Summit Midstream Partners, LP
Q3 2016 Earnings Call Transcript

Published: 4 Nov 2016

[Operator:]

Welcome to the Q3 2016 Summit Midstream Partners, LP Earnings Conference Call. My name is Nicole, and I'll be your operator for today's call. At this time, all participants are in a listen-only mode. Please note that this conference is being recorded. I will now turn the call over to Marc Stratton. Mr. Stratton, you may begin.

[Marc Stratton:]

Thanks, operator, and good morning, everyone. Thank you for joining us today to discuss our financial and operating results for the third quarter of 2016. If you don't already have a copy of our earnings release, please visit our Web site at www.summitmidstream.com, where you’ll find it on the Homepage or in the News section. With me today to discuss our earnings is Steve Newby, our President and Chief Executive Officer; and Matt Harrison, our Chief Financial Officer. Before we start, I'd like to remind you that our discussion today may contain forward-looking statements. These statements may include, but are not limited to, our estimates of future volumes, operating expenses, and capital expenditures. They may also include statements concerning anticipated cash flow, liquidity, business strategy, and other plans and objectives for future operations. Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can provide no assurance of such expectations will prove to be correct. Please see our 2015 annual report on Form 10-K as updated and superseded by our current report on Form 8-K/A which was filed with the SEC on September 1, 2016, as well as our other SEC filings for a listing of factors that could cause actual results to differ materially from expected results. Please also note that on this call, we will use the terms EBITDA, adjusted EBITDA, and distributable cash flow. These are non-GAAP financial measures and we have provided reconciliations to the most directly comparable GAAP measures in our most recent earnings release. And with that, I'll turn the call over to Steve Newby.

[Steve Newby:]

Thanks, Marc. Good morning, everyone, and thanks for joining us on the call this morning. I’ll begin with a few comments on the quarter and then I will turn it over to our CFO, Matt Harrison, for more detail on our quarterly financial results. I’ll then wrap up by discussing our outlook for the balance of the year. Yesterday, we announced our third quarter 2016 operating and financial results. It was a strong quarter for SMLP with adjusted EBITDA of $76.5 million which was up 6% over the second quarter and distributable cash flow of $55.6 million which was up 9% over the second quarter. In early September, we issued 5.5 million common units for net proceeds of $126 million, which was used to reduce debt and strengthen our balance sheet. As of 9/30, our debt to EBITDA ratio was 4.1 times, down from 4.5 times last quarter. On October 27, we announced our third quarter distribution of $0.575 a unit, which implies a distribution coverage ratio of 1.25 times for the quarter even after the effect of the equity offering. We’ll pay that distribution on November 14. With the third quarter behind us and given our view of the remainder of 2016, we believe we’ll be at or above the high end of our previous guidance, which was $290 million of adjusted EBITDA. And we’ll have distribution coverage for the year greater than 1.2 times. This is the second quarter in a row we’ve increased our financial guidance. Overall, our performance was driven by volume growth on our operated natural gas systems, which were up 4% quarter-over-quarter and 9% year-over-year. Our liquid systems also performed well during the third quarter with 7% volume growth over the second quarter of '16. The strength in the third quarter was attributable to three primary factors. First, in our Piceance and DJ Basin segment, we saw volume growth at the 5% quarter-over-quarter on our systems while adjusted EBITDA for the segment was at 8%. As we discussed last quarter and at our Analyst Day in August, acreage trades by producers operating upstream at both Piceance and DJ Basin system have resulted in higher volumes due to increased drilling and completion activity behind our gathering system. We expect this trend to continue in the fourth quarter of '16 and into '17. Another bright spot for the quarter was our Williston segment where liquid volume throughput increased 7% over the second quarter of '16 and adjusted EBITDA was up 14% over the second quarter of '16. The Williston segment benefited from 28 dock completion by two of our largest customers. On the associated natural gas side, we continue to see relatively flat volumes on our system at gas and oil ratios continued to outperform our expectations. Finally, our 100% owned and operated Utica system, Summit Midstream Utica, had a very good quarter with gathered volumes up 40% over the second quarter of '16 and up 450% over the third quarter of '15. This increase occurred despite a challenging local gas price market in the Northeast due to basis differentials which are affecting several of our customers. In addition, this quarter we added an incremental organic growth project with an existing customer that will transport production that is located outside of our current dedication area. We expect to see the impact of these volumes in the second quarter of '17. While this project represents less than $20 million capital investment, it does highlight our competitive position in the area and our ability to maximize our customer’s production from the southeastern core of the Utica. These positive results helped to offset third quarter weakness in our 40% ownership of Ohio gathering, which experienced quarter-over-quarter volume declines of 16% as legacy dry gas wells that were connecting the first half of 2015 are beginning to require compression to floor into higher pressured interstate pipelines. During the third quarter, Ohio gathering began the installation of a large compressor station on the dry gas system that is expected to be operational in the first quarter of '17. This should help offset some of the volume declines we saw in the third quarter and will bring with it an incremental compression fee. While there was limited rig activity in the OGC system in the third quarter, we did commission 16 docks in the wet gas window towards the end of the quarter. These wells have come on strong, but given that the completion timing occurred late in the quarter, they had very little impact on our third quarter results. Our Barnett volumes were down 9% from the second quarter of '16. Natural declines combined with our regulatory shutdown that occurs in the third quarter led to the drop and together with other wells shut-in for drilling and completion activity. One item of note in the Barnett in third quarter was the announcement by TOTAL that they will be purchasing all of Chesapeake’s acreage in the Barnett, including roughly our 100,000 acre dedication area. We see this acreage trade as a big positive given Chesapeake’s lack of focus on acreage over the past several years. In October, we executed an amended gathering agreement with TOTAL that incentivizes volume growth on our system. Given we are already connected to all of the pad sites within our AMIs, that growth comes at virtually no cost to Summit. One interesting item of note shows the low-lying opportunity in the area or to wells [ph] that we currently have dozens of wells that are offline behind our system that require limited work-over capital to be brought back online easily. So with that, I'll turn it over to Matt to review the quarter in more detail.

[Matt Harrison:]

Thanks, Steve. SMLP reported net income of 2 million for the three months ended September 30, 2016 compared to net income of 3.5 million in the third quarter of 2015. Net income for the third quarter of 2016 includes 1.2 million related to an asset impairment charge and 6.2 million of deferred purchase price obligation expense. In conjunction with the 2016 drop-down transaction, we recognized a liability on our balance sheet for the deferred purchase price obligation to reflect the estimate of the remaining consideration to be paid in 2020 for the acquisition of the 2016 dropdown assets. We discount the remaining consideration on the balance sheet and recognized the change in present value on the income statement. The change in present value comprises both a time value of money concept as well as any adjustments to the expected value of deferred purchase price obligation. Net income for the third quarter of 2015 included the recognition of 34.4 million of gathering services revenue that had been previously deferred in connection with MVC shortfall payment received from a customer on the Grand River gathering system, approximately 20 million environmental remediation expense associated with a produced water pipeline that became part of the Polar and Divide system in connection with the 2016 drop-down transaction, and approximately 7.7 million related to an asset impairment charge. Adjusted EBITDA for the third quarter of 2016 was 76.5 million compared to 43.5 million for the third quarter of 2015. The $33 million increase in adjusted EBITDA was primarily due to the environmental remediation expense that we recognized in the prior-year period and current period increases in natural gas volume throughput on our Summit Utica gathering system and increases in liquids volume throughput on our Williston Basin gathering systems. These volume throughput increases were partially offset by volume declines in our DFW Midstream system and Mountaineer Midstream systems in the third quarter of 2016 compared to 2015. Adjusted EBITDA in the third quarter of 2016 included approximately 16.4 million related to MVC mechanisms from our natural gas gathering and crude oil transportation agreements. Additional tabular detail regarding MVC is included in the third quarter earnings release. Distributable cash flow totaled 55.6 million in the third quarter. This implies a distribution coverage ratio of 1.25 times relative to the third quarter distribution of $0.575 per limited partner unit to be paid on November 14. CapEx for the third quarter totaled 31.4 million of which 4.9 million was classified as maintenance CapEx. Additionally, the partnership made approximately 4.5 million of capital contributions related to Ohio gathering in the third quarter. We had 633 million of debt outstanding under our 1.25 billion revolving credit facility at September 30, 2016 and 617 million of available borrowing capacity. The partnership completed a primary equity offering of 5.5 million common units in early September. The 126.1 million of net proceeds were used to pay down the revolver. Total leverage as of September 30, 2016 was 4.11 times. We expect 2016 adjusted EBITDA to be at or above the top end of our 270 million to 290 million guidance level. We also increased SMLP’s expected full year 2016 distribution coverage ratio from a previous range of 1.15 times to 1.25 times to a new range of 1.2 times to 1.25 times. With that, I’ll turn the call back over to Steve.

[Steve Newby:]

Thanks, Matt. So, again, we’re pleased with our operating results this quarter. And for the second quarter in a row, we’re increasing financial guidance and our distribution coverage. The impact of the dropdown earlier this year and the diversity of our business model continues to pay dividends. The dropdown assets are expected to generate $80 million of adjusted EBITDA for 2016, which is right in line with our original guidance at the time of the dropdown. In Utica on our Ohio gathering system, growth continues to be pushed to the right given commodity pricing in the region, but our position in the core of the play cannot be underestimated. Our Utica systems combine have approximately 900,000 dedicated acres across all three windows of the southeastern core of the play. Further, multi-well pad drilling and strong IPs can drive significant production growth in a short timeframe which we have recently experienced on our wholly-owned SU system. We are strategically positioned to participate in the tremendous growth that will come from this region over the next several years, as basins improves for both natural gas and natural gas liquids. On our last quarterly call, I mentioned that I thought the second half of 2016 would be more challenging than the first half, given historically low rig counts over the past year. While I’m glad I was wrong, as least that it applies to Summit through the third quarter. The resiliency of our customer base and the efficiency gains they are achieving is helping us and I believe all of the industry would stand a sustained low commodity price environment. Our mindset and how we’re approaching our business strategically is with a belief that both natural gas and crude oil will be fairly range bound for the next 12 to 18 month. It is through that lens that we’re preparing Summit for 2017 and beyond. Looking ahead, we will be releasing our 2017 financial guidance in conjunction with our fourth quarter 2016 earnings, which occurs in February of '17. Although we’re still finalizing our budget, our stance for 2017 based upon our fundamental view of the commodity price backdrop is one of continued caution. Even with this cautious approach, given our diverse and strategically positioned asset base, with our strong balance sheet and solid distribution coverage, we anticipate resuming distribution growth in 2017. Again, we look forward to releasing that guidance in early '17. So with that, I'll turn it over to Nicole to open it up for questions.

[Operator:]

Thank you. We will now begin the question-and-answer session. [Operator Instructions]. Our first question comes from Kristina Kazarian from Deutsche Bank. Your line is open.

[Kristina Kazarian:]

Hi, guys.

[Steve Newby:]

Hi, Kristina.

[Matt Harrison:]

Hi, Kristina.

[Kristina Kazarian:]

So could you start off with a bit more color on the Utica weakness in the quarter, maybe touch on some if – particular wet versus dry trends you saw? And then finish – I think we saw four incremental rig announcements just last week in the Utica. So what that could mean for your footprint going forward looking into next year?

[Steve Newby:]

Yes. Hi, Kristina. It’s Steve. I would be a little cautious on Utica weakness. It’s a little bit bifurcated between our 100% owned system which has had pretty significant growth, which is an all dry system and near the river in Belmont County. And then OGC; and where we saw the weakness this quarter was in OGC. And we have previously guided that earlier in the year we thought OGC would be slightly down through the balance of the year. I think the pace of decline surprised us a little bit. But what’s going on there is we still gather a fair amount of dry gas in Ohio gathering as well too and have a pretty good position in the dry gas window as well. And some of the wet legacy wells from customers that were brought on more than 12 months ago, we’re starting to see – we got to the point where those need compression. Utica is a very different basin. You’re not putting compression on initially in the dry gas window, because these wells are so strong. And so it’s been a little bit of a learning experience both for producers and for midstream companies on when you add compression to the dry gas window and I think we’re now at that point. And part of the sharp decline we saw in the second quarter was due to basically some of those legacy wells needing compression. And so that’s going on. In my comments you’ve heard we’re adding a fairly large dry gas compressor station in OGC and that should help some of that. I hope that provides a little bit of color. On rig activity, going into next year I think we’ve seen some positive announcements from some of our customers, some of our large customers. I still think '17 is going to be challenging somewhat overall, because of basis differentials in the area and low commodity prices for not only gas but also NGLs. But what we are definitely seeing and hearing is somewhat of a ramp up during '17 for what is believed to be by most some relief coming at the end of the year on basis and into '18 as well too. So I think we’ll get our fair share of that; others will too. There’s no doubt. We operate across all three windows and we probably have one of the largest gathering positions in the basin. So we feel good about where we are.

[Kristina Kazarian:]

Perfect. And then a follow-on to that for Utica. How dependent is what we’re thinking about in terms of 2017 in terms of new regional gas takeaway?

[Steve Newby:]

I think most are – in our customer conversations, most are thinking that’s probably going to come later in the year, back half of the year and probably weighted to the back half. I think we get some expansion capacity on wells coming on here by the end of the year that obviously would be helpful. But I think it’s back half. And really, Kristina, it’s customer dependent. Some customers are more, as you know are more levered to Rover capacity and Rover coming on and others. And so part of that is very customer-specific. And I would say in our customer base, it’s pretty diversified. Some are levered to Rover, some aren’t much at all. And some of our customers don’t have any long-haul capacity to their strategy. So it really varies. I do think overall it’s going to -- '17’s going to be a year of what I would call preparation for really '18 and beyond.

[Kristina Kazarian:]

Perfect. And then last one from me. Can you touch a little bit about the TOTAL impact in the Barnett? I know we were excited about Saddle, so how does the two compare in your mind?

[Steve Newby:]

TOTAL is a little bit bigger. I think TOTAL’s going to approach it through our conversations. This is the only operated acreage in the lower 48 in the U.S., so this is it. We think they’re going to be aggressive. I think we’re going to be aggressive in a little bit different way. I think they’re going to look at spending completion dollars, recompletion dollars, refrac dollars. And as I mentioned in my comments, we have I would tell you dozens of wells, Chesapeake wells that are just offline because they just haven’t focused on spending any kind of capital to maintain those. So there’s some low-lying fruit there. We’ll know more. The transaction hasn’t closed yet. It’s going to close in the next I think couple weeks. We’ll know specifically more when it does. We have amended our agreement, as I mentioned, with them. That amendment – because I know we’ll probably get more questions on that, that amendment doesn’t really affect current production, current pricing or anything like that. It’s a much different amendment than they did with Williams. Ours is really intended for future growth in the area and then try to work with them on giving them a path to do that at least on our piece that we control.

[Kristina Kazarian:]

Perfect. That’s it for me. Thanks, guys.

[Steve Newby:]

Thanks.

[Operator:]

Our next question comes from Tristan Richardson from SunTrust. Your line is open, Tristan.

[Tristan Richardson:]

Hi. Good morning, guys.

[Steve Newby:]

Hi, Tristan.

[Tristan Richardson:]

Steve, just curious – you talked about the organic project at SMU that’s outside the dedication benefitting '17 and then with OGS, the compression project there. Could you give a sense of just timing and scope of that project and sort of when we could expect to see some benefit from that?

[Steve Newby:]

Yes, I’ll take the last first, Tristan – and I hope that new baby is doing well, by the way. So the OGC project is a big compressor station in the dry gas area. I think it’s 300 million initially, so that’s a big add. And we’re scheduling that. MarkWest or MPLX is targeting that to I think in the first quarter to come on line. So it’s underway right now. We’re under construction as we speak. So that’s where that will occur and it should help on some of the declines we’ve seen for sure in the dry gas area. On the new project, we mentioned that not necessarily due to scale, it’s not a huge project but more due to strategy. And just the position in the southeastern part of the play and the ability to use existing infrastructure to do pretty incremental – highly incremental bolt-on type transactions. And so this is an area outside of our current dedication of SMU of our 100% owned system, outside of our dedication at our JV as well too. So it’s a whole new area that we’ll be moving some gas for an existing customer. They are a customer of ours. And it will be moved through Summit Utica and eventually we connect there to Ohio River and eventually that gas will move to Rover.

[Tristan Richardson:]

Okay, that makes sense. Thank you. And at SMU just in terms of the eight wells in the quarter, could you talk about just sort of timing of that versus into fourth quarter and into '17? Was some activity pulled forward into 3Q or should we just think about that as things came on schedule?

[Steve Newby:]

I would say things were on schedule. We expect to have well completions in the fourth quarter as well as two on Summit Utica. And that system’s building still. We expect to have still fairly significant growth into '17 on that system. And then obviously we have this new transaction too that I didn’t mention in answer to your question fully. That volume is expected to come on in second quarter '17. I would say we have good line of sight on Summit Utica, because we’re still building out the system. That’s typically when you have the best line of sight with the producer, because you’re connecting new production and you got to be coordinated on that. And so we would say it’s going at plans and right on track.

[Tristan Richardson:]

Great. And then Steve, just a last one from me. In terms of the 46 new completions in the Piceance, I’m curious if that was – with the new ownership there, was it just a burst of activity, low-hanging fruit from something that may have been neglected in the past or is that kind of the pace of activity we should expect to see with new customers?

[Steve Newby:]

Yes, it’s a good question. It wasn’t necessarily burst of activity in Colorado given the permitting environment, regulatory environment. It’s very clear but it takes a little bit of time for both the producer and the midstream companies. So this is something we saw coming and saw coming pretty clearly well in advance. And as you know, I think you were at our Analyst Day, we commented pretty heavily on it there. I think what we saw was that activity come to fruition through completions in the third quarter. And I will say what we’re seeing is continued strong activity out there. I think going forward that activity level is going to be driven going forward with new ownership of acreage, new thoughts around drilling and production in that strength we are seeing and expect to see it continue into '17. We still have roughly 50 docks in Western Colorado even with the high level of completions. So as you can tell, there is significant activity out there and we are actually expanding our system in Western Colorado pretty significantly right now. We’re fairly full out there actually.

[Tristan Richardson:]

Great. Thank you, guys. I appreciate it.

[Steve Newby:]

Thanks.

[Operator:]

Our next question comes from Derek Walker from Bank of America. Your line is open.

[Derek Walker:]

Good morning, guys.

[Steve Newby:]

Hi, Derek.

[Derek Walker:]

Just on the equity offering that was completed in September, I know you said that was used to kind of pay down the revolver, but should we think of that as sort of funding near-term CapEx or is any of that going to be allocated for sort of prefunding that deferred payment?

[Matt Harrison:]

Yes, I think Derek it’s all kind of part of that strategy of the prefund versus prepay and picking our spots opportunistically to get equity deals and bond deals done as we look forward to paying the deferred payment. So I would characterize that as a prefunding of our deferred payment. And you should expect to see more of that, both equity and bonds.

[Derek Walker:]

Got it. Thanks, Matt. And then just on the guidance. I guess relative to your prior expectations and I expect the at or above the range on EBTIDA for this year. You mentioned the acreage trade as well as the backdrop [ph] is complete. I guess what’s really sort of driving you towards a higher end or even above that end?

[Steve Newby:]

Hi, Derek; it’s Steve. I think what we laid out was the dropdown assets are performing as expected. That’s even with probably a little bit more weakness than we anticipated at OGC. And so when you sort of back that out, the base business is outperforming. And that’s coming really from both Western Colorado and the Williston. I think we’re cautious on the Bakken. I think anybody’s who’s transporting crude oil in this market probably is cautious on just the outlook and what’s going to go on there. In Western Colorado, we’re probably a little more bullish. Like I said to Tristan, we have a very good line of sight there on activity level. And so I think overall, given where we are through third quarter, we feel pretty confident about obviously saying that we’re going to be at or slightly above. So I’d say the base business is driving outperformance in '16 versus the dropdown.

[Derek Walker:]

Got it. And then just a last one from me. How should we think about the DFW system volumes in 4Q? It sounds like there’s an expectation for some docks being depleted in the quarter as well as just you had the annual shutdown recently. So I just want to get a sense on how should we think about the volume uplift in 4Q?

[Steve Newby:]

Yes. I think you’re spot on. Third quarter was affected by the shutdown which last us I think two, two and a half days; some regulatory shutdown we have to do. And then we also were affected in the quarter somewhat by completion activity in the shutdown of some existing wells due to that completion activity. And so that affected us. I would think about that as – we expect those wells existing and new wells to come on here in the fourth quarter. And really the unknown for us so far is that pace at which TOTAL will prosecute the area. I think we’ll know more of that here on the next couple of months and be able to talk more educated about that in our guidance in February.

[Derek Walker:]

Got it. Thanks, Steve. I appreciate it.

[Steve Newby:]

Thanks, Derek.

[Operator:]

[Operator Instructions]. Our next question comes from John Edwards from Credit Suisse. John, your line is open.

[John Edwards:]

Good morning, everybody, and congrats on a nice quarter. Steve, I just wanted to ask you a little bit here on the distribution. So you’re indicating kind of a cautious outlook but you’re indicating you may raise distribution in 2017. So I’m just trying to get a sense here, where do you want your kind of leverage and coverage combination to be to consider increase in the distribution?

[Steve Newby:]

John, I’d rather wait until we release guidance for '17 to talk about specifics. I think we’ve given folks a fair amount of clarity on our target leverage and guidance. I think our forward lean on distribution growth – our anticipation distribution growth, I would say it’s based upon where we sit today. Things can change a lot. Commodity price backdrop can change. It’s obviously going to be dependent upon that, dependent upon our views on leverage, dependent upon views on coverage to how much our growth – what we think about our growth in '17. But where we sit today we would anticipate resuming some level in '17 and I’d rather wait until we’ve released guidance to get into details around that. But obviously coverage and leverage will be a consideration.

[Matt Harrison:]

John, it’s Matt. We still have the same strategy that in 2020 when we settle the deferred payment obligation that we’ll be 3.5 to 4 times levered and 1.1 to 1.2 times covered.

[John Edwards:]

Okay. Just if I could follow here. So with the ideal here to be say around 4 times 1.25 times coverage to trigger kind of the decision to recommend an increase is at kind of the right ballpark?

[Matt Harrison:]

That’s certainly part of the decision-making process. The outlook’s a part of the decision-making process, and obviously it’s a Board decision as well.

[John Edwards:]

Okay, I’ll leave it there for that part. So you mentioned to another question that the equity offering should be viewed partly kind of as a down payment on the deferred payment plans. Is there any other things we should be thinking about here on how to manage the deferred payment plan out in the future?

[Steve Newby:]

Yes, I’ll take it first, Matt. You can jump in too. Look, I think the benefit we have is we have a line of sight into what the deferred payment is going to be. It’s marked on the balance sheet every quarter. And we have roughly three years or a little over three years to address it. And so that’s a huge benefit and huge option value for the MLP to address it. I think we started this quarter doing that. And the way you should think about it I think is we’re going to take opportunistic – or take the opportunity at various times to address the equity in that market, so hit the equity in that market to address the deferred payment. We also have an ATM program as well too that can be used. We’ve not been aiming on the ATM program to-date, but I expect over the next three years we’ll do something to address it as well. And it’s not sneaking up on us and we have pretty good line of sight on what it’s going to be and we’re going to opportunistically take the chance to address it.

[John Edwards:]

Okay. Actually, one other thing. In terms of the interconnect agreement in the Williston that was just executed, is there any exposure there with involving Dakota Access or if there’s anything, thoughts you have there?

[Steve Newby:]

By exposure, I don’t know if you mean capital or exposure to just that one. We think that one is going to get completed, that’s our view. And we think it’s going to be a big benefit to the basin. We want to be connected to it. Our customers want us to be connected to it. And so we’re moving down that path. I think we gave guidance last quarter, it’s about a $6 million or $7 million project for us. We’re still waiting, John, on our end. We have our own permitting that’s going on with the state. We expect to receive that permit by the end of the year and then we’ll begin construction. So we haven’t begun moving there yet, if that’s what you’re asking.

[John Edwards:]

Yes, and thinking about the interconnect agreement, so it sounds like assuming that gets revolved, you’ll go ahead and move [indiscernible] and get connected?

[Steve Newby:]

Yes, we expect to be constructing in the first part of the year and be connected, you’re probably right, in the first quarter beginning of second.

[John Edwards:]

Okay. That’s it from me. Thank you.

[Steve Newby:]

Thanks, John.

[Operator:]

We have no further questions at this time.

[Steve Newby:]

Great. Thanks everybody for joining and have a good weekend.

[Operator:]

Thanks. Ladies and gentlemen, this concludes today’s conference. Thank you for participating. You may now disconnect.