Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Approach Resources Inc. (NASDAQ:AREX)

Q1 2010 Earnings Call

May 04, 2010 11:00 a.m. ET

Executives

Ross Craft - President and CEO

Steve Smart - CFO

Curtis Henderson - General Counsel

Qingming Yang - VP, Exploration

Analysts

Mitch Wurschmidt - KeyBanc

Jeff Hayden - Rodman Renshaw

Joel Havard - Hilliard Lyons

Irene Haas - Canaccord

Operator

Good morning everyone, and welcome to the Approach Resources first quarter 2010 earnings conference call and audio webcast. (Operator Instructions)

Management's remarks today will include forward-looking statements. These statements are subject to many factors that could cause actual results to differ materially from management's expectations as expressed in those forward-looking statements. Those factors are described in the company's SEC filings, and management refers you to the company's website or to the SEC website to review those filings.

The company undertakes no obligation to publicly update or revise any forward-looking statements. Also, during this call, management will refer to certain non-GAAP financial measures. Reconciliations of those measures to the most directly comparable GAAP measures are contained in the company's first quarter 2010 earnings release, and under the non-GAAP financial information page of the company's website at www.approachresources.com.

I'm now going to turn the call over to Mr. Ross Craft, the company's President and CEO.

Ross Craft

Good morning, everyone. Thanks for participating this morning, and for your interest in Approach. With me on the call today we have Steve Smart, our Chief Financial Officer; Curtis Henderson, our General Counsel; and Qingming Yang, our Vice President of Exploration.

Overall, we are pleased with the quarter and very excited by where the company stands today. We already have increased our average daily production 13% since the first quarter of 2010 with production coming in around 24.8 MMcfe/d.

April production was 30% oil and NGLs and 70% gas. We expect our oil and NGLs to continue to grow in our Ozona Northeast field and Cinco Terry fields. We also are starting to see positive results from our recent 3-D seismic program in Cinco Terry with our first Ellenburger well coming in at 1.1 million per day, and 51 barrels of oil per day, and a second well with almost 60 feet of net pay in the Canyon and Ellenburger that is waiting on completion.

We continue to focus on cost controls, decreasing lease operating expense and G&A by almost $0.42 per Mcfe over the prior year period. We spent about 1.5 million on the seismic program in the first quarter and have another 300,000 to go. We see this as a critical investment for the company going forward.

With that, I'll turn the call over to Steve to discuss financial results in more detail.

Steve Smart

Thanks, Ross. Revenues for the quarter totaled 13.2 million, a 31% increase over the prior year quarter. Revenues for the quarter were supported by higher commodity prices.

Our average realized price for the quarter before the effect of commodity derivatives was $6.67 per Mcfe, compared to $3.98 per Mcfe for the prior year quarter, or a 68% increase. Our average realized price for the quarter including the effect of commodity derivatives was $6.79 per Mcfe compared to $5.24 per Mcfe for the prior year quarter of 2009, or a 30% increase.

Net income for the quarter was $3.6 million or $0.17 per share. Net income included a pre-tax unrealized gain on commodity derivatives of $5.1 million. Excluding this gain and the related income taxes, adjusted net income for the quarter was $200,000 or $0.01 per share. EBITDAX for the quarter was $9 million or $0.43 per share.

On the expense side, we continue to focus on cost control, and are pleased to report lower LOE and G&A. LOE for the quarter was $1.8 million or $0.93 per Mcfe compared with $2.4 million or $0.94 per Mcfe in the prior year period, a decrease of 22%.

G&A decreased 11% to $2.5 million or $1.27 per Mcfe. G&A for the quarter included lower share based compensation, professional fees, and data processing, compared to the prior year quarter.

As Ross mentioned earlier, exploration expense for the quarter was $1.5 million, primarily resulting from the acquisition of 3-D seismic across Cinco Terry. We expect quarterly exploration expense for the remainder of 2010 to decrease from the first quarter and still stay within the guidance of $0.30 to $0.40 per Mcfe for the full year.

DD&A for the quarter of 2010 was $5.8 million or $2.94 per Mcfe compared to $6.9 million or $2.74 per Mcfe for the prior year period.

Capital expenditures for the quarter totaled $13.9 million. In terms of liquidity, we continue to maintain a strong balance sheet with room to grow. Our $115 million borrowing base was recently reaffirmed by our bank group, and we had $37.2 million drawn at March 31, 2010.

At quarter end, our long term debt-to-capital ratio was 14%, and we had liquidity of $78.4 million. And this and the reaffirming our borrowing base, our bankers also extended the maturity date of our credit facility by one year to July 31, 2012, increased our hedge limit from 75% to 85% of PDP.

With that, I'm going to turn the call back to Ross.

Ross Craft

Hey thanks, Steve. That concludes our prepared comments. And let me just thank you again for your support of Approach. As I've said in my letter to the stockholders recently, I am as excited as I've been in more than 30 years in the business about where we stand today.

We have a unique set of assets and a longstanding mentality of capital discipline, which may not make headlines everyday like the big shale players, but that we believe, is positioned to deliver long term growth for stockholders. That is, and will remain our focus everyday.

Thank you for participating in today's call. I'll now turn it back over for questions and answers.

Question-and-Answer session

Operator

(Operator Instructions) And our first question comes from the line of Mitch Wurschmidt with KeyBanc.

Mitch Wurschmidt - KeyBanc

Just a couple of questions; first, I think we saw (inaudible) some things in the Wolfcamp. Any update on that?

Ross Craft

We're in the process of evaluating the Wolfcamp. As you can appreciate, we have about four hundred and something well bores (inaudible). And so our re-completion backup to the Wolfcamp would be nothing more than a simple re-completion of the whole, but would be very inexpensive. We're still running some tests on it right now to determine deliverability and quality of the reservoirs. And its way too early to tell, but we'll continue to focus on that as well as a shallower place around our acreage and continue to focus on the deeper Ellenburger and Canyon.

Mitch Wurschmidt - KeyBanc

When do you think you might test that? Do you have like a time, kind of you're thinking about right now?

Ross Craft

Right now the way we're looking at it, to really conclude and get a good indication of what we need to see. It's going to take a couple of months, maybe a month. We'd like to do some whole-core analysis, which we haven't taken whole-core at this point, and that will tell us a whole lot about how we need to complete it, or is it even completable.

Mitch Wurschmidt - KeyBanc

Congratulations on your Ellenburger well. And I'm just curious, going forward, are you planning on drilling down the Ellenburger and sort of re-completing up in the Canyon? Is that I guess the game plan going forward?

Ross Craft

No, we're going to be selective on the Ellenburger only because we recently setup the seismic. And I can say, the seismic really surprised me even; the data quality is superb. You actually can image these minute details that we couldn't with the standard 3-D seismic program. We're able to see fractures and faults in all the horizons going up, which we didn't know we would be able to see. But what it also does is, it limits the amount of Ellenburgers you want to drill because you look at the seismic and you pick the highest points in the seismic and these are all top (lots).

So we'll drill less Ellenburger wells, but better Ellenburger wells as we continue on with the seismic. All these wells we drill will have a Canyon (and) for sure, and so you got (bell out) zones, but the seismic will allow us to pinpoint exactly where we want to drill for Ellenburger. It's thus saving us money, where we don't have to drill down on every well.

Mitch Wurschmidt - KeyBanc

Curious too, on New Mexico, you guys put in a release on that and I'm just curious if you have any more color just in terms of when you think you might be able to get up there and drill, and just remind us of potential economics on those?

Ross Craft

Yes, we did get conditional permits on eight wells. Now some of the requirements they place on us for drilling in this sensitive area is quite onerous, and we are currently going through our model to determine the exact cost of some of the stuff. But, right now the way we have it set we'd like to have a rig in there at the latter part of June, 1st of July.

Mitch Wurschmidt - KeyBanc

What do you estimate I guess on drilling time for a well like that?

Ross Craft

About 2.5 days.

Operator

And our next question comes from the line of Jeff Hayden with Rodman Renshaw.

Jeff Hayden - Rodman Renshaw

Well, couple of questions for you. First of all looking at the rigs you got running out there, like you have the three right now in Cinco Terry, one in Ozona. What the thinking is as far as the rate count right now in the various plays as we move through the year? You had a second rig out in Ozona. If we're still sitting at four (inaudible), you lease three in Cinco, how are you guys kind of thinking about it?

Ross Craft

Well, the way we are looking at it's obviously, with the 3-D and Cinco Terry, we can accelerate that program beyond the 3 rigs that we'd so choose. As far as the Ozona Northeast program, we've had a very active drilling program going on in Ozona Northeast. The $4 gas is concerning to me, but we have a flexibility of moving that fourth rig between Ozona Northeast and Cinco Terry.

So if you're looking at it for long term, I continue to see four rigs on the radar screen, and maybe more depending on our results. If we continue to have good results in Cinco Terry and we continue to expand both areas as we always have, I wouldn't see a change in rig count for any length of time, except going up.

Jeff Hayden - Rodman Renshaw

And then, kind of looking at your acreage, it seems to be in vogue these days to go with some of these old unconventional plays and test horizontals, see what that does? Any thinking on your part as far as timing, maybe testing one of them with a horizontal?

Ross Craft

Yes, that's a good question. And let me just go back a little bit on that, go back to the Granite Wash. Let's just say that one; Granite Wash play, to recall, on a vertical play, was decent. It wasn't great, it was just decent, maybe okay. It wasn't till they started going horizontal that they started getting the big wells.

And if you look at the geology on the Granite Wash, I mean from a high level 30,000 ft. view, it's tight gas, its oil production, gas production. And so if you take that concept of going horizontal in these tight gas plays as well as going horizontal in some of these carbonate plays, we do look at that and we do expect that we will be trying some of this in our existing fields.

Jeff Hayden - Rodman Renshaw

Do you think it's reasonable that you could get kind of same type, order, magnitude delta between the horizontal and the verticals that they saw, say, in the granite?

Ross Craft

Yes. Well, you'd have to expect something like that as you wouldn't justify drilling horizontally. That's the issue there. And in our reason, you drill horizontal is to improve your reserves and recovery. So, you would expect it to have a very good 3:1, 4:1 increase over your existing production base.

Operator

And our next question from the line of Joel Havard with Hilliard Lyons.

Joel Havard - Hilliard Lyons

Nothing too specific operationally, but, Ross, I wondered if you've had chance to give some preliminary thought to the 914 revision that's going on? I'd like to triangulate that especially with your comment earlier about being, roughly paraphrase, as excited as you've ever been with the longer term prospects for the industry?

Steve Smart

Joel, on the 914, I guess our early look at that is it didn't have the huge impact that some of the analysts thought it might have, right? So, we're really more focused on kind of blocking and tackling, but we'll see what develops out of that. You're talking about the (BIAs) reporting, I'm assuming right?

Joel Havard - Hilliard Lyons

Yes, sir.

Steve Smart

So, I guess our early look is, it didn't have the impact the community thought it might have, but in the meantime we'll go back to blocking and tackling, and I'll let Ross answer your other question, which if you don't mind repeating it?

Joel Havard - Hilliard Lyons

I didn't fully leverage on the question, so that was whether your blocking and tackling reference has to do with maybe pulling back the throttle a bit here in this commodity environment? Or again, I was kind of hoping you'd be able to reference sort of a macro view on it. But how you strategically work your way through maybe the next couple of quarters of risk with regard to that commodity price environment?

Ross Craft

The commodity prices first of all, I personally don't see anything on the radar screen over the next quarter or so that's going to appreciably increase the gas prices. That's my opinion though, I mean, everybody's got opinions. As far as what we look for, and the beauty about our asset base is, we have two fields that are only two and a half miles apart. So continuing our development program and continuing rig activity between the two fields works very nicely.

Ozona Northeast, although the return is not great at $4 gas on just a MMBtu gas contract for well (head), we are in the process of looking at options to build a plant, possibly a small plant to process the NGLs. We're looking at taking the NGLs to another market possibly, and we're looking at possibly buying out the contract early; and we're weighing all that right now.

If we do, do that, then it's very attractive economics at this, but that gas in Ozona Northeast has got the same type of recoveries as Cinco Terry. So we're working on that right now. We will be able to get this gas back to processing in the first quarter of 2011.

And right now, the way we're looking at it, we could buy out early, or we could just sit tight and go ahead and look at building our own plant or go to a different market with it.

But we will be moving the rigs back and forth. Cinco Terry, considering the amount of NGLs that we (do) out of Cinco Terry on a per well basis, it really makes it very attractive to continue drilling. We expect our liquids ratios on Cinco Terry to continue to climb. We also expect our liquids ratio on Ozona Northeast to continue to climb as well as we approach the end of this contract period.

Right now in Ozona Northeast, we're going to continue to drill in Ozona Northeast. We might move a rig over to Cinco Terry for a few wells or may be a month of drilling. I know we are moving over to drill few more locations over there.

I can't tell you that our first quarter results on drilling in Ozona Northeast was nice. It was above our average forecast I think on a recovery per well. As far as looking how they came in, I think that's a compliment to our geoscientist on board here.

And so, it's still working pretty good out there. I would like to see higher price gas, no doubt about it, but I just don't see it on the radar screen anytime in the near future.

Joel Havard - Hilliard Lyons

One last strategic thought, does the environment urge you to think more about trying to increase your oil reserve and production mix over the, whatever sort of timeframe, intermediate plus, or are prices from your standpoint not where you would want them to be to think about that yet?

Ross Craft

Well now, I think the prices, even though the gas prices are a little suppressed right now or (inaudible) are greatly suppressed right now, the liquids prices are probably at the all-time high right now. As far as NGL prices, they are very attractive. Fuel price is very attractive. And if you look at our mix of properties, we have a large volume. Like Cinco Terry, it makes up a large volume of our oil production, as well as our NGL production.

So we'll continue to look at increasing our oil to gas ratio as we move forward. And we will continue to look at Permian Basin projects. We think the Permian Basin is an excellent place to play. There is a lot of zones left behind that are oily zones that we can go after.

And so we will continue to try to expand into the (odd-year) mix. But just remember, our gas is very rich in both fields up out in Ozona. And this by processing alone will give you a sufficient bump in your liquids ratio. Just by the contract in Ozona Northeast, if you look at that, when that contract expires, our liquid ratio will be close to 47%. And that's just by flipping about. So we are planning to increase our NGL and liquids ratio, and that can be accomplished just by this contract termination.

Operator

And our next question comes from the line of Irene Haas with Canaccord.

Irene Haas - Canaccord

Along the same line, in your IPAA presentation you have a chart that shows that your liquid mix is going to go to 46% by 2011, estimated. So can you perhaps give us a little color as to which projects will bring you there? Then the second question really has to do over your big 3-D shoot Southwest of Cinco Terry.

Is there any room to run in that direction sort of in the (Thompson) big 3-D area? And how's the sort of acquisition market looking, sort of private distressed assets? Just a little color on the Permian in general.

Ross Craft

Okay, no problem. Let's first address the Ozona and your increase in NGLs. And I'll reference back to our Cinco Terry. In Cinco Terry we have a POP contract of 93% of proceeds. If you look at that gas mixture, that gas is running about 1220 Btu gas. It throws off about 6.2 gallons per thousand.

When you process that gas, for every Mcf you process, or say a Bcf you process, you get 100,000 barrels off of it or a little bit more. A look at Ozona Northeast: Ozona Northeast is actually 1250 Btu gas. And the reason why it's 1250 is, it doesn't have as much Ellenberger gas in it right now. And that 1250 Btu gas will throw off anywhere from 5.8 gallons per thousand to 6.2 gallons per thousand.

So your factor there is going to throw off about 0.1 barrels per Mcf or about 100,000 barrels per Bcf processed. And when you look at our reserve numbers, where they're at, you can quickly get to the formula that will show you how important processing at Ozona Northeast is, and how it will change the whole complexion of this company just by processing that fuel.

We own majority of the interest in that field, unlike Cinco Terry where we only own 51% working interest, we own almost 100% in Ozona Northeast. We have a good inventory of drilling locations remain to be drilled. And once we start processing, it's going to be very nice even at these low gas prices. But that's how we're going to do that.

Also, the Wolfcamp zone in both fields is a oilier mixture. We have someone else producing out of it right now, and so that should add into our oil mixture as well, not to mention looking around us. There's a lot of opportunities around us in some of these shallower plays that I've either operated before or looked at before, that we can go back and look at putting something together there.

Concerning our 3D seismic program, again, we were very impressed with the data off of it. It's really opened our eyes to a few things that we didn't quite understand before. The acreage acquisition market out there, it's still fairly attractive. You can still get acreage out in the Ozona area for Canyon gas drilling and for Ellenburger discoveries.

There's also acreage up to the north from the university land, so some of that we might be interested in at some point. So we will continue to grow both asset bases out there like we always have; we've always added to our acreage position. When we saw something come available, we jump on it. We like the area, have a large operating group in the area. So incrementally it doesn't cost much money for us to expand in that area. And we'll continue to look at opportunities around us.

As far as the acquisition market, I think that we're going to start seeing a lot of acquisitions come on the market. It re-depresses everyday. Somebody is talking about selling something.

Actually, (NYSE:BP), some of those guys might be selling more than they want to. So we're going to stay focused on it. We're going to stay focused on looking at acquisitions in the Permian. And hopefully the prices will narrow asking bid somewhat. And so I think it's going to be a very good year. I'm pretty excited about it.

Irene Haas - Canaccord

Any chance of speaking to all your partners in Cinco Terry?

Ross Craft

Yes, we as always, periodically just as normal housekeeping, we shoot off across all of our working interest owners. And so, most of the time they don't accept that they like us operating and like our results that we do. And so maybe one time in a weak moment, they might be cash-strapped or something and we can take advantage of it. But we make that a normal business mode to go out and offer to buy their interest. And so we'll just have to see.

Operator

(Operator Instructions) And our next question comes from the line of [Richard Denley with Long Point Partners].

Unidentified Analyst

I have a couple. Should we read anything into the production per day fall-off from the February rate of 22.6 down to 22.0 for the quarter?

Steve Smart

January, we were 21.4 or something like that. So just averaging the number (inaudible) it's 22.

Unidentified Analyst

And then on the Ellenburger well, do you have an EUR guess on that yet?

Steve Smart

Well, as you go back and look at our previous Ellenburger wells that we've drilled, some of those wells have EURs as high as 2 Bcf equivalent. Now that's not the average well; that's a good well. So I would say, if you're looking at it, and with the help of the seismic, our well should be fairly attractive to drill.

In our presentation, we have 1.3 million a day as an average Ellenberger well. Remember, this is a statistical play just like the Canyon is statistical as well. So you have to average some wells together to look at it. But we're quite impressed with the seismic, and we believe that's going to help us make much better wells than just drilling blindly for this stuff.

Unidentified Analyst

The 1.3 Bs is a gross number?

Steve Smart

Yes.

Unidentified Analyst

All right, that's slide 17.

Steve Smart

That's correct.

Unidentified Analyst

Now is my math correct that this well came on at 5 times the IP rate that's shown in that slide?

Steve Smart

Let's see, and that slide shows …

Unidentified Analyst

Looks like about 110 million cubic feet is the first box there.

Steve Smart

Yes, that's a 110 per year, that's for the first year; $1.4 million on the average. So $1.4 million is coming in, if you look at the equivalent bases, we're a little bit better than that. With 51 barrels of oil per day, that has quite a bit of value to it as well. So we're just a little bit higher than the average.

Unidentified Analyst

And then in New Mexico, does the conditions meaningfully change the cost estimates that you put forth on your last conference call?

Steve Smart

Yes, we've done a pretty good job. Last conference call, when we had the numbers out, we had most of these conditions factored in that. Well, let me back up.

It will definitely not decrease if anything is going to raise it up a little bit. I mean with the regulations, the closed-lip system which we already factored in our previous estimates, we factored any, but with the requirements to drill a monitor well, water well, on every location, prior to starting a well with the requirements of reclamation quicker than what you'd expect even it to be around.

With the requirements of building an interstate highway out there that they are asking us to do if we make a well; with the requirements of disposal of any drilling cuttings or any fluids whatsoever at a disposal site that's very far away, all this will increase the cost of this project.

Still though, the good thing about it is, we think we're working on a way to lower some of these costs by the way we drill it over what we originally thought, but it's still going to be a bit more expensive than what we did in Texas. The environmental impacts of that area are pretty high right now as far as what they are looking for, and so it's going to cost a bit more.

Unidentified Analyst

That's too bad. And then you commented that you were thinking of testing the horizontals in answering another question. When do you think you'll do that?

Steve Smart

Well, right now, we've been looking at the horizontal aspect, especially of horizontal drilling, the tight gas sands in this area for quite some time. The problem up till recently has been, you would have to go to fluid, and if you went to fluid, it cuts your horizontal leg, the drilling rate would be so slow, it might take you 20 days to cut 2,000 feet. But now, actually with the technology increase, actually have tools that can operate in a midst system, such as aero drilling such as we do there. And so that makes it a little more favorable here.

You look at what the tight gas reservoir basically product out of, and they produce out of the fracture systems because they are very tight. And they have a lot of gas in the fore space, but most of the time it's [cemented up], the firmability of [cemented up] somewhere, so that's where you get these high decline rates.

But with the seismic like in Cinco Terry, we're actually seeing fault migrations up into the Canyon and through the Canyon up in the Wolfcamp. And over these fault migrations, you see a fracture system developing. And so the idea would be to go ahead and go sideways in this thing at a high angle well per se, and cut more of these fracture systems.

So it's really up to this point, and just about that we have the technology to do it because the cost would be excessive. But if we can do it on air, or on [mist], then we can cut these holes pretty quickly and the cost won't be all that much.

It's going to be obviously more than a vertical well, probably about two-fold, a one-fold increase, but it's going to be well worth the try.

Operator

Ladies and gentlemen, with no further questions, this concludes today's question and answer session. We would like to thank you for your participation in today's conference. This concludes the presentation and you may now disconnect. Have a good day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Approach Resources Inc. Q1 2010 Earnings Call Transcript
This Transcript
All Transcripts