APA Corporation (APA) — Q2 2019 Earnings Call Transcript

Good morning and thank you for joining us on Apache Corporation's second quarter financial and operational results conference call. We will begin the call with an overview by CEO and President, John Christmann. Tim Sullivan, Executive Vice President of Operations Support, will then provide additional operational color; and Steve Riney, Executive Vice President and CFO will summarize our second quarter financial performance. Also available on the call to answer questions are Apache Executive Vice Presidents, Mark Meyer, Energy Technology, Data Analytics and Commercial Intelligence; and Dave Pursell, Planning, Reserves and Fundamentals. Our prepared remarks will be approximately 20 minutes in length, with the remainder of the hour allotted for Q&A. In conjunction with yesterday's press release, I hope you've had the opportunity to review our second quarter financial and operational supplement, which can be found on our Investor Relations website. On today's conference call, we may discuss certain non-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 supplemental information provided. Consistent with previous reporting practices, adjusted production numbers cited in today's call are adjusted to exclude non-controlling interest in Egypt and Egypt's tax barrels. Finally, I'd like to remind everyone that today's discussions will contain forward-looking estimates and assumptions based on our current views and reasonable expectations. However, a number of factors could cause actual results to differ materially from what we discuss today. A full disclaimer is located with the supplemental data on our website. And with that, I will turn the call over to John.

Good morning and thank you for joining us. On today's call, I will provide an overview of Apache's second quarter results, comment on our production outlook and capital investment program for the remainder of the year, outline our current position and initiatives in the Permian Basin, Egypt, North Sea, and offshore Suriname, and conclude with some thoughts on capital allocation in the context of the current macro environment. The second quarter, Apache's total adjusted production exceeded guidance with upstream capital spending of just under $600 million. Through mid-year, we have invested less than 50% of our four-year budget of $2.4 billion. We are focused on strict capital discipline, which is achievable given our level-loaded activity set and relatively stable operational pace over the last couple of years. Permian Basin oil volumes drove our guidance in the second quarter for a few reasons. Tim will provide more details. But in aggregate, we brought online 15 fewer wells than anticipated and incurred a significant delay in initial production from several other wells. Most of these items are just timing-related from which we will fully recover by year-end. Internationally and at Alpine High, volumes in the second quarter were in line with our adjusted production guidance. Construction and commissioning of Altus Midstream's first two cryogenic processing plants were on budget and ahead of schedule. The first cryo plant has already exceeded nameplate capacity. The second plant is fully in service and ramping inlet volumes. And the third plant is scheduled for startup around year-end. For the remainder of 2019, capital will be at or below our second-half budget of $1.2 billion. With activity more heavily weighted toward completions, this should result in good production momentum as we exit 2019. We have revised our second-half Permian Basin production guidance to reflect the delays we experienced in the Midland and Delaware, as well as projected third quarter gas deferrals at Alpine High. Our fourth quarter Alpine High production target of 100,000 BOE per day is unchanged from prior guidance. This is based on a plan to return all deferred production to sales by the beginning of October with the GCX pipeline startup. It also assumes that Altus Midstream's cryo units are operating in full ethane recovery mode. We will prioritize value over production volumes and depending on the prevailing gas and NGL prices may choose to reject ethane at Alpine High, which would impact our reported fourth quarter volumes. Internationally, we continue to expect third and fourth quarter volumes to be in line with prior guidance. With that, I would like to offer some specific comments on our key operating areas of the Permian Basin, Egypt, and North Sea as well as offshore Suriname. In the Permian Basin, Apache has one of the industry's largest acreage footprints and a diverse inventory of opportunities. For more than two years now, we have been running a six to ten rig program focused on oil development in the Midland and Delaware basin, and a five to nine rig program focused on Alpine High. In the Midland and Delaware basins, we are in full development mode delivering highly productive top-tier oil wells at very competitive costs. We have a large inventory of oil-prone locations that continues to expand with ongoing improvements and understanding of the resource base. This position will support a higher base rig count should we choose to add or reallocate capital from other areas. At Alpine High, we have a very large resource base, much of which has been advanced to development-ready inventory. With that accomplished, Alpine High must now compete for capital with the rest of our Permian assets. In the short term, Alpine High's economics were adversely impacted by very depressed gas pricing at Waha. In response, we are continuing to defer the majority of our gas and a portion of our rich gas production until the GCX pipeline enters service in late September. From a cash flow and returns perspective, it is far more viable to wait a few weeks and produce into an improved price environment. At current gas and NGL prices, some portions of Alpine High are less competitive than other opportunities in our portfolio. If this pricing situation does not improve, some capital will be reallocated to areas with more leverage to oil price, most likely elsewhere in the Permian Basin. Turning to Egypt, Apache is the largest acreage holder in the Western Desert and is the country's leading oil producer, giving a strong leverage to Brent pricing with a substantial increase in our acreage position over the past two years and a 3 million-acre broadband seismic acquisition program nearly two-thirds complete. We anticipate a significant refreshed inventory of oil-focused opportunities. This should help increase capital efficiency and returns as we continue to generate a high level of free cash flow. Egypt provides tremendous long-term sustainable oil production potential. In the U.K. North Sea, Apache has some of the industry's best assets and one of the lowest cost operations; production recently reached a two-year high driven by continued exploration success in the barrel area and a shallower oil decline rate in the Mature Forties Field resulting from a sharpened focus on water flow activities. Annual capital investment has been less than $300 million and with strong leverage to Brent oil prices, the North Sea is consistently generating substantial free cash flow. In the fourth quarter, we will bring online another exploration discovery at store in the barrel area and a second development well at Garten. We have plenty of exploration running room in the North Sea with the ability to tie discoveries back relatively quickly and inexpensively to leverage existing infrastructure. In Suriname, we currently anticipate receiving the Nobel Sam Croft drillship during the second half of August and spudding our first exploration well on Block 58 in September. We have secured this rig for a one-well commitment with an option on three additional wells. We believe that Block 58 offers tremendous potential and multiple wells across the block will likely be warranted for proper evaluation irrespective of the initial well's outcome. While we intend to drill the first well at 100% working interest, we have continued interest from potential partners. To summarize, our current portfolio Apache has an extensive inventory of high-quality assets ranging from significant identified resources ready for short cycle development to large scale highly prospective exploration. This includes at scale in both conventional and unconventional resources covering the full spectrum of hydrocarbon potential from oil to liquids-rich gas. When we began 2019, the commodity price environment was volatile, but planning based on $50 to $55 WTI and $2.50 to $2.80 Henry Hub for the long-term felt prudent if not slightly conservative. Oil prices so far are delivering on that expectation. But gas prices are significantly weaker. Additionally, NGL prices took a material downturn in the second quarter and are now trading near historic lows around 35% of WTI. In this volatile commodity environment, a high-quality diverse portfolio with the flexibility to redirect capital is a significant advantage. As we progressed our longer-term planning process, we are closely monitoring macro commodity fundamentals and evaluating many capital allocation scenarios for 2020 and beyond under a number of different pricing decks. We look forward to sharing our preliminary thoughts on this in the coming months. In closing, our strategy for creating shareholder value is straightforward. Flex our capital allocation and leverage our portfolio commensurate with the prevailing commodity price environment, live within cash flow at reasonable oil prices, and generate free cash flow to return to investors, fund the capital program capable of delivering a sustainable combination of long-term returns with a moderate pace of growth, execute on our differential high-impact conventional and unconventional exploration opportunity set. I'm confident Apache can deliver on this strategy given our diversified and well-balanced portfolio, high-quality drilling inventory, relatively low Permian oil base decline rate, attractive exploration portfolio and continuous focus on improving capital productivity and efficiency. With that, I will turn the call over to Tim Sullivan who will provide some operational details on the quarter.

Good morning. From an operational perspective, Apache's highlights for the second quarter 2019 include larger pads with longer laterals in the Southern Midland Basin, strong Barnett results at our Mont Blanc pad and Alpine High, an oil discovery on one of our new concessions in Egypt, and steady development work in the North Sea at store and garden. Please refer to our second quarter financial and operational supplement for drilling pad and well highlights across our portfolio. Company-wide adjusted production was down from the first quarter 2019 reflecting the sale of mid-Continent assets during the period and deferred production at Alpine High. Year-over-year production was roughly flat. In the second quarter, we drilled and completed 67 gross wells, 54 in the Permian Basin, 11 in Egypt and 2 in the North Sea. In the U.S., second quarter 2019 production totaled 264,000 barrels of oil equivalent per day. As John mentioned, Permian Basin oil production was impacted by some one-off events or pads and wells commencing production later than planned. We are trialing a new electric-powered frac fleet; however, commissioning of the fleet took longer than expected and it arrived on our first location 30 days late impacting not only the initial pad but follow-on pads as well. We have since fracked 11 wells on four different pads with this fleet operational efficiencies improving and on a single well basis, we realized more than $250,000 in diesel savings alone while reducing emissions an estimated 90%. Also in the Midland Basin an early sidetrack during drilling operations coupled with flow-back limitations on the pad delayed peak production nearly a month from the Black Dog pad, which includes 9 wells drilled with 2-mile laterals. This pad is now producing as expected. In the Delaware Basin, we drilled 5 wells at Dixie Land and have deferred the completions while we remediate mechanical issues at two of the wells. We are working our completion schedule and expect to place these wells online later this year, but the precise timing is uncertain. The impact of these production delays has affected second quarter results and will linger into the third and fourth quarters. We expect to be caught up with all this year's planned completions by year-end and we anticipate fourth quarter oil production to come in between 100,000 and 105,000 barrels per day compared to our prior guidance of 105,000 barrels per day. We are also benefiting from the start-up of Altus Midstream's new cryogenic processing plants at Alpine High. Drilling and completion costs at Alpine High continue to improve on a cost-per-foot basis as we execute more development activity. Pad development continues to drive down costs into our projected range; drilling, completing, and equipping costs on one-mile laterals are approaching $5.5 million per well. International adjusted production of 132,000 BOE per day came in as expected. In Egypt, we drilled our first lower Bahariya discovery and our new East Bahariya concession; the well flowed at an initial test rate of 3900 barrels of oil per day. This success opens up a number of additional low-cost short-cycle drilling locations. We are also building inventory with our 3D seismic survey across 3 million acres in the Western Desert, where we have completed over 65% of the shoot. Turning to the North Sea, third quarter production will be impacted by annual turnaround maintenance with production rebounding in the fourth quarter. The subsea tieback development at store remains on schedule for first production in the fourth quarter. We also expect to have a second producer at Garden drilled and completed by year-end.

Thank you, Tim. On today's call, I will briefly review second quarter financial results and a few updates to 2019 guidance, discuss the impact of our recent asset sales, and our continuing debt management initiatives, and update the status of our promise for returning capital to investors. As noted in the press release issued last night, under Generally Accepted Accounting Principles, Apache reported a second quarter 2019 consolidated net loss of $360 million or $0.96 per diluted common share. These results include a number of items that are outside of core earnings, which are typically excluded by the investment community in their published earnings estimates. On an after-tax basis, the most significant items include $220 million for asset impairments, most of which were associated with our recent asset sales, $114 million of evaluation allowance on deferred tax assets, and $59 million for a loss on extinguishment of debt. Excluding these and other smaller items, adjusted earnings for the second quarter were $41 million or $0.11 per share. Upstream capital investment was less than $600 million for the second consecutive quarter, demonstrating our commitment to running a level-loaded disciplined capital program and meeting our full-year upstream budget of $2.4 billion. Capital spending in the third quarter will be biased slightly higher than the fourth quarter due primarily to P&A work in the Gulf of Mexico and development spending on store in the North Sea. LOE per BOE for the quarter was above expectations, primarily due to higher salaries in Egypt driven by in-country inflation and increased diesel consumption in both Egypt and the North Sea. Looking ahead, we have increased our full-year LOE per BOE outlook to capture the impact of these higher cost trends and ongoing gas deferrals at Alpine High. Offsetting LOE costs, gathering, processing, and transportation costs were below guidance in the quarter. And our guidance for the full year has been revised downward. This is primarily driven by the sale of assets. In May and in July, Apache completed the sale of midcontinent assets in two separate transactions, resulting in $560 million of net cash proceeds after typical closing adjustments. A portion of these proceeds was used to retire $150 million of bonds that matured in early July. During the second quarter, we refinanced $546 million of debt maturing over the next five years to enhance near-term liquidity. We also refinanced $386 million of higher coupon debt of various maturities to lower our cost of borrowing. Combined with the debt paydown, the net result of these actions is that we reduced overall leverage and extended our debt maturity profile, significantly reducing near-term debt maturities. In February, we announced our intention to return at least 50% of our incremental cash generation to investors before any increases to planned capital activity. In keeping with this commitment, we began returning incremental cash to investors with the debt paydown in July. In the meantime, our 2019 planned capital activity has not changed, and we have no plans to do so. While oil price and sale proceeds helped create capacity for further capital return to investors, the combination of historically weak gas prices in the Permian, resulting in production deferrals, and now extremely weak NGL prices have more than offset the oil price benefit. We will monitor anticipated 2019 cash flows and will continue to prioritize returns to investors over increasing capital spend.

Hey, good morning, guys. John, you mentioned Alpine High is going to have to compete with the rest of the portfolio with lower than expected NGL and gas prices. Just wondering what your preliminary thoughts are for next year in terms of the midstream, do you go ahead with any additional cryo plants there or how you're thinking about 2020 at this point for Alpine High?

Well, I mean if you look at where we were when we reported this year's plan, we had an oil price of $53, and gas was at $2.80, and propane and ethane were at high levels, $0.75 and $0.30. So the gas, ethane, and propane have come down significantly. I think with where we sit today, Mike, and Altus will have their call at 1:00 o'clock. But with where we are today with cryo, two coming on now and three coming on in the fourth quarter, we're in pretty good shape on that front. So I think they'll be in a good position to have the infrastructure in place we would need for the capital we look at.

And then I wanted to see if you had any updated thoughts on the offset well at Haimara discovery and Suriname, and any thoughts there on any additional color you can...

Well, yes, as far as Suriname, I mean we're obviously anxious. It looks like we're going to get the rig here in a couple of weeks, kind of mid to late August, so it's coming, and we should spud our first well in September. Obviously, from the public data we've analyzed, everything we can, we've got 2D data and have looked very closely at all the activity that's going on next door, and we've kind of rolled that in. We have the benefit of a very state-of-the-art 3D with very good resolution. So we've worked our block very, very hard and in detail, and have been doing it for multiple years. So we're obviously anxious. If you look at Block 58, it's a very large block, it's 1.44 million acres today. We have planned to start our program at 100%, and there is continued interest in the blocks, I will say that. But when we look at it we have not given specifics on where the location will be. I will tell you we have a number of wells permitted. We have a pretty good idea where it's going, obviously with us about to get the rig, but there's seven play types, there's over 50 large prospects, and there's a pretty good chance that you'll see us lining up some of those targets with where we will choose to drill the early wells. I will tell you, it's going to take multiple wells in this block to fully evaluate it.

Hi, guys. So sort of following up a little bit on Mike's question, when we look at sort of the really strong margins that you all are getting internationally, and I guess if gas prices and NGL prices sort of remain depressed, how you're thinking about potentially increasing the allocation of capital that goes international sort of on a go-forward basis now that you're basically saying that Alpine High will have to start competing more on a return basis going forward?

Well, we have a very elaborate dynamic planning process, and it's turned into kind of a 365-day-a-year process. And we're in the throes of that now. And when we look at the portfolio, I think the first thing I'll say is we have a very diverse portfolio with many investment options, and none of those have been funding at full capacity over the last couple of years. So we've got a lot of opportunity. Secondly, I would say that we have a very deep understanding of our asset base, which gives us the ability to ensure we're making the right calls on where we're going to put that capital. And the big thing is we're going to allocate capital to drive long-term value. So when you look at where we sit today, there are numerous places where we have been under-investing where we have leveraged oil. Obviously, our Midland and Delaware oil positions are two places. We've had a great track record of results there. Those are areas we could go to. When you look at Egypt, we're in the middle of working through the big 3D shoot, and so we're kind of anxious to see what comes out of that shoot, but I can tell you the early returns look very promising. So there are places we can do that as well. There are other oil zones up at Alpine High. And we've got some other places in the portfolio as well. So we have an abundance of deep places where we can put capital, and we'll work through that under normal course and come back later in the year with our plans as we see things going forward.

Yes, thanks. I was curious about the cryo plant, which has been operational for a while now, and number two is gaining some traction. Do you have an idea of what the mix of that NGL basket would be in terms of products if you were to normalize commodity prices?

Yes, this is Dave Pursell. Right now, the technology used in the cryo plants, we're removing almost 100% of the ethane. So as a result, if you compare it to an average NGL barrel, this will be a little more heavily weighted to ethane and propane. We're still lining amount; we would anticipate, as we move forward, we'll get a richer gas stream into the inlet of the cryo, and so ultimately, the NGL barrel will look a little closer to what the traditional Midland barrel looks like with maybe a tad more ethane in it.

Thank you. Good morning. Just one question on our end, which is with regards to Egypt, you talked about this new discovery in the Bahia area. Can you just add some greater color, on how we should think about the resource potential? How that competes in the portfolio and any impact that could have on either capital investment or growth in Egypt?

Well, I mean if you step back and look, Egypt has got some of the highest returns in our portfolio. So it competes very, very well. We are shooting a large area in the nice thing about Egypt is, it's stack pays. But, they're conventional rock and so you can get a 3,000 or 4,000 barrel a day IP from a vertical well. It's going to cost you $2 million to $3 million. So it's tax out very, very nicely in the portfolio. I think with the new seismic, if you look back over the last two years, we really kept Egypt flat with two discoveries at Peter and Bear Nice and just drilling offset wells there. So it doesn't take a lot to have a real impact on us and we're obviously anxious to get the 3-D back. We think our capital productivity can improve as the quality of the prospects goes up and we love the leverage in Egypt. So, first, I want to end on a couple of points, approximately 60% of our planned 2019 Permian oil-weighted wells will come online in the second half of the year, giving us confidence in our year-end oil production exit rate. Second, our 2019 upstream capital spending is on track and will be at or below $2.4 billion. Next year's capital plan, assuming current strip around these levels will be $2.4 billion or more likely less. And lastly, we are closely monitoring oil, NGL, and natural gas fundamentals, and we'll allocate capital within our portfolio in response to the longer-term price signals. Thank you very much.