Earnings Call Transcript - MNR Q1 2024

Operator, Operator

Good morning, everyone. Thank you for joining today's call to discuss Mach Natural Resources First Quarter 2024 Financial and Operational Results. During this morning's call, the speakers will be making forward-looking statements that cannot be confirmed by reference to existing information, including statements regarding expectations, projections, future performance and the assumptions underlying such statements. Please note, a number of factors will cause actual results to differ materially from the forward-looking statements, including the factors identified and discussed in the press release this morning and other SEC filings. For a further discussion of risks and uncertainties that could cause actual results to differ from those in such forward-looking statements, please read the company's annual report on Form 10-K, which is available on the company's website or the SEC's website. Please recognize that except as required by law, they undertake no duty to update any forward-looking statements, and you should not place undue reliance on such statements. They may refer to some non-GAAP financial measures in today's discussion for reconciliations from non-GAAP financial measures to the most directly comparable GAAP measures. Please reference their press release, which is available on Mach's website and their 10-Q, which will also be available on the website when filed. Today's speakers are Tom Ward, CEO; and Kevin White, CFO. Tom will give an introduction and overview. Kevin will discuss Mach's financial results, and then the call will be open for questions. With that, I'll turn the call over to Mr. Tom Ward. Tom?

Tom Ward, CEO

Thank you for joining us for Mach Natural Resources' first quarter earnings update. It has only been 45 days since our last update, so my remarks will be brief. I want to emphasize how we differ from typical C corporations. Mach was established in 2017 with four primary objectives: maximizing cash distributions, pursuing accretive acquisitions, maintaining low leverage, and reinvesting less than 50% of our operating cash flow. These principles continue to guide us. Our distribution depends on the cash available at the end of each quarter, which means it can fluctuate. The prices of our key commodities significantly affect this each quarter. We mitigate some price risks through our hedging program and offset production declines with our drilling efforts, which also stabilize our distributions. However, we do anticipate some volatility. In contrast to previous high-leverage, fixed-distribution MLPs, we have maintained a consistent return of cash to our equity holders over the past six years. Mach is fundamentally an acquisition company. We excel in adding reserves and managing them more effectively than projected. All of our acquisitions have yielded positive outcomes. A key advantage is our small corporate team of 125 employees, allowing us to manage over 4,600 operated and 9,000 non-operated wells across more than 1 million acres efficiently. This enables new acquisitions to integrate smoothly into our existing operations without significant extra costs. We prioritize the performance of existing wells over solely focusing on new drilling. We take a long-term perspective on commodity prices, acknowledging the increasing global reliance on the resources we produce. We anticipate sustained demand for oil, natural gas, and natural gas liquids. As previously noted, we are optimistic about long-term natural gas demand driven by LNG exports and rising power needs. We believe the demand for oil production will continue as the world strives to raise the standard of living for a larger population. Currently, we are operating two rigs in Oklahoma, and we expect this to remain unchanged in the second quarter. As natural gas prices rise, we will enable more gas extraction from our inventory. Presently, the forward price is expected to exceed $4 by next year, and I believe we may reach that mark sooner. Our drilling outcomes this quarter met our expectations, with oil production slightly lower than anticipated due to downtime from a winter storm, amounting to nearly 60,000 barrels. Conversely, our natural gas production was slightly above expectations. Our lease operating expenses were lower than our guidance's low range, largely due to the impact of Paloma assets. We will monitor this over the next quarter before making any adjustments to our guidance. Our capital expenditures were somewhat higher than we had expected due to increased drilling of in-unit Oswego wells in the first quarter, where our working interest is elevated. We are continuing to see gains in efficiency within our drilling program, with both Oswego and Paloma wells performing better than our estimates. Our ability to shift between acquisitions and drilling during favorable market conditions is a significant strength. Once we finalize our quarterly distribution, Mach will have spent $1.8 billion on producing properties, using $521 million in equity and returning over $800 million to our unitholders while maintaining a $2.5 billion enterprise value. We believe this positions us among the top upstream operators in terms of cash recovered on cash invested. Our internal projection for the five-year outcome of Cherokee is 34%, and our five-year return on capital stands at 19%. We carefully track these metrics due to their importance in returning profits to our unitholders. Now, I’ll hand it over to Kevin.

Kevin White, CFO

Thanks, Tom. Reported results for the first quarter of 2024 represent the first quarter we have publicly reported that show an entire quarter's activity of all the combined entities that make up Mach Natural Resources. Additionally, it is worth noting that the comparative income and cash flow statements for the first quarter of 2023 reflect only the results from Mach III, the predecessor, and are not useful for direct comparison. For the quarter, we averaged production of 89,000 BOE per day, which was 23% oil, 55% natural gas and 22% NGLs. Excluding the impact of our hedges, the average realized prices were $77.17 per barrel of oil, $2.35 per Mcf of gas and $26.92 per barrel of NGLs. Of the $255 million total oil and gas revenues, the relative contribution for oil was 57%, gas was 24% and NGLs contributed 19% of that revenue. On the expense side, as Tom mentioned, our lease operating expense of $41 million or $5.03 per BOE came in lower than our mid-February guidance, and cash G&A of slightly over $9 million or only $1.13 per BOE is notably low compared to many other companies. Total revenues, including our hedges and midstream activities, totaled $239 million, adjusted EBITDA of $169 million and $144 million of operating cash flow. And on June 10, we will distribute $71.25 million to unitholders of record on May 28. And with that quick overview, I will turn the call back to you to open the line for questions.

Derrick Whitfield, Analyst

I wanted to open with your 2024 guidance. Regarding Q1, you guys were ahead of expectations for both production and CapEx. Does that pull forward your efficiency and activity impact your production and CapEx trajectory for the year? Or simply put, you got near the higher end of your ranges.

Kevin White, CFO

Yes. As the year progresses, we expect our capital expenditure to stabilize and remain within our guidance range. The first quarter was influenced by increased rig counts and the Oswego drilling mentioned earlier, which involved higher working interests affecting our production volumes throughout the year. While the first quarter drilling hasn't impacted our volumes yet, we still anticipate returning to the CapEx guidance range for the full year.

Tom Ward, CEO

Our goal remains to keep the reinvestment rate below 50%, and we expect to achieve that. Our drilling is progressing well, primarily driven by cost efficiency. Currently, our Oswego wells average just under 2.5 million, specifically at 2.63 million per well in the first quarter. To compare, in the first quarter of 2023, we were slightly above $3 million per well. Based on our modeling, we estimate the cost per well at 2.75 million, so we foresee a decrease in the CapEx figure throughout the year. We're also beginning our work in the Paloma assets and anticipate exceeding those estimates. So far, we've only drilled 1-mile laterals, making it too early for precise predictions. However, I estimate costs will be $750,000 to $1 million lower than our AFE for the Paloma assets as well. Even though our CapEx was slightly above expectations, we believe that if we maintain this course, we will return to below 50% by year-end.

Derrick Whitfield, Analyst

Terrific. And then maybe just staying on efficiencies. Last quarter, you highlighted some efficiencies with your first well in the Paloma asset. I guess if we were to think about the asset and the integration of the asset more broadly, now that it's fully in-house and you've set your operational plans, maybe could you speak to how your views on the asset have evolved and if there have been any notable earnings with the teams and/or assets?

Tom Ward, CEO

I think the most notable thing is just our lease operating expense continues to move down. We'll wait another quarter before we change guidance. But it seems like the Paloma assets have had a very nice effect on our overall lease operating expense. We knew it would, coming in, but it's been better than expected. And then just on drilling, I think we also are seeing positive efficiency gains. We expected that also coming in, but it's been nice to see that. We've TD-ed the second well, but don't have really any numbers in yet to be able to solidify. But I think we will continue to see the estimates for drilling go down. And as far as just incorporating the asset, it was a large asset by volume but a small asset in terms of the number of wells. So it was very easy to bring in the amount of production, and we didn't increase our staff here, only by one person from Paloma and a handful of others. I think SOX compliance probably has increased more employees than Paloma did.

Charles Meade, Analyst

I was hoping you could give some comments on how the acquisition opportunity set is evolving for you in the Mid-Con. I'll just leave there, what every...

Tom Ward, CEO

Yes. We talked about this in early April, and the situation hasn't really changed. We are experiencing more competition, which has always been present in our acquisitions since 2018. However, currently, the competition in the Mid-Con is emerging from various sources that have access to capital. We’ve noticed that in the last two deals we participated in, we were significantly outbid. It's uncertain whether this trend will persist or if there are specific niches we can pursue, or if we need to look outside of the Mid-Con if competition intensifies and premiums are offered for undeveloped locations, which is not aligned with our approach. If necessary, we would likely steer clear of that. In recent transactions in the Mid-Con, substantial premiums have been paid for undeveloped land, which isn’t our strategy. It may be too soon to determine if we can identify our niche in different areas like we used to. I believe we will find a way. We successfully acquired Paloma recently, which met all our criteria. I think we will continue to adhere to our four fundamental pillars. If that means exploring other areas, then we will do so. Right now, we are still evaluating opportunities and hope to make more acquisitions this year.

Charles Meade, Analyst

Got it. Tom, if I remember correctly, you purchased Paloma very close to its PDP value, with not much additional cost, and those locations are outstanding. This indicates that the situation has evolved significantly since the announcement of that deal.

Tom Ward, CEO

Yes, smaller packages have an impact as well. That's a fair point. We did acquire Paloma, which aligned with our criteria. You are correct that we didn't pay for any upside and purchased it below PDP PV-10. That transaction was relatively recent, so significant changes typically don't occur in just 90 days. I remain optimistic, but I want to inform you that there is new competition in the market, and as is often the case, they are quite competitive. I don't think so. When we look at our cash reserves and the distributions we make every quarter, you'll notice consistency, and we've always maintained a healthy cash balance, which supports our distributions. I don’t foresee that changing, and I doubt we would deplete our cash for the purpose of making an acquisition.

Michael Scialla, Analyst

I want to see if you could talk a little bit more about the Paloma assets. You said you drilled the first two wells. It sounded like that drilling went really well, based on the well costs you've outlined. Can you talk about when the plans are for completion there? How many wells you plan to drill for the year? Will they be a mix of Woodford and the Sycamore Mississippian zones or just how that asset is going to get developed this year?

Tom Ward, CEO

We plan to drill nine wells on the Paloma acreage this year, which will primarily be a mix of Woodford and Mississippian wells, with a stronger emphasis on the 2-mile Woodford wells we're currently drilling. Our drilling schedule is subject to change, so it's not definitive, but that's the preparation we're making for future locations. Additionally, if gas prices increase, we have more locations outside of Paloma that the rig could use to drill higher quality gas wells. So while our outlook for Paloma is clear, it is flexible, and I refer to them as Paloma assets, which focus on deeper drilling with our 1,250 horsepower rig.

Michael Scialla, Analyst

And Tom, the $750,000 to $1 million below AFE, was that in reference to 2-mile Woodford or...

Tom Ward, CEO

Yes, it actually was in reference to a 1-mile Mississippian, but I think we'll duplicate that in a 2-mile Woodford.

Kevin White, CFO

Sure. That's a great question. We will begin amortizing the principal at $20.6 million per quarter starting next month. This will be a quarterly amortization, which means part of the cash we generate each quarter will be used for this.

Geoff Jay, Analyst

So I just wanted to follow up on your comments about natural gas, and I talked to a number of people who are maybe a little more bearish than you are, based on the contango and the strip and some of the LNG projects being pushed kind of back into the future. I wondered if you could tell me why you're so kind of bullish on 2025. I'm curious.

Tom Ward, CEO

Yes. I believe it largely relates to the hub and the expected 3 Bcf a day of LNG demand coming online. Additionally, I read about the increasing power generation load that is about to emerge. For instance, Duke's report shows remarkable developments from Virginia to the Carolinas. Over the next decade, there will be around 30 to 60 gigawatts of power load that solar and wind cannot fulfill, which indicates a significant reliance on natural gas. As the summer progresses, I anticipate maintaining a year-over-year tightness in the range of 3 to 4 Bcf a day. This suggests that any surplus will be consumed quickly this summer. Looking towards the fall, I envision a favorable outlook for natural gas. Therefore, I would recommend purchasing the 2025 strip and focusing on fall 2024 as well.

Operator, Operator

Thank you. We've reached the end of our question-and-answer session. I'd like to turn the floor back over for any further or closing comments.

Tom Ward, CEO

I think nothing else here for close and just always happy to take questions as you guys want to call in. Thanks for joining us today.

Operator, Operator

Thank you. That does conclude today's teleconference and webcast. You may disconnect your lines at this time, and have a wonderful day. We thank you for your participation today.