Black Stone Minerals' (BSM) CEO Tom Carter On Q2 2016 Results - Earnings Call Transcript

| About: Black Stone (BSM)

Black Stone Minerals LP (NYSE:BSM)

Q2 2016 Earnings Conference Call

August 09, 2016 10:00 AM ET

Executives

Brent Collins - VP, IR

Tom Carter - Chairman, President and CEO

Marc Carroll - SVP & CFO

Holbrook Dorn - SVP, Business Development

Brock Morris - SVP, Engineering and Geology

Analysts

Jason Smith - Bank of America Merrill Lynch

Nick Raza - Citigroup

Kevin Smith - Raymond James

Jeff Robertson - Barclays Capital

Brian Vest - Robotti

Operator

Good day, ladies and gentlemen and welcome to the Black Stone Minerals Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct the question-and-answer session, and instructions will be given at that time. [Operator Instructions]. As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Brent Collins, Vice President of Investor Relations. Please go ahead, sir.

Brent Collins

Thank you, Ashley. Good morning to everyone and thank you for joining us for Black Stone Minerals' second quarter 2016 earnings conference call.

Today's call is being recorded and will be available on our website along with the earnings release, which was issued yesterday afternoon. Before we start, I'd like to advise you that we will be making forward-looking statements during this call about our plans, expectations and assumptions regarding our future performance.

These statements involve risks that may cause our actual results to differ materially from the results expressed or implied in our forward-looking statements. For discussion of these risks, you should refer to the cautionary information about forward-looking statements in our press release from yesterday afternoon and the risk factors section of our 10-K that was filed earlier this year and our Form 10-Q, which will be filed later today. We may refer to certain non-GAAP financial measures that we believe are useful in evaluating our performance. A reconciliation of those measures to the most directly comparable GAAP measures and other information about these non-GAAP metrics are described in our earnings press release from yesterday which can be found on our website at BlackStoneMinerals.com.

Company officials on the call this morning are Tom Carter, Chairman, President and CEO; Marc Carroll, Senior Vice President and CFO; Holbrook Dorn, Senior Vice President of Business Development and Land; Brock Morris, Senior Vice President of Engineering and Geology; and Steve Putman, Senior Vice President and General Counsel.

I'll now turn the call over to Tom.

Tom Carter

Good morning, everyone and thank you for joining us today.

Black Stone had a solid second quarter and our diverse high quality asset base continues to attract significant drilling activity and new leasing dollars. Production for the quarter was up sequentially, driven by the continued growth in mineral and royalty production. Based on the strength of our first half of the year performance, as we stated earlier, we are increasing our production guidance to a range of 31 to 32 MBoe per day, which is roughly a 9% increase from our original guidance for the year.

We also had a strong quarter for lease bonus. With leases executed in numerous place across our assets; the Permian, Austin Chalk, and Haynesville Shale make up the most of the leases we close this quarter. While I don’t think it’s surprising to anyone that the industry is interested in the Permian, it is interesting to note the increase in the Haynesville, which may be a little bit unexpected. However, if you look at the level of investments that’s been made by private and public companies in the play recently, and if you look at the recent results producers are announcing, there is clearly some renewed interest in this resource and justifiably so.

We close on the previously announced Freeport-McMoRan and Wattenberg transactions in June, which further enhanced our asset portfolio. I'd note that some of the lease bonus that we booked in the quarter related to the recently acquired properties from Freeport, we clearly got out of the gates quickly with that acreage and are already adding meaningful value to these assets that were non-core in Freeport's portfolio. I'd also note that yesterday afternoon, we completed an acquisition of interest in the Midland basin for approximately $8 million.

Our common distribution for the second quarter was increased by approximately $0.10 to $28.07 per unit. We’re now in our second year as a public company and my hope is that the investment community sees and appreciates our public track record. We exceeded our production forecast that we laid out at the IPO by 10%. We’ve done approximately 200 million in acquisitions, which is in the ballpark of what we said, we would do. And we defended our common distribution through our subordination structure, which some were skeptical as to how that would work? I’d add that we did all this in a pretty challenging environment for the industry.

In the first half of the year, we’re averaging 74 new well adds per month. This is in line with historic averages, and I think it speaks to the quality of our acreage in the core of some of the best place in the industry, as well as our ability to attract investment to our acreage and periods of low commodity prices and decreased industry activity.

Looking ahead, we’re well-positioned with a great set of assets that would be almost impossible to replicate and we maintain a strong financial position. Furthermore, in a world where yield and returns are increasingly hard to come by, I think the combination of our current yield, the growing distribution profile we offer, and the reasonable probability that our valuation metrics move closer to a peer average make our common units an extremely attractive investment. It is an exciting time to be an investor in Black Stone.

With that, I’ll turn the call over to Marc for his review of the quarter.

Marc Carroll

Thanks, Tom and morning everyone. We had a great quarter all around.

As Tom mentioned, production came in at 31.6 MBoe per day. It’s a sequential increase of 4% from last quarter and 7% increase from a year ago. Our working interest volumes were essentially flat after posting a large increase in Q1, but a mineral and royalty production performed well this quarter and grew by 6% sequentially. And that was driven largely by the Haynesville, the Eagle Ford and the Wilcox.

As Tom mentioned, we’re increasing our production guidance for the year by approximately 9%. Directionally, we’re forecasting flat production in the third quarter and then the step up in Q4 when we expect a number of completions coming online on our Haynesville and Bossier acreage in East Texas.

As these wells come on, our natural gas weightings expected to increase a little in the back half of the year to about 70%. Excluding derivative settlements, realized prices in the second quarter were $36.50 per barrel of oil and $1.87 per Mcf for net gas. Our realization percentages were down some this quarter. And the quarter’s following significant volatility in commodity prices. You’ll see some variation in our realizations due to the changes in NGL pricing and basis differentials. For the rest of the year, we think the average of the Q1 and Q2 realizations, a good number to use for forecasting.

We recognize that $30.7 million loss on commodity derivative instruments in the quarter. Of this amount, $13.3 million was realized cash settlements that we received, and $44.1 million was non-cash hedge losses resulting from an increase in commodity prices. The unrealized hedge losses what caused our net loss for the quarter, but we’ll take that since it means that prices are moving in the right direction. You also note that our hedge position is laid out by quarter in the 10-Q that’s coming out later today.

Another bright spot for the quarter is lease bonus and other income, which came in at $15.1 million for the quarter. It’s almost twice the amount from second quarter of '15. Our land group negotiated leases in a number of plays, but the bulk of those dollars and the acreage were in the Permian, the Austin Chalk and the Haynesville shale.

On the cost side, total LOE was down compared to the previous quarter. We've seen a general decline in cost, which is benefitting the broader industry, but in Q2, we also had a few one-time credits, which helped bring down LOE for the quarter. We’re forecasting that LOE for working interest barrel for the rest of the year will be between first and second quarter numbers. With the fourth quarter a little lower, as flush production associated with our Brent Miller wells comes online in the Haynesville.

Production costs and ad valorem taxes as a percentage of oil and gas revenue were slightly better than what we saw last quarter, and we moved our guidance range down to some to reflect that.

As for G&A, much of our incentive comp is based on the performance, and that it’s heavily influenced by commodity prices. As commodity price outlook improved from Q1 to Q2, the accruals for the expected annual payout increased accordingly.

Additionally, during the quarter, some legacy comp programs that were previously scheduled to settle in cash were amended, and they'll now be settled in equity. As a result, you'll see a one-time adjustment in our DCF calc [ph] this quarter to reflect the fact that these payments will now be settled in units instead of cash.

The increase in DD&A rate for Q2 is a function of a true-up during the second quarter for production that we received during the first half of the year. And that included first time payments for some new wells. We also had a true-up by reserves from our recently completed mid-year reserve report. Going forward, we expect at a blended rate for the first half, so the average of Q1 and Q2, DD&A per barrel or Boe, it’s a best estimate to use going forward.

Our net loss for the quarter was $20.8 million, again that was driven by that unrealized hedge loss. Our adjusted EBITDA came in at $74 million and cash available for distributions and reinvestment were $68 million.

Our coverage ratio for the quarter was approximately 1.5 times on all units, and 2.5 times for common units only. If you exclude the adjustment to our incentive comp plan, I mentioned a few moments ago, coverage for all the units was about 1.3 times and common units only was 2.1 times.

As for our financial position, the balance sheet is in great shape. At the end of the quarter, we had about $10 million in cash and $285 million outstanding on our revolver, and that was after the closing of the Freeport-McMoRan and Wattenberg deals. And as of today, we have about $200 million in dry powder. So all-in-all, we think it was a great quarter.

And with that, I’ll turn over the call for questions.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] Our first question comes from Jason Smith of Bank of America. Your line is open.

Jason Smith

Good morning, everyone and congrats on a solid quarter. Guys, just given the comments on increased interest on leasing and the improvement on commodity since you issued your initial guidance for the year. Just wanted to get a feel on your thoughts for lease bonus in the second half of the year, given at this point you guys didn’t change your guidance.

Holbrook Dorn

Jason, this is Holbrook. I’ll just say that we’re continuing to be very active on the land front. And we are happy with how things turning out.

Jason Smith

Okay. Sounds good. On the M&A market, obviously you guys just closed on the two acquisitions. It seems like there is a lot more interest in royalty assets out there. Just can you give just some color around what you’re seeing today. Is there still a lot available, what’s going on with bid ask spreads? Is there stuff that you guys are looking at pretty aggressively right now?

Holbrook Dorn

Jason, Holbrook again. We’re seeing a lot of opportunities on the acquisition front. As you notice, there is an increasing interest in the space. So that means increasing competition. But we are finding attractive transactions out there and the positive part about the increase interest is companies that own these assets are now appreciating that they are probably non-core and are more open to considering divesting them.

Jason Smith

Got it, thanks. Just one last quick one, just on the subordinated distribution, can you give us some color around how to think about the trajectory there? I mean is there a certain coverage ratio that you guys want to see to increase the distribution or are you going to kind of keep it at this the lower level for a quite a bit of time here?

Tom Carter

Jason, this is Tom Carter. We are in the process of formulating and will make it known to everyone a distribution policy. But with the exception of Q2, Q3, Q4 of '18 and Q1 of '19, which is our conversion cycle which takes on some different issues. Other than that we do not foresee increasing the subordinated distribution with that also increasing the common distribution. In other words, if there is a sustainable uptick in distributable cash flow it will be shared across all units, if that helps.

Jason Smith

Does that mean that the subordinated doesn't go higher till second quarter of next year at the earliest?

Tom Carter

Well, it's unknown if we have a dramatic uptick in distributable cash flow, the board would consider an increase in both common and subs at that point in time. We don't see that right now. But I think that you can count on the prescribed common distribution and a subordinated distribution staying about where it is.

Jason Smith

Very clear. I appreciate the answers. Thanks guys.

Operator

Thank you. Our next question comes from Kevin Smith of Raymond James. Your line is open.

Kevin Smith

Hi, good morning, gentlemen and congrats on the quarterly results. Would you mind elaborating where you saw the incremental leasing activity? I know you talked about us the three areas. But was there one that was more specific and then I guess the next where I'm kind of going with that, do you expect to see a near-term activity on those leases?

Holbrook Dorn

This is Holbrook. The activity was probably more heavily biased towards the Permian and the Chalk. We're seeing ongoing activity through our Midland and Delaware basin assets. So the bonus numbers were attractive and we would expect development to happen in the near-term as well. We have a lot of acreage out there, so it may help be on the exact tracks release, but other tracks we have that are already leased.

Kevin Smith

Okay, that's helpful. And then my other question is, we're hearing a lot of operators especially this quarter talk about how they're getting more bullish on Haynesville drilling economics with a few putting up pretty nice drilling rates. Are you seeing any increase in activity in your acreage or any thoughts there?

Tom Carter

Well, we are seeing increases in both Louisiana and Texas that our bigger interest are in the Shelby Trough in Texas, where XTO is are operator and they increase the activity by adding a rig earlier this year and have really done a good job in that program in terms of improving drilling efficiencies and cost. So, the rate of drilling is faster than we had anticipated going into the year, which is one reason why we've increased our capital guidance and we expect some more production as the Haynesville in the latter part of this year as a result. But overall, the well results are improving, cost are improving and the economics that are quite attractive now.

Kevin Smith

Okay. That's all I have. Thanks.

Operator

Thank you. Our next question comes from Nick Raza of Citi. Your line is open.

Nick Raza

Thank you. Good morning guys, just a couple of quick add-ons. Could you just give us a little bit more color around your maintenance CapEx? This is clearly something new that you guys have started to do and started to reserve. If you could just give us a little color on how you came up with the number and what we should expect going forward?

Marc Carroll

Hey Nick, it's Marc Carroll. The way we came up with that is kind of look at historically what we -- it cost us to add a reserve acquisitions costs, all in with both PDP at the time of acquisition and future drilling. That's an estimate, we've talked long and hard during the road show. And if you look at our historical royalty production, you'll see that over the long haul we believed and still believe that we don’t have maintenance CapEx, because our assets regenerate and the history proves that out. As right now where we stand, the working interest has gotten a little more than it’s historically been. So we've evaluated and done the analysis and for the time being right now we're calculating maintenance CapEx. And again it's kind of based on that blended reserve acquisition cost of both working and royalty interest overtime. And that's where the number came out kind of all in rack to replace the production, we're producing each year right now. So that's why the number came in.

So it was, we had maintenance CapEx last year accordingly, but as we stated in the S1 it was well within the coverage that we had. This year, we've changed the presentation on our reconciliation to be a little more consistent and showing the actual account going forward. So and we'll evaluate that every year in the same manner. And so that could change overtime.

Nick Raza

So, I mean just to clarify the reserve will actually be used to pay down and in the meantime, I am assuming that you guys do the acquisitions, but which is fine. But if there were no acquisitions from here through the next two years that cash which is built on your balance sheet or pay down, is that the right way to think about it?

Marc Carroll

Yes, I mean that cash goes to obviously it's not spent or push down the revolver, we'll apply to the revolver. And again, as we showed in the first year when we need the cash for acquisitions for some of our work in interest participating, we'll just drawdown the revolver.

Nick Raza

Okay. And then I guess my second question was relating to the uplift. I guess the redetermination will seasonally move ahead us again pretty soon. But in terms of your acquisitions, how much your reserve base of borrowing base uplift, do you expect?

Marc Carroll

This is Marc again. A lot and I'll ask Brock and Holbrook to jump in if they want, but a lot of those acquisitions were non-producing in future drilling potential. But they had a good amount of PDP with them. So again there is obviously the advanced rate is not 100% on that PDP. But we do expect to get some uplift and we actually had some good reserve numbers and reserve adds in the first half of the year. That combined with kind of strengthening prices hopefully that will translate into a more favorable bank price deck when it's time for the redetermination.

So and we're cautiously optimistic that we should see an increase, but at this time there is a lot of moving parts and we won't be for certain until we get into the season September-October.

Nick Raza

Fair enough. And I guess this will be my last question, I apologize. But in terms of the transaction that you've seen out there. I know Viper announced an acquisition of some Permian mineral interest in Delaware and Midland, I think it was about $110 million. Do you guys have a sort of thought about that where you guys participating that as well or trying to look at it?

Holbrook Dorn

Yes there was a lot of disclosure on their acquisitions. I think parts of what you could see through their announcement where we may be familiar with a couple of those assets.

Marc Carroll

Okay. That's all I have. Thank you very much guys.

Operator

Thank you again. [Operator Instructions]. Our next question comes from Jeff Robertson of Barclays. Your line is open.

Jeff Robertson

Thank you. I'm just curious Tom or Holbrook or Brock maybe with better than expected production in the first half of the year when commodity prices were low, how much visibility do you have you start to think about 2017 either things you’re hearing from operators or permits being pulled on a royalty interest to give some indication of what and an early look at activity next year is?

Tom Carter

I’ll take it, in a macro level, we are constantly in the forward-looking modeling business and from where we sit right now in August of ’16 we are bullish on volumes for next year and we are positive about our trajectory in ’17 relative to today, I don’t know have much more detail, Brock you might want to add to that or?

Brock Morris

Sure yes. Jeff, this is Brock. There are few place that we work pretty hard on because of our position where we’ve got the ability to incent operators, East Texas is an area where we’ve got large contiguous blocks of acreage and we’re able to write leases in a way that give us some visibility with respect to drilling activity, near-term activity, and other arrangements such as in the Haynesville with XTO where we’ve got some incentives in place to incent drilling there. So that often gives us some visibility and where some of our growth is going to come. We track our production and activity by play for over 40 plays and just watching the activity very closely in each of those plays gives us some insight and visibility into what to expect in the forward quarters.

We’re looking to economics in those plays and we try to understand it from the perspective of the operator. So, we feel like we’ve got some pretty good visibility even though we’re in somewhat passive position as a royalty on our - and then certainly with commodity prices moving in a positive direction, it helps us feeling better about those forecast.

Jeff Robertson

Brock, can you tell how much of the performance is just better performance on existing wells and maybe what you all have factored into your models versus incremental activity?

Brock Morris

It’s a little of both in the Wilcox for example, we've had less drilling activity than we would have anticipated a year ago, but the wells are actually performing quite a bit better than we had forecasted for a variety of reasons. So we see a little bit of both, but as Tom mentioned in his remarks, we’ve got even during the worst part of the cycle which we hope is behind us now we’re continuing to see new wells added on us at a rate just right in line with where we’d been historically even during the peaks of the industry. So it’s a combination of just good continued solid activity and some outperformance by some wells in individual cases. The - Haynesville results in the Shelby Trough has been very, very good.

The wells are being produced at restricted rates, so time will tell in some cases how much better in terms of overall recovery of those wells will be, we're hopeful that we’ll start to see some improved early rates as well as XTO continues to tweak the completion designs there. So we’re hopeful that it’s going to continue to be a combination of both outperformance and increased activity.

Jeff Robertson

Okay. Thank you very much.

Operator

Thank you. Our next question comes from Brian Vest of Robotti. Your line is open.

Brian Vest

Hey good morning, gentlemen. I see you’ve repurchased 1.2 million units and you have about 30 million remaining. Just wanted to see what you can tell us about your plans to continue to repurchase program and how do you think about capital allocation as you weigh those repurchases versus spending on acquisitions?

Tom Carter

Brian, this is Tom and I would answer that this way, when we first envisioned the share repurchase program it was shortly after the middle of February earlier in the quarter, which was a pretty different place than where we are today. And we put in place a tiered repurchase program from our -- that our Board approved. And it was somewhat the amount of capital to be spend was somewhat dependent upon where the units were trading. And the total capital to be spend decreased the higher the shares went. In other words, if we felt like our shares were at a significant bargain in the public trading. We had capital, a lot of capital we were going to allocate to it.

I think our top tier price was something a little, where our repurchase was the least amount of capital was a little bit higher than where it is today. But the shares are trading good 3 to 4 points higher than it was some time ago when that program was put in place.

So, if we see acquisitions – if we see the acquisitions of our own units at a significant premium to the underwriting metrics in the acquisition market. We -- it’s really hard to biodiversify mineral packages and we are one. So if our stock is low, we like buying it. If it’s not, we’re going to put money into new acquisitions.

Brian Vest

All right. Thank you.

Operator

Thank you. I am not showing any further questions in queue at this time. I’d like to turn the call back over to management for any further remarks.

Tom Carter

We don’t have any, I don't think. Thanks, everybody for joining us today and we look forward to talking with you next quarter.

Operator

Ladies and gentlemen, thank you for participating in today’s conference. This conclude today’s program. You may all disconnect. Everyone, have a wonderful day.

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