Cabot Oil & Gas Corporation
Q4 2016 Earnings Call Transcript

Published: 24 Feb 2017

[Operator:]

Good morning and welcome to the Cabot Oil & Gas Corporation's 2016 year-end and fourth quarter earnings conference call. All participants will be in listen-only mode. Please note this event is being recorded. I would now like to turn the conference over to Dan Dinges, Chairman, CEO, and President. Please go ahead.

[Dan O. Dinges:]

Thank you, Anita. And good morning, all. Thank you for joining us today for Cabot's fourth quarter and full-year 2016 earnings call. With me today, I do have the members of the Cabot's executive team. On today's call, I will be referring to slides from the earnings presentation we posted to our website this morning, which highlight our operational and financial results for 2016 as well as our plans for 2017. Before we get started, I would like to move to slide 2 of the presentation, which addresses about forward-looking statements. Please note that we will make forward-looking statements based on current expectations this morning. Also, some of our comments may reference non-GAAP financial measures, forward-looking statements and other disclaimers, as well as reconciliations to the most directly comparable GAAP financial measures are provided in both the earnings release and this presentation. Now, we'll move to the 2016 highlights on slide 3. 2016 was another positive year for Cabot Oil & Gas, especially in light of the lower commodity price backdrop we navigated through for a significant portion of the year. Our plan for the year was to deliver returns-focused production and reserve growth to invest capital prudently while targeting a free cash flow positive investment program, and to continue to improve on our top-tier cost structure, and to maintain strength of our balance sheet. I'm confident to say that we executed across the board on all these goals. Cabot grew production and proved reserves by 4% and 5% respectively, from a capital program that was over 50% lower than 2015. Despite lower realized commodity prices for the year, which resulted in Cabot's lowest realized natural gas price in its history, we were able to deliver our production and reserve growth while generating positive free cash flow. That is quite an accomplishment. Our continued emphasis on cost control was demonstrated by our record-low all-source finding cost of $0.37 per Mcfe and our 11% year-over-year reduction in cash operating expense per unit. A significant portion of the reduction in our cost structure was driven by internally sourced operating efficiency gains that will remain in place, regardless of changes in service cost environment. Our balance sheet remains strong with approximately $500 million of cash on hand and approximately $1.7 billion of available commitments on our undrawn credit facility. During the year, we reduced our debt outstanding by almost $500 million by utilizing a portion of the proceeds from our equity issuance in early 2016, resulting in a significant reduction in leverage metrics throughout the year. On the operational front, we announced an increase in our Marcellus EUR to 4.4 Bcf per 1,000 feet of lateral, improving our peer-leading EUR in Appalachia. I plan to discuss our updated Marcellus EUR further in the call. Now, let's move to slide 4, where we have highlighted our production and reserve growth over the last few years. You can see that we have averaged a 15% and 16% compounded annual growth rate for production and reserves respectively over the last three years. While our 2017 production growth guidance of 5% to 10% is slightly below our historic growth rate as we await new takeaway capacity in the Marcellus, we are forecasting our discretionary cash flow to double this year based on recent strip prices which is driven by significant improvement in cash margins due to higher realized prices and lower operating cost. We do expect a return to growth levels above this historic CAGR in 2018, as new infrastructure is in place throughout Appalachia. While we have not officially guided to 2019 production levels, our internal forecast shows an even more robust level of growth in 2019. On the reserve front, I would emphasize that our proved developed growth has outpaced our total reserve growth, highlighting that our growth is coming through the drill bit and is not a function of adding excessive levels of proved undeveloped reserves. Now, I'll flip to slides 5 through 7 and cover those all at one comment. They highlight the continued improvement we have seen in our drilling, completion, and operating cost over the last three years. The cost reductions our operating team have achieved in both the Marcellus and Eagle Ford, which are represented on slide 5, have translated into significant improvement in our finding cost and our cash operating cost, as highlighted on slides 6 and 7 respectively. Slide 8 illustrates our capital budget and operating program for 2017. As we highlighted in the press release this morning, we have increased our total program spending for the year from $625 million to $720 million, which includes

[Operator:]

Our first question comes from Holly Stewart with Scotia Howard. Please go ahead.

[Holly Barrett Stewart:]

Good morning, gentlemen.

[Dan O. Dinges:]

Hello, Holly.

[Holly Barrett Stewart:]

Maybe, Dan, just picking up where you left off on the uses of free cash, I see one of the things on the slide deck says including new outlook for growth in the Marcellus. Can you just maybe give us a little color there? Is that new projects or more power plant deals or more acreage, just some thoughts there?

[Dan O. Dinges:]

Holly, just a broad comment, back up to my thoughts of full-cycle returns, so all those that we mentioned, whether it's – not new acreage, but it looks like that we can facilitate our longer laterals or some of the offset acreage which would not expand very far from our core assets, and that's just because of the results we see in our core, we would entertain an idea of looking at that type of opportunity. I don't put much weight on the capture of that opportunity simply because there's not a great deal of acreage that would fit our model. In looking at other growth areas though, and I can flip it to Jeff, but we do continue to look for the opportunities to expand our growth profile through arrangements that would allow either additional firm in places or in-basin projects to remove some of the gas from the basin and get to different price points. Jeff, do you want to...

[Jeffrey W. Hutton:]

Sure. Holly, in addition to that, we have a very active program in and around our gathering system in Susquehanna County for more additional what we call on-system sales. So we've picked up some small loads that have to do with compressed natural gas. We're looking at some small methanol facilities and some other demand projects in and around our gathering system that typically would not include interstate pipeline commitments. On top of that, we still think we have an opportunity with PennEast volumes, maybe growing our presence on that pipeline, so lots of things going on.

[Holly Barrett Stewart:]

Okay, great. And maybe, Jeff, as a follow-on to that, I was just trying to understand slide 18. You've got a lot of these fixed-price sales agreements. I'm assuming those are short term. Can that work into that 2018 column?

[Jeffrey W. Hutton:]

Absolutely. We expect to continue our fixed-price program really as opportunity permits. Those volumes have to do with the program for the winter of 2016 – 2017, and also summer of 2017.

[Holly Barrett Stewart:]

Okay, great, and then maybe just one quick follow-up. Slide 14 shows the drilling and completion costs where you've essentially locked in the majority of your program for 2017. How does 2018 look at this point?

[Dan O. Dinges:]

Holly, I'm sorry, I was not – could you repeat it, please, Holly? I'm sorry.

[Holly Barrett Stewart:]

Just on the slide that shows your locked-in costs, I think it's slide 14 that says 73% of drilling, 78% of completion costs are locked in. I'm just wondering how 2018 was looking so far.

[Dan O. Dinges:]

2018, we have not locked in cost in 2018. So certainly, I'll plan to discuss the win-win arrangement we can find with the service providers to lock in cost at the appropriate time.

[Holly Barrett Stewart:]

Got it. Thanks, gentleman.

[Dan O. Dinges:]

Thank you.

[Operator:]

Our next question comes from Pearce Hammond with Simmons. Please go ahead.

[Pearce Hammond:]

Good morning and congrats on a great 2016. My first question is on slide 17, it's very helpful, you give the illustrative differential. Should we think of that as guidance or soft guidance for 2017 and 2018 of that $0.75 and $0.50?

[Dan O. Dinges:]

Yes. We have both with Jeff and Matt have both looked at our anticipated forecast and provided our best guess on a weighted average basis, and that's exactly what that slide illustrates.

[Pearce Hammond:]

Great, and then congrats on the success with the Gen 4 completions. Do you feel like you're getting towards the end of the line on improvements, or do we see continued improvements and could we see like a Gen 5? And then, furthermore in the Gen 4, if you could, could you be a bit more specific about some of the things that you're doing, either on the specific sand loadings or stage spacing, et cetera?

[Dan O. Dinges:]

Okay, first, just a macro comment, Pearce. The question about efficiency gains I think is an industry question. You can ask all operators with the improvements that you see and every yard deck of efficiency gains, whether it's loading, whether it's cluster spacing, whether it's diversion technology, all of those different combinations are being tried throughout industry, and you've seen significant improvements. And we continue to see those improvements also. Some areas are more conducive to a response from those improvements than others, but we do think that with our continued tweaking and the ideas that we have pilots ongoing right now with another – whether it morphs into a Gen 5, Gen 6, Gen 7, we will come out with the results if we show positive impact. But I think the entire industry is continuing to find ways through technology to extract more oil and gas out of the ground, and we're no exception.

[Pearce Hammond:]

Great. And then my last one, Dan, is on slide 14. You do a good job of outlining the percent of drilling costs and completion costs in the Marcellus that are fixed or locked-in for 2017. Have you done the same sort of thing in the Eagle Ford?

[Dan O. Dinges:]

Well, we only have a small percentage of our cost – or the oil hedged right now. But we do have some costs that are locked-in on the Eagle Ford. Steve, why don't you explain? Steve Lindeman can go over what we've done in the Eagle Ford.

[Steven W. Lindeman:]

So, Pearce, we've got the drilling contract committed for this year and our completion costs for the first half of the year, and that's why we're modeling a little bit of a step-up in costs for the second half of the year.

[Pearce Hammond:]

Great, thank you very much.

[Dan O. Dinges:]

Thanks, Pearce.

[Operator:]

Our next question is from Brian Singer with Goldman Sachs. Please go ahead.

[Brian Singer:]

Thank you, good morning.

[Dan O. Dinges:]

Hey, Brian.

[Brian Singer:]

In the Eagle Ford, is the increase in activity here simply a drawdown of inventory at a faster rate? Or is there a more meaningful change in the inventory? I know you highlighted some of the better economics as well, but is there any shift in inventory or any other more exploratory measures here you're taking place on the oil front?

[Dan O. Dinges:]

I'll make a comment, then I'll turn it to Steve again. But in looking at the Eagle Ford, we, along with again industry as a whole and the Permian operators, have – where the majority of the activity is, have illustrated how much can be done in the oil windows to improve recoveries and efficiencies. And just the tweaking that we've done, and we're early stage on what we think we might be able to try to do in the Eagle Ford, but we did see significant increase that we felt warranted – with the increase, we felt it warranted the additional capital and to grow that liquids volume as we have now planned on with our 2017 program. So we're very pleased with what we've seen on what we've been able to get out of that Eagle Ford right now. Steve, do you...

[Steven W. Lindeman:]

So, Brian, like you mentioned, part of it is our increased well performance with the next generation of completion. And then, obviously we spent a significant time last year really working to drive both our capital costs and our operating costs down. As far as the gross inventory, that remains the same. But obviously, we continue to look at offset opportunities we'd love to try and bolt on to our acreage if the opportunity arises.

[Dan O. Dinges:]

Steve, you might make a comment of what we have done and some of the savings that we're seeing now that will remain with us on electrification and water.

[Steven W. Lindeman:]

So let me start on the drilling side. About 60% of the decrease in our costs related to let's go back to 2014 are items that should stick with us. We're drilling longer laterals. Yesterday, we just – or two days ago, just drilled 4,000-foot in the lateral section on a well. So we're really working to improve our penetration rate. On the operating costs side, in 2016, we worked quite a bit on electrification. And right now, we have over 90% of our wells on either microgrid or predominantly on utility power which is a significant LOE reduction. And then, we're just seeing benefits. We are working with another partner to lay some saltwater disposal lines in the southern part of the field, and we're seeing some significant benefits in reduced saltwater disposal cost on those properties.

[Brian Singer:]

Great. Thank you. And then, shifting to the Marcellus, just wanted to confirm, does the new EUR apply to the average or the entirety of the remaining Marcellus inventory? Or are there any regional or other limitations? And does your assumption for well spacing stay the same?

[Dan O. Dinges:]

Well spacing stays the same, Brian. And back to my comment that the sample pool we have is drawn from well locations that are on the far east side of our field, far west side of our field, and the north and south. So we do think that the application of our Gen 4 EUR per 1,000 is appropriate for the field.

[Brian Singer:]

Great, thank you.

[Dan O. Dinges:]

Thank you.

[Operator:]

Our next question comes from Anthony Diaz with Raymond James. Please go ahead.

[Anthony Diaz:]

Hi, guys. Thanks for taking my question.

[Dan O. Dinges:]

Hey, Anthony.

[Anthony Diaz:]

I was hoping you guys could help me out. And you guys talked about the translation to the 4.4 Bcf per 1,000-foot lateral on the Lower Marcellus. I was wondering if you guys could talk me through kind of how should we think about that for the Upper Marcellus, if it's the same translation. And then, just kind of what the well mix is on, say, a 10-well pad between the Upper and Lower Marcellus as it stands today?

[Dan O. Dinges:]

Right now, we are effecting our completions in the Lower Marcellus. We have a number of wells and a number of portions of wells that have been completed in the Upper Marcellus. And the portions of wells would be in the curve, or as we lay out our lateral in the lower portion, we purposely have designed wells that would allow us to continue to gather data in the Upper Marcellus. But as far as our full development program, we are concentrated, as any prudent operator would concentrate it, in the Lower Marcellus at this point in time. And then we'll work up into the Upper Marcellus at an appropriate time later.

[Anthony Diaz:]

Okay, thanks for the clarity there. And then the last question goes to the question before me. How should we be viewing – what is the read-through on sending more capital to Eagle Ford as opposed to reallocating that into the Marcellus? The returns that we're seeing in the Marcellus seem to really blow those out of the water in the Eagle Ford. Is this as a function of outlook on the macro environment holding us off till more pipe comes on, or is this a commodity hedge? How are you guys thinking about it?

[Dan O. Dinges:]

The macro environment is dictating today what we can do with the Marcellus. We have been in what I'd call a holding pattern even though we're generating decent growth. And with less than $400 million, we can generate growth in both production and reserves and still generate free cash. But in a situation that we'd have new infrastructure and allow us to grow, keep in mind that our capital intensity necessary to grow those volumes into our anticipated infrastructure build-out is not that capital-intensive. It doesn't take a great deal of capital to be able to drill the number of wells, complete the number of zones that we need to increase our production an additional Bcf a day. Rather unique in the industry to be able to say that, but the production volumes in our forecast generate so much free cash that there's not that opportunity to – because of the low capital intensity, there's not the opportunity to redeploy all into the Marcellus. I can assure you, every Mcf that we can put in a pipeline up in the Marcellus, we're going to do that, and we'll have ample funds to be able to fulfill that objective. But when we look at our cost of capital of less than 8% and you look at a 60% return, we think right now with having $0.5 billion on our balance sheet in cash and $1.7 billion available on our undrawn credit facility, we felt like investing those funds for a 60% return made sense.

[Anthony Diaz:]

All right. Thanks, guys. I appreciate the color.

[Dan O. Dinges:]

Okay. Thank you.

[Operator:]

Our next question comes from David Deckelbaum with KeyBanc. Please go ahead.

[David A. Deckelbaum:]

Good morning, Dan and Scott.

[Dan O. Dinges:]

Hello, David.

[David A. Deckelbaum:]

Hi, everyone. Thank you. I just wanted to follow up. I know a lot of people have asked questions about the allocation between Eagle Ford and Marcellus. I'm just curious. What led to the decision that a one-rig type program was correct for this year in the Eagle Ford given the free cash? Is it a wait-and-see with more of the enhanced completions, and then based on successes we could see further activity there? Because you also mentioned that you're looking at potential bolt-ons and inventory expansion as opposed to perhaps regrowing this asset towards monetizing at some point. I'm just trying to get the thought process around why one rig was the right step for this year there.

[Dan O. Dinges:]

A couple things. One, when we put together our initial budget in October of 2016, it was not as pleasant of environment on the gas side or the oil side, and our values used on commodity pricing dictated what our methodology of putting together a program within cash flow, we felt like that we would only have a minimal amount of activity in the Eagle Ford. As you've continued to see a little bit of price improvement both on the oil side and the gas side, we felt that the – and with having a little bit more time on the completions that we've talked about – the enhancements to the completions that we've talked about, we've had a little bit more curve fit on the efficiency gains in that regard. And so from October to February, we decided that it was prudent and we felt comfortable with the commodity price where we are that we would allocate the funds to the Eagle Ford.

[David A. Deckelbaum:]

I appreciate that, Dan. And, Jeff, just a question for you on the fixed-price contracts. I know you talked about these are short term to address winter and the summer seasonality. Can you give me sort of an idea of how much that component becomes in terms of percentage of gas sold in your summer months versus the average of the 30-some percent for the year?

[Jeffrey W. Hutton:]

I think the summer is predominantly the larger percentage, but the April- October piece is what we're concerned in the summer. So maybe 40% – 45%.

[David A. Deckelbaum:]

Okay, that's helpful. All right, that's it for me, guys. Thank you.

[Dan O. Dinges:]

Thank you.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Dan Dinges for any closing remarks. Please go ahead.

[Dan O. Dinges:]

Thank you, Anita. I appreciate the interest from all of our either new shareholders or long-term shareholders. As I previously mentioned, this is an inflection point for Cabot. We continue to generate a free cash flow. At the same time, we have a very clear path to doubling our production in the next few years. So all this is good, and I look forward to our next opportunity to visit. Thank you.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.