CNX Resources Corp

NYSE:CNX

Earnings Call Transcript 2021-Q2

[Operator]

Good morning, and welcome to the CNX Resources Second Quarter 2021 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions]

I would now like to turn the conference over to Tyler Lewis, Vice President of Investor Relations. Please go ahead.

[Tyler Lewis, Vice President-Investor Relations]

Thank you, and good morning to everybody. Welcome to CNX’s second quarter conference call. We have in the room today, Nick DeIuliis, our President and CEO; Don Rush, our Chief Financial Officer; Chad Griffith, our Chief Operating Officer; and Yemi Akinkugbe, our Chief Excellence Officer.

Today, we will be discussing our second quarter results. This morning, we posted an updated slide presentation to our website. Also detailed second quarter earnings release data, such as quarterly E&P data, financial statements and non-GAAP reconciliations are posted to our website in a document titled 3Q 2021 Earnings Results and Supplemental Information of CNX Resources.

As a reminder, any forward-looking statements we make or comments about future expectations are subject to business risks, which we have laid out for you on our press release today as well as on our previous Securities and Exchange Commission filings. We will begin our call today with prepared remarks by Nick, followed by Yemi, and then Don. And then we will open the call up for Q&A, Chad will participate as well.

With that, let me turn the call over to you, Nick.

[Nick DeIuliis, President and Chief Executive Officer]

Thanks Tyler. Good morning, everybody. I’m going to keep my remarks brief this morning is we had another simple, clean, easy to understand quarter and our investment thesis remains intact. If you look at Slide 2 in our deck, the theme that I’d like to highlight once again is that a steady execution and that’s the same theme that we’ve been hitting upon in recent prior quarters. So for sure, second quarter is another quarter highlighted by successful execution of the long-term plan that we laid out in April, 2020. The second quarter marks the sixth consecutive quarters, significant free cash flow generation, where we produced $117 million.

We use that free cash flow to continue doing what we said we do. And we reduced net debt by $89 million and opportunistically bought back $23 million worth of shares we consider to be attractive prices. We currently have approximately $215 million left in our existing stock repurchase program. And as we said in the past, we’re going to continue to use the future free cash flow to reduce absolute debt until we achieve a leverage ratio of around one and a half times, and while we’re doing that, if our stock continues to trade at a discount, we’ll have the wherewithal to repurchase shares along the way while reducing debt, which is what we’ve been doing since the fourth quarter of 2020.

And we’ll utilize both our liquidity and timing flexibly, and use that flexibility to adjust the free cash flow allocation between debt pay down and share purchase weightings week-by-week, and we’ll look at that month-by-month and we’ll look at a quarter-by-quarter. What will guide us? It’ll be the math of the risk adjusted returns and per share value that’s what we use when we decide how and when we change our weightings. Also in the quarter, we increased our 2021 free cash flow guidance again by another $25 million to $475 or $2.18 per share. This compares to the previous guidance of $450 million or $2.04 per share.

So looking at the cliff notes version of where we’re at, now for the second quarter, free cash flow was up, free cash flow per share was up, that was reduced share count was reduced. And then for 2021, our free cash flow guidance was raised.

Now, let’s hear from Yemi.

[Yemi Akinkugbe, Chief Excellence Officer]

Thanks Nick. Good morning. I’m going to focus my attention on the topic of ESG to highlight our leadership efforts, as well as the significant opportunities we see for free cash flow generation and per share of value creation in this area.

Last week, we released our annual corporate responsibility report that provides comprehensive look into our unique ESG accomplishments and our strategy moving forward. I want to take a minute today to highlight this company’s value and our ESG leadership, not just in the oil and gas space, but in corporate responsibility across all America. If you haven’t already, I encourage you to take a deep dive into the full report, which can be found on our website at responsibility.cnx.com.

In a world where similarly every public company is racing to announce a net zero target years into the future, CNX has not only achieved net zero, but net negative status today. And that’s highlighted on our Slide 3. We believe this is the first among natural gas upstream and midstream company. When you look at the amount of methane, we prevent from being vented into the atmosphere from the extraction of still making coal on an annual basis, which is approximately 300,000 metric tons of third party methane. We capture around seven times more CO2 equivalent emission than we produce via our Scope 1 and 2 emissions footprint from daily upstream and midstream operations combined.

Additional opportunities exist to further deepen our net negative Scope 1 and 2 emissions profile by continuing to eliminate fugitive emissions from oil and gas operations, making additional investments in coal, mine, methane abatement for third parties and leveraging our extensive surface acreage footprint for alternative energy and other carbon abatement projects. Each of those three avenues offer new exciting opportunities for free cash flow generation and per share value creation.

Most importantly, certain of this tangible drivers of our net negative carbon footprint are practically non replicable and they are unique only to CNX. An energy company that is carbon negative may seem counterintuitive, but we accomplish this through the same values and priorities that have driven our business and allowed it to thrive in this region for generations. It is important to note that CNX has not changed on the contrary. The world has changed around us and began prioritizing the ESG friendly work we have been doing for decades. The methane abatement operation that led to a net carbon negative status are the same operations we have in perfecting for many decades and have led to the birth of the company you see today.

So, from innovative leadership on the environmental front that has potential to have the potential to translate into significant per share value for shareholders, let’s pivot over to the social front, which is a hallmark of our tangible impactful local ESG brand. We have led, and we are determined to continue to lead our industry and the broader corporate community there as well. That’s why, in addition to initiatives, within the company designed to faster an inclusive corporate culture; we have challenged ourselves with an aggressive diversity target for our internal workforce of 40% over the next five years.

We will this challenge through strategic to – we’ll tackle this challenge through strategic opportunities to increase the diversity of our workforce rather than one size fits all policy designed to simply meet a target. We’ll believe – we believe a diverse workforce yield innovative ideas and important diversity of thought and opinion. These internal initiatives tied directly to the 30 million philanthropic commitment we have made through the CNX foundation, as well as the mentorship academy we’re working to establish for young adults into advantage areas.

By investing in urban and rural underserved communities and population in our footprint will generate return for the company through an expanded diverse hiring pool and return for the entire region to a prioritization of the empowerment of the most marginalized among us. Encouraging progress in our communities, while at the same time increasing the local pool of diverse talent is what sustainability means to CNX? Beyond the signature items of our net carbon footprint and our diversity leadership matters any of our tangible, impactful local ESG accomplishments or continuations from prior years, we were the first mover and the adoption of an all electric frac spread and we recycle over 90% of our produce water. Our employees worked the entire year accident-free that’s by the operational challenges of the pandemic. CNX delivered family-sustaining median compensation level that exceeded over 150,000 per year, top among Pittsburgh region public companies.

Half of the direct reports of the CEO are diverse we are a large net provider of tax revenue to the local communities and the state government, long-term focused optimizing intrinsic per share value being the low cost producer of our product and pay for performance culture are the guideposts of our Board of Directors and our corporate governance. Again, I encourage you to review our corporate responsibility report and see for yourself how we continue to position CNX alone at intersection of ESG leadership and performance. Low cost operation, suites capital allocation, and profitability that presents the best-in-class option for ESG focus investors.

Thank you. I’ll turn it over to Don.

[Don Rush, Chief Financial Officer]

Thanks Yemi, and good morning, everyone. I’m going to start on Slide 4. This is a slide we have shown before and compare some of our main financial metrics to the four indices listed on the page, as you can see CNX screens very well across the board. Slide 5 highlights our cost advantage relative to our peers, which is structural and gives us an advantage versus our peer group.

And given that CNX is a low risk free cash flow annuity that is supported by our low cost advantage, asset base and heads book. We believe that we are trading at a significant relative discount in terms of free cash flow yield, which is highlighted on the bottom right graph. As Nick highlighted, we will continue to pay down that and reduce our shares under these conditions. And over the past three quarters, we have bought back $84 million worth of shares.

Slide 6 highlights our cost structure by quarter. As expected, our second quarter costs were up slightly due to two Shirley-Pennsboro wet pads coming online in the quarter. However, as you can see, we continue to expect our full year 2021 fully burdened cash costs to be around $1.05 per Mcfe. Also, I think that is worth noting that if you look at our income statement for the quarter, you will see that we had a loss on commodity derivative instruments of negative $539 million. This consisted of an unrealized loss of $529 million and a realized loss of just $10 million in the quarter. We mark-to-market our entire heads book, each period and with the recent increase in future gas prices, this has resulted in a loss for the period with the vast majority of it being unrealized.

Slide 7, highlights the plan in action with six consecutive quarters of free cash flow generation in the books, we have a high degree of confidence. We continuing to execute our long term $3 billion plus free cash flow plan that we laid out last year. This confidence is supported by our low cost structure heads book and operational proficiency.

Slide 8, highlights our balance sheet strength. And as you can see, we paid down approximately $89 million in net debt this quarter. We have a significant runway and a lot of flexibility before nearest term bonds mature in 2026. And we have only approximately $320 million drawn on our credit facilities, which equates to around two or three quarters of expected free cash flow generation. Given our track record of free cash flow generation would be a clear path to further deliver the balance sheet.

I’ll wrap things up on Slide 9, which hits on some guidance updates, as well as some information on cash taxes. There are no changes to production and capital guidance for the year. However, we did mark-to-market gas and NGL price assumptions, which improved from our last update in April. As such, we increased our full year EBITDA and free cash flow guidance by $25 million. And as you can see, due to our share repurchases and our increase in annual free cash flow expectations, we increased our free cash flow per share guidance to $2.18 per share.

A few final items with respect to taxes. We currently have a federal NOL balance of approximately $1 billion and an unutilized IDC deductions of approximately $945 million. As a result of these two balances available we do not expect to be a material cash taxpayer during our seven year free cash flow plan through 2026.

With that, I will turn it back over to Tyler.

[Tyler Lewis, Vice President-Investor Relations]

Thanks, Don. And operator if you can open the line for questions as this time, please.

[Operator]

[Operator Instructions] The first question is from Leo Mariani of KeyBanc. Please go ahead.

[Leo Mariani, KeyBanc]

Morning guys. I was hoping you could talk us through a little bit on the, the pace of activity here for the rest of the year that you had kind of 14 wells that you’re able to bring online you know, in the second quarter, do we see that start to drop off quite a bit here and in the second half. And just trying to get a sense is the low point of turning mines going to be 4Q, and I also was hoping you could help us a little bit with CapEx in terms of kind of matching that up to trying to get a sense on the CapEx, if you could help us out in terms of how that trends over the next few quarters as well, and anything you can quantify would be great?

[Chad Griffith, Chief Operating Officer]

Sure. Thanks for the question. This is Chad. I’ll get started on that. Maybe Don can fill in at the end, if there’s anything I leave out. I think what you’re seeing in the capital program, I remember we’re generally a one rig, one frac crew program, right. But we did add a little bit activities beginning of this year to take advantage of some NGL prices. So, we added a pad and what that ultimately ended up doing is it sort of, it added some capital in the first half of the year. And I had a couple of TILs in the Q2, but I think the rest of the year is we’re back to that one rig one frac crew program, and so it’s really just a matter of looking at the guidance numbers for the full year and taking out what we’ve done to date and then just sort of dividing by two. We’ll get you real close to the mark on what to expect in the next two quarters on production, on capital and TILs.

[Don Rush, Chief Financial Officer]

Yes, just to add on to that Chad, it’s an easy way to think about in Q3 and Q4 should be fairly similar. So, consistent capital and sort of production between each one of them and again, sort of can take guidance and sort of see what those numbers are.

[Leo Mariani, KeyBanc]

Okay. So number of turn in lines is pretty even in 3Q and 4Q. So if we take the guide, it’s kind of 37 TILs and just subtract the first half TILs, pretty much kind of gets us there basically?

[Nick DeIuliis, President and Chief Executive Officer]

I mean, it’s, again like Chad mentioned the one rig, one frac crew the TIL turning a line one week earlier, one week late could put you on edges of quarters, but net-net as far as the, number like the capital numbers and the production numbers, Q3 and Q4 will be similar.

[Leo Mariani, KeyBanc]

Okay. That’s helpful. And then just in terms of your G&A guidance here, noticing on your chart here on Page 6, you guys were talking about full year cash G&A in 2021 of $0.11 per annum, but just noticing you kind of came out at $0.15 in the first half, that seems like it’s implying a pretty large second half reduction in 2021 on cash G&A. Just any color kind of around that.

[Nick DeIuliis, President and Chief Executive Officer]

Yes. Some of it’s just mechanical around, what kind of rolls through as far as the Q1 and Q2 in regards to how, the equity and stick stuff transition across. I mean, we’re all, we’re always looking to optimize the business and the company moving forward, but the quarter variability is more mechanical in nature.

[Leo Mariani, KeyBanc]

Okay. So just timing if some of the expenses. All right. That’s helpful. Obviously you guys decided to accelerate wet gas activity, which seems to have made a lot of sense, just given the really high NGL prices. If we continue to see high NGL prices, could we see a little bit more of that? Later this year in terms of bringing on some of these, liquids, rich pads, obviously NGLs have done incredibly well. And then just, lastly in a similar vein obviously the 2022 strip looks great, now, at this point or would you guys consider something of the maintenance mode for next year?

[Chad Griffith, Chief Operating Officer]

Yes, this is Chad. I’ll start on the liquid side. No, we are looking at timing of pads and timing of D&C activity. We’re also looking at how to optimize our flowing production, through the midstream system we own in Southwest PA where we’re – we have a lot of flexibility with where we deliver those volumes. We have some damp Marcellus volumes. We’ve got some dry SWPA Utica volumes. We have the option to either blend those together and sell it as a dry gas, or we can reroute the damp Marcellus volumes to processing and extract the NGLs and receive the premium. We do that analysis really on a daily basis and try to optimize that existing production stream to extract as much cash flow as possible. Certainly NGL prices are up, but so are gas prices. And so to us, it’s really about the relative spread between NGL and gas.

And so we have moved some volumes, some incremental volumes to processing, to take advantage of that frac spread. But that really strengthened gas has really kept us from, going further all in, on that move. Local gas prices have sort of recovered and are very strong and we continue to sell a lot of volumes blend volumes and settlement [ph] dry outlets. On the D&C activity we’re adding incremental or shifting activity to a wet play. There’s a lot of the similar math. We look at, all in sort of risk adjusted rates of return on where we want to spend our D&C capital. We have additional wells, so we can go back to in Shirley-Pennsboro and take advantage of strong NGL prices. But we have to look at the returns of that activity, relative to the returns that we have on increment – or our base dry gas plan that we have in Southwest PA.

And so we’re looking at that, there’s a couple factors. The price is continuing to move. Certainly the cost structure of these opportunities is relevant, but we’re looking at how to optimize the schedule going forward based on how commodity prices are changing. I think your second question, yes you had a second question on…

[Leo Mariani, KeyBanc]

Yes, I was just trying to get at, do you look at 2022 and if gas stays really strong at 350, do you guys, still want to stay in maintenance mode, just due to the prioritization of debt paid down, or is there a chance and maybe do a little better than maintenance mode if gas is really strong next year?

[Nick DeIuliis, President and Chief Executive Officer]

Yes. And, I think, a lot of times the way, we’ve sort of talked about this to, and we think about it in terms of like more production sculpting, as opposed to just, purely called additive work. So, if you look across the, forward strip and the way we’ve talked about it, the forward strip moves up meaningfully. I think you can think through things like that nature, but as far like period-to-period seasonality’s are just one year. Yes, we’ll try to squeeze as much production as you can into the, kind of high price points, but that’s more just call it, trying to get things on the line a little bit quicker, versus a little bit slower, but in sort of net-net not looking for brand new activity, really just, go and try to pull things up a little bit, or like we’ve done in the past. If it goes the other direction, we’ll delay things a little bit to just try to get that front, six months of production into the best pricing environments that you can.

[Leo Mariani, KeyBanc]

That’s great. Thank you.

[Operator]

The next question is from Zach Parham of JPMorgan. Please go ahead.

[Zach Parham, JPMorgan]

Hey, thanks guys. The last several quarters you’ve used a majority of the free cash flow to reduce debt, but also bought back some shares. Can you just talk about, what else you’d need to see to get a little more aggressive with the buybacks, in the past, I think you’ve talked about a one and a half turn leveraged target, but with your hedge book, you’ve really locked in a lot of the future revenues to get to that level. So, are you still waiting on hitting that target, before getting more aggressive? Really just any color you have there?

[Nick DeIuliis, President and Chief Executive Officer]

Yes. And I think, we’ve talked about this a lot, a lot historically, and we’ve gone more aggressive historically in certain quarters. And as far as what we’ll do going forward, there’s a lot of different factors that we will impact that. And I think to your point, I mean the more call it, the closer you get to the target and the more forward visibility and the cash flows that are sort of locked in, the more you can lean into the things as opposed to others.

We’ve recognized that, gas prices are very unpredictable. Our equity still sort of trades unpredictable, whenever our free cash flows are pretty much locked in at this kind of always been puzzling to me personally. So, we’re trying to be, call it thoughtful and prudent and do both at the same time though, the weightings will vary by quarter by situation. And net-net is the balance sheet and the debt keeps coming down and you get closer to the target and clearly have more ability to push more towards shareholder returns as the balance sheet gets closer, both just mechanically as of like the quarter we’re in, plus, the cash flow certainty that we have forward keeps growing too is as we layer in edges.

[Zach Parham, JPMorgan]

Got it. Thanks for that color. I guess, one more for me, can you talk a little bit about what you’re seeing on local basis and your exposure there? And MVP pipeline is further delay, how do you see that impacting basis within the basin?

[Chad Griffith, Chief Operating Officer]

Yes. Thanks for the question. This is Chad again. So certainly MVP timing risk is certainly very relevant to in-basin pricing. We sort of saw the regulatory challenges that were coming along to that pipeline. I don’t know, at least a year ago, we got aggressive on the in-basin hedging back in, last year coming into the beginning of this year; we got pretty aggressive on the in-basin and hedging. We got, generally as part of the programmatic hedge, we try to keep basis and NYMEX pretty blocked, in lockstep mashed up, but we saw sort of the risk coming with the MVP and potential tightness in the in-basin market. And so we leaned into the in-basin hedging program and got out ahead of it. While that basis price was fairly, was pretty good.

And now we’re sitting at a point where we’re over 90% hedged on in-basin pricing exposure through the end of 2024. And we continue to layer on additional hedges beyond that, where we see attractive opportunities to do so.

[Zach Parham, JPMorgan]

Got it. Thanks for the color guys. That’s all for me.

[Operator]

The next question is from Neal Dingmann of Truist. Please go ahead.

[Neal Dingmann, Truist]

Good morning all. Can you say, you mentioned about potentially this buy more stock back? Can you talk about what discount you need to do so?

[Don Rush, Chief Financial Officer]

Yes, as far as, I mean, we haven’t given any public guidance on exactly or buyback plan. So, we’ve been buying back shares. We bought back about $85 million worth of shares over the last three quarters, and to Nick’s commentary out of the gates. I mean, we will – where we’re trading, you can expect us to continue to do two things, pay down debt and buy back shares. And clearly, as we’ve said before the higher debt free gas we yield the more you – the faster, you want to do it. We just call it balanced by quarter we’ll change by quarter, but, net-net ability to do both and, not do both sometime in the future, but returning capital to shareholders today, I think is fairly unique relative to a lot of folks and like you can expect that to continue going forward.

[Neal Dingmann, Truist]

Yes. Great answer. That’s I was just trying to determine, quarter-to-quarter. So, how do you decide which way to go? So you do have a great free cash flow, and then just one follow-up, maybe more for Chad, just Don, you mentioned earlier about taking advantage of the year about NGLs, and NGLs continue to be, quite high, obviously you’ve got a great footprint to be able to do so going forward, could you talk about, would you do more pads on that link? I’m just, was kind of looking at some of your maps out there and know that you have certainly the availability to do so.

[Don Rush, Chief Financial Officer]

Yes. Try and touch on that a little bit earlier. And I saw if I didn’t quite get it all clear, but when we look at that, we look at the – we have to look at the return of that next pad in a wet area versus that next pad in a dry area and with gas prices, with the gas price strength, and the ability to hedge that gas price for multiple years, the first several years of that new pad production, when you look at the risk adjusted rate of return, when you look at those two opportunities, strong gas market, with the ability hedge and a strong NGL market with less of ability to hedge a lot of times, the sort of the scale still, land in favor of that dry pad. But look, we’re, looking at it continuously as the prices and the forward strips evolve. We update our numbers and we shuffle the schedule around accordingly to bring forward the best risk adjusted rates of return first.

[Neal Dingmann, Truist]

Very good. Thanks guys.

[Operator]

The next question is from Noel Parks with Tuohy Brothers. Please go ahead.

[Noel Parks, Tuohy Brothers]

Hey, good morning.

[Don Rush, Chief Financial Officer]

Good morning.

[Noel Parks, Tuohy Brothers]

I have a couple things. I was just curious as you were talking about your first half activity levels and taking advantage of NGL prices being stronger, and I guess I’m thinking in sort of a bulk case for gas, I’m curious about just service availability in the basin and whether we’re in any conceivable, danger of having any capacity issues, I guess I’m sort of wondering, like what’s the frac spread spare capacity out there as far as high quality effective crews and equipment.

[Chad Griffith, Chief Operating Officer]

Yes, when you look at rig like current rig deployment lower 48 is current frac crew deployment, lower 48; we’re roughly a third, a half below the prior peak. So that’s, it’s still good crews, still good rigs available. I think there’s lots of availability of the crews equipment went and on down the supply chains, you would whether to talk about sand or chemicals or even labor it’s fairly readily available and we had to go to play incremental activity.

[Nick DeIuliis, President and Chief Executive Officer]

And then know with our position on the rig and frac program that we’ve laid out. We’re in great shape with respect to being contracted and covered on the cost of these services. So, we don’t see any pinch points with respect to our ability to continue to execute like we have.

[Noel Parks, Tuohy Brothers]

Great, thanks. And my other one, as the sea concerns, continuing to become more and more on investor’s minds, I’m curious for the private operators around you, do you have any sense of sort of the state of their work on or investment in, working on their methane emissions? Unfortunately, that is one area where, even the really conscientious companies, risk being tied by the brush asserted the worst factors out there. So just want any insight you had on that.

[Yemi Akinkugbe, Chief Excellence Officer]

Yes. I mean, it’s hard to kind of tell about private companies, but like you said, the SG umbrella is, is widespread right now, everybody’s working towards it. You just get nuggets of information on a few private companies here or there, working to reduce their, their Scope 1 or Scope 2 as well. But, this who kept kind of like a very clear picture as to what they’re doing. It’s hard to tell, because again, you’ve got their private is only one way interacting with them and, finally sharing ideas. That’s when we get some so many insights as to what they’re doing.

[Nick DeIuliis, President and Chief Executive Officer]

Do you think that the, the regulatory environment is moving in a direction where obviously the rigor and the stringency of methane emissions is only getting tighter? So to a large extent that’s not a secret of course, within the basin. I think many of the different operators private or public, or are trying to develop plans and operating plans and processes that will be ready for that. But like Yemi said, it’s, it’s tough to gauge individually and company-by-company.

[Noel Parks, Tuohy Brothers]

Thanks. That’s helpful. That’s all for me.

[Operator]

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

[Tyler Lewis, Vice President-Investor Relations]

Great. Thank you. And thank you everyone for joining us here today. Please feel free to reach out if anyone has any additional questions. Otherwise, we’ll look forward to speaking with everyone again next quarter. Thank you.

[Operator]

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.