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EXCO Resources, Inc. (NYSE:XCO)

Q2 2009 Earnings Call

August 05, 2009 10:00 am ET

Executives

Douglas H. Miller - Chairman and Chief Executive Officer

J. Douglas Ramsey - Vice President, Chief Financial Officer and Treasurer

Stephen F. Smith - Vice Chairman, President and Secretary

William L. Lanny Boeing - Vice President and Chief Operating Officer

Paul B. Rudnicki - Vice President of Financial Planning and Analysis

Harold L. Hickey - Vice President and Chief Operating Officer

Analysts

David Heikkinen - Tudor, Pickering, Holt, & Co.

Joseph Allman - JPMorgan

Ellen Hannan - Weeden & Co.

TJ Holtz (ph) - RBC Capital

Wi Romaldo - Stone Harbor

Patrick Johnston - Deutsche Bank

Derek Whitfield - Canaccord Adams

Brain Singer - Goldman Sachs

Presentation

Operator

Good morning. My name is Nicole, and I'll be your conference operator today. At this time, I'd like to welcome everyone to the EXCO Resources Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. If you'd like to ask questions during this time, simply press star, then the number one on your telephone keypad. If you'd like to reply to a question, please press the pound key. Thank you. Mr. Miller, you may begin your conference.

Douglas H. Miller

Thank you, Nicole. I'd like to welcome everybody to our second quarter conference call. My name is Doug Miller, I'm Chairman. With me today I have, of course, our Counsel, Justin Clarke (ph), keeping me straight down the fairway; Steve Smith, Harold Hickey, Paul Rudnicki, Doug Ramsey, Mark Wilson, and Harold Jameson (ph). We're going to be here and stick with you throughout this call and any questions that get answered.

But before we get started, I'm going to have Doug Ramsey read our disclaimer.

J. Douglas Ramsey

Right. Thanks, Doug. I would like to remind everyone that you can go to www.excoresources.com and click on the investor relations tab on the left-hand side of our home page. That's today's presentation slides. The first page that will come up after you hit the investor relations tab has the presentation slides. Just double click on the link, and it will launch the slide presentation that you can follow along with.

The statements that may be made on this conference call regarding our future financial operating performance structure and results, business strategies, market prices, and future commodity price risk management activities, plans and forecasts, and other statements that are not historical facts, are forward-looking statements as defined in section 27-A of the Securities Act of 1933, and section 21-E of the Securities Exchange Act of 1934. Please refer to pages three and four of the slide presentation for the complete text regarding our forward-looking statements.

In addition, please refer to our website for the earnings release, which contains additional information regarding our forward-looking statements, and the preparation of our financial disclosures, including reconciliations and other statements regarding non-GAAP financial numbers, which will be discussed on today's call. Doug?

Douglas H. Miller

Thank you. As you can tell, I didn't even get a slide this year, so they want to keep me short. But I think to summarize the quarter, it was very active. We have spent the last 12 months reviewing and looking at joint venture partners. It has been a long, tedious – we've probably met with over 15 people, at least in the Haynesville play. We came to an agreement, a handshake, with BG several months ago. It's the perfect partner for us. We were trying to find a partner that brought something to the table other than money. We have found that partner. It's a very exciting partnership. We expect the second – part of that is that it's somebody who understands the upstream and the midstream part of it. We should be coming down the final phases of the midstream, signing by the end of this week. We expect the closing by – a closing on both joint ventures with BG by the end of the month, so we're quite excited about it.

I think one of the things we're going to do and we've put out is we're going to have an Analyst Day on September 22nd-23rd, and I think at that point in time, we'll be unveiling a three-year plan. We are working closely with BG today on both our capital plan for the next three to five years, and although we look a little in turmoil, we are not. We are working diligently on that. We will have that ready for the Analyst Day, and I think everybody's numbers will have significant changes in them because it's going to be a very aggressive plan both on the upstream and the midstream. Our people are prepared.

One of the things I want everybody to know is the company, in the last 12 months, has been quite exciting, at the least. Dealing with lower gas prices, as you can see by our quarterly statement, the hedges really did come into effect. That's why they were there. We've had a couple of months here where we've been getting $2 for our gas, and we've been making $40 million a month the last few months on our hedges. Actually, the low gas prices are giving us some opportunities now. We are doing leasing, especially across the Haynesville play. Prices have come down significantly, so we're very active out there. Almost all leasing that we're doing will be offered 50% that will be offered to BG after closing.

We'll get into some detail. I think we have some exciting well results, a lease in DeSoto Parish that Howard and Harold will tell you about here later on in the call. For now, I'm going to turn it over to Steve. We're going to get through the financial review, and we'll get on with the call. Thank you.

Stephen F. Smith

All right. We're going to be working from the presentation that was posted up last night. Page six. We'll go straight to that page, and this is just a summary of the highlights. As you can see, obviously, with gas prices being what they are versus last year, the total falling gas revenues were way up, as you would expect. But when you take into account the hedging that we've done, it greatly mitigates that problem. As compared to the first quarter, we actually, on oil and gas revenues after or including derivatives, the cash settlements were actually up a little bit between quarters. We had about $2.70 at the end of our first quarter '09 and we have about $2.88 at the end of our second quarter. We're up on net income compared to the first quarter on EBITDA, on cash flow. The only thing we're slightly down on, on average daily production because of some asset sales and continued declines, we cut drilling in every area except the Haynesville, so obviously that will have an impact. But offsetting that, of course, is the significant wrap-up in the Haynesville.

Midstream, in the decline in profitability there between this year and last year, and also really – it was pretty much the result of price declines on gas that we purchased in resale. We actually again are more profitable in the second quarter of '09 than we were in the first quarter of '09, so that's a plus. The other thing that's significant, to us at least, is our operating costs are trimming down. We continue to see the impact of selling some higher operating cost properties, but also the dramatic impact of the low operating costs in the Haynesville. So operating costs are trimming down, overall cash cost, including gathering and taxes and LOE, or property taxes LOE, and GNA, those are also trimming down, so we're very pleased with that.

Our operating cash flow for Mcf was about 5.88 last time, and this actually includes a couple of cents for non-cash stock expenses. We filed 88 for the first quarter of '09 and about 645 this quarter, and that was primarily because, of course, of the hedge effect. And that was really in spite of the fact that we had a 16% decline in price. Overall, a good quarter. We're very pleased with where we are and where we're heading, and we will get into a lot of the details, obviously. We will talk quite a bit about the Haynesville. We're continued to have very exciting results there. Our joint venture transaction is nearing completion with GB, so we're up and running and really excited about what's going on.

Page seven. This is just really a repeat of things we've discussed before in terms of the BG Group deal, of the price. We will end up with a total price of around $1.3 billion, including $655 million of cash upfront, and $400 million capital development commitment from BG to us, and then a $249 million cash payment on the midstream.

As far as our asset divestitures, we'll get into a little more detail, but we're up over – right now we've signed or closed on nearly $450 million worth of asset sales this year, so that's moving forward. And we've still got a sale that's pending selection of the (inaudible) Ohio and Northwest PA in the shale, primarily the shale assets.

Page 8 just discusses the cash flow implications. Obviously, the fact that BG Group will be paying a significant portion of our share of drilling for up to $400 million over the next year or two will have a dramatic impact on our capital. We're going to be wrapping up, very rapidly, in the Haynesville; that will certainly not increase our outlay on capital this year, and obviously, even with the carry for the rest of the year, we're going to be able to do an awful lot without much cost.

So, that's looking good. Our F&D obviously will be very low on the wells that we're quote carried on, so we're moving along very well there.

Midstream, we are going to be very active. We've got several plant projects that we're looking at right now. We're obviously in the midst of installing our 36-inch header system, so again, we're got a partner now, and that will help defray half of the capital costs. They also are very expert in the midstream area, and will be very helpful in the development of that over time.

On page nine, we really talk about why we did the JD transaction. I think we've discussed that enough. The fact of the matter is, BG is a world-class company, just like Doug said, and we're very excited to have them as a partner. They're strong technically, financially, and from a business standpoint, and I think it is recognition that we could obtain or get a partner like them, it does recognize that we are awfully strong technically and operationally, and that certainly is confirmation of that. We will accelerate, there's no question about that, and we will discuss that as we go here.

I want to turn it over to Paul, and let him kind of walk through a little bit of pro forma information, in terms of our financial position and some other in hedging, et cetera. Paul?

Paul B. Rudnicki

Thanks, Steve. I'll pick up on slide 10 of the presentation. What we're representing here is our capitalization and liquidity position as of the end of the quarter, and the effects of the pending transactions.

At the end of the June 30 quarter, we had $168 million cash, just over $3 billion of debt, and the debt was comprised of $2.3 billion of bank debt, $445 million of public debt, and a $300 million senior unsecured term loan.

Walking through the columns, we have $390 million of asset divestitures that are pending. Of those, we have $37.5 million deposits during the quarter. The BG Group, we're expecting $900 million, and again, there's a $20 million deposit paid during the quarter. The pro forma for the transactions – we'll have over $100 million of cash, and $1.07 billion of debt, leaving us with a net debt position of $1.06 billion after these transactions. Our borrowing base post of these transactions will be about $1.08 billion, will be at $1.08 billion. When you include the cash and unused capacity, our liquidity is up to over $600 million and growing as our free cash flow is picking up.

One thing to point out on both these sets of transactions, these are subject to pre- and post-closing purchase price adjustments. We'll update those as we close them.

Going on to slide 11, it's showing you where we are on a hedge percentage for the rest of this year based on our guidance, and looking into 2010 based on what we already are expecting our production to be at the end of the year. You can see that as we make these asset sales, we'll be growing into our hedges. We're actually going to be 92% hedged for the fourth quarter on an equivalent price of $8.58. For 2010, we're just under 70% hedged, based on our fourth quarter '09 production levels, at $8.84.

As Steve mentioned, the cash settlements have been significant and have really flattened out the volatility of our cash flows.

Going on to slide 12, comparing our guidance versus the actuals, as we mentioned, the production came in below our guidance, as we started making some of these asset sales that we had not contemplated in our guidance at the end of the second quarter since those deals weren't signed up. We've also had some delays in our non-operated Haynesville completions. We did defer completing five cotton valley wells that were drilled. We're going to defer the completions till later, probably beginning of 2010. And as Howard will mention in a minute, we did have some downtime in the field in the Haynesville area as we were installing treating facilities.

All said, on a comparable basis, this production should have been approaching 420 million a day, and we'll continue to keep growing.

Our differentials came in the gas side much stronger than our guidance, at just over 101% of NYMEX, and the largest impact there has been the narrowing of the differentials, especially in the mid-continent and Permian basin, and really the price of condensate relative to the price of gas. We have some high BTU gas in the mid-continent and in west Texas, and as the low prices have come back, the BTU content is much more valuable, and we expect to see some strong differentials going forward.

Everything else pretty much came in line with guidance. The only other thing to point out is our other income. We did recognize $8 million of contract cancellation fees for the quarter, and the only other thing to really point out here is the midstream revenue and expenses. Although our margin came in better than we forecasted, the revenue and expenses themselves were lower, mainly, as Steve mentioned, resulting from just lower commodity prices, where we buy and resell gas.

Moving on to slide 13. Looking at our guidance for the rest of this year. I do want to point out that we have attempted to forecast the effects of the closing as they are planned to occur. So basically, for Q3, we've assumed that both the main dispositions and the BG joint venture occur halfway through the quarter. Just to point out, our Q2 pro forma number on production would have been about $293 million a day, and our Q4 guidance is $300 million to $310 million a day, so you can see, we are still expecting to grow with the activity for the rest of this year.

We have updated our differentials to reflect what we're seeing in the field. Lease operating expenses obviously have been lowered to account for the sales. One thing that I want to point out here is as Steve mentioned, again, we've been selling assets with higher operating costs and replacing them with production from the Haynesville at a lower operating cost. We're guiding our operating expenses to under $1 for the fourth quarter, and believe that going into 2010 that trend should continue.

The other major things to point out: The midstream, again, since we are going to be selling a half interest to BG Group, this reflects the half interest that's remaining to EXCO. Our DD&A rate is expected to come down. We expect that DD&A rate to be $1.20, $1.30 for the fourth quarter. And the other major thing to point out is the cash interest expense, obviously, as we're de-levering the balance sheet, reducing the debt by half and getting rid of our most expensive piece of debt. We're looking at annual interest savings of $50-60 million, which again, is just going to drop to the bottom line in free cash flow.

With that, I'm going to hand it over to Hal for the operational side.

Harold L. Hickey

Thanks, Paul. Slide 15, our 2009 focus. As we announced earlier, our capital budget, despite all the dynamics of the JV, and adding additional opportunities to drill in the Haynesville, and our continued working on our sites in the Marcellus will remain in the $500 million capital budget expenditure range for 2009. I think in the second quarter we spent about $124 million. The bulk of that was spent on development and exploitation, primarily in our Haynesville area, and we also spent a significant amount of money in the quarter on our pipeline, our midstream system, where we spent in the order of $20 million.

The asset and investor program, as Steve mentioned, is going very well for us. We're going to sell roughly 350 Bcfe approved reserves and production of approximately 65 million a day, when all issaid and done.

Slide 16 gives you a pro forma picture subsequent to the BG transaction, our divestiture program of our portfolio. There are some obvious changes on here from what you've seen in quarters past. Our proved reserves would have been about 2.2 to 2.3 Tcfe, but with the divesture program and the JV transaction, it's down in the order of 1.7 Tcfe. You'll see on this map, there are some obvious changes in that the Rockies are totally gone now. All of our production in the Rockies has been sold. We've sold in Mexico. We've cleaned up the portfolio in Central and West Texas. We're in the process of completing the divestiture in the mid-continent, where we're selling our Norge Marchland Unit, and we're also selling our Gladewater Overton down in East Texas.

So, the big message here is we've sold in every one of our divisions. We've gotten our portfolio to a point where we're going to be able to focus on the opportunities where we have the most growth upside. In the Haynesville shale, in the Marcello shale, our Canyon Sand Field out in west Texas in the Permian area, and of course, we continue to have our core area in Oklahoma, in the mid-continent region.

Slide 17 gives some good detail on what we've done in the Haynesville. In the second quarter, continued to see excellent well results in our horizontal drilling. Primarily in Desoto Parish, we had one well that we completed up in Caddo, and I'll talk to you about that in a minute, but we've had 12 operated and 6 non-operated horizontal wells going to sale as of the first of this week. We're achieved an average IP rate of 4 million a day in Desoto Parish, and we've seen IPs in excess of 26 million a day. Let me just say, our first Caddo Parish completion, in which we achieved an IP of just below $9 million a day early in the second quarter, is something that since then our technical people have continued to look at that opportunity, and we actually believe today we could improve on the results of that well, and we think we'll continue to see development in the Caddo area, the Harrison county area next year, and that the results will be better than some of our initial results.

Our total gross production is continuing to increase dramatically, $174 million a day earlier this week, $108 million of which was operative. Net volumes of 72 — I checked the number this morning, we actually were up over 75 already, and that's with about $7 million a day curtailed, today, and it won't be curtailed by the first of next week because we're setting some additional treating facilities so that we can meet our pipeline quality specifications and continue to flow additional volumes of gas.

Significant operational efficiencies are continuing to occur in our portfolio in the Haynesville area. Our spud to rig release time has been down dramatically, but I'll also say we're continuing to drill longer and longer laterals. Some of our laterals have been in the 4,600 foot range and actually recently we've frac'd up to 14 stages in our wells.

So we're doing this. Operational improvements and our costs are coming down, particularly on the service side. Now our first well, we probably spent $12 or $13 million back in the fourth quarter completing the Odin well. Our two most recent wells have actually come in and it's looking like they're going to be 9 million or less, so we're seeing some dramatic decreases there.

Frac costs are coming down with us doing the same type of activity in our cleanout so we're real happy with what the team and our service providers are able to accomplish. We currently have four operated horizontal risks, one sputter rig, and one non-operated rig drilling for us in the play. We're going to add three additional operated horizontal rigs during the third quarter, and we're going to add two more in the fourth quarter, so we'll exit the year at nine or 10 operated rigs drilling in our Haynesville portfolio.

So as a result of our successes, as a result the transaction with BG Group, we know plan on drilling 37 operated as opposed to 27 operated Haynesville well. That incremental 10, three of those incremental ten is coming about as a result of just drilling efficiencies, being able to drill quicker with the rigs that we have under commitment so we're going to be able to spud more wells. The other seven that we're adding in the operated side of the portfolio is simply because of the transaction with BG, and we're going to accelerate our activity, as we've said all along.

Before I get into midstream, I will make one quick note that the Vernon Field over in Jackson Parish still continues to perform very well. It's one of the two largest fields in our portfolio making 95 million a day or so, and that team's working very diligently to have additional drilling opportunities identified and ready to go once commodity prices increase, which we firmly believe they will.

Midstream side, primarily around our Haynesville shale development, we're finalizing the first stage of our 36-inch header system. It will be operational this quarter. When we finish all the stages of that system and with compression, it'll be able to flow some $1.2 billion a day of volumes from that region.

As I said earlier, we're adding amine and glycol facilities to treat gas and meet our pipeline quality requirements which are typically 2% CO2. Some of the pipelines will allow 3% CO2. Our volumes have had CO2 containment in the 3%-3.5% range. I think the highest we've seen in one well was around four. So with our systems we're able to treat the gas, we're meeting the requirements, we're flowing gas to sales very quickly, and that's one of the things I want to emphasize is that we continue to add a significant number of high pressure flow lines, it's done very timely, and that's allowed us to immediately flow all of our operated wells to sales. We think that's a key, key part of our strategy. It allows us to make money.

Appalachia, we're continuing to focus on the Marcellus Shale. We're drilling and completing vertical wells. We still have this huge acreage position with some seven to 12 PCF of potential. We're continuing to work towards getting our science resolved, getting our focus areas identified, and deciding where our 2010 development program is going to lead us, but we're very excited about the Marcellus and it's coming along very well. Our teams are working together. We've actually done some integration among the Marcellus team, the Haynesville team, the Vernon team, so that these guys are in communication and we're sharing learnings across the portfolio.

Last in Appalachia, we're evaluating the sale of our shallow assets in Ohio and this would actually allow a total exit of the State of Ohio production and we're looking at certain assets for sale in Northwest Pennsylvania. This portfolio of sales in Appalachia is in those areas that we do not deem perspective for Marcellus.

The last couple of areas I'll mention on slide 19, the mid-continent, like Steve and Doug mentioned earlier, we're closing the sale of the significant mid-continent transaction. Should close sometime the middle of this month, and we're investing capital only where it's appropriate to protect our position.

The Permian, again, a key area where we're selling some nonstrategic assets, as I mentioned earlier. The operational focus is on capital and expense management, and again, queuing up so when prices recover we'll have some robust drilling activity in the Canyon Sand field in West Texas.

Doug?

Douglas H. Miller

To summarize, we have had a busy year and we're getting across the finish line with a couple of asset sales in our BG transaction. We're not done. We have two more significant transactions — asset sales that we're working on, and we still have a Marcellus joint venture. We have driven Goldman Sachs crazy over the last 12 months. They've done a spectacular job for us in identifying and bringing people in. We are going to defer. We are in discussions, but we're going to defer making a decision on the Marcellus Joint venture until at least the fourth quarter or maybe the first year of next year; however, Goldman Sachs continues to take calls on that.

Contrary to popular belief, this company has been growing over the last 12 months. Doug, I think we've hired probably 100 people in the last 12 months. We're still looking at people. Our total employees are over 900 today. We had an all-time record internship this year. I think we had over 30. We had some unbelievably good kids in with some great records and did a great job so we're getting a little younger. With Steve and me around here we've been getting older for years, so we're trying to get younger.

I think the main thing is we're working on our budgeting and our forecasting. Our Analyst Day will unveil that, but I think the main thing we're working on, we want to see significant growth in production, in reserves, in EBITDA, and I think for the very first time you're going to see over the next three years some very significant growth in free cash flow. The debt is something that we're mindful of, and with the transactions that we're working on right now — we're heading towards a lot lower. I keep saying zero in here, but that would be my goal, to see if we couldn't get over the next 12 months heading for zero debt.

So with that I'm going to — the other thing that I wanted to remind you, we are in the throes of negotiating on additional leases probably in the 25 to 30,000 acres that we have found available in the Haynesville Plane, so keep in mind that a lot of people criticize us for selling a half interest, we're going to have that half back here in the next two months.

So very exciting times. Gas prices being cheap are actually an advantage for us right now. It's given us the ability to buy additional leases in the Haynesville and the Marcellus, and most importantly the service costs have come down where I think we might actually drill some of these wells for $7.5-$8.5 million over the next couple of quarters.

With that, I'm going to open it up for questions because I'm sure we didn't answer everything. So Nicole, tee off the questions.

Question-and-Answer Session

Operator

(Operator's Instructions) Your first question comes from the line of David Heikkinen of Tudor, Pickering, Holt. Your line is open.

David Heikkinen - Tudor, Pickering, Holt, & Co.

Good morning, guys. I had a question on the Haynesville. How much capital have you invested drilling leasing midstream year to date?

Douglas H. Miller

About $115 million.

David Heikkinen - Tudor, Pickering, Holt, & Co.

Okay. And as part of the purchase price adjustment, you end up recouping half that capital. Is that a fair way to think about that?

J. Douglas Ramsey

Well, we get half the capital back netted out of half the revenue because it goes back to January 1st, but expect somewhere between $100-$200 million of additional cash coming our way.

Douglas H. Miller

And that's the comment we put in the press release, David. If you look at the $500 million we plan on spending this year on a full year basis, it's closer to $360 million, and that doesn't contemplate having the carry in for a full year.

David Heikkinen - Tudor, Pickering, Holt, & Co.

Yeah, exactly. So when you think about — and I know I'm not going to try to lead you into 2010 because you're probably not going to answer it now — so when I think about what you're doing in the Haynesville and kind of sales in your guidance, what's the cushion as far as your third quarter guidance and fourth quarter guidance as far as timing of sales, and are you biased towards pulling more production out or less or just trying to get an idea of do you think the sales close sooner and you get cash in sooner — just trying to get in your mind a little, Paul, maybe?

J. Douglas Ramsey

No. I think we've put the guidance out to what we expect the things to close. We haven't really give ourselves a lot of cushion for the timing. We're putting our best guess as far as the closing.

Douglas H. Miller

I let my mouth overload my rump a little when I said we're trying to get the pipeline deal closed this week. I'm leaving that up to Steve. He gets a whipping if he doesn't get it done this week. And closing the BG deal and the Encore deal by the end of the month. Those are the two dates that Paul's using.

David Heikkinen - Tudor, Pickering, Holt, & Co.

Okay. And just one follow-up question. Harold, you said selling North Pennsylvania that doesn't have Marcellus potential; what countries would that exclude?

Harold L. Hickey

The extreme Northwest.

Douglas H. Miller

Up in the Northwest, the Haynesville —

Harold L. Hickey

Erie and maybe Mercer.

David Heikkinen - Tudor, Pickering, Holt, & Co.

So really just the under pressured not really a chance —

Harold L. Hickey

Right, exactly.

David Heikkinen - Tudor, Pickering, Holt, & Co.

Thank you.

Operator

Your next question comes from the line of Joe Allman from JPMorgan. Your line is open.

Joseph Allman - JPMorgan

Thank you. Good morning, everybody. Hey, Doug, in terms of Haynesville capacity, I know in the release you indicated 370 million of firm capacity by year-end. Could you help us feel comfortable to some point and say 2010 or 2011 that you're not going to get into a pinch in terms of not having enough capacity to move your gas?

Douglas H. Miller

Yeah. And I wish you'd have been here yesterday. We had an all-hands meeting with the BG Pipeline guys. We will have plenty of capacity by the end of 2010. We're negotiating on four other deals that pipeline potential, including Regency, getting another 175 million a day from them, but more importantly we're talking about some expansion and maybe building some main lines ourself in partnership. Hopefully we'll have that teed up and unveiled at the September 22nd meeting.

Joseph Allman - JPMorgan

Okay. That's helpful.

Douglas H. Miller

We will not be behind. That is the most critical part of this whole Haynesville exercise right now is having the capacity, and we're negotiating with Gulf South, CenterPoint, Crosstex, Regency — everybody that's in the neighborhood, we're kissing their rumps.

Joseph Allman - JPMorgan

Okay, that's good. Marcellus Shale JV, what's the reason for deferring that to the fourth quarter first quarter, and does the BG deal does that make you more enthusiastic about doing a Marcellus JV or you feel less of a need to do it or what do you think about that?

Douglas H. Miller

No, no. I think right now with where we are in the play we have drilled a lot of vertical wells. We've done a lot of coring. We're actually finishing up some 3D. We're trying to identify. It looks to us like there's going to be six separate areas. That's how we've attacked it. There's been two guys who have been very successful, Cabot way up to the northeast and Range down to the southwest, and even though we have acreage in both of those areas we have acreage all along the trend. We're trying to identify it and find out exactly what we have.

We have been approached by six or seven people through Goldman Sachs as far as a joint venture. We have just deferred it until we can try to determine the value of our acreage other than just selling an acreage deal. We were able to make a deal with BG on the Haynesville, which proved not only that our acreage was valuable, but that our science and our people are valuable, and we want to do the same thing. We still plan on doing a joint venture, but to make it a very significant joint venture we have a little more work to do.

Joseph Allman - JPMorgan

Does it make sense to have some horizontal wells down?

Douglas H. Miller

Absolutely. We're working on it as we speak, and we have two to three areas — there's a focus — now keep in mind, it isn't the same as in the Haynesville where we order up a rig and call a pipeline company. We've got a lot of service company issues, we got water issue, and most importantly, we have pipeline issues. So we have about four areas targeted right now where we could move 20 or 30 million a day, but that's it. So we are doing a lot of planning. A lot more planning is going to go on up there than is going on in Haynesville. We still will do a joint venture.

Joseph Allman - JPMorgan

Are you drilling some horizontal wells there this year?

Harold L. Hickey

Yeah. We are. We hope to have at least one impactful horizontal well down by the end of the year. I mean, that's our goal.

Douglas H. Miller

We have drilled some short laterals, 600 to 2,000 feet and are very encouraged by the results. It's now time for us to drill a 4-5,000 foot lateral and prove to ourselves and the world that we can produce a long lateral. The science up there is challenging, the shale dips, and so staying in zone is a challenge and we're going to make sure we can do it.

Joseph Allman - JPMorgan

All right, good stuff. I'll get back in the queue, thanks.

Operator

Your next question comes from the line of Ellen Hannan from Weeden & Co. Your line is open.

Ellen Hannan - Weeden & Co.

Good morning. Is there anything in your agreement with BG that gives them the right of first refusal on a JV in the Marcellus?

Douglas H. Miller

No.

Ellen Hannan - Weeden & Co.

Okay. And Doug, if you get to the end of this next year, let's say, or some point, with literally no net debt on the balance sheet, how satisfied will you be with the map that you have today of where your properties are?

Douglas H. Miller

We will be very satisfied. I think right now at our 2010 rate in the Haynesville, we have 20 years of exciting drilling, and if we can get in the same place in the Marcellus, we have more acreage and the play is bigger.

So I can see, and I think we're going to talk about it on the 22nd and 23rd, you're going to see some awfully explosive growth with some awfully explosive cash flows and free cash. So we're very happy. No debt, there's a reason for that. Our government is creating an issue where we think that over the next five years that the cost of debt is going to significantly increase, and we would like to be in a position to take advantage of guys that can't get financing.

We're not stopping, we're just trying to react to what is going on in the marketplace and we think little or no debt is going to be the place to be over the next five or six years.

Ellen Hannan - Weeden & Co.

Fair enough. And one last question, and you may have touched on this earlier if I missed it. In terms of the spending on the midstream, particularly in the Haynesville, can you give us a kind of how we should think about that over the next couple of years?

Douglas H. Miller

Yeah. And it's going to change. I think the last board meeting — our forecast is 100-125 million a year for the next three years, but I would say this: After our meeting yesterday with all the BG guys, I think there's going to be some opportunities to expand that, and I think we're going to put our heads together. These guys are awfully smart guys with some really big markets around the Midwest and the Northeast and the Southeast, and if we can expand that I think both parties are willing to do that.

So use the 100-150 million, so 2012 until September.

Ellen Hannan - Weeden & Co.

Great, thank you very much.

Operator

Your next question comes from the line of TJ Holtz (ph) from RBC Capital. Your line is open.

TJ Holtz - RBC Capital

Hey, guys. The Haynesville wells, the IPs that you're reporting, what kind of number is that? Is that a highest instantaneous rate, a 24-hour rate — what is that?

J. Douglas Ramsey

It's the highest 24-hour rate we have going to sales.

Douglas H. Miller

In the first 30 days and usually things are choked back — what's the choke-size average, Harold?

Harold L. Hickey

We'll be up to 24 up to a 28 64 choke, and once we get the well cleaned up we'll reduce the choke size, start walking the choke down, but typically on the IP in that highest period we're on a 26 or a 28.

Douglas H. Miller

Yeah. So we're still choked back, monitoring the pressures, but could we open it up? Yes. Should we? No. We've told our guys, produce them right.

TJ Holtz - RBC Capital

Okay, great. The rigs that you have come in, and you said three in third quarter, what's the status of those? Are those coming soon, next week, or are they later in the quarter?

Harold L. Hickey

September. The final preparations are being made right now. Those rigs are going to arrive later on this month, and then the others are coming in September. So everything is on schedule. They're all new built rights, fit for purpose rigs, 1,500 horsepower with top drives. They're just like the other rigs we currently have running in the field that are working very well for us.

Douglas H. Miller

They're all scheduled — we know exactly what locations they're going to, they're all scheduled and on time.

TJ Holtz - RBC Capital

Okay. I guess that kind of leads to my next question. Are they all headed to this other parish? I know you talked about returning to Caddo and Harrison County, what are your plans to draw outside of DeSoto Parish?

Douglas H. Miller

Well the wells that we're drilling this year — there will only be two this year that are drilled in Caddo Parish, the rest will be down in DeSoto.

Harold L. Hickey

One which we've already drilled.

TJ Holtz - RBC Capital

Two in Caddo, including the one you've already drilled.

Douglas H. Miller

Yes.

TJ Holtz - RBC Capital

Okay. Just last question on your Appalachian sales that's going on right now; can you just kind of give an update on timing and where you are exactly in that process?

Douglas H. Miller

I can't believe you're asking because RBC's handling that. You should know that. Obviously, there's a Chinese wall there. We have received bids. We're in discussion on detail that we're having a meeting this week and next week with the buyers, engineers, and ours, just to finish it up. We should have something done in the next two weeks.

TJ Holtz - RBC Capital

Okay. Thanks, guys.

Operator

Your next question comes from the line of Wi Romaldo from Stone Harbor. Your line is open.

Wi Romaldo - Stone Harbor

I was wondering with the capital credit market opening up again and your concern about ultimately interest rates going up. Would you consider to term out your bank debt to deal with your short maturity now?

Douglas H. Miller

The answer is no. We have had several investment bankers call us and offer us new rates. Our Triple C bonds are trading at 99 so we will be spending some time here in the next 30 days with S&P and Moody's going over our plans. We think that we're going to be getting an upgrade, but we don't see any need for terming out debt and I just want to make sure everyone is aware we will not be filing a 25 million share equity offering anytime soon.

Wi Romaldo - Stone Harbor

Okay, second question, just for clarification, the 400 million drilling carry with the BG deal, that's in addition to what the adjustment would be because the closing is retroactive?

Douglas H. Miller

Yes. At closing, they will be refunding us for any capital we've spent since January 1st in both the Haynesville and the pipeline. Also at closing they will receive all of our cash flow on the properties they're acquiring, so that net will be between $100-$200 million additional cash coming to us, but the carry will not start until after closing.

Wi Romaldo - Stone Harbor

Okay, great. Thank you.

Operator

Your next question comes from the line of Patrick Johnson of Deutsche Bank. Your line is open.

Patrick Johnston - Deutsche Bank

Hey. Good morning, guys.

Douglas H. Miller

Hey, Patrick. Where's Shannon?

Patrick Johnston - Deutsche Bank

She's on the road. Left me to do her dirty work.

Douglas H. Miller

Oh, right. I've heard that story before.

Patrick Johnston - Deutsche Bank

Hey, you mentioned your intentions regarding leasing in the Haynesville, was wondering if you could talk about the acreage costs that you're seeing across the different —

Douglas H. Miller

Yeah. You know, we're actually — there is a wide range. We have 20 guys out there working, and I would say anywhere from 5,000 an acre to 15,000 an acre over the core areas. So it's significantly cheaper than we were seeing last year and we're actually making deals.

Patrick Johnston - Deutsche Bank

Got it. And the scale, you mentioned I think up to 30,000 acres you're looking at?

Douglas H. Miller

I think on our desk we are negotiating on 25,000-30,000 acres. Now negotiating and closing are two different things. I'd say we're in really good shape on the first 10, and after that we're working our rumps off.

Patrick Johnston - Deutsche Bank

Appreciate it.

Operator

Your next question comes from the line of Derek Whitfield of Canaccord Adams. Your line is open.

Derek Whitfield - Canaccord Adams

You mention in your press release that you've increased the number of frac stages in your recent Haynesville wells. Could you talk a little bit about the difference you're seeing in productivity on these wells, as well as your incremental costs per frac stage?

Douglas H. Miller

Incremental cost is easy (laughs).

J. Douglas Ramsey

Basically the performance, these are two very recent wells we just completed with the 14 frac stages so it's really too early to measure that. I mean, in fact, we're just looking at the initial flow back on one of the wells now, and there's a lot of consistency between all of the wells we've seen in DeSoto Parish. It's very amazing how consistent the performance of the wells across our acreage position has really been.

So on the 14 stages it's really too early to answer that. We can't really tell, as it's just too early in the flow back on that.

Douglas H. Miller

But you can tell him what the costs are.

Harold L. Hickey

I think it will cost 250 per stage or something.

J. Douglas Ramsey

Oh it's less than that, just under 200. It's about 175 per stage, roughly, is what we're looking at for incremental.

Derek Whitfield - Canaccord Adams

And I think you guys mentioned a Marcellus horizontal, is that going to be in the third of fourth quarter?

Douglas H. Miller

Fourth.

Derek Whitfield - Canaccord Adams

Okay, very good. Thanks, guys.

Operator

Your next question comes from the line of Joe Allman, JPMorgan. Your line is open.

Joseph Allman - JPMorgan

Thanks, again. With the BG JV, in terms of buying additional acreage, do you get a carry on buying additional acreage?

Douglas H. Miller

No. But what we do is whatever — anything that we buy out there or they buy, they have the right to participate for a half and at the same exact cost, it just goes into the overall package.

If we end up drilling on it of course we're carried, but the first 400 million is on any and all acreage in the AMI — just the drilling. We're not carried on any acreage; it's just at cost.

Joseph Allman - JPMorgan

Gotcha. And then a different topic, on the (inaudible) determination in the fall, any indication from the bank in terms of price level and what are you thinking about how you stand in that regard?

Douglas H. Miller

Yeah, we're in early discussion with them. We're hoping if we can get a couple more deals closed that we'll consolidate. We have two facilities that total $1.8 billion today. It was just approved a week ago. We don't think there's going to be any problems. I think you're seeing that banks are forecasting that their prices are going to go down slightly. We'll see how that goes. We are actually in early discussions with them and hopefully we're going to be able to consolidate this.

If everything goes well we're going to probably reduce our borrowing base down to 1.5 and hopefully have almost zero out. That's kind of the strategy.

J. Douglas Ramsey

And Joe, there's a lot of chatter out there in the industry about people's hedges rolling off and that's going to affect their borrowing bases in the fall. It's probably true for us. We are just like everybody else, even though we're more higher hedged, it's not as big of a deal, but we're looking at the Haynesville to more than offset any kind of changes like that.

Douglas H. Miller

The reserves there are pretty significant and the production is pretty significant so we don't expect we're going to have any issues whatsoever. It doesn't matter what their price deck is.

Joseph Allman - JPMorgan

But that's reduction from over $2 billion to 1.5; what does that come from?

Douglas H. Miller

That's going to come from some sales. We have a couple more sales pending.

Joseph Allman - JPMorgan

Got you. So you think that reserve ads most likely offset any kind of decline in price decks that the banks use?

Douglas H. Miller

Absolutely.

J. Douglas Ramsey

Yes, if there is a decline in the price decks.

Douglas H. Miller

Yeah. I mean, I think you're talking like JPMorgan. They're talking to us about reducing their price deck and so we're talking to them.

Joseph Allman - JPMorgan

Okay. And so does your getting to a zero or very little debt, does that rely on a Marcellus Shale JV?

Harold L. Hickey

No.

Douglas H. Miller

Well, yes and no. I mean, I think we have two more significant asset sales that we've been approached on, but to reduce down to $1.5 billion, that would include a Marcellus joint venture.

J. Douglas Ramsey

Short-term, but —

Douglas H. Miller

Oh, in the short term. We can get down to zero debt over two years just on free cash, yeah. I see what you're saying, sorry.

Joseph Allman - JPMorgan

Okay, all right. Very helpful, thank you.

Operator

(Operator's Instructions) Your next question comes from the line of Brian Singer of Goldman Sachs. Your line is open.

Brain Singer - Goldman Sachs

Thank you, good morning.

Douglas H. Miller

Hey, Brian. You've been hiding!

Brain Singer - Goldman Sachs

I have, and I apologize I did join late so I'm a little afraid I might be a bit repetitive for what you may have said earlier, but can you just give us an update first, I guess, on the Marcellus, number one with some of the results we've been seeing from others, how you extrapolate that, if at all, to your various acreage blocks; and two, you might have just touched on it with the last question, how aggressively you're pursuing a joint venture there.

Douglas H. Miller

Okay. First of all, let me talk about the joint venture. Goldman Sachs, of course, is representing us. They have been approached and we have been approached by about seven people, including several foreigners. We have chosen and made a decision a couple of weeks ago to defer that for a while. We're not actively showing. We're actively discussing it with some, but we're not actually showing it, and that's probably going to be deferred until the fourth quarter or maybe the first quarter of next year.

Now talk about results, Harold.

Harold L. Hickey

Okay. Just to give a little color to it, remember that this is a huge, huge position across a wide area and so I don't know if you heard or not, but Doug said we've narrowed it down to about what we call six areas and they range from Northeast Pennsylvania all the way down into Northern West Virginia. And what we've done is we've drilled vertical wells across these different areas. We're determining what that science is telling us. We're going to drill some horizontal wells and get to the point where we understand our portfolio.

Now, we're very excited about some of the results that Cabot has had up in the Northeast. We're also in the Northeast. And philosophically, we went in saying it's a big play, it covers a huge area, we want to be positioned so that wherever the best results are, we want to be able to learn from the others, learn from the vertical wells we drill, learn from the horizontal wells we drill, and exploit the opportunities.

So long story short, we're excited about what Cabot's done in the northeast, we're trying to learn from that, we're drilling vertical wells there. We're also very excited about our acreage position in Central PA. We're going to learn from that and we're going to continue to develop these horizontal wells and be in a position so that some time next year we'll be able to have a robust discussion around joint venture opportunities.

Douglas H. Miller

Brian, I ran into one of the geologists yesterday and he was talking about — keep in mind this is 12 million acres and we have 350,000 and so we have some concentrations across that 12 million acres, and basically, he told me it's exciting, it's complicated, and we're go find that there's about five or 10 Haynesville type plays that are concentrated and we want to make sure we're in the right spot. And so that's what we're trying to do right now.

Brain Singer - Goldman Sachs

Got it. That's helpful.

Douglas H. Miller

I think you're seeing some guys that got dollar-finding cost between Range and Cabot. Obviously that's what we think we have in the Haynesville. We have not done that yet up there in the Marcellus and we want to do that.

Brain Singer - Goldman Sachs

And is the reason to delay just because you feel like at least based on what's being offered that you'd otherwise be leaving potentially money on the table as you go through your —

Douglas H. Miller

No, no, we haven't been offered anything. I think we know what a joint venture looks like. We've done several of them and we've seen what Chesapeake did and we've seen some others. And one of the things is we have a lot of acreage up there. We're not in a hurry. We're HBP 95%. We don't have to be in a hurry and if we want to see a half interest in acreage we can get $2,500-$3,000 an acre. We don't need to sell a half interest in acreage.

Harold L. Hickey

We're just trying to finish our science just like we did in Haynesville.

Douglas H. Miller

Yeah. I think for us to get a premium for our joint venture, we have to prove to somebody that we know where the good spots are and where the bad spots are, and that's going to take us a little more time.

Brain Singer - Goldman Sachs

Fair enough. And my second potentially repetitive question is can you talk about the decline rates in your early Haynesville wells and where those are producing right now.

Douglas H. Miller

Yeah. We think our decline rates are early on or in the 80% range.

Brain Singer - Goldman Sachs

And that's consistent with the December-February wells?

Douglas H. Miller

Yeah. I mean, we're choking them back. We're going to have some decline curves for you at the September 22nd and 23rd meeting, but I think if you use the initial production rate, it looks like 80%. If you use the average first 30 days rate it's probably closer to 60%, but use 80%.

Brain Singer - Goldman Sachs

Thank you.

Operator

Your next question comes from the line of David Heikkinen from Tudor, Pickering, Holt. Your line is open.

David Heikkinen - Tudor, Pickering, Holt, & Co.

Actually, I already got the answer. Thank you.

Operator

There are no further questions at this time.

Douglas H. Miller

Okay. With that I appreciate everybody tuning in, I appreciate the questions, and as everybody understands, we're about halfway through what we're planning on doing. The team's doing a great job, great results, and we look forward to seeing a lot of you in September. Thanks again, bye.

Operator

This concludes today's conference call. You may now disconnect.

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