Magnolia Oil & Gas Corporation (NYSE:MGY) Q3 2023 Earnings Call Transcript

Magnolia Oil & Gas Corporation (NYSE:MGY) Q3 2023 Earnings Call Transcript November 2, 2023

Operator: Good morning, everyone, and thank you for participating in Magnolia Oil & Gas Corporation’s Third Quarter 2023 Earnings Conference Call. My name is Marliese, and I will be your moderator for today’s call. At this time, all participants will be placed in a listen-only mode as our call is being recorded. I will now turn the call over to Magnolia’s management for their prepared remarks, which will be followed by a brief question-and-answer session. Please go ahead.

Jim Johnson: Thank you, Marliese. Good morning, everyone. Welcome to Magnolia Oil & Gas’ third quarter earnings conference call. Participating on the call today are Chris Stavros, Magnolia’s President and Chief Executive Officer, and Brian Corales, Senior Vice President and Chief Financial Officer. As a reminder today, today’s conference call contains certain projections and other forward-looking statements within the meaning of the federal securities laws. These statements are subject to risks and uncertainties that may cause actual results to differ materially from those expressed or implied in these statements. Additional information on risk factors that could cause results to differ is available in the company’s annual report on Form 10-K filed with the SEC.

A full safe harbor can be found on Slide 2 of the conference call slide presentation with the supplemental data on our website. You can download Magnolia’s third quarter 2023 earnings press release as well as the conference call slides from the Investors section of the company’s website at www.magnoliaoilgas.com. I will now turn the call over to Mr. Chris Stavros.

Chris Stavros: Thanks, Jim, and good morning, everyone. We appreciate you joining us today for a discussion on our third quarter 2023 financial and operating results. I plan to briefly speak to our latest quarter, then review some of our team’s accomplishments this year and reducing costs associated with our capital program. We’ll also discuss how we’ve allocated our free cash flow over the last three years and noting how our shareholders have benefited from the increase to our free cash flow profile through consistently strong cash returns. I’ll finish up by providing some broad comments around Magnolia’s 2024 capital and operating plan. Brian will then review our third quarter financial and operating results in greater detail and provide some additional guidance before we take your questions.

As we’ve previously outlined, Magnolia’s primary objectives are to be the most efficient operator of best-in-class oil and gas assets and generating the highest return on those assets while employing the least amount of capital for drilling and completing wells. We also strive to return a substantial portion of our free cash flow to our shareholders in the form of share repurchases and a secure and growing dividend.Finally, we plan to utilize some of the excess cash generated by the business to pursue attractive bolt-on oil and gas property acquisitions. The acquisitions are targeted to not simply replace the oil and gas that has already been produced, but importantly, to improve the opportunity set of our overall business, enhance the sustainability of our high returns and increase our dividend per share payout capacity.

Magnolia continued to execute its business model, delivering solid operating and financial results during the third quarter and consistent with the principles that help us achieve our overall goals. Our third quarter production volumes at [82.7 thousand] (ph) barrels of oil equivalent per day established a new quarterly record for the company with our Giddings asset driving overall growth both year-over-year and sequentially. Giddings continues to represent a greater proportion of total company production now comprising approximately 75% of our total volumes. Our D&C capital spending of $104 million during the quarter was only 44% of our adjusted EBITDAX, leading to free cash flow generation of approximately $128 million and our solid operating income or EBIT margins of 47% were indicative of our focus around reducing overall costs.

Looking at Slide 3 in the earnings presentation found on our website, our proactive efforts taken early this year toward elevated materials and oil service costs have allowed us to capture significant reduction in total cost per well and lower our overall capital spending this year. Our original guidance and outlook called for D&C capital spending of approximately $505 million during 2023. Both the supply chain and D&C teams worked collaboratively with our materials vendors and service partners to reduce costs while maintaining continuity of supply and the consistency of high-quality crews and services. These cost reductions are expected to result in 15% lower capital spending this year or savings of $75 million compared to our original outlook.

We now expect our full year 2023 D&C capital to be approximately $430 million, which represents a 7% reduction to our 2022 capital levels while still delivering year-over-year organic production growth of 8%. Point to point, our cost for drilling a similar well in Giddings are currently down about 20% compared to the end of 2022. And said another way, the cost reductions achieved this year effectively allows us to drill and complete more wells at lower cost and provides us with greater capital flexibility around our drilling program into next year. The lower well costs ultimately help to reduce our F&D costs leading to higher operating margins and improved free cash flow. Turning to Slide 4. This shows Magnolia’s production growth and how we’ve also allocated our free cash flow after capital spending during the last three years.

Over this period, Magnolia has generated more than $1.7 billion of free cash flow, returning approximately 60% of this to our shareholders through dividends and share repurchases. Magnolia has repurchased approximately 23% of its outstanding shares since the initiation of our share repurchase program. Roughly $700 million of the free cash flow generated by the business during this time accrued to the balance sheet putting Magnolia in a net cash position. We expect to return approximately 70% of our full year 2023 estimated free cash flow to shareholders in the form of share repurchases and dividends. A portion of the accumulated cash was used during the past year to execute on several small accretive bolt-on oil and gas property acquisitions, primarily around our Giddings asset.

One example includes our most recent transaction we announced in September and which is expected to close by the end of this month. This opportunity improves our overall business by adding high-margin oil-weighted production while also enhancing the depth of development locations in both the Eagle Ford and Austin Chalk formations. The transaction brings our total Giddings acreage position to more than 0.5 million net acres with a current development area of more than 150,000 net acres. We plan to hold this asset into our existing Giddings assets, which will be included as part of our 2024 development plan. This is an excellent example of our strategy to pursue small bolt-on assets adding to our high-quality bench and leveraging the significant knowledge we have gained through operating in the Giddings field to enhance our per share metrics and improve the overall business.

As we look towards 2024, our strategy will remain largely unchanged. We are well positioned with a strong balance sheet, a significantly improved cost structure and a larger footprint in the Giddings field allowing for efficient development, which should continue to drive our high-return production growth. We currently plan to operate two drilling rigs and one completion crew into next year and remain fully unhedged to product prices. Lower costs for drilling and completing wells as part of these initiatives, which I spoke to earlier, in addition to efficiency gains, is expected to provide a moderate increase in our D&C activity in 2024 while allowing for flexibility within our program. Assuming current product prices, we expect to spend less than half of our EBITDAX for drilling and completing wells in 2024, which should deliver high single-digit year-over-year total production growth, with our total oil production expected to grow at a similar rate.

Magnolia’s strategy will continue to be guided by our founding principles of low debt, high operating margins, capital discipline, moderate growth and significant free cash flow generation. Utilizing this framework allows the business to continue to achieve moderate annual growth while providing a sizable steady and growing return of cash to our shareholders. We believe this model will provide an increase to our per share value over time. Magnolia is expected to exit the year on a high note, but financially strong with an improved asset base and confident in our plan for 2024. And I’ll now turn over the call to Brian to provide more details on our third quarter financial and operating results.

Brian Corales: Thanks, Chris, and good morning, everyone. I will review some items from our third quarter results and refer to the presentation slides found on our website. I’ll also provide some additional guidance for the fourth quarter of 2023 as we closed out a strong year from Magnolia. Beginning with Slide 6. Magnolia delivered an excellent quarter as we continue to execute on our business model. During the third quarter, we generated total GAAP net income attributable to Class A common stock of $102 million with total net income of $117.5 million or $0.56 per diluted share. Our adjusted EBITDAX for the quarter was $239 million with total capital associated with drilling, completions and associated facilities of $104 million or just 44% of our adjusted EBITDAX.

Third quarter production volumes grew 1% sequentially to [82.7 thousand] (ph) barrels of oil equivalent per day. During the third quarter, we repurchased 2.5 million shares and our diluted share count fell by 4% year-over-year. Looking at the quarterly cash flow waterfall chart on Slide 7. We started the third quarter with $677 million of cash. Cash flow from operations before changes in working capital was $217 million, with working capital changes and other small items impacting cash by $13 million. During the quarter, we allocated $57 million toward share repurchases and paid dividends of $26 million. We added $73 million of bolt-on acquisitions, which included a $23 million deposit on the acquisition we announced in September, and we ended the quarter with $618 million of cash.

Looking at Slide 8. This chart illustrates the progress in reducing our total outstanding shares since we began our repurchase program in the second half of 2019. Since that time, we have reduced our total diluted share count by 59.4 million shares or approximately 23%. Magnolia’s weighted average fully diluted share count declined by more than 2 million shares sequentially, averaging 209.1 million during the third quarter. We have 11.7 million shares remaining under our current repurchase authorization, which are specifically directed towards repurchasing Class A shares in the open market. Turning to Slide 9. Our dividend has grown substantially over the past few years, including a 15% increase announced earlier this year to $0.115 per share on a quarterly basis.

Our next quarterly dividend is payable on December 1 and provides an annualized dividend payout rate of $0.46 per share. We plan to reevaluate our current annual dividend rate early next year based on our 2023 financial results. Our plan for annualized dividend growth of at least 10% is an important part of Magnolia’s investment proposition and supported by our overall strategy of achieving moderate annual production growth and reducing our outstanding shares by at least 1% per quarter. Magnolia has the benefit of a very strong balance sheet, and we ended the quarter with a net cash position of $218 million. Our $400 million of gross debt is reflected in our senior notes, which do not mature until 2026. Including our third quarter ending cash balance of $618 million and our undrawn $450 million revolving credit facility, our total liquidity is approximately $1.1 billion.

Our condensed balance sheet and liquidity as of September 30 are shown on slides 10 and 11. Turning to Slide 12 and looking at our per unit cash costs and operating income margins. Total revenue per BOE declined by approximately 36% due to the substantial decrease in product prices and especially natural gas prices when compared to the third quarter of 2022. Our total adjusted cash operating costs, including G&A, were $10.68 per BOE in the third quarter of 2023, a decrease of $2.39 per BOE or 18% compared to year-ago levels. The year-over-year decrease was primarily due to lower production taxes, GP&T and G&A. Our operating income margin for the third quarter was $19.49 per BOE or 47% of our total revenue. The year-over-year decrease in our pretax operating margin was driven by the significant decrease in commodity prices.

Turning to guidance for the fourth quarter. We are currently operating two drilling rigs and plan to continue this level of activity through the end of the year. We expect D&C capital for 2023 to be approximately $430 million, which represents $75 million reduction or 15% from our original guidance this year. Despite lower capital spending, we are increasing our full year 2023 organic production growth guidance to 8% or 9% when including the acquired volumes. For the full year 2023, we expect our effective tax rate to be approximately 21%, with most of this being deferred. Our cash tax rate is expected to be between 6% and 9% for 2023. Looking at the fourth quarter of 2023, we expect the recently announced transaction to close in November and help contribute to our fourth quarter volumes.

We expect total production volumes to be approximately 85,000 MBOE a day, and our D&C capital is estimated to be approximately $100 million. Oil price differentials are anticipated to be a $3 per barrel discount to MEH. Our fully diluted share count for the fourth quarter is estimated to be approximately 207 million shares, which is 4% lower than year ago levels. We are now ready to take your questions.

See also 10 Stocks That Will Skyrocket and 16 Billionaires Who Live Like Regular People.

Q&A Session

Operator: Thank you. We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Neal Dingmann from [SunTrust] (ph). Neal, please go ahead.

Neal Dingmann: Morning, all. Congrats on another good quarter. Chris, my first question is just on your ’24 expectations. Specifically, you all suggest that the ’24 operating plan will be, again, assuming the price is about the same, will be similar to this year. So as such, I’m just wondering, could you speak to the potential for the BOE and BO production growth, assuming kind of a similar type of plan, maybe just the generalities behind those two?

Chris Stavros: Yeah. Thanks, Neal. Sure. The BOEs, I expect the plan to be broadly similar, as I said, we’ll go into the year running two rigs, operating two rigs and the completion crew. And I expect that, that will go fine. Not going to be — you shouldn’t look for magnitude shifts in terms of activity or capital or whatnot. These are more sort of around the edges. But as you’ve seen, we’ve done a lot in terms of some things in terms of acquisitions. And as we pointed out, we’ll fold some of that into the activity next year purposefully not only to sort of see how it’s going to go, which we have a lot of confidence around to begin with, but also to see how much more of it we want to continue to fold in with time. But I’m quite optimistic that we’ve done some things here and based on our plan as well that largely arrest any issues around the oil production if that’s been an issue.

But I fully expect the oil production to sort of climb at a similar rate as we talked about relative to our overall BOE growth. So if we said sort of high single digits on total BOE volume growth, I would expect to see something similar for oil production too.

Neal Dingmann: Great details, Chris. And just a quick second question. I was curious if you all can maintain your industry-leading reinvestment rate going forward, obviously, it’s very notable, which you’ll continue to be able to spend well under 50%. I’m just wondering maybe you could just talk a little bit about that going forward, given how well it continues to be.

Chris Stavros: I think we can. I think part of the — there’s a trick around this. I mean part of it is to not necessarily get overly aggressive with the money or the spending or the growth over time or weigh yourself down necessarily with large PDP adds vis-a-vis acquisitions. So our focus is to actually try to do things that enhances the capability of the organization and the business over time. So the type of reinvestment that you’ve seen us sort of kick out over the last several years, I don’t see why that should be meaningfully different here going forward. I still anticipate us providing or creating a ceiling around our capital and reinvestment rate of the 55%, and we can grow sort of moderately within them. So I sort of see the same outcome.

Neal Dingmann: Well, that’s great to hear. Thanks, Chris.

Chris Stavros: Thanks

Operator: Our next question comes from Umang Choudhary. Umang, you may go ahead.

Umang Choudhary: Hi, thank you. Good morning. Thank you for taking my questions. First, I wanted to get your thoughts around the recent acquired assets and how that compares with your legacy core? And then on my second question, now that you’ve doubled your development area in Giddings, how should we think about your longer-term growth rates beyond the next five years? And how should we think about your plans around double-digit dividend growth? Can you sustain that for a longer period of time?

Chris Stavros: Yeah. So around the acquisition, as I mentioned, we expect to close the transaction by the end of the month, the acquired assets included around 48,000 net acres. It came with 5,000 equivalent a day of production approximately, that was about 70% of oil. And as I mentioned, we plan to fold that into the Giddings program and to drill some wells on the acreage that will be interspersed throughout the year. And so we expect to get a lot out of it, and it was something that we viewed as quite attractive. Where it is exactly and what is it? It’s sort of a little different than what we’ve been doing exactly in Giddings in terms of the bit of an oilier nature to it. But broadly, it’s not. I would think about it as the Giddings field because it is in the Giddings field.

And so there’s a lot of similarities to it. So I don’t expect to see anything in terms of our approach to it that are very, very different in terms of what we’ve been doing. I just think that it has the capability to enhance the outcome with more liquids volumes that could be a little bit better margin than what we’ve been seeing with gas prices certainly as weak as they’ve been.

Umang Choudhary: Got you. That’s helpful. And then for my second question, any color you can provide in terms of how we should think about the longer-term growth rates given you believe these assets are very comparable to your core — legacy core. And then you also have doubled your development area in Giddings. So how should we think about the longer-term growth rates beyond the next five years thinking about it from a high-level perspective?

Chris Stavros: Yes, well, on a high level, I wouldn’t go out there and say because it’s not really been part of our business plan to sort of seek out double-digit growth as I sort of answered the question previous. Our goal is not to grow that much faster and work ourselves out of the growth that much quicker. I think our asset base is capable of delivering the plan of that moderate mid-single-digit growth over a long period of time that I consider it sort of 5% to 8% per year. We have the ceiling on our capital. So we try to be disciplined around that and spend up to what we consider a reasonable amount to achieve those levels of growth. But could we do more? The answer is yes. Do I think it’s the best and right thing to necessarily do more over the long term?

Probably not. I just think that this is more than sufficient in a balanced way, a balanced approach to not only grow at a reasonable rate, generate a lot of free cash flow and return a good portion of that to our shareholders, which is what they want, while providing us with optionality to and a little bit of extra cash, if you will, to seek out other opportunities vis-a-vis small M&A to improve the business over time.

Umang Choudhary: That makes a lot of sense. Thank you.

Operator: Our next question comes from Charles Meade from Johnson Rice. Charles, please go ahead.

Charles Meade: Thank you. Good morning, Chris, Brian, and the rest of the Magnolia team there. Chris, I wanted to ask, maybe but I think it’s a simple question. Since you haven’t told us really what’s your M&A, since you haven’t given us details on these two recent acquisitions, is it a fair inference that you guys still think there’s more work to do on the acquisition front around Giddings?

Chris Stavros: The answer is yes. The short answer is yes. My expanded response to this question — look, there’s — and what we’ve seen, there’s lots of different types of or several different types of upstream M&A in oil and gas or approaches towards M&A that companies can participate in. The type of M&A that Magnolia engages in, which is usually a smaller variety, focused on assets where we look to improve the business by extending or expanding our competitive advantage in an area that we know and you could describe this type as a situation where the buyer may know more than the seller, not the other way around. This type of M&A also has the benefit of limiting your risk. And then there’s the type of M&A that’s more transformational and companies that engage in this type of M&A believe that they have either run out of time or that they’re in a corner or that they need to do something big and bold in order to change or fix things.