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Warren Resources, Inc. (NASDAQ:WRES)

Q1 2014 Earnings Conference Call

May 7, 2014 10:00 AM ET

Executives

Philip A. Epstein – Chief Executive Officer and Chairman

Saema Somalya – Senior Vice President, General Counsel and Corporate Secretary

Stewart P. Skelly – Vice President and Chief Financial Officer

Robert M. Dowell – Vice President and General Manager

Operator

Good day, ladies and gentlemen, and welcome to the Quarter One 2014 Warren Resources Earnings Conference Call. My name is Julianne and I’m your operator for today. At this time all participants are on listen-only mode. We will conduct a question-and-answer session towards the end of the conference. (Operator Instructions) As a reminder, this call is being recorded for replay purposes.

And I’d like to turn the call over to Mr. Philip Epstein, Chairman and CEO of Warren Resources, Inc. Please proceed, sir.

Philip A. Epstein

Thank you, Julianne. Good morning, everyone. Thank you for joining Warren Resources’ first quarter 2014 financial and operating results conference call. Before we get started this morning, I’d like to hand over the call to our new Senior Vice President and General Counsel, Saema Somalya, for a comment on forward-looking statement. Saema?

Saema Somalya

Good morning. Before we get started, I would like to remind everyone that all statements made during our conference call that are not statements of historical facts constitute forward-looking statements and are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results could vary materially from those contained in the forward-looking statements. Factors that could cause actual results to differ materially from those in the forward-looking statements are described in our Forms 10-K and 10-Q, other periodic filing with the SEC and our press release.

Our first quarter 2014 earnings press release, webcast and playback of this call and reconciliations for non-GAAP figures referenced on this call are available under the Investor Relations section of our website at www.warrenresources.com.

Philip A. Epstein

Thank you, Saema, and welcome everyone. With me in Warren’s New York City headquarters in addition to Saema is Stewart Skelly, our Vice President and Chief Financial Officer. Joining us from our Long Beach office is Bob Dowell, Vice President and General Manager of our California and Wyoming business units. Bob will provide updates on our active drilling program and our core oil assets in California and our Wyoming coalbed methane or CBM natural gas drilling program.

I’d like to begin by saying that this has been a very strong quarter for Warren in which we continue to demonstrate growth in revenues, profits and production. We also continue to focus on maintaining financial discipline, exploiting our existing assets to maximum effect and more efficiently allocating our cost structure over a larger asset base. As told we solidified the company’s platform from an operating and financial point of view, which will allow Warren to pursue new opportunities for future growth.

In the first quarter, Warren’s total revenues increased to $34.2 million, which represents an 11% increase of revenues for the first quarter of 2013. In addition, our net income increased by a very strong 190% to $8.2 million and our EBITDA increased 27% to $19.3 million. In addition, first quarter production was in line with our Q1 guidance with oil production increasing 8% to 276,000 barrels and our gas production increasing 4% to 1.6 net Bcf.

In the first quarter, Warren began executing on its $116 million capital expenditure program for 2014, which represents a 60% increase over the 2013 CapEx program. This increased spending is the result of a bottom-up analysis of our drilling inventory, which allows us to further optimize our organic production, particularly in light of an increase of almost $1 in realized gas prices in our large Wyoming asset. At the same time, we continue to explore opportunities to grow our business through acquisitions that will allow us to leverage our operational, geological and regulatory expertise as well as our strong balance sheet.

Before Stewart and Bob walk you through more specifics, I’d share with you a few observations. As we’ve discussed before, our goal in 2013 and now continuing into 2014 is to understand and grow our resource base, to operate it efficiently and to articulate the upside of our assets and operation to our investors. Our initial goal is to trade above PV-10 of proved reserves. This is a distinction that the better more “exciting” E&P companies have earned, those who demonstrate value beyond proved reserves.

However, exciting in Warren’s case doesn’t mean pure exploration. We focus on the nuts and bolts of reservoir optimization and of cost efficiencies or what I would call sophisticated pluming. We believe that as geological risk is replaced by engineering risk, the efficient use of capital is the future of the American energy industry.

This trend plays into Warren’s sweet spot. We look to leverage our skill set to exploit and rejuvenate known resources. We are very good at geologic and reservoir analysis and the application of state-of-the-art engineering practices. Our message is, you see what you get, but our mission is clearly to increase what investors can see by expanding our asset base and to see better by stronger communication. And we’ve made good strides in this as our enterprise value approaches our last reported PV-10 of proved reserves of $500 million.

As Bob Dowell will discuss in more detail, our operations team continued its excellent performance in the first quarter. In California, we kicked off our Ford formation development program into Wilmington Townlot Unit of the LA Basin. We have now drilled and completed three wells in the Ford formation, which are on production and showing encouraging initial results. We commenced drilling in the Ranger formation in the North Wilmington Unit using a second drilling rig.

In addition, we have now completed construction of temporary production facilities in our Leroy Pine Project in the Santa Maria Oil Basin and initiated completion operations on the first of the three wells drilled in that project in 2013. In Wyoming, the operations team is gearing up in Q2 to start drilling 48 coalbed methane and 5 water disposal wells on our large 100,000 acre of Spyglass Hill Unit in Carbon County, Wyoming. Our drilling season in Wyoming ends in mid-December. So we have a lot of activity to look forward to.

I’d like to thank our operations and technical staff as well as all of Warren’s employees for their continued effort to achieve outstanding results for our shareholders and position the company for the next stage of its growth. The success we saw last year sets the stage where will be a strong program of production and results in 2014.

Our first quarter oil and gas production came in strong and was in line with the company’s expectations in Q1 guidance. In our press release this morning, we issued guidance for the second quarter of 2014 and confirmed our full year guidance, projecting total year-over-year production growth of approximately 8% to 17% and a capital expenditure budget of approximately $116 million.

We’re also continuing our efforts to find opportunities for external growth and to use our balance sheet to establish a new core area or as we say a third leg to our stool. We believe that we have established an effective M&A process of originating, engineering and financially analyzing transformative acquisition candidates and we continue to scout for acquisitions that will be complementary to our business. We’re seeing a strong pipeline of potential opportunities as we focus on prospects where Warren can gain a competitive advantage.

Our emphasis has been on conventional reserves with exploitation potential. As such, we have focused on California and the Rockies with our experience effectively navigating the regulatory process, provides us with a competitive advantage.

However, as we bring on corporate development, operating and technical personnel, who are attracted by the entrepreneurial opportunities at Warren and as our skill set continue to evolve, we are now looking at other basins and asset classes including unconventional resource plays. Our focus for larger transactions remains on assets with a large PDP component that allow us to optimize our capital structure. A smaller step-out transactions, we’re looking at areas with known hydrocarbons.

We are seeing increased deal flow as larger companies realign their portfolios. The process of carefully diligencing asset is time-consuming. So we firmly believe that being disciplined won’t yield ultimate success and we hope we have more to say on these efforts in the coming months. We’re very excited by the opportunities that lay ahead and are optimistic for this coming year.

With that, I’ll turn over the call to Stewart Skelly, our Chief Financial Officer to provide greater detail on our financial results and 2014 guidance. Stewart?

Stewart P. Skelly

Thank you, Philip. As Philip mentioned, we had a very strong first quarter with excellent growth in key metrics including revenue, earnings, EBITDA, production and discretionary cash flows and we’re excited to carry that positive momentum into the rest of the year and beyond. We also continue to realize significant benefits from our efforts to optimize current operations and also enhance our financial management practices, the impact of which can be seen in reduced operating expenses, which I will touch on a little bit later.

For the quarter, we reported net income of $8.2 million or $0.11 per diluted share, which represents 190% increase over the first quarter of 2013. We also reported adjusted net income of $7.9 million, which excludes an unrealized mark to market gain on derivatives of $800,000 and other nonrecurring G&A expenses of $500,000. This represents a 62% increase over the first quarter of 2013.

Our cash flow from operations in the quarter was $15.5 million, compared to $16 million in the first quarter of last year and discretionary cash flow increased by 13% to $18.3 million compared to $16.2 million in the first quarter of 2013.

Total production for the quarter increased by 6% to $543,000 barrels of oil equivalent or approximately 6,030 barrels of oil equivalent per day. We produced 276,000 net barrels of oil in the quarter, which was an increase of 8% over the 256,000 net barrels produced in the first quarter of last year.

Additionally, natural gas production primarily from our Atlantic Rim project in Wyoming was 1.6 billion cubic feet for the period. This represents an increase of 4% over the 1.5 billion cubic feet produced in the first quarter of 2013. The average realized oil price during the period was $95 per barrel compared to $101 per barrel in the first quarter of last year. And our average realized price for natural gas in the quarter was $4.18 per Mcf compared to $3.21 per Mcf in the first quarter of 2013.

Also, during the period we recorded a net loss and derivatives of $1 million, of which $1.8 million represents a realized losses from derivatives and $800,000 represented an unrealized mark to market non-cash gains on oil and gas commodity derivatives.

In order to protect the Company against the decline in commodity prices Warren owns Brent swaps for approximately 1,300 barrels of oil per day with a weighted average strike price of $103 per barrel for calendar year 2014.

The Company also owns NYMEX natural gas swaps for 12 million cubic feet of gas per day with a weighted-average strike price of approximately $4 per Mcf for calendar year 2014, and NYMEX natural gas swaps for 3 million cubic feet of gas per day at $4.18 per Mcf for calendar year 2015. In addition the Company also owns a NYMEX CIG differential hedge for 6 million cubic feet of gas per day with a weighted average differential of $0.20 per Mcf for the remainder of this year.

As mentioned earlier, we continue our efforts to focus and achieve cost savings, which resulted in total operating expenses decreasing by a total of 5% to $24.4 million during this quarter.

Lease operating expenses and taxes decreased by 3% to $9.5 million, which expects increased plugging expense and also workover activity in our Wilmington Field assets in California.

Depletion, depreciation and amortization expense for the quarter decreased by 11% to $10.4 million compared to the prior period. DD&A was approximately $19 per barrel of oil equivalent during the first quarter of this year compared to $23 per barrel of oil equivalent during the first quarter of 2013. This decrease in DD&A resulted from an increase in proved reserves at year-end, which led to a decrease in the overall depletion rate for the first quarter of 2014 compared to last year and will continue for the remainder of 2014.

G&A expense also decreased by 8% to $4 million from $4.3 million in the first quarter of last year. This decrease primarily reflects lower salary and overhead expense which results from the departure of several senior executives in 2013. Interest expense remained flat at $800,000 during the quarter.

Our 2014 drilling and facilities capital expenditure budget remains at $116 million; $77 million relates to our California oil fields and $39 million relates to our Wyoming natural gas fields. We currently intend to fund our budget with cash flows from operations and also borrowing from our credit facility. As the operator of our assets in both California and Wyoming, we have the ability to modify our CapEx budget if commodities or financial markets change.

At the end of the quarter, we had approximately $86 million in total available liquidity which was comprised of $84.5 million of borrowing capacity under our credit facility and an additional $1.8 million in cash. The company's next borrowing base re-determination is scheduled to occur later this month. We reported second quarter and full-year production guidance in a press release which was disseminated this morning.

Now let me turn the call over to Bob who will provide you with a brief operational update. Bob?

Robert M. Dowell

Thank you, Stewart. Let me start with an update for the Wilmington oil fields in California. The company commenced its 2014 drilling program at the Wilmington Townlot Unit or WTU with the spudding of its first well on February 15. At the close of the first quarter, we had drilled and completed three wells all of which were in a deeper Ford formation. The 30 day initial production rates for each of the new Ford wells averaged 90 barrels of oil per day. And we will share production decline projections once there is sufficient data.

Since the close of the first quarter, an additional two, four producer wells have been drilled and completed along with one Ford and one Tar D3 injection well. The company also contracted for a second drilling rig during late March to continue to build it in the Ranger formation at the North Wilmington Unit or NWU. Drilling operations commenced on April 2 and today we have drilled and completed two Ranger producing wells and one injection well. All the producing wells drilled since the end of the first quarter have been placed on production and we were looking forward to communicating the performance results when more data is available.

The first quarter capital expenditures for the Wilmington Field were $5.1 million consisting of $3.2 million for drilling and development operations and $1.9 million for facility improvements and infrastructure costs. Warren plans to drill a total of 22 new wells at the WTU in 2014, consisting of 17 producing wells and 5 water injection wells. The 17 producing wells are comprised of 8 Ford vertical wells, 2 Tar horizontal wells, 3 Upper Terminal sinusoidal wells, and 4 Ranger sinusoidal wells. The injection wells consist of 1 Tar, 2 Ford and 2 Ranger sinusoidal water injection wells.

In the NWU, Warren plans to drill a total of 11 new wells in 2014, consisting of 6 sinusoidal producing wells and 5 sinusoidal injection wells all of which are located in the Ranger formation.

Warren continued to work with the South Coast Air Quality Management District or AQMD during at the first quarter to pursue gas sales as the preferred method of disposing of excess gas produced at the WTU. Warren’s new supplemental CEQA assessment continues to move through the AQMD approval process. An approval from the AQMD is anticipated sometime in the late second or early third quarter of 2014 barring any unforeseen delays.

Moving now to the Leroy Pine project located in the Santa Maria Valley oilfield in California. During the first quarter, the company received permits for and commenced construction of the temporary facilities for the Leroy Pine Project. Since the close of the first quarter, construction on the temporary facilities has been completed and start-up testing the facility was initiated in late April.

In addition, completion operations were initiated in April on the first of the 3 producing wells drilled in 2013 and production testing of the first well is expected to begin in May. First quarter capital expenditures for the Leroy Pine Project were $600,000 which consisted primarily of expenditures made for the construction of temporary facilities.

The Leroy Pine project represents a new avenue for production and reserve growth for Warren in 2014. Our 2014 Leroy Pine drilling program consists of drilling 12 producers and two water disposal wells followed by the four remaining producers in 2015.

Now, I would like to move to our Wyoming operating results. Based on the success of the 2013 drilling program, our current plan is to drill 48 gross or 39 net CBM wells and six gross or 4.9 net water disposal wells in the Spyglass Hill Unit in 2014. These relatively shallow wells are vertically drilled to depths between 1,600 feet and 3,200 feet, once drilled three close seeing intervals are selectively perforated hydraulically fracture stimulated and placed on production.

During the first quarter, permitting of the 2014 wells was initiated and we have received approval to begin drilling operations on the 23 state and fee wells. A drilling contractor has been selected and we are finalizing the drilling contract at present. Well drilling locations are near completion and we are anticipating commencing drilling operations for the 2014 program in mid to late May, and to be concluded by November 15 in order to satisfy the 2014 and 2015 annual drilling requirements.

The 2014 capital expenditure program approved for the Spyglass Hill Unit is $39 million that's consistent of $32.5 million for new well drilling and $6.4 million for facility costs. Thank you for participating today.

Now I’d like to return the call to the operator for any questions.

Question-and-Answer Session

Operator

(Operator Instructions) We have no questions at this time. (Operator Instructions) Thank you. I would now like to turn the call over to Mr. Philip Epstein for closing remarks.

Philip A. Epstein

Thank you everybody for listening today. We continue our program of developing the company. We are looking at various opportunities for growth. As I said we are disciplined in our approach. We have to look at a lot of opportunities, find the right ones. But I’m extremely pleased how our current assets are performing and we are continuing to build up our drilling inventory and executing on that, and as financial results have shown, our company continues to prosper, it’s profitable, we continue to throw up significant cash flow, and this all set the stage for the next stage of growth for Warren. Well, thank you. Have a great day, and we’ll see you next quarter.

Operator

Thank you, for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.

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