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W&T Offshore Inc  (NYSE:WTI)
Q4 2018 Earnings Conference Call
Feb. 28, 2019, 10:00 a.m. ET

Contents:

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the W&T Offshore Fourth Quarter and Full Year 2018 Conference Call. (Operator Instructions) This conference is being recorded and a replay will be made available on the Company's website following the call.

I would now like to turn the conference over to Al Petrie, Investor Relations Coordinator.

Al Petrie -- Investor Relations Coordinator

Thank you, Thea. And on behalf of the management team, I would like to welcome all of you to today's conference call to review W&T Offshore's fourth quarter and full year 2018 financial and operational results.

Before we begin, I'd like to remind you that our comments may include forward-looking statements. It should be noted that a variety of factors could cause W&T's actual results to differ materially from the anticipated results or expectations expressed in these forward looking statements.

Today's call may also contain certain non-GAAP financial measures. Please refer to the fourth quarter 2018 financial and operational results announcement we released yesterday for a disclosure on forward-looking statements and reconciliations to non-GAAP measures.

At this time, I would like to turn the call over to, Tracy Krohn, W&T's Chairman and CEO.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Thanks, Al. Good morning, everyone, and thanks for joining us for our fourth quarter 2018 conference call. So with me today are, David Bump, our Executive VP of Drilling, Completions and Facilities; William Williford, our Executive VP and General Manager-Gulf of Mexico; Janet Yang, our Executive VP and Chief Financial Officer; Steve Schroeder, our Chief Technical Officer; and Jim Hersch, our VP-Geosciences. They all are going to be available to answer questions later on during the call.

So over the past 35 years, we've had many significant achievements and milestones and I'm proud of how well we executed on our strategy and achieved those goals that we set for ourselves in 2018. This past year we meaningfully grew reserves, thanks in large part to the robust drilling results we've had, as well as through positive revisions for well performance that continues to exceed forecasted expectations. Our strong stable production base generated adjusted EBITDA of $344 million in 2018, providing us with the cash needed to fund our capital program and reduce debt to bolster our financial position. You can spell that out as cash flow positive, if you wish.

We've been looking to simplify our capital structure and we're able to accomplish that in October by completely refinancing our debt, reducing our total debt principal by over $200 million and establishing a larger revolving credit facility that further extends out all of our maturities. Finally, we also entered into a drilling joint venture that allows us to accelerate the development of our high rate -- high return inventory, lower our overall risk and maximize financial flexibility. This will enable us to achieve really and pursue additional accretive acquisitions similar to the Heidelberg Field acquisition that we completed in 2018.

So before we review fourth quarter results and provide an operations update, I'd like to review these important achievements in a bit more detail. Our year-end 2018, SEC proved reserves grew to 84 million barrels oil equivalent with 58% being liquids. This is an increase of 13% compared to 74.2 million BOE at year-end 2017. With total 2018 production of 13.3 million BOE, we were able to achieve a pretty impressive reserve replacement rate of 174% driven by robust drilling results, as well as through significant positive revisions of our 18.8 million barrels oil equivalent from impressive well performance that continues to exceed forecasted expectations. We also benefited from year-over-year pricing increases. The increase in reserves and pricing led to a meaningful increase in the PV-10 of our proved reserves. At year-end 2018, our SEC proved reserve value increased 45% from 2017 to $1.4 billion. So, this certainly demonstrates the significant value of our premier Gulf of Mexico assets.

So, as most of you are aware, we had several debt maturities coming due in 2019, 2020 and 2021 with a debt principal outstanding balance of $903 million. So to address these items and to simplify our capital structure, we closed on a major debt refinancing and issued $625 million of new 9.75% senior second lien notes extending our maturities to November 2023. Net proceeds from the issuance along with cash on hand, borrowings on updated result revolving credit facility, were used to retire all of our previously outstanding notes.

So concurrently with that, we entered into a sixth amended and restated credit agreement with a six-member bank group that primarily includes banks from the prior group, but also includes one new bank. This revolving credit facility has an increased initial borrowing base of $250 million and will mature on October 18, 2022. So at December 31, 2018 the Company had $21 million of borrowings, which is down from $61 million initially on that revolving bank credit facility, the new one, and $9.6 million of letters of credit outstanding.

So as a result of this very successful debt refinancing and our continued ability to generate strong cash flows from our asset base, we're able to increase our total liquidity to $252.7 million at year-end 2018. So our liquidity consists of an unrestricted cash balance of $33.3 million and $219.4 million of availability under our revolving bank credit facility. So this enhanced liquidity significantly improves our financial flexibility to seek additional ways to further increase shareholder value.

So in March 2018, W&T entered into a multi-year joint exploration and development agreement that secured $361 million in commitments from outside investors in W&T for the development of 14 pre-identified projects in the Gulf of Mexico. We initially received 30% of the net cash flows from the drilling program wells for contributing 20% of the capital expenditures plus associated leases and providing access to available infrastructure.

Our net revenue increase is a 38.4% upon the outside investor reaching certain returns. The joint venture allows us to continue unlocking the value of our drilling opportunities, while drastically reducing our capital expenditures. It also allows us to accelerate the development of our high return inventory while bringing significant cash back to the corporate entity and maintaining the flexibility to manage our balance sheet and pursue additional accretive acquisition opportunities.

So, let's now review our operational financial results for the fourth quarter and full year 2018. Our production in the fourth quarter 2018 was 35,000 barrels oil equivalent per day or 3.2 million barrels of oil equivalent, which was down about 4% compared to the third quarter of this year, primarily due to Hurricane Michael and additional downtime totaling approximately 1,000 BOE per day. Despite this downtime, fourth quarter production came in near the midpoint of our guidance range. We continue to have strong liquids production with 62% of our fourth quarter production coming from oil and NGLs.

The commodity prices did decline compared to the third quarter with average fourth quarter realized prices for oil at $62.94 in NGL with $26.84 per barrel. Crude differentials in the fourth quarter averaged roughly $4 per barrel higher than average WTI Cushing spot prices. Revenues for the fourth quarter remained strong at $143.4 million and came in at $580.7 million for the full year 2018. We continue to generate strong stable production and impressive revenue, especially considering that we had total capital expenditures for oil and gas properties of $106.2 million for the full year 2018 excluding acquisitions, which was the same level as in 2017.

Our total fourth quarter LOE came in at $43.4 million, which was higher than the third quarter primarily due to an increase in workovers and facilities maintenance that occurred later in the year than originally planned. So for the full year 2018, we incurred a lifting cost of $11.50 per BOE. And like I mentioned last quarter, we still have not seen any significant cost inflation to speak of in the Gulf of Mexico like what's been occurring in the Permian.

We reported fourth quarter 2018 net income of $138.8 million or $0.96 per share, which was substantially greater than the net income of $23.4 million or $0.16 per share in the same period last year. So excluding the non-cash gain on our debt transaction unrealized commodity derivative gains and other items, adjusted net income in the fourth quarter of 2018 was $32 million or $0.22 per share, that's up significantly from $24.2 million or $0.17 per share in the same period last year.

So for the full year 2018, we reported net income of $248.8 million or $1.72 per share, which was substantially greater than the $79.7 million or $0.56 per share in calendar 2017. Adjusted net income for full year 2018 was $146.2 million or $1.01 per share, up more than 80% compared with $79.7 million or $0.56 per share in calendar 2017.

Adjusted EBITDA for the fourth quarter of 2018 continue to be strong at $82.3 million and for the full year 2018 it was $344.2 million. These amounts were 13% and 28% higher than the same periods in 2017. While the absolute growth of our adjusted EBITDA is impressive, our adjusted EBITDA margin for full year 2018 was 59%, up nicely from 55% in 2017. Our full year 2018 cash flow from operating activities totaled $321.2 million, more than double the cash flow of $159.4 million in 2017.

I keep telling markets that normal margins for us are around 60% and that's about where we are now reverting to the normal margins that we saw prior to 2014, which bodes well for our ability to generate significant cash flow moving forward. We've always been focused on free cash flow generation and will continue to do so in the future; one of the things we like about the Gulf of Mexico.

Quick update on the tax refunds; of the $65 million we've discussed previously, we've received $11 million due to some delays with the IRS on reviewing and finalizing restructuring agreements, we still have $54 million to be received and I hope to receive that in the first half of 2019.

Turning now to operations. Our 2018 drilling program achieved excellent results in three fields where we have concentrated most of our capital this past year. This activity at Mahogany, Virgo and Ewing Bank 910 where we're drilling low risk wells with existing infrastructure is a key reason we've kept production volumes steady at these fields. These are projects that can be drilled and put online fairly quickly which allows for quick cash flow generation that substantially shortens payback times and enhances rates of return.

So in 2018, in our Mahogany field we put the A-17 well, the A-15 side -- actually A-5 sidetrack and most recently the A-19 well on production. As a reminder, the A-5 sidetrack is the only well in the Mahogany field that is part of the drilling, the joint venture drilling program we established with outside investors. While we have a 100% working interest in all the other Mahogany field wells, we have a 30% interest in the A-5 sidetrack. And once certain thresholds are met, it increases 38.4%, although we contributed only 20% of the total capital expenditures for that well.

The A-19 well, which logged exceptionally high quality T-Sand pay, was brought online in late November and is updipped from the T-Sand first discovered in the A-14 well. The A-19 is being completed as a T-Sand producer and we'll have multiple zones behind pipe for future exploitation. The A-19 is our third producer in the T-Sand and has thus far shown significantly higher rates of early production than any T-Sand well drilled to-date in the field with a productivity index that is more than double the best prior completion of the field.

T-Sand has reached a cumulative production of 7.2 million barrels oil equivalent to-date per reservoir, a stage ramp-up of the A-19 well is continuing with the current rate of 5,205 BOE per day. The rig conducted a planned maintenance and repair program following the completion of the A-19 well. The platform rig will commence the drilling in the second quarter with the A-20 development well again targeting the T-Sand.

At Viosca Knoll, A-23, the Virgo field, we drilled three wells in 2018, the A-10 sidetrack, A-12 and A-13 wells, which are all part of JV drilling program. The A-10 sidetrack was put on line in the second quarter; in third quarter, we drilled and completed the A-12 well, which logs 60 feet of net pay and began production. The A-12 well is currently offline and we're evaluating the methods by which to enhance production in that well. The Virgo field platform rigs drove the A-13 well to TD in the fourth quarter and found 77 feet of net vertical pay in the 2.4 second and 3.4 second sand intervals. Currently the well is being completed as a duo and will be on production in the first quarter of 2019. Plans are to demobilize the Nabors MODS 201 rig from Virgo upon completion of the A-13 well.

So at the Ewing Bank 910 field, we completed the South Tim 320 A-2 well that logged approximately 163 feet of net pay, which exceeded pre-drill estimates. We brought the South Tim 320 A-2 online in December through the South Tim 311 platform. But due to limited equipment capacity to handle vapor recovery on the South Tim 311 platform, the well was brought online at a curtailed rate of 3,400 BOE per day. The issue will be resolved in the first quarter of 2019 to allow continued ramp up in the A-2 well.

We commenced drilling on the South Tim 320 A-3 well following completion of the A-2 and forecast reaching target intervals by the end of March. We believe stratigraphic information from a high-quality thick Miocene that was penetrating offset wells has reduced the risk on that particular well, the South Tim 320 A-3 prospect. So both of these wells are in the joint venture drilling program.

Looking ahead to 2019, our capital program will continue to be focused on low risk, high return projects with some exploration wells as we strive to continue the greater than 90% success rate we've achieved in drilling more than 40 wells since 2010. We'll maintain our measured approach to drilling, fund all our CapEx with cash from operations and continue to generate significant free cash flow. Our CapEx -- our capital expenditure budget for 2019 is expected to be around $120 million. We also expect to spend about $25 million on asset retirement obligations, which is in line with the $28.6 million spent on ARO in 2018. We believe that we will be able to increase production 2% to 3% in 2019 versus our full year 2018 production rate of around 36,500 BOE per day. This does not include acquisitions and we are anticipating more acquisitions in 2019.

We also expect our LOE, G&A, and gathering and transportation expenses will be similar to 2018 levels. Our release issued yesterday has more details on our 2019 first quarter and full year guidance. We'll continue to control the cost that we can to maximize margins and generate a significant cash flow from our operations. So as we implement plans for 2019, we're looking closely at acquisition opportunities. The current environment for acquisition opportunities in the Gulf Mexico is as good as I've ever seen it. And we intend to actively pursue those that meet our criteria. We have a set formula that's worked for over three decades. First thing we look for is good cash flow. We need to see the potential for strong cash flow to go along with the properties that we're trying to acquire. And then the second thing is the upside to the proved reserve base that we can achieve with the drill bit make the property more valuable. And then the third part of it is workovers we complete and/or facility upgrades that we can implement to increase immediate cash flow near-term.

With our balance sheet now much stronger, a new $250 million borrowing base in place and a high level positive free cash flow being generated, we're well-positioned to focus on growth. And for W&T, the Gulf of Mexico is always an excellent basin and we wish to achieve that growth. So as in the past, we are clearly focusing on cash flow positive projects whether that's with the drill bit or whether that's making acquisitions, that's very important to us and it's probably been our biggest consistent accomplishment. We made sure that we continue to focus on that cash flow model, because of our equity ownership of 33%, management is incentivized to grow the Company profitably over time and mitigate risk rather than simply focusing on shorter term metrics that may not result in true value creation in the long run. So as you can see, we're tied to doing the things for and with our shareholders in mind. Since we're all significant shareholders here, as management, we intend to continue that trend.

So, operator, we can now open the lines for questions.

Questions and Answers:

Operator

(Operator Instructions) And the first question will come from John Aschenbeck with Seaport Global.

John Aschenbeck -- Seaport Global -- Analyst

Good morning, Tracy. Thank you for taking my questions.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Good morning, John. Thanks.

John Aschenbeck -- Seaport Global -- Analyst

So for my first one I wanted to follow up on your Q1 production guidance which is lower than the full year. And I was hoping you could walk us through some of the factors that are weighing down Q1 relative to the rest of the year. Thanks.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

There are a number of them. And I brought William Williford along with us. So I'm going to let him run that through for you.

William J. Williford -- Executive Vice President General Manager of Gulf of Mexico

So where we are at right now in Q1, we have -- let's talk about the Mahogany field. Right now, we're doing a ramp-up on production, but we do have a planned downtime outage in that field to do a turnaround, just completing out the upper vent downtime throughout the rest of the year. Additionally, we have downtime in the Main Pass 98, 72 which is our big unit in Dantzler fields, that should be up in the next, I guess, couple of days. It's currently down right now.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

So, maintenance issues, correct, yes.

William J. Williford -- Executive Vice President General Manager of Gulf of Mexico

Yeah. Look, so that's the key portion of the downtime that we see as far as the first quarter 2019, but you'll see a consistent ramp-up as we bring additional wells online and maintain that on the rest of our fields or rest of the three quarters.

John Aschenbeck -- Seaport Global -- Analyst

Okay. Great. That's helpful. Appreciate it. And then for my second one, more of higher level question on M&A. I'm hoping you can entertain me here. But just as you look at W&T out into the near future, call it, a year or two from now, what does the Company look like and how much larger is it from the size that it is today? Thanks.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

That's just a little minor question there, John. Okay. So yes, we do expect to see M&A. Yes, we expect to increase the size of the Company. Exactly how much that will be, I'm reticent to forecast. My goal is to double it again in the next five years. I think that's fairly conservative.

John Aschenbeck -- Seaport Global -- Analyst

Okay. Perfect. That's actually exactly what I was looking for. I appreciate the time and thanks for taking my questions.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Thank you, sir.

Operator

(Operator Instructions) And the next question will be from Jacob Gomolinski with Morgan Stanley.

Jacob Gomolinski -- Morgan Stanley -- Analyst

Hey, good morning and thanks for taking the questions.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Sure, Jacob.

Jacob Gomolinski -- Morgan Stanley -- Analyst

It looks like you spent, I think, you said about $106 million on CapEx in 2018 in production sort of I guess liquids production declined around 5% total production 9% and then we're talking about $120 million in 2019 with 6% liquids growth and 2% to 3% overall. Can you help us understand maybe what might be driving that rate of change sort of given the $14 million delta in CapEx, but I guess a pretty meaningful change in production?

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Yeah, I think that's fairly easy to do. We have X number of dollars coming in, we have X number of dollars going out. We're trying to maintain cash flow positivity. I think that's important to us, so that we can take advantage of some of the other acquisitions that we see coming up. So we want to save our dry powder as much as we can. We do see quite a bit of activity on the M&A side of it and I think that's important for us to save our dollars in that direction as well. The production that we have, I think, is relatively conservative. It's got some downtime and whatnot in for hurricanes and repairs that we've seen over the last several years. So I think we're taking a fairly conservative approach here.

Jacob Gomolinski -- Morgan Stanley -- Analyst

Okay. And apologies if I missed this, but does that $120 million -- how much of that will go to the Monza JV and does that include -- does that $120 million include JV capital contributions from third parties or is that just your outlay?

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

No. The $120 million is the dollars that go into W&T and somewhat into Monza. But I don't have the exact number on the Monza portion of it. It's minor in comparison to the rest of it as W&T -- W&T owns about 20% of the Monza Drilling joint venture.

Janet Yang -- Executive Vice President and Chief Financial Officer

On the capital.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

On the capital side, that's right.

Jacob Gomolinski -- Morgan Stanley -- Analyst

Right. But the $120 million is just your capital not JV partner capital or any JV capital contributions?

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Yes, that's correct.

Jacob Gomolinski -- Morgan Stanley -- Analyst

Okay. And then just the last question. It looks like operating costs are a bit higher in 2019 versus 2018 and about $1.50 over the first three quarters of 2018. I know you mentioned some workover expenses in Q4. Is anything driving that increase in production costs in 2019 versus...

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

I'm sorry. Yeah, one of the things driving that, Jacob, is Heidelberg. We made that acquisition last year. It's a deepwater facility, has little higher operating costs. And then, we do have some work related to maintenance on a couple of other platforms that we've mentioned earlier, namely Mahogany. So we'll have a little bit downtime as a result of that and little higher lease operating expense as a result of that. This is planned work for maintenance for the structure. So you do see that reflective prices, however, are not in cost on a normalized basis are not going up with regard to this basin as opposed to other basins.

Jacob Gomolinski -- Morgan Stanley -- Analyst

Okay. That's great. Thanks very much. Appreciate it.

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

Yeah. Thank you, sir.

Operator

And at this time, there are no further questions. At this time, I would like to turn the conference back over to Al for any closing comments.

Al Petrie -- Investor Relations Coordinator

Tracy, any closing comments?

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

No, I have nothing else. Hopefully, we'll have something for you in the not too distant future. I think you'll all be impressed. Thank you very much.

Operator

Ladies and gentlemen, thank you for participating in today's conference call. You may now disconnect.

Duration: 27 minutes

Call participants:

Al Petrie -- Investor Relations Coordinator

Tracy W. Krohn -- Founder, Chairman, Chief Executive Officer and President

John Aschenbeck -- Seaport Global -- Analyst

William J. Williford -- Executive Vice President General Manager of Gulf of Mexico

Jacob Gomolinski -- Morgan Stanley -- Analyst

Janet Yang -- Executive Vice President and Chief Financial Officer

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