Western Midstream Partners, LP (WES) Q3 2015 Earnings Report, Transcript and Summary

Good day and welcome to the Western Gas Third Quarter 2015 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Benjamin Fink, Senior Vice President, Chief Financial Officer and Treasurer. Please go ahead.

Thank you. Good morning, everyone. And I am glad you could join us today for Western Gas’ third quarter 2015 conference call. I would like to remind you that today’s presentation includes forward-looking statements and certain non-GAAP financial measures. Please be aware that actual results could differ materially from what we discuss today and I would encourage you to read our full disclosure on forward-looking statements and the non-GAAP reconciliations we attached to last night’s earnings release and to the slides that we will reference on this call. With that, I will turn the call over to Don Sinclair. And following his remarks, we’ll open it up for Q&A with Don and the rest of our executive team. Don?

Thanks, Ben. Good morning, everyone and thank you for joining us today. Last night, we announced our third quarter results for 2015. WES increased its distribution to $0.775 per unit in the third quarter, a 15% increase over last year. WGP increased its distribution to $0.3818 per unit, which is a 31% increase over last year. We have a number of recent highlights to discuss with you today, including the continued resiliency of the DJ and Delaware basins announcement of additional growth projects in the Delaware Basin, the raising of the midpoint of our full year adjusted EBITDA guidance, our recent launch of a non-binding open season for the Delaware Basin Express Pipeline, and our intention to extend our fixed price agreements for the DJ Basin Complex in Hugoton system through 2016. Yesterday, we reported adjusted EBITDA of $182.9 million and distributable cash flow of $152.8 million, both of which are in line with our expectations when adjusted for special items, which I will discuss in a moment. Our quarterly coverage ratio of 1.05 times brings our year-to-date distribution coverage to 1.13 times, which is in line with our long-term target. Turning to Slide 5, you will see that the majority of the sequential quarterly EBITDA variance can be attributed to the accounting change we discussed last quarter, our recently closed divestiture and short-term operational outages that occurred within the quarter. First, as we discussed last quarter, we are now accounting for the above market component of the DJ Basin fixed price agreements as a capital contribution as opposed to revenue. As you can see on the slide, this accounting change represents approximately $8 million of sequential adjusted EBITDA decline. Please note this amount has been added back into our distributable cash flow calculation. Second, we also had scheduled maintenance at the DBM Complex causing the system be shutdown for a week in July. We estimate the impact of the reduced volumes as well as turnaround expenses was approximately $4 million. Third, we sold our Dew, Pinnacle assets in July. These assets contributed to our second quarter results, but only for one month in the third quarter. This divestiture represented approximately $4 million of the sequential decline. Finally, as many of you are aware, there was a small fire at our Lancaster facility in September. We are fortunate to report there were no injuries associated with this incident. I would like to express my personal appreciation to all the Anadarko employees and contractors who handled this incident so professionally by getting our facilities back online in a very efficient and safe manner. We estimate the financial impact of this minor event was approximately $2 million. Adjusted for these events, the third quarter was in line with our expectations. While there was reduced drilling activity in several areas as we expected, we do not believe there are any systemic issues that put our business model at risk. We believe the advance to this quarter illustrates the resiliency of our portfolio and reflects the benefit of having a strong sponsor support as we are able to absorb the concurrent impact of a number of unrelated factors and yet still provide year-to-date coverage of 1.13 times without adjusting our 15% year-over-year distribution growth guidance. Moving to our operating summary, approximately 44% of the sequential natural gas throughput decline was due to the Dew, Pinnacle divestiture I previously mentioned. We also experienced throughput declines in our Marcellus and Chipeta assets, while DJ Basin throughput slightly increased. Delaware Basin throughput was slightly down due to the scheduled maintenance in July, but the DBM Complex is currently running at full capacity as we await the Ramsey IV and V pipelines coming online in 2016. We also experienced sequential crude and NGL throughput growth primarily due to increased Texas Express and Front Range Pipeline volumes. Our adjusted gross margin for natural gas assets was flat at $0.69 per Mcf, as the reduction driven by our accounting change was offset by the divestment of two lower margin dry gas assets. Our adjusted gross margin for crude and NGL assets slightly decreased by $0.04 to $1.76 per barrel primarily driven by a lower distribution from the White Cliffs Pipeline. In yesterday’s earnings released, we announced our plans to construct an additional 200 million cubic feet per day train at our Ramsey Complex. We expect the plant to cost approximately $115 million and are currently purchasing longer lead time items with intention of having the plant online by mid 2017. We have the capability to accelerate the construction at this point, if necessary and will make this determination once Ramsey IV comes online in the second quarter of 2016. Our previously announced timetable for both Ramsey IV and V are unchanged. With respect to the non-binding open season for our proposed Delaware Basin Express Pipeline, we are very encouraged by the interest shown and are beginning negotiations with interested shippers to execute binding agreements. It’s still too early in the process to determine the size of the pipeline or within service day, but we are convinced that there is significant demand for additional residue takeaway out of the Northern Delaware Basin to the Waha Hub. Now, let’s move on to our updated 2015 outlook. As you read in yesterday’s release, we narrowed our range of our adjusted EBITDA guidance while raising the midpoint by approximately $8 million. We lowered our total capital expenditure range to $580 million to $620 million to approximately $40 million of deferrals in 2016 as well as cost savings realized by our operating teams. We also further narrowed our maintenance capital outlook for 2015 to 7% to 9% of adjusted EBITDA while leaving our distribution growth estimates unchanged. We are currently working on our 2016 budget and will provide our outlook when we release next quarter’s results. As stated in our earnings release, we, in Anadarko, do intend to extend the DJ Basin and Hugoton fixed price agreements at current prices to the end of 2016 and expect to execute these agreements prior to year end. Also while we continue to work diligently on our budgeting process and recognizing a lot can happen in few months time, we currently forecast that total capital expenditures in 2016 will be reasonably close to what we will spend in 2015. With that operator, I would like to open up the line for questions.

Thank you, sir. We will now begin the question-and-answer session. [Operator Instructions] Our first question today comes from Brandon Blossman of Tudor, Pickering, Holt & Company. Please go ahead.

Good morning, guys.

Good morning, Brandon.

Let’s see. I guess just bookkeeping the extension to swap agreement, same accounting treatment and just in terms of modeling it for ‘16 kind of same level of underlying commodity price?

Yes. The fixed price, yes, Brandon, this is Ben. Same accounting treatment, the fixed price will be the same. The market price on the day we extend will determine what goes through the P&L statement and everything above that would be the above market component.

Okay, that sounds pretty straightforward. The flexibility in bringing Ramsey VI online, how wide of a range is that as you see volumes progress?

Brandon, this is Don. As we think about it once you have their permit and the actual skids and the compression, it’s about a six-month time window from start to finish to when you put it in service. So, we have all those components and so really its six months from when we say go. And so our thought processes get Ramsey IV started, get way deep into Ramsey V, close to have net in service and it will – we should have a pretty clear line of sight on when we want to start VI. And as I said we will announce it and you will see it hopefully in service six months after that day.

Okay, that’s very helpful. Thanks, Don. And then bigger picture just for fun what’s the – from your advantage point what’s the M&A A&D landscape look like currently?

So far for us it’s been minimal. As you know, we stay focused where we have – what we think are synergistic values associated with any type of transaction whether it’s APC or third parties. And so far in areas that we have the highest levels of interest we have not seen very much of any deal flow at all.

Okay, alright, that’s interesting. I will leave it there. Thank you, guys.

Thanks.

And our next question comes from Elvira Scotto of RBC. Please go ahead.

Hi, good morning Don and Ben. I would like to start very high level, can you may be talk about the sustainability of the dropdown model and how the dropdown model fits as a portion of your overall strategy now, I mean Western Gas has executed well on the dropdown strategy since its IPO in 2008, have your views on the strategy or ability to execute on the strategy changed given what’s happening in the equity markets now and cost of capital?

Elvira, this is Don. I will start and let Ben then finish. I think about – to your question if you think about ‘08, the number of levers if you will, that WES had to utilize to manage the portfolio and get some form of sustainability or growth that really was basically dropdowns. And the luxury that we have today and scale and scope and basins we are in we have good organic growth still embedded in two of our largest producing areas being DJ and Delaware Basin. So we are not as dependent if you will, to get the growth components from dropdowns. But it’s still a key component to our strategy and how one of the tools that we will stay focused on as we try to determine water level growth is and the sustainability of that growth and manage it over time. And I will let Ben answer as well about the capital markets.

Sure. And Elvira, I mean our dropdown inventory we often refer to as safety net and 2015 is a good time where you are glad you have a safety net and looks like 2016 is going to be one of those years you are glad you have that safety net. And we continue to believe even in this kind of market environment high quality names with high quality sponsors are going to be able to execute creative drops. There is no evidence to support that they can’t. And we have been at these type of equity yields before and we have gotten dropdowns financed accretively in those times and based on where our stock price trades doesn’t really affect how we have viewed dropdowns at all.

Okay. Great, that’s really helpful. And I agree I mean I have been following you guys since 2008. So, on the Delaware Basin Express Pipeline what’s the timing of that project in terms of final investment decision?

My guess is – Elvira, Don again. My guess is it will be end of the year you will have documents in front of all your potential shippers and they who have major commitments and you will go back and re-look the project relative to costs and overall economics and then make a decision from their relative to order and pipe and securing right away. And we have already done some of that to-date. But as I said I think it will be year end when we have a clear line of sight to the project.

Great, thanks. And then just my last one, on the fixed price agreements, the approximate $8 million impact to EBITDA here in the third quarter. In the fourth quarter that should be somewhat or slightly higher right because I think you also have the Hugoton fixed price agreements coming on, is that correct?

That is correct. You will see Hugoton in the fourth quarter. I will say that Hugoton, it’s not a particularly large system and the only thing that’s really covered under there is some condensate that drips out of the system as well as some residue gas. So it’s not as fulsome as the DJ swaps, but that is correct.

Okay, great. That’s all I have. Thanks a lot.

Thank you, Elvira.

And our next question comes from Jeremy Tonet of JPMorgan. Please go ahead.

Good morning.

Good morning, Jeremy.

Good morning.

Thanks for the color today. We are just hoping for little bit more on the deferral of the CapEx, if there was any particular projects that was – those being moved backed a little bit or anything else you could share with us there?

Jeremy, this is Don. If you think about the majority, the primary answer is majority of the deferrals are in West Texas. And if you think about all the projects that we have going on there and kind of manage those projects as well as contractors and all the other moving pieces, it’s not significant for us to think for these deferrals to slip from one calendar year to another, especially the holidays upon us and the fact that we have construction of Ramsey IV and V underway as we speak. So to us, it’s just kind of normal course of business in where the calendar year have to end and where our numbers are set.

That’s helpful. Thanks. And as far as going back to the Delaware, I think APC just tested some Bone Spring acreage there and the first well worked pretty good, I am just wondering what that could mean for you guys as far as opportunities are concerned?

First, I will agree with you, I think 1,000 barrels a day is – would be defined by any metric is a pretty good well. This is all acreage that’s dedicated to our existing footprint out there whether it’s DBJV or Haley. And so every time that there is good results, whether it’s APC or third parties we are the beneficiary of that, because it seems to drive our capital and rigs to that area. So we are excited about the activity in West Texas and the continued improvement or terms out there that we are seeing from APC and others.

Great, I appreciate that. And I realized it’s probably a little bit premature to ask the question, but just wanted to get any thoughts you might be able to share on 2016 in distribution growth and the outlook there. And may be just if could remind us, as far as your philosophy of growth versus coverage and if anything has changed in this environment where there is a bit more volatility out there and just your thoughts?

Sure. Jeremy, it’s Ben, I will take a stab at that. Philosophically nothing has changed. We grow distributions as much as we can while keeping three constraints in mind. One is you would never put the investor in credit rating at risk, you would not – you would not lever up to achieve growth, if you want to keep your debt to run rate EBITDA down to four times. We do like to keep the long-term coverage ratio of 1.1. We are achieving that this year and we are delighted. You may recall earlier this year, we guided that it might be closer to 1.0 times and we have outperformed that. And it’s been a testament to a really good year. And obviously, Anadarko always needs to get fair value for dropdowns; you can’t expect them to give WES assets for no consideration. Historically if you sell for X, you see where it’s gotten to. It’s kind of been in the mid-teens. I can’t give anything more formal than that at this point. We cannot give any kind of formal guidance until our sponsors completed its budgeting process. So I hope you can understand that. But hopefully the philosophy will be helpful.

That’s all very helpful and congratulations on very solid results in a very trouble and difficult times out there.

Thank you, Jeremy.

Thanks, Jeremy.

And our next question comes from Sunil Sibal of Seaport Global Securities. Please go ahead.

Hi, good morning guys and congrats on good solid quarter.

Thank you.

Couple of questions for me. First, I think your indication of 2016 CapEx being closer to ‘15 does that include the Delaware Basin Express Pipeline project…?

No, it does not, since we haven’t reached FID, that’s not in our forecast at this time.

Okay. So that could be additive I guess and we will know by year end?

Correct.

Okay, that’s helpful. And then on one of the items that you had on the variance from second quarter to third quarter was a portfolio performance, I was wondering if you could talk a little bit about that especially as you think about what you are seeing from the producer customers in some of the basins like Marcellus [indiscernible]?

Yes. And I appreciate the question. A good other way to refer to portfolio performance is everything else what we did in that Waterfall slide is tried to isolate the identifiable items in the quarter that will hopefully not be recurring and then the net impact of everything else is what we call portfolio performance. And we have seen declines in Marcellus. Marcellus is I think an area of longer term interest for Anadarko. But at these price levels, it doesn’t compete for capital with the DJ and Delaware. So, you have seen rigs move away, same with the Winter Basin right, it’s a good asset, not really competitive for capital with DJ, Delaware or Eagle Ford and so we have seen declines there. We should see protection over the longer term in the Winter Basin, because we do have a throughput commitment for 500 a day. So, at some point a deficiency fee will kick in there, but it’s really the net of this portfolio reallocation is how you get to that slight decline in our run-rate business. The good news is in areas where we have growth tend to be the areas where we make the most money. And so why you will see net reductions in throughput from time-to-time as you have seen historically you could still see cash flow growth during those times. Is that helpful?

Yes, that’s really helpful. And then just as a follow-up on that, especially considering the third-party M&A kind of environment you did one transaction this year kind of selling a few assets, which was kind of opportunistic, but helped you prone your portfolio of assets, how do you think about on situations like that as you go forward?

I would say we have always been able to stay focused on a very strict discipline that we are not going to put our model at risk. We are going to make sure that all transactions are accretive and don’t based on the initial performance of the assets. And we don’t want to change our risk profile significantly. And so as long as you keep those metrics we haven’t seen anything that’s either in our zip code or in our resource play that would make us have interest in stepping out there. What would happen I think that is probably the question a lot of people wonder about is as you move through the fourth quarter of ‘15 and ‘16 and probably more assets will come to market and need to be monetized, but we just haven’t seen anything that we think that’s where we want to allocate our capital to, because we still have what in our mind better places to spend.

This is Ben. I will just add to that. Just keep in mind the one divestiture this year was a situation where our sponsor had decided to monetize the upstream and so we had the option of participating in that process or not.

Alright. That’s very helpful and that’s all I had. Thanks guys.

Thank you.

And our next question comes from Jeff Birnbaum of Wunderlich. Please go ahead.

Hey, good morning guys.

Good morning, Jeff.

Don, I know you mentioned earlier that with Ramsey back online the DBMs fall today and I know that you have said in the past that overall the system has buying commitments. So, I guess knowing what you know now I guess what are your thoughts on how quickly IV and V are likely to fill up and I suppose maybe how that might influence your decision on VI and why don’t you…

Well, I think the answer is we have got a mix of agreements out there that are not only buying commitments to the acreage dedication. On the acreage dedication with third centers agreements and some is interruptible and some isn’t. There has been good activity levels across all those contracts. And so we really don’t look at it as a specific contract mix of how a plant will fill up. We just think our overall portfolio of agreements and producers and activity levels associated with those give us a high level of comfort obviously in IV and V and it gave us comfort to go to the Board to get approval for VI as well. So, I think that should give the market some insight as to how we look at the overall stack, if you will and we think that regards to contracts we are always going to have solid returns around those assets and we don’t see anything today in the portfolio that tells us any different.

Okay, thanks. And then Don as you look to ‘16, I mean not to put the cart before the horse here, but is there anything you can share about sort of some of the discussions going on with Western and Anadarko about kind of how to structure drops and financing those drops that neither parties left cash constraints are hitting the capital markets perhaps more than preferred. And I mean obviously, Anadarko has been a very supportive sponsor over the years, but I know that, that is something that investors think about at these times. So, anything you can share with regard to just sort of the flexibility of the tools that you still see at your disposal?

Yes, I think that, Jeff, this is Ben. I think that the innovative structure that we use this year was the special circumstance and that was probably the exception rather than the rule. And in our preliminary conversations we are just talking about the tried-and-true structure that’s worked very well for us for the past seven years.

Okay, thanks very much guys. Very helpful.

And this concludes our question-and-answer session. I would like to turn the conference back over to our speakers for any final remarks.

Marco, thank you. I would like to thank everyone for joining us today and we appreciate your interest in Western Gas. We look forward to speaking with you again in the near future.

Thank you, sir. Today’s conference has now concluded. We thank you all for attending in today’s presentation. You may now disconnect your lines and have a wonderful day.