SM Energy Company (SM) Earnings Call Transcript & Summary

Welcome to SM Energy's First Quarter 2021 Results Webcast. Before we get started on our prepared remarks, our discussion today will include forward-looking statements. I direct you to Slide 2 of the accompanying slide deck, Page 4 of the accompanying earnings release and the Risk Factors section of our most recently filed 10-K and 10-Q, which describe risks associated with forward-looking statements that could cause actual results to differ. We will also be discussing non-GAAP measures please see Slides 22 through 24 of the accompanying slide deck on Pages 11 through 14 of the accompanying earnings release for definitions and reconciliations of non-GAAP measures to the most directly comparable GAAP measures and discussion of forward-looking non-GAAP measures. Today's prepared remarks will be given by our President and CEO, Herb Vogel; and CFO, Wade Pursell. I will now turn the call over to Herb.

Good afternoon, and thank you for your interest in SM Energy. Today's call will be brief, given we reported 2 months ago and provided updates at March conferences. Most importantly, despite a quarter that had a number of moving pieces due to the volatility caused by the February severe weather event in Texas, we are pleased to report that we remain on track with our long-term plan as presented in February. As shown on Slide 3, I will reiterate that our key long-term objectives are to: first, maximize cash flow over the next 5 years, sustaining a reinvestment rate of less than 75%. Second, improve the balance sheet by applying free cash flow to absolute debt reduction, targeting less than 2x leverage by year-end 2022 and generating sufficient cash flow to exceed bond maturities due through 2024. Third, maintain top-tier high-return inventory; and fourth, report differential ESG stewardship. Since we delivered this plan, which was based on January strip prices, the outlook has only improved. Despite the challenges of the first quarter, our 2021 guidance remains in place for capital and production, and we expect to generate substantial free cash flow. I'll now turn the call over to Wade to add some color on the quarter and the outlook for the year. Wade?

Thank you, Herb. I'll start on Slide 4. Yes, the first quarter certainly had several moving pieces related to the February storm. This shows up in production volumes, higher realized pre-hedge prices and higher hedge settlements. Well, I think our detailed reporting is largely sub explanatory, I'll try to provide some color in these areas. Starting with production. Repercussions of the storm included shedding production as well as problems with the supply chain. As a result, there were delays in completions. There were no completions in January and February, all new wells came on late in the quarter and some wells that were fracture stimulated in March were not turned in line until April. This impacted production for the quarter, leading to the slightly lower volumes than guided and will, in turn, lead to more flowing completions in the second quarter than originally planned. We now anticipate about 50 net flowing completions in the second quarter. Regarding pricing, our average pre-hedge realized price of $42.11 per BOE was up 48% sequentially, which reflects generally increasing commodity prices as well as the benefits from price spikes in gas and NGLs in February. This was partially offset by our large hedge positions. I don't want to get too deep in the weeds here, but what happened in February was quite unusual. Due to the substantial gas volume shut in, hedge volumes actually exceeded production volumes for the month, about 106%. And this was when prices spiked. Therefore, we paid out hedge differences, which included the excess of spot prices and did not have the actual sales revenue at the elevated prices for those days. However, this unusual hedge loss was more than offset by income recorded in other operating income related to power expense hedges in place. The structure of our power contracts led to a gain during the Texas storm. Again, this comes through the other operating income/expense line and is net of other items. Turning to the balance sheet, Slide 5 for a minute. We completed our spring redetermination, and the banks reaffirmed the borrowing base at $1.1 billion. Therefore, with $135 million drawn on the line at quarter end, we had $965 million in liquidity. You should also note that we did not seek to extend the secured second lien capacity. I'll also point out that our credit ratings were upgraded by each rating agency, Fitch, Moody's and S&P, reflecting our improving debt metrics and positive outlook for generating cash flow. Turning to Slide 6. Hedging. We have 75% to 80% of oil production hedged and about 85% of natural gas production hedged for the remainder of 2021, details by quarter in the appendix. As we previously stated, our methodology for hedging is aligned with our outlook for leverage. So you can expect a directionally lower percentage of production to be hedged in 2022 as we're forecasting net debt-to-EBITDAX coming down to 2x or less. Turning to guidance, Slide 7. As we've seen before, our very resilient operations team is keeping us on track despite the impact to production and completion delays in the first quarter. And to reiterate, there is no change to 2021 guidance. Our objective is to maximize free cash flow. And with that, we have slightly modified the timing of activity this year, the best take advantage of contracted rates in place for capital activity. As a result, we'll be spending nearly 2/3 of the capital in the first half of the year, and we may see certain completion scheduled to turn in line in the first quarter of '22, crossing over into 2021. Second quarter guidance includes expected capital expenditures between $230 million to $240 million. And as I mentioned earlier, we'll include about 50 net completions, roughly 80% in the Midland Basin and expected production of 130,000 to 134,000 BOE per day. Turning to operations, as Herb indicated, we're on track and do not have much to report in terms of new information since last month. Skipping ahead to Slide 10. We've updated the Austin shop plots, and these wells continue to look great. In March, we brought on 6 wells with our partner, where we have a 50% working interest in production in the high gas area, 3 of which are Austin Chalk wells. In mid-April, we brought on 3 additional Austin Chalk wells. These are located in the eastern area, which we sometimes refer to as the Galvan area, which is NGL rich. The 3 Galvan wells are on 2 pads and are testing different landing zones. While it's too early to report any results from these wells, as you know, we wait for 30 days data. I'll generally say preliminary data looks very strong, and we're very excited about all 9 New South Texas wells and remain very excited about the Austin Chalk overall. With that, I will turn it back to Herb to talk about premier operations and wrap it up. Herb?

Thanks, Wade. Safety and emissions reduction are among our top objectives, as shown on Slide 11. We consider top-tier safety, spill and emissions performance as integral components of being a premier operator. We are pleased to report more of our 2020 safety and environmental metrics. Flaring as a percent of gas produced came in under 1%, reflecting a 75% improvement from 2019 in the Permian and negligible flaring in South Texas. We rank ourselves against our peers who report through AXPC. Our methane emissions intensity of 0.04 metric tons of methane per MBOE is top quartile among AXPC peers who have reported this metric for the last 3 years. If we translate this emissions intensity into the World Economic forum calculation, which targets 0.2% of methane produced by 2025 as the gold standard. We are already meeting that target at 0.1% in 2020. Our greenhouse gas emissions intensity of 7.8 metric tons of CO2 equivalent per MBOE in 2020 is also top quartile and represents a reduction of 37% from 2019. Spill volumes and safety, as measured by TRIR, or Total Recordable Incident Rate, also ranked top quartile among our AXPC peers. Both our short-term and long-term incentive compensation programs are driven in part by performance against key environmental and safety metrics. In summary, we are on track for another great year of generating free cash flow and on course for meeting our long-term objectives. We are particularly excited about our success in the Austin Chalk as we are well into our Austin Chalk delineation and development activity for the year. We will share more details when new wells have been flowing for a sufficient length of time. Thanks again for your interest in SM Energy.