Talos Energy Inc. (NYSE:TALO) Q1 2023 Earnings Call Transcript May 9, 2023

Talos Energy Inc. misses on earnings expectations. Reported EPS is $-0.01 EPS, expectations were $0.37.

Operator: Good morning, and welcome to the Talos Energy First Quarter 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note today’s event is being recorded. I would now like to turn the conference over to Sergio Maiworm, Vice President of Finance, Investor Relations and Treasurer. Please go ahead.

Sergio Maiworm: Thank you, operator. Good morning, everyone, and welcome to our first quarter 2023 earnings conference call. Joining me today to discuss our results are Tim Duncan, President and Chief Executive Officer; Shane Young, Executive Vice President and Chief Financial Officer; and Robin Fielder, Executive Vice President Low Carbon Strategy and Chief Sustainability Officer. Before we get started, I’d like to take this opportunity to remind you that, our remarks today will include forward-looking statements. Actual results may differ materially from those contemplated by these forward-looking statements. Factors that could cause these results to differ materially are set forth in yesterday’s press release and in our Form 10-Q for the period ending March 31, 2023 filed with the SEC yesterday.

Any forward-looking statements that we make on this call are based on assumptions as of today and we undertake no obligation to update these statements as a result of new information or future events. During this call, we may present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures was included in yesterday’s earnings press release, which was filed with the SEC and which is also available on our website at talosenergy.com. And now, I’d like to turn the call over to Tim.

Tim Duncan: Thank you, Sergio. This quarter was a busy one for Talos. At a strategic level, I’m proud of the major strides we have made in the first 90 days of the year in our Upstream and CCS businesses. We started the year off announcing two key discoveries that we are currently working to tie back to our existing Ram power facility, which we expect to complete in the next eight to 10 months. We closed a $1.1 billion acquisition that is strategically sound and accretive to our shareholders we executed on multiple major CCS lease acquisitions and launched our first ever return to capital program. These are accomplishments that we’re very proud of and set the stage for long-term value creation. But all acknowledge head on that, we also started to face unexpected operational challenges late in the quarter and early April through a combination of existing well underperformance, selected drilling results and unplanned downtime expectations.

These challenges are expected to last for several months and have led us to take the more conservative approach, which led to revising our production guidance for 2023. I can assure you we are not taking these 2023 production revisions lightly, but I still believe this level of transparency with the market is the right approach, and you can always expect that from us. Having said that, I’d like to stress that our 2023 expense and capital guidance remains unchanged as is our outlook for the 2024 to 2026 growth in production and free cash flow we disclosed last quarter. We are seeing the production underperformance in three areas namely our most recent drilling results, steeper decline from selected existing wells, and additional unplanned downtime.

While each category in isolation represents a relatively small impact collectively, we felt this was necessary time to update the market in real time on how we see our production operations for the remainder of the year. We will continue to evaluate every option to enhance production rates across our asset base and optimize costs to minimize the financial impact of this revision. But we’re taking a more conservative approach with our revised guidance and not including this potential upside. With respect to the first quarter, Talos generated production of 63,600 of barrels of oil equivalent a day which led to $323 million in revenue and $203 million in adjusted EBITDA. We reported an adjusted net loss of $0.01 per share. Capital expenditures during the quarter were $190 million in our upstream business, while we invested $21 million in our CCS business.

Our leverage stayed on track at around 0.9 times, which includes the pro forma effect of the last 12 months EBITDA contribution from EnVen prior to closing. I’ll now turn to discussing some of the important recent upstream and CCS development since our last market update. In our Upstream business, we spud the high-impact Pantaron exploration well in April and are looking forward to results by midyear. This project followed a 40,000 acre business development deal with Oxy, to which BP subsequently joined the project ahead of drilling. This is an exciting subsalt prospect even though it carries significant geological risk and we will provide further updates to the market as they become available. In the recent March federal lease Sale, we were a high bidder on four deepwater blocks covering 23,000 acres.

Based on our analysis, these blocks include multiple exploitation, subsea tieback projects that will further increase our inventory of robust drilling opportunities. More recently, we completed a separate transaction to combine another 23,000 acres in the Walker Ridge area of the Gulf, where Talos will operate the Denarius exploration well, which we plan to drill in the second half of 2024. This is yet another high-impact sub-salt project and we estimate a gross unrisked recoverable resource potential, between 100 million and 300 million barrels of oil equivalent. But these projects and others like them, we’re continually fine-tuning our long-term drilling calendar and reevaluating our inventory of opportunities, to develop annual capital programs that balance risk and reward, balance cycle times and also offer exposure to the high-impact opportunities in deepwater, that make our basin unique in the United States.

In our Zama project in Mexico, we announced during the quarter that we filed a unit development plan, with the industry regulator in the country. We also announced the formation of an Integrated Project Team or IPT. As part of that IPT, Talos will have a more active and visible role in executing offshore activities such as drilling wells, and constructing and installing the offshore infrastructure. We see these two steps, as significant towards bringing this asset closer to final investment decision, and a line of sight to first oil. Because of this progress, I’m more encouraged we are going to be able to crystallize value for this important asset. In our Talos Low Carbon Solutions business, we’ve been extremely busy. We have more than doubled our CO2 storage capacity so far this year, across multiple projects.

Most recently, we expanded our acreage position in the Baton Rouge and New Orleans industrial corridor, with an additional 21,000 acres. This brings our sequestration footprint in the region, one of the country’s densest industrial regions, to approximately 110,000 gross acres under lease or option. That equates to over 620 million metric tons, of CO2 storage capacity in a market with over 80 million metric tons per year, of industrial emissions. We believe that we are very well positioned in that market. This acreage expansion follows our previously announced, Bayou Bend acquisition, of nearly 100,000 onshore acres in Southeast, Texas located between the Houston Ship Channel and the Beaumont/Port Arthur region. This transaction puts our total gross acreage position at over 140,000 acres and up to 1 billion metric tons of CO2 storage available to service such a critical industrial corridor in Southeast, Texas.

We’re also preparing to drill our first stratigraphic well, offshore at Bayou Bend later this year. This test well will provide critical data, to support our permitting application process. Ultimately, we expect to file multiple Classic permit applications, by year-end. As we continue to be successful in this space, we are seeing even more opportunities to accelerate the growth of our CCS business. Therefore, Talos is currently evaluating the possibility of bringing a financial partner into TLCS, to provide additional growth capital. We are seeing tremendous market interest for this type of investment, but it’s still early days for us and we’ll update the market on our progress at the appropriate time. As I have said before, there is an extraordinary level of enthusiasm about the promise of what CCS can become for our shareholders.

Talos owns a leading CO2 storage portfolio, with the superb geology that is required to permanently sequester and monitor the injected CO2. Our footprint is located in large concentrated industrial emissions markets, with existing midstream infrastructure and we have a market that provides the right economic incentives, to make these projects economic and viable. Finally, on the M&A front, as a logical partner in the Gulf of Mexico, we continue to actively evaluate business development opportunities that fit our skill set and strategies, are accretive to our shareholders and preserve or improve our strong credit position. This spans both tactical business development, as you saw recently in the Pancheron and Denarius prospects as well as larger strategic transactions such as EnVen.

With respect to that transaction, we’re actively progressing our integration activities and are encouraged by the progress we’ve made to date. We are highly confident in our ability to achieve the original estimate of annualized $30 million of synergies, by year-end and may even exceed that amount. As we advance the integration work, we’ll continue to update the market on our cost rationalization progress. With these key updates on our 2023 plans and goals, I will turn the call over to Shane to address our financial details for the first quarter.

Shane Young: Thank you, Tim and good morning, everyone. For my remarks today, I will address four key topic areas. First, I’ll review the highlights of our financial performance for the first quarter. Second, the continued strength of our balance sheet, including our leverage and liquidity positions; third, I will reiterate our capital allocation priorities. And finally, I’ll provide an update on our full year 2023 guidance. As a reminder, our consolidated results include both the results of our upstream and CCS businesses as further covered in our 10-Q filed last night. Where appropriate, I will highlight these impacts in my discussion of the financials. During the quarter, we produced 63,600 barrels of oil equivalent per day including production from the EnVen acquisition from the mid-February closing date.

Pricing from our production in the quarter reflected the general softening in the commodity markets with realizations of over $70 per barrel of oil, NGLs at approximately 31% of our realized oil price and over $2.80 per Mcf on natural gas production. This resulted in total revenue of $323 million. Net income for the quarter was approximately $90 million or $0.84 per diluted share. Net income was impacted by a tax benefit during the quarter of approximately $46.5 million, primarily related to the partial reversal in our valuation allowance which we hold against our deferred tax asset. Our adjusted net loss during the quarter was approximately $1.3 million or $0.01 per diluted share. During the first quarter, we generated adjusted EBITDA of $203 million or $215 million before the cash impact of hedge settlements.

These were inclusive of approximately $6 million of expenses related to TLCS. On a per barrel of oil equivalent basis, this translated to adjusted EBITDA margins of approximately $35 per barrel of oil equivalent and adjusted EBITDA margins excluding realized hedge losses of approximately $38 per barrel of oil equivalent. This represents 65% and 67% margins respectively. Upstream capital expenditures for the quarter were $190 million including plugging and abandonment capital. This is lower than we anticipated for the quarter due to certain lower-than-expected drilling costs and the delay of an outside operated well, which spud in the second quarter rather than the first. Additionally, CCS spend of approximately $21 million was lower than expected during the quarter.

As we expected with only half quarter of EnVen production combined with a high activity capital quarter, free cash flow before working capital was slightly negative at $46 million inclusive of total CCS spend of $27 million. Turning to the balance sheet. At the end of the first quarter, net debt stood at $1.045 billion. This includes $258 million of notes that we assumed with the closing of the EnVen transaction. Additionally, our RBL balance stood at $165 million outstanding on March 31, which included both the closing consideration for EnVen, as well as the costs from our recently announced share repurchase program. As of March 31, our leverage stood at approximately 0.9 times, inclusive of our pre-closing EBITDA contribution from EnVen. Liquidity at quarter end remained very high at approximately $805 million, with $800 million available under our revolving credit facility.

As previously announced, our bank commitments increased by 20% to $965 million upon the closing of the EnVen acquisition in February. We are currently undergoing our semiannual borrowing base redetermination process and expect results from this process in the second quarter. Turning to our capital allocation framework, which we announced in February. We think of it in two ways: a systematic approach and an opportunistic approach. Systematically, we will continue to focus near-term on reducing leverage, most likely through paydown of the RBL, as the primary use of our free cash flow until deleveraging targets are met. However, opportunistically, we are focused on supporting our shares when they are under undue selling pressure, such as we saw recently when the banking system came under pressure.

As such in March, we announced a $100 million stock repurchase program and we repurchased approximately $27 million in the first quarter or 1.9 million shares equating to roughly 1.5% of total shares outstanding. We will continue to monitor the markets and be opportunistic when it comes to share repurchases. Our share repurchase program provides an impactful opportunity to return capital to shareholders and we will continue to balance our priorities of investing in catalysts, remaining mindful of our credit quality and providing returns of capital to shareholders. Turning to our financial guidance for the full year 2023. As previously outlined in our earnings release and as Tim discussed from an operational perspective, we now expect annual production to be between 66,000 and 71,000 barrels of oil equivalent per day.

We have taken a measure twice cut once approach to this range. While production results for January and February of 2023 were in line with original expectations for both Talos and EnVen beginning late in the quarter several new and existing wells began to perform below original expectations. While the company will continue to evaluate ways to restore production levels after a rigorous review we determined that the revised range best captures current expectations for 2023 production. For the balance of the year, we expect the second and fourth quarters to be similar to one another with the third quarter most heavily impacted by weather-related downtime risk. Apart from these revisions, all other previously guided expense categories remained unchanged from prior guidance.

In fact, many of these categories are tracking at the lower half of the guidance ranges and we still expect to be free cash flow before working capital generative for the full year 2023. We remain excited about the overall growth trajectory of the business as we look forward to reaching or exceeding 80,000 barrels of oil equivalent per day early next year when two recent discoveries are turned online. Meanwhile, even with the debt assumption and cash component required to close the EnVen transaction, our credit position remains strong and near its all-time best. Lastly, we continue to be excited about the investment opportunities in both our upstream and CCS businesses for 2023 and beyond and we believe these investments will deliver and accelerate long-term value to Talos’ shareholders.

With that, I will now turn the call back over to Tim.

Tim Duncan: Thank you, Shane. With that summary, let’s open up the line for Q&A.

Q&A Session

Operator: Thank you. [Operator Instructions]. Today’s first question comes from Michael Scialla with Stephens. Please go ahead.

Operator: Thank you. And our next question today comes from Leo Mariani with ROTH MKM Partners. Please go ahead.

Operator: Thank you. And our next question today comes from Subash Chandra with Benchmark Company. Please go ahead.

Operator: Thank you. And our next question today comes from Nate Pendleton at Stifel. Please go ahead.

Operator: Thank you. [Operator Instructions] And your next question comes from Tim Rezvan with KeyBanc Capital Markets. Please go ahead.

Operator: Thank you. And our next question today comes from Jeff Robertson at Water Tower Research. Please go ahead.

Operator: And ladies and gentlemen this concludes our question-and-answer session. I’d like to turn the conference back over to the management team for any final remarks.

Tim Duncan: Yes, thanks. Look I’m glad we were able to work through all the questions on the call. I think as I mentioned maybe in one of my responses when you have near-term difficulties you can — you’ve got to balance managing and being upfront on those and how to improve those but you don’t want to lose sight on the long-term goals and long-term objectives and the things that our team is doing to put shareholders in the best position possible. So there’s a lot of positive things going on in the business. We will work through some of the near-term challenges and we look forward to keeping the market abreast of the progress we make. So thanks for joining the call and we’ll talk to you soon.

Operator: Thank you, sir. This concludes today’s conference call. We thank you all for attending today’s presentation. You may now disconnect your lines and have a wonderful day.