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Edited Transcript of AREX earnings conference call or presentation 19-Mar-19 3:00pm GMT

Q4 2018 Approach Resources Inc Earnings Call

FORT WORTH Mar 21, 2019 (Thomson StreetEvents) -- Edited Transcript of Approach Resources Inc earnings conference call or presentation Tuesday, March 19, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* J. Ross Craft

Approach Resources, Inc. - Founder, Chairman & CEO

* Qingming Yang

Approach Resources, Inc. - President & COO

* Sergei Krylov

Approach Resources, Inc. - Executive VP& CFO

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen, and welcome to the Fourth Quarter and Year-end 2018 Approach Resources, Inc. Earnings Conference Call. As a reminder, this conference call is being recorded. (Operator Instructions)

The company's earnings release and the conference call presentation slides that management will refer to during the prepared remarks can be downloaded from the Investor Relations section of the company's website at www.approachresources.com. Please note that management's remarks include forward-looking statements that are subject to risks that could cause actual results to differ materially from those in the forward-looking statements. Additional information concerning these risks is set forth on Slide 2 and in the company's earnings release.

Reconciliations of non-GAAP measures management refers to and the applicable GAAP measures can be found on the company's earnings release, on the non-GAAP financial information page of the company's website and at the end of the company's earnings presentation.

Now we'll turn the call over to the Chairman and Chief Executive Officer of Approach Resources, Ross Craft.

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J. Ross Craft, Approach Resources, Inc. - Founder, Chairman & CEO [2]

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Good morning, everyone, and thanks for being on the call today and for your continued interest in Approach. Despite an extremely challenging commodity price environment, we posted positive results for the full year 2018. As you can see on Slide 4, we increased EBITDAX and revenue year-over-year.

Turning to Slides 5 and 8. You'll see that our year-end proved reserve totaled 180.1 million BOEs. Over the last 10 years, we discovered and helped pioneer the largest oil shale play in North America, significantly increased our EURs for horizontal Wolfcamp wells, reduced our drilling completion cost by more than 40%, grew our proved reserve base by over 400% and increased the present value or PV-10 of proved reserves to $1.4 billion in 2014. The value of our assets have been negatively impacted by the most recent sharp downturn in commodity prices. Since 2016, our PV-10 has recovered to $762 million in 2018 from a low of $308 million earlier. This highlights the commodity price impact on our asset value and upside potential associated with our assets when commodity prices do recover.

The extreme Waha natural gas price discount in the Permian Basin has continued to challenge us. We believe this differential will be temporary until additional pipelines are completed. For example, the Gulf Coast Express Pipeline with approximately 2 BCF of takeaway capacity from Permian to Agua Dulce, is scheduled to be in full service at the beginning of the third quarter of this year. As illustrated on Slide 9, the forward curve for Waha differential would be substantially reduced as soon as the Gulf Coast Express Pipeline is in service.

We continue to believe there is significant value in the Southern Midland basin, and we continue to refine our techniques and improve our efficiencies to maximize the value. We are focused on managing the business for a long-term perspective. Considering the current Waha natural gas price discount and oil bulk price volatility, we decided to defer our drilling and completion activities until higher commodity prices and/or lower gas differentials are realized.

As you may recall from previous announcements, Approach is in a unique position in that we HBP the majority of our acreage position, allowing us to be selective with our development and cash deployment, i.e. speed up or slow down as dictated by commodity prices. Another unique attribute of our horizontal production corridor is its low decline rate, which we attribute to our field-wide gas lift system.

Now I would like to discuss the broader strategic goals of the company. We entered this downturn with a debt-to-EBITDAX ratio of 2.1 in 2014. As you can see from Slide 6, our leverage ratio reached to 4.1 in 2015 and 9.7 at the end of 2016 due to the sharp drop in oil, gas and natural gas liquid prices as a result of the March 6, 2016 OCC mandate concerning bank E&P lending as it relates to leveraged loan classification. The OCC new mandate came at a time the energy industry was experiencing one of the worst commodity price collapse not seen since the 1980.

During the same time period, our borrowing base was reduced as a result of the record-low energy prices to $325 million from plus-$400 million. Due to our loan classification, our borrowing base could not move proportionally with improving commodity prices until we reduced our leverage ratio. Since 2016, we've successfully reduced our leverage ratio from 9.7x to 6.6x at year-end 2018 in a challenging environment, but we are still not at the 4x or less than 4x as required by OCC.

Throughout 2018, the company has explored, and in 2019, we continue to explore a variety of deleveraging and other strategic alternatives. In April 2018, our Board of Directors formed a special committee of independent directors to evaluate a potential debt-to-equity exchange transaction with the Wilks Brothers as well as other strategic alternatives. In connection with this process, the committee hired financial and legal advisers to advise on these alternatives. The committee has engaged and continues to engage in discussions with Wilks regarding the exchange transaction. In addition, management has reviewed numerous cash flow-producing properties for potential acquisitions over the last several years to grow our production base and reduce our leverage ratio to a sustainable level and one that is in compliance with the financial covenants.

In early 2018, we retained financial advisers separate from the special committee adviser and began discussions with a potential seller and multiple financing counterparties for the purchase of a set of substantial cash flowing producing properties. Despite a deteriorating commodity price market, discussion with both the seller and financing parties progressed throughout 2018. However, no definite agreement ultimately was executed, and the negotiations currently are not active.

This review conducted by management, our board and the special committee continues. Although we can't guarantee that we find a desirable solution or that the solution will take a particular form, we remain committed to working in the best interest of the company and the stakeholders to further reduce leverage, improve our balance sheet and place our company in the best possible position to thrive as commodity prices recover.

With this, I'll turn the call over to Qingming.

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Qingming Yang, Approach Resources, Inc. - President & COO [3]

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Thanks, Ross, and good morning, everyone. Due to continued commodity prices deterioration and this extreme Waha gas differential in the basin, we deferred third and fourth quarter 2018 drilling and completion activities. In 2018, we focused on executing a disciplined capital budget and managing natural production decline through surface facility optimization, operating efficiencies and investment in well repairs, workovers and maintenance.

During 2018, we drilled 6 and completed 9 horizontal Wolfcamp wells. Of the 9 wells completed, 3 wells were in the A bench, 3 wells were in the B bench and the 3 wells were in the C bench. At December 31, 2018, we had 7 horizontal wells waiting on completion. This, thus, will allow us to budget our capital expenditures in 2019.

Our extensive infrastructure network of centralized production facilities; water transportation, handling and recycling system; gas lift lines; and saltwater disposal wells continue to provide sustainable competitive advantages and environmentally responsible facility operations. In 2018, we maintain an industry-leading average drilling and completion cost of $4.6 million per horizontal well and a lease operating expense of $5.18 per BOE. As commodity prices stabilize and our industry is moving from priority of growing production at any cost to operate within cash flow, we expect and have observed the service cost softening.

Production for 2018 was 4.082 million barrels of oil equivalent, 6% below the midpoint of our initial annual guidance. Full year capital expenditures in 2018 were $46.8 million, 22% below the midpoint of our initial annual guidance.

We continue to refine our completion designs, optimize our productions and increase our operations efficiency. As Ross mentioned earlier, we continue to believe there is significant value in the Southern Midland basin. We continue to work on new completion techniques that, to our knowledge, have never previously been proposed or tested by the industry and, I believe, could positively impact well productivity and recoveries going forward. If successful, we plan to implement the new techniques in the wells we have planned for 2019.

Now I will turn the call over to Sergei to go over financial results.

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Sergei Krylov, Approach Resources, Inc. - Executive VP& CFO [4]

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Thanks, Qingming. Due to the sharp decline in commodity prices in the fourth quarter, we focused on reducing our cash operating expenses and conserving capital. In the fourth quarter, our cash operating costs were $8.85 per BOE, which was a 28% decrease compared to the prior quarter. This focus on cost control resulted in an increase in our unhedged cash margin per BOE of 16% year-over-year.

Additionally, we significantly reduced our capital spending, incurring $0.2 million of capital expenditures in the fourth quarter. As Ross mentioned, in the fourth quarter, we were adversely impacted by the Waha natural gas price discount, and our realized gas price decreased by 50% quarter-over-quarter. We believe that this discount is temporary and that the Waha Henry Hub differential will normalize later in 2019. However, the Waha discount plus a recent decline in commodity prices has had a negative effect on our leverage and liquidity, which were further discussed in our Form 10-K filed with the SEC yesterday. Slide 13 describes our balance sheet detail, including our credit facility covenants, highlighting the importance of our leverage reduction efforts.

Net income for the quarter was $0.9 million or $0.01 per share. Excluding the increase in the fair value of our commodity derivatives of $10.1 million, adjusted net loss was $6.9 million or $0.07 per diluted share. Lease operating expense for the fourth quarter was $5.21 per BOE. Production and ad valorem taxes were $1.80 per BOE and 7.7% of oil, NGL and gas sales.

Cash, general and administrative expenses per BOE for fourth quarter was $1.84 per BOE. G&A for the quarter was $14.4 million or $14.96 per BOE. As Ross mentioned, we're continuing to focus on strategic alternatives and aligning our capital expenditures with operating cash flow.

Our capital budget is $30 million to $60 million and is dependent on commodity prices. Slide 15, we have provided annual guidance based on annual capital budget of $30 million.

Now I'll turn the call back over to Ross.

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J. Ross Craft, Approach Resources, Inc. - Founder, Chairman & CEO [5]

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Thank you. As always, Qingming and his operational team consistently delivers good results in an efficient manner. We continue to leverage our competitive strength from our large primarily HBP acreage position, our infrastructure investments and our operational control of our assets. We intend to continue to focus on aligning our capital expenditures substantially within operating cash flow. Our special committee, which I noted earlier, has been formed to explore additional strategic and deleveraging alternatives and continues to work with advisers to identify the best path forward for our stakeholders.

In closing, I want to personally thank our management team for their continued dedication to this company, its stakeholders and its employees. That concludes our presentation. Thank you.

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Operator [6]

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Ladies and gentlemen, this concludes today's presentation. You may now disconnect, and have a wonderful day.