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Edited Transcript of VNOM earnings conference call or presentation 5-May-20 3:00pm GMT

Q1 2020 Viper Energy Partners LP Earnings Call

Midland May 15, 2020 (Thomson StreetEvents) -- Edited Transcript of Viper Energy Partners LP earnings conference call or presentation Tuesday, May 5, 2020 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Adam T. Lawlis

Viper Energy Partners LP - VP of IR of Viper Energy Partners GP LLC

* Matthew Kaes Van’t Hof

Viper Energy Partners LP - President of Viper Energy Partners GP LLC

* Travis D. Stice

Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC

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Conference Call Participants

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* Brian Arthur Singer

Goldman Sachs Group Inc., Research Division - MD & Senior Equity Research Analyst

* Brian Kevin Downey

Citigroup Inc, Research Division - Director

* Derrick Lee Whitfield

Stifel, Nicolaus & Company, Incorporated, Research Division - MD of E&P and Senior Analyst

* Gail Amanda Nicholson Dodds

Stephens Inc., Research Division - MD & Analyst

* Jason Andrew Wangler

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

* Jeffrey Scott Grampp

Northland Capital Markets, Research Division - MD & Senior Research Analyst

* Leo Paul Mariani

KeyBanc Capital Markets Inc., Research Division - Analyst

* Pearce Wheless Hammond

Piper Sandler & Co., Research Division - Research Analyst

* Welles Westfeldt Fitzpatrick

SunTrust Robinson Humphrey, Inc., Research Division - Analyst

* William Seabury Thompson

Barclays Bank PLC, Research Division - Research Analyst

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Viper Energy Partners First Quarter 2020 Earnings Conference Call. (Operator Instructions)

I would now like to introduce your host for today's conference, Adam Lawlis, Vice President, Investor Relations. You may begin.

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Adam T. Lawlis, Viper Energy Partners LP - VP of IR of Viper Energy Partners GP LLC [2]

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Thank you, Lisa. Good morning, and welcome to Viper Energy Partners' First Quarter 2020 Conference Call.

During our call today, we will reference an updated investor presentation, which can be found on Viper's website. Representing Viper today are Travis Stice, CEO; and Kaes Van't Hof, President.

During this conference call, the participants may make certain forward-looking statements relating to the company's financial condition, results of operations, plans, objectives, future performance and businesses. We caution you that actual results could differ materially from those that are indicated in these forward-looking statements due to a variety of factors. Information concerning these factors can be found in the company's filings with the SEC.

In addition, we'll make reference to certain non-GAAP measures. The reconciliations with the appropriate GAAP measures can be found in our earnings release issued yesterday afternoon.

I'll now turn the call over to Travis Stice.

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Travis D. Stice, Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC [3]

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Thank you, Adam. Welcome, everyone, and thank you for listening to Viper Energy Partners' First Quarter 2020 Conference Call.

Before we get started, I'd like to take a minute to extend our thoughts and prayers to all those affected by the COVID-19 pandemic. The challenges presented so far in 2020 are unprecedented, but our perseverance is evident in the decisive actions we've taken to preserve our strength through this cycle.

Turning to the quarter. Viper grew oil production 6% sequentially and 37% year-over-year. This solid production performance along with oil realizations of 99% of WTI, unfortunately, has been overshadowed by the dramatic decline in commodity prices that began in March and has continued through today.

Viper took action and hedged almost 100% of the expected 2020 oil production and over 50% of the expected '21 -- 2021 production in the form of WTI collars and putting a floor under entry oil price realizations and cash flow.

The advantaged business model of Viper as a royalty company is highlighted during these times of depressed commodity prices in that our high cash margins, low capital requirements and limited operational costs drive continuous free cash flow generation through the cycle. To that end, even at current strip pricing, Viper is expected to generate an over 10% free cash flow yield assuming for those unit prices.

As it relates to the free cash flow from the first quarter of 2020, we have made the decision to retain 75% of that cash flow to fortify the balance sheet. The Board intends to review the distribution policy each quarter, but with the uncertainty in the forward activity outlook and strip pricing, the prudent decision is to retain a majority of the cash flow to reduce leverage and protect the business.

Viper remains in strong financial shape with $447 million of liquidity after adjusting for the expected reductions in our borrowing base from $775 million to $580 million this spring.

Looking forward, assuming there's a recovery in commodity prices, Diamondback expects to resume completions, operations in the second half of 2020 with a focus on high-interest Viper-owned royalty acreage. Viper's relationship with Diamondback also provides the added advantage of Viper benefiting from Diamondback's firm transportation on the EPIC and Gray Oak pipelines with pricing linked to the more liquid Gulf Coast and export markets and Spanish Trail production linked to MEH pricing.

In conclusion, I want to underscore the fact that mineral ownership remains the safest asset in the oil industry because it's a perpetual real property interest that's a high margin business that requires 0 capital requirements. Within the mineral subsector, Viper is further distinguished due to our relationship with Diamondback as our primary operator. Times like these emphasize that relationship as Diamondback focuses its operations on areas where Viper owns the minerals due to the lower consolidated breakeven economics.

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) Your first question comes from the line of Brian Downey with Citigroup.

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Brian Kevin Downey, Citigroup Inc, Research Division - Director [2]

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I guess my first one is on the distribution policy. Could you provide guideposts on how you're thinking about that payout ratio on a go-forward basis? Understandably, there may be some leverage ratio implications with the senior notes, but how you're thinking about balance sheet goals, whether that's leverage ratio versus absolute leverage? Just trying to think how we should be dimensioning that payout ratio through the rest of the year.

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [3]

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Yes, Brian, that's a good question. We really only have the data that we have in front of us, which is the strip. And we had to make the tough decision based on the first quarter being one of the biggest cash inflows that we're going to have over the next 5 or 6 quarters based on where the strip is today. And that resulted in us cutting the distribution to 25% of available cash.

And I think it's going to be a very fluid process. I can only really use the baseline of 25% for now. But I will say we run sensitivities every quarter with the Board and the Board is going to have to have real conversation about that policy going forward. But I think overall, our best indication is where we are at strip, and if we pay off 25% that's stripped today, we're not messing with our secured leverage covenants at the revolver level.

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Brian Kevin Downey, Citigroup Inc, Research Division - Director [4]

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Got it. And then I guess how should we think about leverage reduction as it pertains to revolver pay down versus opportunistically buying back debt that's available?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [5]

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I think that's the keyword, is opportunistic. We don't have a lot of experience buying back bonds in the open market. It seems like our bonds trade a little bit, but not much. It's certainly -- probably going to be a combination of both parked in cash and paying down the revolver and using the opportunity to buy back debt below par if the bonds are still trading below par.

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Operator [6]

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Your next question comes from the line of Derrick Whitfield with Stifel.

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Derrick Lee Whitfield, Stifel, Nicolaus & Company, Incorporated, Research Division - MD of E&P and Senior Analyst [7]

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With regard to your 2020 guidance, we're backing into an implied key forward guide that's materially above the Street. Is that a reasonable interpretation based on the expected resumption of Diamondback activity in the second half?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [8]

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Yes, that's the key, right? It's are we getting back to activity? As we said on the Diamondback call, we need to first bring back our curtailed volumes and then get back to work. Now the base case is that that happens. And the way we have it modeled right now, Viper has exposure to about 80% of Diamondback's future completions at about a 7 or more percent interest. So those are some pretty meaningful numbers when you look at Viper's production, and we hope that that's the case. Now if things remain weak and Diamondback doesn't get back to work, then that only pushes that out a quarter or 2.

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Derrick Lee Whitfield, Stifel, Nicolaus & Company, Incorporated, Research Division - MD of E&P and Senior Analyst [9]

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Understood. And as my follow-up, could I ask you to comment on your broader views on the M&A market for the balance of 2020? I suspect the Q1 acquisitions were largely a function of work-in-progress.

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [10]

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Yes, that's correct. I mean we closed everything in the first quarter with all those PFAs that have been signed in November, December and January. And we certainly weren't going to walk on a PFA that we signed and we honored our commitments. But right now, our acquisition machine is silent for the foreseeable future.

Now mineral owners tend to be stickier with respect to perception of value and there's often leverage in the mineral space, so I think it's going to be pretty quiet here for the next couple of quarters.

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Operator [11]

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Your next question comes from the line of Will Thompson with Barclays.

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William Seabury Thompson, Barclays Bank PLC, Research Division - Research Analyst [12]

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Travis or Kaes, I want to get your thoughts on the push-pull dynamics between E&Ps and mineral owners in terms of shut-ins and continuous driven allegations. (inaudible) are relatively modest contaminants, so I think the shut-in aspect is less of an issue for FANG-operated acreage. But maybe for non-op acreage and the modest override royalties that VNOM has, how do you expect the leases to -- do you expect the leases to terminate if you continue shutting production and/or don't activate rig and [frac crude] in the near term while you sit out there?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [13]

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Yes. And I think I can really only speak to the Diamondback's portion of that. We've been very focused at Viper in environmental interest versus overrides, and on top of that, most of our overrides are at the Diamondback level. And I can assure you that we expect to retain all of our production and leases that have a meaningful Viper component to it.

I think as you think about Viper's production, we certainly modeled in some curtailments. I think Viper will be hit a little less than Diamondback from a percentage basis just given the nature of the 2 working together to focus on the higher interest properties staying active.

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William Seabury Thompson, Barclays Bank PLC, Research Division - Research Analyst [14]

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Okay. And then maybe going back to Brian's question. Understanding that covenants restrict VNOM's distributions in the 12-month trailing aspect of debt-to-EBITDAX metric, how do you think about managing the payout ratio as production stabilizes and oil prices improve? Are you comfortable going past 3x leverage temporarily? I appreciate that 3x leverage for VNOM is less cumbersome than 3x leverage for an EP such as Diamondback, so just curious to get your thoughts there.

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [15]

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I think we're fortunate to be -- make distribution decisions halfway through the next quarter. And I think if we're seeing significant improvement in production and pricing, that it's a little easier to lean in and make distributions at a higher leverage ratio. So I think it's all going to be very fluid, but I think overall we're going to be as flexible as possible and recognize that this business model is meant to distribute cash to shareholders, the largest being Diamondback. And that's still our primary objective here at the Viper level.

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Travis D. Stice, Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC [16]

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Yes. Well, I just want to emphasize that. I mean Viper is a yield company with Diamondback being the largest owner of that company. And you can bet that at the Viper level, we're focused on maximizing return of capital to our unitholders. Taking all of these things into consideration, it's still about maximization of that return.

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Operator [17]

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Your next question comes from the line of Brian Singer with Goldman Sachs.

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Brian Arthur Singer, Goldman Sachs Group Inc., Research Division - MD & Senior Equity Research Analyst [18]

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Wanted to follow up on the debt and the covenant piece. Can you -- you mentioned earlier the importance of the secured debt covenant, but can you talk a little bit more about the unsecured covenant and how that will impact -- the 3x would impact the timing of and the consideration for the distribution policy?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [19]

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Yes, Brian. The high yield covenant, the unsecured covenant is simply a restricted payment should you be above 3x leverage. But there are some baskets that you can distribute out of and the biggest being, I think, trailing net income that we can look at. On the secured piece, your revolver is looking at 4x leverage at that covenant, and I think that's -- that goes a little beyond restricting the payment. So that's really the -- the impetus for the decision we've made today is we're not looking to mess with any secured covenants here.

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Brian Arthur Singer, Goldman Sachs Group Inc., Research Division - MD & Senior Equity Research Analyst [20]

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Got it. And then my follow-up is you talked earlier about some of the assumptions that go in from the FANG-operated acreage. What about the -- what you're seeing activity-wise and shut-ins from operators outside FANG? Can you talk about what your base case expectations are for the second and third quarters from a shut-in perspective outside of FANG and then what activity level -- is there anything you can characterize on expectations as you go through the rest of the year?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [21]

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Yes, I can take activity levels first. We're assuming 0 wells get completed on a non-op acreage in the second quarter, with a small return to work in the third quarter. We haven't modeled shut-ins on non-op acreage as shut-ins, but we've been -- we just take a bigger chop through the PDP decline that we're seeing on non-op acreage. So instead of our normal high single-digit percent we're seeing on PDP, it moved closer to high teens or mid-teens percentage we're seeing on the non-op PDP.

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Operator [22]

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Your next question comes from the line of Jeff Grampp with Northland Capital Markets.

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Jeffrey Scott Grampp, Northland Capital Markets, Research Division - MD & Senior Research Analyst [23]

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I was hoping you could maybe speak to longer term and kind of a more normalized, stable commodity price world. Should we think that the payout for Viper moves back to that 100% type of strategy? Or would you guys maybe give some consideration to some sub 100% payout to maybe incrementally pay down more debt or organically fund some acquisitions when that starts ramping back up?

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Travis D. Stice, Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC [24]

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Yes. Sure. Jeff, it's hard to predict what the future looks like. But I can tell you -- I'll just reemphasize a point that I made. The reason Viper's set up is because it's a yield company with Diamondback as its largest shareholder. So you can bet that our singular focus will always be maximizing that return of our capital to the unitholders.

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Jeffrey Scott Grampp, Northland Capital Markets, Research Division - MD & Senior Research Analyst [25]

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Understood. And for my follow-up -- and I think in the slide deck you guys kind of emphasize this some too. It's kind of how the lease works in the Delaware Basin, example. Can you guys kind of talk about what that economic opportunity set is this year? Do you see any opportunities for any kind of lease extension, renewal type of payments flowing through to Viper and any, I guess, kind of high-level characterization of what that economic opportunity could look like for you guys this year?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [26]

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Yes, Jeff. This slide is very important to where we are today, because while we're not acquiring acreage, our team is focused on our highest value tracts and what are the least requirements with respect to continuous development, primary development or cessation of production. So we're really digging into all these leases and making sure we're communicating with the operators on their plans.

And I don't think it's going to be big dollars coming into Viper, but in this market every dollar matters. And I think that's the benefit of being the mineral owner is that the acreage reverts back to you if the operator doesn't meet the obligations of the lease and that's the strongest form of security in the oil field. And if the operator wants to let go of that acreage, we can release it at some point. But most of the discussions we're having right now are about extensions on obligations and extensions on continuous development.

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Operator [27]

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Your next question comes from the line of Gail Nicholson with Stephens.

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Gail Amanda Nicholson Dodds, Stephens Inc., Research Division - MD & Analyst [28]

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Just any thoughts on how we should think about oil price realizations for remainder of the year?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [29]

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Yes. Gail, on the Diamondback-operated side, Viper in Spanish Trail gets the Diamondback deal, which is kind of an MEH less $3, that's about 1/3 of Viper's oil production. The most -- or the rest of Viper's oil production on the Diamondback operated piece will get a Brent less pricing. And there's just so much moving around on that front that in a normal world it would be Brent less 6 or so dollars. But it's probably a little higher today. And then on the rest of the acreage, we get Midland pricing. And that's why we've hedged that exposure and hedged all of our WTI exposure.

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Gail Amanda Nicholson Dodds, Stephens Inc., Research Division - MD & Analyst [30]

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Okay. Great. And then just kind of like a higher-level question. Viper has a durable free cash flow profile and really does provide security in this tumultuous world that we find ourselves in right now. But when you look at today's environment and going forward, what do you think is the biggest challenge for the business?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [31]

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I think the biggest challenges is making sure we're getting paid for what we deserve in getting paid and making sure our operators are honoring these leases. The leasing boom in the Permian of the last 10 years has put some pretty onerous terms into some of these leases and Viper needs to spend a lot of its time making sure those obligations are honored.

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Operator [32]

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Your next question comes from the line of Jason Wangler with Imperial Capital.

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Jason Andrew Wangler, Imperial Capital, LLC, Research Division - MD & Senior Research Analyst [33]

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Kaes, you just had a couple of questions about a precarious -- Slide 7 talks about kind of 2021, being where the theoretical lease expires. Is that mostly kind of where we start to see that happen? Is 2020 kind of more of a year where you're going to see extensions and things, but 2021 is where you may well see more of that opportunity come up for you and for Diamondback?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [34]

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I would say so since we're already so far into 2020. But this was just an illustrative example. I mean I think a lot of leases in the Delaware were taken in the '14, '15 and '16 time frame. And they've either been extended by now or development has already occurred. And the question is how much continuous development is going to continue to occur on those properties.

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Jason Andrew Wangler, Imperial Capital, LLC, Research Division - MD & Senior Research Analyst [35]

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Okay. So it's something to kind of watch for going forward.

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [36]

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Yes, definitely something to watch for. And this -- where our -- our business development meetings used to be about minerals we're looking to acquire. It's now about what are we hearing from our operators and what are the offers on the table for extensions or new leases.

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Operator [37]

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Your next question comes from the line of Leo Mariani with KeyBanc.

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Leo Paul Mariani, KeyBanc Capital Markets Inc., Research Division - Analyst [38]

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On the leverage side here, just wanted to get a sense of whether or not you guys have kind of a leverage target for VNOM? Fully get that it might have grown a little bit more than expected in this unprecedented downturn here. So just kind of wanted to get a sense of what do you guys kind of want to see that kind of debt-to-EBITDA going here maybe in the medium to long term?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [39]

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Yes. I mean I think overall we've tried to be pretty conservative at both the Diamondback, Viper and wrap our levels on a consolidated basis. I think given the weakness in commodity prices, leverage is going to look higher than we've traditionally been comfortable with.

So I think overall, Leo, the business is probably going to have to look at are we at 2x levered at $40 oil or are we at a ton and a half of leverage at $40 oil, because you can enter a year at $60 and be at $20 within 3 months. So I think the volatility of this business is continuing to point towards lower leverage even with a business like Viper that has pure free cash flow.

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Leo Paul Mariani, KeyBanc Capital Markets Inc., Research Division - Analyst [40]

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Now that certainly makes a lot of sense for sure. And I guess just to that end, I know that the distribution policy is clearly an ongoing event. But from a high level, is it kind of fair to maybe think about some of this as when you think you kind of get the leverage a little bit more comfortable, that's when you can kind of play a little bit more offense on the distribution. Is that how investors should think about it?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [41]

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Yes, I think that's fair. I mean just as Travis said, this vehicle is set up to return cash to shareholders and that big shareholders being Diamondback and we intend to get back to that as soon as we can.

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Travis D. Stice, Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC [42]

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Yes, the drive is always maximizing unitholder value. And we'll continue to emphasize that as we talk about distributions.

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Leo Paul Mariani, KeyBanc Capital Markets Inc., Research Division - Analyst [43]

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Got you. Okay. And just a follow-up in terms of an earlier comment you guys made. I just want to make sure I sort of understood. So when you guys are looking at the guide here for VNOM for the rest of the year, I don't know if I heard you correctly, but did you guys say that there was assumption that there were no turn in lines in the second quarter of '20 and those resume in the second half? Just want to make sure I understood that right.

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [44]

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Yes, that's correct.

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Leo Paul Mariani, KeyBanc Capital Markets Inc., Research Division - Analyst [45]

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Okay. And is that on both an operated basis -- in a non-op basis? Or is there not really any line of sight on the non-op right now?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [46]

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On non-op, we're assuming 0. Diamondback -- we're assuming the existing schedule, which Diamondback is not completing a lot of wells in the second quarter.

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Operator [47]

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Your next question comes from the line of Pearce Hammond with Simmons Energy.

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Pearce Wheless Hammond, Piper Sandler & Co., Research Division - Research Analyst [48]

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Kaes, I appreciate that you're not very heavily drawing on your revolver right now. But it definitely seems like the debt market has improved quite a bit with the Federal Reserve, the activity that they're engaged in. And so are you seeing opportunities to maybe go do a debt issuance and then pay down the revolver? And if you did that, would that give you a little bit more flexibility on the distribution?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [49]

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That's a good question, Pearce. Unfortunately, not, because the revolver covenant is based on total debt. So you can't be replacing secured with unsecured debt. And I think Viper's bonds are still trading a little below par and there might be an opportunity to buy back some debt below par here.

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Pearce Wheless Hammond, Piper Sandler & Co., Research Division - Research Analyst [50]

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Okay. And then my follow-up is just a housekeeping. When do you expect to file the 10-Q?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [51]

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End of this week.

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Operator [52]

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(Operator Instructions) Your next question comes from Welles Fitzpatrick with SunTrust.

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Welles Westfeldt Fitzpatrick, SunTrust Robinson Humphrey, Inc., Research Division - Analyst [53]

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Just one quick one from me. I mean I would imagine that most of your leases are pretty ironclad force majeure clauses. But did the shut-ins, do they create any opportunity for incremental leasing revenue either from companies proactively trying to extend those leases that already exist or potentially from broken leases then being able to be re-leased?

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Matthew Kaes Van’t Hof, Viper Energy Partners LP - President of Viper Energy Partners GP LLC [54]

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Yes, the lease would have to be broken and then it really depends on each lease and what the cessation of production clause is in that lease. So it's various forms of cessation of production. And I will say with my Diamondback experience, where we're curtailing volumes, you're not getting close to those cessation of production issues. Now I think if you're forced to shut-in for 2, 3, 4 months consecutively, then you start to have -- start to trip those cessation of production clauses in the leases.

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Travis D. Stice, Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC [55]

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Yes. Welles, I can tell you just from a historical perspective, that's one of the first decision notes that our land organization goes through is cessation of production clauses in all of these leases. And that's standard operating procedure for oil operators. So the only time that would occur would be by omission or by accident from other operators. It's certainly nothing we can plan on.

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Operator [56]

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At this time, there are no further questions. I would like to turn the call back over to Travis Stice, CEO.

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Travis D. Stice, Viper Energy Partners LP - CEO & Director of Viper Energy Partners GP LLC [57]

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Thank you again to everyone participating in today's call. If you've got any questions, please reach out using the contact information provided.

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Operator [58]

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This concludes today's conference. You may now disconnect.