The common themes among E&P operators and mineral aggregators’ in the Q3 2022 upstream earning calls included continued share buybacks, growth in production levels, and inflation’s impact on limiting growth. This week we focus on the key takeaways from the Upstream Q4 2022 earnings calls. 

It Pays Dividends to Pay Dividends

Since late 2021, E&P operators and mineral aggregators have seen exceptional profitability. Companies have flexed this earning power by making large distributions to shareholders and repurchasing their own shares. Q4 was no exception, and many upstream firms made a point to mention their buyback and distribution policies during earnings calls.

• “We continue to generate strong cash flow, and we’ve been able to more than double our long-standing dividend from 2021, all while significantly reducing debt. As a result of this success, we’re progressing our capital allocation framework, where we will support increasing returns to shareholders as various debt targets are reached… In 2022, Murphy achieved our $650 million debt reduction goal resulting in a 40% or $1.2 billion reduction since the end of 2020, and our current debt level is $1.8 billion. This has positioned us to begin Murphy 2.0 of our capital allocation framework, where we will allocate 75% of our adjusted free cash flow to debt reduction and 25% of our adjusted free cash flow to shareholder returns beyond our dividend.”
  – Roger Jenkins, President and CEO, Murphy Oil Corp.
• “We’ve remained steadfast in our commitment to the powerful combination of a competitive and sustainable base dividend in addition to consistent share repurchases. That consistency paid off with $2.8 billion of accredited share repurchases. That reduced our share count by 15%, driving significant growth on a per share basis. Rewinding all the way back to the start of this most recent share repurchase program in October of 2021, we have reduced our share count by 20%. Again, leading the peer group. And we raised our base dividend three times during 2022, bringing our track record to seven increases in the last eight quarters.”
  – Guy Baber, VP of Investor Relations, Marathon Oil Corp.
• “Even with the distribution increase, we generated distribution coverage of 1.26x for the fourth quarter, which further strengthened our already solid balance sheet. We had a total debt of $10 million at the end of the year and currently have a $57 million net cash position in advance of pay in the fourth quarter distribution. This has all been very positive for Black Stone, and we have been able to grow our royalty production through organic efforts without incurring debt or issuing new equity for acquisitions. We are very well positioned to continue this trend into 2023 and offer a compelling value proposition to new and existing investors with virtually no debt and distribution, which we believe is sustainable in 2023 that delivers a yield of over 12% to our current unit price.”
  – Evan Kiefer, Vice President of Finance and Investor Relations, Black Stone Minerals, LP
• “During 2022, we reduced our total debt by approximately $1 billion. Since the beginning of our debt reduction program in the fourth quarter of 2019, we have now reduced debt by over $2.5 billion. Because of this conservative approach to debt reduction, we were able to shift our capital allocation towards increasing cash returns to our shareholders. As you can see on the bottom of the slide, we purchased over 25 million shares, representing 1% of the total shares outstanding.”
  – Paul Rady, Chairman, CEO, and President of Antero Resources Corporation

Inorganic Growth Takes A Backseat

Naturally, if firms focus on strengthening balance sheets and distributing to shareholders, there is less cash available to fund inorganic growth opportunities. Several firms directly acknowledged this reality and explained their rationale for shunning acquisitions. Often, managers indicated that there are simply no compelling assets available for purchase and that distributions and buybacks are the logical alternatives to sitting on cash in already-strong balance sheets.

• “I think the kind of the bolt-on opportunities are fairly reduced at this point. There are not a lot of private equity operators left. We always compare any potential M&A opportunity to the opportunity of doing M&A in ourselves through our buybacks. So, it’s a pretty high hurdle when you come at it from that perspective, [and] there’s currently nothing kind of on our radar from that perspective, given where our share prices are trading.”
  – Alan Shepard, CFO, CNX Resources Corporation
• “Historically, for a long time, we’ve been an acquisition company. Our feeling today is that the market is very competitive in that arena. And we really look at the efficiency of that source of production relative to the cash flow per share or production per share. And it is balancing to find things of size and pricing levels that we feel are competitive with what we can do on our own properties. We don’t have any problem whatsoever with building up a fair amount of liquidity on our balance sheet because we’ve got things that we can do with it over the near next 24 months. And if an acquisition that we just had to have because it was very well priced, we’d be in a really great position to do that … Our stock is trading at a 12% yield. And it’s hard in our opinion, to buy things that have a 12% internal rate of return when our equity is trading at a 12% yield. It’s just not that compelling. That doesn’t mean we won’t ever do it again, but it’s just — it’s not — we don’t see it as an efficient way for us to grow because we don’t want to lever our balance sheet up a lot and with the way our units are trading, it’s a challenge.”
  – Thomas L Carter, Chairman and CEO of Black Stone Minerals LP
• “Meanwhile, Antero remained focused on our core acreage footprint with a particular emphasis on organic lease acquisitions. As opposed to larger transactions that can dilute our equity and add absolute debt, our strategy has been focused on organically acquiring acreage within our core position in Appalachia. This has allowed us to dollar cost average across commodity cycles and acquire acreage near our proven well results.”
  – Paul Rady, Chairman, CEO, and President of Antero Resources Corporation

Despite Potential Macroeconomic Challenges, Managers are Optimistic

With the onset of a new year, a major focus of most earnings calls was the outlook for upstream companies in both the near and long term. While most firms acknowledged that price volatility and other macroeconomic factors could present challenges, they offered a rosy outlook on the coming year.

• “As we look forward to the full year 2023, we forecast annual royalty production to be up slightly from 2022 levels, with the majority of those gains coming from our key organic growth plays. We expect to see production growth in the Shelby Trough as Aethon continues to ramp up development activity targeting a minimum pace of 27 wells per year by the end of this year, as well as higher volumes in the East Texas Austin Chalk as we work with our operating partners there to accelerate activity. We also expect production growth from our Permian and Bakken positions, where we have visibility into some high interest development locations. We mentioned last year that we expected to grow production through 2023 with an exited target rate of close to 40,000 BOE per day. Despite the recent pullback in natural gas prices, our expectations are to be at or above that level by the end of this year, which will be driven largely in part from our development agreements with our key operators in the Shelby Trough and Austin Chalk. We expect lease bonus, operating expenses and production costs to be roughly in line with 2022 levels. G&A is also expected to increase slightly in 2023 as a result of inflationary costs and selective hires to support our ability to evaluate market and manage our undeveloped acreage position to potential operators.”
  – Evan Kiefer, Vice President of Finance and Investor Relations, Black Stone Minerals, LP
• “As we’ve seen throughout 2022 and in recent weeks, while the extreme volatility in the natural gas markets will significantly impact near-term results, prices along the strip are still materially higher than in recent years. And as such, the rates of returns on previous capital investments remain not just high but improved in this environment. And the future business plan not only remains intact, but even stronger.”
  – Alan Shepard, CFO, CNX Resources Corporation
• “While our 2023 outlook is compelling, we’re even better positioned for 2024 as our unique integrated guests gas business in Equatorial Guinea will benefit from an increase to global LNG price exposure. Just as a reminder, the current Henry Hub index contract for our equity Alba gas through ET LNG expires at the end of 2023. And we will move to a market base global LNG linkage. With the current and significant arbitrage between Henry Hub and global LNG prices, we expect this to translate into an uplift to 2024 EBITDA of $500 million to potentially more than $1 billion relative to 2023.”
  – Guy Baber, VP of Investor Relations, Marathon Oil Corp.

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 a more targeted energy sector analysis that meets your valuation needs, please contact a member of the Mercer Capital Oil & Gas Team.