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TXCO Resources Inc Q42007 Earnings Call Transcript

March 11, 2008 | about: TXCO

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TXCO Resources Inc (TXCO)

Q42007 Earnings Call

March 11, 2008 11:00 am ET

Executives

Roberto R. Thomae – Vice President-Capital Markets/Corporate Secretary

James E. Sigmon – Chairman of the Board/President and Chief Executive Officer

James J. Bookout – Vice President/Chief Operating Officer

P. Mark Stark – Vice President/Treasurer and Chief Financial Officer

Gary S. Grinsfelder – Vice President of Exploration

Analysts

Neil Denman –Dell, Mann, Rose & Company

Chris Pikul – Morgan Keegan

Phil McPherson – Global Hunter Securities

Adam O’Laughlin – BMO Capital Markets

Presentation

Operator

Good morning. My name is Vonda and I will be your conference call facilitator today. I would like to welcome everyone to this quarterly call of TXCO Resources to discuss the company’s 2007 earnings and to review current operations. (Operator Instructions) I would now like to turn the call over to Mr. Bob Thomae, Vice President - Capital Markets.

Bob Thomae

Good morning. Thanks for joining us today for our 2007 year end conference call. Joining me this morning are Jim Sigmon, our CEO, Jeff Bookout, our Chief Operating Officer, Mark Stark, our CFO, and Gary Grinsfelder, our Vice President of Exploration.

Today we will be discussing our 2007 financial results and current operations, based on the earnings release we published last night for you, for your benefit. After some prepared comments we will have time for just a few questions this morning.

I would like to remind you that this conference call is being recorded and will be available for replay approximately an hour after its completion. The archived conference calls, press releases and other investor information can also be found on the conference call page of our TXCO Resources website at www.txco.com for your future reference and convenience.

And please be advised that our remarks, including answers to your questions, may include statements that we believe to be forward-looking within the meaning of the Private Securities Litigation Reform Act. These forward-looking statements are subject to risk and uncertainties that can cause actual results to be materially different from those currently anticipated.

Now these risks include matters we have described in our past filings with the SEC, including our annual report and Form 10K for the year ended December 31, 2006, and our Form 10Q for the quarter ended September 30, 2007. We will file our 2007 year end 10K in just a few days. We disclaim any obligations to update these forward-looking statements.

Now during this conference call we also may reference to Ebitda, Ebitdax or other non-GAAP financial measures. Reconciliations of these non-GAAP measures, to the applicable generally accepted accounting principles measures, can be found with our 2007 earnings release.

Also, please be aware that TXCO has filed a preliminary proxy statement with the SEC as of March 10, 2008, yesterday, in connection with the election of directors and other actions to be taken at our upcoming 2008 annual meeting of stockholders, which is now set for May the 9^th, here in San Antonio.

TXCO will soon be filing with the SEC a Manage with stockholders, a proxy statement, and a WHITE proxy card concerning the solicitation of proxies by the Board of Directors in connection with the election of directors and other actions to be taken at the 2008 annual meeting. As required by the SEC, stockholders are urged to read the proxy statement when it becomes available because it contains very important information. And after it is filed with the SEC stockholders will be able to obtain the actual proxy statement free of charge at the SEC website at www.sec.gov or a proxy statement will also be made available for free to any TXCO shareholder who makes a request of me here at the office.

TXCO, its directors and executive officers, and other members of management and employees may be deemed to be participants in this solicitation of proxies in connection with the 2008 annual meeting of stockholders. Information regarding the names, interests and affiliations of these persons in connection with the election of directors and other actions to be taken in the 2008 annual meeting will be included in the proxy statement filed by us in connection therewith.

In addition, the company files its annual, quarterly and special reports, proxies, and information statements, and all other information with the SEC. These documents are always available free of charge to you at the SEC website or from TXCO at www.txco.com.

And with that in background, I would like to turn things over to Jim Sigmon, our CEO.

Jim Sigmon

Thank you, Bob, and good morning, everyone. As you can see from our press release yesterday, TXCO had a good year. In fact, we think it was a great year. It’s a year we saw fundamental changes in who we are, and even in the areas that we operate, with our Output acquisition.

I hope everyone has a copy of that earnings release in front of you. If not, it’s available on the news release page of our website. You may also want to refer back to our February 12^th press release in which we discussed our 2007 production volumes and drilling activities. We’ll update a little bit of those – of what activity we’re doing now – at the end of the conference call. It’s available on our website, that information of that press release, if you don’t have it now.

But first I’ll ask Mark Stark, our CFO, to discuss our year-end financials.

Mark Stark

Thanks, Jim, and good morning, everyone.

As Jim mentioned earlier, Q4 marks the third consecutive quarter of 2007 that includes the results of our acquisition of Output Exploration, and as such, comparisons to the prior year will be less meaningful.

With that said, let’s take a few moments to review some key metrics. Let’s first focus on the 4^th quarter. Looking at revenues, oil and gas sales, as well as total revenues more than doubled over the 4^th quarter of 2006, while gas-gathering revenues remained even.

Looking at – discussing product pricing for just a moment, you know, average realized prices for oil for the quarter were $86.72 per barrel, excluding hedges. That’s up $30.27 per barrel compared to this quarter a year ago. The average realized price for natural gas for the quarter was $7.60 per MMcf, excluding hedges. That’s up $1.16 per MMcf compared to a year ago.

In terms of sales volumes, Quarter 4 was a good quarter. We produced and sold – right now we’re on a gas-equivalent basis of 2.4 bcfe on an equivalent basis.

In taking a look at costs and expenses for just a moment, total costs and expenses increased 15% above the fourth quarter of a year ago. This increase in total costs and expenses is consistent with the acquisition and current activity levels.

Looking at interest expense for the quarter, we incurred $3.3 million for the quarter, related to our long-term financing.

When you take all that down to the bottom line, we had net income available to common stockholders of $1.8 million, or $.05 per basic share, for the quarter.

You know, shifting over and recapping the year, oil and gas rose – oil and gas sales rose to $81.8 million, a 45% increase over 2006, and total revenues reached the level of $93.9 million, which is a 30% increase over 2006.

Again, just reviewing product pricing for just a moment, average realized prices for oil for the year were $71.11 per barrel, excluding hedges. That’s up $8.55 compared to all of 2006. The average price for gas for the year was $7.26 per MMcf, excluding hedges, and that is up $0.08 compared to a year ago. For the year, our sales volume – again, on a gas-equivalent basis – was right at 8 bcfe

Working our way down to costs and expenses, total costs and expenses increased approximately 35% over a year ago. Again, this increase in total cost is consistent with the acquisition and our current activity levels.

Interest expense for the year – we incurred $9.7 billion in interest expense related to – again, related to our long-term financing.

Again, boiling that all down to net income, when we take everything down to the bottom line, we had net income available to common stockholders of right at $900,000.00 -- very close to a million dollars – or $0.03 per basic share for the year.

But I want to turn to our liquidity metrics, which, as I’ve said for many quarters now, tell a much more compelling story about our company. You know, net cash provided by operating activities for 2007 – for all 2007 was right at $69.4 million dollars. This compares to $24.7 million dollars for all of 2006.

Taking a look at Ebitda and Ebitdax for a moment, we had a record quarter and year. We eclipsed all other quarters in these metrics. For example, for all of 2007, our Ebitda was right at $52.9 million and our Ebitdax was $54,162,000.00. For the quarter, Ebitda was $20 million, in round numbers, and Ebitdax was $20,339,000.00. This compares to Ebitda – Ebitda and Ebitdax for 2006 of $37,305,000.00 and $42,730,000.00, respectively, and for the 4^th quarter of 2006 Ebitda and Ebitdax were $6.2 million and $8.2 million, respectively. Also for Q4 our Ebitda and Ebitdax margins were 62.5% and 63.4%, respectively. So, again, we had a record quarter which translated into a record year.

I just want to walk everybody down through the balance sheet for just a moment. Our balance sheet remains very, very strong. At December 31 we had total assets of $354.6 million, more than double year-end 2006. Current assets stood at $35.7 million, current liabilities $59.7 million, our long-term debt was right at $100 million, debt to assets was right at 28%, and our line of credit was totally unused at year end with a borrowing base of $45 million.

And with those comments I’ll turn the program back to Jim.

Jim Sigmon

Thank you, Mark.

And as you can see, it was indeed a great year, monetarily, for the company. But we’ve taken a lot of this cash flow that we’ve done and put it into our operations for the last year. During that period of time we had a record amount of drilling activity: 87 wells, and we’re on pace to exceed that this year. We currently have 10 rigs running: 7 in our core Maverick Basin area, 1 in East Texas, and 2 in Oklahoma.

I want to talk a little bit about what we’re doing in some of those areas. You notice yesterday we made an announcement of an acquisition in the Fort Trinidad area, where we’ve increased our footprint in the East Texas Basin. We acquired – we nearly doubled our net acreage in the area and also acquired about 8 bcfe of reserves at $2.06 per MMcf. We anticipate that the Fort Trinidad area will become more and more important to the company over the coming year. To that end, we have one rig running now and we have a second rig scheduled coming in about -- by the middle part of April.

Our first well, which we announced a short while ago, in the Glen Rose formation, is still producing about half a million cubic feet of gas a day and its production is about up to 90 barrels of oil per day now -- as we produce back the – some of the 38,000 barrels of water that we lost in the well while we were drilling. As I’ve mentioned before, we anticipate that over time this area will continue to – this well will continue to increase and the production will get better. To that end, that’s why we spent the additional dollars, because we were encouraged by the first well, and encouraged by what we’ve seen so far, to increase our footprint in the Fort Trinidad area.

And in addition to that, many of you have been watching our Pearsall play in South Texas. We are excited about what’s happening there; we’ve been disappointed not to have already fraced the wells and done some things already but we’re getting closer to that time frame. I think we’ve announced earlier that we’ve rigged up on our first horizontal well in the area to frac five stages.

Unfortunately, the service company in the middle of that job is -- as we started it, pumped the wrong sand – too high of quantities of sand at too high a size – and it caused the well to screen out prematurely right at the very start of the first stage. We then went in with coil tubing to clean it out and, as things happen in the oil business, the wash tip on the bottom of the coil tubing came off. And then we’ve spent the last three weeks or so cleaning out that well bore getting all the sand out, getting the [inaudible] wash tip out, and getting ourselves prepared to crack this all again. We’re rigging up this weekend and anticipate now continuing with that treatment and be able to do it – get it conclude.

But what really excites us about it is while we were cleaning the well up, in the first stage that we got a partial frac on -- did not get a complete crack and virtually no sand in the well bore – that well came back and was flowing for two of the three days at rates of over a million and a half per day – 1.5 million cubic feet of gas per day. Now, this gives us an indication of what the Pearsall zones might be able to do if you get a good frac treatment on a zone, and then you screen four or five – as we got in this well bore – of these stages together. So we anticipate and are excited about seeing what the results might be and how good they might be once we get this frac treatment off. Hopefully, this weekend is the time scheduled to do that.

Others of you have been watching closely the tar sands and what we’re doing in that area. As you may well know, more and more people with $100+ barrel of oil or more interest in the resource plays – we put it on the market to see whether or not someone at this time, at the stage that we’re at, would be willing to pay and what they might be willing to do with the tar sands with us. To that end, we’ve gauged scotial waters and are going through a process at the present time with the data road to determine whether or not there is interest with the stage that we are today.

At the same time, we're not slowing down anything else that we’re doing. We have drilled two SAG – a SAG-D pair – two horizontal wells – and are now hooking up a 25 million Btu steam generator that we have is being hooked up to start that injection of steam into that pair.

In addition to that we have another 25 million Btu steam generator that’s being built – that was built in China – and is on the road to be delivered shortly; it should be landing at port in Houston shortly and then once it clears customs we will be bringing it out to the field and hooking it up.

In addition to that, we’ve moved that pilot – it’s a SAG-D pilot we have going on – we’ve now moved our rig and are drilling I believe our second, or third, of our FAST project – Fracture Assisted Steam Technology. We’re drilling those wells, preparing for the steam generators that are coming, being built there. So we anticipate, we have two steam generators that are coming – two 50 million Btu steam generators should be built and arrive late in the second quarter. Our goal is to have the wells drilled, tank batteries built, wells hooked up, just waiting on the steam generation equipment. When it arrives then we can start that Pilot. So the tar sands is moving along rapidly and we’re excited about what might come.

We may get some activity very shortly from our scotial waters project. If we don’t see anything that we think the shareholders ought to be doing in that, or to be to their benefit quickly, then we will continue the project that we’ve got going on.

Many of you -- the others -- are watching closely our Glen Rose porousity zones. We’ve had a – we’ve hired Schlumberger to help us in evaluating this reservoir and determining the best method to locate wells, drill them – complete them – to maximize oil production out of this zone.

Unfortunately, as many oil companies are, we have very, very good personnel in-house, but because we have so many rigs running and equipment running we haven’t had the time to maximize these kind of things, so we’ve hired Schlumberger to take care of that for us.

The reservoir was a little more complicated as they’ve reported to us than what they anticipated. Consequently at our last meeting with them they were estimating it would be approximately the end of April before they would be in a position to make some recommendations to us.

We now have, I believe, four drilling rigs working in the Glen Rose while we’re waiting on that study to be concluded, which we anticipate will help us maximize oil production and methodology and quantities of oil.

In the Marfa Basin, just as a quick note, we are planning some additional activities in the Marfa Basin. Our present thought process is to run some 2D seismic to help us avoid faults in the area. Once we get the 2D seismic done then we would anticipate being – proposing a horizontal well in the area; particularly faultition on the Barnett Shale. As you recall, we’ve had about 300 MMcf a day, plus a little bit, that came out of the well from a vertical fracture re-entered well that we did. It was very encouraging to us and we’re ready to go to the next step of horizontal drilling, which it will not be until such time we can make sure we don’t drill horizontally and get some faults as we go down that will bring in water from the Ellenberger formation.

So, as you can see, we’ve got a lot going on; we’re spending Mark’s hard-earned cash flow that he’s provided us with, and we think that when we finish these projects they will be very good for the company.

With that, Bob, let’s take some questions.

Bob Thomae

Very good. Operator, if you’d like to bring the first question on. We’ve got a few minutes and we’ll take a few questions and we certainly appreciate your participation.

Question-and-Answer Session

Operator

Your first question comes from the line of Neil Denman with Dell, Mann Rose & Company.

Neil Denman – Dell, Mann, Rose & Company

Good afternoon, guys. Or morning I should say.

Group

Good morning.

Neil Denman – Dell, Mann, Rose & Company

I would like to say -- I’m just wondering now, I guess, on what you’re seeing now, sort of service cause, rate cause, as far as you seem to be in a pretty good cash position – does that make? – you have to see, I guess is what I’m asking – more results before you would decide, let’s say, add a few more rigs in Bur – in different regions. And as far as adding rigs in some of those around that, would you decide to lock those in here at these rates for a longer period or are you still going to continue sort of on a day-rate basis.

Jim Sigmon

Well, we plan on a day-rate basis. We think that the rigs have pretty much flattened out as far as the cost and escalation that we saw last year, early on, that they were increasing rapidly. We think, Neil, that they’re going our way right now. Now, we know that with oil prices going up and with gas prices staying up that the activity levels will increase for everybody which may make them tight again. But at the present time – I mean, that’s all I can address, where I’m at today – we’ll just continue with what we’re doing.

Now, you mentioned about how fast can we ramp up on activity, we just lack a little more production and a little more information. We’re excited, as you can tell by our Pearsall well, the first indications are very good, but we just have the one vertical well that’s been producing for a few months and this is our first horizontal well, so we need just a little bit more time on that before we ramp up activity following on Pearsall.

In addition, in the Fort Trinidad area – you can tell we’re already excited, we’re bringing in a second rig – so we’ve got a little bit of indications there but before we bring in a third rig we’d like to get some production on-line for a little bit.

Neil Denman – Dell, Mann, Rose & Company

I think you’ve kind of answered my next question, Jim. It sounds like still the cut backs in a lot of your plans this year obviously and intentionally are somewhat flexible depending on how some of these results play out the next couple to few months. Is that fair to say?

Jim Sigmon

That’s very well. I liken it, Neil, to the ads you see on the car dealers when you try to sell a car – try to sell your used car. It’s a balloon; you squeeze it and it goes from different areas and that’s where we’re going to use our capex where we get the maximum bang for the buck for our shareholders.

Neil Denman – Dell, Mann, Rose & Company

One last question. I think I know the answer. As far as – I haven’t asked you this in a while – the permeating process, any issues as far as permeating process or going out there to the down space on some of these?

Jim Sigmon

Not so far. Everything’s been – you know, because we have large acreage positions as a general comment and we control it, there’s not any major problems with going down spacing with the welling commission.

Neil Denman –

Okay. Thanks, guys.

Operator

Your next question comes from the line of Chris Pikul with Morgan Keegan.

Chris Pikul – Morgan Keegan

Jim, could you give us a little more insight? You know, from where we’re sitting, you know, we’ve seen your first East Texas well, and you know, maybe it’s doing a little better, but arguably maybe not quite what you wanted initially. You know, it was my understanding that perhaps, you’ve stated before, you’ve been looking to consolidate bigger working interests in the East Texas play, anyway, so was the acquisition really a direct result of what you’d seen from the first well or was this something you’d been trying to work on for a while and just give us a little more perspective there?

Jim Sigmon

Sure. And I’ll correct – it’s Chris Pikul, for those of you that don’t know Chris, as opposed to Mr. Pickle.

But, Chris, no, it was. We have been working – in fact, we delayed working in this area trying to increase our working interest in the Fort Trinidad acquisition portion that we bought from Output. Initially we had something in the neighborhood of about 44% - 45% interest and now we’re up in the 95%+ and 100 in most of the interests. And so we consolidated that interest – that’s the reserves that we purchased – simply just getting back up to that 100% so we weren’t waiting on partners and having to make decisions delaying us on how fast we might be able to develop these projects. Now, that’s part of it.

The second part of it had more to do with the success that we’ve had with the first well and what we saw. That was the reason why we made another acquisition. There’s actually two acquisitions here: one had to do with increasing our working interests, the other had to do with increasing our acreage and area. And that was a direct result of the results we saw on the first well.

Chris Pikul – Morgan Keegan

Can you share a little more about what you liked so much from the first well? I mean, should we be looking at the production so far as indicative of what you expect going forward or . . .?

Jim Sigmon

Well, one of the things that -- you always have your models, Chris. And we go back to look at wells and we have a model about what we think’s going to happen and what we’re going to find when we get there. And as you may recall, our model said that this Glen Rose shoal – in particular we were looking at the B shoal at this time, would cover a large area and we ought to be contiguous and we ought to see them going between wells -- still be there. But you don’t know, until you go drill the well, you don’t know what’s going to be, what’s going to happen on that particular time.

But one of the things that we saw, one, the B zone was indeed there. As we moved away from this location the other wells that have been drilled in an area that didn’t have anything, to make sure it was there, indeed the B zone was there as we postulated.

A second thing that was there is that it had fractures on this thing so that we saw fractures. With me, it’s that the well will be able to drain a little larger area. We offset an 8 bcf well and got a little bit of depletion on this well and that caused us to loot 30,000 barrels – 38,000 barrels, I think, of oil on it.

The FMI logs – water in a well – the FMI logs we ran showed fractures with it, so what it’s telling us is that one, the reservoir covers a big area, which is what we wanted.

Two, the porousity and permeability of the reservoir is better than what we anticipated; so three, it probably is going to take fewer wells to drain the same amount of gas out of this thing than what we anticipated.

So, that’s what makes us a lot more excited about it than what we were when we first started.

Chris Pikul – Morgan Keegan

Okay, I see where you’re coming from. And if I could just ask real quickly, just looking at the Glen Rose porousity reserve ads – you know, I don’t want to split hairs with you guys – but, you know, if maybe you did 30 wells, or, you know, we come back into some kind of average number -- we know what you produced there because you’ve given us that data – is there anything you can tell us on just the Glen Rose program in ’07 and whether it added the kind of reserves that it has historically or what you thoughts are on that?

Jim Sigmon

Well, it’s a good question. One of the things that – we’ve slowed down a little bit so therefore you don’t see the reserve ads that we slowed down in the 4^th quarter, particularly part of the 3^rd quarter and the 4^th quarter, and it’s continuing on in the 1^st quarter this year while we’ve been waiting on Schlumberger to get the reserves up. We can’t tell the difference between a good well and a poor well, as we go along, so therefore, it’s becoming a statistical play with what we’ve got today. That’s why we’re hiring Schlumberger and having them go through all the exercise to be able to determine better places to drill so we can anticipate where the better production might be on these wells.

We think that the average has come down a little bit. I think we were in the 140,000 barrel average; we’re in the 120,000 barrel average now. So we’re seeing over time, as we’re drilling them, that the average of all wells are getting down. So that means that we’ve obviously had some that were a little poor at this well – we’ve had some very good wells, too – but as far as an average they’re a little poor, so that’s why we really think it’s important that we get the numbers from – get the study from Schlumberger finished as quick as we possibly can.

In the meantime, we’re not slowing down. I mean, we’re still drilling, we’re ramping up. Remember, we got down to one rig, I think, running in the area and we’re back up to 4 rigs running and increasing that as we go, as rigs become available and we can move them from one area to another. So we’re increasing the Glen Rose but we’re trying to do it in such a manner that it’s prudent.

Chris Pikul – Morgan Keegan

Okay, thanks a lot, Jim, for your candor. I appreciate it.

Jim Sigmon

Thank you, Chris. Mr. Pikul.

Operator

Your next question comes from the line of Phil McPherson with Global Hunter Securities.