Earnings Call Transcript - CHRD Q3 2022

Operator, Operator

Good day, everyone and welcome to the Chord Energy Third Quarter 2022 Earnings Conference Call. All participants will be in a listen-only mode. Please also note, today's event is being recorded. At this time, I'd like to turn the floor over to Michael Lou, Chief Financial Officer. Please go ahead.

Michael Lou, CFO

Thank you. Good morning, everyone. Today, we are reporting our third quarter 2022 financial and operational results. We are delighted to have you on our call. I'm joined today by Danny Brown, Chip Rimer, and other members of our team. Please be advised that our remarks, including the answers to your questions, include statements that we believe to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act. These forward-looking statements are subject to risks and uncertainties that could cause actual results to be materially different from those currently disclosed in our earnings releases and conference calls. Those risks include, among others, matters that we have described in our earnings releases as well as in our filings with the Securities and Exchange Commission, including our annual report on Form 10-K and our quarterly reports on Form 10-Q. We disclaim any obligation to update these forward-looking statements. During this conference call, we will make references to non-GAAP measures, and the reconciliations to the applicable GAAP measures can be found in our earnings releases and on our website. We may also reference our current investor presentation, which you can find on our website as well. With that, I'll turn the call over to Danny.

Danny Brown, CEO

Thanks, Michael. Good morning, everyone. Thank you for joining our call. We have now completed our first full quarter of operations as Chord Energy, and I'm pleased to be discussing our operating and financial results with you, as well as our peer-leading return of capital program. Additionally, we're going to give you some updates on merger integration progress, our ESG strategy, and our expectations for the balance of the year. Jumping right into the third quarter, I can say that our performance exceeded expectations. We had a large volume beat, which I think sets us up nicely for above consensus volume delivery for the second half of 2022. We were also lowering our capital guidance, which positions us for strong free cash flow delivery in the second half, aligning with Street consensus. Given this performance, combined with our strong balance sheet and alignment with our return of capital framework that we announced in August, we anticipate delivering 85% of our free cash flow generated in the quarter back to shareholders. Importantly, we continue to see very strong well performance in the field, even as we address some operational items that I'll discuss in a moment. Digging in a bit more on our results versus our guidance, production exceeded our guidance in the third quarter, largely driven by strong well performance. However, some mechanical issues with the casing on a few of our new wells have extended the timing for completion on those wells, which has shifted our frac schedules to the right. Consequently, fourth quarter production was updated to reflect this new completion timing as well as the associated volume impact of surrounding wells being down and waiting for completions operations to conclude offline longer than originally expected. We've also included in our revised fourth-quarter expectations the impact of several of our ESPs in the Sanish area being offline due to a power disruption caused by a vehicle incident. Overall, we expect to deliver second half production volumes favorable to our August update with slightly less oil, but also slightly less capital. Importantly, we view these items as transient and timing-related in nature; the field is performing very well and we anticipate no impact to our 2023 program. As I mentioned, we lowered our full year capital guidance versus our August update, reflecting good performance in the third quarter, the schedule shift, and perhaps a bit too much conservatism built into our previous estimates. We'll continue to expect to frac around 106 wells in 2022, which is about the same as our August update. However, while total fracs are about the same, some of our turning lines will be pushed into 2023, taking our total estimate down below 100 for the full year. Given the strong quarterly performance previously discussed, we delivered an exceptional adjusted free cash flow of $326 million for the quarter. Recall that in August, we announced a peer-leading return of capital framework that returns 75% or more of free cash flow generated during the quarter when Chord has low leverage. We expect to return this capital through a balanced approach of base dividends, variable dividends, and opportunistic share repurchases. Our annualized base dividend of $5 per share has a yield of 3.2% and represents a 233% increase in less than two years. Our base dividend is a core part of our return of capital strategy and is designed to be resilient at low prices and to be sustainable through commodity cycles. In July, we took the opportunity to repurchase $125 million worth of stock at an average price of $106.25. This represented close to 3% of the company, over 50% of the non-base dividend portion of our return program, and we have an additional $300 million of share repurchase authorization today. Given this, we have declared a variable dividend of $2.42 per share for the quarter, which amounts to approximately $100 million, the difference between approximately 85% of the $326 million of free cash flow generated in the third quarter minus the base dividend of around $52 million minus $125 million of share repurchases. Since the merger closed, and including our November payout, we will have returned $869 million of capital. Our third quarter return of 85% of free cash flow will amount to $277 million and represent an annualized return of 18%. In September, we successfully monetized $16 million or about 76% of our Crestwood units at an approximate discount of 6.5%. Gross proceeds were roughly $428 million, and we are expecting cash taxes of around $10 million to $15 million. This was an attractive mix of market conditions that allowed us to unlock this value at a modest discount. After the sale, Chord currently holds about 5 million Crestwood units. Turning to ESG, you may have noticed we recently posted a letter to our stakeholders on our website, along with pro forma ESG metrics for the combined companies. We provided this information in the interest of transparency and to remind the markets that we are dedicated to providing robust disclosure and improving our performance. In 2023, we plan to resume publishing a full sustainability report after the integration is complete. Highlights include a trend of reduced GHG intensity, improved freshwater intensity, a continued commitment to safety for employees and contractors, and maintaining strong corporate governance. Chord is currently using Tier 4 engines and dual fuel on our frac fleet and also battery systems on our rigs, which reduced the need for diesel-generated power. These technologies have mutually beneficial impacts on reducing emissions while also saving costs. Regarding our merger, we continue to make substantial progress on integration and remain very excited about our prospects going forward. We continue to make progress on staffing, having solidified leadership over the summer with further progress on managers and staff in the third quarter. We've identified over $100 million per year in total synergies versus our original expectations of $65 million. We're also implementing best practices and optimizing our rig operations and completions. In the near-term, we're expecting initial investments to create the groundwork to reduce the artificial lift failure rate, and we should start to see the benefits of that later in 2023. Additionally, we're centralizing maintenance and other operations while consolidating routes and driving further efficiencies. And on the G&A side, we remain on track for approximately $35 million of cash savings versus the pre-merger baseline. Overall, I'm very pleased with the progress we're making and the new opportunities the team has identified. I can't thank our people enough for driving this progress and making it happen. Your efforts are recognized and sincerely appreciated. And with those highlights, I'll now turn it over to Michael for some financial updates.

Michael Lou, CFO

Thanks, Danny. I'll highlight a handful of key operating items for the third quarter. As you see in our IR materials, we converted to three-stream reporting for the combined company. I want to acknowledge the Chord team for their hard work on this front. Converting to three-stream was a major undertaking, and the accounting, marketing, reserves, and planning teams spent considerable time making this happen. Thank you. Crude realizations remain at a premium to WTI, which we expect will continue into the fourth quarter. Additionally, we provide a new disclosure on gas and NGL realizations, which are net of certain marketing fees. LOE averaged $9.86 per BOE for the third quarter, reflecting higher work-over spending. As our guidance implies, we expect this to trend down in the fourth quarter. Cash GPT was $2.39 per BOE below the midpoint of the range provided in August. Production taxes were approximately 7.9% of oil and gas revenues in line with guidance. As a reminder, our production tax guidance increased from the 7.5% range in the first half of 2022 to approximately 7.9% in the latter half of the year, reflecting the recent increase in North Dakota oil taxes. This increase relates to a pricing trigger effective in June as a result of WTI averaging above $94.69 per barrel for three consecutive months. The rate is set to reset back to lower levels seen in the first half of 2022 if WTI averages below $94.69 per barrel for three consecutive months, which is expected to occur in November. Chord cash G&A expense was $16.3 million in the third quarter, excluding $55.6 million of cash merger-related expenses. We expect these items to fall significantly in the fourth quarter. Chord paid no cash taxes in the third quarter. Cash taxes are expected to be approximately $10 million to $20 million in the fourth quarter, plus an additional $10 million to $15 million for cash taxes associated with the September divestment of Crestwood units. CapEx was $230.1 million in the third quarter, about $50 million below initial expectations. The delta largely relates to timing, which is reflected in our fourth-quarter guidance. Overall, second half 2022 capital expectations are down somewhat from our August update. Chord has nothing drawn on its $2.75 billion borrowing base, which is up from a $2 billion borrowing base. We also have $1 billion of elected commitments, increased from the $800 million level. Cash was approximately $659 million as of September 30. In closing, I want to thank the full Chord team for delivering an excellent third quarter and for setting expectations for the remainder of the year. This positions us well moving into 2023, led by strong well performance and a continued focus on cost control, which leads to excellent returns on capital and a peer-leading return of capital program.

Operator, Operator

And our first question today comes from Scott Hanold from RBC Capital Markets. Please go ahead with your question.

Scott Hanold, Analyst

Thanks all. Good morning. I was curious about shareholder returns and if you could give us thoughts on what you think about the mix going forward. The context being you were fairly aggressive in July with buybacks, but it looks like that shutdown from that point. So do you find that buybacks are more opportunistic versus when the stock price goes down compared to something that’s more sustainable? Some context around that would be great.

Danny Brown, CEO

Yes, thanks for the question, Scott. It’s good to hear you asking. So, on the return of capital program, as you look at what we did over the quarter, it represented about 55% of our discretionary return program, the non-base dividend portion. Share repurchases are a meaningful part of our return of capital strategy, and certainly did that within Q3. As we look forward, I anticipate those will continue to be a meaningful part of our return of capital strategy. However, we look at this opportunistically, not programmatically, and clearly early in the quarter represented a great opportunity for us to lean in hard to that element. When we think about opportunity, it’s around the inherent value of our shares and our relative trading performance. We take many factors into account when considering this, but we do anticipate it’s going to be a significant part of our return of capital strategy both now and moving forward.

Scott Hanold, Analyst

Got it. Thanks for that. My next question is focused on the identified synergies and integration holistically. You've identified the $100-plus million target, can you provide some context on how we should see the synergies evolve into ultimately free cash, especially with inflationary pressures?

Danny Brown, CEO

Yes, unfortunately, we are facing a changing backdrop as inflation and overall costs increase. The good news is the organization is in a much better position compared to either company standalone to weather this type of environment. The identified $100 million in synergies is based on a consistent cost level. As costs increase, those synergies will erode to some extent, but we hold ourselves accountable for realizing those synergies. What you should generally see is an impact on our free cash flow due to a lower cost structure on both the CapEx and OpEx sides.

Scott Hanold, Analyst

As we think about 2023 CapEx, is it too early to provide guidance and can you share if you can hold the line more relative to peers given those synergy savings potentials?

Danny Brown, CEO

It’s too early to provide detailed guidance on 2023. However, we feel good about our ability to deliver next year. Given some of the impacts we've seen across 2022, we're likely to show slight growth year-over-year with similar activity levels. We expect around a 10% increase in costs for 2023 relative to 2022. We're refining those numbers and will provide full detailed guidance early next year.

Derrick Whitfield, Analyst

Thanks, and good morning, all. I wanted to touch on inventory, particularly as there's ongoing focus on the market regarding the value of Permian vs. Williston inventory. Are there any comments you could share about the resiliency of your returns and the impact of three-mile laterals on your capital efficiency over the next three to five years?

Danny Brown, CEO

Derrick, I love the question. Michael and I had a discussion about this recently, and I will ask him to respond.

Michael Lou, CFO

Great question. With more three-mile laterals and the synergies we just discussed, you will see our capital efficiency hold strong over the next few years. We're not seeing the same magnitude of cost pressures that you might see in other regions. Additionally, the predictability of our inventory is stronger with fewer challenges. Our understanding of the Bakken lets us maintain good predictability, especially in terms of capital efficiency and resiliency.

Derrick Whitfield, Analyst

It appears you have a strong balance sheet that could allow for sustaining over a 75% payout for the foreseeable future. Is that a fair assessment?

Danny Brown, CEO

Derrick, we have a strong balance sheet and an excellent return of capital plan that allows us to lean into these opportunities when appropriate. Given our free cash flow generation and low reinvestment rates, we’re positioned well for a high return of capital.

Patrick Enright, Analyst

At the start of your presentation, you mentioned operational delays due to casing issues. Is this a one-off situation or something that's expected to occur in the future?

Danny Brown, CEO

Generally speaking, we see this as a one-off event for a discrete set of wells. There’s nothing systemic or repeatable associated with this, which is good news. It is, however, frustrating.

Chip Rimer, VP of Operations

Yes, this is a one-off issue. We've already repaired one of the wells, and we anticipate fracking these wells later this month. We had previously set these for the end of Q3 but will now push them later into Q4.

Phillips Johnston, Analyst

Thanks. Just following up on capital return. You got aggressive on buybacks in July, but I'm wondering why you didn’t increase the payout to 85%.

Michael Lou, CFO

When we established our framework, we included some flexibility. If we felt positioned to lean harder into return of capital based on performance and our balance sheet, we opted to do that. The performance we saw this quarter and our balance sheet stance warranted landing at 85%.

David Deckelbaum, Analyst

Regarding the Crestwood monetization, you have almost $700 million of cash now. How are you evaluating the cash balance? It seems elevated.

Danny Brown, CEO

We evaluate the use of proceeds around four buckets: organic growth, debt repayment, inorganic opportunities, and shareholder returns. With our strong balance sheet and current return framework, we believe having some cash reserves for potential opportunities is prudent.

David Deckelbaum, Analyst

If I could ask about 2023, I know you're not prepared to give explicit guidance, but are the fourth-quarter projections a little higher than what you expect on average run rates next year?

Danny Brown, CEO

Yes, the fourth quarter activity is higher than what we would typically see as average in 2023. However, we anticipate slight year-over-year production growth, and our expectations for cost increases are around 10%. We’re still refining these numbers and will provide detailed guidance after the new year.

Paul Diamond, Analyst

As you progressed toward three-mile laterals, have there been unexpected challenges or has it been pretty straightforward?

Danny Brown, CEO

It's been pretty straightforward up here in Bakken. We've managed the three-mile laterals well, and the drilling has gone very smoothly.

Chip Rimer, VP of Operations

Yes, it's gone very well. We have a coil unit out there for three-mile laterals, and we’re experiencing fewer challenges than expected.

Danny Brown, CEO

On acquisitions, it’s about weighing various considerations like pricing and acreage quality. We want to ensure these actions make our organization better, not just bigger. To close out, I’d like to thank everyone for their time today. I’m happy with how the integration is progressing and think we are creating an excellent company with a differentiated opportunity to create value. We are committed to our strategy, which emphasizes capital allocation, financial flexibility, and returning capital to shareholders with a focus on sustainability.

Operator, Operator

Ladies and gentlemen, with that, we will conclude today’s conference call and presentation. Thank you for joining. You may now disconnect your lines.