Western Midstream Partners LP (WES) 2016 Q4 法說會逐字稿

Good morning. Welcome to the Western Gas fourth-quarter 2016 earnings conference call.

(Operator Instructions)

Please note this event is being recorded.

I would now like to turn the conference over to Jon Vandenbrand, Director of Investor Relations. Please go ahead.

Thank you. I'm glad you could join us today for Western Gas' fourth-quarter and full-year 2016 conference call.

I'd 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 discussed today. I would encourage you to read our full disclosure on forward-looking statements. As well as the non-GAAP reconciliations that were attached to last nights' earnings release and to the slides we will reference on this call.

I'm also pleased to inform you that the West K-1s are now available on our website and the WGP K-1s will be available in early March.

With that I will turn the call over to our CEO Ben Fink and following his remarks we will open it up for Q&A with Ben and the rest of our executive team. Ben?

Thank you, Jon and thank you for your calls and notes of support over the last few days. I'm excited to be at my new role of CEO. And I am truly grateful for your words of encouragement.

Before we move into the discussion of our results and outlook, I want to acknowledge Don Sinclair and the success that Western Gas has enjoyed under his leadership. Over the past eight years, Don has been my boss, mentor, teacher and friend. And he has prepared me to lead Western Gas through our next stage of growth. I'm delighted that he will continue to stay on as a Senior Advisor and we will all be well served by his wisdom and counsel.

I'm also excited that Craig Collins is now our new COO as well as head of Anadarko Midstream. Over the past seven years, Craig has played an instrumental role in the growth of our midstream business. His experience it was running both our engineering and commercial teams and many and you have met him on past investor field trips. We are fortunate to have a COO with his experience and leadership capabilities as we enter period of significant capital investment.

Now, I'd like to take a brief moment and share my views on three aspects of our business that I believe are highly relevant today. First of all, I believe the achievement of growing our annual adjusted EBITDA to over $1 billion is a significant milestone in our development. WES has now truly become a blue chip name in the MLP space. Over the past eight years we have grown adjusted EBITDA by over 10 times and have almost tripled our quarterly distribution.

At every step along the way, our focus has been on delivering robust growth without taking undue commodity or financial risk. Our management team continually attempts to find the right balance between absolute growth and growth sustainability. With our run rate adjusted EBITDA now over $1 billion, the primary focus of our distribution growth policy going forward will be sustainability, rather than maximizing growth in any given one year. Our decision to release two years of distribution growth guidance this year, which I'll discuss later in the call, is an outcome of this philosophy.

Secondly, I believe that one of the reasons WES is exceptionally positioned at this stage, is that we have a portfolio capable of generating significant organic growth which is complemented by a safety net of drop-down inventory. We all know the energy business can be volatile at times. And it's unrealistic to assume volumes will increase every year in the future. The first quarter of 2016 was a perfect example of this dynamic. When our execution of the Springfield drop-down at a very challenging time, set the tone for what turned out to be a very strong year.

When I first started at WES in 2009, drop downs were WES' primary source of growth. But today that is not the case. WES is now primarily an organic growth MLP, positioned to deliver sustainable distribution growth with the added flexibility of being able to draw in a drop-down inventory if needed.

Third, many of you have asked recently about our LPGP relationship given the recent restructurings announced by some of our peers. Every MLP has its own unique set of facts and circumstances. And based upon what we know today, I'm comfortable with our current structure.

MLPs often face challenges when their weighted average cost of capital approaches or even exceeds their return on invested capital. This is not the case for Western Gas today. Further, certain MLPs have a one-way relationship with their general partners. Meaning that the general partner receives incentive distributions, but has no means of supporting the operations of the underlying MLP. Again, this is not the case for Western Gas.

To the contrary I believe Anadarko has been the most supportive sponsor in MLP space. And as the primary owner of our IDRs, it has a strong incentive to continue to support WES' objective of growing distributions over time. Now onto our results.

Our portfolio, once again demonstrated is resiliency by delivering another year of solid performance despite periods of significant commodity price weakness. Our full-year 2016 adjusted EBITDA exceeded the high end of our guidance range. We delivered distribution growth of 10% for WES and 19% for WGP, while maintaining a distribution coverage ratio of 1.29 times. Our capital expenditures ended up slightly below the low end of our guidance range as we continue to allocate capital to our most attractive organic growth opportunities in the Delaware and DJ basins.

Turning to our fourth-quarter results, we reported adjusted EBITDA and distributable cash flow of $268.4 million and $223.8 million respectively with a healthy coverage ratio of 1.31 times. No business interruption insurance proceeds were received during the quarter.

Our fourth-quarter natural gas throughput was essentially flat with the prior quarter after adjusting for the [Hugoton] divestiture in October. We saw strong volumetric growth in the higher margin Delaware and DJ basins, offset by the declines in the lower margin Marcellus and Uinta basins. This change in throughput mix led to a $0.03 sequential improvement in our adjusted gross margin per MCF for natural gas assets to $0.85.

On the crude and NGL side our throughput slightly decreased as growth at the Mont Bellevue fractionators was offset by declines at Springfield. Adjusted gross margin per barrel for our crude and NGL assets decreased by $0.05 when compared to the previous quarter, mostly as a result of the Mont Bellevue fractionators returning to a normalized distribution schedule.

I'd now like to take a moment to discuss our previously announced Delaware basin transaction. In summary, WES has agreed to acquire the remaining 50% nonoperating interest in the assets of DBJV in exchange for a 33.75% non operated Marcellus interest and $155 million in cash. We expect the transaction to close in March.

This is an important strategic transaction for WES. As it fully consolidates our ownership in DBJV in further aligns us with Andarko's and other producers' rapidly accelerating activity in the Delaware basin. We're trading a lower growth non-operated asset was a little sponsor alignment for higher growth operated asset with significant sponsor alignment. DBJV is supported by a cost of service contract through 2025 that will allow us to aggressively invest in the basin over the next several years while feeling comfortable in our ability to earn an acceptable rates of return on invested capital.

The rapid development of Delaware basin infrastructure is of paramount importance to us and Anadarko. And as we said in the past, everything we are trying to do in the Delaware is an attempt to replicate the successful play book that we utilized in the DJ basin. Key to this strategy will be integrating individual assets into a unified gathering and processing complex, and this integration can now be achieved more efficiently. This transaction is therefore a critical step in further enhancing what we believe is the premier gathering and processing footprint in the Delaware basin.

The near-term impact of this strategic long-term acquisition is a reduction in our forecasted 2017 adjusted EBITDA. Slide 8 attempts to quantify this impact as well as certain other items that affect the comparability of our 2016 adjusted EBITDA to the midpoint of our 2017 adjusted EBITDA guidance.

The key variance drivers are as follows. First, we estimate our 2017 adjusted EBITDA would've been $32 million higher if we had not entered into the exchange transaction. Depending on the growth rates of the exchanged assets, we believe that the EBITDA of the DBJV interest we acquired has the potential to exceed that of the non operated Marcellus interest by 2018.

Second, we recently extended the mountain gas fixed price agreements through December 2017. The accounting treatment for this extension will be the same as that of the DJ basin extensions in 2015 and 2016. Based on our 2017 forecast, we will record approximately a $26 million capital contribution related to mountain gas that would've been treated as revenue prior to that extension. Please note that our practice is to add this capital contribution back into our calculation of distributable cash flow.

Third, based on the latest forecast, our DBJV gathering [late] will be lower in 2017 than it was in 2016. Perhaps paradoxically, a lower rate is good news because it means our volume forecast with the outer years has improved compared to last year's forecast. Had the gathering rate remained constant, we estimate that our 2017 adjusted EBITDA attributable to our 50% interest in the assets of DBJV that we owned in 2016 would have been $9 million higher than what we are projecting today.

Finally, please note that the Hugoton asset that we divested at the end of October generated $9 million of EBITDA for us in 2016. When adjusted for all these items, all of which are results of positive commercial developments, our forecast reveals a base portfolio that continues to generate organic growth fueled primarily by the Delaware and DJ basins.

With respect to capital, our 2017 guidance range is $900 million to $1 billion. This is the largest capital budget in our history. And we expect this substantial investment will support distribution growth for years to come. We anticipate that the Delaware and DJ basins will represent 84% and 14% respectively of this program, with 50% to 60% of our Delaware basin capital spent on expanding our gathering footprint. This program assumes a March closing of the DBJV transaction and the completion of train six at our Ramsey plant in the fourth quarter.

The budget also includes capital for the construction of two new processing trains in the Delaware basin Mentone 1 and Mentone 2. Mentone 1 is scheduled to come online in the third-quarter of 2018, with Mentone 2 scheduled for the fourth quarter of 2018. Both of these trains will have 200 million cubic feet per day of capacity and are expected to be supported by long-term volume metric commitments from Anadarko.

Finally, our capital budget also includes $25 million to $30 million to finish the two produced water gathering and disposal systems that were announced last quarter. Anadarko will also be investing significant capital to develop produced water disposal systems in the Delaware basin, thus adding to the inventory of potential drop-down assets.

Over 80% of this inventories 2017 forecasted cash flow is expected to be generated by growing assets in the Delaware and DJ basins. Despite Anadarko's monetization of its Marcellus midstream assets, which generated over $40 million of EBITDA in 2016, the 2017 run rate EBIDTA range for the Anadarko midstream portfolio is unchanged.

Even more exciting for us, Anadarko plans to invest an incremental $600 million to $700 million in its midstream business in 2017, further replenishing the midstream inventory. Anadarko's capital spend will primarily be focused on crude gathering in the Delaware and DJ basins and produced water gathering and disposal systems and the Delaware basin. I encourage you to listen to Anadarko's guidance call on March 8 for more information on their 2017 capital program.

Slide 10 is a summary of our 2017 outlook. And shows that we expect to spend more on maintenance capital than we ever have in our history. 2017 is a year in which we are focused on delivering sustainable growth over the longer term. As we discussed, the Delaware Marcellus asset exchange is an example of this longer-term focus. We have the ability to make this type of investment, thanks to our strong 2016 distribution coverage, our low leverage, and the fact entered 2017 with over $1.5 billion of available liquidity.

In addition, I'm pleased to announce that we have reached agreement with the holders of our series A preferred units to convert them into common units in the first and second quarters of 2017. This conversion will have a significant deleveraging effect, and as a result we expect to be able to fund our 2017 capital program without the need for additional common equity issuances.

Furthermore, Anadarko has elected to defer the conversion of its class C units until March 1st, 2020 which will give us additional time to reap the benefits of our Delaware basin build out. We believe these two transactions taken together remove significant potential equity overhangs in the next three years.

Since the key theme of our 2017 strategy is investing for the longer-term, for the first time, we are providing distribution growth guidance for the next two years. We expect WES full year annual distribution growth of 7% to 9% in 2017 and 2018. And WGP growth of 12% to 18% through the same time frame.

In conclusion, I would like to thank our entire midstream team for making 2016 a record-setting year. And all of our investors for your continued support as we embark upon our next growth phase. I believe 2017 will be remembered as an inflection point in our history because we expect to draw upon the financial strength generated by our 2016 performance to make the strategic investments that will drive our results in years to come.

With that operator, I'd like to open up the line for questions.

(Operator Instructions)

The first question comes from Kristina Kazarian of Deutsche Bank.

Good morning, guys. Ben, congrats on the promotion and Don it was a pleasure working with you.

Exciting announcement on the new [cat] project spend guys. Specifically thinking about the Mentone, and apologies if I'm pronouncing that wrong, plants. But can you talk about why selecting the asset site? How many trains the site could handle if I'm thinking longer term?

And Ben pushing you for a little more even though you just gave the biggest CapEx spend number yet. What do you see is the next mid-set of midstream constraints on the horizon? Is it the need for more GNP? Is it residue gas take away? How are you thinking about that now that you are CEO as well?

Things Kristina. And thanks for your kind words. We purchased the land for the Mentone plant and there is room there for significant expansion. As you mentioned, we have announced the first two trains. Each of those trains is probably going to cost in the $125 million to $175 million range when you fully load that forefront in power, et cetera.

I can't really give guidance beyond 2017 but if you were to see the site that we purchased there is room for significant expansion. If you look at Anadarko's and other producers' guidance you can see the need for future expansion behind that if they deliver what they think they're going to deliver.

You have also noted that there is no [residue] take away option that we have announced. That is still a systemic need I believe for the basin and we are still evaluating our options.

This could be an operated solution, this could be a non operated solution. This could be helping our customers drive down a rate so low that we don't want equity in it and we are just trying to look at all the options. As you mentioned, this is going to be a very robust year that may be the first of several years to come.

How do I think about opportunities for other midstream related asset swaps? Maybe thinking Eagle Ford or how are you thinking about that then?

Other swaps? As we mentioned in the prepared comments, this is a highly strategic transaction. Our ability to basically own and operate virtually all of our infrastructure is a big deal for our future plans. I can't really think of a comparable scenario.

If you think about the DJ, our other growth area. We own all of our infrastructure there 100%. So there's nothing really being contemplated in the near term.

The last one for me. You laid out a lot of great opportunities. The biggest cap end spend yet. Growing APC backlog too. How do I balance all of these priorities in your mind?

Not entirely sure I understand the question. Obviously, we are trying to replicate the DJ play book. Which is aggressively invest alongside the Anadarko drill bit.

But we have a very robust third-party business and we take our commitments to those third parties very seriously. For example in the two Mentone plants we make sure there is adequate capacity not only for Anadarko, but for the growing third parties as well.

That's great. Thanks, Ben. Congratulations again.

The next question comes from Jeremy Tonet of JPMorgan.

Good morning guys, this is [Akmir Holland] for Jeremy. I have a couple of quick questions for you. First on the Mentone trains. How much do you anticipate APC versus third party volumes there? Just curious?

I appreciate the question and I'm a bit reticent to go into the details of an Anadarko contract in advance of their analyst day on March 8. So I would ask you ask them the details of the contract on that date if it is of particular importance to you. I will repeat my prepared comments that we anticipate those trains will be primarily for Anadarko usage. But we're we are making sure there is adequate capacity for third parties as well.

Got you. How full is the Ramses complex currently? And how do you see it [pending] on the later half of the year?

We are at 700 [AF] of capacity right now. And that is ramping in line with our expectations. Perhaps, excitingly, we are aware of at least one customer that is looking at interruptible options in the summer. Because they're going to feel we might be full before Ramses 6 comes online. And they might need something for that stub period in the summer. So that tells you we are ramping at a comfortable rate, and doing everything we can to get Ramsey 6 on as soon as we can.

Got you. That's helpful. I think you guys are expecting to spend close to $750 million or so on the Delaware. So how do you think about split with Mentone and other (inaudible)?

In the prepared comments, we talked about how gathering is 50% to 60% of that capital, depending on how things shake out they could even by higher. I've already mentioned the Mentone cost estimates. So above and beyond that, you have the finishing out of Ramsey 6.

Got you. One last one, can you walk me through [the drivers of the downside of the first guidance range on anything]? Like which can properly work the higher end of the guidance? What kind of drivers we should be thinking about there?

I think it is two primary drivers. And that's an excellent question. One is clearly the timing of ramping of processing volumes in the Delaware. Faster gets you closer to the higher ends, slower get you closer to the lower end.

The other is what happens in the DJ basin and to take a step back, remember that Anadarko, our largest customer went all the way down to one rig last year. Now the outlook is much better and they announced they will be at six rigs by the end of the first quarter. But by 2017 you are feeling the volumetric impact of that going down to one rig in 2016.

So the question is, how do you get back on that growth train? And when does that start happening at what point in the year? Since the DJ basin is our largest driver of cash flow, it could have a significant impact on where we end out in that range. Does that make sense?

That's quite helpful, Ben. Again thanks and congratulations as well.

The next question is from Sharon Lui, Wells Fargo.

Good morning everyone. The slides indicate that Anadarko has earmarked about $600 million to $700 million of midstream CapEx. Maybe you could provide some detail on the types of projects that Anadarko is taking versus WES? Especially on the waterside? And if the plan is to eventually migrate all the spending to WES?

Sure. I will just disclaim it Sharon and I will tell you what I can but in advance of their own call on March 8, I might not be able to give you the level of detail you would get on that date.

As we mentioned in the prepared comments, their primary driver is where the capital are. Their crude system in the Delaware which is still at the Anadarko level. The crude system in the DJ, which is that the Anadarko level and I should mention that crude system in the Delaware also means building a stabilizer and produce water disposal in the Delaware.

We are building out two systems at WES which has three wells as part of the two systems. Everything above and beyond that, which as you can see by the slides is over $200 million of capital will be at the Anadarko level.

That is very exciting for us because those are a bit higher return than gas or crude gathering according to our base case and that will replenish the inventory even faster so that is very exciting to us. Anything above and beyond that I would ask you wait a little longer until March 8.

Okay. Just a follow-up on the other question. Is the plan to eventually move all the spending to WES as the portfolio gets bigger? How should we think about the capital program at WES over the next couple of years? Can you envision it being at that $900 million range?

Because so much of it is gathering Sharon, that a lot of it is tied to drilling activity. I think if the producers do with they think they can do, it will be heavy gathering CapEx for the near to intermediate term.

Right now WES' spending capital associated with the assets at WES. And Anadarko is spending capital associated with assets at Anadarko. Just as happened over the last eight years, if more assets move from Anadarko to WES that probably means for capital burden on WES. As WES gets bigger and has more scale and scope, we can absorb more of the capital burden and is still maintain our distribution coverage targets and leverage targets, et cetera.

With the two Mentone plants, [once] Anadarko will have a pretty substantial processing presence in Delaware. Can you maybe talk about the NGL take away options you guys have signed up for? And whether you think there is sufficient capacity to keep pace with the development of the region? If not is there an opportunity for WES to invest further downstream?

We do not take [title] of those NGLs, but what I'm hearing for customers is they are in constant contact with the take away providers today and they are comfortable with what they are hearing about their plans to expand. There will be needs for expansion and some of that front end work is on the way and they are in constant communication, and they are not concerned about a pinch point like they are with residue gas as long as those take away producers meet their commitments on how the expand this take away options over time.

Thank you.

The next question comes from David Amoss, HEA.

Good morning, Ben. I want to go back to the gathering CapEx and appreciate the detail there. Can you maybe quantify what you are building this year, in terms of mileage? And how in terms of rule of thumb or big picture, how we can associate that mileage and spending going forward over the next several years?

I may let Craig Collins talk about mileage. What I would tell you it is mostly Reeves County. If you look at our footprint as it stands today, it's more built out to the east then it is across the Pecos River so there will be a lot of trunk line and associated compression and horsepower, et cetera. But in terms of miles but make let Craig talk about that.

Thanks for the question. As Ben noted, we are expanding in the Reeves County area to date. Our footprint is primarily in the Loving Ward County area with some infrastructure in Reeves, but we have got a major expansion project underway in Reeves County for this year. We are planning to put in approximately 210 miles of gas pipeline out in Reeves County and alongside that pipe will be oil and water pipe that would be going in on Anadarko's behalf.

We are excited about the expansion and getting out into Reeves. It is a checker boarded position for Anadarko and so gives us a lot of third-party opportunities going forward.

That's really helpful. I want take a step back and think about the Permian, Delaware, and Midland. The amount of gas that seems to be on the horizon there. And at what point do you start to worry about overall gas take away from the region?

Great question, David. And we are particularly focused on our area of the world which is not only Delaware but the Northern Delaware. We've been talking for quite some time about the need for additional take away capacity and we believe the solution is to eventually get to Waha, which is about it 80-mile lay. And where you have the different interconnects that can go Mexico and various other places. I still need a solution just as we did in late 2015 and hopefully we will have more to say about that later this year.

That's helpful, thank you.

The next question comes from Barrett Blaschke of MUFG Securities.

Quick question on the CapEx for 2017, is it inclusive of the payment associated with the asset swap? And does it include additional drop-down assumptions for the year?

No, no drop-down no acquisitions of any kind and no, it does not include that $155 million (inaudible) organic CapEx.

So that's purely the organic then? Got it, thank you. On the series A. conversion can you give us a walk-through what you are expecting coverage to look like with that? And the timing and the process on the conversions?

Sure, and I appreciate the question. Half the units will be converted in February, the other half in May. Just as a reminder, there is approximately $700 million of these preferreds out there, so from a rating agency perspective that is $350 million of debt.

The impact of converting them from a balance sheet perspective, would be the same impact if we issued $350 million of equity and paid off that debt. So we are making $350 million of what is being recorded as debt disappear through this transaction. That's an important move and the Williams deal is an important move as well, in terms of setting us up for future distribution growth.

The impact of that is compression of the coverage ratio, and we fortunate we ended 2016 with strong coverage that we have the ability to make transactions like this. Because those preferred units were going to be converted in the future anyway, you are better off converting them early than you would be issuing common now and converting those preferred units later, and having to deal with that additional comment. While it is going to compress coverage ratio in 2017 and 2018 and beyond it is actually a positive move. Let me stop there and make sure you are following that.

Got it, thank you.

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

Once again, thank you for all your support. I look forward to talking to you in the days and weeks to come and we will see you next quarter.

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