placed online through 2025. Importantly, we expect AM to continue to generate peer leading ROIC in the mid to high teens and AM's leverage profile to decline to three times or less by 2025. Under the prior $1.23 per share dividend level, the trailing partnership resulted in outspend in 2029 and leverage in the high three times range. Given these circumstances, we have decided to reallocate a portion of the dividend payment so that AM does not add any debt or leverage to its balance sheet to fund these attractive opportunities.

In summary, we believe this plan allows AM to check all of the boxes to be a best in class Midstream C Corp with enhanced corporate governance, EBITDA growth, free cash flow positive after dividends, peer leading ROIC and a strong balance sheet. With that, operator, we are ready to take questions.

Speaker 0

Thank you. At this time, we will be conducting a question and answer session. Our first question comes from Shneur Gershuni with UBS. Please state your question.

Speaker 3

Hi, good afternoon everyone. Just wondering if we can start off with the decision around the dividend reduction. I'm just wondering if you can walk us through the different scenarios that you shared with the Board and how you arrived at the level that you cut it to. You know, I think we we fully appreciate the prudent nature of not borrowing to fund CapEx and dividends, but the level seems kinda surgical. Was the goal to just sort of sit there and say, I need to cover the CapEx for this year, but we don't wanna cut it too much because you're comfortable with where leverage is headed?

Alternatively, why not just cut it 50% or more to sort of get to your goals faster? Just kind of curious if you can walk us through the decision making process and what different considerations you thought about in terms of the choice level?

Speaker 2

Yes, thanks. The Board of

Speaker 4

course considered every alternative. And you stated it, I mean the plan at the end of the day was to set the dividend such that we had ultimately positive free cash flow after payment of dividends and capital. So we have a bit of a surge in capital for the next couple of years because of the drilling partnership. But that ends up spitting out another 100,000,000 or so of EBITDA down the road if you get three, four years down the road once you've built that out. So it's a very profitable venture for AM.

So it made a lot of sense. So recalibrate, we're already well positioned at 3.7x leverage. We didn't feel the need to drive it down overnight by slashing the dividend. I mean we want to take care of our shareholders and distribute an appropriate amount. And we felt like this is the right calibration for us for the next couple of years anyway.

And then if you model this out, once you get back into a strong free cash flow position, there is room for more return of capital when you get further out while at the same time delevering. So we felt like it was the sweet spot that $0.90 was the right place to be.

Speaker 3

Okay. And and you talked about, you know, being at a point where you can actually buy back shares at some point in the future or return capital, I think, was the the word you chose. You know, given the fact your your stock is obviously trading down significantly today, I mean, do you sort of sit there and sort of oscillate between potentially buying back shares in the interim as well also? Or is it at this stage right now, it's you're you're sort of, like, following the reallocation plan and not looking at the the shares as as opportunistic at these levels?

Speaker 4

No. We'll always be opportunistic. And, you know, we have been in the past. We we bought back, I think, was 30,000,000 shares at just under $5.4.8 something over the past couple of years. We'll be opportunistic and that's paid off very well, right?

So I wouldn't be surprised to see us buy back shares if the shares aren't performing like we think that they should. So that's the reason we extended that plan. It's a $300,000,000 plan of which we repurchased plan, of which we've already utilized 150,000,000 of that. So we have 150,000,000 to go. So that is a live plan that's out there.

Speaker 3

Okay. And then maybe a a quick follow-up question. You know, on slide 12, you talk about your, you know, targeting an ROIC of 15 to 17%. What are what are the chances, odds, probabilities, however you wanna characterize it, that there's another drilling partnership down the road that, AR does, and we get, like, an an incremental $65,000,000 bump in CapEx? Like, do we have to concern ourselves about the potential that the dividend is almost becoming variable in nature that you would have to cut it again, to achieve if you had that incremental step up?

Or is it the fact that AR is now filling its capacity or, you know, the the fixed capacity that it has, and it was you're kinda drilling up to that point, and you don't see AR potentially expanding above that, that would require AM to spend more capital?

Speaker 4

Well, number one, it's not a variable dividend. And it was set, like I said, in the sweet spot on the at the lowest level in terms of from here, we think it's just upside in terms of variability. It will be increasing the dividend over time. But AR, if you followed AR, this was a one time deal to fill up firm transportation. So I don't see another drilling partnership in in AR's future.

It was a it's a one off to address a concern or sort of a burden on AR to continue to pay for unutilized firm transportation and not fill that because of its need to stay at maintenance capital. That's what the market wants these days. So it was a good way to address the market, stay at maintenance level capital, flat production for AR and to fill that with a wedge of third party participation and production. So no, I would consider that as a one off transaction.

Speaker 1

Yes. I'd also add I don't know about your word concern. The actual drilling JV is adding an incremental $200,000,000 of free cash flow over the five years. We're investing in projects that have very high rates of return. And then ultimately, it's about $100,000,000 of additional EBITDA on an annual basis in year three and out.

So it's a very attractive opportunity for AM, and we're very happy that AR entered into this drilling JV. So all this is,

Speaker 2

let's say AM in the in the in

Speaker 4

the top matrix. Right? Because you actually have growth. Not many midstreamers have growth out there. We're looking at, call it, 3% a year EBITDA growth.

Leverage, very manageable, three seven and going down over time, free cash flow positive. So, you know, it really checks all the boxes.

Speaker 3

No. I I I I totally get it. I I it was just we're trying to understand, you know, you know, how to be thinking about all the different almost like putting it on a Bayesian tree of of how you're thinking about it. So there's some conclusion here. It's it's basically surgical in nature.

You were targeting something specific, and there's you know, there was no reason to consider a larger cut or the fact that there could be a scenario down the road that would result in another cut given the commodity environment that we see today. Is that kind of a fair recap or paraphrase?

Speaker 4

Yeah. I think that's I think that's well said. Absolutely.

Speaker 3

Okay. Perfect. Thank you very much, guys. Appreciate the color, and stay safe.

Speaker 4

Thank you. Thank you, Shneur.

Speaker 0

Thank you. Our next question comes from Jeremy Tonet with JPMorgan. Please state your question.

Speaker 5

Hey. Good morning, guys. This is James on for Jeremy. Just following up with Shneur's question. He asked, just doing the math on the savings from the dividend reduction this year, taking out the incremental CapEx, still have about, call it, 90,000,000 to $100,000,000 of savings.

Do you expect that to all go back to paying down debt? And do you expect that, the 3.7 leverage that you guys ended 2020 at to kind of remain flat in 2021?

Speaker 0

Actually it ticks down a

Speaker 1

little bit. But yes, those amounts that would have been paid in dividend we used to pay down debt. Also, it may have some amounts for allocation for repurchase of shares if it's opportunistic.

Speaker 5

Okay, fair enough. And just the same question, if you can remind us when you expect to become a cash taxpayer And within the guidance for free cash flow through 2025, is there any consideration for cash taxes through that?

Speaker 1

Yes, we're not a cash taxpayer over that five year period.

Speaker 5

Got it. All right. I'll leave it there. Thank you.

Speaker 0

Thanks. Our next question comes from John Mackay with Goldman Sachs. Please state your question.

Speaker 6

Hey, thanks for the time. I just wanted to follow-up. Appreciate the longer term outlook for free cash flow and EBITDA. Just wondering if you can talk a little bit about maybe the risks to those numbers, either to the upside or the downside? Thank you.

Speaker 4

Well, think you can look at AM historically, right? I mean, it has been steadfast in terms of its capital spending and the generation of returns. And these are the same types of projects that we've been doing. It's just accelerating projects, whether it's compression or LP gathering or HP gathering, water, etcetera. So it's the same type of projects that we've been doing.

It's just pulling them forward. So, yeah, we feel very good about that in terms of returns and lack of variability or variance in the in the outlook.

Speaker 1

Yeah, it also had AR address all their near term maturities, their leverage is coming down. They'll be below two times debt to EBITDA by year end and it's already a maintenance capital program for them. So I think there's not much downside from those from that and the drilling partnership. So and then continually, as as you saw this year in years past, feeds on volumes as, AR as well performed very well.

Speaker 6

That's fair. Thank you. Maybe my follow-up will be on that that last point. You know, seems like AR probably mostly done with kind of liquidity management steps right now. Any new thoughts on their remaining AM stake and what they might want to do with that?

Speaker 4

Yeah. AR continues to enjoy that ownership, that stake, the dividend stream. So no real change there. I mean, AR is generating so much cash, free cash flow this year and going forward at the current strip, even a backwardated strip that there's no need to sell any AM shares.

Speaker 3

Okay. That's it. Thank you.

Speaker 4

Thank you.

Speaker 0

Thank you. Our next question comes from Chris Stallette with Barclays.

Speaker 7

Hey, guys. Good afternoon. Appreciate the the comments there on the the not being any cash tax in the forecast. But are you able to share, even broadly speaking, sort of when you do expect to start paying cash taxes?

Speaker 1

Yes. No. We don't have that year. It's not in any of our forecasts, and they go out six, seven years. So it's not in that time frame.

Speaker 7

Okay. And then maybe as a as a follow-up to what I believe Cheniere was asking. You know, looking through the AR slides, it looks like, you know, they kinda hit, max FTE capacity in that 2025 time frame. And so if I marry that with kind of what you guys said about, you know, not really anticipating, further drilling partnerships or or ramps in in CapEx, should we be viewing that era as sort of peak production from a midstream standpoint? Or kind of what would you envision would be next midstream beyond that?

Speaker 4

No, I don't think so. At some point here, especially with higher prices, you'll see companies like Antero go back to some growth at least in the single digit range. So I wouldn't read that as driven strictly by the Feet. And then also the drilling partnership, it drills and completes. The last completions will be early year twenty twenty five.

And after that, the drilling partnership will be done. So those volumes will start to decline on that side. So there'll be some FTE available for AR growth there, if you follow what I'm saying. And we don't have to match our production exactly to FTE. There are local markets.

That's certainly been our thesis is to avoid being dependent on the local markets. But there's room to grow. And by then I think you are going to see some real inventory fatigue and that was the purpose of the slides that we put out today. As I mentioned on the AR call, if you're completing a thousand wells a day in the Southwest Marcellus and Ohio Utica combined, then and we're not quite at that rate today, but I think with commodity prices where they are, you're gonna see some uptick in rigs. I mean we'll be adding one because of the drilling partnership.

But you're really only looking at five or six years of the best premium inventory in that area. So at some point you'll need higher prices and all that. But you likely will all see some also see some capacity going back to the market, you know, for operators like us who still have plenty of premium inventory.

Speaker 7

Okay. So I guess not necessarily a ton of concern about, you know, pipeline constraints at that point in

Speaker 1

time. That's right. That's right.

Speaker 3

I wouldn't read too

Speaker 4

much into that Feet chart in terms of growth. That doesn't mean it doesn't cap our growth at AR. Okay.

Speaker 7

And then final question for me. Just on on the water side, can you share sort of what your latest, you know, usage assumptions are for for well completions? And then kind of how long do you expect to run those 13,000 foot laterals?

Speaker 2

Yes. We do have a bounty, just a long inventory of 13,000 foot laterals. That's a benefit. You've seen it on the maps of our acreage being so contiguous and where we control it in terms of being the operator with nearly or almost always 100% working interest. 35 barrels of water per foot Right.

Is our current formula. We've we're doing pilots to dry it up a little bit, but 35 barrels a foot is the the standard mix right now.

Speaker 7

Okay. And I guess, maybe more of what I was getting at is, is there any risk to either of those numbers starting to creep down in the next twelve to twenty four months?

Speaker 2

Not materially. The entire in

Speaker 4

terms of lateral length, the entire five year plan averages 13,100 feet. So, you know, we've got long laterals as far as you can see. And with our land efforts, we continue to add on to laterals that are in the plan, year six, seven, whatever that are shorter. We continue to add to that and grow those, if you will. So that's where we'll be for quite some time.

Speaker 1

Yeah. And the 35 barrels of water per foot is our standard completion.

Speaker 4

Right.

Speaker 7

Okay. That was it for me, guys. Thank you very much.

Speaker 4

Great. Thank you. Thank you.

Speaker 0

Our next question comes from Ned Baramov with Wells Fargo. Please state your question.

Speaker 8

Hey. Thanks for for taking the questions. Based on on the current production plan, do you expect to offer any low pressure gathering fee rebates to AR in 2021? And then also, does the incentive fee agreement that you have in place, are there any thoughts on potentially extending the term of that? I know that it goes through 2023 currently.

Speaker 1

Yes. To your question on the fees, we've got a slide in the AR presentation that outlines the current forecast, and there are no fee rebates in 2021, but they do achieve them in 2022 and 2023. So there's a schematic out there, and it does expire in 2023.

Speaker 8

Okay, got it. And then maybe can you talk about the cadence of the remaining $110,000,000 of growth CapEx associated with AR's drilling partnership that's expected in the period 2022 through 2025?

Speaker 1

Yes. The majority of it is in 2022 and then a little bit in 2023. So the midpoint of this year's guidance $250,000,000 you can kind of think of twenty twenty two million it will be a little bit higher than that maybe $275,000,000 to 300,000,000 and then 2023 and beyond steps back to $200,000,000 and below and returns below $200,000,000 in that 2024 timeframe and beyond.

Speaker 8

Very helpful. That's all I had today. Thank you.

Speaker 4

Thank you, Dan. Thanks, Dan.

Speaker 0

Thank you. That's all the time we have for questions today. I'll now turn it back to management for closing remarks. Thank you.

Speaker 1

I'd like to thank everyone for participating on our conference call today. If you have any further questions, please feel free to reach out to us. Thanks again.

Speaker 0

Thank you. This concludes today's conference. All parties may disconnect. Have a great day.