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Edited Transcript of ECR earnings conference call or presentation 8-Nov-19 3:00pm GMT

Q3 2019 Montage Resources Corp Earnings Call

State College Nov 14, 2019 (Thomson StreetEvents) -- Edited Transcript of Montage Resources Corp earnings conference call or presentation Friday, November 8, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Douglas A. Kris

Montage Resources Corporation - VP of IR

* John K. Reinhart

Montage Resources Corporation - President, CEO & Director

* Michael L. Hodges

Montage Resources Corporation - Executive VP & CFO

* Oleg E. Tolmachev

Montage Resources Corporation - Executive VP & COO

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Conference Call Participants

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* Arun Jayaram

JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst

* Austin Joseph Aucoin

Johnson Rice & Company, L.L.C., Research Division - Assistant

* Bradley Barrett Heffern

RBC Capital Markets, Research Division - Analyst

* Holly Meredith Barrett Stewart

Scotia Howard Weil, Research Division - Analyst

* Irene Oiyin Haas

Imperial Capital, LLC, Research Division - MD & Senior Research Analyst

* Yevgeniya E. Trotsenko

Stifel, Nicolaus & Company, Incorporated, Research Division - Associate Analyst

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Presentation

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Operator [1]

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Greetings, and welcome to the Montage Resources Third Quarter 2019 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Mr. Douglas Kris, Vice President of Investor Relations for Montage Resources. Thank you. You may begin.

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Douglas A. Kris, Montage Resources Corporation - VP of IR [2]

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Good morning, and thank you for joining us for the Montage Resources Third Quarter 2019 Earnings Conference Call. With me today are John Reinhart, President and Chief Executive Officer; Michael Hodges, Executive Vice President and Chief Financial Officer; Oleg Tolmachev, Executive Vice President and Chief Operating Officer; and Matthew Rucker, Vice President, Resource Planning and Development.

If you have not received a copy of last night's press release regarding our third quarter 2019 operating results, you can find a copy of it on our website at montageresources.com. Today's discussion will highlight the company's operational and financial outperformance in the third quarter.

Before we start our comments, I would like to point out our disclosures regarding cautionary statements in our press release and remind you that during this call, Montage management will make forward-looking statements. Such statements are based on our current judgments regarding factors that will impact the future performance of Montage Resources and are subject to a number of risks and uncertainties, many of which are beyond Montage Resources' control. Actual outcomes and results could materially vary from what is expressed, implied or forecast in such statements. Information concerning these factors can also be found in the company's filings with the SEC. In addition, during this call we do make reference to certain non-GAAP financial measures. Reconciliation to applicable GAAP measures can be found in our earnings release. We expect to file our 10-Q later today, which will be accessible through our website or the SEC's EDGAR system.

I will now turn the call over to John Reinhart, our President and CEO.

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [3]

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Thank you, Doug, and thank you to everyone for listening to our call. I am pleased to provide highlights today on the company's continued outperformance in the third quarter of 2019, which includes production once again exceeding guidance, operating costs below guidance, cycle times outpacing our expectations and capital spending below analysts' consensus expectations. These results continue to demonstrate the operational and commercial expertise at Montage. The combination of our top-tier execution capabilities, high-quality assets and optimized development plans are key contributors that are facilitating Montage's transition to free cash flow generation in 2020.

During our Analyst Day earlier this year, the team laid out a plan that focused development within the company's core areas, minimize development risk with optimized pad and well designs and significantly reduce cycle times. I am pleased to report that not only have we achieved a 34% reduction year-to-date and are spud to first sales cycle time versus 2018, which is actually above the 2019 business plan because during the third quarter, we were able to deliver approximately 108-day cycle times, which represents a 50% reduction versus 2018 performance.

The quarterly production beat and premium all-in pricing across our diversified products, when coupled with lower per unit cash production costs, delivered cash operating margins that have continued to expand quarter-over-quarter to 51% from 48%, despite the approximate 16% decline in natural gas pricing realized over the same period. We believe the company's cash operating margins are among the best in the Appalachian Basin. The combined organization continues to realize the synergies of bringing together 2 exceptional operational teams, who continue to drive costs lower and efficiencies higher. We expect continued improvement into the future as we pursue additional operating efficiencies, commercial contract renegotiations and service cost reductions that will be incremental to gains realized year-to-date.

The company has delivered on a number of aggressive strategic objectives laid out at our Analyst Day just 8 months ago, all while streamlining the combined organization. We are on track to achieve the approximate $15 million of general and administrative synergies by the end of 2019, which will further enhance corporate returns into the future. Our focus remains on capital discipline, protecting the company's strong balance sheet and liquidity position and achieving our goal of free cash flow generation exiting 2019 and into 2020. The company is on pace to deliver on our stated free cash flow objective, as demonstrated by our surplus EBITDAX in excess of our capital expenditures during the third quarter. Looking forward, our priority in this current commodity price environment will be to deploy future cash flow generation toward balance sheet enhancing debt reduction rather than acceleration of activity beyond single-digit year-on-year growth.

Shifting to third quarter-specific results, the company's average daily production was approximately 622 million cubic feet equivalent per day, which exceeded the top end of our quarterly guidance range of 615 million cubic feet equivalent per day as well as analyst consensus expectations. Given these recent production results, continued strong well performance and capital efficiencies, the company realized an increase in the borrowing base during the third quarter of approximately 25% or $100 million, providing liquidity of approximately $355 million at the quarter close, which further enhances our financial position.

Production costs during the quarter were $1.23 per million cubic feet equivalent, which beat the midpoint of our quarterly guidance range by approximately 9%. We continue to work with all of our providers to leverage our activity and enhance value through our commercial agreements. The company's total revenue was $163 million for the quarter, a 25% increase over the third quarter of 2018, which reflects the ongoing strategic decision to focus activity on our substantial inventory of liquids-rich acreage. Oil production accounted for approximately 28% of our revenue for the third quarter 2019, which was an increase of approximately 8% from the previous quarter, primarily driven by continued focus on the highly advantaged stacked pay Marcellus acreage that provides the highest returns within the company's inventory. These results contributed to the company, delivering an adjusted EBITDAX of $83.6 million for the quarter. The condensate production continues to differentiate Montage from other Appalachian peers, leading to one of the highest all in realized pricing in the basin and continues to provide superior cash operating margins when compared to the company's much larger basin peers. The disciplined capital program that is being deployed continues to be optimized with over 95% of the spend focused on developments, drilling and completions activities. The minimal amount of required land capital moving forward reflects the high percentage of acreage currently held by production or under long-term lease in the company's inventory with any spend focused on near-term development. The capital program numbers also reflect the pace and cadence of the execution team's successes with cost and cycle time improvements through the third quarter of 2019. The company remains confident in its expected capital expenditures for 2019 since reducing it by approximately $30 million in July, and will remain focused on delivering superior results within our 2019 capital guidance range of $345 million to $370 million.

During the third quarter of 2019, the company drilled 4 gross wells, which were predominantly focused in the dry gas area of our acreage. On the completion side, 7 gross wells were completed, which included 3 Marcellus, 4 Utica Dry Gas wells in the quarter. The execution team has been able to perform at a high level of efficiency by meaningfully reducing downtime between stages that facilitated an average of approximately 9 stages pumped per day during the quarter. When combining the completion efficiencies with the optimization of facilities build-out, significant improvements to turn-in-line timing and quicker cash flow generation in the quarter were realized. During the quarter, we also turned to sales 16 gross wells, which included 5 Utica Dry Gas wells, 4 Utica Condensate wells and 7 Marcellus wells. Included in these numbers were the 7 Marcellus wells that were drilled on existing Utica pads, which further improves our cost structure and rates of returns. We continue to be encouraged by the well results in this area, which are producing condensate yields above our type curve expectations. These highly economic liquids-rich Marcellus wells in Ohio highlight the development advantage of our core stacked pay area in Ohio, which we believe will provide a valuation uplift once the quality of the assets are fully appreciated.

Finally, I'd like to briefly highlight the shift post-merger to pressure managed flowback methods for our dry gas pads. Montage has turned to sales 4 Utica Dry Gas pads since the completion of the merger and in this short time period, significant positive effects on the pressure drawdown and improved well productivity have both been observed. We believe this will ultimately lead to improved EURs and improved capital efficiencies relating to rightsizing the production facilities and compression. Note that this method has been executed while exceeding corporate production above expectations throughout 2019, while providing lower well and corporate decline rates moving forward into 2020.

Regarding our 2020 go-forward plan, we intend to announce our formal capital budget during the late January, early February time frame. As we have previously highlighted, we are committed to maintaining a disciplined approach to growth with a focus on generating free cash flow and protecting the balance sheet with the 2020 program. Given the current commodity price environment, we would anticipate running 1 gross operated rig, which will calibrate to approximately $215 million or less of total capital spending, with the activity predominantly focused on the highest returning liquids area of our acreage and providing between 20 to 24 gross wells turned to sales. Again, it has been an outstanding quarter for the company, and we look forward to continued great results as we deliver on the remainder of our 2019 plan.

With that, I'll turn the call over to Michael.

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [4]

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Thanks, John. During the third quarter, the company continued to achieve strong results in almost every area of the business. Adjusted revenue for the third quarter was approximately $165 million and adjusted EBITDAX was approximately $84 million, both of which were above the previous year's quarterly results and were above the second quarter 2019 results by 13% and 18%, respectively. Said another way, the third quarter of 2019 demonstrated the power of Montage's business to deliver quarterly sequential EBITDAX growth, despite the significant headwinds of weak commodity prices. As Montage's EBITDAX has grown in 2019 and capital efficiencies have taken hold, our path to generating free cash flow is becoming clear, as demonstrated by our third quarter EBITDAX exceeding capital expenditures by more than $18 million and allowing Montage to be nearly cash flow positive in the third quarter. Despite vastly different commodity prices than what was projected at our Analyst Day in March, Montage has remained resolute in our commitment to exit 2019, having reached cash flow neutrality, and we believe we are well positioned to deliver free cash flow at current strip prices and with our existing hedge position in 2020. During the third quarter, our all-in realized price was $2.88 per Mcfe, including the impact of cash-settled derivatives and excluding firm transportation. This top-tier all-in pricing was driven by our continued activity from the liquids-rich areas of our acreage with approximately 28% of the revenue stream during the third quarter coming from condensate sales. You may recall that we highlighted our leverage to oil prices on our second quarter call, and we are continuing to reap the benefits of our unique exposure to condensate as our third quarter daily condensate production increased 59% over the second quarter of 2019. For in-basin gas pricing, our ability to sell commitment-free natural gas into underutilized firm transportation assets owned by others at prices which were at a premium to in-basin benchmarks has continued to be a value-add during the quarter. This strategic advantage, which we believe is a differentiator of Montage compared to its disadvantaged peers is likely to continue going forward for multiple years as some of these peers are along significant amounts of expensive long-haul pipe with little or no indication in the Appalachian basis markets of future pipeline constraint. This is something we will look to leverage further in our as-forecasted activity levels in the basins slow materially, and we consider all options available to us to achieve the highest possible realization. As the company has brought wells online and marketed production has grown, we have quickly grown marketed production well beyond firm transportation under contract, and we are selling incremental production in-basin at a premium. On the liquid side, we realized a $14.42 per barrel NGL price, equating to 26% of WTI, excluding cash settled derivatives, which was 1% below our quarterly guidance range due to the continued weakness in demand for NGLs, while the market waits for additional export capacity to come online over the next year.

Our Mariner East 2 pricing, coupled with the production sales volumes that are sold at Mont Belvieu prices and without ethane recovery, should allow us to realize better overall NGL economics going forward, and we are looking forward to the opportunity to sell our recovered ethane at gas pricing in the near future, once the Shell cracker comes online in the next year or so. Despite the recent market dynamics and the continued decoupling between oil and NGL prices, we have maintained our NGL guidance range as a percent of WTI for the full year and remain confident in our ability to be within that range.

Our realized oil pricing during the third quarter of $49.09 per barrel implies a negative $7.25 differential to WTI, which is inclusive of all transportation expenses but excludes cash settled derivatives and fell at the midpoint of our guidance range. Given some recent weakness in demand for local condensate, we have slightly widened our full year 2019 guidance by $0.25. As our activity continues in the more liquids-rich portions of our acreage, which provides us with peer-leading margins and significantly differentiates us from other Appalachian peers, we believe we are uniquely positioned among our peers to benefit from any potential strength in WTI prices. Our per unit cash production costs for the third quarter were $1.23 per Mcfe, which included approximately $0.32 per Mcfe in firm transportation expenses and are amongst some of the best in the basin on a comparative basis, despite other producers having a significantly larger production base to spread fixed costs across. While we continue to exploit our operational efficiencies, our commitment life firm transportation portfolio and the growth in our production base should lead to our cash production costs continuing to trend lower. Our per unit cash production cost for the third quarter includes a $0.04 per Mcfe benefit related to the refund of production taxes paid in prior years. As part of this favorable outcome, we have also included a slight increase to our forecasted 2019 G&A expenses related to consulting fees, which were incurred to help achieve this positive outcome for Montage. For the third quarter, our $65.4 million of capital expenditures consisted predominantly of $63.6 million of drilling and completion capital, $1.4 million in land-related capital and $0.4 million in corporate-related capital expenditures. As was previously laid out, the trajectory of the drilling and completion capital cost as it relates to our full year 2019 capital budget was weighted to the front half of the year, with approximately 60% of the capital expenditures for the year to occur during the first 2 quarters, and we anticipate the fourth quarter to be at a similar range of the third quarter, allowing us to fall comfortably within our full year capital expenditure guidance.

Turning to the balance sheet. Our strong operating performance and EBITDAX allowed us to end the third quarter at a debt to pro forma LTM EBITDAX ratio of 1.7x, which is more than half a turn of leverage better than the average of our larger Appalachian peers. As John mentioned previously, we were successful in increasing our liquidity by more than $100 million during the quarter and exited with $355 million of liquidity, more than sufficient to fund any needs we might have for the foreseeable future. The 25% increase in our borrowing base in the midst of a challenging bank market further highlights the strength of our asset base, the ability of management to convert capital to valuable production and the confidence of our bank group in our ability to expand the company's cash flow generation. We appreciate the support of our bank group during the fall redetermination process and believe that their vote of confidence in Montage is significant given the challenges many others are facing. In addition with the team's outstanding operational performance this quarter and strong financial results, we were able to end the third quarter with no incremental borrowings on the revolver as compared to the second quarter of 2019 and more than -- approximately 70% of the borrowing base available to us, if needed. Lastly, while many others in the basin have recently come under the scrutiny of the credit rating agencies and have received downgrades in the current commodity price environment, Montage's credit ratings remain unchanged due to our conservative financial position and our outlook for free cash flow generation in 2020.

Moving to our hedge position. Since our last quarterly update, we took advantage of the recent market strength in natural gas prices and oil prices to add to both our 2019 and 2020 positions, while beginning to layer in 2021 protection. Our fourth quarter 2019 hedge position currently stands at approximately 65% of projected natural gas production at $2.73, and we have hedged approximately 275,000 MMbtu per day at an average floor price of $2.64 for 2020 as we look to protect our cash flows moving forward. On the oil side, we have approximately 4,000 barrels per day hedged for 2020 at an average floor price of $57.13 per barrel. Keep in mind that almost 40% of our 2019 revenues are expected to come from liquids production. And as we expect to continue to increase our leverage to NGLs and condensate in the future, we will remain opportunistic with our hedging strategy to take advantage of pricing momentum and utilize various types of hedging structures to further enhance our hedge book.

Lastly, I thought it was worth taking a minute to recap the financial successes of 2019 since the creation of Montage Resources in late February. You know with 7 months since closing the merger, Montage has increased its full year 2019 production guidance by 7% at the midpoint, decreased its cash production cost guidance by 17% at the midpoint, decreased our capital expenditure guidance by 8% at the midpoint and increased our borrowing base under the revolving credit facility by 33%, all while navigating a commodity price environment that is much different than what was expected when the merger was consummated. In other words, we have been able to deliver more, while spending less and while enhancing financial flexibility, despite a difficult commodity tape. There is no doubt, it has been a great start for Montage in 2019.

On that note, John will wrap up the prepared remarks.

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [5]

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Thank you, Michael. Our strong third quarter performance demonstrates our focus on strengthening operations and further positions Montage for increased efficiency, free cash flow generation and shareholder value creation throughout the year-end and into the future. Based upon Wednesday's closing price on an enterprise value to EBITDAX metric, we trade at approximately 50% discount to our Appalachian peers and our small-cap E&P peers, despite having one of the lowest leverage ratios among both peer groups at 1.7x net debt to pro forma LTM EBITDA, no near-term debt maturity, ample liquidity, peer-leading operating cash margins, continuously improving capital efficiencies and a business that is transitioning to cash flow generation. While we fully recognize that the natural gas macro environment has been challenging, and investor sentiment has been weak, we believe that Montage's current valuation possesses substantial upside, especially in light of our strong results and demonstrated management credibility. We're proud of the progress we have made in such a short period of time since the consummation of the merger, and we're looking forward to continued success in the future.

We thank everyone for joining us today. This concludes our prepared remarks. Operator, please open the line for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Arun Jayaram with JPMorgan.

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Arun Jayaram, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [2]

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I wanted to ask you a little bit about your preliminary thoughts on 2020. From your prepared comments, it sounds like you'll be running one rig line $215 million in CapEx. Is that an all-in CapEx number or is that just D&C?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [3]

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Yes, thanks for the question and for joining us. Yes, that $250 million less capital number is an all-in capital, which includes drilling and completions and any land spend or other capital for the year.

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Arun Jayaram, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [4]

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Great. And then I think you also mentioned you believe that could provide -- is that single-digit growth? And I wanted to ask you about how you'd expect your commodity mix to shift next year versus what you did in 3Q with a little bit more of that condensate mix?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [5]

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No, it's great question. I think whenever we think about a 1-rig program with our base decline, that's going to deliver single-digit growth for us with the well mix that we're contemplating. And that well mix to your question is going to be geared predominantly towards liquids. And within our liquids portfolio, it's going to be geared predominantly towards the Marcellus because it's the highest generating returns in the company with a stacked base potential. So you can think about it as the majority of liquids, specifically Marcellus and in the remainder being dry gas in Ohio, Utica.

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Arun Jayaram, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [6]

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Great. And my final question would be just on the cost structure, you guys came in quite a bit below our number for 3Q, thoughts on the sustainability of your per unit cost structure as you move into 2020?

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Operator [7]

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Ladies and gentleman, please standby, we're experiencing some typical difficulties.

(technical difficulty)

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Arun Jayaram, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [8]

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Gents, were you able to hear my question?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [9]

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I did. Sorry. What I'll do is, I believe we left off with the cost.

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Arun Jayaram, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [10]

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Yes, I just wanted to see if you could talk about your expectations for your per unit cost structure as we moved into 2020.

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [11]

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Yes. The great thing about some of the improvements that we've made, it's generally related to efficiencies. So these are long-lived, long-standing cost reductions on a per foot basis. And that's what's pretty exciting for us. So if you look at the progress we've made from '18 to '19 at about 10% reduction in a per foot, per lateral basis, we view there's continued opportunities moving into '20, around that 3% to 5% is how we conservatively would look at it now. And again, leads to more long-lived type cost reductions that we certainly foresee moving through 2020 and beyond.

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Arun Jayaram, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [12]

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Great.

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [13]

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And maybe on the operating cost side, just to give a little bit of guidance there. I think we've moved the year-to-date number down to $1.30 to $1.35. I think as we go out into 2020, we would expect to bias that at or below that number. Certainly, the third quarter was especially good for us, given a couple of the onetime items that we talked about on the call, but I think as we go out, and we continue to scale up the business, we should see that number at or below the full year guidance for 2019.

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Operator [14]

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Our next question comes from the line of Brad Heffern with RBC Capital Markets.

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Bradley Barrett Heffern, RBC Capital Markets, Research Division - Analyst [15]

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Just a point of clarification on the 2020 commentary that you gave. For the single-digit growth, are you talking about versus the full year '19? And then on top of that, are you talking about the full year '19 if the merger had happened for the whole year or based on missing that two months?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [16]

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Yes, this is Michael, I'll take the first shot, and John can certainly jump in. I think when we reference single-digit growth, we're really looking at GAAP numbers for 2018 versus -- for 2019 versus GAAP numbers for 2020. So that would be 10 months of activity post-merger with the 2 months of activity pre-merger. And we'll likely deliver, as John mentioned earlier on the call, somewhere in that, call it, 1% to 10% production growth for next year.

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Bradley Barrett Heffern, RBC Capital Markets, Research Division - Analyst [17]

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Okay, got it. And then you mentioned base decline earlier in the call. I was just wondering, if you could give some sort of estimate as to where the base decline is right now? And maybe any thoughts about maintenance CapEx?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [18]

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Yes, sure. We've actually addressed this in some previous notes and what we look at for 2020 is a range somewhere in that 35% to 40% type range for base decline. And if you think about that from the maintenance capital and just remember, there's a lot of ways to look at maintenance capital. But from a production standpoint, depending on what well mix you use, it's generally that $200 million or slightly less number that provides you that maintenance capital. And again remember that flexes depending on how much gas you drill and how much oil from a production standpoint. But those are good numbers.

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Operator [19]

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Our next question comes from the line of Dun McIntosh with Johnson Rice.

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Austin Joseph Aucoin, Johnson Rice & Company, L.L.C., Research Division - Assistant [20]

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This is actually Austin, Dun's associate. I just want to say, great quarter. And my question is, what are some of the steps you all are taking to drive the efficiencies higher this year? And also, how much of your cost reduction is attributed to service cost deflation? And how much is related to measures taken on mills earn-in?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [21]

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No, it's a great question, Austin. I can -- I'll let John in, if he has more to add. But as we look at how we've achieved some of these reductions, you can summarize it, first of all, with giving yourself a plan that drills into core and derisks some of the operating risk and production risks, meaning very reasonable type lateral lengths in that 12,000 to 14,000 feet. Core areas that we know fairly well, any kind of subsurface challenges that we might face. Secondly, it's about vendor selection. We're very selective with regards to picking the right vendors because obviously, uptime and run times with our service providers is a real key for that. But what I'll tell you is, generally the focus is to minimize flat times. So the teams are just very efficient from a drilling perspective, going from one phase of the well to the next, mobilizing from well-to-well on a pad. And on the stimulation side, we've performed consistently at 9 stages per day over the past quarters. That's, by the way, peer leading up in the Appalachian basin and maybe in many different basins. And it's really about, again, shaving out downtime, making sure that your logistics are running like a true machine, making sure you have enough sand and water, and quite frankly, your roads can sustain that. So I'd like to tell you, it's a lot of wizardry, there is some technology to it, but quite frankly, it's just good old-fashioned management, downtime management and vendor selection, and just having a really prudent plan the guys can operate it on.

I'll say, lastly with regards to how long these service costs -- we can kind of think about how long-lived they are. The vast majority of these are efficiency gains. While we have seen some service cost reductions, generally speaking, the teams get very premium or actually low service costs because of the efficiencies that we run. So there is a piece of that, that goes into our overall reduction. But I would say the vast majority of these are long-lived efficiency type gains with regards to cycle times overall. So we're pretty pleased with the progress, and we're very pleased with the results year-to-date and looking forward to driving those costs down another 3% to 5% as we move forward in 2020.

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Austin Joseph Aucoin, Johnson Rice & Company, L.L.C., Research Division - Assistant [22]

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And then as a follow-up. How much further are you all expecting to drive -- I guess you just said 3% to 5% next year?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [23]

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Yes, 3 -- that's correct, 3% to 5% is kind of what we view as a very manageable movement into 2020.

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Austin Joseph Aucoin, Johnson Rice & Company, L.L.C., Research Division - Assistant [24]

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And then I guess, the last question would be, in-basin pricing on gas and NGLs, they seem to be wider in 4Q. Do you all expect that to revert back to a more normalized differential next year?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [25]

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Yes, this is Michael. So as you're likely aware, there was some widening in the local basis, kind of, call it, late September and into October, there was some maintenance over at Cove Point, and then just kind of the seasonal demand in the area during that time period, typically causes basis to widen out anyway. But a lot of that's come back in. I think I looked this morning, basis is back to what I would call a more seasonal $0.50 range in the Northeast. And so I think as we look out into 2020, barring what I would consider some one-off events like the maintenance that we saw in October, I would expect basis markets to be pretty favorable going into next year.

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Operator [26]

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Our next question comes from the line of Irene Haas with Imperial Capital.

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Irene Oiyin Haas, Imperial Capital, LLC, Research Division - MD & Senior Research Analyst [27]

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Hello? Hello? Do you hear me okay?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [28]

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Yes. We can hear you.

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Irene Oiyin Haas, Imperial Capital, LLC, Research Division - MD & Senior Research Analyst [29]

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Okay, great. I'm sorry. Just on NGL pricing, we've just been looking at your competitors in DJ Basin at Permian. And maybe could you explain a little bit on structurally how Montage is more advantaged versus these other basins?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [30]

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Yes, this is Michael. It's a great question. So I think our NGLs are still holding in a couple of different ways. We have space on Mariner East 2, which one of our competitors I noticed extremely bullish on the outlook for the Asia Far East Index pricing that we receive and moving our NGLs over to markets so it can end potentially out on to the water. So we think we're pretty uniquely positioned where we're at in order to access those markets. And as you go out, those could potentially be a premium location for NGLs. The other thing that we have that we talk quite a bit about but it is important to emphasize is just our ability to reject ethane. So a number of our barrels are processed by one of our midstream providers, where we have a unique arrangement and don't have to recover any of the ethane. As you know, ethane prices are pretty poor. And so when you mix that component of C2 into the NGL barrel, you're going to get a lower realized price. And so the ability to reject that in gas pricing by leaving it in the gas stream gives us a better uplift than many of our peers. So I can't speak specifically for the guys in the DJ or the Permian but we feel like for the guys in the Appalachian Basin that our exposure on the NGL side is as good as any that we're aware of.

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Irene Oiyin Haas, Imperial Capital, LLC, Research Division - MD & Senior Research Analyst [31]

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And may I have a follow-up. So when the Shell cracker comes on, what kind of pricing you expect to get for your ethane locally?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [32]

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Yes, it's a great question. We'll be talking more about that as we get closer to that timing. We think that's about a year off for us. But the ethane that we do recover in the basin is actually dedicated to Shell and that cracker. And that net pricing will all be based on gas prices, local gas prices. So given where current NGLs trade and comparing that over to what a gas price looks like, there'll be a significant uplift to us on our gas prices, -- or, I'm sorry, on our NGL prices once we're able to do that. So we'll talk more about that in 2020 as we have a clear line of sight to the timing on that, but it is something that we expect to be accretive on the NGL realizations later in the year.

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Operator [33]

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Our next question comes from the line of Holly Stewart with Scotia Howard Weil.

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Holly Meredith Barrett Stewart, Scotia Howard Weil, Research Division - Analyst [34]

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Maybe the first one either, I guess, for Michael or Oleg. Just on your drilling commitments, just to hold -- to hold your leaseholds? Can you give those for -- maybe for 2020 and 2021?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [35]

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Yes, I'll take the first shot, Oleg can certainly jump in. I think as we look at our development plan for next year, our drilling is really mostly on Marcellus pads, as John mentioned earlier, where we've already -- a lot of those have already got Utica locations. So it's really not an HBP drilling program. I think in our public materials, we say we're about 75% held off from a land position and to be quite honest, we're really not chasing any of that acreage that's not held. If it's in our near-term development plan then we drill on it, and if it's not, then we don't. And so we feel really good about the land position we have, and we're able to move between locations and between windows in our inventory with kind of a focus on economics rather than trying to capture land. So I would say that anything that's not held already is certainly not something that we're going to chase after.

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Oleg E. Tolmachev, Montage Resources Corporation - Executive VP & COO [36]

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And Holly, in terms of contractual commitments for the rig, whenever we dropped our second rig in July of this year, we rolled the balance of the contract to our existing rig contracts. So essentially, that means that the contract is in -- the terms of the contract is through approximately the middle of next year. And so those are very short-term commitments, and we don't have any more commitments on completions or any drilling for the clients.

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Holly Meredith Barrett Stewart, Scotia Howard Weil, Research Division - Analyst [37]

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Okay. So your completion contracts are spot then?

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Oleg E. Tolmachev, Montage Resources Corporation - Executive VP & COO [38]

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Yes, we just get dedicated frac pricing from our provider of choice. Right now, really there's not really a market for any kind of committed or take-or-pay type structures on the completion side.

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Holly Meredith Barrett Stewart, Scotia Howard Weil, Research Division - Analyst [39]

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Sure. Okay, great. And then maybe just more of a macro-driven question for John. I mean, Montage has obviously participated in the M&A landscape and shown some great success in its integration. So with that in mind, how do you see the consolidation landscape sort of developing in the basin over the next few years?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [40]

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Yes, Holly, it's a great question. I think is -- if you look at generally the equity markets and more importantly the debt markets, we kind of know the situation there with regards to the funds, at least short-term, drying up a bit. And I think whenever you take a look at that from a macro perspective. And then you just look at the value that you enhance fundamentally to any company, whenever you have a merger with regards to scale and what that brings you, it's pretty substantial. So our belief, at least my belief is, as we continue to navigate this probably a little bit lower than normal commodity price environment throughout the next 6 months to 12 months, short term, that those 2 factors are going to continue to be in play. And we fully expect that with the scale and the debt markets being where they are, there's a good opportunity for companies to look for ways to increase values for their shareholders overall. So our personal take is that discussions will continue, and there'll certainly be some opportunities down the road for those to happen. I'll just leave you to that point by saying, our strategy that necessarily doesn't change the way we look at the world, we're a pretty conservative group. We like to run this business to be very flexible and nimble. So as we step back, and we take a look at how Montage could play into that world, we're sitting on a gross operated production, to Michael's point earlier, that's about 50% above our commitments. So that put us in a very advantageous position to have excess cash that potentially could be used elsewhere. And quite frankly, with a business with a low leverage ratio and starting to actually spit out some cash, we like where we stand with regards to the company's financial health. And that certainly is going to lead us to be in a vantage position as we move forward with anything that might be assessed for M&A.

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Operator [41]

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(Operator Instructions) Our next question comes from the line of Jane Trotsenko with Stifel.

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Yevgeniya E. Trotsenko, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate Analyst [42]

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So my first question is on 2020, and you mentioned that you're going to drill 20 to 24 gross wells. So I'm curious if you could give us an idea how many net wells that's going to translate into -- or maybe like an average working interest for the next year?

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [43]

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Yes, Jane, this is John. What I can tell you is what we quoted was that 20 to 2040 -- 20 to 24 gross turned to sales. So you can think about that number with the majority. I really wouldn't want to peg a specific percentage on how much liquids to dry gas. But I would say that the majority would be Marcellus driven, with the remainder likely being Utica Dry Gas.

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Yevgeniya E. Trotsenko, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate Analyst [44]

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Can you give us...

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [45]

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With regards to working interest, yes, so I would probably peg that number at about 75% to 80%. We're really -- kind of we work through all this equal kind of JV, we're drilling very high working interest, equity wells now. That's really kind of -- with this operation success, the low cost and quite frankly, our cost structure overall, we get the best returns. So you can use that -- that's probably 70% to 80%, is a good number with the midpoint, about 75% working interest.

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Yevgeniya E. Trotsenko, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate Analyst [46]

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That's perfect. My second question maybe for Oleg. If you could talk about maybe around well performance that has driven such a strong production that you guys have been beating on production for several quarters in a row.

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Oleg E. Tolmachev, Montage Resources Corporation - Executive VP & COO [47]

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Yes. So really the production beat comes from 2 major components. One is well performance, and one is accelerating terms of sales. And I think where we have made more significant strides, I mean, really the well performance is very well understood and there's really not a lot of variations to the forecast, especially in the sense that we are conservatively choke managing those wells, especially dry gas wells. So essentially, they come in at 22 million, 24 million per day on average, and they're flat for many months. But where we are making significant strides in production bids is, this year, we've been able to put our path to sales, generally speaking, 20 to 30 days ahead of expected or budget in terms of sales dates and that's just driven primarily by cycle time compression on the drilling side and mostly on the completion side at facility installed. And so whenever you think of a $70 million or $80 million per day net pad hitting return to sales a month earlier, that really has created a very significant bump in your production profile, and that's what you would see translating into production beats.

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Yevgeniya E. Trotsenko, Stifel, Nicolaus & Company, Incorporated, Research Division - Associate Analyst [48]

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That's very helpful. The last question, if I may. If you can comment -- you provided a little bit of color on cost structure in 2020. I'm just curious, if there are any opportunities to further reduce gathering and processing fees? And maybe some color on G&A expense as well for 2020?

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Michael L. Hodges, Montage Resources Corporation - Executive VP & CFO [49]

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Yes, this is Michael. I'll certainly take a shot at that one, Jane. I think for 2020 on the operating expense side, I think I mentioned a little bit earlier on the call that we think we can achieve the same type of expense that we exit 2019 with or actually a little bit lower. So again, the scale of the business is going to continue to help us there. We did announce in the last quarter a new processing agreement, and we are still working on similar types of arrangements with some of our midstream and downstream providers. We're working on opportunities to flex some of the terms. It's advantageous to both sides that could actually provide us with some additional savings. So nothing to announce on this call related to that. But it is something that we're optimistic about, and that would certainly be in addition to any savings that we would see next year on a per unit basis from just scaling up. So I think we're optimistic that we can achieve some downward movement on the number, but we'll continue to evaluate it and certainly include that in our full year guidance.

On the G&A side, I think John may have mentioned earlier, I mean we're really pleased with what we've done this year. We set out to achieve $15 million of G&A synergies for the year, it looks like as we end 2019, we actually might be a little bit ahead of that. So as we go into 2020, we're always evaluating ways that we can be more efficient. Certainly in this environment, that's important as we transition to free cash flow here in the fourth quarter and in 2020. It's something we're focused on pretty acutely. So as far as what next year will look like, I think there could be some opportunity. But again, we're still going through that budget process, and we'll have clearer guidance on what 2020 G&A will look like in that late January, February time frame.

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Operator [50]

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Ladies and gentlemen, that concludes our question-and-answer session. I'll turn the floor back to Mr. Reinhart for any final comments.

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John K. Reinhart, Montage Resources Corporation - President, CEO & Director [51]

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I appreciate everybody's participation on the call today. It's been a great quarter, and we look forward to sharing the fourth quarter results with you in the upcoming call. Have a great day. Thanks.

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Operator [52]

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This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.