Northern Oil and Gas, Inc. (NYSE:NOG) Q1 2024 Earnings Call Transcript May 1, 2024
Northern Oil and Gas, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Greetings and welcome to the NOG’s First Quarter 2024 Earnings Conference Call. At this time, all participants are in listen-only mode. The question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It’s now my pleasure to introduce your host Evelyn Infurna, Vice President, Investor Relations. Thank you. You may begin.
Evelyn Infurna: Good morning. Welcome to NOG’s First Quarter 2024 Earnings Conference Call. Earlier this morning, we released our financial results for the first quarter. You can access our earnings release and presentation on our Investor Relations website at noginc.com. Our Form 10-Q will be filed with the SEC within the next few days. I’m joined this morning by our Chief Executive Officer, Nick O’Grady; our President, Adam Dirlam, our Chief Financial Officer Chad Allen and our Chief Technical Officer, Jim Evans. Our agenda for today’s call is as follows. Nick will provide his remarks on the quarter and our recent accomplishments, then Adam will give you an overview of operations and business development activities. Chad will review our financial results and after our prepared remarks, the team will be available to answer any questions.
But before we begin, let me go over our Safe Harbor language. Please be advised that our remarks today including the answers to your questions may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act. These forward-looking statements are subject to risks and uncertainties that could cause actual results to be materially different from the expectations contemplated by our forward-looking statements. Those risks include, among others matters that have been described in our earnings release as well as our filings with the SEC, including our annual report on Form 10-K and our quarterly reports on Form 10-Q. We disclaim any obligation to update these forward-looking statements. During today’s call, we may discuss certain non-GAAP financial measures, including adjusted EBITDA, adjusted net income and free cash flow.
Reconciliation of these measures to the closest GAAP measures can be found in our earnings release. With that, I’ll turn the call over to Nick.
Nick O’Grady: Thank you, Evelyn. Welcome and good morning, everyone, and thank you for your interest in our company. I’ll get right to it with four key points: Number one, coming out strong right out of the gates. We saw a significantly better-than-expected results in the first quarter, driven by two primary factors, strong well performance and a pull forward of activity with more wells turned in line than we expected. We had highlighted strong well performance last quarter as well, but it was less noticeable in Q4 results due to higher level of curtailments. With the rampant Mascot in full swing, our other JVs performing well and higher oil prices, we are seeing organic activity accelerate, which bodes well for our 2024 production overall.
The larger-than-expected till count increased our overall capital but was more than made up for by higher cash flow and production that will benefit us as we head into the second quarter. We expect modest additional pull-forward in the second quarter, though not to the same extent as good pricing continues to bring value forward for our investors. This highlights one of the greatest facets of our non-operated business model, which is the alignment with our operators. When prices are high, we typically see the economic incentives work their magic to bring forward value into the higher-price periods like it did here. And additionally, as we talk about the asymmetry of hedging, we produce more barrels when prices are higher, leaving us more on hedge than we expected in a higher-priced period.
While we’ve seen development accelerate into the highest price period of the strip for the year, boosting our profits for the quarter, our plans for all of 2024 remain largely unchanged, with only very modest changes to the pace. Our hope would be to the extent that commodity prices stay robust that it warrants activity levels and returns that trend toward the middle or upper band of our guidance, which should translate into higher production as we exit the year and into 2025. With that said, we want to remain flexible with our capital as always, to ensure we’re earning significant returns. Chad will highlight it further. But despite the lower headline free cash flow number, under the surface, we’ve made substantial progress on the working capital front and made better progress than we anticipated on our balance sheet year-to-date.
After closing the last of our Q4 acquisitions, we paid about $40 million in dividends, spent about $20 million on share repurchases and still paid down about $50 million worth of debt. All of this was during a period of hefty investment. So we expect our free cash flow pace to pick up even more meaningfully in the second quarter and continue as the year progresses. Number two, waiting for the right opportunity. As we highlight nearly every year, our ground game business typically has a quiet first quarter, and this one was no different. We characteristically see people aggressively spending their budgets early in the year. Additionally, strong crude prices can have an effect on risk taking from smaller competitors who may not have the wherewithal to invest in the down cycles.
On the larger M&A front, we’ve been actively engaged, we’ve seen relatively wide bid-ask spreads, negative risk from high crude prices and asset quality that’s kept us from being overly aggressive. The good news is that on the more scalable front, we continue to work on drilling partnerships, carve-outs and true non-op and JV front on larger, more impactful and bespoke processes. We shied away from some of the less value-added marketing processes that, in our view, have been both lower quality and saturated with returns that in many cases did not meet our thresholds. These market conditions ebb and flow and can change within a given year, so we stay active in all facets of business development to capture the right opportunity. Given the overall backlog, we’re staying disciplined for the right transaction to grow our business and I have the utmost confidence that over time, we will find great opportunities for growth.
Number three, dynamic capital allocation 101. With the positive acquisitions and relative weakness of our equity performance early in the year, we did elect to dynamically direct our capital towards share repurchases and simplifying our capital stack. Dynamic capital allocation is just that dynamic. Our flexible business model allows us to quickly adapt to changing circumstances. The contraction in our equity valuation in the first quarter, as I highlighted in our last earnings call, provided a favorable time for share repurchases and we pounced on the opportunity at attractive prices. We also cleaned up the last tranche of our remaining equity warrants, which were issued as part of an acquisition in 2022 at lower prices than current in a net exercise style exchange.
This simplifying transaction both reduces short pressure on our equity as well as long-term dilution potential in another value-added move. Most of those warrants were already accounted for in our diluted share count, but over time, the potential dilution from stock performance and dividend payments could have grown meaningfully and we’re very bullish on our outlook. As we look forward, one of the primary goals for this year is to put the business in a position to have increased optionality as we head into 2025, whether that’s to further increase the dividend, allocate more to buybacks or allocate more to growth prospects. The key to dynamic capital allocation is to make decisions that maximize total return. While dogmatic, formulaic approaches may seem tempting, over time, they are prone to miss opportunities.
Given weak natural gas prices, high interest rates and an uncertain economic outlook in an election year, there’s a high probability we will have market volatility events, which could potentially create great buyback acquisition opportunities or chances to grow the dividend for us. We want you to know that, as always, we are watching closely and are highly aligned with our shareholders to deliver. Number four, confidence for 2024 and ’25. We recently issued and updated a much-improved ESG report. And in it, I talk a lot about our philosophy of Kaizen here at NOG. Kaizen is a Japanese term which basically means continuous improvement and that’s built into our culture here at NOG. After launching our AI-powered data lake system, Drakkar last year, we continue to enhance and expand functionality.
And internally, we remain focused on improving data quality to further leverage our analytics, our underwriting and predictive capabilities to help grow our business. Now the week goes by where I don’t hear that one of our departments is building out new capabilities to exploit our massive probe data. And what that data is showing us gives me tremendous confidence in the people at NOG, our assets and our outlook for 2024, ’25 and beyond. We continue to add systems, talent and new processes to get better and better at what we do. As with Kaizen, we’re never satisfied leaving well enough alone. For 2024 specifically, as I mentioned in my first point, our sound investment process and core tenant of focusing on high-quality assets is time and time again proving itself out with better-than-expected well performance and our culture of conservatism has delivered the strong results we’ve seen to date.
While we reiterate our forecast for the year, we’re working diligently to augment those results and find additional paths to growth. Before I hand it over to Adam, I’d like to thank the entire NOG team for their hard work and dedication for another great quarter and thank our analysts and all of you for your interest in our company today. Thanks also to our operators out there for their incredible fieldwork and the great partnerships we’ve forged. We’ve had another great start to the year, and while it’s early, the assets are performing exceptionally well as we convert a lot of the money in the ground from the past six months into production and cash flow this year. As 2024 progresses, I also expect we will see more growth opportunities emerge.
And given what’s in front of us today, I remain confident that NOG remains a superior investment product to our peers and that our growth trajectory is unmatched in the upstream space. As a management team, we are aligned and incentivized to maximize total return for our investor’s year in and year out. That’s because we are a company run by investors for investors. With that, I’ll turn it over to Adam.
Adam Dirlam: Thanks, Nick. I’ll open with some commentary on the first quarter’s operational highlights and then shift gears to provide some additional color on what we’re seeing on the M&A front. The first quarter picked up were ’23 left off with continued acceleration of development and marking the fifth consecutive quarter of record production for NOG. Production increased 4% quarter-over-quarter driven by well productivity and a pull forward in the Permian, which accounted for three quarters of our well additions in Q1. Partnering with top-tier operators across all of our respective basins with the likes of Mewbourne, Permian Resources, Ascent and Continental that helped drive the beat on production. Unpacking this further, we saw 2023’s ground game investments had nearly 5,000 barrels a day of production over the fourth quarter, while also seeing outperformance on our Novo and Utica assets.
Turn in lines topped expectations with 25.3 net wells added in Q1 as the Mascot project pulled forward 2.4 net wells that were expected to come online in the second quarter. The wells were added late in March, and as they clean up, we expect to receive the production benefit in the second and third quarters of the year. With higher conversions in Q1, we had an expected drag to our wells in process and ended the quarter with 52.4 net wells in process, 40 of them in our oil-weighted basins. The Permian now makes up 60% of our oil-weighted wells in process and our exposure to top-tier operators remains consistent across all of our basins. Pace of AFEs was as active as in the fourth quarter, and we are seeing a healthy backlog of well proposals as we head into Q2.
At the end of the quarter, well proposals not yet spud totaled 24.7 net wells. During the quarter, we were validated with over 180 AFEs and elected to over 90% of the proposals on a net basis. January and February kicked things off with robust gross activity on our organic acreage offset by lower average working interest. Recently, we have seen that turnaround as March and April had three times the net well activity than in January and February. New well proposals are showing moderate signs of deflation as absolute and normalized costs in the Permian have declined and have been the lowest that we’ve seen in the last 12 months. Estimated well cost in the Williston also ticked down 5% quarter-over-quarter. All that said, we continue to remain conservative with our forecast, especially in light of a higher-priced commodity environment and accelerated development.
Turning to the M&A landscape and our business development efforts. Q1 was frothy as competition leaned in with new budgets as is typical to start the year. And customarily, we are happy to let the bull run by and stay disciplined with our underwriting, waiting for the appropriate opportunities. Despite some elevated competition in our ground game, we were able to pick up over 1,700 net acres of longer-dated inventory and 0.6 net wells in process. In the Bakken, we also closed on a joint development agreement and will be kicking off development across four to five units in the third quarter. We continue to get creative with structuring and we see significant upside with this project, having a sight line to add up to 10 more drilling units to the program.
There is no shortage of shots on goal as we evaluated over 120 transactions in Q1 and we’re already seeing momentum in conversions through April. Shifting gears to the larger M&A landscape, we remain as busy as we’ve ever been evaluating opportunities for the right fit. In the first quarter alone, we reviewed over 30 potential transactions, yet the quality of properties have been variable at best. Quality has started to pick up and the mix of prospects have included non-op packages, joint development programs, minority interest buy-downs and the co-purchasing of operated assets. Looking ahead, we are actively engaged in over 10 processes with asset values ranging from $100 million to over $1 billion, while continuing strategic discussions on other off-market opportunities.
We’re encouraged with the conversations that are taking place, but any potential transaction will need to have the right fit at an asset level as well as from a risk-adjusted return perspective. With that, I’ll turn it over to Chad.
Chad Allen: Thanks, Adam. I’ll start by reviewing our first quarter results and provide additional color on our operations. Average daily production in the quarter was more than 119,000 BOE per day, up over 5,000 BOE per day compared to Q4 and up 37% compared to Q1 of 2023, establishing a new NOG record. Oil production mix of our total volumes was in line with our guidance at just over 70,000 barrels a day and gas was a larger contributor as compared to the past, reflecting 2.3 net wells in Appalachia and a full quarter’s contribution from the Utica acquisition. Adjusted EBITDA in the quarter was $387 million, up 19% over the same period last year, but modestly lower than the last quarter, mainly due to lower average realized prices per BOE in the quarter.
Free cash flow of $54 million in the quarter was lower sequentially and from the same period last year due to the pull-forward of activity in the quarter. But the peak of this growth capital should crest as we reach midyear. We anticipate an acceleration of free cash flow in the second quarter as TIL come online and begin to contribute to production and revenue. Adjusted EPS was $1.28 per diluted share. Oil differentials were in line with our expectations at an average of $3.99 at the lower end of our guidance. Williston differentials range from a low of $6.60 in January to a high of $6.95 in February, while Permian differentials saw a market widening from $0.69 in January to $2.26 in February on the heels of higher production from areas with higher deducts within the basin.
We still expect oil differentials to moderate and have begun to see some evidence of that in late March and in April. For natural gas realizations were 118% of benchmark prices for the first quarter due to better winter NGL prices and in-season Appalachian differentials, but we are still anticipating an erosion in gas realizations as we close out heating season. With Waha gas solidly negative combined with shoulder season gas and NGL pricing, we expect markedly lower realizations in the second quarter, perhaps as low as the mid-70% range. Overall, for the year, however, we believe our guidance remains solid. Waha has been plagued by not only under capacity, but by maintenance-driven outages and we expect things to modestly improve later in the year.
It’s also worth noting our net exposure to Waha is minimal with approximately $60 million a day hedged through Waha basis and Waha gas swaps for the balance of 2024 at very attractive prices. LOE was flat sequentially at $9.70 per BOE, reflecting continued workover expenses, a pickup in activity of our Mascot project and a $2.3 million firm transport charge in the Marcellus. The transportation expense should moderate to a quarterly charge of approximately $1.5 million per quarter through the end of Q1 2025. As we discussed on our fourth quarter call, we anticipate LOE per BOE to be relatively flat through the second quarter before gradually declining as production ramps further in our Mascot project and the transportation charge falls to a lower run rate.
Production taxes were 9.6%, in line with guidance as production ramped in the Permian, which has a higher production tax rate. On the CapEx front, we continue to experience a pull-forward of organic activity driven by the strength in oil prices. This drove CapEx of $296 million, inclusive of ground-gain capital and was a bit higher than anticipated for the first quarter. Of the $296 million, 68% was allocated to the Permian, 26% of the Williston and 6% to Appalachia. If we continue to see strength in oil prices, we expect to see CapEx trend toward the higher end of our guidance range for the year. With that said, the higher CapEx should be accompanied by higher production as our D&C list is actively converting pills and spuds and drawing down our working capital.
Specifically on the working capital front, excluding the impact of derivatives, we have seen an improvement of approximately $40 million on our working capital since the end of the year. At quarter end, we had over $1 billion of liquidity, price of $32 million of cash on hand and $987 million available on our revolving credit facility, which was expanded at the end of April as a part of our semi-annual borrowing base redetermination. While our borrowing base remained constant at $1.8 billion, we increased our elected commitment to $1.5 billion and added three high-quality banks to our syndicate. At quarter end, net debt to LQA EBITDA was 1.25 times and we expect this ratio to trend down throughout 2024 barring significant cash M&A activity.
As Nick discussed earlier, we were actively repurchasing shares in the first quarter despite limited open window. We repurchased 549,000 shares for $20 million of our common equity at an average price of $36.42. We are committed to allocating capital to share buybacks where there is a market divergence between our absolute and relative performance. And finally, before we go to Q&A, I’d like to address a few adjustments to guidance. We anticipate production of 117,500 to 119,500 BOE per day in Q2. Flat versus Q1 given the pull forward in March. Barring continued pull forward, we should see CapEx down sequentially and a significant improvement in our free cash flow. Our Q2 expectation of oil volumes is also in line with Q1. We have tightened the range on production expenses, which are starting to come down as well as oil differentials, which quarter-to-date appear to be improving.
We may make further adjustments when we report Q2 as needed. With that, I’ll turn the call back over to the operator for Q&A.
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Q&A Session
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Operator: Thank you. [Operator Instructions] And your first question comes from the line now. Neal Dingmann at Truist Securities. Please go ahead.
Neal Dingmann: Good morning, guys. Good details. Nick, maybe get right to it. My first question is just on what I would classify as maybe cycle time. It seems like your capital on the ground maybe has increased a little bit, but the setup, I think as you and Adam, the guys described it to me, it sounds like the future setup is better than ever. Is this just a product of cycle time for some of the producers being a little bit longer or what’s driving this? Because again, it does seem like I think your second half and 25 look as good, if not better than ever. It seems like a little bit in the fourth quarter and the first quarter that was a little more on the ground. So if you can just maybe hit on that a little bit.
Nick O’Grady: Yes. I mean, look, Neal, this is a little bit of what we are and a little bit of how things are changing. We’re a returns-based organization. And obviously, as a nonoperator, the timing of capital expenditures can shift markedly. But as I said last quarter, and I’ll say again, the total capital expenditures are the same. And to the extent it increases from one quarter to next is because we’re getting more activity if we’re getting more activity that meets our return holders, that’s a good thing. What we’ve experienced in the last nine months is an acceleration of development. I would tell you, in the last 18 months, our average spud TIL timing has gone from 234 days to 110 days. That’s a significant move, and that’s hard to perfectly model.
I’d say the difference between last quarter and this quarter is that this quarter’s acceleration also came with more tilt, which obviously translated into significantly more production. So you’ve got a lot more cash flow and benefit from it than last quarter. So it was a little bit less obvious last quarter. But I’d also say because we’re an accrual shop and because these accruals roll off over an extended period of time and as these invoices are received, it’s not something that’s done quarter-to-quarter, and we don’t run the business quarter-to-quarter nor is the capital spent quarter-to-quarter. It’s spent over the life of the wells. And so over a 12-month period, generally, the capital and the returns you can see from our standout corporate returns tends to play out.
And I want to be clear, this is a good thing. Corporate Finance would tell you bringing capital forward is ultimately bringing net present value forward. That’s corporate finance model one. We just brought forward significant production into the highest-priced part of the strip. And yes, they brought forward some CapEx. Is the same CapEx that would have been spent later in the year at a backward-dated strip, I would argue this isn’t a bad pay at all.
Neal Dingmann: And then just a quick follow-up on capital allocation. You haven’t mentioned just the shots on goal, and I continue to think you all have more opportunities than almost anybody. How do you balance that in shareholder return given you have more prospects than I think any company out there?
Nick O’Grady: Yes. I mean, I think I don’t see them as — I mean, I’d say the same thing we always would say I don’t think we view them as mutually exclusive. And I think I would also add that we look at a lot of acquisitions as things that can enhance shareholder returns. So most of the assets that we’re looking at are generally cash flowing acquisitions. So a lot of the assets that we look at, we think can enhance our dividends over time. But I would tell you that specifically, we would pay a stock buyback as an example versus — and the potential long-term benefits of that versus an acquisition and we weigh those against each other every single day of the week. And there are times where one might look more attractive long term, but we’re in the — like we talk about it might sound cliche, but it’s not.
When we talk about maximizing total return, we really are serious about it, and we’re paid to be serious about it. And so we have to think about over a three, five, seven year period of those decisions that we make today and what are the long-term implications of those things. And that’s how for the equity and what those acquisitions versus the decision to buy back stock today are going to make on that. But I would tell you, the answer is there’s one for both. Adam, I don’t know if you want to add to that.
Adam Dirlam: No. I mean, I think you touched on it in your prepared comments in terms of dynamic capital allocation. We’re always actively managing the portfolio, reviewing what’s in front of us, and we’re going to alert capital according to what dislocations we see.
Nick O’Grady: Yes. I mean I think even as it pertains to the stock buyback and admittedly, we had a relatively narrow window in the first quarter. We spent a lot of time about the mechanics and just with the Board of Directors about how we would do it and about what rules and regulations would be around it? And what would be the nuances about that and how we would weigh that against potential M&A and just the opportunity cost and to make sure we left red for that. But I would just say this that we’re not short of opportunities, that’s for sure.
Neal Dingmann: Very helpful. Thanks, guys.
Operator: Your next question comes from the line of Phillips Johnston of Capital One. Your line is now open.
Phillips Johnston: Hi guys. Thanks. So just a follow-up on the CapEx for the year, possibly landing in the upper half of the range, assuming oil prices and activity remains elevated. Chad, you sort of alluded to this in your comments, but would you think that your net well count and your production volume for the year might also be a little bit biased to the upper half of the range? Or do you think it’s a little bit too early to tell just with the lag effects and whatnot.
