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Western Gas Equity Partners, LP (NYSE:WGP)

Q4 2013 Earnings Conference Call

February 28, 2014 10:00 ET

Executives

Benjamin Fink - Senior Vice President and Chief Financial Officer

Don Sinclair - President and Chief Executive Officer

Analysts

Bradley Olsen - Tudor, Pickering, Holt & Co.

Paul Jacob - Credit Suisse

Jerren Holder - Goldman Sachs

Selman Akyol - Stifel

Operator

Good morning. My name is Sherley and I will be your conference operator today. At this time, I would like to welcome everyone to the Western Gas 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. (Operator Instructions) Thank you.

I would now like to turn the conference over to your host for today, Benjamin Fink, Senior Vice President and Chief Financial Officer.

Benjamin Fink - Senior Vice President and Chief Financial Officer

Thank you, operator. I am glad you could join us today to discuss Western Gas’ fourth quarter and full year 2013 results, as well as our outlook for 2014. Please note that on this call, we will be referring to Western Gas Partners as WES and Western Gas Equity Partners as WGP. Don Sinclair, our President and CEO, is joining me on the call today. And I am also very pleased to introduce all of you to Jacqui Dimpel, who is also with us today. Jacqui succeeded Danny Rea as Anadarko’s Vice President of Midstream and is just appointed yesterday as our newest Senior Vice President.

As always, this presentation contains estimates that are based on the best information available to us at this time and we believe that these estimates were reasonable. However, a number of factors could cause actual results to differ materially from what we discuss. Please refer to our latest filings with the SEC for the risk factors associated with our business. In addition, we will be referencing certain non-GAAP measures on the call, so be sure to see the reconciliations in our earnings release. As a reminder, you can view and download all of these materials, including this call’s presentation slides at www.westerngas.com.

Lastly, for those of you who are unitholders of WES in 2013, I am pleased to inform you that your K-1 is now available through our website with paper copy to be e-mailed to you later in March. For those of you who were unitholders of WGP in 2013, your K-1 will be made available on our website in mid-March with paper copy to be e-mailed to you towards the end of the month.

With that, let me turn the call over to Don.

Don Sinclair - President and Chief Executive Officer

Thanks, Ben. Good morning, everyone and thank you for joining us today. WES’ fourth quarter and full year results for 2013 were excellent. For the full year, WES’ adjusted EBITDA was above the high end of the guidance range we announced in November. WES’ full year total capital expenditures on the cash basis came in lower than expected due primarily to timing of cash payments. And maintenance capital as a percentage of adjusted EBITDA was at the low end of the announced range.

2013 was an important year for WES highlighted by over $700 million of acquisitions, 16% full year distribution growth, total capital and equity investments have grown by more than 7 times over the last two years, and the receipt of our third investment grade rate. WES ended the year with approximately $900 million in liquidity and maintained healthy coverage ratios throughout the year. The strong components of WES led to substantial growth of WGP as its fourth quarter distribution is 40% higher than it was in the fourth quarter of 2012.

Looking specifically at WES’ fourth quarter, adjusted EBITDA was $129 million and distributable cash flow was $105.7 million. WES’ fourth quarter coverage of 1.14 times includes all the units that issued in conjunction with this December equity offering, the proceeds of which will allow us to fund the Texas Express and Front Range acquisition that we announced yesterday without issuing additional equity.

For comparative purposes, if the WES’ units issued in December were excluded from the coverage ratio calculation, the fourth quarter coverage ratio would have been 1.19 times. The drivers behind WES’ fourth quarter results were sequential growth in the DJ Basin and Marcellus shale. We continued ramp up of our Brasada facility in addition to OTTCO pipeline in September. We were able to achieve this growth while experiencing colder than normal weather across our operations, which WES may have had a $2 million negative financial impact on our quarterly results.

Now, I’d like to take a moment to discuss acquisition we announced yesterday in more detail. Maybe you are familiar with the assets we are acquiring, because the remaining interest in each of these assets, are held by other master limited partnerships. We are acquiring a 20% interest in both Texas Express Pipeline LLC and Texas Express Gathering LLC and a one-third interest in Front Range Pipeline LLC. Texas Express Pipeline is a 580-mile, 20-inch pipeline that transports natural gas liquids from Skellytown, Texas to the Mont Belvieu fractionation complex. The pipeline has initial capacity of 280,000 barrels per day and is expandable to 400,000 barrels per day with additional pumps. Enterprise Products Partners is their operator and owner, and the remaining owners are Midcoast Energy Partners and DCP Midstream Partners.

Texas Express Pipeline was placed in service in November 2013. The Texas Express Gathering system gathers natural gas liquids produced in Anadarko Basin. The gathering system is operated by Midcoast, which is an owner, along with Enterprise and WES. The build out of gathering system is occurring in phases, with the first phase consisting of approximately 116 miles of gathering lines and additional phases are expected to be completed through 2019. Texas Express Gathering began operations in November 2013.

Front Range pipeline is a 400 miles, 16 inch pipeline that connects DJ Basin in Colorado to Texas Express in Skellytown, Texas. Front Range has initial capacity of 150,000 barrels per day and is expandable to 230,000 barrels per day with additional pumps. By utilizing Front Range and Texas Express, DJ Basin producers now have the ability to move NGLs directly to Mont Belvieu. Front Range began its operations in February and is operated by Enterprise, which owns a one-third interest along with DCP Midstream. This acquisition is immediately accretive to our distributable cash flow. The assets are supported by firm transportation agreements that have increasing volume commitments over time than the investment grade shippers. Given the low risk state of assets growth, we believe it is appropriate to valuate the assets based on total project cash flows as opposed to only the next 12 months. The purchase price is equal to the assets’ current book value, and the three projects had a blended base case, unlevered internal rate of return of 14% to 18%.

Now, before we move on to our full year 2014 outlook, I would like to give you an update on Lancaster, our major growth project in the DJ Basin. The first train of our Lancaster plant is currently being commissioned, with startup expected by the end of March. We are currently purchasing longer lead time items for Lancaster 2 and based on the recently experienced cold weather which impacted our construction schedule, we now expect that the second train would be in service in the second quarter of 2015. Looking to the entire facility, we anticipate spending approximately $130 million on the 2 trains in 2014.

A pie chart on Slide 11 shows where we expect to invest our money in 2014, including both capital expenditures and equity investments. As always, these figures do not include acquisition capital. In addition, Lancaster complex highlights the capital planning, including well connects and the additional pipeline and compression facilities in DJ Basin and additional well connections and compression in the Marcellus Shale. We are also excited about the partial repurchasing of our Haley System in West Texas. Enable it to gather rich gas produced from the Wolfcamp and Bone Springs developments in the Permian Basin. We also anticipate spending approximately $36 million in equity investments, which includes Texas Express and Front Range.

Now, let’s go to our full year outlook for 2014. As you read in yesterday’s release, we expect WES’ adjusted EBITDA for 2014 to be between $600 million and $650 million. We are very excited for this year as difference implies year-over-year EBITDA growth of over 35%, with a substantial portion coming from organic projects. As mentioned in our earnings release, WES could be in a robust capital program in 2012. And large investment would generate tangible results in 2014.

With respect to the EBITDA range, there are two key assumptions I would like to discuss. First, the estimate range includes results of Texas Express and Front Range assets from March 1 onwards and does not assume any other acquisitions. We expect the Texas Express and Front Range assets to represent 3% to 5% of our adjusted EBITDA in 2014. Second, we have assumed that EBITDA will grow as the year progresses, somewhere of what we experienced in 2013. First quarter, in particular will be impacted by the continuation of colder than normal weather that occurred last quarter. As always, we strive to maintain no less than 1.1 coverage for the year and we can maintain this trend in 2014. Our coverage will potentially fall below 1.1 times in the first quarter because neither the acquisition nor the startup of Lancaster will have a material impact on the first quarter results.

WES’ total CapEx guidance range, which includes equity investments this year, is $650 million to $700 million. This range includes equity investments in Texas Express and Front Range from March 1 onwards. We have a consistent history of diligently managing our balance sheet and maintaining flexibility to finance our projects, while preserving investment grade metrics. As you saw on yesterday’s press release, we recently upsized our committed credit facility to $1.2 billion and extended maturity to February 2019 thus ensuring more than adequate liquidity for both our capital program and future acquisitions.

Finally, as a subset of WES’ total CapEx maintenance cap was expected to be between 8% and 11% of adjusted EBITDA, which is little higher than 2013, but consistent with our 2012 results. Overall, we believe WES’ results to support solid growth in our distributable cash flow, which should once again result to distribution growth of no less than 15% WES and no less than 34% at WGP. It’s important to note that this outlook does not include the effect of any future acquisitions we may make. Any acquisitions we pursue will be added to the outlook discussed today and we will update guidance consistent with our past practice.

With that operator, I’d like to open up the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question comes from the line of Bradley Olsen.

Bradley Olsen - Tudor, Pickering, Holt & Co.

Hey, good morning guys.

Don Sinclair

Good morning, Brad.

Benjamin Fink

Good morning, Brad.

Bradley Olsen - Tudor, Pickering, Holt & Co.

I had a question about the profiles or the return profiles of the organic capital spending, as the organic capital spending becomes a larger and larger piece of the WES growth story, would you mind walking through kind of what determines the returns as you further build out your systems in places like the Marcellus and the Wattenberg, where I expect a majority of your organic growth spending is taking place?

Benjamin Fink

Sure, Brad. This is Ben. Let’s start with the Marcellus, because that’s easiest, you might recall that we have the cost of service modeling effect. So through the rate reset mechanism, we are targeting 18% rate of return on invested capital. When you look at the DJ, which is obviously is the bulk of 2014, let’s separate out Lancaster and the gathering. Lancaster, we have already targeted a IRR of 16% on the first train, base case IRR of 17% to 24% on the second train. On the gathering side, there is no cost of service. There is no flower level, but obviously are protected by the fact that so many rigs are running and we have been kind of averaging a mid-teen (indiscernible) type of return there.

Bradley Olsen - Tudor, Pickering, Holt & Co.

Okay, great. And following up on the acquisition, as we think about the ramp-up in contractual volumes that you have on both Front Range and the Texas Express System, are those systems currently expected to get to north of 80% or 90% committed volumes as we move through this decade?

Don Sinclair

Brad, this is Don. That’s not in our model. As you all know, a lot of that will be dependent on the resource development. Basically, a lot of it will be driven in the DJ Basin. So we don’t have it modeled that way. We have the minimum volume requirements with some other additions that we know about. If shippers have an option to increase their NDQs in 2015, I think that will be a key indicator to really what happens towards the end of – around 2019. The other thing is you have contracts that expire, where volumes are going to Overland Pass and those volumes will be put back into Front Range and Texas Express. So, that’s kind of how we look at the profile if that makes sense.

Bradley Olsen - Tudor, Pickering, Holt & Co.

Yes, okay. That’s helpful. And so the 14% to 18% cited in the press release that reflects largely what’s committed today along with as you mentioned maybe some additional volume capture opportunities, but nothing really beyond that or I guess a better way to ask it would be most of the 14% to 18% IRR projection is based on committed volume ramp-up on those two pipes?

Don Sinclair

Correct. And volumes we have a clear line of site, too.

Benjamin Fink

Yes, that’s right. Just remember when these projects were initially built, there was Lancaster 2, there was no Brasada 2, alright.

Bradley Olsen - Tudor, Pickering, Holt & Co.

Great, thanks a lot guys.

Don Sinclair

Thanks Brad.

Operator

Our next question comes from the line of Paul Jacob from Credit Suisse. Your line is open is open.

Paul Jacob - Credit Suisse

Good morning guys. Thanks for taking my call. So I am just curious sort of broadly how you think about IRR, what’s the timeframe that you look with those investments. And then do you include any additional investment like – that you are planning on to spending for these assets within that IRR?

Benjamin Fink

It’s a great question, this is Ben. We lead it over 10 years because that’s the life of the committed contract. We are putting a pretty conservative target value at the end of 5X. And we are assuming that we are going to have to put the pumps in, which is not big dollar CapEx next to us, but that gets back into the IRR as well.

Paul Jacob - Credit Suisse

Okay. And then I think you – I think I missed it a little bit, but you talked about the EBITDA that you might be expecting from Texas Express in 2014 relative to your total EBITDA guidance, could you just reiterate what you said there and give some sense as to whether or not that will include the additional equity investments that you plan on making?

Benjamin Fink

Alright, just to be clear, what we said was the acquisition will represent 3% to 5% of our expected 2014 EBITDA. And we only have those acquisitions for 10 months. To be clear, we do not count anything except cash distributions as EBITDA, so that is our best guess of the cash distributions we will receive. Obviously, the operator’s policy is going to have a big impact on what the cash distributions amount to be. Does that answer your question?

Paul Jacob - Credit Suisse

Yes, that does. And then the last one for me is given that this is an equity investment, is there going to be any maintenance CapEx associated with these assets that you would book on your sheets?

Benjamin Fink

Yes, on equity investments what happens is that’s usually deducted from the distribution you receive. The maintenance part is netted. So our distribution is lower. So we won't book maintenance CapEx on our books, but you are in the seat same place from a DCF basis.

Paul Jacob - Credit Suisse

Okay, great, thanks guys.

Don Sinclair

Thanks Paul.

Operator

Our next question comes from the line of Jerren Holder from Goldman Sachs.

Jerren Holder - Goldman Sachs

Good morning. So obviously, great volumes across your systems, just wanted to get a sense of what type of utilization the Brasada plant is running at, I know there are throughput guarantees essentially, but just trying to get a sense of the volumes there and the potential for an expansion within next, call it, two to three years there?

Don Sinclair

Jerren, this is Don. Anadarko is delivering today what their volume in contract requirement is to Brasada. As far as Brasada 2, it’s an Anadarko base decision. There is a lot of variables that they look at relative to capacity and area rights, recoveries, runtime, fuel efficiencies. And really, one of the big variables that comes into play with them is the fact that to make sure that they have what we think of simultaneous operations all the way from the preparation of well to delegate the plant. So we provide them the information we can relative to what we can do with Brasada 2, they take and analyze against their other options and they will make the decision accordingly.

Jerren Holder - Goldman Sachs

Okay, thank you. And also, especially across I guess the drop down backlog, can you give us a sense of I guess what’s left, what are not to, call it six to eight months in a drop down rate, if you just continue to see that over time as you guys gradually move to more of organic growth story?

Benjamin Fink

Sure Jerren, this is Ben and good morning to you. I mean as we said in the past, our strategy and our execution pattern around drop downs really hasn’t changed. We kind of drop one and then move on to the next. Obviously, I can’t give you any insight as to what’s next and what’s coming in. But there are still some really nice assets at the Anadarko level. In no particular order, you have a plant in the DJ Basin. You have all the gathering at the Eagle Ford. You have additional gathering at the Marcellus. You have all the Permian Bay assets, both in crude and gas, and all the gathering plant should be there.

Jerren Holder - Goldman Sachs

Okay, great, thank you.

Operator

(Operator Instructions) Your next question comes from the line of Selman Akyol from Stifel. Your line is open.

Selman Akyol - Stifel

Thank you. Good morning. You talked about the gathering, Texas Express Gathering coming on in different phases, I think going through 2019 Phase 1 is just getting started, how long do you expect Phase 1 to go through?

Benjamin Fink

That’s a better question for Midcoast who is the operator. All I can say is it’s well underway right now.

Selman Akyol - Stifel

Okay. And maybe you addressed this and I got on the call a little bit late, but it looked like your maintenance capital in the quarter was a little below what we were looking for and then as you rolled into 2014 maybe a little bit higher, so I was just wondering was there some timing issues there?

Benjamin Fink

There is always timing around maintenance CapEx. It’s quite lumpy. For the year, we came in on the low end of our range. And then on a dollar basis, it’s actually going to come close to doubling 2014 versus 2013. The most of that is the trajectory of the volume curbed in the Marcellus. What you may have recalled last year is Marcellus wells exceeded our expectations and therefore we booked more expansion relative to what we budgeted. And as that rate of growth slows down, more is going to be booked to maintenance as per our policy in 2014.

Selman Akyol - Stifel

Alright, thanks very much.

Operator

There are no further questions in queue at this time, sir.

Don Sinclair - President and Chief Executive Officer

Sherley thank you. I want to thank everyone for joining us and for your interest in Western Gas. I know today is a busy day for a lot of people and we really appreciate you dialing in. And we look forward to seeing you again soon. Thank you.

Operator

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

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