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Legacy Reserves LP (NASDAQ:LGCY)

Q3 2009 Earnings Call Transcript

November 5, 2009 3:00 pm ET

Executives

Steve Pruett – President, CFO and Secretary

Cary Brown – Chairman and CEO

Paul Horne – EVP, Operations

Analysts

Kevin Smith – Raymond James

Leo Mariani – RBC Capital

Ethan Bellamy – Wunderlich Securities

Michael Blum – Wells Fargo

Will Hardy [ph] – RBC Capital

Operator

Welcome to the Legacy Reserves 2009 third quarter results conference call. Your speakers for today are Cary Brown, Chairman and Chief Executive Officer; and Steve Pruett, President and Chief Financial Officer. At this time, all participants are in a listen-only mode. Following the call, there will be a question-and-answer session. As a remainder, this call is being recorded today, November 5th, 2009.

I will now turn the conference over to Mr. Pruett.

Steve Pruett

Thank you, Danielle. Welcome to Legacy Reserves LP’s 2009 third quarter earnings call. Before we begin, I would like to remind you that during the course of this call, Legacy management will make certain statements concerning the future performance of Legacy and other statements that will be forward-looking as defined by securities laws.

These statements reflect our current views with regard to future events and are subject to various risks, uncertainties and assumptions. Actual results may materially differ from those discussed in these forward-looking statements and you should refer to the additional information contained in Legacy Reserves’ Form 10-K for the year ended December 31st, 2008, our earnings release filed yesterday, and our 10-Q which will be filed tomorrow and subsequent reports as filed with the Securities and Exchange Commission. Legacy Reserves is an independent oil and natural gas limited partnership headquartered in Midland, Texas, focused on the acquisition and development of long-lived oil and natural gas properties, primarily located in the Permian Basin and Mid-Continent regions.

I will now turn the conference over to Cary Brown, Legacy’s Chairman, Chief Executive Officer, and Co-Founder.

Cary Brown

Thanks, Steve, and thank you to our friends and unitholders joining us today. I am pleased to report another solid quarter. In spite of only spending $3 million or 10% of EBITDA on CapEx, we were able to increase production just slightly. Our operations team continues to execute, getting maximum impact out of our investment dollars and focusing on the thousand different little things that maximize production and cash flow.

With this performance, our distributable cash flow was $0.67 per unit. Even after taking units [ph] into account, we had a 1.29 times coverage of our $0.52 distribution payable November 13th. On the capital markets front, on September 18th, we issued 3.8 million units, raising $57.6 million in an overnight transaction to pay our debt down to $222 million, or 1.8 times our annualized EBITDA.

The banks reconfirmed our $340 million borrowing base, which currently leaves us $117 million of dry powder for acquisitions. We actually did three small Permian deals this quarter for a total of $5.6 million. I am very encouraged with the current deal flow. It seems that as oil prices get back to $70, sellers start thinking about turning losers from assets. We are busy doing lots of evaluations, and I am hopeful we will be back in our $200 million a year acquisition phase in the coming year.

I am disappointed with where our units are trading, but other than that, the business seems to be hitting on all cylinders. With our past acquisitions, we have inherited a fairly significant inventory of drilling locations, which we are currently evaluating. It’s comforting to know that with this drilling inventory, should the acquisition market close, we would have an alternative place to invest. But at this, we think we are going to focus primarily on acquisitions.

With that, I am going to turn it over to Steve to go a little deeply into the numbers.

Steve Pruett

Thank you, Cary. We are pleased to report unaudited preliminary financial information that has been extracted from our Form 10-Q to be filed tomorrow. This information is contained in our earnings release, and for a more detailed disclosure, encourage you to access our Form 10-Q, which will be available on the EDGAR system and on our Website, tomorrow, Friday, November 6th.

I will now compare the third quarter performance to the second quarter performance of 2009. As Cary mentioned, production increased to 8,185 Boe per day from 8,145 Boe per day, despite only $3 million of capital expenditures in this quarter and $2.6 million of capital expenditures related to development in the second quarter respectively. This does include the benefit of about 64 Boe per day from acquisitions that we made over the quarter, and that those for partial contributors to the quarters. However as Cary mentioned, that’s a very low reinvestment rate and we are very pleased to maintain their production. We do anticipate ramping up our development activities in the fourth quarter to achieve our $15 million plus annual capital development budget.

Combined realized prices over the quarter were $50.33 per Boe, up 17% from $42.93 in the second quarter, excluding the favorable impact of commodity derivatives. Oil prices were $65.38 per barrel compared to $55.79 per barrel, while natural gas prices increased to $4.51 per Mcf from $3.79 in the second quarter. Oil, NGL and natural gas sales were $37.9 million, a 19% increase from $31.9 million reported in Q2, primarily due to the increase in commodity prices as well as slightly higher production volumes.

Our commodity derivative cash settlements decreased to $10.1 million compared to $16.7 million in the second quarter due to the decrease in commodity price, but also add that there was no swap lag effect, which we talked about in prior quarters, and the reason for this is, the beginning and ending oil prices and natural gas prices were relatively flat, so there was not a significant out-of-period effect of swap settlements.

Production expenses excluding ad valorem and production taxes increased 7% to $11.5 million, or $15.22 per Boe, up from $10.7 million, or $14.38 per Boe, primarily due to higher levels of discretionary workover activity, which helped us improve production. General and administrative expenses in Q3 were $4 million, or $5.31 per Boe, compared to $3.9 million, or $5.26 per Boe in Q2.

This third quarter GAAP G&A includes $1.5 million of non-cash compensation expense related to Legacy's incentive plan due to the increase in our unit price over the third quarter, and this compares to $8 [ph] million of non-cash compensation expense in the second quarter of 2009, which also had included $1.1 million of cash costs incurred related to the Apollo Offer. Adjusting for the non-cash component in Q3 would have resulted in $3.29 per Boe for G&A, which is a level we are comfortable with and in the second quarter, excluding both the non-cash comp expense and Apollo expense, we would have reported $2.70 per Boe.

Adjusted EBITDA decreased 4% over Q3 to $30.8 million from $32.1 million in the prior quarter, primarily due to lower commodity hedge settlements and higher expenses which more than offset the higher revenue in Q3. Distributable cash flow decreased 6% to $23.3 million or $0.74 per average unit outstanding over the period, from $24.7 million or $0.79 per unit over the same period, which resulted from our lower EBITDA. So, calculating the distributable cash flow based on the average units results in a 1.42 times coverage. Cary mentioned that our coverage was 1.29 times taking effect of the units that were issued to the public on September 18th or close on September 18th of 2009. We are very pleased with that coverage.

Regarding net income, we incurred a net loss of approximately $900,000 in Q3, which was primarily a result of the unrealized losses on our oil and natural gas swaps of approximately $5.7 million due to the increase in oil and natural gas prices from June 30th of 2009 to September 30th of 2009, and we also recorded $2.4 million of impairment that was primarily related to asset retirement obligations on a small acquisition that we did in the quarter that weren’t supported by the carrying value of the property, it’s a good acquisition that we booked the ARO that will be part upfront. In the second quarter, we reported a net loss of $57 million, which was a result of $75.8 million of unrealized losses on our commodity derivatives again over that period, Q2 period, as you know oil and natural gas prices increased significantly, particularly oil prices.

I will now compare the nine months for September 30th, 2009 to the prior year’s nine months ending September 30th. Production was up 13% to 8,220 Boe per day, which was a result of acquisitions and development expenditures over the past year. Combined realized prices were $41.36 per Boe, down 55% from $91 per Boe in 2008. Oil prices, $52 per barrel roughly compared to $111 per barrel in 2009 [ph], dramatic decrease, while natural gas prices also declined substantially to $3.98 per Mcf compared to $10.03 per Mcf in the equivalent period in 2008. Accordingly, our revenues from product sales were $92.8 million, a 49% decline from $181 million in 2008.

Cash settlements on derivatives in 2009 year-to-date were $45.8 million compared to a $41.7 million loss in 2008 due to the dramatic decline in commodity prices year-over-year. Production expenses, $14.56 per Boe in 2009 [ph], compared to $18.11 in 2008, due to the dramatic decline in commodity prices, which helped our service costs drop, offset in the aggregate by the acquisition of properties and growth in well count.

Adjusted EBITDA increased remarkably over this period, $87.6 million compared to $82 million in 2008, primarily due to our derivatives settlements on our hedges, increased production volumes, and lower expenses. Development CapEx in 2009 was $10.4 million compared to $18.3 million in 2008, due to reduced drilling activity and lower cost of services this year compared to last year.

Finally, distributable cash flow increased 10% to $62.8 million from $57 million in 2008, as a result of higher adjusted EBITDA and lower CapEx. Given the 55% drop in commodity prices over the nine-month period of 2009 compared to 2008, it is truly remarkable that our EBITDA increased 7% and our distributable cash flow increased 10%. It is attributed to our business plan and to our organization. Stable production, strong hedge position, solid lenders, and an operating team that can maintain production reserves with the very limit to the amount of capital. We are very, very pleased with the results of our capital spending in the past two quarters, primarily focused on recompletion workovers, restimulations and reactivations and they resulted in very high return on capital and a very high number of barrels put on line for a limited amount of capital.

We do report to returning to a higher level of development activity and acquisition activity and anticipate success in the acquisition area as we have in the past to the complement our growing drilling project inventory. We thank you for your continued support, your confidence in our employees. We encourage you to review our earnings release in full, to read our 10-Q to be filed tomorrow, along with reviewing the risk factors and other detailed disclosures in our annual report filed on Form 10-K.

At this time, we would be pleased to take questions.

Question-and-Answer Session

Operator

(Operator instructions) And our first question will come from Kevin Smith with Raymond James.

Kevin Smith – Raymond James

Good afternoon gentlemen.

Cary Brown

Good afternoon, Kevin.

Kevin Smith – Raymond James

Just a few questions, first, the acquisitions that you did, can you kind of tell me, maybe give a little bit more color on when you closed on those to figure how much those impacted your quarter’s production?

Steve Pruett

We can give you an idea of aggregate net sales associated with those. They closed – at various times, there were three, and of course, they were all three small, two we are negotiating, and the third was the Clearinghouse auction, but the aggregate productions on two of the three. A 64 barrels a day impact on the quarter, but two of the three, which amounted to $5 million of the total 5.6 or 114 Boe per day. Kyle McGraw is down in Houston in a data room and on the phone right now, I am not sure he knows the third one, but I would estimate it around 140 net Boe per day. Well, let me do a little math here before I pop off and make that statement. That’s about right. Call it 150 net Boe per day on a run rate basis. The smallest acquisition of $600,000 was in locations where we have existing wells, we anticipate drilling additional wells. All three were in the Permian Basin, and two of three were operated, and one is next door to – or actually two are next door wells that we currently operate.

Kevin Smith – Raymond James

Okay. Great.

Steve Pruett

Times of acquisitions, small negotiated deals on top of or in addition to the usual larger deals that come every once in a while, of course, larger for us, Kevin, is $50 million to $200 million, not $1 billion.

Kevin Smith – Raymond James

Fair enough. The other question is I guess you talked about increasing your CapEx in the fourth quarter and then going forward, can you give us any color on the incremental projects you are looking at?

Steve Pruett

Paul Horne, who is sitting with us, who manages our operating team and engineering team as well.

Paul Horne

Yes. We are not looking at a significant increase in fourth quarter. We are going to go from $3 million in Q3 to about $4.6 million in the fourth quarter. We are still working on a $15 million annual budget. We are in the fourth quarter drilling an additional Wolfberry well as compared to our Q3. We had a Wolfberry well and an East Binger well drilled. So, slightly higher, an additional well, still not near as high as in prior years of CapEx. We have not set our capital budget for 2010. We have looked at a number of different scenarios, but expect our capital budget in 2010 to approach the prior year’s CapEx as opposed to the relatively low level of CapEx in 2009.

Steve Pruett

Tim, let me amend my question about the production, about 125 Boe per day from those three transactions.

Kevin Smith – Raymond James

Okay, thank you very much.

Steve Pruett

You bet.

Operator

And the next question will come from Leo Mariani with RBC Capital.

Steve Pruett

Hi, Leo.

Leo Mariani – RBC Capital

Hi, how you guys doing?

Steve Pruett

Great.

Leo Mariani – RBC Capital

Just some follow-ups on one of your earlier comments, I think you guys were talking about focusing on acquisitions right now. It almost started like with a much bigger priority than drilling, I don’t want to misquote you, but I was just curious as to why that’s the case, we are not looking at it right now, we have got pretty high oil prices in the Permian Basin, pretty low service costs, that would seem to make a pretty good recipe that kind of wrap drilling a little bit going forward?

Steve Pruett

You sound like an E&P analyst, Leo. I am going to hand back, and Cary, that’s too tough.

Cary Brown

Leo, that’s a great question, and the answer is we are getting the MLP model, we felt like that the MLP was designed to be a cash distribution model. And so, to change your stripes right here in the middle of it and say, okay, now we are going to be a drilling model and compete with C-Corp, that didn’t feel like the right answer. So, we look at that, you will see us potentially attack that drilling as we grow larger and we have more of our, more cash flow and we will put more of that back in the ground, but I think you will see us at least for the time being to stay in this 20% to 30% reinvestment right back in the ground and stay as a – we definitely think that acquisitions are out of focus, and if you stay focused on the real high margin work which is recompletions, and reworks, and even your best drilling has pretty high margins, the more drilling you do, the less rate of return you are going to get on your drilling, because your projects, you are going to drill worse and worse projects.

So, we believe we are going to hydrate and do just the very best projects. But I don’t think you are going to see us turn into C-Corp and MLP drag.

Steve Pruett

And similarly a relative statement, Leo, relative to Conoco or Chesapeake, we are not going to be exact, but I think our Board has not met to approve our capital spending budget for 2010, but we are very confident we will be investing more money and creating more absolute activity in terms of number of wells drilled, reserves and production added in 2010 that we did in 2009, and we have got a great inventory that generates very attractive returns. So, the real struggle us with our mandate to distribute so much cash flow, we can’t reinvest as much in the ground if we were a traditional company. We are not going to, as Cary said, change our business model, but we do struggle with how to accelerate to develop inventory that’s very attractive in this environment as you would point out.

Leo Mariani – RBC Capital

In the absence of drilling, which potentially worked, sell some of the undeveloped locations at some point to try to monetize that or –?

Cary Brown

You always evaluate that, Leo, and look at different ideas, not seeing a significant value; I think we got across the industry, I think we got more drilling than we can get done with cash flow that’s out there. So, I don’t think you are going to guys, really pay up for drilling locations right now. I continue to believe, a real strong believer that we are going to have higher commodity prices, a year from now, two from now, five years from now, we have today, and those drilling economics will just get stronger and stronger.

And as you get to a certain size, you are going to need a fairly significant amount of that. So, having that in your back pocket is not a bad thing to have, just from a financial (inaudible) value of money says you all got to do it all right now, but from a business model, I think we want to stay with what we have been doing. You may see us maybe not increased distributions as fast as we have in the past and put a little bit more in the ground, but we believe that coverage is important and you all try to stay positive when you coverage.

Market may say different, we have got some peers out there that are going the other way and saying they are not going to worry about coverage, they are going to drill their way into our cash distribution model. I am not ready to go to that direction. I think Legacy is, yes, but we are always looking at it. It’s nice to have, you know, what I think, some people think is that we don’t have the inventory to go out bid and we do, we just are choosing not to go execute that at the moment.

Leo Mariani – RBC Capital

Can you just give us a better sense of what that inventory is, you have an approximate number of drillable locations right now at Legacy.

Steve Pruett

Leo, it’s north of 500 locations, if you include 40-acre Sprayberry and Wolfberry in-fills, and of course you know we don’t’ have all of that booked, and even if we thought we wanted to, a number of those are probable and further were limited by our capital structure, and therefore we are not going to book locations we can get drilled within the next four years. But it’s north of 500 locations, delta on our map as we like to say, but that’s not to say that every single one of those locations would be economic and as we drill out those place and evaluate today, they really prove them up or prove that they are not attractive, and that’s always a function of the cost of services and price of oil and natural gas at the time we are evaluating it. But as Cary said, we have got inventory that we can prosecute over the next five years.

Cary Brown

Pioneer specifically has a significant number of the same 40-acre locations that we have got, and they are headed out there.

Steve Pruett

Two rigs into four rigs.

Cary Brown

We are going to deal quite a bit of that, and no comment on what they are doing, it might work exactly, like they wanted to, it’s probably not the model we are going after at the moment.

Leo Mariani – RBC Capital

All right. Thanks.

Steve Pruett

Leo, it’s not lost on us. The Pioneer is trading at 19.6% yield and we are not, and we have coverage and they don’t. So intriguing to watch the dynamics of our peer group play out.

Leo Mariani – RBC Capital

All right. Thanks guys. I appreciate it.

Steve Pruett

Thank you, Leo.

Operator

And just a reminder, that is star one for questions. And the next question will come from Ethan Bellamy with Wunderlich Securities.

Ethan Bellamy – Wunderlich Securities

Hi guys, good quarter.

Steve Pruett

Long time.

Ethan Bellamy – Wunderlich Securities

You have got pretty limited NGL hedges for the short term, which has to be expected, have you noticed any improvement in the liquidity or the pricing of the NGL hedge market?

Steve Pruett

We do. The cash process being paid for NGL has narrowed. At its peak, it was around 80% of WTI, historically it’s been around 65% dating back to the 80s, it dropped to as low as about 45% and I am speaking generically, the basket of NGLs range from natural gas down to ethane, and balance in the low 60s. So, it’s getting more attractive. We have actually – don’t think we have a hedge to our NGLs that we have hedged production with crude which is a rather approximate proxy, but that was because there wasn’t much liquidity. We haven’t gone out and tried to place NGL trades recently because of the spreads that we think have been worst historical, but needless to say, the profile has now flattened out where we used to be able to trade the front at 80% and the backlog 65%, what turns out the back was correct and the front was wrong. Now, it’s a flatter profile of 60% or so over the term.

But, there is not very many players even in our bank group, which is pretty sophisticated that will do a long-dated NGL trade. So, viewpoint, the liquidity is still limited and we don’ think the current spreads are reflective of where we are going to be longer term as the economy recovers and more refined products and petrochemicals etcetera are produced, as the economy recovers worldwide. So, don’t look for us to do an NGL hedge anytime soon, but crude is not a perfect proxy for NGL. So, we are going to continue to look at it.

Ethan Bellamy – Wunderlich Securities

Okay. It seems like more of your MLP payers are gravitating to the Permian, are you seeing a more crowded bidder list at the lower value transactions where you guys tend to play?

Cary Brown

No, not yet, but we really just in the last couple of months, the gates have kind of opened, Ethan. Sellers work on selling the $50 oil, we got 70; they are starting to think about it. And it’s going to be interesting, we have other MLPs at it, but we have always had a completion. There has never been a time you don’t have a competition. So, I wouldn’t say the competition is any greater today than it has been, a fair number of the deals that we look at, and I would say the majority of the deals we look at are the people we know and they are needing to do something and they just want to make sure they are getting the fair price, and we are able to do that on a negotiating basis with a smaller deals.

The larger deals, they are always going to be competitive whether it’s private equity coming, whether it’s another MLP coming, and what you have to have is the best execution team that I would put us up against anybody from an execution standpoint. We know what to do with Permian properties better than anybody else I know. So, on the assets that fit us, I think we will be competitive, you won’t see us get crazy and go out and pay numbers that won’t make sense, hoping they will make sense with a move in the price of oil. We are not just going to bet on oil prices going up. You will see us being aggressive where we think we are going to be able to add value and Permian place, we feel very, very good, that we can add value and operate very efficiently. So, I wish there weren’t anybody out here buying bananas, but that’s never going to be the case.

Ethan Bellamy – Wunderlich Securities

All right. On the service side, what kind of day rates do you have to pay for rig right now for the Wolfberry well, you are going to drill them a full quarter for example?

Steve Pruett

Let’s time-out, let’s find it here.

Paul Horne

It’s Paul. The well we are drilling is on footage, and I will have to look that up. I hate it to quote it off; it’s off of my head. I have been just in the couple of weeks, we have been working on rigs for our entire 2010 program, and I have a lot of different numbers in my head, and I am afraid I will quote the rig, and then one of my counterparts out here will call me and ask me whose rig I am using, because they don’t want to get it. Let me get back with you on that.

Ethan Bellamy – Wunderlich Securities

Okay. But more generally on costs, are you seeing any cost increases or if not, where do you expect to see that inflexion point with cost and a backup?

Paul Horne

That is a great question. We have been watching capital costs very closely. They seemed to have bottomed out end of first quarter early second quarter, and have been basically flat since that time. We just approved an ASC on Wolfberry well that is the exact same price we drilled in Wolfberry well in April and we drilled two or three.

Basically, that’s same drive process between April and now. I don’t look for drilling rig rate to increase significantly until the natural gas market changes significantly. Oil prices have risen nicely, but oil prices typically in West Texas doesn’t have rig rates and that gas prices do, because that’s where the majority of the drill rigs, not just in West Texas, but into Boneta [ph] and other areas were so active and aren’t active today. So, I think it has more to do with net gas prices at this point, and we have not seen an inflexion point, and seeing those pull them back up, there has been a little bit of anecdotal information on completion work. For instance, the local frac companies in town, in the Permian are starting to field their schedules a little further out.

You got to wait a little bit longer for the frac job than you did 30 or 60 days ago, and typically, when you see that, you can expect to follow and come up a little bit if that trend continues. But at this point, we haven’t seen that inflexion and not overly concerned at this point. I think another important question about drilling costs is steel, perhaps I am trying to figure out what steel prices are going to do long term, that’s more of a billable economy question than it is, oil and gas market, significant piece of the steel market, and yes, the overall steel market drives that entirely.

Ethan Bellamy – Wunderlich Securities

Thanks Paul, I appreciate that. And if you figure out when the gas markets turn around, you let me know.

Paul Horne

If I figure that out, I am going to go on a long vacation.

Ethan Bellamy – Wunderlich Securities

Thanks guys. Good luck in the next quarter.

Steve Pruett

Thanks Ethan.

Operator

And the next question will come from Michael Blum with Wells Fargo.

Michael Blum – Wells Fargo

Hi, good afternoon everyone.

Steve Pruett

Good afternoon, Michael.

Michael Blum – Wells Fargo

Just a couple of them, one is, I guess I noticed your cost crept up a little bit this quarter on a sequential basis, was last quarter the bottom and are we now going to start seeing that trend back up or how do you see that kind of playing out?

Paul Horne

Michael, better look at me, so I will go ahead and answer that one as well. Quarter-to-quarter, we had about $800,000 increase. $200,000 of that $800,000 was directly related to the acquisitions that Steve mentioned earlier. We had about $600,000 of increase in our discretionary spending. It’s actually expense dollars that we spend, but it’s discretionary, it was to increase production to upsize some equipment and do some things to help us hold production flat. Long-term and I don’t think we have ever said this and I sure don’t want to say it, long-term, we don’t believe we can hold the presumption flat, reinvesting 10% of EBITDA.

Cary made the statement upfront that we did that this quarter, which is true, and that’s not our long-term plan. It’s not what we have in our model, but one of the ways we hope that was we spent a little bit of discretionary expense dollars and held production flat. If you pull the discretionary work-over line now, and look at our true lifting costs, our true lifting costs have basically been flat, February through September and we are looking at preliminary numbers right now in October and are basically flat through October as well.

Michael Blum – Wells Fargo

Okay, that’s helpful.

Cary Brown

And you are talking about the discretionary is, if you are going to ask that as well, that is an expense, but if you do it right, it can add some rate, and clean up things, those kinds of things that in a low-price environment, you might not do as much as it should make just to it right now.

Michael Blum – Wells Fargo

Okay. The other question just on hedging, obviously the strips come up. I am gathering from, Cary, over your comments that you this strip might move up even more over the long term. Where do you look to start a length in your hedge book, what kind of price range, are we there yet?

Steve Pruett

That’s a good question. We actually, I will turn it back to Cary. We executed a couple o small hedges that were immaterial over the quarter, $90 and roughly $0.50 [ph] and 45,000 barrels, if you noticed, that popped maybe it was $90.10. Whether on $90 in 2014 which will see on our heads tables and our earnings release. And from $89.35 for 2013, so we started to do it very modestly to lengthen our position and that will be a topic in our board, upcoming board meeting as well. Cary, your thoughts.

Cary Brown

Yes, I would say we are very comfortable with our hedge position that every month, some of our hedges roll off and I think you will see us continue to be disciplined and the way we go about adding the edges, you know, we haven’t discuss at what price would we got out and trying to fill out everything, you know, 2013 and 2014. I would say 2013 or 2014. Being a – we started we said we won’t be able to protect the distribution over the short-term and have the exposure of long-term, the increasing commodity prices. So, I think you are going to see us continue with that model, until we see something that says, well, hey, at that number, we will go ahead and lock. We have not decided what that number is.

Michael Blum – Wells Fargo

Thank you, guys.

Steve Pruett

(inaudible) makes for an interesting, enticing the hedge a lot more long dated, crude and gas, and it also helps our acquisition business particularly when we buy it from private independents that can’t hedge, we are able to lock into the economics when they are looking at their run checks of 70, and we have got long dated credited 90, that’s very helpful to our acquisition model.

Michael Blum – Wells Fargo

Got it, thanks, Steve.

Steve Pruett

Thank you, Michael.

Operator

(Operator instructions) Next, we will hear from Will Hardy [ph] with RBC Capital.

Will Hardy – RBC Capital

Hi Steve, I won’t be in town next week when you come to Houston, so I will just pose my questions now, if that’s okay.

Steve Pruett

Go ahead, Will. Sorry, I am going to miss you.

Will Hardy – RBC Capital

What’s the outlook for credit as for a company of your size, if you did come across a transaction in the $50 million to $75 million range? I know it was very tight earlier this year, but it doesn’t look like now with your bank lending group?

Steve Pruett

You know 90 day [ph], Will, 50 to 75, we would just pull down on our revolver just by attending an email frankly, because we have got a $117.7 million of capacity as it were $200 million, then we would have to have a conservation with our banks and get them involved in our engineering and have them look over our shoulder and have them give us an estimate, the borrowing capacity for that asset, but it would be very doable given that our typical PDP-oriented long-lived acquisition, generates about 50%, about half of the purchase price has lending capacity, a collateral value with the banks. The other aspect is that there are more banks now that are lending money. There are fewer of our existing banks that are concerned about being able to maintain their commitment and there are a number of banks.

There’s been actually some announcements recently. UBS acquired Fortis’ [ph] old lending team and the budgets have returned for banks obtaining and funding new clients, and that’s the most encouraging part, Will, and maybe the best parameter of health is that there are a number of banks out there that are initiating new relationships and willing to join semi cuts. So, we are very confident, we have dialogs with a number of those banks that are in effect on debt. They have attended our bank group meetings recently, and they are on (inaudible), we need to add additional shoulders to bear the burden of larger credit facility. So, we feel very confident about it. The higher markets very attractive, we are still a bit too small to cap that at yields or spreads that would be favorable for our investors, but that could happen down the road, as we get larger.

Will Hardy – RBC Capital

And then, this might be an uncomfortable question, but I will go ahead and ask it anyway. What have you done to, against the decline in oil prices again, that forces you into position where you might want to consider taking the company private like when Apollo showed up, in another words, there is that transpires I understand was because the markets have shut, they are all shut down to you, and you chose that model to go after when it presented itself. What steps if any have you taken, maybe not to be put into predicament again. If it should surface, let’s say crude goes back to $25 or $30?

Cary Brown

You know, I will answer that one as having been very well – I guess we are all very well to that transaction, but what we got to look at, we got our hedges in place, and the markets that we were able to weather a phenomenal storm, not cut distributions, keep on our track, keep doing what we were doing, and we came out of the other side of that storm. So, we have another drop in oil prices like we had, I would expect that the markets will trade us down to the levels that, we were $6 to $7 trading down in there. What we have to do always is think about our shareholders. And if we are being valued at $6 or $7, and somebody’s coming here and say, hey, we will pay you $15, well that’s not it would be. Right.

Our shareholders if we don’t talk about debt offer. So, we are going to be the best we can to educate the market and what we are doing and why we are healthy and why we can continue to execute, but here today, the markets got to decide. I mean, the market kind of dictates what we are worth. And if somebody comes in and pays our shareholder more, then the markets are going to supply us. I don’t anticipate that, because there’s a number of others who really don’t’ want to sell, but if it’s that significant a premium, or you have to look at it. So, I don’t know that we could do anything better than what we did.

You heard the numbers earlier, with a 50% drop in revenues, we were still able to maintain our distributions and we get as much borrowing power today as we had going into this market. So, that liquidity helps you for sure, but we don’t anticipate leaving that dropout, or drop whatever, we will go out make acquisitions, and continue to execute on the business model. So, I wish I could tell all of you guys, Hey, that will never happen again. I don’t anticipate it happening again, we will tell you this management team is very committed to our shareholders and doing what we think is the best and evaluating where to go in any given market is what you have to do and that’s why they pay us, as to try to maximize their value day in day out.

Steve Pruett

Just a couple of things to Cary’s comments, one I think the equity offering paid our debt levels, which got close to three times debt-to-EBITDA when our EBITDA was depressed and our debt was little over $300 million. Today, as Cary pointed, we are 1.8 times debt-to-media. So, they are much more comfortable level. I think you will see us maintain prudent debt levels, relative to our EBITDA overtime. That gives us flexibility.

We will continue to utilize hedges both for acquisitions and add them on as hedges roll off. That’s helped, weather the last storm which frankly was unprecedented in the disruption and the credit markets at least back to 29 [ph], and when you have the largest things in the country, wondering whether they are going to be alive next quarter, and none of them knowing if they have a lending budget at all was, if you would recall, because you’re the business money, but first quarter was a very – but no one knew where the bottom was.

It was very uncertain, with no visibility, and we believe that the global economy and our US economy has got to be better and certainly oil prices have gotten to a point where we don’t anticipate having the commodity prices, the credit market, the stock markets all kind of collapsed together at the same time, which is definition of Perfect Storm in those three collide. We hope those don’t’ converge again, and I am sure you helped the same thing for you and your clients.

Will Hardy – RBC Capital

Appreciate it, thank you.

Steve Pruett

If you will.

Operator

And with no further questions in queue. I would like to turn the call back to Legacy for any additional or closing remarks.

Cary Brown

I just like to say, thanks guys for joining us and I want to say hats off again the operations team for doing a great job and executing and we are looking forward to make some acquisitions and continuing to grow this company, and hopefully, we will continue to be able to make money for our shareholders. I always remind people that the gas is still around – and our family is still on 40% this year. So, we are very, very motivated to do what’s best for the shareholders, and we want to keep doing that. So, with that, I will turn it over to Steve, any other comments before we sign off.

Steve Pruett

Nothing else, Danielle. Thanks for joining us today all of you. We really appreciate the research following, and money managers, wealth advisors, that continue to hold this for themselves and their clients and we enjoy the tax shareholder distribution is just as much as all of you do. Thanks again.

Operator

And ladies and gentlemen, that does conclude today’s conference. Thank you all for your participation.

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Source: Legacy Reserves LP Q3 2009 Earnings Call Transcript
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