Aris Water Solutions, Inc. (NYSE:ARIS) Q3 2023 Earnings Call Transcript

Aris Water Solutions, Inc. (NYSE:ARIS) Q3 2023 Earnings Call Transcript November 4, 2023

Operator: Good day, ladies and gentlemen, and welcome to the Aris Water Solutions Third Quarter 2023 Earnings Conference Call. Our host for today’s call is David Tuerff, Senior Vice President of Finance and Investor Relations. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. I would now like to turn the call over to your host. Mr. Tuerff, the floor is yours.

David Tuerff: Good morning, and welcome to the Aris Water Solutions third quarter 2023 earnings conference call. I am joined today by our President and CEO, Amanda Brock; our Founder and Executive Chairman, Bill Zartler; and our CFO, Stephen Tompsett. Before we begin, I’d like to remind you that in this call and the related presentation, we will make forward-looking statements regarding our current beliefs, plans and expectations, which are not guarantees of future performance and are subject to a number of known and unknown risks and uncertainties and other factors that could cause actual results to differ materially from results and events contemplated by such forward-looking statements. You are cautioned not to place undue reliance on forward-looking statements.

Please refer to the risk factors and other cautionary statements included in our filings made from time to time with the Securities and Exchange Commission. I would also like to point out that our investor presentation and today’s conference call will contain discussion of non-GAAP financial measures, which we believe are useful in evaluating our performance. These supplemental measures should not be considered in isolation or as a substitute for financial measures prepared in accordance with U.S. GAAP. Reconciliations to the most directly comparable GAAP measures are included in our earnings release and the appendix of today’s accompanying presentation. I’ll now turn the call over to our Founder and Executive Chairman, Bill Zartler.

Bill Zartler: Thank you, David, and thanks everyone for joining us this morning. Aris continued its positive momentum with an excellent third quarter. Our contracted customers continue allocating capital to activity on our dedicated acreage in the Northern Delaware Basin, resulting in sustained water volume growth over the past several years. Our customers’ substantial inventory depth and attractive economics in our area of operations support a critical multi-decade need for comprehensive water management services. We are continuing our growth alongside our customers, expanding our infrastructure to meet their needs while also providing the industry with sustainable solutions. Aris’ water volumes are up nearly 60% over the last two years.

And in the third quarter of this year, we made significant progress in recapturing margins, increasing profitability while supporting the consistent pace of development on our acreage. We continue to drive greater efficiency and return on capital in our business, and we are proud of our execution thus far in 2023. With respect to inorganic growth, we remain disciplined in our approach with a continued focus on strategic fit, accretion in both the short and long term and maintaining a conservative balance sheet. With that, I’ll turn it over to Amanda.

Amanda Brock: Thank you, Bill. Our primary initiative for 2023 was to improve our profitability and recapture margins while continuing to expand our infrastructure footprint to support our customers’ growing volumes in the core of the Northern Delaware Basin. We’re extremely pleased to report significant progress in the third quarter and believe this positive momentum will continue into next quarter finishing the year at the high end of EBITDA guidance. Our focus on electrification of infrastructure, efficiency in the field and business process improvement helped deliver a $0.02 per barrel sequential improvement in adjusted operating margin per barrel and our adjusted operating margin of $0.40 per barrel was in line with margins we recognized prior to inflationary pressures which began to impact us in early 2022.

Further supporting our enhanced profitability was our eighth consecutive quarter of produced water volume growth and better than anticipated water solution volumes enabling us to grow adjusted EBITDA to nearly 45 million for the quarter, up 5% sequentially and up 14% year-over-year. In our produced water business, we averaged 1.06 million barrels per day for the third quarter, ahead of our expectations and continuing our sequential growth. Skim oil recoveries of 0.11% per inlet barrel of produced water were also ahead of expectations and operational changes implemented earlier this year to improve skim oil yield are delivering consistent results. Our skim oil sales also benefited from rising commodity prices in the quarter. We also saw higher water solutions volumes than we anticipated as completion activity was pulled forward from the fourth quarter into the third quarter and we won additional spot business.

While much of our water solutions business is under long-term agreements, we also often win shorter cycle spot volumes over the course of the quarter as operators water need shift. Our water recycling and sourcing business sold 460,000 barrels of water per day or over 42 million barrels in the third quarter, growing sequentially by 2% supported by our expansive infrastructure network that allows Aris to aggregate significant volumes of water on its systems for recycling and redelivery to other areas across the basin. As we’ve seen, while completion schedules may move up or push out in a given quarter, we are outpacing our expectations for water solutions volumes for the year. We also made significant progress in reducing reuse rental equipment and diesel fuel expenses by continuing to convert facilities to permanent electrified infrastructure.

Compared to the third quarter a year ago, we’ve reduced our rental equipment and diesel fuel cost by approximately $5.4 million on an annualized basis, delivering on our commitment to improve margins to mitigate inflationary pressures we experienced in 2022. In terms of revenue, the largest of our CPI escalations took effect at the beginning of the third quarter, and combined with the success of our electrification projects and rental expense reductions, we are proud to have delivered meaningful incremental margin improvement in the third quarter. While there is still work to do, we have driven material margin improvements while continuing our consistent volumetric growth and the results are reflected in our profitability. Looking ahead to 2024, we are working closely with our customers on their water infrastructure needs as they finalize their plans for next quarter and we will have further updates to our 2024 outlook alongside fourth quarter reporting.

Our volumes, earnings profile and infrastructure expansion for next year will depend on the expected rate of growth of our customers and we will moderate our capital spending proportionate to that volumetric outlook. On the basis of the forecast we’ve received thus far from our currently contracted customers, we expect 2024 capital expenditures to be lower sequentially versus 2023. We will also selectively pursue additional organic growth opportunities provided they meet our return thresholds. Importantly, however, with the business and system improvements we have made throughout 2023, we believe we can sustain increased operating margins and improve the rate of return on our capital investments, improving our operational flexibility and better optimizing our capital spending and assets.

Now turning toward our beneficial reuse efforts. We remain focused on working alongside our customers to solve long-term water management challenges and pursue opportunities to use produced water in applications outside of the oil and gas industry. Our beneficial reuse pilot project with ConocoPhillips, Chevron and ExxonMobil were underway in the third quarter, and we are testing several promising technologies through the first half of next year. In addition, as we mentioned last quarter, while we are piloting numerous technologies, we are also in the early stages of identifying potentially valuable constituents in our long-term produced water brine stream, and we are encouraged by the data we have seen so far. We are engaging in preliminary conversations with third parties to determine whether mineral constituents in our water can be commercialized.

With that, I’ll turn it over to Steve to discuss our financial results for the quarter.

Stephan Tompsett: Thank you, Amanda. We recorded adjusted EBITDA for the third quarter of $44.9 million, up 14% from the third quarter of 2022 and up 5% sequentially from the second quarter of 2023, again, exceeding our expectations for the quarter. The sequential increase was largely due to a pull forward of contracted water solutions volumes into the third quarter and additional spot water solutions volumes sold higher than anticipated skim oil recoveries and realized pricing as well as improved adjusted operating margins driven by the expense reductions mentioned earlier. For capital expenditures, we incurred $40 million in the quarter, in line with our full year expectations of $160 million to $170 million. During the third quarter, we also closed on the sale of certain non-core assets in Martin County, Texas for cash consideration of $20.1 million.

This accretive transaction allows us to redeploy capital into higher returning projects in our core Northern Delaware Basin system, though it did reduce our produced water volumes beginning in the third quarter. The assets which were sold handled approximately 50,000 barrels per day of produced water though at margins lower than our system average. Looking ahead to the fourth quarter, we expect produced water volumes to be up approximately 2% to 3% relative to the third quarter, adjusting for the impact of our recent asset sale. We’re forecasting skim oil recoveries of 0.1% of produced water inlet volumes at an average WTI price of approximately $87 per barrel. As a reminder, every $1 change in oil price relative to our expectations would correspond to a change of an estimated $100,000 in EBITDA per quarter.

For the water solutions business on the basis of our current forecast, we expect volumes of 405,000 to 420,000 barrels of water per day for the quarter, declining moderately sequentially due to the pull forward of volumes originally scheduled for the first quarter and the potential for seasonal slowdowns. And as always, given the shorter cycle opportunities that arise in water solutions, our commercial team continues to pursue opportunities to add spot volumes to the quarter. With the changes we’ve made to our operations, we believe we’ll be able to maintain the operating margin improvements realized in the third quarter and are projecting adjusted operating margins of $0.39 to $0.41 per barrel. For the fourth quarter, we’re forecasting adjusted EBITDA of $41 million to $45 million, further increasing our guidance range for the year of 2023 to the upper end of our expectations of $166 million to $170 million.

Our capital expenditures remain on track to meet our full year guidance of $160 million to $170 million. Turning to our balance sheet. We ended the quarter with a debt to adjusted EBITDA ratio of 2.53x at the low end of our long-term leverage target and $190 million of available liquidity. In October, we announced we had opportunistically refinanced our credit facility, extending maturity through 2027 and increasing the facility to $350 million, which is proportionate to the company’s growth since the prior facility was put in place. While the prior facility was not due to go current until April 2024, we felt it prudent to refinance early while we had a supportive market given the recent volatility in the banking sector. Finally, we recently announced our ninth consecutive dividend of $0.09 per share, which will be paid December 21 to shareholders of record as of December 7.

With that, I’ll turn it over to Amanda to wrap up.

Amanda Brock: Thanks, Steve. I’m very proud of our team’s execution thus far in 2023. We began the year with a focus on profitability and cost reduction initiatives and quarter-over-quarter, we’ve made meaningful progress, and we know we’re not done. We remain committed to maintaining these efficiencies while identifying further opportunities to enhance profitability. Our business in the prolific Northern Delaware Basin is supported by large operators, making sizable investments through commodity cycles in areas with multi-decade inventory and compelling upstream economics. So looking to the future, we are optimistic about our ability to continue to meet our customers’ long-term water infrastructure needs while pursuing opportunities to utilize produced water outside of the oil and gas industry. With that, we will take questions.

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Q&A Session

Operator: At this time, we will conduct the question-and-answer session. [Operator Instructions]. Your first question comes from John Mackay of Goldman Sachs. Your line is open.

John Mackay: Hi. Good morning, everyone. Thanks for the time and congrats on the quarter. Maybe if we could just break down a little bit more some of the moving pieces on the margin recovery, you mentioned electrification and bringing down the rental expense. Just curious if you can share a little bit on — again, on the moving pieces there, how confident you are in the kind of trajectory going forward? And maybe if we can be greedy, kind of where you think these margins could get to over time?

Amanda Brock: Thanks, John. We do think that this margin recovery is sustainable, and we continue to look for other opportunities to actually increase it over time. I’ll let Steve take you through the actual specifics on the electrification and rentals. But rest assured, we’re looking at all aspects of our business to continue to see where we can increase efficiencies.

Stephan Tompsett: Yes, John, good morning. On the electrification and rentals that we talked about, when you look at our Aris facilities, three of the eight are already done. We’ve started to realize the savings from that. Two of the facilities have been done, and we’re waiting for a break in schedule, so we can implement those. So we’ll see incremental savings as we go into next year. Now we have three facilities that are still in the Q for Excel [ph] that we expect to be completed this quarter. So we’re going to see continued margin improvement from those. And then on the rentals, we continue to have cost savings forecasted into this quarter and next year. On the produced water side, right now we have 13 of the 20 booster pumps that we talked about early in the year converted and we’ve got an additional two that are going to be put in place this year.

We did have several slip in Excel schedule into next year. So we’re going to have four or five that are going to push into Q1. And again, that’s out of our control. We’re ready and waiting for them. So we’re going to continue to see some incremental margin improvement on those projects.

John Mackay: I appreciate all that. Maybe just thinking about the asset sale, could you comment a little more on maybe — I don’t know if you want to say EBITDA or multiple sold, I think you have a little left in the Midland as well. Should we think about that as being in the non-core bucket? And if there’s anything else kind of across the footprint more broadly that could be cored up? Thanks.

Amanda Brock: I think we’ve been pretty specific about where our primary focus has been in the Northern Delaware. When we sold this asset, it was more opportunistic and that there was a buyer coming in who wanted to enter the basin. This was an accretive deal. It was non-core to us with lower margin. So we’re very happy with the outcome of this deal. Do you want to add anything to that, David or Steve?

David Tuerff: Yes. We haven’t disclosed the multiple of the transaction. But as Amanda indicated, it was accretive to us. It was a stand-alone asset. So we didn’t have the ability to recycle or reuse in the area. So we’re able to redeploy in the high return projects. Volumetrically, 50,000 barrels per day, so when you look period-to-period, you’re going to see that change come out. So the growth may look muted relative to that. But we’re very happy with the transaction.

John Mackay: That’s great. I appreciate the time today.

Amanda Brock: Thank you.

Operator: Your next question comes from Spiro Dounis with Citi. Your line is open.

Unidentified Analyst: Hi. This is Chad [ph] on for Spiro. Starting off, we’re hearing more about produced water constraints in the Permian. Do you see a scenario where water takeaway actually becomes a bottleneck? And what’s the solution to present that?

Amanda Brock: There is a lot more conversation about produced water constraints and concerns that there will be enough takeaway. This is actually a tailwind for us. So we are looking at a lot of different options as to how we can ensure that this wave of water that continues to come in the Northern Delaware can be dealt with, beneficial reuse, pipeline potentially out of the basin and continuing to look at ways in which we can be more efficient with our disposal volumes. But there is a lot of attention on it, and that is positive for us.

Unidentified Analyst: Great. That’s helpful. And then just following up, I know execution has been a focus this year. Just curious how the M&A landscape is shaping up in the current environment and how that could play into your growth outlook going forward beyond this year?

Amanda Brock: Thanks, Chad. We’ve been very, very disciplined. We’ve said this every quarter. For M&A, for us, it’s got to be accretive. It’s got to make sense strategically. And valuations have to make sense, both now, short term as well as long term. And while there have been things we’d like to have looked at and we’d like to have done, if they don’t meet our thresholds, we’re not going to transact.

Bill Zartler: Chad, did you get it?

Unidentified Analyst: Okay, understood. Sorry?

Amanda Brock: Sorry, I was asking Bill if you had anything —

Bill Zartler: She’s exactly right.

Amanda Brock: We work closely on it.

Unidentified Analyst: Okay, understood. Thanks for the time today.

Amanda Brock: Thank you, Chad.

Operator: Your next question comes from Wade Suki with Capital One. Your line is open.