Rattler Midstream LP
Q2 2019 Earnings Call Transcript

Published: 10 Aug 2019

[Operator:]

Good day, ladies and gentlemen, and thank you for standing by and welcome to the Rattler Midstream second quarter 2019 conference call. At this time, all participants are in a listen-only mode. [Operator Instructions] Later, we will have a question-and-answer session and instructions will be given at that time.Now, it's my pleasure to turn the call to Adam Lawlis, Vice President of Investor Relations.

[Adam Lawlis:]

Thank you, Karmin. Good morning and welcome to Rattler Midstream’s second quarter 2019 conference call. During our call today, we will reference an updated Investor presentation, which can be found on Rattler’s website. Representing Rattler today are Travis Stice, CEO; Teresa Dick, CFO; and Kaes Van't Hof, President.During this conference call, participants may make certain forward-looking statements relating to the company's financial condition, results of operations, plans, objectives, future performance and businesses. We caution you that actual results could differ materially from those that are indicated in these forward-looking statements due to a variety of factors. Information concerning these factors can be found in the company's filings with the SEC.In addition, we will make reference to certain non-GAAP measures. The reconciliations with the appropriate GAAP measures can be found in our earnings release issued yesterday afternoon.I'll now turn the call over to Travis Stice.

[Travis Stice:]

Thank you, Adam. Welcome, everyone and thank you for listening to Rattler Midstream's first earnings conference call covering results for the second quarter of 2019. To start, after our successful initial public offering in May, Rattler Midstream now represents the third publicly traded entity in the Diamondback family, which offers the only public midstream security with pure-play exposure to the Permian Basin.Fundamentally, the pure-play and sponsor-backed model is ultimately dependent on the strength of the rock and its operator and we believe that Diamondback's track record of growth and execution in the Permian Basin differentiates Rattler from this competition and gives confidence to the long-term growth and free cash flow prospects of the company.Rattler's second quarter results were a strong first step in demonstrating the quality of its relationship with Diamondback by showing robust quarter-over-quarter volume growth across all four revenue streams in the base business in our first quarter as a public company. We also showcased this relationship via the commitment to invest in the Wink to Webster Pipeline joint venture with high-caliber partners such as Exxon, Plains, Marathon, Delek and Lotus.Rattler grew net income 19% quarter-over-quarter to 46 million and adjusted EBITDA over 11% quarter-over-quarter to over 66 million in the second quarter of 2019. The Company spent 51 million on capital expenditures in the quarter, excluding one-time contributions to pipeline investments, implying that the core operated midstream business was free cash flow positive for the quarter.Notably, Rattler provided full-year guidance for 2019, reiterating strong volume growth for the year and free cash flow excluding contributions to long-haul investments. Rattler's long-haul investments include equity interest in the EPIC, Gray Oak and Wink to Webster Pipelines. These pipelines will, upon completion, transport crude oil from Diamondback and other Permian Basin producers to the Gulf Coast crude markets around Corpus Christi in Houston.EPIC will begin interim crude service later this month with full service in early 2020. Gray Oak is on track to begin service in the fourth quarter of this year and Wink to Webster is anticipated to begin service in early 2021.To conclude, Rattler will continue to execute on its business model of growing per share metrics and free cash flow to meet the needs of its long-term fixed-fee contracts with Diamondback. Due to Rattler's concentration in the Delaware Basin, Rattler will continue to grow in line or faster than Diamondback's expected production growth, with the pipeline investments adding meaningful cash flow in 2020, along with expected production growth.Operator, please open the line for questions.

[Operator:]

[Operator Instructions] And our first question is from Michael Lapides with Goldman Sachs.

[Michael Lapides:]

Just curious, first thing on Wink to Webster, can you talk about your size and scale in this project and how we should think about either build multiples or what the EBITDA contribution or equity income contribution from this would be for you?

[Travis Stice:]

Out of respect to the larger partners in the project, I can't disclose the exact numbers. I can't say that our capital commitment is less than $100 million total for the project, and we're somewhere in the low to mid-single digits on ownership. It's that all I can give right now. I think it's going to be a great project. I think, you've seen some of the other partners talk about the returns of the project. I think it's somewhere in the 6 times build multiple range and, I think, it's a cue for Rattler to be involved in such a prestigious project, it's so early in our company's history.

[Michael Lapides:]

Got it. And then how are you thinking about the utilization. I mean, you have such a strong balance sheet and it's going to get stronger over the next couple of years, given the cash flow profile. How are you thinking about utilization of the balance sheet?

[Travis Stice:]

Yeah. We really want to be clear that this business doesn't need external funding to meet the needs of the dedications that are in place with Diamondback. I think, Rattler is still spending a good amount of money developing midstream assets, particularly in the Delaware Basin, as we add saltwater disposal capacity and continue to build out our oil gathering systems. So, this business, the CapEx profile of the business should tail off over time on this asset base and the free cash flow profile will improve. Now, in some cases, we are looking at systems that would accelerate that CapEx or get us more capacity sooner to meet the needs of Diamondback's growth plans.

[Operator:]

Our next question is from Pearce Hammond with Simmons Energy.

[Pearce Hammond:]

Good morning, guys and congratulations on a successful first quarter as a public company. My first question pertains to the guidance, relative to my modeling expectations, produced water volume guidance for '19 is a lot higher, oil is just slightly lower, is there anything worth commenting on that, it just looks like the produced water is pretty strong?

[Travis Stice:]

Yeah. Pearce, I think there is a bit of conservatism for us with our first quarter as a public company and coming out with our guidance for the year. Clearly, Q2 exceeded our expectations with fresh water and disposal beating our internal projections. I think, oil is going to grow into the back half of the year, as Spanish Trail production grows through Q3 and Q4. We've also hooked up some of the legacy Energen position to our ReWard position in Reeves Counties, so that should drive some growth on the oil side.With respect to the forward guide, I think you think about this business growing in lock step or a little bit higher than Diamondback's projected growth through the back half of the year.

[Pearce Hammond:]

Great. And then a follow-up question, I know third-party businesses isn't a focus for you right now, but as you look out a few years, could you see that becoming more of a focus or are you seeing more opportunities within the Permian to maybe handle water for other companies?

[Travis Stice:]

Yes. Pearce, we certainly pick up the phone and we've gotten a lot more phone calls, now that we're a public company and people know what we have in particular areas. So, our third-party business is growing. It's a small piece with the overall pie. I'd say what's most important for us is out of our 750,000 barrels a day of fresh or of a produced water production, about 10% of that goes to third-parties today. So we're trying to remove that from the equation for us, which will drive incremental EBITDA growth at Rattler.

[Operator:]

Our next question comes from Jeremy Tonet with JP Morgan.

[Jeremy Tonet:]

Just wanted to start off with the long-haul pipeline there. Congratulations on Wink to Webster. I was wondering, do you see opportunities to enter JV interests in other long-haul pipelines and other hydrocarbons, be it NGLs or natural gas or any other, I guess, desire or thoughts on achieving kind of more full downstream integration there?

[Travis Stice:]

Yeah. Jeremy, I think for us, the focus has been oil, because Diamondback is so heavily weighted towards oil. This relationship is a perfect example of using Diamondback’s size and scale and contribution to a pipeline to get equity in that pipeline. I just don't think we have the size and scale on the gas or the NGL side or enough [indiscernible] to exercise those to contribute to a pipeline. So, I'd expect our pipeline investments to be limited to these three, but we'll continue to look at deals inside the basin, just I think, this is probably our biggest outside the basin contribution.

[Jeremy Tonet:]

That makes sense. That's helpful. Just turning to the dividend, just wondering, now that you have a first quarter under your belt here, could you provide any updated thoughts as far as what you think the growth could be, if that would be a quarterly event, an annual event or waiting to see past certain, I guess, hurdles before starting to grow. Any thoughts you could share there?

[Travis Stice:]

Jeremy, the dividend was set at $1 unit. I think the board will certainly review the dividend on a quarterly basis. Our expectation right now is to increase it on an annual basis and really the goal for us is to maximize that dividend as quickly as possible, while making sure we stay below two times leverage at the Rattler level, as the dividend is going to be the main way Diamondback gets capital out of this business over the next few years. So, I think, it's an annual review process, but we're certainly looking to push that dividend, especially if the free cash flow profile is in excess of what we originally expected.

[Operator:]

And our next question comes from Tristan Richardson with SunTrust.

[Tristan Richardson:]

Just kind of quick clarification, just thinking about your ownership interest in Wink to Webster, I mean, is it fair conceptually to think that Rattler’s ownership interest will generally resemble Diamondback’s level of commitment?

[Travis Stice:]

It should be a little bit smaller. I'll just stay with the low to mid-single digits as our percentage interest. Diamondback has committed 100,000 barrels a day of capacity or has 100,000 barrels a day of capacity on the pipe, half of which is take or pay in conjunction with similar structures to our EPIC and Gray Oak commitments.

[Operator:]

And our next question comes from Praneeth Satish with Wells Fargo.

[Praneeth Satish:]

Just two quick ones for me. I guess one in terms of the EBITDA guidance, can you just break out how much of that is coming from the JV pipelines?

[Travis Stice:]

We have very little, if any, contribution in that guidance from the JV pipeline. So EPIC is doing early in service. We're not making bets on what that project is going to make on early in-service. So really the 245 to 265 is the base business for 2019.

[Praneeth Satish:]

Got it. And then in terms of the assumptions around the, I guess, water to crude ratio in the guidance, is it kind of still in the 5 times range for the Delaware and 1.5 for Midland and how is that compared to, I guess, how it's been trending?

[Travis Stice:]

Yes, those are fair numbers. We're doing a lot of Wolfcamp in the Delaware at the moment, especially in the Southern Delaware, the Wolfcamp is in the 4 to 5 to 1 range. Now as you move up zone in the Delaware into the Bone Springs zones, the water to oil ratio increases and also as you move up into Reeves Counties, our [indiscernible], the water to oil ratio increases. So, I think, 5 to 1 is a fair number for now. The Midland Basin continues to average about 1.5 to 1. Similar story in the Midland Basin, if you go up into the Spraberry zones, you probably get a little more water than the Wolfcamp.

[Praneeth Satish:]

Got it. And then I guess just last question for me. So, in the slide deck on page 11, there is a page there showing the economics of SWD well. And I mean it looks really good, but I guess it's -- one of the assumptions that it's based on a utilization level of 80%. So I guess, I'm just wondering like what is the confidence level that you'll be able to keep your wells utilized at such a high level?

[Travis Stice:]

Yes, I mean, the line of sight between us and Diamondback is pretty clear. There is not going to be wasted capital at Rattler. If we're not going to fully utilize an SWD at the Rattler level, then we just won't spend the money. So, the teams work together on the forecast on what's needed in a particular area. And if we can't -- if we're not going to be able to fully utilize that SWD, we won't drill it.So, we have a lot of excess capacity today. It's not all connected appropriately. We're working to connect all of that capacity, which is a good amount of the capital that we're spending at Rattler. So hopefully, we can get increased utilization without having to drill too many more SWDs.

[Operator:]

And our next question comes from Phil Stuart with Scotia Howard Weil.

[Phil Stuart:]

Congrats on a good start as a public company. I wonder, if we could circle back to the guidance again on the fresh water gathering side. Obviously, there is a big uptick in volumes there in 2Q. And if we just kind of looked at the high end of guidance that would imply kind of flattish volumes in the second half of the year. Is there anything operationally in terms of where Diamondback is completing their wells within their footprint that would cause those volumes to not grow in the second half of the year? Is that maybe just some conservatism because 2Q outperformed so much?

[Travis Stice:]

Yes, Phil. I think it's a couple of things. I think, as you think about Rattler's fresh water business, the legacy Energen position is not dedicated to Rattler and those assets do not sit in Rattler today. So as Diamondback's frac spreads move around our position, if the frac spreads are working on legacy Diamondback's acreage, that number increases. So, Q2 was especially good for how many crews we're working on legacy Diamondback acreage. And just looking at the back half of the year, we're not -- Diamondback's not accelerating, we're still going to use 8 crews, it’s just a mix of those crews are going to be spread a little more evenly between the Diamondback properties and Energen properties.

[Operator:]

And our next question is from Dennis Coleman with Bank of America Merrill Lynch.

[Unidentified Analyst:]

This is Jason on for Dennis. I wanted to touch on Wink to Webster for another question or two. Was there any sort of upfront payment to join the group? And can you say if there was any promote paid to the founders as well?

[Travis Stice:]

I can't comment on the promote, I mean, I think we're going to have to pay a little less than $20 million this year total, both to join and to fund the CapEx contributions for the rest of the year.

[Unidentified Analyst:]

And then on CapEx, you mentioned it would be about 100 million in total and so, can you maybe talk about the cadence of the implied 80 million in 2020 or would that be on within the first half?

[Travis Stice:]

I mean, I think our best guess is that, it's going to be pretty ratable throughout the year today. We just signed the paperwork last week. So, we'll be following up with our partners on projected spend in 2020.

[Unidentified Analyst:]

And then maybe on the Vermejo region, it's clearly an important one for Diamondback and by most measures it looks like Rattler has a strong presence there. But could you maybe talk about the overlap and the alignment there and if there is any other third parties in the region?

[Travis Stice:]

Yes, I mean, there are certainly some third parties in the region and we have a lot of capacity in that Vermejo area. So, we are taking calls from other operators who need overload capacity in that particular area if they're bringing on a big pad. So Vermejo is going to be a big growth area for Diamondback over the next few years. Rattler's certainly long capacity, which is going to make sure all that disposal capacity is connected appropriately, so we can flow barrels throughout the system.

[Operator:]

[Operator Instructions] And our next question is from Spiro Dounis with Credit Suisse.

[John Mackay:]

It’s John Mackay on for Spiro. Just wanted to follow-up on maybe 2020 CapEx in general. I know you haven't given a specific number, but I was just wondering if you could talk generally about what your kind of like G&P side CapEx could look like and what sort of smaller projects that could comprise?

[Travis Stice:]

Yeah. It's going to be pretty mixed between the 4P streams. SWD will take the lion's share of CapEx in 2020. Oil starting to tail off, because our systems are almost fully built. There are certain little expansions that need to be made, the new batteries, but most of our oil systems are in areas where Diamondback has now been operating for at least two or three years. So, we're not building a ton of new batteries. So you're not having to spend a lot of money on the oil or the gas side. Really, the lion's share is going to be on the SWD disposal capacity, but also on the gathering piece to make sure we're connecting legacy Energen systems and Diamondback systems and being smart with our capital to maximize the utilization.

[John Mackay:]

That's helpful, thanks. And then just last quick one with EPIC and Gray Oak largely done, [indiscernible] CapEx kind of budgeted for either in 2020?

[Travis Stice:]

I think we have a small amount budgeted at the beginning of 2020 to finish the projects, but it would be exhausted by the end of Q1.

[Operator:]

Thank you. And this ends our Q&A session for today. I would like to turn the call back to Travis Stice, CEO, for his final remarks.

[Travis Stice:]

Thanks again to everyone participating in today's call. If you’ve got any questions, please contact us using the contact information provided.

[Operator:]

And ladies and gentlemen, we thank you for participating in today's conference. This concludes the program and you may all disconnect. Have a wonderful day.