Kinetik Holdings Inc. (NASDAQ:KNTK) Q3 2023 Earnings Call Transcript

Kinetik Holdings Inc. (NASDAQ:KNTK) Q3 2023 Earnings Call Transcript November 9, 2023

Operator: Good morning, everyone, and welcome to the Kinetic Third Quarter 2023 Results Call. My name is Carla, and I will be coordinating your call. [Operator Instructions]. I will now hand you over to your host, Maddie Wagner, Head of Investor Relations to begin. Maddie, please go ahead, when you are ready.

Maddie Wagner: Thank you. Good morning, and welcome to Kinetics third quarter 2023 earnings conference call. Here with me is our President and Chief Executive Officer, Jamie Welch, as well as Trevor Howard, our Chief Financial Officer; Matt Wall, our Chief Operating Officer; Steve Stellato, our Chief Accounting and Administrative Officer; Anne Psencik, our Chief Strategy Officer; Todd Carpenter, our General Counsel; Chris Kendrick, our SVP of Commercial; and Tyler Milam, our VP of Crude Water and New Energy Ventures. The press release we issued yesterday, the slide presentation and access to the webcast for today’s call are available at www.kinetics.com. Before we begin, I would like to remind all listeners that our remarks, including the question-and-answer section will provide forward-looking statements, and actual results could differ from what is described in these statements.

These statements are not guarantees of future performance and involve a number of risks and assumptions. We may also provide certain performance measures that do not conform to U.S. GAAP. We have provided schedules that reconcile these non-GAAP measures as part of our earnings press release. After our prepared remarks, we will open the call to Q&A. With that, I will turn the call over to Jamie.

Jamie Welch: Thank you, Maddie, and welcome back. Good morning, everyone, and thank you for joining our call today. Yesterday, we reported our third quarter 2023 results. We achieved average gas processing volumes of 1.49 billion cubic feet per day, representing approximately 23% growth year-over-year. We continue to set new company records for process volumes with each successive quarter. Despite the operational difficulties our industry faced with hot weather over this past summer, and unfortunately, for this past quarter, some unscheduled disruptions to basin takeaway capacity. Interestingly, we achieved average process volumes had exceeded 1.53 billion cubic feet per day in the month of September, and we are now consistently knocking on the door of 1.6 billion cubic feet per day, which is our exit rate guidance.

We remain on-track to meet or exceed that target by year end. Adjusted EBITDA increased 4% quarter-over-quarter, in-line with our forecast and street expectations. Looking ahead to the remainder of the year, we expect sequential adjusted EBITDA growth in the fourth quarter at our Midstream Logistics segment. Within our Pipeline Transportation segment, Delaware Link commenced commercial in service on October 1st, and we expect the start out of the PHP expansion on December 1st. We are updating our 2023 adjusted EBITDA guidance range to $820 million to $860 million. At the midpoint of the revised guidance range, this implies a fourth quarter annualized EBITDA exit rate over $900 million. Our current forecast is at the top-end of our 2023 capital expenditures range of $490 million to $540 million.

The good news is that, this past quarter was free cash flow positive, and we have passed the peak capital of our 2023 growth program. In 2024, we anticipate a significant increase in free cash flow, from meaningful year-over-year adjusted EBITDA growth, coupled with capital expenditures of less than $150 million. We have made significant progress on our projects in our 2023 capital program. Delaware Link, which began flowing gas in late September will serve as a useful service offering our customers, who value flow assurance and stable access to downstream markets. Construction continued across the state line on our gathering expansion into Lea County, New Mexico. In the quarter, Kinetic received right of way approval, inclusive of the company’s first permit with the Bureau of Land Management and the State of New Mexico.

Construction of the Texas portion of the line is largely complete, and we have made very good progress on construction in Lea County. The expansion, which is supported by multiyear agreements with minimum volume commitments, remains ahead of schedule with expected in service in early 2024. Once all three projects are in service, we will be able to offer customers in New Mexico, a highly competitive solution to premium pricing along the Gulf Coast on wholly-owned or majority-owned infrastructure. We see Permian production growing to 30 billion cubic feet per day by 2030, which represents a 4% annual growth rate from today, with biggest challenges within the natural gas value chain being in basin treating and processing constraints, as well as the egress to the Gulf Coast.

Processing capacity in the Delaware remains tight and as such, we see a great opportunity for future organic growth projects. Our commercial team is actively pursuing a number of gathering and processing opportunities with existing and potential new customers, both in New Mexico and Texas. We expect to provide updates in the near future as these commercial opportunities develop. We also glad that the uncertainty of our potential expansion of Shin Oak is now past us. We agree with enterprise products on their bullish stance towards the Permian. However, let me repeat what we have said before. We are comfortable with the capacity lease arrangements that we have on Shin Oak. They are flexible and adequate for our continued growth. We are seeing no compelling reason for significant additional NGL investment in our Pipeline Transportation segment.

On the topic of GCX, we are continuing to work through the process of monetizing our stake. We remain confident in a positive conclusion, and at such time we will report additional details. 2023 is an important year for our company. The pending completion of our capital growth plan underscores our long-term strategic vision of expanding our gathering footprint in the Delaware Basin. We look forward to issuing full year 2024 financial guidance and sharing more regarding our plans to accelerate shareholder returns with our fourth quarter earnings in February. And with that, I would now like to hand the call over to Trevor.

Trevor Howard: Thanks, Jamie. We have reported adjusted EBITDA of just over $215 million in the third quarter of 2023. Looking at our segment results, our Midstream Logistics segment generated an adjusted EBITDA of $140 million in the quarter, up 2% sequentially. This was largely attributed to a modest sequential increase in processed gas volumes and strong gas fee-based gross margin growth of 4%. Despite an improvement in commodity prices, elevated hedge gains realized in the second quarter resulted in flat margins on a sequential basis. Regarding total fee based revenue growth, we continued our positive trajectory in the third quarter, growing 13% year-over-year, representing highly attractive growth of our sustainable repeatable earnings.

Midstream Logistics OpEx in the quarter was slightly higher than internal expectations, driven by a prior period adjustment for OpEx actually incurred in the first half of 2023 that was recognized in the third quarter. We expect to return to lower per unit costs in the fourth quarter that are more in line with second quarter of this year. Shifting to our Pipeline Transportation segment, we generated an adjusted EBITDA of $79 million, up 5% quarter-over-quarter. Sequential growth within the segment was driven by lower realized costs at PHP, higher margins at Epic Crude and an extra day in the quarter. With 2023 largely behind us, we are focused on derisking 2024 and beyond. To date, we have hedged approximately 25% of our 2024 commodity-linked gross profit exposure, and we expect Kinetik’s commodity-linked gross profit exposure as a percentage of total gross profit to decrease to 9% in 2024, as our new growth projects, which primarily carry minimum volume commitments are placed in service.

For the quarter, we generated an adjusted distributable cash flow of $148 million. Total capital expenditures for the quarter were $134 million, $75 million was within our Midstream Logistics segment and $59 million was at the Pipeline Transportation segment. Midstream Logistics CapEx continues to track towards the midpoint of the range of $235 million to $265 million taken together with disciplined cost control at Delaware Link where we completed the project approximately 13% under budget. Our operated CapEx is tracking below budgeted estimates this year. Switching segments, pipeline transportation CapEx is tracking above the guidance range of $255 million to $275 million driven by cost increases related to PHP that were previously disclosed earlier this year.

As Jamie mentioned, third quarter free cash flow was $37 million. The third quarter marked an inflection point for free cash flow, which is carried forward into the fourth quarter of 2023, and then into 2024. Turning to the balance sheet, Kinetik exited the quarter with a four times leverage ratio. On November 1st, we declared a $0.75 per share quarterly dividend to be paid on November 22nd. Kinetik’s Board of Directors made the decision to maintain the reinvestment level of Blackstone, I Squared, Apache and management’s applicable third quarter dividends at a hundred percent. Year-to-date, we have repurchased approximately 194,000 shares for $5.8 million, leaving $94 million of remaining authorized capacity for opportunistic share repurchase to offset issuance related to the drip.

And with that, I would like to open the line for Q&A.

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Q&A Session

Operator: Thank you. [Operator Instructions] We will now take our first question from Michael Blum from Wells Fargo. Michael, your line is now open. Please go ahead.

Michael Blum: Thanks. Good morning, everyone. So it feels like I need to ask this question, so I will, maybe anything you can say in terms of the progress being made on GCX, where does that stand and any updates on timing?

Jamie Welch: So Michael, good morning. I think everyone on the phone probably is applauding you because you are asking the questions on the tip of their tongue as well. Look, there would be nothing better from our vantage point to be able to announce a transaction, which we think creates, that represents full and fair value for the stake that we have in GCX. Given its, the prognosis for the expansion, we are confident that we will have a positive conclusion. We have got timing wrong repeatedly, so I’m having to bite my tongue as far as, you know, promising when something would happen just to disappoint. But it is something that we are actively trying to get across the finish line. And I think, you know, from our vantage point that has a, that has one track.

And then, you know, as in the context of everything else, it is not obviously monopolizing everyone’s time within the organization. The rest of the organization is doing what they are supposed to be doing, which is literally shoring up and continuing to grow 2024 and beyond as far as the prospects for the business. So, unfortunately, that is all I can really say at this point. But you will be the, you all will be the first to know as soon as we have got something to communicate.

Michael Blum: Very well. I appreciate that. And then I know you are not giving 2024 guidance, but you did note the 900 million run rate for EBITDA for Q4 that you are you are, you will be at. So just wondering, a. – is there any seasonality to that? And second, just any high level puts and takes, we should think about as we get move into 2024. Thanks.

Jamie Welch: I’m glad, Michael, you raised that point because it is a very subtle nuance in our press release. And for those that like you and the other, your research brethren that follow the company as well as investors that are on the stock, we had said to this point that the exit rate at the end of 2023 would be in excess of 900. And that has now changed. We have saying the fourth quarter EBITDA times by four will give you in excess of $900 million. The nuance is we only have, likely one month of PHP. We do have Delaware Link that started in service on October, but it really steps-up with the PHP in service. And so it is relatively moderate and modest as far as October, November is concerned, but obviously, it has a step change function once the expansion comes online.

So there, I think, as far as 2024, I think we have said, we are aware well aware of where consensus is. We don’t have any concerns as to where people have that, when we look at consensus. We think the business is going from strength-to-strength. Just look at our volumes. I think as I have said in the prepared remarks, we are right now and have been now for sometime knocking on the door of 1.6 Bcf a day, which is right at exit rate assumption that we gave you back in February. And we had 1.53 for the full month of September. And so everything seems to be going according to plan. And we see the variances and the vagaries commodity prices given geopolitics and the world we live in. So I think that the fundamentals of the business remain incredibly, incredibly robust.

Operator: We will now take our next question from Tristan Richardson from Scotiabank. Tristan, your line is now open. Please go ahead.

Tristan Richardson: Good morning guys. Jamie, just thinking about the customers you have added throughout the year this year, you talked about knocking on the door of the 1.6. And then thinking about volumes coming online in early 2024 with your organic growth projects, I know you have mentioned in the past considering an additional plant. I’m just curious about what point we see that decision being made particularly as we see a significant step down in CapEx in 2024, just as you look at your two billion of capacity start to get scarce.

Jamie Welch: Tristan, it is a great question. Look, the short answer is summer of 2024. I feel like I’m sort of giving you a tagline for an upcoming movie release. You should expect that, we will have some real in-depth discussion with you and our investors around an FID decision, for a new train. We look at what is going on right now in the basin. I would say in particular, New Mexico, we have been very consistent in saying, we think we need to move a plant probably closer to the Northern Loving County up towards the state line. Think that that sort of makes the most amount of sense, given the future that we see. And so I think that is the timing. And when we say $150 million or less, I think the one thing everyone needs to appreciate on the phone is that, we are very mindful that, we say that with the likelihood of potential expectation that we may have a deposit and maybe one milestone payment that would have to be paid in the context of a new cryo that would be FID and that would fit within the bucket that we give you.

So I think we are really managing on the basis of, you know, going back to our original routes of, and the original thesis of this merger, which is now cashflow conversion. We have broken the back of this 500 and, you know, 490 million to 540 million of capital for this year. And now we want to basically show the uplift over the last two years that we have been at this in the context of selling out that space. So we inherited, so everyone knew 800, 900 million of open space. That space is now probably less than 400. That is, and we are going to basically start to see a lot more cashflow conversion, which is why we want to get on the front foot as it relates to capital allocation objectives and targets, and talk about that for most of 2024.

Tristan Richardson: That is great. Appreciate it, Jamie. And then you also mentioned very happy with your capacity lease arrangements on NGL downstream and no real compelling reason to invest in further expansion. I mean, curious, as you look at either several solutions that have either been announced or are under construction today, do you see potential for excess capacity in the basin over the next couple years that outpaces production growth?

Jamie Welch: I’m looking at Trevor and Annie and I think we all believe that we are going to have more transportation capacity than we will have supply and that that will probably, in the near term, who knows how long will probably pressure TNF rates. That is my, that is I think the house for you.

Tristan Richardson: Appreciate it, Jamie. Thank you, guys very much.

Operator: Thank you, Tristan. We will now take our next question from Neel Mitra from Bank of America. Neel, your line is now open. Please go ahead.

Neel Mitra: Hi, good morning. I wanted to touch on the various NGL takeaway options that are now available. I believe you guys invested in Brandywine and you have a couple of TNF contracts that are well above market. So can you talk about the options you have, to kind of pick and choose among the lines that you, transport your barrels off of and how you are set up to do that and the timing as well to be able to have that optionality?