In the post Upstream Reviews of Q1 2022 Earnings Calls, the common themes among the earning calls of both E&P operators and mineral aggregators included the role of U.S. production in the European market, industry confidence in continued favorable pricing, and the trend of increasing completions.

This week, we focus on the key takeaways from the Q2 2022 Upstream earnings calls including strong balance sheets, the increasing role of share buybacks, and supply and demand in the global oil & gas commodities market.

Strong Balance Sheets and Cash Positions to Weather Price Volatility and Gain Upside Exposure

Executives zeroed in on the importance of a strong balance sheet amid the continuing volatility of oil and gas commodity prices. Upstream players can utilize robust cash positions to weather different price cycles and increase operational flexibility. Additionally, upstream Q2 earnings calls underlined the greater exposure to the high cycles by minimizing firm debt burden.

• “My perspective [is] as long as our return objectives are being met, modestly building some cash on the balance sheet is a positive thing. We’re obviously in a highly volatile commodity price environment [and] I’d like to have a minimum of $500 million on the balance sheet just to handle intra-month working capital swings. We do have a couple of debt maturities coming up… We intend to retire that debt with cash on hand, so preparing for that time when prices are strong, is a good thing. And then also, it provides us the flexibility… on accretive bolt-on acquisitions that can improve our portfolio… given the macro uncertainties [ and] the volatility. So having a very robust company with strong liquidity, I think is a plus… Our return to shareholder commitment is top priority, but also keeping a bulletproof balance sheet and ample liquidity is right alongside that in our conservative financial model.”
  – Dane Whitehead, EVP & CFO, Marathon Oil Corp.
• “We want the absolute debt levels to be at $2 billion or even lower than that. We’d like to approach $1.5 billion over the next kind of medium term… The one times and the $2 billion or less of debt allows us to have a balance sheet that positions us to [future] swings in commodity prices. So, for us it’s not as much a mid-cycle price. It allows us to go low and it allows us to go high. And we have a balance sheet that we feel gets us through the different commodity price environments.”
  – Kevin Haggard, SVP & CFO, Callon Petroleum Co.
• “The way we think about it is the best hedge is to have a strong balance sheet coupled with the strategy that can pretty much work in [a] multitude of prices and operational environments. So, this allows us to execute through these different commodity cycles. At current prices, our balance sheet is improving rapidly, so I think that’s positioned us well to achieve our long-term debt target.”
  – Tom Mireles, EVP & CFO, Murphy Oil Corp.

Increasing Role of Share Buybacks in Capital Allocation

E&P operators and mineral aggregators have seen exceptional profitability since the start of the upcycle in 2021; companies started paying down their debt and distributing to shareholders. With the continuance of stable cash flows, the role of share buybacks has increased as a source of returns in lieu of bolt-on acquisitions or other investment opportunities.

• “So yes, like we’ve mentioned a bunch of different times. I mean, evaluating M&A, we are going to be selective and picky. I mean, we do look at this from an internal kind of risk-adjusted rate of return standpoint — and as we’ve said before… it has to compete with our other capital allocation opportunities. And right now, at this current time, the best risk-adjusted meaningful for way to grow our free cash flow per share is buying ourselves… We’re always in the know of what’s going on in the M&A space, but with the low-risk opportunity to grow free cash flow per share, so visibly in front of us [by] buying ourselves, it’s hard to compete with that.”
  – Don Rush, Chief Strategy Officer, CNX Resources Corp.
• “We certainly think that there’s a lot of value in our existing stock price, and we think that, that oil and public equity stocks [are] really undervalued right now… We spent about $500 million in the last 2 to 3 months repurchasing shares, and the Board just essentially doubled our authorization up to $4 billion. So, the base dividend still remains sacred, sustainable and growing followed by this environment share repurchases… [We will] make up the difference… returning at least 75% of free cash flow.”
  – Travis Stice, CEO & Chairman, Diamondback Energy Inc.
• “We’re always assessing and evaluating bolt-on opportunities in basins where we have a competitive advantage and can generate value for our shareholders… We have a tremendous amount of confidence in our organic case, which delivers market-leading free cash flow and return of capital. And that is [how] we’re going to assess all opportunities. So, the bar is quite high, and whatever we do, it’s going to have to be accretive to that organic case… So, the same discipline that we show in our business is the same discipline we’ll show in assessing inorganic opportunities. But to be clear, we like the assets in our core portfolio, and we’re always looking to further improve our core positions.”
  – Lee Tillman, Chairman, President & CEO, Marathon Oil Corp.

Beliefs of a Prolonged Imbalance of Supply and Demand in the Global Oil & Gas Commodities Market

Executives of E&P companies and mineral aggregators underscored the economic effects of current global events as it pertains to the industry. Global demand for such commodities continues to grow despite the obstacles on the supply side. The current stream of Russian natural gas to Europe is not deemed to be reliable, OPEC+ is either unable or unwilling to meaningfully increase oil production, and U.S. E&P operators can only marginally ramp up production in the near-term. Meanwhile, demand shows no sign of dissipating as China re-opens from Covid-19 lockdowns and European officials attempt to secure enough natural gas in preparation for the winter so as to avoid rationing.

• “You think about US E&Ps, [and] the inability to really ramp up production because of the supply chain or the return of capital pieces… You think about the current potential issues in Russia and the potential embargo that’s going to happen here at the end of December, the need to refill the SPR [Strategic Petroleum Reserve], because we’ve drawn down on those volumes significantly, and then really kind of the lack of OPEC’s ability to ramp up production here… [it] is really indicative to me of fundamental positives as we think about the second half and into 2023. So, I think you’re going to see an improvement in energy markets going forward, and hopefully that yield compresses as well.”
  – Rob Roosa, Founder & CEO, Brigham Minerals Inc.
• “As China reopens further [the] utilization rate is expected to climb to the upper 80% range. This higher utilization rate, combined with an estimated 500,000 barrels per day of new PDH capacity coming online in China and over 100,000 barrels per day of new capacity in Europe and North America over the next 18 months, is expected to lead to a tightening propane market as we enter winter, with over 50% of our NGL volumes being exported.”
  – Dave Cannelongo, SVP of Liquids Marketing & Transportation, Antero Resources Corp.
• “I’m still very optimistic that the oil price is going to continue to march forward with probably more upside than downside. Demand is coming back. Around the world, people are flying more. China’s going to come back and as you know there’s not much supply [in] the OPEC agreement… OPEC+ announced a minuscule increase today… They just don’t have the supply, [there is] very little left in UAE and Saudi.”
  – Scott Sheffield, CEO & Director, Pioneer Natural Resources Co.

Mercer Capital has its finger on the pulse of the minerals market. As the oil and gas industry evolves through these pivotal times, we take a holistic perspective to bring you thoughtful analysis and commentary regarding the full hydrocarbon stream, including the E&P operators and mineral aggregators comprising the upstream space. For more targeted energy sector analysis to meet your valuation needs, please contact the Mercer Capital Oil & Gas Team for further assistance.