Earnings Call Transcript - HESM Q4 2024

Operator, Operator

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2024 Hess Midstream Conference Call. My name is Gigi, and I'll be your operator for today. At this time, all participants are in a listen-only mode. After the speakers’ presentations, there will be a question-and-answer session. Please be advised that today's conference is being recorded for replay purposes. I would now like to turn the conference over to Jennifer Gordon, Vice President of Investor Relations. Please proceed.

Jennifer Gordon, Vice President of Investor Relations

Thank you, Gigi. Good afternoon, everyone, and thank you for participating in our fourth quarter earnings conference call. Our earnings release was issued this morning and appears on our website, www.hessmidstream.com. Today's conference call contains projections and other forward-looking statements within the meaning of the federal securities laws. These statements are subject to known and unknown risks and uncertainties that may cause actual results to differ from those expressed or implied in such statements. These risks include those set forth in the Risk Factors section of Hess Midstream's filings with the SEC. Also on today's conference call, we may discuss certain GAAP financial measures. A reconciliation of the differences between these non-GAAP financial measures and the most directly comparable GAAP financial measures can be found in the earnings release. With me today are John Gatling, President and Chief Operating Officer; and Jonathan Stein, Chief Financial Officer. I'll now turn the call over to John Gatling.

John Gatling, President and Chief Operating Officer

Thanks, Jennifer. Good afternoon, everyone, and welcome to Hess Midstream's fourth quarter 2024 conference call. Today, I'll review our 2024 performance and highlights, provide an overview of our 2025 plans and longer-term outlook through 2027, and give an update of Hess Corporation's results and outlook for the Bakken. Jonathan will then review our financial results. 2024 was a year of continued strong performance execution for Hess Midstream. We delivered significant volume growth, including 14% year-over-year growth in gas processing throughputs. Additionally, we made excellent progress on key multiyear projects to strategically grow our gas gathering system while advancing our planned gas processing expansion. Today, we issued our guidance release, extending our MVCs and growth profile through 2027, with gas volumes expected to grow by more than 25% from 2024. Our long-term growth remains driven by Hess' planned development activity and increasing third-party volumes, reinforcing the need for additional gas processing capacity. Now turning to Hess Upstream highlights. In the fourth quarter, Bakken net production averaged 208,000 barrels of oil equivalent per day, including 20,000 barrels of oil equivalent per day from percentage of proceeds contracts that do not impact Hess Midstream throughputs. For the full year 2024, Bakken net production averaged 204,000 barrels of oil equivalent per day, marking a 12% year-over-year increase. Hess reaffirmed its plan to maintain a four-rig drilling program in 2025 and projected first quarter 2025 net production to be in the range of 195,000 to 200,000 barrels of oil equivalent per day. The decrease from the fourth quarter 2024 is primarily attributed to severe winter weather in January. Now turning to Hess Midstream results. In the fourth quarter, we delivered strong operational performance, with gas processing volumes averaging 447 million cubic feet per day, crude terminaling volumes averaging 127,000 barrels of oil per day and water gathering volumes averaging 130,000 barrels of water per day. For the full year 2024, Hess Midstream's gas processing volumes averaged 420 million cubic feet per day, crude terminaling volumes averaged 123,000 barrels of oil per day and water gathering volumes averaged 125,000 barrels of water per day, resulting in a full year adjusted EBITDA of $1.136 billion. Now moving to Hess Midstream's guidance. For the first quarter of 2025, we anticipate volumes to be lower than the fourth quarter of 2024, due to the impact of severe winter weather in January and the possibility of further weather-related impacts in the first quarter. For the full year 2025, we anticipate approximately 10% growth in volumes across our oil and gas systems compared to 2024, primarily driven by Hess' development activity and increasing third-party volumes. We expect gas processing volumes to average between 455 million and 465 million cubic feet per day, crude terminaling volumes to average between 130,000 and 140,000 barrels of oil per day and water gathering volumes to average between 120,000 and 130,000 barrels of water per day. Driven by volume growth, our adjusted EBITDA for 2025 is projected to increase by 11% at the midpoint compared to 2024 with an expected range of $1.235 billion to $1.285 billion. Building on our 2025 volume growth, we anticipate gas volumes to increase by approximately 10% in 2026 and 5% in 2027, while oil volumes are expected to grow by approximately 5% annually over the same period. This includes planned regulatory inspections and maintenance at the Tioga Gas Plant in 2027, which is expected to temporarily reduce gas volumes and have a full year impact of approximately 10 million cubic feet per day. Given our growth trajectory, we anticipate exceeding our current gas processing capacity in 2027. To address this, we are beginning construction this year on the previously announced 125 million cubic feet per day Capa Gas Plant. Once operational in 2027, the new plant will support throughput growth from Hess and third parties through at least the end of the decade. Now turning to Hess Midstream's 2025 capital program. Total capital expenditures for the year are expected to be approximately $300 million, with $125 million dedicated to ongoing expenditures for gathering system well connects and maintenance, and $175 million allocated to project-based investments, including volume-driven, gas gathering and processing expansions. In 2025, we are focused on completing two new compressor stations and their associated gathering systems. Once operational, these stations are expected to add a combined 85 million cubic feet per day of gas compression capacity, with the potential to expand up to approximately 140 million cubic feet per day. Additionally, our growth capital will support the construction and fabrication of the 125 million cubic feet per day Capa Gas Plant. These projects are expected to provide necessary gas gathering and processing capacity to meet growing demand. We plan to maintain annual capital expenditures in the range of approximately $250 million to $300 million through 2027. This includes completing the Capa Gas Plant and starting construction on an additional compressor station in 2026. While capital allocation will shift as our growth projects progress, we generally expect spending to decline over time as we finalize gathering expansions and focus on the commissioning of the Capa Gas Plant in 2027. In summary, we remain focused on executing our strategy of disciplined, low-cost investments to meet growing basin demand while maintaining reliable operations and strong financial performance. With growth projected through 2027 and beyond, we expect to generate sustainable cash flow and create opportunities to return additional capital to our shareholders. I'll now turn the call over to Jonathan to review our financial results and guidance.

Jonathan Stein, Chief Financial Officer

Thanks, John, and good afternoon, everyone. Today, I will summarize our financial highlights in 2024, discuss our recently completed nomination process with Hess, and provide details on our 2025 guidance and outlook through 2027, including our continued prioritization of ongoing and incremental return of capital to shareholders. For 2024, we delivered strong results, with full year net income of $659 million and adjusted EBITDA of $1.136 billion. This adjusted EBITDA represents a growth of approximately 12% from 2023. Looking forward, we have line of sight to greater than 10% growth in net income, adjusted EBITDA and adjusted free cash flow in each of 2025 and 2026, followed by greater than 5% growth in 2027, supported by growing oil and gas throughput volumes. Gas volumes, which make up 75% of our revenues, are expected to grow by approximately 10% in each of 2025 and 2026, followed by approximately 5% in 2027. We continue to execute a financial strategy that prioritizes return of capital to shareholders with a demonstrated track record of differentiated shareholder returns. Since the beginning of 2021, we have returned $1.95 billion to shareholders through accretive repurchases. In addition, through the combination of our 5% targeted annual distribution growth and 10 distribution level increases following each repurchase, we have increased our distribution per Class A share by approximately 55% since 2021 and by over 10% in 2024. As a result, our total shareholder return yield is one of the highest of our midstream peers. Furthermore, our leverage of approximately 3.1 times adjusted EBITDA is one of the lowest among our peers, highlighting our differentiated ability to deliver significant shareholder returns while also maintaining balance sheet strength. Earlier this month, we completed our first unit repurchase transaction in 2025 of $100 million that was accretive on both an adjusted free cash flow per Class A share basis and an earnings per Class A share basis. As we've done in the past, our fourth quarter distribution increase included our targeted 5% annual growth per Class A share and an additional increase utilizing excess adjusted free cash flow after distribution following the repurchase. As a result, for 2024 and every year since we started our return of capital framework, our distribution for Class A share growth has been approximately 10%, significantly above our targeted 5% annual growth. As announced in our guidance release this morning, we are continuing to prioritize shareholder returns and a strong balance sheet. We have extended our annual distribution per Class A share growth target of at least 5% through 2027 and are expecting greater than $1.25 billion of financial flexibility through 2027 for capital allocation that includes prioritization of potential unit repurchases on an ongoing basis while maintaining our long-term leverage target of 3 times adjusted EBITDA. Turning to our results. For the fourth quarter, net income was $172 million compared to $165 million for the third quarter. Adjusted EBITDA for the fourth quarter was $298 million compared to $287 million for the third quarter. The increase in adjusted EBITDA relative to the third quarter was primarily attributable to the following: total revenues, excluding pass-through revenues, increased by approximately $15 million primarily driven by higher throughput volumes resulting in segment revenue changes as follows. Processing revenues increased by approximately $9 million, and gathering revenues increased by approximately $6 million. Total cost and expenses, excluding depreciation and amortization, pass-through costs and net of our proportional share of LM4 earnings increased by approximately $4 million, primarily from higher G&A allocations under our omnibus and employee secondment agreements, partially offset by lower general maintenance, resulting in adjusted EBITDA for the fourth quarter of $298 million. Our gross adjusted EBITDA margin for the fourth quarter was maintained at approximately 80%, above our 75% target, highlighting our continued strong operating leverage. Fourth quarter capital expenditures were approximately $84 million, and net interest, excluding amortization of deferred finance costs, was approximately $50 million, resulting in adjusted free cash flow of approximately $164 million. We had a drawn balance of $15 million on our revolving credit facility at year-end. Turning to our rates for 2025 and beyond. The majority of our systems that represent approximately 85% of our revenues are fixed fees, with rates increasing each year based on an inflation escalator capped at 3%, resulting in steadily increasing rates through 2033. For our terminaling and water gathering systems that represent approximately 15% of our revenues, we continue to reset our rates through our annual rate redetermination process through 2033. Based on this rate setting process for 2025, tariff rates across all our systems are higher than 2024 rates. Turning to volumes. As John described, we expect continued growth in oil and gas throughputs from Hess and third parties. Oil volumes are expected to grow by approximately 10% in 2025 and approximately 5% in each of 2026 and 2027. Gas volumes are expected to grow by approximately 10% in each of 2025 and 2026, followed by approximately 5% in 2027. Based on this expected growth rate, we expect to exceed our current gas processing capacity in 2027, with the construction this year as planned of our new 125 million cubic feet per day gas processing plant that is expected to be aligned in 2027. This investment in gas processing to meet our growing volumes is underpinned by our downside protection from MVCs with Hess across all of our systems that continue to be set at 80% of nominated volumes set three years in advance through 2033. In our guidance release this morning, we provide MVCs through the year 2025 through 2027. As part of the nomination process, MVCs for 2025 and 2026 were reviewed and required to increase, while MVCs for 2027 were newly established based on 80% of the Hess nominated volumes for each system in that year. Turning to our financial guidance for 2025 and beyond. For the full year 2025, we expect net income of $715 million to $765 million and adjusted EBITDA of $1.235 billion to $1.285 billion. This adjusted EBITDA growth of approximately 11% at the midpoint of our range is supported by continued growing revenues from physical volume growth across oil and gas systems, as John described. We continue to target a gross adjusted EBITDA margin of approximately 75% in 2025. For 2025, with total expected capital expenditures of approximately $300 million, we expect to generate adjusted free cash flow of between $735 million and $785 million and excess adjusted cash flow of approximately $135 million after fully funding our targeted growing distributions. With increasing adjusted EBITDA, we expect our leverage for 2025 to be below our 3 times adjusted EBITDA target on a full-year basis. For the first quarter of 2025, we expect net income to be approximately $160 million to $170 million and adjusted EBITDA to be approximately $285 million to $295 million, including the impact of severe winter weather in January and the potential for additional winter weather events through the quarter. For the remainder of 2025, we expect growing adjusted EBITDA each quarter, consistent with increasing volumes across oil and gas systems. Looking beyond 2025, we have clear visibility to volume, adjusted EBITDA and adjusted free cash flow growth that supports our financial strategy. Supported by volumes that continue to grow in both oil and gas to at least 2027, fees that are steadily increasing based on our annual inflation escalator and a targeted gross adjusted EBITDA margin of approximately 75%, we expect greater than 10% growth in adjusted EBITDA in 2026, followed by greater than 5% growth in 2027. In-line with growing Hess gas volumes supported by incremental gas processing capacity and rates that increase annually with inflation, we expect continued growth in EBITDA at least for the rest of the decade. With growing adjusted EBITDA and relatively stable capital expenditures that are expected to trend lower in 2027, we expect adjusted free cash flow to grow by greater than 10% in 2026, by greater than 5% in 2027, and then continue to grow for the rest of the decade, providing significant financial flexibility to continue return of capital to shareholders. In addition, we are continuing to prioritize shareholder returns with our return of capital framework. First, we are continuing to grow our base distribution by extending our targeted distribution growth of at least 5% annually per Class A share through 2027. Second, we have financial flexibility for potential significant incremental shareholder returns beyond our growing base distribution. With expected adjusted EBITDA and adjusted free cash flow growth of greater than 10% in 2026 and greater than 5% in 2027 in excess of our targeted annual distribution growth of at least 5%, we expect to generate excess adjusted free cash flow beyond our distribution, and leverage is expected to decline to below 2.5 times adjusted EBITDA by the end of 2026 and to continue below this level through 2027, providing leverage capacity relative to our long-term 3 times adjusted EBITDA leverage target. As a result, with a growing cash balance and significant leverage capacity, we expect to have greater than $1.25 billion of financial flexibility through 2027 for capital allocation that includes the potential for multiple unit repurchases per year through this period and the potential for incremental distribution level increases associated with these repurchases beyond our targeted at least 5% annual distribution per Class A share growth. In summary, we are pleased to have delivered a strong 2024 and look forward to a visible trajectory of growth in our operational financial metrics that underpins our unique and differentiated financial strategy with a focus on consistent and ongoing return of capital to our shareholders. This concludes my remarks. We'll be happy to answer any questions. I will now turn the call over to the operator.

Operator, Operator

Thank you. Our first question comes from Naomi Marfatia from UBS.

Naomi Marfatia, Analyst

Hi, good afternoon. Thank you for taking my questions. My first question is regarding your multiyear growth outlook. Hess has established its MVCs for 2027 and has slightly increased the MVCs for 2025 and 2026, and you have mentioned a 10% EBITDA growth target for 2026. I'm curious about whether this growth is based on those MVCs and if we might see an upside to your EBITDA growth target.

Jonathan Stein, Chief Financial Officer

This is Jonathan. I'm going to start. Maybe I'll just walk through kind of the math of how we set the MVCs and what those mean in terms of the volume growth. I'll turn it over to John to talk about underpinning that growth from a business point of view. So as we said, I'm going to use gas processing. As we have said in the past, gas is 75% of our revenues. So focusing on that, we provided guidance of 10% growth in 2026 and 5% growth in 2027. So if you look at our MVCs, you can see they provide visibility to the volumes that underpin that growth. So if you take, for example, 2026, our MVC grossed up at 80%. That's 495 million cubic feet per day. Compared with the midpoint of our 2025 guidance, that implies more than 7.5% growth. As we look at 2027, our MVC grossed up there, that's 505 million cubic feet per day. You need to add back the 10 million cubic feet per day maintenance impact that John mentioned for the TGP maintenance. That gets you to the 550 million cubic feet per day, which is about a 4% annual growth rate. On top of that, in additional third-party volumes and that gets you to the growth rate, with the Hess volumes really being the primary driver of our growth through the period. So with that, now I will turn it over to John. He can give you the background on kind of what's driving that growth.

John Gatling, President and Chief Operating Officer

Sure. Thanks, Jonathan. Yes, I mean it's a good question. We continue to be focused on the four-rig development plan. And as productivity and efficiency improve, drilling longer laterals, improved cycle time, overall productivity of the wells, overall Hess' program is continuing to generate growth, both on the oil side and on the gas side. And as Jonathan mentioned, we've got oil growing 10% from '24 to '25, 5% from '25 to '26 and 5% from '26 to '27. In addition, our gas is outpacing oil a little bit as expected. The GORs in the basin are continuing to increase. As the wells mature, GOR naturally increases over time, so it's playing out exactly as we expected. And so from our perspective, the growth trajectory supports the additional infrastructure that we'll need both from a field gathering perspective, but also from additional processing. So there is good line of sight between now and 2027 and actually even beyond that, showing the growth trajectory based on the MVCs that we've set and the guidance we've given in the earnings call.

Naomi Marfatia, Analyst

That's helpful. And then my second question is on your long-term outlook in Bakken. I know there has been quite some activity in Bakken recently. Can you help us understand on how Hess Midstream is thinking about growing in Bakken either organically or via M&A? And if Hess Midstream is thinking of expanding beyond Bakken at any point in the future?

John Gatling, President and Chief Operating Officer

At this point, there are no plans to expand outside of the Bakken. We are very satisfied with our current position. Our strategic footprint is aligned with some of the best resources in the area, and we have strong support from Hess as both a sponsor and a key partner. Our growth is primarily driven by Hess's production, although we are also pursuing additional opportunities with third parties and expect their growth to align with that of Hess. Regarding organic growth versus M&A, we are open to opportunities in the basin, particularly bolt-on possibilities. However, given our existing growth prospects, we maintain a high standard for new opportunities. Our disciplined approach has been a cornerstone of our stability over the years. We are in the process of constructing our own gas plant, designed for 125 million cubic feet per day, which fits seamlessly with our growth plans through the end of the decade and beyond. We are content with our current infrastructure but remain open to adding opportunities that align well with our strategic goals.

Naomi Marfatia, Analyst

Great. I'll do my best. Have a great rest of the day.

John Gatling, President and Chief Operating Officer

Okay. Thank you so much.

Operator, Operator

Our next question comes from Doug Irwin from Citi.

Doug Irwin, Analyst

Hi, thanks for the question. Maybe one on CapEx to start. Just wondering if you could maybe provide a little bit more color on just what's driving the CapEx budget higher near term, both the '25 guide moving higher, and I think you came in a little above budget on '24. And then just curious to get your view on what longer-term growth CapEx might look like once some of these projects come online. Is it fair to assume that you see a pretty meaningful step down beyond '27 as you come out of a relatively higher growth phase with the processing build-out?

John Gatling, President and Chief Operating Officer

Yes, I'll begin and then pass it over to Jonathan for a longer-term view on capital expenditure. From our viewpoint, the key aspect of capital expenditure in both 2024 and 2025 is related to the timing of activities. Hess has done an excellent job improving overall efficiency, drilling wells more quickly, and getting them online sooner. We're also seeing impressive productivity from the wells with longer lateral drilling. We're focused on keeping pace with Hess on the growth front, and other third parties are generally following the same trend. This reflects some acceleration into 2024, and 2025 will follow a similar pattern. As we commence construction and fabrication for our gas plant expansion, we expect to spend around $300 million in 2025. For 2027, we project that spending will be in the range of $250 million to $300 million, and after that, we anticipate having most of our growth infrastructure in place to support our growth trajectory through the end of the decade. There may be some flexibility for added compression as Hess determines its drilling plans and how to operationalize upcoming opportunities. However, we expect a decrease in capital expenditure activity after 2027. Jonathan, do you have anything to add?

Jonathan Stein, Chief Financial Officer

No, that was good. I think we've highlighted that of our growth, $125 million is related to ongoing capital, which will continue through 2027 and beyond. As John mentioned, this is mainly project capital. There will be some phasing over the next few years, but overall, we expect that to decrease as some projects come online. While there may be some additional growth capital after 2027, it will certainly be less compared to our current levels. To emphasize, one of the exciting points we're discussing today is not only our visibility through 2027 in terms of both volume and financial aspects, but we can also provide clear visibility for the rest of the decade. We've discussed continued gas growth with the new plant supporting this growth for the decade ahead. Capital will be actively used for the next couple of years but will decline thereafter. With growing EBITDA throughout the decade and decreasing capital expenditures, we can anticipate growing free cash flow, not just through 2027 as we have mentioned, but also clearly into the rest of the decade. This will enable us to support distribution growth and potentially return capital in increments, extending well past 2027 and throughout the decade. It is indeed an exciting time in our journey, as we can now provide visibility not only through 2027, which is already a significant achievement, but also a clear outlook for our growth in volumes and financial metrics for the entire decade.

Doug Irwin, Analyst

Okay. That's really helpful. Thanks. And my second question, I guess I just wanted to get your latest thoughts around the capital allocation program that you've extended into '27. And I guess in the context of all the potential changes that could happen at the sponsor level this year, I'm just curious how heavily sponsor actions might factor into your decisions moving forward. And specifically, I'm just wondering if buybacks potentially become less attractive relative to other uses of cash down the line if you are eventually having to repurchase from the public rather than directly from the sponsors.

Jonathan Stein, Chief Financial Officer

We are very proud of our return of capital framework, which consists of two parts: a 5% annual distribution growth that we can achieve even at MVC levels, and the incremental return of capital through repurchases. We have received a lot of positive feedback regarding our strategy of aligning repurchases with dividend increases funded by a lower share count, while maintaining our total distributed cash at the same level. Although we have aimed for at least 5% distribution growth since 2021, our average annual distribution growth has been approximately 10%, nearly double our base level. Looking ahead, we have discussed having at least $1.25 billion in financial flexibility, which we expect to use for unit repurchases several times a year, as we have done previously, while aligning those with distribution increases. As for how that could change with shifts in shareholder ownership, we foresee no significant changes at this time. However, as sponsorship percentages evolve, we would certainly consider incorporating the public into our repurchase program, given that the public now represents 48% of our ownership. While this isn't an immediate step, it’s something we would contemplate as ownership dynamics continue to shift. Overall, there will be no significant changes to our program, though we may adjust based on ownership changes, while continuing to execute the program and provide one of the highest total shareholder yields in the sector.

Doug Irwin, Analyst

Got it. That’s all from me. Thank you, John.

Operator, Operator

Thank you. One moment for our next question. Our next question comes from the line of Jackie Koletas from Goldman Sachs.

Jackie Koletas, Analyst

Hi, thank you for taking my question. First, I just want to start, given your expectations to reach below 2.5 times in '26, how do you think about the use of leverage going forward as you get below that target?

Jonathan Stein, Chief Financial Officer

We have $1.25 billion of capacity that is supported by two main sources. The first is leverage capacity, and the second is excess free cash flow after distributions. If you do the calculations with the EBITDA growth we’ve projected, and assume around half a turn, you will find that approximately half of that capacity is derived from leverage. The other half comes from our free cash flow surpassing our growth and exceeding our 5% target distribution. We are in a strong position and our main goal is to continue focusing on capital returns, which I emphasized earlier. We'll also be looking at bolt-on opportunities. However, we are fortunate to have significant organic growth, so there isn’t a pressing need to pursue acquisitions. If we don’t find any suitable opportunities, we will maintain our emphasis on returning value to shareholders, as evidenced by our ongoing share repurchases and dividend increases.

Jackie Koletas, Analyst

Thanks. Appreciate the color there. And just following up, the first quarter guidance is adjusted for those weather impacts in January. What does that guidance assume beyond what has already occurred in the quarter? And how do you expect the basin to recover for the rest of the months we have left?

John Gatling, President and Chief Operating Officer

Yes. For January, the weather has been somewhat unpredictable with varying temperatures and wind, which has created operational challenges. Typically, the first quarter is less predictable in terms of weather. We have observed its effects, and the basin's output is down around 10%, while Hess is down less than that. Overall, the recovery has been robust, and we anticipate that volumes will resume, but we still face at least two more months of weather variability. Therefore, we are approaching the first quarter with caution and aiming to manage expectations. Overall, we believe our first quarter numbers are achievable, and we are focused on supporting Hess as it regains volume in the basin.

Jonathan Stein, Chief Financial Officer

One thing I just would add is if you look at our full year EBITDA guidance and then take our first quarter guidance, that really implies that on average, right, EBITDA Q2 through Q4 is going to be up 11% on average. So really significant growth. I would expect that growth to be phased, as Jonathan described, volume growth throughout the rest of the year. So expect that EBITDA to continue to grow. But certainly, once we get past the weather and all the things that John just described, it is certainly a significant step-up and continued growth for the rest of the year.

Jackie Koletas, Analyst

Great. Thank you so much for the time. That’s it for me.

Operator, Operator

Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.