SM Energy Co Q1 FY2025 Earnings Call

Greetings, and welcome to SM Energy's First Quarter 2025 Financial and Operating Results Q&A session. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Pat Lytle, Senior Vice President of Finance. Thank you. You may begin.

Thank you, Chomali. Good morning, everyone. In today's call, we may reference the earnings release, IR presentation, or prepared remarks, all of which are posted to our website. Thank you for joining us to answer your questions today. On the call this morning, we have our President and CEO, Herb Vogel; COO, Beth McDonald; and CFO, Wade Pursell. Before we get started, I need to remind you that our discussion today may include forward-looking statements and discussion of non-GAAP measures. I direct you to the accompanying slide deck and earnings release and Risk Factors section of our most recently filed 10-K, which describe risks associated with forward-looking statements that could cause actual results to differ. Also, please see the slide deck appendix and the earnings release for definitions and reconciliations of non-GAAP measures to the most directly comparable GAAP measures and discussion of forward-looking and non-GAAP measures. Also, our first quarter 10-Q was filed this morning. With that, I will turn it over to Herb for a brief opening commentary. Herb?

Thanks, Pat. Good morning, and thank you for joining us. We are really pleased with the performance across the company and particularly pleased with how well the integration has gone and the quality of our Uinta Basin assets. As a reminder, our plan for 2025 delivers a 30% increase in oil production, a 20% increase in total production and that's a step change in scale for SM. And we clearly have three top-tier assets. With that, I'll turn the call back over to Chomali to take your questions. Chomali?

Our first question comes from Tim Rezvan with KeyBanc Capital Markets Inc.

My first one, I don't know if this is for Herb or Beth, but I'm trying to get an understanding on the shape and the oil skew on 2025 production. The first quarter was 53% and you're guiding to a little higher oil cut in the second quarter, but you didn't touch the full year kind of guide for oil. So just curious if you are there timing issues with the Uinta wells coming online that we should be aware of or is this just simply you not touching most annual guidance items at this point? Just trying to understand how the year is going to shake out.

Tim, I'll start but I think Beth can dig into that one a little bit more. But yes, we didn't see material changes to change anything for the full-year plan, but she can elaborate a little bit on the percentage improvement in oil cut from 1Q to 2Q and what that means later in the year.

And so what I would say is as you look at the production rates and as we said the whole year, we go from 1Q to 2Q increasing modestly and then you'll see a major increase in the third quarter. And as far as oil mix, we have a bit more Uinta wells coming on, but it's important to kind of take a step back and just know that every single quarter we have variability in that oil mix depending on what wells we bring on. So we have large pads coming on in the Uinta and so that is driving our oil mix a bit higher. For the year, we would stay within the guidance range that we've already put out there.

And then my second one, I guess, maybe more for Wade on the topic of cash returns. Your path back to a 1 times leverage is now a little steeper with oil below $60, but we didn’t see the balance sheet getting there around year-end. So is it safe to assume repurchases are going to be off the table this year until you get there or do you feel compelled to maybe step in and defend the equity with where shares are now?

I think my answer would be very similar to what I would have said a quarter ago that we certainly like the stock price. I mean that has nothing to do with it. We are being disciplined about allocating free cash flow to getting leverage back to that 1 times area. And yes, prices are lower than they were a quarter ago. But you're right, even at current prices and certainly, if you assume something like $55, we generate a lot of free cash flow, plenty of cash flow to frankly pay off maturities. And that leverage metric kind of gets down into that really, really close to 1 times area. So I think you can assume that we are prioritizing debt reduction until we get there and I think that's a good assumption. But I wouldn't take off the table our ability to step in occasionally to support the stock.

Our next question comes from the line of Oliver Huang with TPH.

Just wanted to start out in the Uinta, looking at Slide 7 in your deck, the one showing productivity charts by various key regions. I know the lower cube is the primary focus for you all today in the Uinta. And I imagine the data set from Enverus that's being cited there likely shows a heavy lean into the Uteland Butte as the most developed pay zone within that part of the stack. So my question is, what is the expectation for being able to hit the underwritten assumptions for the lower cube when you're co-developing with other zones like the Wasatch and the Douglas Creek, which haven't been quite as prolific, historically speaking, on an oil per foot basis?

I would say that 90% of our program is focused on the lower cube, with most of that targeting the Uteland Butte and the Wasatch, as well as some in Castle Peak. We're very confident in the forecast from these areas, which are performing well. The remaining 10% is directed at the upper cube, where we have seen strong results in the Douglas Creek and will continue to explore other intervals within that section.

And maybe for a follow-up, just on LOE. I know you all called out a few items impacting the corporate LOE guide for this year. Maybe a greater mix of horizontal wells in the Uinta should help over time in addition to getting some of the costs associated with getting facilities and whatnot up to SM spec. So question is, as we think through the uplifted cost in this year's program on a corporate basis, should we view this as a more one-time kind of impact or are there some of these costs that are going to be much more sticky beyond this year, if you could walk through that?

So we see the use of the fuel gas and our change in the way that we record the cost to continue moving forward. We use the fuel gas within our operations. And so we see that going forward and that's about a third of that increase. The workover activity would move forward a little bit and we have an increase in water production that came from offset activity. Some of that may continue but we've included all of that in our adjusted full-year guidance.

And just a reminder, the first item has revenue offsetting it, so the accounting.

Our next question comes from the line of an unidentified analyst with ROTH Capital.

So I saw that you dropped two rigs in the first quarter. And you also said eventually the total rig will be six. So I was wondering if you could be more specific about the timelines for when to drop one more rig?

We are not providing any specifics about our plans for individual rigs at this point. You can note that we'll reduce to six rigs when it aligns with the program we've outlined. The key factor is the turn-in-lines, which are crucial for translating to production, and we are maintaining our TIL plan for the year. There are no changes on that front.

Our next question comes from the line of Michael Furrow with Pickering Energy Partners.

Last quarter, Herb, when asked about capital allocation between your assets, you mentioned that returns were really comparable across the three areas. But if prices move that the company would have the ability to kind of flex between regions. And at that time, prices were $74. Today, we're looking at, what, sub-$60, with gas prices relatively flat. So my question is, have the returns between regions changed? And if so, should we expect sort of a higher allocation of capital activity towards South Texas versus the previous update?

It's really challenging to change a program that quickly. The commodity markets operate on intraday timelines, while our plans follow a different schedule. With the program we've established, it appears promising for the year in meeting our objectives. If oil prices were to fall below $50 per barrel, most companies would likely reevaluate their programs. We're currently assessing our situation and feel confident above $55 with our existing program, which meets all our goals. Any reduction in activity requires careful consideration and is linked to our procurement contracts. I'm not sure if that fully addresses your question, but we do not anticipate any changes at this time. It would require a significant shift in commodity prices for us to think about altering our approach. However, we do have contingency plans in place should circumstances change later in the year.

It's not so easy to just drop a rig and pick one up as quickly as we'd like. So for my follow-up, I just want to ask a quick question on the Uinta. Now that the company has had more time to look into the acquired assets, how are they looking versus the original expectations? And is there anything that the company is learning that would alter the drilling or completion designs that you guys will have in 2026 versus the prior operators' designs?

I will just say, Michael, I'm really pleased with the assets. It's definitely exceeded our expectations and we're really pleased with the XCL team and what they did setting us up with quite a bit of investment in infrastructure that we're really getting the benefits of now. But I'll turn it over to Beth because she can dig into the details more about specifically what we like so much.

I would say just to start and kind of piggyback off of what Herb said, the innovation of our drilling, completion, and operations team has really been phenomenal and we continue to just beat a lot of the records that we set previously. And so we're just overjoyed with the fact that we're able to drive capital efficiency even more than we thought going into it. Now as far as the synergies and the great things that SM brings to this asset, it's really associated with the geoscience and reservoir engineering teams that continue to look at the well performance. And as I mentioned in the prepared remarks, we are not popping or turning in line the new SM design pad until 2026. And so all of the information that we're gaining through 2025, we're putting into that design to make it optimal and create the highest returns and free cash flow. So I think across the board, we're seeing outstanding results in our Uinta Basin.

Our next question comes from the line of Michael Scialla with Stephens.

I wanted to see if you could say how much oil went to the local refinery or refineries in Uinta during the quarter and kind of the difference in transportation costs there between the two? And what determines that split from quarter-to-quarter?

Typically, we sell about 15% to 20% of our crude into the Salt Lake City refineries. It has a lower transportation cost. And any time that we can get the higher percentage of our oil going to Salt Lake City refineries, we will do so. And so we continue to just try to maximize that market as much as possible, and then the rest we send by rail.

Is that just based on capacity, there's no contracts that are underwriting or underpinning how much goes to one or the other?

Yes, that's correct. We work with multiple refineries up there, yes.

And it looks like you had pretty minor non-op activity in the first quarter, anticipating a little bit in the second quarter as well. I guess I want to see if you have any better visibility on the remainder of the year, if you think there will be any material change to that $1.3 billion of CapEx that you have planned for the year.

What I would say is, so far, you could expect a similar run rate in the second half of the year as we're seeing in the first half. We don't deem that as material to our full year CapEx program and that's why we haven't changed guidance.

Our next question comes from the line of Zach Parham with JP Morgan.

Could you talk a little bit more about your operational plans for the year and going into '26? You've gone from nine rigs to seven rigs. You're planning to drop to six. As you see things today, would you plan to add back a rig in 2026 or is six the run rate going forward for the pro forma company with the three assets?

I have to say, I’m not sure what the situation will look like in November 2025. We have outlined various scenarios and plans that are influenced by the commodity prices that may or may not emerge later this year, as well as by the cost environment. At this point, we do not have a concrete plan for 2026. We do have scenarios in place, and as we see a clear direction develop, we will follow the scenario we've prepared for that price outcome. Our timeline for planning is quite different from the daily fluctuations in commodity markets, so we need to distinguish between short-term events and longer-lasting trends concerning commodity prices and costs. That's how we approach it. We don’t have a specific plan for 2026, but we are considering multiple scenarios and modeling the company accordingly. This allows us to say that, at the current pricing, our plan looks solid down to $55. If prices fall below that, we would reassess what changes might be necessary and how long those changes would last. That’s essentially our perspective.

What happens to cost.

Yes, what happens to cost. And Wade has done quite a bit of modeling of the company in even more adverse environments, and we feel very comfortable from a balance sheet perspective. Wade, do you want to add anything on that?

No, you said it well. I mean, I think I mentioned it earlier, at $55 flat, I mean, you see us generating lots of free cash flow, paying the dividend, paying off maturities, a leverage metric in an area that we're very comfortable in. So if you're wondering about hedging, that's kind of influenced our hedging decisions a little bit. You'll see us do a lot of $55 floors on costless collars just to protect that level, because that's a very positive level for us, if I could say it that way.

Just to follow up, I think you mentioned in the past that you could generate single-digit growth at kind of flat CapEx year-over-year. Is it fair to say if you were to go to a maintenance program, CapEx would be down year-over-year based on costs that we're seeing now, obviously, you can have service cost deflation as well?

Zach, that is a big wildcard. We don't know exactly how things will go on costs for '26. I mean things are looking pretty good that tariffs are really only influencing a small percentage of our cost. And under scenarios that are a little bit more adverse price wise, it's pretty close to flattish. Obviously, there's quarter-to-quarter variation depending on when turn-in-lines are coming on but I think that answers what you're looking.

If you're just looking at year-over-year dollars going from nine to six this year and being at six-ish next year, obviously, the cost would be overall lower.

And with those six rigs, you could hold flat next year. Is that fair?

It depends a little bit on the mix and where you are on BOO versus BOE. So if we drill in more on the South Texas side, because of the gas and NGL prices being better then obviously, it's easier to be above flattish. So if you drill more heavily into the oil, you'd be at the lower end just because of the nature of BOEs versus BOO. But it's a flattish area, yes.

Our next question comes from the line of Gabe Daoud with TD Cowen.

I wanted to start with a clarification regarding the forecast for the second half of this year. Did you mention earlier that the third quarter should show sequential growth? Will the growth in the third quarter be greater than what you projected for the second quarter?

Yes, that's fair.

And then maybe just as a follow-up, if we could maybe get a 101 type explanation around how Uinta production/sales are booked from a revenue standpoint, and just given the lag between when the barrels get transported versus your revenue recognition. Will there always be a mismatch between sales volumes and production at the wellhead? And should we expect a true-up at some point to make you whole on that or will there always just simply be a little bit of a discrepancy between those two?

I would not call it a true-up. There will be slight lags just depending on a cutoff at the date for the reasons that you articulated. So there will always be some lag there and some small difference there going forward is the way I would say it.

And we have reached the end of the question-and-answer session. I would like to turn the floor back to Herb Vogel for closing remarks.

Thanks, Chomali, and thank you all for joining us today. We look forward to seeing a number of you at upcoming events. Have a good day.

Thank you. And this does conclude today's call. We thank you for your participation. You may disconnect your lines at this time.