Kimbell Royalty Partners, LP
Q1 2021 Earnings Call Transcript

Published: 9 May 2021

[Operator:]

Greetings, and welcome to the Kimbell Royalty Partners First Quarter 2021 Earnings Conference Call. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Rick Black. Thank you, Rick. You may begin.

[Rick Black:]

Thank you, operator, and good morning, everyone. Welcome to the Kimbell Royalty Partners conference call to review financial and operational results for the first quarter 2020. This call is also being webcast and can be accessed through the audio link on the Events and Presentations page of the IR section of kimbellrp.com along with a supplemental presentation. Information recorded on this call speaks only as of today, May 6, 2021, so please be advised that any time-sensitive information may no longer be accurate at the time of any replay.

[Bob Ravnaas:]

Thank you, Rick, and good morning, everyone. We appreciate you joining us for this call. I’m joined here on the call with several members of our senior management and technical team, including Davis Ravnaas, our President and Chief Financial Officer; Matt Daly, our Chief Operating Officer; Blayne Rhynsburger, our Controller; Marco Pena, our Associate Engineer; Michelle Scarborough, our Associate Geologist; and Ryan Pollyanna, our Head of Data Analytics. I will begin today’s discussion by providing comments about our first quarter. I will then discuss the exciting results from our extremely detailed review of Kimbell’s extensive acreage portfolio, which we are releasing today after over a year’s work by our technical team. Before we turn the call over for questions, Davis will walk you through our financials for the quarter in more detail. Let’s start with looking at our performance in the first quarter. Improved pricing in the quarter as compared to the fourth quarter of 2020 was the primary driver for our significantly improved cash distribution of $0.27, which was up 42% as compared to the fourth quarter of 2020 distribution. Realized oil prices were up 37%, realized natural gas prices were up 62% and realized NGL prices were up 63%. Operators generally appear to be maintaining discipline with their capital expenditure programs with a greater focus on free cash flow generation and distributions to their shareholders.

[Davis Ravnaas:]

Thanks, Bob, and good morning, everyone. As Bob mentioned, we are very excited to share the results of our deep dive detailed analysis review of Kimbell’s current portfolio. We have been extremely acquisitive over the last couple of years, so it’s important for us to take a step back, perform the analysis in a careful and deliberate way. This analysis was reviewed by a leading third-party independent international engineering firm, Ryder Scott to assist us and finally conclude and communicate to our investors where our portfolio stands today with regard to future drilling inventory. Before commenting further on that, I would like to provide an update on the company’s first quarter results. We’ve been very pleased with pricing improvements through the first quarter of 2021 with realized oil prices up 37%, realized gas prices up 62%, realized NGL prices up 63%. Based on positive trends and improving cash flows in the quarter, we announced a substantially higher caste distribution of $0.27 up 42% from the Q4 distribution in 2020. As we have done in previous quarters, the company utilized 25% of its Q4 2020 cash available for distribution to pay down a portion of the credit facility in Q1 2020. Since May 2020, the company has paid down approximately $25 million in debt by allocating a portion of its cash flow to debt paid down. We expect to continue to allocate 25% of our cash available for distribution for debt pay down in the future. Also, we believe our hedging strategy is a prudent methodology for managing the company’s future price risks on oil and natural gas. Having substantial hedges in place on a rolling two year basis before the price shocks that occurred in 2020 proves to be a very effective risk mitigation strategy. For the first quarter of 2021, the company’s oil, natural gas and natural gas liquids revenues were $36.4 million, which reflected first quarter average realized prices significantly higher at $54.52 per barrel of oil, $3.31 per Mcf of natural gas and $24.45 per barrel of NGLs, for a total combined BOE of $29.45. Our first quarter average daily production was 13,721 BOE per day comprised of approximately 61% from natural gas on a 6 to 1 basis and 39% from liquids or 26% from oil and 13% from NGLs. Impacting the first quarter, we recorded identifiable weather related production curtailments in February from freezing temperatures over a substantial cross-section of the U.S. We estimate that this resulted in approximately 1.2 days of lost production or approximately 188 BOE per day.

[Operator:]

Thank you. Thank you. Our first question comes from Harry Halbach with Raymond James. Please proceed with your question.

[Harry Halbach:]

Hey guys, congrats on the strong quarter.

[Bob Ravnaas:]

Thank you.

[Harry Halbach:]

So you all mentioned, your strategy of hedging kind of two years in a row forward basis. I know that the oil hedges has kind of dropped by around 15% each in the last few quarters, is that a function of the backwardation in strip or is it more of just about leverage improvements increasing you all’s appetite for exposure and should we expect the hedges to keep falling?

[Davis Ravnaas:]

Yes. Pretty simple formula, we just take our debt plus or pref divide it by our enterprise value and every quarter roll forward that percentage of our production hedged, so market cap is up 40% or whatever so far this year or so. The denominator in that equation has increased, therefore, making the percentage go down. So yes, as leverage becomes less of an issue overall to the enterprise, we feel more comfortable taking more exposure to the commodity directly.

[Matt Daly:]

And also Harry, this is Matt. As you know, as we roll the hedges into Q2 of 2023, the – it is in a pretty steep backwardation. The prices are in the high-50s right now, so that will probably be the next sort of price level we will be hedging out in 2030.

[Harry Halbach:]

Great. Thanks for the color. And then, I was kind of looking at the slide deck on the inventory deep dive. Certainly, seems very conservative. I mean, you all exclude the formations like the Austin Chalk, where we’ve seen a lot of success lately. Could you maybe just talk about some of the upside potential sort of baked into this and what’s kind of got you all excited across the portfolio?

[Davis Ravnaas:]

Yes. We were very conservative in the inventory analysis, so thanks for mentioning that. I think, a couple of things on that and then I’ll open it up to – we’ve got Marco and Michelle in here, the engineer and geologist, respectively, that did this work and had reviewed by Ryder Scott. So, when we say 15 years of inventory, that’s based on 2019 drilling pace, which resulted in I think 8% organic growth. If we just wanted to keep – well, if our operators just wanted to keep production flat on the asset, it’s actually 19 years of inventory, so this is mind-boggling and took us 19 months of work to do this. And clearly, nobody is paying attention, because our stock price is down today, so I recommend that people start talking about this. But yes, we did not do looney-tunes assumptions on the spacing, which is why we actually included per DSU, what we’re doing and that’s how we did the detail on the assumptions in the units. Our peers, for example, book anywhere from like 15 to 24 wells per section in the Midland and Delaware Basin. I think, we’re assuming 12, but maybe a few exceptions. We gave – did we give any credit to the Austin Chalk at all?

[Unidentified Company Representative:]

Only if it was a DUC or permit.

[Davis Ravnaas:]

Only if it was a DUC or permit. Okay. So there’s a lot of – I would say, there is additional Boger upside that we haven’t captured. There’s Three Forks upside up in the Bakken we haven’t talked about, additional density in the Haynesville we haven’t discussed, that could be justified higher gas prices. Anything else guys?

[Unidentified Company Representative:]

Yes, there are zones in the Delaware.

[Davis Ravnaas:]

Other zones in the Delaware, other zones in the Midland, other zones in the Midland. So I think, it’s extremely conservative and I think, the conclusion should be man, these guys have 19 years of inventory to keep production flat, using conservative assumptions and I think, basically, what we’ve proven and again, it’s been audited by or reviewed by an outside engineering firm, Ryder Scott, we basically have production upside on our properties until the end of hydrocarbons. I mean, that’s effectively what our portfolio has. So again, this is something we started doing almost two years ago. It’s been a mind-boggling amount of work and I think that the results speak for themselves.

[Harry Halbach:]

Yes. Great, guys. Thanks for all the color. I appreciate for taking my questions.

[Operator:]

Thank you. Our next question comes from Derrick Whitfield with Stifel. Please proceed with your question.

[Derrick Whitfield:]

Good morning, all and congrats on your quarter. And certainly thanks for the detailed asset disclosure you provided with this release.

[Davis Ravnaas:]

Thanks, Derrick. I appreciate that.

[Derrick Whitfield:]

Perhaps picking up with the last question, while you guys clearly know your asset base better than anyone else, did the third-party assessment meaningfully change your view on any given area?

[Davis Ravnaas:]

Marco? Can we get the mic over to Marco?

[Marco Pena:]

Yes, we went to Ryder Scott back in March and really we provided them our full 3P database but since we did not disclose these 3P reserves, there is more so just going through our locations, putting those on the map and comparing the type curve areas versus the PDP offset, just to make sure that they are comfortable with our forecast, our scheduling, the number of locations per DSU. So, the final deliverable that they sent us was a signed letter stating that the 3P reserves fall within all the SPE.

[Davis Ravnaas:]

Is there anything they said that changed our – do they have any like pacing, where they cut back on us dramatically or felt we were too conservative that comes to mind or do they think of it generally, I think that’s what…

[Marco Pena:]

Yes. There might have been a couple of type of areas like in the Bakken for the Three Forks, for example, where the offset PDP wells were little under our tighter forecast and so we agree with them and we did a deeper dive. So we did cut back on a couple of type of areas, but for the majority of it, our view was in line with that.

[Davis Ravnaas:]

With the independent assessment. Yes, couple of tweaks here and there, which always happens, but generally, in agreement. And Ryder Scott’s about as conservative as it gets, softer than in there too.

[Derrick Whitfield:]

Absolutely, and the asset base is exceptionally deep and thanks for that disclosure. And maybe for my follow up, wanted to shift over to your rig count market, as your gains have been exceptional as noted on Page 12. As you evaluate the near-term permit backlog and with the long-term resource assessment with Ryder Scott, would it be fair to assume that you guys can likely sustain that level of success for the next several years?

[Davis Ravnaas:]

I mean, Derrick off the top of my head – this is Davis. I mean, I think what we’re showing is kind of what – we bought every single one of these deals, right? So this goes back to 1998, when my dad was – started this with the – him. We’ve always known that there was a ton of upside on our properties, because we engineered them, each one of these assets individually. What’s been challenging for us is we’ve always targeted a business model that has low decline and growth and I think that’s unusual. There is very few companies like ours. I think, the closest companies are up in Canada, candidly. There is very few U.S. companies that have that kind of nice blend of low decline but then upside. And so, it’s always been frustrating for us and I just got tired of hedge fund guys beaten up on us on well, you’ve got a great decline that’s shallow, but you don’t have the 80% growth every year that some of these other peers are guided toward. And so, we just got to sat down together and we just said, is there a way that we can actually go through every single one of our units and quantify the upside. And Bob kind of rolled his eyes and was like man, that’s going to take years to do and so we staffed up. We hired Marco recently or actually a couple of years ago and basically just full time job, 50-hours a week was building out these maps. I mean, we did what over 1,000 units across our 13 million acres and I asked that question yesterday and I was mind-blown and individually cut it up every single one of them and then show that to Ryder Scott, so that we can show you guys that we had somebody independent look at it. We’re not just making this up and so long answer to your question is, I think, we have confidence that our production rates can be sustained like I said for 15 to 20 years. I mean, I really – we really do have that confidence and we’re not going to get – I think, look through the detail on the assumptions we use, I think after you spend some time looking at it, you’ll hopefully agree.

[Derrick Whitfield:]

I’d do and I’ll tell you my quick gut reaction when I first kind of flipped through the presentation was the asset quality in Midland Basin and Haynesville are exceptional. So, we certainly look at your position and see it in your market share and see that as something that’s quite sustainable. So very helpful guys. Thanks for your time.

[Davis Ravnaas:]

Thanks, Derrick. Thanks for paying attention. Thank you.

[Operator:]

Thank you. Our next question comes from Chris Baker with Credit Suisse. Please proceed with your question.

[Chris Baker:]

Solid update on the inventory side, maybe just to take a little bit of a different angle to it. Still working through all the details provided but clearly, a lot of undeveloped potential there. Wondering, if you could share your thoughts at this point around the potential consideration of share buyback or perhaps maybe a small divestiture to kind of help demonstrate this value to the market. Just any thoughts there would be helpful.

[Davis Ravnaas:]

Great point. I think, my thoughts – our thoughts on divestment, we’ve only sold assets once and our entire history is an enterprise going back 25 years and that was non-producing assets in the Delaware that we sold, I think in 2018 for just like a ridiculous price to an undisclosed buyer. I think, our view is that we need scale and that’s I think the most critical weakness in the mineral sector is that you’ve got these five companies and really only one or two of them have meaningful scale and even those companies need to get bigger and I think, they would agree. So when we divest, it kind of runs counter to that. Now that being said, are there certain assets that we could look at and sell for eye-popping valuations. We did that in the past with kind of the low-hanging fruit that we saw when people were paying just outrageous multiples for non-producing assets. We don’t have much in the way of non-producing now. Chris, you know, our strategy has always been, we have to have at least one producing well on a unit for us to buy it. We like to get our money back on PDP alone and then the upside is something that we pay for, but we at least get our money back on the existing development. The weakness in this model that nobody like to talk about is that we don’t have control over the drill bit. We could have the absolute best section in Midland County and we can’t force Pioneer to develop it, right? So the only way we get comfortable is buying stuff that has production. So that being said, we don’t have any kind of easily divestible assets that are all just non-producing, where we’re going to get another home run kind of sale like that. So I think, we are a little bit against divesting the assets. I think, that runs counter to our view that we need to continue to consolidate and get bigger and capture synergies and just increase liquidity. But on your point on buybacks, we talk about it all the time. I think, our view – and we talk to our shareholders about it all the time and I think that the consensus view from our shareholder base and they’re the folks, we work for, is they’d rather see us pay down debt as opposed to buying back stock. Paying down debt is something that’s concrete, that’s something that improves the balance sheet. It is accretive to equity. Enterprise value is the same, debt goes down, equity goes up. When we think about buying back stock, the problem with that is you could just – we could spend $10 million a quarter buying back stock and that’s great, but if somebody could just sell right into it that – just out of nowhere and it’s kind of like man, I wish we had pay down debt instead of doing that. So the tax benefit of buying back stock versus sending cash flow back or paying down debt is not lost on us. But I think, what’s unique about our company, Chris, is that our dividends are tax free, so we send money back to our investors. We’re giving them the opportunity to buy back stock. If they want to buy more stock in our company, they can take our dividend, they don’t have to pay any taxes and they can buy our stock. We don’t think we should be making that decision for them at the corporate level. I hope, some of that makes sense and we talk about this all the time.

[Unidentified Company Representative:]

And Chris, also these buybacks as you know that, that reduces our float. We try to increase our trading volume well.

[Davis Ravnaas:]

Nailed it, good point. That’s right.

[Chris Baker:]

Okay, great. And then, can you just remind us in terms of the leverage target. Just in terms of how quickly you think you can get down to that level? Just thinking about the potential to take out the preferred with the revolver and potential timing for when you achieve that leverage target would be helpful.

[Davis Ravnaas:]

So we’re going to take out the pref next quarter. We talked about that on the last call, that’s going to bump our leverage up and then we’re going to continue to pay down debt until we get to at least below 2x, probably closer to 1.5x as we previously disclosed. Do we have – does anybody know off the top of your head when we anticipate that happening.

[Unidentified Company Representative:]

I wouldn’t want to give a guidance right now. I mean, there’s so many variables in there in terms of commodity prices.

[Davis Ravnaas:]

The other thing, Chris, too is just kind of tough to answer that question, because we can make one acquisition that’s $300 million and by $50 million of EBITDA and then all the sudden – do that with equity and all of a sudden we’re below 2x or 1.5x immediately. You see what I’m saying, so it’s kind of like, you’d have to assume – for us to give that question, we have to assume that we don’t buy anything ever again, which obviously isn’t going to happen. So anyway.

[Chris Baker:]

Great. Appreciate the color guys.

[Davis Ravnaas:]

Thanks, Chris.

[Operator:]

Thank you. There are no further questions at this time. I would like to turn the floor back over to management for any closing comment.

[Bob Ravnaas:]

We thank you all for joining us this morning and look forward to speaking with you again when we report second quarter results. This completes today’s call.

[Operator:]

This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation. Have a wonderful day.