California Resources Corp (CRC) 2017 Q4 法說會逐字稿

Good afternoon, and welcome to the California Resources Corporation Fourth Quarter and Year-end 2017 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Scott Espenshade. Please go ahead.

Thank you. I am Scott Espenshade, Senior Vice President of Investor Relations. Welcome to California Resources Corporation's Fourth Quarter and Year-end 2017 Conference Call. Participating on today's call is Todd Stevens, President and Chief Executive Officer of CRC; and Mark Smith, Senior Executive Vice President and Chief Financial Officer; as well as several members of CRC's executive team.

I'd like to highlight that we will provide our slides in our Investor Relations section on our website at www.crc.com. These slides provide additional insights into our operations and fourth quarter and year-end results, plus additional information. Also, information reconciling non-GAAP financial measures discussed to the most directly comparable GAAP financial measures is available in the Investor Relations portion of our website and in our earnings release.

Today's conference call contains certain projections and other forward-looking statements within the meanings of federal security laws. These statements are subject to risks and uncertainties that may cause actual results to differ from those expressed or implied in these statements. Additional information on factors that could cause results to differ is available in the company's 10-K, which is being filed later today. We would ask that you review it when available and the cautionary statement in our earnings release.

A replay and transcript will be made available on our website following today's call and will be available for at least 30 days following the call. Please note, CRC will also be hosting an Analyst Day on October 3 in New York City.

We believe that this will be a great opportunity to get an update on our operations and run you through our strategic plans in detail. A larger calendar notice will be sent soon out to you. (Operator Instructions)

I will now the turn call over to Todd.

Thank you, Scott, and thank you to everyone for attending CRC's year-end 2017 earnings call. In 2017, we followed the same major tenants of our strategic plan that we have consistently adhered to since the spin. One, we maintained a disciplined approach to developing our world-class assets. Two, we focus on projects that offer the best value creation opportunities. And three, we improved our financial position.

Our plan is clearly working. We lived within cash flow since our inception, a rarity in the E&P sector. Throughout 2017, our banks, investors and joint venture partners repeatedly validated the quality of our extensive inventory and demonstrated confidence in our team.

With the closing of our midstream JV with Ares, we believe CRC is well positioned to create and deliver sustainable value to shareholders and a mid-cycle pricing environment. We will achieve this by continuing to prioritize value-added growth, focusing on factors within our control and further strengthening our financial position. Our team and our assets continue to deliver throughout 2017.

I'm pleased to report that our 2017 development program delivered a strong organic reserve ratio of 119%, as well as single-digit F&D cost of $6.82 per BOE. In fact, this marks the third year in the row that organic F&D costs have been in the single-digit and recycle ratios in excess of 2x. We ended 2017 with 618 million barrels of oil equivalent of proved reserves and 450 million BOE of probable reserves.

Additionally, our proved SEC-10, PV-10 value alone increased from $2.8 billion to $4.5 billion. We continue to proactively manage our business through strategic use of JV capital to enhance the value of our asset portfolio. In 2017, we added 2 development partners, Benefit Street and Macquarie, in addition into entering into several smaller exploration joint ventures. These partnerships have allowed us to ramp-up overall activity, while creating optionalities to direct CRC capital to other high-value opportunities.

By operating with JV partners, we expect to continue to approve operating efficiencies, maximize capital flexibility and derisk an even broader inventory of actionable projects, just as we did in 2017.

Earlier this month, we announced our third major strategic joint venture. This time with Ares Capital Management. We're thrilled to have Ares as a strategic partner investing in our midstream assets, which include the Elk Hills power plant and gas processing facility. We believe the transaction reflects Ares' strong confidence in CRC and will accomplish 2 main objectives. First, it helps validate value of our midstream assets and combined with the Ares investment in CRC equity, speaks to a significant long-term value creation opportunity ahead; it also aids in strengthening our balance sheet.

In accordance with our bank agreement, CRC paid off $297 million of outstanding amounts under our revolver. We intend to deploy the transaction proceeds through the best value alternative, whether that is reinvestment, acquisitions, or additional debt reduction to drive long-term shareholder returns.

Financial discipline have been our hallmark. CRC's balance sheet has improved meaningfully, reflecting a significant positive change in our credit position. We successfully complete our refinancing last November along with executing a bank amendment, also which provide clear runway through 2021 to reinvest in the business above 2017 levels.

While Mark will provide more detail, important Takeaway is that we have received solid third-party validations of the value of our assets. Evidenced not only by the refinancing and a bank amendment, but also through the strategic joint venture agreement we've entered into.

As part of the due diligence process for these transactions, all the parties took a comprehensive look into our assets and management expertise. They voted with their dollars and chose to invest in CRC during a time on capital, which is rapidly exiting the sector. Their actions and partnership affirm not only our strong development inventory but speak to their confidence in CRC.

Looking ahead, under our strategic plan for 2018, we will work to further strengthen our financial position, while continue to realize the value-driven growth from our world-class assets and drive operational execution to deliver cash margin expansion. We believe that our recent transactions provide stronger positioning to take advantage of the opportunities before us, and significantly increase CRC's optimality to prime the pump to recognize our full value. 2018's operational focus magnified by CRC's core principles, while enable us to realize even more of that value.

From an operational perspective, we continue to possibly and sustainably ramp our drilling activity by utilizing JV capital alongside our internally generated cash flow. For example, in the Buena Vista area, the JV provided a lasting value to CRC, while providing the capital flexibility for us to advance important resource capture. In this area, partner capital was applied to support our enfold program, improve operating efficiencies, while our organic capital was deployed to expand the extent of the play. This is beneficial as we're able to leverage our geologic learnings from our known areas to thoughtfully step out and retain all of the upside of the perspective area for CRC.

Our team employed drilling optimization and cost improvement, which worked to offset the variable performance and preserve attractive project economics. Overall, results for this highly prospective area are calculated to achieve a robust VCI of 1.8 on a fully burdened basis at a $55 Brent deck.

In addition, success on the greater BV area, contributed an incremental $7 million BOE of proved reserves. These strong operating results exemplify the dynamic nature of our portfolio and demonstrate the benefits from our deep value operating and laser-focused execution.

In addition to our drilling program, we continue to execute our high VCI workovers with organic CRC capital. Across the company, we invested $89 million in workovers that delivered a VCI 2.9 at $55 Brent price deck.

As we continue to refine our life-of-field plans, we are expanding about inventory of these high-value, low-cost workovers opportunities. This year, thanks to our improving balance sheet, we are placed to begin investing above our 2017 capital investment level. Our 2018 capital plan will be deployed primarily on a low-decline crude oil development and delineation projects in Buena Vista, Kettleman North Dome and Ventura. Some of our largest assets including the greater Elk Hills area, Wilmington, Huntington Beach and Kern Front will see investments focused on new conventional opportunities and expanding waterflood and steam flood projects, along with our capital workovers that have already proven to be highly valuable.

We'll begin with a $425 million to $450 million capital program that could potentially ramped through the year as confidence in the current commodity price environment grows. Additionally, we can use our JV capital to flex this plan as needed, in line with increasing operational cash flows to maintain our growth production over the near term.

Our cash margin performance will also be key focus in 2018. CRC is a large-scale, value-focused entity with operating control over nearly half of oil and gas fields in California. Simply our prolific and diversed assets, we can quickly shift our investment between oil and natural gas assets to manage price volatility. Given current pricings, we continue to focus on investment in oil projects.

For 2017, crude oil accounted for 64% of our production mix, and we expect our oil weighting will grow over time towards the 72% oil mix reflected in our reserves.

The composition of our resource base is a key factor that we believe will aid cash margin expansion along with our ability to grow production, entirely managed production costs. We look to increased efficiencies, reduce controllable cost and optimize our integrated infrastructure in 2018 to extract even more value from new and existing production. Our commitment to operational excellence remains a high priority across our organization in 2018, while sustaining our strong safety environmental performance. CRC continues to help California address its suppressing energy, economic and environmental goals. We have surged as a net water supplier to agricultural water districts every year since our formation. In 2017, we again set a company record of treating and delivering 4.9 billion gallons of reclaimed water for agricultural use.

CRC's team also won 4 national safety achievement awards in 2017 from the National Safety Council. As a responsible partner of choice within the state, we proactively engage with regulatory agencies, community leaders, labor groups and other stakeholders to pursue mutually beneficial outcomes and expand opportunity for the communities in which we live and work. We've been able to achieve this level of operational excellence, thanks in no small part to Bob Barnes. As you may have heard, we started the year with leadership changes at CRC as part of the company's succession planning.

As Bob eyes retirement, he'll move into an advisory role to continue shipping CRC's future as he mentors many in our organization with his vast experience, knowledge and camaraderie. I'd like to thank Bob for his 40 years of commitment to CRC and its predecessors companies. His expertise and judgment help CRC navigate the commodity price downturn, while getting the most out of our asset base.

As CRC, we're constantly focused on adapting our business model to best generate shareholder value, given market dynamics. Our business opportunities dictate our structure not the other way around. To lead this team's operational growth moving forward, Shawn Kerns and Darren Williams will focus on production and margin growth as well as resource capture. To help this effort, we recently took steps to align our organization in a way that maximizes the value of our assets from a cash margin and VCI perspective, while ensuring that teams are working collaboratively, leave safely and creatively to achieve operational goals.

In summary, with our strategic plan in place, CRC is rooted in creating and delivering sustainable value to shareholders, while maintaining our commitment to invest within cash flow and prioritize value-driven growth in 2018 and beyond.

Now I'd like to turn the call over to Mark.

Thanks, Todd. I'm proud of what we've achieved. We've taken several steps to create a substantial runway for the future. With a stronger balance sheet, we are now positioned to capture significant operating leverage, as the crude market continues to strengthen and work to deliver, value-driven growth from our operations. Our stronger financial position results from several actions we executed in the fourth quarter of 2017 and early 2018. In November, we worked to secure an amendment and complete financing that created additional financial flexibility and improved our liquidity.

We repaid the outstanding balance on our 2014 term loan facility and subsequently repurchased a portion of our senior notes to eliminate the related spring and maturity provisions in our credit agreement.

While recently, we announced our strategic partnership, we're an affiliate of Ares for our midstream assets, including the Elk Hills power plant and gas processing facility. As a result of that transaction, we were able to repay debt more quickly and also provide more capital for operations or other value-enhancing opportunities.

We have significantly more optionality and improved positioning to take advantage of the strong opportunities before us. With a boost of cash position and increased financial flexibility, we now have significant liquidity and nearly 4 years of runway providing us with where -- with all to build momentum through 2018 and beyond.

In terms of shrinking our balance sheet going forward, I tend to think of our leverage in terms of debt to EBITDAX. We're focused on both reducing the numerator as well as increasing the denominator. We'll also continue to work to reduce our fixed charges and simplify our balance sheet over time. We believe we'll be able to accomplish this as Todd said, by allocating capital to the best value alternatives. Whether that's investment to grow our business or to reduce debt. In our earnings slide deck, we've presented an indifference curve to provide insight into one of the ways we think about these different opportunities, using our disciplined investment approach. The current thoughts are VCI metric on the y-axis and bond discounts on the x-axis.

We're calling for a project to receive investment at CRC, its BCI must be greater than 1.3. And we have resource for terms on investments greater than our indifference curve, we believe we're better off investing the money in the ground versus buying back debt in the open markets.

Our planning scenario show that with current or higher oil prices, we can strengthen our financial position more effectively by redeploying our cash flows in operations and by paying down debt.

However, this is not a stand-alone exercise. We'll continue to evaluate each alternative's underlying value proposition with a firm commitment to continue to delever. We'll do this by reducing debt in absolute terms as we've done in the past, by continue to grow our EBITDAX, whereby some combination of both.

A look back at our 2017 capital program shows a potential over asset base to delever organically and drive value for CRC's shareholders over the long term. At a $55 flat Brent price deck, our development program had a 1.7 VCI on fully burdened investments. We don't have cycle cost or cherry-picked wells. This analysis includes both good wells and bad wells and associated infrastructure for those particular projects. Applying a $65 Brent price deck from 2018 forward, we'd achieve a 2.0 VCI, as shown in our slide deck.

For reference we've included fully burdened IRR, it's on the slide as well. We understand that reinvestment in drilling and workovers carries execution risk not found in repurchasing bonds. By utilizing fully burdened VCI calculations for our actual 2017 program, we seek to provide a fourth right look and our potential opportunities. These risk results are well above our cost of capital and we expect will create real value for shareholders and we continue to increase our capital plans to align with commodity prices.

Now turning to our financial performance for the fourth quarter and full year 2017, I'm pleased to report that we've delivered results within our state guidance range. We produce an average of 126,000 BOE per day in the fourth quarter. This result reflected our gradual increase in activity during the second half of 2017. The increased activity partially offset the impact of significantly reduced investment through 2016.

Our results also include approximately 1300 BOE per day of negative PSC effects, due to higher realized prices compared to those at the time of our guidance as well as a 700 BOE per day impact for the quarter due to California wildfires that occurred in December.

We expect similar effects to continue in the first quarter. Our first quarter guidance incorporates approximately 1200 BOE per day negative impact in January, or 400 BOE per day for the quarter due to third party power issues from the fires and mudslides, a 600 BOE per day impact from PSC effects as well as results from a significant well that did not meet timing and performance expectation.

While the rise in oil prices were strong during the fourth quarter, the effects on our income statement were tempered due to our hedging contracts, which were first put in place when prices were much lower. However, we continue to benefit from premium Brent base pricing realizations. Overall differential were healthy registering a strong 97% of Brent and 92% including hedges.

NGL realizations also remained healthy reflecting tighter domestic supply and a strength in the exports. We anticipate these dynamics to continue in 2018. Natural gas realizations continue to see seasonality trends, which were magnified due to limited third-party storage within California.

Production costs for the fourth quarter of 2017 were $227 million or $19.64 per BOE within our stated guidance range. The year-over-year increase was driven by increased activity in line with strong commodity prices and higher gas and electricity costs. Adjusted general and administrative expenses were $5.80 per BOE, which were higher than guided as a result of the higher cost of performance-based bonus and incentive compensation plans due to increases in share price. Excluding these effects, adjusted G&A for the quarter would have been $5.44 per BOE.

For the fourth quarter, we've reported a net loss of $138 million attributable to our common stock or $3.23 per diluted share. Adjusting for unusual and infrequent items, such as noncash derivative losses that are generally excluded from core earnings by investment analyst, our net loss would have been $14 million or $0.33 per diluted share.

Adjusted EBITDAX for the fourth quarter was $222 million, up 32% from the prior year period, reflecting margin expansion from 34% to 39%. CRC reported cash flow from operating activities of $23 million in the fourth quarter and was free cash flow neutral for the full year, excluding $96 million of the capital funded by BSP.

Our results demonstrate the capital discipline that we continue to apply throughout our business. As Todd noted our proved reserve position of 618 million BOE, our enhanced life-of-field development plans and better-than-expected well performance allowed us to replace 119% of our production, excluding the effect of price adjustments.

Despite a limited 2017 capital program, we added 34 million BOE of proved reserves from extensions and discoveries, and 22 million BOE from performance. We were also able to rebook 49 million BOE due to increasing prices compared to 2016. Organic F&D cost including price related revisions were $6.82 per BOE in 2017 and produce a recycled ratio of 2.1x. This is the third year in a row that our organic F&D cost has been in the single digits, averaging $4.80 over this time frame. Additionally, we've grown our probable and possible reserves by 302 million barrels, a 37% increase from the prior year. These additional reserves provided a ready source of projects as our cash flow increases at about current prices. It will provide ample opportunity to accelerate further developments using our cash flow supplemented by our JVs.

Our slides also show that price impact on our reserves. Since the spin, we would expect to approximately 1/4 of those to come back at $65 Brent. Turning to 2018, our capital budget for this year is planned between $425 million to $450 million, which includes approximately $100 million to $150 million in JV capital and represents a slight increase for internally funded CRC capital over 2017 levels, as we transition to a mid-cycle pricing environment. Our 2018 plans assumes Brent and NYMEX natural gas at about recent levels, based on strip pricing. As we've stated before, we have dynamic plans and will strategically use leverage such as JV capital remain within cash flow, as well as prudently ramp activity. Please note our current 2018 capital plan does not reflect the use of proceeds from the JV transaction with Ares. To protect against our spending cash flow due to downdrafts in crude oil prices, our hedge program currently covers a significant portion of our oil production for full year 2018 as detailed in our earnings release. Our philosophy regarding hedging continues to target up to 50% of our production, in order to provide more certainty in cash flows and underpin our capital program.

Please refer to our earnings release for the details on our hedging positions and counterparty options. We strengthen our financial position and continue to align our organization for the commodity environment at hand. Our assets are responding and with the support of our strategic JV partners, we're poised to increased activity, grow cash flow and maximize value creation. Please note that we provide a detailed analysis of adjusted items as well as key first quarter 2018 guidance information in the attachments to our earnings release.

I'll be happy to take any questions you may have on that information and other aspects of our results during the Q&A portion of this call.

Thanks, and I'll now turn it back over to Todd.

Thanks, Mark. We're poised to build on the solid foundation we established in 2017. As we prudently ramp capital investments to a sustainable level in line with available capital from cash flow and JV partners, we'll allocate capital to the best value alternative. With our high level of optionality, we will do as we have always done and flex our activity to meet our discipline in investment criteria. Our resilient assets have a low base decline and low capital intensity that benefits us throughout the commodity cycle. Importantly, CRC's management team has decades of experience operating these assets with a strong track record of driving down controllable costs and increasing efficiencies, each time we improve margins more of our inventory achieves our ambitious VCI hurdle. We are excited for 2018 as we look to benefit from the current commodity price environment and continue to build on strong momentum throughout CRC's operations. Our focus will be centered on showcasing CRC's world-class assets, driving exceptional operational execution with character responsibility and commitment. And further strengthening our financial position to deliver value for our partners and investors. We now welcome your questions.

(Operator Instructions) The first question comes from Doug Leggate with Bank of America Merrill Lynch.

Todd or Mark, whichever one of you guys wants to take this. When you look at the 2019, looking at Slide 17, there seems to be a fairly substantial step up in your capital plan, is that -- what was the basis of that? Is that living within cash flow? Is it using some of the proceeds that you've put on the balance sheet? Well, what is your thought process on that step-up in spending as you go into '19?

That's just -- Doug, this is Todd. On the scenario we're portraying there, that's one scenario where we talk about production growth and EBITDAX growth, you've seen the chart from us before. And this is the capital that goes along with that. That doesn't mean anything more than that one scenario that could play out. It's not a kind of foreshadowing or giving guidance on a business plan for 2019.

So as things stand today, the plan is still to live within operating cash flow? Or to use cash on the balance sheet?

At this point in time, we would plan to use operating cash flow, but we might supplement that with other cash flow, if the opportunity from a value perspective merits it.

Okay, I appreciate that. My follow-up is also -- I kind of have a longer dated question, when you go back to the very beginning of the company as a stand-alone entity, Todd, you used to talk about you'd be dead before you've got a chance to drill all the drilling locations that you had, that you didn't want to monetize into a fire sale type situation, we are not really in a fire sale situation anymore and I don't really think you've done -- you've done some indifferent things for sure, but not as it relates to the very longer dated drilling inventory, so what are your thoughts in terms of additional monetizations? And I guess, I've got one final one if I can speed in after that?

Sure, I think it's twofold. I know from day 1 of the spin back there in October, it was Halloween of 2014. We talked from day 1, we needed to bring down our absolute debt level, we understood that. We looked at monetizing different ways to midstream assets and you saw us finally do that in a way that we feel like its most advantageous to ourselves and with our great partner. On the upstream side, along the way here we have monetized some small amounts of assets along the way. We've got to remember, everything we have under our portfolio, we're doing life-of-field plans and it has to compete for capital. If it's not competing for capital or it's too long dated in the current environment, we're going to look to use joint venture dollars or ultimately sell it. So I think, for the right price, really, everything here is on the table from an external standpoint. But yes, I think you're right, the environment's changed. I think we've underpinned different commodity price environment, so we would look to do that if they made sense that we weren't going to get the things. I think we talked about that in my lifetime or short or in the amount of time that will take for us to either internally or with joint ventures invest in that kind of assets.

So not -- nothing on the table for now? Or should we expect to see that change in 2018?

We've had active discussions with numerous folks along the way here during the fire sale portion, that was occurring for some time, but I think we have ongoing discussions, both on joint venture partners and with potential sale of certain assets that just don't compete for capital. And I think the one thing that -- philosophy didn't highlight quite so much we hinted at it was, at the year-end, we had 6 exploration drilled -- wells being drilled with other people's money. So I think that's important to understand that we could execute on a lot of small joint ventures that are really value-additive and this is really wildcatting, this is stepping out 2 location from a PUD.

The next question comes from Brian Singer with Goldman Sachs.

You reiterated in the press release, just the response times and the production profiles on steam floods and waterfloods and naturally they take a little bit of more time to provide the uplift, can you give us your latest expectations here? And how the wells that are showing uplift or mitigated declines are performing relative to expectations?

I think our overall corporate base decline hasn't changed. It's probably mitigated a little further, and as we've talked about kind of very low single-digits and we have parts that clearly can be lower than that. I think if we talked about individual type-drive mechanism, I think there's not a lot has changed overall as -- from the company perspective. I think we -- when we looked at and we talked about the Buena Vista wells in the performance there -- those are all wells that we -- are pretty heavy hitting good wells -- as you saw, we had incremental 7 million barrels of proved reserves and that we haven't finished the program there yet.

So I think overall, as a company, the portfolio effect works well for us and we still have a very well single-digit -- I mean, double-digit base decline for the company.

Great. And with respect to the quarterly production trajectory, can you give us a little bit more color on how this looks through the year? In the fourth quarter production has fallen sequentially, fourth quarter of last year you highlighted some of the one-off reasons for that, the wildfire, the PSC impact, can you just talk a little bit more about the -- more same-store sales momentum? And whether you are in on a more gross basis in, growth-mode flat or still declining?

When we look at -- coming into fourth quarter of the year, and where we started the year, clearly not the way you want to start the year with the mudslides and the fires that occurred. And we had an -- obviously, an impact on the company. The positive impact that occurs from a net production perspective is the PSC effect because that means we are getting high prices. So that occurs but that's something, you can't really plan around, you just hope you get lower oil production from their prices. And we did have one well that we ended up having to sidetrack, the expectations on the timing, it turned out to be an okay well in the end, but the timing didn't come in the fourth quarter. Some of that hangover from the fourth quarter, particularly on the mud slides, and the fire is carried into January.

There is a very, very tiny amount of production still impacted now. But it's more about economics and third-party issues that we're dealing with on this amount of production. So the vast majority of what was down is up, so when you look at the trajectory, I think clearly, we had a rough January because of that. But I think the rest of the quarter is looking more positive and I think you'll see us bounce back to more of a trajectory, like in the second quarter that looks flattish to maybe moving up a little bit, depending on performance of the quarter.

The next question come from James Spicer with Wells Fargo.

Wondering if you can talk a little bit about how much of your total production is coming from joint ventures at this point. And talk a little bit about the pace of incremental capital coming in throughout the year in 2018?

So we can't really talk about where it comes from because remember the two joint ventures, currently -- well, I don't want to talk about the expiration of joint ventures. But 2 upstream development joint ventures; BSP, remember that's a little bit different, that's not a traditional joint venture and then on the Macquarie side, that will be about 10% member of their investment of their productions until payout comes to us. And so the BSP, we are going to get materially most of the production from the joint venture. But I don't think we've disclosed that at this point in time. I think it's -- currently, all we can really say is it's less than 2000 -- probably somewhere between 1,500 and 2000 BOE per day.

Okay. Okay. Now that's helpful. And then in terms of the pace of capital coming in throughout 2018?

Yes, so remember it's in tranches; the BSP joint venture is in $15 million tranches and we are still in the first tranche -- the first $160 million tranche of Macquarie. So that pace will continue through the year. I think you'll see us probably drive down one more tranche from BSP as we go through the year. But I think when you look at our earnings release, you'll see we have given a little bit of guidance around where we think that will be -- at this point in time, plus or minus $100 million is probably a fair number.

Okay. And then from my follow-up here. Just on the CapEx side. Can you just talk a little bit about -- obviously, you're sitting on a lot of cash now post the Ares transaction? Can you talk a little bit about the priorities in terms of capital allocation there? And whether you think you may be able to supplement that with free cash flow generation in 2018?

Yes, so I think we have these proceeds, gives us an exceptional amount of flexibility and optionally as a company. But for us, having cash in the bank is not what we want. We want to actually invest or utilize that to create real value for our shareholders. So when we look at it, I think the priorities, as outlined in my remarks, we're really looking at putting it in the ground in some way. When I say some way, like could mean, could we do an acquisition that made sense for us, that was accretive from both an operational and financial perspective? Or could we put it in the ground in a way that creates value using our VCI and other metrics from an inventory standpoint? Or, as Mark alluded to, look at buy back our debt. We have that indifference curve we have outlined, where we talk about where our debt trades, and really we focus on the seconds at this point in time. And they have to meet a minimum threshold discount for us to be able to purchase them. But looking at that and making sure that it's something that creates real value for us. Also understanding that, that when we purchase debt, clearly, there is no execution risk with the exception of finding a willing seller, as it is with executing on filling inventory or buying something. So again, we will compensate ourselves from the higher VCI perspective, if we were going to execute on inventory or purchasing something that really had to be well in excess of the value perspective we would get from buying in debt. Because I think people have to understand that the overarching concept here is we do want to bring down the absolute amount of debt, but there is no one single way we are going to do it. We are going to do it kind of an all above strategy with growing our EBITDA, chipping away at the debt, whether it's buying it at a discount or other creative methods, as we've shown along the way. So I think from that perspective, that is that when you look at kind of use of the proceeds, that's how we are looking at. And we are not going to sit here and wait for forever. We're going to turn around and utilize something to create real value for our shareholders here in the near term.

The next question comes from Pavel Molchanov with Raymond James.

Your capital program is going to be at a 3-year high and I suppose the -- I go back to some of the commentary you had made back in 2014, 2015 about the drilling permit bottlenecks that had, in those days, been impeding some of your activity. And I would just pose the question, to what extent could that become a hurdle now that you're back at half of the peak rig count that you had in those days?

Yes, Pavel, we don't see it being an issue for us. We keep very close track of our days of drilling inventory from a permit standpoint. I think we are at record highs for the company, we continue to grow that. Our goal is to get out there a year, but I mean, we're not close to that at this point in time, but we are doing fairly well for ourselves. Could there be one-off issues with particular permits in certain areas? Yes, and there can be some of delays. But that's what great about having a portfolio like we have, where we can displace that with another great project if necessary. And so there is a lot of planning that goes into, as you know, our life-of-field plans in our portfolio. So again, having a very sophisticated process enables us to have alternate projects in case of that. We plan for that in some cases. And we also, as I've often said many times, here, the [gant charge] of certain projects, is this going to be long? Because you have to get through the permitting processes of California in certain areas and particularly if it’s a more greenfield product.

So from our perspective, we plan for that and we feel like we have a very good handle on it, and level of detail and the people working on it, I feel better -- much better now than I did in 2014 for sure.

Okay. And then sort of along those lines, there are at least anecdotally, reports of more and more cities and county governments that are imposing various kinds of drilling restrictions, above and beyond what the state directly may be involved in. Have any of those been impactful at all to your operations? Or is it really just a PR move by those cities?

I think in some cases, the cities, counties, whatever local government you're talking about, in some cases they are put up to these things by activists. And what happens is, it's a publicity stunt, a fundraising stunt in some cases and in some cases, it's serious. You saw what happened in measures via Monterey County, it was struck down in court. We weren't involved there, we had some -- we didn't have production, but we had minerals that was considered a taking from a legal perspective. I think that sets a precedent for people that want to dabble in this from a local government perspective.

So other than that, I do think that we make a concerted effort to work with the communities we live and work in, establish what we do, what we don't do, the benefits we bring to the communities we live and work in. So I don't think it's been much of an issue at all where we have operations. But we do work very diligently in this with our partners in the community and with the labor and everyone else to make sure people understand what it is we do and don't do. Because a lot of these initiatives, they are very misleading, and they mislead the voters and mislead the people they represent.

The next question comes from Jason Gilbert with Goldman Sachs.

Most of mine have been answered but I did want to follow up on F&D costs. You put up, I think for the third year in a row, a pretty low F&D cost. And you're below your DD&A per barrel. How do we -- and below peers also in California. How do we think about the right F&D cost going forward? And specifically, are there certain low-cost activities that you're doing now that are maybe finite in nature that may run off at some point?

I think if you look at -- you're right, the DD&A rate is a historical lighting indicator of F&D. I think that's going to trend down over time and I think when you look at our portfolio and our reserves, you'll see our F&D -- in my mind that when I go through and calculate the total portfolio, it's sort of 7 to 10, 7 to 9 range over time. So I think if you use 10, plus or minus, or 9, plus or minus, I think you would be here. But I would trend, at this point and think that, over time, it's probably going to come down from there because as we continue to get better and find the projects we have and have more exploration successes, which is great for your F&D.

And just a follow-up which is a housekeeping item. Cash flow on the quarter looked a little lighter than we expected. Was there a working capital use in the fourth quarter?

Remember, in November we pay property taxes in California. That for -- you pay them in April and November, you pay the -- that's the way, ad valorem is the way you really -- the way the fiscal regime works. And it was a -- it's also as you start ramping activity, you have the issue with how accounts payable and receivables work. But yes, I think it was around $50 million, plus or minus, working capital adjustment in the quarter.

The next question comes from Sean Sneeden with Guggenheim.

Maybe just on the LOE guidance, could you talk about that just being sequentially higher? Is that driven by the mainstream deal or was that due to the fire and mud slide impact on that as well? Or any kind of thoughts around how we should really think about normalized LOE going forward?

Yes, tell you how to look at it. Because when you have these one-off impacts or the PSC impacts that really could affect that either way, it's really -- the focus is on absolute dollars being invested and spent here on operating costs. So a little bit of that is PSC effects. A little bit of that is coming into the year, a little rough in the volume being down a little bit. But I think overall, our plan keeps us for the year, the production costs are going to be kind of flat for the year, if not down overall. And that's really what our focus is on an absolute basis. As we grow out of this hiccup here at year-end 2017 coming into '18 from the fires and the mud slides, I think you'll see us raising productions to the extent we can, from a growth basis. But obviously, a net can be affected by the PSC, but that's really my focus is really looking at the absolute cost. And we do give you a little bit of guidance in there, about how the PSC could affect production at different price levels.

Sure, that's helpful. And just again to make sure I understand it, for the full year, you're thinking that absolute dollar should be kind of lower on the LOE side? And perhaps without the PSC fact, maybe you'll see that on the unit side as well? Is that the right kind of...?

Correct. I think it will be about -- absolute, it will be about flat to down and on an absolute basis for the year, and that's what we are targeting and that's what we are working on right now. Obviously, the PSC fact could move it around and you should see us flattening to growing production as we come out of this hiccup coming into the year.

Okay, that makes sense. I guess, I think you had mentioned, Todd, that we should start getting back to kind of normalized production levels by around Q2 and then maybe we should think about that quarter kind of being flat to maybe modestly up? Was that comment geared around flat to modestly up versus the first quarter guidance? Or is it versus like a more normalized level that you're talking about?

Yes, it's a more normalized level, if you took out what happened at year-end and start of this year, let's assume it didn't happen, that would be our goal is where we would be.

Okay. And that's kind of more or closer to like 130,000 a day type of number? Is that how we should think about it?

We haven't provided that, but if you looked at year-end, look at the 3Q where we were at, 4Q where we are at before the fire impact which was about 400 BOE a day, fire, mudslide in for the quarter. It was higher, obviously, in the month of December. I think, then, that would be more of what we would think we'd be at.

The next question comes from Jacob Gomolinski-Ekel with Morgan Stanley.

Congratulations on the recent transactions and to Bob on the retirement. Just given on the JV side with the power plant, given you've got $750 million in the door and, kind of, if we assume CRC is the only customer for that; should we assume that your costs will go up by, call it, $71 million a year to fund the cash portion of their preferred dividend and eventually a $101 million after 2 years once the preferred stops peaking? And I guess, that translates to about $1.50 to $2 a barrel, using the 130,000 or 120,000 days of production.

Yes, if you remember, it's a preferred interest, it's not OpEx. And I think you've got it approximately right. But also remember as -- a power plant is something that we constantly try to utilize the power generated there in our operations because it's cheaper than we could purchase it from the grid. So we continue to expand its uses internally, around 35% of the power currently is used internally, continue to look a grow or even grow our customer base, even outside of CRC, so that we could have this be more beneficial to us and to the bottom line to our partners in Ares.

You've got to remember, this is something when you look back, like I mentioned to Doug, from day 1, we are looking at the way to bring down debt and monetize these in a way that would be mutually beneficial. We weren't really interested in just monetizing it to someone and trading balance sheet leverage for income statement level. This is truly a partnership and something that takes into account the important operational aspects of the plant for our benefits, and it give us a strategic partner that not only is invested in our power plant, but in our equity. So I think it's important to understand that this is a real partnership and not just a -- some kind of classic just business transaction that we are over and done with and move on down the road. So we are excited about it. It something that we've been working on for some time. Clearly there's some other priorities, given what happened between the [spin] and now here. But we felt this was the right time to start bringing this down and to be able to utilize the proceeds to create a lot of flexibility and optionality for us to invest in the business or to buy in debt if it trades at the right discount.

Got you. And I appreciate the fact that you'll maintain operational decision-making up there. I guess, just want to make sure from, if I'm understanding this correctly. So when you say, "It won't be an OpEx item because it's preferred in a JV that you own," how do you -- so is that not taken into account then? Will those cash flows then be sort of in M&A and financing section and not taken into account?

Yes, I'll give it to Mark, and Mark will explain where it will be in the balance sheet.

Yes, let me try to add some clarity here. From -- in terms of geography on the balance sheet, it will reside between debt and equity. And on the income statement, it will come through, those dividend payments will come through, the line item is already there that is described as net income attributable to noncontrolling interest. So that's why it won't run through the operating expenses that you're used to seeing. And it will run through the cash flow statement as a financing.

Got it. Okay. And then maybe just how to think about a bigger picture on that JV because I appreciate that it's a partnership. Is the right way to think about it maybe from a more traditional or more simplistic valuation approach that you basically lease the plant for 10.5x cash flow or 7.4x total? Or maybe you said differently, given the preferred that the JV box is ahead of your equity. Is it, I mean, I guess, could you could kind of talk of -- think of it as like 13.5% or 9.5% whether you use pick or pay cash financing on those assets?

You can characterize it however you see fit. I'm sure different holders in the capital stack, whether it be equity or debt, will choose their characterizations how they see fit. But I think, from our perspective, we are excited about it. It's -- we view it as a valuable investment, a valuable partner and we think the partnership will grow over time.

Yes. No, I mean it's delevering either way, I was just trying to make sure I'm not thinking about it the wrong way, is all. Maybe just a last question for me. The NGL pricing looked -- it was very strong again this quarter. Can you talk about what's driving that? And maybe if you see that as continuing going forward?

Yes, I think you have got to remember, if you step back from a 50,000-foot level. California has a very big energy deficit. It imports 2/3 of its oil from outside the state, 90% of its natural gas and from an NGL basis, it's also an island. So we don't real -- we always get a premium to Mont Belvieu. We are not tied into the kind of NGL infrastructure that's there in the Gulf Coast. So you'll see us have strong realizations, the primary markets are in Mexico and Canada for us. And we did have a little bit of a tail-off for a little bit there, but I think we have kind of back to normal and very strong realizations on our NGLs.

Which, if you look at it historically, it's been that way.

The next question come from Gregg Brody with Bank of America Merrill Lynch.

Just a couple for you. The first one, so the midstream JV. Could you talk about what the opportunity set for you to grow that business in terms of organic opportunities and M&A? How are you thinking about it?

So obviously, we have our portfolio that we can use the proceeds, invest in our portfolio of inventory. Or you look at the asset that could potentially be for sale in the company whether -- I'm sorry, in California or elsewhere. We are not -- we do have an AMI that goes back to the spin, but I think that we could use the proceeds -- if it was, that made sense. I don't think most things in North America compete with California when we look at from a value perspective, especially when you talk about M&A deals. But we have a competitive advantage from an operational standpoint, from an infrastructure standpoint and really anything that could be for sale and there's been some things that had a high level of turnover, whether it be bankruptcy or other things, where assets are being held in California by books that might not be long-term [hens]. So that's something that we have to balance it off. But obviously, from my perspective, the cash is burning a hole in my pocket, so I want to make sure we utilize that, instead of getting the minuscule interest we get, we can go out and invest in something that's going to create real value for our shareholders. Whether it being in the ground, or through an acquisition or in the ground through inventory. Or buying back debt at a discount, and that's really what we are looking at really hard right now and losing sleep at night about.

Maybe, and I'm sorry but maybe I didn't ask my question clearly. I appreciate all of that and I didn't mean to make you repeat that. My question was specifically about the midstream PowerPoint JV. I'm trying to see how you see creating value at that entity? And where I'm going with that is, is how much can you potentially grow the volumes there yourself? How much can you do it outside of the CRC system by bringing in other EMP assets, other volumes? And ultimately, how does that lead to a -- I recognize there is some structure here that allows for an eventual sale of this asset, 5 to 7 years from now, who knows may be sooner. But trying to figure out how you think about the value creation there? A.

Okay. Sorry Gregg, I went down the other rabbit hole. But from what we've done, and we've been very successful, got to remember the power here is generated at a small percentage of the cost of where we pay for power on the grid. So connecting new fields or connecting our existing fields that are nearby is invaluable for us because we are in a power intensive business. So I think that's very important. But also, we can connect our other midstream assets or other peoples' midstream assets, or we can bring in other peoples' volumes who might be -- have an older, outdated plant that doesn't have as good of technology or has some requirements from a capital standpoint to meet new AQMD standards or something like that. I think there's a lot of potential synergies here, in addition to the complex of assets that exist around Elk Hills. I mean, if you look at within a 10-mile radius of Elk Hills, I think there is 3 multibillion barrel oilfields and a lot of smaller oilfields that could be tied in, in some fashion that has the best stance -- from a standpoint of gas processing facility west of the Rocky's, the most sophisticated. And then also a power plant, which can internally generate the power or sell it to somebody at a discount, but still make a profit for ourselves.

So if you think down the road, I mean I recognize there a bunch of provisions in there to allow for an exit by -- for Ares with the sale and the IPO? How do you think this JVs going to exit its current financing structure, and ultimately, potentially monetizing more value? (inaudible)

I don't know if I could see 5 to 7 years into the future, but I think at this point in time, I mean, some of those provisions were put in for different reasons other than what a traditional partnership would have, it's more driven by tax or other considerations. But I think at this point in time, we do have a real partnership and as we get closer to those true decision points for ourselves, we'll have to take that into account at that point in time. But I think at this time, we are just very bullish about it, looking to grow the business that we are involved in here, from both the volume perspective and tying in more existing assets, whether it be ours or someone else's, that could benefit both parties. So yes, it's hard for me to say what will happen in 5, 7 years from now.

Got it. I just wondering if you were thinking about an IPO in the near term or medium term, but...

Well, we can think of everything. I mean, there's not a thing we haven't thought about. We've looked at, should we do some of this on our own? Should we create our MOP? Should we work with other folks? I mean, there isn't a -- I think, an opportunity we haven't vetted, but we really feel like we hit the sweet spot here with our partnership with Ares.

The next question come from Joseph von Meister with Bennett Management.

This is hopefully a quick one. The Q4 guide was for Q1 production of $120 million to $125 million. The Q3 guide was $125 million to $130 million, and the Q2 guide for Q3 was $127 million to $132 million. So in the midst of putting some significant capital to work, production guides have been coming down. I'm wondering if you could bridge me to what you guys think is normal.

So when we were coming in -- going into last year, or through last year, we talked about we reached this inflection point. I think the hiccups on the fires, mudslides and we talked about 1 particular well also, that has enabled us not to kind of bottom out or flatten out at the bottom where we wanted to. I think, clearly, we probably have at this point, bottomed out when we look at everything. And we're continuing to focus on investing from a standpoint of from a maintenance capital standpoint. As we've always talked about and start to flatten out. And the decision then comes into play here as a come into this year, as we grow out of this December, January bottom of the production curve. I think what it will be, where are we best positioned to invest in the business to grow or invest the business to maintain and utilize excess free cash to buy in debt or invest more in the business to grow business. So I think that's where the real inflection point is now, is we are here and now it's a question of, as we invest in this price environment, are we going to look to grow very modestly? Or maintain flat production and try to buy in debt or pay down our debt with the excess free cash flow? I think, as you saw last year, we were still arresting our decline, as we guided in. I think we would have, obviously, bottomed out except for the fires and the mud slides. So at this point in time, I think we are back on the trajectory as I alluded to before, but I think by the end of this quarter and early Q2, you'll see us back up to where we should have been and continue to kind of maintain or grow modestly from there.

So do you see an exit rate in Q1 of something closer to $128 million to $130,000?

No, I think, obviously, we guided $120 million to $125 million, I think if you wanted to think that we should be closer to $125 million, I think that would be correct thinking at this point in time. But we have PSC effects that work against us also. So that's the wild card when you think about a net production basis. If you didn't have any PSC effects, I would say clearly, the way it would guide out. But again, if we have -- prices means we move up from here, it will meaningfully move the production down.

Maybe it would be good to report your numbers so that the PSC effects were included.

Yes, we have done that on a gross basis also and we do it in our guidance for the next quarter also the attachment to the earnings release.

This is Mark. If you look at page 21 of the press release, we give you the pricing effect, the PSC effects both in terms of production as well production costs, attributable to PSC effects at varied price scenarios, $10 up, $55, $65, $75.

So the guidance that you're giving, I mean, just to wrap this up and I apologize, but we are at 126,000 in the fourth quarter, we were 128,000 in the third quarter and we are expecting to turn up. Now you're guiding to 120,000 to 125,000 for the first quarter and the disconnect or the problem that I have with that is that the mudslides only cost you 400,000 barrels a day. So there is obviously something else going on? Or you're just being very conservative, I don't know?

No. The $400,000 a day was the net impact in the fourth quarter just from the December. I think if you look at the effects in January, they were higher than that. So we look at going forward, we think there's probably going to be, overall effect is going to be 2000 to 3000 barrels a day, plus or minus.

On a quarterly run rate?

Yes, if you said that the quarter was December, January, February, it's going to be kind of that impact.

Got it. So this goes past and then you're sort of back to normal by the second quarter?

Yes, that's really what we are talking about is that and the PSC effects. Because if you look at, again, like I said, we still have a very small amount of our production that's off-line. But there is a few hundred barrels a day of third-party’s production that we process at our gas plant in Ventura that with net production for ourselves also, that's still off-line from the fires. So there's different impacts here going on.

This concludes our question-and-answer session. I would like to turn the conference back over to Todd Stevens for any closing remarks.

Thank you, everyone. CRC is focused on value creation and our plan is working. We are enhancing our resource-based resumed production growth while living within cash flow and expanding our margins to deliver long-term value for our partners and investors. These principles will continue to guide us through 2018 and beyond as we deliver much needed energy for California, by Californians. As a reminder, we look forward to seeing you at our Analyst and Investor Day in New York on October 3. We expect to see a save the date from our Investor Relations team soon. Thank you. Good bye.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.